use of a virtual power purchase agreement ( vppa): the new ... · claims •both the sec and cftc...

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May 16, 2018

Use of a Virtual Power Purchase Agreement (VPPA):

The New Way to Acquire Green Credits

VPPA–Wave of the Future for Green Energy

By: Fred Lowther and Joan Bondareff


Webinar Overview

•What is a VPPA?

•Why are companies using it?

•What are the advantages and disadvantages?

•What state and federal laws are implicated?

•Conclusions and Questions

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What is a Virtual Power Purchase Agreement?

First and foremost, it is NOTan agreement to purchase power. In that sense, the name is somewhat of a misnomer.• By definition (i.e., the term

“virtual”), the party entering in the “purchase” – usually called the “Buyer” -- does not actually buy or consume the power generated by the power project.

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What is a Virtual Power Purchase Agreement?

It IS actually a financial instrument, in several senses• From a power project developer’s perspective, it is a commitment from a

creditworthy third party (the “Buyer”) to provide financial support for the power project, in the form of a guaranteed fixed payment per Megawatt Hour (Mwh) for every Mwh produced by the power facility over a long period of time (usually 10-15 years). Such financial support underpins the development and construction financing for the project.

• Because there is a prospective financial benefit to the Buyer under the VPPA (discussed in more detail below), and because the financial benefit depends on the price at which the power project actually sells electricity into the grid, a VPPA is treated legally as a “fixed-for-floating swap,” which is a form of hedging instrument.

• And because the VPPA is a “swap,” it is subject to regulation as a financial instrument under the Dodd-Frank Act.

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Consumer Demands for Green Energy

Why are large companies such as Google, Amazon, Bimbo Bakeries, Apple, etc. rushing to acquire green energy?

• Their consumers are demanding it.

• Their shareholders are demanding it.

• The public is demanding it.

• Properly structured, it can save companies money.

• It allows for green investment funds to be used.

• The VPPA is one way these major companies can go green.

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Pros of Using a VPPA

• The primary advantage of a VPPA is that it provides a financial foundation for the development of a wind or solar project.

• In certain jurisdictions where the wholesale electricity market is competitive and rates are not typical “utility cost of service” rates (ERCOT in Texas being a primary example), the VPPA provides a “fixed cost” recovery component which is key to a viable development and construction financing arrangement.

• Another major advantage of a VPPA is that it allows the “Buyer” under the VPPA to capture Renewable Energy Credits as the foundation for the assertion that the “Buyer” is a “Green” Company.

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Cons of Using a VPPA

• The primary disadvantage of a VPPA is its complexity – VPPAs are very complex financial instruments – definitely not for the faint of heart.

• A secondary disadvantage of a VPPA is that it is regulated under Dodd-Frank and other laws, which makes VPPA administration somewhat cumbersome both for the project owner and the VPPA Buyer. Under Dodd-Frank, a VPPA is treated as a “fixed for floating price” swap, a form of hedging instrument.

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Four Basic Components to a VPPA

1. The Buyer commits pay a fixed price to the Seller (the developer/owner of the Project) for every Megawatt Hour (Mwh) of electricity produced by the Project and delivered to the interconnection point. As noted before, this fixed price payment provides support for financing the project.

2. If the price at which the power is sold into the market exceeds a minimum floating price (which is higher than the fixed price component), the Seller pays the Buyer the differential between the fixed and floating price. This element is why the VPPA is treated (and regulated) as a “fixed for floating price” swap.

3. If the floating price for any monthly period is zero or negative and certain other complex factors are present, the Seller is obligated to make a “Floor-True-Up Payment” to Buyer.

4. There are “facility attributes” and “environmental attributes” which, if earned, are transferred to the Buyer (or sold, with the benefits going to the Buyer). “Facility attributes” are complex, and relate to certain “capacity benefits and ancillary services” attributable to the Project. “Environmental attributes” are the RECs, and the foundation of the ability of Buyer to claim the “green” benefits from the VPPA.

