Kriegers Flak
How will policy, law and financing affect a combined
solution project
Aarhus University, Business and social science
The department of Economics and Business
The department of Law
Autumn 2012
Academic Advisors:
Author:
Birgitte Olsen (Law)
Øystein Granheim
Erik Strøjer Madsen (Economic)
Abstract
The European Union is motivated to strengthen the electricity network and focus on
renewable energy to prepare for future energy needs. Krigers Flak is an important project
in this future because it combines offshore wind farms and transmission between three
countries. The thesis provides a Krigers Flak risk analysis and shows that several obstacles
must be overcome to make it a successful project. Especially is there challenges regarding
allocation of cost versus benefits as different regulations and interests differ among the
stakeholders. The differences especially obstructs effective coordination to the planning
and construction in the project.
The economic analysis shows that integrating the projects stakeholders will make them
collaborate better and incentives are channelled more efficient to the project itself. High
construction costs make the project rely on adequate and reliable revenues to pay for the
initial capital investment. Economic theories recommend long term contracts to reduce
market risks and two of three national authorities involved in the project have used this to
support wind farms investments. The other part of the project however (interconnection),
must rely on adequate regulated remuneration, something that can be challenging with new
technical demanding and more expensive projects.
To intensify new energy sector investments the European Commission has opened up for
unregulated and independent projects (merchant investment) that can solve Kriegers Flak
coordination problems and providing adequate remuneration for the risk taken. A legal
analysis will show if an exception is possible.
Table of Contents
I: Introduction ........................................................................................................................ 1
II: Problem formulation ......................................................................................................... 3
III: Delimitation ...................................................................................................................... 4
Chapter 1- Introduction to the third energy package ....................................................... 5
Chapter 2 - Kriegers Flak .................................................................................................. 10
A)
Risk analyzes for Kriegers Flak ............................................................................. 16
Chapter 3 - The electricity market and regulations on electricity transmission and
generation ............................................................................................................................ 21
A)
A Natural monopoly`s incentives to invest in an interconnector ........................... 22
B)
Balancing cost for the electricity network ............................................................. 23
C)
Grid connection cost .............................................................................................. 23
D)
Regulated tariffs in Sweden, Denmark and Germany............................................ 26
E)
Congestion management ........................................................................................ 29
F) Congestion rent .......................................................................................................... 31
G)
Revenue and cost allocation of an combined solution project ............................... 33
H)
Wind power ............................................................................................................ 35
I)
Conclusion ................................................................................................................. 39
Chapter 4 – The economics of vertical integration and long term contracts in the
power industry .................................................................................................................... 40
A)
Wind farm investment............................................................................................ 40
B)
Economic theory of transaction cost ...................................................................... 43
C)
Financial options – A separate solution or a joint company? ................................ 46
D)
Discussion of financial structure in Krigers Flak .................................................. 47
E)
Monopoly power .................................................................................................... 51
Chapter 5 – A merchant interconnection and competition law ..................................... 53
A)
The Investment must enhance competition in electricity supply. .......................... 56
B)
The level of risk attached to the investment is such that the investment would not
take place unless an exemption is granted. ....................................................................... 63
C)
The interconnector must be owned by a natural or legal person which is separate at
least in terms of its legal form from the system operators in whose systems that
interconnector will be built. .............................................................................................. 64
D)
Charges are levied on the users of that interconnector. ......................................... 65
E)
No part of the capital or operating costs of the interconnector has been recovered
from any component of charges made for the use of transmission or distribution systems
linked by the interconnector.............................................................................................. 65
F) The exemption is not to the detriment of competition or the effective functioning of
the internal electricity market, or the efficient functioning of the regulated system to
which the interconnector is linked. ................................................................................... 66
Chapter 6 – Conclusion: The future of Kriegers Flak. ................................................... 67
List of Literature: ................................................................................................................. 70
Law: ...................................................................................................................................... 76
Law cases:............................................................................................................................. 77
Appendix ............................................................................................................................. 77
List of all appendices:

Annex 1: Assumption for base case scenario (Deloitte 2011) on Danish offshore
wind farm at Kriegers Flak

Annex 2: Calculation of WACC from (Deloitte 2011) on Danish offshore wind
farm at Kriegers Flak

Annex 3: Expected cash flow from Danish offshore wind farm at Kriegers Flak
(Deloitte 2011)

Annex 4: Relation between settlement price and WACC from Danish offshore wind
farm at Kriegers Flak (Deloitte 2011)

Annex 5: Cost and benefits for an eventual Krigers Flak combined grid solution;
(Feasible report on Krigers Flak Energinet.dk, 50Hertz and Svenska Statnät, 2010)

