Drax Group plc (DRXGF) Q4 2022 Earnings Call Transcript

Drax Group plc (OTCPK:DRXGF) Q4 2022 Results Conference Call February 23, 2023 4:00 AM ET

Company Participants

Mark Strafford - Investor Relations

Will Gardiner - Chief Executive Officer

Andy Skelton - Chief Financial Officer

Conference Call Participants

Pavan Mahbubani - JPMorgan

Dominic Nash - Barclays

Martin Young - Investec

Mark Freshney - CS

Adam Forsyth - Longspur Research

Ahmed Farman - Jefferies

Mark Strafford

Good morning, everyone, and a very warm welcome to our 2022 Full Year Results Presentation Webcast. I'm here for today's webcast with our two presenters, Will Gardiner, the Group's CEO; and Andy Skelton, the Group's CFO.

The agenda for today's presentation follows our usual format. So first, we'll update on the highlights, our future positive position and then update on business unit operations. Andy will then update on the financials before handing back to Will for an update on strategy. We'll then open it up to questions. Firstly, from the phone lines, and then we'll then take written questions which the team will read out and answer.

And with that, I'll hand over to Will.

Will Gardiner

Thank you, Mark. And I will start on Page 5. So I hope that you're all familiar with our purpose and with our ambition, but I wanted to add a couple of other points to that today, which is I'm using a phrase now where I would like everyone at Drax to feel that they're a valued member of a winning team with a worthwhile mission. And I think there are clearly three important parts to that phrase. So we want everyone to be a valued member, and we're very focused on empowering everyone at Drax to be the best that they can be.

Coming a winning team is also critical. And I think the results that we've presented today, I think, demonstrate that. We have a fully integrated business model that is delivering outstanding commercial results for all of our stakeholders. And again, our mission is, I think, is clear. We're building an international business that's fully aligned with fighting climate change. We invested over £2 billion to convert Drax into a renewable power generator.

We're supporting the U.K. security of supply with renewable power. And I would say 2022 was a year in which the importance of carbon removals has become well recognized by the scientific community globally, by governments globally as well as the role that BECCS can play to deliver them, and we have plans to deliver over £3 billion cycle -- invest or reinvest over £3 billion over the next decade to deliver that mission.

I'll turn to Page 6 for the highlights. We've had a very strong year. Our EBITDA of £731 million is an increase of 84% on 2021, and our net debt to adjusted EBITDA of 1.6x is significantly below our target of 2x. We have benefited from higher power prices. But in addition, I wanted to highlight a couple of things that are maybe less obvious. Our fully integrated model allows us to optimize how and when we generate as well as which routes we take to market. We can either sell pellets or we can sell power, whichever is most beneficial and having this ability has significantly driven our results.

I'd also like to highlight our hydro assets, which performed extremely well, delivering £171 million of adjusted EBITDA, more than double the prior year. And again, a lot of that is bound to system support and flexibility. The strong financial performance is generating cash flows, which we expect to reinvest in our strategy both in the U.K. and globally with attractive returns. And as evidence of the Board's confidence in our business and the opportunities in front of us, in line with our dividend policy, we expect to increase the dividend per share to 21p for the full year, an increase of just under 12% for 2022.

Let me now turn to Page 8. Our aim is to be a future positive company. We're building a long-term sustainable business with strong financial and operational performance, delivering carbon negative growth. Positive climate, people and nature outcomes where the well-being of our employees and our communities is at our core. Now there's a lot of information, a lot of good information on this slide, but I wanted to focus on a couple of things. First of all, climate positive. As you know, we've already decarbonized our generation business, and now we're growing further. Most recently, we've committed to end the sale of gas through our SME customers, meaning that Drax will only sell its customers renewable electricity.

Through 2024, we expect this will result in a further reduction in our Scope 3 CO2 emissions of approximately 500,000 tons a year. We also named to be nature positive. And this is not just about biomass, but it's about having a positive contribution to nature in the areas where we operate. We're implementing systems across our value chain to deliver that outcome, including developing a nature positive policy and framework, which focuses on encouraging the regeneration of nature. In terms of our people, safety remains our top priority and the increase in recorded incidents in 2022, in part reflects the widening of the scope and improvement in the reporting of incidents in our North American operations, which now includes all of our contractors across the group.

Over the last 18 months, we've also been implementing a rigorous HSE improvement plan in North America as we align safety and environmental practices across our business. And we expect those investments in training, human resources and capital products to deliver improved performance. But make no mistake, we have more incidents than we would like, and we're very focused on reducing that number. Finally, we've launched the Drax Foundation, which will deliver local initiatives supporting STEM and community enhancements to nature and green space. All of our work across these areas is underpinned by strong governance.

And over the last nine years, the Group's Chair Phil Cox has overseen these efforts. Phil's third and final term as Chair ends in December, and at that point, as part of a long-term plan, he will step down. The process has begun to find a successor. I'd like to thank Phil for his stewardship of the Board and huge contribution that he's made to the Group over the last nine years.

Turning to Page 9. There continue to be questions about biomass and biomass sustainability, and we absolutely agree that biomass needs to be sourced properly and forests managed properly for it to be sustainable. We are fully committed to sustainable biomass, and we have put in place the processes and controls to ensure that the biomass we produce in use for power generation is sustainable. It complies with strict U.K. standards and those in the countries where it is sourced. We use third-party verification of the biomass and the commercial forest resource firm. This is backed up by our own research, policies and scrutiny from our independent advisory board, which go beyond compliance.

Fundamentally, the economics of biomass support sustainable outsourcing. The primary source -- sorry, the primary driver of commercial forest is sawlogs, premium products, which typically go into the higher value construction and manufacturing markets. Commercial forestry and sawmill companies not Drax, sort the fiber according to value. And if we can go to a sawmill, it does, biomass typically uses the bits that are left over and are not merchantable for sawlog. Going beyond these points, I want to highlight the port report that you may have seen, called BECCS Done Well, which was published by an independent panel led by Jonathon Porritt, a well-known environmentalist. We believe that it provides an excellent road map describing how BECCS should be done. And we're working on our response and believe that it will be a useful addition for this important slate.

