A virtual PPA is a hedge, not a power supply contract

A virtual power purchase agreement moves no electrons. It is a financial contract for differences between a corporate buyer and a clean generator, settled in cash against a market index, while the plant keeps buying its physical power exactly as before. For a manufacturer running several sites in Mexico, that distinction decides almost everything: whether the metering has to change, whether the sites have to sit near the generator, whether the arrangement produces Certificados de Energía Limpia, and how the finance team books it.

The reason a CFO or energy manager looks at one is narrow and worth stating plainly. A virtual PPA converts exposure to a floating wholesale price into a known net cost, and it can be signed across a portfolio of sites without touching any of them physically. What it cannot do is lower a facility's delivered CFE bill by itself.

A hedge that requires no capital expenditure has no payback period, so the fast payback and return on investment framing that surrounds virtual PPAs in United States coverage does not carry over. The instrument also behaves differently in Mexico, where the market rules and the certificate regime are not the ones most virtual PPA statistics were built on.

How the contract for differences works

Buyer and generator agree a strike price per MWh over an agreed volume and term. Each settlement period, the contracted volume is valued at the relevant market index. If the index settles below the strike, the buyer pays the generator the difference. If the index settles above the strike, the generator pays the buyer. The buyer's physical supply contract runs on untouched underneath.

The net position is therefore the physical bill plus or minus the settlement. When the market rises, the settlement receipt offsets the higher bill. When the market falls, the settlement payment gives back the saving. A virtual PPA is judged on how well it tracks the buyer's actual cost, not on a rate of return.

Why there is no payback period to calculate

Onsite generation involves capital, an installed asset and a payback calculation. A virtual PPA involves none of those. The question is how closely the hedge matches the exposure it is meant to neutralise, and what the contract costs if it does not.

Put the accounting treatment to the auditors before signing rather than after. A contract settled financially rather than physically is capable of meeting the definition of a derivative, and the resulting mark to market can land in the profit and loss account in periods when nothing has changed operationally. That is a reporting outcome a CFO should choose deliberately.

Basis risk is the Mexican-specific problem

The Precio Marginal Local in Mexico is a nodal price. It is set at each pricing node of the Sistema Eléctrico Nacional and decomposes into three components: marginal energy, marginal losses and marginal congestion (CENACE, Diccionario de Datos Abiertos, referencing the DOF note of 4 July 2016). Two nodes in the same hour can clear at very different prices, and the gap between them is congestion and losses rather than volatility in the abstract.

A virtual PPA is normally struck against the index at the generator's node. The buyer's cost is driven by the index at its own load node. Where a wind farm in Tamaulipas hedges a plant in the Bajío, the two indices are not the same series, and the difference between them is the buyer's uncompensated exposure. CENACE's weekly Mercado Eléctrico Mayorista reports show how wide that gap gets: in the week of 18 to 24 November 2018 the highest nodal price in the day-ahead market reached 15,000.09 MXN per MWh while the lowest was minus 117.97 MXN per MWh.

Ask for the settlement index in writing, ask for the historical spread between the generator node and the load node, and price that spread as a cost of the hedge. It is the term that most often turns an attractive strike price into a disappointing net result. Our comparison of fixed-price PPAs against nodal spot exposure covers the same mechanics from the physical side.

Clean energy certificates do not travel with the hedge

Certificados de Energía Limpia are awarded to qualifying clean generation and acquired by Entidades Responsables de Carga, under the lineamientos published in the DOF on 31 October 2014. They are a product parallel to the energy, transferred by contract, and a financial settlement by itself transfers nothing. A virtual PPA therefore does not count toward clean energy certificates in Mexico by default, whatever the practice is in other jurisdictions.

If a buyer wants the certificates, the virtual PPA has to contract for them explicitly, name the volume, and price them. Whether a bare contract for differences supports a CEL claim in Mexico was not a settled question as of early 2020, and we do not present it as one. The safe course is to write the certificate delivery into the contract as a separate obligation and to confirm the treatment with counsel.

Under the Ley de la Industria Eléctrica, energía limpia includes nuclear generation and efficient cogeneration alongside wind and solar. The Ley de Transición Energética, in Transitorio Tercero, sets a minimum 35 percent clean energy share of generation by 2024. A corporate sustainability commitment written around renewables is not automatically satisfied by a clean energy certificate.

How large the corporate market actually is

Corporations signed 19.5 GW of clean energy power purchase agreements globally in 2019, up 44 percent from 13.4 GW in 2018, according to BloombergNEF data reported on 29 January 2020. The Americas accounted for 15.7 GW of that total, of which the United States was 13.6 GW. Google led all buyers at 2.7 GW, followed by Facebook at 1.1 GW, Amazon at 900 MW and Microsoft at 800 MW.

Mexico's own reference price came from the long-term auctions, which CENACE ran until it cancelled the fourth round on 1 February 2019. The third auction, resolved on 22 November 2017, awarded 2,562 MW across 14 projects at an average of USD 20.57 per MWh bundled with one Certificado de Energía Limpia. With no auction since, a Mexican buyer testing a virtual PPA strike price has no public benchmark and has to build one from competing offers.

Where this goes wrong

Counterparty risk is the obvious exposure. A generator that fails leaves its virtual PPA counterparties unhedged and looking for a replacement at whatever the market offers that day. The amount at risk is smaller than under a physical contract, because the buyer owes only settlement differences rather than the price of power, and that is the honest argument in favour of the structure.

The exposure that gets underestimated is shape. A wind or solar generator produces when the resource is available, not when the plant runs, and the hedge only pays against the volume the contract specifies in the hours the contract specifies. A three-shift plant hedged against a solar profile is unhedged through the night. Model the settlement against 12 months of the site's own interval data before agreeing volume.

Our view is that a virtual PPA is the right instrument where a buyer's load is spread across regions, physical migration is impractical, and the objective is price certainty rather than a lower delivered bill. Where a single site has roof or land available and a demand profile that matches generation, onsite generation or a physical supply contract will usually beat it. We would revise that view if nodal spreads in a buyer's region narrowed enough to make basis risk immaterial. The full set of procurement routes open in Mexico and our answers to common PPA questions cover the alternatives.

Model a virtual PPA against your own load

Mexico Energy Partners tests proposed strike prices and settlement indices against a buyer's actual consumption before a contract is signed. The analysis needs 12 months of interval data for each site, 12 months of CFE billing and the draft term sheet, including the named settlement node. Our energy procurement page explains how the review is run.

Request a virtual PPA settlement analysis