Annex 6: Superficial project finance structure on Krigers Flak

Annex 7: Regulation (EC) No 663/2009 Article 8

Annex 8: Map over interconnectors in Northern Europe
I: Introduction
Today, facing increasing demand of energy, decreasing supply of crude-oil1 and a
increasing recognition that pollution from burning fossil fuels is hostile to our planet`s
environment. Currently EU imports 50% of its energy supply from countries outside
Europe2. Dependence on crucial inputs from others countries recourses is reducing EU`s
competiveness now and could hamper economic growth in the long term. The cost of
energy imports, increased six-fold since 1999, from €84 billion to €488 billion in 20093.
Renewable energy in terms of for example large scale wind, hydro and solar power plants
could be the answer to reduce our dependency on fossil fuels. And since Europe cover a
large territory it could be possible to hedge the changing weather conditions that affects the
reliability of sun, water and wind energy. However, the fact that we cannot store electric
energy effectively and need a reliable energy source means that the only solution is to
expand and improve the European electric grid. In a conservative base-case scenario for
2050 is an idée of a smart grid that connects whole Europe, North Africa and countries east
of Europe. Wind power would dominate the production supported by energy created by
sun and biogas, backed up by hydro-power for a 100% clean energy supply4.
Plan A should always to have electricity-supply close to the demand. Plan B where
generation of electricity is made further away should only be an option if plan A cannot be
achieved without severe cost for the environment. With today’s technology nuclear power
production is the generation with less environmental cost in plan A. However there are
other risk factors like radioactive waste involved and without better technology5 this option
could seem unattractive6.
The second challenge to plan B is not only to finance new huge costly projects, but also to
connect all the sources with adequate capacity to serve demand from hour to hour.
1
http://www.theoildrum.com/tag/peak_oil
http://europa.eu/legislation_summaries/energy/external_dimension_enlargement/l27037_en.htm
3
http://ec.europa.eu/energy/efficiency/eed/eed_en.htm
4
Low Cost but Totally Renewable Electricity Supply for a Huge Supply Area, by Dr.-Ing. Dipl.-Phys. G.
Czisch, 2006 and http://www.energynautics.com/downloads/competences/energynautics_EUROPEANGRID-STUDY-2030-2050.pdf
5
http://energyfromthorium.com/
6
http://www.guardian.co.uk/world/2010/aug/30/angela-merkel-commits-nuclearenergy?INTCMP=ILCNETTXT3487
2
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The energy sector in Europe can be more effective by a well function market supported
with an efficient electrical grid. It is not all about generation of power but also transmission
and transformers that makes the system effective. This future can be backed up by future
technologies like thorium nuclear generation7 and salt water energy8 and transported with
the use of grafèn9. However, science and technologies available today must prove if self
feasible and that constructions can be made without too high expenses.
In December 2008, as part of the fight against climate change, the European Union adopted
its Energy and Climate package endorsing three objectives for 2020: first a 20% increase in
energy efficiency, second a 20% reduction in greenhouse gas emissions (compared to
1990), and third a 20% share of renewable energy sources (RES) in final energy
consumption10. In the European Commission's Energy Roadmap for year 2050 wind
energy is expected to provide most of the extra renewable energy required in electricity
generation to meet the objective of 55% use in gross energy consumption, from today’s
10%. Generation from RES will be supported by gas and phase-out coal, oil and nuclear in
medium to long term.
Overall, the variability of these intermittent technologies can be dealt with by
interconnection capacities, to a certain extent. Strong interconnections11 between
neighbouring countries are crucial for greater wind-power and solar-panel penetration in
the European system. This larger network will create a more efficient use of the generation
capacity and will consequently create higher energy savings.
In a communication from the European Commission12 of energy priorities for 2020 and
beyond they identified that investment in energy transmissions projects with European
interests will need investments for approximately 200 billion EUR13. Because of slow
permitting procedures and “difficult access to finance and lack of adequate risk mitigation
mechanisms” the European Community (EC) fear that 100 billion EUR of needed
7
http://energyfromthorium.com/about/
http://www.statkraft.com/energy-sources/osmotic-power/
9
http://www.forskning.no/artikler/2010/oktober/269253
10
http://ec.europa.eu/competition/sectors/energy/environment_en.html (The Commission's Energy Roadmap
2050 document)
11
A transmission line which crosses a border between two Member States or more and which connects the
national transmission systems. Regulation (EC) No 714/2009 art 2(1)
12
The European Commission is the executive body of the European Union, responsible for proposing
legislation, implementing decisions, upholding the Union's treaties and day-to-day running of the EU. From
now on The European Commission will be named The Commission.
13
COM (2010) 677/4 - Energy infrastructure priorities for 2020 and beyond
8
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investment will not realised. Cross-border interconnections are central for security of
supply, transport renewables and foster competition among energy companies in Europe.
Electricity transmission and renewable energy is highly connected. After the economic
crisis in late 2008 all European countries has been suffering economically. This has in turn
made all investors careful from investing in capital intensive renewable generation and
interconnectors that both are dependent on government policies and subsidies. Unclear and
shifting incentives and reformed support schemes has created investment uncertainty
across Europe. Clarity about future EU policy directions in the long-term is needed to
provide energy sector predictability and further investment.
Another major challenge is to coordinate and optimise network development from the
individual countries tariff setting and regulatory incentives to collectively correspond to
the long-term investment challenge and to complete the internal energy market14.
II: Problem formulation
The Kriegers Flak project is a combined solution project that unites offshore wind farms
and interconnections between three countries. This investment will increase electricity
trade, secure supply and add more renewable generation of electricity15. The combined grid
solution will involve more three member states with a different legal framework and
benefits of the project. In the thesis I will assess whether the regulatory framework
inspiring investment in Krigers Flak in light of coordination of connection regimes,
support schemes and financial factors.
The project is planned in North Europe that is the most developed power market in EU and
if successful it will confirm that European policy and cooperation has proven successful
and will influence other projects with the same design. This does Krigers Flak to a project
of great importance and is even described as a project that must not fail16.
In chapter 1 the thesis will start with a presentation of the” third energy package” that
consists of regulations and directives for Europe’s electricity and gas market. In chapter 2
the Krigers Flak project will be presented followed by a risk analysis with a focus on legal
14
SWD (2012) 149 final and COM (2011) 658 final. Communication on energy infrastructure and renewable
energy
15
Kriegers Flak Combined Grid Solution Feasibility Study; The Project Partners 50Hertz Transmission,
Energinet.dk, and Svenska Kraftnät, 24 Feb 2010
16
EUROPEAN COORDINATOR ' S SECOND ANNUAL REPORT Connection to offshore wind power in Northern
Europe, Adamowitsch, Georg Wilhelm, 2009.
3|Page
and regulatory aspects. From the analysis it will be highlighted three questions that arise
and that will be the foundation of the rest of the thesis. In that context it will in chapter 4
be presented how renewable energy producers and electrical grid owners are regulated with
focus on the northern power market. In chapter 3 the thesis will analyse if corporate
structure and transaction cost theory with focus on integrating the stakeholders and long
term contracts and how this relates to competition and investment in the electricity market
and in projects like Kriegers Flak17.
Further in chapter 5 the discussion will be on how EU competition law has significance in
the European power market. In particular the introduction of specialised regulations
supporting investment will in some circumstances contradict to superior EU competition
law and thereby be void18. In the report to the European commission Roland Berger19 sees
the insufficient regulatory stability as the greatest challenge in the financing of energy
infrastructure projects.
Chapter 6 will present concluding remarks and look at the latest guidelines from the
Commission20 to predict the future for the combined grid solution, Kriegers Flak.
III: Delimitation
This thesis will not analyze policies or regulations in a way that recommends any certain
direction, but it analyze how today’s frameworks in Sweden Denmark and Germany
affects a combined solution project like Krigers Flak. As the project involves wind farm
electricity generation the thesis will not address other renewable generation even those also
can be contained in the same regulation framework.
The calculations in the feasible studies are from Deloitte and the joint rapports from
50Hertz, Energinet.dk and Svenska Krafnät. As this project is in its late planning phase and
early construction phase (Germany) my assumptions is based on those reports plus
knowledge from similar projects. This thesis takes therefore reservations on changes in
future calculations.
17
Competition, contracts and the electricity market. Glachant et al, 2011
Long-term Supply Contracts in European Decentralized Electricity Markets: an Antitrust Perspective,
Hauteclocque, 2009
19
The structuring and financing of energy infrastructure projects, financing gaps and recommendations
regarding the new TEN-E financial instrument. 2011. Roland Berger strategy consultants. From now on
referred to as Roland Berger 2011.
20
Guidelines for trans-European energy infrastructure and repealing Decision No 1364/2006/EC, 19.10.11
18
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Chapter 1- Introduction to the third energy package
The electricity sector in Europe contained earlier of vertical integrated natural monopolies
that was largely state owned. The firm contained of individual utilities that governed over
electric generation, transmission, distribution and retail supply. New political and
economic thinking that favored free markets took place during the 1970s in combination
with discoveries of new technology like combined cycle gas turbines (CCGT21)22.
Governments recognized that the electricity supply sector (and other sectors as railroad,
airlines, hospitals) could be more efficient if split-up (unbundled) and privatized. The use
of new technology and increased competition would decrease electricity cost for
consumers and retain security of supply. However, network companies’ witch operates
electricity transmission and distributions were believed to be regulated as natural
monopolies23. A network is simply too expensive to be duplicated by each participant and
are better shared. Good performance of the competitive part (wholesale and retail
suppliers) depends on high performance of the regulated network. The restructuring of the
energy market and regulatory reforms in continental and north Europe has not followed the
textbook liberalization model described by Joskow. The model of a successful reform
includes; privatization of state-owned enterprises, vertical and horizontal restructuring to
facilitate competition and mitigate potential self dealing and cross subsidization problems,
performance based regulation to network firms to make them reduce cost and improve
service quality, and a good wholesale market design that facilitate efficient competition
between generators, retail and industrial customers24. The purpose of having a good
regulatory framework is to create the best working conditions for private actors like low
network cost, reliability, network expansion to support supply and demand and
effectiveness to support a robust competitive wholesale and retail market.
Liberalization of the electricity sector was supposed to bring many benefits, more efficient
allocation of generation and transmission capacities, and the improvement of the
competitiveness of the European economy as a whole. However, 25 years of energy market
liberalization has told that it is not an easy task. The trading of electricity output between
21
Combined cycle power plant: a gas turbine generator generates electricity, and the heat of its exhaust is
used to make steam, which in turn drives a steam turbine to generate additional electricity. This last step
enhances the efficiency of electricity generation, and combined-cycle plants can achieve efficiencies of 60%.
22
Incentive Regulation and Its Application to Electricity Networks, Joskow. 2008. Page 547 -548
23
Lessons learned from Electricity Market Liberatization, P. Joskow, 2006, p 11
24
Lessons learned from Electricity Market Liberatization, P. Joskow, 2006, p 12-15
5|Page
countries was part of this strategy. Interconnections are for that reason vital to facilitate
electricity trade between Member States. However, the expected development where slow,
mostly because it was no plans for a common European network. The governments did not
longer have control over the energy networks, but had to stimulate their activities through
regulations (network tariffs, access rules, construction permits etc). The politicians
believed the economic market would unfold itself and provide new interconnections, but
slow market liberalization in addition to little economic motivation from national
regulators resulted in that maintenance, third party access and development of
infrastructure decreased25.
An energy sector inquiry26 was launched to look at the energy and gas market
imperfections described above and how to make it work better. To follow up the analyze
done from the sector inquiry the European Commission proposed the Third Energy
Package (TEP) that contains three regulations and two directives27. The most important
provisions in the TEP are; unbundling or split supply/production of generation28 from the
transmission system29 of vertical integrated companies, regulatory oversight and
cooperation, transparency and access. The third energy package obligate the transmission
system operators (TSOs) in each country to open the electrical network for third party
access and remove barriers preventing unfair competition conditions. As all TSOs has
characteristics as a natural monopoly it requires that they are unbundled, independent and
sufficiently regulated so all the users will get a non-discriminatory access and transparent
service to minimize risk of anti competitive behavior30. From the Commissions perspective
effective separation of supply and generation activities from network operations is the most
effective tool to promote investments in infrastructures31.
The business for a Transmission System Operator is to (1); to carry out maintenance to
keep the transmission grid running (from example prevent threes falling on the
25
Energy Networks and the Law, Guayo and Pielow, 2012. Page 354
DG Competition, Report on Energy Sector Inquiry, SEC(2006) 1724 final of 10.01.2007. From now on
referred as Energy Sector Inquiry 2007
27
Directive 2009/72/EC, Directive 2009/73/EC, Regulation EC 713/2009, Regulation EC 714/2009,
Regulation EC 715/2009
28
production of electricity from a power facility
29
Transmission of electricity from a electrical generating station via a system to a distribution system
operator or directly to the consumers.
30
Directive 2009/72/EC, preamble 4
31
Directive 2009/72/EC, preamble 10,11
26
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transmission lines) and ensure security of a network and to provide reliable power-flows to
all consumers32. (2); operate the physical electrical grid so no dangerous situations occur
when overcapacity in a part of the transmission line or a capacitor (Device where the
electricity is temporarily stored). (3); operate the transmission control to orchestrate the
right amount of power from different sources of generation to the demand-side every hour
all year around. (4); Expand and upgrade transmission assets where needed and deal with
the necessary economic estimation, environmental approvals and construction design to
develop the optimal European network.
The energy sector inquiry report gives the member-states two options of unbundling and
one of them has to be transposed into national law; Ownership unbundling means that no
supply or production company active anywhere in the EU can own or operate a
transmission system in any Member State of the EU (and vice versa)33. The second option
is the independent system operator (ISO) that gives the opportunity to let the transmission
networks remain under the ownership of companies, but transferring operation and control
of their day-to-day business to an ISO. It is also a form of ownership unbundling, but with
a trustee34.
France, Germany, and other countries presented at the end of January 2008 a proposal for a
third option. This model, the Independent Transmission system operator (ITO), envisages
energy companies retaining ownership of their transmission networks, but the transmission
subsidiaries would be legally independent joint stock companies operating under their own
brand name, under a strictly autonomous management and under stringent regulatory
control. However, investment decisions would be made jointly by the parent company and
the regulatory authority. It is also named a legal unbundling.
All the original electrical network companies involved in Krigers Flak (Energinet.dk,
50Hertz and Svenska kraftnät) are fully unbundled TSO`s and regulated by national
authorities35. All have a natural monopoly in their country (50Hertz share the grid in
Germany with three other TSOs but are dominant in the north region).
The ownership structure is slightly different among the three TSO`s. The Danish TSO
Energinett.dk and the Swedish TSO Svenska Kraftnät is 100% owned by the state. 50Hertz
was previously Vattenfall Europe Transmission (a subsidiary from the Swedish state
32
Directive 2009/72/EC, Article 12 and 25
Directive 2009/72/EC, Article 9
34
Directive 2009/72/EC Article 13 - 16
35
Directive 2009/72/EC 2009 Article 35 – 37
33
7|Page
owned company) but because of the unbundling requirements they sold their grid assets to
50Hertz Transmission GmbH Germany. 50Hertz is a TSO like Energinett.dk but privately
owned by the Belgium TSO Elia (60%) and an Australian found called Industry Found
Management (40%)36.
To optimize the development of the grid and increase cooperation the Agency for the
Cooperation of Energy Regulators (ACER) was created in 201137. ACER provides nonbinding framework guidelines, opinions and recommendations on necessary binding rules
to improve network development and regional cooperation. A part of the third energy
package is also to improve cross border exchange of electricity. The aim of more
competition in the market requires fair rules for network access and general regulations. To
do this, European Network of Transmission System operators (ENTSO-E)38 was created39.
Their work contains of harmonizing network codes40, ensure greater transparency
regarding the requirements for grid development (TYNDP41), draft a roadmap for panEuropean electricity highway42, improve public acceptance for electricity infrastructure,
promotion and research for smart grids and in general improve the cooperation between
TSOs. All this should be carried out in compliance with the EU competition rules.
The technical and operation design that the energy companies in each MS must follow are
only minimum standards43. What has happened is that experts in the specific field in each
MS have required their standards founded on the country-specific conditions. This has in
turn made technical standards different in most of the countries in EU44. In that context the
industry itself has been ahead of its time and standardized some technical norms, but not
all45. In the same time the MS and the community as a whole has an obligation to promote
interconnection of national electricity networks46. Guidelines from the Community shall
specify the objectives, coordination, priorities and measures for the establishment of a
36
Annual Rapport, Elia group 2011
Regulation (EC) No 713/2009, establishing an Agency for the Cooperation of Energy Regulators
38
Regulation (EC) No 714/2009, article 4, 5 and 6-8 for network codes.
39
ENTSO-E work program, December 2012
40
The grid-code lay down the technical specifications that electricity-generating plants must meet to ensure
the proper functioning of the relevant transmission system.
41
The Ten Year Network development plan. 2009
42
Defines the relevant technical/technological, financial/economic and political/socio-political issues
43
Directive 2009/72/EC and 2009/73/EC
44
Energy networks and the law. Roggenkamp, 2012. Page 121.
45
European Committee of Standardization, CEN, CENELEC and International Organization for
Standardization (ISO)
46
Treaty of Maasticht, 1992, article 3n and title XII of the treaty (XVI TFEU)
37
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trans-European network (TEN-E)47. On the basis of these guidelines The Community
identifies projects of interest and appoints a coordinator like Georg Wilhelm Adamowitsch
in the case of Kriegers Flak48 to help the parties cooperate and coordinate investments.
The Nordic Electricity Exchange, NordPool Spot (which include Germany49) coordinate
trade between the countries involved in Kriegers Flak. The regulators in Scandinavia
cooperate through NordREG and are part of the Council of European Energy Regulators
(CEER). They again work together with the Agency for the Cooperation of Energy
Regulators (ACER) that covers consumer issues, smart grids and sustainability in
Europe50.
The analysis of the integration of the third energy package in relation to involved parties to
Krigers Flak is positive. The TSOs and the electricity market around the project have a
rather successful reforms and the European policy of unbundling, regulatory environment,
cooperation between network companies and market-trading development.
Even with presumably good cooperation and one of the best market reforms in Europe an
innovative project like Krigers Flak face numerous obstacles and setbacks. To find the
problems and eventual solutions to overcome the challenges to complete the project, the
next chapter will start with analyzing Krigers Flak itself.
47
Decision No 1364/2006/EC of the European Parliament and of the Council of 6 September 2006 laying
down guidelines for trans-European energy networks and repealing Decision 96/391/EC and Decision No
1229/2003/EC.
48
European coordinator`s (second to fourth) annual rapport, started in 2009, by Georg Wilhelm
Adamowitsch
49
The Nordic Electricity Exchange and the Nordic Model for a Liberalized Electricity Market, NordPool
Spot Page 14
50
http://www.energy-regulators.eu/portal/page/portal/EER_HOME
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Chapter 2 - Kriegers Flak
From Energinet.dk
In 2009 Energinet.dk, Svenska kraftnät and 50Hertz concluded it was possible technical,
economical and environmentally to combine offshore wind farms connected with an
interconnector between Sweden, Denmark and Germany. The area called Kriegers Flak
(KF) where the wind parks is planned to be construct is well suited because of the excellent
wind conditions. Up to 1600 MW wind power generation in total was planned to be built;
KF-1 as part of Germany with 400 MW, and the wind farms of Sweden and Denmark with
600 MW capacity each51.
The wind farms were originally separate national projects and would only connect each
wind farm to the country intended with no interconnector. After a meeting with the
European coordinators52 in 2007 they decided to cooperate more closely on a collective
solution. Early in the progress the collaboration only resulted into exchange of information
in technology and environmental knowledge53. Later the three owners in the context of
each country`s TSO found positive benefits of an increased cooperation on a shared
combined solution. The intended solution would bring renewable energy to European
consumers; make the energy market less dependent on fossil fuels by attributing to the
generation mix and secure electricity supply by providing more interconnection capacity.
51
An Analysis of Offshore Grid Connection at Kriegers Flak in the Baltic Sea, Energinet.dk, Svenska
Kraftnät and Vattenfall Europe Transmission, 2009. Page 3
52
The European coordinator shall contribute to the cross-border dialogue between the stakeholders
(Governments, Regulators, Transmission System Operators, Industry, etc) and promote the European
dimension of the grid development.
53
http://www.erneuerbare-energien.de/english/press_releases/archive/16th_legislative_period/pm/40570.php
10 | P a g e
Krigers flak is one project but the contracting and construction of the different parts is
made individually by each TSO. Each TSO has responsibility for the creation and design
of the different components in their area but are cooperating on the overall plan and layout.
The cables and components are constructed by promoting corresponding construction
contracts through a tender procedure. As the promoter in this case is a public undertaking
according to the Utilities Directive 2004/17/EC, they have to follow the procedure and
rules of public procurement. The financing of the different parts of Kriegers Flak and
generated cash flow from the separated parts will be shared. But how and when is not
concluded yet.
The combined solution involves the use of High Voltage Direct Current (HVDC) cables.
This will need extra converters as the onshore grid use Alternative Current (AC) cables. In
addition, the Scandinavia and the German electricity market have different electrical
frequency zones and must be converted before entering each-others markets. The extra cost
for a combined grid solution in relation to a separate solution will be approx € 320
million54. To compensate some of the extra cost for a project of European interest the
project is awarded a financial support from EU`s Energy Program for Recovery with the
allocation of a maximum amount being 150 billion Euro55.
The wind farm KF-1 in the Germany area, also called Baltic 2 is expected to be in
operation from 2013. The 80 wind turbines will be delivered by Siemens Energy and will
have a total capacity of 288 MW56. The early development of the German project can be
related to the former preparation of Baltic 1 (48 MW), a wind park in close proximity to
Baltic 2 that was planned before the Kriegers Flak project. Baltic 1 is separate from the
Krigers Flak area but will be connected with Baltic 2. Another reason for the early
completion of German wind farms is the use of less technical developed wind turbines
(3.6MW) and AC cables and to connect the wind farms to the onshore grid. The German
company EnBW57 is developing the wind farm project for 50Hertz Transmission58.
54
Kriegers Flak Combined Grid Solution Feasibility Study 2010. Page 7
http://ec.europa.eu/energy/eepr/projects/files/offshore-wind-energy/baltic-kriegers-flak_en.pdf
56
EnBW has also signed a cooperation agreement with wpd which is one of Germany's leading project
development companies in the area of renewable energy. As outlined in this agreement, wpd will be provided
with services to support it during the further development and implementation of the project.
57
http://www.nwe.siemens.com/denmark/internet/dk/Presse/meddelelser/general/Pages/enbw_indgaar_aftale_
med_Siemens_om_offshore_vindmoellepark.aspx
58
In Germany, construction and extension of large electricity connections demands a special planning
approval (article 43 in Energiewirtschaftsgesetz, 2005). Germany have a tariff system based on incentive
55
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The Danish wind farms are called KF-3 with the total capacity of 600 MW with the use of
6 MW wind turbines. It is planned to be finished at 2016-2017 and will connect inland
electrical system and the offshore wind farm with new and experimental HVDC cables. At
March 22, 2012 the Danish government gave approval to start the building of KF-359. The
electricity produced in KF-3 will be sent through AC cables to a converter-station that will
make it transportable with a DC cable to the Danish inland (400 MW trading capacity). A
second HVDC cable will transport electricity from the converter station on Kriegers Flak
or from Denmark to German inland (600 MW trading capacity) 60.
A major setback occurred when the Swedish TSO, Svenska Kraftnät decided early in 2010
that their project, KF2 will be postponed until further notice. They concluded with that
Swedish offshore policy did not benefit the project and that economic support and
technical conditions were missing61. However, in the planning of Kriegers Flak they made
it possible for a connection to Sweden in the future.
To find the economic viability of the Krigers Flak wind farms the TSO`s calculated the
NPV (Net Present Value) of the project. The NPV is the future cash flow, both revenue and
costs defined at a present value and are discounted from a rate of return that reflects the
risk of the project. In an analysis from Deliotte62 they consulted possible investors that
gave feedback of their expected rate of return on an investment for an offshore wind farm
project63.
If the NPV is zero, an investor will get a minimum internal rate of return (IRR) they expect
of a particular investment (NPV =0). The discount rate is supposed to reflect the future risk
of the projected cash flow and thereby its repayment ability. For Kriegers Flak the discount
rate represent the investors’ target of a specified rate of return the and thereby reflects the
projects profitability. To evaluate the IRR from the base case scenario (See annex 1 for an
overview) Deloitte used Weighted Average Cost of Capital (WACC)64. The base case
regulation, with are based on efficiency goals. To invest in new transmission a necessity-test approval from
an energy regulator is required.
59
http://www.energinet.dk/DA/ANLAEG-OG-PROJEKTER/Anlaegsprojekter-el/Havbaseret-elnet-paaKriegers-Flak/Sider/default.aspx
