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Energy Bill update

Investment instruments - uncertainty remains for nuclear

In Summary

Mindful of the risk that EMR market changes could lead to delay in investment decisions for significant energy investments, the government have looked at measures to facilitate decision making ahead of EMR implementation. The Energy Bill contains powers for the Secretary of State to issue what is being referred to as an investment instrument to a generator ahead of the introduction of FiT CfDs. 

The investment instruments will in fact be a form of bespoke CfD with the actual form and content being dependent on the projects coming forward.  The Government have indicated that a number projects, including nuclear and early stage CCS, have expressed an interest.  However, the focus will inevitably be on new nuclear.

This package doesn't answer new nuclear developer's concerns in several key areas, including, to name but a few:

  • uncertain CfD term;
  • whether DECC will make state aid application;
  • whether CfD will include redress for any future adverse change of law;
  • will CfD contain adequate provisions for dispute resolution; and
  • questions remain around financial/covenant strength of proposed single counterparty within System Operator (National Grid) as well as capacity for dealing with invoice credit risk and capacity for margining/netting.

Enabling final investment decisions required before CfDs Implementation

The Governments anticipate the Energy Bill will receive royal assent during Spring 2013 and that EMR implementation will then follow some time after that.  They recognise that this timescale may be too late for some low-carbon generation projects (such as new nuclear) which may need to take their final investment decision (FID) before implementation has been finalised. The Government also appear to recognise that the changes proposed under the Bill could result in some final investment decisions being delayed or indefinitely postponed.  To avoid this Government has declared its commitment to work with relevant developers to enable the taking of such investment decisions before EMR implementation

Investment Instruments

Accordingly, the draft Energy Bill seeks in Chapter 2 to allay these concerns, by seeking to provide (early-stage) comfort to developers to enable them to reach FID before the Bill becomes law/  Under the provisions, developers are granted an option for the Secretary of State to issue Investment Instruments (effectively an early stage or interim CfD) on terms that the Secretary of State considers appropriate in advance of the full implementation of CfDs - subject to the requisite powers being available and state aid clearances being available.

In particular, section 15 provides the Secretary of State must issue an Investment Instrument provided a draft of the Instrument has been laid before Parliament during the period between the introduction of the Bill for pre-legislative scrutiny and the time when the it ultimately becomes law as an Act of Parliament.  It is a pre-requisite that the relevant developer consents to the laying of the draft Instrument and all generation license holders have been consulted.

To facilitate this process Government is establishing an FID Enabling process, under which the Government will start discussions with developers for significant projects with the following characteristics:

  • the type of generation to which the project relates is one that is capable of benefitting from the proposed FiT CfD;
  • the developer is able to demonstrate to the satisfaction of DECC that there is a real prospect that if the project is not in receipt of some form of comfort from Government before 2014, it will be cancelled, put at significant risk or delayed;
  • the developer is able to demonstrate to the satisfaction of DECC that there are credible plans in place to progress the project in order to start generating electricity in or after 2016;
  • the project is not eligible for the Renewables Obligation (RO).

State Aid issues

State aid concerns will play a significant part in the Government's ability to enter into any meaningful negotiations with developers on Investment Instruments: at this point it is remains unclear whether the Government are minded to make state aid applications before they conclude any Investment Instruments. This is likely to be of significant concern for any developer who would be counterparty.  Any unlawful state aid would end up being recovered from the developer counterparty, rather than the Government.  Therefore without the clarity,  state aid risk is in reality one for the developer rather than Government.

Investment Case protection

Developers of new nuclear projects may well take the opportunity to seek to build into any Investment Instrument some degree of contractual protection for their project's investment case.  These will be structured as contractual arrangement between the developer and the Secretary of State.  As such (private) contractual remedies (such as damages) will be available for breach.  Therefore developers would not have to rely so much on (potentially less effective) public law remedies and investment treaty arbitration to protect their investment. It is also possible that developers may seek to evidence and document into the terms and conditions of relevant Investment Instrument(s) that their project investment is being made on the basis of certain legitimate expectations of how EMR will ultimately be enacted and implemented. If they are successful, the developer should be protected from any future adverse (discriminatory) change of law or from any discriminatory change in the way that EMR policy is ultimately implemented into law and in the UK energy market.    

CfD Price Setting for Nuclear

The draft Operational Framework for CfDs which was also published alongside the 2012 Energy Bill makes clear that new nuclear will have its own CfD initially allocated through a FID Enabling process with the strike price being determined by an administrative price setting process, until the conditions are in place to move to competitive forms of price discovery. The Government expressly state that for new nuclear projects this process will involve: a price setting process determined through a cost, risk and price discovery process; and negotiation with new nuclear developers, on a project by project basis.

CfD Standardisation

The EMR Policy Overview published by the Government alongside the 2012 Energy Bill refers to CfDs being standardised across technologies, however it acknowledges that in the short term some variation may be necessary between different technologies; between intermittent and base load.

CfD Value for Money for Nuclear

Perhaps mindful of National Audit Office oversight DECC make clear that the rational for choosing CfDs as the mechanism to support low-carbon generation is that they are more cost effective than other options for support.

CfD Grandfathering for Nuclear

The Government supports the principals of grandfathering CfDs to provide investor certainty so a CfD can't be changed retrospectively once issued, other than in pre-agreed circumstances.  Any variations agreed will have to represent value for money and maintain a level playing field – in line with the Government's approach to securing state aid.

Auctions

The Government make clear their intention that EMR should support moving to competitive processes such as tenders or auctions as early as 2017 for technology deploying after 2020, move towards technology-neutral auctions in the longer term. 

Next Steps

DECC have established an Expert Group comprised of industry experts and consumer group representatives to test and improve policy proposals. The Government state that the CfD Operational Framework is only a draft model at this stage and that they are open to discussion on its contents: payment model, counterparty and contractual terms of CfD are all open for debate through until the autumn.

The Government intend to make firm decisions in the autumn of 2012 in order to inform the price discovery process and the FID enabling work. These decisions will be subject to Parliamentary approval through the final Energy Bill or associated secondary legislation.

Return to our Energy Bill update.