Let me now turn to the operational review, and I'll start with our pellet production on Page 11. We're targeting 8 million tons of pellet production by 2030. We have 17 operational pellet plants with capacity of 5 million tons and we source biomass from four major fiber baskets and with the access to four deepwater ports. On sales, we're targeting 4 million tons of third-party sales per year by 2030. We have a high-quality order book with over 20 million tons of long-term contracts to high-quality counterparties across Japan, Asia and Europe, with sales revenue of over $4 billion. And again, having multiple routes to market for our pellets is very valuable, whether that be through pellet sales or through electricity generation.

On Page 12. EBITDA from our pellet production of £134 million is up 56%, reflecting increased production, flexible operation, and it also includes the sale of some cargoes at higher prices in the spot market and the revision of our transfer price to reflect an increase in costs and market prices. Operationally, we've used our pellet business to produce the biomass we need for generation when we need it most.

During 2022, we've been commissioning three new pellet plants as well as an acquisition, which have added 500,000 tons of capacity. The commissioning has taken longer than expected and alongside some rail disruption in the U.S., our output of 3.9 million tons was up 26%, which is less than expected, and this contributed to higher-than-expected costs alongside the cost of flexibility, which I've already described and some headwinds due to inflation. We're also progressing our third-party sales strategy and opened a Tokyo sales office to support the expected growth in biomass in the region.

Turning to Page 13. We've made good progress towards our 8 million ton goal in 2022. Through the year, we commissioned three new plants at Demopolis, Leola and Russellville and acquired a plant in Princeton from Princeton Standard Pellet Corporation. When at full capacity, these four plants combined will add over 500,000 tons of full production capacity. In December, we made a final investment decision on two new projects, which will add 600,000 tons of capacity by 2025 with an investment of around $300 million. The first is a new build pellet plant at Longview in Washington State, but includes the development of a new port facility.

And the second is a 130,000 ton expansion of our Aliceville site in Alabama. The development of Longview will provide access to a new fiber basket and add a fifth port to our North American supply chain. We have chosen to enter the U.S. Pacific Northwest based on extensive work around sustainability. The area holds a strong and sustainable commercial forestry industry as well as work around cost. The port locations should enable low-cost production, supporting sales into Asia and European markets as well as pellets for our own use.

Turning to Page 14 and generation. Our generation business continues to perform well, and I believe that against the backdrop of increasing concern around European energy security, electrification and renewable intermittency, the role of dispatchable renewable generation has never been clearer. And we are the largest source of renewable power in the U.K. Across the year, we provided around 11% of the U.K.'s renewable power, but in some days on an in-day basis, this was as high as 17%. We have optimized our biomass generation and our logistics based on the amount of available biomass across the year to provide security supply to the U.K. at times of expected higher demand.

In practice, this means generating less in the summer when demand is low and reprofiling biomass deliveries to support higher levels of generation in the winter when demand is high. And as a result, we did benefit from incrementally higher winter power prices and better availability, but also have incurred additional biomass and logistics costs associated with these actions. The integrated nature of our biomass generation pellet business and logistics has been a key enabler of this action, supporting U.K. energy security and creating value at a group level. Our system support was very strong, particularly from Cruachan, which I will talk more about shortly. We expect the value of system support to increase over time as the system becomes more dependent on intermittent and inflexible generation.

And our coal units, as you know, were extended by six months at the request of the U.K. government to support security of supply. We received a fixed fee as well as cost reimbursement and there is no change to our plans to close those at the end of March or to our timetable for BECCS.

Turning to pumped storage and hydro on Page 15. Our hydro and pumped storage operations have performed very well. And through the actions we have taken, we have positioned these units to provide more of the services and renewable electricity the system needs when it needs it, creating additional value for the group. Our investment thesis in these assets is that the U.K. needs more renewable electricity and more flexibility in its energy system, both to turn up and to turn down, whether there is too much or too little wind on the system, but also to store that energy when it is not required.

And through 2022, our assets delivered that thesis very well, and we expect that to continue in future years. Through electrification, the retirement of dispatchable thermal plant and as more wind is brought on to the system, the need for these types of assets will increase, and we believe so will their value. Reflecting this and future performance, we expect to have recovered our investment in these assets by 2024, a six-year payback on a long-term infrastructure asset portfolio.

And finally, on customers on Page 16. Our customer businesses performed well, following a challenging environment through 2020 and 2021. We are repositioning our customer business to focus on its high-quality I&C customer base. These customers are lower risk than the SME customer base and are more aligned with our corporate purpose of enabling a zero carbon lower cost energy future. We're also using our I&C business to deliver flexibility to the power system through demand-side response, creating value for our customers, for the system and for ourselves. They are all consumers of renewable power, which is an increasing demand in the U.K. There is a significant premium emerging for renewable power, which positions us well. And we're also aware of the enhanced risk of our SME customer base as a result of the energy crisis, and we are positioning our portfolio and balance sheet to manage that.

I'll now hand it over to Andy to take you through the financial review.

Andy Skelton

Thank you, Will, and good morning, everyone. The 2022 saw unprecedented volatility in global and U.K. energy markets, triggered by the war in Ukraine. This challenging macroeconomic environment led to increased complexity across our end-to-end operations. The results we're announcing today reflect our ability to respond to this changing external landscape and to align our operations and financial management so that we can optimize our position while providing the additional security supply to the U.K. at times of expected high demand.

Against this backdrop, we've delivered an 84% increase in adjusted EBITDA. We've reduced our leverage significantly below our stated objective of 2x, and we've increased our available liquidity. With improved contribution from all areas of the group, this strong financial performance is generating cash flows, which is supportive of our capital allocation policy, positioning us well to invest in our core business to progress our strategic growth plans in the U.K. and globally and support sustainable and growing returns to our shareholders. As Will noted, the Board has proposed a final dividend of 12.6p per share, which brings the full year dividend to 21p per share on a year-on-year increase of just under 12%.

So moving to Slide 19. Our portfolio of assets provide significant optionality both between generating power versus selling pellets and in terms of how we optimize across our generating assets. This optionality has enabled us to capture value of market volatility during the year. Our pellet business has demonstrated the value of our integrated business model. It provides flexibility to support reprofiling of biomass generation to thex when the system needed as the most and to capture additional value from generation. Despite inflationary headwinds that contributed to a 6% increase in our cost of production, the pellets adjusted EBITDA grew 56% to £134 million, reflecting increased volumes of production, the value achieved from optimization, which included the sale and purchase of some cargoes in the spot market.