60
In periods of production overcapacity of energy in Scandinavia, it can be sold to the central European
market.
61
European coordinator' s second annual report, G Adamowitsch, 2009, page 10
62
Analyse vedrørende fremme af konkurrence ved etablering af store havmølleparker i Danmark, 2011,
Deloitte. Page 69 and 175
63
The investors find their expected rate of return usually by comparing alternative investment options.
64
WACC = Rd * (D/EV) * (1-Tc) + Re * (E/EV). Where D/EV is the cost of debt and E/EV is the cost of
equity. Re and Rd is the required rate of return and Tc is the company tax.
12 | P a g e
scenario and the analyses from Deloitte are based on Danish circumstances but can easily
be transferred to the other wind farms in the area.
The result shows that potential investors minimum return of return on the capital invested
is 7.9% (see annex 2 for the calculation)65. If the project is completed on time and with no
further expenses the economic viability will depend on the wind farm produced generation
and the price it gets in the market. The production with full generation capacity is 2728
Gwh/ per year for a 6 MW wind mill turbine. However, there is some efficiency loss like
turbine availability due to maintenance, internal and external loss of wind effects, system
availability, etc66. When the wind farm is operated on full scale (around 2019), the yearly
production is expected to be 2196 GWh. The electricity generation continues to 2042 when
the wind turbines technical lifetime of 25 years is over and the production is scaled down.
The other aspect for the projects viability is price expected from generating electricity. In
Deloitte`s scenario that is based on Danish tariff subsidies the price is different before and
after 30 TWh of electricity-production. After the production of 30 TWh the feed in tariff
will end after approx 14 years and the produced electricity must be traded on the Nordpool
spot exchange (annex 3).
The cost of the converter station and connection to the grid (2.8 billion Dkr) are taken by
TSO, Energinet.dk in the Danish scenario. In total the subsidies will reach 11.9 billion Dkr.
The Germany subsidy scheme is almost the same as the Danish and will be analyzed
further in chapter 2.
The cost of construction and operations is very important to evaluate as this affect the
pricing of the project output. Half of the construction costs are the wind turbines. The
installation of cables is only 4 % of the construction cost because Energinet.dk and
50Hertz is obligated to connect the wind farm to the onshore grid67. The biggest operation
costs are transport of personnel (38% of the costs) to and from Krigers Flak to repair
eventual damages and the physical gear and parts that must be changed (35%). The rest are
personnel cost (10%) and insurance (14%). The costs are expected increasing from 506
Million Dkr in 2020 to 768 million in 2042. The reason is the increased wear-damages on
the wind mills as they are aging.
65
One interesting point in the assessment is the project risk (political, competition, technological risks etc.)
of 1.5% that seems small for a combined project.
66
Ibid 62. Page 174
67
Ibid 59 and 62
13 | P a g e
The result from the evaluation of the economic viability from Deliotte`s scenario is shown
by the projects estimated cash flow.
There is huge cost in the first 4 years because of the initial construction cost of the offshore
wind farm. The cost peaks in 2018 where the costs are estimated at 0.8 billion Euros. with
the total project cost around 1.5 billion Euros68. After the construction period, a steady
positive cash flow of over 1 billion a year will continue until 2033 where the subsidy ends.
From that year and the following lifetime of the project the cash flow will be slightly under
one billion a year before the closing stages in 2042-43. What one should notice about this
free cash flow overview of an offshore wind farm is the huge initial and low variable cost.
With 1.5 billion of initial cost it will take around 12 years to repay it without considering
the interest-debt. The guaranteed financial support is around 14 years that means that the
investors rate of return is be collected after that period.
The cash flow estimation with the necessary return of 7.9% for the investor the settlement
price will be 78.1 cent/kWh (2010 prices) to reach the level where the NPV is zero
(Price/WACC graph, see annex 4). Deloitte has registered that the expected rate of return
on wind farms in the following years has been in average 2-3% over the minimum value
and for that reason they expecting the same result for Krigers Flak. As a result with the
base case scenario Deliotte expect a settlement price between 78.1 and 97.9 øre/kWh in
2010 prices (or between 7.9-11% rate of return).
The analysis shows that the KF wind farm investment has small downside risk with low
cash flow variability and long duration due to state support. However, the offshore wind
farm investment is largely dependant on high initial cost returns that is supported by
government support.
68
Ibid 62. page 81
14 | P a g e
The other part of the project is the interconnector. The revenue from congestion rent
derived from the interconnection is usually regulated so the survey done by the three
TSO`s and the consulting firm Econ Pöyry focused on the social benefits of the
interconnection. In this regard, the German and Danish TSO`s is obligated to connect wind
farms, so by adding an interconnector that will create a future economic benefits privately
and socially is a logical solution.
With use of a EFI`s Multi area Power Scheduling (EMPS)69 model they measured the
social economic benefit of a combined grid solution. The benefits of interconnect two
countries is that electric capacity that not is planned used the next day can be sold
transferred to another country if needed. An interconnector is economical positive when
there is a price difference between two connected countries. The business plan is when
there is overproduction of energy in Denmark or/and KF that make the electricity cheaper
in that market can be sold to Germany where the electricity is more valued.
In general it shows that the utilization of the transmission lines improves security of supply
by exploiting surplus capacity and accordingly better access to green energy to those who
are connected to the grid. The social benefit derives from the lower expected price level
between the countries in the long term. The feasibility study of cost versus benefit
concludes that only under the worst case scenarios the benefits were lower than the
estimated extra benefits of a combined solution (see a graph over cost vs. benefits in annex
5). However, as with the construction of wind farms, the interconnection has huge initial
capital costs (1.4 billion Euros70). The economic analysis prepared by Deloitte71 is positive
to the construction of a cluster of wind farms at Kriegers Flak and the economics of scale it
creates. This could also attract other wind farm developers to the same area if successfully
conducted.
The conclusions of the feasibility studies on wind farms and interconnection are positive in
the light of strengthening the European electricity market that has benefits for the
consumers, economically and environmentally. Krigers Flak will therefore fulfill the
European plan of better security of supply, more trade and introducing environmental
69
EMPS was originally developed for hydro scheduling purposes but it can also be used for price forecasting.
The model can optimize the electricity production in interconnected areas by using the different market
prices and interconnector capacities.
70
Kriegers Flak Combined Grid Solution Feasibility Study (2010). Page 5
71
Analysis on the furthering of competition in relation to the establishment of large offshore wind farms,
Deloitte (2011)
15 | P a g e
solutions72. The wind farm and interconnector in itself is feasible and it is technical and
economical possible to make a combined solution. But the innovative solution also bringup new challenges, especially regarding coordination of different national frameworks. The
next section will therefore focus on the probable risks that must be solved at a company or
national level to make the Krigers Flak project possible.
A) Risk analyzes for Kriegers Flak
Kriegers flak is a large, technological and innovative project. In combination with a
decentralised electricity market model where generation and transmission is separated
investors must bear the risk of uncertainties related to financing the construction and make
it operate efficient. In this risk analyses it will be focused on the need for coordination
between stakeholders73 and national regulatory framework that will be important for its
success.
The regulatory and industrial cooperation between countries in the Nordic region is high,
but still the regulators and part of the markets operate differently. There are not only TSO`s
and wind farm developers that have interest in combined solution combination. All the
construction firms’ pure capital providers and technology companies assist to a
successfully Kriegers Flak
The investors assess in relation to the overall risk of the project how much return on the
assets they should get. A risky project demands equally high returns on the capital invested
and if the risks are too severe the project can be cancelled or delayed to some of the risks
are dealt with. The riskiness of a KF project has already been shown; The Swedish TSO
left the project, the German wind farm projects has already started without the others
(Baltic 1) and Danish wind farm capacity has been downscaled.
The essential risks that are highlighted both from individual consultant firms, owners of the
project and organizations for renewable energy in a project like Kriegers Flak are
regulatory, policy and financial risks. These are topics that will be discussed more in detail
later in the thesis, although in the analysis below several other factors will also be
presented to get a general overview of the challenges emerging from Kriegers Flak.
72
See the preamble in Regulation 714/2009/EC (Third energy package)
Stakeholders can be any entities within or outside an organization (project) that is a sponsor, have interest
in successful completion or have any effect on it, positive or negative.
73
16 | P a g e
The risks of Kriegers Flak have been organized in different stages and will be discussed in
the following order; pre completion risk and operating risk, sovereign risk and financial
risk.
A-1)
Pre completion and operating risk
The planning of the combined grid project need coordination by all parties involved. One
coordination problem is the completion of the different stages of the project. Those who
construct and own the wind farms must coordinate the completion of the cables that
(constructed by a third party and owned by the TSO`s) connects the onshore grid to the
wind farm. The planning of connecting wind farms should be placed on that undertaking
that actually make the physical connection and would help reduce some coordination
problems. But some TSO`s like the Swedish don’t have that responsibility.
The Environmental Impact Assessment (EIA) procedures must be approved and can take
2-3 years74 and is many times complex75. Even with extended studies small environmental
impact has been found and no extra risk is added by building a combined solution76. The
extra impact will come from more and bigger HVDC cables and the DC/AC converter.
However, the three countries affected have different legislation on environmental standards
for concerning their coastal areas. By collectively create a rapport for the same area will
reduce the overall time usage by getting one permission instead of three and consequently
reduce the cost for environmental studies. Today, the possible misfortune of different
conclusions in the environmental rapport is possible.
An operational risk is the uncertainty of the construction and maintenance cost added
because of the complexity and inexperience to assemble a combined solution77.
It will also be needed to balance demand and supply so the right level of electricity always
flows through the grid. The TSO`s that operate the electrical system and each countries
regulators must prepare for the extra inflow from another market system, and synchronize
74
Kriegers Flak Combined Grid Solution Feasibility Study, 50Hertz, Energinet.dk, 2010
The project, falls under Annex II of Directive 85/337/EEC with regard to EIA. According to national
regulations offshore wind farms with more than 20 units are subject to a full EIA including public
consultation. The competent authorities granted a conditional approval after extensive public consultation
and confirmed with the permit that significant negative impacts on nature conservation sites can be excluded.
76
Kriegers Flak environment, www.vattenfall.se/krigersflak.
http://www.vattenfall.se/sv/file/Miljokonsekvensbeskrivning_11335575.pdf
77
An Analysis of Offshore Grid Connection at Kriegers Flak in the Baltic Sea, Svenska Kraftnat,
Energinet.dk, Vattenfall Europe Transmission. 2009. Page 17-18
75
17 | P a g e
the technical and physical form of electricity. When integrating additional electricity from
wind that has variable output it will be necessary to have backup capacity to ensure stable
electricity supply. The extra electricity produced offshore at Krigers Flak also means that
the onshore grid needs to be reinforced.
The new multi-terminal HVDC VSC (multi terminal High Voltage Direct Current Voltage
Source Converter system) that is considered being used for interconnecting Denmark and
Germany is unproven on a large scale project78. The main issue is making circuit breakers
and switchgears79 work on the unstable production of wind power. A coordinated initiative
between a private HVDC cable company and a combined solution project to develop the
needed technology is not yet established.
A-2)
Regulatory and legal risk
The recent financial crisis affects national economies, EU, financial institutions, and
companies. The willingness by these institutions to involve and invest in common projects
is necessary. The three TSO`s has different credit rating affecting their ability and costs
related to obtaining capital that not come from their equity. Energinet.dk has the highest
credit rating (S&P, AAA), 50Hertz Transmission is rated Baa1 (Moody's Lower Medium
Grade) and Svenska Kraftnät is not rated.
Another factor is the overall magnitude and the long timeframe of the work that is needed
to complete the goals. In that context a political mandate is short term this contradiction
must in some way be united. Another contradiction comes from the relation between
specific energy sector regulations and European competition law that not always correlate
in the aspects of promoting a stronger energy market. All of these uncertainties are risks
that are affecting a project like Kriegers Flak but that cannot be controlled by the
stakeholders.
The parties involved in Krigers Flak have different revenue and costs that are based on
different regulations80. The income for the TSO`s mainly come from congestion rents from
the interconnector. The costs stems from connecting the electrical grid to a wind farm,
78
Smart regulation for smart grids. R. Schuman and Meeus et al 2010, page16
Used to control, protect and isolate electrical equipment
80
A combined solution also poses some other interesting regulatory question. Because, is it an offshore grid
connection of wind power or is it an interconnector?
79
18 | P a g e
platforms and technology doing this possible and strengthening the onshore grid making it
ready for the electricity produced at KF.
In this project the TSO`s have different connection regimes between the countries. In
Germany and Denmark a wind farm owner do not pay for connection to a grid, only the
connections between each wind mill in the wind farm. This means that the TSO finances
and guarantees the connection and the costs are distributed to consumer through system
tariffs. In Sweden on the other hand the generators have to pay for the connection. They
are also responsible to design and developing the connection to the main grid. In reality
this means that Swedish wind farm owners have different responsibility in relation to cost
and synchronize planning on a combined grid solution than Danish and German wind farm
owners.
An offshore interconnection linking two or more states and pass through their territorial
seas and exclusive economic zones (EEZ) will have a degree of jurisdiction over the
cable81. Especially legal complications will appear when wind farms are attached to the
interconnection. In that case it will be a need to reach an agreement on how and who
should authorize, provide and bear the cost of connecting the two components82. It is
important for the parties involved to reach an agreement as it can cause conflicts and delay
later on. This agreement can be further disturbed by the European treaty that wants control
over offshore grid development83 and that will limit national freedom to legislate in certain
areas.
The income to the wind farm owners are in a large degree dependant on long term support
schemes to be able to finance the construction. The three countries involved in Krigers
Flak has all support schemes but are slightly different that make wind farm development
face different financial risks even they are based in the same area. Transmission revenue
comes from regulated tariffs charged from consumers. There is a risk that each TSO don’t
get a reasonable income from the authorities compared to the costs and risks of the project.
The benefit of an interconnector is not always the same for the consumers the in each
country. Since the electrical price is higher in Germany an interconnector will normally
The right of a state to regulate offshore activities under “United Nations convention on the law of the sea”.
The convention separates the seas into zones to witch different rights and duties apply.
http://www.un.org/depts/los/convention_agreements/texts/unclos/closindx.htm
82
Energy Networks and the law, O. Wolley et al, 2012. Page 188
83
Art 194 TFEU
81
19 | P a g e
make consumers in periods pay higher prices (and electricity suppliers will gain) in
Denmark and in the same time reduce prices for Germany consumers84. This gives a
different allocation of cost and benefits of a combined solution that increases risk of the
stakeholder with the most costs. Since the TSO is regulated by the authorities, such “unfair
“distribution can make them take a decision to protect their own citizens and oppose a
project of European interest.
A-3)
Financial and market risk:
To get the capital needed for the project to found its construction cost the three equity
owners need long-term lenders. Investors have to know if the project is technically
feasible, economical promising and that the owners or the project it selves are creditworthy
enough to back it up. Those who invest in a project need to know if their returns on their
initial capital spent will be enough to compensate for the risk taken.
A combined grid solution like Kriegers Flak requires huge initial investments. The
financial costs are estimated about 1400 million Euros for the connections and
interconnector and 1500 million for one wind farm. With secure cash flow and assets with
a long life-span offshore wind farms and interconnector investments have low risk of
default and potentially good rates of return85. In the economic analysis made on both the
interconnector and wind farms they expect and rely on increasing market price for
electricity. This will secure a good rate of return for low variable cost wind generation and
also make the interconnector more valuable when cheap renewable supply is needed in
continental Europe.
In that context the investors requested is those who can offer long time liabilities like
pension funds and insurance companies etc. This condition to attract liable long time
investors with a large amount of capital is also central in Deloitte economic analysis
(Deloitte 2011). One pension fund that has experience with wind farms investment is
Pension-Denmark and are already planning to invest in Kriegers Flak86. However,
investors and especially pension funds will not take the risk during the construction phase87
This possibility is stated in the TSO`s analysis (ibid 74, page 9) and demonstrated in “Planning the
Offshore North and Baltic Sea Grid: A study on Design drivers, Welfare Aspects and the impact on the
National Electricity Markets” Egerer et al, 2011
85
Master Thesis on Risk-return profile of Offshore Wind Investments, Belo, Diogo Matias, 2011, page 69-70
86
http://www.altinget.dk/artikel/pensionsselskab-klar-med-havmoelle-milliarder
87
Ibid 62. Page 67
84
20 | P a g e
but normally wait to the project is operational. As this is the most uncertain phase, it is a
risk of not attracting sufficient investors to the project. All the presented risks give rise to
some questions.
The first question is the dissimilar national regulations and allocation of costs and
revenues. How will this effect cooperation and investment in Krigers Flak and can this
already be shown by that Sweden pulled out of the project? Therefore an analysis of the
different regulations and how they affect Krigers Flak involvement will be presented.
A second question that arises is how to reduce the costs associated with the coordination of
activities between each participant. The different parties involved in the project can
increase collaboration and unity to make a stronger platform to accomplice all related
tasks. Can further cooperation be achieved though involving the project units from each
country to on joint entity? Internalizing the risks could save time and money by having the
mindset of one unit instead of in several separated projects.
The third question that directly follows is if a joint project will be compatible with present
policies of the European Union. The “third energy package” is built on economic theories
about support strong and diverse competition to foster construction of electricity
generation and interconnections. However, how far will the protection of competition
interfere or cause uncertainties to the implementation of a Krigers Flak joint project.
To be able to answer the first questions it is needed some background of how the electricity
market works. In that way it can be established how the different national regulations and
support schemes make the foundation of the stakeholders’ different benefits and costs.
Chapter 3 - The electricity market and regulations on electricity transmission
and generation
The normal context of the functioning of the European internal market88, goods must not
be restricted from moving across borders. When the goods are electricity the functioning
has another feature as the electricity-flow is restricted it cannot be transported in any other
practical way than by an electrical network. With that restriction the electricity market
88
Article 26 TFEU
21 | P a g e
cannot operate perfectly without connecting all European countries to one network where
all cables have sufficient capacity. To reach that goal, smaller leaps like connecting regions
and make them have an internal market can be effective. Krigers Flak (KF) will combine
the Sweden and Denmark network belonging to the Nordic electricity market and Germany
belonging to the central European market. Grid developments in the North Sea will be a
new step towards the vision of a combined European electrical grid and are strongly
recommended by the Commission89.
A) A Natural monopoly`s incentives to invest in an interconnector
Krigers flak is made of several wind farms, one interconnector, with two electricity
standards and connections of these between originally three countries with three set of
regulations. The interconnection will improve competition by expand excess power to
other markets, improve network reliability by more network capacity and improve the
internal energy market in Europe. In a liberalized electricity market, transparency as in
unambiguous, transparent and reliable guidelines with requirements are important for a
stable investment and innovative environment. More interconnectors are needed and
according to a study from the Swedish power producer Vattenfall, 50-60 TWh of surplus
electricity in the Nordic countries will be hindered from getting to the market if
constructions are further delayed90.
Even when the need for more interconnections is there, the energy sector inquiry state that
there is still not enough investments. To understand the investment withholding it is
necessary to go deeper into how the electricity market works, how the prices are set and
who benefits on connections between countries.
The first two sections will explain a TSO`s main costs. Some of the costs as strengthen
internal network are similar among grid operators, but wind farm connections is regulated
differently among the three affected TSO`s. The compensation of the cost comes from
regulated tariffs on congestion rents and will be analyzed from section D and further.
89
Energy infrastructure priorities for 2020 and beyond, COM (2010)667/4
Integration of electricity from renewables to the electricity grid and to the electricity market – RES
INTEGRATION National report: Sweden, Anna Pobłocka, Robert Brückmann, 2011. Page 33
90
22 | P a g e
B) Balancing cost for the electricity network
When connecting a power generating unit to the main grid the power flow will increase
depending on the size of the generation connected. To take delivery of the extra power the
main grid has to be strengthened through additional investments. As this investment
improves the balance and reliability in the main grid it also benefits all users and the cost
are usually socialized among them through a tariff. Extra cost appears when connecting
wind-farms as they are constructed offshore and usually far away from the main grid. This
leads to more difficulties balancing the electric flows due to variable production and is a
large challenge91. The extra flow also creates obstacles to manage other electricity flows
sent in other directions and crossing their path (especially where “loop flows” cause
problems92). Since the generation must match the demand at all times, available capacity in
the grid and accessible generation cannot be obstructed. To benefit entirely on electricity
from wind farms other power producers in the generation mix must adapt to the wind
farms changing weather conditions and align their supply accordingly93. This implies that
the operation of other power suppliers will not work efficiently and add more cost to the
generation owners and thereby the consumers. The balance fee to the three TSO`s in the
KF project must for that reason high and must stay that way for a considerable time to
make accessible use of all available energy.
C) Grid connection cost
The construction of connection to generations far away from the core-network is increasing
as wind farms are located offshore. Before the liberalization the now unbundled firms
where vertically integrated and connected their-own generation to the grid. The question
now is who are best to take the costs; the wind farm owner, the TSO or the consumers. The
TSO has usually an obligation to connect any electricity generation unit to the electrical
onshore grid94. But they are not always obligated to take the costs. Some countries
subsidies wind farm connections by making the national TSO take the majority of the
91
The feed in tariff of 3 kr/MWh is paid to Energinet.dk to deliver the electricity to the main grid. The fee to
balance the grid through reinforcement is considerable higher (23 kr/Mwh) (main rapport Krigers Flak,
Deloitte. 2011)
92
"Loop flows" occur when electricity follows an unscheduled path as a result of a lack of transmission
infrastructure. Flows from northern to southern Germany via Poland or Benelux are a classic example,
resulting from the inadequate north-south infrastructure in Germany.
93
Wind power in the European Union: grid connection and regulatory issues, Paula Souto Perez, Dirk Van
Hertem, 2006. Page 780
94
Directive 2009/72/EC Art 23
23 | P a g e
physical connection cost and the subsequent balancing cost to the grid95. This low
connection charge from the grid operator is meant to promote investments in wind farms
and renewable energy. In relation to Kriegers Flak the three countries use different
connection charges. The three categories of cost allocation between the TSO and a
generation unit is; “Super shallow” where the cost to the generator owner is minimal,
“shallow” has medium costs and “deep” where all costs associated with a connection is
taken by the generator owner.
“Guiding a least cost grid integration of res-electricity in an extended Europe”, L.H. Nielsen et al. 2006
Denmark and Germany use normally ”shallow” connection charge96, meaning that the
wind farm owner must pay for transmission equipment between the wind-turbines and
connection to the grid network. Only a “shallow” charge is used to reinforce the electricity
network and balance the grid97.
Because the construction of KF involves renewable generation of electricity and the
planning of KF has been processed and determined by the Danish parliament,
Energinet.dk98 is obligated to pay for the grid connection99 and the AC/DC converter100.
This model is called ”super shallow” connection charge and shifts most of the costs from
the wind-farm owner to the TSO. The same “super shallow” charge also applies in
Germany if the wind farm is constructed before 2015101 meaning that Denmark and
Germany has the same connection charge in relation to KF. As has been shown in the
chapter above the costs of laying cables offshore and transform the electricity is very
95
However, the transmission equipment between each individual wind turbine must be taken by the wind
farm owner.
96
Ibid 74. Page 25
97
The diversity of design of TSOs Rious & Glachant, 2008. Page 10
98
The establishing of offshore grid connection always demands a concession from the Danish Energy
Agency (except voltage level) cf. "The Danish Act on electricity supply" § 22 a, and the "Act on
Energinet.dk" § 4 a.
99
Ibid 74. page 20
100
Energinet.dk annual rapport 2011, page 87
101
Ibid 77, page 19
24 | P a g e
expensive. If the cost cannot be taken or allocated in proportion a wind farm owner would
build their wind farms as close to the onshore grid as possible to reduce cost making a KF
project difficult to realize.
In Sweden “deep” connection charge applies if grid connection projects reach a capacity
threshold of 1000MW102 (The capacity of the planned Swedish wind farm was only
600MW but the total the capacity in the area is more than this threshold). The argument is
that electricity-flow over the threshold flowing into the onshore national grid means it will
need to be strengthened and the costs should be allocated to the generator that benefit on
the connection. In the case of Krigers Flak, the first developer of a wind farm in that area
