The rise of the Power Purchase Agreement

Corporate PPAs have picked up in the last five years, with 121 corporations across the world purchasing a total of 13.4GW of renewable energy, according to BloombergNEF.
Published: Mon 13 May 2019

In Europe, the Nordics are leading the way. In Sweden, Norway and Finland alone, Pöyry has recorded 8.6TWh/a (~2.9GW) of new corporate PPAs (Power Purchase Agreements) since the summer of 2017, including what is said to be the world’s largest corporate PPA (1.65TWh/a) as well as the world’s longest (29 years) – both PPAs for Swedish wind with the Norwegian aluminium producer Norsk Hydro as the offtaker (purchaser). There is also significant interest and activity in other markets, like in the Netherlands, UK and Ireland.

Sustainability and predictable cash flows are key drivers

Renewable support is moving away from FiTs (Feed-in Tariffs) to more market-based models or even disappearing entirely so developers must look for other means to get the long-term cash flow predictability required to finance their investments. In the absence of liquid, long-term financial markets, PPAs are the obvious answer. PPAs have traditionally been offered by utility companies. The new, corporate buyers offer diversification for suppliers and may sometimes be willing to offer longer duration than the utilities.

Still, one burning question is whether there are enough potential offtakers able and willing to take on the long commitments required for the PPA to be profitable. Most corporate energy consumers have a “budget period view” on their hedging, looking three to five years ahead, which is of limited use from the perspective of financing a wind or solar farm. What we observe in the Nordics is that the PPA offtakers are corporates that also need predictability for long term, capital and power intensive investments – companies like Google, Facebook, Alcoa and Norsk Hydro, facing large investments in server parks or aluminium smelters. There may only be a few potential offtakers in this category, but their energy potential consumption is huge. Norwegian power intensive industry alone indicates that they will have an uncontracted electricity demand looking for long term suppliers of around 20TWh/a over the next decade

Buying electricity directly from a renewable producer, with the PPA possibly being the enabler of the project, also gives the corporate buyer a big green and sustainable stamp. This can be an important motivation for many companies in their quest to reach ambitious environmental targets and may even be worth more than the power price itself in some cases. Interestingly, the offtaker Norsk Hydro claims that its recent contracts are driven purely by economic considerations. Given the hydro dominated Nordic generation mix, their alternative is already green, but at present wind generation offers the most competitive terms.

Setting up a corporate PPA is challenging

Despite their newfound popularity, establishing corporate PPAs is not without challenges. The costs of negotiating a contract can be high, and the process is time consuming. A PPA forms part of a complicated contractual structure, covering not only the sale of electricity (and sometimes related products such as green certificates and guarantees of origin), but also balancing responsibility, the relationship with the service provider and the grid company, the finance provider, etc. One wind park owner successfully negotiating a corporate PPA told us that reaching an agreement on price was relatively easy, however, negotiating the rest of the terms had taken several months and a large number of lawyers.

An added challenge with corporate PPAs can be the lack of experience in the organisations on both sides – neither project developers nor corporate buyers necessarily have energy markets and contracts as part of their core business (as opposed to the utility normally facilitating PPA negotiations). This can add to complexities and prolong the negotiation process.

There is no standard format for corporate PPAs (yet) available – each contract is designed to fit the needs of the particular situation. It may therefore be challenging to understand the risk and value implications of the various contractual terms, both for the negotiating parties and for banks and investors financing the deal.

Understanding the risks involved in PPAs is critical

Although the contracts may be bespoke, the risks one needs to consider are fairly standard across projects. In Pöyry’s experience price and volume risk, basis risk, counterparty risk and curtailment risk are just a few issues which have potentially large value effects if not understood and managed correctly.

A key question in some of the discussions Pöyry has with project developers is how to get sufficient cash flow predictability to attract finance, while retaining some upside-potential at a time when expectations are that prices will increase in the long term.

“Striking the right balance between fixed volume commitments and merchant exposure is challenging, and getting it wrong may destroy value”, says Pöyry’s Kathrine Stene Bakke. Due to the intermittent nature of wind and solar, the seller in a fixed volume PPA will have to buy power in the market to meet volume commitments in hours with low generation – when market prices tend to be high – and vice versa. “If the fixed volume commitment is set too high, the net price of the merchant volumes may be significantly lower than both the observed market price and the estimated capture price for the specific technology”, Stene Bakke elaborates.

Pöyry is uniquely positioned to help structure the contract

Pöyry has run PPA tender rounds for electricity and green certificates in multiple European markets, preparing tender documentation; reviewing tender responses; evaluating offers and preparing recommendations on preferred partners. We also regularly undertake commercial due diligence on PPAs and other offtake arrangements, valuing the offtake contract revenue streams and allocations of risks between counter-parties, from a utility, a generator or a corporate consumer point of view.

Working with our engineering teams, we can also provide support on more technical issues related to the PPA, making sure that terms are aligned across the key contracts of a project (PPA, service agreements, agreements with the grid operator, etc) – so that we  manage any risk that follows from discrepancies.

 

Author Kathrine Stene Bakke bio:

Kathrine Stene Bakke is an energy sector specialist with extensive consulting experience serving clients from all parts of the value chain, from large utilities and government agencies to project developers and financial investors, on a range of topics – including strategy, business development, market analysis, PPAs, valuations and M&A support. Kathrine has an in-depth knowledge of the energy sectors in Norway, the Nordic countries and Europe across a range of commodities (power, renewables, gas and LNG, oil). Prior to joining Pöyry in 2009, Kathrine worked at ECON and Statoil, amassing almost 30 years’ experience in the energy industry.