ESG Focus: Waste to Energy Firing Up

This story features CLEANAWAY WASTE MANAGEMENT LIMITED, and other companies. For more info SHARE ANALYSIS: CWY

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ESG Focus: Waste to Energy Firing Up

Australia has been a global laggard on the waste to energy front but that may all be about to change as we discover in this deep dive.

-Global waste from energy market
-Australia lagging major economies
-Australia’s major waste from energy projects
-Offtake agreements rare as hen’s teeth 
-Cleanaway slowly progressing Western Sydney
-Brokers have their say on Cleanaway

By Sarah Mills

The Waste to Energy (WtE) market is gaining traction globally as the transition takes hold. 

WtE’s primary purpose previously was to manage rising municipal waste in land-deprived and often fuel-deprived nations. 

But now it is being propelled by green imprimaturs, making it a potentially lucrative prospective, particularly once a carbon price is introduced.

WtE is now accepted as one solution in the transitioning mix, at least for the early stages of the transition until closed-loop alternatives are developed. 

Given the scale of the global transition, and given a closed-loop economy is targeted for 2050, its future is assured for decades.

As far as investments go, WtE is a fairly safe bet, but it requires heavy capital expenditure and government liaison, meaning it’s a game for the big end of town.

It also involves a more complicated array of hurdles than most other energy solutions, making it the Captain Plod of the energy market. 

As an energy source, WtE only recycles carbon-dioxide and methane once, meaning it is unlikely to compete with emissions-free energy technologies over the long term (unless carbon capture and recycling technologies improve dramatically).

But as a utility and infrastructure play, WtE should prove defensive. It will turn waste management companies into mini energy producers and potentially retailers.

Over time, this should provide a source of revenue to underpin more circularity initiatives – which is where the larger treasure is likely to lie, once regulation around circularity kicks in.

The technology is proven with Japan, Europe and the US all undertaking highly successful WtE projects from both a commercial and waste-management perspective. 

Research shows that the introduction of WtE also usually results in improved recycling. 

WtE gains greenie points on three main front: it helps reduce odours and hazards of land-fill gas emissions; it helps prevent methane (public enemy No.2 after carbon dioxide) from migrating into the atmosphere and contributing to local smog and global climate change; and is a form of recycling.

Three main types of WtE projects are proving popular in the build-out phase: 

-the typical wholesale to retail energy market wherein energy is produced to be distributed into major retail markets; 
-industry partnerships, in which WtE companies partner with major corporations to help manage their waste; and
-council partnerships; wherein councils partner with WtE companies to manage municipal waste.

History of WtE

The industrial WtE concept is centuries old, the first incinerator or “Destructor” being built in Nottingham, England, in 1874, followed swiftly by the first US incinerator in 1885 on Governors Island, New York. 

Similarly, gasification and pyrolysis technologies, also used in WtE processing, have been around for centuries.

But incinerators fell out of favour as a source of energy due to their toxic emissions.

It is only in the past few decades that technologies for processing residual solid mixed waste and other waste channels have improved and been pioneered in Europe and other major nations.

As a result, the technology is tried and tested and ready to roll, along with a parade of new technologies, which we list, along with Australia’s major WtE projects in our next article.

The Global WtE Market

Estimates of the WtE market, like most green industries, vary sharply.

Polaris Market Research estimates the global waste to energy market sat at US$24.84bn in 2022 and forecasts a compound annual growth rate (CAGR) of 6.9%, taking the market to US$48.13bn by 2032. 

Business Wire predicts a global market value of US$56.49bn by 2027 (a CAGR of 6.43%); Business Research Company estimates US$33.32bn in 2022, to rise to US$35.57bn by 2023 (a CAGR of 6.8%); and Research and Markets predicts the market will be valued at US$49.87bn in 2023, rising to US$108.73bn by 2030 (a CAGR of 11.41%), buoyed by covid, Ukraine and inflation.

Energy from waste can be used to generate electricity or for sustainable fuels for hard to abate sectors such as transport, shipping and aviation.

For example, fuel accounts for 35% of all operating costs in the aviation industry, and Morgan Stanley expects it will pursue sustainable aviation fuels overwhelmingly out to 2030 given a lack of alternatives.

The WtE market can be broken down into four main categories: solid waste to energy; plastic waste to energy; land fill gas to energy; and bio-waste to energy.

