This article is part of our EIR Insights series from our Energy, Infrastructure and Resources team. Stay tuned for regular updates and commentary on topical issues across the sector.
A recent determination of the Australian Energy Market Commission (AEMC) amending the National Electricity Rules may have negative consequences for solar and wind generators who have Power Purchase Agreements (PPAs) that don’t settle when prices are negative.
Semi-scheduled generators such as wind and solar farms, now face increased exposure to negative price risk as they will not be permitted to simply turn down generation when the spot price falls below zero.
The rule change effectively limits a semi-scheduled generator’s ability to not export electricity during times of negative spot prices, i.e. adjust their output without an updated dispatch instruction from the Australian Energy Market Operator (AEMO) or without a valid rebid.
Many wind and solar PPAs provide that the financial “swap” of a fixed electricity price for the floating spot price only occur (or settle) when the spot price is positive, i.e. above $0. This agreement was often required by offtakers as a way to manage their financial exposure under the PPA. The positions essentially sets a maximum downside per MWh the offtaker must pay the generator.
Many generators accepted the “negative price risk” on the basis that they would not be paid under the PPA for generation when the spot price was negative, however they assumed they could reduce generation at these times so they would not be exposed to the negative price.
The rule change now requires semi-scheduled generators to comply with the MW dispatch level specified by AEMO during all dispatch intervals and observe a cap in generation during semi-dispatch intervals. Under previous arrangements, there was no explicit restrictions on semi-scheduled generators deviating below the nominated dispatch levels in order to reduce their exposure to negative prices.
As a result of the change, a semi-scheduled generator will be deemed to have complied with a dispatch level if it only varies from the dispatch level as a result of energy source availability, and in the case of a semi-dispatch interval, if it does not exceed the dispatch level, regardless of the energy source availability.
The rule change is aimed at curbing the practices of some semi-scheduled generators deviating significantly from their dispatch targets instructed by AEMO by curtailing export in response to negative price fluctuations, i.e. managing the negative price risk.
AEMC considered that negative price curtailment by semi-scheduled generators without rebidding or waiting for an updated dispatch target materially impacts AEMO’s ability to maintain power system security. That may be true, however requiring semi-scheduled generators to essentially operate as scheduled generators imposes a large revenue risk on renewable generators – a risk that they (and their financiers) could not have reasonably anticipated.
The amendments action one of the Energy Security Board’s (ESB) recommendations for interim security measures which are designed to improve system security and market efficiency. The intention is that these will also assist in improving AEMO’s price and dispatch forecast accuracy. These are admirable goals however imposing additional revenue risk on renewable generators which could not have been anticipated at the time the project was committed, together with the constant uncertainty of MLF, curtailment etc create yet more regulatory uncertainty for investors.
What now?
Generators need to start preparing now for what they will do when negative prices next arise. For instance, generators should consider whether their existing dispatch procedures remain fit for purpose, particularly automatic dispatch systems that automatically reduce generation in response to a forecast negative price period.
We know generators are also carefully considering the change in law provisions of their PPAs. Provisions that were included to deal with COGATI, the NEG, or the myriad of other policy thought bubbles from regulators and government over the last 5 years are now being considered in the context of this latest rule change. The challenge in most change of law provisions will be that this rule change does not affect the project per se, rather it affects the business model of the project.
What’s next?
Revisions to PPAs currently being negotiated are being vigorously debated by offtakers and generators. It is unlikely that offtakers will accept negative price exposure and hence it will likely be up to the generators to manage the risk the best they can, and price the residual risk into the PPA price. However, with negative prices likely to become more common before they become less common, renewable generators who can best mitigate and manage this risk will have a significant competitive advantage.
Parties currently negotiating PPAs are carefully watching and waiting to see how this rule change will be administered by AEMO – creating yet more uncertainty and hence delay in closing agreements and progressing project investment, financing, construction and ultimately new renewable energy generation.
With almost monthly announcements of coal generator retirements being brought forward, and the frailty of ageing coal generators on show every time they fail in hot weather, perhaps regulators should focus on encouraging cheap reliable, predictable, renewable electricity generation firmed by energy storage technology – this is what is going to keep the lights on in 5 years, and after all that is the whole point right?
For further information on the effects and long-term implications of these changes please contact Matt Baumgurtel, our Energy, Infrastructure and Resources lead Partner.
The Hamilton Locke team advises across the energy project life cycle – from project development, grid connection, financing, and construction, including the buying and selling of development and operating projects. For more information, please contact Matt Baumgurtel.
