Energy Storage Myths: #1 Arbitrage

Dispelling Industry Myths to Reveal the Value of Energy Storage

Daniel V. Crotzer | Energy Storage Consultant
June 17, 2016

#1 Myth: Buy Low / Sell High
What if we told you that the way energy storage companies market is misleading? For the past few years energy storage companies have touted arbitrage as the Messiah of the industry. We are going to show you how to avoid misconceptions and understand the real value of energy storage. This article shows the current value of arbitrage.

What is Arbitrage? 
Let’s begin by defining arbitrage. Here is our definition:

   Buy at a particular time and place for a lower price, then go somewhere else and/or wait and sell it for a higher price.

A visual way to think about it is with ice cream (as seen below). You buy from a low cost producer and then sell it to a buyer who is willing to pay more.

The graphic below is a summer demand curve, which shows that prices tend to change throughout the day and are correlated with the amount of demand. Arbitrage using energy storage is done by charging during lower-priced hours and discharging during higher-priced hours.

Unfortunately, you lose some of the ice cream as it melts along the way i.e. you lose energy due to round-trip efficiency. The following tables describe efficiency ranges we have gathered from polling vendors and using hands-on experience.

Table 1: Round-trip Efficiency Rates of Batteries

Table 2: Round-trip Efficiency Rates of Balance of Plant

The following formulas are used in our upcoming arbitrage break-even analysis:

   BESS Efficiency = Battery x Inverter x Line Losses

   Interconnect Efficiency = Battery x Inverter x Line Losses x Transformer

Show Me the Money!
How well does arbitrage perform? The following graphs tell the story.

Fractal uses industry proven models (which we share with our clients), that account for the operational behavior of batteries. We then factor the assumptions, parameters and costs and perform a present value financial analysis. The required price spreads are calculated to balance the following equation:

   (Present Value of Revenues) / (Present Value of Costs) = 1

The price spread required to achieve a benefit-to-cost ratio equal to 1 (NPV positive) is plotted on the vertical axis for different durations of energy storage. The price spread is the difference between the purchase price and the sell price. The orange and grey curves differentiate between performing arbitrage once a day or twice a day (e.g. arbitrage wind at night and/or solar during the day).

The ERCOT market for the years 2012-2015 provides a real-world example for electricity prices. The following graphic shows average hourly prices.

The biggest price spread is $24, which results in benefit-to-cost ratios closer to 0.1. That is an order of magnitude less than break-even!

Assumptions, Parameters and Costs
Let’s take a look at what went into the required price spread calculations. The following assumptions and parameters were derived from interacting with clients, participating in energy markets and hands-on experience:

• Lithium Titanate (LTO) batteries
• Twenty year life
• Battery swap at year 11
• 10% salvage value (of construction costs)
• O&M costs: Fixed $15,000/MW annually, Variable $0.25/MWh, Charging $35/MWh, Insurance: 0.2% of construction costs annually, QSE: 1% of operational revenue
• 3% price escalator
• 3% O&M inflation
• 8% weighted average cost of capital (WACC), no debt
• No ITC (does not qualify)
• 1% annual battery degradation
• 10% roundtrip losses
• 2012-2015 Real-time locational marginal prices (average)
• Installation costs: Balance of Plant $550/kW, Batteries (LTO) $550/kWh

The installation costs change according to power and energy requirements. For this analysis the following graph summarizes the installation costs. It shows that if you want a 1 kW system it will cost $550, and every hour of duration will cost an additional $550.

Conclusions
The numbers show that arbitrage on its own is not as profitable as it has been made out to be. There are only a few places in the world that have the required price spreads that make arbitrage economical for an energy storage investment (e.g. some of the Hawaiian Islands). However, energy storage arbitrage can be part of a healthy stack of energy storage services (e.g. Fractal Business Models) around which we have helped our clients build profitable energy storage projects.

Daniel Crotzer, President of Fractal Business Analytics
Daniel helps energy storage clients go from inception to implementation using his hands-on battery storage experience. Daniel is a Navy nuclear engineer and MBA who specializes in using predictive analytics and integrating financial models to create market advantages. He is the President of Fractal Business Analytics and balances roles between energy consulting (battery energy storage) and predictive analytics (real-time power trading). While at Fractal, Daniel has performed design, technical and financial analysis for over 250 MW of battery storage. Formerly Daniel was the Operations Center Manager at Xtreme Power (now Younicos), where he directed the operation of 77 MW of energy storage across the world. While at Xtreme Power, he led the creation of the first power trading platform using battery energy storage.