Will Carbon Capture Finally Make a Breakthrough in the United States?
Carbon capture and sequestration ("CCS") technology has the ability to capture up to 90% of carbon dioxide emissions produced by fossil fuel in power plants or industrial processes. Due to the intermittent nature of renewable energy and the still high cost of battery storage, CCS could be an important piece of a low carbon energy solution in the United States. Unfortunately, CCS projects have struggled due to high costs and cost overruns. As a result, there are currently only 18 large-scale CCS facilities in operation worldwide and only one in the United States—the 240-MW Petra Nova power plant located near Houston, Texas.
According to the IEA's Sustainable Development Scenario, 14% of cumulative emissions reductions are expected to come from CCS. This will require 1,000 to 3,000 CCS facilities by 2040. In order to incent additional development of CCS projects, in 2018, Congress passed the FUTURE Act, which substantially expanded the 45Q tax credit related to CCS projects. Importantly, the law removed the 75 million metric ton cap on new CCS projects and increased the tax credit for captured carbon used in enhanced oil recovery ("EOR") from $10 to $35 per metric ton and the tax credit for other CCS projects, including those with non-EOR geologic storage, from $20 to $50 per metric ton. In order to qualify for the 45Q tax credit, construction on the CCS project must begin before January 1, 2024.
Despite the law being passed in 2018, the IRS waited more than a year to issue a notice seeking comments. Final IRS regulations are critical for both project developers and investors to ensure their project will qualify for the new tax credit before making development and investment decisions. After a yearlong delay and pressure from Senators John Barrasso (R-WY), Shelley Moore Capito (R-WV), and Sheldon Whitehouse (D-RI), the IRS finally released Notice 2019-32 on May 2, 2019, seeking public comments on the 45Q tax credit. Final regulations are expected to be forthcoming. CCS proponents hope that the enhanced 45Q credit will jump-start the industry; indeed, the IEA estimated that it could result in up to $1 billion in capital investment in CCS projects over the next six years.
Beyond the FUTURE Act, Congress has continued to consider legislation to promote CCS technology and project development. Senator Joe Manchin (D-WV) introduced the Enhancing Fossil Fuel Energy Carbon Technology, or EFFECT, Act of 2019 in April of this year. In addition, four U.S. senators are proposing a bipartisan bill, the LEADING Act, which would create a program to develop CCS technology for natural gas-generation facilities. According to Lou Hrkman, deputy assistant secretary for clean coal and carbon management with the Department of Energy ("DOE"), the current cost of capturing carbon dioxide is $47 per ton. The DOE's goal is to reduce that cost to $30 per ton and make CCS commercially viable by providing funding for research and development programs and pilot projects. In addition, in June of this year, Senator Michael Bennet (D-CO) and Rob Portman (R-OH) introduced Senate Bill 1763, the Carbon Capture Improvement Act of 2019, which, if passed, would allow the issuance of exempt facility bonds as a means to finance qualified CCS facilities.
Both the enhanced 45Q tax credits and the pending legislation to promote CCS technology should open up new opportunities for the development and financing of CCS projects in the United States. Minnkota Power Cooperative, for example, is in the advanced development stages of Project Tundra, a retrofitting of Unit 2 of its Milton R. Young Station in North Dakota with CCS technology. If successful, Minnkota estimates that the facility could capture on average 3.3 million metric tons of carbon dioxide annually, creating a long-term innovative clean energy solution. Moreover, if Project Tundra is successful, it is likely that other project developers will build on that success, and carbon capture and sequestration may truly become a reality.
Impact of Climate Change on Banking Products in Europe
Banks and investors are using new tools and instruments with an emphasis on transparency and accountability in a sign that the sustainable finance industry is maturing. So-called green bonds, nearing a decade of use, are now tracked on a variety of indices worldwide and boast 42% year-on-year growth in Q1 2019. Green bonds have expanded from traditional issuers, such as a multibillion euro program to expand rail and metro links in European capitals, to "browner" industries such as a European gas utility issuing "transition" bonds to finance emissions reductions and energy-efficiency projects in its own headquarters and supply chain. Leading ratings agencies assess green bonds for environmental, social, and governance ("ESG") considerations while also capturing ESG considerations more generally in debt issuer ratings.
