Co-author Morgan M. Gerard
Despite the low price of oil throughout the year, 2015 may have been an inflection point for renewable energy as a competitive generation source in the U.S. Deutsche Bank has noted that renewable sources, like solar, have reached, or will soon reach, grid parity with fossil fuel sources in many states. As non-fossil energy has become more economically viable, the industry has responded by standardizing and streamlining project processes, and by accessing financing vehicles like yieldcos and public bonds. Despite growth, the past year has also been a tumultuous one full of unexpected developments and policy shifts including the COP 21 agreement and the Clean Power Plan (CPP), and the formation of intriguing grassroots coalitions, like the green tea party. All of these developments were, of course, set against the specter of a potential step-down of the Investment Tax Credit (ITC), and its surprising last-minute revival. The following is a breakdown of some of the major developments impacting renewables in 2015.
On the world stage, nearly 200 leaders, including representatives from key nations such as the United States, China, Russia and India, adopted an agreement that seeks to reduce global emissions. Expectations were tempered going into the much-anticipated conference with France calling for a binding treaty, and the U.S. balking at an arrangement that would almost certainly be struck down by a Republican-led Congress. In the end, the agreement established a long-term goal of maintaining a temperature rise “well below 2 degrees Celsius.” To achieve this objective, each country must submit emissions targets by 2020 with an ongoing reporting requirement. This victory for climate change advocates may serve as a leading indicator for a growing market for renewables.
The Clean Power Plan
The Clean Power Plan serves as the unofficial, yet primary domestic implementation framework for the COP 21 agreement. The CPP was promulgated by the Environmental Protection Agency (EPA) under its Clean Air Act (CAA) authority to regulate ambient emissions from stationary sources. The final Plan sets a target of a 32 percent decline in carbon dioxide emissions from 2005 levels by 2030, and contemplates a much larger role for renewables in the nation’s energy mix. Under the CPP each state will submit a compliance plan to achieve the emissions targets by retiring coal fired facilities, increasing natural gas as a fuel source and incorporating more renewables.
However, as the year draws to a close, the final disposition of the plan is far from certain. Hours after the regulation was published in the Federal Register, twenty-seven states filed more than 15 separate cases against the EPA, which have been consolidated before the U.S. Court of Appeals for the District of Columbia Circuit. In support of the CPP, 18 states, including New York and California, have sought to defend the EPA.
Before the merits of the case are even addressed, 2016 will see a three-judge panel address a “stay” of the rule, which halts the CPP’s implementation until the litigation is finalized. The parties seeking the stay, including West Virginia, feel that by meeting their prescribed standard they will be irreparably harmed. Renewable energy advocates argue that the granting of the stay could greatly damage the efficacy of the rule and its ability to be implemented in accordance with CPP (and unofficially COP 21) targets.
The Production and Investment Tax Credits
While the U.S. government has sought to assist the nascent renewables industry through tax credits in recent years, through most of 2015 the long-term status of the Production Tax Credit (PTC) and Investment Tax Credit (ITC) appeared grim. The PTC has been the great driver of the wind industry as it provides 2.3 cents per kilowatt-hour generated by a wind facility. Its expiration in 2014 led to a noticeable drop off in new wind projects. The ITC, which has been the driver of solar and also serves as a potential alternative credit for wind, provides a credit for 30% of the development cost of a renewable project, and is applied as a reduction to the income taxes for that person or company claiming the credit. The ITC was originally slated to be cut from 30% to 10% for non-residential and third-party-owned residential systems, and to zero for host-owned residential systems by the end of 2016.
Congress had been considering a PTC extension, which passed the Senate earlier this year. However, many thought an ITC extension was “off the table,” despite the fact that the reduction in credit value would render solar as unviable in many areas of the country. Thus, the industry was swept by uncertainty throughout the year. After solar businesses spent the past year reconsidering their business models to ease the pain of the step-down and speeding along projects to clear the credit requirements, Congress, to the surprise of industry, authorized the extension of both the PTC and ITC. The ITC will now be in place for an additional five years, including three years at the current value, followed by three years of more graduated step-downs. The impact of the ITC extension is set to be significant, and will likely inject new life into abandoned projects, protect existing jobs, support additional job creation and ensure that the renewables sector remains poised for an upward growth trajectory.
In addition to using tax equity, larger solar companies have been able to raise public funds through the “yieldco” approach. Yieldcos are dividend growth-oriented companies, typically created by a parent company that bundles renewable and/or conventional long-term contracted operating assets in order to generate predictable cash flows. With about one dozen YieldCos now trading on North American exchanges, the vehicle has seen explosive growth in the last year.
The cost of capital required for energy projects has been reduced via the YieldCo model due to access to cheap corporate debt and as their use of standardized project structures and documents have lowered transaction “soft” costs. YieldCos have created efficient homes for the assets that large companies formerly kept on their balance sheets and have additionally allowed nascent entities to raise relatively cheap capital for acquisitions. They have also facilitated diversification of the renewable energy investor base as typical dividend-focused individual investors have been able to "go green" as an alternative to low yield bonds in a way that has been difficult in a tax credit-driven environment. Arguably, this has lowered return expectations, and therefore the cost of capital, further.
However, despite significant growth in 2015, the future of the YieldCo model is less than certain as the fourth quarter of 2015 saw great variability in YieldCo share prices. The reasons are myriad with theories addressing MLP values, rising interest rates, negative public statements from management teams, a slowing Chinese economy, lower oil prices, capital constraints and YieldCo disassociation from parents entities all being floated as potential reasons for recent losses in shareholder value. While it is important to decouple share price from the ability of a YieldCo to remain in business, lower share prices paired with rising interest rates could hinder the ability of many entities to continue to grow portfolios and dividends at current rates.
