Free ESG report : Seamless data management with Avere FXT

It is "unlikely" that a new licensing system intended to connect offshore wind farms to the national grid will save consumers money, an influential committee of MPs has warned.

In a report, the Public Accounts Committee (PAC) said that the offshore transmission operator (OFTO) licensing regime could instead "lead to higher prices", as the system appeared to be designed to attract investors at the expense of protecting consumers. It pointed out that the six licences awarded by Department of Energy and Climate Change (DECC) to date under what it had claimed was a "competitive" new regime had gone to just two companies.

"Licensees and their investors are provided with the guaranteed income, increasing annually in line with RPI, for 20 years regardless of the extent to which the assets are used," said committee chair Margaret Hodge. "Future payments to licensees are estimated at around £17 billion, and this will ultimately be funded by customers who could well end up paying higher electricity prices."

She added that DECC had "ignored vital lessons from previous government experience of PFI" by allowing investors to keep any profits generated from projects, for example as a result of a refinancing exercise.

"It is shocking that the Treasury allowed it to proceed," she concluded. "The Treasury's defence, that it did not want to introduce any limitations on investors, does not cut it. It used a similar argument in relation to early PFI deals, only to reverse its position later."

Offshore wind farms could contribute as much as 15% of the UK's total electricity production by 2020, according to DECC estimates. However, they require heavy-duty transmission infrastructure to carry the power to land, including around £8bn investment in assets including offshore platforms, cables and onshore substations.

The current regulatory regime for the construction and operation of offshore transmission assets began in 2009. It sees OFTOs selected and licensed through a competitive tender process, run by energy market regulator Ofgem. OFTOs receive their income from the National Grid, which recovers its costs from electricity suppliers and generators.

Investors face little risk yet bag 'extremely generous' returns

Investors' income from the National Grid is guaranteed for 20 years regardless of the extent to which assets are used. However, if they fail to provide transmission facilities when required, penalties are limited to 10% of that year's expected income. In addition, investors bear "limited" risk of project failure and receive "extremely generous" estimated returns of 10-11% on new infrastructure, according to the PAC.

The PAC recommended that future licence terms should be amended to require investors to report their actual returns on projects, including those from sale proceeds. The regulator should also consider whether a flat or partially-indexed revenue guarantee would provide better value for money for consumers, and investigate the possibility of shorter licence periods, according to the report.

In a statement, DECC said that by requiring potential licence holders to bid against each other on price, the current regime "harnesses competitive forces to drive value for money for consumers". However, it added that it was now the "right time" to re-examine the terms of licenses granted to OFTOs.

"We welcome Ofgem's current consultation on [OFTO licensing]," it said. "In addition to savings through competition, last year's offshore transmission coordination project identified a set of measures that could deliver up to £3.5bn in further savings."

Over 2011-12, DECC and Ofgem carried out a joint project to assess the potential benefits of a more coordinated approach to offshore transmission licensing and to consider whether regulatory changes were necessary in areas where there could be benefits. Their Offshore Transmission Coordination Project (OTCP) found that increasing coordination of investment could potentially reduce costs by between 8 and 15%; however, that the potential for savings was uncertain.

A preliminary consultation by Ofgem in March focussed on two of the biggest potential barriers identified by the OTCP, namely system planning and encouraging anticipatory investment to support the development of a coordinated network. Ofgem published an update in July seeking further feedback, and is currently consulting on a proposed framework for coordination.

Copyright © 2012, Out-Law.com

Out-Law.com is part of international law firm Pinsent Masons.

Supercharge your infrastructure