BP’s entry into UK offshore wind sector points to higher electricity costs

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Deep-pocketed oil majors barging in and paying over the odds to bolster their green credentials is not what Britain’s fledgling renewables industry needs.

Results of the latest round of windfarm seabed auctions off the UK coast, however, suggest that is just what it has got.

Britain’s BP PLC (LON:BP.) and French oil supermajor Total emerged as surprise winners in an auction that saw huge interest in the auction organised by the Crown Estate.

A total of six projects we auctioned representing just under 8 gigawatts(Gw) of capacity or enough power for about 7mln homes when built.

BP won two sites representing a total of 3Gw jointly with German regional utility EnBW. The two projects are in the Irish Sea, in 35-40m of water about 30km offshore.

German power group RWE won 3Gw, while a venture between Total and Aussie bank Macquarie picked up 1.5Gw.

Citigroup said the arrival of integrated oil companies (IOCs) with growth-ambitions in renewable energy has coincided with heightened competition in wind and solar.

“Yesterday’s UK offshore auction and the recent Spanish solar auction both saw intense competition.

“The question we keep asking ourselves is what risk are IOC’s imbedding?

“BP talks about the shift to renewables as “low regret, but low risk”, a phrase that we think is really too dismissive of the risk that equity might actually be carrying.

“As an example, we estimate that the upfront licensing costs imbedded in yesterday’s UK offshore auction adds 8 years to the project payback (now 20 years).”

A change to the mechanics of UK offshore site auctions has added to the debate with this round the first to use annual option fee payments instead of fixed fees.

Too few sites being offered given the rising demand was another criticism and meant that, inevitably, prices for those sites available would soar.

RenewableUK, the industry trade body, said: “The industry had warned that the limited number of sites available and high demand risked an auction that resulted in very high bids.”

The contracts awarded were worth GBP879m ($1.2bn) per year, or GBP111m per gigawatt per year, it added which “represent a very significant sum for developers. In comparison, developing and constructing a 1GW offshore wind farm currently requires investment of around GBP2.5bn.”

Observers said that ultimately these higher seabed costs will be passed onto customers through higher electricity prices.

Analysts, though, said the prices paid also underlined the attractiveness of UK offshore power at present.

Goldman Sachs noted that the UK auction result sparked two questions: Firstly, the role of the oil majors in the offshore industry and the rising competitive pressure that may result from this and secondly, the outlook on offshore returns.

While acknowledging the risks are rising, Goldman believes the market is exaggerating the threats, especially to the payment of the leases on the awarded seabeds.

The US broker says that while a rising share for the oil majors might translate into lower capacity awards for the existing green groups, seabed costs have been misunderstood.

Lease outflows are not perpetual, it says, and costs are only incurred until an investment decision (FID), which is typically between 4-6 years.

Annual payments to secure seabeds are also likely to become the “new normal”; and become ‘pass-through items’ with no impact on returns.

Larger, more efficient machines might also offset the additional costs.

BP’s new chief executive Bernard Looney has set out an ambitious plan for the group to grow renewable power generation to 50Gw by 2030 from 3.3Gw currently.

Under the awards yesterday, BP and EnBW will each pay around GBP1bn in fees for the project before an investment decision (FID).

RWE paid the lowest for its bid at GBP82,552 pounds per megawatt (Mw) per year, while BP and EnBW are paying GBP154,000 per Mw per year for the leases.

Shares in BP PLC (LON:BP.) eased slightly to 261.8p today.

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