Search En menu en ClientConnect
Top 5 search results See all results Advanced search
Top searches
Most visited pages

    By Dominik Ruderer

    Renewable energies such as wind and solar power have become a mainstream source of electricity, accounting for 70% of all new investment in power generation globally, according to the International Energy Agency. In many markets, these energies are a cost competitive source of power and a driver of employment and growth, but despite their favourable cost, they still often rely on public support. Now, power purchase agreements, or PPAs, are becoming an increasingly popular way to finance renewable energy projects because they mitigate the risks for both energy producers and buyers.

    In 2021, more than 137 companies in 32 different countries announced the signing of power purchase agreements, through which electricity producers sell their output to energy utilities or corporate end users over a fixed period.

    In the same year, corporations purchased 31.1 gigawatts of clean power through long-term contracts, according to the research firm BloombergNEF. US tech companies are at the forefront of the movement. Amazon, for example, has signed power purchase agreements with 44 renewable energy projects in nine different countries, totalling a capacity of 6.2 GW in 2021 alone, after it committed to power its operations with 100% renewable energy by 2030 and reach zero carbon emissions by 2040.

    © Shutterstock

    Power purchase agreements provide renewable energy generators with a steady source of income in highly volatile power markets. For buyers, they offer not only a credible way to green their own operations, but also more certainty in their business planning. While many actors have almost forgotten the latter in recent years, the current turmoil on energy and power markets is a stark reminder of the importance of being able to cover energy needs at a reliable cost. PPAs are often central to investment decisions, since they mitigate market risks, mainly related to fluctuations of energy prices. They are especially important for renewable energy projects that do not rely on public support.  

    The EIB has supported a significant number of renewable energy projects backed by power purchase agreements in recent years. Prominent examples include the financing of the Markbygden ETT windfarm in northern Sweden, which sells its power output to a subsidiary of Norwegian aluminium company Norsk Hydro under a 19-year PPA, and the Cabrera Solar PV project in southern Spain, that has a 10-year power agreement with internet giant Amazon for a significant share of its electricity production.

    Generally, PPAs are more common in the United States. However, this form of financing has gained traction in the European Union over the last few years, where it has been used to finance almost 9 GW of production, led by large contracts in Spain and Scandinavia. Despite this recent growth, a number of challenges remain, though most regulatory barriers to such agreements are addressed by the European Union’s Clean energy for all Europeans package, which was adopted in 2019. Some EU Member States, however, have yet to transpose the European legislative framework into their national laws.

    Price risk and credit worthiness are major barriers

    One factor limiting the popularity of PPAs in Europe is the limited ability of corporates to expose themselves to electricity market risks. Large power buyers with a limited risk appetite who face stiff competition in their own sectors are reluctant to sign long-term fixed price contracts. They fear that their competitiveness could suffer if the market price for power declines and their competitors enjoy lower energy costs. This discourages sectors with tight margins and fierce competition, including many industrial sectors, from filling a significant part of their demand through long-term power purchase agreements, which might exceed their natural business cycles.

    Credit worthiness is also a major barrier for most sectors, particularly in heavy industry and manufacturing, and in European economies with less developed long-term financial markets. For example, an organisation might have an appropriate consumption pattern for long-term power agreements but lack a rating from any major credit rating agency. Lenders to renewable projects typically require offtakers to have a strong investment grade credit ratings to consider a PPA-based project bankable.

    Much of the renewable electricity needed to reach European and national renewable energy and climate targets will need to come from offshore wind assets. The offshore wind sector, however, is characterised by long construction times and the large scale of many projects. This creates an additional barrier to the use of PPAs by offshore wind projects as companies may be reluctant to commit to a fixed price years in advance and because most projects are too large for a single offtaker. While renewable projects can, in principle, sign multiple PPAs with different offtakers, this comes with significant transaction costs and increases project complexity.

    ©BigPixel Photo/ Shutterstock

    Solutions lie with financial institutions

    Financial institutions can play an important role in alleviating some of the barriers mentioned above and thereby help the PPA market to grow further. Financial institutions can support power purchase agreements through the provision of tailored debt or equity, but potentially also through credit guarantees. The following (financial) instruments address some of the material barriers we see in the market:

    Finally, the PPA market will greatly benefit from further standardisation of terms and conditions for such agreements. The European Federation of Energy Traders (EFET) has published a set of CPPA Standard Documentation, which has received great attention and is already being used by a number of market participants. Further work in this regard will likely have a positive impact on the PPA market.

    You can read more about commercial power purchase agreements in our most recent study Commercial Power Purchase Agreements: A Market Study including an assessment of potential financial instruments to support renewable energy Commercial Power Purchase Agreements.

    1. In order to facilitate the uptake of PPA-based renewable projects, the European Investment Bank accepts a limited exposure of its investment loans to electricity market risk. Such tolerance for a degree of market risk – based on a fundamental analysis of the long-term development of power markets in Europe – can facilitate the negotiations between developers and offtakers on PPA terms. This can help to speed up investment decisions or even enable new, additional renewable investments. It increases market liquidity and contributes to knowledge creation among developers, corporates and banks, which may have a positive impact on the market in the longer-term.
    2. The EIB has provided a number of developers with construction loans and mezzanine financing (a hybrid of debt and equity financing where the lender may convert the debt into an equity interest). Under such arrangements, the developer receives construction financing prior to having concluded a power purchase agreement, allowing it more time to search for and negotiate with suitable offtakers. An example is the €100 million to co-finance solar photovoltaic and wind energy projects in Spain and Portugal from 2021 to 2024.
    3. A credit guarantee offered by a financial institution, possibly in collaboration with an aggregator of corporate demand (i.e. utility, large corporation, power purchase agreement platform) could unlock more renewable energy agreements. For example, Norwegian export credit agency EKSFIN offers a credit risk guarantee to renewable energy projects. Such guarantees are particularly suitable for corporates which lack an investment grade credit rating but have an appropriate consumption profile for power agreements.
    4. EKSFIN has already supported renewable energy projects with a joint capacity of more than 900 MW through such guarantees. Spain has recently set up a similar guarantee instrument and several Member States as well as the European Commission are discussing the potential establishment of similar schemes.

    You can read more about commercial power purchase agreements in our most recent study Commercial Power Purchase Agreements: A Market Study including an assessment of potential financial instruments to support renewable energy Commercial Power Purchase Agreements