The evolving energy storage market
The energy storage market is still in its infancy, but it is evolving rapidly. Portfolios of standalone utility-scale batteries are now being financed on a merchant basis. The market is moving away from traditional power purchase agreements to tolling agreements. Developers are having difficulty finding batteries and then getting them delivered on time.
A panel of storage developers and one investor talked at the 31st energy finance conference in South Carolina about the outlook. The following is an edited transcript.
The panelists are John Breckenridge, CEO of Arevon Energy, a renewable energy development company with about 1,500 megawatt hours of operating storage projects and a similar number under construction, Steve Vavrik, CEO of Broad Reach Power, which has 350 megawatts of operating batteries, another 100 MW under construction and another 30,000 MW of queue positions, Ty Daul, CEO of Primary Solar, which has one of the largest solar-plus-storage projects at 690 MWac of solar and 1,400 MWh of storage under construction near Las Vegas, Andrew Bowman, CEO of Jupiter Power, which has 654 MW of storage either operating or in late stages of commissioning in ERCOT and another 11,000 MW of storage under development, and Sara Graziano, a partner with SER Capital, which owns portfolio companies with storage projects in various stages of development in New York, Texas and California as well as behind-the-meter commercial-and-industrial-scale projects primarily in the Northeast. The moderator is Christy Rivera with Norton Rose Fulbright in New York.
Looming Cost Increases
MS. RIVERA: John Breckenridge, you said before the panel that supply and cost are the biggest issues this year in the storage market. How so?
MR. BRECKENRIDGE: The industry has not fully digested or understood what is going on in the battery supply chain today.
There are some forecasts that say in order to meet the demand in the next several years, we will need 30 times the current mining capacity of lithium. That means we may not see storage cost again what it did last year for another 10 years. Add interest rates, and the cost skyrockets.
We have bought batteries from Tesla and other suppliers. We spend a lot of time with various forecasters. I don't think their models adequately forecast where costs are headed.
I am also certain that developers who have not actually signed battery contracts do not understand what they are up against today. Tesla is our biggest battery supplier, and it is under pressure to get out of the storage business. It can make a lot more money on vehicles.
People thought in early 2020 that COVID would mean a few weeks at home and then everything would gradually return to normal. It was basically unforecastable how totally unknown a future we face.
We are an industry that has relied on declining prices over time for its equipment. We are in an environment now where, certainly on the storage side, we are going to see cost inflation until sodium or some other new stationary technology takes hold that is not even visible yet on the horizon. This is our biggest issue.
MS. GRAZIANO: I agree if we are talking about two- to four-hour lithium-ion batteries. It is important to keep in mind that the power sector is a very small player in a market for those batteries that is dominated by the automotive suppliers. You have to look not only at what the forecast is for grid-scale batteries, but also what is going on to satisfy EV demand.
The other issue is that the automotive suppliers place big orders. They buy out entire production lines in a factory for years. They have a lot more leverage. They are also willing to take on some of the risk around commodity prices and do indexed contracts, which, historically at least, we in the grid-scale industry do not want to do. You can buy a gas turbine from GE, which is what we all probably started our careers doing, for a fixed price.
MR. VAVRIK: We all agree on that as the general state of the market. It is not just lithium. I am chagrinned when people show me a slide I did in October 2021. The world has changed.
To John's point, I don't think future battery prices are forecastable. So give up. It is kind of like playing football and it starts raining or snowing. Why are you passing the ball? We have to go to a ground game. That is good enough to get where we need to go.
We are all responsible for the transition. Forget about the old plays of fixed price delivered to the customer. Let's get more creative.
The good news is we have done this before. We have gone through supply crises before. We have gone through recessions before. We always emerge by being a little more creative.
At the end of the day, the customer has to pay the cost, so instead of going to the grid operator or the utility, focus on the large corporations and data centers that are our potential customers.
They are the ones who really want storage. Let's go to them and say, "That project with a fixed-price PPA in Houston? We can do that, but that project is never going to get built. Why don't you meet us in the middle, with some sort of more flexible contract? It will help meet your carbon goals. It will get the project built. We will work together to figure it out along the way.
It is not guns drawn; it is pencils out. We can figure this out.
MR. DAUL: I agree. The challenges are pretty big in the near term, in part because everyone is so used to a declining cost curve. Everyone — developers, lenders, offtakers — has to understand that we are in a new world. I totally agree it is now a ground game.
