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Offshore wind sets sail for new waters

EY - Andrew Perkins

Andrew Perkins
Partner, Corporate Finance
+44 (0)1179 812325

EY - Stephen J Auton-Smith

Stephen J Auton-Smith
Ernst & Young Infrastructure Advisors, LLC Managing Director
Executive Director, Corporate Finance
+121 2773 9066

Offshore wind in north-west Europe has been one of renewable energy’s stand-out successes of recent years. Over the next decade, the technology will spread across the world – but which jurisdictions are likely to be most attractive to developers and investors?

At the end of 2018, 83% of the world’s 22GW of offshore wind capacity could be found off Europe’s coasts. Over the next decade, however, it will account for just 41% of new offshore wind development, according to Wood Mackenzie, with Asia accounting for 48% and the US 11%.

From 2019 to 2028, Wood Mackenzie estimates that 124GW of offshore wind capacity will be added around the world, delivering compound annual growth rates (CAGR) of 21%, compared with just 8% for the more mature onshore wind market.

“Offshore wind ticks all the boxes” for governments seeking increasingly low-cost, large-scale and reliable clean energy, says Alastair Dutton, who chairs a recently created Offshore Wind Taskforce at the Global Wind Energy Council (GWEC), set up to promote the technology in emerging, non-European markets.

He notes that offshore projects are moving ahead without subsidy in countries such as Germany and the Netherlands, which benefit from considerable experience and mature supply chains, and adds that offshore wind is also attractive to governments for the jobs it creates.

While Europe will see significant continued growth over the coming decade, much industry attention is turning to emerging offshore wind markets – namely, the US, mainland China, Japan, Taiwan and South Korea.

With very different support programmes, political backing and openness to international participants, however, it remains an open question as to which are likely to prove most interesting to investors.

China takes to the seas

In terms of offshore capacity, mainland China is the big prize.

It boasts the world’s largest volume of onshore wind capacity – at 178GW at the end of 2018 – but just 4GW offshore, according to Wood Mackenzie, which forecasts almost 40GW of new offshore capacity in China by 2028, making it likely to overtake the UK as the world’s largest offshore wind market by 2021.

The Government’s 13th Five-year Plan for wind power development anticipates 10GW by 2020, with 5GW connected to the transmission network. While subsidies are being reduced for onshore wind and solar, offshore wind enjoys continued access to feed-in tariffs set at RMB0.85/kWh (US$0.13), twice the rate for onshore projects.

From this year, however, the Government is shifting to an auction mechanism to encourage cost reductions.

Offshore wind also enjoys strong support at a provincial level.

For example, in January, Jiangsu province approved 24 offshore projects expected to be completed by the end of 2020 with a combined capacity of 6.7GW and capital costs of around US$18b.

Policy support notwithstanding, however, developers face challenges with offshore projects’ profitability, says Alex Lu, an associate partner in the Greater China Power & Utility Market Segment at Ernst & Young Hua Ming LLP in Beijing.

As with onshore renewables sectors, China’s offshore market is dominated by local players.
The major power generators CHN Energy – through its subsidiaries Longyuan Power and Guohua Power – Huaneng, Datang, Three Gorges, State Power Investment Corp (SPIC) and CGN are most likely to become market leaders. Domestic turbine manufacturers are developing larger turbines aimed at the offshore market; Goldwind unveiled an 8MW model last November.

In March, however, French utility EDF said it will help build two offshore farms being developed by China Energy Investment Corporation. The Dongtai IV and V wind farms, totalling 500MW, are to be commissioned in 2021. Alongside growing international investment in China’s onshore renewables sector, this could mark the opening of Chinese offshore markets to international players.

… with the rest of East Asia in its wake

Meanwhile, opportunities abound in more open markets elsewhere in the region, with Taiwan, Japan and South Korea all looking to develop their offshore sectors.

