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Biomass is Having a (Political) Moment

Biomass project developers can benefit by taking a closer look at the opportunities offered by the federal government in the cash grant program under the American Recovery and Reinvestment Act of 2009 and USDA's Biomass Crop Assistance Program.
By Rob Goldberg
This year is shaping up to be interesting for developing and financing power projects that use biomass as feedstock. On the one hand, raising private capital for biomass projects continues to be challenging, creating further pressure on biomass developers to structure "clean" projects with strong fuel supply and other contracts that favorably allocate risk to experienced and creditworthy project counterparties. On the other hand, a number of government incentives hold great promise for financing all kinds of bioenergy projects. Current developments relating to two of these government programs, the cash grant program under the American Recovery and Reinvestment Act of 2009 or the stimulus bill, and the Biomass Crop Assistance Program, are worth a further look.


Cash Grant Expiration

Much has been written regarding the U.S. Treasury's cash grant program for eligible generating facilities, but as 2010 progresses, the focus for many developers is turning to whether a plant can commence construction by the end of the 2010 deadline.
The stimulus bill permits qualifying biomass power projects to forego production tax credits and instead to elect an investment tax credit for 30 percent of eligible project costs, or a cash grant from U.S. Treasury. For biomass projects in particular (compared with technologies such as wind), this is a big deal. Open-loop biomass projects (as defined in the Internal Revenue Code), which currently comprise most of the operating biomass projects in the U.S., qualify for only half the value of the production tax credit for wind, but the stimulus bill made open-loop biomass eligible for the investment tax credit and the equivalent cash grant that is available to other technologies.

However, the cash grant is a temporary stimulus measure. The current cash grant deadline requires that a biomass project must be placed in service by the end of 2010 or "commence construction" by the end of 2010 and be completed by the end of 2013.

In July, the U.S. Treasury released cash grant program guidance, including rules on what "commence construction" means. The guidance was helpful, but a number of questions were not addressed or were left unclear. Treasury issued revised guidance on the rules on starting construction in March 2010. A cash grant applicant has commenced construction by the end of 2010 if "physical work of a significant nature" has begun. This is not preliminary activities such as planning, designing or clearing, but rather on-site foundation work or other physical construction activity, or off-site manufacturing of components for the facility. The guidance permits both self-construction and third-party construction by a written, binding contract to be taken into account.

The guidance also includes a safe harbor if at least 5 percent of actual project cost is paid or incurred. For property constructed by the applicant, the cost of property is treated as paid or incurred when paid or incurred by the applicant. For property manufactured or constructed by a third party under a binding, written contract, the cost of the property is paid or incurred when the property is provided to the applicant or when the third-party manufacturer or vendor pays or incurs the costs. Developers targeting the 5 percent safe-harbor should leave a margin for error (incur not less than 7 to 8 percent of eligible project cost in case, for example, Treasury rejects the classification of certain costs as eligible, or actual cost turns out to be less than estimated cost). Developers hoping to qualify for the grant, but currently anticipating the start of plant construction in the latter part of 2010 or early 2011, should carefully review their construction plans with advisers to ensure the project complies with the revised guidance and meets the deadline.

Projects that simply can't meet the deadline obviously are not eligible for the grant. These project developers at least have certainty that federal tax credits will be available to qualifying projects placed in service during the next few years. In addition to permitting eligible generating facilities to take the investment tax credit or cash grant rather than production tax credits, the stimulus bill extended the deadline for tax credits. Biomass projects must now be placed in service by the end of 2013 to qualify for production tax credits or the investment tax credit.

There is also support for extending the cash grant as a "refundable investment tax credit." However, it is not certain at the date of this writing whether the program will be extended or, if extended, exactly what new rules may be attached. Given this uncertainty and the benefit of the cash grant as compared to tax credits (most developers must find scarce tax equity to monetize them), projects that have a realistic chance to meet the current cash grant deadline (and are otherwise eligible) should push to meet the safe harbor for commencing construction.


BCAP Boost

Another recent development that may boost biomass power project financing is BCAP, authorized by Section 9001 of the 2008 Farm Bill. Under the BCAP Matching Payment Program, agricultural and forest landowners and operators can receive matching payments for eligible biomass material (including most nonfood biomass) sold to any qualifying project that converts renewable biomass into heat, power, biobased products, advanced biodiesel or certain advanced biofuels. Under the BCAP Establishment and Annual Payment Program, producers of eligible renewable biomass crops within specified project areas can receive up to 75 percent of the cost of establishing eligible woody and nonwoody perennial crops, and annual payments for up to 15 years for production of such crops.

In 2009, funding and interim rules were established for the Matching Payment Program, but not the Establishment and Annual Payment Program, by a notice of funding availability (NOFA). In early February 2010, another major step towards implementation was taken as the Commodity Credit Corp. issued a proposed rule on BCAP in its entirety. However, at that time the USDA terminated funding for the Matching Payment Program under the NOFA and indicated that new applications will not be accepted until the final rule is issued. The proposed rule is subject to a 60-day period for public comments that ended in early April. It is not yet clear under the proposed rule who the Matching Payment Program winners and losers will be. The proposed rule seeks comment on three different payment options.

The first option follows the NOFA and provides matching payments at $1 for each $1 per dry ton paid by a qualified biomass conversion facility (BCF) to agricultural and forest landowners and operators for eligible material sold to such BCF. Such matching payments are limited to a maximum of $45 per dry ton, and a period of two years from the date of the first payment. The matching payments are payable for wood wastes or residues that are converted by the BCF to heat or power only above a historical baseline of any heat or power the BCF produces for self-use. This option generally treats different biomass uses the same, with perhaps some incremental advantage to uses other than heat or power that are not subject to the self-use carve out.

The second option is a tiered approach. The maximum $45 per ton rate is available only on materials delivered to BCFs that convert eligible material to advanced biofuels. Biomass providers to BCFs that convert eligible material to energy or biobased products other than advanced biofuels remain eligible for the $1 for each $1 per dry ton, but subject to a cap of $16 per dry ton. This option encourages the use of biomass for advanced biofuels production over other uses.

The third approach encourages additional biomass consumption above a historical baseline. The matching payment of $1 for each $1 per dry ton paid by the BCF would be reduced for facilities that do not increase renewable biomass consumption over the historical baseline. Compared with the first two options, this seems to favor new facilities over existing projects.

For both the Matching Payment Program and the Establishment and Annual Payment Program, there are numerous eligibility and qualification requirements in the proposed rule that cannot be addressed in detail here. BCAP may not make a noneconomic project viable, but it certainly has potential to create additional options to structure fuel supply, thus addressing a critical risk for biomass project developers trying to solidify financing arrangements. BIO

Rob Goldberg is a partner at Mayer Brown and is co-head of the firm's Renewable Energy Group, where he advises on domestic and international project finance transactions and development matters. His practice focuses on the energy and infrastructure sectors, including conventional and renewable power, oil and gas, and toll roads. Reach him at rgoldberg@mayerbrown.com or (713) 238-2650.
 

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