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Other Components to a VPPA

There are a myriad of other VPPA components, far too numerous to summarize here.

Since VPPAs are entered into typically before the wind or solar project is constructed, some relate to the vagaries of the construction and start-up process, and others relate to vagaries of facility operation and dispatch.

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State Laws and Markets

• What state and federal laws must be considered before entering into a VPPA?

• Does the state have renewable energy credits? If so, how are they valued?

• Does the state recognize a VPPA as a valid contract?

• Does the state regulate green marketing claims?

• How are the major energy marketing indices, e.g. PJM and ERCOT, implicated?

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The FTC Regulates Green Marketing Claims

What federal laws are implicated?

• Green claims are regulated by the Federal Trade Commission (FTC).

• The FTC regulates marketing and advertising by U.S. companies.

• The FTC has established national standards for green marketing claims in its Green Guides (16 CFR Section 260.1-260.17).

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The Guides set forth the following principles:

– Make clear, prominent, and understandable statements.– Identify to what the claims apply.– Do not overstate the environmental attribute or benefit.

– Ensure that the basis for any comparative claims is clear.

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• In the area of renewable energy, companies should match the non-renewable energy used with a renewable energy certificate.

• Avoid making a claim that overstates the renewable energy used.

• FTC has acted to enforce its rules against companies making unreasonable green claims:• Petition to Investigate Deceptive Trade Practices of Green Mountain Power

Company in the Marketing of Renewable Energy to Vermont Consumers., 2015 WL 628252.

• In re: Volkswagen "Clean Diesel" Mktg., Sales Practices, & Prod. Liab. Litig., No. 3:15-MD-2672, 2016 WL 6824450, at *1 (N.D. Cal. Oct. 25, 2016).

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Role of the SEC in Reviewing Green Claims

• Publicly-traded companies have different obligations than private companies.

• Public companies must file 10-K forms with the SEC. The SEC will review the MD&A section of the 10-K to see that it contains clear and accurate reporting.

• The SEC had proposed rules requiring disclosures of the impact of company actions on climate change but this rule was never made mandatory.

• There is a system of voluntary reporting of sustainability actions but no single reporting format.

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Role of the SEC in Reviewing Green Claims

•The UN has adopted a series of Sustainable Development Goals which companies are also using.

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Role of the SEC and CFTC in Reviewing Green Claims

• Both the SEC and CFTC have authority to impose fines and penalties on companies reporting inaccurate information on their 10-K and other forms. See e.g. Securities Exchange Act of 1934, § 10(b), Commodity Exchange Act, § 4b(a). • Most companies, e.g., Exxon

Mobil, have decided to make voluntary disclosures of their impacts on climate change.

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How does the Dodd-Frank Act apply to VPPAs?

• Title VII of the Dodd-Frank Act imposes substantial regulation of over-the-counter derivative transactions.

• The exchange of RECs for funding green projects and claiming environmental attributes is considered a swap under Dodd-Frank.

• The SEC and the CFTC are in charge of implementing Dodd-Frank. But the CFTC is largely in charge of energy and agricultural swaps.

• The CFTC and SEC have jointly issued rules regarding the definitions of swaps. See 77 FR 48207, 8/13/2012.

• The CFTC may exempt a swap under its forward exclusion rule if the transaction is intended to be physically settled vs. traded in secondary markets. See 77 FR 48234.

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Conclusions

• The VPPA is a new legal instrument that allows investors to build wind farms and companies to brag about their use of green energy.• The VPPA is a complicated instrument that implicates both

state and federal laws.• Companies have to ensure that green claims are realistic and

reasonable in order to avoid FTC enforcement actions.

• Security laws such as Dodd-Frank may well be implicated in creation of energy swaps in a VPPA.• SEC and CFTC have enforcement authority (and have used it

against companies making false claims.)

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Frederick M. LowtherPartnerT: 202.420.2208E: [email protected]

Joan M. BondareffOf CounselT: 202.772.5911E: [email protected]

For More Information

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