Regulatory Outlook: Energy - November 2016

Current Issues

Capacity Market: In its response to the consultation launched on the Capacity Market Rules in March 2016, the government confirmed that it would be holding a capacity auction during January 2017 for delivery one year ahead.

The government also noted in its response that the Capacity Market remains its principal security of supply tool. It confirmed that it will introduce a robust system of checks to ensure compliance with the Capacity Market Rules. Termination fees will be payable where a capacity provider abandons or otherwise fails to meet its agreement obligations, which will also disqualify it from two years of future capacity auctions.

The government has also indicated that the next auction will target significantly more capacity (perhaps over 3GW more), in line with its intention to manage risk by buying more capacity earlier.

The Capacity Market (Amendment) Rules 2016 reflect these changes and came into force on 21 July 2016.

Renewables Obligation: The Renewables Obligation (RO) closes to all new capacity on 31 March 2017, subject to grace periods which, when taken together and if all are successfully obtained, could provide certain developers with an extension until 31 January 2019.

The RO closed to small solar PV projects (being less than or equal to 5MW) on 31 March 2016. However, grace periods are available in limited circumstances which, if applicable to an eligible developer, would allow it a further 12 months to commission and accredit its solar project meaning that again, 31 March 2017 is the relevant cut-off date.

Developers should ensure that projects are commissioned and applications for accreditation and grace periods are made in line with the timescales above.

Renewable Heat Incentive: Stage 2 of the DECC’s planned changes to the Renewable Heat Incentive (RHI) is to come into effect in April 2017. The key proposals for non-domestic projects are:

• the size of tariff reductions are to be proportionate to the need to control development, keep spend within budget and secure value for money;
• triggers for degressions are to be maintained;
• indicative deployment levels (by 2021) have been set, which indicate:
  • proportionately lower spend in Biomass; and
  • higher spend for heat pumps;
• from 1 April 2017, the number of triggers for Biomass will be reduced from four to just one per annum; and
• there will be tariff guarantees for deep geo-thermal, biomethane, large biomass, biomass CHP, large biogas and large ground and water source heat pumps.

Smart meters: The rollout of smart meters has commenced. The government aims to have installed 53 million smart meters, across all homes in the UK, by 2020. Energy suppliers are obliged to offer all their customers a smart meter.

Costs for the rollout are to be passed on to consumers.

Embedded Benefits: The government Capacity Market Consultation, carried out in March 2016, concluded that the current charging arrangements for embedded generators may over-reward embedded generation. Ofgem, in its open letter of 29 July 2016, raised concerns about the unfair market advantage that sub-100MW embedded generators, in particular controllable non-intermittent embedded generators, may be receiving. The letter focuses on the TNUoS Residual Demand embedded benefit. Ofgem is concerned that the size and increasing value of the TNUoS benefit may be distorting the market.

Ofgem believes that a minimum of two CUSC modification proposals will need to be considered. The two CUSC modifications currently being considered are:

• CMP264: this aims to prevent new embedded generators, connecting after 30 June 2017, from receiving the embedded TNUoS benefit; and
• CMP265: this is intended to remove the ability to obtain TNUoS demand residual payments from all embedded generators with Capacity Market contracts by April 2020.

Contracts for Difference: The government has consulted on extending the Contracts for Difference (CfD) Delivery Years to 31 March 2026. Delivery Years are the periods in which CfD projects need to commission to comply with their CfDs. Currently the CfD (Allocation) Regulations (2014) only give the government the power to run an Allocation Round and allocate budget for Delivery Years up to the period ending 31 March 2020. All respondents agreed with this proposed amendment.

The government has also announced that the next CfD auction has been delayed until 2017. The March 2016 Budget revealed that £730m had been set aside for the three CfD auctions scheduled for the current Parliament.

In Focus: Enforcement

The Office of Gas and Electricity Markets (Ofgem) is the principal regulator in the energy sector. Ofgem’s enforcement activity falls broadly into three categories, being the enforcement of:

• licence conditions, in relation to licensed entities in the gas and electricity sectors;
• competition law in the gas and electricity sectors; and
• consumer protection law.

As well as ongoing monitoring of licence conditions and adherence by energy companies to consumer protection laws, Ofgem carries out market reviews and, where appropriate, can refer investigations to the Competition and Markets Authority where it has general concerns about market practices. Where it has concerns about particular companies, Ofgem will carry out investigations and, if necessary, impose sanctions.

