The big guys learn financing from the little ones

February 4, 2011 by  
Filed under Energy Policy, Financing

The U.S. community wind sector, as a report from the Berkeley National Laboratory defines, consists of relatively small utility-scale wind power projects that sell power on the wholesale market and are developed and owned primarily by local investors. The recently published report explains this industry sector has historically served as a test bed, not only for up-and-coming wind turbine manufacturers trying to break into the broader market, but also for wind project financing structures.

For example, a variation of one of the most common financing arrangements in the U.S. wind market, the special allocation partnership flip structure, was first developed by community wind projects in Minnesota more than a decade ago before being adopted by the broader wind market. More recently, a handful of community wind projects built over the past year have been financed via new and creative structures that push the envelope of wind project finance in the U.S. In many cases, they have moved beyond the now-standard partnership flip structures involving strategic tax equity investors. The report explains this past year has seen a wave of financial innovation in the community wind sector.

Schematic of strategic investor flip structure using the PTC. Forward slashes distinguish between pre- and post-flip allocations of distributable benefits. -Berkley National Lab

The partnership flip structure was first devised in response to the specific nature of federal policy support for wind power projects, specifically the inability of most individuals to make efficient use of the production tax credit (PTC) and accelerated depreciation. Likewise, so too has this new wave of financial innovation in the community wind sector been driven by policy changes, most of them recent. For example, as the report describes, for a limited time the American Recovery and Reinvestment Act of 2009 enables wind power (and other types of) projects to elect either the 30% investment tax credit (ITC) or a 30% cash grant in lieu of the PTC. This flexibility, in turn, enables wind power projects to pursue lease financing for the first time. Neither the ITC nor the cash grant is subject to the PTC’s requirement that the project owner also operate the project in order to be eligible for the incentive. The ITC and Section 1603 grant also reduce performance risk relative to the PTC, and (unlike the PTC) neither the ITC nor the grant is penalized for the use of subsidized energy financing. Finally, by providing a cash rather than tax incentive, the cash grant alone reduces, but does not eliminate, the need for tax appetite among project owners. All of these policy driven changes can be particularly useful to community wind projects.

Another policy-related enabler of some of the financial innovation profiled in the report include New Markets Tax Credits, which are not new but have only recently been tapped to help finance solar projects and, for the first time, in 2010 have been part of a community wind project financing. Also, Section 6108 of the 2008 Farm Bill expands the USDA’s authority to loan to renewable generation projects even if those projects are not serving traditional rural markets.

The collective experiences of the five community wind projects profiled in report can be distilled into the following common observations or lessons learned regarding the development and financing process. These include how the Recovery act was critical in the project, working with nearby projects can help ease the burden, partnering with experienced professionals pay of, take advantage of tax credits, and more highlighted in the report.

How communities can establish wind plants

An emerging group of wind-farm developers are focusing on midsized projects and in places that traditional, large-scale developers are overlooking. These community wind projects, ranging from 5 to 80 MW, are cropping up in part due to recent financial incentives and guidance from firms such as OwnEnergy, based in Brooklyn, NY. “Several converging factors make community wind projects viable,” says OwnEnergy Founder and CEO Jacob Susman. “First is transmission capacity. This is an opportunity for smaller projects to tap into existing transmission infrastructure, avoiding the need for costly new upgrades. Also, as the industry matures, people in local communities are looking for more involvement, control, and a financial stake in a project; more than just the land lease they may be offered by an “absentee” developer. Finally, banks are now more interested in making relatively small loans as little as $20 million for a community wind project compared to the large investment necessary for traditional wind development. The industry is now saying that ‘small is the new big’.”

Susman says his company’s role is to identify a local partner or entrepreneur, someone who lives in the community or has ties there, and preferably someone who is a significant land owner in the project footprint. “Then we form a joint venture with the local partner. For example, partners in Kay County Oklahoma, a father and son team with property in the footprint can count several generations in the area. Their land will be used in the project along with neighbors’ land. That arrangement brings sensitivity to projects. Our role is to make the project work for everyone in the community.”

An island community off Maine provides another example of community wind, developed by Fox Islands Wind LLC. “Instead of importing power from the mainland on a cable, they generate it themselves. They decided to install three wind generators, and then structured the power, financing, procurement contracts as a community with an entrepreneurial person at the lead. A development company such as ours is in the lead so all members have an ownership stake,” says Susman.

Wind projects roughly develop in three stages. The early stage involves feasibility and gathering land for the project, getting a wind assessment of the property, and steps such as getting in the transmission queue. ”A lot of the early effort is local, a good amount of that is done by the local partner. We provide the documentation he would take around to the community. We would do the feasibility work, site assessment to figure out the size, make sure we are not in areas of endangered habitat, on whose property the turbines would be placed, and how it would connect to the grid,” he says.

The middle development phase is outsourced. It includes studies around transmission and permitting, and continuing the wind resource work by a third party, and OwnEnergy typically manages the third parties with input from the local partner. That person might be working with the community dealing with the land owners, and getting county tax abatement for the locals. If anyone in the community is not comfortable with the project, the third party works with that person. The final stage signs up contractors and gets the project ready for financing by wind energy lenders and tax-equity firms

Steps in Wind Development

Step 1: Land acquisition Land is secured through option and lease agreements with the landowners.

Step 2: Wind resource assessment One or more meteorological towers—which measure the onsite wind speed, direction, pressure and temperature—are installed. The developer needs to collect at least one to two years of this extremely valuable data prior to financing the project.

Step 3: Transmission and interconnection After an initial interconnection application, the transmission owner or operator will conduct a series of studies to assess the feasibility to connect at a certain point of interconnection (POI), and ultimately offer an interconnection agreement to the generator. This process may last more than a year, depending on the transmission zone.

Step 4: Environmental studies and permitting The developer must determine which permits are required and which environmental studies are needed to satisfy federal, state, and local rules and regulations. It is important that this is done early on.

Step 5: Power purchase agreement This primary asset will dictate the economics of the project, as well as its financing outcome.

NOTE: These five distinct aspects are not necessarily sequential; however, there is a degree of dependency that must be followed for a successful outcome.