In generation, our adjusted EBITDA grew 87% to £696 million. During the year, we optimized biomass operations to reprofile generation from summer to winter, providing security of supply at times of higher demand. While benefiting from incrementally higher power prices in the winter, we incurred additional costs, both to ensure that we had biomass available at the right time, but also to buy back forward sell summer positions. To enable this and to mitigate the financial risk associated with an unplanned outage, we ran a predominantly baseload operation on all three ROC units. We held the CfD unit in reserve to provide resilience in the event of an unplanned outage. With the CfD held in reserve, our hydro and pumped storage operations performed very well, contributing adjusted EBITDA of £171 million, a significant increase from £68 million in the prior year.

The improved profitability reflects increased provision of system support services and higher volumes of power generation. Overall margin from system support grew to £175 million from £160 million in the prior year. And we continue to expect the value of systems support will increase over time as the system becomes more dependent on dispatchable and flexible generation as intermittent and inflexible capacity increases. Our profitability from customers improved again with adjusted EBITDA of £26 million, up from £6 million in the prior year and a loss of £39 million in 2020 when it was impacted by COVID. Volumes of power sold grew to almost 15 terawatt hours, reflecting the commencement of supply to three major new customers as we position the business to provide renewable power and decarbonization services to high-quality I&C and corporate customers.

An increase in the bad debt charges, the £48 million reflects the impact of higher commodity prices. These feeds through to increased revenues and gross profit, but also to increased receivables. If you look at bad debt charges before application of credit, they remain stable around 1.4% of revenue.

So moving on to Slide 20. We produced 3.9 million tons of pellets in the year, an increase of 26%, which primarily reflects the full year of production from the Pinnacle plants acquired in April '21. Our sales to third parties totaled 2.2 million tons, up from 1.2 million tons in the prior year. This market offers medium- and long-term contract opportunities with high-quality counterparties in Asia and Europe. Our target to increase sales to 4 million tons per year provides high-quality income streams well into the 2030s. Our production costs increased to $152 a ton, reflecting a number of factors.

Firstly, inflation headwinds of around 6%, primarily driven by utility costs, which increased more than 35% in the year and in-country fuel surcharges relating to transportation cost of fiber to plant and pellets from plant to port, and these increased by over 20%. We expect that these inflation headwinds will remain in 2023. We also had a higher than average production cost during commissioning of our plants at Demopolis, Leola and Russellville and the commissioning of these plants is well noted have taken longer than expected. Finally, lower-than-expected volumes produced reflects both these commissioning delays but also rail disruption in North America through the year, which contributed to higher-than-expected for stand time.

When considering changes in fiber mix by plant, there was no material change in our overall cost of fiber. We continue to believe there are opportunities for cost reduction, including the use of a wider range of sustainable fiber sources, operational efficiencies across production and logistics and development of new technologies and innovation. In respect to the wider range of sustainable fiber sources, we've recently signed a new long-term gas agreement for delivery of 1 million tons between 2024 and 2030 at a price significantly below the current line with market price. Our R&D team are exploring opportunities to extract a second-generation sugar byproduct from biomass that could be sold into green chemicals or biofuels processes, including sustainable aviation fuels.

We expect to commission the pellet facility in Louisiana in the second half of the year, and this could provide a secondary revenue stream and help reduce the overall cost of pellets produced. As global demand for biomass continues to grow and as we continue to expand the size of our pellet operations and deliver on our strategic plans for BECCS, we believe there will be increasing opportunity for trading and optimization across our self-supply production and third-party purchase and sales books. Taken together with the ongoing focus on cost reduction, we expect continued growth and profitability of our pellets business.

Now turning to Slide 21. We sell power forward to the extent that there's liquidity in the market. We have a strong contracted position on our biomass units being fully hedged for ROC generation in 2023 and over 75% hedged in 2024. We're holding the CfD unit as reserve in the event of a fast outage. Currently, we do not envisage significant CfD running. With the CfD unit to provide cover, we forward sell some peak generation on our Cruachan plant in the first quarter. This has the benefit of providing more certainty of hydro earnings but will reduce the amount of system support in the period.

There's a wide range in consensus adjusted EBITDA estimates for 2023 from £1 billion to £1.2 billion. At the top end of this range, we believe estimates reflect the higher level of CfD running. Our expectations for 2023 are unchanged and are based on continued good operational performance and base load running of the ROC units, minimal running on CfD and continued strong performance of our hydro and pumped storage.

Moving on to Slide 22. We expect CapEx to be in the range of £570 million to £630 million for the year. Maintenance CapEx of £120 million includes recurring and one-off maintenance at Drax Power Station, our hydro sites and our pellet plants. There are two major planned biomass outages in 2023. Our OCGT projects play an important system support role. And whilst likely that we will not hold these assets in the long term, we'll continue to invest to sell our obligations under the capacity market contract and to maximize value from these investments. CapEx in 2022 totaled £90 million, and we expect to spend over £200 million in 2023.

In the case of a disposal, we'd expect to recover all of this CapEx. In December, we made a final investment decision on two new pellet plant projects, which will add almost 600,000 tons of capacity by 2025, an investment of around $300 million. This represents a significant step towards our target of 8 million tons of capacity by 2030. And CapEx this year includes over £100 million relating to these projects. The precise level of spend on U.K. BECCS in the year will depend on receipts and timing of Track 1 confirmation from the U.K. government. FEED is progressing well and early-stage enabling work has commenced.

Moving on to Slide 23 and looking at the balance sheet. We maintain a strong focus on cash flow discipline and maintenance of a robust balance sheet. Our available cash and committed undrawn facilities of £698 million provides substantial headroom over our short-term liquidity requirements. During the year, we've carefully managed increasing demands on counterparty trading lines and cash collateral requirements associated with higher commodity prices to deliver a closing net debt to adjusted EBITDA ratio of 1.6x, significantly below our long-term target of 2x. We started 2022 with £173 million of cash collateral held and we ended the year with £234 million of cash collateral placed.

