The main federal incentive for the renewable energy source - wind production tax credits - lapsed at the end of last year due to disputes in the House of Representatives and Senate energy bills, leaving the industry once again in limbo.

It is not the first time developers and investors have been forced to apply the brakes, but the timing of the latest delay is unfortunate as the industry was beginning to gather momentum.

In 2003, according to the American Wind Energy Association, nearly 1,700MW of new wind electric generating capacity - enough to serve roughly 425,000 average homes - was installed in the US taking total capacity to 6,3740MW, enough to serve 1.6 million households. The industry has been growing at a rate of 28% a year over the last five years, with projects in 30 states, but it still only represents 0.3% of total US electricity consumption.

Significantly the technology has become increasingly competitive with projects such as Shell Wind Energy and PPM's joint project in Lamar, Colorado putting wind power projects on a par with new natural gas generation in the state on a cost per kW/h basis.

No tax credits - no market

Despite the gains made in the wind power, the expiry of the tax credit, has resulted in layoffs, stalled projects, and created a negative near-term market outlook for the industry.

It has also left operators in the US once more looking enviously at ambitious offshore projects in Europe, where countries such as Denmark, Spain and Germany already supply up to 25% of their energy needs through wind farms.

"The implications of the expiry of the PTC have been profound. It has stopped the construction of all new wind farms for the moment," says Hendrik Vroege managing director of Fortis Capital Corp's electric power & infrastructure group. "In the absence of such renewal no ground for new projects can be broken," he says.

The bank has remained one of the dominant players in the field since arranging the $120.7 million Desert Sky debt financing for AEP in 2002.

The problem is likely to persist as long as opposition to the $31 billion energy bill persists within the House and the Senate. Renewed efforts to push a less costly bill through the house and the senate without the controversial measure to protect makers of the MTBE gasoline additive - and also ethanol - from lawsuits for water pollution are set to take place this month (March).

Whilst the political wrangling over the bill drags on the wind energy industry has been placed on standby.

"No project that I'm aware of is going to get financed until this is topic is resolved," says American Wind Energy Association executive director, Randall Swisher. It is not the first time. The legislation has been renewed twice before.

"The lack of stability of PTC legislation has led to a stop and go mentality in the industry which has been an obstacle for the development of a US-based infrastructure to service the wind industry," says Vroege.

While long-established and consistent incentives for renewable energy sources have helped encourage development in Europe and investors have become familiarised with the technology and the risks associated with wind power, US investors still have their reservations.

Improvements in the technology have diminished the perceived risks of wind power, according to AWEA, something that is widely accepted by European investors but still not fully appreciated by their US counterparts. European banks have historically demonstrated greater appetite for wind power-backed bond issues in the US.

Even in this field there were signs of progress last year with the $380 million bond issue launched for an FPL Energy portfolio of 685 wind assets. The deal was the first time the rating agencies have assigned investment-grade ratings (BBB-/Baa3 granted by Moody's/S&P) to wind debt in the US capital markets (see page 22 for details).

The US market leader for development and ownership of wind energy technology, FPL Energy, a subsidiary of FPL Group, has built or acquired a portfolio of assets with an estimated value of around $3 billion. Its capacity and commitment to the industry has been driving growth and independent projects. In its landmark bond issue the company had to provide strong support alongside turbine guarantees provided by leading turbine manufacturer, GE Wind.

Change PTC law

Many argue that the current tax system is skewed in favour of developers and owners such as FPL.

"The PTC law could be changed so it would benefit other investors than Fortune 500 type companies. We need the PTC not to be subject to AMT (Alternative Minimum Tax) and allow a sale/lease back structure. This would make the PTC available to a very big market," says Niels Rydder, chief executive of California-based developer, Global Renewable Energy Partners.

The PTC (adjusted for inflation and currently at 1.8¢-per-kilowatt-hour) can be claimed by commercial producers of wind power over the first ten years of operation of an eligible project. However, the fact that many small wind developers do not have sufficient tax liability to directly utilise the credit has led to a limited number of equity players.

The frustration is that the only real model for small developers is to undertake the groundwork for projects, working through the PPAs, permitting etc. before selling to FPL or other majors taking a more aggressive approach to wind power, such as Royal Dutch/Shell's subsidiary, Shell WindEnergy, MidAmerican Energy, backed by Warren Buffet, and PPM, the Scottish Power subsidiary.

"What we have seen is a small developer doing the front-end work on a project and then selling the project to FPL. Last year what we saw with the Babcock & Brown projects was small developers get financing that did not follow the FPL model," says Swisher.

It is something that financiers are keen to promote, as they seek to hook private equity specialists up with developers.

