Energy and Climate ChangeWritten evidence submitted by Jasbir Singh Basi

Executive Summary

Medium-scale energy projects offer tremendous potential for the UK energy sector, through the provision of demand-side and supply-side flexibility, increased renewable capacity and potential long-term energy savings. Recent estimates suggest that approximately £6 billion capital investment is required over the next decade in order to meet the potential 3.5 MW capacity from medium-scale energy projects.

Institutional investors that finance large-scale projects do not possess the sufficient risk appetite or expertise for medium-scale energy projects. In order to meet projected capital investment requirements, alternative financial models need to be considered such as public bank finance, co-operative funds and equity sharing via crowdfunding.

In the UK, there has been a tradition of large-scale clean energy projects backed by commercial utilities, which have created public acceptability problems. The experience from countries such as Denmark and Germany suggest the success of a community ownership model is a function of three key drivers: establishment of citizen rights to electricity production, community rights over local grid ownership and a stable policy support at the community level.

Public opinion polls suggest that there is a significant degree of public support for community ownership of clean energy projects. However, there are significant barriers to the growth of medium-scale energy projects in the UK. Community buy-in is essential and will require government communication directly to citizens. The current planning framework does not recognise the national importance of medium-scale energy projects or possess a coherent understanding of the planning issues raised by residents.

The lack of a community level feed-in tariff framework is a crucial financial barrier preventing the growth in community ownership of energy projects. In addition, an increase in medium-scale projects is likely to aggregate the intermittency challenges posed by high integration of renewable energy sources into the grid, requiring investment in smart grid technology, demand-side management, energy storage and interconnection.

In order to maximise the benefits and meet the capital investment requirements of medium-scale energy projects, this paper argues government can take several steps to pursue strategic leadership. This includes using the green investment bank to underwrite project grants or a specific proportion of the project risk of medium-scale energy projects, providing a community-level feed-in tariff and energy-saving tariffs to encourage generation and demand reduction. In conjunction with a coherent planning framework, the incorporation of legal rights in the localism bill for citizen ownership over electricity production and community ownership over grid connection are also critical. Furthermore, the government should ask DECC to commission a community energy framework in the community energy strategy published late in Autumn 2013 that encourages a variety of ownership models from co-operatives and partnership models to alternative equity proposals such as crowdfunding.

1.0 “What contribution could medium-sized energy projects (5–50MW) make to the UK’s climate change, energy security and energy affordability objectives?

1.1 Under the 2008 Climate Change Act, the UK is bound to emission reductions of 80% compared to 1990 levels by 2050. In addition, the CCC (2011)1 has stated that decarbonisation of the electricity sector is crucial in order to meet these targets. Medium-sized energy projects in the form of distributed generation will be critical for provision of renewable technologies such as wind and solar. Distributed generation accounts for approximately 55% (5 GW) of renewable energy. Renewable capacity is forecasted to increase to 45 GW in 2020, providing approximately 39% of potential capacity.2

1.2 Medium-scale energy projects offer potential for demand reduction measures, providing a cost-effective method to achieve to achieve emission reduction targets. DECC projects electricity demand will fall by 18% in meeting to meet costs of 2020 and 2030 decarbonisations projections for the power sector.3 Whilst, individual generators represent the biggest users of electricity, households and non-domestic buildings account the remaining two-thirds of electricity consumption.4 Medium-scale projects offer the possibility of demand reduction measures from these areas, offering a realistic prospect of achieving projections forecasted by DECC.

1.3 Medium-scale projects can introduce flexibility into the power sector, providing crucial benefits for security of supply objectives. Evidence has shown that a centralised system reliant on utilities and large-scale generators will continue to push extreme pressure on capacity; with recent forecasts predicting a drop in the electricity capacity margin from 14% to 4% by 2015–16.5 Distributed generation provides the opportunity for new capacity in the short-term, improving system-level energy efficiency, and avoiding need for costly energy upgrades6. Furthermore, medium-scale projects in a balancing mechanism designed with decentralised systems in mind, offer the potential for system balancing. In the US, the 2005 Energy Policy Act has allowed this potential for demand response programs to be realised.7

1.4 Despite the significant start-up costs that may be involved in medium-scale energy projects, giving households and businesses responsibility for grid management, energy efficiency and demand management, may provide the potential to provide consumers with savings on energy costs in an environment of rising consumer prices. Demand response trials in the USA have demonstrated the ability for consumers to save approximately 10–20% on energy costs.8

2.0 “What types of financing model are most suitable for small and medium-scale projects? Do these differ from the financing models used for larger-scale projects?”