This working capital outflow of over £400 million in the period was driven by increased use of exchange traded contracts. Most of our bilateral trading does not require us to post collateral, but with higher prices, creating pressure on market liquidity and counterparty limits, we sought to lock in power prices via exchange-traded products. These typically require an upfront margin payment and cash collateralization of mark-to-market positions. As the associated trades mature, there'll be a corresponding working capital inflow. However, market movements and new trades will determine the future cash collateral requirements.

When adjusting for the impact of the cash collateral of £234 million that's placed at the end of the year, our net debt to adjusted EBITDA ratio reduces further to 1.3x. In December, the group agreed a new 12-month £200 million liquidity facility with its existing lending group. The facility provides an additional source of liquidity to the group's £300 million ESG revolving credit facility. This new facility was undrawn at the end of the year and no cash has been drawn under the revolving credit facility in the three years since inception. Both Fitch and S&P have recently affirmed our corporate credit as BB+ stable. And we also have a BBB- stable investment-grade corporate rating from DBRS.

The quality of the group's assets, earnings and cash flows provide a strong platform from which to execute our strategy. To support our growth ambitions for BECCS and other large-scale infrastructure projects, we've sought as much flexibility as possible within the capital structure, and this year, all the Group's debt will be repayable at little to no cost.

On to Slide 24. As a reminder, CMD in December '21, we laid out how we think about self-funding our £3 billion investment in U.K. BECCS, new pellet plants and the expansion of Cruachan, using returns generated from the existing business and generated by these strategic investments. While the fully funded growth plan did not specifically include our target for 4 million tons of global BECCS, we noted that it would provide the capacity to support additional investment, and this continues to be the case following recent clarifications on the application of the electricity generators levy. We will update further on this growth plan and opportunities for global BECCS in our Capital Markets Day, which is planned for May.

And finally, on Slide 25. Our capital allocation policy launched in 2017 remains unchanged. Strong financial performance and cash generation is supportive of maintaining our credit ratings, paying a growing and sustainable dividend, and it also positions us well to invest in our core business and progress strategic growth plans in the U.K. and globally. The fourth leg of our capital allocation policy is to return surplus capital to shareholders. We consider several factors in this regard, including the quantum and timing of capital deployment, our current and target leverage profile, any dilutions of share capital for employee share incentives and any inflows from divestiture of noncore assets.

With that, I hand back to Will.

Will Gardiner

Thank you, Andy. And if I now turn -- all right, turn to Page 27. As I mentioned at the top, we're building a company where we want everyone at Drax to be a valued member of a winning team on our worthwhile mission. And in this section, I want to focus on how our strategy, which is designed to deliver our purpose is progressing. We're building a company's business model is completely aligned with fighting climate change, and we have significant investment opportunities, offering attractive returns to do so. In February 2022, we set ourselves a series of milestones against which we could judge our progress in the delivery of our strategy. And as you can see from the slide, we are making excellent progress.

Turning to Page 28. At the same time, as we are progressing, the external environment for our strategy is also moving quickly. There's growing scientific support for the need for technology-based solutions to climate change as well as nature-based solutions. Research by the intergovernmental panel on climate change, the IPCC, the world's leading authority on common science states that carbon removal methods, including BECCS, are needed to mitigate residual emissions and keep the world on a pathway of limit warming to 1.5 degrees C. All the illustrative mitigation pathways assessed in the IPCC's latest report view significant volumes of carbon removals and specifically BECCS as a key tool for mitigating climate change.

The IPCC believes that globally, between 0.5 and 9.5 billion tons of CDRs, via BECCS will be required. This large and growing global demand underpins what we believe will be a mega trend through the decade, creating investment opportunities as global markets begin to price the true cost of carbon. The earnback principles for responsible investment estimate that the CDR market has a carbon dioxide removal market could be worth over $1 trillion by 2050. And the science and our business model are in last step.

Moving to Page 29. Unlike the science, the policy is also moving to address the challenge. Most notably in the U.S., where the Inflation Reduction Act is unlocking support and creating an attractive investment environment for a range of solutions, including BECCS. Of notice the 45Q mechanism, which provides $85 a ton for carbon captured and stored via BECCS. This is being supplemented by progress at the state level, notably in the South and in California. In response, the EU is launching a green deal industrial plan, and it's noteworthy that France, Belgium, Hungary, Denmark and Sweden all have set targets for BECCS. The U.K. has been in a leading position for carbon capture and storage, but must keep moving or at risk losing that lead. The policies, science and economics must all be in lockstep and with the right framework, we stand ready to invest.

Turning to the U.K. on Page 30. We have made great progress in 2022 on BECCS the U.K. On technology, our FEED is progressing well and early-stage enabling works at the BECCS Power Station have commenced. And I would note that our agreement to provide a winter contingency from our coal unit is not expected to have a significant impact on the timetable for BECCS. Secondly, I would note that the East Coast Cluster is progressing well. Third, we have submitted our planning application and completed the DCO hearing. And fourth, the government has published a consultation on greenhouse gas removal business models and a separate consultation on Power BECCS business models that are reflective of its advanced technological readiness and the co-benefits of both power and negative emissions. It is very clear that the U.K. government is committed to BECCS and greenhouse gas removals.

Looking ahead to 2023, we expect to complete the FEED study and following the completion of our winter reserve contract, continue with early-stage site preparation. And we expect an announcement from the government shortly of shortlisted Track 1 projects as well as the Bioenergy strategy review over this summer.

Turning to Page 32. Our current ambition is to deliver 4 million tons per annum of carbon removals outside of the U.K. by 2030. And we are making great progress. We are making our plans more specific, we're settling on our technology choices, and we're building the business case. We're most active in the U.S. where the legislation is moving in a supportive direction, and there is clear ambition at both state and federal level to support greenhouse gas removals, including BECCS, most notably, as I have said, through the Inflation Reduction Act. We have chosen our first site and are developing a pipeline of multiple project opportunities, which will deliver our 4 million ton opportunity and ultimately enable us to go beyond that.

We're working with a range of fiber suppliers and have signed an MOU with a large timberland owner to work together on BECCS opportunities, and we're also in active discussions with several transport and storage providers. We've agreed an MOU with Respira, the carbon broker for the sale of 2 million tons of CDRs from our projects in North America. This is the world's largest CDR deal and alongside long-term power sales agreements and the aforementioned 45Q scheme, CDRs will form the key components for the financial model for BECCS in the U.S. We've also started work on adding CCS to rate pellet plant, which has -- which could accelerate bringing BECCS-based CDRs to market. And in the appendix, we provided more detail on the work we're doing, and we expect to update you more on our global ambitions later this year.

