Hydro-Québec and the New York and New England contracts

Selling electricity it does not own at a cost it does not know

Sources and uses of electricity: an overview

Hydro-Québec’s generation and sales activities are illustrated in the following Sankey diagram taken from HQ’s 2022 annual report. The diagram shows the characteristics of electricity supply and sales in and out of the province of Québec. The supply side in particular is quite unique with hydro power accounting for 216 TWh or 93% of the 232 TWh total; and once wind and other renewable sources are added, the total supply considered as “clean” in terms of greenhouse gases (GHG) reaches 98.9%.

                                             Energy sources and sales in 2022

Source: Hydro-Québec, 2022 annual report page 23

On the sales side, one thing that stands out is the importance of exports, accounting for 15% of available electricity, while domestic demand and transmission and distribution losses account for 78% and 7% respectively.

And the other thing that stands out, the elephant in the room as I like to call it, is that mysterious category, “Churchill Falls and other hydro producers” which seems to account for 100% of exports, plus or minus a few hundred GWh. And it is obviously the “Churchill Falls” portion that is the juggernaut in the category. This is because in the “other hydro producers” category, the McCormick generation station has a total capacity of 235 MW (an additional 100 MW is owned and used by an Alcoa aluminum plant) and the total capacity of five additional hydro producers is a mere 65 MW for a grand total of 300 MW. We estimate that these plants had a load factor of approximately 57% in 2022 (same as the other run of river plants) thus generating an output of approximately 1,500 GWh.

We are thus able to estimate the “Churchill Falls” portion at 34,488 GWh, a figure which represents 96.8% of the total exports of 35,634 GWh which, as indicated on page 13 of the same annual report, were sold at an average price of $0.082 per kWh thus generating total export revenues of $2.912 billion.

“Churchill Falls” for dummies.

Churchill Falls is a hydro generating station which is not located in the province of Québec but rather in the province of Newfoundland and Labrador. The Churchill Falls station is owned by the Churchill Falls (Labrador) Corporation (CF(L)Co.) which in turn is owned by Hydro-Québec itself with 34.2% of the shares while the balance of 65.8% is owned by Newfoundland and Labrador Hydro, a crown corporation of the Government of Newfoundland and Labrador.

The plant has a capacity of 5,428 MW which makes it the second largest generation facility in Canada, right after the 5,616 MW Robert-Bourassa hydro facility located in Québec’s James Bay area. With a load factor of approximately 70% the Churchill Falls plant can thus generate 33,000 GWh on an annual basis.

Under a contract signed in 1969 between Hydro-Québec and the Churchill Falls (Labrador) Corporation (CF(L)Co.), Hydro-Québec not only acquired the right to purchase practically 100% of the production of the plant but also obtained extremely favorable financial conditions.

The contract featured an initial 45 year period, from the plant’s commissioning in 1971 to 2016, a period during which the price paid by Hydro-Québec gradually decreased to $0.0025 (25% of a cent or 25 mills) per kWh. From 2016, Hydro-Québec was granted an automatic renewal option for an additional 25 years thereby establishing the final expiry date of that contract in August 2041. And during that final 25 year period the price paid by Hydro-Québec was further reduced to $0.0020 (20% of a cent or 20 mills).

Finally, in June of 1999, the boards of Newfoundland and Labrador Hydro and Hydro-Québec ratified a Guaranteed Winter Availability Contract (GWAC) under which the load factor of the generating station would be increased to 80% during the months of November to March of each year. This additional capacity of 682 MW would in turn yield an additional 2,500 GWh during Hydro-Québec’s five month peak period.

The financial terms of this GWAC also provided some financial improvements for the Churchill Falls (Labrador) Corporation (CF(L)Co.) with an additional revenue of $3.4 million in the first 1998 to 1999 season after which the revenues would escalate to $34 million in 2008/2009, and increase by one per cent annually thereafter. Nonetheless this still represents an incredible bargain for Hydro-Québec which enables it to obtain 2,500 GWh of peak supply for a ridiculous amount of $0.0159 per kWh in the current 2024/2025 season. Overall, in the current 2024 year, Hydro-Québec thus has access to approximately 35,500 GWh at a total cost of $105.5 million or $0.00297 (slightly less than 30% of a cent or 30 mills) per kWh.

