2005 Minnesota Energy Legislation Factsheet
Minnesota’s original (2005) Community-Based Energy Development (C-BED) legislation offers some important benefits to community wind projects, but understanding how it works can be a little challenging. This article will try to explain the major aspects of the C-BED program and illustrate how community projects are helped with a simple example.
(Please note that the C-BED legislation was updated in 2007 and that parts of this article are no longer applicable, although many of the concepts are.)
Nuts and Bolts - Net Present Value
First, the legislation sets out ownership rules in its definition of C-BED projects, defining “qualified owners” as Minnesota residents, nonprofits, LLCs, non-electric co-ops, local governments and school systems, and tribal councils. No single qualified owner may control more than 15% of the project (except for one- and two-turbine projects), and the project must obtain the support of the county board where it will be installed. If new transmission lines must be built for the project, landowners whose property will be crossed by the lines must be given an opportunity to invest. The upshot of these rules is that more individuals are given a stake in the project, and its benefits will flow broadly to the community. (Projects can be joint ventures between qualified and non-qualified owners, but qualified owners must have the majority share, and the C-BED tariff benefits will not be received by the non-qualified owners.)
Second, public utilities are required to set out a C-BED tariff. This tariff has two important differences from other tariffs. First, it has to allow for rates with a net present value of up to 2.7 cents per kilowatt hour over the 20-year life of the power purchase agreement (more on this shortly). Second, the tariff must provide for a higher rate in the first ten years of the contract than in the second ten years. The higher early rates will make it easier for project to obtain financing, while the use of net present value calculations makes sure that the utility’s bottom line is not jeopardized. While utilities are required to file a C-BED tariff and are directed to give consideration to C-BED projects when looking for new generation, they are not obligated to enter into any contracts with a C-BED project. This, too, helps make sure that C-BED contracts will be fair to all parties. Finally, C-BED projects have the option of negotiating a rate with different provisions than those specified in the legislation if they wish (for instance, choosing not to vary the rate over time). Any contracts which include the “front-loaded” rate must be approved by the Public Utilities Commission.
Nuts and Bolts – Net Present Value
The key to understanding the advantages of the C-BED tariff is the concept of net present value rates. This is a common financial tool, which basically reflects the idea that having a given amount of money today is more valuable than receiving the same amount of money in the future. That is, I’d rather have $100 right now than know I’ll receive $100 in five years, because I can put that money to work in the meantime. Similarly, in order to understand how much a series of payments is worth, all of the amounts need to be converted to their “present value” by applying a discount factor to the future payments. The further into the future the payment is, the less it’s worth today. By adding up the present values, we can determine the “net present value” of all the payments. So, would I rather have $400 today, or $100 a year for five years? That depends on the discount I apply to the future payments (or, put another way, how much interest my $400 will earn if I put it in my savings account or some other investment).
C-BED requires utilities to determine the net present value of their rate schedule using the standard discount factor that they apply to their other business decisions. That means calculating the expected payments over the life of the contract and applying the discount to find the net present value of the series of payments. The net present value is then divided by the total energy produced over the 20 years, resulting in the “net present value rate” – the present value of every kilowatt-hour the project will produce over its lifetime. C-BED requires that the utility offer a tariff that provides for a rate schedule resulting in a net present value rate of up to 2.7 cents per kilowatt-hour.
Different payment schedules can result in the same net present value. Since utilities are concerned with long-term planning, they are more concerned about protecting the net present value of a contract than about the specific amount of each payment. For community wind projects, however, the payment schedule can be very important, since they are faced with high capital costs and need to make large debt payments in the first part of the project’s life. By providing for a front-loaded payment schedule, in which the utility pays a higher rate early on and a lower rate later, the net present value of the payments can be maintained, while allowing a C-BED project to increase its income while its expenses are high. This higher income during the debt-service period can help make the project more attractive to lenders and improve access to financing.