Turning to Page 33 and our milestones for 2023. So we remain focused on our three strategic pillars: to be a global leader in sustainable biomass pellets, to be a global leader in carbon removals and to be a U.K. leader in dispatchable renewable power. And we continue to take steps across the group to deliver that strategy. In pellet production, we continue to develop a pipeline of options for expansion and sales to third parties. We continue to focus on opportunities for innovation, efficiency and cost reduction, although we will use, as we have in 2022, our biomass supply chain to deliver value for the group. And inevitably, this means an increase flex on margin and not just on cost.

On U.K. BECCS, we would expect to complete our FEED study and early-stage enabling works to support a target final investment decision in 2024. On Global BECCS, we're investing more than £30 million this year to make it happen. And on Cruachan two, we are submitting our planning application. Lastly, we know that the question of what role Drax power station plays on the U.K. power system after March 27 is very important. No gas power station has been at the core of the U.K. energy system for 50 years, and we think it should remain there for another 50 years. So clarity on two units with BECCS is a part of that. But in addition, through this year, our aim is to work with the U.K. government to make more clear the long-term role of biomass units that are not transitioning to BECCS.

And as I've said before, we think that the role of dispatchable renewables has never been more important and never been more clear. And we grow with greater demands on the energy system, it is helpful that we have clarity now so that we can continue to invest appropriately to ensure that all of our biomass units can contribute to net zero and security of supply in the U.K.

Let me just conclude on Page 34. Over the last two decades, Drax has been dramatically repositioned. Our business model is now completely aligned with delivering U.K. energy security and combating climate change. Our highest return investments deliver equally for shareholders for the U.K. energy system and for the climate. The fully integrated nature of our supply chain gives us unusual flexibility to optimize and create value in different markets, and we are delivering against that. At the same time, the global consensus on how to combat climate change and the importance of dispatchable renewable power as well as carbon renewables is growing.

We stand at the beginning of a very significant opportunity to invest multiple billions of pounds in combating climate change in the U.K. and globally. And I've never been more excited about the opportunity to deliver for our people, our communities, our customers, for nature, for the climate and for our shareholders.

Thank you all for listening, and then we are happy to take questions. As Mark suggested, we'll start with the live questions from those dialed in, and then we'll take any written ones coming in on the webcast.

Question-and-Answer Session

Operator

[Operator Instructions] The first question is from the line of Pavan Mahbubani with JPMorgan.

Pavan Mahbubani

I have three questions, please. My first question is, can you talk about your view of consensus as it stands today? So I understand you said -- you said in your initial remarks that the top end of consensus would probably imply higher CfD generation volumes than you see at this point in the year. But if we assume little to no CfD volumes, does that mean that you're comfortable with the current consensus of around £1.15 billion as we see it?

My second question is on the OCGTs. So you'll be investing £310 million over the course of last year and this year. How confident are you that you can recover this CapEx? And can you give us details of how much capacity market revenues these assets are expected to earn?

And then my last question relates to this. You mentioned when talking about capital allocation that inflows from divestiture of noncore assets is a consideration. So would it be fair to assume that should you sell the OCGTs, and at least recover the CapEx that you could return some of this capital to shareholders.

Will Gardiner

Thanks, Pavan. Why don't I take the second and the third, and then I'll ask Andy to take maybe the second half of the second and the first. So on the open cycles, yes, we are investing £310 million. If you ask me how I look at those investments now relative to when we sort of began developing those projects, I think all of the trends that supported them in the beginning, continue to support them now and actually, in fact, I think, are accelerating. The need for the peaking power, which they will provide, I think, is growing, not shrinking. And the volatility in the system is growing and not shrinking. And so we're very excited about the opportunity to generate earnings from those most likely as you suggest through divesting of them.

And so that's something we will continue to look at. I think it's most likely that will happen once they're fully built and commissioned. And I'll come back to Andy, maybe I don't have the exact number of the capacity market revenue. We'll come back to you on that. On the inflow from divestitures, I think just the way I would say it is that the -- any decision to return excess capital, as you know, we would sort of look at it at the time and as we're looking at them. And there's no question that as we divest the open cycle or we divest -- if we would divest any other noncore assets that that would be a key element of any of that decision-making as well as the other points that Andy mentioned, our future investment profile, potential dilution from share programs, et cetera.

Andy Skelton

Pavan, on the OCGTs, across the life of the contracts, the capacity market income is £230 million. So it's a substantial longer time for those investments. And then to Will's point, when you think about the peak generation in the system support income streams and we think that there are attractive assets. And then on consensus, there is a broad range of consensus from £1 billion to £1.2 billion. As I said, and I described our running regime right now hold to CfD as a hedge unit effectively. And that means that there's good running of the ROC units, the CfD is available, but of course, and that depends on market pricing and how the CfD mechanics work. So right now, based on the CfD mechanics for this winter, it's unlikely to run any volume, it's not economic to do so. But clearly, as the mechanics are set for the rest of the year, that can change if the units -- ROC units run well and if prices are in the right place.

So I think when we publish consensus by the fact we published it, you can take that we're comfortable with the range. I think the top end of the range assumes running of the CfD that's not in our base case, but it's an option if things progress well during the year.

Operator

The next question is from the line of Dominic Nash with Barclays.

Dominic Nash

A couple of questions from me. Although actually three to sort of follow up on one of Pavan's questions as well actually. So the questions are, firstly, on the OCGTs, what IRR expectation do you think that you will be able to make on those assets? And then leading into the second question. You also talked about strategically winding down your retail I&C -- sorry, leading into your I&C, but one venue non-I&C retail, and that's called Opus. Are you looking at potentially selling that division through 2023? And can you just remind us of what you paid for it as well. I think it's about £300-something million for that? And could that value be sort of a good benchmark? And then your collateral, you mentioned you got £400 million of collateral that is going to potentially partially unwind through 2023 as well.

