A fork in the road for renewable natural gas: Prospects for non-transport growth in the US

21 February 2024 19:38 RaboResearch

Renewable natural gas has seen tremendous growth in the US over the past decade, primarily in the transportation market. The signing of long-term offtake contracts for non-transportation use by utilities and corporate entities can be seen as a pathway toward market maturation, encouraging producers to enter the market, given known and stable demand, and supporting traditional financing through validating the revenue streams expected from a given project

A fork in the road for renewable natural gas

The state of the US RNG market in 2024

The market for biogas and its upgraded product, renewable natural gas (RNG), in the United States has seen tremendous growth over the past decade (see figure 1). Still, the market remains small, with RNG production estimated between 0.2 billion to 0.4 billion cubic feet per day (bcf/d) in 2023 versus domestic geologic gas production of just over an estimated 103 bcf/d. This growth has predominantly taken place in the on-road transportation market. The two primary drivers behind the growth have been the federal Renewable Fuel Standard (RFS), a program that requires fuel consumed in the US transport sector to contain a minimum volume of renewable fuel, and the California Low Carbon Fuel Standard (LCFS), a program designed to decrease greenhouse gas emissions, lower carbon intensity (CI) in the transportation sector, and encourage use of low-carbon fuels in the state of California. State-level clean fuel programs in Oregon and Washington, modeled on the LCFS, also support RNG adoption in transport. The pathways to generate credits for compliance markets under these programs have shifted the economics of RNG projects by allowing for a potential, and in some cases significant, revenue stream in addition to outright fuel sales. To date, these incentives have led to widespread adoption of RNG in the natural gas vehicle transportation market, with an 84% market share in 2022 in the segment.

Figure 1: US landfill and agriculture RNG projects in operation, 2014-2022

A fork in the road for renewable natural gas
Source: US Environmental Protection Agency, Rabobank 2024

However, historically volatile prices for renewable fuel credits and potential regulatory changes to these programs potentially put these additional revenue streams at risk. This risk often renders traditional financing for RNG projects difficult and may dissuade some producers from bringing projects online.

More adoption of RNG in the voluntary market, where utilities and corporations are beginning to take on a visible purchasing role, could help the market evolve beyond its traditional transportation sector footprint. These entities are entering the space to help reduce greenhouse gas emissions in their operations, often driven by ESG-related goals and reporting requirements. In some instances, RNG offers a quicker route to market than other low-greenhouse gas emission fuels like clean hydrogen. Inflation Reduction Act tax credits and state-level incentives are helping to support a wider use case for RNG outside of on-road transport. More entities signing long-term contracts for traditional offtake, rather than initiating projects to generate credits in transportation-linked compliance markets, could also be a pathway toward market maturation.

How big could the RNG market get?

Even if the RNG voluntary market more fully matures, domestic RNG production is still anticipated to remain a small subset of total US available natural gas supply. If the full estimated potential for RNG in the US were completely realized, it would amount to less than 10% of today’s geologic gas production (see figure 2). Various publicly available forecasts peg RNG production between 2 to 4 bcf/d by 2050. That wide range of estimates underscores the various factors at play, including the role of transportation market credit incentives and their potential for change, the scalability of diverse feedstock sources, and the currently wide incremental cost over geologic natural gas that can impact purchasing. In some cases, the availability or proximity of nearby infrastructure, given the challenge and cost of building pipelines, can also be a factor.

Figure 2: RNG production potential by feedstock type, 2023

A fork in the road for renewable natural gas
Source: BNEF, Rabobank 2024

At its core, RNG’s market size is a function of the scalability of biogas sources within the United States. Presently, some 70% of RNG in the US is derived from landfills, with approximately 20% derived from agricultural waste, mainly manure from dairy farms (see figure 3). To date, the greater development of landfill-sourced RNG has occurred due to the economies of scale from typical projects, the availability of feedstock, existing landfill gas collection systems, and the potential for on-site use of the non-upgraded biogas for power generation and combined heat and power. Other reasons include the avoidance of flaring the biomethane and, in some cases, the presence of nearby offtakers for the product.

