As you have likely heard, the Federal Court of Appeals has overturned the Alta Wind decision, thereby vacating (for the time being) the investor’s approximately $200 million award received in the Court of Federal Claims.
It’s not a helpful decision to the industry, but it’s not necessarily a bad result either. Here are some preliminary thoughts about last week’s decision:
- Background. As a refresher, here’s a brief summary of the relevant facts:
The Alta Wind case involved “1603 grants,” i.e., the program established to provide government grants for renewable projects in lieu of tax credit finance at a time when investor interest in tax credits had greatly diminished. The computation of the grant was very similar to the computation of tax credits, i.e., 30 percent of the cost of the renewable facility. In this case, the facilities were built, power purchase agreements were arranged and the facilities were sold to the investor for a higher price, almost $700 million higher, than they cost to build. When claiming the 1603 grant, the investor sought 30 percent of the total price, including the markup. Treasury declined to pay a grant on this additional amount, concluding that the addition was really attributable to the business’s goodwill (and similar theories), rather than the actual tangible property that constituted the facility.
In response, the investor went to the Federal Court of Federal Claims, where the court considered and rejected each of the government’s theories about allocating some costs to the business of selling electricity, as opposed to the physical project that produces the electricity. In general, the court found that no value could be attributable to a business, because the facility was sold before the business was operational, and therefore, there wasn’t something to which goodwill or other intangible value would apply. Notably, the trial judge disallowed testimony from the government’s expert, an MIT professor who had written some pro-socialist articles in the 1980s, but failed to disclose them on his résumé. In the end, the court awarded a little more than $200 million of additional grants to the investor, and the Treasury appealed.
In the Appeals Court for the Federal Circuit, the court was almost as favorable to the government as the lower court had been to the investor. It vacated and remanded the Court of Federal Claims’ decision, sending it back for a new trial. In particular, the court disagreed with the lower court’s conclusion that there had to be a going business in order for any portion of the investor’s value to be attributable to goodwill or similar intangibles. To the contrary, the appeals court concluded that the numerous negotiated contracts, which finalized pricing and operation dates indicated that goodwill could attach, even before the facilities became operational.
And a few considerations from the appellate court’s decision:
- Valuation will be determined in the Court of Federal Claims. The appellate court made clear in both text and footnotes that it was leaving the analysis of actual value for the Court of Federal Claims when the case is reheard. While some advisors are concerned that the Court of Federal Claims may see this as a directive to allocate something to intangible, like goodwill (and therefore not be credit-eligible), it’s certainly possible to imagine a new decision in which the Court of Federal Claims considers all the facts and expert testimony, and still concludes that there is little or no goodwill.
- Valuing market contracts. It seems quite legitimate to contend that very little should be allocated to intangibles if an appraiser can conclude that the particular facility is benefiting from a contract that is “market.” For example, the appraiser might conclude, “we reviewed contracts for the sale of electricity in the area, and they ALL get around X cents per hour. Accordingly, your contract is not better or worse than others, and it doesn’t indicate any value in your “going concern” or your “great sales force,” etc. You are just getting what a facility is worth, and if it is worth more than it cost to build, that’s not a surprise.” In fact, the investor did make the market contract argument, and the appellate court left it for the Court of Federal Claims to consider this approach when it reconsidered the case.
- Other considerations. In some cases, the sale of electricity comes in response to a solicitation from a utility; it would seem that this needn’t indicate that there is any goodwill in a newly formed venture that is simply responding to such a solicitation. In addition, the court of appeals declined to decide whether the value of the tax benefit itself should be included in the valuation of the facility, leaving that question for the Court of Federal Claims to resolve as well.
- Is a small allocation warranted to preempt the government? Allocating a small portion of the purchase price to goodwill is not unlike allocating a small portion of the cost of a facility to non-tax-credit-eligible basis, as has become common with renewable facilities. If supported by a cost segregation study, this cost might be minimized. Even if it did result in some allocation to non-creditable costs, the pain might be greatly reduced.
- Turnkey value. The appellate court’s decision specifically supports treating the turnkey value of the facility as part of its grant- and, presumably, credit-eligible cost. That can be significant in a lot of situations, because bringing all the parts together and up and running is a primary function of a developer. Of course, this leaves the question of what is the appropriate markup? Development fees are a common addition to the cost of a facility, but there isn’t a particular number or range that any of the renewables industries have settled on. While turnkey value has always been significant to appraisers, this decision may lead to it having an enhanced position in appraisals.
- Appellate Court review. This marks the third time in recent years that a court of appeals has reversed a trial court’s favorable-to-the-taxpayer decision in a tax equity case. The other cases are Virginia Historic, in the Fourth Circuit, on the tax treatment of state credits, and Boardwalk Hall, in the Third Circuit, on the tax treatment of the historic tax credit. If nothing else, these decisions mean that there can be a long time until there is finally some certainty in the tax rules that apply to these incentives.
- Critiquing the trial court judge. It’s plain that the court of appeals was annoyed with the lower court judge who refused to allow testimony from the government’s expert. On the one hand, perhaps the professor’s old, pro-socialism articles show some kind of “government knows best” attitude on the part of the expert. On the other, the appeals court observed that under the court’s rules, the expert had no obligation to disclose articles from more than 10 years ago anyway. There’s little doubt that the appellate court was especially bothered by two things— the judge’s refusal to at least allow the government an opportunity to further question the expert in an effort to restore his credibility, and that the judge’s ruling effectively left the government without an expert witness at all. Remarkably, the appellate court took the extra step of requiring that the remanded case be heard by a different judge when it returned to the Court of Federal Claims.
- Valuation will be determined in the Court of Federal Claims. It bears repeating that while the Court of Appeals vacated the lower court’s decision, it didn’t make many recom-mendations on how the case should be resolved by the Court of Federal Claims when it revisits the issues. As noted above, while the trial court may determine to allocate a portion of the purchase price to non-credit-eligible assets like goodwill or going concern, it’s not hard to imagine the court considering all the facts, including the government’s expert, and still concluding that goodwill has minimal or no value in many situations.
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