A ‘PERFECT STORM’ WILL HIT UK
POWER GENERATION UNLESS
GOVERNMENT ACTS NOW
April 2016
A combination of circumstances, due partly
to economic conditions but predominantly
government policy, is holding up necessary
investment in capital power plants in the UK.
The recently confirmed closure of all of our large
coal fired plants by 2025, along with the planned
closure of older and less efficient gas fired plants,
means we should be investing in large scale
replacement capital power. Yet the ongoing delay
in constructing the new nuclear power plants
that will replace the Advanced Gas Reactor (AGR)
nuclear power plant fleet, which is nearing its
end life, means we will become more and more
reliant on building additional modern and efficient
Combined Cycle Gas Turbine (CCGT) power plants
to provide us with our electricity needs.
Lack of certainty in the regulated power market has
meant that private developers, including the big six
utilities, are currently struggling to build new large
scale gas fired power plants. Meanwhile existing
coal plants and some gas plants must close in order
that the Government meets its commitments to
environmental targets.
Urgent Government intervention is required to
ensure that the current uncertainty in the market
is replaced by developer confidence, and that a
realistic timeline is established that will deliver
the necessary construction of new build capital
generating capacity in time to prevent the lights
going out.
A recent paper by the Institution of Mechanical
Engineers (IMechE) points to a potential UK electricity
shortfall, as existing coal fired power plants are
phased out by 2025, existing nuclear plant is
decommissioned and new build nuclear continues
to be delayed. We potentially need up to 30 new
CCGT power plants to fill the gap, but the problems in
achieving this target are numerous.
ISSUES WITH THE CAPACITY MARKET
AUCTIONS
The governments’ ongoing strategy for Electricity
Market Reform has a number of mechanisms to drive
reform. One of these places National Grid in the role
as the Delivery Body administering the Capacity
Mechanism (auction) which was first introduced in
2014. The annual Capacity Market Auctions of 2014
and 2015 were each designed to ensure that adequate
generating capacity will be available four years from
the auction date, by awarding agreements to existing
and refurbished power plant operators and new build
power plant developers. The mechanism is designed
to help balance supply and demand, and maintain
adequate reserve capacity for periods of high demand,
for example during severe winters.
The viability of investment in new CCGT plants is
dependent upon obtaining agreement through the
Capacity Market Auction at a clearing price which
provides an acceptable return on the investment for
developers and lenders.
However, the results of the 2014/15 and 2015/16
Capacity Market Auctions provided little
encouragement to developers of large CCGT power
plants. According to National Grid’s Transmission
Entry Capacity (TEC) Register, there are 13 large
Urgent
Government
intervention
is required to
ensure that
the current
uncertainty
in the market
is replaced
by developer
confidence
new-build CCGT projects that have been consented
and have a grid connection agreement, which is the
minimum entry requirement to the Capacity Market
Auction, with a combined capacity of around 12 GW.
Another two large CCGT projects are in the scoping
and consenting phase with a combined capacity of
3 GW.
The fact is, there are only two large scale new-build
CCGT’s that have got through the Capacity Market
Auction to date. In the 2014 Capacity Market Auction,
Wainstones Energy Ltd (1656 MW) was awarded a 15
year agreement at a clearing price of £19.4/kW/year,
and in the 2015 auction Carrington Power Ltd (810
MW) was awarded a 15 year agreement at a clearing
price of £18/kW/year.
In 2014, a total of 15.7 GW of capacity exited the
Capacity Market Auction above the clearing price; only
electricity the plant will be required to produce in its
working life (Load Factor). Typically developers require
a payback period of at least 15 years at a relatively
high Load Factor. When added to other uncertainties,
including the future cost of fuel, electricity price and
demand, and environmental legislation, there is great
uncertainty for developers and lenders wishing to
make a viable long term investment.
CAPACITY CONSTRAINTS DEMONSTRATE
NEED FOR CHANGE
Worryingly, the 2014 and 2015 capacity agreements
for coal fired generation showed a drop in capacity
from 9.2 GW for 2018/19 to 4.6 GW for 2019/20. This
is going to be further exacerbated by the impact of the
Industrial Emissions Directive (IED), which came into
force on 1 January 2016 and will force the closure of
virtually all existing coal and a number of gas plants
on or before 31 December 2023 under the ‘Limited
Life Derogation’ option. The total capacity of coal
fired generation with agreements for 2019/20 is just 7
GW approximately.
