Tilting at Windmills?

Delaware may want an offshore wind farm, and the idea has won more confidence than any other similar plan in the nation. But the company that has promised it has a few challenges to overcome, not the least of which is financing. Can Bluewater find its sea legs?

If you visit the corporate homepage of Bluewater Wind, you’ll likely be mesmerized by a video set to a New Age soundtrack of pan flutes and xylophones. As the music plays, slender white windmills slowly appear, dwarfed by the sea, to stand in stiff formation as their blades pinwheel silently above the waves.  

Unlike the grimy energy rush of the past 150 years, which unearthed a black gold responsible for pollutants linked to global warming, the abundant winds off the Northeast coast remain an untapped source of clean, invisible gold that could help undo that damage. University of Delaware researchers in 2007 showed there is enough wind between Cape Cod, Massachusetts, and Cape Hatteras, North Carolina, to supply—and exceed—existing power requirements in the nine coastal states between them.

Most experts predict that within years, towering offshore wind turbines will rise from Northeastern waters like the hissing, tar-stained oil derricks of the West before them. It’s happening in Europe already.

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If Bluewater founder Peter Mandelstam can build the first offshore wind farm 13 miles off Rehoboth Beach, he may just be remembered as the 21st century’s Edwin Drake, who drilled the first oil well in the United States, in Pennsylvania, in 1857.  

Bluewater’s success could make Delaware the offshore wind equivalent of oil-rich Texas. It seems only fitting that the nation’s second-smallest state could be the trailblazer for an energy source that, for now, provides only 1 percent of the electricity in the country.

But like its homepage video, Bluewater’s proposal to erect between 60 and 150 turbines is still a dream, no matter how much fanfare has surrounded the firm’s intentions. After it survived some lawmakers’ efforts last year to scuttle a deal with Delmarva Power, Bluewater’s plan to supply power for as many as 50,000 Delaware customers suffered a major setback: The frozen credit markets that crippled the economy and bankrupted scores of companies also left Bluewater’s parent firm, Babcock & Brown International, in peril.

Babcock’s acquisition of Bluewater in 2007 was hailed as an indication that the wind farm had sufficient financial heft. Then debt-burdened Babcock, which operates 25 land-based wind farms in the United States, announced earlier this year that it had started a three-year process to sell off its assets, including Bluewater.

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Finding a financial backer to scoop up an unproven venture that revolves around an invisible resource will be tough. Even if Bluewater succeeds in finding an investor, there are other hurdles to jump.

For one, the cost of building the wind farm is somewhere between $800 million and $1.5 billion, depending on whether Bluewater builds more windmills to accommodate renewable energy demands in Maryland and New Jersey, says Rob Propes, manager for Bluewater’s Delaware project. Finding lenders will not be easy, though Mandelstam is personally on the case. “We remain completely committed to building the Delaware offshore wind project,” he says.

Governor Jack Markell, a wind power supporter, remains hopeful that Bluewater can pull out of the Babcock liquidation.

“There is a lot of promise,” Markell says. “Bluewater has to figure out the financing piece of it, which is still somewhat complicated. It’s definitely a concern. The financing markets generally are quite uncertain.”

That’s putting it mildly.

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“The private sector is scared to death of anything right now,” says Brian Yerger of Arda Advisors in Wilmington, which specializes in renewable energy. “There’s not a lot of capital out there. It’s difficult to raise smaller dollar amounts, let alone a billion dollars. There is no appetite for risk-taking with the economic crisis.”

Bluewater will not have to wait its turn in Babcock’s three-year sell-off because Mandelstam says he has authority to find a new partner. “When I sold a majority controlling stake to Babcock & Brown, I retained certain protections, which allowed me to control Bluewater’s ultimate fate,” he says. “I am now working to find the best restructured outcome for Bluewater that brings new investment into the company. And I believe that will be resolved in the next six months.”

That was in April, when more than a dozen “significant investors” were performing due diligence on Bluewater. “We will have multiple bidders who want to provide Bluewater with additional capital,” Mandelstam says.  

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Bruno Mejean, managing director of Nord/LB New York, a Germany-based bank and wind-energy lender, says he is “optimistic that Bluewater will find other partners.” Mejean believes several private equity firms or energy companies such as Constellation Energy and Florida Power & Light Company could emerge as suitors. Bluewater, he says, currently has the most viable offshore project on the market.

