Wall Street adds climate change to bottom line

Wall Street now views the color green as something other than money.

In the latest sign that global climate change is becoming a major factor for investors, potentially the largest private takeover in the nation's history has environmentalists' fingerprints all over it.

A consortium of private investors announced Monday they would pay almost $45 billion to acquire TXU Corp., which generates electricity in the state of Texas. What makes the deal more than just another gigantic financial transaction is that the buyers of the company consulted with environmental groups and agreed to sharply scale back plans to build new coal-fired power plants.

"This is a real breakthrough, an indication investors are paying attention to the real financial risk associated with climate change," says Dan Bakal, director of electric power programs at Ceres, a Boston-based environmental group that advises investors controlling $3.7 trillion in assets. "It means Wall Street is really beginning to pay attention."

Wall Street analysts believe the deal could mean that future takeovers will start to factor in the cost of corporate carbon emissions.

This could affect mergers and acquisitions in a broad range of industries, including manufacturing companies, the auto industry, mining companies, and other utilities.

"What it shows is the environment has a much greater presence than in the past and the issue of global warming is under increased scrutiny," says Sam Stovall, chief investment strategist at Standard & Poor's in New York. "These are additional factors that must be addressed in future mergers."

In fact, there are some signs Wall Street is trying to get up to speed as quickly as possible. For the past three years, the World Resources Institute (WRI), an environmental think tank in Washington, D.C., has been working with investment banks and securities firms such as Merrill Lynch, Citigroup, and Goldman Sachs to teach them how to establish their own carbon "footprint" and analyze other companies' emissions.

By calculating the footprint – the amount of greenhouse gases a company pumps into the atmosphere – analysts can begin to forecast the potential risks of climate-change lawsuits and future costs of any greenhouse-gas regulations.

"It's been a slow start, but we have been pleased to see financial institutions begin to grapple with those systems," says Jennifer Layke, deputy director of climate and energy for WRI. "But this is the first time we have seen a set of investors reach out to the environmental community around the terms of a new investment deal."

Last year, the New York Stock Exchange began to educate CEOs about the issue. It sponsored a lunch with former Vice President Al Gore, who gave a slide-show version of his Oscar-winning documentary, "An Inconvenient Truth."

This year there will be a record number of shareholder resolutions asking companies about their carbon footprint.

Normally, shareholder propositions don't receive much traction in the corporate world.

But, the proposals have been receiving a significant amount of institutional support from such large shareholders as Calpers, the California public-employee pension fund. And there is increasing concern that corporate boards may have a liability if they don't start to plan for future limits on carbon emissions.

Pressure was already building on TXU to scale back its proposal to build 11 coal-fired power plants. Over the weekend, Ceres issued a report that looked at the potential carbon taxes the utility would face, assuming that Congress or the states begin to enact such charges.

"Our report made some reasonable assumptions, including that none of the costs would be grandfathered in," says Mr. Bakal. "That means 100 percent of the carbon dioxide must face a carbon tax, which we estimate could be as much as $780 million per year, perhaps for 15 years."

At the same time, the Ceres report called into question some of the revenue and cost assumptions that TXU had made to justify the new plants.

"We think they had overestimated the amount of growth and underestimated the amount of the coming carbon controls and the cost of complying with the existing Clean Air Act," says David Gardiner, one of the authors of the report and a sustainability consultant in Arlington, Va.

Some of these issues resonated with the group of TXU buyers, which includes the Texas Pacific Group, Goldman Sachs, and Kohlberg Kravis Roberts & Co. Texas Pacific and KKR are private equity groups that amass money from pension funds and wealthy individuals and buy companies.

Monday, in Dallas, the buyers' group said they would drop eight of the 11 new coal-fired power plants if their deal succeeds. They also said they would roll back electricity rates by 10 percent. And, they indicated they would work towards meeting any national emissions caps in the future.

"It's a sign people are paying attention," says Rodney Taylor, managing director of the environmental-services group at Aon, a large Chicago-based insurance broker. "From a financial standpoint, it also says something about the perception of where energy costs are going. KKR is kind of a medium-term investor, so they must be looking at energy costs going up sharply over the next three to five years."

• Wire reports were used in this report.