will be obligated to take the whole most of the balancing cost103. The connection to the
inland electrical grid, and the reinforcements of the grid needed because of the extra
generation loaded into the network. However, the costs of construction of a new
interconnector that are used by the TSO are their responsibility. Consequently it will be a
discussion where the interconnection stops and where the connection of the wind farms
begins. At the moment the Swedish regulatory environment does not encourage wind farm
investment and thereby involvement in KF as it will be uneconomical for the wind farm
owners. This view is also supported by Matthias Rapp in the organization, Swedish Wind
Energy104.
The allocations of cost are difficult and especially with a combined solution where
discussion and arbitration is necessary between all parties with different connection
charges. In Germany and Denmark the TSO`s take the majority of the costs, meaning they
will need a proportionate compensation for the extra costs inherit.
In Sweden a disproportionately chare of the costs is distributed to the wind farm owner as
others will also benefit on the connection and the strengthening of the grid. Under normal
conditions, consumers will benefit on increased power generation and less congestion in
the grid to lower the electrical price. The TSO in the other hand will benefit by decreasing
its overall cost and responsibility. However, the high connection charge for a wind farm
owner does not explain why the Swedish TSO connects to KF through an interconnector
alone. A wind farm developer could take advantage by the interconnector when it is
102
Ibid 77, page 20
Integration of electricity from renewables to the electricity grid and to the electricity market –National
report: Sweden, 2011. Page 30
104
http://www.windpowermonthly.com/news/965858/Europe-Offshore-Scandinavia---Battle-Britainoffshore-supremacy
103
25 | P a g e
finished and apply for a connection then, but that possibility cannot explain Svenska
Kraftnät`s investment withholding by itself. Another way to look at an exploitation could
be the TSO`s regulated revenue that will be analyzed in the next chapters.
The Swedish regulators is planning to change the system such as the TSO assemble the
connections needed after a thorough analysis of the needed capacity and then split the cost
on those developers that benefit from the connection105. This transparent and balanced cost
allocation method can make Swedish wind farm developers and the TSO be a part of KF,
but for now it seems that they have to wait for the regulatory change to be applicable.
D) Regulated tariffs in Sweden, Denmark and Germany
Construction of new interconnectors is highly capital-intensive, longed lived and has a
large sunk cost106. This requires the TSO or/and investor to be able to recover their cost
over a long period of time. The revenue come from network tariffs and congestion rent
from interconnectors and is determined from the National Regulatory Agency (NRA) and
should be adequate for further expansion of the grid. In particular stipulate that NRAs "in
fixing (…) tariffs (…) shall ensure that transmission and distribution system operators are
granted appropriate incentive, over the short and long term, to increase efficiencies, foster
market integration and security of supply and support the related research activities"107.
The permitted revenue regulated fees for TSO`s is important and can be divided in two
classes; short term operation and long term expansion of the electrical grid. The cost of
planning, maintenance and operations of the grid is compensated by network usage fees
like “point of connection”108 tariff in the Nordic market109 and “charges by voltage” tariff
in Germany110 (How the specific tariffs are calculated will not be discussed in this thesis).
The tariff is regulated by the NRA by a price or revenue cap to hinder market power
exploitation. As one of four German TSO`s 50Hertz is also regulated by the German grid
regulator BNetzA that set a cap on revenue on grid charges pursuant to incentive
Integration of o f electricity from renewables to the electricity grid and to the electricity market – RES
INTEGRATION National report: Sweden, Anna Pobłocka, Robert Brückmann, 2011.
106
Once the capital has been invested in the asset they cannot be recovered.
107
Article 37(3)d and (8) of Directive 2009/72/EC
108
The idea of the system of point tariff is that the producers pay a fee to the grid owner for each kWh they
pour into the grid and their point of location. Correspondingly, the end users pay a fee for each kWh they
draw from grid and location (NordPool 2004)
109
The Nordic Electricity Exchange and The Nordic Model for a Liberalized Electricity Market, Nordpool
Spot, page 3
110
Same as “point of connection” but charges vary only by voltage not by location. International transmission
pricing review, Frontiers Economics, 2009. Page 7.
105
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Regulation Ordinance (ARegV)111 following Directive 2009/72/EC art 37 (1) a in. The
network owner have control over the main transmission networks in an area so the
regulations will to ensure that the users pay a fair price with no discrimination and that the
network run as efficiently and reliable as possible112.
Regulation of prices and revenues113 for distribution and transmission companies is
regulated ex. ante114. Some factors are not fixed; like rate of return, prices on power,
inflation, fuel costs etc., and can be updated during the regulatory period. The regulators
need information about production cost and the production-factors for new investments
and its implications on the grid to control variables for charged price and revenues. If this
is missing, the regulators will have difficulties finding the right mix of supporting
investment by allowing sufficiently high revenue in relation to keep a decent price for the
costumers. The regulators are responsible for maximizing the welfare for society115 and
maintain sufficient investment. This has to be seen from a short and long term perspectives
as to evaluate the electricity price with more or less grid-infrastructure investment.
The price-cap is a type of regulation designed in the 1980s by UK Treasury economist
Stephen Littlechild and is the most common transmission regulation116. The price cap set a
maximum price ex ante for a certain period. In that way the TSO has an incentive to reduce
its overall cost and consequently increase the profits derived from for example network
tariffs. However it is difficult for the regulators to set correct or “fair” revenue for each
year117. The price or revenue cap regulation is argued not longer suited for the electricity
market118 since more electricity generation will be produced from RES and is located far
from the consumers that again requires larger initial investments. The common rules for
the electrical market from 2003119 and replaced by Directive 2009/72/EC obligates that
NRAs shall permit the regulated revenues sufficiently in advance120, meaning 4-5 years121.
111
http://www.50hertz.com/en/file/Preisblatt_2012_EN.pdf
Directive 2009/72/EC 2009 art 12 and Regulation (EC) No 714/2009 article 11 and 14
113
Several methods of regulation of infrastructural services are in use: rate of return, cost-of-service, price
cap, revenue cap, yardstick regulation, performance standards, earnings-sharing etc. Most of them are used
simultaneously and in combinations to create the maximum effect.
114
Directive 2009/72/EC 2009 Article 37 (1a). concerning common rules for the internal market in electricity
115
Directive 2009/72/EC Art 36
116
Price cap regulation is sometimes called "CPI - X", (in the United Kingdom "RPI-X")
117
Smart regulation for smart grids. R Schuman, 2010. Page 13
118
Energy Networks and the law, Aileen Mcharg, 2012, page 314
119
Directive 2003/54/EC
120
Directive 2009/72/EC art 37 (6)
121
Integration of electricity from renewables to the electricity grid and to the electricity market – RES
INTEGRATION National report: Sweden, Anna Pobłocka, Robert Brückmann, 2011. Page 33
112
27 | P a g e
By this the regulator needs to calculate and predict investments in network expansions and
connections. This can be difficult as the costs are uncertain (especially on new innovative
projects) and information is asymmetric between the regulators and the grid company.
Adjustments in regulated tariffs can be considered in special circumstances122 but long
term investors cannot count on these case by case situation.
Before the requirements in the third energy package was introduced, the network owners
decided the fees themselves and the regulators ex post observed if the fees were
reasonable. Today grid owners have to apply and negotiate with the NRA to come up with
the revenues that will be received in the next four years. It is argued that today’s regulation
encourage to reduce general cost rather than focus on long term investment in the electrical
grid123. An example from Sweden can illustrate this where the national regulators reduced
the network companies’ requested income, which they believed was needed for additional
investing in the grid124. In Germany, 50Hertz have the same discussion with the
regulators125.
In Denmark they use an ex-post principle based on the TSO`s underlying costs like book
values of regulated assets126. Energinet.dk clarifies the costs127 (that is compensated) and
necessary return on investments that is evaluated by the NRA. The costs are distributed on
the electricity system tariff, electricity grid tariff and the PSO (public service obligations)
tariff128. This system is almost the same that the German regulators abolished in 2008
when they changed to revenue cap regulation.
The previously German cost-plus system shifted the investment risks to the consumers as
the TSO get full recovery of all costs that are collected through consumer usage tariffs. On
the other side, the full cost recovery could make (without severe insight from NRA) the
TSO to take unreasonable risks and not respond to normal price signals and thereby not
encourage cost discipline. Another factor is the incentive or reward to improve project
122
50Hertz Transmission Annual report 2010. Page 59
Smart regulations for smart grids. Meeus et al. 2010, page 17
124
See ibid 121 page 33
125
50Hertz annual rapport 2009
126
Regulation of the Nordic TSOs. NordREG. 2007. page 16
127
The costs are operating costs, depreciation, financial costs and administrative costs.
128
http://energinet.dk/EN/El/Engrosmarked/Tariffer-og-priser/Sider/Aktuelle-tariffer-og-gebyrer.aspx
Energinet.dk is obliged to buy electricity produced by certain wind turbines. The electricity generated is
bought at the statutory purchase price and sold on the power exchange, like Nord Pool Spot. The difference is
charged via the PSO tariff (Public Service Obligation) on the consumers’ electricity bills. The same applies
to the subsidies etc., which Energinet.dk pays to wind turbines and local CHP plants operating on market
terms. Energinet.dk annual rapport 2011 page 33.
123
28 | P a g e
effectiveness, the choice on uneconomic technologies (condition of incentives), and
appropriate management and financial structure that reduce risk129.
As a conclusion of the regulatory compensation systems in the three countries it seems that
the Danish regulation and the one that Germany used before compensate better for
investing in risky projects.
One of the most important factors in financing new energy infrastructure projects will be
adequate regulatory remuneration over a long timeframe. If the NRA is the unit with most
power they could be reluctant to agree on high remuneration on a risky project if that
would increase the general tariff for the consumers. Especially if the project fails or is
delayed they will come in a position where they have to explain an unpopular choice on
compensating a too risky project with disregard of increased consumer price.
On the other side new experimental and innovative projects with the use of new technology
enhance improvements and knowledge of future combined solutions. The German and
Swedish system seems like holding the regulatory remuneration back that could be
restraining in relation to innovative projects130. The Danish system compensates costs ex
ante and seems to have more reliance that the TSO take the right investment decisions. By
that the NRA control the remuneration ex ante instead of ex post could relief them from the
accountability the German and Swedish NRA have even they have the same responsibility.
E) Congestion management
The other way of a TSO to compensate for investment costs is by receiving congestion
rent. The availability, the congestion and the cost to access the transmission affect the way
the electricity market works and which price the suppliers and thereby what the consumers
must pay131. The transmission capacity available in Scandinavia and in KF will be
allocated for trade by NordPool by the respective TSOs as the market is coupled with the
Germany through European Market Coupling Company (EMCC)132 . The coupling of the
http://www.competecoalition.com/resources/let’s-remember-why-we-are-here-“re-regulation”-will-notprovide-consumer-benefits
130
If a utility improves its overall profit through innovations and cost cutting, regulators will respond by
cutting the utility’s rate.
131
Making competition work in electricity, Sally Hunt , 2002. Page 193-194
132
European Market Coupling Company GmbH (EMCC) was founded in Hamburg, Germany, in August
2008. It is a joint venture of Nord Pool Spot, European Energy Exchange (EEX), 50Hertz Transmission
GmbH (formerly Vattenfall Europe Transmission), TenneT TSO GmbH (formerly transpower
stromübertragungs gmbh) and Energinet.dk
129
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markets means that two or more power exchanges use the same system of trade. EMCC
use a day ahead auction market where persons that want to buy or sell power must send
their orders and their required volume at disposal the day before. The supply and demand
and the available transmission capacity will be accounted for and bids for the power start
in the following morning. The EMCC with cooperation with the different energy markets
and TSO`s calculates the optimal flow between the market zones. This is used for
calculating independent prices to the different power exchanges like Elspot, Nord Pool’s
auction market133. Nord Pool Spot will be used to trade power from the KF project.
Different prices appear between markets when congestions on an interconnector hinder
optimal electricity export or import. Extra income to the interconnector owner comes from
manage the congestion by a market based allocation system used to refuse or accept the
available capacity in an interconnector.
This congestion rent that is collected must by law be used to expand the connectioncapacity or reduce network tariffs134. The capital needed for these large long term
investments has received more attention after the energy sector inquiry saw little
investment development and that most of the extra income from congestion rent was used
to reduce network tariff and not on constructing more interconnectors or increase the
original capacity135.
Krigers Flak will use explicit or/and implicit market auctions136 to trade the available
capacity between the market-zones. Implicit and explicit auction is used simultaneously to
allocate as much capacity as possible and are used in the Nordic market and is also used on
the present two DC transmissions (Jylland cable and KONTEK) between Germany and
Denmark137.
E-1)
Explicit auction
Along with the requested capacity amount, the applicants have to declare how much they
are willing to pay for the capacity. These bids are ordered by price and allocated starting
from the highest one until the available capacity is used up. Usually the price for the
133
http://www.marketcoupling.com/market-coupling/concept-of-market-coupling and The Nordic Electricity
Exchange and The Nordic Model for a Liberalized Electricity Market, NordPool. Page 8-9
134
Article 16(6) of Regulation 714/2009/EC
135
Interconnector Investment for a Well‐functioning Internal Market Lionel Kapff and Jacques Pelkmans,
2010 .page 13
136
Energy sector inquiry 2007, page 180
137
http://www.50hertz.com/cps/rde/xchg/trm_de/hs.xsl/114.htm?rdeLocaleAttr=en&rdeCOQ=SID58049D20-E354C6FE
30 | P a g e
capacity is set to the bid price of the lowest allocated bid. Alternatively, each successful
bidder pays the amount bid.
E-2)
Implicit auction
Transmission capacity is managed implicitly by two or more neighboring spot markets:
network users submit purchase or sale bids for energy in the power exchange in the
geographical zone where they wish to generate or consume, and the market clearing
procedure determines the most efficient amount and direction of physical power exchange
between the market zones. Hence, separate allocation of transmission capacity is not
required, cross border capacity and energy are traded together.
F) Congestion rent
There will only be congestion on an interconnector if it there is a market of trade between
the markets. If the prices are the same in each market there would be no reason to transport
electricity to another market. In case of the KF interconnector it will connect 3 price
zones138; Sweden has the lowest prices as to high penetration of hydro-power. Denmark
has over-supply of wind energy that occurs 100 hours a year and is expected to be threefour times more frequent in a few years as to positive political incentives139.
Germany is one of the largest users of energy in the world and relies mainly on fossil fuels
to fulfill demand140. As Germany relies on almost 45% power generation from coal after
dropping nuclear141, the country has the most expensive electricity in Europe. This fact has
also made them dependant on import. However, this is not the case in north-Germany
where wind power is produced in massive scale142 by an increasing amount of wind farms.
The prices are sometimes lower than Denmark when the generation from wind-power is
high143. The biggest problem for the German electrical grid is the capacity imbalance
between north and south. The north produces a lot of wind energy that never get to the
south because of huge grid congestions. This implies that prices in south are higher than in
138
This overview of how the electricity price is set is limited to what is necessary to understand for the
analysis in the paper. For a more details visit www.nordpoolspot.com or read the master thesis: Nordic
electric power spot and futures markets Analysis and pricing, Inga Onzule, 2011. Page 4-13
139
The European Power System Decarbonization and Cost Reduction : Lost in Transmissions ? Maïté
Jauréguy-Naudin, 2012. Page 33
140
http://www.euronuclear.org/info/encyclopedia/p/pow-gen-ger.htm
141
Due to strong opposition to nuclear power in the society the share of nuclear power in electricity
generation dropped from 43% in 1997 to 23% in 2010.
142
North Germany and 50Hertz has 41% (9700MW) of the wind supply. Elia Group annual rapport 2011.
143
OffshoreGrid: Offshore Electricity Infrastructure in Europe Offshore Electricity, EWEA, SINTEF 3E.
2011. Page 56
31 | P a g e
the north. When the congestion is reduced duo to new grid investments the prices in north
Germany is expected to rise. So, even with variations144, EU statistics show that that
Sweden will remain a low price country, Denmark has medium costs now but it will
decrease and Germany has high prices that also can increase145.
Below, as an example the two curves illustrate the price for the Swedish and German
market-zones and how it changes for import and export. The curve that goes downwards is
the price in Germany that import electricity and the up-going curve is the Swedish
export146. In the curve you can see that the market-price for Sweden increase by exporting
a given capacity and in Germany prices decrease. The social benefit increases overall but is
larger for the German consumer as they get lower prices147. By considering that the
interconnection was built with a capacity of 400MW the price will stop at the vertical
dotted line. The yellow triangle represents the social congestion cost (the cost of a not
optimal capacity). From a private perspective (traders, TSO) the benefits of a new
interconnector rely on congestion rents given by that social congested cost. With 400MW
capacity the congestion rent can be seen in the blue square where the marginal price of
congestion (Pimp – Pexp) times 400 MW of capacity. From a social perspective the benefit
is higher. It consists of the reduction of electricity cost in a market after the interconnection
is in use in addition to producer (green) and consumer (red) surplus. The fields of red, blue
and green is the social positive value of the interconnector148. With for example an extra
capacity of 200MW there will be sufficient transmission capacity with no constraints and
the price would be the same in the two zones as the yellow triangle disappears. This will
also reduce the blue triangle and the revenue from congestion rent will be zero. Now an
interesting situation appears. With the regulations today investments in transmissions
increase but the society must pay the price of a not optimal capacity flow. Without the
congestion rents an investor would simply not get enough revenues from the interconnector
144
Factors of changing weather conditions, policies, new technologies, new discoveries of fossil fuels and
more must be estimated to uncover the price of electricity in the future.
145
http://www.energy.eu/#domestic, http://driftsdata.statnett.no/snps/
146
Because import for zone B is export for zone A the curves can be plotted in one figure
147
How electricity markets react to infrastructure changes depends largely on the market design. However,
the main view is that increased interconnection reduces the price in the high price markets and increases it in
low price markets. (Kapff and Pelkmans 2010) (the economics of wind energy, EWEA, 2009. P 108)
148
The degree to which this social value attributes to consumer and/or producer surplus depends on who pays
for using the interconnector and who then benefits from these interconnector revenues collected. Higher level
of market liquidity, price stability or a higher level of security of supply may attribute to the value.
Interconnection would reduce market power of generators in importing country B. Additional benefits might
also be expected from greater security of supply and more efficient system operation.
32 | P a g e
to pay for construction cost in the first place. The graph also shows that even with not
optimal capacity, social welfare benefit from the construction of the interconnection by
lowering the price in the market. This will also imply that interconnections first will be
constructed where the price differences are largest and the demand is highest.
The different incentives to invest in an interconnector are meant compensated by a new
European project called Inter-Transmission System Operator Compensation (ITC).
However, today’s ITC is not meant to large investments as it founds and ambitions are too
small149.
G) Revenue and cost allocation of an combined solution project
As seen above the different costs and revenues affect the KF stakeholders differently. The
wind farms developers investment withholding can be explained by unreasonable
allocation of cost that also is very high in the first place and create high risk. For TSOs the
aspect is different as they are regulated to improve and expand connections to other
countries and generation sources to improve consumers’ surplus. Cash flows from the
TSO`s determine the internal equity that can be used on new projects. More profit from
regulated tariffs and congestion rent and more available savings is therefore required for
investing in new expensive projects. National regulators will be involved as they will
protect their own political agenda and national interests that could contradict European
interests. This has happened before in the cases Germany/ France150 and East/West
Denmark151 where interconnections changed the prices between the countries. Both
149
ITC only serves to transfer funds (100 mill Euros) from import or export countries to transit countries, not
for more complex constellations. http://www.acer.europa.eu/Pages/ACER.aspx
150
Interconnector Investment for a Well‐functioning Internal Market. Lionel Kapff and Jacques Pelkmans,
2010. Page 8-9
151
Den elektriske Storebæltsforbindelse, M.B Blarke. 2010
33 | P a g e
examples caused discussions about protecting national industry and consumer interests at
the expense of lower prices and cleaner energy overall.
Less risky and innovative projects can in some circumstances benefit national interest as
construction costs will be lower and higher consumer tariffs is not needed. Costly and risky
projects with the possibility of huge privately gains will make a rational state not take part
where unregulated or private parties have profit incentives.
The gain of an interconnector will be higher for the German consumers and possibly less
for Denmark and Sweden. The profit collected by the congestion rent by an interconnector
can be used to lower consumer tariffs. However a national regulator can have an incentive
to limit interconnection capacity to decrease the risk for higher consumer prices. In the
same time it is by the congestion an interconnector is valuable and can be used on lowering
the consumer tariff prices instead of increasing its capacity152. Especially is this the case in
countries with excess electricity capacity where import is not needed153.
As Denmark and Germany is more dependent on export and import the need for
interconnections could be stronger than for Sweden that don’t have the need of importing
electricity154. This aspect also follows the RES support schemes155 where construction of
not needed additional electricity generation contradict national interests by increasing
consumer tariffs, damage rivers, waterfalls and landscapes (hydro generation and gridnetworks) and increase electricity consumption as prices decreases156. Private generators
will profit on export, especially if it has lower prices that the importing country. As the
environment is affected by all countries the consumer interests in the long term will also be
to exploit all renewable sources.
A combined solution is therefore strongly needed; especially would Swedish participation
be most valuable since they have lowest generation costs, but the wind farm developer has
to high cost compared to the TSO. In Germany and Denmark the wind farm developers has
low cost and risks as the TSO take most of it. The question is if the interconnector itself
will compensate enough for the high project cost. In Germany this can be a problem as
regulated network tariffs can be set to low. A way to compensate could be to have a more
152
Statistic on TSO investments can be seen in the Energy Sector Inquiry 2007
Larger costs for a TSO will raise the average tariffs for the electrical grid usage. This must ultimately be
paid by the consumers.
154
One case that can enlighten this situation is the interconnector between Norway and Holland that was
meant to have 1200MW capacity but was capped to 700MW. Competition, contracts and electricity markets,
Hauteclocque, 2011. Page 280
155
Support schemes are meant to increase renewable energy supply. But in Norway and Sweden almost all
power is renewable and the consumers is subsidize extra generation they actually don’t need.
156
http://www.dn.no/forsiden/kommentarer/article2458719.ece
153
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uniform regulatory framework in the future or strengthen the ITC. Today, strong
cooperation and a fair cost and profit mechanism can be the answer to be able to
compensate all stakeholders that have different incentives.
H) Wind power
In overall terms, the operating support of renewable generation is far more important than
investment support because an investor will more easily get a loan if he can show revenue
per MWh that support production cost and debt repayment. This fact is also acknowledged
by the Commission157.
Directive 2009/28/EC endorse initiatives for producing more renewable electricity in the
European countries for a sustainable development and achieve the 2020 renewable energy
targets158. The directive set a clear target of renewable used for the member states and how
achieve these targets by support schemes to make the generation more cost effective and
compete with other energy sources. The MS choose themselves what kind of support
schemes they find most suitable. Because of different priorities in employment and
industrial development the market characteristic in every country is normally different 159.
As a result there are physical, commercial and administrative barriers to cross border trade
in electricity and the need for increased cooperation is needed for finding an optimal
support scheme before further harmonization of legislation. The expectation is that wind or
other renewable generation will not need support in the future, but that will rely on
improved or new technology and higher electricity prices.
H-1)
Support schemes overview
Renewable generation of electricity is currently dependent on some form of subsidy to be
economically viable. As shown in chapter 1, Danish and German support schemes
guarantee a fixed price during a long period. Green certificates that Sweden apply is
slightly different as it is the sum of the electricity price and the certificate price from
producers of renewable energy. The green certificates can be sold in the market in addition
to the power that the wind generation produces. Consumers of electricity are required to
157
Commission staff working document: The support of electricity from renewable energy sources
SEC(2008) 57, page 4-5
158
Communication on Renewable Energy: a major player in the European energy market, EU Commission,
2012. Page 3
159
Commission staff working document: The support of electricity from renewable energy sources SEC(2008)
35 | P a g e
cover a small proportion of their consumption through these certificates and energy
suppliers will buy certificates on behalf of the consumers proportional to the amount of
electricity they supply160. If a buyer does not obtain the required quota, a penalty must be
paid. Sweden and Norway use the system of green certificates and are also in a common
certificate-market161. The system has however the disadvantage of volatile income to the
producers (as wind production is mostly volatile) from the sales of the certificates that
leads to a difficult assessment of adequate minimum and maximum prices.
Another system that is common in EU and is used in Germany and Denmark162 is fixed
feed-in tariffs163. Here, the grid operator/TSO is obligated to buy the electricity from the
wind farm at a fixed price determined by the regulators in advance164. The producers of