Solid waste to energy, while efficient and simple, is something of a blunt tool, given value is lost from other circularity markets, such as bio-waste to agriculture, for example, and closed-loop plastic circularity.

WtE also faces a major problem not shared by other energy providers: the expressed desire to not incentivise waste production. 

This suggests that over time, the industry is likely to encounter structural challenges from more environmentally friendly technologies and recycling processes, depending on the intent of big capital.

The municipal solid waste segment is forecast to gain the major share of revenue due to rising industrialisation and growth in municipal solid garbage

Given Australia’s industry is nascent, projects are a long way from being profitable, and to date have proved fraught.

First WtE projects have to navigate the approvals process; then they require a big upfront capital expenditure on infrastructure; and then, or ideally beforehand, they have to secure offtake agreements.

While there is a lot of activity in the new WtE market, very few new offtake agreements have been signed globally, and as far as FNArena can see, only one offtake agreement has been signed in Australia.

Regulation And Carbon Prices

Given Australia’s abundance of land, dumping has been the waste management solution of choice, and WtE cannot compete.

As a result, governments are likely to regulate meaningful landfill gate fees, particularly for industry and corporations.

Nor can low-carbon fuels yet compete with fossil fuels.

Boston Consulting Group estimates that green premiums for low-carbon fuels were roughly 40% more than that paid for traditional fuels in the September-quarter of 2022.

A global carbon price is likely to change all that.

Add to that government incentives and subsidies, and the investment case grows.

Four Main Paths WtE Paths

Combustion, gasification and renewable natural gas are the three main WtE technologies.

Combustion involves burning rubbish to produce electricity. Waste is burnt to heat water, which converts into steam and then electricity. This represents the majority (68%) of global WtE projects, according to Corrs. 

Thermal combustion is used for mixed waste streams, such as municipal solid waste, and can include pyrolysis, bio-mass to energy, fertiliser and electricity.

Pyrolysis is a chemical form of thermal WtE, which involves heating organic material in the absence of oxygen. It produces biochar, bio-oil and bio-gas, as well as non-bio products such as oil from plastic. 

Pyrolysis typically involves relatively small plants, allowing its deployment across many locations than is possible with large-scale combustion and gasification processes.

Thermal combustion WtE is expected to grow the fastest of all technologies due to adoption of thermochemical waste processes, including pyrolysis.

Gasification uses oxygen or steam reactions that convert waste into a gas, which can be used in diesel fuel, ethanol, or hydrogen fuel. This represents roughly 16% of global projects. 

Gasification requires homogenous waste streams or pre-treatment before entering the gasification chambers.

Gasification is used to provide carbon dioxide to green houses, to fire industry and industrial applications such as chemical production, cement and brick manufacturing, wastewater treatment, consumer electronic and products, paper and steel production, among many others. 

It can also be used to evaporate leachate at landfills.

Then there is renewable natural gas (RNG), which constitutes the final 16%. 

RNG is a high-Btu gas (think gas cylinders), treated by increasing its methane content and cutting it carbon-dioxide, oxygen and nitrogen content,.

It can be used as a substitute for LNG as a pipeline-quality gas, compressed natural gas (CNG) or LNG. 

RNG can also be used in thermal applications to generate electricity. 

Other technologies in play, including microbes, which digest waste to produce carbon-dioxide which is then used to make methanol.

These are discussed in our next article, which will also cover small-cap pyrolysis and other small listed WtE companies. 

Global Snapshot

Waste to Energy has been struggling to establish itself in a circular economy, largely because of its current one-use application and environmental challenges.

That is likely to change with the rollout of better technology and government support for sustainable fuels, which should stay in play for the next two decades, until full circularity kicks in. 

According to Lexology, WtE is used in several European countries, including Germany, France, The Netherlands and Switzerland, and in the UK, Japan and Singapore, while the US has more than 71EtW facilities. New projects are being developed in India and Ghana.

The World Bank has predicted the amount of waste generated per day will reach 6m tonnes by 2025, almost double today’s levels (which begs the question, how can that possibly happen, and who’s helming the ship).

The world’s WtE majors (including Refining and Integrated Energy) include Abu Dhabi National Energy, Babcock & Wilson Enterprises, Covanta Holding Corporation, China Everbright International, Future Biogas, Veolia, Neste, and the oil majors, among others.

