Energy Risk Awards 2016
Florida is well-known for its abundant sunshine, but not for its wind. That has held back the uptake of wind power in the state.
Last year, though, Gulf Power became the first Florida utility to purchase wind power. Helping it achieve that goal was Morgan Stanley. In a complex, four-way deal, the bank enabled Gulf Power – a subsidiary of Atlanta-based Southern Company – to purchase energy from the Kingfisher wind farm being built in Oklahoma, some 700 miles from the utility's home base in Pensacola.
"This wasn't a straightforward deal," says Peter Sherk, Morgan Stanley's New York-based global co-head of commodities. "The locational difference between buyer and seller and the fact they weren't perfectly offsetting each other meant this couldn't be a simple product that the clients could transact on their own, without it being prohibitively expensive."
The 298-megawatt (MW) Kingfisher facility is being built just north of Oklahoma City by Apex Clean Energy, a Virginia-based wind developer, and it is owned by First Reserve, a New York-based private equity and infrastructure investment firm. The deal requires Morgan Stanley to buy all the output from the Kingfisher facility as a fixed volume regardless of intermittency, and to deliver electricity to Gulf Power in a shape that suits the utility. Adding to the deal's complexity, Gulf Power needed only about 60% of Kingfisher's capacity.
"We were trying to achieve something that hadn't been done before, and we needed a partner with the ability to manage transmission and guarantee delivery of energy," says Steve Vavrik, Apex's chief commercial officer.
Underpinning the deal are a financial hedge consisting of a long-term, fixed-for-floating swap between Morgan Stanley and Apex and a power purchase agreement (PPA) between Morgan Stanley and Gulf Power, which has a term of 20 years, according to a filing in which the Florida Public Service Commission (PSC) approved the transaction.
The hedge, agreed in January 2015, requires the bank to buy a fixed volume of electricity from the wind farm, whatever the actual output; this revenue stability was a prerequisite for securing investment and funding for the $452 million facility. The bank must also buy, at a predetermined price, all the renewable energy credits (Recs) generated by Kingfisher. Green energy providers in the US are credited with one Rec for each megawatt-hour (MWh) of electricity they produce.
Under the PPA, which was approved by the Florida PSC in May 2015, Morgan Stanley will deliver 674,437MWh of electricity per year into Southern Company's system service area. The power is to be delivered as a fixed number of MWh for each hour of each month of each year for the full term of the agreement. The delivery commitment must be shaped to match the projected hourly and monthly output of a 178MW portion of Kingfisher's output. In addition to firm delivery of power, Morgan Stanley is also committed to delivering Gulf Power a fixed number of Recs, irrespective of what happens to generation at the wind farm in Oklahoma.
If generation falls below expectations at any time, the bank must source alternative power and Recs to deliver; conversely, it also needs to sort out what to do in the event of a surplus. All this exposes Morgan Stanley to volumetric and price risk, as well as transmission and congestion risk that could move the spread between the markets in which the power is bought and sold.
The bank has two ways to manage the risk associated with that spread. First, it can physically schedule power between the two locations. To do this, the bank, which already owned transmission for part of the physical path, bought additional transmission to complete the path, says Nitin Jindal, Morgan Stanley's head of US East power trading and origination. "If the spread expands, so does the value of these transmission lines," he explains.
The second method is to use the bank's extensive client lists to originate out its risk in local jurisdictions along the way. "In the long term, we expect to use a combination of both to reduce or eliminate our risk," Jindal says.
Gulf Power says the deal will save its customers money while encouraging the development of renewable energy. "This was a first-of-its-kind opportunity for Gulf Power and involved many moving parts," Michael Burroughs, Gulf Power's vice-president of generation, says in a written statement. "Throughout the process, other parties involved were knowledgeable and professional. The process ultimately resulted in an outcome we believe will benefit our customers well into the future."