What makes Bluewater attractive, even in a period of tight lending, are its power purchase agreements with Delmarva Power and the Delaware Municipal Electric Corporation. The two 25-year contracts guarantee that Delmarva will purchase $800 million of power over the years and that DEMEC will buy $300 million. Add possible deals with Maryland, which accepted bids on April 16, and New Jersey, and the firm becomes even more attractive.

Bluewater’s power purchase agreements, or PPAs, were the first in the nation. They indicate a degree of confidence never before bestowed upon a U.S. offshore wind project. “PPAs are a big deal,” says Laurie Jodziewicz, manager of siting policy for the American Wind Energy Association in Washington, D.C. “It’s difficult to convey just how big a deal that is.”

For investors, such deals are a “prerequisite for these projects to go anywhere,” Mejean says. “There is value in those PPAs.” That’s a $1.1 billion value over 25 years, as long as Bluewater meets its contractual deadlines for delivering electricity.

Bluewater can pull out without penalty until June 2010. If the firm decides to move forward, it has until December 1, 2014, to make its initial delivery of power. After that, penalties will accrue until May 31, 2016, when Delmarva can officially pull the plug.  

That’s seven years. Supporters say that gives Bluewater plenty of time before it needs to find an investor to put up its biggest infusion of money for construction.

“Bluewater can say, ‘We need to borrow $1 billion, but we can show you a stream of revenues for 25 years—and it’s guaranteed,’” says Jeremy Firestone, an attorney and University of Delaware professor involved in the deal. “They don’t need to find their big financing for a couple of years.”

Propes says the company wants to start construction by 2012. The project could take one to two years to build, though permitting through construction could take closer to three years, Mejean says. Before it gets started, however, Bluewater will need about $5 million from investors to plant a meteorological tower on the site of the proposed wind farm to prove that the wind is as stable as initial tests indicate. The company must then complete environmental studies, which could cost $20 million, before it can obtain federal permits to build the farm.  

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The permitting process is a major variable in scheduling. By April the federal government still hadn’t publicized rules for obtaining permits to build an offshore wind farm. “Without the federal regulations for developing a wind park, it’s a challenge to get investors to put out that kind of money when they don’t know the full landscape of what it’s going to cost based on permitting,” Propes says.

Mandelstam is confident that Secretary of the Interior Kenneth Salazar is going to announce the rules “soon.” Those rules could contain more stringent requirements than Bluewater has anticipated, though Mandelstam believes that’s unlikely. Having been involved in devising the rules, he is certain Bluewater would be poised to move immediately on prerequisite environmental studies.

The regulatory risk, however, could extend beyond publication of the rules and into the new review and permitting process—which can be “glacially slow,” Yerger says. “You’re building a power plant in federal water, which has never been done before.”

But the federal government did come through on another front: The Obama administration extended the life of a federal tax credit that has been responsible for rapid development of land-based wind farms over the past four years.

The production tax credit was extended through December 2012. For on-shore wind farms, the credit can decrease the financing developers need to build a project by a third, says Chip Carstensen, a senior director at Nord/LB New York. The credit equates to 2.1 cents per kilowatt hour. The more electricity produced, the higher the credit. The credit for an offshore wind farm would be in the range of 15 percent to 20 percent of the cost of the facility because building in the ocean is more expensive than building on land.

Congress has allowed the credit to lapse on three occasions since its introduction in 1992. Each time, wind production plummeted for the following year. Since the production tax credit has remained in place for the past three years, it ushered in record production. Such growth makes many believe in the U.S. Department of Energy’s goal of generating 20 percent of the nation’s electricity by wind. In addition, many expect Washington to help spur a bigger wind market by enacting a national minimum of 15 percent renewable energy by 2020. Thirty states, including Delaware and Maryland, have already established minimums ranging from 4 percent to 25 percent by 2025.  

Though extending the production tax credit will help the wind industry continue its rapid growth, it will do little to help Bluewater. Bluewater doesn’t plan to start building until 2012, which is when the credit expires, so Mandelstam and others are lobbying to have the credit extended again.

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Even with a new investor, new rules and an extended tax credit, Bluewater still faces challenges. One concern is getting the turbines assembled in time to meet Delmarva’s deadlines. The work requires an expertise that only European companies currently possess, Mejean says.

Denmark’s Vestas Wind Systems and Germany’s Siemens are the two big players capable of fulfilling large orders for offshore turbines. “There are two U.S. contenders, GE and Clipper, but they’re not ready for prime time in offshore,” Mejean says. “If it’s going to happen in three to five years, that’s how long it takes. More likely it will be the more established turbine suppliers who will be bankable. They’re not American.”

