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U.S. OFFSHORE WIND FINANCE: ADVANCING INVESTMENT IN OFFSHORE WIND 1 Business Network for Offshore Wind Abstract The Business Network for Offshore Wind works to support the development and growth of the U.S. offshore wind supply chain. The Network reacts to existing offshore wind projects’ challenges and preempts potential bottlenecks or risks that could threaten or delay the development of the offshore wind industry supply chain. The U.S. now has a growing pipeline of deployable offshore wind projects totaling 5-8GW, and the U.S. has scale in its demand to replace old power generation with new clean forms of electricity. The U.S. is poised to accelerate its nascent offshore wind sector to become a major national industry. The U.S. has many advantages: the technology is proven and already exists; the market size is inherent to produce economies of scale; and offshore wind policies are emerging, both federal and some state. The building blocks are in place but finance is the important ‘mortar’ needed to build this industry. For this reason, in April 2018, the Network in partnership with Société Générale, assembled offshore wind experts to start taking a deeper look at the needs of the finance industry in order to learn if the case for investment into the U.S. offshore wind sector could be improved, and if so, how. U.S. Offshore Wind Finance: ADVANCING INVESTMENT IN OFFSHORE WIND
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U.S.OFFSHOREWINDFINANCE:ADVANCINGINVESTMENTINOFFSHOREWIND 1
Business Network for Offshore Wind
Abstract
TheBusinessNetworkforOffshoreWindworkstosupportthedevelopmentandgrowthoftheU.S.offshorewindsupplychain.TheNetworkreactstoexistingoffshorewindprojects’challengesandpreemptspotentialbottlenecksorrisksthatcouldthreatenordelaythedevelopmentoftheoffshorewindindustrysupplychain.TheU.S.nowhasagrowingpipelineofdeployableoffshorewindprojects totaling5-8GW,andtheU.S.hasscale in itsdemandtoreplaceoldpowergenerationwithnewclean formsofelectricity.TheU.S. ispoised toaccelerate itsnascentoffshorewind sector tobecomeamajornationalindustry.The U.S. has many advantages: the technology is proven and already exists; the market size is inherent to produceeconomiesofscale;andoffshorewindpoliciesareemerging,bothfederalandsomestate.Thebuildingblocksareinplacebut finance is the important ‘mortar’ needed to build this industry. For this reason, in April 2018, the Network inpartnership with Société Générale, assembled offshore wind experts to start taking a deeper look at the needs of thefinanceindustryinordertolearnifthecaseforinvestmentintotheU.S.offshorewindsectorcouldbeimproved,andifso,how.
U.S. Offshore Wind Finance: ADVANCING INVESTMENT IN OFFSHORE WIND
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Key Takeaways
• TheU.S.offshorewindmarketisprogressing.Sufficientfederalleaseareasexisttosupportapipelineofearlyprojects.Thefederalgovernmentisworkingtoissuenewleaseareastoavoidpotentialfutureslowdownsintheindustryandtoaccelerateitsprocessesforthebenefitofthedevelopersowningexistingleaseareas.
• Statesareresponsiblefortheoff-takeagreements.ThereisanopportunitytoinvolvethefinancecommunityearlyinbetterdefiningthePPAmechanisms.
• ThedifferencesbetweentheEuropeanandU.S.financingofoffshorewindisEuropeanlendersarenowcomfortablewithoffshorewindtechnology-evennewtechnologyanddebtfinancingcanamountto80+%oftotalprojectcosts.
• BondsarebeginningtobeintroducedintosomeEuropeanoffshorewindprojects.
• Thesuiteof20-30Europeanlendersexperiencedwithoffshorewind,arekeentousetheirexistingknowledgeintheU.S.offshorewindmarketbutarelessfamiliarwiththeU.S.Taxequity.
• CapitalmarketshavenotreplacedbankdebtintherefinancingoftheEuropeanprojects.Incontrast,theU.S.mightwitnessearlierentryofthecapitalmarketsthroughinstitutionalfinancings.
• AsignificantappealtofinancingtheU.S.offshorewindprojectsisthelong(20year)PowerPurchaseAgreement(PPA)term-thisstrengthenstherevenueside.
