Question

14. The Longview Power Plant near Morgantown was built asan Independent Power Producer (IPP). What is the basic business model of an IPP?

Answer 1

Independent Power Producers: The Long And
Short Of It
Golf, they say, consists of two altogether different games--the long driving game and the short putting game. A player
must master both to succeed. As the power industry goes through the largest fuel-switch in its history, credit drivers in
the short and long horizons (in our case, time, not distance) will influence the economic viability of independent power
producers (IPP). This is because unlike utilities, which supply power under a rate-based compact with regulators, IPPs
must recover the cost of generation from the markets, which are witnessing a disruptive technology-driven oversupply
and slowing demand trend.
We have long argued that merchant power can be divided into two different markets. It's critical for merchant power
generators to separate the cyclical, short-term fundamentals of the power markets from the structural, long-term
factors. Weather-influenced demand and natural gas inventory levels largely dictate power prices in the short term,
while secular demand trends, energy efficiency, growth of distributed generation/storage, and the cost structure of the
highest-cost power producer propel structural power prices. In other words, the near-term prospects for IPPs are
influenced by seasonal demand and supply trends, while renewable proliferation and supply--the marginal cost of
natural gas production and delivery--will eventually dictate their long-term viability.
While short-term headwinds can turn favorable with one severe winter/summer, it is becoming increasingly evident
that IPPs need to hunker down and adapt to factors driving long-term market fundamentals. In this industry update,
we explore strategies that various IPPs have contemplated to protect against adverse market conditions and the
relative success they are achieving.
Overview
• The commodity markets continue to remain challenged for IPPs.
• Companies have now pivoted to reducing debt, controlling costs, and focusing on contracted and/or
nonrecourse financed generation.
• We believe deleveraging will continue to take center stage in 2017. We also expect refinancings that push
maturity walls out into the future to continue.
• We expect cost-cutting initiatives to be undertaken by all companies, either brought about by activist
shareholders or from management actions, which are driven by peer/stakeholder pressure.
• We now see asset-backed retail power operations as not only desirable but increasingly vital for the IPP model.
• As the wholesale business shrinks, we see retail operations as a great defense against renewables and storage.