Wednesday, September 20, 2017

Brazil Holds Auction to Cancel Renewable Energy Contracts

On August 28, 2017, Brazil conducted something relatively unheard of -- its first ever "cancellation auction".  Wind, hydro and solar developers were given the opportunity to cancel future power contracts for a price, instead of having their performance bonds called. In total 557.4 MW were canceled; 307.7 MW were associated with 16 wind farms and 249.7 MW were associated with 9 solar parks. No hydroelectric contracts were canceled. Early reports show that there are more than 8,000 MW in renewable energy under development in Brazil.  The total number of megawatts canceled were fewer than many market observers had expected. 

The Brazilian Ministry of Energy had forecast that the country would require significant additional power production.  As a result of the recent political and economic crisis, their assessment has proven to be overly optimistic. 

In light of the overcapacity, the Ministry of Energy devised a plan to allow all project developers who had been awarded reserve energy contracts, but had not yet started operations, an opportunity to cancel their contracts. Developers who for any reason no longer wanted to fulfill their obligations had the opportunity to cancel their contracts without any fines in exchange for paying the amount bid at the cancellation auction.

The developers interested in canceling their contracts had to submit a single bid for each project. The bid price had to be equal to or higher than an initial premium (R$33.68/MWh) proposed by the Ministry of Energy. The developers would then be ranked in descending order based on the sum of their bid price and the initial contracted priced (for example, if the developer had a project with a contracted price of R$20.00/MWh and its bid price was the minimum initial premium required of R$33.68/MWh, its total amount for purposes of the ranking would be R$53.68/MWh). All developers with a bid price equal to or higher than the initial premium proposed by the Ministry of Energy made it to the second phase of the process.

In the second phase of the auction, each developer in turn (based on the ranking mentioned in the paragraph above) would be able to submit bids for any available contract value, with the requirement that its bid be equal to or higher than the total amount bid in the first round. The final premium to be paid by a developer would then be its final bid (in R$/MWh) multiplied by the amount of energy being canceled and further multiplied by 8,760 hours.
From the government's perspective, the auction could ultimately reduce the energy cost to the consumer by using the amounts acquired in the auction directly to fund an energy reserve account. From the electric sector's perspective, the auction was viewed as a rescue plan for projects that were behind schedule or simply no longer attractive to their sponsors.

Although some developers took the opportunity to strategically exit their investments without a major fine or enforcement of security, the results of the auction surprised the local market because of the relatively low number of projects that negotiated cancellations.

The government's intention going forward is to better manage the balance between supply and demand.