Photo credit: Business Network for Offshore Wind
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Financing the Growth of the U.S. Offshore Wind Industry
TheU.S. nowhas 13 offshorewind energy lease areas infederal waters totaling 15GW in potential offshore windenergy. Over the past few months, BOEM furthered theindustry’s momentum by approving four site assessmentplans as well as beginning the review process for a
Construction andOperation Plan (COP). BOEM intends toimprovethefederalreviewprocessby:simplifyingmarinebuoys approval; reducing the length of time forgeotechnicalsurveyingresults;and,allowingdeveloperstoincorporateanelementofflexibilityinitsapplicationswitha voluntary option to use a project ‘design envelope’.BOEM continues to have commitment to U.S. offshorewind industry – noting its ongoing support with BlockIslandWind Farm studies. Additionally, through a recentexecutive order, BOEM and its staff are accelerating thetimeline in performing some of its reviews with SiteAssessmentPlans(SAPs)andCOPstobecompletedwithin12months.Theupcoming18monthswillbesignificantfortheU.S.offshorewindindustry.Advancesareexpectedforpermittingthewestcoastandprogresswillbeseenfortheexisting leased and new lease areas along the north-eastcoast(NewYork/NewJersey,andMassachusetts).From the developer’s perspective, the U.S. hasexperienced a slow and uncertain history but today’soutlook is the most optimistic. While there remains anabsence of a formal coordination between federalgovernment permitting and state regulation for utilityprocurement of the offshorewind power, the industry isadvancing. Private sector and developer confidence isgrowing, witnessed by the higher costs being paid tosecurethefederalleaseblocks.Therearevariationswithinthestatepoweroff-takeinstruments,notingMarylandandNew Jersey use an Offshore Renewable Energy Credit(OREC) process which has different mechanisms fromother clean energy RECs such as solar. In contrast,Massachusetts and Rhode Island have direct bilateralpurchaseagreements,whileNewYorkisproposingathirdvariation.U.S.PPApricingmechanismsaredifferent fromUK Renewables Obligation Certificates (ROCs), Feed-InTariffs (FITs), Contract for Differences (CfDs), none ofwhichareperfectfromthedevelopersviewpoint–anindexlinked pricing agreement with hedged risk, might be apreferredform.
Comparing and Contrasting Different Forms on Capital and Financing Models The European financing market has become comfortablewiththeoffshorewindindustry.Initiallythedebttoequityratiowas50:50,buttherehasbeenashifttomoredebt–insomecasesreaching80:20.Europeanbanksarewilling toaccept the risks associated with new technology such as
the latestgenerationof larger turbinesand theEuropeantransactions are witnessing ‘selling down’ equity movingfrom traditional post-CompletionDate (COD) to pre-COD.Europe now has a suite of 20-30 routine offshore winddebt lenders. Generally, in Europe, in the refinancing ofoffshore wind farms, capital markets remain generallyunavailableandthebankswanttoremaininvolved.The U.S. tax tool was characterized as administrativelyburdensome, compounded by the recent changes in theU.S.taxcode,suchaschangesindepreciation(goingfrom50% to 100%) absorbing risk related to construction andnewtechnology. In theU.S.market, financingentitiesaremore conservative, yet the finance community continuesto expand with increasingly competitive banks andexpansive lending limits suitable for theOSW industry asmore projects are completed. One major differencebetween Europe and the U.S. is the management oftransmissionlines.Theexpertpanelistsnotedtransmissionmanagement as a key aspect of the construction andoperations phases to determine early in projectdevelopment.
The U.S. market benefits from low interest rates and anavailable renewable subsidy with relatively model costadds to the market’s appeal. The tax credit subsidymonetizedthroughtaxequityinvestmentsprovidesa6%–9%, post-tax cost of capital. However the subsidy in theform of tax equity presents challenges given the longer
From the developer’s perspect ive, the U.S. has experienced a slow and uncertain history but today’s outlook is the most optimistic.
