New wave, will the UK miss the renewable revolution?

What is it about this island that makes us great at inventing things and so
pitifully bad at exploiting them? The catalogue of British inventions that have
made fortunes for other countries makes grim reading. In the renewables field we
did it with wind turbines. Government blindness let slip the moment when Britain
could have grabbed first mover advantage in wind turbines. Instead, we gave it
to the Danes, who now have 50% of an $8bn (£4.6bn) market that is growing at the
rate of 20% year on year.

Today, the Danish wind turbine market employs 25,000 people and, as Europe
starts to roll out offshore wind farms of 500 megawatts and upwards, that market
is going to get a tremendous kick forward.

But all is not lost. British inventiveness has once again come up trumps and
once again we look well placed to lead the field with emerging technologies in
the field of marine power, where we have competing wave and tidal technologies.
In both these areas, British companies are arguably ahead of the chasing pack.
But will they get the support they need this time round? The answer is: perhaps.
But whether the support will be sufficient to kick start a billion- dollar
marine power generation market remains to be seen. Scotland, for example, has
announced its intention to introduce an additional element to the Renewables
Obligation Certificate (ROC) market to back marine renewables, though it has not
yet said what form this will take.

UK-wide, though, we have designed a market in ‘green’ power that is
technology blind. The ROC system favours any renewable energy generation
technology that is first to market with quantities of ‘green’ power.

This means, of course, that the UK system is wonderful for supporting onshore
wind generation, which is now a proven technology. However, it badly underfunds
offshore wind projects, never mind marine projects.

Offshore wind, however, is gaining some benefits from the success of onshore
wind, in that the capital markets and venture capitalists have a good deal of
history here to look at, as far as turbine generation and power delivery is
concerned.

What makes offshore wind so difficult, though, is that it has much higher
capital expenditure costs than onshore wind. The reason is that the initial
investment required for sub-sea infrastructure, transmission lines and hard
moorings for any offshore site is huge. The good news is that, once the initial
infrastructure costs have been absorbed, these installations scale extremely
well.

New units can be added to the array, pushing up the output of the farm.
Moreover, since many offshore wind farms will be sited out of the line of sight
of land, much of the heat goes out of the planning debate (though environmental
impact studies are still a requisite part of the process).

Going back to marine power, the ROC is woeful as a support mechanism for
untried and high risk projects, where the costs are much higher than onshore
wind. Without a clear present mechanism to reward investment, venture
capitalists find this very difficult terrain.

As Fintan Whelan, corporate finance manager at onshore and offshore wind
specialist Airtricity, observes, it is simply a fact of life that an early-stage
technology needs government support if it is to flourish in the teeth of
competition from existing technologies.

Nevertheless, Whelan says that Airtricity has been able to find a way of
investing in at least one major offshore project. But marine generation, he
says, still has far too many unknowns in the equation at present.

“Anyone investing in offshore wind today has to be taking a bold view of the
future of offshore wind. We don’t have the appropriate level of support right
now for offshore wind to provide a reasonable return on capital deployed. This
is part of the debate that is going on between the industry and the government,”
he says.

That said, Airtricity has a major 500 megawatt scheme underway in the Thames
Estuary. This has been possible because it has managed to get its construction
partner in the project to join it in a 50-50 joint venture.

The US heavy engineering and projects company Fluor Daniels has been able to
justify its participation on a range of fronts, in terms of the likely
improvements in future profitability, and in the experience it is gaining in
offshore farm construction techniques. The advantages for Airtricity are
manifest.

“Your capital programme costs on a project like this are a huge variable. As
a 50% stakeholder, Fluor Daniel has good motivation to deliver an effective
capital cost to the project,” comments Whelan.

This is not an unusual structure with onshore projects, where the wind
turbine supplier often takes a stake in the project. At present, with offshore,
turbine manufacturers have refused to participate, mainly because there are
still too many unknowns in the offshore equation and because the cost ratios
relating to their share of the project are much lower.

Onshore, the turbine part of the contract can amount to as much as 75% of the
total cap ex. Offshore, however, the proportion drops to around 40% because of
the cost of the cable and the sub-sea infrastructure.

Another thing the developer can do to enhance the project’s chances of
success, says Whelan, is to accumulate as much information as possible on all
the relevant aspects of the build. “We’re working to understand all the
conditions about the site that could impact on its installation. Having your
contractor with you in this process is a huge help,” he says.

Keith Anderson, renewable and major projects director at Scottish Power, and
John Heasley, financial controller and head of strategy and investment, argue
that, despite the lack of support for emerging renewables technologies, the UK
Government’s ROC system has actually operated superbly. It is functioning
exactly as was intended, and has created a huge appetite in the UK for
investment in onshore wind, they say.

