The Future of US Offshore Wind:

Boom or Boondoggle?

The Biden Administration is targeting 30 gigawatts of US offshore wind by 2030. The question is if that’s still a feasible goal--after a year of the highest inflation in 40 years and the fastest interest rate increases since the 1980s.

The 800-megawatt capacity Vineyard Wind 1 project is expected to start delivering electricity to the Massachusetts grid later this year. And lead owner Avangrid Inc (NYSE: AGR) along with its 81.65 percent owner Iberdrola SA (Spain: IBE, OTC: IBDRY) have indicated the facility is on budget for when it enters full commercial operations, which is projected in early 2024.

Vineyard, however, was already permitted with construction well under way long before last year’s dramatic cost inflation. And investment grade utilities like Avangrid could then finance development by issuing long-term debt with interest rates as low as 3 percent, versus today’s 5 to 6 percent.

Offshore wind projects in earlier stages of development no longer have that luxury. That includes Dominion Energy’s (NYSE: D) proposed 2.6-gigawatt Coastal Virginia Offshore Wind (CVOW) facility.

During its Q3 earnings call in early November, Dominion’s management announced a “top to bottom” strategic review. The subtext: How to pay for the rate based CVOW project, which has a current estimated cost of $9.8 billion.

Under an October agreement with multiple parties including Virginia Attorney General Jason Miyares, the Sierra Club and major customer Wal-Mart Inc (NYSE: WMT), Dominion agreed to eat half of any additional cost between $10.3 and $11.3 billion, and essentially all remaining costs above that.

Last fall, management asserted it had “locked in” 75 percent of project expenses, saying it would have “over 90 percent” by “the end of Q1 2023 at the latest.” Making that will likely depend on successfully launching the offshore wind construction vessel the company is building in Texas, and which it would be able to lease to other companies following CVOW’s full startup in 2026.

The stakes are very high for Dominion. Potential further cost overruns threaten earnings as well as the Virginia utility’s long record for reliability and low rates. The company will announce Q4 earnings and update its operating and financial guidance on February 8, with CVOW’s progress front and center. One bright spot: the Biden Administration has approved the facility’s environmental review, one of “at least” 16 offshore wind arrays it intends to expedite permitting to the construction stage by 2025.

If Dominion is a potential cautionary tale for utilities’ offshore wind development, NextEra Energy (NYSE: NEE) is the leading example of a company that’s done well by being a skeptic to date.

America’s leading developer and operator of solar, energy storage and onshore wind, NextEra is fresh off another year of blockbuster growth for earnings (up 14 percent) and dividends (up 15 percent). And management has extended guidance for more of the same through 2026, fueled by a target range of 32.7 GW to 41.8 GVW of new renewable energy and storage projects—all on land.

In contrast to the 5 years or more required to site, permit, finance and build offshore wind, onshore renewable energy projects typically enter service in 1-2 years after a final investment decision. That allows management to lock in costs and therefore returns in a way that’s simply impossible with offshore wind—at least so far.

Earlier this month, the world’s leading offshore wind developer Orsted A/S (Denmark: ORSTED, OTC: DNNGY) warned it would take a DKK2.5 billion ($365 million) hit to earnings. The reason: Unexpected costs at the Sunrise wind facility it’s building in a 50-50 partnership with utility Eversource Energy (NYSE: ES), off the Massachusetts coast.  

Orsted also announced it will take full ownership of an offshore wind farm planned in New Jersey, buying out utility Public Service Enterprise Group’s (NYSE: PEG) 25 percent stake. It still projects initial delivery of power from the facility at the end of 2024, and full commercial operations the following year.

Public Service says it still intends to provide transmission service. But the sale demonstrates it doesn’t want the risk of actually building offshore wind, and that New Jersey regulators probably don’t either.

Offshore wind facilities are not first movers per se: The first such plant was installed in Denmark in 1991. Bloomberg New Energy Finance reports 53 GW of global operating capacity at the end of 2021. And based on plans announced, it projects that to rise to 521 GW by 2035 with China, Germany and the UK having the most ambitious plans.

Commercial scale offshore wind is, however, brand new in North America. And projects here appear to face several hurdles many European and Asian projects do not.

In December 2022, for example, California auctioned off seabed leases at a price of $1,624 to $2,518 per acre—a steep drop from the $8,831 average fetched in February for sites off New York and New Jersey. The Golden State set a record for the highest number of approved bidders at 43. Yet only 7 chose to make an offer.

One reason is California has not set procurement procedures or subsidy, despite setting a goal of 2 to 5 GW by 2030 and 25 GW by 2045. Developers simply don’t have a framework for securing sales contracts, which in turn makes it next to impossible to secure financing. And much greater water depths off the Pacific coast mean projects will have to utilize floating technology that’s less proven and more costly to deploy.

Ironically, the biggest hurdle US projects face is the success of offshore wind globally. Disruption from Russia’s invasion of Ukraine has increased urgency in European and Asian capitals to build more offshore wind, which is seen as a rare large-scale generation source with natural gas unavailable and coal and nuclear shutting down.

US developers are now competing globally for materials, qualified labor and finance. And there’s every sign costs are going higher before there’s a chance of real relief.

Will US offshore wind projects proceed despite the higher costs? That will depend on what regulators allow into customer rates.

Despite generous subsidy from the Inflation Reduction Act, Avangrid has already made clear to Massachusetts regulators that it needs a higher rate for its 1.2 GW Commonwealth Wind project. A moderation of current supply chain strains and/or rising interest rates would of course improve economics. But it looks increasingly likely that larger players like Avangrid/Iberdrola and Orsted will put projects on hold until costs moderate, or until regulators come around.

Both are likely to take a while. And that means solar, onshore wind and energy storage—not offshore wind—will get the lion’s share of renewable energy dollars in the US this year. We’re also going to hear a lot more about hydrogen, another zero CO2 energy source that’s increasingly the focus of major oil companies like Chevron Corp (NYSE: CVX).

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Roger S. Conrad