Distributed Energy Resources—Grid of the Future Proceedings
In the wake of super-storm Sandy and the ensuing power outage to downtown Manhattan, the New York Public Service Commission (NYPSC) is proactively exploring revamping incumbent utilities to better incorporate Distributed Energy Resources (DERs) to ease the transition toward a more dynamic and robust energy generation and distribution system. DERs present a challenge to the tradition grid system, which only envisions energy flowing in one direction, typically from one large source located far from the end user. The proliferation of DER has caused a grid issue in that energy now flows bi-directionally—from the utility customer’s generating system into the utility.
NYPSC’s Reforming the Energy Vision (REV) docket envisions many user-sited DERs that will sell capacity into the system or to other energy consumers. Utilities will act in a new capacity, Distributed System Platforms (DSPs), as “gatekeepers” to a multi-sided platform market with the utility functioning as the platform provider. The utility will facilitate the transaction between the DER owner/operator and the consumer.
Similarly, California is also experimenting with incorporating and leveraging DER formally within their grid framework. The California Public Utility Commission is in the process of facilitating the utilities to develop distribution resource plans (DRPs) that incorporate DER into utility grid-planning and investment regimes. Currently, the Commissions’ mandate is for the utilities to determine the value of DER to their systems, specify where on their systems DER should be incorporated, and propose demonstration projects.
Solar in the Southeast
Developments in several Southeastern states, such as North Carolina, Georgia, Florida and South Carolina are highlighting changing shifts in attitudes toward solar in previously unfriendly jurisdictions. Policymakers in the Southeast are enabling both increased utility scale solar and the introduction of rooftop generation. For example, the Georgia legislature, thanks in part to a coalition comprised of environmentalists and conservative Republicans known as the green tea party, passed the Solar Power Free-Market Financing Act of 2015. The new law opens up third-party ownership of leased rooftop solar projects up to a maximum of 10 kW generation capacity.
Similarly, in South Carolina, utilities were required to submit their plans to implement the Distributed Energy Resource Program Act (DERPA), which mandates programs to achieve at least 2% renewable energy adoption by 2021, including plans to invest in or procure distributed resources. Earlier this year, Southern Carolina Electric & Gas (SCE&G) and Duke Energy reached separate agreements with state regulators, ratepayers and environmental advocates on programs for meeting this objective. SCE&G committed to invest $37 million to install approximately 84 MW of solar on the state’s electric grid by 2021, including 42 MW of utility-scale solar and 42 MW of residential, commercial-industrial, and community solar. Duke Energy agreed to a $69 million program to place in service 53 MW of utility-scale solar and 53 MW of residential and commercial solar.
Net Metering Debates
Utilities are not all for adapting to new and innovative business models, and in many states are continuing to push back against distributed generation. Net metering, which has incentivized hundreds of distributed energy projects, is a legislative policy that allows generators to sell unused electricity into the utility grid. Once supported by utilities, these policies are becoming more contentious across the country since in cost-of-service versus the rate-of-return regulatory jurisdictions, there is the argument that net metering prevents utilities from recouping their full return on grid investment. Utilities have raised concerns that net metering policies create an inequitable cost-sharing paradigm, whereby customers are paid for over-generation, but do not bear the responsibility or cost for updating and maintaining transmission lines.
For example, contention over net metering in Hawaii brought a regulatory proceeding to halt as the island’s utility maintained that costs are shifted to non-net metering customers. The utility recommended a model for distributed energy resources where owners would be compensated for net-metered electricity at $0.18 per kWh, which lengthens the payback period for solar infrastructure investments. Similarly, the Arizona Public Service Company (APS) established a charge for new rooftop solar panel installations connected to the electric grid through net metering, amounting to $0.70/kW—approximately a monthly charge of $4.90 for most customers.
Regulators and legislators from Nevada and California are considering whether NEM has run its course as a method to encourage solar adoption, or if the policy is a fair method of compensating rooftop generators. Utilities argue, not without merit in some cases, that they are purchasing electricity at a dollar rate greater than what it would take them to generate an equivalent amount of electrons. Moreover, electrons are only part of the story, as utilities still need to provide solar customers with standby power and voltage support to turn on their appliances and open their garage doors. Thus, NEM is heavily tied into the “grid-of-the-future” discussions as utility’s role evolves from vertical integration to DER network operators.
One of the drawbacks to renewables increasing their percentage share of the domestic energy mix is that these sources are intermittent with solar PV only generating electrons when the sun shines and wind turbines only turning when the wind blows. However consistent power - base-load - is still required, usually in the form of a fossil-fueled plant, or a nuclear facility. Offshore wind has long been touted as the next big addition to the U.S. energy mix since the wind blows harder and more consistently offshore, which would potentially allow this renewable energy source to replace some portion of base-load. Offshore wind had a rocky start in the United States as these large infrastructure projects face difficult regulatory obstacles, including a maze of permitting and environmental laws and requirements as well as classic NIMBY issues. One prominent example is the first proposed off-the-coast wind farm, Cape Wind, which has faced 14 years of litigation surrounding its development process. However, many are hoping that the start of construction of the Block Island Wind Farm off the coast of Rhode Island will trigger a gale force of offshore wind energy
Looking Ahead to 2016
The year ahead shows promise for the U.S. renewable industry—the COP 21 agreement and CPP set the stage for policies to drive and incentivize renewables, new states are opening as potential markets for both utility scale and residential rooftop solar and grid systems across the country are adapting to incentivize greater DER deployment. The stabilizing extension of the ITC and PTC ensures that these energy sources remain financeable in the New Year, and new financers may feel comfortable entering the market as the industry matures. With these policies in place, the U.S. has the opportunity to deploy more renewable infrastructure to meet stated targets, and those working in the renewable energy industry have cause for cheer this holiday season.