In this article, we will review the construction contracts involved in the development of renewable projects.
The typical project cost of wind farms in the United States is in the range of 1,000 to 2,000 per kilowatt of nameplate capacity, with average project cost of 1,450 per kilowatt.
The cost of utility scale solar pv projects is in the range of 800 to 2200 per kilowatt AC.
The average cost of solar pv projects is 1,600 per kilowatt AC.
Let’s now take a look at how construction is structured in renewable projects.
Remember, under the PPA, the energy seller has an obligation to build the renewable project according to the set of milestones defined in the PPA.
Typically, the energy seller, which is also a project company, does not have internal capability to carry out construction works, and, therefore, the project company engages a construction company to build the wind farm or solar project.
The most popular construction contract structure in renewable energy projects is an engineering, procurement and construction contract, or EPC contract. A large, reputable construction firms provide the EPC services.
The EPC contract is a turn-key, fixed price contract.
Another popular way to arrange construction, especially in the United States, is to sign a supply agreement with turbine manufacturer or solar panel manufacturer, and construction contract, called balance of plant agreement, with a construction company.
In the second alternative, two agreements are signed, and the project company is involved to coordinate the activities of turbine manufacturer and construction company.
Construction Contracts Features
Let’s review the features of the EPC, supply and balance of plant agreements.
There are number of benefits of the EPC structure.
First, there is very limited involvement of the project company in the construction process, and EPC contractor represents a single point of responsibility, so the project company does not have to coordinate the work of subcontractors.
Second, EPC offers the benefit of fixed price. The contract price will be set at the outset and will not change as long as the construction works correspond to the contract’s scope of work.
The project completion date will also be fixed, so the project construction will be completed at certain date set out in the contract.
The contract will include minimum performance standards that the project will have to meet, such as minimum power production, and, minimum turbine or panel availability.
The drawback of the EPC contract is its price, it is expensive compared to other construction contracts.
In the turbine supply and balance of plant agreements, the project company will have to deal with multiple parties, which will require significant coordination efforts by the project company, and this may represent a significant risk, as one party will depend on the actions of the other. This is the principal drawback of the TSA and BOP agreements compared to the EPC contract.
The TSA and BOP contracts also offer fixed price, fixed date and minimum performance standards, with added benefit of being cheaper than the EPC contract.
The key objective of EPC, TSA and BOP contracts is to achieve price and date certainty.
Let’s now take a look at the simplified construction timeline under the EPC contract.
The first step is when the project company issues a notice to proceed to the EPC contractor. This is when construction begins under the EPC contract.
The contract then carries out the basic engineering works, which is conceptual design works for the project.
Once basic engineering is completed, the contractor performs detailed engineering design and begins ordering and procuring the equipment.
Concurrently with equipment ordering, the contractor begins civil works, and once equipment arrives, mechanical, electrical and installation works also begin.
Once the equipment is installed, a series of performance tests are run to establish whether the project meets the minimum power output and availability requirements set out in the contract.
If the performance tests satisfy the minimum requirements, the project reaches a substantial completion and ownership of the project transfers to the project company.
Upon substantial completion, the project reaches what is known as commercial operations date or COD. This is the date when the project can start generating and selling energy as per the PPA.
Note that on substantial completion, there will be a punch list, which is a list of small items in the project that will need completion by the contractor. These small items do not affect the performance of the project, and upon completion of these small items, the project will reach a final completion.
In this article, we learnt about the construction contracts in renewables project finance. To learn about financial modelling for project finance please enroll in our courses:
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