Fundamental changes in the way that the electric utility and power sector operates, interacts with customers, and relates to its regulators are occurring on a massive scale and at an unprecedented pace. Covington is committed to exploring these transformations affecting the power sector, helping our clients to understand and navigate the changes, and fostering collaborations to respond to the evolving nature of the power grid.
To this end, Covington has hosted a series of conversations with key thought leaders in industry and government to address the ramifications of these transformations. The first two conversations in the fall of 2015 focused on both the technology that underlies and enables these changes, and the response of the regulatory framework to the rise of distributed generation and a far more nimble and customer-oriented array of electricity services. A summary of these conversations can be found here.
On October 5, 2016 Covington, in collaboration with the American Council on Renewable Energy (ACORE) and Advanced Energy Economy (AEE), hosted a conversation devoted to the issue of corporate energy procurement. Senior representatives of corporations, utilities, developers, government agencies and NGOs participated in person and by webinar. Followers on Twitter joined the conversation at #CovingtonGOTF. Highlights of the discussion appear below with a link to the full audio replay.
October 5, 2016 – Covington’s Washington, DC Office Corporate Procurement & Renewable Energy: Market Overview (click here for the recording)
Program Introduction and Overview: Covington Senior Of Counsel, Gary Guzy.
- Our program aims to increase understanding of the “Grid of the Future” by focusing on the rise of renewable energy dedicated to use by the corporate sector. This rise is a key market aspect of the pioneering collective innovation by companies, organizations, utilities, and third-party disrupters in the renewable energy field. Today we will explore the reasons for this rise in corporate procurement of renewable energy, address its benefits, and illuminate the challenges presented by this approach to renewable energy and its implementation.
Keynote Luncheon Program:
- The transition to a renewable energy economy has begun. Since 2008, more than half of all new electrical capacity has been renewables and, overwhelmingly, wind and solar energy.
- Investment in renewable energy is growing both nationally and globally at a time when demand for energy is relatively flat.
- The cost-effectiveness of wind and solar power has increased since 2009, making wind and solar energy competitive with every other form of electricity.
- One of the reasons for the increase in deployment of renewable energy is consumer demand.
- Another reason for the growth of renewable energy is the increase in industrial and commercial purchase power agreements (PPAs) outside the traditional utility structure.
- ACORE has a corporate procurement working group to facilitate the execution of these PPAs and to provide federal policy and finance guidance.
- A June 2016 survey of leading U.S. companies developed by ACORE in collaboration with PricewaterhouseCoopers showed that companies active in renewable energy procurement tend to be large companies (with 62% of respondents generating more than $10 billion in annual revenue) that participate in renewable energy organizations, and have large energy footprints (with 68% of respondents spending more than $100M per year in energy costs).
- Drivers of the intent to purchase corporate renewables include a desire to meet sustainability goals, an attractive return on investment, a limit of exposure to energy price variability, and a reputation enhancement.
- Corporate procurement of renewable energy is important to meet the U.S. commitments in The Paris Agreement.
- Advanced energy provides substantial economic benefits. In 2015, advanced energy generated over $200B in revenue in the U.S., which was more than the $190B in revenue generated by pharmaceutical energy.
- Advanced energy produces jobs. The advanced energy sector is growing at 5 times the U.S. economy.
- Companies are increasingly seeking advanced energy (71% of Fortune 100 companies and 43% of Fortune 500 companies have set climate and/or clean energy targets), but face policy barriers resulting in an inability to access advanced energy. This increased market demand provides a political opportunity to reframe advanced energy– that is, policies need to change in order to allow powerful companies to access the commodity they desire.
- Despite the exciting growth among corporations interested in PPAs, it is difficult to actually execute deals. Creative structures are being devised to overcome some obstacles. But all companies should have a selection of clear, straightforward pathways to decide how, when, and where to access advanced energy.
- Four major state-level barriers to corporate access to advanced energy are the following: (i) state laws that prohibit third-party off-site PPAs; (ii) renewable energy tariffs that impose a premium over market rates (when PPAs for renewables in some areas are priced lower than utility rates); (iii) state laws that prohibit third-party on-site purchasing of power; and (iv) few states have adopted statutory authority for community renewables projects.
Roundtable Discussion: Moderated by Covington Partner, W. Andrew Jack, with panelists: Jon Fouts, Managing Director, Global Power and Utility Group, Investment Banking Division, Morgan Stanley; Emily Williams, Director of Energy Supply, Altenex LLC; Jonathan Silver, Managing Director, Tax Equity Advisors; Jackie Roberts, Chief Sustainability Officer, The Carlyle Group; and Mark Perlis, Covington Of Counsel. The Roundtable Discussion elicited the following observations:
- The opportunities to move the needle on energy procurement goals vary by industry sector and geography. Investment in renewable energy is more attractive to companies where the pricing is competitive and there are added enhancement values, such as customer value and brand addition.
