While the calendar may read 2014, developers in the U.S. utility PV market are already dealing with the federal Investment Tax Credit’s impending decrease from 30 percent to 10 percent for new projects placed into service after 2016.
In California, developers are toying with new strategies to maximize the number of projects eligible for the 30 percent ITC, now that investor-owned utilities have ample capacity to meet RPS obligations over the next three years.
According to GTM Research’s U.S. Utility PV Tracker, the IOUs can bank on a backlog of more than 7.8 gigawatts of utility PV projects in development from past RPS solicitations and other procurement programs, including the Renewable Auction Mechanism. On top of that, the distributed generation market is booming across the IOUs' territories, with approximately 640 megawatts installed in 2013. That’s tantamount to installing another Topaz Solar Farm or Desert Sunlight project in California, two of the three largest solar PV projects in development across the U.S. to date.
Given the gigawatt-level glut of longstanding PPAs in place, Pacific Gas & Electric has recently signed four PPAs with initial power deliveries beginning in 2019 or 2020.
Source: GTM Research U.S. Utility PV Tracker
So here’s where it gets tricky for developers such as First Solar, 8minutenergy, and Gestamp Solar.
Since all three plan to complete these projects before 2017 in order to capture the 30 percent ITC, what’s the best strategy to generate revenue from these projects until the PPA with PG&E kicks in?
Short-Term PPAs or Merchant Noses: Which Strategy Is Best?
Among the four projects listed in the chart above, Lost Hills is the only project with a clear plan for selling power during the first several years of its commercial operation. First Solar’s ten-year PPA with the municipal utility, Roseville Electric, guarantees the utility all power generated for years one through four of the project’s life, declining to a smaller percentage beginning in 2019. The PPA is priced at $0.075 per kilowatt-hour, according to a statement made at a City of Roseville council meeting back in July 2013.
First Solar’s decision to secure a short-term PPA with a muni that has pre-2017 RPS compliance obligations serves as a safe strategy to guarantee revenue, one with which investors are familiar. However, the attractiveness of PPAs being offered by munis is declining, as evidenced by the following eight projects that landed PPAs with munis in 2012 and 2013, all of which are slated for completion in 2015.
Source: U.S. Utility PV Market Tracker
As the above figure shows, the environment for selling projects to munis is increasingly shifting to a buyer’s market as developers sacrifice margins for the sake of landing a familiar-to-finance PPA. Most notably, First Solar was awarded a PPA for Lost Hills at a price that is 20 percent less than what SunEdison received for its North Lake I solar project. While the offtakers were different for those projects, First Solar’s Kingbird Solar I ended up with a PPA price in 2013 that was 11 percent less than what Silverado Power (now merged with sPower) fetched from Pasadena one year prior.
If muni PPA pricing continues to trend downward, the case for selling power into CAISO’s wholesale power market in the initial years without a PPA will become an increasingly competitive alternative. As a brief refresher, this merchant solar model involves the owner of a solar PV project selling power into a competitive wholesale market at a price indexed to the spot market, potentially as a “synthetic PPA” in which the power is sold to a load-serving entity (LSE) at a predetermined price. If the spot price clears at a rate above the synthetic PPA price, then the owner of the project pays the difference to the LSE, and vice versa if the spot price falls below the agreed-upon rate.
Source: CAISO’s Day-Ahead Daily Market Watch Reports, 2013
The figure above reveals maximum, average, and minimum spot prices from CAISO’s day-ahead market at the NP15 trading hub for PG&E territory. Given volatility in spot pricing, selling power to LSEs would inevitably require a hedge of some kind, such as the aforementioned synthetic PPA arrangement, in order to lock in a secure price. Since solar power production aligns with peak hours, this bodes well for the competitiveness of selling power via short-term merchant noses. But even when referencing peak-hour spot price trends, 2013 PPA prices from deals with munis still offered more attractive, fixed rates that fell within the upper tier of spot prices at peak hours (excluding July).
Tack on additional financing costs due to the untested nature of merchant solar, and the case for a short-term PPA with a muni becomes that much stronger in the initial years of commercial operation before delivering power to one of the IOUs. But the appeal of merchant noses could soon increase as investor confidence strengthens upon completion of the first U.S. merchant solar project, now being developed in Texas by First Solar, in tandem with further price reductions to PPAs offered by munis.
Whether First Solar, 8minutenergy, or Gestamp Solar land short-term PPAs or venture into the unchartered realm of merchant solar, these developers are just the first of wave of companies strategizing how to capture 30 percent ITC benefits when PPAs begin after 2017. While the U.S. utility PV market is poised to install as much capacity between 2014 and 2016 as the cumulative total of U.S. solar PV installations through 2013, the success and scalability of diversifying offtakers and selling power as a merchant generator are necessary strategies for developers to expand their pipelines past 2017 with projects backed by the 30 percent ITC.
Of course, all of the complexities surrounding pipeline expansion would be removed if the ITC were extended beyond 2016. So call your senator, pair with a muni, go merchant, or do all three.
Either way, the ITC’s dropdown is a challenge that developers must confront now if they want to avoid a bumpy roadmap to growth over the next few years.
Solar Analyst Cory Honeyman will be moderating two panels at next month's Solar Summit, "Utility Solar: Where the Market Is Headed" and "Jump-Starting Growth in Commercial Solar." Register here.