Investors may overestimate benefits to utilities of datacenter boom – Scotiabank

The financial benefits for US electric utilities of ballooning demand for datacenters, and the power they will require, could materialize more slowly and less substantially than many industry participants and investors expect, according to analysts at Scotiabank.

Annual electricity demand from US datacenters, which has helped to drive a rally in regulated utility stocks since April, is expected to reach over 280 TWh in 2024 and nearly double to 530 TWh by 2028, according to a recent S&P Global Commodity Insights report.

Despite this, "it's hard to see tangible upside to [near-term] earnings outlooks given razor-thin margins," Scotia Capital (USA) analyst Andrew Weisel wrote in a June 13 report.

Acknowledging a "somewhat tongue-in-cheek" approach, the report questioned the conventional wisdom that proliferating datacenters will be a major near-term boost to the earnings of regulated utilities by accelerating capital expenditure and rate base growth, while reducing bills for other retail customers.

"The combination of a multiyear buildout and low-margin sales volumes may mean that upside to utility [earnings per share] will be modest and unlikely to show up until 2027 [or later] which may disappoint" generalist investors that have been boosting sector stock prices as they seek more exposure to hyperscalers, Scotiabank added.

NextEra Energy Inc. shares fell 7% on June 11 after the renewables giant did not increase EPS guidance during an investor conference. The company also laid out plans to spend $97 billion to $107 billion from 2024 through 2027, with a major increase in the final year when commercial operation begins for a significant chunk of the 36.5 GW to 46.5 GW of new renewables and storage the company will have developed since 2023.

"Optically higher capex, higher equity needs and same old top end of 6%-8% EPS growth guidance doesn't match the bullish expectations from investors," Guggenheim analysts wrote June 12.

In addition to contending with general investors' expectations, some utilities could also be overestimating demand. Scotiabank noted that "there may be some 'double-counting' of facilities and thus [megawatts]" while tech companies shop around among different utility territories for the best location to proceed with projects.

The top 10 utilities by datacenter load, led by Dominion Energy Inc.'s Dominion Energy Virginia, are currently expected to have a combined 35.7 GW of capacity demand from datacenters by 2028, according to S&P Global Market Intelligence data.

Microsoft Corp. in April filed testimony arguing that the energy forecasts in Southern Co. subsidiary Georgia Power Co.'s 2023 integrated resource plan could be "leading to over-forecasting near-term load (through 2030) and procuring excessive, carbon-intensive generation." The Georgia Public Service Commission approved the utility's proposal for more than 1.4 GW of new natural gas- and oil-fired power generation to be built by 2027, which is expected to cost Georgia Power's customers about $3 billion.

Inaccurate forecasts could also translate into a minimal earnings impact from "new assets that will be dedicated to the datacenters, i.e., behind the meter," according to Scotiabank.

When it comes to datacenters' impact on existing utility customers, retail ratepayers may not see hyperscalers shoulder as much of the generation and transmission costs needed to accommodate round-the-clock electricity.

"In November 2023, it seemed as though many utility executive teams described datacenter activity as being 'deflationary' for the rest of the customer base, residential customers in particular, or that datacenter customers will pay 'more than' their fair share," Scotiabank said. "Instead, more recently, many utilities talk about datacenters paying for 'marginal costs' so that the rest of the retail customers are 'no worse off.'"

Still, some companies are developing new tariff mechanisms to ensure they can efficiently recover those costs from datacenter customers, Scotiabank acknowledged.

American Electric Power Co. Inc., for one, will require datacenters to enter into longer-term commitments and "deliver on the load expectations" that the utility holding company is preparing to meet through grid investments to "keep our rates affordable across all of our jurisdictions," interim President and CEO Benjamin Fowke III said on the company's first-quarter earnings call.