Out-Law Guide | 06 Sep 2021 | 9:15 am | 7 min. read
There are a number of options for the provision of renewable or low carbon electricity and heat to buildings which also offer potential cost savings.
For a large energy consumer, corporate power purchase agreements (corporate PPAs) represent a means of both demonstrating a positive contribution towards addressing climate change and potentially gaining an economic advantage through fixing the cost at which the electricity consumer is able to purchase electricity.
A corporate PPA is a contract put in place between a generator of electricity and a consumer of that electricity. Most corporate PPAs are entered into for the supply by the generator of 100% renewable electricity from a new project, such as a wind farm or solar park. This allows the electricity consumer to demonstrate that its purchasing decision has led to the development of an ‘additional’ renewable generating asset – something which is recommended by the UK Green Building Council.
While corporate PPAs can be structured in different ways, their core feature is that the generator and consumer of the electricity do not need to be physically connected.
Generators typically offer long term – 10-to-15 year – contracts, where the price of electricity sold to the consumer is fixed for the contractual term. This can offer an attractive hedge for the consumer against short-term power price volatility and long-term power price increases.
This cost certainty, combined with the ability to demonstrate compliance with environmental, social and governance goals, has resulted in a wide range of electricity consumers entering into contracts of this nature, including an increasing number of industrial and commercial landlords.
The drivers for entering into corporate PPAs in terms of being able to fix electricity costs and demonstrate a positive contribution towards addressing climate change also apply to onsite electricity and heat generation. The difference is that the electricity or heat is generated onsite.
The UK Green Building Council’s framework definition of net zero carbon buildings recommends that onsite renewable energy sources should be prioritised and should be pursued by building developers, owners and occupiers, where feasible. The noted benefits are additional renewables for the UK, reduced demand on the grid and increased building value.
The technology used to generate the electricity and/or heat can take various forms, including rooftop solar, ground-mounted solar, wind, bio-fuel generators and combined heat and power plants. A number of different models can be put in place to document the necessary property rights and electricity and/or heat supply arrangements.
The owner of the property grants a lease to the energy supplier allowing the energy supplier – i.e. the entity who owns and is responsible for the maintenance of the electricity generating plant – to install that generating plant at the property. The owner of the property and the energy supplier also enter into a private wire power purchase agreement (private wire PPA) whereby the electricity supplier agrees to sell electricity to the owner of the property. The lease is typically granted for a nominal rent and the benefit to the property owner is through the fixed price electricity supplied through the private wire PPA.
Private Wire PPAs are typically granted for 15-to-25 years and so provide long term certainty in terms of electricity costs. The electricity supplier may also enter into a spill power purchase agreement (spill PPA) with a licensed electricity supplier allowing it to export any excess electricity to the grid.
Where the owner of the property wants to retain ownership of the electricity generating plant it can employ a contractor to install, operate and maintain the plant. The owner of the property can use the electricity generated by the plant and can look to sell excess electricity to a licensed electricity supplier pursuant to the smart electricity guarantee (SEG) scheme.
The SEG scheme, which was introduced when the previous feed-in tariff scheme closed to new applicants in 2019, imposes an obligation on all licenced electricity supply companies with 150,000 or more customers to provide at least one SEG tariff to generators of electricity using certain eligible technologies – including solar photovoltaic and wind – who export excess electricity to the distribution system. As an alternative to obtaining a set tariff, the owner of the property could look to enter into a spill PPA direct with a licensed electricity supplier to export any excess electricity to the grid.
Alternatively, a structure can be set up whereby the owner of the property enters into a lease and a private wire PPA with a separate group company set up specifically for that purpose. The group company installs the electricity generating plant and supplies electricity to the property owner. This model has the additional advantage that the group company receiving the income from the sale of the electricity can itself become a valuable saleable asset.
Structures can also be put in place for the supply of electricity to occupational tenants by way of private wire PPA so that electricity generated onsite can be supplied to occupational tenants.
Depending on the model adopted, the same considerations as those applicable to onsite renewable electricity generation will equally apply to onsite heat generation.
