Possible Policy Change

The U.K.'s Department of Energy and Climate Change is considering adjustments to its biomass policies in response to numerous concerns from developers including inability to secure funding and inadequate subsidies for cofiring facilities.
By Lisa Gibson
U.K. electricity-generation giant Drax Power Ltd. plans to build three 290-megawatt dedicated biomass power plants in the U.K. that will run on a mix of forest and agricultural residues and energy crops, but has hit a hitch in its plans. The company anticipates a struggle to secure funding for the projects, because the U.K.'s Renewables Obligation does not allow grandfathering of support for biomass power, ultimately meaning developers don't have definitive revenue estimates for investors.

"The one thing investors need is some certainty on the return they're going to get on their investments," says Melanie Wedgbury, head of external affairs for Drax. The problem has prompted numerous developers, banks, equity providers and the Renewable Energy Association to request a re-evaluation of the RO grandfathering provisions by the Department of Energy and Climate Change. The inadequacies of the current arrangement have stalled more than £13 billion ($20 billion) worth of thermal renewable energy projects, according to the REA.

The Problem

The RO is banded by technology type. The bands dictate how many Renewables Obligation Certificates will be awarded to renewable energy generators per megawatt hour (MWh) and are reviewed every four years. The next scheduled review begins in October of this year, with any changes implemented in April 2013. Dedicated biomass currently receives either 1.5 or 2 ROCs per MWh, depending on technology type. "Our situation is we'll be going to investors this year to raise finance," Wedgbury says. "They will quite rightly say, ‘What are the revenue streams? How do I make a return on my investment?' We can say at the moment, under current regulations, each of the plants will earn 1½ certificates for every megawatt hour of electricity it produces. However, we don't know what will happen in the banding review, so we cannot say with any certainty how many certificates will be earned each megawatt hour from April 2013. For dedicated biomass, there's no guarantee of the level of support in place."

"Grandfathering is important for any big capital investment that's relying on an element of subsidy in its long-term income stream," says Gaynor Hartnell, REA CEO. "If the rules change, investors need to know they won't have the rug ripped from under them. It's about protecting investments, giving funders the necessary confidence to lend." Up until recently, U.K. biomass developers were under the impression that their project investments were protected against future rule changes, but civil servants had a different interpretation, he says. "Once we discovered that the understanding was different out there in the biomass community from what the civil servants believed to be the case, that's when we said, ‘Well, it's got to be sorted out.'"

Grandfathering is incorporated into support for generators in all other technologies, setting the level of ROCs at the point of accreditation for 20 years, according to the DECC. Such imbalances have convinced developers that the policy holds back biomass development and favors other renewable sources. "The right noises are being made and there appears to be a willingness to put this right," Wedgbury says. "We're optimistic that this issue will be resolved."

Time for Change

At the end of March, the DECC released its budget 2010 and included proposals dealing with grandfathering of dedicated biomass, anaerobic digestion (AD) and energy from waste (EfW) with combined-heat-and-power (CHP) facilities. The proposals were followed by a consultation document detailing them and offering more options for consideration. Besides preferred grandfathering options, the proposals include excluding bioliquids from grandfathered support; and consulting in the summer on the introduction of sustainability criteria for biomass, considering whether biomass generation must meet the criteria as a condition of qualifying for financial support, according to the DECC.

The subsequent consultation outlines four grandfathering options: grandfather support at the band received on accreditation; grandfather at current levels with the potential to upband, but never band down existing generators even if the DECC decreases RO support during regular reviews; grandfather the portion of ROC support of nonfuel costs, leaving support for variable fuel costs subject to change during regular banding reviews; or make no change to the current policy. The closing date for responses from the industry is May 28, according to the document, and summarized responses will be available on the DECC Web site: www.decc.gsi.gov.uk. The responses will be taken into account during the next banding review. The entire consultation can also be viewed on the Web site, under the "Consultations" tab.

It's clear a one-size-fits-all solution is not appropriate for biomass electricity, according to the consultation, so the DECC proposes a split solution: grandfather support at current levels for AD and EfW generators; and grandfather a minimum level of support on accreditation for dedicated biomass, set as the proportion of the costs attributable to nonfuel costs. The latter would not apply to bioliquids. "We believe this proposal gives the best balance between ensuring developers and investors have the certainty they need to invest, whilst retaining enough flexibility to cope with potential variations in future biomass and electricity prices, so maintaining value for money to the consumer," according to the document.