As a result, we need many more new build CCGT
developments to replace this capacity. Given a typical
four year period to design and construct a CCGT
power plant, these new build projects must start now
if they are to be completed in advance of the coal
station shutdowns.
ADDRESSING THE SHORTFALL
8.8 GW (35%) of which was new build CCGT capacity.
In 2015 the figure was slightly better at 11.4 GW, of
which 5.5 GW (47%) was related to new build CCGT.
Coal fired
generation set
to lose 50%
of capacity
between
2018/19 –
2019/20
The story isn’t much better if we look solely at new
build capacity, rather than CCGT. The 2014 Capacity
Market Auction resulted in 2.6 GW of new-build
capacity awarded; just 5% of the total awarded
capacity. 2015 was slightly worse, with 1.9 GW of newbuild capacity awarded, equating to around 4% of the
total. The two new-build CCGT plants with capacity
agreements make up more than half (approximately
55%) of the total awarded new-build capacity to date.
The remaining awarded capacity was made up mostly
of a large number of sub 20 MW diesel and gas plants.
UNCERTAINTY FOR DEVELOPERS AND
LENDERS
The Capacity Market Auction of 2014 and 2015 clearly
favoured existing generation, refurbishments and
relatively low CAPEX plants, such as small scale diesel
and gas plants. This provides limited headroom for
new-build large scale capital plant until existing coal
and nuclear plants are scheduled to shut down. The
clearing price is currently too low to make large newbuild CCGT plants viable.
Additionally the Capacity Mechanism currently
offers no guarantee to developers on the amount of
To ensure security of supply beyond the next few
winters, the Department for Energy and Climate
Change (DECC) stated in its Single Departmental
Plan for 2015 to 2020 that it intends to review the
operation of the Capacity Mechanism to ensure it
provides the right investment incentives for new gas
plants to be built in the UK.
The urgency for action was exacerbated in February
2016 when SSE announced that it is proposing to end
commercial operations at three of the four units at
its coal fired power plant at Fiddlers Ferry from April
2016. This is despite SSE having secured a capacity
agreement for 2018/19 under the 2014 Capacity
Market Auction. This leaves a potential generating
shortfall that the government will need to address.
An additional factor is the timing of the shutdown of
existing AGR nuclear plants, and their replacement by
new nuclear capacity. The timing of the new nuclear
capacity coming on line will be key to determining how
much new CCGT capacity will ultimately be required.
There is currently approximately 9 GW of existing
nuclear capacity in the system, with approximately
17 GW nuclear new-build planned.
It is uncertain when existing capacity will drop off and
when new replacement capacity will be connected,
but currently we don’t expect new nuclear capacity
to be connected until at least 2025. However, positive
news came in February when EDF announced it
planned to extend the life of some of its existing
nuclear plants beyond 2025. If this is achieved it
would mitigate the scale of the potential energy gap.
Which CCGT plants go ahead and when they start is
wholly dependent on the individual project economics
related to the clearing price at future Capacity Market
Auctions, along with the cost of risk associated with
the uncertainties. There is broad industry anticipation
that government will make the necessary changes
to the Capacity Mechanism to remove some of this
uncertainty and to encourage new-build CCGT.
THE FUTURE FOR UK POWER
A revitalised power plant construction sector in the
UK would generate significant employment but
may be constrained in the short to medium term.
As a result of the prolonged lack of investment,
multiple simultaneous CCGT projects underway in
the UK would be required to compete for the same
scarce design and construction resources. Similarly,
the numbers of original equipment manufacturing
organisations active in this market have reduced and
the manufacturing capacity of their plants has fallen.
The pace of new-build CCGT implementation is
currently being driven by supply and demand
economics through the Capacity Market Auction the lowest price wins – as opposed to designing a
balanced mix of technologies as was done in the past.
The Capacity Mechanism has been designed with
the intention of helping to ensure ‘the lights don’t go
out’, and new-build CCGT should play an important
part in that. However, the buffer provided by the
infrastructure that was previously built in the main by
the nationalised Central Electricity Generating Board
(CEGB) has all but come to an end. This and the other
factors have combined to create ‘a perfect storm’ of
uncertainty for developers of and investors in large
CCGT projects.
The Capacity Market Auction needs to change to
support CCGT, and it needs to change now.
CONTACT
Paul Webber
Partner
T +44(0)7887 626 575
E [email protected]