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United States

Cheap power, brutal competition

UNITED STATES: With low gas prices pushing down wholesale prices, developers are finding utilities are keener to buy wind farms than the power they generate.

Structural shift… New offtake deals are split between traditional PPAs and commercial contracts, which have very different requirements
Structural shift… New offtake deals are split between traditional PPAs and commercial contracts, which have very different requirements

The US wind-energy industry invested heavily at the end of 2016 to stockpile enough turbine components to qualify an estimated 40-65GW of projects for the full $0.023/kWh production tax credit (PTC) before it drops in value and eventually phases out. The challenge now is finding ways to build out as much of that capacity as possible within the four-year window US tax authorities have given developers to get the turbines up and running.

The first hurdle is figuring out where the projects are. When Congress decided at the end of 2015 to extend and phase out the PTC over an unprecedented five years, it caught the industry by surprise. Developers expected a oneor two-year extension, and planned accordingly.

"Our view is that virtually all the developers, with maybe one or two exceptions, had been on a 2016-or-bust kind-of path, and were not prioritising, spending money on, or doing anything on stuff that would occur beyond the end of 2016," said Ted Brandt, CEO of Marathon Capital, during the recent Infocast Wind Power Finance & Investment Summit in San Diego.

The industry was caught somewhat flat-footed, agreed Josh Pearson, in-house counsel for EDF Renewable Energy. "I think what that means, for at least 2017, is a bit of a pause, or probably more appropriately a reassessment of the development assets that are in our respective pipelines to see which projects are going to be viable in 2017 and throughout the next four years," he said. "I think most developers are using that timeframe to bolster any deficiencies they're seeing in those assets."

Part of EDF's strategy, added Pearson, was to procure enough PTC-qualified turbines to give it a competitive advantage in the acquisitions market too, buying up development projects from smaller developers that did not have the financial wherewithal to invest the 5% of total project cost that would guarantee access to the 100% PTC.

At this stage, however, the company is not seeing as many high-quality assets for sale as it has in the past. And EDF is not alone.

Thinking alike

Utah-based independent power producer SPower qualified turbines for 600MW worth of projects, with a plan to partner with smaller develop-and-flip firms that have always been a key link in the US wind-energy development chain. "We thought we were being clever, but what I'm finding is a lot of people had the exact same strategy," said Ray Henger, the company's senior vice-president of mergers and acquisitions and structured finance.

Like Pearson, Henger is not seeing much activity in the M&A space. While smaller developers may just be taking time to reassess and rework their projects to maximise a potential payout, Infocast panellists speculated about more worrying possibilities. Some may have shifted their focus to the fast-growing solar sector, while others may have been consolidated out of the business altogether.

"They're never going to have a better market. There is clearly a need. There is clearly an abundance of qualified turbines floating around," said Henger. "The fact that people aren't choosing to sell suggests this trend we're identifying, which is that they aren't actually there."

Another structural shift under way in the US wind sector may also be playing a role. The market for offtake contracts is now split between traditional long-term utility power purchase agreements (PPAS) and shorter-term deals with commercial and industrial (C&I) buyers. The type of development assets needed to satisfy the requirements of each class of customer can be very different, said Henger.

"We have two separate development pipelines, because the queue positions we're laying on to participate in the coming large C&I boom are not the places where we would expect to receive a 20-year traditional contract," he explained. "We may be caught in the gap between the old and new world. Maybe that's part of what we're seeing."

The good news is that the four-year window leaves time to do the groundwork required to bolster development pipelines.

Pearson expects to see "a really significant uptick" in M&A transactions closer to the end of the period, while Henger is prepared to wait and see how the market unfolds. "I want to do things right now, but I'm an impatient guy," he said. "I think we'll just have to sit. The turbines are all just as valuable next year and the year after and the year after."

The possibility that a lot of project execution will get pushed out to 2019 and 2020 does not sit well with Chris Brown, CEO of Vestas-American Wind Technology .

"There's a little bit too much optionality in the market. We're manufacturers so we have factories and we have to keep them full. If we're going to get the megawatts installed that we have to get installed, the urgency has to come back," Brown said during a panel featuring leading turbine OEMs in the US market.

"I think we should be thinking about projects and how we get them done. How do we make 2017 bigger than 2016? How do we make 2018 bigger than 2017? The whole mentality has to change."

Brutal competition

The biggest hurdle to getting projects completed is finding a buyer for the power, said Brandt.

"We all know that what we're watching is a long-term rotation out of coal and into gas and renewables, and the competition has never been more brutal," he said. Low gas prices have driven wholesale power prices down to the point where "nobody is making money" with energy sales alone.

