Costs to Businesses & Households of New Funding Arrangements at Hinkley Point: Part II

Various cost scenarios can be run, based on projected compounding rates of inflation and forward base-load electricity prices. However, here is a snapshot of the ‘net present cost’ in 1st April 2020 ‘money of the day’ can be calculated simply, if just to give the reader ‘a feel’ of the cost of the arrangements. The calculation is based only on publicly available information. Referencing data freely available online, offered by the Office of National Statistics, the Bank of England and the 451 page contract itself, posted up on the UK Government website here.

Some important, certainly wished-for information seems to be missing, unclear or redacted. So the calculation below may not give a completely reliable picture just yet. Although they will hopefully give the reader a good idea of the figures UK consumers could be looking at.

Let’s consider a successfully-completed project; a twin 1,600Mega Watt reactor power station which generates electricity at a rate of3,200 MW over 35 years, 24 x 365 x 35 hours in total, operating on average 91% of the time (the load factor depicted in the CfD contract). The developers, CGN & EDF finally secured a strike price of £89.50/MWh though the prevailing strike price is guaranteed to have rise with CPI, escalating every six months, backdated to October 2012 and compounding thereafter ’til the natural termination of the Contract in 2059/60. In this case, consumers effectively pay to CGN and EDF the difference is between the prevailing strike price (£89.50/MWh in 2012 money) and the wholesale market price for base-load electricity. But since October 2012, the operative strike price has already risen, quite significantly. As of 1st April 2020, it is already calculated to have climbed past £121.50/MWh. With the contract due to run ’til 2060 and compounding inflation in the interim, the accent Hinkley’s strike price looks set to climb looks a steep one, under all scenarios in fact.

Base-load prices went on to fall further but even on 1st April this year Forward Season Contract was already languishing at £32.00/MWh on the O.T.C. market. It is important to note that base-load electricity is still being downgraded, regarding by some in trading circles as a ‘residual’ or ‘nuisance’ commodity’ to trade relative to ‘peak-load’ and prized ‘shape’ volumes so the gap between strike and base-load prices may also widen for this reason alone and base-load prices could continue to stagnate and fall in value relative to inflation, whatever the fiscal or monetary environment. Indeed, the gap between the operativeHPC strike price and market price is already quite substantial and it could widen in the years ahead, especially if inflationary conditions change at points over the four decades ahead of us. Consequently, the estimated figure calculated, in today’s money (or 1st April, 2020), should be treated with caution, conservative as they are. However, below is one estimate of the direct cost element of Hinkley’s funding arrangements, based just on theCfD contract.

Scenario calculations are more precise. But to illustrate simply, the cost to UK consumers in subsidising this one power station through theCfD surcharge added to electricity bills can be estimated as:

(£121.50/MWh – £32.00/MWh) x 3,200 MW x 24 x 365 x35 x 0.91 (load factor) = £ 79,907,318,400

This estimate is in ‘today’s money’ or start of current tax year6th April, 2020. By the time the power station comes on-line, likely in 2025, the estimate could be markedly higher; the strike price escalating a further twelve of thirteen times in the interim.

The estimate considers direct funding i.e. through theCFD alone. It excludes any separate taxpayers’ contribution or liability by wayof construction costs (circa £25 billion), project default risk, waste disposal and clean-up or plant decommissioning.

Given the further escalation and separate costs questions above, the estimated cost is likely to be a conservative figure. One scenario being modelled just now (a High Case but perfectly plausible) envisages a significant further loosing of fiscal policy and, in particular, monetary policy by central banks in response to the current pandemic, leading to higher inflation which can become difficult to control above 3.5% . Higher CPI rates feed directly into the strike price, pushing the final cost of Hinkley’s price support towards £115 billion by the time the power station is fully online during 2026.

To the outside world, this order of subsidy might seem a high price to pay for any new power station, barely supplying 5% of national electricity demand on an average basis in this case and inflexible base-load power at that, which will not address the principal security of supply challenge ahead, i.e. to offer both reliable & flexible volumes to manage peaks and troughs in wind, solar and other renewable generation.

The paper does not in any way profess to be ‘the final word on the matter’. Base-load or not, there is no doubt that the UK needs significant new ‘low carbon’ electricity anyway to replace retiring nuclear power stations. However, given the sheer scale of cost involved in supporting this nuclear and others planned soon, it is vital to keep the debate open.

Certain other contract considerations (e.g. a limited degree of possible profit-sharing or cost-sharing with the developers) may need to be considered too and incorporated in the cost estimates predicted. They will still remain high however. Nit all these details are clear or available from the information available to date but this paper should still give the reader an impression of the cost to expect and the impact on finances or electricity bills. As things stand, it does look like ‘the balance’ in terms of market and inflationary risk has been left firmly with the consumer, who will subsidise this and potentially other EPR1 projects to 2060 or beyond in the case of any second such power station.

It would be fair of the consumer to ask why so high degree of inflation (a 100% quotient in this instance) was used for the contract price indexation formula, rather than a typical varied basket of commodity indices, as is normal for any term exceeding 10 or 15 years, 35 in this case. Generally, the negotiators on the seller’s side push for as high an element of inflation as possible and the negotiators on the buyer’s side seek to keep it to a minimum, who would seek to include indices that are directly related to the commodity they are buying as well as the product they go on to produce with this feedstock. Equally, the unusual was the agreement to allow such indexation to CPI to escalate upwards twice each year, rather each year which more usual; especially given such a long period; potentially 48 years in this case over 2012 to 2060 so 96 upwards-only and compounding re-adjustments to the strike price.

Equally to ask why, in the case of the near identical EPR1 project at Olkiluoto which started construction before Hinkley Point C, was able to proceed although without the same concessions made by the Finnish taxpayer or consumers in terms of their expected scale.

Such questions are important given discussions taking place now with the same developers in respect of a second such power station destined for Sizewell, albeit based on an alternative Return on Asset Base (RAB) model. Although very little information is still available and the actual details are unclear at the moment. In conjunction, such talks will include discussions over a third new-build plant, a ‘first of its kind’ thorium nuclear reactor of Chinese design which CGN wants to take a lead in building at EDF’s Bradwell facility in Essex.

About the Author

Dominic Whittome is an economist with 25 years of commercial experience in oil & gas exploration, power generation, business development and supply & trading. Dominic has served as an analyst, contract negotiator and Head of Trading with four energy majors (Statoil, Mobil, ENI and EDF). As a consultant, Dominic has also advised government clients (including the UK Treasury, Met Office and Consumer Focus) and private entities on a range of energy origination, strategy and trading issues.

Prospect Law is a multi-disciplinary practice with specialist expertise in the energy and environmental sectors with particular experience in the low carbon energy sector. The firm is made up of lawyers, engineers, surveyors and finance experts.

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