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UPDATED: Positive reaction to CfDs - and lessons learned

The results of the second allocation round for Contracts for Difference (CfD) were announced in mid-September, identifying those parties that had been successful in securing an offer of a CfD with the Government-backed Low Carbon Contracts Company (LCCC), guaranteeing them a secure revenue stream for electricity generated for a period of 15 years.

While most mainstream media coverage focussed upon the results for offshore wind, it should be noted that six of the 11 successful projects were advanced conversion technology (ACT) schemes, representing some 64MWe of generating capacity.

This result is positive news for the industry given the circumstances of the allocation round. With the setting of 150MWe limit for contracts awarded to fuelled technologies, and growing indications that offshore wind schemes had bid well below the administrative strike prices set in the round budget note, there was always the risk of ACT being marginalised. However, the success of these six schemes demonstrated the continuing ability for ACTs to compete within the CfD regime. (See Glossary below).

On closer inspection…

The results of the round indicate that competition was fierce, with final prices coming well below the administrative strike prices. For example, for ACT in 2021-22 delivery year, the strike price was just 60% of the corresponding administrative strike price. Despite this, the LCCC recently confirmed that five of the six ACT schemes have signed their contracts.

The one successful scheme not to sign a contract was the Redruth EfW project, which was offered a strike price of just £40/MWh. This does not come as a surprise given that the strike price in this case was below the current reference price (£43.52/MWh). This result brings into focus the vagaries of the sealed bid process, where bids are processed in strict order of their bid values but with all successful bids receiving the strike price of the last successful bid to meet the bidding criteria (the clearing price). This introduces pressure on applicants to bid a lower than desirable price to secure a preferential position in the bid processing queue in the hope of receiving an uplift through the clearing price. However, the results of this round demonstrate that this strategy may not always play out as desired.

Delivery Year

Project Name

Developer

Capacity

Strike Price
(£/MWh)

2021-22

Drakelow Renewable Energy Centre

Future Earth Energy (Drakelow) Limited

15.00

74.75

Station Yard CFD 1

DC2 Engineering Ltd

0.05

74.75

Northacre Renewable Energy Centre

Northacre Renewable Energy Limited

25.50

74.75

IPIF Fort Industrial REC

Legal and General Prop Partners (Ind Fund) Ltd

10.20

74.75

Blackbridge TGS 1 Limited

Think Greenergy TOPCO Limited

5.56

74.75

2022-23

Redruth EfW

Redruth EFW Limited

8.00

40.00

A missed opportunity?

Ricardo’s review of general bidding strategies indicates that it was very likely that several ACT projects submitted bids below the £74.75/MWh strike price but were unsuccessful on account of the 150MW capacity limit for fuelled projects. In the event, the award of a contract to an ACT scheme with a capacity of just 0.05MWe was noteworthy and its role in possibly setting the clearing price for the 2021-22 delivery year will bound to be of interest to experts.

The 150MW capacity limit raises an interesting ‘what if’ in that the draft budget notice published in November 2016 suggested that a limit on fuelled capacity could be imposed as either a capacity limit of 150MWe or a budget limit of £70m. The £70m budget limit was understood to be based on administrative strike prices for the relevant technologies and so, given that the final strike prices were significantly lower than the administrative prices, it suggests that perhaps even more fuelled projects could have been successful had the budget limit option been selected.

Given that the round resulted in allocating only £176m of the £295m budget announced, this feels like a missed opportunity at the expense of eligible fuelled technologies.

So, what now?

The results of the allocation round and next steps were also discussed during a panel discussion at the RWM exhibition, with Ricardo, the LCCC, Green Investment Group and ADBA all contributing to the discussion.

During the discussion, the LCCC representative advised that two further CfD allocation rounds were planned for the current Parliament. Indeed, BEIS recently announced that £577m of funding for future CfD allocation rounds for less established technologies, with the next round planned for spring 2019. The representative from LCCC also indicated that, amongst other considerations, a review of technology definitions might be conducted to distinguish in future rounds between ‘close-coupled’ ACTs, that combust the process products immediately following their production, and those capable of storing the products as an intermediate stage.

The Green Investment Group remarked it was not necessarily ‘game over’ for schemes that had failed to secure a CfD and that opportunities for financing still existed for schemes with good fundamentals.

ADBA remarked that the recent CfD round had not had a major impact on the AD sector due to the 5MWe minimum capacity requirement, with developers tending to focus on other incentives such as Feed-in-Tariffs. However, as the incentives landscape changed elsewhere it was remarked that the CfD might become more relevant to AD developers.

From these comments, it is clear that CfDs will continue to be an important source of support for ACTs in the immediate future and possibly also for AD.

In summary

The consensus within the industry seems to be that the results of the most recent CfD allocation round have been positive for ACT. Indeed, the five schemes that have signed contracts provide the opportunity for the industry to develop a large group of reference projects within the UK context upon which to further develop investor confidence in this group of emerging technologies.

Even so, beyond the news of results for offshore wind, the round will be remembered for two things. First will be news of a scheme, representing 5% of the capacity limit for fuelled technologies, not taking up the offer of a contract apparently due to an unsuccessful bidding strategy. Second will be indications that fuelled schemes were rejected because of their capacity when the round as whole did not fully allocate its budget. This cannot help but leave the sense of a missed opportunity at the expense of ACT and other fuelled technologies. Hopefully lessons can be learned that can be applied to the design of future rounds.

Nonetheless, for those schemes that did not benefit from the round, either through being ineligible (as was the case for combustion EfW) or unsuccessful, the indications from the finance sector are that opportunities for project finance still exist under the right circumstances. As such, the developers of such schemes should not lose hope in seeing them through to realisation.

Glossary

Administrative Strike Price. Strike prices identified in the budget note for each technology in each delivery year. In the event of the value of qualifying schemes not exceeding stated budgets, the schemes would have received these strike prices without needing to submit sealed bids. In a sealed bid process, the administrative strike prices represent the maximum price a particular technology can receive for the delivery year in question.

Budget note. One of the documents issued to formally launch an allocation round. It identifies the eligible technologies and delivery years that the round relates to as well as the available budget, administrative strike prices and any limitations on awards to particular technologies.

Reference price.  Represents the market price of electricity. The difference between the reference price and the strike price determines the size and direction of payments between the generator and the LCCC.

Martin Williams – senior consultant, resource efficiency and waste management practice due diligence team, Ricardo Energy & Environment

Readers' comments (1)

  • The trouble with the CfD bidding mechanism is that it is devisive that it ends up fooling itself. The results of the second allocation round highlighted a major flaw in the bidding procedure. I am aware of at least four projects that bid below the 2021/22 strike price and so in its wisdom the Government - or should I say the consumer - is actually paying, I estimate, around £20/MWh more for its renewable power than it could have done. Best of luck to those who succeeded, but it is clear that extreme gaming was played, making a mockery of the bidding process. Unfortunately for them, Redruth got it wrong and exposed the game. They bid low, hoping others would lift the strike price, but because of the new clever-clogs limits on MW capacity, nobody bid successfully into the second year and they were left holding their own baby. If they enter the CfD contract, they will spend the next 15 years paying the Government, so I will be very surprised if they do, and the aggravation is that in bidding in this way and not entering the contract, they have effectively robbed someone else of a CfD.

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