President Obama signed the tax relief bill into law today, following passage in the Senate on Wednesday and The House early Friday morning. Those of us in the solar industry breathed a huge sigh of relief as the final bill included a one-year renewal of the Treasury Grant Program.

The TGP allows developers to apply for a cash grant in lieu of the 30% Investment Tax Credit. This in turn enables developers to finance projects using conventional project finance (i.e. non-recourse debt and equity) rather than having to use more expensive tax equity. I’ve blogged extensively about this issue and the need to renew the program in the past.

With the renewal of the TGP, the critical last piece falls into place to preserve the current momentum of US solar and renewables. Earlier in the year we saw the defeat of Prop 23 at the polls, which threatened to gut California’s landmark climate legislation and the RPS. Yesterday saw the passage of RAM, which adds a critical new dimension to California’s RPS by focusing on distributed scale resources. Also yesterday we saw the passage of the first non-wind RPS in Texas. And now with the TGP renewed, the projects resulting from the RPS and RAM will be assured of the access to capital necessary to finance construction and put them into operation.

These victories were hard won. The TGP renewal effort has been going on for over a year now. Recurrent Energy and many others in the renewable industry have lobbied hard on the issue with just about anyone in DC who would listen. And believe me it’s hard to get people excited about the intersection of tax law, energy policy, and asset finance! Similarly the efforts to pass RAM and to defeat Prop 23 required significant effort and resources by many dedicated advocates of renewable energy.

As excited as I was to see the TGP renewal pass, I can’t help but think that the really important victories are still to come for US renewables. The reality is that the industry secured only a year’s breathing room with the TGP renewal. In the long run, it’s clear we we can’t continue using the US tax code to fund our renewable energy policy. The complexity and inefficiency tax incentives introduce in the market is no longer tolerable in the industry at its current scale. Meanwhile, our state RPS programs, which have done the heavy lifting in creating demand for renewables in the US, are at risk of running out of steam in the face of a weak economy and low cost natural gas.

We are now at a critical point in the history of US renewable energy policy. We can continue our past approach of applying a short term patchwork of half-measures to keep things limping along. But as Tom Friedman recently pointed out, this approach is rapidly losing ground to the focused national strategy being executed by China and other global leaders. While the US dithers, other governments rightly recognize renewables as one of the key emerging business sectors of the next century. I’m hopeful we’re going to get the formula right in the coming years and the US will claim a leadership role once again. At least that’s what I plan to spend my time and energy fighting for.

The California Public Utility Commission today approved an important new policy for California solar PV, the Renewable Auction Mechanism (RAM). As you may remember, RAM was originally proposed by the CPUC staff back in August of 2009 (I blogged about it and why I thought it was a much preferable alteranative to a Feed-in Tariff here). Recurrent Energy has been very involved as an advocate of RAM and we’re thrilled to see it finally pass.

The decision that was appproved today has seen a lot of changes since it was first proposed. However at its core, the program preserves the key features that I think are important for the state as it evolves towards a competitive renewable power market. It essentially directs the 3 large investor-owned utilities (SCE, PG&E, SDG&E) to procure 1 GW of distributed scale projects over the next 2 years through a competitive auction process.

The RAM’s focus on distribute-scale projects (2MW-20MW each) is important because these projects are less risky and can be delivered in a much shorter time frame than large projects. Recurrent Energy was an early leader and proponent of this type of distributed-scale project.

Unlike the ‘mega PV’ projects that typically require thousands of acres of pristine wilderness and new transmission lines, distributed-scale projects can be fit onto smaller parcels of less sensitive land and can be connected to the existing utility grid. That means they’re less risky–in other words they’re more likely to get permitted and interconnected–and they can be delivered sooner.

Those benefits are (or should be) important to utilities and regulators who are under increasing pressure to meet RPS targets. Adding distributed-scale resources to the RPS portfolio reduces the overall risk of hitting regulatory goals (in the same way that a diversified financial portfolio can deliver a more consistent return).  

Another very important feature of RAM was the clear policy preference for using auctions to set prices rather than using a ‘European-style’ Feed-in Tariff (FIT) where prices are set by regulators. As I’ve said repeatedly, FITs come with all the market distortions associated with government price-setting. In a world where PV prices are rapidly declining, a government set price cannot respond fast enough to ensure that utilities and ratepayers are getting the best deal for solar power. An auction (with the right rules) will ensure that California gets the absolute best price for this type of resource while encouraging a tremendous groundswell of new project development activity.

