45Q Tax Credit Boosts Values Of Carbon Sequestration Projects, Yet Most Still In Development

Approximately half of the Inflation Reduction Act’s budget ($369 billion) has been authorized for spending on energy and climate change. One of the components buried in that act was the supercharging of an existing tax credit—45Q. This tax credit expanded from $50 per ton of sequestered CO2 to $85 per ton. What does this mean for potential carbon capture sequestration projects around the country? Perhaps a lot. However, it is too early to tell. According to Robert Birdsey of Greenfront Energy Partners, it would be like asking the pilgrims what they thought of America as they stepped off the boat.

That has hardly kept interest and activity from moving forward. A few weeks ago, Exxon and EnLink announced a largest-of-its-kind commercial deal in Louisiana to capture emissions from CF Industries’ Ascension Parish and transport it on EnLink’s transportation network to store it underground on Exxon property. Start-up is expected in 2025 and will sequester up to two million metric tons of CO2 annually. At $85 per ton, that’s a commercially significant tax credit—$170 million. It won’t be the last one. There are dozens of projects at various points in the development pipeline for this space. In addition, capital has been flowing freely into the broader “sustainability” space. According to Morningstar, in the first half of 2022 alone, there was approximately $33 billion of net cash inflow into that sector, along with 245 new funds launched.

Last week, I attended the Hart Energy Capital Conference, whereby Mr. Birdsey gave a presentation. I also spent some time with Mike Cain of U.S. Carbon Capture Solutions to find out more. Some interesting facts and issues arose.

Incentives

The White House has placed a value on the social cost of carbon at $51 per ton, which is partly why the tax credit was included in the Inflation Reduction Act (“IRA”). This effect helps remove financing bottlenecks for a number of these green projects. It can be, in effect, like the government financing approximately 30% of one’s equity in a project. In a space where being the low-cost producer is the name of the game, this puts a lot more players in the game. In fact, Carbon Capture Sequestration (“CCS”) volume could reach 200 million tons by the year 2030, a 13-fold increase relative to pre-IRA estimates, according to Net Zero Labs. Ironically, the upstream industry is the most qualified to capitalize on this incentive, giving traditional E&P players more opportunities to execute projects.

Issues

Even so, most of the potential projects in the CCS pipeline remain in development, where memorandums of understanding and letters of intent abound. However, binding contracts are fewer and far between, and there are reasons for this. First, from the standpoint of the 45Q credit itself, there is a potential time-matching issue here. Projects like this are multi-year—even over a decade if permits get held up. If a small government congress comes along and abolishes the incentive, it would almost certainly submarine the economics of the project. At this point, the 45Q credit is at the heart of the project’s economic viability, so if it goes, the project goes. There could be a lot of elections between now and 2030, which makes some investors nervous.

However, that’s less of an issue compared to others. There are three main elements to a successful CCS project: (i) an emitter, (ii) transportation, and (iii) a sequestration site. There are issues with all three. Emitters have been cagey about these projects because they are reticent about third parties adding infrastructure to an expensive asset such as a power plant. In addition, the long take-or-pay contracts that have been proposed for a lot of these projects are risky themselves. From the transportation aspect comes most of the same issues as other pipelines. Just ask the Keystone or Atlantic Coast Pipeline proponents. In addition, CO2 has to be transported at high pressures (say 1,100 PSI) in semi- liquid, low-temperature form. That makes the infrastructure potentially different than a conventional natural gas pipeline. Then, there are sequestration site issues. The injection sites for CO2 are known as Class VI wells. To date, there are only two active Class VI wells in the U.S., so permitting is a big unknown and presents a binary risk profile. Get your well approved, then move forward. If it gets rejected, your project could be finished. Oh, and did I forget to mention that these projects can be in the hundreds of millions of dollars of capital? That’s a lot of money that could wait a long time for a return.

Because of this, many investors look for emitter and sequestration sites that are proximate to each other, which is not always easy to find. Emission concentration economics, issues with monetization of 45Q credits (there is not currently a robust trading market for these), and other issues can sideline a project.

The Future?

Nobody really knows, yet optimism remains. It’s an emerging market. U.S. Carbon Capture Solutions is pushing forward with its Wyoming project, even though it may be 2030 before it comes online. The 45Q appears to have given this space a shot in the arm; we’ll see in five or more years from now what that turns into.