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Why Not RFPs?

Issue 6 and Volume 86.

by Larry F. Eisenstat, Dickstein Shapiro LLP

Most state energy policies have three major goals: maintaining system reliability (to avoid load shedding, brownouts and blackouts); incentivizing new in-state generation (in order not to be overly dependent on imported and less-efficient older generation); and improving environmental quality.

Short-term measures such as constructing peakers, delaying plant retirements or reactivating mothballed plants might address the first goal, but probably at the expense of the others. To ensure that ratepayers receive the significant long-term benefits of a portfolio strategy and a coordinated energy and environmental policy, state jurisdictional utilities should be required to enter into long-term (at least 10-year) power purchase agreements (PPAs) for a defined amount of baseload combined-cycle natural gas plants and renewable generation.

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In most of the nation, particularly within organized markets, the timely construction of any supply portfolio is far from being guaranteed. Even where capacity markets show great promise, they have yet to produce new, highly efficient and environmentally beneficial projects. In their planning, regional transmission organizations (RTOs) look exclusively to transmission to solve reliability issues, even where strategically sited generation might be superior. Only the states themselves have the unquestioned authority directly to order that generation be built in a particular state or require that it be of a type and amount necessary to achieve that state’s supply and environmental portfolio objectives.

The situation is further complicated by the current state of the capital and debt markets. More than ever, financeable projects will need simple, bulletproof, time-tested financial structures, principally a long-term PPA with a creditworthy purchaser investor-owned utility (IOU). Short-term PPAs or hedges likely will present too many challenges to financing and commercialization.

In response, some suggest we not worry if utility rate-based generation becomes all that is financeable in the current environment, and utilities end up building everything. This would not address the immediate needs of states whose jurisdictional utilities do not either own significant generation or generation sites, or interconnection and transmission queue positions, or possess any recent development experience. In many states where the need for new, clean generation is greatest, the jurisdictional utilities would be put to the task of reentering the generation market after a decade of inactivity. Relying extensively on a utility-build approach would be time-consuming, complex, controversial, and likely would lead only to the same cost overruns and problems that led regulators to recognize the enormous benefits of competition from non-utility generation in the first place.

Long-term PPAs assign to the developers the major costs and development, finance and construction risks, rather than to the ratepayers, as is the case with utility self-builds. To be sure, any state can require its jurisdictional utilities to build generation and, arguably, they can do so exclusively. But there is no evidence that utility self-builds would be any more likely than competitive developers to address a state’s immediate or long-term reliability concerns or its environmental and supply diversity objectives. An RFP establishes a market test to determine whether these concerns would be best addressed by a utility or non-utility project.

In either case, one thing is certain. Exclusive reliance on short-term solutions such as peakers and repowerings will result in higher long-term costs to ratepayers by virtue of their higher heat rates (peakers burn more fuel per kWh than combined cycle plants), higher emission rates (peakers include backup environmental remediation facilities that are inferior to those utilized by combined cycle plants), and the higher opportunity costs of further delaying significant construction of baseload and renewable generation. Thus, evaluating the “utility-only” solution against the non-utility solution, and evaluating short-term solutions against longer-term supply portfolio approaches (looking at a mix of short, intermediate and long-term baseload fossil and renewable generation), is the only way for regulators ever to know whether their ratepayers are being best served.

Author

Larry F. Eisenstat is head of the energy practice at Dickstein Shapiro LLP. He may be reached at [email protected]