After the auction, Spain plans merchant future

By Daniel Atzori, Inspiratia | Wednesday 24 May 2017

Wid projects were awarded 99% of capacity in the hotly-anticipated Spanish renewables auction last week. But just one week on, the market is already looking beyond subsidies, towards what inspiratia expects to become a booming merchant market

After years of uncertainty triggered by the 2013 electricity reform, Spain's greenfield renewables market is back on its feet. Of the 3,000MW awarded on 17 May, 2,979MW went to onshore wind projects, 1MW to PV and 20MW to other technologies.

All the awarded bidders went for the maximum discount, with record low prices of €43 (US$48 £36) per MWh, as subsidy-free renewable energy development gains further traction in Spain.

According to the auction's regulations, wind projects bid at a maximum discount of 63.43%, while solar prices were allowed to reach a 51.22% discount over the price of the investment. Since all the winning bidders proposed the maximum discount available, they will therefore not obtain any "investment compensation". They are nevertheless entitled to the so-called "opex compensation", currently at around € 21/MWh for wind energy, which therefore provides for a floor, though at a low level.

While winning bidders will not receive any premium beyond the spot market price, they hope their investment will be shielded in case the market price decreases below certain levels, considering that the auction's rate of reasonable return (RRR) would remain at 7.503%. This would however require a modification in the currently applicable mechanism.

Although Spain's ministry of energy describes the auction as technology-neutral, the country's solar trade body UNEF criticised the process for favouring wind.

Perhaps unsurprisingly, given the results of January 2016's 700MW auction (500MW for wind and 200MW for biomass), a significant amount of capacity was again allocated to relatively new market players, as the table below shows.

Forestalia took the biggest share, being awarded contracts to develop a 1,200MW of new wind capacity in the autonomous community of Aragón, in north-eastern Spain. In January 2016, Forestalia already won a tender to develop 300MW of wind farms and 108.5MW of biomass in the same region.

GE Renewable Energy will be Forestalia's technology provider, supplying wind turbines to both projects, for a total of 1,500MW.

But, despite having in common Forestalia's prominent role in both auctions, the new auction was profoundly different from the one last year.

"This time, all the winners bid with the maximum discount, which provides a hedging against market prices – from a merchant perspective, they are less risky. But projects that won last year have no hedging against electricity prices," says Matias Gallego, technical director at Vector Cuatro, a Madrid-headquartered green consulting group.

As already mentioned, in the last auction there was a maximum discount, and no bid was allowed to decrease below that level, which will provide hedging over electricity prices. However, in last year's auction there was no such limit, so the 100% discount obtained means that these projects have no forms of hedging.

All projects awarded in May 2017 will need to be ready by 31 December 2019 to comply with the 20-20-20 EU objectives, and it still needs to be seen whether all the winning bidders will manage to build the assets in time.

"It seems ambitious and challenging to deliver 3GW of turbines in such a short period of time, also considering that they will have to discuss prices," Vector Cuatro's Gallego added.

Going merchant

In the aftermath of the 2013 tariff cuts, Spain's renewables activity came to a standstill. However, during the period 2015-2016, the secondary market picked up, as inspiratia's data shows, while the paralysis of greenfield went on. While most of the debt restructurings have currently been completed, the market remains active, especially for what concerns wind and PV acquisitions.

But now, developers that failed to secure capacity in the auctions are already looking at alternative structures to fund greenfield projects. The Spanish market is indeed undergoing a profound evolution towards merchant deals, driven by high competition and increasing trust in the Spanish market.

"The most important consequence of the May 2017 auction will be to put some pressure on the PPA providers. This will finally benefit the PV industry regarding the development of large-scale PV plants that are attracting the investment interest of lenders, utilities and developers," says Luis Castro, head of the energy and utilities team of Osborne Clarke in Spain.

Perhaps most interestingly, a number of market players in Spain are looking at building out their projects on a merchant basis.

"We are very positive on hybrid structures and full merchant structures. There is debt and equity available, and we are already working on a couple of projects to bring forward hybrid structures with merchant ingredients," says Manuel Cabrerizo, co-founder and partner of the financing advisory boutique Voltiq.

"From the point of view of lenders, there is no big difference between 100% merchant projects and those winning in the tenders, as the 'floor' the tender provides is actually subject to several variables, and results in a much lower level than spot market forward curves. Lenders will have to get to grips with the transition towards merchant deals; some are now moving all the way to the merchant phase, without an intermediary phase," Voltiq's Cabrerizo added.

Spain is expected to follow suit the example of Latin America markets. Across the pond, fully merchant projects are indeed increasingly seen as a viable option, as shown by the 146MW Laberinto PV plant in Chile that closed in 2015, where Voltiq acted as the financial adviser to EDF Energies Nouvelles.

These developments will be possible if Spain's impressive economic recovery continues, and if prices remain stable.

"If the perception of the market with regard to a reasonable stability in price over the long term finally comes true, this would be considered positively by the banks in the financing structure of the new greenfield large-scale projects both in PV and Wind," added Osborne Clarke's partner, Luis Castro.

Regulatory risk

Despite the predominant optimism, regulatory risk is still a concern, as – according to Spain's 2013 electricity law – regulatory parameters can change every six years.

The revision of the reasonable rate of return (RRR) – which stands at 7.503% until 2019 – is calculated on the basis of electricity demand and Spain's macroeconomic performance, needs to be put forward by the energy ministry and then endorsed by the parliament.  

"Having a regulatory reset is an inherent weakness in the context of a long-term project financing. This is unique among regulatory support regimes; elsewhere, you have greater certainty about revenues for the full term of the debt. Some lenders may be happy to invest in the sector before 2019, others may prefer to wait: it comes down to risk appetite and protections within the financing structure," says Christopher Bredholt, vice president and senior analyst at rating agency Moody's.

But there are certainly positive signs. The much-discussed electricity reform had, indeed, the effect of rebalancing the tariff deficit, making a new regulatory intervention less likely.

"As we saw earlier this year, the interim adjustment to the Spanish regulatory compensation has been positive. The regulation is working so far," Moody's Bredholt added.

The market hopes that regulatory parameters for the second regulatory period, which is set to start on 1 January 2020, will be similar to the current ones.

The regulation sets that before 1 January 2019, the Ministry will submit to the Council of Ministers a preliminary draft law that will include a proposal regarding the value of the differential. The current level of interest in the Spanish market suggests that investors are betting on stability.

 

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Publication date Thursday 25 May 2017

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