In 2022 AEMO Services made a splash in the NSW electricity sector by launching Tender Round 1 for Long-Term Energy Service Agreements (LTESAs), and the agency rounded off the year by releasing its December 2022 Infrastructure Investment Objectives Report (Report). In this article we consider the progress made to date with Tender Round 1 and the lessons learnt along the way, and we also summarise AEMO Services’ plan for 10 years of further tenders as set out in the Report, including Tender Round 2 due in Q2 2023, which is to include an auction for firming LTESAs.
Tender Round 1
The inaugural tender round closed in late October 2022 and AEMO Services announced in January 2023 that it had received bids totaling 5.5GW of wind and solar generation against an indicative round size of 950MW and 2.5GW of long duration storage (LDS) against an indicative round size of 600MW. LDS projects bid in Tender Round 1 included pumped hydro, compressed air storage, lithium ion batteries and hydrogen fuel cells.
On 27 January 2023, AEMO Services further announced that 16 projects with a total capacity of 4.3GW of generation and LDS have been shortlisted to progress to the financial value bid stage (we summarised the stages of Tender Round 1 here), without, however, revealing the details of these projects. Financial value bids from the shortlisted projects are expected by 10 February 2023.
One of the interesting lessons we have learnt thus far from Tender Round 1 is that, somewhat counterintuitively, AEMO Services is auctioning rights to state sponsored financial support that it anticipates the successful projects will never use. AEMO Services is doing this by preferencing projects that are not only well advanced along the development pathway, but have (in the case of generators) entered into market priced long term offtake agreements that already underwrite their commercial prospects. This approached was further reinforced by AEMO Services in its 27 January 2023 announcement, which quoted AEMO Services Chair Dr Paul Moy saying: “We expect proponents to bid aggressively, recognising the value of the investment opportunities presented by the Roadmap and the unique features of our LTESA contract.” Such aggressive bidding is expected to reduce the fixed price payable by the scheme financial vehicles (the counterparty to the LTESA) if a proponent exercised an option under the LTESA. A lower fixed price will reduce the minimum revenue and thus the downside protection available to that proponent in long term unfavourable or extraordinary market conditions, but, where appropriately bid, will still ensure the ongoing viability of the project, especially when considered across its lifetime. Moreover, it is possible that some proponents will bid a reduced fixed price in order to gain access to the West-Orana REZ (and the grid infrastructure it provides) which access rights are being auditioned in Tender Round 1 alongside the LTESAs.
Tender Round 1 has also made clear that both of the following are true at the same time: the LTESA process supports the bankability of a project by offering the aforementioned downside protection, while a proponent is also more likely to be awarded an LTESA if its financing is already secured. In a chicken and egg dilemma, each of AEMO Services and the lenders prefer that the other commits to the project first, as it reduces the later party’s risk. Given that the stated purpose of the LTESA tender process is encouraging private investment in the development of the renewable energy sector, AEMO Services may wish to consider (and proponents may wish to prompt that consideration) whether there is scope for amending the tender process for subsequent tender rounds so that a proponent may involve its prospective lenders to enable the LTESA process to directly support bankability and vice versa.
Future Tender Rounds
AEMO Service’s pathway for future tender rounds is set out in its 10-Year Plan (Plan) in the Report. The Plan was prepared by AEMO Services to ensure that sufficient electricity supply is established prior to the expected withdrawal of coal generation from the market to meet the energy needs of the state, and it remains subject to revision in future iterations of the Report to reflect, where necessary, changing market conditions and changes to the timing for the exit of coal from the NEM. While the Plan is intended to provide a level of certainty for investors to prepare for their participation in the most suitable tender round, AEMO Services retains a degree of flexibility to conduct tender rounds with a greater or lower indicative size, or to cancel tender rounds altogether.
