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May 31, 2019Financing Energy Storage, a New Factor in Grid Management
Renewables are challenging, changing grid design and management
With the increased emphasis on mitigating the ongoing effects of global climate change, various stakeholders are sharpening the focus on the rapid deployment and integration of cleaner and sustainable energy sources as part of the overall energy mix. To name a few, this includes but is not limited to renewable resources such as solar photovoltaics (PV), wind, biomass/biofuels, geothermal, and small- and mini-hydro. Due to the intermittent and non-dispatchable nature of the leading renewables, solar PV and wind power generation, integration of energy storage (e.g., batteries) has become a key enabler to the entire renewable power generation asset class and value/supply chain. As an example, an inherent feature of renewable energy sources, such as solar PV, is that power is generated only when the sun is shining, but can be stored in batteries, and dispatched as and when required by customer demand. Accordingly, energy storage assets enable effective tracking, matching, and management of the power demand load curve to meet the peaking demand and tariff pricing of wholesale and retail customers. The notorious California “Duck Curve” illustrates solar energy’s greatest challenge of steep ramping needs and over-generation risk. The curve is the net of renewable generation, the solar component of which peaks between 1 and 2 pm, and the demand, which peaks in the evening. As can be observed in the illustration, the duck’s “belly” deepens with each year because more solar generation is being added to the grid. The 2012 net was close to baseline demand. Not every region has exactly this shape of net load curve, but most with substantial renewables have significant mismatches between renewables generation and demand. Meeting the steep ramp need is highly challenging for conventional thermal-based generation technologies
The solution is storage, and particularly, batteries
Storage allows the midday overproduction of solar power and the unpredictable overproduction of wind power and other renewables to be saved to flatten the duck’s belly and lower its head (flatten the curve). Many storage technology options are available, including flywheels and capacitors for high dispersed, short term storage and release, to, at the other end of the spectrum, CAES (compressed air [in caverns] energy storage) and pumped water storage, the latter serving the longest term and largest volume energy storage needs, and being the leading current option. In between these are batteries, including Li-Ion, which are spin offs of those for tools and vehicles, liquid electrolyte, and redox flow batteries (RFB) as shown in the figure.
Batteries of either type, plus others, are also usefully deployed as part of a DER (distributed energy resources) strategy, which can reduce transmission costs, and increase grid resilience and stability,
How do we finance energy storage projects?
Currently, multiple pilot and demonstration-stage energy storage projects are funded by project developers, sponsors, and private equity investors, along with substantial public subsidies. As more and more energy storage projects are being planned for increased market penetration, the number one lesson is to enhance bankability with risk mitigation to attract the financing community with respect to syndicating senior, subordinate, and mezzanine debt. With increased structured/project financing (e.g. total recourse, limited recourse, and non-recourse basis), energy storage markets can properly develop while capturing a larger market share, resulting in overall growth of this important segment. Accordingly, project developers, sponsors, and equity investors with robust balance sheets must have greater emphasis on attracting capital proceeds via debt financing into energy storage projects. There must be greater emphasis on meeting and satisfying the requirements of commercial lenders with respect to structured/project financing. Proper technical, market, financial, and legal due diligence is required along the entire debt financing process (from pre- and post-financial close into commercial operations) to verify, validate, and certify the return of debt capital expectations to lenders with respect to raising financing, allocation of debt capital, and deployment of financing proceeds. An important ingredient is long-term sustainable fixed/variable revenue streams coupled with waterfall cash flows to enable a smooth and phased transition from the current subsidized projects to structured/project financing.
Due diligence addresses risk mitigation
For brownfield/greenfield energy storage projects, effective due diligence consists of a review of the conceptual, preliminary, and detailed design with respect to proposed commercially proven technologies and applications, viability, and general design of the main renewable energy generation plant. Also, a detailed review of the energy storage infrastructure is needed to ensure the plant design meets industry standards. Visits to the project site are often required for a first-hand assessment initially of the site characteristics and the health, safety, and environmental (HSE) situation. Additional site monitoring will need to take place during construction, covering construction progress versus plan, and cost and schedule monitoring. Review is needed of the suitability of capital costs (Capex), operating costs (Opex), proper structuring of the levelized cost of electricity (LCOE) and the levelized cost of storage (LCOS), and wholesale/retail power tariffs set by regulatory public utility commissions (PUCs). Also needed is detailed review of the economic modelling, financial proforma analysis, and sensitivity/scenario analysis to verify and validate key economic, financial, and profitability indicators including, but not limited to, lifecycle costs (LCC), net present value (NPV), project internal rate of return (IRR), rate of return on equity (RROE), debt service coverage ratio (DSCR), payback period, and break-even capacity.
Besides technology and economics, policy, business, and contractual issue matter
Further, there must be a detailed review of the relevant enacted legislative policy and regulatory framework, HSE standards and requirements. A technical and commercial review of the major project-specific contracts is required with respect to engineering-procurement-construction (EPC) and operations and maintenance (O&M) with verification of major systems and equipment for meeting design and operations’ requirements. Additional due diligence review to assess the project’s ability to meet the required energy generation and storage, reliability, availability, maintainability (RAM), operating, contractual, and permits and licensing requirements. A detailed technical and commercial assessment of the power offtake terms and conditions (e.g., power purchase agreements - PPAs) is required along with viable payment security mechanisms and escrow accounts. Detailed risk mitigation analysis is needed, with review of equipment, system, and overall plant warranties and performance guarantees, assessment of the counter-party risks, contractual sacrosanctity with back-to-back arrangements and securities, liquidated damages (LDs), penalties, bonuses, incentive payments, and minimum performance levels (MPLs). Lastly, there must be a detailed review of the mandatory insurance provisions and supporting insurance policies, along with O&M plans, with emphasis on staffing, warranty, major wear, replacement, and spare parts for general compliance to industry standards.
Author:
Ron Cascone, Principal I Energy & Chemicals Advisory