renewable energy receive a fixed settlement price per produced kilowatt-hour over a given
number of years and make it independent of the market price of electricity)165. This gives
incentives to produce as much as possible in those years provided that the tariff is high
enough to make the wind farm profitable. In Germany the tariff is adjusted in relation to
when the farm is operational, distance from shore and sea-debt of construction166.
The feed in tariff in KF involves a power purchase agreement (PPA) between the state (In
Denmark the PPA is handled through Energinet.dk) and the owner of the produced wind
farm electricity. This can interfere with the state aid rules in article 107 TFEU where any
aid granted by a member state that distorts competition or affects trade by favoring certain
undertakings is prohibited in the internal market (electricity is a good, according to case
law167). However, there may be exceptions in the same article § 3(b) and (c) where aid
support important projects and developments of certain activities that have a common
European interest. Exception for support schemes is also present in the renewable directive
Integration of electricity from renewables to the electricity grid and to the electricity market – RES
INTEGRATION National report : Sweden, J Herling and L Becker. 2011, page 40
161
http://www.nortrade.com/sectors/articles/norway-and-sweden-establish-green-certificate-market/
162
In Denmark, the fixed premium mechanism is used where renewable energy is paid by a fixed premium
above the market price for electricity. (Very similar to fixed feed in tariffs).
163
Analysis on the furthering of competition in relation to the establishment of large offshore wind farms in
Denmark, Deloitte, 2011, page 19
164
The Economics of Wind Energy. EWEA, 2009. Page 78
165
Ibid 62, page 7-8
166
The basic feed in tariff is 6.19 €ct/kWh and is guaranteed for 20 years. Wind farms constructed before
2010 get an additional 2.91 €ct/kWh and are available for 12 years.
Guiding a least cost grid integration of res-electricity in an extended Europe. Dr. Hans Auer and Prof. Dr. R.
Haas, 2006. page 17
167
The support of electricity from renewable energy sources, COM (2008) 19 final. Page 12
160
36 | P a g e
from 2009168 where effectively measures to support RES-E are needed to reach 2020
targets.
In a case from 1998 called Preussen-Electra the European Court of Justice stated that such
a purchase agreement constitute a restriction on electricity import and thereby free flow of
goods in the sense of article 34 TFEU. However, they also accepted that the restriction was
justified as it was proportionate and necessary for fulfilling the environmental goals of
article 11169 and 191170 in the TFEU171. Based on Preussen-Electra Denmark and Germany
has applied for expiations from the state aid rules172
Comparison made by the Commission of the guaranteed tariffs of Denmark and Germany
is compared with the system of quota or green certificates used in Sweden173. Some of the
criterions are effectiveness, efficiency and average expected profit from the investment.
Historic observations conclude that feed-in tariffs reach greater renewable energy
penetration and also at lower costs for consumers than the green certificate system.
Denmark and Germany is showing the highest effectiveness (1998-2006), and the
tendering scheme used in Denmark proves very effective for offshore wind farms174. This
differs to the green certificates system that not has been successful in developing more
wind farms175. The price is strongly dependant on the pre-established quota where
evidence shows that if set to low will reduce the consumer price176. This can in turn reduce
construction of more expensive generation like wind power in a period as the cheapest
green generation will be invested in first177.
The tender system that Denmark use are launched for defined amounts (200 MW or more)
of capacity and has to be approved from the government. Competition on price between
bidders results in a contract where winners receive the lowest offered tariff (settlement
168
Directive 2009/28/EC Article 3
Environmental protection requirements must be integrated into the definition and implementation of the
Union policies and activities, in particular with a view to promoting sustainable development.
170
Union policy on the environment shall aim at a high level of preserving, protecting and improving the
quality of the environment
171
Case C-379/98
172
The individual case dictions for support schemes that is not state aid for wind farms in Denmark is N
342/2003 and Germany NN 27/2000 and NN 68/2000, OJ 2002 C 164
173
The support of electricity from renewable energy sources, COM(2008) 19 final. Page 8
174
Energy Sector inquiry 2007
175
The support of electricity from renewable energy sources, COM(2008) 19 final. Page 25
176
The Economics of Wind Energy. EWEA. 2009. Page 79
177
A Green Certificate Market in Norway, Goldstein 2010. Page 19 and 16-17
169
37 | P a g e
price) that is guaranteed for a specified period of time178. This ensures that production is
performed at the lowest cost and thereby the lowest public cost179.
The Germans use “first-come-first-serve” an “open-door” model where the developer
applies for access to construct wind farms on places they have located themselves180. On
drawback is that German regulators cannot give support when wind farm is connected to
several countries and sell power to them181. This aspect must be changed to get a functional
KF. In Sweden RES-E in the green certificate system don’t have priority regime for
dispatching or a power purchase agreement and they have to compete on the spot market as
everyone else182. The positive side is a general tax exception and subsidy programs for
renewable generation. The permit granting procedures are also preferential (4-6 years)
compared to Denmark (10 years and Germany (8 years)183. However the treatment in
balancing responsibilities is the same for all suppliers, even when wind generation is
known for causing extra difficulties and costs for the system184. In general the wind farm
investors’ attractiveness between the Danish and German system is equal. Denmark scores
high on the government procedures, planning and environmental study paid by the state.
Germany scores high on long term strategic development185 plans, the concession model,
flexible timeframes and stability of financial support. Swedish support has some
challenges, and a support scheme with long term fixed purchase agreement would help on
the initially high capital costs. The Swedish wind farm in the Kriegers Flak project is
postponed and part of the reason can be the general support scheme186. In the rapport by
Deloitte187 they confirm this by showing the required return on the wind farm is 1.4%
higher that with the Danish and German feed in tariff system. The reason is the high capital
costs that must be down paid by revenues that derive from variable spot-market prices.
Svenska Kraftnät reported that they will not be a part of constructing an interconnector to
178
Ibid 62
By only focusing on price, other aspects of efficiency that reduce overall grid costs can be lost.
180
The open door model also applies in Denmark but then with fixed premium guaranteed on top of the
electrical price a given period. For KF this is not used.
181
European coordinator`s third annual rapport. 2010 by Georg Wilhelm Adamowitsch
182
See footnote 229. Page 6
183
SEC ( 2011 ) 1233 final COMMISSION STAFF WORKING PAPER Impact assessment Accompanying
the document Proposal for a Regulation of the Europen Parliament and of the Council on guidelines for transEuropean energy infrastructure and repealing Decision No 1364. Page 72
184
Ibid 160. Page 41
185
Ibid 62. page 44-45
186
The lack of wind farm development in both Norway and Sweden with the same support framweork is
striking.
187
Ibid 62 page 182
179
38 | P a g e
KF as long as the wind farm is not developed188. As described above the Swedish TSO
don’t have the obligation to finance the connection of the offshore wind farm and will
therefore not take the extra cost189. The analysis shows that the KF wind farm investment
has small downside risk as long it is supported by low cash flow variability with long
duration. However, as the investment has long lifetime it rely on long-term reliability and
transparent government regulations.
I) Conclusion
It can be concluded that wind power support is almost optimal in Germany and Denmark
and the interconnection`s congestion rent will increase with larger price difference between
Denmark, Sweden and especially Germany now and even more in the future. As for the
wind farm developers it has already been concluded that adequate support is required for
investments. It seems that the Swedish system present too much difference between
transmission owners and electricity supplier’s interests and can obstruct participations in
KF or similar projects.
The distribution of cost is relying heavily on the TSOs in Denmark and Germany because
they take the connection cost, system balance cost and transmission technology (multiterminal HVDC VSC) cost. In sum, this gives less incentives of investing in new
interconnections and combined solutions like Krigers Flak. Due to the increased cost for
both TSOs they need adequate rate of return on the investment from the interconnector.
50Hertz is privately owned and need adequate remuneration from the project. Energinet.dk
will also run an economically sound project but will also value the social benefit more as a
state owned company. In this regard the Danish TSO and regulator need assurances that
adequate cost/revenues take account of the probable higher social rewards to German
consumers. Regulatory uncertainty can impede incentives for investments as expected
revenues are unclear and short term. The German regulator must give a sufficiently high
profit cap on the collected congestion rent to 50Hertz during the whole lifetime of KF.
Cooperation between national regulators, TSOs and wind farm owners will therefore be
crucial as they must get an understanding of the different market conditions and the mix of
cost and benefits to distribute rewards accordingly. A stronger collaboration is not limited
188
http://www.svk.se/Start/English/News/Press-releases/Svenska-Kraftnat-abstains-from-engaging-now-in-acombined-developement-of-Kriegers-Flak/
189
Officially they state that the project will introduce to much commitment because of the structural
challenges and that strengthening of the internal electricity network will not be ready for the extra power
inflow introduced around 2020.
39 | P a g e
to the main stakeholders but will apply for all stakeholders in a combined solution project.
More involvement can mean that everyone risks a capital-share in the project-unit that
could give increased incentives to collaboration to one framework instead of fronting selfinterests.
The next chapter will show if this possibility is feasible through economic theories and
corporate structures.
Chapter 4 – The economics of vertical integration and long term
contracts in the power industry
To reach the European goals of utilization of renewable resources, investments has to be
directed in two directions, electricity supply from renewable energy sources (RES) and
connecting the power-supply between countries (interconnections)190.
In the first section there will be shown that in a competitive electricity market, government
support is critical to incentivize investment in wind farm electricity generation191. As the
generation technology in Kriegers Flak is wind energy the analysis will concentrate on that
renewable source. Later in the chapter it will be shown that management of risk in a
Kirgers Flak project can easier be controlled under the choice of governance structures192
and mechanisms that are based on costs that firms faces when they transact in a market193.
A) Wind farm investment
A-1)
Market Risks of different electricity generating technologies
In this section it will be shown how wind farms fit into the production (or generation) and
sales of electricity. The special circumstances with an electrical market are that electricity
cannot be stored. This means that electricity generation and consumption must be in
perfect balance at all times.
Electricity can be produced from a large variety of technologies that all have different use
and cost structures that make them affect the market price differently. Some of the most
used technologies are shown in table A below.
190
This chapter will not discuss whether a natural monopoly in the electricity network industry should or
should not be integrated with generation and retail. For discussion, see Littlechild (2008).
191
Competition, Contracts and Electricity markets. 2011. D Finon. Page 84
192
The Economic Motivations for Using Project Finance,B. Esty, 2002 and Financing arrangements for new
nuclear build in electricity markets, Finnon and Roques, 2008
193
Coase 1937 and Williamson 1985.
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Table A:
The load-factor shows that wind generation cannot supply demand by itself but need other
technologies when wind production is low. Base-load units are normally nuclear and coal
and run continually as they have low variable cost. Construction costs are high when built
offshore, but fuel cost is zero. Wind power generation has low marginal cost (zero fuel cost
and low variable cost) that creates less risk after the construction is completed and initial
debt has been repaid or secured by reliable cash flow from the project. An optimal system
provide electricity when the demand is normal (base) and at increased demand (peak) at
the minimum cost.
A-2)
The opportunity for wind farm investment in a competing energy market
The liberalization of the energy market was meant to create more competition. With
increased competition consumers are privileged to change supplier more often. When
costumers are not bound in the long-term by a contract to pay a certain price, this increases
the risk of not been able to pay for the initial construction costs. A rational choice for an
economic investment is to calculate the lifetime expected cost per kWh for different
investment alternatives. Electricity generation from offshore wind-farms has much higher
initial cost and construction time than gas and coal plants. A comparison can be made with
the construction of an interconnector that also have high initial costs. The high fixed cost
makes these investments more dependent on selling available output with considerable
high prices to deal with interest cost and depreciation.
In a long-run equilibrium, capacity enters as long as the projected short-run profits don’t
rise above cost of the marginal capacity. As supply get tighter and demand increase, shortrun profits increase that in theory will stimulate the suppliers to invest in more supply.
However, because of the market conditions there is not certain a wind-farm investment will
41 | P a g e
finance its initial cost by relying on market price payoffs. During the night, when demand
is low but the wind is strong, a lot of the wind power production becomes redundant and
the unit will not collect sufficient revenue. But it will gain more revenue during peak-hours
and consequently rely on huge volume and price risks on the spot exchange194. This factor
increases if there is congestion195 on the transmission network that limits export capacity.
Adam Smith wrote in” The wealth of nations” that in a competitive market with absence of
external influences the private businessmen will be guided by “the invisible hand” to those
actions that are best for society as a whole196. In the electricity market this is however not
the case as it has been shown that the social optimal volume of generation capacity is
higher than the optimal volume for investors197. The social optimum favors security of
supply means to have excess electricity-supply if generation or transmission fails to
deliver. In other terms, the social optimal from a consumer’s standpoint is to be secured
from an electricity blackout. To obstruct such scenarios an area has always to sources of
supply, and when for example one power plant malfunctions another source will be there
to maintain sufficient supplies. Normally in another market, storage of supplies would be
enough, but in the energy market one have to invest in excess generation that only will be
used occasionally.
For energy supply investors excess capacity means not being able to recover the
construction costs. Less supply than social optimum will create more demand and higher
prices for all suppliers, and give incentives not to invest optimally198. Given the future
market conditions and the time-consuming progress to plan and build power supply, longterm external management is needed. In other words, security of supply and environmental
protection that derives from renewable energy sources cannot rely on competition itself199
but need some regulations to create the optimal mix of electricity generation.
The policy on de-regulation induces some risks as there is a mismatch of investment
incentives for capital intensive power generations like wind-farms. The long term public
194
Competition, Contracts and Electricity markets. 2011, J Boucher and Smeers. Page 24-25
The electricity transmission can transport a certain capacity. When the capacity is filled up the
transmission is congested (also called bottlenecks).
196
Hal R. Varian, Microeconomic Analysis, Third edn. Norton, New York 1992, Smith, Adam (1776),
Wealth of Nations.
197
The impact of electricity market design upon investment under uncertainty: The effectiveness of capacity
mechanisms. de Vries and Heijnen, 2008. Page 216-217
198
A Capacity Market that Makes Sense. Peter Cramton and Steven Stoft ,2005. Page 3
199
Competition, Contracts and Electricity markets, 2011, J boucher and Y Smeers. Page 34-35
195
42 | P a g e
interest of security of supply and clean energy is not sustained. Investments in
interconnectors and grid network support renewable electricity flow and should be
promoted similarly.
Long-term financial contracts, vertical and horizontal integration are a good alternative to
allocate the electrical transmission and generation investment risk to others200. In section
B-II it will be shown how government support was needed to increase investment in wind
generation. Interconnector investment is already regulated to promote investments but the
different conditions in each country can hinder the development for a project like Kriegers
Flak. A discussion on this issue can be found in section C and D. The logic and theories
behind and transaction cost economics will be shown in section B
B) Economic theory of transaction cost
The original work of Transaction cost economics originate from Coase (1937), but as other
popular theories it has been criticised and developed further. The most influential is
probably the work of Williamson201. A transaction cost is a cost incurred in making an
economic exchange and can be separated into coordination and motivation cost. The
Coasean theorem states that when the costs of arranging a transaction in the market are greater
than arranging transactions inside the firm (agency costs, costs of collective decision-
making, etc.) then the transaction should be located inside the firm. To make it simple, the
party that want to sell or buy want to minimize transaction cost by choosing an optimal
governance structure to get less risks and costs202. Therefore, in a market where there are small
transaction costs, spot market trading will be the optimal solution; with medium cost long term
contracts and where the cost is higher the contracts should be transferred into an internal
organization203.
However, as the nature of the transactions and markets changes, the optimal structure can be a
mix of different governances. A mix between spot market trade and internal organization has
emerged for this very reason. These hybrid forms include various types of long term contracts,
franchise contracts, agreements, strategic alliances, joint ventures, and others204. To find the
optimal choice between the different government mechanisms used in the Krigers Flak
200
Competition, contracts and electricity markets, Glachant et al, 2011. Page 64 and chapter 1-8
Coase (1937). "The Nature of the Firm" and Williamson (1975), (1981). "The Economics of Organization:
The Transaction Cost Approach,"
202
Williamson defined a governance structure as an “institutional framework in which the integrity of a
transaction or related set of transactions is decided” (Williamson, 1996, p. 11)
203
Competition, Contracts and Electricity markets. 2011, Meade and O`Connor. Page 102-105
204
Vertical integration. Joskow, 2010. Page 3
201
43 | P a g e
project a consideration of the frequency of transactions, transactional complexity and the
uncertainty in the environment (regulatory, political etc.) must be considered.
B-1)
Long term contracts
Electricity generation from wind farms need connection to inland to sell its products. That
transmission secure sufficient capacity is therefore essential for the wind farm`s
profitability. In the same time the transactions is frequent depending on the wind
production. A long term capacity agreement to connection inland is therefore needed as
short term contracts would increase transaction cost and be uneconomical.
By removing any possible cost or obstacles in relation to transmission, a pure wind-power
producer needs some kind of insurance that the generated electricity is sold for a sufficient
price whenever available. A fixed-price long term contract or a power purchase agreement
(PPA) to a reliable source reduce the volume and price risk as the purchaser is obligated to
pay for the projects output regardless if the purchaser takes the delivery or not (take or pay
contract)205. In that way a supplier make a discount against market price in order to share
that risk with consumer. A long contracting period will give a stable cash flow, making it
easier to obtain loans and attract investors before construction starts. This reasoning has
already been supported by the analysis presented in chapter 2. As the construction cost are
almost the same for the TSOs as the wind farm developers a question is if the
interconnector also needs long term contracting.
B-2)
Environmental uncertainty and transactional complexity
Transaction cost theories on vertical integration pioneered by Williamson focus on
incomplete contracts where imperfect information is caused by blurred descriptions of
situations. These agreements may also be hard to enforce and situations of incentiveconflicts between important decision makers can arise. The incentives derive from
opportunistic behavior and questions the costs and benefits of internal organizations206.
The assumptions on opportunistic behavior are based on the simplistic human behavior of
opportunism (where business partners behave unexpectedly to an agreement as they have
205
Competition, Contracts and Electricity markets. 2011, F Roques. Page 47-48, 70
Regulation and administered contracts revisited: Lessons from transaction cost economics for public
utility regulation, Crocker and Masten, 1996Journal of Regulatory Economics; 9:5-39 (1996
206
44 | P a g e
different stake of interest in it) and bounded rationality207 (difficulty to make decisions
because of limitations of time and information to make right decisions) 208. These
characteristics can increase the so-called “hold-up-risk”209. One “hold up risk” in relation
to Kriegers Flak can occur when a party that constructs a cable-connection doesn’t
construct or is delayed and that has implications on wind-farm generation trade and
another party’s cable connection development. This in turn can have implications for
construction cost and the intended cash flow from the project a whole. A risk of
opportunism can occur where some project owners that have a beneficial commitment
becomes unsure and chooses to safeguard own interests instead of the mutual benefits of
collaboration. For example that an inflexible regulatory framework or insufficient support
schemes make it easier not to cooperate, or if the German wind farm generation or TSO
breaks an agreement to supply Denmark with electricity during overcapacity and choose to
supply south Germany instead. Reasons can be better price210 or instruction from the
German government to supply their own country first. In this context, contractual
incompleteness can be the failure to enforce a contract, but also unforeseen and unexpected
situations.
All of the possible opportunistic behaviors should be limited by contractual guarantees and
uniform rules. The more possible situations create larger transaction costs. In that context,
as opportunistic and rational behavior among business people has been exaggerated in
some degree, the transaction cost of these contracts should be considered lower than
before211. However, the project has several components (wind farms, connections,
interconnections, power converters, PPAs, national interests, etc) and the interactions
between all these and related different support schemes and regulatory framework, are
crucial for a successful project. This complexity of interactions makes the transaction cost
substantial and complicated in the Kriegers Flak project. When the cost and risks of
contractual complicity are higher than those of ownership integration should be considered.
207
In later years the theories of the very simplistic assumption of an economic self interest rational human
being, is proven to be over-simplified. Human being as a business man is more complicated than is assumed
by the economic theories. Experimental economics has been proven that there are only some groups that only
behave selfish and rational and includes economists themselves. See the work of the Nobel Prize winners in
Economic Science Daniel Kahneman, and Vernon Smith.
http://www.guardian.co.uk/education/2002/dec/20/highereducation.uk1
208
The benefits of transaction cost economics: the beginning of a new direction. M.C. Boudreau et al, page
1125
209
A risk of hold up appears when to parties work best when cooperating, but by doing so increases the
bargain-power of one party that can be exploited.
210
Competition, contracts and the electricity market. Meade and O`Connor, 2011. Page 94
211
See Ibid 207
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A stronger strategic alliance212 or an integrated project company with private shareholders
could be a feasible solution. The financial options to take cost in separation or by a project
unit are for that reason discussed below.
C) Financial options – A separate solution or a joint company?
C-1)
Corporate finance
At this time the Kriegers Flak project involves two legally independent entities
(Energinet.dk and 50Hertz) with their own equity ownership that develop and promote the
different parts of the project. The two basic types of financing are trough equity and debt.
In corporate finance a project is directly owned and internalized by the parent. The
liabilities of the project lies within the company itself and if the project fails, or doesn’t
create substantial revenue to support its own cost the parent company give financial
assistance to the project from their corporate assets and cash flow. Capital providers will
therefore not lend to the project itself but to the sponsors company`s whole asset portfolio.
The creditors will as an insurance of down-payment only lend to a project and the parent
company with healthy financial situation to be certain that debt interest and repayment on
loans is secured if a project fails213. The advantage with corporate finance is its simplicity
with few transaction costs. A developed company has also the advantage of the past
performance record, a reputation and built trust in the market make the investors be
familiar with management and risk approach.
C-2)
Project finance
Project finance started in its modern form in the US around 1970s214 and provided an
efficient way to finance large, tangible assets with limited lives.
There are three main aspects that distinguish project finance from corporate finance. The
first is that with project finance the owners create a legally independent company
(Corporation, Joint venture, partnership etc.) that have full control of a project in
212
A cooperation or collaboration to increase synergies, where the partners hope that the benefits from the
alliance will be greater than separate individual effort.
213
Financing arrangements and industrial organisation for new nuclear build in electricity markets electricity
markets, D. Finon, 2008. Page 12
214
The earliest use of project finance can be traced back to 1299, but the most famous example is the Dutch
East India Company that traded goods with Asia. The sea-travels where long and hazardous but the payment
if successful, were high. To reduce the risk each cargo-ship became a project and the stock-market was
invented.
46 | P a g e
management and financially. The risk is transferred away from the parent companies and
the project is financed by high leverage (70 to 90%) that allows the sponsors to reduce
their equity commitment (10 to 30%). The non-recourse debt is normally secured by the
project-assets as corporate safety doesn’t exist. This is especially favorable if it consists of
financial assets that don’t need active but only operational management like wind farms
and transmissions. Second; This situation means that lenders have no recourse to the parent
companies and need to rely on cash flow from the project itself. This also means that if the
project fails the lenders or capital providers only have a claim on the projects assets,
without concern for the sponsor’s financial conditions. For investors the separation of the
company from the project creates an opportunity to analyze the project on a stand-alone
basis. The separation will also make the specific project more transparent and more easily
observed. Third, the legally independent company has a limited life, usually to all its debt
is repaid.
In the next sections it will be discussed witch financial option is best allocating the risks
presented in Chapter 2.
D) Discussion of financial structure in Krigers Flak
D-1)
Capital risk
The large expenses required in initial investments demands access to significant volumes
of capital that causes risk regarding how the capital shall be repaid and the cost acquiring
the capital itself. Energinet.dk have solid balance sheet and a good credit rating and have
secured capital financing from a national bank215. 50Hertz has also a solid balance sheet
but the credit rating agencies (Moody`s) will only set a medium investment grade rating
(Baa) mainly because of unclear regulated returns from the National Regulatory Agency
(NRA)216. The lower credit rating will make it more costly to with high leverage. Liquidity
to finance projects seems secured to both parent companies (Eurogrid GmbH) and
Eurobond programs217. But as the average debt to capital ratio for infrastructure investment
