ENERGY BRIEFINGS SERIES 2011 ELECTRICITY

Meeting the UKs future electricity demand

Capital funding for power generation projects

The Energy Institute in partnership with Deloitte is pleased to introduce the sixth in a series of Energy Briefings designed to provide
insightful analysis into key issues within the UK energy industry. The Energy Briefings Series will offer expertise and market
intelligence, which we trust, will become a valuable source of information.
The UKs energy sector has suffered
from a severe lack of investment in
generation and distribution infrastructure
over the last two decades, and the need
to replace old generating capacity with
new, low-carbon sources of energy will
require some difficult and unpopular
decisions, not just about replacement,
but also about additional capacity to
decarbonise the economy.
The country must cut its greenhouse gas
emissions to meet EU and UK
government targets and to help tackle
climate change. By 2020, the 2009 EU
Renewable Energy Directive sets a
target for the UK to provide 15% of
energy consumption from renewable
sources, while the governments Committee
on Climate Change has recommended that
by 2030, economy-wide emissions should
be cut by around 60% and renewables
should make up 30-45% of the energy mix.
The committee says that the country
will be required to have a largely
decarbonised power sector by 2030 [1].
Options for sector decarbonisation
include nuclear, carbon capture and
storage (CCS) and renewable generation,
along with renewable heat, it adds.

Meeting our energy requirements while

simultaneously decarbonising the sector

will be both expensive and enormously

challenging. There is a huge shortage of
the engineering skills required to
implement plans to install huge
amounts of renewable and nuclear
capacity, which could lead to a big
increase in the labour costs of such
projects.
The industry is also going to have to
change how it thinks about generation,
transmission and distribution. The
current system is based around large
power plants sited close to feedstock
sources such as coalfields or to the cities
that are their main sources of demand.
Much of the generating capacity that
will be keeping the lights on in future
will be sited a long way from where it
will be needed, in remote parts of
Scotland or in the North Sea.
But, the key challenge is financial. It is
estimated that it will cost in the region
of 200 bn to meet the governments
low-carbon aspirations. Clearly, such
funding cannot come from government
alone, so the Treasury is looking to the
private sector to deliver.
Yet much of that money will have to be
committed to technologies and assets
that investors are unfamiliar with,
including offshore wind turbines, CCS

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facilities, long-distance transmission

lines and distributed generation capacity,
and invested over many decades with
no long term certainty over power/ carbon prices.
In such circumstances, one would expect
there to be a plan for how this funding
will be secured, but it is not clear that it
has been properly thought through.

Renewables
The UK has bet on offshore wind to
meet its renewables targets. A recent
Department of Energy & Climate
Change (DECC) study suggests there is
very significant deployment potential
(41GW by 2030 under a medium
deployment forecast)[2]. Here the key
concern is development risk capital
and operating cost data is limited and
reflects uncertainties in the sector. Noone other than utilities is prepared to
take on the risk banks, infrastructure
and pension funds, and private equity
investors all prefer to wait until an asset
is operational and a power purchase
agreement is in place.
At that point, the utilities have an asset
that is quite attractive to pension funds
and other institutions and as more
offshore wind projects come on line,
we are likely to see more deals such as

Centricas recent sale of 50% of its

Boreas wind portfolio to US-based
infrastructure and energy group TCW
for 84m in cash, which will be recycled
back into its development off the coast
of Lincolnshire.
DECCs study of generation costs and
deployment potential, also suggests
there could be significant increases
in development of both onshore wind
and solar PV technologies, with
approximately 17GW of each by 2030.
However, with slow deployment rates
for onshore wind due to planning
and grid constraints for wind, and
high capital costs for solar PV, both
technologies face challenges.
The utilities are committed to spending
significant sums on new generating
capacity, but there is still a huge gap
between the amount of money they
have raised and what is needed to meet
the targets. They will be unable to
fund all the projects that are needed
on balance sheet and then sell off
stakes to other investors on such an
accelerated timetable, so something
must be done to bring in further
capital.
The recent announcement of the go
ahead of the Green Investment Bank