The sanctions that Ofgem can impose range from enforcement orders requiring companies to comply with their licence conditions, to fines of up to 10% of a company’s worldwide turnover. Since a major review in 2014 of its enforcement activities, Ofgem has focused on ensuring that fines have a real deterrent effect, and the issuing of a fine of £26m in 2015 signalled its intent to do so.

However, for companies that engage early with the regulator, Ofgem can, in certain cases, accept binding undertakings to stop or not repeat offending conduct, rather than issuing punitive sanctions.

In June 2016, Ofgem set out its strategic enforcement priorities for 2016/17, which focused on taking action in the following three areas:

• where industry behaviour fails to meet obligations for customers in vulnerable circumstances;
• where there are serious shortcomings in a company’s attitude and culture towards compliance; and– where industry behaviour fails to meet obligations for customers in vulnerable circumstances;
• where companies are failing to treat their domestic and microbusiness customers fairly through the Standards of Conduct.

Price comparison websites in the retail sector

One of the current areas of focus is price comparison websites. Initially Ofgem carried out an investigation into websites offering energy tariffs. Ofgem has since collaborated with other economic regulators as part of the UK Regulators Network (UKRN).

On 27 September 2016, UKRN published a report, highlighting a number of cross-sector themes and concerns relating to price comparison websites. This has subsequently been taken on by the CMA as part of its ongoing cross-sector market study into ‘Digital Comparison Tools’, such as price comparison websites and apps.

Renewables Obligation (RO) and Feed-in Tariff Scheme (FIT)

Ofgem routinely audits renewable energy generating stations to ensure compliance with renewables subsidy rules (including under the RO and FITs) and to protect against errors and fraud. It pays particular attention to sites that commission and apply for accreditation on or about the dates when subsidies degress or cease. Ofgem has the right to suspend or withdraw subsidy accreditation in a number of circumstances. In relation to RO schemes such circumstances include where:

• it believes there has been a material change in circumstances since accreditation;
• a condition of accreditation has not been complied with;
• it has reason to believe the decision to accredit was based on incorrect information; or
• there has been change in legislation which, had it taken place before accreditation, would have resulted in a refusal to accredit.

Generators also run the risk of having their application for accreditation under the RO refused if Ofgem deems that two of their generating stations are, in fact, one generating station. This hinges on how Ofgem defines ‘generating station’. A similar principle also applies under the FIT scheme.

Electricity supply licence: class exemptions

The Electricity (Class Exemptions from the Requirement for a Licence) Order 2001 contains certain exceptions to the general rule that parties supplying, distributing or generating electricity must hold a licence. Those falling within an exemption can avoid various compliance and industry costs that apply to licensed companies. However, certain sections of the Order, especially around the provision of power by generators to on-site or nearby customers, are complex and unclear. The risk of potential criminal sanctions for failure to comply with the Order’s exemptions can pose a serious challenge for power generation projects that include private wire or local supply elements. As the opportunities for and popularity of such projects increases heightened regulatory scrutiny of this area might be expected to follow.

The Association for Decentralised Energy has recently published a report highlighting the issue and urging Ofgem review to explore whether issuing guidance would help to address some of the current uncertainties.

Dates for the diary

Q4 2016/2017

Ofgem consulted on changes to relevant licence conditions to broaden the use of the Funding Return Mechanism (FRM). The FRM is the method by which Ofgem can direct money associated with an innovation project (funded under Low Carbon Networks Fund or Network Innovation Competition) to be returned to customers (for example, if a project is halted early). Results are expected in the next few months.

January 2017

A Capacity Market auction is to be held during January 2017 for delivery one year ahead.

28 February 2017

On 28 February 2017 the current system of CfD for Energy Intensive Industries (EIIs), pursuant to which EIIs receive compensation on CfD payments, will be replaced by an exemption for EIIs that fulfil specific criteria.

31 March 2017

The RO closes to all new capacity on 31 March 2017, subject to grace periods for certain projects.

1 April 2017

Stage 2 of the government’s planned changes to the RHI scheme is intended to come into effect during April 2017.

1 April 2017

Business rates are to be re-valued from 1 April 2017 based on asset valuations as at April 2015. The Valuation Office Agency (VOA) published its new values on 30 September 2016, confirming renewables industry fears that the 2017 re-valuation would lead to significant increases in business rates liability for renewable projects. There are particular concerns that businesses’ solar PV roof installations could see bills increase up to six-fold.

The VOA has announced that previously exempt installations of less than 50KW will now be separately valued and larger solar installations will no longer be valued at a fixed rate.

2017

The next CfD auction has been delayed until 2017. The government also intends to extend the CfD delivery years to 31 March 2026.

For more information and details of all of the other areas covered by the Regulatory Outlook click here.