What is the CEGB worth? The impact of future government action C.W. Hope A simple model of the future earnings of the Central Electricity Generating Board (CEGB) from its existing electricity generating assets yields a present value of around £18.5 billion. An investigation of 15 uncertain variables shows that five of them affect the net worth of the CEGB by more than £5 billion. The govern- ment will retain a great influence over four of these five (the rate of retirement of old nuclear stations, the cost of the CEGB's coal, the generating capacity split off from the CEGB, and the price that the CEGB can charge for electricity) even if the CEGB is privatized. Keywords: Electricity; Valuation; Model The 1987 election manifesto of the Conservative Party contained a pledge to privatize the electricity supply industry (ESI) in the UK. 1The Conservatives having been returned to power with a comfortable majority, there is now a widespread expectation that the ESI will be privatized within the lifetime of this parliament, which must end before mid-1992. If privatization does occur, potential investors need a way of valuing what is on offer to decide whether it is a sound home for their money. Generation and transmission in England and Wales account for the great majority of the indus- try's costs, 82% in 1985/86, 2 and are presently the responsibility of the Central Electricity Generating Board (CEGB). Distribution to final consumers is the responsibility of 12 Area Boards, who purchase power from the CEGB via the transmission grid. 3 The transmission of electricity is widely thought to be a natural monopoly. Because of the wish to avoid creating a private monopoly, most plans for priva- tization call for the transmission grid to remain in public ownership as a common carrier. The generat- ing activities of the CEGB would be privatized, either as up to 10 separate generating companies, or Dr C.W. Hope is with the University Engineering Department Management Studies Group, Mill Lane, Cambridge, CB2 1RX, UK. as a single entity. In the latter plan, competition is fostered by allowing the Area Boards, which would also be privatized, to generate their own electricity, as an alternative to buying from the CEGB via the grid. In some plans, the Area Boards are grouped into three or four regional companies, each of which is given one of the CEGB's large, modern coal-fired power stations before privatization, to encourage the competition with the CEGB to flourish. 4 In others, the capacity that is split off from the CEGB goes to a single alternative generating company. These plans reflect the lessons learned from the flotations of British Gas and British Telecom, and the failure of the 1983 Energy Act, which in theory allowed private companies to generate electricity in competition with the CEGB, but in practice drew no response. 5 Thus at some time before mid-1992 it is expected that shares in what is effectively the generating arm of the CEGB will be offered to the public. Some method of valuing this part of the CEGB's business is needed to enable an informed assessment of the share offer to be made. The problem of valuation can be sensibly split into three parts: • the valuation of existing stations; • the valuation of stations in various stages of construction; and • the valuation of stations to be built some time in the future. For existing stations, the appropriate valuation involves calculating the revenue that will be obtained during the remaining life of the stations, subtracting the generating costs that will be incur- red, and discounting the result back to the date of privatization. For stations under construction, the procedure is in principle the same, but in practice great complica- tions arise from the extra uncertainty introduced by the possibility of time and cost overruns during construction6 and the need to look up to 50 years into the future before these stations are retired. For the purposes of analysis, it is therefore fortunate that at the likely date of privatization the CEGB will ENERGY POLICY June 1988 211