founded by corporate finance (TSO`s) is as high as 60-70% the need for large long term
lending can be demanding218. The low equity can prove that TSO`s get to little returns
compared to the project sizes they found. In the case of equity owners in KF this aspect can
215
Interview with Chairman of Steering Committee Peter Jørgensen, 22.06.12
Roland Berger, 2011 page 27-28, 47.
217
50Hertz Transmission annual rapport 2010. Page 14
218
Roland Berger, 2011. Page 6
216
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differ between each TSO. Nonrecourse project debt will nevertheless cost more than
corporate debt219. Especially in these times with financial crises and where banks are
discouraged from supporting big projects because of new capital standards from the Basel
committee220 (even though this fear has been overestimated before221). With the use of
project finance, creditors would probably demand the project owners to guarantee project
completion as it incurs most risk. Either way, the owners would be reluctant to abandon a
priority project like KF. With the assumption of sufficient cheap capital there are not a
strong reason to use project finance as the owners can fund the project more easy and
cheaper themselves. Therefore, corporate finance will prevail as long as the increased
leverage induced to the sponsors does not create underinvestment in the project (“debt
overhang”)222.
D-2)
Cash flow risk
The most important factor to obtain capital to a project is to prove free cash flow to meet
debt obligations223. Today, banks will only lend to projects with secured cash flow with
stable counterparts224. As seen earlier in the thesis the European Commission allows long
term PPA for promoting wind generations in KF225. The question is how long it will last
and what will happen if parts of the contractual benefits are moderated226 and subsidies is
cut, as happened in Spain recently227. With corporate finance lenders must rely on that
NRA gives adequate returns on the specific project. Cash flow from the project can be
higher if unregulated as the private parties need adequate return on their investments.
Stronger economic investor principles in a KF can also highlight the specific risk that
private investors appreciate and needed founds can be raised faster and help the completion
of the project.
219
This is reduced with a tax break; the amount of the interest paid on the loan reduces the total amount of
taxable income for the business. (Esty, 2004)
220
http://www.bis.org/bcbs/about.htm
http://www.ft.com/intl/cms/s/0/3956c1a8-e8e5-11e0-ac9c-00144feab49a.html#axzz20WPqmmZ3
221
After the financial crisis in 2001 the Basel committee also discouraged project finance loans. ABN
AMRO, Citigroup, Deutche bank and Societe Generale analyzed historical data and concluded that project
finance loans are not riskier than comparably rated corporate loans. (Ibid 222, page 463-482)
The bankruptcy of many gas power plants in the US was because they did not have long term PPA and
exposed to significant volumetric risk. (Joskow, 2006; 2007; Michaels, 2006)
222
Moderen Project Finance, B. Esty, 2004. Page 6
223
equals earnings before interest tax, plus depreciation
224
Competition, contracts and the electricity market. Meade and O`Connor, 2011. Page 89
225
Renewable directive 2009/28/EC, Art 3 (3)a
226
Will for example larger companies with many generation assets, be forced to take parts of the volume risk
themselves?
227
http://www.solardaily.com/reports/Spain_cuts_subsidies_for_clean_energy_999.html
48 | P a g e
Long term contracts can also be used where the owners can secure cash flow at least for
parts of the mortgage and don’t risk the upside risk of increased price difference between
Denmark and Germany.
D-3)
Cooperation risk: risk sharing
By creating a joint company (see a hypothetical design in annex 6). Equity-holders can
transfer more of the risk to related parties that hopefully will reduce costs by added
discipline and managing the activities more effectively.
However, a disadvantage is that the separate company must normally be governed on more
contracts to function than if integrated in a company228. To negotiate all the contracts
through third parties (advisors, agent etc.) are very time consuming and expensive. This
huge cost implies that the project must be big and complex to realize a benefit from it. If
each of the sponsors was planning to construct a single interconnection or a single wind
farm the project should probably be financed inside the company along with other similar
projects (corporate finance)229. However, as discussed in section B-II a combined solution
like KF has positive effects by cooperation and synergies between all stakeholders. This
means that huge transactions cost already are present and by assemble transactions from the
separate groups to one company can benefit planning, construction and operations in KF.
Information-flow symmetry can derive from the integration of the previous separate benefits,
costs, company limitations and individual experience and knowledge230 . Stronger unity can fix
many of the risks analyzed in chapter 2. For example one instead of three environmental
permissions, coordinated planning and constructions to create a knowledge center from
different industries. Especially the last factor can be important as it give TSO`s and cable
companies incentive to create a new technology to solve the problems arisen by combined
solutions.
A joint company will reduce risk like asymmetric information between companies
involved. It aligns the partner’s interest that diminishes conflicts between managers,
shareholders and sponsors231. To further reduce these conflicts investors with affiliation to
228
Moderen Project Finance, B. Esty, 2004. Page 2-3
This is also the finding of Roland Bergers final rapport, 2010. Page 29-33
230
This is also called transaction benefits where synergies of employees or groups will create challenges, and
increase skill development. (The benefits of transaction cost economics: the beginning of a new direction, JW
Adela. Page 1127
231
Management risk; Moderen Project Finance, B. Esty, 2004. Page 6 and Instabilities of Strategic Alliances:
An internal tension perspective. TK Das, BS Teng, 2000. Page 87
229
49 | P a g e
the project should be selected (national states, construction firms, EU etc.). The
stakeholders and investors that carry risk will protect its interests and impose discipline by
controlling management, debt service repayments and appropriate profits for public units.
Project finance can reduce transaction cost in relation to incentive conflicts, where
opportunistic behavior make the other party in a contract-setting seek more advantageous
deals from themselves that results in expensive monitoring and enforcing of contracts. This
aspect can be an important factor allocating proportionate cost and revenues. In the same
time the sponsor’s managerial flexibility is reduced as they lose some of the control in the
separate company.
Today, cooperation and flexibility is the chosen strategy. This make the sponsors commit
limited resources, adapt to changing conditions and can exit easily if progressions get bad
that can be a good option in the planning phase.
D-4)
Regulatory, and political risk
“The paradox of infrastructure investment” means that a project that are important for a
country and its citizens (and indirectly pay for its costs through tariffs) will not allow
improper high returns at the expense of the society232. This paradox could increase project
risk if the national regulators are unaware or are uninformed of the costs involved. This
risk can be prevented by introduce national and EU institutions among the investors of the
project that creates more transparency. It will reduce the probability of regulatory
drawbacks and negative behavior of concerned governments233. The national authorities
will as owners would probably not make negative regulatory decisions affecting the project
as the politicians will get the blame for stranded cost and misuses of tax money if the
project fails234. Other investors will also feel more secure with strong investors. As a result,
if the presumptions of present and future regulatory risk are/will be too high, project
finance can be the preferred financial structure.
The different economic frameworks on TSO`s responsibilities, cost and returns for offshore
transmission investment and the support schemes for the wind farms greatly increases
regulatory risk. But as countries has different generation setup and needs in relation to
232
Management risk; Moderen Project Finance, B. Esty, 2004. Page 10,
The length of the public inquiry adds uncertainties to the licensing phase. Political and regulatory
requirements may also change during the planning, construction and operation phase.
234
Lengthy coordination problems delayed investments in the MidCat pipeline between France and Spain
(Roland Berger, 2011)
233
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electricity, one common European regulatory framework can be unsatisfactory. If the
regulatory support for wind and allocation of costs between TSO and wind farm owner in
Sweden was the same as in Germany or Denmark it would be less reasons to withdraw
from the project235. Collaboration between private business and national regulators in one
specific project like KF could create a responsible and proportionate regulatory framework
where experience can be transferred and used for similar project in that area236.
D-5)
Concluding remarks
In the described energy market transaction cost theories recommend to use a mix of
vertical and horizontal integration to create a joint company, long term contracts and spot
market trading to support investment as it reallocate the risks to others.
The need for high leverage is low as long as the sponsors (TSO`s) are financially strong
enough. Equity ownership will also show financial commitment to the project. In the same
time the project will benefit of involving other stakeholders like national governments,
construction developers and European institutional capital providers. This indicates a
hybrid project finance structure with lower leverage than normal project finance.
The hybrid solution can be a partly regulated or unregulated interconnector (merchant
project). To have the project interconnector exempted from regulations, the TSO`s in
collaboration must comply with certain recruitments in Art 17 in Regulation 714/2009/EC.
This possibility will be further discussed in chapter 5. An unregulated project must run on
a fully commercial basis and revenues will only be received from the project itself.
E) Monopoly power
General motives for a firm to get vertically integrated are to increase its market power and to
be a monopoly. In the early age of the electricity industry governments introduced natural
monopolies to reduce transaction cost because of; technical conditions, complexity of the
transmission network, security of supply, moral hazard and other externalities237.
235
To make use of a certain country`s law is done regularly in business arbitration (contract law). Oil and gas
companies is exploiting recourses all over the world were national rules applies and are taxed for their
exploitation by national authorities. The same can apply for construction of electricity generation and
interconnectors in the future as long it bring sufficient values.
236
A regulatory framework from KF can for example be used in a project involving countries with the same
national interests, price difference and generation technology. (f.eks Norway, Denmark and Holland)
237
Slide from class (Århus University) from vertical integration; International Business Methods, 2010
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The concern for monopoly power is the possibility to introduce excessive or discriminate
prices in contracts. In the view of the Chicago school that is a reasonable way to collect profit
and is the way the capitalistic market works. This view is also within the argumentation of
Joseph Schumpeter that argued for the importance of market power. He saw that innovation
and entrepreneurial activities was more important than simply reducing marginal cost and
compete on price. If an innovation was successful it would create a temporarily monopoly
where the firm should take the extra profit before more effective competitors would normalize
the profit. In this way a company has an incentive to make more effective products and/or
markets, consequently make the economy grow further238. If no firm can achieve the ultimate
goal of gaining on monopoly power the markets have restrictions and will hamper the nature of
market economics. The other view (Harvard school) want more regulation on monopolies and
proclaims that too much power destroy fair competition and entrance to the market. The result
is increased prices for the consumer and reduces social welfare239. This is also the basic view
of the EU authorities and the commission240. Protection of smaller firms and competition is
most important. These arguments were later brought up in merger and antitrust cases in the US
where it started around 40 years ago. When a monopolist executes exclusive dealing or a duty
to deal, antitrust law should be used. This approach is also used by EU courts. However, there
can be confusion in how to interpret the market rules. Firms with high market share are
uncertain on the results by their actions and therefore are cautious of doing any investment 241.
In a decentralized electricity market, vertical and horizontal integration is likely to occur and
represent a” natural” structure to mitigate price and market risks242. An intensive vertical and
horizontal integration in a market can generate ownership concentration243 that can be
exploited to limit entry244. Especially can this be a problem in the electricity sector where
transmission constraints like network congestions limit the geographical area. A TSO that has
monopoly power and a large energy company can together have huge Market power that
238
An Introduction to Economics with Emphasis on Innovation, Pol, E Carroll,P, 2006
(Schumpeter expected firms to be sooner or later outcompeted by better adapted rivals, just like the law of
nature where there is constant changes; firm is born, grow-up, peaks, get old and then die.)
239
Reconciling the Harvard and Chicago Schools: A New Antitrust Approach for the 21st Century, Thomas
A. Piraino, jr.
240
COM(2006) 851 final. Inquiry pursuant to Article 17 of Regulation (EC) No 1/2003.
241
Competition, contracts and the electricity market. Glachant and Hauteclocque, 2011, chapter 9,
242
Competition, contracts and the electricity market. Glachant et al, 2011, chapter 3 (Finon) page 76, 95-100
243
Competition in the British Electricity Spot Market. Green R. and D. Newbery (1992). Journal of Political
Economy, 100(5), 929-53.
244
By permitting negative retail margin and cross subsidizing between generation and retail segments in
vertical integrated entities.
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means they have power to influence the affected market245. This can be used to give
exclusionary contracts and increase collusion between incumbent firms to share a market or
push-up the price like happened in California energy crisis in 2000-2001246. Also other
variables such as generation cost are less transparent and hard to observe for regulators.
An advanced study is done by the European Commission247 conclude that because of market
concentration the price for electricity is higher than it would be in a perfect competitive
market. This view has however been questioned by empirical investigations (Bushnell et al.
2008), (Mansur 2007), (Sioshansi and Oren 2007)248. After the release of the Energy sector
enquiry in 2007 competition authorities seek to weaken the position of dominant
companies by limiting long term contracts and vertical integration to endeavour more
competition and reduce electricity prices for consumers249. A legal analysis will asses if an
unregulated Krigers Flak joint venture comply with the requirements of a merchant project
and the scope of an eventual exception.
Chapter 5 – A merchant interconnection and competition law
The European Community250 (EC) main aim is to create an internal market, where free
movement of goods, services, persons and capital can move without obstacles of any kind
and that could distort competition251. Healthy competition is meant to ensure effective
allocation of resources and by that increase consumer welfare. These principles have been
transferred through general competition law in the Treaty to the energy sector through
sector-specific regulations252. To protect the environment the EC policy on energy issues is
to ensure the functioning of the internal market, security of supply, energy efficiency and
245
When firms have zero market power, theories assume that it is perfect competition and unable to
manipulate supply and demand
246
Joskow, P.L. and E. Kahn. (2002). “A Quantitative Analysis of Pricing Behavior in California’s
Wholesale Electricity Market During Summer 2000,” The Energy Journal, 23(4),1-35.
247
http://europa.eu/rapid/pressReleasesAction.do?reference=IP/07/522&format=HTML&aged=0&language=
EN&guiLanguage=en
248
Competition, contracts and the electricity market. Meade and O`Connor, 2011. Page 101
249
Energy sector inquiry. 2007. Page 323
250
An international organization (also referred to as The Community) created with a view to bring about
economic integration (including a common market) among its members. Started with the treaty of Rome
in 1957
251
Article 26 to 28 TFEU
252
Art 194 TFEU. Secondary legislation is defined in Art 288TFEU and The Commission has the primary
responsibility to take decisions and adopt general regulation is competition law issues. Art 26, 27, 32, 33
TFEU
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development of renewable energy sources and at last promote interconnections of energy
networks. The latter has a separate EU policy in art 170 Treaty of the Functioning of the
European Union (TFEU) where the importance of an energy network is highlighted and
where member states (MS) must prioritise and promote interconnections. These energy
policies have then been transferred to secondary law of regulations and directives253.
Regulation (EC) No 714/2009254 was made to increase cooperation and coordination of
TSOs, access to transmission networks and the creation of new interconnector
capacities255. The legal instrument of a regulation is effective in cross-border
circumstances where immediate actions in needed as it don’t require transposition into
national laws and is directly applicable256.
Competition policies is about maximizing long term social welfare, and by that try to
balance a good business environment for companies and in the same time protect
consumers and increase social benefits. This balance can be difficult and can be transferred
to the energy market and the investment in new networks both in gas and electricity.
Energy networks and operators are normally natural monopolies in their home country and
unbundled from generation and trade as shown in chapter 1257. This indicates that they
have to give grid access to private generation and support trade. The Directive 2009/72/EC
article 32 demands non-discrimatory access to the electrical grid also called third party
access (TPA) to foster competition and trade between countries.
I) Merchant investment
To stimulate construction of much needed interconnectors European legislators has
introduced Regulation (EC) No 714/2009 article 17 (1). This regulation gives exceptions to
new interconnector projects of some of the original obligations in the Third Energy
253
Dir.2009/72/EC on the internal electricity market. Regulation (EC) No 713/2009 on cooperation of energy
regulators.
254
A regulation is directly binding, and does not need any implementation (Article 288 EC: “A regulation
shall have general application. It shall be binding in its entirety and directly applicable in all Member
States.”).
255
Three core areas to achieve this include: cross-border tariffication and inter-TSO compensation scheme,
transparency and methods of cross-border capacity allocation. (Recital 4 and Art 1.)
256
Article 288 TFEU (Treaty on the Functioning of the European Union). A regulation like (EC) No
714/2009 can set out detailed requirements in particular areas of importance for the completion of the internal
market based Art 114 TFEU.
257
The law of unbundling is not applied to upstream levels, that means that electricity supply companies can
own network of gas, oil or coal that are needed for their production.
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package; Third party access (TPA)258, restrictions on the use of transmission and
distribution tariffs259, the use of congestion rent260 and ownership unbundling261.
The reason for giving an exemption is to endorse risky interconnector projects that without
an exemption can be downgraded in terms of priority or decreased in size262. This can be
related to innovative and risky Kriegers Flak (FK) that require better coordination and
higher return on equity than other projects. As KF is a new interconnector project, the
owners can apply for this exception and receive an appropriate rate of return that reflects
the risk for the particular project. This is also the objective to the regulation; by arbitrate
between short-term competition via TPA and long term efficiency gains with increased
investment for a more integrated electricity market. The exception has been granted to
other interconnecting projects like Estlink connecting the Estonia and Sweden and BritNed
connecting Great Britain and Holland263. Britned wanted an exception of TPA because it
gave more flexibility in terms of the use of capacity and long term insurance for positive
cash flow. A stable cash flow could be guaranteed by a long term contract to one or several
undertakings where TPA did not fill up the capacity.264. By having the exception they also
believed that if the project became successful the regulatory price cap would limit the
investors’ chance of a satisfactory reward. Their problem of a regulated project was that
the deal satisfied certain low risk capital providers but not the high risk investors that in
turn limited finding adequate capital and increased financing costs. BritNed describes how
the challenges can be limited by an exception and the view has many similarities with
Krigers Flak.
A request of an exemption requires compliance of six conditions and is taken by the
national regulatory authorities in cooperation with the involved MS on a case by case
basis265. In the case of KF the national regulators in Denmark and Germany must cooperate
to find the appropriate terms on the tariff-conditions and the allocation of capacities266.
258
Directive 2009/72/EC art 32
Directive 2009/72/EC, art 37 (6), (10). The tariff is still regulated but now in the light of the specific
project in cooperation with affected regulators (in case of KF, Danish and German).
260
Regulation 714/2009/EC, art 16(6)
261
Directive 2009/72/EC art 9
262
The exemptions are mainly designed for new DC interconnectors, but AC interconnectors may also be
considered in exceptional circumstances.
263
Britned.com
264
Energy Networks and the Law, Tjarda van der Vijer, 2012. Page 346
265
Regulation (EC) No 714/2009. Art 17 (4)
266
However, the European Commission keeps the right to propose amendments or a complete withdrawal of
the exemption. Guidelines on infrastructure exemptions SEC(2009)642 final chapter(1.2)
259
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Even if KF got financing for electricity infrastructures from the European Energy Program
for Recovery (the EEPR)267 it does not mean they also will get the exceptions from Art
17(1). There are however similarities in both regulations; the objective is to stimulating
further investment to enhance competition and the project has a high level of risk.
Art 17(1) and the related conditions have been interpreted differently over the years.
Especially in the gas sector there have been some inconsistent decisions among NRA`s
regarding the exemption that have spread uncertainty to the electricity sector268. Since the
initial costs are higher for electricity than gas transmissions the uncertainty and
unpredictability make the investment decisions even tougher, especially when antitrust law
can apply ex post in case of a possible abuse of a dominant position or unlawful concerted
practices between the joint owners269.
Because of the different interpretations the Commission has submitted a guideline on
infrastructure exemptions that provides information on the Commission's assessment of
exemption-decisions taken by national authorities270. This framework and case law will be
used to evaluate the conditions in Art 17(1) presented in this chapter from A to F and if KF
can be exempted from some or all of the relevant regulations.
A) The Investment must enhance competition in electricity supply.
The exception is meant to promote cross-border infrastructure investment that will increase
the number of competitors by connecting markets. More competition limits market power
by making dominant firms produce closer to competitive levels and in that way decrease
market prices. The exception of TPA will create an opportunity to sign long term PPA and
to require equally long-term priority access rights trough the interconnector. The vertical
agreement271 between the TSOs and related energy company means less available capacity
for spot-market trading for competitors and new market entrants. In this context, the
granting of long-term priority access to dominant energy companies for a substantial
amount of the capacity of an interconnector that is an essential facility can result in an
267
Regulation (EC) No 663/2009, see annex 7
Long-term supply contracts in European decentralized electricity markets: an antitrust perspective.
Hauteclocque, 2009. page 213
269
Art 101 and 102 TFEU
270
Guidelines on infrastructure exemptions. SEC(2009)642 final
271
It is a vertical agreement as the undertakings have different levels of trade (transmission and energy
supply).
268
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abuse if a dominant position under the European Community (EC) antitrust laws272. In this
context the question is if KF have a dominant position. The determination of the related
market KF operate will have a huge impact on this aspect. The interconnection has also
already tied a large amount of the capacity to the connected wind farms. If a KF joint
venture project is proven dominant, can it occupy the interconnector further and increase
the congestion rent without substantially influence the market structure and thus weaken
competition in the related market?
A-1)
Dominant undertakings and sector specific markets
The exemption request will come from the owners of the project and the European
Commission has stated that a high voltage interconnection is considered a natural
monopoly and national in scope273. Energinet.dk is a natural monopoly in Denmark and
50Hertz274 has responsibility over the grid in the northern part of Germany and thereby can
be regarded to have de facto monopoly in that region. The Nordic market with Germany is
coupled meaning that it links several countries through implicit auctioning of cross-border
transmission capacity (see chapter 1). As integration of markets is the goal of the
electricity regulation and the Nordic market is one of the most developed it can be easy to
perceive it as one market. However, even when markets are strongly interconnected the
production costs and prices between the regions can be very different. A relevant market
can be found through a careful analysis of the product and the geographical market with
the use of several tests275 and the perceptive can many times be different. Some suggest
that it should be considered different markets when the prices divers276, others find that
some Nordic regions should be regarded as the same market in time-periods when the
272
Art. 102 TFEU. Congestion management guidelines in Annex 1 (2.10) of Regulation 714/2009/EC; to
avoid creating or aggravating problems related to the potential use of dominant position of any market
player, the relevant regulatory and/or competition authorities, where appropriate, may impose restrictions. If
compliant with antitrust rules long term access right is lawful when granted through long-term auctions
approved by the national regulators cf. Annex 1 (2.2).
In the reading of the case VEMW (Case C-17/03), new long-term priority access rights would thus not be
discriminatory and illegal per se under secondary EC law and competition effects should be assessed on a
case-by-case basis.
273
Case COMP/M.3696 E.ON/MOL, O.J. 16.09.2006, L 253/20 and IP/05/1658 of 21.12.2005 .
274
50Hertz and Energinet.dk is under the definition of undertakings as they are economic entities even
partially publicly owned, as they do not exercise public authority. Ref. Case C-41/90, Höfner §21,22
275
Commission notice on the definition on the relevant market. OJ 1997 C 372/5, and national authority can
test the market cf. Guidelines on infrastructure exemptions §29 under Guidelines for Good Practice on Open
Season Procedures
276
The Power Fallacy: Energizing the Cellophane Fallacy. Olesen and Sundahl 2011
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prices are equal277. Either way, the definition of relevant markets is unclear278 as there have
been no formal judgments so far279. However, as KF is partly an interconnector it can be
assumed that the TSOs as the operators would naturally have a dominant position as an
interconnector is an independent market in reference to the UK-French submarine
interconnector case280.
The two TSO`s are not active in electricity supply and have no obvious incentives to make
a difference of the allocated interconnector capacity281. However, a vertical joint project
with major energy suppliers involved could abuse their position when there is an
agreement on allocation of long term access rights282. Dong has a dominant position in
Denmark with around 50 % market share283 and in Germany; EnBW is the third largest
electricity supplier, after E.ON and RWE and have also business in Denmark284. Dong
Energy is not yet a confirmed party in the KF project but there is expected a large energy
company with substantial experience. For that reason this law-analysis will assume that the
energy suppliers have huge market share in their home country285 .
It can be concluded that agreements between TSOs and energy companies have a vertical
aspect. The reasoning in Article 17(1) condition “A” derives from the interpretation of
Article 101 and 102 TFEU286 where restricting; distorting or affecting trade negatively
between MS shall be prohibited, in particular if the capacity is held by players with a
significant degree of market power. Since competition law can be brought up ex post, its