MR. BRECKENRIDGE: Let's also not lose sight of the time aspect of this issue. Many of the projects that are being developed at utility scale today will not be built until 2024, 2025, 2026 and beyond. There is a lot of uncertainty, but there is also the possibility during that period that price signals will help increase the supply. There is a lot to like about that picture.
MR. DAUL: Let's also not lose sight that we are dealing with trade issues currently with solar panels. It is not improbable that we will have similar issues with batteries in the next two to three years.
MR. VAVRIK: It is up to us to take that to Washington. We need diversity of supply. Let's talk more about industrial policy. We need more vendors of not just batteries, but also transformers and copper, and we need them from friends.
MR. BRECKENRIDGE: It is reasonable to assume that if you delay a solar project several years, there is a reasonable chance that we will be in a better solar supply situation than we are today. That is not true of batteries. Delay may solve your panel problem. It will not solve your battery problem. That's the real dilemma for solar-plus-storage projects.
The one bright spot is stationary storage technology looks like a better place to invest today than it did before. A couple years ago, anyone would have been worried about the risk of being wiped out by lithium ion. That is no longer true today.
MS. RIVERA: Are the cost issues coming up when entering into new contracts or are you having to renegotiate existing contracts? Are battery suppliers coming back and asking for more money?
MR. BRECKENRIDGE: We have a $2 billion contract with Tesla. I would have thought with a contract that size we would be considered a super influential customer, but we are still struggling to get product delivery dates. We have vendors who are willing to walk away and pay huge breakup fees because of the size of the problem.
Anyone who has a contract that has not actually scheduled delivery is at risk of seeing price increases, regardless of what the contract says.
MS. GRAZIANO: That's correct. One of our portfolio companies has a contract with a battery supplier who came back and asked for lithium indexation and an increase in transportation costs because of the logistics issues that we are all seeing.
This is especially a problem for products coming from China where continuing lockdowns are causing factories and ports to close. It is hard to get containers. It is hard to get deliveries.
We have experienced this as well with battery vendors that are buying lithium and other raw materials on a spot basis. If I were running a battery business, I don't think that is how I would do it, but they feel they are suitably indexed to the auto companies, who are their biggest customers. They can buy raw materials in the spot market and pass through the cost. They have no incentive to try to fix costs.
MR. BOWMAN: The same pressures are being felt on the offtake side. There is a big gap in time between signing an offtake contract and when the project moves to financing and construction.
MR. DAUL: Anyone who signed a contract two years ago assuming a declining cost curve on solar and energy storage is definitely renegotiating today.
MR. VAVRIK: You know who else wants a long-term contract is the utilities. They are the ones that are now seeking five-, seven- and 10-year contracts. Managing risk with current market conditions and such a contract is double black diamond stuff.
Everyone wants efficient capital. It is going to take some time for energy storage to develop the tool kit that we are used to in the other elements of the energy transition.
MS. RIVERA: Steve Vavrik, you said before the panel that you are seeing strong demand from utilities for reliability. How do you address it?
MR. VAVRIK: One of the themes this morning is volatility is increasing. Let's stipulate that it will persist for a while. Who takes the volatility risk? Ultimately, it is the offtaker or the contractor. They are still feeling their way on how to address it.
They are looking for ancillary services. They are looking for energy spread deals. They are looking for puts and calls. We will figure this out, but it will take some testing to get it financeable.
Look at what is happening currently in ERCOT. A record demand for electricity, and not just on a seasonally adjusted basis. It is record absolute demand. Will the wind be there? Who knows? Who's not going to be there? The heat has knocked six large power plants off line with 2,900 MW of generating capacity. Other plants are offline for maintenance. Thank goodness the Freeport LNG terminal is not offline because things would have been really tight this past week.
This is not going to change. Who ultimately bears the burden? The utilities and their customers, but we are all responsible in the sense that it leads to riskier projects. If we mess this up, we have more blackouts and brownouts.
MR. BOWMAN: The concept of reliability as a market product is really nuanced and is changing and becoming more specific in transactions.
We are still figuring out how to transact around all of the things that batteries can do. We are still figuring out how to structure transactions for the ability to respond very quickly, to respond reliably in certain windows, to respond cleanly, to do any of these things at any particular time when they are most needed and to do something else the rest of the time. That is the complexity of these assets as resources.
