Ontario’s aggressive measures to encourage renewable power development have made the Canadian province a hub of manufacturing – and financing – activity for the sector. The province’s feed-in tariff programme, which has attracted criticism for its local content requirements, has prompted the development of a domestic manufacturing base. But development lead times have lengthened, which has tried the patience of many sponsors and encouraged a measure of early-stage consolidation.

In 2009, Ontario’s Liberal government launched North Ameri­ca’s first comprehensive feed-in tariff (FIT) for renewables, along with a new ener­gy act. The province aimed to fill the production gap left behind by a plan­ned phase-out of coal-fired plants by 2014 and use local content rules to boost the local economy. Forth­coming elections in the province mean there is a cloud over the future of the programme.

The FIT programme offered healthy tariffs to all small-scale renewables, but it was large-scale solar and wind that attracted the most interest from sponsors and lenders. Under the older renewables regime, the renewable energy standard offer programme (RESOP), projects were offered a PPA if they used eligible technology and had access to interconnection.

The offtaker for both RESOP and the FIT that replaced it is the state-owned Ontario Power Authority, under contracts that run for 20 years. The FIT regime requires solar projects to be limited to 10MW per connection, but plants can be bundled together to create larger projects for financing. Ground mounted projects over 10kW receive C$443 ($454) per MWh and onshore wind projects receive C$135 per MWh. The RESOP’s 10MW caps on the size of wind pro­jects were scrapped, which promised much greater growth than under the FIT program.

Is FIT faster?

Combined with the tariff regime, the government imple­men­ted legislation to streamline the permitting process. The role of local municipalities was reduced to the issuance of a small number of permits, and the provincial government offers a single point of contact for issuing renewable energy approvals (REAs). Developers submit all their project docu­ments to the Ministry of Environment, rather than having a separate dialogue with differing government departments. But indus­try participants say the new process has caused a bottleneck in deal flow, with a slow trickle of projects filtering through the system.

The FIT program has generated con­tract offers for over 3GW of renewable capacity, but as of mid-May, no large-scale wind or solar projects under the FIT terms have started commercial operations. In ground-mounted solar PV, for example, around 816MW of capacity is in the development stage. Some 1,514MW of onshore wind cap­a­city is being developed.

While the FIT is less than two years old, and its novelty might explain some of the shaky progress, sector participants say permitting processes for FIT projects have been more sluggish than they expected. “The ministries have been streamlined in their review pro­cesses – based on one submission from the developer. The challenge has been timing: it’s taken longer than expected for developers to be in a position to submit a permitting application that’s likely to receive approval,” says Jon Kieran, director of solar development for EDF EN in Canada and chairman of the board of the Canadian Solar Industries Association. “A project approvals process that was ex­pect­ed to take six to 12 months is taking considerably longer than that. Most developers are still engaged in permitting pro­cesses that are reaching two years in duration,” Kieran says.

Going local

Another serious challenge for projects is meeting the dom­es­tic content requirements, which were included in the FIT terms to promote local manufacturing. This was a sig­nifi­cant depar­ture from RESOP, which had no such obligations.

FIT projects gain points for a domestically sourced com­po­nent, and must meet a minimum overall percentage. New ground-based solar projects have a domes­tic content require­ment of 60%, while the requirement for wind projects is 25% for plants with milestone date for commercial oper­ation before the end of this year, and 50% for those with a start-up date from January 2012.

“For solar, you have fewer pieces than on wind projects, so you have less choice ... 60% re­quires you pretty much to have all non-panel components domestic, and one of four panel choices domestic,” says Jonathan Weisz, a partner at Torys.

Wind projects have lower requirements for sourcing locally, and there are more permutations for local sourc­ing than for solar, but there has been a wave of new solar panel manufacturers, with over 20 manufacturers now based in the province, Weisz says.

“I think lenders are getting much more comfortable, because local pro­duct is starting to come out, and they are starting to see the quality,” he says. But as manufacturers look to establish themselves in the Ontario market, they have to decide what a realistic level of demand is. Given the varying sizes of developers, and some uncertainty with the legislative back­drop, this is a difficult call to make. But the sheer number of applications going through the system – some 1,200 contract offers have been made and many more applications are pending – makes this a tempting market.

If a project can close financing, meet domestic content requirements, receive its REA and line up interconnection then it receives a notice to proceed. The OPA does not declare whether a project fulfils the domestic content re­quirements until after the date of commercial operations. However, lenders want to know that the project meets the domestic content threshold before providing any project funding. Projects can mitigate this by requesting a binding letter from the OPA, which confirms that if the developer complies with its submitted domestic content plan, it will be deemed to have met the domestic content test at COD.

Sizing up deals

A large number of smaller developers now hold contract offers for wind and solar, but with a lengthy development process driving up costs, many participants see market consolidation as in­evitable. Larger, more experienced de­velopers can soak up the costs and command better prices from suppliers.

“There is a lot of interest from buy­ers. People are looking at selling, but they do not want to sell prematurely. Conversations are taking place,” says Jason Kroft, a partner at Stikeman Elliott in Toronto.

Many lenders are tracking projects under the FIT plan and as more and more projects gain a notice to proceed, the number of financings should accelerate.

Life insurance companies and European banks continue to be the main providers of long-term debt for renewables in Canada, working on separate deals, while Canadian banks tend to stick to construction financings, with a view to refinancing post-construction.