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lead times associated with construction of offshore windprojects (18-24months) when comparedwith competingrenewables such as solar (often <12months). Tax equitytypically commit no more than 12 months from theirfunding (which occurs around the project’s Placed inServicedate)astheircommitmentsarecontingentontheirvisibilityintotaxliabilities,whicharemoretransparentfortheircurrent fiscalyear.However, taxequitymaybeabletogetcomfortablecomingin18monthsforward.Ingeneral,itwasagreedthatcommontobothEuropeandU.S.andmostlikelyAsia,shortfallsinfinancingshouldnotdefault to the expectation that the project sponsorincrease its equity. More likely solutions are expected invendordebt financing (towers,blades,nacellesandEPCs)along with special institutions such as EuropeanInvestmentBank(EIB)forliquidity.
Case Studies The financing of the Nordsee (Germany) and Gemini(Netherlands) projects in Europe, and Block Island in theU.S. were described and compared. In general, theEuropean financing model is now defined, with littleopportunity to introducenovel or typicalNorthAmericanpractices on project financing or the introduction of thewiderrangeofinstrumentsavailableandcapitalstructuresemployedintheU.S.market.IntheEuropeanmarket,theonly way to finance projects is through bank loans–amarket that is very precedent-driven on terms–whereastheU.S.marketsmorebroadlywill employmore creativesolutions.
The European financing structures are accustomed todealing withmultiple contracts and the supplier contractinterfaces. However, there are some situations in theEuropean market with signs of moving towards a singleEPC contract. For example, Merkur (Germany) had onlytwomaincontracts(TurbinesandBalanceofPlant)duetothe maturation of the industry. In contrast, the U.S. hasgreater concern associatedwith the contractor interfacesandtheassociatedrisk,preferringeitheralimitednumberofcontractors (3max.)orwrappedstructures. Ingeneral,the U.S. finance industry is willing to consider multi-contractingarrangementsbutwouldlooktooffsettheriskof the contractor interfaces with a seasoned and strongconstructionmanager.
U.S. projects must find ways to bridge the gap betweenlongerconstructionperiodsandtaxequity’s reluctancetoprovide long-dated commitments. Block Island’s originalfinancing occurred two years prior to COD, typicallyoutsideof taxequity’s commitment timehorizon. SociétéGénéraleadvisedDeepwaterWindonacreativestructurethat was able to provide construction financing prior tohavingataxequitycommitmentinplace.Thesponsorthencommittedtosecuringtaxequitymid-construction.In Asia, particularly Taiwan, the European financialinstitutions are following the Europeandevelopers. Thereisa lackof local (Taiwanese)bankswithsufficient lendingcapacityandrequisiteoffshorewindexperience.Theresultis that the market is adopting European-styled financialpackagesstructuredsimilarlytotheEuropeanmodelalongwith the European finance lenders, comparedwithNorthAmericanstyledprojectfinancetransactions.Currently, U.S. market banks have surplus capacity forlending as they look to replace loans made to capex-intensive liquefied natural gas liquefaction facilities thatwas strong before the downturn of that sector. Further,thecapitalmarketsaremoreprevalent intheU.S.thaninEurope and the U.S. provides the possibility to bring ininstitutions for construction financing earlier than inEurope. Unlike Europe, the U.S. doesn’t have nationalgovernmentsponsorship,protectingthedeveloper,supplychain and financiers from risk. The Block Island project’ssmall size allowed thedeveloper to create its own ‘wrap’by planning on a two-year installation cycle and therebylimittheriskthatlargerscaleintroduces.DeepwaterWindhas taken a strategic approach on scaling up throughsequential projects. The thought is that it is easier to fix
issues on smaller projects by injecting equity, as theseprojectswillnothaveanEPCwrap.Many European offshore wind developers are unfamiliarwiththeU.S.taxequity.Beyondtheimmediatechallenges,oneschoolofthoughtisthatpenetrationofoffshorewindinto the energy mix will be enhanced by ‘storage’ asdefinedby thePPA.Batterystorage,withhedgingon lessexpensiveandhigherperforming replacement technologymay not significantly add to the total cost versus hydrostorage,butthe integrationofstoragewithoffshorewindincreases the number of variations in the financestructures.
