Wind Power Stations Must Pay-Up For Lack of Electricity Generation

August 23, 2010 | Roger McEowen

 

The Texas Court of Appeals has ruled that the purchaser of electricity from three wind power stations via wind energy power purchase agreements (PPAs) is entitled to liquidated damages because the wind power stations did not meet their contractually-required minimum annual electricity generation amounts.  That failure resulted, at least in part, from lack of capacity to transmit electricity from the wind power stations and state-required cutbacks ordered by the Electric Reliability Council of Texas (ERCOT).  But, the behind-the-scenes issue was that the wind power stations were pushing development quickly so that they could capture millions of dollars of tax credits and other tax benefits handed out at the state and federal level.  They developed so fast that they outpaced the development of sufficient electricity transmission capacity (even though they had made arrangements for sufficient transmission development) resulting in a breach of their PPAs.

In the U.S., the electrical industry consists of power generation, transmission, and distribution. In Texas, these three components form a network or an energy grid that is managed by the Electric Reliability Council of Texas (ERCOT).  Every wind energy generation facility must enter into an agreement for the transmission of the energy that is produced.  In turn, the transmitter of the energy enters into agreements with distributors who sell the power to the end-user.  In this case, three wind power stations owned by Next Era Energy (formerly known as Florida Power and Light) entered into PPAs in 2000 with TXU Electric Company.  TXU Electric Company subsequently assigned the PPAs to TXU Portfolio Management Company (now known as Luminant Energy Co., LLC). 

Pursuant to the PPAs, each wind energy station agreed to sell a specified amount of wind energy credits and the electric energy that generated the credits.  The PPAs also required Luminant to provide the transmission services necessary for the wind power stations to deliver the net energy that they produced.  The PPAs required the wind power stations to make the necessary connection arrangements.  At times, the total amount of energy produced and transmitted by the wind power stations was too much for the grid to handle.   Consequently, ERCOT required the wind power stations to limit or curtail production.  However, a serious problem with wind-generated electricity is that once electrical energy is generated it must be transmitted to its destination or it is wasted.   As a result, the wind power stations did not meet their minimum annual generation requirements under the PPAs during 2002 to 2006.   Luminant sued the wind power stations for breach of contract and sought liquidated damages under the PPAs. The wind power stations counterclaimed, arguing that Luminant breached its obligation under the PPAs to ensure that there was sufficient transmission capacity to allow the wind power stations to generate as much energy as the facilities could produce based on the amount of available wind.

The trial court jury awarded $8.9 million dollars in actual damages to Luminant on their breach of contract claim. However, the court also found that Luminant had mitigated and covered these damages.  The jury also determined that Luminant did not materially breach PPAs.    Thus, the trial court judge issued a “take nothing judgment, holding that neither party owed any damages to the other.  The trial court judge also invalidated the liquidated damages clause contained in the PPAs, determining it to be void under the Texas Business and Commerce Code as an unenforceable penalty.  The trial court judge also determined that the PPAs required Luminant to provide transmission capacity, even if the wind power stations were shorting them on the contract, and that Luminant was obligated to return over $3 million it had received as beneficiary of letters of credit of the wind power stations.  Luminant appealed. 

On appeal, the court affirmed the trial court’s determination that the wind power stations were not entitled to recover damages, but reversed the trial court’s decision that Luminant couldn’t recover any damages.  The court didn’t buy the argument of the wind power stations that Luminant breached its obligation to provide for electricity transmission beyond the point of delivery by not guaranteeing adequate transmission capacity.  The court determined that the ERCOT-ordered curtailments did not actually curtail transmission, but only limited the amount of electricity generation to be delivered at the delivery point.   In addition, the court construed a state administrative regulation in a manner that did not require Luminant to provide adequate transmission capacity. So, the court reasoned, Luminant satisfied its contractual duty because it had arranged for the transmission of all of the net energy that the wind power stations actually generated and delivery to the required delivery point.  The court also ruled that the wind power stations were contractually required to make the arrangements for the interconnection of the wind power stations to the electric transmission grid, and that the interconnection process includes arranging for the transmission service providers to construct upgrades as needed to accommodate the energy to be generated by the facilities.  That meant that Luminant had no obligation to arrange for sufficient transmission capacity.

Importantly, the court noted that the force majeure clause (a clause that frees both parties from liability or obligation due to an extraordinary event beyond the control of the parties) in the PPAs did not apply because the liquidated damages provisions of the PPAs specifically provided that uncontrollable force was not an excuse for the failure to meet annual electricity generation minimum requirements.  The court also disagreed with the argument of the wind power stations that the liquidated damages clause was an unenforceable penalty provision under state law.  The court reached that conclusion by noting that the future availability of “renewable energy” credits from other sources was inherently political and uncertain.

The court also upheld Luminant’s right to retain more than $3 million that it had already received from the letters of credit of the wind power stations, and noted that Luminant could recover additional damages as the case continues back at the trial court on remand.  The appellate court determined that Luminant was entitled to damages in the amount they were owed under the contract because of the failure of the wind power stations to deliver the contractually-required minimum amounts of renewable energy and credits. The liquidated damages amount set out under the contract was, the court held, a “reasonable forecast of just compensation.”  Thus, the appellate court rejected the contention of the wind power stations that the liquidated damages award was disproportionate to Luminant’s actual damages.  Here, the liquidated damages clause (the amount the parties designated during the formation of the contract) was appropriate.  The $8.9 million jury award was based solely on testimony of the wind power stations and the liquidated damages clause was merely an assessment by both parties at the time of the agreement of the total amount of damages for a breach of the contract – the amount was not intended to punish either party. Thus, the remand will also involve an assessment of the proper amount of liquidated damages under the contract.  Originally, Luminant sought $36,733,700 in liquidated damages. 

The big lesson from this case for wind power stations is that the lack of transmission capacity in some areas can lead to curtailment orders which will not only affect the bottom-line of stations (by wiping out various tax credits) but can also lead (depending on the language of the governing PPA) to big liquidated damages awards to buyers of electricity for failure to meet electrical generation requirements.  The assumption by the wind power stations that the contract required Luminant to ensure sufficient transmission capacity and that Luminant had to take steps to reduce congestion and curtailments proved to be a big mistake. The court opined that the agreement only addressed Luminant ensuring transmission service, not transmission capacity. Congestion on the grid was not Luminant’s responsibility to remediate.

In any event, the case points out the importance of utilizing clear drafting language in PPAs concerning the development and/or upgrading of transmission systems, and specification of the party responsible for such developments or upgrades.  Obviously, energy purchasers will want transmission system issues to be the responsibility of the wind power station, but the wind power station will want contractual protection against curtailment orders and the inherent inefficiencies of wind-generated electricity (which will also make project financiers feel more comfortable).  TXU Portfolio Management Company, L.P. v. FPL Energy, LLC,et al. No. 05-08-01584-CV, 2010 Tex. App. LEXIS 5905 (Tex. Ct. App. Jul. 27, 2010).