Things are not always what they seem. While in one sense, the UK is busy disconnecting itself from Europe with the advent of Brexit, in another sense it is quite literally becoming more connected than ever through the growth of the electricity interconnector market. This post takes a look at this fast rising market and considers some of the construction risks such projects may face.
Electricity interconnectors are transmission cables between countries that allow the trading of electricity. Put simply, the idea is that if a country generates more energy than it requires, it can sell the surplus energy to a neighbouring country. Profits for the interconnector developers are reaped via capacity auctions, while multiple consumer benefits include lower supply prices.
Regulated by Ofgem, currently the UK market boasts four electricity interconnectors linking to France, Northern Ireland, Ireland and the Netherlands. These represent roughly 5% of the UK’s existing electricity generation capacity.
While keen to encourage this market, Ofgem keeps a tight handle on entry to it, prescribing a couple of main market entry routes with clear controls on returns. The routes include the regulated route under the “cap and floor” regime and the exempt route, where the interconnector developer faces the full upside and downside of its investment.
Where are we now?
November 2016 saw the successful progression of three interconnector projects (GridLink, NeuConnect and North Connect) to the Initial Project Assessment stage of the Ofgem cap and floor regime. Applications to take these projects forward under the cap and floor regime were made under the second window for applications, open from 31 March to 31 October 2016.
So what, in terms of construction risk, can these projects learn from the first round of interconnector projects (whether funded by the cap and floor regime or otherwise)? Will new issues to arise due to a changing and uncertain regulatory and commercial backdrop? These questions are considered in respect of key construction risks below:
Experience on projects to date has highlighted the risk of delay to both converter station construction and to cable manufacturer and installation. Under the cap and floor regime, Ofgem has indicated that the 25-year cap and floor period will commence on either actual grid connection or a specified long-stop date (whichever is earlier). Where a project is delayed and fails to achieve connection by the long-stop, the duration of protection and support under the cap and floor regime is eroded. In extreme circumstances projects risk the cap and floor being revoked. Investors will seek to pass delay risk on to developers and contractors. Contractors who have been previously burned by delay liabilities are unlikely to take on full delay liability, particularly for delay that is outside their control.
Cable and converter station contractors have been willing to join forces in consortium and take on fully wrapped project EPC risk. This risk sharing has not been without pain and the completion of the disposal of ABB’s high-voltage cable system business to NKT Cables in March 2017 means that consortiums will no longer be tendering against a European “one-stop shop”. It will be interesting to see whether this results in a further shift away from an end to end turnkey approach.
Multiple EPC contracts, splitting out the procurement of the cable and converter stations are common. On larger projects, where the length of the cable may also lead to multiple cable contractors being utilised, the potential number of contractors and the interface risk is high.
Where contractors have determined that they will not join forces to tender on a full project EPC contract basis they are unlikely to be willing to enter into interface agreements that effectively require them to fully cover the interface risk between the various EPC elements with all-embracing indemnities. There will therefore be interface risks that remain with the developer, which need to be analysed. The importance of the role of interface agreements in setting out co-operation and, at times, task-specific interface provisions should not be underestimated.
Even where parties have contractually accepted full EPC responsibility, the extent of the possible liabilities involved means that developers may be drawn into managing the interface between consortium partners. A full risk transfer to a single party may on paper be most attractive to investors but parties should consider whether there are more effective ways of fostering partnership between contractors and mitigating these risks for the benefit of the project as a whole.
- Offshore construction
Our island geography dictates that UK interconnector projects involve an element of off-shore construction when laying sub-sea cable. While the practical risk associated with laying the cable is not as complex as other off-shore construction activity there are notable differences from on-shore risks. Primary considerations include:
⋅ weather. The impact of poor weather conditions is amplified off-shore. The importance of planning for and being able to work within windows of good weather is therefore significant. Working outside planned weather windows may be possible but there will always be questions of additional cost and timeframe to consider;
⋅ seabed conditions. Detailed seabed surveys must be carried out along the route of the cable to determine the required cable burial depth. The cable installation contractor will need to rely on this survey in order to provide a firm quote. The constantly changing nature of the seabed means that these surveys have a limited lifespan; and
⋅ vessel availability. In an increasingly competitive market vessel availability problems will only increase. Parties that are able to offer dedicated resource in this area will be sought after.
The impact of weather risk and vessel availability combined can see even small delays multiply to cause significant delays to the overall project timetable very quickly. While these issues don’t represent anything new, the risk parties will be expected and prepared to take on will evolve with experience, market pressure and competition.
- Technical compliance
In a market that is striving for innovation and which is regularly notching up new firsts the high profile technical issues experienced on some high voltage direct current (HVDC) projects were not entirely unforeseeable. They do reaffirm the importance of thorough testing throughout all stages of the EPC process. Tests on installation are simply too late.
Even where technical faults are limited to discrete product batches they raise doubt as to the quality of other products to be provided by a supplier. Programme delays and the financial impact can be very significant. Best practice quality planning, assurance and control will continue to be assessed critically at tender stage.
In an exciting time for interconnector development it will be interesting to see how technical innovation, changes in the market and (dare I say it) Brexit will shape the structure of the agreements used to procure these projects. It would be remiss to consider that experience on projects to date will not also have a significant impact.