New regime set up by new legislation will bring legal certainty for at least three years

  1. New regulatory regime for renewable energy facilities

1.1. From July 2013 to June 2014, the Spanish Government has undertaken a reform of the Renewal sector by approving the following pieces of legislation:

  1. Royal Decree-law (“RDL 9/2013”), which entered into force on July 17, 2013 
  2. The Electricity Sector Act (the “Law 24/2013”), which entered into force on December 26, 2013
  3. Royal Decree Law (RDL 431/2014) regulating the electricity generation activity using renewable energy sources, cogeneration and waste, approved by the Spanish Government on June 6, 2014
  4. Ministerial order IET/1045/2014, MO 1045/2014, approved by the Government on 20th June 2014 that implements RDL 431/2014, by fixing the retribution parameters for each type standard installation

1.2. The main reason for this renewable reform is the adoption of a new retribution system aimed to reduce the electricity deficit. This has been made by eliminating the tariffs and premia granted up to now, to renewable facilities.

1.3. RDL 413/2014 entered into force on 11 June 2014, and its implemented MO 1045/2014 has entered into force on 21 June 20124. Settlements to renewable generators for the sale of electricity from 17 July 2013 onwards will be made as per the legislation recently enacted.

  1. Application of Royal Decree 431/2014

2.1. RDL 431/2014 implements RDL 9/2013 which is the origin of the new financial regime applicable to existing renewal, cogeneration and waste facilities. RDL 431/2014 maintains the essential rights and obligations of electricity producers using renewable energy sources, cogeneration and waste,  in particular priority in terms of dispatch and access and connection to the grid. 

  1. Financial Regime and its Review

3.1. Financial Regime

3.1.1. By means of RDL 431/2014 to the proceeds obtained from the sale of electricity at the pool, existing and new facilities are entitled to receive, throughout their regulatory life, the following additional retribution consisting of:

  1. Retribution on investment (Rinv).  Rinv is allocated per unit of installed capacity, and is expressed in MW/h. It remunerates, when applicable, the investment costs for each standard facility which cannot be recovered through the sale of electricity in the market.
  2. Retribution on operation, (Ro). Ro is also expressed in MW/h. It remunerates, when applicable, the shortfall needed so that the income obtained by the asset matches the operation costs.

Fixed and floating costs are considered when calculating the Ro. As to floating costs, those are as follows: insurance, management and general expenses, representation cost in the pool market, transmission and distribution fees, operation and maintenance costs , electricity generation tax, costs related to water and gas consumption. As to fixed costs those are as follows: land lease costs, security surveillance costs and land tax costs.

3.1.2. As to both the Rinv and Ro they are granted assuming that the asset is efficient and well managed, i.e. it has the available means for carrying out its operations, and its costs are of an efficient company and its income and profits are reasonable.

3.1.3. The total compensation shall allow renewal assets to compete on equal conditions with other technologies in the market and to obtain reasonable profitability. Once the regulatory life of the asset has expired, the asset will stop receiving both retributions. Likewise if an asset during its regulatory life has reached the reasonable profitability it will stop receiving the Rinv.

3.1.4. To calculate the Rinv and the Ro for each standard asset, the following parameters  approved by the Ministerial Order 1045/2014 are used:

  1. Return on investment (Rinv)
  2. Return on operation (Ro)
  3. Incentive for investment due to the decrease of the generation cost (Iinv)
  4. Regulatory useful life
  5. Minimum number of operating hours
  6. Operation threshold
  7. Maximum number of operating hours for the purposes of receiving the return on operation
  8. Upper and lower annual limits of the market price
  9. Annual average of the daily and intraday market price

3.1.5. In addition, the following are also parameters needed to calculate the above mentioned parameters;

  1. Standard value of the initial investment of the standard installation
  2. Estimate of the daily and intraday market price
  3. Number of hours of operation of the standard installation
  4. Estimate of future income from participation in the generation market
  5. Other operating income defined in Section 24, (State Aid)
  6. Estimate as to future operation costs 
  7. Update rate calculated based on  reasonable  profitability
  8. Adjustment rate of a standard installation
  9. Net asset value of the asset

3.1.6. The existing renewable assets that benefited from a particular compensation scheme (tariff/premium), before the entry into force of RDL 9/2013, are granted automatically with a specific remuneration scheme.

