A New Framework for Renewable Energy Projects

By Clyde E. "Skip" Rankin, III, Baker & McKenzie, LLP

THE RENEWABLE ENERGY INDUSTRY HAS matured significantly over the past several years. It is clear that renewable energy is now a significant element in the overall strategy for addressing the world's energy needs. The year 2007 and beyond will pose new challenges for the renewables industry and will test some of the foundations on which the industry has been built.

Several industrialized nations have targeted renewables to generate upwards of 20% of electrical power over the next several years. Such targets are being set by the European Union and certain Pacific Rim countries. In the United States, twenty-two states have adopted renewable portfolio standards. While we have yet to adopt a national standard, a proposal to establish a national standard of 15% by 2020 is gaining favor. According to the Department of Energy's Energy Information Administration, renewable resources produced 2.3% of the US electricity supply in 2005. This is in contrast to coal-fired generation which produced 49.7% of US electricity in 2005, followed by natural gas at 19.1%.

Many existing renewable energy projects rely extensively on subsidies (federal tax or local utilities) to compete favorably with fossil fuel generation. It is time for the renewables industry to set a new standard and to build the next generation of projects utilizing more efficient technologies supported by creative financial structures.

Wind power has enjoyed the most dramatic success stories over the past 10 years, and has become a global industry. In 2006, global wind power capacity increased by more than 15,000 MW, setting an installation record. All indications point to a global growth rate of 25% in 2007, which would increase the number of installed megawatts globally to over 92,000 MW. The leader for new installation of wind projects in 2006 was the United States, followed by Germany, India, Spain and China. Future wind project development is likely to include significant offshore projects, beyond the existing facilities in the UK and Sweden, to include Denmark, the Netherlands and Belgium.

Competition is intense for ownership of turbine manufacturers – witness the ongoing competition in Europe for control of the small German wind turbine manufacturer, REpower Systems. In addition, manufacturers of transformers, such as ABB, are increasing their capacity to meet market demand. The shortage of turbines and high cost of raw materials are likely to result in the continued escalation of prices for turbines, at least in the short term.

In addition to wind, new breakthroughs in technology appear likely to boost solar power generation, which currently accounts for less than 1% of the world's electrical generation. The new technology, concentrating solar power, should assist in bringing generation costs of solar energy more in line with those of conventional power plants. Currently, solar plants need government support to be viable, either in the form of tax incentives or subsidies to purchasers of such energy. The advent of renewable energy credits, and the development of sophisticated trading markets for such credits, will likely provide an additional revenue stream to developers of solar projects as businesses and utilities look for ways to meet greenhouse gas reduction goals.

In Europe, major companies are devoting significant amounts of money to the development of solar energy facilities. In addition to the development of large commercial facilities, growth is also likely to continue in the homeowner market, which utilizes the more traditional solar panels.

Biomass is currently the largest source of renewable electricity production in the US, although it does not receive significant press coverage. Biomass plants are typically small in size, and thus the cost of generating electricity is somewhat high. Many industries have become incentivised to convert their waste to electricity, and thus it is likely that we will see the construction of more biomass projects in the near term. The largest generators of biomass power in the U.S. currently are pulp and sawmill companies, but other industries are looking into the development of such facilities.

Geothermal is also beginning to gain greater favor in many parts of the world. Australia, Iceland and Germany are poised to expand geothermal exploration in the short term to achieve their national targets for the production of energy from renewable sources. Recent studies have demonstrated that geothermal operations can be competitive with modern gas-fired plants, particularly with new drilling techniques. In the short term, support policies will be needed to continue the research for technological breakthroughs in order to sustain the growth of this particular source of renewable energy.

The financing of research and development, as well as the continued construction of renewable energy facilities, will challenge the capital markets over the next several years. As with many new industries, there is likely to be a consolidation in the number of significant players, and financial institutions will be challenged to select the long-term industry movers, as opposed to the short-term players.

New financial structures will need to be developed to keep the cost of financing low to sustain the competitiveness of the renewables industry. Creative hedging techniques to address market fluctuations in energy prices will be required to sustain long-term projects, and financial support for the developers will be needed in order to fill the pipeline of new projects required to meet the renewable energy standards that have been adopted by governments.

The industry is poised to advance to the next level of maturity. The market forces appear favorable, and the public demand for this source of energy has never been higher. The challenges for the industry are significant, but the leadership appears ready to launch a new generation of renewable energy facilities to contribute to the implementation of a new energy strategy.