Absent government subsidies or a carbon tax, it may take more than a decade for renewable energy from wind and solar to become cost competitive with cheap natural gas. Despite years of steady, sometimes precipitous cost declines, the price of renewable power still hovers well above market prices.
Nevertheless, some companies are making long-term bets on green power. Looking for a hedge against the volatile price swings of fossil fuels, they are turning to a new kind of contract, called a virtual power purchase agreement (VPPA), to lock in power prices for decades to come.”The advantage of wind and solar power is that there are only the upfront costs to take into account,” said Michael Erickson, vice president of business development for the company Community Green Energy, which arranges long-term contracts between companies and renewable project developers. A particular project’s cost is averaged out over its expected lifetime, he said, meaning operators can guarantee their customers a steady rate of return.Under a VPPA, a company agrees to pay a renewable energy project developer a fixed rate over a contracted period of time – from 10 to 25 years – while continuing to purchase electricity from a local grid. In exchange, the developer generates and sells power onto the grid at spot market prices, turning the proceeds over to the contracted company.
Assuming the rate agreed on by the purchaser and developer is below market prices, the purchaser can even make a profit.
Opening the field to the private sector
Long-term contracting works, said Quayle Hodek, CEO for the company Renewable Choice Energy, because renewable project developers and the companies that purchase their power each bring something to the table that the others want.
For developers, that’s a creditworthy customer ready to take their electricity, he said, speaking last week on a webinar hosted by U.S. EPA’s Green Power Partnership initiative.
“If you decide to join them, there are developers out there who are more than eager to bring you in,” he said.
The expiration of the production tax credit for wind energy last December saw many developers rushing to complete projects before year’s end, and now the clock is ticking for those projects to find power purchase agreements, he said.
For the customer, the main advantage of a long-term contract for green energy is a steady rate of return, smoothing out price volatility in their broader energy portfolio.
There are other advantages as well. Because the company paying the project developer is not necessarily buying the energy produced – rather, paying the developer a set rate and then being reimbursed when the developer sells its power onto the spot market – geography is no impediment to the agreement. A company based in Maine can contract with developers in Texas or Oregon, or both, as long as there is enough appetite in those regions to take on the power produced.
The flexibility of VPPAs has opened long-term renewable contracting to a much larger pool of buyers, Hodek said. Whereas renewable developers have primarily contracted with utilities and financial institutions in the past, VPPAs allow the private sector to get involved in a bigger way.
An alternative to renewable energy credits
In order to meet state and local renewable portfolio standards, many utilities purchase power from renewable generators and receive renewable energy certificates (RECs) in exchange. A single REC represents the non-energy properties of a megawatt-hour of renewable energy generation and can be traded or sold similarly to carbon credits under a cap-and-trade system.
Because RECs are generated on a deal-by-deal basis, however, they are often traded at prices higher than the average cost of electricity, Erickson said.
“The market for solar RECs is volatile, so long-term investors can have trouble justifying their investment,” he said. “Those plants in deregulated states are relegated to selling their power back into wholesale markets at daily spot prices. Many solar farms have not been built because they can’t find the long-term financing.”
The advent of VPPAs provides the long-term security needed to draw financing and assure investors of a stable rate of return, he said.
While most companies with a sizable energy appetite have focused on securing long-term contracts with wind power developers – Google alone has invested in seven wind farm projects to date – solar, too, has drawn recent interest. In a recent example, the City Council of Austin, Texas, will consider a 25-year contract to purchase power from solar farms operated by the company SunEdison later this week (ClimateWire, March 13).
At an agreed-on rate of 5 cents per kilowatt-hour, the city utility will be paying slightly more than the current market price for electricity but also one of the lowest rates for solar power in the country.