Across the U.S. and around the globe, the appeal of independence from the power grid continues to grow.

Whether stemming from the floodwaters of Hurricane Sandy or worsening seasonal wildfires out west, companies and communities are realizing that having a backup power supply for when the unthinkable happens is an increasingly good bet in an era of climate disruption.

That trend promises to open up new opportunities for microgrid deployments, which allow institutions to provide power on-site, without the grid.

U.S. cumulative microgrid capacity is expected to reach 4.3 GW by 2020, according to GTM Research’s recent report U.S. microgrids 2016. That represents a 116% increase in annual installed capacity from now until then.

Those numbers are promising, but analysts say many business opportunities for microgrids remain closed off by mainstream private sector financing models, which fail to take into account the public service that many microgrids can play.

“The inherent benefit streams from microgrids are varied and include cost reductions that accrue to the owner-operator of the project but also include social value streams,” Ken Horne, energy director at Navigant Consulting told Utility Dive. “That has been a conundrum for the marketplace.”

Increasingly, however, utilities and other investors have latched onto a growing financing tool known as private-public partnerships (P3), or “public purpose” financing.

GTM’s most recent numbers bear the trend out. From 2010 to 2014, about 90% of microgrids were owned by the end user, but that share fell to 74% of the market in 2015 and is expected to be only 38% of the market in 2016. Utilities’ market share, which was 2% in 2014 and 5% in 2015, will jump to 18% in 2016.

The big finding, however, was in mixed ownership. Though virtually nonexistent in 2013, the share of microgrids owned by multiple entities jumped to 10% in 2014 and is expected to be 38% of the market this year. Often times, these mixed ownership models include money from public institutions alongside utilities and private end users.

This more diverse microgrid marketplace has two major drivers, said Omar Saadeh, lead author of the GTM Research report. First, regulated utilities’ see opportunities to replace bulk power system investments with microgrid deployments, which they often push to finance through the rate base. Second, private sector off-takers are increasingly interested in owning and operating specific microgrid assets through long-term power purchase agreements.

Multi-stakeholder ownership models appeal to both, Saadeh said. They reduce costs to end customers and allow regulated utilities to use microgrids to strategically target grid needs like congestion relief and substation peak demand reduction.

Many investors have been looking for a way into the microgrid market since at least 2012, Navigant’s Horne said, when Hurricane Sandy knocked out power to millions along the eastern seaboard of the U.S.

Billions of investment dollars in the form of pension funds, private equity, and large family funds have been waiting for microgrid opportunities that will provide a return, Horne said. “Here’s the problem: the operative word is waiting.”

The shift in the microgrid ownership models could help get those investors off the sidelines, both analysts agreed.

“We are at the tipping point between R&D piloting and technology commercialization,” Saadeh said.

The evolving microgrid

A microgrid, according to the U.S. Department of Energy, is a group of interconnected loads and distributed energy resources.” Within its boundaries, it is “a single controllable entity” that can connect or disconnect from the grid “to enable it to operate in both grid-connected or island mode.”

Microgrids incorporate distributed energy resources (DERs) ranging from diesel generators and combustion turbines to photovoltaic (PV) solar arrays and battery energy storage systems. They strengthen grid resilience because they can continue to operate while the main grid is down.

Microgrids "used to give utility executives heartburn” because they seemed to threaten the utility's resource plan and its obligation to serve reliable power,” Navigant Principal Analyst Peter Asmus recently wrote.

Utilities doubted the ability of microgrids to island and then safely reconnect to the grid. And their DER contributed to utility revenue declines, particularly because they often included energy efficiency upgrades, battery energy storage, and automated energy management capabilities like smart thermostats and smart appliances.

Early iterations of privately-owned microgrids often allowed businesses where electricity rates and demand charges were high to shift a significant portion of their consumption away from grid-supplied power.

Now, however, utilities are starting to want in, according to Asmus. The cost of solar has fallen to or near grid parity, the cost of battery energy storage cost is following the solar trajectory, and inverter advances make islanding and interconnection less worrying.

A “small but growing number of utilities” are increasingly interested in owning and operating utility distribution microgrids, which they see as part of their smart grid technology deployments, Asmus wrote.

At the same time, a growing number of businesses want to incorporate renewables, distributed renewables, and energy storage into their operations to reduce electricity costs and meet sustainability aspirations, as Utility Dive has frequently reported. Many also need a microgrid’s ability to ride out power supply disruptions to remain competitive.