The simple C-BED spreadsheet contains a comparison of the front-loaded rate with a fixed rate, and may make it easier to understand how the net present value rate works. For this example, we’ve assumed a single wind turbine producing 5,200 MWh per year and annual debt payments of $150,000 for the first ten years. We’ll use 3% as the utility’s discount rate (a fairly standard rate for businesses), 3.5 cents/kWh for the flat rate example, and 4.2 and 2.8 cents/kWh for the rates in the front-loaded example. (You can plug in your own numbers in the Assumptions tab and see how the outcome changes on the other tabs.) To keep things simple, we’ll ignore insurance, maintenance, etc. and assume that debt service is the project’s only expense and that the turbine produces the same amount of electricity every year for twenty years.
Looking at the Summary Comparison tab (copied in the table below), we can see that the total amount of cash received (the “nominal sales”) by the project is greater under the fixed rate, by about $100,000. After debt service, the fixed rate comes up with nominal net revenue of about $2.24 million, while the front-loaded rate results in net revenue of $2.14 million. Why, then, would the project opt for a front-loaded rate?
Flat Rate Front-Loaded Rate
Total Nominal Sales $3,744,000.00$3,640,000.00
Nominal Net Revenue(afterDebtService)$2,244,000.00$2,140,000.00
Present Value of Total Sales $2,785,063.29 $2,787,159.11
Present Value of Net Revenue $1,505,532.87 $1,507,628.68
Net Present Value Rate ($/kWh) $0.0268 $0.0268
Sales:Debt Service ratio (years 1-10) 1.248 1.456
Despite the higher nominal value of the fixed rate, the front-loaded rate has nearly the same present value (actually higher by about two thousand dollars). Providing higher dollar amounts in the first half of the project means that the money paid early on can go to work for the project, rather than having its value reduced by discounting over several years. In other words, the sooner the project can get its hands on the money, the more it’s worth. The increased value of the high payments early on are enough to outweigh the lower payments in the second half of the contract.
Comparing the detail pages for each structure, we notice that the annual nominal revenue after debt service is nearly twice as much under the front-loaded scenario. By delivering more money early on, the front-loaded rate achieves a higher income-to-debt-service ratio, a key ratio banks consider when evaluating whether to issue a loan. A strong revenue stream early in the project’s life will make it easier for the project to get financing. Later, after the debt has been retired, the project can afford to accept a lower rate, since it will have fewer expenses.
That explains why a wind project might opt for a front-loaded rate even if the nominal value of the payments is lower. Why would a utility be willing to consider such a payment structure? Well, as we saw, the net present value of both cash flows is nearly the same. On a per-kilowatt-hour basis, the utility would be faced with a net present value rate of 2.68 cents per kWh in both cases (just under the C-BED maximum). From a long-term perspective, the contracts would cost the utility about the same amount, and so they’re likely to be relatively indifferent between the two structures. Thus, the front-loaded rate creates a tremendous benefit for community wind projects in terms of helping them achieve financial feasibility, while not increasing the long-term cost to utilities.
All utilities are faced with slightly different financial situations, and have differing expectations for the future. Therefore, they’ll each have different discount rates. Still, the general principle demonstrated here will apply to each. And again, the C-BED legislation explicitly states that while the utilities are required to develop a tariff offering a front-loaded rate, they are not required to enter into any contracts using it. So if a community wind project chooses to negotiate a front-loaded rate, the utility will have plenty of opportunity to make sure that the structure is workable for them and fits into their long-range financial planning.
Additional information about C-BED can be found at www.c-bed.org
Wikipedia has a good entry on net present value, which includes links to additional information about cash flows and discount rates: http://en.wikipedia.org/wiki/Net_present_value
In 2005, the Minnesota legislature passed an omnibus energy bill which included important new mechanisms to support community wind. This system, known as C-BED, is intended to make it easier for community wind projects to be successful without putting an excessive burden on utilities. It accomplishes this by requiring utilities to create a new tariff utilizing a net present value rate for electricity, and the option of front-loading the rate in the first half of the contract's lifespan. This page is intended to provide information to make this new system easier to understand.
Understanding C-BED: A short explanation of the original C-BED legislation and how it benefits community wind. Additional information on C-BED and the other contents of Minnesota's 2005 Omnibus Energy Bill is available in this fact sheet.
