Tag: VPPAs

Owen Glubiak, Vice President, Market Development

For years, the Virtual Power Purchase Agreement (VPPA) was the ‘set it and forget it’ gold standard for corporate sustainability. That reality is changing.

While the VPPA remains the gold standard, ‘set it and forget it’ no longer applies. There’s a realization for those organizations getting ready to make their next purchase – or for those learning from projects in operation  – that the VPPA is a complex financial derivative that demands sophisticated procurement to manage its market risk.  

Risk management in energy strategy

Risk management is a term that is thrown around a lot in the energy industry. It is common practice in deregulated energy procurement for electricity, natural gas, and other fuel oils. Risk management is a spectrum based on your budget sensitivity as a buyer. 

If you crave budget certainty and want fixed prices for the foreseeable future, then you are at one end of the spectrum. The opposite comes into play when you are not looking to fix prices and instead choose to ride the wave of hourly energy prices in the case of electricity markets.

The fixed prices come at a cost, though, as you may miss out on market opportunities, such as price spikes that can lead to big payouts. One such event occurred in the summer of 2023: rising demand from heat waves caused energy consumption to jump. However, while the summer of 2023 is an example of missed potential, there are examples of avoided loss, too.

This spectrum of risk appetite guides the risk management strategy of millions of companies who actively participate in the deregulated energy markets each year.

Where are VPPAs on the risk management spectrum?

There is one glaring type of commodity that has not traditionally followed this risk management strategy: renewable energy like solar and wind. These intermittent energy sources trade via VPPA agreements. Until recently, companies who procured the approximately 130 GW+ of active renewable energy agreements were at the mercy of the hourly as-generated price settlements of their renewable agreements. 

A VPPA can be a natural long-term hedge on power prices over the typical 10-15 year tenor of the agreement; however, it is highly volatile and creates short-term (monthly or annual) budget risk: some months, a company will receive a check for millions of dollars while other months may be a bill. These swings are notoriously difficult to forecast. 

In other words, all market participants “ride the wave” of the market, which gives little optionality to corporations looking to mitigate risk.

But there is a way to hedge these agreements and provide more budget certainty to the market via a mechanism known as a Settlement Swap Agreement (“SSA”). An SSA allows a corporate buyer that has purchased a long-term VPPA to sell a portion of its VPPA for shorter durations. This duration, or tenor, is typically 1-5 years but can be longer depending on credit approvals. The corporate owner of the VPPA can choose to retain the RECs (environmental attributes associated with the energy) and fix their price on the energy, obtaining the necessary budget certainty they crave.  

Settlement swap agreements (SSAs) as a risk management tool

Let’s dive into an example for “Alpha, Inc.”

• Alpha, Inc. procured a VPPA from a 100 MW north Texas wind farm (ERCOT North Hub settlement) that started operating in 2020 for a VPPA price of $20 / MWh for a 15-year agreement (2035).  
• Power prices for wind farms in ERCOT North are transacting at $40 / MWh.  This is the value of the power from a wind project. It does not include the value of the REC. 
• Alpha, Inc. defines a procurement strategy to lock in the next three years for prices and seeks potential buyers of the position. 
• ABC Trading Co. is looking for opportunities to go long in the Texas market and seeks financial positions from operating assets. ABC provides a bid of $40 / MWh because it expects the price of power to go up over time and ABC is willing to take the risk.  
• Alpha, Inc. and ABC Trading Co. enter into an SSA agreement for three years at a fixed price of $40 / MWh for the as-generated power from the 100 MW wind farm project.  

The outcome? Alpha, Inc. locks in a net gain of $20 / MWh: $40 / MWh SSA minus $20 / MWh of the original VPPA. This translates into an expected annual value of $7,000,000 USD.

Both sides win in this scenario. Alpha, Inc. achieves its goal of a more predictable budget to use in financial planning. On the other side, ABC Trading Co. gains a position in the market. The company is positioned to earn money if prices go up and assumes the risk if the market is down.  

For Alpha, Inc., the approach is no different than a normal energy procurement strategy – you assess your tolerance to be exposed to budget swings, set your price targets for when you want to hedge, and then execute transactions with counterparties to achieve the budget certainty desired. Moreover, the SSA approach allows Alpha, Inc. to consider varying tenor structures.  Because it is a financial position, both buyer and seller have flexibility on commercial terms.  

For most of the industry, it is a brand new concept utilizing an age old strategy. It’s made possible by REsurety’s CleanTrade platform.

Settlement Swap Agreements can take the procurement process from months to weeks. Successful SSA negotiations focus on aligning parties on key terms: price, sharing rights, data rights, caps, credit requirements, and damages.

Want to gain hands-on experience with the Settlement Swap Agreement? Resurety will be digging deeper into the mechanics of getting this done during our upcoming VPPA Risk Management Bootcamp with the Clean Energy Buyers Association (CEBA) to kick off the CEBA Annual Summit. Reach out to join us on May 19th in Seattle, WA.

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