Determining the Value of Renewable Assets After the Expiration of Power Purchase Agreements

Abstract

The long lives of renewable energy assets complicate their economic valuation as long term projections of relevant variables such as operating performance, commodity prices, and policy are highly uncertain. Power purchase agreements (PPAs) remove much of the uncertainty by fixing the energy price and guaranteeing an off-taker for the asset’s power output. However, wind and solar assets can have useful lives and generate electricity and provide financial returns for much longer than the term of the PPA. Despite that, little rigorous thought or analysis has been given to how to value the post-PPA life of a new project and how significant that value is. Assumptions and valuation methodologies are both firm and individual-specific. The lack of clarity into what the potential post-PPA options are and how valuable they are increases the risk associated with the asset class, and poses challenges for renewable energy development generally as well as for developers, operators and investors.

In general, an asset owner will have three options once its PPA expires: 1) renew the PPA; 2) continue operating the asset without a PPA; or 3) decommission the assets for scrap or to be refurbished for future use. Which course of action to take and what its value is are highly dependent on a number of variables that are difficult, if not impossible, to project decades into the future. In response, the market broadly uses four approaches: 1) use a metric like cash-on-cash returns that avoids assumptions about the long-term value of the asset; 2) assume the asset will be resigned to a PPA with similar terms and value; 3) assume it will continue operating without a PPA and project revenues by using a modeled forward price curve and some expected asset deterioration; or 4) assume the asset will be decommissioned after its PPA expires and there is no post-PPA value.

This paper investigates current post-PPA valuation methods, what options exist for a PPA-expired renewable energy asset, and uses the case of a hypothetical wind farm to illustrate the use of a method for bounding the uncertainty on the post-PPA value at the beginning of the asset’s life. It finds that potential post-PPA options can significantly affect project values and internal rates of return and hence, merits further research and consideration by the market. Given the range of values demonstrated, additional research into how exposed different market participants are to this post-PPA value risk is also justified. The paper closes by establishing the similarity between the potential post-PPA options and traditional European-style long call options and suggesting that a traditional options valuation model may provide greater insight into how to value the post-PPA term of a renewable energy asset at the beginning of its useful life.