Financial PPA

Explore the sections below to learn more about financial power purchase agreements (financial PPAs):

What Is a Financial PPA?

A financial PPA is a financial arrangement between a renewable electricity generator (the seller) and a customer (the buyer) that enables both parties to hedge against electricity market price volatility. Unlike with a physical power purchase agreement (physical PPA), there is no physical delivery of power from the seller to the customer. Instead, the energy is delivered to the grid and the customer needs to purchase electricity independent of this financial arrangement. Rather, a financial PPA is a hedge arrangement that offers buyers cost predictability for their electricity use and promotes growth in the renewable energy sector by offering project developers long-term contracts with predictable revenues—a key element to attracting project financing and investment.

Financial PPAs are also sometimes known as “virtual” or “synthetic” PPAs, a contract for differences, or a fixed-for-floating swap. Financial PPAs are an innovative and useful procurement option for organizations, particularly those in traditionally regulated electricity markets that generally do not permit physical PPAs.

How Do Financial PPAs Work?

In a financial PPA, the seller and customer agree to a "strike price" per kilowatt-hour that the seller will receive for its delivery of null electricity into the wholesale market. Thereafter, any monetary difference between the strike price and wholesale market price is exchanged between the two parties, such that the seller in net always receives the strike price for its sales of electricity. Typically, the renewable energy certificates (RECs), generated by the renewable electricity generator, are contractually conveyed to the customer in the financial PPA. The RECs entitle the customer to exclusive rights to make claims about using the generator’s green power and the associated reductions in Scope 2 emissions. No electricity is physically conveyed from the generator to the customer, however.

To illustrate how this works, imagine two parties enter into a financial PPA with a strike price of 10 cents/kWh. The renewable electricity generator owes the customer the difference when the wholesale price is above 10 cents/kWh, and the customer owes the renewable electricity generator the difference when the wholesale price is below 10 cents/kWh. At the close of each settlement period—typically monthly—the customer receives from (or sends to) the renewable electricity generator the net difference in price per kilowatt-hour between the strike price and wholesale market price.

Like physical PPAs, financial PPAs are often an attractive green power procurement option for non-profit organizations that cannot take advantage of federal tax credits to purchase their own renewable energy system. Using financial PPAs, third parties can pass along tax credit savings to non-profits through lower-priced electricity.

Since RECs are treated differently in each financial PPA, it is important that the customer understand REC ownership in their particular contract. The project’s RECs may not be conveyed to the customer and may instead be sold by the project owner into the compliance market. To make claims about using green power from the PPA, the customer must own the associated project RECs or have them retired on their behalf. Alternatively, the seller may use REC arbitrage (pdf) to provide the customer with replacement RECs from another renewable energy project, but the customer’s green power use claims need to align with the attributes of the replacement RECs.

The below infographic depicts how a typical Financial PPA works.

GPM Financial PPA
To save the infographic, right-click on the image.

Why Would an Organization Consider a Financial PPA?

A financial PPA can serve as a hedge against electricity price volatility for the customer. This benefit occurs when the price of the power that the financial PPA project sells into the wholesale electricity market is correlated with the price the customer is paying to purchase the electricity for its own operations. When electricity prices are high in both markets, the customer is credited at a high rate from the seller and can offset the high cost they are paying for electricity with their credit. Conversely, when electricity prices are low, the customer's electricity costs are also low, but this is counterbalanced by the debit the customer owes to the seller. The net result of the purchasing organization is a less volatile cost of electricity.

Organizations likely to use a financial PPA have one or both of the following:

  • A distributed load, such as scattered retail outlets, such that the transactional cost of purchasing bundled green power in each grid market is prohibitive.
  • Operations in a state(s) with a traditionally regulated electricity market, rendering them unable to do a physical PPA.

What Is the Difference Between a Physical PPA and a Financial PPA?

With a physical PPA, the customer receives the physical delivery of electricity from the seller through the grid. With a financial PPA, the customer does not receive the physical delivery of the electricity; rather, the generator sells the energy to the grid. This is the main difference between these two power purchase agreement structures.

Advantages and Challenges of Financial PPAs

Advantages:

  • Potential net electricity cost savings with no up-frost capital costs.
  • Long-term electricity cost stability and predictability.
  • Enables new renewable electricity projects to be developed.
  • Ability to purchase a large volume of electricity through a single transaction.
  • The customer engages directly with a specific project, which can be desirable.
  • The customer can negotiate specific terms of the contract.
  • Potential naming rights to the renewable electricity project.
  • The seller is responsible for project's operations and maintenance.
  • Allows non-profit organizations to take advantage of tax credits through third parties.

Challenges:

  • Financial contract can be complex to navigate.
  • Requires long-term contract.
  • Availability limited to customers with large electricity loads and investment-grade credit.
  • Complexity of deal may make conveying story to stakeholders more difficult.
  • Customer must ensure REC ownership in order to make green power claims.
  • May not have same financial benefit of outright ownership.

What Types of Organizations Can Utilize Financial PPAs?

Creditworthy organizations with large electricity loads can use financial PPAs to hedge their electricity costs in exchange for providing guaranteed offtake to a renewable energy generator. Organizations engaged in a financial PPA can be located anywhere in the United States, including being located in a traditionally regulated electricity market.

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Last updated on October 21, 2024