Large companies like Walmart or Ikea can easily finance their desired microgrid investments off their balance sheets, but current battery prices and the cost of microgrid controllers remain prohibitive for many smaller businesses, towns and other institutions.

Mixed ownership and public interest financing may be the answer. A newly-announced microgrid at the Port of Los Angeles, scheduled to start operation in 2017, could provide a useful blueprint.
 

The Port of L.A. and rise of P3

California air quality regulations have forced the Port of L.A. into a dilemma, according to Matt Wartian, a project manager for Burns & McDonnell, the project’s construction contractor.

To reduce emissions, the port is transitioning its vehicle fleet of cranes, trucks, tractors and forklifts away from diesel fuel to electric drive trains. Docked ships are also required to run on the port’s electric supply instead of their diesel engines.

Meanwhile, port operator Pasha Stevedoring has long wanted to strengthen the site’s aging electrical system — an ambition given new priority with the clean air rules.

A solar-plus-storage system was considered, but it fell short of Pasha’s goal of an islanding-capable microgrid that would make the terminal resilient to a disaster or attack that would take the regional grid offline.

“The solar piece — the Green Omni Terminal Demonstration Project — is financially viable on its own and Pasha will reach break-even on it in about five years and then begin making money from it,” Wartian told Utility Dive. But without the P3 financing package made possible by the microgrid’s role as a public purpose, “it cannot be financially viable today because the battery cost is too high.”

The two public purposes of zero emissions and emergency resilience won the project a $14.5 million California Air Resources Board (CARB) Multi-Source Facility grant targeting emissions created in the transportation of goods. The grant is funded by proceeds from California’s cap-and-trade auction.

The total cost of the project is $26.6 million. In partnership with CARB, Pasha “will supply $11.4 million in cash and in-kind participation,” the company reported. Battery supplier BYD, EV charger maker Transpower, and the Los Angeles Department of Water and Power are also partners in the venture.

Public-private partnerships (P3s) “are contractual agreements formed between a public agency and a private sector entity [or entities] that allow for greater private sector participation,” according to the Federal Highway Administration. P3 financing has frequently been used to build toll road projects.

P3 finance has been slow to find acceptance in the U.S., but has been effective in Europe and Canada, Navigant’s Horne said.

“Where private capital is inadequate and public investment is limited by budgets or policy, “the blend of financial resources can do things that meet public purposes.”

Minster and municipal P3

The municipal utility of the Village of Minster, Ohio, is demonstrating another type of private-public partnership with its financing of the nation’s first solar-plus-storage installation.

Private financing from Half Moon Ventures, supported by the Minster utility’s power purchase agreement, covered the costs of the 3 MW solar array and 7 MW (3 MWh) lithium-ion energy storage system.

The success of the P3 co-financing has town leaders thinking about expanding the project into a microgrid to help ensure Minster’s three vital industries, which employ a major portion of the small community’s population, have a reliable power supply, according to Village Administrator Donald Harrod.

A disruption of service from Dayton Power and Light (DP&L), the region’s utility, would likely cause the two large metal working companies and Dannon Yogurt, the biggest U.S. yogurt maker, significant losses in the town, Harrod said.

On the other hand, a guaranteed power supply is an economic development tool that could bolster the community’s economics.

These public purposes of the microgrid could justify the Village’s participation in P3 financing schemes for a microgrid, and Horne says the model could be replicated elsewhere.

Many investors see microgrids as the next big technology opportunity now that solar has matured and is no longer seen as a “high risk, high yield play,” Horne said. But they have only just begun to understand “the ecosystem of value” that microgrids offer.

“Through a commercial lens, they appear to be a multiplicity of bilateral value exchanges between the project and all the stakeholders,” Horne said. “There are indeed a few key value streams that have to do with money, and that is classic finance.”

The complexities and the associated financial risks of microgrids are “not yet sufficiently understood and vetted by the market to attract institutional investors,” according to a recent Navigant white paper. “Islanding benefits are difficult to monetize and are only periodically realized.”

Few investors understand the revenue potential in offering uninterrupted power supplies to customers like data center owners and government institutions, the paper adds.

Though multiple value streams may be available from the DER incorporated into microgrids to offset the incremental cost of islanding, only the financiers that understand “the nuanced values” are likely to invest in a microgrid instead of DER.

Microgrids’ more apparent value to end users is often not purely financial. For Minster, a microgrid would be “an economic development tool.” The port project is, according to Wartian, “a resilience play.” For CARB, it is about cutting greenhouse gas emissions while maintaining reliability.

