Canada: Assessing Curtailment Risk In Ontario

History

Stretching back to the all party "Select Committee on Alternative Fuel Sources" in 2001, the province of Ontario's commitment to renewable energy has been strong and, for the most part, unwavering.

By the mid-2000's, with the launch of Ontario's Renewable Energy RFP I and II, renewables had begun to be seen as a viable offset to generation from the province's massive coal-fired generating plants – the largest single source of air pollution in Canada. Ontario's once gigantic coal-fired generating capacity will be closed by the end of 2013.

By 2009, with the launch of the Green Energy and Green Economy Act and the province's open-ended Feed-in Tariff, the move to renewables was portrayed as an economic stimulus tool.

Despite its vast size (1.1 million km2), Ontario's population is only 13.7 million (about the size of a tier two Chinese municipality). The total generating capacity of Ontario is less than 34,000 MW at any given time, and peak demand requirements now fluctuate below 26,000 MW. As a result, the addition of 10,700 MW of renewable generation to the existing supply mix, as contemplated in the province's 2010 Long-Term Energy Supply Plan, constitutes a revolutionary change.1

Ontario has a relatively high proportion of base load generating capacity which is inflexible (nuclear and large scale hydro) and relatively minuscule amounts of energy storage capacity. The province is interconnected with neighbouring jurisdictions of Quebec, New York, Minnesota, Michigan and Manitoba; however, export/import capacity is limited to approximately 4,800 MW. As a result, when the province generates more electricity than it can consume, and neighbouring jurisdictions do not take the surplus, market prices for electricity fall until they reach negative values as generators compete to stay online in order to avoid high cost facility shutdowns.2

With the launch of Ontario's Green Energy Act in 2009, the Ontario Government started what some might characterize as the biggest single change in Ontario's electricity system since the founding of the Hydro-Electric Power Commission of Ontario by Sir Adam Beck in 1906. Anyone who has driven along Highway 3 between Rondeau and Amherstburg, or visited a solar farm in Eastern Ontario, can attest to this.

Context

It is this context of government policy support for large scale, rapid energy system transformation in the face of quite limited system flexibility that makes the ongoing dialogue between contract-holding renewable energy generators and the province's Independent Electricity System Operator (IESO) so interesting. What makes it even more intriguing is the fact that a significant proportion of Ontario's base load nuclear generating capacity is scheduled to start coming offline after 2015 for refurbishment – changing the baseload supply characteristics of the province quite significantly.

In anticipation of the radically increased amounts of renewable energy generating capacity being added onto the provincial electricity grid, in 2009 the IESO announced a stakeholder initiative to seek input on guidelines and policies regarding the integration of renewable energy generation into the grid. The actual stakeholder engagement process was launched in 2010 with the publication for comment by the IESO of its draft Design Principles. After a lengthy stakeholder feedback process, the IESO released a final version of the Design Principles in March of 2011 and proposed amendments to the Market Rules shortly thereafter. These Market Rule amendments impose reporting requirements on variable generators and make variable generators that are market participants dispatchable on an economic basis. The Market Rule changes were approved by the IESO in November 2012 and came into effect in January 2013.

Curtailment – Why's and How's

Dispatch refers to the ability of the IESO to direct renewable generators to dispatch their facilities on or off irrespective of wind or solar resource availability. At present, the proposal is for all renewable generators which are: (a) connected to the IESO-controlled grid or (b) registered market participants to follow a dispatch procedure based upon a 5-minute dispatch interval.  The understated goal is to manage wind and solar generation in much the same way as conventional resources such hydro and gas generators are managed, using existing market rules, processes, and protocols.3 Wind and solar power project operators face an obvious round-peg/square-hole technology challenge trying to fit into a dispatch paradigm dating from the 1990s and developed for very different generation technologies. As a result, the process of modifying Ontario's Market Rules to contemplate renewable energy resource integration has been somewhat protracted.

Setting emergency circumstances aside, curtailment will occur with varying levels of frequency in different regions of the province. Whether a project faces local congestion challenges or larger system-wide congestion challenges will, to a certain extent, be a matter of engineering analysis. In theory, the development of transmission facilities should eventually match the development of generation facilities. That said, there are jurisdictions all around the world where renewable and non-renewable generating facilities sit idle because transmission has failed to catch up with generation.

A certain degree of local congestion and general oversupply is often planned into the system. However, given the relatively narrow operating margins of wind and solar projects, typical project leverage ratios and the debt service coverage ratio covenants by which most projects are bound, an annual curtailment of generating capacity of more than one percent can have a devastating impact on project viability – particularly if it occurs in combination with other operational challenges such as weather anomalies. The real problem with figuring out how to economically integrate renewables is that they are not only not "rampable", but they are also intermittent.

Resolving the Public Policy Challenge

The public policy challenges which have yet to be fully resolved in Ontario are: Who will bear the costs of curtailment and curtailment risk? And, how will renewables, which now form a significant and integral part of our electricity system, be fully integrated into an updated set of Market Rules and in a fashion that preserves project economics?

Renewable energy project proponents and potential acquirers will want to take a careful look at curtailment risk in Ontario from both an engineering perspective (assessing local and system-wide curtailment risk) and from a legal perspective (assessing the Market Rules, reviewing the applicable sections of the FIT Contract, RESOP Contract or other PPAs to determine indemnification rights). Doing an appropriate assessment of both the physical risk and the legal risk is essential because more recent versions of the FIT Contract do provide broader authority for Market Rule changes and some uncertainty as to cost recovery by generators.

Given the significant changes which are occurring in Ontario's electricity mix, it seems surprising that the current Market Rules, which are based upon and designed for an electricity system with minimal intermittent resources, are continuing to be used. Ideally, the reality of significant non-dispatchable assets, most of which are being built in the next 12-36 months, would justify a complete revision of the Market Rules. With the shutdown of Ontario's coal plants and the prospective shutdown of significant nuclear assets, dispatchable renewables will be relied upon for a significant portion of electricity needs in the province. Accordingly, the reality of renewables should ideally form a fundamental pillar in Market Rule design rather than an add-on. All this being said, Ontario's Market Rules remain fundamentally unchanged and, as a result, significant risk is borne by generators and acquirers of dispatchable resources. This risk translates into higher transaction costs and, for the time being, greater uncertainty for project proponents, equity investors, lenders and ancillary market participants.

Footnotes

1 Since 2000, Ontario has seen summer peaks, primarily due to the growth in air conditioning use. Since the advent of the 2008/2009 economic downturn, load has fluctuated between 11,000 MW in the early morning hours and 25,500 MW on hot summer afternoons. With 11,446 MW of installed nuclear capacity and 7,947 MW of installed hydro electric capacity and very little storage capability, Ontario has limited flexibility (considering the size of its system) to ramp generation.

2 For obvious reasons, the simultaneous outflow of both electricity and public money from the province has attracted negative media coverage.

3 What is interesting to note is that, much like Ontario's growing renewable fleet, Ontario's vast nuclear assets are also somewhat inflexible with extremely limited and slow ramping capabilities.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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