UK: Electricity Market Reform Update: Contracts For Difference Allocation Procedure

Introduction

In the past year a series of government publications and consultations have given greater clarity to the government's thinking as to how the new Contracts for Difference (CfD) regime will work. Guidance has also been issued to explain the transition to the CfD from the Renewables Obligation (RO).

To recap, the UK government department responsible for energy policy, the Department of Energy & Climate Change (DECC), is closing the RO to applicants on 31 March 2017.

Under the current position, the relevant renewable energy generators receive RO Certificates (ROCs) which, in essence, provide additional income above the price received on the market for generating electricity from renewable sources. From January next year (and continuing after closure of the RO to new applicants) these generators will instead be given the opportunity to bid for a CfD, to be entered into with a government-appointed counterparty. Under the CfD, generators will receive a fixed price for the electricity they generate. If the generator sells the electricity for less than the price set out in the CfD (known as the "strike price"), the counterparty will make up the deficit between the price received and the strike price. Conversely (although this detail is often forgotten in the industry), if the generator receives more than the strike price, the generator will pay the excess above the strike price to the counterparty.

In this alert, we summarise the proposed procedure for allocation of CfDs, focussing on the first allocation round taking place later this month. This allocation procedure will also be likely to apply to subsequent rounds.

The RO will close earlier, on 31 March 2015, for solar PV projects. This is subject to a grace period under which late commissioning may be possible. DECC announced significant changes to its approach to this grace period earlier this month – we shall discuss these developments in a further alert in the near future.

Allocation of CfDs

DECC had originally planned to allocate at least a percentage of CfDs on a "first come, first served" basis. However, that is no longer the case. From the first round of allocations, which opens this month, the majority of CfDs (apart from CfDs strategically pre-ordered through the Final Investment Decision enabling process, for example the investment contract awarded to Hinckley nuclear plant, and any bespoke CfDs entered into as the Secretary of State directs) will be allocated as detailed in this alert.

We set out below the stages involved in the allocation process, as well as what will be required by applicants at each stage. The stages are summarised in the following diagram:

The dates for these stages have changed on a number of occasions, but the dates shown in the diagram reflect the most recent information available. It appears that the dates within which applications will be accepted (commencing on 16 October 2014, closing on 30 October 2014) are now fixed, having been confirmed by DECC on 2 October 2014.

The remainder of the timescales in the timeline are indicative, and the dates shown are those most recently published by the National Grid (on 7 October 2014). We suspect that these are unlikely to greatly differ when finalised, although there may still be changes.

That said, it is clear that the timescales will be extended in the event that there are any appeals of a non-qualification determination (on which see further below).

1 August 2014 – 26 August 2014 – supply chain confirmation

All proposed developments of 300MW or more must have a supply chain plan approved by DECC.

The supply chain plan sets out how the developer's project and procurement strategy will support the development of a diverse, robust supply chain and support innovation and the development of skills in the UK with the aim of "effective development of low carbon electricity generation supply chains". In effect, it will promote local supply. As a result, many equipment manufacturers are likely to be considering establishing or expanding manufacturing or assembly capabilities in the UK in order to meet this requirement.

DECC recommended that supply chain plans were submitted to DECC between 1 August 2014 and 26 August 2014, so that they could be approved within time for developers to be able to apply for CfD support when the applications open later this month. However, missing that deadline is not fatal; DECC has indicated that it will endeavour to assess plans within 30 working days of submission, although borderline cases may take longer.

DECC will inform developers if their plans have information or detail missing. In such case, the developer will be required to resubmit its plan including the required information or detail, and the 30 working day timeline will start from the date of resubmission.

If DECC approves a supply chain plan, it will provide the developer with a certificate of approval. This approval certificate is valid for a period of 12 months (subject to an extension with the approval of DECC if there is a "compelling reason").

If approved, supply chain plans may be published by DECC "in order to share information with the supply chain and support implementation". Therefore, any submitted supply chain plan should clearly mark what information is commercially sensitive, with reasons.

29 September 2014 / 2 October 2014 – budget confirmation

DECC has now confirmed the budget that will be available for each delivery year, and the division of the overall budget between the "Pots" for established technologies and less established technologies.

The Pot split is as follows:

  • Pot 1 – established technologies: onshore wind (>5MW), solar photovoltaic (PV) (>5MW), energy from waste with CHP, Hydro (>5MW and <50MW), landfill gas and sewage gas
  • Pot 2 – less established technologies: offshore wind, wave, tidal stream, advanced conversion technologies, anaerobic digestion, dedicated biomass with CHP, and geothermal
  • Pot 3 – biomass conversion

For technologies that fall outside of these pots, such as hydro >50MW and "'tidal range", CfDs will need to be negotiated on an individual basis.

The budget notice was initially published on 29 September 2014, but was replaced with a revised budget notice, published on 2 October 2014. The budget notice confirms the split between pots as detailed below (with the exception of biomass conversion, for which funding is allocated under investment contracts entered into through the Final Investment Decision enabling process). The amount of funding has increased from that stated in the draft budget notice that DECC had previously published. Pot 1 has increased by £15m per year from 2016/17, and Pot 2 has increased by £80m per year from 2017/18.

