Why are power purchase agreements essential for renewable adoption?

(Photo by Matthew Henry on Unsplash)

Contributed by Rose Morrison

Innovation is the key to decoupling the world from fossil fuels, but it’s not enough to spur widespread renewable energy adoption. Green power generation is a business, so it must be commercially viable. Various technological breakthroughs fail because they’re unattractive investments for energy producers and end users. Power purchase agreements (PPAs) represent a win-win solution.

What is the purpose of a power purchase agreement?

A PPA is a contract between a renewable energy supplier and an energy buyer — off-taker — establishing a financial framework for selling and purchasing clean electricity. Renewable energy suppliers develop, own, operate, and maintain green power infrastructure. They can be independent power producers, utility companies, or cooperatives. An off-taker — which could be a government agency, corporation, educational institution, or individual — purchases the green electricity the power producer generates.

Partnering with a buyer gives the renewable energy supplier a reliable source of revenue and ensures the green electricity it generates becomes profitable. This procurement agreement also makes securing funds to finance a project through third-party investors and lenders easy.

Committing to buying electricity from a renewable energy supplier helps a customer decarbonize without dealing with the risks of managing a solar, wind, hydro, or geothermal power generation facility, which can be complicated and hazardous. This arrangement uncomplicates the path to sustainability.

Without PPAs, renewable energy projects become riskier due to high exposure to merchant markets in jurisdictions promoting less regulation and more competition to drive down electricity prices. By participating in the wholesale market to sell power, independent producers must stomach these swings and put up with below-expectation cash flow. PPAs allow them to reduce merchant risk and enjoy financial certainty.

The renewables industry is entering the market integration phase, triggering governments to phase out regulatory incentives. Subsidy-free project developers and investors can use long-term fixed-price contracts to secure steady revenue streams and use annual price escalation to offset inflation. PPAs enable power producers to access capital more easily while sparing end users from the complexities of green electricity production.

Types of power purchase agreements

PPAs can be long-term or short-term, fixed-price or indexed, and physical or virtual:

• Long-term contracts: They guarantee revenue streams for decades, which helps ease the apprehensions of investors and creditors.
• Short-term PPAs: These contracts are a new concept to spread the risk between the supplier and the end user. They let both parties renegotiate terms more frequently with prevailing market trends in mind. This way, stakeholders can address and minimize the financial impact of the ever-changing renewable energy landscape.
• Fixed-price PPAs: These arrangements allow buyers to lock in an electricity price, reducing worry about market volatility throughout contract durations.
• Indexed PPAs: These contracts stipulate that the clean electricity price should follow a specific market index’s movement. Although the cost of electricity generated using solar photovoltaics dropped by nearly 89% from 2010 to 2022, it’s still subject to cost swings. These PPAs ensure the expense reflects the influence of market drivers like inflation. They can shield green power producers from losses, keeping their assets profitable.
• Physical PPAs: They require energy production to be near the end user. The producer must deliver power on-site directly or feed it within the same grid. These arrangements entitle buyers to clean electricity output but render power occasionally unavailable due to infrastructure maintenance and repairs.
• Virtual PPAs: Also called Contracts for Difference, these deals don’t involve physically delivering clean electricity to the buyer. A renewable energy generator sells green power wholesale, which the end user can purchase for a fixed price. Producers reimburse the difference when the open market price for electricity exceeds the PPA, while the customer pays the producer when it’s the other way around.

What are the downsides to PPAs?

The drawbacks to PPAs are regulatory compliance, renewable energy technology limitations, and market uncertainties. Governments regulate them differently because laws change per state, so what legally applies in one jurisdiction may be insufficient in others. Only some regions are friendly to PPA, so implementing them in other areas can be challenging or more expensive.

Regulatory Compliance

Take Massachusetts, for example. The Bay State permits PPAs, but proponents must overcome unique regulatory hurdles to construct and operate solar power installations. A significant portion of the Commonwealth’s undisturbed land is space marked for conservation, so the proposed solar farm sites will likely border protected areas.

Legal advice from construction environmental regulation attorneys familiar with a state’s specific policies is necessary. The Department of Environmental Protection — the state’s ecological enforcement arm — can observe additional rules to supplement federal laws like the Clean Water Act and the Pollution Prevention Act to avoid costly and reputation-damaging violations.