“If the Port of Los Angeles was to go offline, the cost to the national economy could be about a billion dollars per day. That is the business case for the microgrid,” Wartian said. “It is not possible to say it will pay off from the energy savings and reduced diesel costs.”

Navigant has cataloged 6 role groups and 5 value stream categories in a microgrid ecosystem of product and service offering possibilities that has over 300 design elements, Horne said. “That is not classic project finance.”

The complexities and the associated financial risks are “not yet sufficiently understood and vetted by the market to attract institutional investors,” according to a recent Navigant white paper. “Islanding benefits are difficult to monetize and are only periodically realized.”

Few investors understand the revenue potential in offering uninterrupted power supplies to customers like data center owners and government institutions, the paper adds.

Though multiple value streams may be available from the DER incorporated into microgrids to offset the incremental cost of islanding, only the financiers that understand “the nuanced values” are likely to invest in a microgrid instead of DER.

The primary reason Minster and CARB are directing public funds to microgrids is not because they understand the nuanced financing and values.

The L.A. Port microgrid “is a straight up the middle public purpose and not at all different than tax dollars paying for a highway or a school,” Horne said. “It is a public good. It is not supposed to be commercial. That is where the industry is.”

Many microgrids in Navigant’s 1,500-plus global project database have been built entirely with private capital. “But a lot more are being built for public purpose and are quite rightly receiving public funding in return for the public good that is expected,” Horne said.

Utilities: Beat load defection, or join it?

For any end user, there are two reasons to go to the expense and trouble of building a microgrid instead of simply building DERs, Horne said.

One is that there is a need for 100% reliability and the highest possible resiliency that comes from being able to operate without grid-sourced electricity.

The other reason to build a microgrid is that investing the extra expense in making a DER islanding-capable could allow a utility customer, most likely a business customer, to self-supply at a price lower than grid-supplied electricity. “That is a more traditional economic cost-justification,” Horne said.

There are many such microgrids in the Navigant database, he added. They are typically owned by commercial-industrial customer in regions with high electricity rates and high demand charges that they cannot schedule around because of production or manufacturing schedules, Horne said.

They may also be located where grid outages are more common, he added.

Under those circumstances, the extra cost of being able to island would likely not be as significant an extra expense because the benefit of being able to operate at a lower cost and/or without concern for grid outages would be of more value.

The driver is not complete grid defection but partial load defection, Horne said. “A business can reduce its spend on grid electricity by 85% with an investment in self-supply at a lower overall cost because of demand charges and high electricity prices.”

Those businesses may also be in utility territories where the biggest customers, like Walmart or Ikea, have begun using their deeper balance sheets to purchase their own renewable resources through third-party PPAs.

Both of those trends can cut significantly into utility revenues, prompting some to hike up fixed  fees and demand charges to attempt to cover the difference. But this, Saadeh said, can drive contentious rate design debates and ultimately push some consumers to complete grid defection.

Faced with these realities, some utilities are seeing past previous resistance and buying in, according to Saadeh.

Oncor, Georgia Power, ComEd, SMUD, Duke Energy, and PG&E are among current microgrid owner-operators and ComEd, PECO, and the three California IOUs have major microgrid expansions planned, he reported.

In addition, many more utilities are partnering in multi-stakeholder ownership models like the one between LADWP and the Port project and the one involving the Village of Minster muni and Halfmoon Ventures.

An alternative to microgrid ownership would be a price structure that supports, rather than competes, with the DER assets in microgrids owned by the private sector. But “legacy utility pricing structures fail to value the DER services,” Horne said.

LADWP has not established a rate mechanism through which the L.A. Port microgrid can earn alternative revenue streams for the grid services its battery storage could offer, Wartian confirmed. That leaves only its value to Pasha in shifting load to avoid demand charges as a means to recover the battery’s cost, he acknowledged.

This is a ratemaking flaw that needs rectifying, Horne said. He was a consultant to Con Ed during its recent reverse auction for services to supply the landmark Brooklyn Queens Demand Management (BQMD) distribution system upgrade.

“The utility was surprised by how many battery providers bid in at competitively low prices,” Horne said.

It was an example of how battery storage can benefit utilities if there is a market pricing mechanism and how the absence of a pricing mechanism is holding battery storage back, he added.

“The dilemma for microgrids, like storage, is that the technical value is way out in front of the market and regulatory environment that would allow that value to be monetized,” Horne said.