The following table illustrates the undeniable fact that the entire Churchill Falls output is basically exported year in and year out and that it confers to Hydro-Québec huge financial benefits, so much so that, for the last two years, Hydro-Québec seems to be embarrassed to divulge the exact amount that those exports contribute to the total net income. But a reasonably accurate figure is not difficult to calculate; in 2021 and 2022 exports were basically identical at 35.6 TWh while, thanks to European energy policies and Mr. Vladimir Putin, the average export price shot up by 75% to $0.082 per kWh thus generating an additional $1,254 million CAD of which $993 million or close to 80% went straight to the bottom line. And, guess what, a solid 60% to 70% of those TWh throughout the last decade have gone to New England especially with a solid 50%, and the remaining 10% to 20% to New York.

                                         Hydro-Québec export data and net income
                                                                    2014 to 2023

One final note for discerning readers. No, the export volume did not take a plunge in either 2014 or, especially, in 2023; what happened is something that has to do with “water” or more precisely the lack thereof, as explained on page 20 of Hydro-Québec’s 2023 annual report.

The decline (in sales outside Québec) is mainly attributable to natural water inflows, which were well below the average recorded in the major hydroelectric reservoirs of northern Québec, on account of scant snow cover in late winter 2022–2023, lower-than-usual spring runoff and modest summer and fall precipitation in northern Québec. In this context, the company had to limit its exports in order to optimize resource management, resulting in a 12.6-TWh decrease in sales volume.

Hydro-Québec exports to the United States

Hydro-Québec has been selling electricity to the New England and New York markets for decades but up to recently these sales were mostly conducted on the spot market and therefore with significant variability both in terms of volume and the price per kWh.

These conditions are about to change significantly with the coming into effect in 2026 of two long-term contracts between Hydro-Québec and the state of New York on the one hand and New England states on the other, involving the annual delivery of a total amount of 20 TWh.

The first of these contracts, known as the “Champlain Hudson Power Express (CHPE) project”, is for a duration of 25 years and provides for the annual delivery of 10.4 TWh by means of a 1,250 MW transmission line, including 58 km installed in Quebec and 545 km in the United States. The second contract, known as the “New England Energy Connect (NECEC) project” has a duration of 20 years and provides for the annual delivery of 9.45 TWh to Massachusetts and 0.5 TWh to Maine by means of a 1,200 MW transmission line that will be using approximately 600 km of underground and underwater lines.

I will leave aside the financial conditions associated with these contracts since the main issue of the present document will obviously be “Churchill Falls”, but I cannot avoid mentioning that the New York (CHPE) contract also involves “the sale of environmental attributes” known as Renewable Energy Certificates (REC’s). These, according to the Environmental Protection Agency (EPA), are issued when one megawatt-hour (MWh) of electricity is generated and delivered to the electricity grid from a renewable energy resource. And the word “renewable” specifically excludes nuclear power because “it does require, mining, extraction, and long-term radioactive waste storage”.

In addition to the obvious distortions such rules create in U.S. based electrical grids, the question has to be asked whether they could also impair Hydro-Québec’s ability to develop its own nuclear sector.

Selling electricity that you don’t own at a cost that you don’t know

By now anybody having reached this part of the document should be able to understand that we have a bit of a problem. These two contracts extend to 2051 in the case of the New York (CHPE) project and to 2046 in the case of the New England (NECEC) project; and since the Churchill Falls contract expires in 2041 we thus have absolutely no clue as to what these annual 20 TWh will cost Hydro-Québec from that date.

Up to now I have been silent about the attitude of the Government of Newfoundland and Labrador in this affair but they have been anything but that. The French expression “se faire rouler dans la farine” aptly describes how that government feels about the Churchill Falls contract; that expression means to be swindled, cheated, ripped off, had. They tried everything in the playbook to renegotiate that contract; they pleaded for compassion, fair play, solicited the intervention of the federal Canadian government, went to court twice including once all the way to the Supreme Court of Canada, pleaded directly with the Government of Québec, but to no avail.

But there are historical reasons why the Québec government wouldn’t budge an inch. Although the creation of modern Canada dates back to 1867, Newfoundland, as it was then named, only joined it in 1949 but before that, as a member of the British Empire, claimed jurisdiction over nearby Labrador. After some territorial disputes had erupted with Québec at the beginning of the twentieth century, the Québec government asked the Canadian government (also a member of the British Empire) to submit the controversy to the Judicial Committee of the Privy Council in London, an initiative that was supported by the Newfoundland government. That court rendered its decision in 1927 establishing the boundary that prevails today, thus stripping away Labrador (and of course Churchill Falls) from Québec.

