Michael Garland, CEO of Pattern Energy, Tristan Grimbert, CEO of EDF Renewable Energy, and Tom Kiernan, CEO of the American Wind Energy Association, had a wide-ranging conversation in San Francisco in October about the state of the US wind industry. The moderator is Keith Martin with Norton Rose Fulbright in Washington. The following is an edited transcript.

MR. MARTIN: Mike Garland, Pattern was in five countries. It sold its Chilean operations in August. How do you rank the opportunities in the other four: the US, Canada, Mexico and Japan?

MR. GARLAND: It depends on your measure, whether it is profit or megawatts.

MR. MARTIN: Profit.

MR. GARLAND: In terms of profit, Japan first, US, Mexico and Canada in that order.

MR. MARTIN: Why is Japan more profitable than the US?

MR. GARLAND: It could be that our average power contract price is $250 a megawatt hour compared to $25 a megawatt hour or less in the US.

MR. MARTIN: Tristan Grimbert, your immediate focus is the US, Canada and Mexico, but you are also on the global investment board of EDF, so you see the whole world. How does EDF rank opportunities? Where is the US in the rankings?

MR. GRIMBERT: I wish I were in Japan, and I have been telling EDF that for five years now. Overall in North America, the margins are very, very tight, and globally that is true as well. The main places on which the company is focusing today are China, India, Brazil and France.

MR. MARTIN: Is there anywhere where the power prices are as low as in the US?

MR. GRIMBERT: The Middle East, but it is mostly on the solar side where we see very, very low prices in the Middle East. On the wind side, the pricing in Brazil is even lower than in the US.

Tariffs and inflation

MR. MARTIN: Tristan, you said before we started this morning that you worry about tariffs and the potentially rising cost of capital? How and where are you being affected?

MR. GRIMBERT: The tariffs have a ripple effect on a lot of things. It is not only the steel that you are buying for your project, but it is also the microwave in the trailer. They affect everything. If the trade war continues, they will lead to US inflation. The huge budget deficits will also have an inflationary effect. I am very concerned about that. Fortunately, we have master turbine supply agreements and balance-of-plant contracts that protect us to a very large extent, but —

MR. MARTIN: For how many years are you protected?

MR. GRIMBERT: For the next two years until the end of 2020. There is still a portion that is not completely hedged, and that is making my life difficult right now to work on that. The second aspect is the cost of capital. It is undeniable that the cost of capital is going up. We are insulated somewhat at EDF because we have a large allocation of capital that we can use in the next couple of years, but we need to see an inflection point in PPA pricing. The current PPA pricing is not sustainable with both the costs of capital and equipment increasing.

MR. MARTIN: Mike Garland, are you worried about inflation and a rising cost of capital? The banks supplying capital to this industry complain that their returns are half what they were three years ago and that they are taking more risk.

MR. GARLAND: I am not really worried about either. You have to deal with the market the way it is. We like change because we feel like we can adapt more quickly than some of our competitors. So having change in the marketplace is good for our company. There are a couple ways we are affected by inflation and the cost of capital. One is our valuation of our existing assets. Inflation causes the discount rate to increase so, in theory, the value of our assets goes down. On the other hand, if you have sustained inflation, your residual values go up. The two effects are probably a net positive because we have been pretty conservative in how we look at the future value of assets. We do not think energy costs will go up much in real terms. You and I have been around long enough to have seen these cycles before. The market takes a couple years to adjust to higher prices. People use higher discount rates to value assets. Margins contract for a year or two. Even though the money indexes move up, there is pressure on the banks to keep debt rates low. Our cost of capital does not change radically unless there are sustained year-over-year inflation and interest rate increases. So you just adjust to that and then eventually you have hopefully better returns.

MR. GRIMBERT: Do you see the PPA market adjusting?

MR. GARLAND: I think it has to. Do you see it adjusting?

MR. GRIMBERT: I agree on the long term. I am more concerned about being squeezed in the next couple of years.

MR. GARLAND: I am okay with that. We always bounce around. Japan will keep us busy for a couple years if things do not go well in the US. That said, a number of offtakers are starting to get that this is a good time to lock in power prices by signing long-term contracts. You have to look at how interest rates, the cost of capital and tariffs are likely to affect the price at which you can offer power. It is still possible to maintain a relatively competitive PPA price.

