Finance » Renewable Energy Projects

Energy Price Risk

The economic value of the electricity generator largely depends on the price the project can sell the electricity for. Due to high volatility in electricity prices, this is a risk lenders and investors try to mitigate in favour of fixed pricing.

Power Purchase Agreement: 20 - 25 years

The most common strategy is to enter a power purchase agreement (PPA) with one customer such as a utility or a local authority. The contract stipulates a fixed price. It is usually a take-or-pay agreement whereby the customer is obliged to pay for consumed electricity as well as electricity that was provided but not consumed, but does not pay for electricity that was not available. PPAs cover the full lietime of the project. They are often mandated by banks as a condition for lending.

Electricity Swap: 1 - 3 years

Increasingly, developers construct renewable power plants without having a single customer in mind. In this instance, the project company has to sell its power to the market at spot price. To receive fixed payments instead, it needs to swap its floating payments for a fixed electricity price per kWh. Such electricity swap transactions are only available for up to 1 - 3 years. They are typically established for a fixed quantity of power projected for a year. As the floating price, swaps reference the Market Clearing Price for Energy (MCPE). The counterparty of the swap is a market maker in the electricity market.

The project company:

  • receives floating income from sale of electricity at spot price (per kWh)
  • sells at floating clearing price (per kWh) to market maker
  • receives fixed price electricity from market maker

 

Gas Price Swap: To 10 years

For longer terms, all-in power electricity swaps are not available. However, as natural gas is the prevalent source for electricity generation in many countries, there is a strong correlation between gas and electricity prices. A well-traded gas market allows generators to use gas swaps to hedge the electricity price. The thermal efficiency or Heat Rate allows for the comparison of electricity and gas prices, as it expresses the thermal energy (in Btus) required by a generating plant to produce electrical energy measured in kWh. For instance:

Efficiency Type Heat Rate
Less Single Cycle Gas Turbine 16,000 Btu/kWh
More Combined Cycle Gas Turbine 7,000 Btu/kWh

The heat rate to be used in the swap contract has to be estimated.

The project company

  • receives floating income from sale of electricity
  • sells floating gas price (per MMBtu) to market maker
  • receives fixed price gas (pre MMBtu) from market maker

Spark Spread: Option

The spark spread is a cross-commodity option paying out the difference between the price of electricity sold by a generator and the gas price assuming a fixed heat rate (the strike rate of the option). In other words, the per kW benefit of owning a power plant is equivalent to having one kW spark spread with the generator's own heat rate.

Tolling Contract

A Tolling Agreement is an electricity supply contract where the buyer (market maker) obtains the marketing control of the electricity produced - for an upfront payment. Hence, it gives the buyer the right to operate and control the scheduling of the plant (for the tolling fee). The buyer is also responsible for procurement of fuel such as biogas.

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