Construction stormwater pollution control failure is a common infraction solar developers and contractors commit. In April 2020, Attorney General Maura Healey sued Dynamic Energy Solutions, LLC, and accused the developer of violating federal and state laws safeguarding wetland resources after building a hillside solar array above the West Branch Mill River.

The project allegedly uprooted trees, caused soil erosion, damaged streambeds, altered 97,000 square feet of wetlands, and covered the bottom of the river with more than an acre’s worth of sediment. The accused agreed to settle for $1.14 million less than a year later.

Moreover, the eligibility of PPAs is questionable in towns served by municipally owned electric companies. Public entities — including state agencies, authorities, and academic institutions — must prioritize investor-owned utility territories where PPAs are permissible to face fewer legal issues.

Renewable energy technology limitations

Renewable energy sources are generally less reliable than fossil fuels regarding availability and predictability. Clouds and time of day limit conventional solar power generation. Nearly 40 years of data show solar and wind resources are insufficient to meet national electricity demand fully in 42 countries. At best, these renewables can satisfy power requirements in up to 94% of hours with the aid of 12-hour electricity storage. The remainder represents hundreds of hours of unmet electricity demand a year.

Conversely, coal and natural gas are not subject to such conditions. Despite the strong push for sustainability, fossil fuels remain in demand because they’re more readily available and can produce a predictable amount of electricity as necessary.

Various space-based solar initiatives — such as Caltech’s Solar Space Power Project and the European Space Agency’s SOLARIS — aim to make renewable energy more reliable. Decoupling from greenhouse-gas-emitting fuels entirely may be less feasible until space-based solar bears fruit, leading to commercially viable and scalable energy production solutions.

Due to the intermittent nature of present renewable energy sources, it’s almost a guarantee that the equipment owner will generate inadequate green power from time to time. Under-delivering supply can affect the producer’s revenue and inflate the buyer’s electricity bill.

Market uncertainties

Energy producers and consumers are at the mercy of market forces. PPAs can become less investment-worthy when tax credits dry up. Policy shifts can create new green electricity production and purchase hurdles, disincentivizing stakeholders to pursue sustainability.

Case studies: Northumbrian Water Group and Crown Holdings

Northumbrian Water Group has entered into a 10-year corporate PPA with Danish wind developer Ørsted — the first of its kind in the United Kingdom. The deal enables the British water and sewerage service provider to source 30% of its additional renewable energy from the Race Bank offshore wind farm. Aside from having access to clean energy for a fixed price for many years, the agreement helps drive down Northumbrian Water Group’s operational costs and permits it to report no carbon emissions for that electric supply.

Meanwhile, Crown Holdings has inked a 15-year virtual PPA with Enel Green Power España. The contract entitles the metal packaging manufacturer to 70% of the expected 285,100MWh annual output of a photovoltaic power station in Badajoz, Spain, scheduled to operate in October 2025. The arrangement allows Crown to decarbonize its current operations in countries within the Alliance of Issuing Bodies — the organization overseeing the European Energy Certification System.

Are PPAs legal in the United States?

PPAs are legal in some parts of the U.S. As of November 2023, at least 29 states — along with Washington D.C. and Puerto Rico — permit residential third-party PPAs for solar PV. Arizona, Arkansas, Colorado, Nevada, Texas, and Virginia authorize such deals but impose system size restrictions, or limit them to particular sectors, tax-exempt entities, or specific customer types and utilities. The Database of State Incentives for Renewables & Efficiency says Florida, the Carolinas, Alabama, Kentucky, and Kansas disallow or have legal barriers against PPAs.

A state’s authorization doesn’t necessarily apply to all jurisdictions within its borders. Municipal utilities may bar PPAs, while investor-owned utilities may welcome them.

Are PPAs sustainable?

A carbon-free world is less attainable without PPAs. Reimagining them when the situation calls for it matters. Creative ideas like sleeved agreements — mixing the merits of physical and virtual PPAs — prove overcoming geographical constraints and regulatory hurdles is possible.

No single PPA version can help the world lay off fossil fuels. Exploring every avenue to balance innovation and business is imperative when new barriers to renewable energy adoption arise.

About the author

Rose Morrison is a freelance writer with a passion for sustainable building and innovative construction technologies. She has interviewed dozens of industry professionals to gain insight into the current challenges facing the built industry and the strategies for overcoming them. Rose has more than five years of experience writing about the industry and is the current managing editor of Renovated.com. She also regularly contributes to other publications, such as NCCER, The Safety Mag, and Geospatial World. For more from Rose, you can follow her on Twitter.