Post-2020 outlook

MR. MARTIN: One of the slides that John Hensley of AWEA put up immediately before this session showed forecasts by MAKE, a consultancy, and UBS, the Swiss bank, about annual US wind turbine installations over the next few years.
They both see a pronounced drop off after 2020 when projects must be completed to qualify for tax credits at the full rate. You guys are on the front lines. What do you expect after 2020?

MR. KIERNAN: Some of those estimates were even worse a year ago. The point is that a number of analysts have been bumping up the post-2020 turbine installations as the levelized cost of electricity and turbine efficiency improve. There are some things that we can be doing about market design and valuing essential reliability services to increase the floor in the 2022 to 2024 window. So I would not take the latest forecasts as gospel. The numbers may continue to improve.

MR. GRIMBERT: We expect in 2020 to do two or three times more business than usual. By comparison, 2021 will be a low year, but not a dramatically low year. I am a little more concerned for 2022 and 2023, to be honest, until there is enough further improvement in turbine productivity to offset the disappearance of production tax credits.

MR. MARTIN: Is it too late at this point to find a construction contract to erect turbines in 2020?

MR. GARLAND: No, but it is getting tighter and tighter. The contractors are pretty clever folks in figuring out how to hire more people and get more equipment. I think you will see a tightening up and some of the pricing being driven up by that, but they will figure it out or we will set up our own shop to bring in labor and contractors to build ourselves.

MR. GRIMBERT: I may be more focused on profit than Mike, but I think that it is really, really hard to find a supply contract today that will accommodate the PPA pricing of today. If you want to make profit on your project, you had better already have secured your supply.

MR. MARTIN: I was asking about the Mortensons of the world who are erecting turbines. Is it too late to find BoP contractors?

MR. GRIMBERT: I’m talking about both turbine suppliers and BoP contractors.

MR. MARTIN: Tom Kiernan, you teased us with one of your comments earlier. You said there are things that can be done to increase wind capacity additions after 2020. Give us some examples.

MR. KIERNAN: We have been going through a strategic planning process, and we have three priorities for the next several years. The first is transmission and market design. On that front, we are working with regional transmission organizations on assigning a greater value to reliability and ancillary services that wind projects can provide. If we can increase value there, it can lead to greater deployment. We are also looking at long-distance transmission. Clearly that will take a long time to address, but there are some things we can do on the interconnection queues and to relieve congestion that can help.

The second priority that can help is to assign a price to carbon. There may be a way to get some state carbon legislation in the next couple years and federal legislation in the early 2020s.

Finally, in the category of avoiding a problem, we can try to reduce some of the barriers to siting new wind farms.

MR. GARLAND: A forecast of 6,000 megawatts of new turbine installations in 2021 or 2022 is not a bad market for us given the roll off of production tax credits for wind and the continued availability of investment tax credits for solar. As Tom said, the post-2020 forecasts are improving.

We have seen an acceleration of coal plant retirements under the current administration. I think that will continue, and it will free up from more of the market to be supplied by renewables.

There are two other factors also at work. One is people now understand how inexpensive wind electricity is. There is a bit of a land rush now. Electricity buyers are moving to lock in supply while the prices on offer still benefit from a production tax credit of $24 a megawatt hour. But even without the PTCs and over the next few years as PTCs step down in amount, electricity is still being offered at a damn attractive price.

As solar builds out in some regions, there will be a need to balance solar with wind and other resources. Wind and solar reach peak output at different times of the day. We are also seeing a huge increase in spending on transmission by the utilities. That could create additional transmission capacity that will help create room for new projects.

Corporate PPAs

MR. MARTIN: Another slide that John Hensley put up earlier was that the wind industry had already signed 4,600 megawatts of new utility PPAs and 2,700 megawatts of corporate PPAs through June this year. Many people think the market is shifting to a corporate PPA and hedge market. Are you surprised by the number of utility PPAs? Is the market shifting to corporate PPAs and hedges?

MR. GARLAND: There is clearly a shift. The number of corporate PPAs represents a substantial increase. That market will continue to grow. Our expectation is that our future contracts will be 20% to 30% utility PPAs and 70% to 80% non-utility PPAs. The non-utility PPAs may be corporate PPAs. They may be contracts with community choice aggregators in California. They may be other things that are not pure offtake contracts, such as virtual PPAs or hedges.

MR. KIERNAN: The Renewable Energy Buyers Alliance — REBA — announced that it plans to establish itself as a section 501(c)(3) or (c)(6) organization. The group has selected a new CEO.

