Renewable PPAs and Political Risk: Spain Revisited
February 2020

In 2014, Spain – then Europe’s second-largest market for wind and solar electricity — shocked renewable investors and developers by retroactively and unilaterally revising the prices it paid for recently installed solar electricity farms. From a generous FIT (Feed-in-Tariff) system, Spain went to a “reasonable rate of return” approach, with far lower compensation to owners. This was a new kind of political risk coming to life. The outraged renewables industry hoped that either Spain would quickly change its mind, or quickly become so isolated from foreign investment that it would be forced to change its mind at least before long. Neither of the hoped-for paths materialized. Yet somehow, a few years later, in 2019, Spain returned to the forefront, drawing in over $8 billion of investment into new wind and solar generating capacity – more than any other country in Europe. What happened? And what have we learned?

Since Spain’s 2014 decision to unilaterally change solar PPAs, arbitrators and lawyers have been busy. Some 50 cases arguing breach of contract – seeking redress on the order of $7 billion — have been making their way along in courts and arbitration processes. In 3 of the past 6 years, Spain has topped the list of offenders in the proceedings of ICSID — the International Center for Settlement of Investment Disputes, part of the World Bank Group. Spanish courts, unsurprisingly, have tended to support the government’s actions, while arbitration results have been for the most part going against it. About a dozen decisions have been rendered against Spain, with the current sum of awards at around $800 million. But Spain has yet to pay any of these awards out. Some of the ICSID arbitration decisions have sided with Spain, and in many cases awards have fallen far short of amounts being sought by investors (for example, SolEs Badajoz, whose case was decided in July 2019, was awarded Eur 41 million compared to a request for Eur 98 million). During the 2014-2018 period, investment in the Spanish electricity sector fell off considerably.

Then came 2019, and both the tariff and legal situation for the Spanish renewables sector changed. In November, Spain approved a royal decree floated earlier in the year which offers investors economic incentives that can only be accessed if the pending cases are dropped. The new law will allow investors to either stick with existing renumeration or opt to maintain a 7.39% rate of return for the next two regulatory periods, which ends in 2031. For Spanish players, this is cause for celebration: guaranteed income for 12 years, in exchange for giving up court cases which have not been going anywhere. Prior to the change, the then in force framework would have likely lowered existing tariff returns by about 40% at the start of 2020. For foreign investors pushing arbitration, the trade-off is less attractive (see Investors Still Waging War with Spain Over Retroactive Cuts), and many seem ready to continue to fight for compensation, though decisions remain to be announced. What was clear was the market reaction: new generation investment in Spain’s renewables soared, with the country overtaking Germany and the UK as Europe’s biggest market for 2019.

Clear winners in all this? Lawyers. And risk managers urging caution on investors. The main protagonists? The original investors – at least international investors, not the Spanish investors who can only sue through Spanish courts — may get some compensation, but much later than they’d hoped, and less than they hoped. Or they may not. Definitely not clear winners. Possibly clear losers, probably partly losers. The Spanish government saved a lot of money and hasn’t had to pay any of it back – yet. They may have to pay a chunk of it back soon. Or not. The economy slowed down for a few years, but it was doing that anyway due to the fiscal imbalances which led to the unilateral revisions in the first place, and now investment is back. And of course the current government is not the one who adopted the belligerent policy towards the renewables industry. Neither clear winners or losers, possibly partly winners (if they wind up paying very little of the) arbitration awards and requests, possibly partly losers (if they’re eventually forced to pay out large amounts).

So what to make of Spain’s highly-publicized breaking of contracts? In some ways, it may be surprising that more countries have not sought to follow Spain’s path. Leaving aside the specifics of Spain’s 2013-2014 budget problems which triggered the contract revisions, the underlying issue with solar contracts facing Spain at the time is one that is widely shared: technology improvement. When the price of a product falls a long way – as has been the case for wind and solar electricity – those who commit to buying the product on a long-term, fixed-price contract early wind up paying a lot more for the product than they would have if they had waited, and more than others who signed contracts later are doing. Spain is 2014 was paying anywhere from 30 to 50% more for solar power, with contracts signed in 2009-2010, than it would have been doing if it had signed those contracts in 2014, or than other countries then signing those contracts would be paying. The temptation for a buyer – in this case Spain — to find a way to get the new price, rather than the old price, is high. When the buyer is a new government, happy to cast blame on its predecessors, that temptation gets even higher. This has been the big political risk for renewables generation. But a great many countries have faced this temptation, and almost all have chosen to honor their old higher-priced contracts. The only similar attempt in recent years has come in the last year in Andhra Pradesh, where the incoming state government is seeking to force the lowering of tariffs – or cancellation – for 2-7-year-old solar projects contracted by the previous State Government. The new government, through the state-owned distribution companies, is seeking cuts up to 60% in agreed tariffs, and to cut 15 years off PPA lengths. A special case is in the offing in California, where the strength of renewable PPA offtake contracts are being tested in bankruptcy court – with the wildfire-driven bankruptcy of utility PG&E leading to attempts to shed various liabilities, including offtake contracts, to get PG&E out of bankrupcy. To date, California courts have affirmed the validity of the PPAs. Many eyes are on South Africa, whose situation today looks like that of Spain in 2014 taken to an extreme: a new government, an essentially bankrupt state-owned utility, large budget deficits, and renewable offtake contracts up to nine years old – several for power at well over $0.10 a kilowatt-hour, more than triple what new PPAs would be likely to cost. The Government of South Africa would love to change its older renewable energy offtake contracts, but so far has taken a different tack than Spain: it has offered project owners the option of voluntarily reducing the payments they receive per kilowatt-hour of electricity generated in return for longer deals and upgraded projects boasting more generation capacity.

Spain’s walking away from contracts was feared by renewable energy investors in 2014 to be the prelude to an epidemic. That has not happened. Political risk, even in the face of continued falling prices and widespread potential temptation, has remained low. The counterweight to the temptation, it can be argued, has been the source of the temptation itself. As wind and solar prices continue to fall – joined now by battery prices — and continue to present more opportunities for countries to reduce energy costs, staying in the market for technology is more important to most governments. In infrastructure, politics often trumps common sense. In renewable energy, technology is trumping politics.