By Marlene Motyka, U.S. Alternative Energy Leader and Principal, Deloitte Financial Advisory Services LLP
Alternative energy is defying expectations. Faced with an uncertain federal energy policy and a domestic natural gas boom, the magnitude of which was largely unforeseen, many industry observers expected the growth of the alternative energy sector to slow dramatically in 2013. This prediction has not come to pass. Despite unexpected obstacles, strong demand for renewable energy is propelling the industry forward, suggesting alternative energy has possibly entered mainstream thinking as an important part of America’s long-term energy solution.
The term “alternative energy” suggests renewable energy sources are “the other” option — one presumably considered less often than conventional fossil fuels. This implication may no longer be warranted. Several market and policy trends are coalescing to create a strong demand-pull for renewable energy. Indeed, the strength of this pull has been surprising to some, with the sector continuing to expand due to relatively strong merger and acquisition (M&A) activity despite the expiration of incentive programs such as the Section 1603 U.S. Treasury cash grants and the lack of a cohesive federal policy articulating if and how the U.S. government will incentivize renewable energy in the future.
In the absence of a clear federal energy policy, state policy has emerged as a powerful driver of growth in the alternative energy sector. States are creating demand for renewable energy through Renewable Portfolio Standards (RPS) and stimulating development through “green banks” and other programs, which aim to provide low-cost financing for clean energy projects. Meanwhile, potential shifts in government policy — such as a proposed Congressional bill that would allow Master Limited Partnerships (MLPs) in the sector, as well as new financing mechanisms that appeal to a broader range of investor — also point to the increasing likelihood financing for alternative energy projects will become more available and affordable, thus making renewable projects more cost-competitive with their fossil fuel counterparts.
This would be welcome news as the sector comes to grips with implications of the shale gas revolution. Among them are concerns about low natural gas prices, which are depressing the wholesale price of electricity and squeezing returns for renewable developers. Low natural gas prices, when combined with the fuel’s clean-burning characteristics, are also making natural-gas-fired plants more attractive for meeting future electricity capacity needs. As new U.S. Environmental Protection Agency (EPA) regulations force the retirement of aging coal-fired plants, it stands to reason natural-gas-fired plants could be the preferred option for replacing much of this capacity — siphoning opportunities away from the alternative energy sector. However, recent developments suggest these choices are not as clear-cut as they may seem.
Power and utilities companies and policymakers are increasingly acknowledging the need for a diversified energy portfolio as a means to mitigate the risk associated with any one technology, to offset the potential for rising natural gas prices and respond to customer demands for green energy. Diversification as an imperative bodes well for the alternative energy sector since it transforms a competitive situation into a complementary one: More and more utilities are discovering the benefits of co-location and hybridization whereby conventional fuels and renewables can be used together.
While the alternative energy sector will need to manage the implications of the shale gas boom, both traditional and alternative power producers appear to be facing an even greater obstacle in the form of moderating domestic demand. According to the U.S. Energy Information Administration (EIA), annual electricity demand growth has been hovering around one percent per year since 2009. Although this growth is positive, it is modest, and there are few indications it may reverse course sometime soon.
With the size of the pie expanding very little, alternative energy producers are looking for ways to improve profitability and develop new revenue streams. Here, innovation may provide an answer. Continuous improvements in both technology and operational processes are rapidly improving efficiencies, driving down installation costs, and opening up channels for new service-related offerings. Additionally, advances in storage technologies are allowing the sector to address intermittency, which is widely seen as a significant obstacle for renewables. These breakthroughs as well as the potential for other innovations could soon allow mature alternative energy technologies to attain the much vaunted goal of being cost competitive with new fossil-fuel-fired plants without government incentives.
Due to technological advances and operational improvements, the recoverable shale gas resources in the United States are estimated to be approximately 665 Tcf as of June 2013. These breakthroughs have not only allowed the United States to become the largest producer of natural gas in the world, but have also put the nation on track to potentially achieve energy self-sufficiency within a couple of decades.
The extraordinary abundance of shale gas is presenting challenges to the alternative energy sector. Low domestic natural gas prices are depressing the wholesale price of electricity, and in turn, lowering the sums renewable developers and financiers can obtain for PPAs. Returns are being squeezed and independent power producers in particular are finding it hard to stay profitable. Growth in the alternative energy sector is very likely to be constrained while gas prices remain low.
For many, one thing does seem clear even as market conditions shift: Shale gas, regardless of the price dynamics, is here to stay and so are mature renewable technologies, such as solar and wind. Certain states are proceeding on this premise by embracing the development of both natural gas and renewables as a way to create a win-win for local economies and the environment. For example, Texas has the nation’s highest wind power capacity and it has also undergone an unprecedented boom in natural gas production aided by fracking and horizontal stimulation techniques. Here, low-priced natural gas and clean renewables are largely seen as complementary, not competing, resources to displace other fuels over the long term.
The likelihood natural gas prices will eventually rise, the need to meet state RPS, rapid technological advancements, and tighter EPA clean-air regulations all point to the need for the United States to maintain a diversified electricity generation portfolio. Water shortages accentuate this need even more. The scale of water use in energy production is immense, with the global energy sector withdrawing water at approximately the same rate it flows down the Mississippi River. Accordingly, water scarcity is rapidly becoming a major constraint in constructing and operating nearly all forms of conventional generation as well as some renewables, such as biofuels, geothermal energy, and concentrated solar power plants. In some geographic locations, it is also a limiting factor in the hydraulic fracturing process, which could continue to have implications for shale gas production. Wind energy and solar PV installations, however, are largely unaffected by this constraint. Utilities are taking heed of these trends and so are policymakers. Even though domestic natural gas presently has a cost advantage over renewables, few utilities are willing to make massive long- term bets on any one fuel. Even if they are willing, they might not be able, as regulatory commissions increasingly consider portfolio diversity as a factor in their approval processes.
Continuous improvements in technology and operational processes are radically reshaping the renewable energy value chain. Blade and tower manufacturers are incorporating ultra lightweight materials and utilizing 3-D computer designs to balance durability and flexibility, thus allowing wind turbines to become larger and more efficient. Future improvements in solar technologies will likely come from improving module efficiencies, increasing manufacturing throughput, reducing wafer thickness (crystalline silicon) or the thickness of thin-film semiconductor layers, and developing new semiconductor materials. Additionally, more and more utilities and municipalities are implementing net metering programs, which track the amount of electricity a home or facility consumes and the amount it puts back into the grid.
New and improved energy storage technologies are also enhancing the future prospects for renewables. Advancements in vanadium redox flow technology and flywheel energy storage systems show considerable promise to provide an acceptable cost/capacity trade-off. Innovation, it seems, could become the great equalizer, ultimately allowing mature renewable technologies, such as solar and wind, to reach grid parity: being cost-competitive with fossil fuels without government incentives.
To read the full paper including all top 10 alternative energy trends please visit www.deloitte.com/us/AETrends