interpretation will be considered on top of the meaning of condition “A”.
277
The relevant market. Juselius et al, 2008.
“Area in which the firms concerned are involved in the supply of products and in which the conditions of
competition are sufficiently homogeneous” Definition of relevant market. Official Journal C 372 of
9.12.1997
279
Hauteclocque, 2009, page 189.
280
See European Commission press release IP/01/341 of 12.03.2001
281
When demand of transmission capacity is high the TSO`s will benefit on auctioning capacity to third
parties as the internal agreement probably has a lower fixed price. However that will cause contract –breach
and legal prosecution.
282
Collective dominance can exist when two or more legally independent undertakings act together. Cf.
Joined cases C-395-396/96 CMB, § 36, 41, 43. Regulating Competition in the EU. P.Jessen et al, 2008. p249.
283
http://www.dongenergy.com/
284
http://annualreport.enbw.com/2010/management-report/group-structure-and-business-activity/productsand-market.html
285
50% or more cf. Case C-62/86 Akzo, §60, but also under 50% can be considered being dominant cf.
Regulating Competition in the EU. P. Jessen et al, 2008 page 253.
286
This chapter will not provide a full analysis if an eventually Krigers Flak joint venture will infringe the
merger regulation or Art 101 and 102 TFEU. However, it will be discussed some aspects from it as it is
related to the analysis of a merchant exception under Art 17(1) (EC) No 714/2009.
278
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A-2)
Essential Facilities Doctrine and third party access
The essential facilities doctrine (EFD) 287 arrive from US case law and states that if a
dominant firm don’t grant access to one of his assets where access is necessary to allow
effective competition(f. ex electricity network), even to direct competitors, the firm may be
liable to incur antitrust288. The doctrine is evaluated in case by case basis with the main
principle that if a dominant firm will not grant access to one of his assets or allows access
under less favorable conditions, it is abusing its dominant economic position that can be a
violation of article 102 TFEU 289. The abuse of a dominant position can also be considered
if it could weaken competition or hinder the maintenance and growth of competition in an
existing market290. After the liberalization of the energy market in EU, mandating access
to networks through the concept TPA has been important and reflects many recent
judgments (E.ON291, RWE292)293. Refusal of access is not abusive in general, but it is hard
to justify in the energy sector as proportionality and transparency are interpreted strongly.
Under antitrust law, access to essential facilities where primarily the exception and not the
rule, from recent judgments it can be seeing a shift towards supporting the objectives of
full TPA in the sector specific regulation. This interpretation differs slightly of the US
approach that emphasizes more a free market system in the spirit of Adam Smith`s
“invisible hand” and Schumpeter’s innovation-based economics (see chapter 4)294.
A joint venture that has an agreement which can restrict competition goes under article
101(1) TFEU. The balancing exercise in art 101 considers long-term PPA as significant
anti-competitive and must be evaluated against the benefits given to the consumer,
improvement of economic efficiency and prove that the efficiency gains through the
agreements are indispensable.
For a dominant undertaking or collective dominance in an interconnection, competition
will only be enhanced as long as non-dominant competitors increase significantly in their
Also referred to as “exceptional circumstances” in EU case law. The Commission or Community Courts
have never used the term “essential facility” but is used informally. Hauteclocque (2009) page 188
288
Hauteclocque, 2009, page 182.
289
Bronner case defined three conditions: (i) access must be essential; (ii) access must be denied without
objective justification; (iii) the refusal must prevent any competition. Business Commission Decision OJ L
015 of January 18 1994; ECJ November 26 1998, Case C-7/97, Jur 1998, pI-7791. (Art 81 EC and the
merger regulation can also be used)
290
Case 85/76 Hoffmann-la Roche, §91
291
Case COMP/39.389 E.ON, O.J. 13.2.2009
292
Case COMP/39.402 RWE, O.J. 5.12.2008
293
Competition, contracts and electricity markets. Hauteclocque et al. 2011. Page 277
294
In Verizon Communications, Inc. v. Trinko, 540 U.S.398 (2004), the Court refused to find a monopoly
telephone company liable under section 2 for denying a rival access to its telephone network.. The Court
emphasized that the pursuit of “monopoly prices ... is an important element of the free-market system. . . . It
is what attracts ‘business acumen’ in the first place . . . .” Id. at 407.
287
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market or expand their market positions295. The PPA to the involved wind farms in KF will
occupy the available transmission capacity up to 100% when electricity is generated296. A
problem regarding promoting competition can appear when full turbine production
occupies all the capacity in the interconnection, especially if the generating companies are
dominant. This means that when capacity is available the interconnector must probably not
be occupied by dominant undertakings that significantly decrease the opportunities for
non-dominant competitors to enter the market and thereby weaken competition297. As the
promoters are natural monopolies there are few possibilities that competing infrastructure
will be built, and the access regulation must therefore be interpreted stricter298.
Exclusive rights with long duration (minimum 20 years of exception from TPA) have been
granted full capacity in resent cases regarding new interconnectors299. Whatever the
allocation method, unused capacities must stay at the minimum, transparency must be
ensured and secondary trading must be possible. With a developed and structured
electrical Nordic market these conditions should be easy to fulfill regarding KF. However,
in a case concerning an interconnector named Arnoldstein-Tarvisio between Austria and
Italy the Commission demanded that 100% of the capacity should be available for auction
and that reserving capacity was not necessary for to recover investments300.
As a conclusion, the TPA exception for a joint KF project on additional (not including
capacity to internal wind generation) long term access priority to the interconnector will
almost certainly not be permitted if not exceptional circumstances take place. This can be
additional unexpected risk or that available capacities are unused for a considerable time.
EC antitrust law may always apply ex post if abuse of a dominant position or unlawful
concerted practices between the joint owners is established (with or without intent)301.
295
Guidelines on infrastructure exemptions. SEC(2009)642 final § 34
The cable has double capacity so it can send electricity both ways simultaneously. Still if all wind
generation is sent to Germany, no additional electricity can be sent in the same direction
297
Guidelines on infrastructure exemptions SEC(2009)642 final § 30-36
298
Guidelines on infrastructure exemptions. SEC(2009)642 final § 21 and box 2
299
Rovigo LNG, Grain 1/2/3, South Hook LNG, Dragon LNG. Viking Cable COMP/E-3/37.921, O.J.
5.9.2001, C 247/11, UK/Belgium gas interconnector, IP/02/401 of 13.3.2002. Marathon settlement; European
Commission press release IP/04/573 of 30.4.2004, IP/03/1129 of 29.07.2003, IP/03/547 of 16.03.2003 and
IP/01/1641 of 23.11.2001.
300
Sections 22-27 of the Arnoldstein-TarvisioExemption Decision, 26/10/2010.
301
Hauteclocque, 2009 page 190. Commission Decision 94/119/EC (concerning a refusal to grant access to
the port in Rødby
296
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A-3)
The use of congestion rent
With an exemption, the TSOs and NRAs in KF are free to set an independent tariff on the
use of the interconnector and give adequate return to investors instead of uphold the
original obligations in Regulation 714/2009/EC, Article 16(6) (see page 55). The reason is
that the project is separated from the TSOs regulated profits and must obtain financing on
its own through obtaining adequate congestion rent.
In case of KF interconnection the application of the Essential Facility Doctrine in
competition law is interesting in regard to the purpose of the sector-specific regulation of
art 17 and antitrust laws. Deutsche Telecom302 charged competitors for accessing a
network more than they charged their own company303. The European Commission
determined that the company violated article 102 TFEU even the German regulator had
approved the price difference earlier (antitrust laws is superior to secondary law)304. The
reasoning was that the unattractive condition on access was the same as a constructive
refusal. The original decision from The Commission305 in 2003 was the same as the
European Court of Justice concluded in 2010 after Deutsche Telecom appealed the
judgment from 2003. They also declared that “in circumstances where the conduct of a
national regulatory authority may be regarded as having encouraged a dominant company
to act in an abusive manner, this cannot serve to absolve a company from responsibility
under Article 102 TFEU” 306. This means that a previous decision from a NRA that they
found reasonable under the circumstances still left room for abuse of dominance, according
to The Commission.
It could be an option to price the use of the KF interconnection capacity less for the
integrated wind farms than the capacity for third parties. In that way the project can reduce
the cost for the electricity supply and set higher TPA tariff prices reflecting the risk and
give adequate return to investors. However it must be limited to what is strictly
necessary307 and the conclusion from Kriegers Flaks regulators and the Commission can be
completely different. This uncertainty of ex post antitrust enforcement can reduce the
302
Case C-280/08 P Deutsche Telekom. For summary see White and Case Deutsche Telekom vs Commission
Especially the court reacted on the insufficient difference between wholesale and retail prices that was too
low to cover costs of serving its own services.
304
by an ex post review, the legislative framework adopted by the Union legislature for ex ante regulation of
the telecommunications markets” and that the ex ante regulation “did not in any way deny Deutsche Telekom
the possibility of adjusting its retail prices for end-user access services or, therefore, of engaging in
autonomous conduct” Supra note 44, (paragraph 92).
305
The European Commission and the Commission will be used interchangeably.
306
SEC (2009)642 final. Paragraph 15-17
307
Guideline on infrastructure exemptions. SEC(2009)642 final Art 17
303
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willingness to invest in the first place and to use the available options in Article 17(1)
meant for promoting interconnections and renewable energy generation.
With reference from the case of BritNed308 a quicker than expected down payment because
of unforeseen extra cash flow revenues will not be taken into account for an exemption.
This can be interoperated that a low price for consumers is more important than to decrease
the risk for an investor by quicker down payment on capital loans. The calculation and use
of congestion rent will on the other hand most likely be accepted by the regulators if
adequate, proportional, and transparent with the use of normal auction methods (implicit
and explicit) in compliance with the Congestion Management Guidelines309 (and the Third
Energy Package). In the electricity sector the Commission seems concerned over the
optimal interconnection capacity310. This can become a question to KF as the transmission
capacity is the same as the wind farm electricity production (Especially regarding the
interconnector to Denmark that has 400MW capacity and wind farm 600MW). However,
Energinet.dk proclaims that an expansion of capacity will substantially increase cost311.
This will in turn affect consumer price and thereby be an unfeasible condition. Either way,
the Commission will probably make the NRAs take a financial review after some years as
did to BritNed312 to measure optimal capacity in relation to the needed revenue for the
project. A to high benefit can force KF to increase capacity or cap the profits313. In will
therefore be important for the owners of KF, in consolidation with the national regulators
to find the rate of return that is just acceptable for an investor but not more.
Antitrust powers have so far never been used on a merchant line exempted under Art 17
procedure314. With experience from BritNed, it seems that incumbent TSOs can get an
exemption as long as they meet the other criteria’s in Art 17(1).
308
Energy Networks and the Law, Tjarda van der Vijer, 2012. Page 345-47
Regulation (EC) No 714/2009, Annex 1
310
Energy Networks and the Law, Tjarda van der Vijer, 2012. Page 347
311
Interview with Peter Jørgensen from Energinet.dk. The costs come from the N-1 principle that ensures
that a system always has enough electricity when loosing the largest unit in operation without causing a
blackout. If the largest unit is an interconnector and it must increase capacity, other units in the same system
must also increase, causing huge costs.
312
Energy Networks and the Law, Tjarda van der Vijer, 2012. Page 347
313
Section 13 of the BritNed Exemption Decision by the European Commission, 18 October 2007.
314
Hauteclocque. 2009
309
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B) The level of risk attached to the investment is such that the investment
would not take place unless an exemption is granted.
This requirement is difficult to interpret as it is hard to assess the different risk-factors that
make a project fail. Normally there are the national regulators that have a duty to provide
adequate compensation mechanisms through regulated tariffs to stimulate investment in
new interconnectors. But, as we have concluded in this thesis, adequate remuneration on
bigger and more experimental projects can be difficult for some TSOs. Several of the
TSOs interviewed by the consultant firm Roland Berger also declared that congestion
revenues are set to low315. In reference to the regulation, revenue to the TSO collected
from an interconnection is capped to be used on increasing the interconnectors’ capacity or
lowering the tariffs316. The Roland Berger rapport317 states that a risky project like the KF
interconnector ought to have a return on 10% or more to get compensate for the risk and
attract more infrastructure-founds and related investors. For the wind-farm investment the
minimum rate of return on the capital invested is 7.9%318 with a hopeful anticipation of 911%. The last anticipation gives a good foundation for attracting investor from other
sectors.
A project of both wind farms accompanied of an interconnector has a particular sunk
cost319. Especially for the wind-farms that are dependent on the connection on-time to get
full effect selling electricity supply inland. The planning of KF has delayed very long even
with positive initiatives from stakeholders and the community. That the Swedish TSO
pulled out of the project had also shown that different regulatory foundations make
cooperation and agreements for completion more difficult. The aspect of risk related to
technology and innovative structure is important and is also commented in the reports from
the European Coordinator Adamowitsch320. In the BritNed interconnector project the
British national regulator after a review of the project risk321, concluded it to high to be
315
Roland Berger 2011) page 51 and 59
Regulation 714/2009/EC article 6(6) and Guidelines on infrastructure exemptions, page 20
317
Roland Berger page 52
318
Analyse vedrørende fremme af konkurrence ved etablering af store havmølleparker i Danmark (2011)
page 91
319
A cost that is already incurred and is hard to recover
320
European Coordinator first to fourth annual rapport by Adamowitsch. 2006-2011
321
(DTI/Ofgem, 2003, p.34): “For large and expensive infrastructure projects such as sub-sea DCinterconnectors, there more clearly appears to be a need to protect consumers from bearing the possible
risks, in particular if the infrastructure project in question were unable to recover its sunk investment cost
from users of the infrastructure. Therefore the development of risky investment such as interconnectors
316
63 | P a g e
considered a regulated interconnector322. This factor and those discussed in the risk
analysis should correspond to an exception of Article 16(6) (use and revenue of the
congestion rent) during the lifetime of the wind-farms.
On the other side the fact that the promoters are in a monopolistic situation and granted
support from national states, lowers the riskiness and reduces the need for an exception and
the probability that the project will not be constructed otherwise323. For that reason it
should be consistency between the risk and maximum exception granted324. In the
merchant project Estlink private investors was able to make the exception because the
regulated TSO had no plans to build an interconnector in many years. The private parties
got for that reason a 5 years exception from all TPA325 and the use of congestion revenues
and tariff regulation. If an exemption is not granted for Krigers Flak, adequate revenues
could not be satisfactory and the project will not take place. A partial exception on
congested revenues and/or time-limited exemption of TPA can also be verdict regarding
Krigers Flak.
C) The interconnector must be owned by a natural or legal person which is
separate at least in terms of its legal form from the system operators in
whose systems that interconnector will be built.
The wording of the third condition says that KF must be legally separate from Energinet.dk
and 50Hertz but, they can have ownership control (like an ISO, see chapter 1). This
condition is meant to separate sufficiently the joint project from the parents’ dominant
position and by that restrict their influence that can impede effective competition326. This
can be done by creating an own management dedicated to day-to-day operations. To
separate the parents and KF the owners can create a limited company like a joint venture
that can do business and enter contracts in its own name. The aspects on negative effect on
competition are what the EC want to restrict and a joint venture can be obligated to notify
would not fit within the class of infrastructure developments that would ordinarily be allowed to recover
costs as part of the Transco or NGC network activity remuneration.”
322
Investment in cross border transmission capacity : Economics or Politics. A European Case Study, Jong,
Lippe, & Knops, 2008), page 12
323
Guidelines on infrastructure exemptions. SEC(2009)642 final § 46 and 49 see box 5.
324
Guidelines on infrastructure exemptions. SEC(2009)642 final § 52
325
Investment in cross border transmission capacity: Economics or Politics? A European Case Study. H. jong
et al. 2008. Page 6
326
Regulating Competition in the EU. P. Jessen et al, 2008 page 308
64 | P a g e
in reference to the EC merger regulation327. The interconnector BritNed is a 50/50 joint
venture funded and operated on a commercial basis, independently of their regulated
parent company’s TenneT (Dutch TSO) and British National Grid (TSO in UK)328. The
project has similarities to KF and got assessed under a simplified procedure for treatment
of certain concentrations in the merger regulation329. The Commission found also that the
separate project-company did not share the same geographical market as the owners330.
This means that the interconnector itself is a separate market and this can be transferred to
an eventual KF joint venture331.
D) Charges are levied on the users of that interconnector.
This condition means that the KF interconnector costs cannot be down-paid by any of the
TSO`s regulated transmission charges. The condition is related to condition “C” on
separating parent companies and a substitute-project. The condition is also meant to secure
that a non-regulated interconnector will be misused by a parent-owner that could use the
project to protect itself and its market by for example charge unreasonable tariffs. As
discussed under condition “A” it is important that the higher charges on TPA correspond to
adequate rate of returns to attract investment332.
E) No part of the capital or operating costs of the interconnector has been
recovered from any component of charges made for the use of transmission
or distribution systems linked by the interconnector.
This criterion is to rule out an exemption being possible to existing interconnectors. In this
regard Krigers Flak will be a new investment333.
327
Council Regulation (EC) No 139/2004. A joint venture will be assessed have an obligation to notify (to
ensure effective control of concentration cf. Article 3(1) if performing in a lasting basis, have a community
dimension (large turnover) and have all the functions of a autonomous economic entity.
328
http://www.britned.com/BritNed/About%20Us/Company%20Profile
329
http://ec.europa.eu/competition/mergers/cases/decisions/m4652_20070803_20310_en.pdf
330
Commission notice 2005/C 56/04 paragraph 5, subparagraph b
331
Supposedly that the additional wind farms integrated in the project also is a part of the separate market.
332
Guidelines on infrastructure exemptions. SEC(2009)642 final § 56-57
333
Guidelines on infrastructure exemptions. SEC(2009)642 final § 59
65 | P a g e
F) The exemption is not to the detriment of competition or the effective
functioning of the internal electricity market, or the efficient functioning of
the regulated system to which the interconnector is linked.
A new interconnector with additional electricity production from wind farms gives higher
security of supply, lower emissions, good effect on market liquidity and more stable prices.
Condition “F” in comparison with “A” caused a lot of uncertainty as they tend to overlap.
The guideline clarifies that “A” and “F” has different approach to the aspect of
competition. An interconnector investment will increase trade and create benefits for the
consumer, but only if the interconnection is open for trade and have a considerable amount
of TPA. The condition in “F” is not to find the balance between investment and TPA, but
the possible effect on an exemption itself and how it will affect other similar projects334.
The worries are especially directed too existing regulated infrastructures and if an
exemption would influence that cost in a way that makes the tariff for general consumers
higher.
The effect on competition will depend on the status of the competitive position in the
Member State concerned. The interconnections to neighboring countries are important for
the prices in Scandinavia and this is supported by many existing and planned
interconnectors. Interconnection is planned between Denmark and Holland (Cobra) and
also further strengthening of NorNed 2 and Skagerrak 4 give extra import and export
possibilities, (A map of interconnections in North Europe is presented in Annex 8),
indicating that an exemption will not hinder further interconnection investment.
In Sweden the TSO, Svenska Krafnät have problems relating to internal bottlenecks on the
internal electricity network. In 2010 the Commission adopted a decision related to misuse
of a dominant position under Art 102 TFEU where Svenska Krafnät decided to block
import to relief internal congestion.
In Germany they have the same problem as Sweden with internal bottlenecks. However,
investments in the internal network are different in the two countries as Germany lacks
power supply and Sweden has plenty. Krigers Flak will be important for serving much
needed electricity generation to Germany while their nuclear energy is phasing out. In that
regard an interconnection to Sweden is more important to Germany than to Sweden. A KF
334
Guidelines on infrastructure exemptions. SEC(2009)642 final § 60-63
66 | P a g e
joint venture project could give Sweden better remuneration concerning the different
incentives. With this example a complete KF with three countries connected is extremely
important to increase the effectiveness of the internal market and is in compliance with the
condition.
A regulated KF interconnection will bind huge amounts of equity and debt into one risky
project. A regulated project will be secured by cost-recovery as a TSO always will be
saved if a project fails. The eventual cost of a KF failure will be placed on the consumers,
increasing their electricity price risk. A merchant project would relief these risks of the
TSO and allocates more of the costs onto private parties. The KF project can on the other
hand, if the project is successful have huge benefits for consumers in the future.
The conclusion is that all conditions can be met by the Kriegers Flak joint venture project.
However, a full exception would probably not be possible. The limit on increased benefits
gained on the exception can be stretched by the regulators and stakeholders in KF to attract
more investors to the project. With a close counseling with the commission the project can
oppose a later conflict with antitrust law.
Chapter 6 – Conclusion: The future of Kriegers Flak.
From the explanation of Krigers Flak and the risk analysis it has been shown that several
challenges must be overcome to make it successful. Especially is there obstacles regarding
allocation of cost versus benefits as different regulations and interests differ among the
stakeholders. The differences hinder effective coordination in many aspects of the project.
The economic analysis shows that integrating the projects stakeholders will make them
collaborate better and the incentives are channelled more efficient to the project itself and
not by their individual interests. High construction costs make the project rely on adequate
and reliable revenues to pay for the initial high capital investment. Economic theories
recommend long term contracts to reduce market risks. The nations that give this support
to the wind farms are still in the project. The other part of the project however
(interconnections), must rely on adequate regulated remuneration, something that can be
hard with new technical demanding and more expensive projects.
67 | P a g e
To intensify new energy sector investments the Commission has opened up for unregulated
and independent projects (merchant investment) that can solve some of the obstacles seen
in the Kriegers Flak risk analysis.
The combined solution project Krigers Flak will most likely meet all the six conditions in
the exception. A merchant project will improve competition overall and not deter it as a
successful KF will open new doors for the internal electricity market. The risk is also great
and especially the downside risk that is better taken by private investors. However, there is
not a straight conclusion to any of the conditions in A, B and F. Especially, as the Krigers
Flak combined solution is first of its kind in Europe and no similar project has been
evaluated for an exception before. Vertical integration is not supported in general by The
Commission and extensive regulatory supervision will be required335. In this context,
national involvement and close regulatory synchronization is already demanded to lower
the regulatory risk in the project.
The exception can give three advantages to KF in relation to the conclusion of the risk
analysis in chapter 2. The first is the possibility to unite the shareholders to one project
company that is intended to have a positive effect on collaboration and reduced transaction
costs.
The second advantage is to allocate some of the trade through long term contract and not
depend on volatile spot market prices. This exception will almost certainly not be
permitted if not exceptional circumstances take place as concluded in Chapter 5 “A-2”.
However, if difference between the prices in Germany versus the prices in Denmark and
Scandinavia increases the need for TPA exemption is not needed in the medium or long
term.
The third advantage is the exemption from regulated use and the rate of congested
revenues. As Concluded in “A-3” this exemption must be limited to what is strictly
necessary for the project. This exemption will probably be the important factor if investor
capital is required regarding KF completion. KF in cooperation with NRA can establish an
adequate congestion rent that will give investors adequate returns on spent capital. A
problem appears if the returns are too high for The European Commission and the
competition authorities. By consultation and involvement of the Commission and a
declaration that do not commit infringements in the long term can reduce this risk. Resent
guidelines and impact assessments from the Commission show that they know of the risks
335
Two horizontal Joint Ventures can also be possible, collection the TSOs in one and the wind farms in the
other. However, the benefits of cooperation between these businesses will then be lost.
68 | P a g e
presented in this thesis336. New and constructive ideas promoting energy investments can
be received positively and political backing will be essential.
A semi regulated project can have market based congestion revenue with a regulated
maximum revenue cap and a minimum revenue collar (as used in BritNed337). This semi
regulated solution means that the parent companies from an investor perspective will
sacrifice some of the upside profit in exchange of a downside protection. In that way the
private financiers take the construction and operating risks while the national authorities
cover market risks. In the context of setting up an innovative and technological demanding
project in an unfamiliar setting the safe and secure can be preferred.
A regulated project would be possible but then with more regulatory and capital risk. The
Commission gives more incentives to support energy infrastructure projects. The EU
budget will also give 9.1 billion Euros to connection energy grids in 2013. The problem is
nevertheless that a KF project has a long time-frame and the TSOs need reliable founds.
There is a certain risk to largely rely on public finances where European member states
still face difficulties originating from the financial crisis. The project would probably also
take longer time to finish with corporate finance as to the coordination problems.
336
-Impact assessment Accompanying the document Proposal for a Regulation of the Europen Parliament
and of the Council on guidelines for trans-European energy infrastructure and repealing Decision No 1364.
SEC (2011) 1233 Final.
-Guidelines for trans-European energy infrastructure. , COM (2011) 658 Final
337
See Chapter 5 section A-3
69 | P a g e
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effectiveness of capacity mechanisms. de Vries and Heijnen, 2008.