We are in the very early stages. These are still ancient times in terms of the history of storage as a business.
How batteries are used, and the revenue streams used to finance them, will be very different two, five or 10 years from now.
MR. BRECKENRIDGE: We are primarily in the California market, where we are operating a number of projects, both standalone and combined with solar.
The contract market has historically followed the cost in this industry, so contracts used to be quite high, and costs were coming down. Now the costs are increasing. This is starting to dawn on customers.
The California grid operator, CAISO, saw the forecasts for high volatility and has been overbuying in the day-ahead market. That has reduced volatility in the broader market.
The market dynamics are swinging in ways that make operating a battery very complicated, particularly standalone batteries in California. Those of us who are operating those batteries are learning new lessons every day.
MR. VAVRIK: The conclusion is batteries will still have to be financed on balance sheets for a while. They will have to rely on equity. We will figure out the capital structure over time.
MS. RIVERA: You went where I was going to go, which is we are saying such great things that all the banks in the room are really excited to give us money right now. [Laughter]
The panel before this one was the banks and tax equity investors. I took notes. The banks are not big fans of new technology risks. They don't like hedges, but they also don't like merchant revenue. Given this, the fact that you are closing any of these deals is really amazing, and you are all awesome.
Andy Bowman, I know Jupiter closed a financing earlier this spring on a portfolio of standalone utility-scale batteries in Texas. How did you do that after everything we have just heard?
MR. BOWMAN: Some aspects of getting it done were novel and challenging. One of them was bringing up to speed the bankers on how the technology works. There is a really good ecosystem emerging of consultants that can provide great advice about all of that to lenders.
Our portfolio was mainly merchant, but we have some hedges. Harmonizing the collateral requirements with the credit requirements on the hedge instruments was challenging.
Ultimately, the biggest surprise was the process was really quite straightforward. There were a number of lenders with whom we could have worked. We had a really wonderful experience working with the lender with whom we did the financing ultimately. We are having conversations about future deals.
I don't think the question is merchant versus contracted. The question is how will the project get built, and then how available is it for a lot of valuable transactions, including short- or long-term contracts as the grid continues to evolve in really interesting and surprising ways with a lot of volatility changing everybody's seat pretty regularly at the table.
MR. VAVRIK: The corollary to that is availability. A good investment is storage service companies. Batteries are tricky. They are new. There are a lot of vendors. Getting them to work right is going to take some time. Servicing batteries is an opportunity.
Grid v. Distributed
MS. RIVERA: We have been talking a lot about front-of-the-meter or utility-scale stuff. Sara, I know that your company also invests in behind-the-meter storage. When you look at potential investments, are there differences between batteries that are in front or behind the meter?
MS. GRAZIANO: Yes. What we focus on behind the meter is batteries placed at commercial and industrial locations. Most of the uptake in the behind-the-meter market is batteries attached to residential rooftop solar systems. The economics of that don't seem like they pencil out, at least from my perspective, but there is customer demand regardless of the economics.
The main application for which C&I customers are looking is some combination of arbitraging — by trying to reduce peak demand so that they can reduce their demand charges from the utility — and power quality — where they are running a process that is sensitive to voltage fluctuations and things of that nature, and they are in a part of the grid that is suffering as more intermittent resources connect to the grid.
The first issue that we run into a lot in our C&I business is that each of these applications is somewhat bespoke. You have a significant engineering cost for a relatively small project. It weighs on the economics because we have not gotten to a point of standardizing it so that we can avoid having to reengineer it every single time.
The second issue is that most of the customer's power is still coming from the local utility. The utility tariffs are an Alice in Wonderland world. I go down one rabbit hole to avoid a demand charge and, all of a sudden, I am on Rider X-2 of something else that has raised my costs again for some bizarre reason.
It is challenging to figure out the implications on the customer's tariff for each potential action involving the battery and then to use the information to optimize the storage facility. Usually there is some kind of an optimization algorithm or software that governs operation of the battery and that knows when a peak load event is expected to be ready to shift.
MS. RIVERA: Keith Martin sent me an article from yesterday that reported grid-scale energy storage set a record in Q1 of this year with 2.4 gigawatt hours of installations. Normally deployment is more back-ended late in the year. It was an amazing first quarter, and all trends point up. Where do you see this market in five years?
