3 Types of Solar Power Purchase Agreements (PPAs) Explained

Power Purchase Agreements (PPA) are often the most accessible and effective way for an organisation to procure large amounts of renewable energy.

A Power Purchase Agreement is an agreement between a power generator and a power purchaser, sometimes referred to as the “off-taker”, usually for the sale and supply of renewable energy.

PPAs are usually for a specific purpose such as to purchase solar or wind energy, and they serve to avoid the capital cost and risk of building a solar system.

In Australia, three types of PPA are common: onsite PPA, sleeved PPA, and synthetic PPA.

It is important to note that the Off-Site PPAs are only available to customers who have ‘contestable’ retail choice, which in Australia, are most companies who use over 160MWh per year per NMI.

1. On-site PPAs 

This is when the system is installed on your site free of charge and you are billed for the power that the system generates directly into your daytime needs. This is usually at a cheaper price than your aggregated electricity price from your energy retailer.

Benefits of Behind-the-Meter PPAs

• Behind-the-meter PPAs are great for onsite generation as they offset the most amount of costs from the energy bill. This includes cost reduction to Energy, Network, Environmental and Taxes typically charged through the kWh, KVA prices on retail energy bills. The solar PPA is usually significantly cheaper than these combined costs. This is particularly valuable to customers with high demand costs that occur during sunlight hours.
• On-roof construction means that the owner most often ends up owning the system without any cost to the business at all.
• These types of PPAs can suit any business of any size, regardless of consumption size or capital cost.
• These PPAs can incorporate other capital works programs such as roof restoration and carpark solar structures.

Risks of Behind-the-Meter PPAs

• There is a chance that the PPA contract price may, at some point, be higher than the grid price, and there is not normally a price reset mechanism.
• Unscrupulous PPA contracts may have significant balloon payments or high exit fees which can impact the business later in the project lifecycle.
• If the customer is renting or moving out of the site, transfer of the asset to a new tenant may be difficult and the system may need to be removed.

2. Retail-Sleeved PPAs

This is an agreement between the wind or solar farm and an energy retailer, which then passes on the renewable generation through a retail agreement for all your electricity needs.

The PPA matches the renewable energy supply to your load at that exact time of generation.

The benefit of this structure is that the retail electric supplier takes on the market risks associated with wholesale electricity and the customer gets a fixed price for the energy.

This does require a long-term agreement with the retailer, usually this is a minimum of 7 years.

Benefits of Sleeve PPAs

• The Retailer assumes the market (price), volume and shaping, and basis risks which may not reflect the current market as they are pricing for uncertain future markets.
• Long term, fixed rate for power allows the business to forecast and predict their power prices for a longer term than the average retail contract. Which gives control over power-pricing relationship vs. paying a tariff set by the utility reset every 1-3 years.
• Easier verification that energy is procured from a particular renewable source, helping the business satisfy its RE aspirations.
• No upfront costs or capital expenditure requirements to the installation or building of a solar farm.
• Branding rights over solar farms indicating that your organization is driving the construction of new RE projects.

Risks of Sleeve PPAs

• The contract involves three parties — Energy Buyer, Utility & Solar Farm. Which can be difficult if you are dealing with a hostile retailer.
• The buyer must pay the utility a fee for management, and network fees sometimes called a ‘sleeving fee’

Black or Bundled PPA

Green or Renewable credits such as LGC’s are claimable on energy generated from renewable sources. Some PPA off-takers prefer to claim these credits to reduce their obligations for carbon reduction. Bundling these into the PPA can increase the cost but also satisfy the carbon reduction obligations of the organisation.

3. Synthetic PPA - Virtual PPAs 

Typically, these are between large businesses and directly to the renewable generator.

Virtual Power Purchase Agreements (VPPAs) have become an attractive tool for corporate renewable energy procurement. They provide an opportunity to purchase renewables at a meaningful scale, allowing organizations the chance to purchase 100% of their energy as renewable energy via the PPA.

