Recommendations for the implementation of New Entrant Reserve Funding

Executive summary

This paper presents the input of ZEP to the European Commission during the comitology process that will determine the allocation of the New Entrant Reserve and the implementation of the demonstration projects whose funding it is intended to support.

Timing and Process

a. Timing for the CCS Programme is critically important; the bulk of the CCS portfolio should be funded in time credibly to target completion by 2015; a definitive outer time limit for CCS project completion targets should be established, and a clear timetable should be set for RES projects.
b. A two-stage process for the selection of projects to be funded from the NER Pool should be implemented, with some flexibility, to ensure that this timing is met.
c. Stage 1 allocation should start with a call for prequalification submissions within 2009, leading to selection of a short-list of potential candidates for award, intended to make up the bulk (perhaps 70%) of at least the CCS portfolio.
d. Consideration should be given to the possible selection of a small group of well-prepared projects that can be implemented very quickly ahead of Stage 1; but the price of such acceleration would be some loss of competition and transparency.
e. Those Stage 1 candidates that pass through a competitive preliminary negotiation should be mandated to undertake front-end engineering design (“FEED”) studies, either based on a definitive pre-FEED selection or of a limited further competition post-FEED.
f. It is likely that some public funding for FEED for unselected projects would be needed, though Project Developers would, in principle, be expected to share this cost.
g. Final funding bids and negotiations (in which Member States would participate) should result in a final investment decision (“FID”) for Stage 1 projects in the first half of 2012, the majority of these projects being completed by 2015.
h. A Stage 2 competition should be initiated similarly in 2011, provided that there is both the (by then more certain) NER Pool capacity and the need; these projects could constitute perhaps 30% of the total portfolios, but would not be likely to achieve completion by 2015.
i. Process design, solicitation, selection, negotiation, and award will be complex and will place a heavy burden on Commission staff; we recommend the early engagement of qualified advisers to assist in the process.

Maximising NER Value

a. The current low value of Allowances is a concern for the value of the NER Pool; while there is some optimism that later in Phase 3 Allowance values will rise, that is not reflected in the forward market today, and may still not be reflected by 2011.
b. Any underwriting of a future Allowance price at a higher value than forward market prices will represent a value contribution by the underwriter.
c. Certainty as to the value of the entire NER Pool, together with accompanying contributions from other parties, is likely to be needed by the end of 2012 to allow the whole CCS Programme to be implemented in an acceptable timeframe.
d. Member States, and conceivably others such as Project Developers and the EIB, may be stimulated by competition to make an effective value contribution to projects by underwriting future Allowance values at above market rates over the medium to long term.
e. Underwriting by Member States should be encouraged; we urge that the auction rules currently under development be formulated in a manner that permits the necessary freedom of action by Member States to do this.
f. Those NER Allowances that are not to be allocated in kind to Member States on behalf of projects will need to be auctioned in 2011 and 2012; Project Developers and Member States may be asked to bear some short-term price risk on Allowances, particularly leading up to FID on Stage 2 projects.
g. The proposed procedure facilitates underwriting contributions while allowing certainty of value to those not prepared to contribute in this way; it would include provisions to ensure that project performance risk remains substantially with Project Developers.

CCS and Eligible Renewables

a. The NER Pool should not be split ex-ante between CCS and RES; nor should the Commission rely on some kind of project-by-project competition for allocating funds.
b. The CCS Programme is mandated and crafted with a clear scope and objectives to demonstrate certain essential technologies at a particular stage in their development life cycle; a similar targeted programme should be prepared urgently for RES.
c. The RES target and Programme should be prepared on the basis that looks at essential demonstration needs not currently funded; preparation should not be allowed to hold up allocation of the NER.
d. With two portfolios that have parallel demonstration aims, it will be possible to select projects for inclusion in each based on their potential contribution to the objective.
e. There will be competition among projects for inclusion within each portfolio, on the basis among other matters of cost; but direct competition between a CCS and a RES project would not be meaningful.
f. We recommend that threshold criteria be developed for RES projects as they have been for CCS, as far as possible on a common basis.

Member States – Funding and Relationship

a. Member State funding will be vital to the success of the CCS and RES Programmes; the NER Pool is not large enough to fill the need for public sector support, and Member States will need to be invited to play a major role.
b. Member States should be encouraged to contribute in the form of cash or by other means, such as underwriting the future value of Allowances.
c. In assessing project funding bids, Member State contributions should be considered as separate from those of the EEPR and the NER; minimising these two together should be the basis for any financial competition among contending projects.
d. The primary formal relationship in the competition, negotiation, and allocation of NER funding should be between Commission and Project Developer, but in reality,y the importance of Member State funding means that negotiations will be triangular among the three parties.
e. To ensure a geographical spread across the EU, the Commission should formulate explicit funding limits or allocations, for example, to Member States with lower per capita GDPs.

Project Funding

a. Project Developers should be invited to offer project proposals that bid for a quantum of NER funding to supplement funds to be provided by themselves, EEPR, and Member States.
b. In practice, Member State contributions may well not be known at the time that initial project offers are made; negotiations are likely to be needed to bring the parties to a definitive final proposal.
c. Project Developers will be required to take the risk of delivering an operating project, and to fund the base cost of the plant; they will be expected, through competition, also to recognise the expected long-term value of the CCS element of their projects.
d. EEPR funding will be welcome where it is received by a project selected for NER funding, but for price competition, it should be considered bundled with NER funding.
e. Projects should receive NER funding at FID, rather than waiting until performance has been proven in a completed project; this “advance payment” will increase the value of the NER Pool available for allocation, but the Commission must be fully protected by a legally binding and credit-supported clawback provision if operating performance is not met.
f. Operating performance should be measured and rewarded over five to ten years against an appropriate performance metric (e.g., clean MWh, tonnes of CO2 stored or avoided), which will vary by category and technology of the project.

Project Selection

a. The task of managing the competition is to compile projects that meet threshold criteria into portfolios that, as a whole, meet the requirements for each of CCS and RES of timing, geography and technology.
b. We propose a set of threshold criteria for CCS projects, governing demonstration size, development status, and other matters; these may form a basis for common criteria for all projects.
c. There should be enough alternative proposals among eligible projects to stimulate price competition; the objective will be to compile the portfolios that provide the best overall value for money.
d. There will be extensive information requirements to help to obviate the risk of “gaming” by project promoters; analysis of these will impose a heavy load on those tasked with selecting projects for support.
e. Proposals within a given category will therefore compete on the lowest funding cost (NER plus EEPR) for a role in the portfolio, and in some cases head to head with other proposals that can provide similar demonstration value; projects that are too expensive may be excluded for lack of funds even where they could make a significant contribution to the Programme.
f. Negotiation can be expected among the Commission, Project Developers, and their Member State supporters to reconfigure project proposals or provide improved offers to produce the most cost-effective possible Programmes