The size and timing of the Ontario government’s recent announcement of the Samsung agreement came as a shock to many in the power industry. There are few precedents for such a broad-ranging, sole-source contract in what was widely understood to be an open and competitive procurement environment.
It was not mentioned as the OPA ran consultations on the design of the Feed-in Tariff (FIT) program, nor in the government’s Ten Steps to Green Energy. The details of the agreement still remain largely unavailable to the public, and their impact on the FIT program is unclear, at best. It is not surprising then, that industry reaction was so negative.
What the industry objected to, and APPrO said in no uncertain terms, was the introduction of major new risks to participants in the FIT program. APPrO continues to believe that the reservation of transmission capacity for one individual company is a mistake and will do long term damage to the vitality of the industry. Transmission is a common carrier and non-discriminatory access to it is fundamental to a robust and competitive power industry.
Fortunately the power industry is run by practical people. Even if an important principle seems to have been sidestepped, it didn’t take long for the industry to assess the situation and think about how to move forward from here. As the saying goes, “if you’re dealt lemons, make lemonade.” For those well-positioned enough to be selected in the first round of large scale FIT applications, the immediate future may not be too bad. For everyone else however, and even for the successful applicants thinking about the next project, this is a time of questioning – what are the rules governing power development really like and has the game changed fundamentally since the Samsung agreement was announced?
This is the key point for the power development industry: As one developer put it, “We need to know what the landscape looks like going forward. Where do we go from here?” It looks like the rules may have changed, and there could be a different way of doing business. The use of major sole-source contracting in the midst of a carefully-cultivated open invitation for bids, is causing confusion. Are bids to the FIT program still as welcome as people were led to believe, and do they stand a chance in the future? The uncertainty over direction needs to be addressed.
In this situation, discussion is critically needed between government and market participants on their roles and the rules going forward. The physical opportunities are as interesting as ever, but no one will put a shovel in the ground let alone risk development capital if they don’t have clarity on transmission access, or the overall rules of the game. It’s time to re-establish a clear understanding about the expectations on each type of participant – and see if consensus can be achieved on what needs to be done to re-establish confidence and interest not just in the FIT program, but in Ontario’s overall electricity direction.
We have come a long way from the days of Ontario Hydro when large-scale investment decisions were often subservient to economic or political decisions, sometimes made without much public discussion or effective regulatory oversight, and then executed by borrowing on the province’s credit. While much good was done, Ontario is still paying for the very large mistakes that were made. We have moved well beyond that era into one characterized by investment largely from the private sector, not the taxpayer, guided by public policy and effective regulation. This was supposed to prevent many of the worst kind of excesses seen in the past.
To ensure that investments proceed as intended in such an environment, careful attention must be paid to the investment climate. Perhaps the single most important factor in ensuring a positive investment climate is stability. Investors can deal with some change, but too many twists and turns will inevitably slow the flow of capital to even the best business plans. The Samsung deal certainly was a new and unwelcome twist for a sector which seems to undergo such disruptions on a fairly regular basis. APPrO opposed it vigorously, but the deal went ahead anyway. While APPrO continues to be opposed to it as a matter of fundamental policy, clearly it’s time now to move ahead. The question is, in which direction?
To establish a consensus that has broad legitimacy within this sector on the way forward, it will be important to put the Green Energy and Green Economy Act as well as the Samsung agreement, in a longer-term context. Participants need to re-confirm the relative values that are being placed on open markets, promotion of renewables, and on regulatory stability. A few ideas for building stability are suggested below.
APPrO was generous with its praise of the FIT program, and the transparent approach it took to dealing with the many players involved. Writing to the OPA in May 2009, APPrO commended the OPA for its “remarkably thorough and open process” of collecting stakeholder input. We said that the “systematic use of regular stakeholder meetings with responsible officials, webcasts and online postings, greatly help to build understanding and confidence in the OPA’s plans for the FIT program.” APPrO also said, “it is important to note that additional risks and costs are created each time a program is overhauled. These risks are not just risks borne by the developer but risks to the program as a whole, and to Ontario ratepayers and taxpayers if investors turn their attention to jurisdictions where policy and program regimes are fixed. … For best results in a long term industry like power generation it is important that a program, once set up, is able to run for a substantial period of time, safe from exogenous factors.”
Thinking well ahead five, ten or fifteen years in the future is a key part of building understanding and confidence with the investment community. Although no government can control what a later government will do, it can design its programs so they are likely to withstand the test of time. An open, fair and transparent system of procurement, with even-handed rules for everyone is likely to be robust for years into the future. Such an approach also stands to earn broad public legitimacy. It will therefore be less vulnerable to change and more successful with investors.
One of the key factors will of course be to get a large number of power projects underway as quickly as possible. The FIT program has elicited 8000 MW worth of proposals, so there is no shortage of opportunities. A key question will be how to ensure that as many shovel-ready FIT projects are approved now and in the next year as possible. Establishing this kind of momentum will be key to meeting the green employment objectives of the government’s overall green economy initiative.
Secondly, as nearly everyone has said, an ambitious and rapid build-out of the transmission and distribution systems in Ontario is fundamental to bringing forward the kind of green power opportunities envisioned in the Act. Planning and approval processes for infrastructure are complex and often cumbersome in Ontario. There will be many challenges in keeping the infrastructure development on track and a certain amount of championship and central co-ordination will be needed. Hydro One, while extremely capable, will be tied up for years with these projects, and new methods must be devised and applied to engage the broader industry in many of the developments, while remaining coordinated with Hydro One.