Sponsors and lenders report a compression of margins in the last year, but with base rates ticking up, all-in rates have been relatively stable. Margins currently start at around 225bp over either Libor or CDOR, with step-ups of round 25bp every two or three years, says one market source. “I remember deals starting at 250-275bp, around a year ago from today,” he says. “Even in the last several months, pricing seems to have tightened. Whether it be 12bp or 25bp,” says Michael Bernstein, chief executive of Capstone Infrastructure, formerly Macquarie Power and Infrastructure Corporation.

European banks have been offering longer tenors with some now as long as construction plus 18 years, still shy of the 20-plus years offered by the life insurance companies.

“There are more options for looking at term, and whether you want to do a bank or bond financing. We would not have had those options when exploring deals around a year ago,” Bernstein says. With government bonds staying low and still some risk aversion in the market, fixed income markets are staying fairly robust, Bernstein says: “Right now you’re seeing deals getting finance on a long-term basis at 6% or a little bit over, it’s hard to imagine rates getting much better than that.”

Hudak attack

Adding to their worries over development lead times, de­vel­opers are now anxiously awaiting the results of the pro­vince’s elections on 6 October, and ideally rushing to close deals and obtain notice to proceed before then. Tim Hudak, a Progressive Conservative MPP and the party’s leader, said that if he wins the elections in October, his party will scrap the FIT, as well as a C$7 billion deal bet­ween the current Liberal government and a group led by Samsung.

It remains to be seen whether Hudak would follow through on his proposals, and indeed the Progressive Con­servatives will win. The incumbent Liberals, led by On­tario’s current premier, Dalton McGuinty, are attempting to win a third straight term as a majority government, but recent polls put the Conservatives ahead. The performance of the New Democrat Party, Ontario’s third largest party, could also influence the make-up of the resulting government.

Hudak argues that the FIT has driven up prices for consumers and businesses, and the long-term PPAs mean there is no room for competition to drive down prices. “Those who have already invested in Ontario under the current FIT rules can count on an Ontario PC government to honour those contracts,” Hudak said in his speech. But he immediately followed this with: “If there is value to Ontario families by stopping some of the larger, more unaffordable projects before they really get started, we won’t hesitate to do that.”

The price of power, and with it the province’s policy on renewables, has become a key election battleground, and Hudak’s comments have created a whirl of uncertainty for project participants. The fact that most projects are yet to lock down funding and there are no completed FIT projects to provide attractive props, could benefit Hudak’s argument.

Market operators want further detail on exactly which FIT contracts Hudak would choose to terminate. “There is language in the contract offer with OPA, that prior to notice to proceed, the contract could be terminated by either party at very little cost. Mr Hudak seems to be quite aware of that,” says one market operator.

Participants assume he would honour contracts for projects with notice to proceed, but these represent a tiny portion of the contract offers made thus far. A lot of investment, by developers and manufacturers, is for projects that are much further down the line. There are also implications for any consolidation in the sector, because buyers will want assurance that the projects they acquire will have their contracts honoured.

Many participants say that a Liberal government would likely lower tariff prices over time, as has been the case for similar regimes in Europe. A Liberal government will very likely cut off the tariff altogether, allowing the holders of contract offers to go through the development cycle, says Michael Barrett, partner at Bennett Jones. “I don’t see a big difference between Hudak’s an­nounce­ment and what might happen [under the Liberals],” he says. “The harder one is the Samsung deal,” he adds.

Samsung sourness

Opposition to the deal between the Liberal administration and a Samsung-led grouping sees the Conservatives and most renewables developers much closer together, The details of the con­tract have been treated as highly confi­dential and opposition parties have called for the details to be released. The opposition worries that the pro­vince would have to pay a huge fee upon cancellation. “I’m not sure that would be politically palatable,” Bar­rett says.

The province signed the deal in early 2010, with a group of firms including Samsung, developer Pattern Energy, and Korea Electric Power Corporation (KEPCO). It requires the group to build 2,000MW of wind power and 500MW of solar power in Ontario by 2016, as well as new manufacturing houses for renewables compo­nents. The deal was widely regarded as an eye-catching political gambit when unveiled, because of the group’s commitment to create large numbers of jobs in the province. But criticism of the deal has never abated.

Samsung and Pattern take care of project management, whilst KEPCO is responsible for putting in place the trans­mission and distribution system, and government secures land. The first stage is to consist of 400MW of wind and 100MW of solar built by the first quarter of 2013 in the Chatham-Kent and Haldimand county regions. The aim is not just to developer manufacturing bases, but also develop infrastructure for later expansions in wind capacity. Be­cause the arrangement means the Samsung group gets priority on resources for new interconnections, it puts the group in a powerful position in the current market.

In April, Pattern and Samsung announced they had bought around 100MW of Ontario wind projects from Acciona and Boralex, and two other wind farms from North­land Power and Suncor Energy. The buyers are to use the land acquired in the transactions to build their 270MW South Kent wind plant, which is expected to cost C$700 million. An industry participant close to one of the deals says the incentive to sell reflects the difficulty in competing against the Samsung-Pattern joint venture for interconnection resources. “Even if the seller has their own large balance sheet and is physically able to build the project, they are still selling,” he says.