Energy storage is primed to grow—and so is the market complexity

Aaron Klein, Managing Director, KeyBanc Capital Markets, December 2021

Energy storage is primed to grow—and so is the market complexity

As the U.S. electric grid transitions to a clean, reliable distributed system, the opportunity for energy storage is growing. Expanding renewable energy adoption, coupled with developing regulatory frameworks and the Biden Administration’s infrastructure and social spending plans, are driving outsized expectations for battery projects. Large-scale battery storage will contribute 10,000 megawatts to the national grid between 2021 and 2023—10 times its contribution in 2019, according to the U.S. Energy Information Administration.1 Meanwhile, battery storage costs fell by 72% between 2015 and 2019.

Financing for commercial battery projects depends on the potential revenue streams available, which can involve complex business structures. At the recent REFF Wall Street conference, KeyBanc Capital Markets’ Aaron Klein, Managing Director, Utility, Power & Renewable Energy, participated in a wide-ranging panel discussion focused on evolving business models for the sector. Moderated by Steven Porto, Managing Director, Ares Management, the panel also included Nitin Gupta, SVP, Finance and M&A, Broad Reach Power; John Breckenridge, President and CEO, Arevon Energy; Claus Hertel, Managing Director, Rabobank; and Doug Sherman, Chief Commercial Officer, Perfect Power. Representing both developers and capital sources, the panelists covered the complexities.

Texas, California and New York are hot spots

With established regulatory and operational structures for renewable energy, storage and distributed power, Texas, California and New York have emerged as some of the most active markets for storage. In Texas, for example, ERCOT (Electric Reliability Council of Texas) is a power only market, driving numerous merchant and hedge structures, whereas New York has established a meter tariff scheme and launched an ambitious energy storage plan while California has resource adequacy (RA) requirements that create contract opportunities.

As the leading renewable energy financier by transaction volume, KeyBanc Capital Markets (KBCM) supports energy storage projects in multiple markets, including California and Texas. KBCM has raised capital, both its own and third-party, for a variety of projects utilizing different offtake strategies, whether contracted with community choice aggregators (CCAs), utilities or other entities, or sold merchant.

Evolution from depleting asset to in-perpetuity asset

Historically, lithium-ion battery projects were capitalized on the premise of a 20-year useful life. Now, as Steven Porto observed, some dealmakers are factoring in repowering to extend the useful life to 45 or 50 years.

Arevon is starting to look at asset life differently than in the past, noted Breckenridge. While a 25-year useful life is typical for modeling purposes, a storage asset can operate almost indefinitely through replenishment. A battery installation has residual value that grows over time as the cost of new development rises more or less with inflation, while replenishment costs are falling. In addition, battery vendors have become willing to engage in long-term service contracts, recognizing that replenishment cost is declining, and reliability is important to customers.

Few lenders, however, assume more than a 20-year useful life for batteries, said Claus Hertel, even though usage levels—which affect battery life—vary widely. For an RA contract in California, for example, batteries are dispatched 365 days per year, whereas batteries dispatched infrequently could last longer than 20 years.

At KBCM, the perspective on useful life depends on whether debt or equity financing is at hand. Equity investors have begun to view battery projects as assets in perpetuity—the assets will remain indefinitely, as will the need. Over time, the batteries will be repowered and replaced as the technology evolves. However, the debt financing will be driven by the offtake strategy and desired credit profile.

Project pricing considerations

Project economics are evolving as the market evolves. Broad Reach, for example, pays close attention to warranty terms and whether a battery is frequently cycling through charges and discharging, said Gupta. At Arevon, fine-tuning battery dispatch algorithms is a complex, ongoing priority, according to Breckenridge—there’s a difference between creating a revenue model and operating a battery on a day-to-day basis.

RA contracts versus tolling agreements in California

Project cost overruns and construction delays have always been risk factors for battery projects, but revenue streams can also pose risks. While tolling agreements offer generally lower returns, but less risk than RA merchant contracts, it is possible to secure a tolling agreement with infrastructure-like returns, said Breckenridge. Also, including tolling agreements in the portfolio is not a bad idea since some areas may become overbuilt, which is why Arevon is pursuing both tolling and RA contracts.

Broad Reach has been evaluating toll structures, but still operates primarily with RA contracts to meet the high demand in California, according to Gupta. Since Broad Reach operates a 24-hour, real-time energy trading desk, the company seeks to capitalize on any available opportunities, said Gupta.

Hertel spoke in favor of tolling, from the lender’s perspective. Rabobank does lend for RA contracts that include significant merchant sales opportunities, but, as Hertel said, it’s important to take a conservative view with regard to overbuild scenarios and merchant risk.

In contrast to Rabobank, Perfect Power prefers the potential upside of merchant exposure, said Sherman. From Perfect Power’s perspective, the potential equity returns, and the benefits of volatility and price spikes make ancillary services and RA contracts attractive.

KBCM considers projects in terms of investor preferences and balancing risk and return. A tolling agreement with infrastructure-like returns is the most stable and fixed agreement, reducing risk and the cost of capital. For investors seeking higher yields, while looking to manage risk, the ideal business model may be a hybrid in which the project utilizes both RA and merchant revenue. Whether that means 40% RA and 60% merchant or vice versa, KBCM factors in the risk-reward balance into its debt underwriting.

Market prospects for stand-alone storage

Commercial and industrial (C&I) demand for wind and solar power has been growing quickly, along with the demand to couple these with storage. Now, the need for stand-alone C&I batteries is emerging. Arevon, for instance, is working on multiple large-scale C&I stand-alone “behind the meter” projects and its distributed generation sites increasingly include storage.

At KBCM, we have been seeing more stand-alone storage projects as well, especially on the C&I users. California has had much success supporting with its Self-Generation Incentive Program (SGIP), which provides incentives to support existing, new and emerging distributed energy sources, and helped to advance battery deployment. In Texas, we’re working with a firm doing distributed batteries versus the large 100-megawatt-hour-plus size.

When looking at the growth potential for stand-alone storage, Breckenridge noted that combined solar power and storage historically produced a higher return than storage alone, but that dynamic is changing. Stand-alone solar storage now can produce premium returns because the usage is primarily for the merchant market. In contrast, when taking into account the costs of a distributed generation operation, it may not produce premium returns.

At KBCM we are seeing a similar trend. Stand-alone solar contracts are becoming increasingly rare, and most projects are based on contracts for generation plus storage. It’s a changing landscape, and the product is evolving in response to offtakers’ needs.

Buckle up for the roller-coaster ride

In the current environment of supply-demand imbalances, labor shortages and logistics challenges, the near-term direction of the battery storage market is murky. What is clear is that a massive amount of education is needed to bring all market participants—or would-be participants—up to speed on the market evolution. The playing field varies from state to state, and regulatory and operational frameworks are still being created. In short, the next few years will likely be an interesting roller-coaster ride as the markets take shape.

KeyBanc Capital Markets Utilities, Power & Renewable Energy group is a leading financial advisor and lender in the North American marketplace. As one of the first investment banks to embrace renewable energy, we bring together deep experience in both traditional investor-owned utilities and the renewable energy sector that is powering the future. To learn more or to discuss more on the accelerating energy storage sector, reach out to Aaron Klein or Andy Redinger.


U.S. Energy Information Administration: Energy Storage in the United States: An Update on Market Trends, August 2021.

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