UK Offshore Wind Market Study Final Report (Executive Summary) A report by Redpoint Energy Limited in association with GL Garrad Hassan October 2012 1
Copyright This report has been prepared by Redpoint Energy Ltd on behalf of The Crown Estate, and does not reflect the views of The Crown Estate. This report and its contents are provided by The Crown Estate for information only. No warranties or representations of any kind are given in connection with it, or its content, including the completeness or accuracy of any of its contents. The Crown Estate, its Commissioners, staff and agents shall not be held liable for any loss or damages or expenses of any kind in connection with the copying or use of any information or material contained in or referred to in the report, or otherwise from the use of the report. Disclaimer While Redpoint Energy Limited considers that the information and opinions given in this work are sound, all parties must rely upon their own skill and judgement when interpreting or making use of it. In particular any forecasts, analysis or advice that Redpoint Energy provides may, by necessity, be based on assumptions with respect to future market events and conditions. While Redpoint Energy Limited believes such assumptions to be reasonable for purposes of preparing its analysis, actual future outcomes may differ, perhaps materially, from those predicted or forecasted. Redpoint Energy Limited cannot, and does not, accept liability for losses suffered, whether direct or consequential, arising out of any reliance on its analysis. 2
1 Executive Summary Increasing the proportion of energy from renewable sources is an explicit policy goal of the UK Government with a legally binding commitment in place to meet 15% of the UK s energy consumption from renewable sources by 2020. This is estimated to require about 30% of UK electricity from renewable generation by this date. In order to accelerate deployment of low carbon capacity and to meet the 2020 renewable energy targets, the Government has established a policy framework that encourages investment in renewable and other forms of low carbon generation. Offshore wind is a key component of this strategy with the Department of Energy and Climate Change s (DECC s) Renewable Energy Roadmap setting out a central range for deployment of up to 18 GW by 2020 and 40 GW by 2030. With the best offshore wind resource in Europe, more operational capacity installed than in all other European countries combined 1 and a strong pipeline of projects, the UK is well positioned to meet the offshore wind deployment targets and to consolidate its position as the global leader of this industry. The Crown Estate (TCE) manages rights to the majority of the seabed out to the 12 nautical mile territorial limit as well as around half of the foreshore around the UK coastline. The Energy Act 2004 also vested rights to the Crown for the generation of renewable energy on the continental shelf within the Renewable Energy Zone out to 200 miles; rights which are also managed by The Crown Estate. In its role as landlord, TCE has granted leases to offshore wind developers in a series of rounds. As of April 2012, developers had registered their interest in deploying over 46 GW of capacity, of which around 10 GW had been progressed to consent determination, construction or operation. As a stakeholder in the sector, TCE aims to help Government create favourable conditions for companies to invest in UK offshore wind farms, thus contributing to achieving renewable targets, enhancing security of supply, and facilitating the creation of green jobs. Building on existing industry research, in particular the recent Offshore Wind Cost Reduction Pathways Project, TCE commissioned Redpoint in association with GL Garrad Hassan to undertake a study of the UK offshore wind industry to inform its future strategy with respect to this sector. The objectives of this study are to review the existing offshore wind programme, to assess the future role of UK offshore wind and to identify the key challenges that may constrain deployment in the short, medium and long term. State of the industry and barriers to deployment Redpoint and GL Garrad Hassan undertook an extensive literature review and consulted twenty-nine stakeholders across the offshore wind value chain including existing and new entrant developers, government stakeholders, supply chain players, finance providers and advisors. The interviews focused on the consultees views on the current and future state of the industry and the key barriers to future offshore wind deployment. The principal findings of the consultation are that the policy and regulatory framework and the availability of Figure 1.1 - Extended barrier framework construction phase finance rank highest amongst stakeholders concerns. The stability of the investment environment was a consistent topic for discussion, with consultees expressing concerns about the Government s long-term commitment to offshore wind and the political uncertainty created by the impending reform of the electricity market. These factors were regarded as the most serious constraints on the rate of offshore wind deployment in the future. The research also revealed continuing concerns about a perceived paradox in which future political 1 as at end 2011 3
commitment is contingent on cost reduction which cannot be delivered without significant political support to enable the long term investments in the sector that can drive costs down. On the topic of finance availability, consultees were concerned about an anticipated funding shortfall - a consequence of constrained utility balance sheets. Many participants also expressed scepticism about the availability of new sources of capital to bridge this gap. Attracting new capital into the construction of projects is proving particularly difficult due to, among other factors, the asymmetry between construction risk and the number of players who can manage these risks effectively, the limited knowledge sharing and cooperation amongst the key players as well as the credit rating agencies treatments of joint venture structures. Supply chain and skills, grid connections, technology risk and consenting were also areas which were seen by industry and government to have the potential to hinder greater offshore wind deployment. Although consultees highlighted concerns in each of these categories, they generally felt that they could be mitigated if appropriate actions were taken to address the policy, regulatory and finance issues. All of the barriers to