The group is stepping up in a big way to create new business models for corporations to purchase renewables. This is a plus for us that the corporate community is getting that much better organized and trying to figure out new ways to buy renewables.

MR. MARTIN: Tristan, did I hear you say before this panel that a third of your PPAs are with corporations?

MR. GRIMBERT: Yes. We think about a third of our activity is going to be with corporate buyers. We are part of REBA and are pleased that they are stepping up to try to make the terms more bankable. The quality of the corporate PPAs today is very low. It has been a buyer’s market with huge requests for proposals and terms that I do not think are sustainable.

There is a lot of activity, but to get a good PPA with a corporate buyer today that makes sense is very difficult. If we can find a way to make these contracts more balanced in the way risks are taken on both sides, then I think corporate PPAs could account for 50% of our activity.

MR. MARTIN: What is the hit rate for bids to supply power in corporate RFPs? Less than 10%, 20%?

MR. GARLAND: We are quite proud. We are terrible at bidding. We have maybe a 20% hit rate. I praise our guys for being disciplined and not just trying to do a race to the bottom.

Maybe it is little better than that, but we do not want to win that many PPAs because a lot of people are being extremely aggressive on bidding, so I don’t mind losing where we are uncertain about making a profit. This time I am thinking about profit.

MR. GRIMBERT: I feel better. I am not sure I can give you a percentage because it depends on the design of the solicitation. For example, right now you have solicitations that you have to go through with some very large purchaser, where we could submit 10,000 megawatts, and we may expect to get zero out of that, but it is a way to build a relationship.

Like Mike, we try to avoid huge RFPs that are going nowhere. They are a race to the bottom. The winner is the bidder who made a mistake. Nobody wins in the end.

If you really want a percentage, it is in the 10% to 20% range at best. There is a lot of competition.

MR. GARLAND: We are talking about the US market. In Japan, our hit rate is very high.

Basis risk

MR. MARTIN: One of the problems with corporate PPAs is many of them are virtual PPAs or hedges. The electricity price under the hedge is different than the price at which the electricity is actually sold into the grid. The difference is called basis risk. Some financiers are growing concerned about the basis risk being taken by developers.
Mike Garland, how do you deal with this?

MR. GARLAND: [Laughs] Basis is really painful. Until now, we have been pretty good at most of our offtakes. We pushed it off. We have a few in Texas that have been very painful as a result of underestimating the build out that creates this basis problem in many locations.

Unfortunately, we are going to have to take it. All of the corporate customers and a lot of the utilities have wised up to this problem and are passing on that risk to generators.

We are putting a huge amount of time into modeling and managing local issues around this, things like how people get permits. Do we need to take an active position on competitors coming into an area that can create additional basis problems?

Do we need to be more active in managing the outlook by ERCOT and other grid operators and how they sign up generators? Texas is really bad because anybody can sign up any time.

It is not as bad in other markets because they will not hook you up until you have paid your price and they have upgraded the system. The point is basis risk varies by location. In the future, we are all going to have to have a hell of a lot better understanding of the transmission grid and where the inflection points are where the price changes.
In some cases, the price shift can be dramatic. There can be 500 megawatts of build out without any real basis problem, but you get to 700 or 800 megawatts and, all of a sudden, the gap between the node price at which electricity is sold into the grid and the hub price used for the hedge goes from $2 to $10.

We are doing a lot of modeling and analysis, and I think politically we are going to have to be much more involved with regulators and development approval processes in those areas where we are taking that risk.

MR. KIERNAN: The industry as a whole needs to get better organized on working with RTOs. Historically, this is where the oil, gas and coal industries have been active in setting those policies. The wind industry has been active company by company. Basis risk is just one of the issues where we need to have a coordinated wind and solar agenda at the RTO level.

MR. MARTIN: Tristan, is it just cross your fingers or is there more you can do about basis risk?

MR. GRIMBERT: I agree with Mike. We have eight or nine people modeling all the time. The number of simulations we do for each project is staggering.

This is one of the key risks that we need to understand, so we are putting a lot of effort into it. It is very important that we not make a mistake there.

The first thing is to establish criteria. We will not do projects in certain areas and under certain conditions, even if the market seems good, because the basis risk is not very well controlled. We focus on RTO regulation. We focus on the voltage level at which projects interconnect.

We do a lot of hedging. Down the road potentially battery storage will help, but it will not fix the issue in the short term, so you have to be very, very disciplined.

