US Developers Still See a Future for Renewable Energy PPAs

In Brief

There is still room for companies to profit from power-purchase agreements (PPAs) in the United States despite increased competition.

The biggest risks are saturation of the grid (for virtual PPAs) and problems with regulations and technology (for physical PPAs).

Demand for renewable PPAs is increasing as the benefits for companies to go beyond a cheap kWh price.

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Developers in the United States believe that there is still room to maintain an adequate level of return for their power-purchase agreements (PPAs). Electricity prices in recent years have plummeted both for PPAs and in the wholesale market. Even so, developers believe that they can benefit from the expected decrease in capital costs and the increasing clean energy interest from companies.

According to the Senior Manager of Origination at Candela Renewables, Matt Beltz, the most critical risk for developers to consider right now is the basis risk. However, he says, this risk will fall to the equity sponsor or owner who is still interested in a long-term, stable set of cash flows.

Basis risk refers to the difference in prices between where the project is injecting energy to the grid at the point of interconnection and the nearest liquidity-traded hub. The liquidity-traded hub is at a transactional location that averages the pricing of all points of interconnection in a region. This risk applies only to virtual PPAs (VPPAs).

“Now, developers need to understand how investors will ultimately be able to deal with that risk because it will directly impact the valuations of the projects,” Beltz said.

On the other hand, William Herchel, cofounder and CEO at Verogy, said he finds the decrease in PPA prices to be the most important risk. Verogy works mostly with physical PPAs where there is no basis risk.

“Is that a problem for developers? It definitely is,” Herchel said. This is why he said competitors are willing to take lower profits to gain deals and increase market share.

What measures are developers taking to respond to these risks?

Regarding the basis risk for VPPAs, Beltz said that developers are not worried as this is not exactly new. However, they are taking measures as a result of increased saturation of the grid in regions where wind and solar resources are abundant.

“Developers are being more careful of where they’ll locate the projects,” Beltz said.

Now, developers need to balance the natural resources potential with the grid saturation. Before, they would look for the windiest place to generate the maximum amount of electricity. Now, they are willing to sacrifice some wind potential to find a place where the grid is not saturated.

“This is not a new risk. It’s just that developers didn’t have to worry about it as much because it was the person buying the power that had to worry about it,” Beltz said.

Herchel talked about the strategy to overcome the risk for lower PPA prices in physical PPAs. When they are compared to virtual ones, the path to follow does not seem as clear.

One of the reasons that off-takers expect lower prices is because they see how dramatically solar technology costs are decreasing. Developers are accepting contracts where the economic benefit sometimes depends upon that trend being maintained, Herchel said. 

“As more and more of these types of [solar] projects are being built and more of them are getting financed, there's been a general drop in the amount of revenue that you need for the same project size,” Herchel said.

According to Herchel, the best course of action is to expect these results for favorable market conditions. Examples of these are expectations of cheaper technology, increases in technology efficiency, access to loans with lower cost of capital, and even regulatory changes such as ITCs or any other change in tax law that might benefit them.

How do you expect the developer market will behave in the future?

“I think it [demand for developers] will only accelerate. A number of companies have committed to buying more and more,” said Beltz, referring to the RE100.

RE100 is a collaborative, global initiative uniting more than 100 influential businesses committed to 100-percent-renewable electricity. They are working to massively increase demand for - and delivery of - renewable energy.

In many regions in the country, companies can get the same – or even cheaper – electricity from PPA contracts than from utilities. In addition to lower prices, companies value predictability of their cash flows. Even without the good intentions to become more sustainable, they have enough motivation to choose renewable energy PPAs.

When discussing the impact of a potential carbon tax implementation to incentivize companies to shift to a cleaner energy mix, Beltz said, “Companies will shift irrespective of carbon tax, or no carbon tax or any other incentive put in place.” In his perspective, all these tools may affect the pace at which the transition will happen, but not the direction.

Although the subject of the ITC is an ongoing conversation among solar developers, Beltz did not show concern about the lack of potential extension of the benefit. He did express a concern, nonetheless, about increasing tariffs for solar modules.

Even though Herchel agreed with Beltz’s last concern about the risk of solar-module tariffs, he seems to be more reluctant about stating the general interest of companies in a more renewable energy mix.

“That's just been my experience,” Herchel said. “It's tough for me to think about a way to reallocate leverage against those clients unless you have a policy change […] in a corporate setting where they're really progressive and thinking about the future and not just motivated by a near-term bottom line. And then, maybe macro considerations in terms of the cost of electricity that are so dramatic that they can't be ignored.”

Despite a hesitance on the demand side, Herchel said he is optimistic about the state-level actions being taken to change the marketplace for a more electrified country.

Herchel made reference to the increased demand in PPAs for renewable energy, the advances on the financing side, the efforts from utilities towards grid modernization, the inclusion of electric vehicles, and the growth of storage technologies.

“I'm very bullish on the momentum associated with renewable energy coming in the next five to ten years,” Herchel said.

Beltz said that even though things may change, developers usually have an idea of the direction they will go. They understand to a certain degree the future of electricity prices, the prospective costs of technologies, and the prices that buyers are willing to pay. This gives them the opportunity to select projects with risks they feel comfortable with.

With a note of optimism, Beltz said that even though there has been a decrease in utility-scale PPAs, there are many other non-traditional creditworthy companies interested in their services, some of which may even be less risky than utilities. “Even if a company has been very successful in the last 10 years, it does not mean that in five or 10 years something radical will not change the industry. They may no longer be the leaders.”

Herchel said he expects the energy marketplace to change once new technologies start becoming cost-efficient. Energy storage, in combination with renewable power, demand management, and distributed energy systems will change the energy marketplace and thus alter how PPAs are structured.

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