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Updated: When a company secures a loan guarantee from the Department of Energy, it joins an elite group, having risen above a crowded field of applicants and survived a lengthy evaluation and negotiation process. The award is meant to enable better interest rates and lower costs than would otherwise be available to a company for project financing, and only a small portion of applicants make it to even the final evaluation stages. So what would lead a company to walk away from the negotiation table, as solar company Suniva did last month? It has to do with the terms of these government deals, the time it takes to obtain one, and the recovery of private markets.
According to Ted Sullivan, an analyst with Lux Research, the DOE program was “incredibly helpful during the depths of the recession.” He cited comments from renewable energy executives that at one point a 5 percent spread existed between DOE debt and private debt for startups. “That’s huge.” But since private capital has become more available and “spreads have tightened,” he said, the program offers less of a boost.
NRG Energy CEO David Crane told us in a recent interview that in general “the government is requesting more and more conservative terms,” which may be comforting from the point of view of being a tax payer, but defeats the purpose of a program meant to provide debt financing where it wasn’t available from the private sector. “If the government’s terms are more onerous than the private sector then it becomes sort of, what’s the point?” said Crane. The DOE has not yet divulged specific terms in the company’s own bid for a loan guarantee to build new reactors in South Texas, said Crane.
“Given the continued uncertainty around the negotiation of acceptable terms and the final outcome, Suniva has decided to discontinue expending money, resources and time on the process at this time,” Suniva chief marketing officer Bryan Ashley told us in an email last week, while declining to discuss the decision beyond that. The Department of Energy is “doing the best it can under the guidelines of the program,” he added, but Suniva has nonetheless decided to “suspend participation in the loan guarantee program.” According to PV-Tech.org, the company spent about $750,000 on lawyers and consultants as part of its effort to secure the award.
Loan guarantees essentially serve as a promise by the government to make good on a loan if the company can’t. But the guarantee itself comes at a cost that is prompting some applicants to seek greener pastures.
Loan Guarantee Gripes
Back in December, DOE Loan Program director Jonathan Silver told us that it takes about six months “soup to nuts” to get applications processed and finalized. Throughout this process, fees are charged in three chunks. The first two — application and facility fees — depend on the size of the requested loan guarantee. The third, a maintenance fee, is payable each year during the construction, startup, commissioning and operation of the project, or as a lump sum up front when the deal closes. For the largest loan guarantee requests (over $500 million), application and facility fees alone could run up to $1.75 million, plus .50 percent of the guaranteed amount, as explained on the agency’s website. (Update: We added a decimal to the percent.)
Suniva is the latest–but not the first–company to grumble about terms in a possible loan guarantee deal. Two years into its effort to obtain a guarantee on some $7.5 billion in loans, in October 2010, Constellation Energy (s CEG) declared the proposed terms and conditions for the guarantee “unworkable.” Together with French energy giant EDF, through a joint venture called UniStar Nuclear Energy, Constellation had requested the loan guarantee to support construction of a new nuclear reactor at the Calvert Cliffs power plant in Southern Maryland.
In a letter to DOE officials, Michael Wallace, chairman of UniStar as well as vice chairman and chief operating officer for Constellation Energy, said the agency’s initial estimate for the “credit subsidy cost” (the expected long-term liability to the federal government when it issues the loan guarantee) was “shockingly high,” at 11.6 percent, or about $880 million. “Such a sum would clearly destroy the project’s economics (or the economics of any nuclear project for that matter), and was dramatically out of line with both our own and independent assessments of what the figure should reasonably be.”
Just a few months earlier, in July, Constellation executives had warned that “time is running out,” as the Baltimore Sun reported. “There is some level of frustration that we haven’t had an answer at this point,” Constellation Energy Group CEO Mayo A. Shattuck told the Sun. The company had previously hoped to secure a conditional commitment by the end of 2009.
Constellation ultimately pulled out of the project, selling its 50 percent stake in the joint venture to EDF for $140 million in October. A UniStar spokesperson told us that UniStar remains “engaged with DOE and believes that the Calvert Cliffs 3 project is a strong candidate to receive a conditional commitment for a loan guarantee.”
In total, the DOE has chosen 21 clean energy projects for loan guarantees and offered conditional commitments for $21 billion in loan guarantees. In December, Silver told us the loan program office had already issued term sheets for more projects than it actually has the budget to finance. (A term sheet details the terms and conditions under which the Energy Department may enter into a conditional commitment with the applicant.) Not every term sheet will lead to a final loan agreement, but according to Silver, there are “more solid projects in the queue than we have capital for.”
At the end of the day, the relative appeal and value of a DOE loan guarantee depends in part on what alternatives exist. Silver acknowledged in our December interview that “private capital markets have come back for less complex projects,” including some solar and wind developments. As a result, he said, we’ll see fewer small and medium-sized wind deals coming out of the loan guarantee program.
According to Lux Research analyst Matt Feinstein, many renewable energy financiers have concluded, “DOE guarantees are great for unproven technologies, and we want nothing to do with either of those things.”
Originally, new technologies were the central focus for the loan guarantee program. When Congress created it under the Energy Policy Act of 2005, section 1703 stipulated that awards would support only projects using “new or significantly improved” technologies. If a project involved technology that for more than five years had been installed at more than three other projects in a similar application within the U.S., it was considered “commercial,” and thus not eligible for these 1703 awards, as the firm Wilson Sonsini Goodrich & Rosati explains.
But then, in 2009, along came Section 1705. As part of the Recovery Act, Congress added a provision for loan guarantees supporting projects that needn’t use new or significantly improved technology, as long as they begin construction before the end of September 2011. And funds were appropriated to cover the credit subsidy cost.
For nuclear projects, loan guarantee recipients are required to pay the credit subsidy cost. Constellation and the Nuclear Energy Institute, an industry group, take issue with the formula for calculating this cost in the first place. “This fault will continue to hamper both nuclear energy and renewable energy project development – exactly the opposite intention of Congress when it passed the 2005 law,” argues NEI, which calls for an end to use of standard assumptions of risk in favor of project-specific assessments for credit subsidy costs.
Back in 2009, the New York Times quoted Constellation Executive Vice President James Connaughton calling for a 1 percent credit subsidy fee. The Union of Concerned Scientists, meanwhile, has argued that an “extremely poor track record on cost overruns” in the nuclear industry warrants much higher fees. Climate Progress argues that credit subsidy fees on nuclear loan guarantees should be at least 10 percent, and possibly as high as 30 percent.
In the wake of the disaster at Fukushima Daiichi, it will be much more difficult for the nuclear industry to make the case that these investments are low-risk. As Paul Fremont, managing director at Jeffries & Company, said in a Houston Chronicle article this month, however, the crisis in Japan “almost doesn’t change the fact that new nuclear looks to be a bad investment….Constellation (Energy) walked away and said keep your loan guarantee, it’s not economic to build.”
As for Suniva, the company says it has “made no decisions on potential sites, nor has it excluded any.” According to Ashley, Suniva hopes to “announce something early in Q2.” That’s just a couple months from now — the blink of an eye compared to the time it takes applications to move through the loan program pipeline.
Image courtesy of Suniva.