In response to changes in climate science and regulation, green bond issuers and projects are increasingly independently verified by auditors or third-party certifiers, such as under the Climate Bonds Initiative, or accredited under programs such as the forthcoming EU Green Bond Standard proposed by the European Commission's technical experts group in June 2019. Such mechanisms bolster issuers' use of proceeds descriptions in a green bond prospectus and impose tracking, proceed management, and ongoing project evaluation and screening mechanisms. Similarly, when investing in private equity funds, a bank may require that the fund abstain from "brown" or other investments harmful to the bank's ESG goals.
German Schuldschein instruments can be an alternative (or complement) to green bonds. Unlike most bond instruments, the Schuldschein is a contract between issuers and banks that may contain specific covenants (for example, maintaining a certain ESG rating) and an interest rate linked to the issuer or project's ESG rating.
Finally, banks provide syndicated loans, revolving credit facilities, and other debt instruments for green projects and to issuers who may be required to certify use of proceeds only for green projects. ESG-linked interest rates may be adjusted periodically based on contractually identified key performance indicators ("KPIs"). Certain arranging banks may be appointed as "sustainability coordinators" to assist and monitor sustainability KPIs and ESG scores.
Sustainable finance projects bring a host of regulatory and contractual issues, such as climate risk-related diligence, climate-specific representations and warranties, and nonfinancial disclosure obligations of both the issuer's impact on the climate and climate change's impact on the issuer.
Sustainable finance projects also give rise to new litigation risks. In France, investors can bring misleading advertising or unfair commercial practice claims if information contained in the documents underlying green financial products contains misleading information or is "greenwashing." Regulators can impose penalties, and consumer class actions may emerge as a growing risk for green bond issuers and arrangers.
Issuers and banks may look to anti-greenwashing guidance in the face of these potential liabilities. In particular, banks and issuers are recommended to use aspirational vocabulary, disclaimers, and forward-looking statements when describing impacts that may be difficult to assess, such as climate change-related KPIs. Pre-deal diligence is crucial, and reliable third-party certification along with a thorough legal review of disclosures is strongly recommended.
More change is on the horizon—in both the global and regulatory climates. The European Union's 20-point action plan is in full swing, bringing ESG rating advice and disclosure guidelines from the European Securities and Market Authority and a developing EU sustainable finance "taxonomy" destined to harmonize standards and repaint "greenwashers" in their true colors. These new rules will alter how banks and investors engage in and speak about sustainable finance for years to come.
Australian Federal Election Update: Climate Policy Status Quo Maintained … for Now
Climate policy and the anti-coal movement featured heavily in the recent federal election in Australia as the Liberal National Coalition government was reelected by a narrow majority, confounding both public expectations and the polls.
The Coalition proposed a policy to meet Australia's agreed Paris commitment of a 26% reduction in carbon emissions by 2030 through both recent and planned closures of various coal-burning power stations and promised funding of carbon abatement projects at a cost of approximately $3.5 billion. The Labor Party went much further in its anti-coal platform—with a proposal to achieve a 45% reduction in carbon emissions through subsidies for renewable energy leading, which it believed would lead to earlier closure of Australia's aging coal-burning power stations, a policy broadly supported by the Greens and widely expected to help lead the Labor Party to victory in the national election.
By all accounts, the Coalition election victory was delivered by a major and unexpected swing in voter support in the state of Queensland, Australia's largest coal producer. The major issue in Queensland centered on the approval of a proposed new coal mine there that was being delayed by the Queensland state Labor government notwithstanding support for the mine by Queensland's powerful coal mining union. During the election campaign, a former Greens leader and the anti-coal lobby organized a large convoy that traveled from Melbourne and Sydney to rural Queensland to protest the mine, drawing the ire of the surrounding rural communities that rely heavily on mining and resources for jobs. This ire and local support for the coal mine translated into votes for the Coalition in Queensland.
Immediately after the Labor party's election loss, the Queensland government granted final approvals for the mine. However, neither the Coalition's victory nor the governmental approval has deterred the anti-coal activists who are now targeting their protests against the mine at the potential financiers and engineering contractors on the project.
Although ultimately this election did not result in a change to the regulatory status quo, Australia's federal election cycle ensures that climate policy will continue to be extremely contentious until the next election in 2022.