So far, Taiwan is attracting most interest, with a 5.5GW programme under way to 2025 and the Government promising to set out targets beyond then. Wood Mackenzie estimates it will develop 9.2GW by the end of 2028.

The market was rocked last year when the Government announced a 12.7% reduction in its annual review of feed-in tariff (FiTs) rates, reduced to 5.7% following industry lobbying and threats to pull out of the market.

To earn the FiT, developers must meet relatively high local content requirements, but the rules on this have not been fully elaborated, causing some concern among developers, says Chih Wei Feng, Executive Director, EY Transaction Advisory Services Inc. in Taipei. Another challenge is Taiwan’s immature project finance market, with only a handful of local banks able to offer non-recourse loans. Given the scale of financing required, more local banks need to get comfortable with lending to the sector, Chih Wei adds.

After Taiwan, Japan is the region’s next largest market, with Wood Mackenzie forecasting 4.5GW by 2030.

New legislation was passed last November which set the framework for offshore wind and subsidies of Y36/kWh (US$0.32/kWh), double that offered for solar power. Japan’s powerful Ministry of Economy, Trade and Industry is due to publish a plan for zoning, licensing and grid connections.

Currently, only 20MW of offshore capacity is operational, but around 5GW is under environmental assessment, says Naoto Utsumi, Director, Infrastructure Advisory at Ernst & Young Transaction Advisory Services Co, in Tokyo. Challenges involve limited grid-connection capacity, opposition from the fishing industry and local stakeholders, and the cost of building foundations in challenging conditions.

Despite this, local conglomerate Orix Corporation is exploring offshore wind opportunities, as is trading company Marubeni, and foreign companies, such as Denmark’s Ørsted and Germany’s E.On, are putting a toe in Japanese waters.

Finally, South Korea plans to generate 20% of its energy from renewables by 2030, up from 6% currently – a target involving 12GW of offshore wind. Analysts believe this is unlikely to be met, however, with Wood Mackenzie forecasting 4.5GW of offshore wind by the end of 2028.

Offshore wind benefits from generous support through the country’s renewable energy certificate system, strong government support, and attractive topography off Korea’s west coast, but faces headwinds from strong local opposition, an approach focused, to date, on top-down, government-led projects, relatively low wind intensity, and a lack of track record, according to law firm Linklaters.

Nonetheless, some international players are getting involved. Norway’s state energy giant Equinor has announced a partnership with Korean state-owned National Oil Corporation to develop floating offshore wind farms.

The US sets sail

As recently as 2016, the US had no offshore wind capacity. With the first projects coming online, however – led by the 30MW Block Island Wind Farm off Rhode Island – some of the barriers blocking the market’s growth have come down.

One of the main challenges was legal, says Leonardo Alavian, in Ernst & Young US LLP’s Business Advisory Practice in New York. Vigorous campaigns were waged against early projects, with opposition to the trailblazing – and, ultimately, unsuccessful – Cape Wind project.

Newer projects are on firmer legal foundations, Alavian says, backed by a number of state-level targets. These include plans from New York for 2.4GW of capacity by 2030, from New Jersey for 3.5GW by the same date, and for Massachusetts and Rhode Island to commission 1.2GW of offshore wind.

These plans have been backed by public utility solicitations – such as from the New Jersey Board of Public Utilities for 1.1GW of offshore wind, made last September – and federal incentives, such as the Investment Tax Credit (ITC) which, until it expires next year, awards credits equivalent to 12% of their value to projects starting construction this year.

These ambitions are partly spurred by growing climate change concerns, but also a recognition that offshore wind is increasingly economic.

The dramatic falls in the levelised cost of energy in European offshore markets have persuaded policy-makers, investors and consumers that offshore wind will become a viable part of the generation mix.

Bloomberg New Energy Finance has forecast that US offshore wind projects could generate power at US$60–US$70/MWh by the late 2020s, as the market reaches critical mass and a local supply chain brings down costs, compared with its forecast of around US$125/MWh in 2022, when the first wave of large-scale US projects come on line.