U.S. projects must f ind ways to br idge the gap between longer construction per iods and tax equity’s reluctance to provide long-dated commitments.
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Equity Investment Opportunities
Europeandrivefor lowcarbonenergygenerationwasthemain thrust for equity investment in offshore wind. Ingeneral, there is plenty of equity capital available for theU.S.offshorewindmarketbutonlyasmallgroupwillingtoinvest without permitting and without a solid offshorewindmodel.Vaguenessinthelengthoftimeforpermittingandassociatedhazinessofarevenuemodeldetractsfromequity appeal. Other factors include the diminishingproductiontaxcredits.Butalsothereisaneedtorampupthesupplychain.Theprimaryrisk is theunknownaroundthecostof thepowerandthe lengthof timetobringtheoffshore wind farms onstream. If this period is notshortened,thereisariskthatfuturerisesininterestratesmake them uncompetitive and non-viable. Other factorsare the social elements and the need for greater publicacceptance among citizens and fisheries. As the ITCbenefitsdropdown,thesizeoftaxequityinvestmentsarelikelytobecomesmallerwhichwillhavegreaterimpactonthe larger projects. Looking forward, it is likely that theearly U.S. offshore wind market will be backed byEuropeanequitywithoffshorewindindustryknowledgetohave a better measure of the risks. Other risks includepossible litigation fromvisualandenvironmental impacts.Equity investors have a baseline approach of assetownershipthroughthedevelopmentlife-stageandthentosell down. Development equity investors seek eitherestablished operating portfolios or experienced teamswithout theportfolio assets. Equity sources canbe foundwithin the OEMs and the construction contractors. Somebanksprovidingdebtpreferthecontractortohavealevelofequityduringtheconstructionphase.
Debt Financing ThediminishingU.S.taxcreditbenefitsaregoingtoimpactthedebtlenders’viewofthestructures.AfterthefirstfewU.S.offshorewindprojectsthatadvanceoverthenext12-18 months and that are able take some degree ofadvantage of the tax credits, the transactional structurescouldresemblemoreoftheEuropeanmodel.ThehopeisthattheU.S.supplychainwilldevelopsufficientlytobringcost benefits comparable to the diminishing tax credits.Initial U.S. projects are most likely to secure their debtfrom banks rather than the capital markets. Beyond theinitial projects, future debt funding may originate frominfrastructuredebtfunds.ThetraditionalU.S.PPAwith20-year long-term contracts aligns with long-term debtfinancing and this could usher in the institutional debtfinanciers. Debt lenders will want to see conservatism inthe first few projects with a limited number of contractsand experienced construction managers with reasonablelevels of contingencies for delays and constructionoverruns. While there is quiet recognition that there isresidual value in the tail beyond the tenor of the debt,having the potential to relax some debt sizing, generalthinking is that intheU.S.debt lenderswill rigidlyadhereto the structure and not go beyond the PPA. Upcominginitial U.S. projects are likely to benefit with low interestdebt financing as there is oversupply compounded byEuropean banks seeking to enter the U.S. market. It isunlikelydebtfinancingwillleveragemuchmorethan75%.Conclusion and Next Steps ItisclearthattheU.S.offshorewindmarketispoisedtoacceleratebuttheunknownisatwhatspeed.Mostoftheessential elements are in place for a successfuladvancementof the sector. Expansionof thedemand foroffshorewind energy is still required in order to unleashthe full potential of the U.S. offshore wind supply chain.There is some expectation that the potential of a strongdomesticefficientsupplychaincouldreplacethefinancialbenefitsoftheexistingInvestmenttaxcredits. Inordertoadvance the sector, the finance community needsenhanced involvement going forward, especially in thestructures of the power purchase agreements; and thestructureofthecontractsbetweenthedeveloperandtheEPC contractor and contractors. Financial confidence inEuropean offshore wind has displacedmuch of the early‘risk’ - the U.S. offshorewind stakeholders need toworktogethertotransferthisconfidencetoU.S.capitalmarketsto bring in new instruments like bonds in order to lowerthe cost of capital. The lowering capital costs willaccelerate offshore wind beyond acceptance to oneexpected in many coastal states’ future clean energymixes.
