Access to Market REA EMR event 27 th March 2013
Contents 1. What do we mean by Route to Market? 2. Route to Market - RO 3. Route to Market - EMR 4. Day-Ahead Market for Intermittent Generation 5. Balancing Risk 6. Indexation is a natural solution for reducing Balancing Risk 7. Deriving the Balancing Index 8. Benefits of longer term contracts 2
What do we mean by Route to Market? The ability to sell / buy power into a market At a price that is robust With willing buyers and sellers Clear management of risks 3
Route to Market - RO Balancing Route for ROCs Route for Renewable Obligation Certificates Power Price volatility 4 P Long term PPAs have typically been sought to manage these risks
Route to Market - EMR CfD provides long-term price certainty for Renewable generators No need for a PPA to price in risk of fixed or minimum power prices Removes the need to value and market ROCs Intermittent generators need to secure the Day-Ahead MRP Some participants will have trading functions to secure this Others will seek a contract from a 3 rd party to deliver the MRP Banks / Aggregators Other generators MRP must be capable of being adapted over time Recognition that the day ahead index must be representative and flexible to respond to market evolution 5 Short and Long term Balancing Risk remain
Day-Ahead Market for Intermittent Generation Good progress being made in securing an effective market Over the last year, many players have signed agreements to buy and sell at least 30% of their generation in a day-ahead auction P P Source: Ofgem, Day-ahead auction trading N2EX and APX 2012 6 Ofgem have consulted on a new Secure and Promote licence condition to ensure this progress is maintained We have called for a new licence condition on all licensed generators and suppliers requiring them to trade at least 30% of their volume on the day-ahead market Having willing buyers and sellers will create a robust and reliable MRP
Balancing risks Uncertainty over long term balancing costs CCC have suggested costs could increase four fold as wind penetration increases And future regulatory changes could magnify or mitigate this Past experience suggests we are bound to get further intervention Since NETA was introduced in 2001, there have been frequent changes to cash-out And now we have an SCR P PPAs include a risk premium for managing uncertain 7 balancing risk, but can this be reduced?
Indexation is a natural solution to reduce Balancing Risk CfD strike prices will need to incorporate a view of the cost of balancing, but plant cannot rely on wholesale power price changes to recover long term changes in balancing costs To remain consistent with the original intentions of EMR, there are 2 options Include a view of long term changes to balancing costs when setting the Strike Price; or Set the Strike Price based on today s average cost of balancing and adjust mechanistically each year on the basis of a balancing index A balancing index approach is our preferred approach Directly addresses the lack of Change of Law protection in this area Bankable for investors as long term risk is removed (like inflation) Rewards assets that assist the SO in short term balancing 8 Delivers the lowest overall cost to the customer
Indexation is a natural solution for reducing Balancing Risk Strike Prices Current Proposal Plant Owner Costs Strike Price Balancing Market Access Operational Costs Capital Costs Indexation Proposal Indexed Element Generator would pay a fixed fee for market access to a 3 rd party provider Generator would pay a variable fee to cover short term balancing risk to either the same or different 3 rd party provider Variable fee linked to the balancing index to manage long term balancing risk for the 3 rd party provider P 9 Removing long term risk will reduce overall PPA costs and allow the Market to deliver provided Strike Price is set appropriately
Deriving the Balancing index One index per technology updated annually and based on out-turn market performance Index based on data already in the public domain: National average day-ahead forecasting error Variance between day-ahead and cash-out prices Strong incentives are preserved to balance on a day-to-day basis Out-perform the strike price by balancing better than the average Plant contributing to more SO balancing actions earns a lower return Any long term regulatory changes will be accommodated by the index as it will result in an increase / decrease in the average cost of balancing e.g. shorter gate closure, more marginal cash-out pricing etc 10
Benefits of longer term contracts for managing balancing risk Provides sufficient time to recover the fixed costs of actively managing imbalance SCADA set-up with our own 24/7 control room Set-up of operational links between O&M and off take forecasting processes Provides incentives for generators to actively participate in imbalance management and take a share in any upsides Opportunities for aggregators and generators to develop portfolios to manage the increasing risk of balancing 11
Conclusions EMR removes many of the risks facing all generators Recent developments in the Day Ahead Market should provide confidence that there will be willing buyers and sellers to create a robust and reliable MRP Investors however are still faced with short and long term balancing risk There is a strong argument in a CfD world for removing long term balancing risk whilst preserving short term signals A balancing index is a mechanism for achieving this objective 12