2.1 Small and Medium-sized energy projects up the magnitude of 50 MW will have considerable difficulty attracting finance from conventional institutional investors of large-scale projects, owing to a lack of expertise, risk appetite and high levels uncertainty in these types of project. Recent research by Camco and Baker Tilly has indicated that approximately there is potential for 3.5 GW of community-owned renewable energy generation in the UK, a value equivalent to three or four power stations.9

2.2 This study provided an initial indication that around £6 billion of capital investment is required.10 Various financial vehicles exist that can be tapped into in order to finance small and medium-scale projects.

2.3 Government can be one key actor via a public bank, providing lending for project finance that would be difficult to attract from institutional investors at below market rate of interest for small and medium-sized projects.11 One useful example is the German Bank KfW bankengrappe: a German development bank that is partly government owned (80%) and state-owned (20%), that can borrow from international capital markets. The government guarantees the bank loans, via provision of grants and exemption from corporation tax. Major investment areas of the bank concern renewable energy and energy efficiency in housing and SMEs and in 2011, commitments in this sector totalled Eur 23 billion.12

2.4 Individual investors are a crucial source of finance, through community shares. Crowdfunding of clean energy projects through this internet is one such model. In this format, investors can earn interest from the financing of clean energy projects and potential higher returns than a borrower/lender could receive from an institutional investor. In the UK, this appears to be a rising trend, with the rise of online platforms such as trillion fund and Lancashire county council’s finance trial.13 However, there are risks associated with this financial model that puts it at a disadvantage compared with the power purchase agreement. The absence of no regulated marketplace for buyers and a seller means that significant transaction costs are likely to incur in addition to the risk of no guaranteed price.14 In a potential situation of overcapacity, Government needs to set minimum product standards for technology components in order to sustain the projected project lifetime of small to medium-scale energy projects.

2.5 A final alternative is that individuals could undertake shares via a co-operative fund. Co-operative schemes possess a financial advantage over conventional models given the greater appetite of equity-based schemes over bank financed schemes to profit from short-term contracts with attractive financial terms. Co-operatives are owned and run by a variety group members, that possess a share and profits can go back to members, the community or are reinvested in another project. In the UK, many are established as industrial and provident societies, providing shares to members. Co-operatives are particularly valuable for projects at the upper end of the scale, as demonstrated by the 50 MW Middelgrunden co-operative in Denmark. A total of 20 offshore wind farms, providing 4% total power for the city of Copenhagen, the project is a joint venture between Copenhagen Energy and the Middelgruden co-operative which own 50% of the project as a registered private partnership under Danish law, with the remaining 50% owned by Dong Energy.15

3.0 “Why are community-owned energy projects more prevalent in countries like Germany and Denmark than they are in the UK”

3.1 In relation to the different ownership structures, experience of countries such as Denmark, Germany suggest that traditional co-operatives have played a less critical role than individuals and farmers in providing local investment and encouraging the initial “bottom-up” trigger of community ownership of energy projects. In Germany and Denmark, taking these forms of ownership together, local ownership accounts for over 50% of wind power capacity.16 The growth in community ownership in Denmark and Germany can be understood as a product of three factors.

3.2 The first of this factors concerns rights of consumers to purchase electricity. In Denmark, there has been a historical tradition of local ownership of wind power. The Danish Power law which required that wind energy must be directly owned by electricity consumers, meant that the only partnership that can qualify is the general partnership model (“Interessentskab”); a contractual relationship where multiple individuals, can pool resources in order to run a business. In Germany, citizens have had the legal right to be producers and suppliers of electricity to the grid system since 1990. The dominant model that exists in Germany is a “Limited partnership with a limited liability company as general partner” (Gmbh & Co. KG).Under this, the partnership is exempt from corporation tax, partners are instead taxed at individual level. The developer incorporates his or her business as a limited liability company, with each project forming a partnership with a limited liability company general partner and individual investors as limited partners.17

3.3 Secondly, a stable policy landscape was crucial to the growth of community ownership in Denmark and Germany. In Denmark, the 1979 Renewable Energy program represented a starting point, providing an investment subsidy of 30% of project costs until 1989, when a feed-in tariff framework was implemented.18

In Germany, a critical driver of community ownership was the 1991 the electricity feed-in-law, which provided a critical and stable policy landscape through the feed-in tariff framework.

