Success in the renewable energy sector is largely determined by having a large balance sheet and a small cost of capital. Small developers can do all the little things right and eventually build a large portfolio of operating projects and an attractive pipeline, but at the end of the day the big utilities will have their way. But does it have to be like this? Economics teaches us that young, fragmented industries eventually experience consolidation, but is it possible that one or more of Canada's renewable energy minnows could become a shark?
Greengate Power of Calgary has been one of the most innovative and nimble power developers in North America. It has the backing of several important institutional investors and through a series of recent deals, President and CEO Dan Balaban has positioned his company for a very bright future.
Despite its friendly business climate, Alberta is not the easiest market for renewable energy developers. The province is home to Canada’s only fully-deregulated electricity market and there are no long-term Power Purchase Agreements (PPAs) to be awarded by public utilities and no Renewable Portfolio Standard (RPS) established by the provincial government. As a result, renewable energy developers must prove the economics of their projects in competition with all other fuel sources such as coal and natural gas, of which the province has abundant supplies. Still, companies such as Enbridge, ENMAX, and TransAlta had recognized and taken advantage of the province’s world-class wind resource and when Balaban founded the company in 2007, Alberta was already home to nearly 400 megawatts (MW) of operational wind projects. Unfortunately, these represented the lowest-hanging fruit and any new wind power would cost more to install.
Like many renewable energy resources, the best of the Prairie winds are not conveniently located near existing transmission lines. Without multi-year contracts to secure financing, any future wind development required making a huge bet on the Alberta Power Pool’s spot price for electricity. Rather than finding the best possible wind resources and hoping that new power lines could be built at a low enough cost, Balaban bet that he could find high-quality wind resources in areas close to the province’s existing transmission infrastructure. The wisdom of this counter-intuitive thinking can be seen in Greengate’s portfolio of development projects that more than offset any deficiency in their wind resource with little, if anything, in the way of upfront capital costs to build new transmission.
Greengate’s second bet was on its ability to find creative mechanisms of obtaining financing for its projects. While Alberta stands out among Canadian provinces by not providing long-term PPAs, it is common practice for public utilities such as BC Hydro and Hydro Québec to retain the rights to any environmental attributes when handing out such contracts. Operating in a deregulated market allowed Greengate the freedom to sell the environmental attributes that would be accrued by the projects that it was developing.
Having identified the potential to monetize their environmental attributes, Balaban and his team scoured North America for a buyer and ultimately settled on California as the ideal market. Under that state’s RPS, local utilities must provide 33 percent of their electricity sales from renewable sources by 2020. Since it is unlikely that such a vast amount of capacity can be added to the grid from domestic sources in such a relatively short timeframe, the RPS regulations allow for up to 25 percent of this electricity to come from out-of-state sources in the form of Renewable Energy Credits (RECs).
In December 2010, Greengate Power reached an agreement with Pacific Gas & Electric of San Francisco. The deal, approved by the California Public Utilities Commission in February 2011, became the third largest sale of out-of-state RECs purchased by a California utility and the first (and so far only) purchase of RECs generated outside the United States. Under the terms of the deal, the physical power generated by the Halkirk I and Blackspring Ridge I projects will be sold into the deregulated Alberta Power Pool, but PG&E will pay for all the RECs the project receives over a 20-year term. Under RPS regulations, these RECs are treated as the equivalent of carbon-free electricity generated within California.
Up to this point in its short life, Greengate Power has played the role of a junior developer — leasing land, testing the resource and navigating the regulatory process before selling to a larger firm with a bigger balance sheet and a lower cost of capital. Indeed, despite the ingenuity the company demonstrated in financing Halkirk I, it has subsequently sold the project to Capital Power.
Balaban notes that this sale proves that there is a significant amount of value to be gained as a developer of greenfield wind energy projects. Of the nearly $50 million in cash that Greengate has added to its balance sheet since late 2010, approximately $33 million has come from the sale of Halkirk I. The rest of the capital has been raised via two rounds of private equity financing that attracted investment from notable U.S. firms NGEN Partners and the Westly Group, as well as Zurich-based SAM Private Equity.
To complete its transition from one of Canada’s renewable energy minnows to one of its sharks, Greengate is focused in the short-term on the construction of its 300 MW Blackspring Ridge I project, which is expected to be commissioned in 2013. Generating cash flow from what is likely to be the country’s largest wind energy facility will put the company on a sound financial footing that offers opportunities for further expansion.
Greengate’s long-term objective is to become Canada’s largest pure-play producer of renewable energy (not just wind power) within the coming 5 to 10 years. Over this period, Balaban expects other jurisdictions across North America to structure their electricity markets to look more like Alberta’s as government’s everywhere seek to reduce expenses and subsidies wherever possible. In this context, Greengate expects to be at an advantage compared to other developers because it has been forced to compete with lower cost forms of electricity.
Attracting investment from international private equity firms is a rare accomplishment for a Canadian developer, but at some point these investors are going to execute an exit strategy and Balaban does not rule out Greengate going public at some point in the future. He is confident that, as the industry matures, more institutional investors will want to get involved as providers of equity rather than just debt. Such a rosy future is far from certain, but given Greengate’s track record of success over the past several months, it would not be wise to bet against the company or its CEO.