Contracts for Difference: round 2 results

Consistent with what many industry pundits had predicted, offshore wind was the biggest winner of Contracts for Difference (CfD) in the second allocation round (AR2), though at strike prices that were significantly lower than many had calculated, and up to 50 per cent lower than those awarded in the first auction held in 2015. AR2 will bring forward over 3.1 GWs of offshore wind as well as 149.95 MWs of advanced conversion technologies (ACT) and dedicated biomass with combined heat and power (CHP).

Under AR2, the UK Government has allocated £176.2m/year (in 2012 prices) of funding for projects using “less established” technologies (so-called “Pot 2” technologies) commissioning in the 2021/22 and 2022/23 delivery years by way of awarding 15 year CfDs.

Offshore wind’s success was undoubtedly buoyed by the decreasing costs of capital in the sector driven by greater levels of competition, improvements in the UK supply chain and the adoption of larger turbines, as well as the wider downward trend of subsidy levels witnessed in other European tender processes. Given the UK regulatory environment and development processes, we were unlikely to see the zero-subsidy bids that emerged in Germany and in the Netherlands. However, the AR2 strike prices are certainly far more competitive than many anticipated, suggesting that the industry values the market price stabilisation provided by the CfD over windfall profits.

The falling costs of offshore wind are good news for the industry as a whole which is seeing new markets develop in Asia and North America. The challenge for the UK Government is now to maximise the economic opportunities which the offshore wind supply chain presents for UK business, in the face of emerging competition from these new markets.

The results

Offshore wind has been the main beneficiary of AR2. Notwithstanding the success of offshore wind, AR2 will also support other emerging technologies such as energy from waste using gasification processes. Notable by their absence were wave and tidal stream technologies, which begs the question of how these technologies will move from demonstration to commercialisation.

The following projects have successfully secured CfD offers as part of AR2:

What happens next?

Those that were successful will soon be receiving their offer to enter into a CfD from the Low Carbon Contracts Company. Once signed, the CfD will require the satisfaction of various initial condition’s precedent within 10 business days of signature. The satisfaction of the “milestone requirement” will present the greatest immediate challenge to the successful AR2 CfD applicants. To meet the milestone requirement, the generator must demonstrate a significant financial commitment to the project within one year of signing the CfD (known as the “milestone delivery date”). In practice, this is akin to requiring the generator to have secured finance or to have reached its financial investment decision within 12 months of being awarded the CfD. Failure to meet this milestone requirement could lead to the non-fault termination of the CfD. Given the capital intensity of the successful offshore wind projects in particular, the coming months are sure to be a hive of activity in project finance markets, as these projects press ahead with large-scale financings.

While offshore wind has proven itself to be the major winner, AR2 also gives an important confidence-boost to the UK renewable energy industry as a whole, which will now be seeking assurances from Government as to the timing of the next allocation round. Equally, AR2 sends an encouraging signal to the UK energy retail market at a time when the growing burden of consumer electricity costs is under scrutiny. The successful projects stand to cumulatively generate enough to power 3.6 million homes. Ultimately, this is a positive interim step towards maintaining the UK’s commitment to a low carbon future.