Interest in developing low-carbon ammonia projects has increased considerably following the enactment of the production tax credit (PTC) for low-carbon hydrogen under the Inflation Reduction Act. However, the unique complexities of these projects mandate due consideration to the bankability and terms of contracts.
Offtake agreements, a key type of contract for these projects, can be crafted to manage the inherent risks and challenges. Ammonia is vital to fertilizers and contributes to nearly half the world’s food production. Currently, most hydrogen, a critical component of ammonia, is produced through steam methane reformation (SMR) of natural gas. Compared to SMR facilities, low-carbon hydrogen facilities, such as those using electrolyzers powered by renewable energy, are more expensive to develop and thus not widely seen.
The PTC for clean hydrogen, which lasts for ten years, was designed to stimulate production. The credit value can reach $3 per kilogram of qualified hydrogen, but this figure fluctuates based on the lifecycle greenhouse gas emissions associated with the hydrogen production. Facilities combining SMR with carbon capture or using electrolyzers powered by renewable energy can utilize the higher PTC values and secure traditional financing. The Treasury Department’s clarifying guidance will improve project bankability by ensuring transparency and legal certainty for banks and project sponsors.
In the case of drafting offtake agreements for low-carbon ammonia projects, understanding the US ammonia market and the incorporation of concepts seen in other commodity sectors is paramount. As purchasers of low-carbon ammonia often place a premium on the product’s environmental credentials, offtake agreements should maintain standards for emissions levels. This aspect, the so-called ’emissions intensity,’ represents one structural area that might need addressing.
For the offtake agreements to provide expected legal and financial guidance, the seller’s obligations regarding delivery and substantiation of the quality of the product need careful consideration, as do remedies for non-compliance. Moreover, it’s vital that the information shared with ammonia offtakers aligns with that obtained from the seller’s suppliers. Especially with power suppliers, given that emissions from power production significantly impact the ammonia’s emissions intensity. The seller’s power purchase agreements ought to insist on comprehensive information reporting, which will allow the seller to demonstrate the environmental credentials and other incentives to offtakers.
Low-carbon ammonia projects bring their unique form of risk often referred to as “project-on-project” risk by project finance lenders. This term refers to the risk associated with the significant development timeframe of a large-scale, low-carbon ammonia facility, including any related sequestration facilities or renewable energy facilities supplying power. Offtake agreements should adequately cushion this risk and specify suitable remedies for any delays or unmet development milestones.
Offtakers’ creditworthiness forms another risk area. Without a liquid market for low-carbon ammonia, lenders have limited tools for evaluating or mitigating merchant risk. Consequently, lenders transfer significant emphasis to the offtake agreement and the credit of the offtaker. In the absence of an investment-grade credit rating, lenders may necessitate the inclusion of credit support backstopping offtakers’ obligations in the offtake agreements.
With robust drafting and harmonization of agreements, it’s possible to balance the unique risks and challenges associated with low-carbon ammonia projects stimulated by the hydrogen production tax credit.