The Next Generation Energy Act of 2007: A short description of the changes to the C-BED legislation passed in 2007. Additional information on The Next Generation Energy Act and other energy legislation passed in conjunction are available in this fact sheet.
A simple example spreadsheet comparing front-loaded and fixed rates, in Microsoft Excel format
For More Information:
C-BED.org is a website for an organization (also called Community-Based Energy Development or C-BED) that includes detailed information about the program, including a C-BED calculator.
MN Public Policy History
Even before C-BED was created, Minnesota has had a long-standing commitment to supporting renewable energy and especially community wind development through public policy and regulatory action. A variety of programs, including Minnesota’s Renewable Energy Objective and Xcel Energy’s wind energy mandates, have created a steady market wind in Minnesota. Community wind has grown to fill an important role in this market through the support of the MN Renewable Energy Production Incentive for projects under 2 MW, Xcel Energy’s small wind tariff and standardized power purchase agreement for projects under 2 MW, and the Renewable Development Fund. Some Minnesota community wind projects have also taken advantage of federal programs such as USDA grants, the federal Renewable Energy Production Incentive, and the Production Tax Credit.
Minnesota farmers and entrepreneurs have used public policy support combined with their own resources and ingenuity to create a variety of profitable business models for locally owned wind projects. Schools, colleges, and local utilities have followed, seeing the opportunity to bring new investment and clean energy to their communities, while creating a source of community pride.
The Clean Energy States Alliance (CESA) is a multi-state coalition of clean energy funds. Sixteen states across the U.S. have established funds to promote renewable energy and clean energy technologies.
On PBS's That Money Show, Dan Juhl, a wind developer from Minnesota, talks about community wind development and the benefits it brings to farmers and landowners in rural areas. Aired January, 2001.
Note: To view this, you must have RealPlayer video software, which can be downloaded for free from www.real.com
The 2006 Minnesota Wind Integration Study found that enough wind power to supply up to 25% of Minnesota's retail electricity sales by 2020 can be reliably incorporated by the electric power system at minimal additional cost. The study was ordered by the Minnesota Legislature. Find a summary slide presentation here.
This fact sheet from Windustry provides a quick overview of community wind. Click on the link below to view the fact sheet.
From the Great River Energy Press Release
Trimont, Minn. - The Trimont Area Wind Farm, the nation’s largest landowner-developed wind farm, was officially dedicated on Saturday, July 8 at the Trimont Chocolate Festival. Generating enough electricity to serve the annual energy needs of nearly 29,000 Minnestoa homes, the wind farm consists of 67 wind turbines, each nearly as tall as a 30-story building.
The project, developed and operated by Portland-based PPM Energy, provides power to Great River Energy, which distributes the renewable energy to member electric cooperatives throughout Minnesota.
“This project is a significant step that will help spur the creation of homegrown, renewable energy in our state and in our region,” said Jon Brekke, vice-president, member services, Great River Energy. “The land continues to be owned and farmed by local landowners, and energy customers throughout the state will benefit from the wind energy produced at the Trimont Area Wind Farm.”
Tim Seck, business developer, PPM Energy, adds: “The Trimont Area Wind Farm has become a model for community wind across the country, and we hope to replicate the success elsewhere as well as expand Trimont.”
The wind farm generates up to 100 megawatts (MW) of clean, renewable energy. Forty-three landowners in the area partnered with PPM Energy and Great River Energy to develop the project, which will help Great River Energy meet the Minnesota Renewable Energy Objective, calling on electric utilities to produce 10 percent of their energy from renewable sources by 2015.
The project will generate more than $1 million in local economic impact to the Trimont area in the form of taxes, easement payments, landowner revenue participation payments and jobs.
Neal VonOhlen, chief manager of the Trimont Area Wind Farm and a local farmer, notes his satisfaction with the project saying, “As a Minnesota farmer, I understand the value of wind energy to my farm, my community and the importance of it to our partners in the project. We’re incredibly excited to dedicate the wind farm, and look forward to producing energy for many years to come.”
Wind energy is the fastest growing energy source, with an annual average growth rate of more than 35 percent since 2001.