The US large-scale energy storage industry is now well positioned to take off, as a combination of a benign regulatory environment, competitive prices, and technological innovation has set the stage for the technology to become a powerful disruptive force in the energy business and a potential magnet for finance capital.
Batteries used for electricity storage and on-demand dispatch can disrupt the entire energy production supply chain by making various renewable energy sources more profitable, and ultimately replacing a large part of the market for established technologies, such as coal and diesel-fueled power plants. That displacement occurs in two ways: storing energy in batteries can substitute some existing thermal generation and it can reduce the need to build some new thermal capacity. Additionally, it supports the growth of two other disruptive technologies (DT), electric transportation and green energy.
"Large-scale battery storage offers investors a unique opportunity to make money and fight climate change, to do well and do good"
For any disruptive technology to succeed, major funding is needed. However, to attract sufficient investment, three prerequisites are needed:1) efficient technology at competitive prices, 2) a supportive regulatory environment, and 3) workable contracts for revenues and expenses. In the US, these three foundational essentials are now taking shape in several states, making the large-scale battery storage industry primed for growth.
While the industry is globally in its infancy, the US is an early leader in storage thanks to various technologies, software and processes being developed by leading American firms, backed by falling battery prices, stable lithium prices, and advances in the scale and proven efficiency of flow batteries (a newer type of rechargeable battery.) The price of batteries is forecast to drop by 80 percent between 2017 and 2040, according to Wood Mackenzie Power & Renewables. As the technology becomes more accessible, projects are getting built. By late 2018, the industry had about 1.4 gigawatt hours of operating capacity and projects under construction, with utilities taking the lead. As Exhibit 1 shows, US battery storage capacity could reach 110 gigawatts by 2040. That would be enough energy to power about 77 million homes.
Capacity should continue growing, helped by supportive policy in states such as California, which has committed to procure 200 megawatts of capacity by 2020 and to install those batteries by 2024. Several other US states, including Massachusetts and New York, are adding similar storage mandates as part of state-led efforts to generate more renewable energy.
Separately, storage has a major financial tailwind, as a growing number of institutional investors allocate to disruptive technologies. For example, one major California state retirement system plans to invest five percent of its portfolio in DTs over the next five years. (Investments categorized as DTs include augmented reality, AI, 5G networks, blockchain, the internet of things, green energy, electric vehicles and large-scale battery storage.)Further, the Federal Energy Regulatory Commission Order 841 is encouraging the development of wholesale markets for battery storage. All this sets the stage for a surge in power output from storage.
Additionally, a new revenue framework for the industry is taking shape. For the past five or so years, the price of batteries has been falling while states are encouraging the integration of batteries in both regulated and unregulated electricity markets. With those underpinnings in place, we believe that a template for long-term revenue contracts is now ready and could be a disruptive game-changer in US electricity markets. These innovative contracts (typically between a utility and a battery owner) promise to pay the battery owner both for storage capacity and for any power actually dispatched to the grid. Previously, storage projects struggled to find financing without a specified revenue stream, making it difficult for investors to accurately assess risk and return. As a result, many storage projects could only gain funding as an add-on to financing for a related wind or solar project. Now, with a template for contracts that details the expected revenue stream of a project, it should become much easier to attract competitive financing for battery storage deals. (Other factors that should help make financing easier to secure include the batteries now deriving revenues from multiple stacked revenue streams, improving market regulations, subsidies and faster permitting.)
Having an effective template for contracts is a big advance that should pave the way for capital to fund projects, both for stand-alone storage facilities and hybrid projects (battery storage paired with wind, solar or hydro). Investors willing to fund these projects could gain a first-mover advantage for the next few years due to a mismatch between the risk associated with these projects and the ability of investors to correctly assess that risk. With the industry still in its infancy, active managers can be rewarded with potentially attractive returns in the next few years until a larger pool of investors becomes familiar with the nascent industry.
Also, once the large-scale battery storage industry attracts sufficient financing, it can be a truly disruptive part of the battle to restrain climate change. At a time when US and Canadian wind and solar energy projects are already viable without subsidies, storage can solve a crucial remaining challenge facing renewable energy—how to maximize the value of an intermittent source of energy, both as grid power and on-site energy for customers. While you cannot know exactly when the sun will shine or when the wind will blow, with batteries you can now store that energy and then sell it later when demand on the grid is high, offering project owners the chance to command the highest prices for their energy.
Lastly, storage projects also have a set of intrinsic characteristics that should appeal to investors as they become more comfortable with the asset class. First, these deals provide predictable cash yields and tend to be less sensitive to inflation because of contracted revenue agreements. In addition, infrastructure assets historically have added portfolio diversification because of their low correlation to equities, bonds and other traditional assets in an investor’s portfolio.
In conclusion, large-scale battery storage offers investors a unique opportunity to make money and fight climate change, to do well and do good. With the emergence of a template for revenues contracts now in place, making it easier to finance stand-alone and hybrid deals, US battery storage is ready for its next growth chapter.
* This chart does not include electric vehicle charging which was modelled on a country basis and not split regionally. PJM Interconnection is a Regional Transmission Organization (RTO); MISO is an Independent System Operator (ISO) as well as an RTO; ERCOT (Electric Reliability Council of Texas) is an ISO.