This material was first published by Thomson Reuters (Professional) UK Limited, trading as Sweet & Maxwell, London, in International Energy Law Review as “State of the Nation: the UK Renewables Sector” [2016] I.E.L.R. 235-239 and is reproduced by agreement with the publishers.

In 2006, Nicholas Stern released his 700pp. Stern Review, analysing the impact of climate change on the world economy. His call to increase renewable energy production was clear-he stated that technology policy should drive large-scale development and use of low-carbon technology, and that global support for energy research and development should at least double.

The question is, did the UK Government listen and are they acting on Stern’s advice? Here, Gareth Baker and Gus Wood, partners at Gowling WLG, analyse the state of the UK renewables market-where we started, where we are now and where it appears to be heading.

UK Renewables: a brief history of the regulatory environment

1 October 1990: the date the first order under the then Non-Fossil Fuel Obligation (NFFO) was made. The NFFOs required Regional Electricity Companies-predecessors to the Distribution Network Operators (DNOs)-to purchase part of their electricity requirements from nuclear or renewable energy sources.

The NFFO provided for what was in effect a competitive auction in which participants bid the unit price at which they were willing to sell their power. Five NFFO orders and three equivalent Scottish orders were made. According to the NFPA, which now manages the NFFO contracts, the first order paid an average of 7.51 pence per KWh to generators; whereas, by the time the last order in 1999, the average price had dropped to 2.71 pence per KWh.

In 2002 the Renewables Obligation (RO) made its way into law. The RO is a certificate-based system, which creates a market for the certificates via an obligation on licensed electricity suppliers to either acquire certificates or pay a buy-out price. Since its inception, the RO has incentivised an increase in low carbon electricity generation from around 2 per cent to 42.9 per cent (in 2015, according to DECC’s statistical press release of 25 February 2016). The RO is now in the process of being closed to new projects, though it will continue to support existing accredited projects (known as “grandfathering”) until 2037 (albeit in an amended form from 2027).

The closure of the RO in 2017 was announced as long ago as 2011, in the coalition Government’s White Paper on future energy policy. In the four years that followed, a great deal of effort and time was spent creating the Contracts for Difference (CfD) regime, as the successor to the RO. The CfD regime is again aimed at low-carbon generation-in practice nuclear as well as renewables. Eight major projects were awarded early CfD investment contracts, but the principle in general is that renewables bid via an auction for a strike price. Where market prices for power are below the strike price, the generators receive a top up payment. Where the market price is above the strike price, the generators pay the excess (thereby minimising the level of support, and the cost to consumers).

Despite having established the CfD regime, as we will explore in the rest of this article, the current indications are that the level of support that will be offered via the CfD regime is far less than was offered via the RO. There’s no doubt that renewable electricity generation has made a significant impact on the industry and, some would argue, the landscape. Government support mechanisms for renewable generation technology clearly drove innovation and helped grow a UK market that is, in some areas-notably offshore wind-an established world-leader. And as supply chain costs reduce and technology becomes more established, it makes sense to reduce subsidies offered to new projects being deployed.

The question is whether the cuts have come too hard and too fast. Is the sector as a whole sensibly being asked to stand on its own feet, or is it being brought to its knees by the accelerated withdrawal of funding?

The renewables roadmap

Under the EU Renewable Energy Directive of 2009, the UK accepted a 2020 target of 15 per cent renewable energy (across electricity, heat and transport). The renewable electricity sector is expected to deliver the majority of this renewable content. However, the amount of renewable electricity needed to deliver the 15 per cent renewable energy target is notoriously difficult to determine, due to the uncertainty of overall energy consumption by 2020 and the extent to which the heat and transport sectors are likely to be de-carbonised.

This uncertainty was at the heart of the controversy last November, when leaked documents reported in the press seemed to suggest an acknowledgement within DECC that we were likely to fall short of the 2020 target. This suggestion was refuted by the UK Government, which maintained we are on course to meet our international targets.

The latest Renewable Energy Roadmap published by the UK Government estimated that we would need to generate 216–225TWh of renewable energy in 2020 to achieve the 15 per cent target. Commentators suggest that roughly half of this will need to come from renewable electricity generation-about 110TWh of renewable electricity.

The renewables sector in 2016

According to DECC’s own Renewable Energy Planning Database (REPD), by 2014 the UK already had 35GW  of capacity, either built or consented, which is capable of producing 111TWh. However, this figure includes some consented projects that will never be built, and others that will only be built with levels of subsidy that currently appear unlikely.