The current development of agricultural/manure RNG production is less than 10% of its estimated potential, according to estimates by BloombergNEF. While many anaerobic digester projects connected to livestock operations use the biogas for on-site electricity generation, there is also uptake for the on-road and voluntary markets. The number of projects targeting agriculture has been on the rise (see figure 1), supported by a potential negative carbon intensity (CI) score. Various programs, including the California LCFS, factor avoided methane emissions into their CI score calculations, leading to negative scores (see figure 4). Credit generation is based on the CI of the fuel. The lower or more negative a CI score, the more LCFS credits will be generated.[1]

One consideration for the economics of agricultural RNG is farm size, which is generally derived from the number and type of animals, as higher volumes of manure provide scale. The type of existing manure storage is another important attribute, as open lagoon storage may lend itself more easily to digestion with a covering than the hoop or deep litter systems more commonly found for swine manure. The amount of solids in the waste stream and the type and amount of upgrading necessary are also considerations that play into the cost and complexity of a project.

In addition to those factors, a combination of federal and state-level incentives have helped support the agricultural/manure pathway. Various programs at the federal level support projects through the US Department of Agriculture’s (USDA) Office of Rural Development and its Natural Resources Conservation Service. At the state level, there are grant programs like one from the California Department of Food and Agriculture and others from state USDA offices administering grants for the Renewable Energy for America Program.

[1] CI scores are based on direct and indirect effects associated with producing and using the fuels. The direct model relevant for RNG is the CA- Greenhouse Gases, Regulated Emissions, and Energy Use in Transportation (GREET) model. There are a range of CI scores for a given RNG production pathway. In some cases, this may drive a project to seek to maximize avoided emissions, to the extent possible, for the lowest CI score possible. For instance, a project that involves trucking RNG to its point of use may choose to employ an RNG-powered natural gas vehicle rather than a diesel one. A project that relies on heating to aid in the digestion process may choose to install solar of wind assets to power that process.

Figure 3: Share of RNG production capacity by feedstock type, 2021

A fork in the road for renewable natural gas
Note: Adapted from the Argonne National Laboratory Renewable Natural Gas Database, which was last updated in January 2022. Source: The Coalition for Renewable Natural Gas, Office of Energy Efficiency and Renewable Energy, Rabobank 2024

Figure 4: LCFS range of carbon intensity values by fuel type, 2024

Fig 4 ET
Note: Range based on CARB’s Current Fuel Pathways, last updated on February 9, 2024. Source: California Air Resources Board, Rabobank 2024

For small and mid-sized agricultural operations, scale can pose a challenge due to a lower relative yield rate compared to projects on landfills and the cost of pipeline interconnection. However, some of these small to mid-sized agricultural operations are being developed under a hub-and-spoke model, removing the barriers of scale, proximity, and capital (for the various required studies and assessments) necessary for a utility interconnection. Under a hub-and-spoke model, biomethane may be conditioned on site and moved to a single interconnection, or multiple entities may flow to one conditioning unit and one interconnection point for scalability. In some instances, so-called “co-digestion” can also add scale to the agricultural pathway. This is when on-site digesters also process food waste or other organic waste from other nearby users in exchange for a tipping fee. Other transport solutions include virtual pipelines, where supply is typically taken to the point of use by truck or via a containerized solution. This is often due to the remote location of production or consumption or the lack of nearby pipelines or gathering connections.

Utilities expanding their RNG commitments

While transportation is considered a core market for RNG due to the support derived from various state-level credit programs and the RFS, non-transportation end uses are expected to create additional demand.