3.4 In cases, grid connection and local grid rights has been a final critical factor in the drive to community ownership of renewable energy sources. The generator pays the cost to connect to the closet point on the grid and the transmission operator is responsible for further operations such as grid reinforcement and interconnection. Since 1993, local utilities in Denmark have had an obligation to purchase wind energy from independent generators at approximately 85% of production and distribution costs.19 The 2000 Renewable energy Act in Germany required utilities to purchase from independent generators in order to guarantee investors a return on investment.20

4.0 “Is there any evidence that medium-scale energy projects are more likely to be accepted by local communities”

4.1 NIMBYISM has been a crucial barrier in the planning consent and implementation process, particularly in relation to projects concerning onshore wind backed by commercial utilities. Whilst such measures have not been effective in securing local-buy, this is not to suggest that community ownership would receive a similar negative reaction. From a comparison of costs and benefits in the current model seen in onshore wind, communities bear costs such as visual impact and associated environmental externalities associated with onshore wind turbines, whilst the beneficiaries are electricity consumers and distribution operators. However, a community ownership model would resolve this in theory, with communities bearing the costs but also being beneficiaries of potential projects, addressing this distributional issue.

4.2 Public opinion polls represent a useful barometer to test this assertion. Evidence from public opinion polls suggest that communities adopt a positive attitude to renewable energy with the greatest proportion of interviewed respondents stating a preference for energy from solar power and wind farms (72% and 55%).21 An ICM (2013)22 poll commissioned by Co-op found that out the 2027 GB adults interviewed 68% would back local renewable energy projects including wind turbines on the conditions they were 100% community-owned with the community being the beneficiary with 7% opposition to such a barrier.

5.0 “What are the barriers to medium-scale energy projects in the UK”

5.1 A lack of a financial procurement mechanism at the community-level for renewable energy projects in the region of 5–50 MW is a crucial barrier. A key attribute driving the successful community ownership models in Germany and Denmark was stable policy support at the community-level through the feed-in tariff framework.

5.2 Conventional institutional investors such as banks and pension funds do not possess the sufficient risk appetite, expertise or experience required to finance the complexity medium-scale projects pose as an asset challenge.

5.3 Community buy-in and consumer engagement with energy management are key barriers to medium-scale projects. In order to encourage energy consumers to think as both producers and consumers, this will involve overcoming significant cognitive challenges involved such as bounded rationality, where energy is not necessarily considered a “front of mind issue”. Given the upcoming arrival of energy changing technologies such as smart meters, it is critical communication to consumers come directly from government and not utilities, in order to raise awareness and encourage behaviour change.

5.4 There is lack of a consensual understanding amongst local planning authorities and planning committees surrounding the national importance of community generation, issues of importance and recurring issues raised such as house price, noise and carbon footprints.23

5.5 Medium-scale projects could aggregate the problems caused by increased integration of renewable energy technologies into the grid system. This will require significant investment in back-up generation; smart grid technology; interconnection; energy storage and demand-side management in order to address the scale of this balancing challenge.24

6.0 “How effective are current Government policies in encouraging local and medium-sized energy projects? Could they be improved in any way?”

6.1 Using the Green Investment Bank to underwrite a specific proportion of the project risk for medium-scale energy projects or allocate project loans guaranteed by government.

6.2 Include provision of legal rights for citizen ownership over electricity production and community ownership over grid connection in the Localism Bill.

6.3 Provide a stable financial support mechanism to encourage the supply-side and demand-side flexibility community ownership of projects in the 5–50 MW range offers. In addition to providing a community-level feed-in-tariff to encourage generation, government should provide a financial support mechanism encouraging demand reduction at the community level, which could be via an energy saving feed-in tariff (ESFIT). A recent study undertaken by Eyre (2013) suggests that under the current electricity market reform, ESFITS for demand reduction would provide relatively low transaction costs and be a favourable choice for small-scale consumers.25 Given that finance for ESFITS would be raised via energy bills, this would address any distributional concerns, with only beneficiaries paying for the measures.

6.4 In accordance with the recommendations made by Carbon Connect (2012), DCLG should provide a framework or coherent template for planning professionals and local authorities in reference to the issues raised in 5.4.26

6.5 Ask DECC to publish a community energy framework in its community energy strategy published late in Autumn 2013, encouraging a variety of ownership structures; from co-operatives and partnership models to alternative equity proposals such as crowdfunding.27

April 2013