That poses a challenge for financing. The Department of Energy guarantees loans for renewable energy manufacturing, but with the stipulation that the turbines be assembled in the United States. Neither Vestas (Bluewater’s preferred vendor) nor Siemens have assembly plants for offshore turbines in the United States. Such plants need to be located near the coast because the sizes of the pieces are too big for road delivery.

Mandelstam is negotiating with European manufacturers to locate facilities in the U.S. “Even if no factories are opened—and I believe some will open—it’s quite standard for equipment to be shipped around the world and for assembly to be done at the staging area and brought out to the site,” Mandelstam says.

Overseas shipments pose two other challenges that could cause delays, courtesy again of the U.S. government. First, with  the offshore wind industry booming in Europe, Bluewater will need to place its order quickly to get the windmills completed in time. With so many projects launching in Europe, Bluewater’s turbines could be way down the line, Mejean says.

Mandelstam points out, however, that manufacturers are rapidly expanding their plant capacities. “I’m highly confident that by the time we place our orders, there will be ample surplus,” he says.

Second, transporting the blades and other pieces by ships to the offshore construction site raises concerns about the Jones Act, Mejean says. The federal law requires that American vessels do construction in U.S. waters. Mejean says no American ship has the capacity to haul such huge pieces of equipment, let alone to do the installation. Mandelstam says the law would not impede the project.

For all the obstacles, Bluewater has one key thing going for it: the political backing of Delaware. Of course, that can always change, especially since that support didn’t always exist. Last year Delmarva Power and several local lawmakers attempted to scuttle a marriage between the state’s main power provider and upstart Bluewater. Delmarva claimed that Bluewater’s project and power would be more expensive than those of two other bidders.

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But terms of the contract were changed, allowing Delmarva to buy only 200 megawatts from Bluewater while allowing Bluewater to build a wind park that could generate up to 600 megawatts. In addition, Delmarva will get a 350 percent increase on each renewable energy credit it buys from Bluewater Wind, allowing the company to easily meet the state’s standard of 20 percent of Delmarva’s energy from renewable sources by 2019. That gives Bluewater Wind a surplus of credits to sell on the open market, providing another revenue stream.

So the political rancor of last year appears to have quieted down. Yet none of the lawmakers who tried to derail the Bluewater deal with Delmarva returned calls. A spokesman for Senator Harris McDowell III said the Wilmington Democrat probably wouldn’t want to talk about Bluewater’s financial problems, that he was trying to distance himself from his efforts to sink the deal last year.

Yerger says offshore wind farms are going to be built in the Northeast no matter what. New Jersey has already awarded Bluewater a $4 million grant to build a meteorological tower off the coast of Atlantic City to test winds there in anticipation of several offshore projects, possibly one by Bluewater. “The Northeast corridor has a great wind resource, and it’s closely aligned to a large electrical consuming area. Washington, Baltimore, Wilmington, Trenton—all these cities suck up a huge amount of electricity,” Yerger says. “Would you rather transmit power from South Dakota or 10 miles offshore?” In 20 to 25 years, “We’re going to have a lot of wind energy generated in that corridor, no matter what happens to Bluewater.”

Firestone believes Bluewater will be leading the way, that the First State will host the nation’s first offshore wind farm, just as planned. “A whole bunch of things are lined up now: continued concern about the health impacts of fossil fuels, climate change, energy security, economic development, a supportive White House administration,” he says. “All the ducks are in a row for offshore wind to take off.”

Bluewater’s Hurdles

Financing  The economy has hobbled Bluewater’s parent company, Babcock & Brown
International. Because Babcock is trying to sell the firm, Bluewater must find a new backer.

Building Guidelines  As late as April, the federal government still hadn’t publicized rules for obtaining permits to build an offshore wind farm.

Permitting  Federal agencies often move slowly on approvals. Add to that the fact that a
power plant has never been built in federal waters. Delays could be longer than usual.

Tax Breaks  A federal credit for wind farms, which can help reduce construction costs, will expire in 2012. Bluewater doesn’t plan to begin construction until then, so it will not benefit unless the company succeeds in lobbying to have the credit extended.

Construction  There is no domestic firm with expertise in building offshore wind turbines, so Bluewater may need an outfit from Europe. That poses a challenge for financing. The Department of Energy guarantees loans for renewable energy manufacturing, but only by outfits in the United States. What’s more, no American vessel has the capacity to ship the large turbine components to the construction site.

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