The meaning of an ‘optimal’ clean energy investment is changing as prices rise, analysts report
Historic clean energy investments propelled by Biden administration climate initiatives are shifting energy economics in ways that have developers, investors and analysts recalculating clean energy’s value.
By 2050, Biden initiatives could grow U.S. wind capacity 235% and solar capacity 1,019%, with proportional battery storage growth, according to the Energy Information Administration’s Advanced Energy Outlook 2023, published in March. Already accelerating growth has driven up renewable energy prices and left builders and buyers scrambling to find the lowest cost investments, analysts reported.
New utility-scale solar, paired solar and storage, utility-scale onshore wind, and paired wind and storage, even without subsidies, clearly have the lowest levelized costs of energy, or LCOEs, of the full range of utility-scale generation options, according to the April 2023 Lazard LCOE report.
But “the least-cost solution is no longer just the lowest LCOE, it is an evaluation of how renewables fit into a power system,” Wood Mackenzie Vice Chair, Energy Transition and Power & Renewables, Christopher Seiple told Utility Dive. Comprehensive procurement requires evaluating the “proposed project’s specific location and output profile, its interconnection costs, and the system’s transmission and reliability needs,” he added.
Comprehensive project evaluation is especially necessary and complicated now with renewable energy contract prices spiking since late 2022 in response to a range of policy and economic drivers, market watchers including LevelTen Energy and Edison Energy agreed.
“There is no easy way to identify the lowest [renewable energy] project prices because the project and macroeconomic factors compound” as value is forecast, Edison Energy Managing Director, Renewables Advisory, Joey Lange said. “Even where renewables were recently the most economically viable, market congestion and price suppression are making them harder and more expensive to build,” he added.
IRA-driven demand, interconnection backlogs, interest rate turmoil and supply chain constraints are driving spikes in new renewable project prices, analysts and stakeholders said. But the magnitude and duration of those factors are uncertain, making a more sophisticated project analysis necessary and offering a new appreciation of how the suboptimal renewable energy project choice can deliver the optimal value in cost-effectiveness and locational benefits, they said.
The big picture
The average power purchase agreement, or PPA, price in North America rose 6.6% during Q1 2023, with solar project PPAs up 8.5% and wind project prices up 4.9%, LevelTen reported in April. And that price increase might actually have been as high as “almost 11%,” when measured across “almost every market and technology,” according to the Edison Energy Q1 2023 Global Renewables Market Update Report.
Final Q2 data has not been released but the trend of higher PPA prices, though moderating slightly for solar, has continued in 2023’s second quarter, with uncertainties subject to multiple market dynamics as the key price drivers rise, both LevelTen and Edison Energy said. Though some details of the 2022 Inflation Reduction Act are being clarified, the uncertainties due to slow federal guidance remain frustrating to developers and investors, Edison Energy added.
The IRA extends solar’s investment tax credit to standalone storage and its 30% deduction of project costs may be significantly increased by adders for qualifying projects, analysts reported. In addition, the IRA extends wind’s production tax credit to solar projects that choose it, with similar adders that could bring the deduction to as much as $23/MWh, they added.
The unsubsidized LCOE for new utility-scale solar is as low as $24/MWh and the LCOE for broadly calculated new paired solar and-storage projects can be as low as $46/MWh, Lazard reported. The lowest unsubsidized and broadly calculated utility-scale onshore wind LCOE is $24/MWh and the lowest broadly calculated paired wind and storage LCOE is $42/MWh, it found.
LCOEs for coal, combined cycle natural gas plants, and nuclear plants are non-competitive, Lazard showed. The $39/MWh low LCOE for new combined cycle natural gas plants is competitive with paired renewables and storage prices, though they come with emissions and volatile fuel prices, analysts agreed.
But the lowest Lazard LCOEs calculated specifically for a 100 MW utility-scale solar project paired with 50 MW of 4-hr storage, $65/MWh, and calculated specifically for 100 MW of onshore wind with that storage, $33/MWh, challenge the economic competitiveness of natural gas in many locations, analysts added.
With these broad price advantages, the clean energy industries can learn to manage price dynamics due to growing pains like interconnection and supply chain constraints and IRA tax credit impacts, said former Edison Energy Senior Clean Energy Advisor and update contributor Lauren Kelley.
But multiplying near-term drivers leading in different directions and uncertainties created by most of those drivers make it difficult now to identify the best clean energy investments, many analysts agreed.
Drivers and uncertainties
Policy- and price-driven off-taker demand for renewables is growing while developers face policy and market factors obstructing supply, the recent LevelTen and Edison Energy market reports said.
IRA requirements and supply chain obstacles are driving up costs for components, raw materials and labor, and rising interest rates are making project financing more expensive and uncertain, said LevelTen Energy Director of Commercial Analytics Stefan Pugatchenko.
As a result of the uncertainties, 78% of Q1 2023 U.S. projects previously expected to be operational before 2025 due to increasing demand for renewables will be delayed, Edison Energy reported.
While various factors are driving up the price of renewable energy projects, macroeconomic factors like the Ukraine war, inflation and bank instability have kept natural gas prices atypically high, driving renewables’ market competitiveness, said former Edison Energy Advisor Kelley. But natural gas’ historic tendency to price volatility adds to renewable energy PPA price uncertainty, she added.
The push-pull of the many drivers and their uncertainties is what has driven PPA prices rapidly up in 2023, agreed LevelTen’s Pugatchenko.
“Easy interconnections are gone, projects are further from load, and interconnection studies cost more, which has led to a doubling or tripling of the project cost,” Edison Energy’s Lange said. And a resulting renewables demand spike has limited availability of the contractors who build wind and solar projects, which is likely to continue adding to project costs, he added.