It’s Complicated

Apart from require carbon credits and government funding to be profitable, WtE comes with a flotilla of problems, ranging from impacts on air and water quality, regulation, and proximity to residential areas, which makes every submission a minefield.

The plants need to be connected to the grid so as to avoid carbon-intensive transport, which then raises issues such as energy storage, and transporting it to the grid. This is a problem for solar.

Pollution and Regulation

Air pollution, contaminated water, or other residues are the main problem for the industry. Transport of unprocessed organic waste also presents a biosecurity risk.

For example, The NSW government has so far knocked back every WtE proposal to cross its table due to unacceptable impacts on air quality, human health and general pollution.

The government has banned WtE in most areas, largely shifting projects out of Sydney and into the regions, where they may yet face community opposition.

It knocked back the Eastern Creek WtE proposal, and Canberra kyboshed a similar proposal in Fyshwick.

To date, the Western Australian Kwinana WtE proposal is the only Australian project to receive full approval. Located in the Rockingham area, south of Perth, its distance from major residential areas may have improved its chances.

Cleanaway Waste Management’s ((CWY)) Western Sydney Energy and Resource Recovery Centre is likely to be the first NSW WtE proposal to gain approval, having secured “state significant” development status, but it still has several hurdles to overcome, including objections from Sydney Water.

But advances in technology means many plants are now equipped with extensive flue gas cleaning to reduce emissions. Technology has advanced in Europe to the point that many projects are deemed to be renewable energy.

Offtake Agreements Thin On The Ground

Offtake agreements are another issue with predictability of supply remaining a sticking point for the industry.

The industry will need to sell Power Purchase Agreements and be able to meet those obligations and make the projects bankable.

Then banks will be able to use the usual tripartite deeds to step in and make right in a default situation, says Lexology.

WtE produces will also need to nail down industry offtake agreements, which will require long-term offtake contracts with credit-worthy third parties, similar to Nippon’s Opal Australia Paper’s deal with Suez and Citiwide in the Latrobe Valley.

Another problem presenting itself in these respects is the assurance of a minimal supply of feedstock, and minimum payment.

Not Incentivising More Waste Production

Perhaps one of the largest challenges facing the industry is regulator scrutiny to ensure that governments are not incentivising more waste production.

Domestic Snapshot

Commissioned bio-waste projects in Australia total 529MW according to Morgan Stanley, of which 86MW are under construction. Landfill gas commissions totalled 143MW, none of which have started construction. Solid waste projects scheduled to commence construction total 29MW.

According to Maddocks, WtE only contributed to 1% of Australia’s electricity output in 2020, compared with the OECD average of 2.4%. 

So, even though pressure on reducing waste will rise, the opportunity remains large.

Several WtE projects are afoot in Australia, most of which are being funded by offshore private/government equity.

The Clean Energy Finance Corporation (CEFC) in 2015 identified $3.3bn of WtE opportunities in its Bioenergy and Energy from Waste report.

Macquarie Group ((MQG)), through its subsidiary Macquarie Capital, would be Australia’s largest investor in the sector, holding stakes in Bingo Industries, funding Cleanaway’s Western Sydney project, and several other projects in Western Australia.

Cleanaway is Australia’s largest listed company to commit to WtE. 

The CEFC also concluded that the infrastructure build could be cost-competitive with other new-build energy generation.

On the international front, Masdar, a renewable energy company base in the United Arab Emirates, has also exhibited strong interest in the Australian market. 

Masdar has joined Abu Dhabi-based Tribe Infrastructure Group to buy a 40% stake in the East Rockingham WtF project near Perth. 

The pair has identified a $5bn pipeline of WtF opportunities in Australia in the next five year, says Lexology.

Masdar and Tribe have also partnered with Suez and Nippon Paper’s Opal at Maryville in Victoria’s Latrobe Valley, taking a one-third stake.

The major waste management companies in Australia include Cleanaway, Bingo, JJ Richards, Veolia, Remondis, Citiwide, and URM. 

All up, the sector is ripe for mergers and acquisitions.

Cleanaway The Major Listed Play

Cleanaway’s proposed Western Sydney WtF project is a combustion project. 

Incineration of waste can produce harmful pollutants and two projects in NSW have already been rejected on this basis – the Eastern Creek proposal and a Fyshwick proposal. 

Cleanaway claims it is using more advanced technology that deals with air pollution, but has not revealed much about the technology. 