Heat is more likely to be used onsite only and is currently subject to fewer restrictions from a regulatory perspective. In particular, the generation, transportation and supply of heat does not currently require a licence or exemption, unlike the corresponding activities in the electricity sector.
However, if the heat is supplied to domestic customers, the UK government has recently consulted on introducing formal regulation for heat networks in England and Wales, which is likely to create an authorisation regime and more detailed requirements on the construction and operation of, and supply from, heat networks. In Scotland, the Heat Networks (Scotland) Act 2021 will regulate the sector when it comes into effect from late 2023.
A major consideration when structuring any onsite generation or private wire supply arrangements is to ensure that the supply can be carried out on a licence-exempt basis. This avoids certain charges that might otherwise be applied in relation to the supply of electricity and ensures that the supplier is compliant with the general restriction on supply of electricity without a licence or an exemption.
From a pure property perspective, relevant considerations for onsite generation of heat or power include:
The UK government’s Future Homes Standard will prevent new homes being built with fossil fuel heating from 2025 – and this date may be brought forward. In Scotland, the Scottish Government’s New Build Heat Standard sets the same requirement for 2024.
One way in which buildings can decarbonise their heat supply is by connecting to a district heat network, where the heat for an entire district – whether a discrete development or city-wide – is produced centrally before being dispersed to individual properties via hot water.
The heat source may be an efficient gas combined heat and power plant, waste heat captured from industry, or it could be a sewage, water or ground source heat pump. In future, the heat source could also be hydrogen. The Climate Change Committee has recommended that new district heat networks be low carbon by 2025 and that existing heat networks convert to low carbon heat sources by 2040.
The UK government estimates that up to £16 billion capital investment in heat networks will be needed to help decarbonise heat, and the Climate Change Committee estimates that around 18% of UK heat will need to be delivered via heat networks to meet the Government’s 2050 ‘net zero’ targets.
The UK government is currently consulting on introducing regulation into the industry and has made £320 million available through the heat networks investment project to gap fund projects in England and Wales. In Scotland, the Heat Networks (Scotland) Act 2021 will regulate the sector when it comes into effect from late 2023, with a successor to the Scottish government’s Low Carbon Infrastructure Transition Programme (LCITP) funding mechanism currently being considered.
A major consideration will be to decide the structure to deliver the heat network and provide energy to end customers. There are different models which can be adopted, depending on the level of involvement that a developer wants to have in relation to the delivery of energy.
Commonly developers will contract with an energy services company (ESCo) under a long-term concession arrangement, pursuant to which the ESCo will have the exclusive right to maintain the network and supply end customers.
Under concession arrangements, the developer will typically have controls in place to ensure that end customers are protected, such as standards of performance in relation to heat failures and restrictions in relation to adjustments to charges. Often it is a requirement on ESCos to register a scheme with the Heat Trust, which is the world’s first voluntary heat customer protection scheme.
Pending regulation of the heat supply sector, developers should be aware that providers of heat networks do not have statutory powers to obtain, among other things, wayleave rights, meaning that developers will need to provide the operator with all necessary property rights by way of contract. These will typically be leases or easements, or servitudes in Scotland, for nominal consideration.
If a proposed development is mandated, such as through planning conditions or a planning agreement, to connect to a heat network, the monopolistic nature of a heat network becomes apparent. In such a scenario, developers need to be aware that there is a limited extent to which the terms of the development’s connection to the network and rights granted to the provider can be negotiated. This will need to be cleared with funders.
If a proposed development in England has residential tenants, developers need to tread with care to ensure that they do not fall foul of Landlord and Tenant Act 1985 requirements in relation to service charge items. In particular, a concession agreement with a heat network operator may require tenants to be consulted or a dispensation from the consultation requirements of section 20 of the Act to be sought from the Lands Tribunal and, if a plant room in a pre-let building is to be leased to an operator, careful structuring will be required to avoid the tenants’ right of first refusal under the Landlord and Tenant Act 1987 applying.
06 Sep 2021