Contractual Issues In Distributed Generation Projects. Jeffrey C. Paulson Paulson Law Office, Ltd. October 11, 2011

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1 Contractual Issues In Distributed Generation Projects Jeffrey C. Paulson Paulson Law Office, Ltd. October 11, 2011

2 Contractual Issues in Distributed Generation Projects DISTRIBUTED GENERATION Projects owned by nonutility owners, often large users, commonly not in the business of energy generation. Several reasons driving interest: In period of increasing energy prices, offered opportunity to reduce costs. Environmental stewardship; hedging against carbon control. Integration with other energy and cost management mechanisms Always challenging; especially so with drop in energy costs and deferral of carbon regulation. More important than ever to reduce and eliminate barriers that burden development of such projects.

3 CONTRACTS A. Site Control leases, wind/solar easements, access and transmission easements Statutory requirements: Minn. Stat ; other restrictions Lender provisions Other restrictions Scope of easements B. Power Purchase Agreement Price Term REC Ownership Default provisions Regulatory approvals and continuing performance provisions (CBED) Security Utility step-in rights C. Interconnection Agreement Equipment required Costs; allocation

4 D. Equipment Supply Agreement/Service Agreement Warranties equipment and availability, noise Financial guaranties/security Technology escrows Owner repair rights Spare parts Service obligations and support E. Equity Investment Terms Distribution Rights Tax/Grant compliance Step-in/prepayment rights Fees/contract siphoning funds or requiring services Options/buyouts F. Construction Agreements General construction or EPC Separate prime contracts Bonding/security

5 G. Fuel Supply (Biomass, digesters) H. REC, Grant, Tax Credit Agreements DOE 1603 USDA REAP Iowa PTC I. Aggregated Projects Transmission/Interconnection Agreements Common Transmission Company

6 INTERCONNECTION AGREEMENT Scope of Equipment Required Wide range of approaches across utilities and cooperatives PURPA requires costs to be reasonable largely still function of what utility engineers define w/no effective oversight; often experience unnecessary, excessive equipment and costs. Cost allocation--utility and generator Difficult to get acknowledgement of utility benefit/contribution Limitations for distribution cooperatives Effect of Standardized Forms Not affect costs, allocations Not address non-utility interconnections Can be used as means of avoiding necessary flexibility Goal of simplifying/expediting especially over time still dependent on parties good faith

7 POWER PURCHASE AGREEMENT Price Function of market, utility willingness Avoided cost is threshold Calculation inconsistent, unclear Information not easily accessed Tariffs little help Provisions that impose costs/restrictions or interference with financing Security provisions Standby rates Financing restrictions (defaults, cure rights, transfer rights) Consents Termination/security interests

8 OWNERSHIP STRUCTURE ISSUES These types of projects often rely heavily on grants, tax credits, effective use of depreciation and other tax benefits. Often the party benefitting from the project does not have either all the funding or the ability to use the tax benefits. To reduce costs and effectively finance, need an ownership structure that accommodates both the local owner and allows 3P investor to acquire an interest in the project adequate to meet tax and grant requirements. Examples include PTC flip structures; depreciation sales; saleleasebacks; and currently 1603 of the ARRA; contrast IPTC. Since these tools allow for cost reductions, everyone involved, including utilities, should want these structures to succeed.

9 BARRIERS ARE BASICALLY TWOFOLD: 1. Retail Service Territory Exclusivity In Minnesota, Iowa, and most states, utilities and cooperatives are still entitled to exclusively serve retail customers within assigned service territories. Third parties, including DG entities, are not allowed to sell to retail customers. Generally accepted that DG owner serving itself is an exception; including LLC or financing vehicle owned or controlled exclusively by the customer. Many utilities have allowed 3P investors in the vehicles as long as customer is still the major player, but not uniformly true. To the extent purchasers are insisting on ownership purity, precludes legitimate financing vehicles. Also used to disallow remote DG facilities or virtual net metering, where customer wishes to own DG facility off-site (where resource better) and transmit to load or get credit for remote generation. 2. Grant/Tax Eligibility Structures There are also legal requirements to qualify projects for grants, tax benefits that need purchaser accommodation (CBED, PTC, 1603, old 216C.41) Owners may need to structure ownership to effectively capture tax or other benefits while also meeting financier needs.

10 Current Example: 1603 of the ARRA Section 1603 Grants Section 1603 of the American Recovery and Reinvestment Act provides certain options to new project owners. In lieu of PTCs, for example, owners can receive a cash grant of 30% of eligible project costs from the federal government, or may elect a 30% investment tax credit. The project also incurs a reduction of basis for depreciation purposes of 15 percent. Only available for taxable entities. Non profits and governmental entities, however, may use either a blocker corporation or an option to purchase to still take advantage of the grant. Blocker Corporation a taxable corporation owns the project; its shares are held, in turn, by the non-taxable entity. Option arrangement a taxable investor owns some or all of the project for the MACRS period plus any other required holding period to avoid adverse recapture or reimbursement obligations, subject to an option in favor of the non-taxable entity to purchase the project from the tax investor at a defined date. Need purchaser to recognize that this is a financing tool and should not disqualify the project from DG status;

11 Example: Solar Rewards NSP has taken the position that only the retail meter owner can qualify for Solar Rewards rebates; an LLC or blocker corporation which owns the DG facility but not the meter relationship, even if 100% owned by the retail customer, has been rejected. Prevents NPCs, schools from taking advantage of programs while using Section Recently received ruling with respect to corporate DG owner serving a building owned by its real estate affiliate that deviated from previous rigid approach and hope to expand to include other entities before 2011 deadlines. This is likely to happen again, with some type of grant or private program; as long as ownership is legitimate financing vehicle and not a way to circumvent retail service rules, the utility should be indifferent.

12 SUMMARY Issues Interconnection Costs Interconnection Terms PPA Pricing PPA Other issues Ownership Issues Solutions Regulatory attention and enforcement to impose reasonableness requirements and policy for allocation between parties. Allow flexibility within standard forms to address different circumstances Revisit avoided cost methodologies and standards for accuracy and make information more accessible Disallow unnecessary cost and term impositions Policies must allow use of financing structures, including 3P investors, in order to reduce costs and allow additional owners to participate

13 About Jeffrey C. Paulson Jeffrey C. Paulson is the principal in his own law firm in Minneapolis and has been practicing in the area of energy law for over thirty years, with his practice focusing on representing clients developing and owning renewable energy projects, including small wind, biomass, hydro, solar, geothermal, digesters and other technologies in Minnesota and across the U.S. He has extensive experience in leasing and site acquisition, project ownership structures, construction and equipment contracting, PPA and interconnection negotiation, and negotiation of financing terms and documents. For more information contact: Paulson Law Office, Ltd., 7301 Ohms Lane, Suite 325, Edina, MN (952)

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