"Partnership funding structures have been used for wind energy projects since the 1980's when the first projects were built in California. Zond/Enron made extensive use of such structures in the late 1990's. While the current tax incentive regime is favourable for large corporate investors, partnership structures can still be designed to accommodate the objectives of financial investors with an appetite for tax credits and developers who want to retain the upside in the back end of the project," says Vroege.

"It should be pointed out that both financial equity investors and debt providers will generally expect the developer to be an established wind developer with financial substance and a good track record," he adds.

Even if the PTCs are back on the table soon, Swisher would rather see a federal renewable portfolio standard (RPS) introduced to bolster the progress being made in the individual states that have already adopted these measures. A standard portfolio measure would create a level playing field that currently does not exist due to the rules of PTC.

"We would be very willing to trade the credit for a renewable portfolio standard that resulted in 10% renewables in the US energy mix by 2020, with steadily increasing proportions. This would provide a market standard that will put an end to the on- and off-approach of tax credits which that has been extremely disruptive to the industry."

The proposal is widely supported by AWEA members who are already taking advantage of similar incentives in individual states.

Texas gets the right environment

In Texas, RPS has been so warmly received that wind energy is outstripping the objectives set by legislation, according to Swisher. The state's RPS has become the model, he says, "because its so simple and so effective. It has resulted in $1 billion of wind development in a very short time."

Texas' RPS places a requirement on all utilities in the state to purchase from renewable power producers to achieve 2,000MW of new renewables by 2009.

"Year by year they have exceeded the requirements because they were so relatively cheap that it made sense to go ahead and do it," says Swisher.

New York, California, Massachusetts, New Jersey, Iowa, Nevada and Maine all have similar schemes in place. A federal standard would put the US on a par with legislation in place in most European countries for years.

The stability of the legislation has allowed developers to compete on a level playing field and created a $20 billion industry attractive to institutional investors comfortable with tried and tested technology.

In Germany, the largest market for wind power worldwide, private investors buy into projects on a leveraged basis for after-tax rates of return as low as 7% per annum. In other countries, institutional investors clamoring for these assets in search of long-term stable revenue flows are driving prices below 10% per annum.

Typical returns in the US for developers are between 5% and 10% for developers and 9%-11% for institutional investors, says Rydder.

However, the stop-start nature of development in the US, however, continues to restrict the entry of US investors.

"It is impossible to attract investors (NEGM, Vestas, Gamesa etc). to build a manufacturing base in the US, unless we have long-term stable market for wind energy projects," says Rydder. "The market is dead until PTC is either back or gone forever."

He suggests that the PTC should be dropped or adjusted to allow a lease structure similar to a system used in France.

Other structural considerations are holding the industry back, according to Edward Berkel, senior vice-president Shell WindEnergy. He describes the current administration's commitment to renewables as, "adequate, but more can always be done".

In particular he identifies "Transmission capacity, fair access to grid, continuing support mechanism" as the key restraints being placed on the business in the US.

The energy major has taken an aggressive approach to the development of its renewable energy capacity. In the wind sector Shell WindEnergy aims to own or have secured for construction 1,600 MW gross capacity by the end of 2005.

In the US it is developing or owns projects in Rock River, White Deer, Cabazon, Whitewater, Brazos and Colorado Green. Colorado was completed last year in association with PPM in time to qualify for the PTC. It attracted a 15-year, $125 million financing from ANZ Investment Bank and Rabobank. This closed with strong participant interest and is backed by the PPA with Xcel subsidiary Public Service Company of Colorado.

The project uses 1.5MW wind turbines manufactured by GE Wind, and has a total 162MW capacity. These are high-tech, powerful machines, typical of what is being installed today. More than half of the generating capacity installed in 2003 in the US was installed using GE Wind turbines. Advances in the technology being driven by GE Wind, continues to make inroads into the perception of technological risk associated with wind power.

According to the AWEA, long-term average turbine availability has now reached 98% or more - comparing favourably with other energy technologies. Designs are certified for typically 20-year operating lives and manufacturers provide comprehensive warranty packages that are stronger than is usual for the conventional power sector.

For Berkel, the technological risk is limited. "Long-term wind study," he says "will confirm 'fuel' availability; the risk is that this will vary from year-to-year." In terms of turbine risk, he claims there are, "sufficient number of turbines available with adequate track record."

The momentum being seen in the industry is unlikely to be halted completely by the latest delays to PTCs, according to Berkel. "Cost reductions will eventually make wind fully competitive with CCTG power. If PTCs are not replaced other mechanism might be used, i.e. green certificates. Driven by customer needs, overall world pressure to reduce GGEs."