Speakers:

• Shunsuke Kawashima, deputy general manager, Itochu Corporation
• Ross Bennett, managing director and head of structured finance, NORD/LB
• Joost van Acht, managing director, ib vogt
• Dr Mahdi Behrangrad, head of ESS/VPP business development, Pacifico Energy
• Nick Morely, APAC technical lead, Eku Energy

Drivers for energy storage in Japan

Itochu is one of Japan’s biggest wholesale trading companies (‘sogo sosha’). That means it is active in a wide range of business activities, including energy storage, where it has been a leader in residential battery sales.

It is now among the many Japanese and international players seeking to develop large-scale battery energy storage system (BESS) assets, and is partnered with the UK’s Gore Street Capital to manage a fund promoting storage and renewable energy in collaboration with the Tokyo Metropolitan Government.  

Shunsuke Kawashima, who works across Itochu’s BESS business at all scales including residential, commercial and industrial (C&I) and utility-scale, opened the discussion by highlighting the drivers for energy storage adoption in Japan, of which he said there are two: increasing renewable energy generation and increasing demand for electricity.

With the grid’s share of renewables and low-carbon energy, not including nuclear, at about 20% today, the government is seeking to get to 36-38% by 2030, and to 50% renewables by 2050, its net zero target year. There will also be a commensurate decrease in generation from coal, Kawashima said.

On the second point, electricity demand, it is well known that Japan’s population is ageing, and decreasing, and the government had forecast that demand for power would not increase significantly.

“So the government felt, this is very easy. Increase renewable energy, decrease energy from coal power supply, but it will still be okay, because of the total demand decreases, in this original scenario,” Kawashima said.

However, in May of this year, “the government changed their minds, because of AI, data centres, everything,” he said. “The government is forecasting right now that demand will be increasing more than 35-50% to 2050,” and has identified energy storage as a key technology to enable better balancing of supply and demand.

“One of the key things that we see in terms of more renewables coming in, we’re seeing in many markets around the world, that creates other difficulties in the grid, in the market and batteries can solve a lot of that,” said Ross Bennett, of German state-owned bank NORD/LB.

More variability in generation between different times of day requires shifting energy to better meet morning and evening demand peaks, while more uncertainty in generation output means a greater need for backup.

Kyushu, the furthest south of Japan’s three main populated islands, is already seeing about 10% of renewable generation economically curtailed, “wasted energy that’s not being dispatched,” Bennett said.

There is so far also only one ancillary services market for frequency response open to energy storage assets in Japan. Bennett said that is another area with high growth potential, while more projects with corporate power purchase agreements (PPAs) are coming into the Japanese market, leading to more trading in the spot market.

“With more trading in the spot market, there’s more volatility and opportunity for arbitrage players, which of course much further down the line is future opportunity for battery storage as well,” Bennett said.

‘Tough nut to crack’

While preventing curtailment is a valuable potential use case for energy storage in Japan as renewable generation increases, developing solar PV projects in Japan can have much longer lead times than in other markets, said Joost van Acht, managing director of ib vogt.

Van Acht is responsible for the European renewable energy developer’s development, investment and commercial transactions in the APAC region.

That includes setting the company’s strategy towards BESS development for both standalone ESS and batteries co-located with renewable generation.

“What makes it more complex for us in Japan is that generally the development cycles for renewables are quite long. So, we’re looking at the current grid situation, but then if you add the three, four years to develop a solar project, that situation might have changed quite considerably and that feeds then into your investment case,” van Acht said.

“We do find it quite challenging, but we do also see that if you can be smart about it, then you can combine batteries and solar together; there’s actually a very good opportunity to make some good money out of that.”

There’s a reason why Japan is a notoriously “tough nut to crack,” for foreign businesses, said Dr Mahdi Behrengrad ,of Singapore-headquartered Pacifico Energy, which currently has Japan’s largest operating solar PV portfolio.

“Japan’s sheer size and reputation, the establishment of the organisation and infrastructure, everything attracts lots of companies,” Behrengrad said, but noted that the number that succeed once there is relatively small.

That has been the case in solar, and in offshore wind too. One main reason for that is that renewable energy and storage markets are largely driven by auctions and subsidies, which are “notoriously single-buyer” procurements, “heavily impacted by regulations and which can evaporate in a year,” Behrengrad said.

“If you want to sell to government or government-affiliated or government-covered agencies, you should consider the risk that they change their mind, because it’s a hugely political debate.”

That presents a regulatory risk at the central government level, but what many foreign companies also fail to recognise are the regulatory risks at local level.

Behrengrad said that for one Pacifico project, land and grid connection had been secured, but when it came to construction, the local authority decided that it wanted to limit noise pollution from the asset to 40 decibels.

“I don’t say it’s rocket science, but all of this means money. It means cost, it means patience.”

Nick Morely of Eku Energy, which is the Australia-headquartered pureplay BESS developer set up by Macquarie Capital’s Green Investment Group to develop projects in territories including the UK, Australia and now Japan, echoed the sentiment that patience is key, as well as local partnerships.

“There are significant barriers, whether they be regulatory, as well as language and on the development front, the way that a lot of regulations are implemented, there’s a strong local layer as well,” Morely, who is Eku Energy’s technical lead for the APAC region, said.

“So, there’ll be federal laws, but then the prefectural governments are really the ones who are implementing them, and they have a certain amount of authority to make changes or require things above the federal regulation.”

On the technical side, getting grid connections for battery storage projects can be a challenge in many countries, but in Japan, the process can be even more complex than outside observers often appreciate, Morely said.

