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Annual contracts for difference - What's the impact_

Annual contracts for difference – What’s the impact?

Annual contracts for difference – how will this impact the UK’s renewable energy generation? 

Amidst a worsening energy and cost-of-living crisis, and ongoing pressure from within the Conservative Party in the shape of the Net Zero Scrutiny Group, earlier this month the Department for Business, Energy and Industrial Strategy has made one of its biggest statements to reaffirm its commitment to the development of the renewable power industry in the UK. In line with commitments in the 2021 Net Zero Strategy, the Department has taken the decision to hold Contracts for Difference (CfD) auctions on an annual basis from March 2023, rather than every two years as previous.

The scheme is the Government’s flagship policy for the deployment of low-cost renewable energy, which incentivises investment into renewable energy generation by providing energy providers with stable and predictable returns on their supplies. This is achieved through long-term contracts of 15 years, where two parties — a renewable energy supplier and the Low Carbon Contracts Company (LCCC) — agree to pay the other party for the difference between the market price and the value which the parties agreed at the point the CfD was entered – the strike price. For example, when the price for electricity dips below the strike price agreed with the government as part of a developer’s CfD, the developer will receive a ‘top up’ to the level of the strike price, and vice versa.

This significantly reduces the investment risk for developers, and allows them to borrow money more cheaply, accelerating the development of low-carbon technologies and crucially continuing to drive down the costs of generation. This can act as the catalyst of continual development for the UK’s renewable energy market, creating optimal conditions for consistent private investment into the landscape.

These developers will be crucial pillars for the UK’s net-zero strategy, not least because of the UK’s lofty target to reach 40GW of wind power capacity by 2030. The scheme has clearly already had an effect. In 2010, total capacity was 5.4 GW. By 2020 that figure had more than quadrupled to 24 GW, after the scheme was introduced in 2013 on a bi-annual basis.

So why the need to scale the scheme up to annual rounds of bids? One of the biggest factors behind this is undoubtedly UK energy security. The Government has painfully learnt the complications and difficulties of being dependent on supplies of natural gas from the European continent for a significant portion of the UK’s energy supply, with considerable strain now being felt by the British consumer. Increasing the frequency of CfD auctions will increase the number of opportunities for developers to engage with the scheme, helping to provide a diversified power supply and support the UK’s long-term energy security. The decision will also dramatically lessen the burdens for renewable energy companies, who will be able to take advantage of the regularity of auctions rather than having to navigate the two-year periods of uncertainty between the CfD auction rounds.

Fundamentally, this move is a positive one for both supplier and consumer. The annual rounds of contracts greatly ease the strain on renewable suppliers, providing developers with the assurance that their risks will be minimised and incentivises continued investment into the UK. The subsequent scale-up of renewable energy into the grid will mean that there is much greater flexibility in the system for consumers to help shield them from future price shocks and advancing the UK’s Net Zero credentials further.

The fast-paced nature of this environment will create a strong platform for engagement with Government. GK Strategy has extensive experience of advising governmental engagement and helping businesses take advantage of existing opportunities within the energy policy landscape.

For more information, get in touch with milo@gkstrategy.com.