Grandfathering for biomass support was not incorporated when the RO was banded in 2008 because, unlike other renewable technologies, a large portion of the generators' costs are ongoing fuel costs, which can vary over time, according to the consultation. "Like other technologies, dedicated biomass developers should, however, be able to fix the nonfuel costs for the upfront build of the project," the DECC consultation reads. "We are therefore proposing a policy to grandfather the proportion associated with nonfuel cost for dedicated biomass, but not to grandfather the element of support which helps pay for the ongoing fuel costs."

"It'll sort out problems for some kinds of projects, but not for others," Hartnell says of the proposal. "It depends what kind of project you're developing." Public finance initiative projects and those using their own feedstocks can secure a robust long-term contract for fuel, so a fixed number of ROCs per MWh for 20 years is ideal, but it will be much more difficult for merchant plants that can't lock down that cost over time. "Separating the current level of support for biomass projects into a capital element and fuel element is a problem," she says. "Lenders, being conservative, are going to place limited value on the fuel element." It could lead to numerous projects being left without funding, as investors will only lend on the basis that the grandfathered part is secure, she adds.

In addition, Hartnell says, "Under the Renewables Obligation, bioliquids are simply a form of biomass. Singling them out in this way has no justification and will further complicate things."

At press time, Wedgbury said Drax was still looking over the proposals and had not released an opinion. Drax hopes to begin construction in early 2011 on one of its three dedicated biomass plants: one at the Port of Immingham; one planned for North Yorkshire, England, on the site of its existing coal-fired, 4,000 MW Drax Power Station; and another location not yet disclosed, according to Wedgbury. If changes are not made, the investment community will have the final say as to whether the plants can be constructed. "If we are stopped from developing in this country, then we will look overseas to make that development," she says. The company has already contracted 2 million tons of biomass for its projects, including a cofiring facility also hindered by current biomass policies.

Cofiring Constraints

Drax has invested in a cofiring plant for the Drax Power Station that will be fully commissioned by the middle of this year, Wedgbury says. But because of biomass costs and constraints on nonenergy crop feedstocks, the company has discovered it's cheaper to continue burning only coal.

Ag and forestry residue is typically three times more expensive than coal and cofired nonenergy crop biomass only receives one-half of a ROC per MWh. Even when considering that subsidy and carbon-emission permit costs for burning coal, coal still comes out ahead. "Given the choice, you're going to burn coal," Wedgbury says. "The level of subsidy isn't high enough."

In addition, electricity suppliers have the advantage of complete control over the market for ROCs. They are obligated to source a certain amount of electricity purchased from renewable sources and need to redeem the certificates earned by generators such as Drax to prove it. "We are absolutely dependent on being able to trade these certificates in a market to extract value," Wedgbury says. But the obligation is in name only and suppliers can opt to pay into a buyout fund instead of redeem ROCs. "The effect of that is they have a certain amount of control over the [ROC] price," she says, adding that suppliers can offer to buy ROCs, but at a discount. On top of that, a 10 percent cap is placed on the amount of ROCs suppliers can redeem for electricity produced from nonenergy crop biomass. "Because there's this cap, we don't know whether there'll be a market for our certificates," she says. The cap increased to 12.5 percent in April, but still is not sufficient.

The DECC is promoting cofiring of energy crops through the lack of a cap, along with a banding subsidy of 1 ROC instead of one-half. Drax does have contracts in place with farmers for crops, but the volume is limited. "There's a very positive message there to encourage us to cofire energy crops," Wedgbury says. "The problem is there isn't anywhere near the volume of energy crops in the U.K. that we require. The truth is there just isn't an established market in energy crops. We've worked incredibly hard over the past five years trying to develop one, but there is a limit. If we're serious about biomass, we need to look at other sources."

Drax has communicated its cofiring concerns to the DECC and hopes changes can be made there, too. The company has called on the government to remove the nonenergy crop cap, and to increase the subsidy for nonenergy crop cofired biomass. The DECC has offered to review the level of support in October's banding review, Wedgbury says. Although discussions are in early stages and no proposals have been released, development of the cofiring facility will not be stalled because Drax has already made investments in the project, Wedgbury says. "We will have the capability; there's no question. But government policy may keep us from operating to full capacity."

The grandfathering provisions affect all sorts of thermal renewable energy projects and failure to pass effective changes could put the U.K. behind in its renewable goals for 2020: 15 percent of all energy and 30 percent of electricity. If Drax is forced to develop its huge projects elsewhere because of inadequate or no policy change, overall biomass development in the U.K. would be hampered, but Drax is not the only company with plans at risk. "It affect all kinds of biomass projects," Hartnell says. "They're a big player, but there are plenty of other projects that depend on this issue being resolved."

Lisa Gibson is a Biomass Magazine associate editor. Reach her at lgibson@bbiinternational.com or (701) 738-4952.