Ofgem’s abrupt slashing of triad avoidance payments to embedded generation has thrown the development of peaking plants into turmoil. Tom Grimwood asks, should we care?

More than any other type of generation, peaking plants have been the big winners in the capacity market. With the energy market becoming increasingly volatile and aided by a substantial and growing revenue stream from triad avoidance payments, these small, flexible, distribution-connected reciprocating engines have consistently won out over the larger, more fuel efficient combined-cycle gas turbines (CCGTs), which the government clearly wants built.

However, the business model behind peaking plants is set to take a hit after Ofgem announced plans to almost entirely remove the “residual” element of triad avoidance payments available to distributed generators because of concerns they were getting an “unfair advantage”. The regulator argues that the payments – part of a raft of so-called embedded benefits – are distorting the wholesale, capacity and ancillary services markets and thereby increasing costs to consumers.

The industry is now having to come to terms with Ofgem’s “minded-to” decision; mulling over the implications of the move and what it means for peaking plants.

Peaking plant outcry

“Even in a worst-case scenario, we do not expect market exit by smaller embedded generation to have a major impact on security of supply.” That was Ofgem’s assertion in its consultation document setting out its intention to implement the triad avoidance payments cull without grandfathering arrangements to ease the transition.

Developers with existing capacity contracts responded angrily, telling the regulator they may be forced to renege on their agreements. Rupert Shaw from Pioneer Point Partners says Ofgem’s argument is “complete rubbish” as these payments make up “30, 40 per cent of your revenues”.

Shaw, a partner in the firm, which was formerly a major investor in peaking plants insists “a lot of these plants won’t get built as result”.

Mark Draper, chief executive of developer Peak Gen, says Ofgem’s move is certainly an issue for his firm’s portfolio: “We sit here now with capacity market contracts from the 2015 round and we really don’t know when and how we can build them out… We’re in the very unhelpful position of maybe having to withdraw or not fulfil those contracts, which is not what we’d like to do.”

Consultancy firm Aurora Energy Research has confirmed that it expects up to half of the 2.2GW of the peaking plants that won new-build contracts in the first two auctions to give up their 15-year agreements.

With contracts secured in the 2015 auction due to start in the winter of 2018, the only real option to replace any cancelled projects would be to contract more existing capacity in the year-ahead auction. This would likely mean extending the lives of carbon-intensive coal plants and a higher clearing price.

Ofgem counters not only that fears of a capacity shortfall are unfounded but that grandfathering would harm competition, prevent future changes to the charging arrangements for the affected plants and add to the regulator’s administrative workload.

It is not that peaking plant developers expected triad avoidance payments to continue along the same trajectory. The amount paid out to embedded generators had been growing steadily for years and had reached proportions that – it was widely agreed across industry – needed curbing.

“Everyone knew that system might be changed but it was expected if it ever was changed, it would be phased out in a sensible way; in a way which did not inflict significant pain on people operating in the sector,” says Shaw.

But he insists that discussions in the lead up to Ofgem’s minded-to decision could never have led developers to expect such a harsh termination of triad avoidance payments.

Shaw believes the regulator scapegoated peaking plants for the failure of the capacity market to entice more investment in CCGTs.

Welsh Power finance director Mathew Tucker agrees: “There’s a sense that CCGTs are considered to be a good in and of themselves and if the capacity market is delivering new CCGTs then its functioning, and if it isn’t there’s something wrong.”

Process protest

It is not just the sudden and extreme nature of Ofgem’s proposed cuts that have caused outrage among peaking plant developers. As Utility Week has documented, many are furious about the way the changes came about.

Several developers have taken issue with the processes and make-up of the Connection and Use of System Code (CUSC) panel, which administers the contractual framework for connection to, and use of, National Grid’s high-voltage transmission network.

The panel recommended the triad reforms to Ofgem and peaking plant developers protest that its members, the majority of whom are employed by large energy incumbents, have “skewed” reforms in their own favour.

Ofgem and the panel’s chair Mike Toms have both denied the charge. The regulator stresses the independence of its decision-making process, saying it has no hesitancy in going against the panel’s recommendations and always conducts its own assessment before coming to a final decision on code changes.

Developers with skin in the game do not buy this argument. They feel outgunned in a battle between large and small, old and new. “We really thought we were entering a place where we were very welcome. We were a key new entrant bringing new investment and a flexible solution to the UK’s energy needs,” says Draper.  

“The past year has been a hailstorm of significant headwinds – regulatory driven – because clearly the powers that be – whether the big six or the regulators – didn’t like the plants that were turning up in the marketplace”.

Investors have added warnings that the rapid transition to a spartan triad avoidance arrangement will have a chilling effect on financing for peaking plants, and the energy industry as a whole.

“It doesn’t just hurt companies, it hurts lenders, the taxpayer and investors and we’re in a situation now in the UK where we need over £100 billion invested in energy infrastructure in the next ten years”, adds Shaw. “When Ofgem or politicians do something like this, investors say ‘life’s too short, and it’s too risky; I’m going to put my money in another country’.”

The end is nigh?

So, does this mean the end of the peaking plant boom in the UK? Ofgem’s impact assessment certainly suggests so.

The independent analysis, conducted by consultancy firms LCP and Frontier Economics, predicts that the proposed changes will dramatically shift the market in favour of new CCGTs, which will secure the vast majority of the more than 25GW of new-build capacity contracts projected to be awarded between 2022 and 2034.

By comparison, reciprocating engines are expected to secure less than a gigawatt of contracts over the same period.

But, Hugo Batten, project manager at Aurora Energy Research, sees things rather differently. “Our broader analysis of the UK energy market shows there’s essentially an oversupply of non-flexible baseload and that will continue and even get more marked over the next 30 years as more nuclear and renewables enter.”

Batten says the need for flexible generation means lost revenues from triad avoidance will be recoverable through higher prices in the wholesale, capacity and ancillary services markets. Aurora estimates that between five and eight gigawatts of peaking plants will still secure contracts over the coming decade.

Tom Edwards, senior consultant Cornwall concurs: “Why would you invest in a big power station … when you could invest in a smaller plant which is more efficient when running at low load factors, …can react quicker and can stack revenues.

“They’ve more flexibility to either earn money from ancillary services, the wholesale market or embedded benefits. Reciprocating engines aren’t going to go away, even after this change.”


The fierce response from peaking plant developers to Ofgem’s decision on triad avoidance payments is not surprising. It will be painful for them and has clearly unsettled investors. Both worry that the changes – along with the possibility of further reforms to embedded benefits – will add a risk premium to the cost of future projects.

Futhermore, it is hard not to feel that some of the grievances peaking plant developers have expressed over the way these reforms are being enacted are justified. The government called upon the industry to set about creating the flexible generation needed to fill in for intermittent renewable generation, and they responded by bidding into the capacity market with the technology favoured by the energy market at the time.

The decision not to provide grandfathering arrangements has left some businesses facing large losses through little fault of their own, adding credence to their claim that they are the underdogs in a hostile world of big league incumbents.

That said, the radical and disruptive transformation that is enveloping the energy industry is a complex beast. As the system adapts to accommodate more and more renewable generation, there are bound to be winners and losers. The ability to shift business models and stack revenues in this uncertain environment is a must.

Peaking plant developers should take solace in the fact that the energy system still needs flexible capacity, which suits their plants. They may feel like they have got their figures burnt, but if they can draw a line under this saga and embrace fresh opportunities to build both peaking plants and other forms of flexible generation – such as energy storage – their future could yet be bright.