US Offshore Wind: Still Affordable?
Later this year, the 800-megawatt capacity Vineyard Wind 1 project will begin delivering electricity to the Massachusetts grid. And lead owner Avangrid Inc AGR along with its 81.65 percent owner Iberdrola SA BDRY have indicated the project remains on budget for when it enters full commercial operations, expected in early 2024.
After that, however, the way ahead for US offshore wind is considerably less clear. The Biden Administration is supportive as ever, pledging last month to expedite permitting to the construction stage for at least 16 offshore wind arrays by 2025.
Installation of offshore wind farm at Block Island, Rhode Island (Photo by Mark Harrington/Newsday … [+] RM via Getty Images)
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That now includes a published draft environmental review of Dominion Energy’s D proposed 2.6-gigawatt Coastal Virginia Offshore Wind (CVOW) facility. The project will be developed with a vessel owned by the company and now being built in Texas, which should allow management to control costs and potentially profit by leasing for other offshore wind construction.
That’s critical for Dominion, which on October 28 reached a deal capping potential CVOW cost overruns with multiple parties including Virginia Attorney General Jason Miyares, the Sierra Club and major customer Wal-Mart Inc (WMT). The utility’s current all-in estimate for the project is $9.8 billion. If approved by regulators, the agreement would require shareholders to eat half of the overruns between $10.3 and $11.3 billion, and essentially all remaining costs above that.
Dominion will announce Q4 earnings and update operating and financial guidance on February 8. And CVOW’s progress and costs are sure to be front and center. During the Q3 call in early November, management asserted it had locked in 75 percent of project expenses, and expected to have “over 90 percent” by “the end of Q1 2023 at the latest.”
If the company can confirm that next month it will be good news indeed for Dominion. The utility is also in the midst of a “top to bottom” strategic review, which is likely to include asset sales and a reset of earnings and dividend growth guidance. And any news that settles investors’ nerves on CVOW costs is likely to help its underperforming stock close its valuation discount to sector leaders like NextEra Energy NEE (NEE).
For its part, NextEra has been a skeptic of offshore wind for some years, focusing instead on expanding its US-leading fleet of solar, energy storage and onshore wind. In contrast to the 5 years or more required to site, permit, finance and build offshore wind, these projects typically enter service in 1-2 years after a final investment decision, which basically allows management to lock in costs and therefore returns.
The contrast with offshore wind is quite stark. Earlier this month, the world’s leading offshore wind developer Orsted A/S (Denmark: ORSTED, OTC: DNNGY) warned it would take a DKK2.5 billion ($365 million) hit to earnings. The reason: Unexpected costs at the Sunrise wind facility it’s building in a 50-50 partnership with utility Eversource Energy ES (ES), off the Massachusetts coast.
Orsted also announced it will take full ownership of an offshore wind farm planned in New Jersey, buying out utility Public Service Enterprise Group’s PEG (PEG) 25 percent stake. It still projects initial delivery of power from the facility at the end of 2024, and full commercial operations the following year.
Public Service says it still intends to provide transmission service. But the utility’s sale of its piece is also a clear sign it doesn’t want the risk of actually building offshore wind, and that New Jersey regulators probably don’t either. And while Dominion’s CVOW is entirely Virginia regulated, other utilities including Eversource and Avangrid are reportedly attempting to monetize some or even all of their ownership interests in ongoing offshore wind projects.
First mover projects in the energy business are notorious for cost overruns. Just ask Southern Company (SO), which is attempting to complete and start up the first two new US nuclear reactors in nearly 40 years, using Westinghouse’s AP-1000 design.
Offshore wind facilities are not first movers per se, as the first such plant was installed in Denmark in 1991. Bloomberg New Energy Finance reports 53 GW of global operating capacity at the end of 2021. And based on plans announced, it projects that to rise to 521 GW by 2035 with China, Germany and the UK having the most ambitious plans.
They are, however, new in North America. And while the Biden Administration’s goal of 30 GW by 2030 seems fairly modest, projects here appear to face several hurdles European and Asian projects do not.
In December, for example, California auctioned off seabed leases at a price of $1,624 to $2,518 per acre—a steep drop from the $8,831 average fetched in February for sites off New York and New Jersey. The Golden State set a record for the highest number of approved bidders at 43. Yet only 7 chose to actually make an offer, the lowest turnout of any competitive US offshore wind auction to date.
One reason is, despite setting a goal of 2 to 5 GW by 2030 and 25 GW by 2045, the state has not set either procurement targets or made clear if it intends to offer a level of subsidy. So it’s highly uncertain how developers will secure revenue contracts and therefore returns with which to secure financing for projects. And water depths off the California coast compound the problem, as projects will have to utilize floating technology that’s less proven and more costly to deploy.
Elsewhere, US offshore wind projects have basically become victims of the success of offshore wind power globally. Disruption from Russia’s invasion of Ukraine has increased urgency in European and Asian capitals to wean themselves off expensive imported fossil fuels. And they’re turning to offshore wind as never before.
That’s forced US developers who haven’t yet locked in costs by contracts to compete globally for materials, qualified labor and finance. That’s with inflation close to its highest level in 40 years—and the Federal Reserve determined to stop it by pushing up interest rates hence borrowing costs at the fastest clip since the 1980s.
Will US offshore wind projects proceed despite the higher costs? That’s likely to depend in large part on how much of the additional development expenses regulators will allow into customer rates.
The Inflation Reduction Act does include generous subsidy for offshore wind development and starts to kick in this year. But Avangrid has already made clear to Massachusetts regulators that it needs a higher rate for it to proceed with its 1.2 GW Commonwealth Wind project off the state’s coast, which it says is “no longer viable” under current terms.
A moderation of current supply chain strains and/or rising interest rates would of improve economics. And it appears increasingly probable that larger players like Avangrid/Iberdrola and Orsted will put projects on hold until those costs moderate, or until regulators come around.
That means solar, onshore wind and energy storage—not offshore wind—will get the lion’s share of renewable energy dollars in the US this year. Also expect to hear more about hydrogen, another zero CO2 energy source that’s increasingly the focus of major oil companies like Chevron CVX Corp (CVX CVX ).