(GIB) is a good start, with an initial

budget of 3bn and the potential to
borrow post 2015.
However by
comparison with the UKs investment
requirement to deliver new renewable
energy capacity and a low carbon
economy, the GIB will need to be
supplemented by other financing
sources. Green bonds and the Project
Bond initiative from the European
Investment Bank (EIB) are other
options, but it is unclear how popular
they would be, given individuals

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ENERGY BRIEFINGS SERIES 2011 ELECTRICITY

Meeting the UKs future electricity demand

and institutional investors current
reluctance to invest directly into the
construction phase of new projects and
circumspection from ratings agencies.
The UK government is also considering
the introduction of Green Deal to help
finance energy efficiency improvements
in both residential and commercial
property, which potentially could
unlock billions of funding to assist in
meeting 2020 targets.
Project developers could try to get
clients to sign up to Power Purchase
Agreements before the project is built,
as some of the customers of green
power provider Ecotricity do, while
some equipment manufacturers may
also be in a position to fund projects.
Over time, with the development of
supply chain, the costs and risks
associated with projects will come
down as a result of the learning effect
as they did in oil and gas and this
should help make the money flow
more freely. At the same time, the
infrastructure needed to service the
sector will also develop, building
confidence and further reducing costs.

Projects on land may find it easier to

attract finance, particularly if they are
able to provide baseload power or
capacity to react to the intermittent
nature of wind power. However, each
technology has its own problems for
biomass it is the need to create a secure
supply chain for reliable and sustainable

sources of feedstock, while CCS is

unproven technology and likely to be
even more expensive than renewables.
The funding requirement is not helped
by perceived inconsistency in government
policy, whether cutting feed-in tariffs
for solar projects or increasing taxes on
North Sea oil and gas production. Cuts
to venture capital trust incentives add
to the impression of a confused
incentive landscape.

Nuclear
There have been suggestions that the
UKs nuclear programme will be under
threat as a result of the accident at the
Fukushima power plant in Japan. This
seems wide of the mark. Although
the interim report from Dr Mike
Weightman, HM Chief Inspector
of Nuclear Installations, contains
recommendations for improved safety
measures, the basic policy will remain
the same because there is little
alternative if the UK wants to cut its
emissions. In his ministerial statement
on the interim Weightman report, Chris
Huhne, Energy and Climate Change
Secretary, also suggests that nuclear
should be part of the future energy mix
in the future as it is today[3].
New nuclear facilities will also be
funded, at least initially, on balance
sheet by the utilities, but there is less
concern that the consortia building
them will have trouble finding funding.

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Capital funding for power generation projects

Hinkley Point C is scheduled to come on
line in 2018, but uncertainty remains
about whether this deadline will be met.
However, any delays to the timetable
are more to do with government
decisions than fears over the capital
required. Once the policies are clear,
the funding is likely to follow.
The next question remains what
follows Hinkley Point C. Despite recent
events, results from the Weightman
report and the Climate Change
Committee
suggest
that
there
continues to be strong support for
nuclear. However, there is potential for
the repeat of the situation with
Sizewell B, which experienced delays
due to changing public sentiment
following Three Mile Island and
Chernobyl. Without industry support
and continued public cooperation, the
UK will find it challenging to deliver its
target for decarbonisation.
For both renewables and nuclear, the
governments plans for Electricity
Market Reform will be crucial.

References
1. http://www.parliament.uk
2. http://www.decc.gov.uk
3. http://www.pulications.parliament.uk

Contact us
To discuss any of the issues raised above, please feel free to contact.
Jeremy Harris
Partner - Capital Programmes
t: +44 (0)20 7007 9222
e: jeharris@deloitte.co.uk

Daniel Grosvenor
UK Head Nuclear
t: +44 (0)20 7007 1971
e: dgrosvenor@deloitte.co.uk

Roman Webber
UK Head - Renewable Energy
t: +44 (0)20 7007 1806
e: rwebber@deloitte.co.uk

Carl Hughes
UK Head Energy & Resources
t: +44 (0)20 7007 0858
e: cdhughes@deloitte.co.uk

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