3.1.7. As to new facilities or modification of existing facilities, the specific compensation scheme is granted based on a competitive procedure following the transparency, objectivity and non-discrimination principles. 

3.1.8. Renewable facilities can only receive the specific remuneration until they reach the regulatory useful life, then they cease to receive the return on investment and the return on operation. However, such facilities can continue to sell energy generated in the market.

3.2. Review of the Financial Regime

3.2.1. RDL 413/2014 establishes regulatory periods of six years. The first regulatory period falls between 14 July 2013 (date of entry into force of Royal Decree-Law 9/2013) and 31 December 2019. Each regulatory period is divided into two regulatory half-periods of three years. Remuneration parameters are reviewed at the end of each half-period or regulatory period.

3.2.2. RDL 413/2014 foresees that both the standard value of the asset upon which the profitability is calculated as well as the remuneration parameters used to calculate the Rinv and the Ro, can be reviewed.

3.2.3. As to the standard value upon which the reasonable profitability is calculated for each type of asset, this is calculated based on the average performance of the ten-year government bonds on the secondary market, for the 24 months prior to May of the year before the start of the regulatory period, increased by a a differential.  Before 1 January 2018, that is a year before the ending of the period, a new act shall be enacted fixing the difference for the next regulatory period.

3.2.4. In addition, by means of the MO 1045/2014, the remuneration parameters can be reviewed after the end of each regulatory period.

3.2.5. On the contrary, neither the regulatory useful life of the asset nor the standard value of the initial investment can be modified.

3.2.6. After the end of the first three years’ regulatory sub period, by means of a fresh Ministerial Order, the following can be reviewed for the rest of the regulatory period:

  1. Estimated income from the sale of the energy generated, valued at production market price, as well as the parameters directly related such as: 
  2. forecast operating hours and estimated generation market prices for the first three years of the regulatory period, adjusting them to actual market prices

The result of this review is that certain type assets can be deprived from or granted with the Ro. A positive reading is that the rule brings certainty to investors at least for the first three years as the retribution scheme Ro is fixed for this period. In addition the Ro can be reduced or deprived for an asset if it does not reach the minimum type asset operating hours for a particular year.     

3.2.7. In relation to the electricity price in the market, it is calculated by means of the average of the quotation for the yearly contracts for futures traded at OMIP during the last six months of 2013. To this average, an amending coefficient based on data available to the National Commission for energy and Competition for each technology, is applied. So as to reduce uncertainty as to this price, RDL 413/2014 sets up upper and lower limits.  When the annual average of the daily and intraday market price exceeds such limits this creates, in the annual calculation, either a positive or a negative balance. This is called “adjustment value due to deviations in the market price” and will be  offset during the useful life of the asset.

4. Conclusion 

4.1. The new regime set up by RDL 413/2014 as well as by the MO 1045/2014, is to bring legal certainty for at least the first three years, as Ro is not reviewed during this period.

4.2. It implies a deep change of the economic scheme established by RDL 661/2007 and a significant cut of the special regime facilities’ revenue. This is likely to have a significant negative impact on many owners of affected facilities.

4.3. As a consequence of its enactment, and the negative impact on many owners, court actions will be brought against it, in particular:

  • Court actions before de Supreme Court, appealing the RDL and its implementing MO; Direct appeals
  • Administrative and court appeals against the resolutions applying the RDL and the MO, Indirect appeals 
  • Claims for damages due to unfair change in law, against the Sate of Spain either in national courts or by means of arbitration proceedings under the Energy Charter Treaty Request

4.4. The Government will need to consider whether the rescue of the renewal industry is needed by creating a new entity like a Sareb for renewals, State owned entity that takes over distress PV and renewals projects.

4.5. Banks will need to consider whether they need to set up a rescue fund so as to refinance PV and renewal substantial projects. In addition and by the same time they shall comply with the accounting rules for banks of Spain relating to provision of bad debts (RD 2/2012) the Guindos regulation, in relation to the refinancing obligations.

4.6. Likewise the regulatory authorities Bank of Spain and CNMV will need to watch carefully the compliance of the above mentioned regulation by lending banks.

4.7. Based on the above, and: (i) assuming that a renewal Sareb is not going to be created and (ii) that  banks will be closely monitored as to the application of provision for bad debts,  they may prefer to dispose substantial nonperformance renewal lending.