Will Green Energy Wilt from Lack of Funds?

After years of fighting for stronger, more consistent state and federal support, the renewable-energy industry couldn't have asked for a better 2008. Although supplying just a sliver—barely 3%—of the nation's electricity, nonpolluting renewables such as wind, solar, and geothermal are the fastest-growing type of power being added to the grid. New installations of solar and wind power both hit record levels last year in the U.S.

In a year when the overall outlook for green businesses was mixed, renewables proved to be standout, says Joel Makower, executive editor of GreenBiz.com. Growth of renewable energy seems slow "because [of] the relative small size of the renewable energy sector, compared with the existing power generation industry," Makower points out in GreenBiz.com's just-released State of Green Business 2009 report. "But a closer look at the sub-sectors reveals impressive strides."

This year was shaping up to be even better. As part of the Emergency Economic Stabilization Act, signed into law last October, Washington granted unprecedented extensions of tax credits vital to the financing of solar and wind power projects. Then, in the first days of his Presidency, Barack Obama declared a goal to triple the share of the nation's electricity from renewables, to roughly 10%, by 2012. What's more, after years of production constraints keeping prices high, investments in new manufacturing capacity in both solar and wind have begun to produce more gear, lowering equipment prices.

The Money Dries Up

Just when things were looking up for the green energy sector, there's a new wrench in the works. The financial specialists that convert tax credits into capital that developers use to build new windmills and solar farms have all but disappeared—just when they're most needed. "For all the good news, the lack of project finance and capital means there's a real risk it won't be possible to hit Obama's goals," says Christopher O'Brien, head of North American market development for Oerlikon, a Swiss supplier of solar technology.

Here's the problem: To fund a renewable project, developers must convert tax credits into money they can use to pay for new photovoltaics and wind turbines. In recent years, a network of financiers has emerged to serve this market. Typically, small and midsize renewable project developers sell millions of dollars worth of tax credits to large, sophisticated financial entities that can use those tax credits to offset their own tax obligations or those of their clients.

As result of the capital crash, however, the pool of so-called "tax equity investors" has dwindled to around a half-dozen, from more than 20 in 2007. Key players such as Merrill Lynch and Lehman Brothers no longer exist. Others, including the likes of John Deere (DE) and Prudential (PRU), have backed out of the market, if only temporarily, according to research by Hudson Clean Energy, a private equity firm specializing in green energy. "This will be a constraining factor because the population of sophisticated buyers for these credits is too small," says Oerlikon's O'Brien.

While obscure, tax credits are a make-or-break ingredient for new renewable projects. They can comprise the bulk of the upfront funding used to build renewable energy projects. In a big wind development, for example, production tax credits can account for more than half of the capital structure. In a solar venture, tax equity accounts for 85% of the capital structure, according to Hudson Clean Energy data. Developer equity and debt typically make up the balance.

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