And when I put all those together, I'm sorry, it's a long question. But when I put all together, you've basically got potentially your £310 million invested capital in the OCGTs or whatever IRR. You've got potentially the retail, you've got potentially the clash unwind. And when we look at your cash flow graphs on Page 24, how much of is in that cash flow graph and potentially how much of that could be returned to shareholders. So that's question two. And the final question is on the U.S. Can you just remind us again what the cost -- rough cost would be of a 2 million ton BECCS plant in the U.S.? And what sort of IRR do you think you'll get post the $85 carbon tax credit?

Will Gardiner

Okay. See if I can remember all those questions. Dominic, thank you for that. So on the open cycles, low double digits, high single digit sort of unlevered returns when we're thinking about that. In terms of the customer business, I think as we've always said, we like the I&C business. We think that has got interesting potential to be as sort of complementary to our generation business. We are selling -- we're getting good premiums through that business on renewable power, which is interesting. We are getting good opportunities to sell CDR. So again, we think that's interesting.

On Opus, as you know, we've looked at strategic alternatives for that business. It is a -- it hasn't been the most fruitful time in the supply space, as you know, and we'll continue to look at opportunities in that space as and when it become interesting. And I don't think that's probably in 2023, it's probably a longer-term thing. Maybe in summary on your question about capital, yes, we have capital and we continue to look at the best way to deploy that. And I think Andy has been through capital allocation question.

Turning to the U.S. plants. The business model for developing the U.S. BECCS projects. It includes sales of power, it includes sales of CDRs, it includes 45Q. We're still developing more details around the capital sort of cost requirements for those plants. We'll have the Capital Markets Day in May. We'll probably give you a good update there. But my own view is that the returns will be very attractive.

Andy Skelton

And Dominic, maybe just a follow-up on the collateral question. The collateral placed at the end of the year was around £200 million. So we had an outflow of £400 million in the year because we were holding collateral when we started. And whilst that will naturally come back as the existing contracts unwind, you then need to think about what collateral might be needed to support forward hedging as we capture it for future periods, but we will definitely expect some of the £200 million collateral placed to unwind during this year.

Will Gardiner

Maybe the follow-up in this whole question of capital, Dominic, for me. I mean the -- if you think about the long term -- not long term, through the rest of this decade beyond opportunity for us in BECCS globally, that is many multiple billion pound investment opportunity, right, that we expect is ahead of us, right. So the challenge in our -- the way we see discussion with capital allocation is, clearly, over the next few years before we actually start doing that in anger, we have significant cash inflows, and we'll be managing effectively to make sure we manage that short-term period relative to that long-term period in the optimal way. But there's no question that we recognize sort of the key issues around that, and we recognize both the cost flows we have coming in relatively short term, but also the very significant opportunity we have longer term.

Operator

The next question is from the line of Martin Young with Investec.

Martin Young

And three questions, if I can, please. The first relates to bagasse and you're pulling of it from the capacity market. I just wondered if you had any thoughts you could share with us in that respect and whether there were any regrets given the £63 clearing price of the T-4 auction.

Secondly, you've talked quite a bit about cost of pellets that used to be almost a sort of a KPI for you. It's a bit more gray now as you talk about supply margins in pellets and optimizing across the group. But given what you've previously set out around the cost of pellets and where you wanted to get to, could you possibly share any sort of update on the type of medium-term target level for the cost of pellet production.

And then the final question is, I note from the release you talked about a revision of the transfer pricing policy that was enacted in the second half of '22. Hopefully, you can share a little bit more granularity on that, please.

Will Gardiner

Why don't I take the first one and then maybe I'll ask Andy to take the second two. So on bagasse, I would say this was a decision there was, I think, twofold. One is that as a specific site, there were challenges around the economics there, which made it less attractive than the other three, which is to be honest why we didn't get a contract when the other three did. So also, I would say a sort of capital investment and focus question in the sense that I think we have -- we think we have good exposure, the U.K. volatility through Cruachan, Cruachan two biomass in the open cycle, so we didn't feel like we had a need for more. If I can have a £64 contract instead of mid-20s, would I like that? I definitely would like that.

But unfortunately, my crystal ball wasn't working very well. But yes, there's no question that the -- I was surprised by the way that auction cleared, and I think that's -- again, it's a good evidence of the importance of capacity. And I think for me, renewable capacity in the future of the U.K.

Andy Skelton

On the cost of pellets, I mean, clearly, we have the inflation headwinds on the utilities and on the transportation. And I expect that those will continue through this year, and you can have a view on how much of that will reverse and when that might reverse going forward. I think when it comes to those inflation headwinds, there was a group we're definitely inflation positive when you look at our index linked long-term income streams and obviously the power price. But the key there is that the long-term opportunities to reduce the cost of the pellets have not changed.

We talked about widening the fuel basket and the contract we signed for bagasse is a good indication there of the opportunities there, but also adding production capacity into existing plants and leveraging the fixed cost base and then the innovation. And so -- and we talked a little bit about that pilot plant. So the cost reductions are never going to come in a straight line and there are headwinds. But the important thing being that with the integrated business model we have, there's great opportunity to optimize and create value for the group as a whole, and we'll continue to focus on that. And if that means higher cost in the pellets business in the short term for value at the group as a whole, then that's okay. But the long-term cost opportunities are still there.

Martin Young

And transfer pricing?

Andy Skelton

Look, our transfer pricing, the well-established international rules. And I mean it reflects both our cost base and it reflects the market price of the pellets. And during the year, in providing the flexibility to the power station for when it generates, we bought cargoes. We sold spot cargoes and the price that we charge across the group is consistent with those market prices and consistent with the cost base that we have today.

Operator

The next question is from the line of Mark Freshney with CS.

Mark Freshney

Just on the upside optionality and the ability to put volume through the CfD unit and clearly make your money selling back power through the ROC units and avoiding the windfall tax. Can you talk about volumes you've got targeted through the CfD at the moment? I mean, is it 1 terawatt hour, for instance, with scope for that to go up to perhaps 4? And secondly, regarding the biomass spot purchases and spot sales. Could you give us some context as to what that was in 2022, i.e., how many cargoes you were able to trade and kind of the incremental EBITDA or gross margin that you could generate through trading a cargo. Just to -- you've been pretty clear, right, guidance, not that you've issued it, but you're happy with consensus at £11.50. And clearly, there's upside to that on the options. And I'm just trying to work out the value of the options.

