After strong growth in the last decade, private equity and private capital-owned power plants in the PJM Interconnection face financial headwinds including sharply lower capacity revenue, according to a report released Tuesday by the Institute for Energy Economics and Financial Analysis, a nonprofit group that supports moving away from fossil fuels.
“The 2010s saw a massive buildout of new capacity with relatively low risk,” Dennis Wamsted, IEEFA energy analyst, said in the report. “The situation today is reversed. The buildout has essentially ended, and the risks are accumulating quickly.”
Private equity’s share of fossil-fueled generation in PJM has grown to about 60%, Wamsted said in the report. As of the end of last year, three of the largest generators in PJM are private firms: ArcLight with 14,230 MW, LS Power with 10,803 MW and Talen Energy with 10,370 MW, according to the report. PJM operates wholesale power markets in 13 Mid-Atlantic and Midwest states and the District of Columbia.
A key factor supporting private equity’s surge in PJM – capacity payments – has collapsed, Wamsted said.
From 2014 through the 2022 capacity auction, the clearing price in most of PJM averaged $115.33 per megawatt-day, supporting project financing, Wamsted said. But capacity prices in the last three auctions averaged $37.68/MW-day, according to the report.
“The prospect of lower capacity payments for developers is likely to prompt lenders to raise rates because of concerns about higher repayment risks,” Wamstad said. “Selling a banker or other financier on a project with expectations of capacity prices above $100/MW-day is undoubtedly easier than pushing the same project with prices below $50/MW-day.”
The lower capacity payments are also affecting operating plants, according to the report.
Heritage Power, which owns 2,350 MW of gas- and oil-fired generation in PJM, cited the reduced capacity payments in its January bankruptcy filing, Wamsted said.
Also, PJM is changing its capacity market rules, partly in response to Winter Storm Elliott when nearly a quarter of the capacity in the grid operator’s system failed to run, according to the report. Among the possible changes, PJM proposed lowering the accredited capacity for combined-cycle gas-fired power plants and combustion turbine units to 76% and 63%, respectively, a move that would have “major financial implications” for private equity and private capital power plant owners, Wamsted said.
Also, after Winter Storm Elliott in late December PJM levied about $1.8 billion in non-performance penalties, with private equity firms among the hardest hit, Wamsted said. ArcLight-owned Parkway Generation faces a $100 million penalty, he noted.
“Bankers considering a project now know full well that non-performance will be costly, potentially prompting them to raise their financing costs for new gas-fired projects,” Wamsted said.
Putting additional pressure on private equity power plants, interconnection queue reform could unleash a flood of renewable energy projects across PJM. The grid operator expects about 100,000 MW of new capacity – mainly renewable energy – to clear its interconnection study process by the end of 2025, with another 100,000 MW expected to finish the process a year later, according to the report.
“This will add yet more risk for existing and proposed gas plants, forcing them to deal both with lower revenues, particularly in the winter with lower capacity accreditation levels and higher wind values, and the likelihood that the addition of new renewable projects will constrain energy prices,” Wamsted said.
Power plant owners contend they aren’t earning adequate revenue in PJM’s capacity market, potentially leading them to retire their units.
Decisions by PJM and the Federal Energy Regulatory Commission “have diminished the capacity markets to the point where reliability-needed resources are not receiving sufficient compensation to remain viable and asset owners are no longer able to exercise independent judgment about the resources they own,” the PJM Power Providers Group said in a March 7 letter to the grid operator’s board.
The Electric Power Supply Association said a mid-August appeals court ruling on PJM’s offer cap rules was “another blow to the health of PJM’s competitive markets and the [regional transmission organization’s] ability to retain the resources needed in the short and longer terms.”