Dahl, Antonia vom

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Power Purchase Agreements – TheRising Star on the European EnergyMarket?Gastautorin 2019-06-05T09:30:02vonANTONIA VOM DAHLMajor transformations of the regulatory regime for renewable power plants arecurrently forcing plant operators to revise their business scenarios. In this process,Power Purchase Agreements (PPAs) are likely to play a key role. Despite thisconcept being relatively alien to the European market, the capacity of PPAs installedin Europe has increased more than tenfold since 2008. By 2020, more than half ofthe worldwide installed capacity of renewables is expected to be contracted throughPPAs.From a legal perspective, PPAs can be qualified as long-term electricity supplycontracts which are generally concluded between a seller (a power plant operator)and a buyer (typically, a commercial entity). However, contractual arrangementshighly depend on the buyer’s demand of power and the type of renewable energyinvolved. A physical delivery of power, in rare cases even via a direct line, can bepart of the agreement (“physical PPA”). More commonly, the cash flow only dependson the difference between the spot market power price and the contractually definedprice – similar to a derivative (“virtual PPA”).Although the use of PPAs is not necessarily limited to the sector of renewables,this has become their main field of practical implementation. In the United States,Google, Apple, Microsoft, and other globally acting companies have recently tried toboost their “First Mover Image” in terms of sustainable business making by closinglong-term PPAs.- 1 -Power Plant Operators Have to Change Their View in Terms ofProfitabilityThe vast majority of PPAs in Europe is currently contracted in the United Kingdom,the Netherlands, and the Scandinavian countries. This mainly results from thefact that national legislation obliges companies to cover a certain percentage oftheir power demand through renewable energy sources. In Germany, there isno such mandatory quota. Instead, the promotion of renewables has so far beencharacterized by statutory remuneration schemes such as market premium modelsand, on a subsidiary basis, feed-in tariffs. However, since the European Commissionis urging Member States to reform their remuneration schemes, German legislationaims at a full market integration of renewables. Recent bidding processes foroffshore wind parks resulted in 0.00 EUR/kWh, which forces wind park operators tomake their investment decisions without any future statutory subsidization. A similardevelopment is expected for other types of renewables, namely onshore wind parks,biomass, and photovoltaic plants. In addition, financial support expires for a numberof existing power plants in the near future. Building costs of renewable power plantshave been constantly falling, leading to a higher competitiveness of renewablescompared to conventional power generation.These regulatory and market changes will soon fully expose plant operators tomarket price fluctuations, requiring a shift towards independent models of projectfinancing instead of statutory remuneration.PPAs Provide an Alternative to Statutory RemunerationThe most obvious advantage of concluding PPAs is that they increase the securityof investment. A guaranteed purchase of power supports the creditworthiness ofthe plant operator, leading to lower financing costs and enhancing liquidity. Thisfacilitates further investments and allows for further operation even after the subsidyperiod has ended. Furthermore, PPAs mitigate the market price risk through asecured cash flow or – depending on contractual provisions – an upfront payment.Besides that, PPAs allow for a more independent business strategy in terms ofconstruction and marketing. Since statutory remuneration is not received, powerplants can be constructed and operated outside the statutorily determined expansioncorridor. This gives investors the possibility to tailor the dimensions of the powerplant to the specific needs of the buyer (e.g., for photovoltaic plants). Besides,no sunk costs arise for the planning and permitting procedure in the event of anunsuccessful bid.PPAs also pave the way for alternative marketing strategies such as the trade ofCertificates of Origin (“green certificates”). Such certificates attest that the poweroriginates from a renewable power plant. However, according to the statutoryprohibition of multiple sale, plant operators may not receive statutory remunerationand green certificates at the same time. Foregoing statutory remuneration enablesthe plant operator to receive green certificates which can then be passed on to thebuyer for trade on the secondary market.- 2 -How to Address Risks of Contracting a PPAAt first glance, PPAs seemingly create a win-win situation for both contractualparties. However, upon contract negotiations, some major risks must be taken intoaccount.For both parties, the downside of hedging price risks through a PPA is that themarket price might not develop as foreseen by the contractual parties. In Germany,a mutual false assumption upon stipulation of the contract can constitute a reasonfor frustration of contract. However, due to the restrictive jurisprudential line of theGerman Federal Court of Justice, it would not be sufficient to solely rely on thislegal instrument. Likewise, general safeguard clauses do not provide legal certaintybecause they require exceptional conditions for the contractual price to be adjusted.Instead, special price adjustment clauses should be part of the contractual riskallocation. Likewise, general safeguard clauses must be precisely phrased, clarifyingwhether the volatility of the market price falls within their scope.Moreover, the buyer faces an operational risk by solely relying on a single powerplant. To cover the risk of underperformance because of delay of operation or merit-order effects, a solid due diligence is crucial. Besides, production studies providedfor the respective type of energy must be thoroughly assessed. In terms of contractdesign, indemnity clauses need to be stipulated in case actual production falls shortof the forecasted levels.In case of long contract periods, chances are also high that the regulatory frameworkmight change to the detriment of either of the parties. However, under Germanconstitutional law, legislation may only have retroactive effect in exceptional cases.Hence, current projects will most likely not directly be affected by changes oflegislation. To address this issue, it should be sufficient to include regulatorychanges into the scope of general safeguard clauses.Zitiervorschlag: Antonia vom Dahl, Power Purchase Agreements – The RisingStar on the European Energy Market?, JuWissBlog Nr. 60/2019 v. 5.6.2019, https://www.juwiss.de/60-2019/Dieses Werk ist lizenziert unter einer Creative Commons Namensnennung – Nichtkommerziell – Keine Bearbeitungen 4.0 International Lizenz.- 3 -

Power Purchase Agreements: The Rising Star on the European Energy Market?

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Power Purchase Agreements: The Rising Star on the European Energy Market?

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