How does “Renewable Energy for the Future” emerge with an added sense of vitality and gravity post-COVID?
In early September, M&T Bank hosted the fourth roundtable discussion in our ongoing series, Managing Through Challenging Times. The discussion, which was moderated by John Eliason, Partner and Co-chair of the Energy Industry Team, at the law firm of Foley & Lardner LLP, focused on the outlook for the renewable energy market through the end of the year, disruptions this sector has endured and its future direction.
The panel featured:
- Eric Heintz, Director of Energy Finance, M&T Bank
- Will Marder, Managing Director and Head of Project Finance Agency Services, Wilmington Trust
- Dr. Tom Rowland-Rees, Head of North America Research, BloombergNEF
- Thomas de Swardt, Executive Director of M&A and Finance, D.E. Shaw
The Energy Connection: Natural Gas, Oil and Renewables
Dr. Rowland-Rees started by sharing a macro retrospective on what has been happening in the U.S. energy markets over the past eight years. “We have seen coal be replaced largely by natural gas and a small number of renewables as the main sources of power generation in the United States. And, given the amount of cheap gas available, it’s been challenging for renewables to complete,” he said.
Rowland-Rees talked about the relationship between gas and the power market as a whole and explained that when gas is prevalent in the energy mix, the price of gas often sets the price of power. Given this dynamic, the outlook for gas impacts the outlook for renewable energy. Delving more deeply, Rowland-Rees highlighted the relationship between oil and gas, as 30% to 40% of gas consumed in the U.S. is a byproduct of oil-drilling.
Looking at today and tomorrow, Rowland-Rees discussed the recent spike in gas natural prices and fluctuation in the oil prices. In regard to what direction the markets will move in terms of future pricing, he highlighted the importance of understanding the role that foreign actors such as OPEC play and keeping a close watch on their behaviors. Pivoting back to make the connection with renewables, Rowland-Rees explained that higher prices for both gas and oil would represent an opportunity for the renewable sector.
“If organizations like OPEC create uncertainty around the supply chain, and that chain is broken, we would expect there to be higher gas prices in the long term, higher power prices and a bigger opportunity for renewables developments.”
In the Trenches: Market Observations
De Swardt shared a short explanation of the general business model for a renewable energy company such as a wind farm or solar farm. “You make your revenue by selling power. It’s a pretty interesting asset class in one meaningful respect in that we don’t pay for sunshine, we don’t pay for wind,” he stated. He then explained that renewable energy commonly is an asset class with very low operating costs.
Building on that, de Swardt pointed out that because most renewable energy companies enter into long-term purchase agreements or contracts with utility companies based on megawatt-per-hour pricing determined by engineers, revenue streams usually are predictable. Which, in turn, can make renewable energy an attractive asset class for investors and lenders seeking stability.
“Banks really like to provide capital to this kind of asset class because it’s generally pretty low risk. The ultimate risk is a utility paying for the power. Again, there are very low operating costs, so it tends to be a fairly financing-intensive industry.”
de Swardt then spoke about the concept of tax equity in renewable energy financing. The concept of tax equity enables investors to allocate equity capital to a renewable energy developer (or “sponsor”) in exchange for anticipated tax credits. Investors can work directly with sponsors or through third-party syndicators with expertise in these types of deals.
At this point, Marder joined the conversation to share Wilmington Trust’s perspective on what experts there have been watching in the markets in terms of deal-making and financing. He added that the firm has been following several key trends over the past three years as the renewable energy market has shifted.
“Our deal flow has been in wind and solar, but we’ve seen a little bit of geothermal, hydro, some landfill gas and maybe the odd methane-capture kind of transaction. But much of the growth has been in wind and solar. Solar has been especially strong. As a component, solar has really outpaced wind considerably.”
Marder moved on to discuss how capital for investments in renewable energy is primarily stemming from bank loans and bonds. Further analyzing those sources, bond financing has accounted for roughly 10% of renewable energy deals. Beyond bank loans and bonds, back-leverage financing, traditional power purchase agreements and corporate off taking (in which renewable power is physically delivered to a corporate buyer) represented other key sources of deal-making in this sector.
Overall, Marder felt bullish on where current and future prospects for renewable energy markets currently. “We’re seeing good activity among lenders, the traditional players, further supplemented with increased activity from regional U.S. banks and continued strength of infrastructure debt funds.”
Tax Equity and Impact of COVID-19
The discussed then turned to a segment led by Heintz on the topic of tax equity and the impact of COVID-19 on renewables.
Heintz said that while COVID-19 has had a minor negative impact on the industry, he felt that the supply of tax equity will be a larger issue for the renewable energy sector going forward. “As we look into the fourth quarter, if you’re a sponsor, it’s very challenging. And if you haven’t found capacity for this year, it’s pretty late to the game. Even looking into next year, it’s challenging to find capacity in the marketplace.”
de Swardt agreed with Heintz’s point on the supply of tax equity. “When you’re planning a wind farm or a solar farm, it’s a two- to five-year planning cycle. It can be very challenging to get the financing in place without the tax equity spoken for and committed 12 or 18 months in advance,” he said.
Building on this point, de Swardt explained that sponsors have been responding to the tax equity challenge by shuffling their tax credits earnings between years, for example pushing a project to start on January 1, 2021 versus December 31, 2020.
Continuing the discussion, Eliason asked Marder to share his thoughts on how environmental challenges such as wildfires and hurricanes have impacted renewables.
Marder pointed out that California energy provider PG&E’s bankruptcy exposed the antiquated nature of the country’s transmission assets are, which in turn has raised investors interest in distributed-generation assets. He added that Wilmington Trust’s current portfolio has not seen any direct impact from the PG&E bankruptcy.
To close the discussion, Eliason asked the panelists to share their thoughts about the future of the renewable energy market.
For Rowland-Rees, three main points are important to consider: the upcoming U.S. elections; uncertainty related to the future of shale; and, lastly, the price of natural gas. Looking specifically at building and construction around renewables, Rowland-Rees expects to see record levels of development next year.
“We’re expecting to see record levels of build in the U.S., despite all of the challenges. The question is can that get financing, but the potential is certainly there. I think that 2021 is going to be an extremely interesting and potentially groundbreaking year.”
Please review the content discussed in this important webinar and reach out to your Relationship Manager or contact Eric Heintz directly at (240) 632-7880 for questions regarding the challenges you may be facing during these unprecedented times. Be sure to revisit our Managing Through Challenging Times microsite at mtb.com/managing to access other episodes you may have missed within our series.
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