That decision obviously displeased the Québec government and provided a legitimate reason to drive a hard bargain in negotiating the 1969 Churchill Falls contract. But we are now 55 years later and still holding a grudge does not seem particularly useful. History provides numerous examples where a more conciliatory attitude can provide benefits; events such as the Marshall plan in the case of Germany, or how the capitulation of Japan was handled or, more recently, three friendly U.S. aircraft carrier visits to Vietnam since 2018 provide excellent examples of the benefits associated with such an attitude.

In any case, the Government of Newfoundland and Labrador fired a warning shot on May 11, 2022 when it issued a press release titled “Expert Panel on Churchill Falls 2041 Announced”;  the mandate of this panel was described as identifying and recommending potential approaches for the government to ensure maximum long-term benefits from the Churchill Falls assets. In addition, the premier of the province, the Honourable Andrew Furey, added that “Although the expiry of the Upper Churchill contract in 2041 is 19 years in the future, it is a short period of time in terms of the utility planning horizon”, a remark that I thought was aimed even more at Hydro-Québec than at its own utility.

It took the Québec government a full nine months to react to that announcement. This came in the form of a visit to St. John’s by the premier of Québec, the Honourable François Legault, where he used a conciliatory tone that was a welcome surprise. Mr. Legault openly apologized for what he himself characterized as a “bad contract for Newfoundlanders” and he even went as far as suggesting that Québec was ready to pay more for power from Churchill Falls, and do so before 2041.

Before we draw conclusions from the data and evidence presented in the document, we feel the need to comment on the attitude of Hydro-Québec itself in the affair. First and foremost, we simply cannot understand how Hydro-Québec could sign either and especially both the New York and New England contracts without prior securing bullet proof access to the Churchill Falls power for at least the total duration of the contracts.

And their careless attitude did not stop there as they showed their ability for questionable investments with the 2022 acquisition of New England based Great River Hydro LLC. For the sum of $2.1 billion CAD, HQ obtained 13 very old hydropower generating stations with a total insignificant capacity of 589 MW. And they had the guts to label this deal as “strategic”, obviously not realizing that at $3.57 million per MW the only strategic aspect of the affair was putting a value of close to $20 billion CAD on Churchill Falls.

And we can’t ignore a previous event that occurred on October 25, 2021 when Hydro-Québec and a company called Innergex Renewable Energy Inc. confirmed a 50-50 joint acquisition of a 60 MW hydroelectric portfolio in the state of New York for a total consideration of $393.4 million CAD or $6.56 million per MW. In addition to putting a value of $36.6 billion CAD on Churchill Falls, the other questionable aspect of that transaction was that the entire Innergex portion of its contribution had its origin in a $661 million CAD private placement made by Hydro-Québec on February 5, 2020 at a cost of $19.08 per Innergex share. The stock has since tanked by more than 50%, closing at $9.49 on last July 31st, thereby inflicting a further loss of $322.3 million CAD to Hydro-Québec.

The total amount sunk in these so called “strategic” investments has now surpassed $2.8 billion CAD, all of this for a measly 649 MW of old, mostly run of river stations. The feeling in St John’s Newfoundland can only be one provided by adding insult to injury.

Conclusion

It is difficult to conclude whether Hydro-Québec will be able to secure a post 2041 access to the Churchill Falls hydro station because of the size of the adjustment required and the necessity to do so by 2030 or 2031 at the latest. A cost of $0.04 to $0.06 per kWh would still be a bargain for Hydro-Québec when compared to the marginal cost of new facilities but the twenty to thirty fold increase over the current cost of $0.002 per kWh could have enough of a financial impact as to require adjustments to current domestic business and (especially) residential rates, something that is not especially pleasant for politicians seeking reelection.

But the failure to reach such an agreement has massive economic, financial and technological implications because I simply do not think that there is 5,428 MW of undeveloped hydro potential in the province of Québec, which in turn requires a serious examination of alternatives. While nuclear would constitute a rational avenue for such an examination, Hydro-Québec seemingly doesn’t think so (and neither does the EPA) and has instead recently announced that it plans to add 10,000 MW of wind power by 2035. Interestingly, in June of last year, HQ submitted a report to the regulatory authorities, in which the contingency provision associated with the current wind capacity of 3,925 MW is estimated to be between 103 MW and 278 MW, depending on the season and the forecast window. I can’t wait to see what the contingency would be under 14,000 MW (or more) of wind power.

Thus the only conclusion that I can reach at this stage is that this whole affair might not end well.