Higher costs drive up auction clearing price
It’s been a tumultuous couple of years since RESS 1. As the world recovers from the COVID-19 pandemic and the conflict in Ukraine continues, stresses and strains are being felt across many sectors of the economy, and infrastructure is no exception.
Pent up demand for construction projects put on hold during COVID is driving prices up, along with supply chain issues and staff shortages caused by the pandemic. Inflation is on the rise and the Russian invasion and subsequent sanctions have sent oil, gas and electricity prices shooting up. This perfect storm has resulted in a jump in labour, energy and material costs, which in turn has led investors to raise their RESS auction bid prices in order to cover their higher build costs.
Investors cautious in the face of extreme volatility
When investors decide on the price they will enter into the auction they are forecasting what their costs and revenues will be over the lifetime of their asset – typically around 25 years. If successful, the subsidy price they receive will be fixed whilst their costs and revenues could change significantly. As a result, investors are likely to be prudent and build in a premium to cover themselves against possible fluctuations over that time. The pandemic and Russian invasion have contributed to huge volatility in global markets and will likely cause cautious investors to revisit the risk premiums they use.
RESS contracts leave a number of risks in the hands of the investor and as such the investor will include risk premiums in their bid prices to protect themselves. Constraints, curtailment, inflation and planning and grid delivery risks are of particular concern to investors. Amending the terms and conditions to mitigate some of these risks would lead to reduced costs to consumers. Cornwall Insight and Wind Energy Ireland produced an in-depth report on this, which you can read here.
Solar shines in the auction…
RESS 2 proved to be an appealing proposition for solar developers, attracting over twice as much capacity to enter compared to the previous RESS 1 auction. The auction itself was a triumph for solar projects, taking 54% of the successful volume – a notable increase from 34% in RESS 1.
A possible driver for this will be the introduction of a beneficial Evaluation Correction Factor for solar. This is a parameter designed to weight different technologies based on the relative benefits they bring to the system and for RESS 2 was utilised to incentivise solar technology.
Across RESS 1 and 2 the total solar capacity procured reaches over 2.3GW. Compare that to the target set out for 2030 in the Climate Action Plan 2021, where the aim was 1.5 – 2.5 GW of solar, and the goal is now comfortably met. Will this limit be increased in subsequent Climate Action Plan updates, or will onshore wind be given preferential treatment in RESS 3 and beyond? We will need to wait and see.
…Whilst onshore wind chills
Interest from the onshore wind sector cooled with an 11% drop in capacity entering the RESS 2 auction. However, the majority of participants entering were rewarded, with 93% of onshore wind projects winning a contract. Perhaps investors are considering other routes to market, either by attempting to recoup their money back sooner through very high wholesale market prices in the near term or through an index-linked corporate power purchase agreement which offers an element of protection not available in RESS 2.
A precursor for upcoming auctions
Whilst RESS 2 covered solar and onshore wind projects only, some of the trends seen in the auction results are likely to be reflected elsewhere in the energy sector. ORESS 1, the first RESS auction specifically allocated to offshore wind farms, is due to take place later in 2022, along with the structurally similar CfD Auction Round 4 in Great Britain. Whilst these auctions may have slightly different terms and look at different technologies the drivers will likely be the same – increased costs will push up the auction clearing prices.
For support or modelling for the RESS and CfD auctions, please get in touch with Cathal Ryan at c.ryan@cornwall-insight.ie
