Supply Supply Supply
With a long-term fuel supply agreement in place, a proposed biomass power plant near Shelton, Wash., is one giant leap closer to becoming a reality. It will use residue from nearby forestry operations to generate 55 megawatts (MW) of power for sale to the Pacific Coast grid. Washington-based developer Adage announced the agreement with Green Diamond Resource Co. in August, saying it’s critical to the success of the plant.
A detailed fuel supply agreement can make or break a project, according to JD Lindeberg, chief financial officer and principal of engineering and consulting firm Resource Recycling Systems Inc. “A lot of developers don’t have any sense about how detailed the fuel piece needs to be,” Lindeberg says. A solid agreement evaluates obvious factors such as availability and price, but also needs to account for possible price changes in the life of the agreement, current and future competitors for the supply, the impacts of external factors, supply economics, and exogenous variables such as the price of diesel and gross national products. Not only are such well-crafted fuel supply agreements important for operation of a plant, but they are also a staple in securing project funding.
Fixated on Financing
“In general, these facilities are financed on some sort of long-term debt and whoever is supplying the debt wants to know that the price of fuel isn’t going to become exorbitant and last from year five to year 20, which means they won’t get paid on their debt,” Lindeberg says. Developers can and will be denied funding without a solid, detailed fuel supply agreement. Although it’s possible to apply again, first impressions can be hard to overcome. “You lose credibility with the financers,” he says. “These finance guys don’t like to look at things twice. It’s easier for them to come to a conclusion and not change it.”
Banks are generally much more conservative than equity lenders because banks don’t make multiples on the money they lend. Since they only earn what they charge in interest, banks think differently about the risk involved. “That’s something developers forget,” Lindeberg says, adding that banks need 50 successes to make up for one failure.
Another aspect easily overlooked by developers is the relationship between a fuel supply agreement and a power purchase agreement (PPA). “Personally, I think developers go too far negotiating their PPA without understanding the price of fuel,” Lindeberg says. “One of the lessons I think people need to learn is that you’re not going to get your fuel supply agreement sorted out in a final way [without a PPA]. It needs to proceed in parallel.”
But even if those two critical elements are negotiated in parallel, other factors can throw off the balance and devastate a project, as learned by a California-based wood products manufacturer. In mid-August, Sierra Pacific Industries was forced to abruptly close its woody biomass power plant in Loyalton, Calif., because of insufficient and expensive fuel supplies coupled with a decrease in rates paid for its electricity by utility NV Energy. The plant was powering and getting feedstock from SPI’s nearby sawmill until it shut down in 2001, requiring SPI to develop fuel supply contracts with other organizations to keep the 16 MW power plant running and supplying the grid. “Then it’s a scramble to find the wood,” says Mark Pawlicki, director of corporate affairs and sustainability for SPI. “We don’t have a ready supply like we did when we had a sawmill.”
SPI quickly developed fuel supply contracts with landfills, the forest service and others but transportation was costly and the forest service reduced its timber offerings. Even so, the operation was doable until the power rate decrease. “The combination of the high fuel costs due to the reduced availability of timber and a simultaneous reduction in rates made it uneconomical,” Pawlicki says. SPI is exploring options for opportunities to reopen the plant in the future, he adds.
“There’s obviously a relationship there between what you’re paying and what you’re selling the power for,” says Tom DePonty, director of public affairs at Adage. After having secured the first fuel supply agreement for its Shelton plant, Adage is now marketing its output to utilities in Washington and Oregon. The company signed a lease agreement for the land in August and is currently in the middle of the permitting process. Adage has not yet applied for funding opportunities, but the fuel contract is a great first step, DePonty says, adding that it’s crucial to have in place at the time of funding application.
Adage hopes to break ground at the site next year and commence operation in late 2013. The company will be responsible for harvesting the residue, including limbs, softwood, and defective or rotting pieces, from Green Diamond’s forestry operations, under Green Diamond’s supervision. The harvests will make up between 20 and 30 percent of the plant’s requirements and the rest is being negotiated for three or four additional contracts all providing the same residual material, DePonty says.
