DOER Expects SREC II Regs by January 2014. What kind of market will we get from SREC II?

At the most recent of what seems to have become near-monthly public meetings convened by the Massachusetts Department of Energy Resources (DOER) at the State House concerning all things SREC-related, DOER informed market participants that it intends to put its “SREC II” or “Post-400MW” regulations into place by the new year, 2014. That timeline is somewhat accelerated and firmed up compared to DOER’s previous estimates of its ability to implement the Governor’s expanded goal of attaining 1.6 GW of installed solar in the Commonwealth by 2020. By that time, we will likely be half way through construction completion of SREC I assets and well beyond 400MWs in Massachusetts.

At the meeting, DOER again stepped through a series of slides representing its most recent thinking on SREC II program design. Although the policy remains under development and no draft regulations have been released, one thing is now clear:  DOER will impose a great deal of control over the growth rate of the solar market from now through to 2020.

Even though, like the first 400MW aka “SREC I,” (or however many additional hundreds end up being qualified under SREC  I), SREC II will operate as a carve-out to the Class I RPS and will carry its own, separate,  compliance obligation and a fixed 10-year opt-in period supported by a fixed-price auction price support mechanism and an alternative compliance payment, DOER’s announcements to date make it clear that the next Gigawatt-or-so of Massachusetts solar will play by rules meaningfully different from those of SREC I.

These differences make the SREC II program a bit like a rebate program and a bit like a competitive procurement program, but in neither case is it completely one or the other. The changes have the potential to create dislocation and opportunities in sources and uses of capital for certain categories of solar PV assets as well as to shift the market toward areas of the market DOER views as presently under-served and away from areas it views as over-served.

Some of the more meaningful changes in SREC II are:

  • the creation of “forward minting” of 10-years of SRECs anticipated to be generated by certain small assets not owned under third party models;
  • the imposition of an “SREC Factor” discounting the number of SRECs created in the NEPOOL GIS based on a project’s attributes; and
  • establishment of a new “managed growth” category of projects that will be required to bid against one another for a limited allotment of capacity in a race-to-the-bottom for the lowest possible SREC Factor acceptable on their financial models.

Forward Minting. It remains to be seen how forward minting might change capital needs for eligible projects. Ostensibly, if a system owner has the ability to receive and to market 10 years’ worth of SRECs in a single lump, this could result in the creation of additional collateral to attract construction financing or perhaps a direct source of construction funding.  However, because forward minting will only create SRECs and will not assure the existence of a buyer for SRECs, there could be a number of possible results.  Will forward minting defeat third-party ownership in broad categories like residential rooftop and shift consumers more toward purchasing their own systems outright? How will the exclusion of third-party-owned systems from participating affect community-owned and cooperatively-owned structures aimed at residential owners that rely on third parties in their structures?  Could it create opportunity for small banks to provide bridge financing on the expectation of a lump sum payment upon minting? Will the usual buyers of SRECs from small systems in aggregations bid for all 10 years’ worth of these forward-minted attributes? Will it create new opportunities for speculation in the SREC market for investment purposes? All of this will probably depend on whether sellers will find prices adequate to defray construction costs and bring down earn-back periods to an acceptable level. Balance that against the purchaser’s desire for a low price to compensate for the risk run by a purchaser or speculator taking a 10-year position on an energy-related commodity.

SREC Factor. By design, the SREC Factor will favor residential projects, rooftop projects and ground-mounted projects greater than 25kW whose annual output is more than 2/3rds used onsite. They will be assigned a factor of 0.9, which means the project will need to generate 1.11 MWh to receive 1 SREC. The Factor will disfavor the type of large ground-mounted net-metering dependent projects that we have seen so much of over the past 2 years. SREC creation for ground mounted projects less than or equal to 500kW that do not meet that 2/3rds requirement will be discounted by a factor of 0.7. In the middle with a factor of 0.8 will be landfills and brownfields (with definitions to come from DEP) apparently without regard for onsite use requirements. Ground mounted projects not sited on landfills or brownfields greater than 500kW that do not meet the 2/3rds requirement will be barred from the market for SRECs unless they bid for and win a spot for a competitively-procured residual allotment of SRECs. (See below.) Winning bidders will be those who nominate the lowest SREC Factor for their projects.

Managed Growth. It is clear the entire policy design behind of SREC II is meant to provide DOER with control over the growth of the solar industry at a sustainable pace and on a pre-planned trajectory for a soft landing at precisely 1.6GW in 2020. That goal is apparent in the managed growth category.  Stability is laudable; but predictability is essential for developers (and for their attorneys to advise them).  DOER regulators spoke openly at the most recent meeting about their policy goals. At times they referred to incentivizing “unfettered growth areas” from which they will seek the first tranche of projects to fill out the expected growth, and the “managed growth area,” which would represent opportunities for large ground mounts with little onsite use to bid for and consume the “residual” demand under the carve-out that is not met by the unfettered group.  What growth rate and mix of projects this will entail is open to speculation and may not be transparently predictable, at least not yet. From the regulators’ comments at the meeting, the preferred mix of projects could well be the growth rate and mix we saw in 2012, as depicted on DOER’s slides numbered 4 and 7. If that is the case, that could be a big change in the market.

Managed growth could mean installation of a lot fewer large ground mounted systems than what we saw hit COD in 2013 and expect to achieve COD in 2014 under SREC I. Even if that’s not the preferred growth rate and mix of projects, DOER is clear it wants to increase the pace of rooftop and landfill development faster than it does installation of net-metering dependent ground mounts. At this point it is unclear how a project will be eligible to bid and how it can know how to bid for its SREC factor. Will it need to have an executed interconnection agreement to do so? Will developers pay costs to execute an agreement for a project that may not be assured SRECs? Would developers take that kind of financial risk? Or, at least in the early years, will the managed growth allotment be a consolation prize zone to be filled with projects that lost out in the footrace to execute ISAs by June 7 and qualify for SREC I? Even with clarity on other costs, how low can bid-in SREC Factors go? Will low bids come at the price of increased PPA $/kWh prices and less favorable discounts against the value of net metering credits?  There remain some other important details to tie up in implementing the onsite use requirement. For instance, will onsite use be tied to a particular meter or all meters at a site? DPU has recently ruled that multiple meters on site are permitted for net metering purposes. Will onsite use be tied to the DOER’s preferred use of the word “parcel” to synchronize with that DPU ruling or will there be some other use restriction imposed?

To be fair to DOER (which has been doing fantastic and hard work to develop solar in Massachusetts) and its consultants, these questions and others are being considered in the program design. We look forward to seeing resolution. There’s a lot of building to be done!

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