“In Japan, the primary challenge that we see is that the lead times to complete the grid connection are very significant and they’re also quite variable,” Morely said.

“You need to make an investment upfront, spend time with the utility and eventually you’ll get an answer back saying, ‘Okay, we need anywhere from two years to five or six years to make the connection ready for your project,’ and so if your capital isn’t patient, both to invest early to progress the grid connection with a significant risk attached, and patient to develop your project while you wait for that grid connection to be available, then you may find the market a bit unappealing.”

LTDA: ‘Not the only way to commercialise BESS projects in Japan’

The flipside is, of course, that both Japanese and overseas companies see the fundamental drivers for growth in the energy storage market, coupled with the government’s public announcements, as something it wants to support.

Much has been made of the recent first-ever low-carbon capacity market auction, called the ‘Long Term Decarbonization Auction’ (‘LTDA’).

This offered 20-year contracts underwritten by the government, and significant numbers of battery assets (1.1GW) and pumped hydro energy storage (557MW) were successful in the competitive solicitation process.

There are, however, “multiple pathways to commercialisation” of BESS in Japan, and the LTDA is not the only game in town, said Morley.

Eku recently announced what is thought to be a first-of-a-kind offtake agreement with utility company Tokyo Gas, for example.

“One of the things that’s attractive about Japan is that there are multiple commercialisation pathways there. It’s not completely dependent on the LTDA,” Morely said, although he qualified this statement by saying that strong policy support of the type offered through the auction is desirable, alongside the ability to pursue different business models.

Similarly, Behrengrad pointed out that Pacifico Energy was the first developer to put BESS assets into Japan’s wholesale electricity trading markets, one in the south in Kyushu, and one on the northern island of Hokkaido.

“We are the first company in Japan who built and now we own and operate fully merchant large-scale ESS in both Hokkaido and Kyushu, and it has been phenomenal. So that is the vibrancy that I like about Japan that you can do these things,” Behrengrad said.

Pacifico is also working to write up contracts that are “half-merchant, half-tolling,” and business models of this type may be what drives market activity in the long run, rather than single auction-led deployments.

The LTDA itself has two major issues, said Kawashima. The auction provided a “good signal” to the market that Japan is embracing energy storage, but the returns are too low, he said.

“It’s only 2% to 3% IRR, in this case, it’s better to put the money in the bank, to be frank,” Kawashima said.

Better money could be made from batteries if merchant revenue opportunities open up more, he said. Meanwhile, the risk is that the LTDA itself is not just a subsidy scheme to support energy storage.

Other low-carbon assets like nuclear, ammonia or hydrogen facilities could also participate, and with this year representing only the first staging of the LTDA, the scheme’s design could change year-on-year.

From a debt financier’s perspective, however, Bennett said the LTDA is an “attractive product,” characterised by long-term cashflow guarantees and a strong counterparty in the Japanese government.

“As we’ve seen in other auctions in Japan, the first round was very overbid, and the price or the ultimate outcome was perhaps sub-optimal for many developers,” Bennett said.

“But still, I think even with a low base IRR assumption, the cost of debt in Japan is very low,” he said, so if developers can combine their LTDA contracts with other revenue streams, it can improve their geared position.

Adapting to merchant revenues

Bennett agreed with Morely’s position that the LTDA is not the only way to commercialise a BESS asset in Japan, adding that it is also not the only way to get debt finance, as there are numerous potential large corporate offtakers in the country.

The banker made a comparison with the Australian market, which is starting to see more and more tolling agreements, as well as merchant business models, and projects or portfolios that blend both contracted and merchant revenues.

“There are various other ways that you can contract out the battery, of course. Many of these for Japan are maybe a little bit too soon at this stage, but I think all of that will likely come in time,” Bennett said.

“What we’ve seen in other markets is, this does usually come quickly, once it starts moving.”

Appetite for exposure to merchant risk will take time to develop in a market like Japan where renewable energy deployment and revenues have been so closely tied to a feed-in tariff (FiT) regime.

Behrengrad said that there are many companies in Japan that have the technical capability to deploy major infrastructure projects, and many companies with a strong background in energy trading in oil and gas.

The “comfort zone” provided by renewable energy FiTs, where the offtaker carries no credit risk and the prices are fixed, is not replicable in the more complex world of monetising the value of battery storage, he said.

Lessons from both those adjacent sectors can be readily applied to energy storage, but it’s the question of how to finance projects that needs to be answered, according to Behrengrad.

“I think the key difficulty that financiers have in Japan, when we talk about merchant exposure, is exactly as Mahdi was saying: to date, we haven’t needed to look at it,” Bennett said.

Bennett added that looking at the Australian market, an initial thirst for long-term contracted revenues has gradually given way to more merchant market exposure.

As contracts shortened from 20-year to 15-year and then 10-year in Australia, the “merchant tail,” the post-contract lifetime of the asset where there is freedom to play into merchant markets, increased.

“When you’re looking at a 15-year merchant tail, you obviously do a lot of merchant exposure analysis and there’s also more people playing in those markets as well from a trading perspective. So, there’s more liquidity, and there’s more comfort around that,” Bennett said.

“That’s also something that we’d see would be valuable in Japan to develop that merchant exposure, that merchant appetite.”

This article reported on a panel discussion from the Energy Storage Summit Asia 2024, hosted in Singapore earlier this month. Energy-Storage.news Premium subscribers can benefit from exclusive discounts to this and other events hosted by our publisher, Solar Media.