Renewables Gain Investors as Some Flee Oil, Gas, and Coal

The global crash of prices for crude oil, on top of a prolonged slump in the price of natural gas, is taking a toll on the oil and gas sector. The coal industry also continues to suffer, as the supply of fossil fuels far outstrips falling demand. Investors are seeking safer havens, which could drive growth in renewable energy even as the solar and wind energy sectors try to weather the economic downturn caused by the coronavirus pandemic. The International Energy Agency (IEA) in late April said that while global energy demand is falling—the agency predicts a 6% drop this year, a decrease seven times larger than during the 2008 recession—demand for renewable energy is expected to grow by 1%, with 5% growth in the use of electricity from renewable resources.

Drops in oil and gas prices traditionally were bad news for renewable energy, because lower prices for fossil fuels often spurred their more widespread use. But that is not happening now. Instead, analysts suggest money that would have gone to the oil and gas sector is being directed toward renewables like solar, wind, and energy storage. Analysts with Raymond James & Associates said utilities, noting the drops in demand for power and associated revenue shortfalls, will try to get more electricity from renewables, because solar and wind farms cost less to operate than coal and natural gas-fired power plants.

“COVID-19 accelerates what was already true—the real future opportunities for investment in the energy sector are renewables,” Ken Pedotto, CEO of Solar Simplified, told POWER. “With lower demand for energy in general, this is more evident than ever before.”

Energy Demand Falling

The IEA said total energy demand in 2020 in the U.S. will fall 9% compared to 2019, with an 11% year-over-year drop forecast for the European Union (EU). The agency, along with many energy analysts, predicts the demand decline will predominantly impact fossil fuels; it forecasts an 8% drop in demand for coal this year compared to 2019, the largest decrease since World War II.

“The energy industry that emerges from this crisis will be significantly different from the one that came before,” said Fatih Birol, executive director of the Paris-based IEA, in an April 30 report. Efforts to shift toward renewable energy could be hastened as fossil fuels bear the brunt of the fall in energy demand, while investors move toward solar, wind, and storage projects as their costs fall and more come online. Legal experts have told POWER that as many as 40% of U.S. oil and gas exploration and production (E&P) companies could be out of business by the middle of next year. This comes on the heels of a 2019 that saw dozens of E&Ps make bankruptcy filings.

1. Drilling rigs in the Barnett Shale in Texas have been a common sight for several years, but the U.S. rig count has been in steady decline over the past several months. The number of operating rigs drilling for oil and natural gas in the U.S. fell by more than 360, or 35%, year-over-year from April 2019 to April 2020. Source: Creative Commons/David R. Tribble

“The returns to capital for investments in clean energy have been running between 7% and 10%, whereas some of the investments that have gone into shale (Figure 1) have been a doggone loser,” said Amy Myers Jaffe, senior fellow and director of the energy and climate change program at the Council on Foreign Relations, on a recent “The Interchange” podcast. “I think that when we come out of this crisis, institutional investors are going to remember that.” Companies that have traditionally bankrolled oil and gas projects, such as EnCap Investments, are moving into the renewables space, with EnCap saying it “is pursuing investment opportunities created by the global transition to a lower-carbon energy system,” thanks to “the dramatic reduction in the cost of renewables and electric battery storage.” EnCap and Yorktown Partners, a private equity firm, last year joined to support US Grid Company, noting in a news release that “The investments will decarbonize the power grid through the addition of large-scale battery storage systems, renewable energy projects, and the implementation of other technologies to achieve major carbon reduction.”

Trend Toward Renewables

Rob Freedman, a partner with Shearman & Sterling and one of the firm’s energy industry leaders, told POWER the trend of investors moving from traditional fossil fuels and toward renewables, including storage, will continue. “There are funds that have been oil and gas investors, certainly a lot of pension funds and infrastructure investors, and what I’ve been told is that their investor base has told them to shift to ESG [environmental, social, and governance] assets,” he said. “I think this will become an increasing focus for each PE [private equity] shop.”

Pedotto agreed. “We don’t work with traditional E&Ps, but our renewables partners are more bullish than ever and thinking long-term,” he said. “Obviously, the virus creates short-term challenges [particularly in finishing projects due to material and labor shortages] but the long-term outlook is extremely bullish.”

That does not mean investors won’t continue to look for opportunities in fossil fuels. Adam Rozencwajg, managing partner at Goehring & Rozencwajg, told POWER that a post-coronavirus recovery could have investors looking to support that sector. “Gas E&P stocks will be excellent performers,” said Rozencwajg. “We could go into the winter season with the lowest [natural gas] inventories on record. Given the Marcellus and the Permian have been the only sources of growth for years and that they’re both in decline, the gas story has become much more bullish.”

Freedman said that while the move toward renewables is ongoing, there will still be support for traditional sources of power generation. “I am a believer in a generation mix,” he said. “That generation mix will generally move toward greater and greater renewables as time goes on. To say the world should stop investing in fossil fuels and in a blink of an eye move toward renewables, that’s not realistic, and not where the world is going. But even those states with fossil fuels are pushing toward renewables… the generation mix is moving more toward clean energy. It’s just naturally how it’s been going, people understanding the idea of sustainability long-term. I think I’ve heard more in the past year about this drive toward ESG, more than ever before. I think you’re going to see a continued push.”

