The U.S. Energy Information Administration (EIA) expects to add 9.4 GW of battery energy storage in 2023. By 2026, the American Clean Power Association estimates that the U.S. will add 60 GW of energy storage capacity. Undoubtedly, energy storage deployment is bolstered with the recent passage of the Inflation Reduction Act and its provisions. The creation of an energy storage investment tax credit (ITC) and its secondary market transferability allows much more flexibility when it comes to project financing. As of this writing, the IRS has not yet issued its final guidance.
Despite these favorable economics though, energy storage project developers must ensure a stable source of project revenue to deploy projects. This article outlines the factors that affect energy storage revenues in a post IRA world.
The stand-alone energy storage ITC changes the economics of energy storage, but there is not much data on how it impacts a particular project’s cash flows or revenues. We can say for certain that ITC tax credit transferability directly impacts the cost and availability of development capital. Every dollar invested earlier in the project lifecycle, means there is less risk exposure, making development capital more accessible and perhaps cheaper.
There is only one project that has utilized the new energy storage tax credit. Eolian, who merged with East Point Energy a year ago, is developing two battery facilities that will supply 200 MW in the ERCOT market. Project revenues are based on merchant revenue rather than an offtake agreement.
There is speculation about the impact tax credits have for off takers who want to get involved in storage opportunities. The new tax credit makes it cheaper for anyone to join an energy storage project - the ITC can be transferred from a project owner to an unrelated third party. However, at the end of the day, competitive advantage still comes from a promising interconnection queue position because project completion comes sooner rather than later.
Energy storage projects can have several different revenue options. The first is an offtake agreement for a stand-alone storage project, typically providing capacity payments. The second -- the “build it and transfer the agreement” - transfers the title of the energy storage project upon completion and operation. Last, energy storage projects may rely on merchant revenues, but those revenues vary greatly based on the project location.
As the storage market evolves, we should see more revenue through the merchant market. Experts have noted that the changing risk profile may make developers and lenders more eager to examine the merchant market risks.
Location matters for an energy storage project and its associated revenue. The United States has several wholesale power markets, and each have their own revenue model. They are listed below:
CAISO: revenue model is based on Resource Adequacy attributes, such as meeting peak demand. Utilities must procure these services to meet customer demand. Energy storage developers are awarded four-year capacity agreements, typically in the form of a fixed-price payment.
MISO/SPP: revenue model is based on a vertically integrated utility bilateral offtake agreement; not all energy storage services are monetized.
PJM: revenue model based on capacity market for four-hour energy storage system acting as a generation source. Most of the projects will be in the Commonwealth of Virginia.
ISO NY: revenue model based on winning an RFP with a utility in a bilateral offtake agreement.
ISO New England: revenue model based on winning an RFP with a utility in a bilateral offtake agreement, but there are no merchant storage projects.
ERCOT: revenue model based on merchant projects and market design, primarily energy arbitrage and regulation.
Lithium-ion batteries (LIB) have been the predominant technology used in energy storage systems, but systems use other technologies besides batteries. What do investors and financiers look for when approving non-lithium technologies since they do not have the historical track record of LIB? To date, project finance lenders view all these newer technologies as having increased risk.
However, LIB has its own issues related to capacity degradation and safety issues from overheating. Fires have occurred in two cases. In September 2022, Pacific Gas & Electric (PG&E) had a fire at the Moss Landing battery storage facility. In Arizona, a fire occurred in 2019 at battery storage site owned by Arizona Public Service (APS).
The National Fire Protection Association (NFP) is a key stakeholder in energy storage technology safety concerns. A recent rule has new testing protocols and equipment approval.
Supply Chain Issues & EV Cannibalism
The final set of issues impacting energy storage revenues are ongoing supply chain constraints and the problems associated with the industry’s use of the same battery supply chains as the electric vehicle market. While lithium-ion costs have declined year after year, it is unlikely that any new technology will enter and scale.
Where Does that Leave Us?
In the near term, the largest stand-alone energy storage markets will continue to be California and Texas and yet they could not be more different: California focuses on long-term offtake contracts for capacity to meet Resource Adequacy requirements and Texas focuses on energy arbitrage. The energy storage battery projects in both places have vastly different value propositions. California sees a typical four-hour duration with greater value for each additional hour; but in Texas opportunity for energy arbitrage has a declining value to each hour an energy storage system runs.
That said, the IRA will still open a lot of markets. Every wholesale market stands to benefit but project revenue will depend on compensation for specific attributes from the technology. Over the next few years ISO/RTOs will be thinking through their market constructs.
Leyline Renewable Capital wants to work with energy storage developers as they look to finance projects. If you are interested in learning more about what we can do for you, please send us an email at email@example.com