Distribution utilities are well positioned to provide tax equity for renewable projects, but some state laws prevent it. Tapping the potential will require progressive leadership by utility...
Green REITs, MLPs, and Up-Cs
massive losses that wipe out their tax liabilities for the foreseeable future. Industry sources seem to agree that this simple fact has drained significant capital from new renewable energy projects and has increased the cost of the capital that does remain available. Thus, even in the absence of a pending expiration of renewable energy tax breaks, unregulated utilities searching for new capital for their project would have to start looking beyond the traditional investor base in order to obtain that capital.
Interestingly, in the search for new capital, unregulated utilities may find that, although the global financial crisis of 2008-2009 contributed to an investor migration away from renewable energy projects, the aftermath of the crisis is attracting to the renewable energy space a new group of nontraditional yield-hungry investors— e.g., tax-exempt entities such as pension funds and college endowments, foreign portfolio investors, and U.S. individuals. These yield-seeking investors have not traditionally played a role in the renewable energy space because, for various reasons (most of which are arcane), they could not enjoy renewable energy tax incentives and, at the yields they were historically demanding, could not compete with the traditional providers of renewable energy capital. But as the world’s central banks responded to the global financial crisis by flooding capital markets with new liquidity and driving interest rates to previously unthinkable lows, yield-seeking investors began to look for yield anywhere they could find it. This search for yield has driven up not only prices in the government and private bond markets, but also prices in the REIT and MLP equity markets. Asset prices and yields move inversely to one another, meaning that the increase in REIT and MLP equity prices has correspondingly driven down the yields on public REIT and MLP equity instruments. In many cases, this enables publicly traded REITs and MLPs to raise capital from public investors at attractive rates ( i.e., high equity prices that reflect low yields) and provide capital to private users at an attractive price ( i.e., at rates that, although they reflect a mark-up over the yield demanded by the entity’s public investors, are still low by historic standards). This has created an incentive for owners and operators of yield-producing assets that can be owned or financed through a public REIT or MLP to consider seeking capital from those sources.
With the future of renewable energy tax incentives uncertain and the traditional providers of renewable energy capital hard to come by, it is only natural that unregulated utilities have begun to consider alternate sources of capital for new projects. To the extent that the yields demanded by nontraditional investors are low enough, it may make sense for unregulated utilities to seek capital from those investors. This article will explore the ways in which an unregulated utility can use REITs and MLPs as capital vehicles to access those nontraditional investors, and will also discuss a less common, but no-less viable, Up-C structure as well. The main thrust of the article is that, while perhaps not ideal capital vehicles by historic standards, these vehicles are ready and