What Is a Power Purchase Agreement?
If your company is looking for a way to source renewable energy, a power purchase agreement (PPA) may be a good fit. These agreements allow you to purchase electricity directly from a renewable energy project, lowering your costs and improving your environmental impact.
There are many benefits to signing a PPA, but it’s important to understand what kind of PPA is right for you. Here are some of the most common types:
Cost-effectiveness
Power purchase agreements (PPAs) are a cost-effective way for customers to reduce their energy costs. The customer pays a PPA rate that is generally lower than the utility’s retail rate.
This enables the customer to capture the lowest price available on the market. In addition, the PPA rate often contains a price escalator to account for system efficiency decreases as the system ages; operating and maintenance costs increases; and inflation-related increases in the retail rate of electricity.
Moreover, in many countries PPAs can be used to obtain follow-up financing for power plants after a statutory subsidy has expired.
Long-term contracts have several benefits, including ensuring that the plant operator and financiers can be confident that the proceeds of electricity sales will cover the plant’s investment costs. They also help ensure that the project is sustainable.
Environmental benefits
Increasingly, corporate stakeholders are pursuing net-zero energy commitments and other environmental targets. These ambitions are driving investment in renewable power supply and helping to bolster a growing market for environmental attributes like carbon offsets, RECs, and environmental attribute credits.
Among these environmental attributes, RECs are especially attractive to corporate purchasers because they can verify emission reductions from specific projects and count toward organizational targets. In jurisdictions that do not have a regulatory GHG reduction regime or renewable portfolio standard (RPS), there are a number of voluntary standards that award these credits to qualifying projects.
Consequently, many corporate buyers are looking for opportunities to acquire these RECs or the associated environmental attributes via private PPAs with generators. Moreover, some companies are recognizing that they can use these RECs to help meet their Scope 2 emissions reduction commitments under the world’s leading corporate GHG accounting standard, the GHG Protocol.
Tax incentives
A power purchase agreement (PPA) is a financing option for distributed energy systems. It allows a third party to purchase and operate an energy system on a customer’s property while the customer sells the electric output generated by the system for a set rate over a fixed term.
A PPA can be a good fit for nonprofits and public entities that want to take advantage of federal solar tax incentives. Nonprofits can save on up-front costs and long-term electricity bills by entering into a power purchase agreement with a solar developer that is eligible for the federal investment tax credit and accelerated depreciation.
The federal solar investment tax credit, for example, offsets approximately 30% of the cost of a solar system. The accelerated depreciation tax credit and state incentives can also reduce the cost of installing a renewable energy system. These incentives can be combined with other solar financing options such as property-assessed clean energy (PACE) financing or cash-out refinancing.
Security
A power purchase agreement enables an energy supplier to secure the power it needs for a specified period of time at a fixed cost. A PPA can be a long-term contract or a short-term transaction, and the term length depends on the size of the project and the energy supplier’s business model.
In the regulated world, electricity rates are often the basis of power purchase agreements. A negotiated rate may be flat, escalate over time, or be based on previous costs or forecasts adjusted for inflation.
One of the most enticing aspects of the power purchase scheme is the way in which energy producers can sell a portion of their output to a wholesale market where prices are governed by market rules and regulation. This can be a lucrative revenue source for renewable power plants and an effective means of monetizing their green creds. As energy markets continue to evolve, there is no doubt that renewables will play a larger role in power generation over the next few years.