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Renewables expansion: Green hydrogen, waste-to-energy, and carbon capture

Chemistry students working in lab

The move towards a greener US power industry proved to be more than rhetoric in 2022 as the prioritization of ESG initiatives turned into investments in clean energy and infrastructure.

Yearend research from PwC showed that renewable deals drove 71% deal value of total power M&A over the last twelve months (until November end).

As we progress into 2023 with greater certainty in federal policy, continued support for ESG initiatives, and broader investor interest in the energy transition theme the trend for renewables is expected to kick up a notch.

“Several new policies have placed increasingly harsh penalties on traditional energy like coal, oil, and gas to economically incentivize the clean energy transition in the United States towards renewable energy generation. For example, the IRA directly grants increased funds to the EPA for increased monitoring of methane and other natural gas leaks,” says Neil Winward, Head of ORIX USA’s Strategic Solutions group.

“Traditional oil and gas companies have invested billions of dollars into renewable energy and energy alternatives away from their core hydrocarbon business segments. We believe this has been made possible due to changes in the regulatory landscape and the growing duality of incentives and penalties over the last few years. 2022 has seen a swath of legislation to facilitate this transition further, and we expect this large influx of capital to continue.”

And while the US’ traditional renewables sectors – wind, solar (and now even battery storage) – continue to be a mainstay the universe of investable renewables opportunities is expanding rapidly.

“The mainstream renewables in contracted wind and solar have been bid to perfection: it is proven technology with long warranties, you can be fairly accurate with resource assessment now, so the returns continue to be in single digits,” says Dennis Tsesarsky, the founder and managing partner of Onpeak Capital.

Here we take a look at 3 emerging renewables that Blue Chip investors are now putting in their crosshairs:

WASTE-TO-ENERGY

OnPeak advised on BlackRock Real Asset Partners purchase of Vanguard Renewables, a renewable natural gas company that went up for sale earlier this year. The deal will see BlackRock Real Assets pay Vision Ridge Partners $700 million for the platform, which recycles waste into renewable energy.

Jack Daniel's Distillery Visitor Center at Lynchburg Tennessee

The developer owns and operates a 6-project portfolio spread across Massachusetts and Vermont which produces around 33,000 MWh of renewable energy per year. Following the close of the deal, BlackRock plans to commission more than 100 anaerobic digesters to produce renewable natural gas across the country by 2026.

“Waste to energy has been around for some time, however, these opportunities historically were smaller and more risky. Today, we are seeing transactions that are in $1bn+ area in this space,” explains Tsesarsky.

“These deals offer returns often 2x higher than what you would get in wind and solar within the same broader area of energy transition/clean energy. We are seeing a lot of activity because these companies are now accessing capital for multi-billion dollar spends to build digestors that last 25-30+ years, with long-dated contracts in voluntary markets with large corporates or utilities. Renewables asset class is broadening out to include anaerobic digestion to energy or renewable natural gas.”

Debt is also playing a greater role in these deals than before, with TC Energy and 3 Rivers Energy partnering on a $29.3 million investment to construct and operate an anaerobic digestion and biogas upgrading plant for the Jack Daniel Distillery in Tennessee.

MUFG arranged a green loan and ancillary revolving credit facility for Lynchburg Renewable Fuels, the special-purpose vehicle created to fund the project. But, due to idiosyncrasies in waste-to-renewable energy project finance has not been a well-trodden path for developers.

“There hasn’t been a lot of project financing of these [energy-to-waste] projects – there has been some – but it’s a really interesting asset so there should be more project financings to come,” says Christopher Buckingham, director, Project Finance at MUFG.

HYDROGEN

Hydrogen can be produced in a number of ways, one method includes electrolysis, with an electric current splitting water into oxygen and hydrogen. If the electricity used in this process comes from a renewable source such as wind or solar it can be called “green” or “renewable” hydrogen.

Described by the International Energy Agency as a “versatile energy carrier,” hydrogen has a diverse range of applications and can be deployed in a wide range of industries, but really whetting investor appetite is the hydrogen production tax credit in the US’ Inflation Reduction Act (IRA).

The credit that has been tucked into the IRA gives the maximum -- $3 per kilogram – to hydrogen produced with renewable energy and nuclear energy.

“While most independent green hydrogen companies are still small today, the IRA incentives now actually make them viable businesses with robust long-term fundamentals. You’ll see more and more interest going forward as these opportunities allow for higher returns, have a strong growth profile, and for infrastructure investors you can get them contracted,” says Onpeak’s Tsesarsky.

CARBON CAPTURE

Carbon sequestration is the process of capturing and storing atmospheric carbon dioxide and is one method of reducing the amount of carbon dioxide in the atmosphere, aiding the goal of reducing global climate change. Again, the IRA is lending a helping hand with an update to the 45Q tax credit which incentivizes the use of carbon capture and storage.

Already we have seen Enbridge and Oxy Low Carbon Ventures (OLCV) sign a letter of intent to jointly develop a CO2 sequestration hub in the Corpus Christi area of the Texas Gulf Coast. The hub is expected to provide a complete CO2 solution for area emitters through the development of a pipeline transportation system and sequestration facility.

The facility will provide CO2 solutions for Enbridge’s proposed facilities as well as other point source emitters in the Corpus Christi area.

Yet, Ellen Friedman, partner at law firm Baker Botts, points to a significant, yet lesser-discussed benefit included in the IRA – the Energy Infrastructure Reinvestment (EIR) Program (Title 17 section 1706) to be administered by the DOE Loan Program Office.

The IRA appropriates $5 billion to the DOE LPO to carry out activities under EIR and provides the DOE LPO with the authority to issue commitments to guarantee loans (including refinancing loans) for EIR projects up to an aggregate $250 billion through September 30, 2026.

The statute broadly defines “Energy Infrastructure” to include facilities that generate or transmit electrical energy or used for the production, processing and delivery of fossil fuels derived from petroleum, or petrochemical feedstocks. Projects benefiting from this new program must retool, repower, repurpose, or replace energy infrastructure that has ceased operations, or enable operating energy infrastructure to avoid, reduce, utilize, or sequester air pollutants or anthropogenic emissions of greenhouse gases.

To qualify under section 1706, a project which involves electric generation through the use of fossil fuels must have controls or technologies to avoid, reduce, utilize or sequester air pollutants and anthropologic greenhouse gases.

“Given the breadth of projects that might fall under the EIR and the magnitude of EIR funding authority, we should expect to see some very interesting, novel proposals presented to the DOE LPO under this program,” says Friedman.

While 1706 guidance has yet to be issued, the DOE LPO website encourages prospective 1706 applicants to follow existing programmatic rules with respect to section 1703 (other than requirements thereunder with respect to inclusion of innovative technology).