Judging from its website, Cleanaway is capturing gas from the landfill, then burning it, as opposed to dumping solid waste directly into an incinerator.

Cleanaway’s capital expenditure for the project has already blown out and could well hit $2bn.

The company is now planning a permanent $15m increase to annual spending (up 60% on initial estimates).

Cleanaway has also been securing WtE sites in Victoria and Queensland.

Cleanaway Not Exactly Cleaning Up, Say Brokers

The WtE path is likely to be a long one for Cleanaway and brokers have mixed views on the company’s medium term outlook.

Jarden revisits the company given waste-to-energy structure and costs have changed.

The broker observes Cleanaway now expects capital expenditure to exceed original estimates by 15% to 20%, and that the company plans to fund this through its balance sheet.

Jarden believes the company can just manage the challenge without raising equity but adds waste-to-energy growth capital expenditure’s current feasibility is “marginal” given higher operational and capital costs and rising depreciation and amortisation imposts. 

There’s not a lot of wriggle room, should costs blow out.

Cleanaway should also be able to fund the WtE capital expenditure through its existing financing framework without breaching covenants or gearing targets, observes the broker. 

But Jarden does expect leverage will reach the top end of the company’s target in FY25.

Cleanaway plans to announce FY23-FY26 earnings (EBIT) compound annual growth guidance at the FY23 results. Consensus forecasts are predicting a FY26 EBIT CAGR of 2% to 3%.

Consensus forecasts a three-year EBIT CAGR to 2026 of 14% to 15%.

So all up, while underlying business growth is expected to remain buoyant, capital expenditure and operational costs are likely to eat much of the profits.

Jarden also flagged a sharp jump in D&A costs of $20m and while the broker was not sure whether this pertained to group or divisional figures, it warned it carries a risk of sharp downward revisions to EPS forecasts around the time of the result. 

Nonetheless, Jarden retains the faith, holding a Buy rating and $2.80 target price.

Meanwhile, Ord Minnett observes Cleanaway has acquired several strategic higher margin post-collection assets, including the Sydney Resources Network and GRL. 

The broker posits that continued investment in waste processing infrastructure will lead to higher internalisation of waste volumes, enhancing long-term margins.

But Ord Minnett considers the company to be trading at an expensive 25% premium to value.

It also believes investors are paying too much for a company that persistently delivers low organic growth and low-single-digit returns on equity.

Not to mention lower return on assets and capital-intensive growth, driven by bolt-on acquisition and large, planned capital projects such as energy from waste and brownfield infrastructure investment. 

The broker also spies little potential for margin-accretive price increases given its lack of competitive advantage.

On the flipside, Ord Minnett forecasts low but resilient growth for the solid waste industry.

The broker observes Cleanaway has improved operating efficiency and is enjoying an improved contribution from the food and garden organics business, a post-covid reversal of labour and fuel inflation, and lower headcount.

Ord Minnett also appreciates the company’s balance sheet, considering it to be conservative, and holds a Lighten rating and $2.20 target price.

Macquarie, meanwhile, observes the company’s investor day was focusing on culture, systems and performance management to drive profits.

Management reiterated guidance and confirmed the post-covid recovery in the core business was continuing, and advised margins were pushing 12%.

The broker appreciates Cleanaway’s execution plan and observes the investment opportunity remains large, and that the company is applying due discipline to the pipeline. 

But the broker says WtE front was mixed, with capital costs jumping 15% to 20%; and intensifying competition in the Victorian landfill market potentially delay a final investment decision.

As a result, Macquarie predicts equity internal rate of returns will range between high single-digit to low double digit.

The broker holds an Outperform rating and $3.05 target price.

Evans & Partners observes the company is preparing to invest in WtE in Queensland and Victoria by fundal capital light elements such as planning, site selection, community engagement and developing financial frameworks and in principle O&M, EPS and offtake agreements.

The broker observes the company’s container deposit scheme is now involved in four states and is generating $120m of revenue.

The broker holds a Positive recommendation and $3.00 valuation and sits above consensus for five-year earnings (EBIT) growth.

FNArena's dedicated ESG Focus news section zooms in on matters Environmental, Social & Governance (ESG) that are increasingly guiding investors preferences and decisions globally. For more news updates, past and future: 
https://www.fnarena.com/index.php/financial-news/daily-financial-news/category/esg-focus/

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