In the last two years to three years, the momentum moving low-priced projects into operation “has moved in the wrong direction,” Lange said.
The push-pull of demand and uncertainty may not change soon.
Over 90% of surveyed developers expect price impacts from IRA provisions, but without IRS guidance it is uncertain whether the tax credits will drive PPA prices up or down, LevelTen reported.
And the “full impact of the IRA can’t be realized” without “large-scale change” to existing transmission, LevelTen’s Pugatchenko added. The new IRA incentives could drive both higher interconnection backlogs and renewables penetrations, leading to more transmission congestion, more negative market pricing, and new uncertainties in PPA pricing and contract terms, he said.
Those high renewables penetrations will be a key driver of new investments in dispatchable generation, Pugatchenko, Lange, Seiple and other analysts said. But the new IRA tax credits for energy storage, advanced nuclear, green hydrogen, and natural gas plants with carbon capture add to investor uncertainty about the best technology investment, they agreed.
Increased demand could drive renewable project costs down if some of the uncertainties are clarified and IRA benefits lead to lower project costs, Lange said. But it is not certain developers would lower PPA prices while off-takers are willing to pay higher prices, he added.
Upward price pressure on renewable energy projects could continue if utilities continue to commit to higher-priced renewable energy PPAs to meet stakeholder demand for more renewables, agreed consultant Karl Rabago, a former Department of Energy assistant secretary and Texas utilities commissioner.
And new tax credits for storage will help drive demand for batteries, Rabago added. IRA-supported domestic battery production could meet that demand and drive down costs, “but prices only fall with increased battery supply, and it is uncertain how renewables PPA prices will impact [storage] demand,” he said.
It is also not certain that offtaker demand for paired renewables and storage projects will increase, Kelley added. Off-takers benefit if the PPA price falls, but developers benefit if the price rises, and demand for those projects “may depend on aligning those interests,” she added.
Finally, emergence and sustained use of many of the policy drivers could be disrupted “by a political shift or a new administration,” said LevelTen’s Pugatchenko.
With this driver-uncertainty push-pull, finding the best-priced renewables may require a new kind of more sophisticated due diligence for off-takers, the analysts agreed.
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No easy answers
Though many worry about the PPA price spike, some say it is largely inflation driven and only a near-term concern.
But in response to current demand, power providers are “looking now for the lowest-cost renewables,” said BloombergNEF Head of Research, North America, Tom Rowlands-Rees. The IRA “is likely to lower the cost for all renewables,” but the specific choices made by developers and off-takers will depend on legislation, regulation and location, he added.
“Some need renewables to meet state mandates, others have renewables but need storage, and some want to use local solar or offshore wind resources,” Rowlands-Rees said. The “logical” choice now “is investing in renewables and storage and preparing to choose firm capacity later, but regulation makes owning and operating rate-based fossil resources a better choice for many utilities,” he added.
To meet near-term renewable energy project demand, “some developers have moved from the best solar or wind locations to where permitting and interconnection are easier,” Edison Energy’s Lange said.
“There is no simple way to summarize all the variables, but it is not just the cheapest renewable generation or lowest cost PPAs because there are other dynamics,” agreed former Edison Energy Advisor Kelley. Some resources’ generating profiles, combined with some markets’ rules “provide the opportunity to capture alternative revenue streams like peak electricity pricing,” she said.
The best procurement processes for renewable energy projects seem to begin with detailed utility planning that leads to competitive developer bidding, said Wood Mackenzie’s Seiple. Xcel Colorado’s competitive procurement invites bids after identifying all “specific utility needs,” and California recent planning identified “zones where renewables would have the lowest cost and be most valuable for the system,” he added.
From the developer’s perspective, the challenge is also multi-factorial, but the factors are different.
“The utility’s concern is optimizing the per MW cost and reliability of the project, but developers have many levers to optimize cost and reliability,” said Giovanni Bertolino, head of Enel North America’s 3Sun USA development subsidiary. Developers face a “new due diligence” in “an equation to determine the most competitive bid” which should include “the resource site, the technology, and the system design,” he said.
“Maximize the resource, pick the appropriate conversion device, wind, solar or battery, and ensure the revenue stream solves the energy, capacity, or peak pricing problem,” agreed General Electric Vernova Onshore Wind Chief Commercial Officer Stephen Swift.
“There are averages, but the real-time answer is more complicated because it depends on the hour of the day, the day of the year, and the transmission node’s specific location,” he added. “Identifying the best renewable energy investment requires thinking at that level of detail,” Swift said.
In short, identifying the lowest cost clean energy investment may no longer be exactly the right objective, analysts agreed.
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Changing objectives
Investing in clean energy begins with planning, and planning includes project specific considerations, agreed LevelTen’s Pugatchenko.
Planning clean energy projects is more complicated than it used to be because market conditions and prices “could be completely different by the time the project goes into service,” recalled independent policy and government affairs consultant Ted Ko.
And “the IRA legislation was not intended to complicate development but to move beyond building big projects to projects with local community and system benefits,” Ko said. That requires “recognizing how IRA tax credits can offset reduced project output and how new kinds of contracts with local partners and multiple off-takers, enabled by new IRA benefits, can streamline community acceptance,” he added.
The new reality may be that “a suboptimal resource to meet near-term needs is the optimal choice,” added BloombergNEF’s Rowlands-Rees. “Each path forward has limitations, but that does not mean progress stops, and even if the objective is the optimal investment, the definition of optimal can change.”