“The rationale for making ROC technology blind was that it would ensure that
the technologies that were more economically viable would come through first and
fastest,” they say. This is simply good, healthy economics.

However, they argue that the stage has now been reached where government and
the Scottish Executive need to look at finding ways of adding in extra support
for the next round of emerging technologies.

“The issue with renewables in the UK is not a lack of investment appetite if
the business models are right. Scottish Power will be investing £1bn in
renewables to 2010, when we expect to be generating more than 1,000 megawatts of
renewable energy. This will be 10% of our total capacity and will put us in line
with the government’s national target of 10% by 2010,” Heasley says.

Scottish Power has two offshore sites, one it acquired during the Round One
site auction process, and the other acquired during Round Two. However,
developing those sites requires some resolution of the dilemma of who pays for
the transmission grid upgrades. These upgrades are required to take the power
from the offshore platforms to areas where the power is required. Clearly, where
the grid has been extended to cover a few Scottish crofting cottages in a remote
rural area, that link will not be capable of taking the output of a one gigawatt
offshore or marine energy farm. The upgrade required nationally to support the
new projects runs to tens of billions of pounds.

“What the industry is telling government right now is that given the
country’s desire to have offshore renewable generation, and given the work that
is needed on the infrastructure and on upgrading the grid, that cost should be
shared among all users, not just borne by the developer,” Heasely argues.

In its October 2004 report to the Scottish Executive, the Forum for Renewable
Energy Development (FRED) in Scotland argued for this point, particularly for
marine energy.

“The Scottish Executive and the UK Government should consider supporting
early commercial development of marine energy by underwriting grid connection
for first and second generation projects,” it said. To date, however, no such
announcement has been made and this is a source of concern for wave and tidal
generation players.

Max Carcas, business development director at the wave power specialist, Ocean
Power Delivery (OPD), for example, argues that it is very short-sighted of
government not to back this sector as heavily as it can.

“The potential is there for the countries that put in the investment first.
The Danish Government backed the Danish wind turbine industry and it is now
doing exceptionally well. If you look at the wind turbine export business in
Denmark today, it is the country’s highest value engineering export.” Carcas
points out that it need not cost vast amounts of money to give the industry a
start. “If you base assistance on an output model, like ROC, then government
does not pay unless we produce electricity, and it doesn’t pay much until we
produce it in large quantities,” he points out.

Just what can be achieved with government sponsorship was shown recently when
OPD won its first order. This was for three of its Pelaris wave generation
machines and the buyer was a Portuguese consortium led by Enersis, Portugal’s
biggest operator and owner of renewable generation assets. The Portuguese could
buy into an early stage wave generation project precisely because the Portuguese
Government has a very well thought through support structure for wave power
projects.

This support comes in the form of a feed-in tarriff for wave power. For every
kilowatt hour of wave energy, up to the first 20 megawatts of installed
capacity, the government will pay €23.50. OPD says its installed operating cost
per kilowatt hour will come in close to the feed-in tarriff in the pilot phase.

Enersis and its partners have signed a letter of intent with OPD for a
further 20 megawatts of generating capacity if the pilot installation of three
machines, each producing around 750 kilowatts of power, proves successful.

As Carcas explains, one of the features of wave energy is that the sub-sea
infrastructure costs tend to be much the same for three units or three hundred
units. “It costs around £1m to put the sub-sea infrastructure in place. When you
install large numbers of units, the cost per megawatt drops dramatically, so
wave power is especially well suited to large scale production,” he says.

Carcas believes that by the time ODP is at the 20 megawatt level, it would
expect to be generating electricity for 16 pence a kilowatt hour. This will
reduce dramatically as demand increases and it starts to enjoy economies of
scale in its manufacturing process.

“Today, a good wind turbine can generate electricity at less than three pence
a kilowatt hour, and the generator gets about six pence. This creates a
reasonable margin. But they haven’t got there in one bound,” he notes.

The wind turbine manufacturing industry has managed to reduce its
manufacturing costs by 80% in 20 years. Wave power today is where wind was 20
years ago, with small production runs and a supply chain that is not fully
coherent. “We need a significant market and as the Portuguese have demonstrated,
government has a role to play in helping that market to get off the ground,” he
says.

To be fair, the Scottish Executive did play a hand in OPD’s success, by
funding the establishment of a marine test centre for marine generation devices
in the Orkneys.

“The Portuguese were able to see that the device had been tested in a real
environment and that gave them a lot of confidence,” he comments.

The message to the politicians is simple. Back British efforts in marine
generation today and you will have a billion-pound industry tomorrow. Sit on
your hands and we’ll be buying our equipment from the Portuguese two years from
now.