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Understanding the key project cost drivers and risks will give offshore wind developers the edge they need in the new low-subsidy era.
Focusing on the strike price could lead developers to lose sight of the key cost drivers and risks when it comes to offshore wind. As we near the next contracts for difference (CfD) auction later this month, a clear understanding of these key considerations has never been so important.
Pinpoint the cost drivers
With balance of plant costs remaining relatively static for a given project capacity, shifting from 5-6MW to 8-9MW turbines has helped halve capital costs on a per megawatt basis. By reducing offshore activity volume, turbine upgrades have brought time and cost savings while boosting energy production.
A positive outlook for offshore wind globally has also given supply chains the confidence to invest in achieving economies of scale and production efficiencies, translating into further cost reductions for the sector.
With offshore wind costs driven further down in this new low-subsidy era, effective risk management and due diligence will be the difference between those who develop projects delivering sustained long-term success and those who find that realities differ from the assumptions underpinning overoptimistic auction bids.
Risk management with added value
With auction-driven support mechanisms encouraging a ‘win at all costs’ mindset, some developers may succumb to the pressure of this at the expense of fully optimising and derisking their projects.
When it comes to effective risk management and due diligence, developers should be considering the entire value chain, rather than simply analysing typical health, safety and environmental risks.
By understanding the contractual, commercial, organisational, legal and political implications, developers can realise a more complete picture throughout the development process of any given project.
Keep an eye on ever tightening margins
With financial and safety margins tightening as offshore wind costs continue to fall, technical advice, due diligence and risk management early in a project’s development will support long term bankability.
A relatively small change in production, operational expenditure or electricity prices could significantly impact investor returns. Likewise, current assumptions around longterm turbine maintenance costs and availability levels do not have to be out by much to derail projects over a 10-year time horizon.
Progress in the UK
K2 Management has worked on two of the three CfD-winning offshore wind projects from 2017: Triton Knoll and Moray East. At Triton Knoll, early-stage technical due diligence has enabled prompt risk identification and mitigation. Innovative approaches drove further cost reductions without jeopardising the bankability of the business case.
What to expect next
The race to the bottom in offshore wind should reach new depths later this month. However, the descent is likely to be more of a dip than the dramatic dive seen in 2017.
This could be a blessing in disguise. There will be a limit to further cost reductions while turbine technology and scale boundaries are simultaneously pushed to the limit.
With pressure to drive down costs further still, financial feasibility will need significant stress testing. Developers are therefore likely to place greater emphasis on due diligence and risk management.
Be realistic with emerging markets
Where new markets are concerned, offshore wind developers need to be realistic. It may seem as if low-cost European projects can be replicated in new markets, but differences in local supply chains, financing and electricity market influences mean that achieving this is unlikely in the short term. Mindful of this, developers should manage expectations and take a long-term view to ensure success.
Three key takeaways
As costs fall, project bankability must remain front and centre for long-term success.
* Look beyond the obvious when assessing risks. Developers need to ensure they get the full picture, particularly where margins are becoming tighter and tighter.
* Engage early for long-term success. That means putting risk management and due diligence at the heart of a project from the outset, ensuring the business case is robust through feasibility, the auction process and financial close.
* Do a reality check in new markets. Treat new markets with care and use European experience lightly rather than as a template for project management regardless of market conditions.
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