CfDs – are we there yet?

It’s a long and winding road from the Renewables Obligation to contracts for difference. Clare King sets out where we’ve been and where we’re going next.

Contracts for difference (CfDs) – which are being introduced as part of Electricity Market Reform (EMR) – will replace the Renewables Obligation (RO) as the support regime for medium and large-scale renewable energy projects in the UK. The RO is being phased out from 2015 and will close completely to new applicants at the end of March 2017.
A CfD is a 15-year contract between a renewable generator and CfD Counterparty Company Ltd (CfD Counterparty), a government-owned limited liability company. Under the contract, CfD Counterparty will pay the generator the difference between an estimate of the market price for electricity (the reference price) and an estimate of the long-term price needed to bring forward investment in a given renewable technology (the strike price). If the reference price ever exceeds the strike price, the generator must repay the difference to the CfD Counterparty.
So the generator should, in theory, receive the strike price for all the electricity it exports. However, that depends on the generator’s ability to obtain a power purchase agreement (PPA) to sell its electricity at the reference price. If it is unable to achieve the reference price for its generation under a PPA, its top-up payment from the CfD Counterparty will nevertheless be based on the reference price and therefore it will not achieve the full strike price.
CfDs will be funded through a levy on all licensed suppliers in Great Britain and Northern Ireland, which will be raised by the CfD Counterparty.
Further details of the CfD regime became clear on 6 December 2013 when the final CfD strike prices were published in the new National Infrastructure Plan (see table below), and on 19 December 2013 when the government published the EMR delivery plan alongside a policy paper on CfDs and revised CfD contract terms.
The Energy Bill (which became the Energy Act on 18 December 2013) is the primary legislation that enables the government to introduce EMR, but the secondary legislation containing details of the individual elements (including CfDs) has yet to be drafted.

Strike prices
In setting the final strike prices, the government made some slight adjustments to the draft strike prices published in July 2013 – upwards for anaerobic digestion, dedicated biomass with CHP, geothermal and hydro; downwards for energy-from-waste, landfill gas, onshore wind, sewage gas and large-scale solar PV. However, the industry appears to be broadly comfortable with the new pricing levels. The majority view seems to be that the slight drop in support for certain technologies simply demonstrates the strength and maturity of the UK onshore renewables industry.
The strike prices themselves have been based on the equivalent RO value, less an adjustment factor that reflects the greater subsidy certainty that a CfD gives compared with RO certificates (Rocs). The shorter subsidy term – 15 years for CfDs compared with 20 years for Rocs – is also factored in.

Move to CfD competition
The European Commission recently published its suggested approach to future state aid guidelines, which proposes a move to competitive, technology-neutral allocation of renewables support across EU member states. This will have implications for the EMR (including CfDs) as state aid clearance is required before implementation. The new guidelines could require the UK to move to a CfD competition for more established technologies. There is some concern within industry that solar PV is likely to be treated as an “established” technology (to which the new competitive allocation process would apply immediately) whereas offshore wind is not.

Transition from RO to CfDs
The Department of Energy and Climate Change (Decc) closed its consultation on the transition from the RO to CfDs on 25 September 2013 and the formal response is awaited. As part of this, the government consulted on the transition from a Roc market to fixed-price Rocs and proposed that the fixed-price Roc might be introduced earlier than first planned. Originally, the fixed-price scheme was to replace the RO from 1 April 2027 and run until the RO end date of 31 March 2037.
A further consultation, this time on the secondary legislation and ­associated arrangements for the fixed-price Roc scheme, is expected in spring 2014.
In November 2013, Decc published a consultation that set out detailed proposals for the grace periods to be available during the transition from the RO to CfDs. Grace periods would allow RO support to continue to be available after the RO closure date (31 March 2017) in some circumstances. The consultation closed on 28 November 2013 and the government’s response is expected early this year.
Decc proposes to offer four forms of clearly defined and limited grace periods:
l A 12-month grace period for radar and grid connection delays.
l A 12-month grace period for projects that have signed investment contracts under EMR transition arrangements, .
l A 12-month grace period for projects able to demonstrate that substantial financial decisions and investments have been made before 31 July 2014, where the project is scheduled to be commissioned on or before 31 March 2017. To be eligible, these projects must have complied with a notification process by 31 July 2014.
l An 18-month grace period for projects allocated a place under the 400MW ­dedicated biomass cap.

The PPA market
A CfD does not cover the sale of electricity itself; a separate PPA with an electricity offtaker will still be required. The current lack of liquidity in the PPA market continues to be of concern to many renewables developers, particularly those at the smaller end of the capacity scale.
To address this, Decc is proposing to introduce an “offtaker of last resort” ­mechanism for renewable generators, ­guaranteeing a route to market at a fixed discount to the market electricity price (larger than the discount expected to be available in the market). Decc will consult on this
“backstop PPA” mechanism in early 2014 and the secondary legislation should be in force by autumn 2014. However, a generator is very unlikely to receive the CfD reference price under a backstop PPA and thus it may not achieve the full strike price for its generation.

What’s next?
The market is still waiting for the government’s decisions on the implementation of CfDs. It also has to confirm its approach to the European Commission’s likely requirement for a CfD competition for more established technologies early in 2014.
The government’s response to the RO grace period consultation is expected early in 2014, and Decc is to consult on the offtaker of last resort mechanism early this year.