The VPPA is also known as a “Contract for Differences”, the contract structure under which a buyer (or off-taker) agrees to purchase the project’s renewable energy for a fixed price, while the project receives the floating market price for all energy generated.

There are many benefits to Virtual PPAs. However, these contracts have some inherent risks & opportunities that must be identified and understood; For example, if the wholesale market price the project achieves is greater than the fixed VPPA price, the off-taker receives the difference. If the price the project achieves is less than the fixed VPPA price, the off-taker pays the project to make up the difference. In this way, a VPPA is a financial hedge against volatile electricity prices. Typically, the buyer receives the project’s Renewable Attributes, or REC’s/LGC’s/Other, but does not take physical delivery of the energy.

Benefits Of A VPPA Contract

By entering into a Virtual Power Purchase Agreement contract and locking in a low fixed energy price, organizations can realize significant financial gains over the contract term. With the transfer of Renewable Energy Credits (RECs) as part of the Virtual PPA, organizations are able to make legitimate claims around their use of clean energy and carbon reductions. They even have the chance to claim additionality because VPPAs are typically contracted with new renewable energy projects — meaning additional clean energy is added to the grid as a direct result of the power purchase agreement.

Entering into a Virtual PPA as part of your corporate renewable energy procurement strategy provides your organization with excellent benefits, both from a sustainability and a financial standpoint.

VPPAs Can Increase Your Net Present Value (NPV)

A properly structured VPPA can provide significant positive cash flows. As the price of solar has decreased rapidly in recent years, it is now possible to lock in a VPPA rate that is consistently below the projected wholesale market price for power at the settlement location.

Solar Virtual Power Purchase Agreements have the added benefit of producing during periods of higher market prices because solar energy projects operate during the peak price periods in the afternoon. Since wholesale market energy prices are higher during the day, solar projects can sell their energy at a higher market price. With a greater difference between the market energy price and the VPPA fixed price, your positive cash flows increase.

VPPAs Can Be An Effective Energy Hedge

A virtual power purchasing agreement can be very effective at acting as a financial hedge against electricity price volatility. By entering into a Virtual PPA, the buyer is able to lock in a set price for both energy and RECs. 

A VPPA, if well correlated to your retail electricity spend, provides positive cash flows which offset higher conventional energy costs. A position in a long term VPPA acts as an insurance policy against historically volatile and projected rising electricity prices. 

If you are looking to use a Virtual PPA as a hedge, make sure to align your VPPA with your conventional energy supply, both in amount and location. Also, while it is possible to hedge 100% of your energy usage, that strategy is not advised as events including changes in your usage or in wholesale and retail price correlation can make the hedge less effective.

A Sleeved (Direct) Vs. Virtual PPA

If you’ve weighed the risks and benefits of a VPPA for your renewables purchase and are uncomfortable with the level of risk, a sleeved PPA may be a good option to explore. Unlike a VPPA, in a sleeved PPA:

1. a) The buyer does not need to be intimately familiar with wholesale power market dynamics; and
2. b) The buyer is not subject to wholesale power market price fluctuations because the utility bears the market risk.

Additionally, a sleeved PPA is the best renewables purchase option available when the buyer is not set up to be able to purchase balancing power — power that’s needed when renewable energy isn’t available due to weather conditions or time of day.

What Do I Pay?

Between your business and a retailer or generator, you will agree to buy your renewable generation at a set price that is usually fixed for the duration of the contract.

This is not the final price you’ll see on your bills each month – it’s simply the rate that you’ve agreed to pay for the portion of renewable energy you’ve committed to.

Your ‘balance of supply’, how you cover it and at what rate, will also factor into the final price you see on your monthly bill.

Businesses don’t have to simply take traditional fixed-rate contracts, the energy market has opened up more options. If you want to find out more about renewables and how to make a PPA work for your business give our team a call.

Given their nature, sleeved PPAs are much more common in deregulated markets, but they can also exist in regulated wholesale power markets as well.

To discover how your business can take advantage of the flexibility and efficiency of a solar power purchase agreement, get in touch with Smart Commercial Solar today.