The Nordic Electricity Exchange and the Nordic Model for a Liberalized Electricity
Market, NordPool Spot

The Power Fallacy: Energizing the Cellophane Fallacy. Olesen and Sundahl 2011

The relevant market. Juselius et al, 2008.

The structuring and financing of energy infrastructure projects, financing gaps and
recommendations regarding the new TEN-E financial instrument. 2011. Roland
Berger strategy consultants.

The support of electricity from renewable energy sources, COM (2008) 19 final.

The Ten Year Network development plan. 2009

Wind power in the European Union: grid connection and regulatory issues, Paula
Souto Perez, Dirk Van Hertem, 2006.

Wind Project Financing Structures: A Review & Comparative Analysis, John P.
Harper, Birch Tree Capital, LLC Matthew D. Karcher, Deacon Harbor Financial, L.P.,
Mark Bolinger, Lawrence Berkeley National Laboratory, 2007
Law:

Council Regulation (EC) No 139/2004

Directive 2009/28/EC Article 3

Directive 2009/72/EC,

Directive 2009/73/EC

Directive 85/337/EEC

Regulation (EC) No 663/2009

Regulation EC 713/2009

Regulation EC 714/2009

Regulation EC 715/2009

Treaty of the functioning of the European Union (TFEU)
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Law cases:

Joined cases C-395-396/96 CMB, § 36, 41, 43.

Case C-62/86 Akzo

Case 85/76 Hoffmann-la Roche, §91

Verizon Communications, Inc. v. Trinko, 540 U.S.398 (2004),

preussen-Electra Case C-379/98

Case C-280/08 P Deutsche Telekom

Rovigo LNG, Grain 1/2/3, South Hook LNG, Dragon LNG. Viking Cable COMP/E3/37.921, O.J. 5.9.2001, C 247/11

Case COMP/M.3696 E.ON/MOL, O.J. 16.09.2006, L 253/20 and IP/05/1658 of
21.12.2005.

Case COMP/39.402 RWE, O.J. 5.12.2008

Case COMP/39.389 E.ON, O.J. 13.2.2009

Arnoldstein-TarvisioExemption Decision, 26/10/2010

Brönner case: Business Commission Decision OJ L 015 of January 18 1994; ECJ
November 26 1998, Case C-7/97, Jur 1998, pI-7791

Case C-41/90, Höfner §21,22
Appendix
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Annex 1:
Annex 2: Calculation of WACC:
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Annex 3:
The price income is constant from 2020 to 2030 because of the tariff subsidy but decreases significantly
around 2032 before it rises slowly because of the expected inflation on marked price
Annex 4:
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Annex 5:
However, the study underlines that the EMPS model could have undervalued the benefits as the price is very
fluctuating even during short time periods. Other benefits like the security of supply, gained knowledge and
expertise from a “first of its kind” project were not valuated in the model 338.
338
Kriegers Flak Combined Grid Solution Feasibility Study, The Project Partners 50Hertz Transmission,
Energinet.dk, and Svenska Kraftnät, 24 Feb 2010. Page 6-10
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Annex 6:
Insurance
company
50Hertz
Administraion
Energinet.dk
”Svenska
Statkraft”
Sponsors
Equity
Non-recourse debt
Shareholder agreement
Board of directors
State bonds, EU
founds, investors
Project company
Kriegers Flak
Banks:
Power output
30%
Purchase contracts
Danske Bank, Nordea, European
Investment bank
Energy developers and
operators:
DONG Energy , Vattenfall,
Power transmission
constracts
E.ON,
EnBW
Construction and services:
Cables:
Foundation:
Nexans, ABB
Bladt Industries, MTHoejgaard
Vessel operators:
Master Marine,
Turbines:
Siemens wind energy, Vestas
A2SEA
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Annex 7
Regulation (EC) No 663/2009 Article 8 (financial assistance to projects in the field of
energy Selection and award criteria):
1. In assessing the proposals received under the call for proposals referred to in Article 6(2), the Commission shall
apply the following selection criteria:
(a) the soundness and technical adequacy of the approach;
(b) the soundness of the financial package for the full investment phase of the action.
2. In assessing the proposals received under the call for proposals referred to in Article 6(2), the Commission shall
apply the following award criteria:
(a) maturity, defined as reaching the investment stage, and incurring substantial capital expenditure by the end of
2010;
(b) the extent to which lack of access to finance is delaying the implementation of the action;
(c) the extent to which EEPR assistance will stimulate public and private finance;
(d) socioeconomic impacts;
(e) environmental impacts;
(f) the contribution to the continuity and interoperability of the energy network, and to the optimisation of its
capacity;
(g) the contribution to the improvement of service quality, safety and security;
(h) the contribution to the creation of a well-integrated energy market.
Annex 8: Map over interconnectors in Northern Europe
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In the northern part of Europe where KF is built there are already interconnection between; Sweden
and West Denmark (Konti-Skan), Norway and Denmark (Skagerrak), Sweden and Germany (Baltic
cable), Denmark east and Germany (Kontek), Sweden and Poland called SwePol (Poland and
Germany is interconnected that give access to whole network of West Europe), Norway and
Holland (NorNed)339.
339
http://www.abb.com/industries/ap/db0003db004333/682f515dd85fdfbec125774c0041b112.aspx
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