Looking at projects that have actually been built and commissioned, DECC’s 2015 provisional statistics for UK energy production and consumption indicate that renewable electricity generation in 2015 grew by 28.9 per cent from 2014 to a total of 83.3TWh. From an environmental point of view, these statistics can only be positive, reducing our reliance on fossil fuels, and reducing carbon emissions.

However, some would argue that the relatively rapid increase in renewable electricity has come at too high a price in terms of visual impact and cost to consumers. This tension between incentivising renewable electricity generation, but ensuring that UK consumers do not pay more than is necessary, is often characterised as a debate between DECC and the Treasury. In policy terms, the tension manifests itself in the Levy Control Framework (LCF). The LCF is the budget that the Government has allocated as a reasonable amount to spend on renewable electricity subsidies.

Leveraging the levy

The LCF aims to protect consumers by capping total payments, above the electricity price, paid to low-carbon generators each year until 2020. The more energy a qualifying project generates, the more money it receives from the LCF. The cap has been set at £7.6 billion, with room to increase that by up to 20 per cent if necessary.

The Government’s announced cuts to subsidies are its attempt to limit projected overspend against the £7.6 billion cap. This overspend is a result of the rate of deployment of renewables exceeding the rate anticipated by DECC and the Treasury. A positive development in the context of climate change, but one that has resulted in reductions to the subsidies available to future renewable energy projects.

With only four years left of the current LCF, it is imperative Government sets a new budget beyond 2020 as soon as possible. This will clarify the position for renewables and boost confidence for investors and developers in the industry. The LCF indicates the size and health of the market for developers and investors and helps them to decide whether the risks involved in planning further developments are outweighed by the potential gains.

In July 2015, the projected total overspend on the LCF was £1.6 billion. Factors contributing to this include higher than expected capacity being built under FiTs and ROCs, lower wholesale electricity prices-due mainly to lower gas prices and the freezing of the carbon price floor-and offshore wind producing more energy than predicted.

The cuts the Government has imposed include removing support mechanisms from solar PV installations larger than 5MW commissioned after April 2015 and then doing the same for installations below 5MW in April of this year. In each case, installations could/can commission up to 12 months later if they fulfil the eligibility criteria specified in “grace periods”-essentially in recognition of “development value” already created on sites through positive steps taken in relation to planning, grid and land rights.

Guaranteeing the level of subsidies for new biomass projects during their operative life (grandfathering) has also been removed. Biomass has 7GW of total consented capacity, either built, in construction or awaiting construction, and is aiming to become a self-sustaining form of energy generation using closed-loop fuelling-planting enough trees to capture the carbon emitted from burning fuel. This zero carbon technology could add 38.1TWh to the national grid.

For onshore wind, the situation is more complex. The Government has closed the renewables obligation to new projects with effect from May 2016-11 months earlier than planned. However, a complex matrix of grace periods (for reasons touched on above) will permit some onshore wind projects to qualify for ROCs if they are commissioned by as late as 31 January 2019.

By contrast, the UK offshore market still appears to have Government backing. There is an estimated 19.6GW of power from total consented capacity (operational, under construction and awaiting construction). A further 3.1GW is awaiting planning consent.

Offshore has proven to be a less contentious way to harness wind energy. Costs of offshore wind have declined by 20 per cent in the last two years and Amber Rudd, the then Secretary of State for Energy and Climate Change, said in her “reset” speech last year that as long as costs continue to come down, Government will support offshore wind through subsidies, and hold three CfD auctions during the rest of this Parliament, with the first taking place by the end of 2016.

The supply chain continues to take strides to reduce costs and the renewables development market is gradually becoming self-sustaining. Some commentators believe that in some technologies (principally solar PV), grid-parity has already been reached. However, there is a risk that the reduction to-or halting of-support mechanisms, particularly for smaller installations, may bring the development phase of some renewable technologies to a premature end.

Where do we go from here?

The Committee on Climate Change’s (CCC) 2015 progress report to Parliament confirmed that the original funding in the LCF is sufficient to reach the carbon budgets to 2020, even with a lower wholesale price in place.

While the cuts to support mechanisms may reassure consumers they are getting the best deal, it can create uncertainty for investors. CCC identifies three major risks to industry development:

  • the creation of a stop-start investment profile, hindering cost reduction and industry development;
  • changes being viewed as retrospective or retroactive, thereby undermining investor confidence in future investment opportunities and leading to increased costs for low-carbon generation; and
  • low-cost opportunities being missed or abandoned if the levels of support drop too far for sustainability.

Setting a specific and appropriate LCF beyond 2020 will go a long way to dispelling these uncertainties and boosting confidence in the market. An unambiguous comment from the UK Government on how it would respond in the event of future changes would also be helpful to reassure investors and maintain the market’s dynamism.