The company chose Green Diamond because of its ability to be a long-term sustainable supplier, he adds, although the timeline of the contract is confidential. Ideally, Adage will source its supply within 50 miles of the plant, but could expand depending on availability and ease of transport routes. “There obviously could be some opportunities to go farther than that based on road configuration and things like that where it could be economical,” DePonty says.
Feedstock can be sourced as far as 75 to 100 miles from a power plant, according to Lindeberg. “It’s very difficult to transport it farther than that and still have a cost-effective fuel supply,” he says, adding that the “big trick” is the cost to bring it in.
When a tree is logged, 50 to 60 percent of that tree doesn’t leave the forest, he cites. The leaves, tops and other residue are left behind. Then, when it’s taken to the sawmill, only about 50 to 60 percent is used for lumber, the rest—bark, sawdust and other products—is left behind. “Between 60 and 70 percent of that tree that’s cut down for wood is waste,” Lindeberg says. “That waste is some of the primary fuel supplies for these biomass power plants.”
The least expensive way to acquire forest residue feedstock is in spot markets from smaller players, Lindeberg says. Spot markets represent an avenue for a transaction somewhat similar to open solicitations. “I’m paying a price and people who have it show up,” he explains. “A spot market is much more volatile in terms of pricing.” Spot markets are a favorable alternative to long-term supply agreements with one large supplier, he says. “The point I try to make to these guys is this is not about typical financial guarantees. This is about economic guarantees.”
The lack of a market price for feedstock deters long-term supply contract development, according to Stephen Dinehart, principal of Heartland Business Consultants in Wisconsin. A feedstock pricing mechanism is crucial to the future development of the biomass market, he says. Today’s markets are single-buyer dominated and influenced by social factors, especially when developers are securing supplies from small, local operations.
Prepare for Competition
A biomass power plant will seldom be the sole user of woody biomass feedstock in a region. Besides wood pellet plants, direct competition can include mulch/composting, board manufacture, firewood, animal bedding, and pulp and paper mills. Paper mills, however, cannot use bark or tree tops and, under the right circumstances, can boost the available feedstock supply if they increase harvesting rates. “That competitor can sometimes be a complement: the more activity they have, the more fuel you might have, but it’s just of a different nature,” Lindeberg explains. Needless to say, wood pellet manufacturers also represent competition in the marketplace.
But many competitors can’t take the lower-grade woody biomass that power plants can. “The biggest competitors are other biomass power plants,” Lindeberg says. “That’s potentially problematic.” Foreseeing future competitors is perhaps the most important aspect, but there is a benefit to being the first operation in a given location. “If you can get into the marketplace first and establish relationships and treat your suppliers well, then we’re ready to rock and roll,” he says. “You’re there first and you’re going to keep getting that material.”
“When we started looking at western Washington, the first thing we did was evaluate the available feedstock, the land ownership and also the existing users of biomass in that region to kind of assess whether a project was viable in that region,” DePonty says, adding that Adage discovered the vibrant forestry environment was more than adequate to supply its plant, along with others existing or proposed. “We think this is an exceptional location for biomass.”
Another competitor for biomass feedstock is alternative disposal, such as landfilling. “If they have other means of disposal instead of you, they will always consider doing that,” Lindeberg says. “Never underestimate the potential for people to continue doing the same thing.” Evaluating suppliers’ other disposal options and prices can expose ways to convince them that supplying a power plant is a better option.
The biomass industry is no stranger to opposition, but securing feedstock agreements that spell out the material used can help clear up misunderstandings and rumors about clear-cutting and burning whole trees. Working with local suppliers can make a project more tangible for local citizens, DePonty says. “It helps them understand more clearly what the project is all about,” he adds.
Biomass fuel supply agreements make up one sturdy leg of what Lindeberg calls development’s three-legged stool, supported by PPAs and the actual construction or conversion of a power plant. “You’ve got to have all three of those things or no one’s going to give you any money,” he says. “[Fuel supply agreements are] not necessarily any more important than the other two, but without any one of them, you’re not going anywhere.”
Author: Lisa Gibson
Associate Editor, Biomass Power & Thermal