The other important feature is the RAM’s emphasis on strict viability standards and short delivery time lines. As I mentioned above, for an auction to work, it has to have the right ‘rules’ to ensure it isn’t gamed or manipulated. One risk of auctions is that participants may bid very low prices in order to win a position in the queue, effectively getting a ‘free option’ on delivering a project if equipment prices decline rapidly. If prices don’t come down, they just walk away at no cost.

This type of behavior would be detrimental to confidence in the RPS and creates huge uncertainties for regulators and utlity planners. To address this, RAM requires project developers to show proof of interconnection filings, site lease, and other project milestones, plus it requires developers to have ‘skin in the game’ in the form of non-refundable developer deposits that have to be provided upon award. I believe these will be instrumental in encouraging responsible bid behavior.

RAM is an important new step in California’s solar future, building on many of the innovative policies that have made California a leading state in the development of successful renewable energy policies. Governor-elect Brown has urged us to think even bigger, promoting a vision that includes 20 GW of new renewables with 12 GW of that ‘distributed scale’ just like those envisioned by a policy like RAM. We’re just getting started!

 *This article is a response to Shayle Kann’s recent article Can Pure-Play Utility PV Developers Compete in the U.S. Market? on Greentech Media*

Shayle, thanks for the article. I enjoyed reading your recent report which echoed similar themes. You’ve done a great job pulling together some comprehensive numbers on the ‘state of play’ in the North American downstream market. However, I would say there are several areas where our views of the market differ and I think it’s worth some public discussion.

As an aside, I have to point out that drawing the line on the market at the US-Canada border distorts the league tables for North America. With 165MW of projects in Ontario (and over 370MW now contracted), Recurrent Energy is actually the third largest developer in North America. I know you and I have a friendly disagreement on where to draw that line, but I figure it’s worth pointing out once again.

Your article (and report) repeatedly mentions the issue of underbidding in the US market in connection to the ‘vertical integration’ trend. While some recent California and Arizona bid results are rumored to have come in at very low prices, I am less concerned than you are about the issue. PV plant costs have certainly come down quickly and opinions differ about how far they’ll come down in the next 2-3 years—which accounts for some of the bid variation. To the extent there is aggressive risk taking, I think market mechanisms will correct any underbidding fairly quickly.

The reality is that strategic buyers in this marketplace do a tremendous amount of due diligence prior to pricing an acquisition. The idea that acquirers just count up signed PPAs and make a bid is inconsistent with my recent experience in the sale of Recurrent Energy. Buyers examine every project document and model each project assumption, carefully assessing potential profit of each project individually. They then discount each project based on the degree of development risk remaining. A portfolio of projects that cannot be realized profitably will not get an acquirer’s attention or investment.

If underbidding is occurring by developers who hope to flip a pipeline quickly, I think the market will deliver a swift and painful economics lesson. As you point out, late-stage development is capital intensive and a poor quality portfolio will not attract the investment required to bring it to realization. This is not the internet circa 1999.

The other mechanism that will come to bear on this issue is developer viability standards. Simply put, we need the utility evaluation process to take into account a developer’s history, balance sheet, and capabilities (as the California RPS does) and require them to post a meaningful security along with their bid. This approach ensures that they have skin in the game and tests their confidence in their ability to deliver a profitable project.

Finally, your report suggests in numerous places that vertical integration is the key driver behind all of the recent downstream acquisitions. While it certainly seems to fit some of them, I think that may be an oversimplification of what’s actually going on. In our case, the strategy we announced with Sharp is a little more nuanced.

We see a transition occurring in the market from FIT-driven demand to power-market-driven demand. Sharp’s acquisition of Recurrent Energy is really about building an interface to new market participants (utilities and IPPs) that is distinct from the module sales business. Recurrent Energy benefits from Sharp’s reputation as we compete for customers and project investors. And we will harness Sharp’s technology and supply-chain expertise to achieve a market-leading equipment and construction cost. That’s a strategy that enables us to define a long-term competitive advantage and a path to sustainable profits in a very competitive industry. You’ll see the evidence of this in coming months as we continue to harness a diverse supply of modules and services that won’t really fit the ‘vertical integration’ label.

Regards,

Arno Harris
CEO
Recurrent Energy