"The way we're seeing that come back on the wind business is that contracts are more and more difficult to get, and the ones you do get have less and less cash component to them. They are really PTC machines, if you will," Brandt explained.

The bright spot is that older, less efficient coal plants are finding it hard to compete and are being driven out of the market, said William Nelson, director of analysis for North America at Bloomberg New Energy Finance (BNEF). "We're finding ways to retire capacity on what is today an oversupplied grid, so we can believe there is some chance for a power price upside."

Low energy prices also make it harder to do wind energy deals with corporate customers. A big selling point is wind's value as a long-term hedge against rising electricity and natural gas prices, said Jack Godshall, vice-president of origination at developer and operator Invenergy. "When gas is very low, it is a tougher argument to have resonate."

While uncertainty remains over just how big the C&I market will get, most in the industry believe the lure of cheap power will keep it growing at least as long as the PTC is in place. They also expect to see more "opportunistic purchases" by utilities that may not need the power to meet renewable-energy mandates, but want to cash in on the PTC before it declines to 80% of its value for projects that start construction this year, 60% in 2018 and 40% in 2019.

"At current prices, I would think utilities and corporates would want to buy as much wind as they can get their hands on," said Jeff Chester, a partner at law firm Morrison & Foerster.

Emerging conflict

There's little doubt utilities see the value of locking in wind power now. "Every ramp down of the PTC is equivalent to $5/MWh. That's quite a bit. And the ten-year curve on gas prices is pretty flat," said Tim Kawakami, director of purchased power at Xcel Energy, a big utility buyer of wind in the US. "Once the ramp down occurs, you're going to have a pretty hard time justifying buying wind resources as an economic energy play."

The challenge is that many, like Westar Energy in Kansas, are close to having as much wind energy as they can handle on their grids. With generation retirements looming and load growth stagnating, utilities are also growing more interested in owning wind projects, rather than buying wind power.

"Utilities are looking for a return on equity and, increasingly, wind and solar make the most sense," said Mike Ashley, origination manager of investments and M&A for EDP Renewables North America.

The industry is seeing more requests from companies to build and transfer projects to utilities. Although they will do it, this is not something that fits comfortably into the business models of many large-scale developers, which want to own and operate projects themselves. "It's an emerging conflict point in the industry," Ashley said.

November's surprise election of Donald Trump as president added another twist for developers trying to navigate an already complex market landscape, injecting unexpected policy uncertainty into their decision-making.

EDP has qualified enough turbines to build 2.5GW of projects in the 2018-2020 timeframe, says CEO Gabriel Alonso, but that does not mean it is committed to installing that much.

"If things go belly up with this new administration, the amount we would install is much smaller than that," he said. The company has power purchase contracts outside the US, where it can put the turbines to use. "We wanted to ensure we have all the flexibility we can."

Help from unexpected quarters — how wind could benefit from one of Trump's key policies 

Donald Trump's planned push for $1 trillion in infrastructure spending could be a boon for the US wind industry if it targets the high-capacity, long-distance transmission lines needed to transfer power from wind-rich regions to load centres around the country.

A list of 50 big-ticket projects reportedly being considered by Trump's team, circulated earlier this year, included three proposed transmission lines. The 4GW Plains & Eastern project, being developed by Clean Line Partners, would bring wind power from the Oklahoma Panhandle region to markets in the mid-south and south-east. The 3GW TransWest Express line would deliver wind-generated electricity from Wyoming to the desert south-west, while the 1GW Champlain Hudson Power Express would run from the Quebec border to New York.

How the list factors into any final infrastructure plan remains to be seen, but the inclusion is good news.

"I don't know what it means to be on the list, but I do know there are conversations going on within the administration and in Washington that could help us," David Berry, chief financial officer of Clean Line Energy Partners told the recent Infocast finance conference in San Diego.

Potential outcomes include a streamlined regulatory process and tax credits to help spur private-sector investment, but that may not be enough to move projects forward. Inter-regional transmission planning is still not as effective as it needs to be, developers say. There is also the fundamental challenge of signing up enough customers to justify building the lines.

Limited value

"These are hard assets to get built, and the federal government's role in making it happen is limited," said Don Furman, manager of campaign group Fix the Grid West.

"I just don't see a big bang of transmission projects being built across the country that's going to enable a tonne of wind in the next five years," he said. "These things take time, they require major capital, and you have to have commercial transactions that will underpin the assets. The biggest impediment is putting those commercial terms together.

How a big infrastructure package would be greeted by Congress is also an open question. Hardline conservatives have already warned that adding to the budget deficit is a non-starter, while Democrats are reluctant to rely too heavily on tax incentives as a way to finance the plan.

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