deployment can be characterised as issues of confidence, coordination or capacity. These three themes were recurrent throughout the consultation and served as a basis for the barrier framework and future recommendations. Deployment scenarios In order to explore further the potential evolution of the UK offshore wind market under different conditions, six scenarios were developed. The two most important drivers of the generation mix and the deployment profile of offshore wind were identified as: Gas prices (and their impact on electricity prices) and cost reduction in low carbon technologies. Alternative outlooks for these factors provide the framework for the scenarios. The findings of the barriers analysis were mapped onto the six scenarios, combining the results of the consultation Figure 1.2 - Total UK offshore wind installed capacity by year (GW) and the modelling phase. In summary, offshore wind deployment in the six scenarios ranges from 11 GW 20 GW operational in 2020, and 12 GW- 45 GW in 2030, depending on the respective underlying scenario and the impact of key barriers on deployment. In the highest offshore wind deployment scenario, total offshore wind installed capacity reaches 20 GW by 2020 and 45 GW by 2030. A pre-requisite for this scenario is that the UK Government is strongly committed to meeting both the 2020 renewable targets and the legislated carbon budgets and implements the Electricity Market Reform (EMR) in a timely fashion. In a world of high gas prices, high carbon prices and a focus on local content, the supply chain gains sufficient confidence to ramp up investment in offshore wind infrastructure and technology. This leads to offshore wind technologies breaking new grounds in deep water techniques and rapid offshore wind cost reductions. New sources of finance are successfully attracted, albeit at a higher cost of capital in the short term, as the industry becomes more comfortable with the construction and operational risks associated with offshore wind. In the lowest offshore wind deployment scenario the UK retreats from carbon reduction and renewable commitments and focuses on international competitiveness due to the high cost of low carbon options in a cheap gas world with a weak global carbon signal. The single, key barrier to offshore wind deployment in this scenario is the lack of Government commitment to offshore wind which means that the financial support for renewables wanes. Installed offshore wind capacity reaches around 12 GW by 2020, a level which is maintained throughout the 2020s as investment in offshore wind has dried up by then. 4
The spread of outcomes, particularly in 2030, highlights the potential of offshore wind but also shows that there are a number of endogenous and exogenous factors which may hold deployment back. Out of all the factors influencing the offshore wind trajectory in the modelling, the most prevailing are Government s commitment to renewables, the cost competitiveness of offshore wind, wholesale electricity prices; and based on a combination of these factors, the availability of support in the form of Contracts for Differences (CfDs). Overall, Government commitment to renewables in general is heavily influenced by its affordability versus that of conventional generation. The attractiveness of offshore wind in turn largely depends on the degree of cost reduction versus that of other forms of low carbon generation. A combination of these factors then drives Government commitment to offshore wind, the overall funding and consequently the availability of CfDs for each project. Finally, wholesale electricity prices are a key driver as to the level of support required for each project. Recommendations for progress Realisation of a mature and sustainable offshore wind sector that fulfils its potential and reaches an installed capacity comparable to the high deployment scenarios requires action in each of the three areas of confidence, capacity and coordination. Confidence Issues of confidence include the most wide reaching and fundamental concerns of the offshore wind industry today. The potential for uncertainty surrounding EMR to slow down deployment in the near term and the current political discourse about the role and affordability of renewable energy and the Government s long term commitment to a low-carbon transition give those working and investing in the industry causes for concern. In order to allay these and other concerns, it is crucial for the Government to give as much certainty as possible about the commitment to decarbonising the power sector and supporting offshore wind to maturity. Great care should be taken when attaching conditions to political support when fulfilment of the condition is ultimately dependent on the confidence in a sustainable, long term market: something which can only come from Government. As such, consistent messaging from Government on its commitment to EMR is as important as the timely development of the detailed EMR proposals and in particular the timely publication of CfD strike prices in 2013. The aforementioned paradox of political commitment and cost reductions is perhaps best addressed through the introduction of a target range for cost reductions rather than a single number by a specific date (i.e. 100/MWh by 2020) or a target as a function of other technology costs. In a similar vein, greater clarity about the CfD allocation process is urgently required to provide confidence to developers, although the risk remains that any individual project may not receive a CfD. Consequently, further cooperation between developers and the formation of new joint ventures is advisable in order to ensure that the best sites are developed most efficiently and can be financed. The consultation also highlighted that the provision of a secure, stable and long-term market is the single most important factor in establishing a supply chain with sufficient capacity to support a step up in deployment rate. A strong view expressed by consultees is that, aside from the EMR proposals, explicit post 2020 commitments to offshore wind by Government are now required to maintain investor confidence. Confidence in the industry in the long term is required to ensure that the right balance is struck between short- and long-term financial and human capital investment at the level that is required to achieve industry s and Government s ambition. Further test and demonstration sites are one way to instil confidence in the scale of the market opportunity and the technical difficulty of the programme. Other recommendations include the inception of a Standardisation Committee and encouragement of investment in comprehensive technical data gathering as well as investment in comprehensive Front End Engineering Design work. Consultees also emphasised that greater confidence in certain elements of the OFTO (Offshore Transmission Owner) regime and the allocation of risk therein was a pre-requisite for increased deployment and exploiting opportunities for offshore grid co-ordination. Developers stressed that they needed greater clarity around the recoverability of construction costs (under generator build) and confidence in an adequate level risk exposure of the OFTO (particularly with regard to delivery incentives 5
