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United States

PPAs will be the key to securing debt finance

UNITED STATES: More and more banks are now demonstrating a willingness to re-enter the debt-financing market, but Diane Bailey finds that wind power developers without power-purchase agreements may still struggle to secure the capital investment they need for their projects.

With about 40 banks actively seeking deals, the debt market for US wind is robust. However, there remains a reluctance to fund projects without long-term power-purchase agreements (PPA) - and these are proving hard to come by. "From a lender's perspective, 2011 will be characterised by developers struggling to get a PPA," says William Sutherland, senior managing director for project finance at Manulife Financial.

"Banks have returned to the market in a very, very big way and I think that means there will be fewer opportunities for lenders, but a lot of money chasing those opportunities."

Market liquidity

Lenders provided $8.4 billion in financing to US wind projects last year, and a panel of bankers at Infocast's recent Wind Power Finance and Investment conference in San Diego agreed there is enough liquidity in the market to meet the needs of the industry.

"It would be pretty unusual if good projects were not able to raise money. The banking market globally is on the road to recovery," says Thomas Emmons, managing director of Rabobank Group.

"Banks are trusting each other, banks have been recapitalised and have cleaned up their balance sheets. Even those banks that may have shrunk have also prioritised their business, and renewables is something everybody wants to do.

"Even in the light of some shrinkage in the banking market, renewable energy is still coming out on top," asserts Emmons.

Greater interest from banks in wind is reflected in lower interest rates and longer terms for debt financing. There is much more willingness to lend money for 15-18 years instead of the 5-7 years that was standard in the aftermath of the financial crisis, and loans are now being priced at anywhere from 225 to 325 basis points over the rate at which banks borrow funds.

"Pricing got horribly high right after the financial crisis and what we've consistently seen over the past year-and-a-half is pricing moving down. The question is how low will it go," says Kerri Fox, head of structured finance for North America at BBVA. "Banks have internal return hurdles and they do have funding costs, so there is going to be a natural limit where you start to lose banks able to participate," she says.

For wind energy producers able to land a traditional 20-year PPA, the news is good. However, such developers are the "lucky ones," says Andre Templeman, senior vice-president at Macquarie Energy.

While there are still some good regional opportunities to sell wind power in the US, developers agree that securing profitable PPAs is very difficult at the moment. "This is really the low point in the market," says Tristan Grimbert, CEO of Enxco, a California-based developer.

Lower prices and demand

Lower overall energy demand and lower gas prices are both factors working against new utility purchases of wind power. Another issue is that, in many regions, utilities have met the near-term targets set out in state renewable-energy portfolio standards (RPS).

"They have the luxury of being able to sit back and wait, since there is nothing compelling them to procure now," says Thomas Greer, manager of power marketing for Horizon Wind Energy, a developer based in Texas.

In some states, utilities are worried that if they start to buy wind now for the next phase of RPS targets that come into effect several years from now, regulators won't allow them to recover the costs, adds Greer. Others would rather not have to deal with marketing renewable-energy credits (RECs) that they can't use themselves or with integrating energy into their systems. "They just don't want to manage the product for those three or four years," says Greer.

Utilities that might otherwise be positioning themselves to respond to a federal renewable energy standard (RES) have likewise backed off. "The federal RES isn't hovering over them like it was before," he explains.

At the same time, there are some reasons for utilities to look at procuring wind. Turbine and balance of plant costs have dropped significantly since the economic crisis, and access to the federal cash grant incentive is helping to drive wind prices down.

Energy demand is also picking up as the US economy improves. Utilities know wind is a good deal right now and are grappling with the question of whether to buy or not, observes Greer. "How that decision comes out is going to be one of the biggest determining factors on PPAs in the next two years."

Creative solutions

In the meantime, producers are looking for new ways to get projects online. Macquarie is working on deals that would split a project's energy and RECs among multiple buyers, says Templeman. Where there is no demand for a project's output in the early years, Macquarie will step in to buy the power at market-based rates. "You have got to be a lot more creative," he says.

Some developers are looking to underpin their projects with hedges instead of PPAs. Under such a scenario, a hedge provider would protect the project against price volatility in the open market by paying the producer if prices drop below a floor value and take any upside if rates rise above a set ceiling.

"Some of our clients are looking at this depressed power market as temporary and are looking at using financial hedges to finance construction for a short term, with the view that if the markets recover they will be able to secure longer-term PPAs," says Carl Weatherly-White, a managing director at Barclay's Capital. "There haven't been any examples yet, but it has certainly been discussed."

Hedges were used by some within the US wind market prior to the financial crisis. However, a number of the financial institutions that provided them are now out of business and banks are wary about taking on such risks again.

"The market is willing to accept, in concept, deals that have a power hedge and not a PPA, but they are more difficult, they are more complex, and there are more issues," says Emmons.

Banks avoiding complexity

Banks have enough "clean deals" to work on without taking on additional complexity, says Elizabeth Waters, vice-president of project finance for the Americas at Mitsubishi UFJ Financial Group.

Lenders are expecting to see significant demand for capital this year from sources other than US wind, adds Gisella Kroess, director of projects and commodity finance for Unicredit-HVB.

"There is a good pipeline of thermal deals," Kroess says. There are more opportunities in Canada, both on the solar and wind side, and there is a lot of talk of a good pipeline of utility-scale photovoltaic financings." All of these will obviously absorb some of the liquidity in the market."

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