Table 1

Source: DECC Budget Notice for CFD Allocation Round 1

Each project is subject to a calculation based on (amongst other factors) the proposed strike price, the estimated capacity of the project and the load factor of the relevant technology. This formula gives a price for the estimated budget impact of each project, which is then assessed as detailed below.

The budget notice has also confirmed the administrative strike prices, which will be the strike price provided for in the relevant CfD unless an auction is required, and which sets the maximum available strike price in the event of an auction.

Table 2

Source: DECC Budget Notice for CFD Allocation Round 1

16 October 2014 – 30 October 2014 – allocation round applications

The next step is to find out which generators qualify for CfD support in any application round, to reduce the number of eligible bids and make the pricing round more manageable. To qualify, applications must be submitted to the National Grid. Applications may be received by the National Grid between 16 October 2014 and 30 October 2014.

Only "eligible generators" may make an application. This covers owners and operators of generating stations of the types set out in Table 2 above.

Along with information about the proposed development, the application must include the following information and statements:

  • Statements in relation to supply chains – a copy of the approval certificate (see above)
  • Planning consents – copies of all applicable planning consents enabling the proposed development to be constructed and electricity generated from the development to be supplied to the National Grid, and confirmation that no further planning consents are required for the proposed development
  • Connection agreement – a copy of the connection agreement (or partial connection agreement) covering transmission of electricity from the proposed development to a third party or the National Grid
  • Non-receipt of funds from other support schemes – confirmation that the proposed development has not been accredited under any other UK government support scheme for renewable developments (e.g. Renewables Obligation), and therefore the proposed development is entitled to apply for CfD support
  • Incorporation – evidence that the applicant is a UK registered company, VAT registered or a company not registered in the UK

13 November 2014 – confirmation of qualifying applicants

Following the closure of the permitted time for applications, the National Grid will assess all applications and confirm to the applicants whether the proposed development qualifies for CfD support.

Where an applicant is informed that it has not qualified, it is able to apply for a review of its application. This review application must be submitted within seven days of receipt of the confirmation from the National Grid. The National Grid would then re-evaluate the application, and again confirm to the applicant whether the application has qualified.

If, following any review, an applicant still believes it should qualify even though the review concluded that it should not, the applicant may appeal the decision to Ofgem.

If both a review and an appeal are required, the allocation round will pause whilst the appeals are addressed. The process will resume once all appeals are resolved. DECC estimates a total of approximately two months' delay compared to the timescales stated in the event that review and appeal are required.

2 December 2014 – 9 December 2014 – submission of sealed bids

Once the qualifying applicants have been ascertained (whether this requires the review/appeal process or not), the National Grid values all qualifying applications for each delivery year, to determine whether the valuation of applications for each Pot exceeds the budget for that Pot for the relevant delivery year (as set out in Table 1 above).

If the budget for a Pot is not exceeded, then all applicants will receive the administrative strike price (see Table 2 above). In such an event, successful applicants will be notified by the National Grid, and will subsequently receive a draft CfD (see further below).

If the budget for a Pot is exceeded (our understanding is it may well be, for each Pot), then all qualifying applicants within that Pot will be required to submit sealed bids for CfD support. If such an auction is required, the National Grid will issue a notice of auction to all qualifying applicants.

Qualifying applicants must then return their sealed bids, setting out the proposed strike price that each applicant is willing to accept for each MWh of electricity it generates. Such sealed bids must be submitted, according to the current indicative timeframe, between 2 December 2014 and 9 December 2014 (inclusive).

6 January 2015 – confirmation of successful applicants

Following submission of all sealed bids, the National Grid will then review the bids. An additional review will be undertaken for wave and tidal projects.

The National Grid will rank the applications for each Pot on the basis of the strike price, from lowest to highest. The applications with the lowest strike prices are offered a CfD, up to but not including the project which exceeds the budget for the relevant Pot for the relevant delivery year.

Projects that have been accepted under the auction are offered a CfD at the clearing price for a project delivering in that year, capped at the relevant administrative strike price. The clearing price is the highest bid awarded per technology. For example, if various solar PV applicants bid at a strike price of £110/MWh, but the highest bid price which is accepted for solar PV is £115/MWh, all successful solar PV applicants will be awarded a strike price of £115/MWh, even if they bid lower.

The National Grid's proposed allocation will then be subject to an independent audit. The Secretary of State also has discretion to request that an allocation round is re-run.

Following the audit (and any re-run as requested by the Secretary of State), the National Grid will give notice to each qualifying applicant to confirm whether that applicant has been successful in obtaining CfD support.

7 January 2015 – 20 January 2015 – contracts sent to successful applicants

At the same time that the National Grid notifies the successful applicants, the National Grid will also notify the private company set up by DECC to act as the counterparty to the CfDs, Low Carbon Contracts Company Limited (LCCC).

Following this notification, LCCC shall draft the CfDs (using the information provided by the applicant through the application process) and send them to the successful applicants. It is anticipated that the successful applicants will receive the draft CfDs within two weeks of notification by the National Grid that it has been successful.

Appeals

Given the audit process, it is not anticipated that a formal appeals process will be required following decisions on allocation. In the absence of appeals, any applicant that believes it should have received a CfD as part of the auction would need to apply for judicial review. Any judicial review action would not affect CfDs already granted.

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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