One thing we have seen this year that I really don’t like is the zero dollar, non-negative product that you can bid under a virtual PPA. We are drawing the line there. A number of us have said we are going to pull back from that market. I think the corporate buyers have realized that. They are still signing some such PPAs, but there needs to be a dialogue about how much of that risk they want the developer to take.

MR. KIERNAN: Basis risk is not everywhere. It is in some places. People should not come away thinking the whole market has wild basis risks.

You see it in ERCOT and Oakland and places like that. It could become an issue in other parts of the country over time. Tristan’s point about negative pricing or very low pricing is a bigger concern everywhere.

MR. GRIMBERT: The other issue is that in northwest Indiana, for example, seven wind companies have invested money in NIPSCO studies on ways to relieve grid congestion. We have reached 62% curtailment on some of the projects.

MR. MARTIN: We saw 97% curtailment on one project in Ohio due to grid congestion.

MR. GRIMBERT: I haven’t seen that, but one other thing is we do not rely on the utility and the consultant. We redo everything ourselves. While we always have one or two outside consultants, we try to question, question, question. My shareholder asks why our development costs are rising. This is the kind of thing where we are having to spend more money to develop a deeper understanding ourselves of the potential risks.

MR. MARTIN: To be clear, the problems you are describing are due to grid congestion. There just is not enough room on the grid to move the electricity.

MR. GRIMBERT: The interconnection studies were done based on a certain landscape. The utility did the same study for seven developers. Each was given the same study. There were about 1,800 megawatts. The assumption was made in each case that there was nobody else.

MR. MARTIN: One trend in the corporate market is moving towards smaller corporations and perhaps aggregating them, having an anchor corporation. Another trend is corporations no longer want to take shape risk. Do you see multiple corporations buying from a single project? How do you get rid of shape risk?

MR. GRIMBERT: I think this is a real challenge how to do a load-following PPA for corporate buyers. We have a trading arm that allows us to shape, but that is a different level of service. It adds quite a few bucks to be able to provide shaped power depending on the request. It is not simply delivering the output from a project as it is generated. It is a very interesting market evolution where we can generate more value.

On the aggregation of small buyers, this is already happening, but it is difficult to do and is unlikely to transform the market in the next couple years.

MR. GARLAND: It is not just corporate buyers that are more interested in shaped power, but the utilities are also interested in it. The entire market is moving in that direction.

I agree with Tristan. That is where we can start seeing some margin increases by providing a greater service and getting paid for it. I think the utilities are starting to recognize that there is real value to their ratepayers and even shareholders from working with companies like Tristan’s and mine to have more flexible offtake arrangements. It may be we end up just being a base-load supply. How we get there is up to us, and they just contract for the supply.

Storage

MR. MARTIN: Let me ask one more question of Tristan and Mike, and then we will go to Tom Kiernan, and then I want to go to the audience. The last question is about storage. It is being adopted much more quickly than people expected. How is it changing what you do?

MR. GARLAND: It changes everything. For everything we do now, we analyze the value of storage. The first reaction is “It’s fantastic, go apply it everywhere.” Then, after you run the numbers, you realize, “Hmm, this isn’t that interesting.” But looking at storage over the last seven years, if in 2010 to 2011, it was something like $1,000 for batteries, today it is closer to $200 and, if you keep that trend line going, the cost will come down to a point where the question is where is it best used.

One potential game changer that has not been highlighted enough is the solar rooftop guys are going to start fading a bit in terms of the amount of new rooftops that they are building out, but they still have an incredible opportunity to put in storage in homes and commercial buildings. The margins are much higher. There are five- or six-year payback periods. This activity will affect the market, but will take time to reach scale.

We are looking for major opportunities to help both with our projects by co-locating, and then other places where it is just standalone storage. Batteries will come on fairly strong over time, and then they will hit a wall because they will not be needed as much as the grid gets smarter.

MR. MARTIN: Tristan, let me change the question for you. What percentage of your projects have batteries currently? When do you think you will reach 100%?

MR. GRIMBERT: For contracts we are signing today on the wind side, there is no storage even though we evaluate it every time. On the solar side, it is about 50%. Starting 2020 and 2021, we should start to see utility-scale batteries being added to wind.

On the distributed side, we went from zero a year ago to about 40% to 45% of all the proposals including batteries, and we will have signed five distributed battery-only storage contracts in front or behind the meter on the distributed side before the end of the year.

Storage is a game changer. What I like about batteries is they are complicated. The use case is very important. The chemistry is very important. The energy management system is very important.

