Flawed Rules May Sink Small Calif. Renewable Projects

In December 2010, the California Public Utilities Commission (CPUC) issued a decision with considerable fanfare that was intended to provide for the development of 1,000 MW of additional new renewable generation and provide California’s large investor-owned utilities (IOUs) with additional flexibility in complying with California’s Renewables Portfolio Standard (RPS) requirements. Unfortunately, it is likely to have the opposite effect.

In adopting the new program, called the Renewable Auction Mechanism (RAM), CPUC President Michael R. Peevey stated, “[by] creating this renewable energy auction, California’s utilities can take advantage of a market segment that has generally gone overlooked but has the potential to make significant contributions to our renewable energy goals.”

The new RAM process is intended to reduce transaction costs, promote regulatory certainty, stimulate additional development of RPS-eligible projects 20 MW and less, and provide additional value to utilities and California ratepayers.

Unfortunately, the CPUC’s decision fails to provide developers and utilities with the flexibility necessary to adapt to the complexities of the market. As a result, unless the rules and requirements are changed in significant respects, the RAM is likely to increase transaction costs, increase regulatory uncertainty, reduce the incremental renewable generation likely to be developed to levels well below the CPUC program target, and push renewable prices higher than would otherwise be necessary.

Flawed from the Start

The RAM program went badly awry from the start. The CPUC should have adopted a flexible program that provides developers and utilities with an additional, more efficient, and lower-cost way to secure the commercial agreements and regulatory approvals necessary to finance and construct new projects in a timely way. Instead, its decision mandates exclusive use of the new RAM auction process for IOU procurement of renewables between 1 MW and 20 MW in capacity and precludes bilateral negotiation of agreements outside of the RAM.

Eliminating the existing and commonly used practice of bilateral negotiation for accommodating market conditions, which often vary from project to project, significantly reduces the flexibility available to developers and utilities. The ban on bilateral agreements for projects 20 MW and smaller also puts in limbo a number of pending projects for which power purchase agreements are under negotiation but not yet signed.

The ban on bilateral agreements would not be a fatal flaw if sufficient flexibility were provided within the mandated RAM process. Unfortunately, RAM rules and requirements are highly prescriptive and anything but flexible. In addition to the uncertainty regarding which requirements pending projects currently under negotiation must meet, the CPUC’s decision establishes a number of very prescriptive requirements for new agreements. The CPUC requires every project under the RAM to meet certain “viability” screens and development milestones to remain eligible:

• They must demonstrate site control upon bid submission.
• They must demonstrate that the project developer has prior experience with similar projects.
• The project must involve a commercialized technology.
• An interconnection application must be submitted by the time the bid is submitted.
• The project must begin commercial operation (COD) within 18 months of contract execution, with one potential six-month extension for regulatory delays.

The 18-month COD requirement significantly limits the projects that can be developed under the program. It will be difficult or impossible for developers with projects requiring transmission upgrades to meet this requirement. As a result, many projects proposed for some of the most promising renewable resource areas in California have been effectively eliminated from consideration. Even where no such upgrades are necessary, it could take more than 18 months to obtain an interconnection agreement under the Self-Generation Incentive Program, depending upon the date an application is filed and the timing of the California Independent System Operator’s (CAISO’s) annual interconnection “cluster study” process.

The 18-month COD requirement may also preclude larger projects that require review under the California Environmental Quality Act (CEQA) from qualifying. That’s because negative declarations under the CEQA generally take at least six months, and environmental impact reports at least 12 months, leaving little time to obtain other necessary permits and complete construction. Certain smaller projects that qualify for transmission interconnection under CAISO’s “Fast Track” process and do not require review under the CEQA may be able to meet the COD requirement, but such projects are likely to be rather limited.

There’s Still Hope for Revision

Market realities and the overly restrictive rules and requirements of the RAM will limit the pool of projects able to bid into the program. This will inevitably reduce competition, potentially significantly so, and drive prices higher than would otherwise be necessary.

Numerous applications for rehearing and petitions for modification of the RAM decision have been filed with the CPUC by developers, industry associations, and the IOUs. Whether the CPUC will see fit to revise the program to better reflect market realities and provide developers and IOUs with more flexibility remains to be seen. If it does not do so, the CPUC’s RAM decision is almost certain to have the opposite effect of what was intended.

— Edward W. O’Neill ([email protected]) is a partner in Davis Wright Tremaine’s Energy Practice Group.