It would be difficult to overestimate the impact that corporate procurement of renewable energy, primarily through power purchase agreements (PPAs), has had on the overall renewable market. In less than a decade, renewable energy created from corporate PPAs went from zero to more than 13 gigawatts in the U.S. alone. Microsoft is one of the largest players in this market, beginning with a 110-megawatt wind project in Texas in 2013 to a portfolio of more than 1.2 gigawatts in six states and three continents.
This rapid growth, both within our portfolio and beyond, is because these deals are good for business. Renewable energy agreements help companies meet sustainability commitments customers increasingly expect and – if structured properly – do so in a way that provides a hedge against the risk of rising electricity costs on the open market. The fuel for renewable energy projects – the wind and the sun – are free, enabling a fixed price over the length of the agreement. However, as the market has matured, it’s become clear that other risks and complexities exist within the PPA structure that may inhibit their effectiveness as risk management tools. The failure to simplify this complex process and mitigate the risk assumed by the buyer could endanger the corporate procurement market, causing it to slow or stall out completely.
We want to see continued growth of renewables. That is why today, Microsoft and REsurety, along with their partners at Nephila Climate (“Nephila”) and Allianz Global Corporate & Specialty, Inc.’s Alternative Risk Transfer unit (Allianz) announced a new solution that mitigates those risks. We’re calling it a volume firming agreement (VFA), and Microsoft, in addition to co-developing it, will become the first adopter.
The concept of a VFA has its roots in late 2010, when Nephila Capital approached several of the first corporate renewable energy buyers with the idea of helping them manage the risks inherent in PPAs. At the time, however, the idea was just that. Unable to find a corporate buyer willing to put in the effort to help co-develop what would become the VFA, Nephila elected instead to sponsor an MBA project at the Tuck School of Business at Dartmouth College, led by Lee Taylor. Upon graduation, Taylor turned that concept into a company, REsurety. In 2016, Nephila and REsurety finally found that corporate partner in Microsoft, when we signed a PPA with Allianz for the output of the 178-megawatt Bloom wind project in Kansas. This was the first Proxy Generation PPA, winning honors as North American Wind Project of the Year, and laying the groundwork for today’s VFA.
VFAs are intended to be a simple fix to a big challenge with renewable energy PPAs, namely that these deals expose the buyer to all the weather-related risks of power production, and the inherent intermittent nature of wind and solar means there are hourly issues to be addressed. Put simply, the power needs of buyers are static but the power from the project varies on a day-to-day, hour-to-hour basis.
While it’s true that the fixed-price nature of PPAs provide the buyer some protection against a long-term increase in price, the hourly variability of wind and solar creates near-term complexity and risk. In periods when the wind or solar project is producing more than average, the market value of this energy is often lower due to the impact of additional supply in the market. Conversely, in periods when it is producing less than average, the market price is often high. In other words, volume and price move inversely. This variability and the financial impact are difficult for even the savviest energy buyers and a substantial deterrent to smaller companies, as well as retailers, looking to engage in the renewables market.
But what is undesirable to buyers is very attractive to others, namely insurance companies whose core business revolves around taking weather-related risks, including temperature, rain, snow, wind and so on. VFAs effectively remove the risk related to how future weather conditions will impact the financial value of a PPA from buyers and reallocates it to people who want that risk.
As the market for VFAs and similar products grow, we believe it will create new incentives for those who now bear these risks to procure storage resources and other assets capable of physically balancing the intermittency of renewables. Through the aggregation of risk, these insurers will be able to procure resources at economies of scale that even Microsoft is unable to achieve. In that way, today’s financial firming solution is tomorrow’s physical firming solution, accelerating the adoption of storage and other resources required to eventually transition to a 100 percent carbon-free power generation system.
VFAs are not a replacement for PPAs, nor are they a product Microsoft is selling. They are contracts that simply sit atop new PPAs, or existing PPAs, mitigating the risk to the buyer. Microsoft has signed three of these contracts with Allianz, in conjunction with their partners at Nephila, covering three wind projects in the U.S. in Texas, Illinois and Kansas, totaling almost 500 megawatts. As Microsoft continues to purchase renewable energy to power our operations, we anticipate utilizing VFAs to firm the energy and match our consumption on an hourly basis.
At Microsoft, we are committed to driving a more sustainable future beyond our own four walls. That is why our corporate energy commitments are far broader than just megawatts. We intend to support and enable the transformation of the energy sector using our buying power and innovations so everyone can benefit. REsurety is also focused on enabling the growth of renewable energy by providing tools to understand and manage risks.
The partnership between our two organizations leverages deep expertise in markets, risk and the challenges buyers face in these markets. That is why we’re confident that innovations like the VFA will make it cheaper and easier to procure renewable energy, enabling corporate buyers of all sizes, as well as retailers, to play a role in enabling the transition from fossil fuels to clean energy.
We invite other corporate buyers to take a more in-depth look at our white paper expounding on the role of Proxy Generation PPAs in the implementation of VFAs, co-authored by Microsoft, REsurety and Orrick, Herrington and Sutcliffe LLP, available today here, or contact us. We’re looking forward to a future where even more corporations can participate in the renewable energy market, which would be a big step toward a low-carbon future for the planet.