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TheRoundtableDiscussionwasheldApril3,2018inNewYorkCity.Morethan50peopleattended. Itwashostedandco-organizedbytheBusinessNetworkforOffshoreWindinpartnershipwithSociétéGénérale.
About the Network The Business Network for OffshoreWind is a 501(c)(3)nonprofit organization solely focused on thedevelopment of the U.S. offshore wind industry andadvancement of its supply chain. We are not a tradeassociationofmanyvoices;weareoneleadingvoiceforthe offshore wind business community. We bringtogether developers, policymakers, academia, globalexperts and more than 150 member businesses forcritical discussions and unprecedented networkingopportunities.Contact: RossTyler
DirectorofStrategy&[email protected]
About Société Générale SociétéGénéraleisoneofthelargestEuropeanfinancialservices groups in the business. Based on a diversifieduniversal banking model, the Group marries financialsoliditywithastrategyforsustainablegrowth,andaimstobe the reference for relationshipbanking, recognizedforbeingtheleaderinquality,commitmentofitsteams,lastingrelationshipswithitsclientsandmaintaininghighstandards in performance. Société Générale has beenplaying a vital role in the economy for 150 years.Withover154,000employees,basedin76countries,weworkwith our extensive network of clients throughout theworld on a daily basis and offer advice and services toindividual,corporateandinstitutionalcustomers.
Contact: RobertoSimonHeadofNaturalResources&[email protected]
ChrisMoscardelliDirector,[email protected]
Image source: times-energy.org http://sumo.ly/5MVJ
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Apri l 2018 Finance Forum Participants ClayJones Advisian/WorleyParsonsGroupTerrelFLaRoche Advisian/WorleyParsonsGroupBillElliot BechtelInfrastructureandPowerCorp.MazharHaq BechtelInfrastructureandPowerCorp.WalterCruickshank BureauofOceanEnergyManagement(BOEM)MikeConrad CanadaPensionPlanInvestmentBoard(CPPIB)MartinLaguerre CanadaPensionPlanInvestmentBoard(CPPIB)AnnaWang CanadaPensionPlanInvestmentBoard(CPPIB)SteveAhnEsq. ChicagoTitle&TrustMikeEckhart CITIJoelCohn CohnReznickLLPDavidHang DEShawEnriqueAlvarez-UriaBerros EDPRenewablesScottBank FirstAmericanTitleInsuranceCompanyLawrenceCantor FirstAmericanTitleInsuranceCompanyJeffreyCarusone FirstAmericanTitleInsuranceCompanyGilesBicknell InfraRedCapitalPartnersWojciechWiechowski InnogyRenewablesUKLimitedChrisWissemann InnogySEAaronKlein KeybancCapitalMarketsDavidKarpinski LEEDCoAndrewCompton LinkLatersLLPBillFoxburrow M&TBankChrisArche MacquarieCapital(USA)Inc.ThomasHoule MacquarieCapital(USA)Inc.HirokiNakayama MarubeniPowerInternationalInc.ElizabethWaters MUFGMichaelThompson NorthlandPowerRobEberhardt NortonRoseFulbrightUSLLPChaimWachsberger NortonRoseFulbrightUSLLPRobertO.Gurman NYSERDAMatthewVestal NYSERDAChrisIreland OntarioTeachers'PensionPlanRobertGurman ProenergyConsultingJoergPhilp SenvionGmbHAndrewBurke ShellWindEnergyInc.KevinPearce SiemensAllanBaker SocieteGeneraleAmericasSecuritiesBenjaminJeanpierre SocieteGeneraleAmericasSecuritiesChrisMoscardelli SocieteGeneraleAmericasSecuritiesBrettMurphy SocieteGeneraleAmericasSecuritiesParagPatel SocieteGeneraleAmericasSecuritiesWilliamMarder WilmingtonTrust,N.ADougLavelle WilmingtonTrust,N.A.CharliePapavizas Winston&StrawnLLPTimKlarouf