Cost falls to date are a function of technology improvements and increasing experience and operational history, which is helping to persuade US investors to back projects under development.

Nonetheless, hurdles remain, primarily a limited skills base and nascent infrastructure likely to keep costs relatively high for early projects. Another is the Jones Act, a piece of legislation from the 1920s requiring goods shipped between US ports to be transported on vessels built, owned and operated by US citizens, therefore preventing foreign-owned offshore wind construction vessels from operating in US waters, slowing installation and increasing costs.

Preconditions for success

As new jurisdictions look to develop offshore wind, certain preconditions are needed to attract international developers and investors.

“We always talk about the need for a stable regulatory environment,” says Mark Giulianotti, Managing Director at Green Investment Group (GIG), “but, even before that, you need to have the ambition of the government and the energy sector within that country to replace fossil-generating stock with low-carbon generation. That’s fundamental.”
Long-term commitment is important, given the complexity and time involved in developing offshore projects, says Dutton, at GWEC: “It takes around seven years from granting sea-bed rights through to construction. It’s not like building a solar plant.”

Governments also need to recognise that early projects will be relatively expensive before local supply chains and expertise are developed. While there are a variety of ways to support these, developers’ and investors’ calculation is straightforward: “It needs to be attractive enough in terms of the risk and return,” says Giulianotti.

For local supply chains to emerge, there needs to be “several gigawatts of visibility”, he adds – but once it does, it can support large numbers of jobs and, potentially, a lucrative export business. Chih Wei, at EY, says that the Taiwanese Government and industry are hoping to use their first-mover advantage to carve out a position as a regional hub.
GWEC has developed a 12-point, market-readiness assessment tool governments and industry can use to evaluate the steps they need to take to support offshore wind development, covering elements from initial policy design through to operations.

Investment in US offshore wind will still depend upon “some sort of regulatory support”, says Andrew Perkins, a partner in Ernst & Young LLP’s Offshore Wind team, once the ITC subsidy falls away.

The levelised cost of energy for offshore wind will still be greater than for onshore or solar, but he is excited at the opportunity direct power purchase agreements (PPAs) present with utilities driven by state-level obligations. “In select locations, offshore wind makes commercial sense as the contractual support from PPAs provides the certainty developers and financiers need.”

The scale offered by mainland China “looks very attractive” and may tempt international players to overcome their historical reluctance to grapple with regulatory barriers and the challenges of competing with domestic enterprises. “The move by EDF into mainland China’s offshore market is extremely interesting in this regard,” Perkins adds.

Certainly, Taiwan illustrates the degree of international interest in offshore wind, he says, “if you are open to investment, and get the permitting and tariffs right, there is no lack of ambition among international investors regarding offshore wind.”

From fixed to floating

The offshore wind industry has, to date, relied on fixed foundations for its turbines, restricting development to seas no deeper than 40 metres. Advances in floating turbine technology, however, promise to allow farms to be anchored further offshore – where winds are often stronger and more consistent – and off coastlines that don’t benefit from gently sloping seafloors, such as the US west coast, Japan, or Europe’s Atlantic shoreline.

The technology is some way behind its bottom-fixed equivalent. The first floating offshore wind pilot, the Hywind 1 project, began generating power in 2009. The first multi-turbine project, Equinor’s 30MW Hywind Pilot Park off the coast of Scotland, became operational in 2017.

It is developing fast though.

A report last year from the UK-based Floating Wind Joint Industry Project, led by the Carbon Trust, forecast capacity to reach up to 260MW by 2021, with five or six concept designs de-risked sufficiently to allow deployment at commercial scale. By 2030, the Carbon Trust estimates 12GW of capacity will be deployed globally.

Policy support will be vital, however, if the technology is to achieve its potential, the Carbon Trust notes. As well as direct financial support for early projects, the report calls for investment in technology providers and the supply chain, and government action to ease site leasing and establish regulatory and legal frameworks.

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