MR. BOWMAN: Most of us in this room have been involved in renewables and the electricity business for a long time. We have seen new technologies come in, mature and really grow. We have seen it happen with wind and solar. The expectation is the same thing will happen with batteries and storage.
The details are less foreseeable exactly how the supply issues get handled, exactly what revenue streams will support financings long term, exactly what suite of ancillary services will be available in each market, and exactly how grids will address higher renewables penetration.
Bloomberg New Energy Finance announced the energy storage decade starting this year, so those of us who have been working in storage for several years have apparently been laboring in the negative years.
This is year one of the storage decade, and very little of this stuff has been figured out yet.
When you look at each of the regional grids, you can see a growing role for storage to help even out supply and load and to provide greater reliability.
As for five years from now, everybody believes there is going to be a lot of it. Nobody is exactly sure how it is going to be contracted, how it will get financed and where it is going to come from. And yet we are all highly confident that it is going to happen.
MR. BRECKENRIDGE: The best market for current short- or mid-term, four-hour utility-scale storage is California. The reason is California has a "duck curve." The current storage technology works really well with solar. You get a cycle every day, and you make money every day. The current technology does not work as well with wind because wind can blow for three days and not blow for two days. It is very difficult to make a lithium-ion four-hour battery earn a lot of money in that sector.
The duck curve is most likely to be found in the southwest part of the United States. Some states in that region do not have solar incentives currently. Once such incentives are adopted, you start to see a duck curve. That is where the big markets are going to be.
Because this is such a new market, the market doesn't yet really understand where the limitations are going to be in terms of siting.
In storage, the best application is not out in the desert. It is in the load pockets where you have the most congestion and you cannot build new transmission.
It is hard to see what happens five years from now when you can't find a place in Los Angeles to build a new solar-plus-storage project. That is another big unknown for this sector.
MS. RIVERA: So California is the best place today for standalone utility-scale batteries?
MR. BRECKENRIDGE: That is the only one really that offers opportunities on a large scale today.
MS. GRAZIANO: I would like to put in a plug for my home city of New York City. After I said that at another conference, someone came up to me afterward and said, "Yes, but there is only one place you can interconnect a 100-megawatt battery." And I thought to myself, "Why would you interconnect a 100-megawatt battery in New York City?" New York has a program program called VDER, for the value of distributed energy resources, where you can lock in a 10-year tariff with Con Ed for the value to it of deferring investments in the transmission grid. There are lots of places where you can put five-megawatt batteries.
A lot of us come at this from a utility standpoint. With batteries, that is the exact opposite of what you need to be thinking. You need to be thinking small, in the very specific load pockets, specific customers, specific grid applications. That is where we see a lot of opportunity.
MR. BOWMAN: Actually there are a lot of places in just about every big city with a big industrial site where a large, multi-hundred megawatt hours of battery can fit. We are bullish that these large batteries are going to be a big factor in improving reliability in big load pockets going forward in every market.
MR. VAVRIK: Storage isn't new. What is new is lithium has made it modular and now we can privately finance it.
Follow the fundamentals. Duck curve, load pocket, we are part of a power system. Where is demand greater than supply? You are selling reliability. Put it there.
MR. BRECKENRIDGE: It just feels like outside of California, those other applications feel like peaker-type applications. The grid operators need to create capacity-type markets, which are not really fully in place yet, to attract that type of storage. Investors would then be betting on peaker-type economics, which can be very lucrative, but it is a different kind of game than traditional infrastructure.
MS. RIVERA: We have time for one audience question.
MR. HUTSON: Jamie Hutson, chief investment officer of DSD Renewables. We have a couple hundred megawatt hours of storage operating in VDER. How do you think about round-trip efficiency on these projects? We find that to be a challenge when looking at the economics.
MR. VAVRIK: Case by case. We have a use case in Texas where we are two to three cycles a day. That is a different use case than in California. We will take a look at what the vendors are doing. If costs are going up, someone will figure out a better widget. We are also figuring out ways to recharge batteries to help postpone degradation. The more use cycles per battery, the better the economics.
MR. DAUL: The key is understanding how you want to design for the use cycle. It's essential. If you install the battery to address one use case, and it is operating in a completely different way, you are going to blow out your augmentation and operating forecasts.