Some utilities are pursuing avenues to decarbonize their grids. In some cases, they are working toward decarbonization through plans to blend clean hydrogen or inject RNG into their networks. RNG can provide a more short- to medium-term solution than clean hydrogen given its commercial availability today and the related infrastructure to support its use. This includes pipelines and RNG’s interoperability with power plants and end-user appliances. However, the incremental cost of RNG over geologic natural gas would generally be considered a hurdle for utilities due to their “least-cost” requirements. As such, some utilities have set up voluntary procurement programs for customers with voluntary tariffs. Customers interested in RNG help bridge that incremental cost by paying a premium price.

These voluntary tariffs and procurement programs can have different structures. They may include a charge to reflect the cost premium of RNG over geologic gas, plus a charge for participation in the program to cover various administrative costs. Programs may also allow the consumer to choose the percentage of RNG they wish to purchase, or the pre-defined additional outlay they are willing to pay per month. Some public utility commissions have approved utilities offsetting some percentage of eligible costs related to integrating RNG into their systems, though this does not directly address the gas cost premium. Some states have also set their own voluntary RNG targets. Over time, such consumer-side and public utility commission programs are intended to help scale buying and lower costs.

In California, the passage of Senate Bill 1440 required the California Public Utilities Commission (CPUC) to consider adoption of an RNG standard for the state’s gas utilities. As part of that standard, RNG targets were adopted for the state’s four investor-owned gas utilities. A short-term target of 17.6 bcf/year (0.05 bcf/d) was set for 2025, but only biogas from landfills satisfies this target. This landfill specification was driven by two primary considerations:

  1. The state was not on the path to meet its target of diverting 75% of 2014 organic waste levels by 2025.
  2. Dairy-based pathways already had other incentive programs supporting their development. The mandated target expands to 72.8 bcf/year (0.2 bcf/d) by 2030, with dairy biomethane only able to account for 4% of that volume. That 2030 target will be revisited in 2025.

Many states have specific programs to allow utilities to recoup some costs, whether on the operating expenditure side or the capital expenditure side. Oregon Senate Bill 98 (SB 98), which became law in 2019, set voluntary procurement targets for RNG for large natural gas utilities – set at 5% from 2020 to 2024 and increasing to 30% by the 2045 to 2050 time frame. SB 98 allows those large natural gas utilities to recoup up to 5% of a utility’s revenue requirement in a given year for qualified investments and operating costs related to reaching the voluntary targets. Nevada’s SB 154 allows the state’s public utility commissions to allow utilities to recover select costs related to RNG procurement. SB 154 also sets increasing voluntary targets for utilities that purchase RNG. Those targets rise from 1% by 2025 to 3% by 2035. At present, known voluntary utility commitments, including those from the four investor-owned California utilities, would amount to over 0.2 bcf/d by 2030. This represents a volume of consumption close to what is in place for all RNG today.

Utilities are also supporting RNG development by placing RNG interconnections into service. Some have also formed non-regulated businesses to aid RNG development under a low-carbon umbrella.

Figure 5: Gas utilities with voluntary RNG programs

A fork in the road for renewable natural gas
Note: Line represents number of programs operational by year. Source: BNEF, Rabobank 2024

Voluntary market end-use demand

In addition to voluntary customer procurement programs at various utilities, recent announcements by large corporate users underscore the potential for the RNG end-use market to evolve beyond transportation. Various drivers have motivated these procurement decisions, especially decarbonization and emissions reduction objectives. Such purchasing could occur through a virtual power purchase agreement[2] or other similar structures set up to align geologic gas consumption with RNG injections to offset that use. As a drop-in fuel, RNG also has a potential role to play in existing hard-to-decarbonize industries like steel or glassmaking.

The extent to which these voluntary market purchases are also commercialized via long-term offtake contracts, where possible, also lends the market a greater degree of certainty than projects set up for monetization through credit generation in compliance markets. The presence of such contracts typically underpins financing options by validating the revenue streams expected from a given project. Thus, the role of long-term contracts can also be seen as vital for industry maturation, not only from a financing perspective, but also because they allow producers to have more confidence to enter the market by providing certainty for demand and pricing.