The Plan sets out the following expectations in relation to timing of and the size of future tender rounds across the next decade:
Source: AEMO Services - 2022 Infrastructure Investment Objectives Report
Source: AEMO Services - 2022 Infrastructure Investment Objectives Report
The Plan also provides for a single auction for firming capacity, which is to occur in Tender Round 2 planned for Q2 2023.
The NSW Electricity Infrastructure Roadmap (Roadmap) recognises the need for firming capacity on the basis of the variable nature of wind and solar generation and the need to avoid a material breach of the NSW Energy Security Target. This target represents the capacity of the NSW grid to deal with a one in ten years demand peak at a time when the largest two units of NSW’s generators experience an outage. The Energy Security Target is forecast on the basis of the expected pipeline of generation, storage and transmission capacity, including the anticipated retirement of power stations. Where a material breach of the Energy Security Target is expected, a competitive process for firming LTESAs may be directed by the NSW Minister for Energy to ensure that firming capacity is built in time to address the projected shortfall.
The May 2022 Energy Security Target Monitor Report forecast such a shortfall as a result of the potential early retirement of the Eraring Power Station in August 2025. While the expected retirement of the Liddell Power Stations in 2023-2024 is forecast to be offset by newly built gas peakers (Kurri Kurri and Tellawarra B), replacement capacity is not currently committed from 2025-2026 onwards. This is despite the expected completion of interconnectors with Queensland, Victoria and South Australia and the potential completion of Snowy 2.0. While each of these will deliver additional capacity to NSW, the projected peak demand from 2025 onwards is concentrated in the Sydney/Newcastle region and the capacity of the NSW grid to deal with exceptional demand peaks is restricted by intra-regional transmission capacity. That is, while sufficient capacity is projected to be available within NSW even after the closure of Eraring, the NSW grid is forecast not to be able to deliver that capacity into the demand centres of Sydney and Newcastle.
For these reasons, the firming capacity sought in Tender Round 2 must be located within or nearby to the Sydney-Newcastle-Wollongong region. The Plan anticipates auctioning off 380 MW of firming capacity LTESAs for projects that can be dispatched where there is a sudden increase in demand. In order to meet the projected shortfall, prospective projects must be operational by December 2025.
AEMO Services has elected to take a technology neutral approach to firming capacity in Tender Round 2, but expects to require that relevant projects must be capable of discharging continuously at their registered capacity for at least 2 hours and that this capacity cannot reduce for the duration of the firming LTESA. Eligible projects must have a minimum capacity of 30MW for generators, 5MW for battery storage and 1MW for wholesale demand response (WDR) mechanism. Where a potential project is located outside the Sydney-Newcastle-Wollongong region, the proponent must be able to demonstrate that the project will make a contribution to meeting the Energy Security Target and some de-rating of the project’s capacity may be applied.
AEMO Services have released two forms of firming LTESAs for comment from the industry. Both LTESAs set out minimum availability and bidding requirements. Under the demand response model LTESA, the SFV will, on the exercise of an option, provide periodic payments to the operator for bidding capacity into the wholesale demand response mechanism, subject to the usual repayment mechanism. While the bidding requirements for this form of LTESA remain under development, the current draft notes that the final requirements may include obligationd to bid into the WDR for a minimum of two hours per day, including during specified peak days and peak periods, or during a forecast lack of reserves event. In contrast, the firming supply model LTESA is closely modelled on the LDS LTESA, including the revenue top up available to LDS projects payable at 25% of the annual annuity cap for each of the first three quarters of a financial year and final reconciliation amount payable in the final quarter.
Finally, AEMO Services currently forecasts that no further firming capacity auction will be required, but has acknowledges that the early closure of generators, above expectations increases in peak energy demand and unexpected market events may result in further projected shortfalls against the Energy Security Target, potentially necessitating the introduction of further firming infrastructure. The likelihood of further projected shortfalls is, however, decreased by the expected completion of state and regional interconnectors, which are expected to relieve current bottlenecks for the transmission of electricity into the Sydney-Newcastle-Wollongong region.