Will Gardiner

So maybe I'll -- Andy might take the first one. On the second one, I would say, the -- I won't give you a precise number, Mark. But if you sort of think about -- think about where we would have been, let's say, four or five years ago, we used to incur significant costs if we had more pellets than we need, cost for demurrage, cost for storage in the significant single-digit millions. Now the ability to sell those cargoes, and we're selling these cargoes, obviously, in spot market or the customers we have who need them. And we're talking about the tens of millions, right? So the swing from that would have been a cost in sort of tens of millions of opportunity. I think it's quite -- again, this is in the context of £700 million plus of EBITDA. It's not a huge number, but it's quite an interesting ability to sort of turn what might have been a cost in the past to something a significant source of earnings.

Andy Skelton

I think if you think about the opportunity for spot sales of biomass and that the optionality you have to sell pellets versus sell power, right, and not generate power. So you look at the relative attractiveness of the CfD versus what you could get sell in the pellets, and that should give you some idea of what the opportunity is. The CfD running in our base plan is low volume, Mark, because it's held with a hedge unit. And capturing high prices is great when the units are running well. But of course, you have an increased risk of downtime if it's not there.

And I think you need to think that if we were to run the CfD and more towards the winter next year and prices are higher, you have four units running baseload and that creates risk as well, right? So our goal is to optimize our operations for value but also the security supply and delivering consistently. So the season had strike price for the CfD doesn't make it economically attractive for the first quarter. We'll see how the prices lock in for the rest of the year, and there could be opportunity, but that's subject to the most optimal running regime towards the end of the year.

Operator

The next question is from the line of Adam Forsyth with Longspur Research.

Adam Forsyth

Just a question on the performance of pumped hydro, especially. Do you think the experience this year in any way influences the potential cap and for support from government, particularly what you're thinking on and government thinking. Then just a question about biomass and biomass shipping, particularly given, I think, your sort of opening comments on your Scope 3 emissions. If the U.K. or this European brings shipping into the emissions trading scheme, do you think that -- do you see that having an impact both in terms of cost and also your shipping options and whether you have the required shipping options around that. That's it for me.

Will Gardiner

Yes. I think on a pumped storage thing. I mean, for me, the -- the reason why I think the carbon for us is necessary, well two. One is the time frame we're talking about. I mean we're talking about five-year builds, 15-year -- decades of life. And so difficult, I would say this -- but that's one side of the equation. The other side of the equation is that the nature of the dispatch of those units is very sensitive to overall sort of system set up of the system, i.e., things that are not necessarily that transparent to us or to others. And so I think that still remains true. And I think that is a critical piece of the puzzle.

And I do think that, that carbon for is the right way to go. In terms of in terms of shipping, we absolutely are looking at ways of decarbonizing our shipping sort of setup. I mean that's first generation, there are some forms of sort of wind assistance, for example. We have active sort of discussions in that space. Ultimately, moving -- your shipping moving to some different types of e-fuels, whether that's the methanol, ammonia, et cetera, again, we're sort of actively engaged in those things. Those are long-term issues -- the long-term type of market in terms of the investments required to get recovered, but it's absolutely something we're looking at.

And over time, I mean, the first piece of that, adding some sort of wind assistance is probably both an emissions and cost reduction play. Longer-term e-fuels probably will add cost, but I think we need to be ready and prepared to do that, which we are. Does that answer your question, Adam?

Adam Forsyth

It does, indeed. Just a quick follow-up on your mention of e-fuels there. In terms of BECCS development, are you exclusively looking at offtake particularly in the U.S. for sequestration? Or would you consider CO2 offtake for e-fuels.

Will Gardiner

I think a very good question. I think the plan of record now is very much towards permanent sequestration or permanent storage because I think that's a very unique attribute. That being said, I think there are very interesting opportunities to set these things up in a way where we have some optionality there. So if you think about the Humber, I mean there will be -- there's lots of interesting hydrogen projects. My own view is that hydrogen is probably going to be used in sort of different forms, i.e., in combination with other molecules, again, methanol sort of ENG or other types of things like that where biogenic CO2 will have significant value.

And so a lot of the projects we're looking at are potentially synergistic with other forms of green, whether it be in hydrogen, whether it's sustainable aviation fuels. And so we absolutely will keep those options open because that optionality, frankly, doesn't cost us very much to include.

Operator

The next question is from the line of Ahmed Farman with Jefferies.

Ahmed Farman

A few from my side. Just on Slide 20, you talk about improved earnings profile of pellet production. I assume it's that 2023. Is that largely on higher volumes? Or do you actually expect better gross margins in that division as well? It would be helpful to have some color on that. Secondly, you mentioned that you are expecting the U.K. government to announce the shortlisted Track projects -- the Track 1 soon. Can you talk about what would be the -- if Drax does get in that list, what would be the process from there onwards to get to FEST contracts, the time period through the year? And then would it be helpful if we can actually have an update on the project economics around BECCS given our higher cost of capital inflation a number of things seems to have changed over the last 12 months?

Will Gardiner

Ahmed, I guess I'll take the second two, which I'll show the things in the sense coming. So, I don't have any insights sort of better insights -- I don't have an actual knowledge of when the government might announce this, but it's our best guess is sometime in the first quarter. I think what's been said publicly is that they would make an announcement about Track 1 at some point after December 16 of last year. And I think so we're expecting that in Q1. The process from there as we move to bilateral discussions around a combination of sort of details around the business model, I mean, we think it's likely to be a CfD like mechanism. But there's, as you might imagine, a lot of details around that, around risk sharing.

And then there will be obviously very specific discussions around our economics. It's probably better not to sort of go into more detail than we have in the past because those will be sort of, I would say, confidential commercial discussions around those things with government around allowable returns around the sort of relevant cost base, et cetera. So I will probably pass on the third one while the first -- in the anticipation of those discussions with them.