On the consumer goods side, L’Oréal has procured RNG from landfills in Kentucky, Texas, and New York. AstraZeneca has signed on to what is purported to be the largest RNG offtake agreement via a 15-year agreement with Vanguard Renewables, which was acquired by BlackRock in 2022 (see figure 6). That supply will be sourced from farm-based digesters processing food and agricultural waste. While the RNG is initially going to AstraZeneca’s Newark campus in Delaware, by 2026 the contract will enable delivery to all the company’s US sites.

University and college systems are also RNG buyers, such as the University of California system, which claims to be the largest buyer in the voluntary space, Duke University, and Middlebury College in Vermont, which purchases biomethane-powered electricity through a state program.

Microsoft’s San Jose, California, data center includes a microgrid that will be powered by RNG via upstream injection. Procurement of RNG through US Energy is slated to start in early 2026. Data centers typically require back-up power like a large generator or a resilience asset to ensure continuous operations during grid outages or when dictated by various utility demand response programs in order to help provide load reduction.

Notably, there have been few other such publicly announced examples of direct corporate procurement for use outside of transport. A current barrier in some instances is that these long-term contracts are often agreed at prices well above the cost of geologic gas, but still below the price of geologic natural gas plus the cost of a D3 renewable identification number (RIN).[3]

[2] A virtual power purchase agreement (VPPA) is a contract for renewable energy that does not involve physical delivery. Instead, a VPPA is a financial instrument that often includes what is termed a “contract for differences” between a fixed-price payment and the variable-priced cash flow, in addition to the receipt of the renewable energy attributes. The buyer is still responsible for procuring physical energy.

[3] RNG generally falls under the RFS cellulosic biofuel pathway. Under the RFS program, when certified cellulosic biofuels are produced, they are assigned a D3 RIN credit, which can then be traded. Some RNG projects may qualify for a D5 RIN if the feedstock is biogas from waste digesters.

Figure 6: Select long-term RNG purchase agreements

A fork in the road for renewable natural gas
Source: Company websites, Rabobank 2024

There are also potential new sources of RNG demand, including for use as a feedstock for clean hydrogen production.

Local natural gas bans and the limits to RNG

Given the recent focus on electrification as a pathway to decarbonization, there has been public debate about the need for RNG given future electrification. However, the regulatory backdrop in favor of electrification at the expense of gas (geologic or RNG) appears to be on somewhat tenuous ground. Specifically, the recent overturn of a Berkley, California, ordinance prohibiting natural gas piping in newly constructed buildings underscores the risks of outright natural gas bans as a policy lever. On January 2, 2024, the US Court of Appeals for the Ninth Circuit denied a rehearing of its April 2023 overturn of Berkley’s ordinance. That April ruling was based on the view that the federal Energy Policy and Conservation Act preempts the ordinance, as the federal act regulates energy efficiency in appliances and the local ordinance was seeking to eliminate natural gas use altogether. The next step for rehearing the Berkley ordinance would be the US Supreme Court.

Given that more than 100 state and local jurisdictions have passed various provisions to ban natural gas appliances, the decision could set a precedent. Those bans underscore the regulatory tension currently at play, with at least 24 states passing laws prohibiting such bans. The April 2023 decision likely prompted Eugene, Oregon, to reverse its gas ban and Washington state to change building codes mandating use of electric heat pumps in new construction.

Growing interest and investment in the market

Credit generation from clean fuel programs, the rise in voluntary purchasing, corporate decarbonization goals, and the expansion of investment tax credits to include biodigester projects have also helped to drive interest in investment in the RNG space. There has been significant deal flow in mergers and acquisitions targeting RNG developers since 2021. Acquiring companies have ranged from traditional vertically integrated energy companies to large asset managers to midstream companies to utilities. This merger and acquisition activity represents some USD 10 billion in investment, not including deals transacted at undisclosed sums.

In an upcoming article, we will review the various incentive programs for RNG development, including the federal RFS and California’s LCFS.