The case for energy storage development

Electricity storage is a relatively new innovation which uses a variety of technologies to store electricity generated by renewables for later transmission to the grid. These systems could provide support to the increasing amount of intermittent generation produced from renewable energy sources by effectively converting variable generation into base load.

Globally, by 2040 it is estimated that electricity generation from solar PV and wind power alone will represent 70 per cent of new installed capacity, meaning an effective way to store electricity until it is needed should become an integral part of any renewable generation installation. By releasing intermittent power into the grid steadily, rather than just when the technology generates it, benefits the distribution network operators (DNOs) by limiting delays to the costly reinforcement of sections of the grid, reducing strain on the network, and lowering the balancing system charges for generators and suppliers. Of course, the storage opportunity is also a threat to the business model of the Systems Operator.

Storage is also compatible with distributed generation. The more “off grid” generation which takes place will eat into the income streams of the DNOs. Storage solutions can also hedge against increases in the retail price of electricity, helping to drive down prices and ensure fair competition among providers. Storage operators will have the option to generate or buy electricity at cheap off-peak rates and store it, subsequently exporting the electricity to the grid at peak times. This arbitrage also helps create revenue for storage operators to offset against their significant initial capital costs.

While electricity storage is not eligible for direct subsidies from the UK Government, making it an expensive sector in the short-term, technological advances are continuing to bring down the costs of production. Although these cost reductions will not be as significant as those seen in the solar sector over the last decade, many commentators do expect the cost of production to decrease by 20 per cent over the next five years, a significant reduction that will make this sector far more attractive to investors. It should also be noted that these cost reductions are taking place across the entire electricity storage supply chain.

Smart Power, the National Infrastructure Commission’s report dated 4 March 2016, states that if just 5 per cent of current peak demand was met by storage units discharging electricity bought off-peak and sold at a cheaper rate, the system would save approximately £200 million a year in running costs. Forwarded down the supply chain, these savings could increase so that consumers might benefit by up to as much as £790 million annually.

At the same time, renewable energy generators would not need to contemplate switching off generation when demand was met. Rather than flooding the market with excess energy, cost-effective and efficient electricity storage solutions would help protect the market and the economy against grid outages or generator failures.

The market would improve, technological advances would help the growth of the economy, and the UK would be less reliant on overseas energy markets. All of which should be extremely desirable for intermittent generators looking to the next technological advance to secure their portion of the market and maximise their return on investment.

There is already evidence that investors are taking a chance on storage solutions. On 18 March 2016, ORE Catapult (Offshore Renewable Energy Catapult) signed a memorandum of understanding with Statoil, the Scottish Government, and Scottish Enterprise for a battery storage solution for offshore wind energy. Batwind, as it will be known, will be piloted alongside the Hywind Scotland Park off the coast of Peterhead, Aberdeenshire. Hywind itself is a prototype, being the first planned floating offshore wind farm and consisting of five floating wind turbines located 25km offshore. Both the farm and the battery are expected to be complete and operational in 2018. Their success may be instrumental in the development of both new technologies in a further drive to innovate and diversify the market.

Other technologies-not all plain sailing

In the biomass arena, many recent biomass projects have not sought to rely on the renewable heat incentive (RHI) to fund their investments, but instead are looking to benefit from the Renewables Obligations (RO). Biomass projects within the 400MW dedicated biomass cap under the RO are required to be complete by 30 September 2018, which is now thought to effectively close the RO for biomass in the UK.

In anaerobic digestion (AD), a set of proposals put forward by the UK Government in May 2016 showed further cuts to support mechanisms, including scrapping the Feed-in Tariff for plants larger than 500KW, plus further reductions to small and medium-sized plants. If the cuts go ahead, it will see subsidies drop to a third of the 2014 level by 2017. Industry experts claim the cuts will make it impossible for smaller plants, especially those in rural communities with a large supply of appropriate fuel, to be built.

Arguably, small AD plants in rural communities with a surplus of AD-appropriate fuel would be faced with continuing to obtain their electricity through current means, or the prospect of a different type of renewable generation-likely solar-being deployed. While the overall output-renewable electricity-would be generated, it’s arguable that this would not be the most appropriate use of the natural resources to hand in those communities.

Hybridisation

The unpredictable nature of Government support is forcing innovation in some areas, though. Ecotricity has won permission to add solar arrays to two wind farms in Devon and Leicestershire, utilising the space between turbines to great effect. These hybrid energy parks will add 5MW each of capacity to the parks, while sharing grid connection and saving 2,000 tonnes of carbon emissions each year.