- For companies entering the renewable space — whether considering a contract for onsite or offsite renewables — one of most important factors in corporate procurement efforts is having the right deal team and a strong understanding of the reason for pursuing renewable energy. While there is a sustainability element in moving forward with renewables, the bigger driver is often favorable economics. For example, pricing for solar PPAs can be as low as $.03 per kwh and wind at $.02 per kwh. Because of reductions in equipment costs and the extensions of the Investment Tax Credit and Production Tax Credit, pricing is now at historic lows.
- One hurdle many companies face in entering PPAs is the long-term nature of the typical agreement (e.g., 12 to 20 years) — longer than most companies are willing to commit on commodity purchase. There are some solutions for shorter term procurements, but market participants need to create new products to commoditize renewable energy.
- Another way for corporations to advance renewable energy is to make tax equity investments in renewables projects. Tax equity is key component of the capital stack in renewables projects that takes out construction financing. These are complicated structures, but provide immediate accretive investments for corporations yielding moderate equity-like returns with fixed income like risk characteristics.
- Corporate decision making on tax equity investments is driven generally by the net economics for the company and less by sustainability goals. Potential impacts on executive incentive compensation arrangements sometimes play a role. For companies choosing to procure renewable energy as part of their sustainability goals, an ability to offer tax equity can be used as a fulcrum to lever their negotiating position on the procurement side.
- Electricity is a key input to the business of many corporations, so the risk of disruption to electric supply is a significant issue. Boards and CEOs are interested in having a conversation about sustainability on high level, but the focus is more on economics. Corporations should diversify away from sole reliance on the grid not because of the merits of sustainability, but in order to manage the economic risk to a mission critical business of a disruption to electric supply. Unless an economic benefit can be demonstrated — not only in short term returns, but also in cost avoidance or risk mitigation — most corporations will not engage in pure sustainability projects.
- Utilities are seeking opportunities to collaborate with corporates, particularly where companies are bringing new loads to a utility’s service area.
- Some companies are reticent to enter into these types of deals because of concern that stock analysts will be critical. There is an opportunity for the renewable energy industry to educate the analyst community on the economic and risk mitigation benefits to corporations of participating in renewable energy procurement.
- The regulatory complexities in this area give rise to opportunities which follow the recognition that electricity is no longer being purchased just as a commodity energy product. Instead, in the future, electricity will be purchased as a differentiated group of services, and there will be different values and providers associated with the services. Reliability will be paid for in a different manner. Currently, there are capacity markets, but in the future there will be discrete forms of reliability, integration and flexibility services. The regulatory landscape will view corporations not just as consumers of energy, but also suppliers of electricity and dispatchers of electricity demand.
- All companies pursuing sustainability goals are interested in an attribute of electricity that has nothing to do with traditional energy consumption. They are interested in a greener production and demand side of the economy. Accordingly, in drafting contracts for corporate participation in renewable energy projects a critical issue is to allocate the value of environmental attributes that arise from these projects.
- Increasingly, corporations are demanding that the utilities move away from a business model that rewards investment in capacity in favor of models that invest in efficiency despite that shift taking revenue dollars away from utilities. There is a need to find a solution to enable utilities to continue to provide the essential grid backbone and grid management service while meeting corporate demand for greener energy and a business model that rewards efficiency and reduces the capital investment required to maintain and operate a reliable system.
- The Renewable Energy Buyers Association — a group of 62 companies focused on expanding the opportunity for renewable procurement — may put pressure on restructuring markets, but in the near term capital is more attracted to the regulated utility business model which provides a reliable risk-mitigated return.
- Middle market companies with stable loads may find opportunities to piggyback on deal structures that are being negotiated between utilities and large corporate customers.
- Also, larger corporations and government procurement agencies are pressuring their supply chains to adopt lower carbon energy which is also promoting engagement between smaller companies and utilities. Likewise, U.S. subsidiaries of major European based companies are pursuing renewable projects because of the relative ease for implementing such projects in the United States compared to Europe.
- If a genie could grant you one wish to promote the opportunity landscape for corporate energy procurement what would that be:
- Greater ability to do third-party procurement in regulated states;
- Performance based ratemaking, giving utilities profit incentives for efficiency in serving load and low carbon intensity;
- Having the Federal Reserve lower capital requirements for commodity trading so that bankers could structure PPAs more effectively;
- More short term PPAs;
- Better understanding of the real costs of renewable energy by decision makers;
- Corporate purchasers score suppliers on ”renewability” and ranking suppliers against their competitors; and
- Putting a price on carbon and letting markets drive innovation.