Compared to a commoditized solar business, you bring more value. I don’t think the demand for batteries will diminish. The market is suffering currently from what we call a cannibalization. The more wind you put at an interconnection point or the more solar you put on the system, the less value per megawatt hour because everything comes at the same time.

A battery is the other way around. The more batteries you install, the less volatility there is in the supply of renewable energy. By installing larger numbers of batteries, the market can accommodate larger volumes of renewable energy.

MR. MARTIN: Tom Kiernan, we are about four weeks away from the mid-term elections in November. How could the election results affect the wind industry?

MR. KIERNAN: A couple thoughts. If the House flips, the partisan tension will continue, but there is latent interest in an infrastructure bill both on the Republican and Democratic side and by the president. We need to keep working as an industry with the Hill to see if there is room for some form of infrastructure bill that deals with transmission.

Maybe the odds for an infrastructure deal go up slightly.

Second, while obviously we have some disagreements with the president, whether it is on promoting coal, a nuclear bailout and other issues, we are doing a fair amount with Secretary Zinke at the Department of Interior both on offshore wind and on the permitting and regulatory side. That should continue.

MR. MARTIN: Those are two places where the Trump administration has proven an ally for the wind industry: offshore wind and permitting. Kevin Brady, the chairman of the House tax committee, says he wants to take up an extenders bill in the lame-duck session after the election. The Republicans very much want to put through some technical corrections. They rushed the last tax bill so badly that there is a lot of cleanup to be done. Do you see anything that might be done in this context to help wind?

MR. KIERNAN: Yes. I think everybody is trying to figure out the dynamics and different scenarios depending on how the election unfolds.

There is the potential for a storage investment tax credit. There is a Heinrich-Heller bipartisan bill on the Senate side to promote storage that would be helpful for wind and solar. That is something that we are pushing. It could potentially be done in lame duck or could be done in the next Congress. There is an opportunity for the industry to go on offense to get a storage ITC.

MR. MARTIN: Any audience questions?

MR. CARGAS: Jack Cargas from Bank of America Merrill Lynch. Is there a possibility of another extension in the construction-start deadline for wind projects to qualify for production tax credits?

MR. KIERNAN: That is not something we are pushing. As we said during tax reform, a deal is a deal. We got the phase out we asked for earlier. We want that protected as well as the four-year IRS guidance and the 10-year period to claim PTCs. We need to protect all of that.

There may be some things we can do on the margin. We have been working with Senator Cantwell and others who are looking at some type of improved usability of the 60% and 40% PTCs. She has some language, and we are talking with others, too. There may be ways of optimizing the PTCs as we go down to 60% and 40%.

MR. OSHA: Joe Osha from JMP Securities. Returning to storage, have you have seen anything other than lithium ion used? Has there been any interest in flow batteries? Are all the numbers to which you referred for lithium ion?

MR. GARLAND: We see a few flow batteries and compressed air storage getting installed, but the vast majority of what we look at is lithium ion. The quotes we receive for the other technologies are still not competitive.

MR. GRIMBERT: Ditto.

MS. BARROW: Deanne Barrow with Norton Rose Fulbright. The Federal Energy Regulatory Commission just made reforms to its generation interconnection process and some might benefit storage and the co-location of storage with wind, particularly storage that can use surplus capacity from existing wind farms. Do you think that will lead to more projects and more storage?

MR. GARLAND: The big issue is price. Where can you make the economics work? We think you can probably qualify batteries if you still had the Treasury cash grant for wind projects, but if you don’t, you are at a disadvantage compared to solar where an investment tax credit can be claimed on not only the solar project, but also the battery.

MR. GRIMBERT: That is one aspect. There are two other aspects. When you do a battery on solar, you can charge your battery with your surplus energy. Basically your battery has 105% efficiency. The second thing is that solar is very predictable. You have a cycle a day. By adding a battery, you simply extend the period during the day that you can supply solar electricity.

The problem in wind is that if you have five days of wind. You have loaded up the battery after six hours, you wait for four days, and then you have five days without wind. So you unload your battery for six hours, and then you are done.

The problem is that wind is not as predictable. Wind has a tremendous advantage because there is not so much cannibalization on price of wind on wind. You have more diversity. That is great, but that does not make it as palatable to battery storage.

Battery storage will grow with solar first, and we will find areas like the Texas panhandle where storage makes sense for wind, but most of the activity in the next five years will be in solar.