The company also pledges to increase local biodiversity at its farms, planting local hedgerows and diverse grassland species. Ecotricity points out that wind and solar can often generate power at different times of the day, helping to provide a more consistent flow of energy into the grid. Perhaps an electricity storage unit onsite would help cement the effectiveness and appeal of hybrid parks?

And while some areas of renewable generation-notably offshore wind-will never be “cheap” due to their location and the complexities of building in such a challenging environment, other benefits will accrue. The UK is a world leader in offshore wind technology and knowhow, and that experience is exportable. Some examples-we have the heavy plant needed to build turbines that can produce up to 8MW of power each; our North Sea oil experience demonstrates that we know how to work in challenging environments and we have the expertise to develop floating wind farms and battery storage facilities. Irrespective of how we ultimately define our own energy mix, the UK can export the know-how and engineering capability to other territories and become world leaders in an emerging and increasingly crucial new technology.

What is the future for the UK energy mix?

So, can the UK wean itself away from fossil fuels entirely? And, crucially, should it? In April 2016, solar energy generation in the UK was higher than generation from coal for the first time, and while this day was always going to come due to the 2001 Large Combustion Plant Directive, it is an important milestone nonetheless, and particularly for a single type of renewable to generate enough on its own.

Solar now regularly outstrips coal during daytime generation periods. And in May 2016, RenewableUK announced wind generated more electricity than coal for the whole of April-2.3TWhs compared with coal’s 1.76TWhs. The infrastructure is beginning to be put in place, and the technological innovations are starting to come together. The renewables market promises huge changes for the landscape, industry, the economy and the climate, yet stumbling blocks remain on all sides.

Arguments persist that the UK renewables landscape is not yet sufficiently developed for us consider wholesale shutdown of nuclear or gas/coal-fuelled power stations, and without doubt certainty of base load generation is crucial in any developed economy in the world. The Capacity Market (CM) was introduced by UK Government to support deployment of base load solutions, fundamentally to address security of supply concerns.

With 20 per cent of existing UK generating capacity expected to close over the next 10 years, and with wind and nuclear the predominant forms of generation to replace it, the CM is designed to ensure there are no blackouts or loss of power during times of, for example, low wind and high demand.

While UK Government has cut subsidies available to new deployment for all its main renewable energy technologies in the last 12 months, it has promised the nuclear sector a subsidy at twice the market rate for the next 35 years. It also continues to support the oil and gas industries. The policy messages are mixed. However, the direction of travel seems clear. The renewables sector is already a significant contributor to the generation mix. Coal-fired power stations are closing. Much of the existing UK nuclear fleet is approaching the end of its useful life. New nuclear is complex (Flamanville in France and Olkiluto in Finland have experienced significant delays and cost-over-runs). Storage solutions are emerging.

But, supply aside, significant strides are being made in demand response and these innovations will continue. We can also look overseas for positive examples. Between early morning on Saturday 7 May and late afternoon on 11 May 2016, the country of Portugal ran its entire grid solely from renewable energy. Four days without any fossil-fuelled generation at all. Portugal’s target is to produce 31 per cent of its electricity from intermittent generation by 2020-more than double that of the UK. Germany’s target is even more ambitious-it is aiming to generate 100 per cent of electricity needs from renewable sources by 2050.

Those countries have proved it is possible, if not attainable right now, for them and for us. Despite its stated climate change commitments, whether the UK Government is willing to foster an environment which allows the industry to flourish here remains to be seen.

Brexit and beyond

On 23 June 2016 the UK voted to leave the EU. What does this mean for the future? It is too early to say. Most of the UK energy policy and regulation is determined at a domestic level and there is cross-party consensus on the key objectives behind the Climate Change Act.

In the short term, the emerging themes are linked to currencies and confidence. The sharp fall in the pound is particularly significant to renewable energy development. Much of the supply chain transacts in US dollars (for example, Chinese solar panels) and euros. This means that the cost of development has increased and operating projects face upward pressure on O&M costs.

After a downward trend, assets owners will have been relieved to see a small rise in wholesale electricity prices. However, in a worldwide market, will investors have the confidence to continue investing in the UK? It is too early to say, but after a pause for thought during the summer period, we can see the secondary market becoming more active as we head towards autumn.

On 15 July 2016, Theresa May decided to abolish the Department for Energy and Climate Change. It’s functions are to be transferred to a new department expected to be called the Department for Business, Energy & Industrial Strategy. The new Secretary of State is Greg Clark. The omission of “Climate Change” from the title is interesting. We do not yet know whether this signals any significant change in policy direction.