The implications of EMR on industry

After many years of planning and waiting, EMR has finally arrived. Anthony Ainsworth, business energy director at E.ON, asks what that means for Britain’s energy-intensive manufacturing sector, and examines the opportunities that if offers.

It may have passed with little public fanfare but August saw the introduction of Electricity Market Reform (EMR), a package of new Government legislation designed to secure more than £110 billion of investment in Britain’s energy infrastructure over the next decade.

The point of EMR is to provide the right framework for the investment needed to meet the triple challenges of providing a reliable, affordable and lower carbon energy network.

The focus of the legislation is on managing the shift away from the old model of large,

Anthony Ainsworth, business energy director at E.ON.
Anthony Ainsworth, business energy director at E.ON.

centralised power plant towards a system where renewable or low carbon energy plays the primary role and power increasingly generated closer to where it is consumed.

Delivering these changes will inevitably cost money in the short term – whether through providing new cleaner energy sources or through support costs to make sure we have enough back-up capacity – but Whitehall insists the result of EMR will be bills lower than they would otherwise have been while still achieving policy goals of a secure and lower carbon energy supply.

Obviously, this is of special concern to those industries which cannot pass on these extra costs to the purchaser. It’s important to remember that government is well aware of the unpopularity that any new charge on electricity will elicit, and that the EMR has been developed in response to a potential future energy issue such as we have never known.

We’ve all seen the headlines about threats to our energy security, the shrinking of our spare generation capacity, and the warnings that a cold winter will bring brownouts across the country. The “when will the lights go out” debate continues to rumble and cause concern especially when you see predictions that spare capacity could shrink to just 2% in the next two years as old coal and nuclear stations close. Behind this, the truth is that we have no choice but to take urgent steps to ensure that we can keep the lights on. This includes replacing ageing plant and finding alternatives to carbon-intensive generation, but it also requires a fundamental reorientation of our energy infrastructure to generate electricity closer to where it is consumed.

Low carbon will form the centrepiece of the UK’s energy strategy but traditional energy plants still have a large part to play to meet demand when the wind doesn’t blow or the sun doesn’t shine. You can see the problem here; how do you generate investment in assets that will run sporadically and unpredictably, which is why the Government had to create a market to support new or existing plant to provide that backup capacity.

To meet these demands, two key mechanisms were introduced as part of the EMR:

  • Feed-in Tariffs with Contracts for Difference (CfD) – unlike existing Feed-in tariffs these are designed to support large generation, and will pay generators a fixed price for low carbon generation, providing greater certainty to those investing in new technologies.

CfDs work in tandem with the wholesale energy market, providing an extra payment for generators when the market price falls below the pre-agreed ‘strike’ price, with generators paying back any surplus should the market price rise above it.

  • A Capacity Market (CM) – a capacity market has been set up to make sure that supply will be available when it’s needed the most. It provides incentives for developers and owners of generating capacity (e.g. power plants) to make their capacity available. Capacity providers are paid on a megawatt per year basis for the capacity that they can make available.

The difficulty in the short term comes in financing these reforms – who pays, how much and when?  Government has placed an obligation on all suppliers to pay costs associated with EMR based on how much their customers consume, so there is no alternative but to pas these through to customers.   A number of major energy consumers have already raised concerns that these reforms will almost certainly mean higher costs as well as creating difficulties in their ability to accurately forecast costs in the future.

In recent months I’ve had the opportunity to talk with some of E.ON’s corporate customers, some of the biggest companies and largest energy consumers in Britain. Each says the same thing: they need a secure and stable power supply to remain operational but they must also manage costs to be competitive in global markets. Our key advice to customers here is to work closely with your account managers to identify their areas where these new costs can be managed.

Customers are also asking what will happen to Renewables Obligations and Feed-In Tariffs over time given the introduction of EMR. Are they are going up or down and how does that affect what customers are going to be paying? The answer is that whilst the new CfD contract will replace the Renewable Obligation as a funding mechanism for generators from 2017, those generators that have already signed up to the RO will see their contracts honoured by Government, meaning that customers will pay both CfD and RO costs until 2037, and CfD only beyond that.  No generator will receive both payments, but customers will pay both costs.  Small scale Feed-In Tariffs that are currently in force will also continue to grow as more small scale generation is financed through the scheme.

We’ve already heard examples of companies taking drastic action during times of peak demand and high costs, stalling their production lines and clearing shop floors. If that were to remain the case in the long term you could see occasions where it becomes more cost-effective for a business to run a night shift rather than operate during more traditional working hours.

It’s clear that much will be made of the cost impact of EMR and the political debate around state aid for energy intensive companies but there is a potential positive side to the new legislation for those who choose to engage in the market.

And now for some good news…

The Government has outlined a compensation package for Energy Intensive Industries (EIIs) to relieve them from some of these policy charges, indicating that this will include some of the costs associated with CfDs and the Renewable Obligation (RO), in a bid to maintain UK competitiveness.

Recently approved by the EU, the compensation package however will not come into effect until after the start of the CfD scheme. Until that time, manufacturers face having to pay these charges alongside the existing Renewables Obligation, but it’s promising to see support is on the horizon.

The other side of the energy coin is demand reduction. The Capacity Mechanism is seen by the Government as a key opportunity to encourage and promote the uptake of demand response and permanent demand reduction programmes.

For larger companies, that provides a real opportunity not only to control costs but also to take part in the energy market itself – whether through demand side response or on-site generation that can be called upon to provide power to the grid at times of high demand.

Demand Reduction will provide incentives for businesses that can reduce their energy consumption, either via permanent energy efficiency or by participating in the Capacity Market if they are able to agree to reduce demand at specific times when asked to do so.

Generation measures which are able to compete with the price of conventional generation at the capacity auctions are likely to be accepted and receive capacity payments.

There are however exclusions which apply:

  • If the generating unit is in receipt of low carbon support payments from either the RHI or the FiT
  • In receipt of payment through contracts for difference

On this basis the policy is likely to favour emerging technologies which can offer firm capacity. This presents a good opportunity for large scale energy storage solutions as they currently do not receive any payments from other support schemes such as Feed-in Tariffs or the Renewables Obligation.