Financings of merchant power projects – power projects without power purchase agreements (PPA) for the sale of power – have made a resurgence in recent years.  Today’s market for power hedges has become more effective and robust than the hedging market for merchant projects in the 1990s and early 2000s. 

Most power projects are built with PPAs.  In a PPA, the project owner or developer will find one or more buyers to agree to take the electricity generated from the project at a set price over some significant portion of the project’s life.  With a long term contract in place, an investor or lender can look at project revenue with a high degree of certainty.  As long as the plant and offtake party (or parties) operate as they should, the project will collect a predetermined amount of revenue under the PPA.

In a pure merchant setting – a position where the project owner will only be able to collect revenue based on electricity sold into the spot market – it is very difficult to estimate the amount of revenue that will be available because collections are entirely dependent on the price available in the market when the project’s electricity is ready for sale.

Today’s merchant projects have a number of options for pursuing non-traditional revenue streams.  We will provide an overview of the more popular options through a multi-part series on hedging in power contracts.

In tomorrow’s post, we will explain how the Revenue Put Option is used in practice.  Understanding the available options and how to select and properly structure a hedge will be vital for successfully financing most wind and gas generation projects in the U.S., and it is quite likely that we will see the first hedged solar project within the next year.