Diversified Portfolio

Jay R. Young, founder of Dallas, Texas-based King Operating Corp., told POWER, “Many of the financial advisors I know and work with encourage their investors to have a diversification strategy within their portfolio. While there will always be investors who fear lower oil and gas prices and look to exit, there are many who see the opportunity of lower prices to invest now while drilling and operation costs are lower, knowing that prices will go up again.” Young noted that fossil fuels still provide the majority of the world’s energy, which should not be dismissed by investors. “Investors should absolutely continue to support fossil fuels for power generation,” he said. “Again, I believe it is important for any investor to look at diversification within their portfolios and the option of including a combination of renewables and fossil fuels would be advisable.”

While natural gas will continue to hold investors, the same is not likely for coal. Moody’s Investors Service in April wrote that it “expects a very challenging year for the coal industry in 2020,” and it said the sector will be one of those most significantly affected by the economic downturn caused by COVID-19. Several banks already have said they will end investments in coal projects; Australia’s Westpac Banking Corp., the country’s second-largest lender, is among the latest, announcing in early May that it would exit the sector by 2030, and saying it would not establish relationships with any new thermal customers. The bank said it instead has set a target to lend about AU$3.5 billion ($2.24 billion) to “climate change solutions” over the next three years. Westpac in a report published May 4 said, “Westpac recognizes that climate change is one of the most significant issues that will impact the long-term prosperity of the global economy and our way of life. We are committed to managing our business in alignment with the Paris Agreement and the need to transition to a net zero emissions economy by 2050.”

The U.S. Energy Information Administration (EIA) in April said coal-fired power generation is especially vulnerable as demand for electricity shrinks; the EIA forecasts U.S. coal-fired generation will fall by 20% this year compared to 2019, with coal production off 22% due to the drops in demand. The agency said more mines will be idled, and the global market for coal exports also will suffer.

Importance of Tax Equity

For developers of renewable energy projects, tax equity is an important tool, supporting investment and providing new sources of capital. Analysts told POWER that tax equity financing supports anywhere from 40% to 60% of investments in renewable energy projects, and developers with established relationships with big banks continue to see money moving into utility-scale renewable projects. There are concerns about financing for other sectors, such as residential, and commercial and industrial, but with the cost of solar and wind power falling—solar costs have dropped 85% in the past decade, and wind costs have fallen nearly 50%—the economics can still be favorable.

Bloomberg New Energy Finance (BNEF) said that the cost for wind power fell 9% in the second half of 2019, with the cost for solar down 4%. The group said the cost of renewable energy is less than fossil fuel-powered generation across two-thirds of the world. Long-term power purchase agreements also are providing steady returns on investments in renewable energy, at a time when falling demand for electricity is battering wholesale power markets.

2. Engie North America in April announced what it said is the largest tax equity deal of its kind in the U.S., with 2 GW of renewables, including 1.5 GW of wind power. The deal was financed with $1.6 billion in tax equity commitments from Bank of America and HSBC. Source: Shutterstock

France’s Engie once had several coal-fired power plants, but divested those assets over the past few years, and in 2019 announced it would exit all coal activities. A subsidiary, Engie North America, in April announced what it said is the largest tax equity deal of its kind in the U.S., including 2 GW of renewables—1.5 GW of wind power (Figure 2), and 500 MW of solar, financed with $1.6 billion in tax equity commitments from Bank of America and HSBC. The announcement came just days before RWE Renewables said it had completed tax equity financing for a 151-MW wind farm through Bank of America.

In another deal, BayWa r.e. said it secured tax equity for a 133.6-MW solar farm, expected to come online this summer, and supplying energy to four companies (Cox, Gap, Salesforce, and Bloomberg) that partnered in an aggregation deal. Said Freedman: “I’ve been in this [business] 24 years. I’ve done big coal projects, and big gas projects. I started doing wind and solar back in the late ’90s when nobody was doing wind and solar. There was no tax equity back then. Looking back at where we’ve come in 24 years, I think that’s just a natural trend.” He noted the state incentives tied to renewable energy projects have been an important part of the sector’s growth. “There’s a very heavy state push for renewables, and it doesn’t really go along classic political lines,” he said, noting both Republican and Democrat governors are backing renewable energy projects.

Solar, Wind Undercut Gas, Coal

NextEra Energy, a Florida-based power provider and aligned with Florida Power & Light, has said it expects to bring 5 GW of renewable power online this year. John Ketchum, the company’s president and CEO, in a recent earnings call said there has been “no dropoff, no slowdown” in NextEra’s project construction or deals.

In much of the world, including states such as California and Texas, wind and solar power is now produced more cheaply than gas- or coal-fired generation, making renewables attractive to utilities and investors. Developers also can build wind and solar farms more quickly than thermal power plants, though for the moment, some projects are on hold due to the coronavirus pandemic. Those delays do not mean the projects will be canceled.

“There are concerns about financiers saying just wait and see, but I have not heard about anyone trying to renegotiate a project,” said Kelly Speakes-Backman, CEO of the Energy Storage Association, in an interview with POWER. Speakes-Backman is among the keynote speakers confirmed for POWER’s Distributed Energy Conference in Chicago, Illinois, Oct. 19-21.

“I can tell you I don’t see this crisis impacting the long-term ability of storage to grow,” Speakes-Backman said. “We’re expecting a 300% increase in storage deployment this year, so even a 50% drop in that means we’re still doing well. I really feel like this is going to be a near-term situation for our industry. People have already begun to realize the importance of energy storage to decarbonizing the grid, and I don’t think that goes away with this crisis.”

Darrell Proctor is associate editor for POWER (@DarrellProctor1, @POWERmagazine).

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