Why corporates should secure PPAs now before the competition heats up

Ampersand’s recent Net Zero market research analysed multiple forces playing in the growing and evolving power purchase agreement (PPA) segment of the UK renewable energy (RE) market. We found that due to drivers accelerating the demand for PPAs and barriers restraining RE supply, the market is experiencing a supply crunch and increased competition for PPAs. To address this, corporates should look at their energy procurement strategy sooner rather than later and accelerate their PPA procurement before demand outstrips supply.

In this article, we explore the projected supply and demand dynamics that currently are and will continue to, increase the competition for PPAs over the coming years.

Growing demand for RE – The corporate appetite for low-carbon energy

1. Sustainability targets

As a result of the Paris Agreement, there has been a growing sense of urgency to tackle climate change. Pressure for organisations to tackle their carbon footprint across their entire value chain is coming from all angles - regulators, competitors, investors, customers, and staff are all aligning on their demands. Many are committing to sustainability targets, with typical near-term milestones starting in 2030 before longer-term Net Zero targets between 2040 and 2050.

Taking the carbon out of the energy used through renewable energy procurement is one of the most common and effective ways organisations reduce their emissions to support their targets. As a result, RE will be on top of the agenda for any business consuming a high amount of energy. However, as the RE market matures, the scrutiny and expectation for quality also increase. For example, businesses that have relied heavily on unbundled renewable energy certificates to claim 100% RE have faced heavy criticism and accusations of ‘greenwashing’ [1].

In this context, RE power purchase agreements (PPAs) have emerged as an attractive option to enable businesses to procure high-quality renewable electricity and benefit from multiple other benefits such as price risk mitigation and long-term cost savings. If you are interested to read about PPAs and other green procurement options more in detail, head over to our past blog Net Zero action: taking the carbon out of your energy where we highlight available RE procurement choices and cost-benefit-risk trade-offs of each one.

A PPA is a long-term contractual arrangement between a renewable energy generator and a corporate or utility buyer. PPAs play a crucial role in the renewable energy sector by providing revenue stability for generators, encouraging the development of new projects, and mitigating risks for both parties involved.

2. Business and financial benefits of PPAs

A recent PPA market report [2] showed corporates have two main reasons for securing PPAs over other RE alternatives. First is the possibility of securing lower energy prices compared to the wholesale market. Through long-term contracts, corporates can negotiate favourable prices with renewable energy generators, often lower than they would pay for grid electricity from traditional energy sources. This cost savings potential allows corporates to reduce their operational expenses and enhance their competitiveness.

The second reason for seeking PPAs is the opportunity to hedge against price volatility. Unlike market prices, which can fluctuate significantly due to various factors (as highlighted during the energy crisis of 2022), PPAs can provide price stability and predictability. A fixed, or indexed, price for renewable energy over an extended contract term (typically 10 years) can shield corporates from price volatility and provide a strategic advantage in budgeting and long-term planning.

Collectively, sustainability targets, increased risk of regulation, customer and investor pressure, securing lower-than-market energy prices and hedging against price volatility, all act as PPA demand drivers. We expect these demand drivers will only increase, supporting a longer-term demand rise for PPAs.

Innovative solutions are lifting barriers for corporates

Graph showing expected annual industrial, commercial and domestic electricity demand for the UK until 2035. Source: National Grid, Future Energy Scenarios 2022

PPAs are long-term contractual commitments typically around 10 years, as we mentioned, if not more. This requires organizations to demonstrate high creditworthiness to engage in and conclude such deals, for example, by being rated by a major credit rating agency. This is a challenge for smaller or financially constrained organizations, and according to a recent PPA industry survey [3] the number one barrier to why PPA deals failed to succeed in 2022 for the whole European market.

One emerging solution addressing this barrier is the Anchor PPA, where one “anchor” buyer is sufficient to satisfy the creditworthiness requirement of the deal and allows multiple other smaller corporates to join. The first time this type of structure was seen in the UK was in 2021, when the food retailer Co-op, acting as the anchor tenant in the deal, closed a long-term PPA allowing partners along their supply chain to join [4].

For less sophisticated energy consumers, the volume of power and contract complexity can also be too much for a single offtaker to handle. In 2022 the average annual corporate PPA contracted 55 MW (approx. 150 GWh pa based on a 30% load factor) of electricity, far surpassing the average annual energy consumption of over 55+ MWh for businesses with 250+ employees. Navigating various legal, financial, and technical aspects to reach mutually beneficial agreements with RE project developers requires expertise and resources, which may not be readily available to all corporates, particularly smaller organizations.

The Aggregated PPA, also known as “buyer consortium” or “club” is another emerging structure that seeks to address this barrier. In an aggregated PPA, similar-sized businesses with similar risk tolerance aggregate their energy demands to achieve economies of scale and optimise load profile. One successful example of this type of PPA happened in late 2019 when 20 UK universities signed an aggregated, 10-year PPA deal for £50 m [5].

Can supply meet this growing demand? Long story short – not likely

This surge in corporate RE and PPA demand comes at a time when RE supply faces a diverse range of significant challenges to its development. Complex regulations that slow planning and processing times, limited availability of suitable sites with near-term grid connections, labour shortages and supply chain disruption are just some of the barriers project developers face.

A recent increase in government support for RE projects further reduces developers’ need to contract PPAs. This is because government subsidies guarantee a minimum energy price for the developer, just like a PPA would, reducing the number of projects in the market looking to reduce price volatility and offering PPAs for corporates. Merchant risk exposure, the share of an RE projects that the developer is willing to leave uncontracted to trade in the wholesale market, is expected to increase from a current 10% to around 30%-50% by 2027 [2]. Meaning that if a developer sells 90% of a project’s capacity through PPAs, in the future that share could go down to around 70%-50%, decreasing even more PPA availability.

Overcoming these barriers will require deep market and regulatory transformation, partly being addressed by ambitious government efforts, such as the Review of Electricity Market Arrangements (REMA), which aims to guarantee an affordable, secure, and fast-developing energy market. Although this consultation opened in 2022, there’s still no release date or detailed scope of work causing uncertainty in the market.

The combined impact of all these factors is expected to constrain the development of new RE projects and the supply PPAs available to corporates.

Conclusion - Seizing opportunities and overcoming challenges in the growing renewable energy market

PPAs offer numerous advantages for corporates. They enable corporates to demonstrate a meaningful commitment to achieving sustainability goals, rapidly reduce their carbon footprint, enhance their competitiveness, and improve their reputation. They also offer the potential to secure lower energy prices and hedge against price volatility.

As PPA demand drivers grow, competition for projects of priority renewable sources with nearer-term delivery dates will increase. PPA supply, constrained by challenging and long-lived barriers such as complex regulations, poor grid connection, and low site availability, won’t be able to keep up with demand. Developers will start cherry-picking customers from a large pond of potential offtakers.

The growing demand for PPAs, driven by regulatory pressure, stakeholder expectations, and corporate sustainability targets, emphasizes the urgency for businesses to develop their renewable energy procurement strategies. This requires careful consideration of the existing supply arrangement, usage profile, and mechanism selection to ensure effectiveness and maximize cost efficiency.

A well-crafted renewable energy strategy is vital to enable corporates to deliver on their sustainability ambitions and targets. PPAs offer numerous advantages for corporates, and realising the benefits and managing the risks will be crucial for successful RE procurement. Increasing demand and the, unfortunately, growing barriers mean that faster-moving corporates will be able to maximise the opportunities that PPAs present.