Andy Skelton

And on the earnings of pellets, the higher volumes is definitely a key driver there because we get to leverage the BECCS cost base and cost next year, the commissioning of the tanks that we did during this year will be complete. And so that will definitely help there. But I think the headwinds, as I said, won't disappear, and we expect we will continue to incur some costs to optimize the light period of generation for the group as a whole, but that will be good for the group. But we'll also have the opportunity like we did this year as we expand our book of third-party supply and sales agreements to optimize their value. So higher volumes, the bigger driver. But then there's an opportunity for the margins to increase, but I'd hope in cost reduction next year with the inflation headwinds remaining is going to be a big driver for next year.

Operator

[Operator Instructions] The next question is from the line of Dominic Nash with Barclays.

Dominic Nash

A couple of questions. Firstly, on the accounting. In 2023, I think we -- I brought in my model, and I think when we guided that your BECCS development would come through as a cost within your EBITDA and not as a CapEx until we get some sort of milestones passed. Is that still the case because I see in your presentation, your CapEx guidance for your strategic investment obviously includes BECCS. I don't know whether or not both the consensus EBITDA and your CapEx has got the BECCS development as an EBITDA number or CapEx numbers. That's the first question.

And the second question on -- going back to the U.S., you identified 10 plants. You talked about your multibillions of pounds. How advanced are you watchful thoughts at the moment and potentially of a U.S. partial IPO or maybe a dual listing in the U.S.?

Will Gardiner

Andy take the first one, and then I'll very quickly answer the second one.

Andy Skelton

Often I get an accounting question on these calls. So thanks for that, Dominic. The -- we are capitalizing costs associated with U.K. BECCS development, and that reflects the stage of where we are with those projects. And clearly, we're incurring CapEx because we believe we've got a good quality viable projects. And when it comes to the global BECCS development, we're at an earlier stage there, so the money was spent this year will be BECCS in nature. But of course, as those projects progress, we'd expect to get to a point when we're comfortable capitalizing because we've got clear plans with the appropriate returns.

Will Gardiner

So if I talk about -- let me see if I can find this -- maybe I'll do, Dominic, I'll talk a little bit more about what's happening internationally and -- because basically, if you pass on Page 47, if you have the presentation there in the appendix, it sort of gives a bit of more detail around what we're actually doing. So we are firstly in developing a pipeline of project locations. So as we said, I think in the announcement, we've got 10 different sites that we're sort of moving through. It's a combination of, I would say, largely greenfield, some conversions, some for brownfield type things, et cetera, but it's all about where can you get good connection, where do you have -- where you're close to fiber, where you're close to transport and storage, which states might have attractive incentive programs, all those types of things.

On transport and storage, we're having multiple discussions with multiple different providers, and these are ranged from being single site specific as in -- can we do a deal on a sort of transport and storage for a specific site. That might be an existing pipeline. It might be -- should we build on to that site. It might be a more broad-based one, which is if there are multiple sites, there might be more of a strategic element to those as well. On fiber, these are not the similar. Again, making sure we know what -- so there's a sort of desktop piece at the beginning. Is there a positive growth-to-drain ratio in that area, is there enough sustainable fiber that moves then to specific discussions with fiber owners in the area who both might be small-scale holders, but also might be large-scale owners in fiber who you could have multisite discussions with.

We are building a CDR sales team now in place and have many multiple discussions around with different pieces of that market, whether that's brokers, whether that there's a very active sort of market of intermediaries, but it's also with people who -- large corporates who have their own net zero plans, they know they are going to need CDRs. And increasingly, people are looking at permanent geological storage is fundamentally different from nature-based solutions. And the voluntary carbon markets, as you all know, has been in the news for the wrong reasons recently is not necessarily being the most market with the right level of integrity.

And I think importantly, BECCS, CDRs and permanent geological stories, CDRs are more generally, I think are in a very different place as being more verifiable and ensuring that verifiability is a key piece for us. Policy and regulation, I mean I'm spending a lot of time in D.C. on this topic and there's progress on that front. Sustainability, we have talked about that in terms of fiber and then building the overall investment case for this. And so all of that stuff is happening. Is it likely our ambition is more than 4 million tons? It's more than likely that it will be more than 4 million tons. I mean our plan is to have a Capital Markets Day in May, where we'll give you more detail and provide more substance behind that. And at this point, we have no plans for a relisting in the U.S. or an IPO in the U.S. Sorry for the long answer to it.

Operator

At the moment, we do not have any further questions on the phone, and I hand back for written questions to Will Gardiner.

Will Gardiner

I've got two questions in the webcast. So one from Mark Freshney. Can you please talk about the strategic options for the three open cycle projects and whether you would want to keep them. I still entered the somewhat before. But fundamentally, I mean, the -- my view is that when they're actually built and commissions probably the time when we get an interesting change in the valuation perspective from potential buyers, [but then I] keeping our plan in records that much still not to, right? In spite of the fact that I think the valuation of those is going to be pretty interesting.

Second question from [Peter Hod]. How easy would it be to alter your 2030 global CO2 ex U.K. removal target of 4 million tons? For instance, if you raise it to five million tons, could you achieve it and how much dollars million investment would it require?

I think as I already alluded to, I think our plan is going to -- our missions are growing in this space. How we would see that, how much we would invest is absolutely something we'll cover in more detail at the Capital Markets Day. Again, as I said earlier, I think the returns will be quite attractive. We have clearly a very strong balance sheet and the ability to finance a bunch of this ourselves. We also think that given the scale of our ambitions, we will be looking at other more, I would say, detailed financing plans around product finance, et cetera, is likely. But fundamentally, that's something we should talk to you more about in detail in May.

That was all I think I have on my little mini iPad here. Are there any further questions? Or should I wrap up?

Well, thank you all for listening. I think for me, the -- I would sort of say in short, what I think is important about these results. The first one is that in 2022, the importance of the Drax Power Station at the core of the U.K. energy system has never been more clear, right? I don't think that the U.K. is going to be able to achieve its decarbonization targets. So I don't think the U.K. will have the level of security of supply that it deserves without the Drax Power Station at the core of the system for the next several decades. And it's our intention to work with government to make sure that, that's clear and is more than just an auction by the end of this year.

The second thing I would say is that 2022 also was the year in which the carbon removals has become increasingly widely accepted as a critical part of the climate solution. And I think we have one of the best technologies we're delivering that, and we are very excited about the work we're doing to enable us to become a global leader in that space.

And again, we look forward to sharing more of that with you in May. Thank you all, and have a good day.