Two of the world's leading offshore wind developers have warned that governments may need to change the rules for obtaining seabed rights if formats which allow uncapped bidding to secure concessions continue to produce “unsustainable” financial outcomes.
In latest earnings calls, executives from Orsted and RWE responded to a string of questions about the challenges that spiralling costs post to the offshore wind sector, amid strong interest about the implications of the recent lease sale staged by Germany.
In the 12 July tender, oil giants BP and TotalEnergies committed a total €12.6bn ($13.8bn) for three sites in the North Sea and one in the Baltic with a potential 7GW of generation capacity.
"What we have seen in the German auction which is the equivalent of €25 per megawatt hour for the full lifetime of the project being the lease payment alone, I think that is not sustainable," said RWE chief executive Markus Krebber.
The German result surprised many in the industry because it came at time when muted interest in some recent offshore tenders seemed to suggest that the sector had moved past what some insiders have been describing as a “race to the bottom”.
“I thought before the German auction we have seen a normalisation, with inflation-linked LCOEs of around €80 in Ireland and inflation linked... and some auctions with very low lease payments. So this came really as a surprise,” Krebber said.
Pulling the plug
Surprise about the result in Germany was greater in some quarters, because the high bids also came at a time when inflation and supply chain constraints have resulted in some projects being cancelled or submitted for renegotiation in Europe and in the US.
“For the first time in our industry, developers are pulling the plug on secured projects, projects without any or only little lease payments,” Krebber noted.
When it came to Germany's offshore auction, RWE ran into what Krebber described as "record high negative bid prices". He mused: "We participated in that auction and we would have loved to win. However, bid prices reached levels, where our return expectations would not be met even in very optimistic scenarios, so we pulled out."
Danish renewables giant Orsted was similarly poised to participate in the German tender but the outcome was not seen as compatible with its own requirement for returns at between 150 and 300 basis points above weighted average cost of capital (WACC).
“Let me also say that rather than saying that some individual companies have done something wrong, the fundamental challenge here is that the framework where this is auctioned away purely based on uncapped concession payments is one that really adds to a challenged situation where, in this case, it increases the risk of whether these projects will be built on time,” warned Daniel Lerup, chief finance officer for Orsted.
Krebber's analysis pointed to a similar conclusion, as he spurred governments into action, should the German tender prove to be a trend.
“Hopefully, (the German result) is a one-time outlier and then we go back to normal again…. That is my expectation… and that is why I would never go or we would never go to these bid levels. But if it continues in another round I expect action by the (German) government,” he added.
The kind of action Krebber had in mind was described as a move toward a more regulated contract-for-difference "to reflect the cost of the technology", thereby narrowing the scope for power purchasing agreements and exposing high spenders to risk.
While welcoming the participation of oil companies in the lease auctions, Orsted’s Daniel Lerup also described the price levels paid in the German auction as "unsustainable in terms of value creation" and urged governments to act if negative bidding poses a threat to wider strategies for affordable green energy prices for consumers and industry in Europe.
"So what we continue to do both publicly, but also very much behind closed stores is to encourage governments to change that because these negative subsidies will ultimately end up being paid by somebody because it cannot come from a supply chain that is already challenged in order to finance the scaling that it needs to have," he said.
BP has told investors it will get unlevered returns of 6-8% from the German projects but key to this is its own ability to build an integrated project where value is built up in areas such as EV charging and green hydrogen.
While expressing scepticism about the BP targets, Krebber remained bullish about his own company's relative prospects and the potential of the offshore wind industry.
RWE says offshore wind accounts for 2.5GW or the 7.2GW of green generation in its construction pipeline at present and says it is comfortably within its targeted returns of 100-300 basis points over WACC.
Krebber referred to a current crop of projects that will clear this hurdle, including "attractive" contracts for difference on the recently-sanctioned Sofia in the UK, the 800MW Dublin Array in Ireland and another CfD asset under development in Poland, as well as a robust plan to sell power from the newly sanctioned Thor wind project via a Danish PPA market described as “deep and long.”
The company's German North Sea cluster and the Hollandse Kuste West include another market integration plan to sell the power via PPAs, with new CfD targeted for the UK and engagement in a request for proposals for off-take in the USA.
“We will not compromise on our return requirements nor on our stringent risk management approach,” said Krebber, arguing that this current crop of projects amount to good "headroom" for investment and capacity plans.
"If we see behaviour like in the German auction, probably our pipeline will over dry out over time. But I don't expect it. I expect really a normalisation, so we can just sustain the time where we probably have a year or so of no new offshore projects added to the pipeline," he added.