Third, reinforce confidence in the FIT program. The long term strength of Ontario’s power industry, and the manufacturing that everyone would like to see take root here, is not in one-off deals with central agencies but in vibrant competition between a diversity of competing players, just as the Feed-in Tariff program promised. The program amounts to a sizable bet that global industry will respond to an open call for all developers and investors to come to Ontario, assured of fair treatment and equitable access to a burgeoning market. Clarity is sorely needed on the likely level of exclusive sole-sourced deals with selected suppliers.
By excluding otherwise viable projects from transmission access in favour of projects that will be getting a higher rate, the Samsung agreement will raise the cost of the FIT program. Moreover, by introducing new risk factors, the Samsung agreement will raise the cost of capital for project developers, making the whole program less attractive. These actions reduce the number of viable applications and contenders across the board, potentially forfeiting a set of proposals that would have made particularly efficient use of existing transmission and distribution infrastructure, and produced a range of other economic benefits, to say nothing of green jobs. In fact, it’s possible that by dampening investment, the Samsung agreement has inadvertently reduced the total amount of renewable energy capacity that will be built in Ontario over the next five to ten years. Time will tell.
The Samsung agreement will create new uncertainties and make the FIT program less economic and less successful. It is therefore crucial that limits be established on sole-sourcing, or anyone trying to start a new green energy business in Ontario will have to consider two major new risks:
a) The risk that, after investing all the capital to prepare an otherwise acceptable FIT proposal, the application could be rejected because the province signed a deal with someone outside the FIT program, unbeknownst to everyone in the FIT program. (The capital risked at this stage can run into the millions of dollars for a single application, and this is money that can’t be borrowed from banks because it’s too early in the development process.)
b) The risk that sole-sourcing will overtake the FIT program as a whole and that all major procurement in Ontario will become a matter of negotiating deals with the minister of the day. We would essentially be back to the bad old days of Ontario Hydro and political deal-making, rather than open, standardized, even-handed procurement. No one can say where the political considerations will end in such a scenario.
Another priority should therefore be that the McGuinty government clearly establish a confidence-building policy on sole source contracting going forward. This is not an abstract exercise in political science. It is determining whether the risk of arbitrary action in future is going to deter investment in the very sector the government is trying to stimulate. Neither is it a minor matter of a few dollars or wires here and there. Few things can kill a generation project more definitively than the absence of connection capacity. One of the FIT program’s greatest accomplishments was its system to ensure that transmission connection risk was systematically managed. After constructing an intricate system of allocating transmission capacity, with rules designed to inspire confidence across the industry, it would be a colossal waste to walk away from the system and the confidence that went with it. Open competition should be encouraged in each and every sector where there isn’t evidence of significant market failure. Sole-sourcing – like regulation – should only be used only where markets and competition can’t work.
In principle, the primary action the government needs to take to rebuild confidence is to reconfirm that it believes in and will support an open competitive system for power project development, and put forward a policy that places clear and firm limits on the use of sole source contracting. How clear and firm do the limits need to be? Enough to make sure proponents don’t see any significant risk of being undercut if they follow the open invitation rules.
With such steps the province of Ontario can make the sole source Samsung contract compatible with the successful long-term operation of the FIT program. There are certainly other techniques available to accomplish the same goal, but it’s evident that the time has come for open discussion on these sorts of options and a return to the transparency and even-handed approach of the FIT program.
Just to be clear, in all the discussion around the Samsung agreement, never have I heard anyone say that the Korean consortium companies are unwelcome in Ontario. It is only the extra special treatment afforded to them by the government that is attracting criticism.
At the same time, while all these renewable developments are underway, no one should forget that the coal phase-out is also underway. As outlined in our special feature on reliability, beginning on page 20, a much greater emphasis will be placed on natural gas than ever before, largely to offset the variability of renewables and the loss of coal-fired generation. Most of Ontario’s NUG contracts, almost all gas-fired, are due to expire in the near future, and must be considered as readily-available options to reinforce this system as it undergoes major change. NUG contracts can be made flexible, but to do so will require time. It is therefore important to work out revised terms with the NUGs, as soon as possible, not to mention a revised standard offer for CHP, in order to ensure the rest of the plans and policy have the benefit of flexible gas-fired power.
The Green Energy Act and the Samsung agreement have changed a lot of things, but some things don’t change: robust and fair competition is still the most effective way to get the best deal for ratepayers. Lenders need to minimize risk before making investments. Public legitimacy flows from programs that have long term durability. For the benefit of its own green energy goals, the government needs to be sure it’s getting maximum bang for its buck, engage fully with the competitive side of the industry, and clarify the rules of the game going forward.
There’s no doubt that with investments of this scale in Ontario, hard-hit by the recession and industrial down-sizing, Premier McGuinty is hoping to restore economic confidence and rebuild a damaged economy. APPrO members generally understand and support the Government’s focus on job creation – indeed, over the last few years APPrO member companies have created thousands of jobs while investing over $15 billion in new power projects across Ontario. But, we need to ensure that such actions don’t create unintended consequences which damage the investment climate for those companies who aren’t fortunate enough to be amongst the chosen.
For those developers who lost connection capacity directly as a result of the Samsung agreement, it will be extremely difficult if not impossible to accept. So it’s the now the government’s responsibility to square its current policies, which have transformed Ontario into the best market in North America for the development of new power supply, with what has just happened. It’s critical to establish the primacy of the open market approach, and the reliance on market principles, if you want to be able to rely on the market to bring forward the innovation and cost savings for which it is so justly renowned.
- Jake Brooks, Editor