“What was called an open contract was a most perilous thing, and no prudent man would sign a contract of that kind” [1]

Commercial investments will not take place in an environment of legal uncertainty. This is particularly so for the kind of substantial, long-term, investment required for electricity generation. While the quote above reflects the underpinnings of classic contract law, it is relevant to the uncertainty engendered in ‘framework’ legislation, and particularly where – as here – it proposes a somewhat uncertain future set of contracts to support investment.

In providing for a ‘skeletal’ Energy Bill (see earlier posts on this blog), the lack of detail and consequent uncertainty will deter investment for a number of years. I focus here on the ‘Contracts for Difference’ (‘CFD’s) provisions. Those contracts aim to provide predictable levels of financial support for low carbon technologies. As such, they affect the relative attractiveness of investment in all types of generation (including gas, nuclear, renewables), with the consequence that investment is put on hold until the detail is known or ascertainable.

The central question, left open by the Bill, is how CFDs will be dished out: what are the terms of support for each technology? Technically, this depends in large part on setting the ‘strike price’ (or ‘top up’ against average prices) for each type of generation, which is left to secondary legislation and which (as one can see from the Explanatory Notes) envisages initial executive decisions, moving to a competitive process (an auction) in the longer term.

The difficulties are manifold and derive from a lack of detail in the Bill and the increased political dimension. They include the following:

  1. There will be a considerable delay until any prices (effectively subsidy levels via strike prices) are known.
  2. Worse, for some, the very concept of a ‘strike price’ paid against a ‘reference price’ (a likely proxy for the average annual market price), will tend to discriminate against unpredictable generation (such as wind turbines). On average, actual prices will be lower (than the benchmark ‘reference’) when the wind is blowing, but such generators will only obtain additional payment based on an average electricity price.
  3. How an auction can work across technologies is less than clear, for renewables or technologies which are lower on the technology curve in particular. Again, further uncertainty in the absence of detail.
  4. The uncertainty between technologies’ support is exacerbated by the fact that in ‘exceptional cases’ the Secretary of State will be able to allocate CFDs to individual projects. Is this an implicit ‘nuclear guarantee’? It certainly introduces a new political dimension.
  5. Although we now know the CFDs will be facilitated by an increase in the Treasury’s levy cap to £7.2bn, it is unclear what happens when the cap is reached to the ‘last in’.

Those close to this issue will see I have not enumerated the risk of ‘bankability’ of CFDs given the counterparty will not be the Government[2]. In practice, the energy sector is well used to ‘back-to-back’ contracts within the industry (ultimately downstream this is backed by consumers: effectively every household and business in the UK pays electricity bills).

To try to find some positives: there is little risk of Government retrospectively taking away rights to payment by executive action – once an investment has occurred, it is generally safe (see Homesun and ors v SofS for Energy and Climate Change[3] for a successful challenge to the Government regarding Feed-in Tariffs in 2012).

The issues arising out of CFDs combine with others, including the absence of a 2030 target (at time of writing) in the Bill, and the Capacity Market provisions, in creating an uncertain investment environment. This directly impacts on all 3 elements of the interdependent ‘Trilemma’ in energy policy: security of supply – carbon emissions – prices.