on the OFTO build). Finally, they stressed that the transmission charging methodology must fairly reflect, and appropriately incentivise, savings from offshore coordination. Capacity Capacity issues, particularly with regard to the capital requirements of the offshore wind programme, are well documented and remain a key concern for the industry. The potential for equity recycling (i.e. refinancing construction equity once the wind farm is operational and recycling this capital back into new build programmes) is currently limited due to the credit rating agencies treatment of JV structures and the lack of investor confidence in the operational risk associated with a technology which has only about ten years of operational track record. As a result, additional capital is required particularly in the projects construction phase. In this context, Government should focus on attracting new entrant investors, particularly non-financial investors with the institutional capacity and experience to manage construction risk in a marine environment. The UK has already had some success in attracting new entrant institutional investors in the form of European utilities and oil and gas companies and recent interest from Japanese trading houses is also encouraging. Other options include for Government to de-risk construction through providing a form of risk sharing mechanism or for the European Investment Bank/Green Investment Bank to provide guarantees during construction. However, doubts were expressed as to the likelihood and political appetite of a significant risk transfer to UK consumers and/or tax payers. As a result, additional equity and debt will only be attracted to the construction phase in the volumes required if the UK offshore wind market can establish a robust track record of delivering projects on time and to budget with more appropriate contracting structures that transfer some construction risk away from utility sponsors to the supply chain. In addition, a concerted, co-ordinated and wide-scale industry approach is required to develop industry standard contracting packages that reduce contractual interface risk and improve risk allocation. As for attracting additional capital during the projects operational phase, engaging with credit rating agencies to clarify their position on current and potential future financial structures, transferring operational risk away from the utility sponsor and the emergence of a capital market solution all represent possible mitigating actions to address this. Capacity issues are also an area of concern for the offshore wind supply chain whereby consultees highlighted specific supply chain bottlenecks (with regard to High-Voltage subsea cables, HVDC infrastructure, and to a lesser extent wind turbines and jacket foundations) and a general lack of competition. Experience from Germany and elsewhere shows that there are several ingredients required in order to stimulate investment and increase the capacity of the supply chain. Most notable amongst these has been effective joint industry and Government co-ordination, centred on regional hubs. Coordination at a regional level can be used to ensure that national, regional and local government policy and resources are aligned to industry needs. However, targeted action on the identified pinch-points is also warranted in this instance. Coordination Developer consultees generally considered transmission network construction, access and charging arrangements to represent a material challenge for the development of offshore wind farms in the UK. Consultees raised doubts as to whether the framework that is currently being put in place will enable the considerable cost savings that are potentially achievable through a coordinated grid solution. As for onshore-offshore coordination, consultees felt that the allocation of benefits and risks of anticipatory investment will need to be addressed within the current review of charging arrangements. Furthermore, they felt that a decision is needed as to who will carry out the pre-construction works associated with developing coordinated assets. With regard to offshore-offshore coordination, the consultation concluded that mitigating actions should focus on facilitating coordination offshore. In particular, providing the appropriate incentives on generators to coordinate where they are being asked to accept stranding risk, especially in circumstances where anticipatory investment is needed many years ahead of need, will be critical. Finally, there was a general consensus from developer consultees that a significant challenge for project development in the shorter term was the time lag between the approach being taken by National Grid with respect to the pursuit of coordinated connection offers ( integrateable offers ) and the regulatory response of DECC and Ofgem as to how to achieve a more coordinated offshore transmission network. 6
Addressing issues of confidence, capacity and coordination will be key to ensuring that offshore wind deployment reaches its full potential and is comparable to that in the higher deployment scenarios illustrated above. That way, the UK can consolidate its position as the global leader of this industry. However, all of the above issues are inherently linked and dependant on one another. Addressing issues of confidence will have a positive impact on capacity constraints, i.e. confidence in the political and regulatory regime affecting offshore wind will encourage supply chain investments and facilitate the availability of finance. By the same token, not addressing capacity constraints such as supply chain bottlenecks will have a detrimental impact on the confidence in the industry. In summary, what is critical to success of the industry is that actions are taken by both Government and industry in order to create a virtuous, not a vicious cycle. 7