Following our recent blog posting on the release of the Ontario Power Authority (“OPA”) Draft LRP I RFP, LRP I Contract and draft Prescribed Forms released on November 17, 2014 here, we continue the tradition of year-end lists to bring our top ten issues under the draft LRP I Contract (the “Contract”).
- Termination for Convenience: The Buyer (being the successor entity to the OPA following its anticipated merger with the IESO effective as of January 1, 2015) has a fully discretionary right to terminate the Contract for convenience that applies both pre-construction and, unlike under the first iteration of the Feed-in Tariff contracts (“FIT “) (which most of our readers are familiar with), post-construction as well. Given the significant amount of local consultation that a Project will need to win a Contract, the small amount of this procurement, and the relatively short system-planning window, it is curious that the OPA requires an arbitrary right to cancel these Projects. Compensation to the Supplier on termination takes a formulaic approach that is substantively similar to the Design-Build-Finance-Maintain approach used by Infrastructure Ontario. Lenders, but more critically developers and equity investors, are encouraged to carefully read these provisions to ensure they fully understand the consequences of termination. As equity will not be compensated fully for the reasonably expected return from the Contract over the life of the Project, the risk of the OPA arbitrarily terminating sits squarely on developers.
- Contract Facility Amendment: Unlike RES III, CHPSOP 2 (currently in progress) and FIT 1, the Supplier cannot modify, vary or amend in any material respect any of the features or specifications of the Project set out in Exhibit B without the consent of the Buyer, which can now be withheld in its sole and absolute discretion. These provisions re-inserted themselves in FIT 2 and FIT 3 over industry objections. For large-scale industrial projects, Facility amendments are more likely than the small (largely roof-top solar) facilities that were targeted under FIT 2 and FIT 3 and, as a result, make this discretionary holdback of consent for reasonably required Facility amendments an administrative burden at best and a project risk at worst.
- Economic Curtailment: Suppliers under the Contract have the right to seek compensatory payments if they are dispatched off for reasons of economic curtailment. Importantly, Suppliers have exposure to unpaid economic curtailment subject to an “Annual Cap” and a “Total Cap”. The Annual Cap is 100 MWh per MW of capacity. The lifetime cap, after which there would be compensation for economic curtailment from the Buyer, is 2000 MWh per MW of capacity. As these risks are known at inception, it is open to bidders to factor these risks in their economic models and price bid. Interestingly, the OPA has re-introduced the minus $1.00/MWh dispatch bid floor for IESO Market Participants, meaning that these Projects will be dispatched-off before flexible nuclear and FIT Projects. The OPA has also confirmed that the economic curtailment provisions for distribution-connected Projects (Type 2) in the draft Contract should be disregarded.
- Determination of Achievement of Commercial Operation: It’s a bit of a sleeper, but the addition of the words “by the Buyer” to Section 2.7(a) (vis-à-vis FIT) is that the achievement of Commercial Operation is now determined by the Buyer. In most development contracts, commercial operation is a state that is deemed to have occurred when objective conditions precedent to commercial operation have occurred. Now it is only upon confirmation by one party, the Buyer, that Commercial Operation has been achieved. Fortunately, the Supreme Court of Canada’s recent ruling in Bhasin v. Hrynew may alleviate industry concerns regarding this unusual development.
- Term Extension: Unlike FIT 1, there is no right in favour of the Supplier to “buy back” the term of the Contract after the Milestone Date for Commercial Operation (“MCOD”). The right to extend the term to the full 20 years is only available to the Buyer in its discretion. Thus, the payment of Liquidated Damages is no longer tied to “buy-back”.
- Prerequisites to Construction: “Key Development Milestones” have replaced the Notice to Proceed (“NTP”) prerequisites of FIT 1. The three Key Development Milestones are (i) completion of the various Impact Assessments and related connection agreements, (ii) obtaining the Renewable Energy Approval, and (iii) documentation of Financial Close. Construction cannot commence until Key Development Milestones have been met, which must be met 3 months prior to MCOD. This is unlike FIT 1 for which the deadline was 6 months prior to MCOD and only required a financing plan (and not Financial Close). The OPA now requires Suppliers to submit all of their financing documents to determine if they are “acceptable” to the OPA. We will be interested to see what happens after Financial Close if the financing documents are found not to be acceptable.
- Representations of the Supplier: The OPA has re-introduced two representations of the Supplier that had been removed with the release of the FIT contract and have added a new one for good measure: (i) in each quarter in the Quarterly Progress Reports, the Supplier must re-state the statements, specifications, data, confirmations and information set out in its Proposal and the statements, specifications, data, confirmations, representations and information in the supporting evidence and documentation to the Proposal, (ii) the Supplier must represent that it has “no reason to believe, acting reasonably, that MCOD may not be achieved by the date specified in Exhibit B” of the Contract, and (iii) the Supplier must r represent that, at the time of execution of the Contract, it has, inter alia, made all due inquiry into requirements to obtain any REA and other equivalent environmental approvals or registrations, including registering with the Environmental Activity Sector Registry. As a result, if a sudden delay cannot be saved by Force Majeure or cured in a period of up to 60 Business Days, it will be a Supplier Event of Default. This re-introduction coupled with the next item on our list increase development risk.
- REA Appeal Is Not Force Majeure: An appeal of the REA to the Environmental Review Tribunal is deemed to not be an event of Force Majeure unless the Tribunal issues a cease construction order. In addition, the Supplier’s right to claim Force Majeure for matters related to obtaining a REA and other environmental approvals (such as, for example, delays associated with getting government sign-off for documents submitted as part of a REA application) may be limited due to the representation and warranty in Section 6.1(m) which would deny Force Majeure for events that were reasonably foreseeable. As there have been numerous delays associated with obtaining a REA for renewable energy projects and taking into account that large wind has been regularly targeted for appeal, such delays will need to be factored into the development timeline.
- Force Majeure Implications and Extensions of Term: There is a maximum amount of Force Majeure that can be claimed after which amount either Party can terminate the Contract. These limits apply to any given Project both before and after COD. It should be noted that if a Force Majeure event occurs after COD, the Term is not extended and thus, the Supplier will not have an opportunity to earn additional contract revenue to cover economic costs and losses incurred during the operating term due to the events of Force Majeure.
- LDC Payment Risk – The settlement mechanics for distribution-connected Projects (Type 2 and 3) continue a practice from FIT that provides that the LDC to which the Project is connected is responsible for payment to the Supplier. As a result, the Supplier has credit exposure to the LDC, an entity that is not party to the Contract. We suggest that now would be an opportune time to clarify what is industry’s expectation, namely that if there ever were a payment failure by an LDC under Exhibit E (Type 2 and 3) of the Contract, such obligation to pay would be back-stopped by the OPA.
As a reminder, the OPA is receiving comments on the draft Contract until December 19, 2014.