Boardroom Energy

Project Energy Connect – special edition

The energy market, energy policy and how the grid operates was materially altered this week with final regulatory approval on the 900km long EnergyConnect transmission line between South Australia and NSW. It was important for many reasons. EnergyConnect has been a deeply political piece of infrastructure from its inception in the aftermath of the South Australian state-wide blackout in September 2016. While the solution developed by the then Weatherill Government was to strengthen local generation capability with increased gas generation and a big battery, their Liberal political rivals opted for increased transmission connection via NSW, and put $200 million on the table to help push it through.

Since then the transmission line plan has been revised multiple times, its cost has more than doubled and it has taken the intervention of the SA and the Federal government (via CEFC financing) to find enough money to build a regulated asset with a guaranteed return for the next 50 years (it shouldn’t be that hard). The process pushed the system of regulatory approval to the edge, and perhaps most significantly, five years after the system black, South Australia will end up with both political solutions: government-backed generation and government-backed transmission. In the olden days we used to call this gold-plating.

We won’t know for at least a decade whether EnergyConnect is a brilliant idea or a white elephant. Transmission is used to move bulk electrons from one state to another, but what if technologies like hydrogen and batteries drive the 21st century grid towards more local generation and storage solutions?

Boardroom Energy takes a closer look at the details of the project, the financing arrangements and what it means for the evolving and more openly political role of agencies like ARENA and the CEFC.

Close up shot of snail - Helix pomatia - with green blurred

Project EnergyConnect – how did we get here?

EnergyConnect is a transmission line connecting the existing power grids in South Australia and New South Wales. The interconnector will run from Robertstown in South Australia to Wagga Wagga in New South Wales, with a spur line into the north section of the transmission network in Victoria. IT will be rated at 330kV and have a maximum transfer capacity of 1500MW – equivalent to a medium-sized coal plant. It was first proposed by South Australia’s transmission network business (TNSP) ElectraNet in November 2016 (ElectraNet led the proposal although its NSW partner TransGrid would be building the greater part of the project) . At that time, the rationale for the interconnector was as follows:

  • The closure of Northern Power station earlier that year had resulted in much higher wholesale prices in South Australia than in neighbouring states – futures prices indicated an average $35-$45/MWh premium
  • improving security of electricity supply in South Australia, especially when it is separated from Victoria by an event which prevents use of the Heywood interconnector with Victoria, and;
  • enabling more renewable generators to effectively connect to the system.

ElectraNet’s proposal was backed in the original Integrated System Plan, published by AEMO in June 2018. At this point, it was called Riverlink, and was estimated to cost $1,270m (+/-50%). While AEMO and others sometimes suggest ISP projects are a fait accompli, they still have to individually pass regulatory scrutiny. This process is called the regulatory investment test for transmission (RIT-T) [we have a briefing paper on the RIT-T for subscribers] and ElectraNet’s 2016 proposal was the first step.

The second step was the cost-benefit analysis, which ElectraNet published in July 2018, just after the ISP. ElectraNet now estimated the cost at $1,500m, which was already a 20 per cent increase on the AEMO ISP figure. But its modelling suggested $1,000m of “net benefits”. This has a very particular meaning in the RIT-T process, as there are rules around what proponents are and aren’t allowed to count as benefits. For EnergyConnect, the main benefit was the avoided fuel costs from gas generators in South Australia as they were displaced by cheaper (but more carbon intensive generation – i.e.  black coal – in NSW. Bigger savings, but higher emissions. At this point the price premium for South Australian electricity was around $14-18/MWh. The interconnector would also reduce the need to keep two gas plants on at all times in South Australia to ensure system strength (the grid’s ability to recover quickly from faults). ElectraNet noted that later, as coal plant in NSW retired, consumers there would benefit because imports of renewables from South Australia into NSW would mean avoided costs of building new gas plants.

The other major source of financial benefits was to make it cheaper to connect some of the proposed new Renewable Energy zones close to the interconnector route.

The final cost benefit analysis in February 2019 largely confirmed the above, although the expected net benefits had fallen slightly to $900m (in both cases several scenarios were run to check that the project delivered net benefits in all of them). In the meantime impatient state governments had already started funding early works so that if the project got the go ahead, ElectraNet and TransGrid would be ready to go. The TNSPs were clear they wouldn’t spend a cent until the AER had signed off on their costs.

Now the AER had to run the rule over the cost-benefit analysis. This step was delayed because several consumer reps were concerned that consumers would foot the bill for the project but they weren’t convinced they’d see the benefits, and one of them (SACOSS) lodged a formal dispute. The AER decided that ElectraNet had complied with the rules and they would consider SACOSS’s issues in their overall review. This found that ElectraNet had made a few assumptions in their modelling that were a bit dubious and they asked ElectraNet to re-run the modelling. Since the re-run still showed net benefits, they declared the project had passed the test in January 2020.

The saga does not end there. The costs side of the cost benefit analysis was only a guesstimate. Now they had the OK to proceed, TransGrid and ElectraNet could scope out the project in more detail and tender for the main construction works. Then they could go back to the AER with a contingent project application which would confirm the costs they could recover from customers.

The TNSPs submitted their cost claims in September 2020. By then the bill had risen to $2,382m; a 56 per cent increase in nine months! This put the net benefits in jeopardy, but fortunately, the TNSPs had also re-run the modelling and  – lo and behold – the benefits had increased! The new modelling was pretty consistent with AEMO’s latest ISP. Helpfully, more projects had passed the RIT-T, meaning that firming capacity from Snowy 2.0 could flow to SA, for example.

In the meantime the TNSPs were working the angle on ways to finance their share of the project, too. We cover this further in the story below. After some to-ing and fro-ing on the costs, in May 2021, the AER confirmed it would let the TNSPs spend $2,275m. The respective companies had already confirmed they would go ahead if they got the money, and TransGrid confirmed it had secured financing, thanks to the CEFC.

A lot has happened in the intervening five years to make consumers wonder about the value of the project. There’s a lot of uncertainty about whether AEMO will continue to require two gas generators to run in South Australia with/without the interconnector. The South Australia system services that EnergyConnect was supposed to help with may be largely supplied by new synchronous condensers (built by ElectraNet) and the handful of big batteries that have been installed on the South Australia grid. Matt Kean’s energy plan for NSW looks designed to ensure NSW builds plenty of its own renewables and back-up capacity, which could impact the interconnector’s utilisation. And NSW is going to get a handful of those new gas plants that the interconnector was supposed to save on. And NSW future electricity prices are now $15/MWh higher than South Australia.

This is the issue with building big new pieces of infrastructure in the NEM. There is a constantly moving target to chase when assessing the value of the investment. If we build everything we’ll gold-plate the system, if we build nothing, the lights won’t stay on. How do we navigate the prudent middle pathway? What are the right investments. Is EnergyConnect one? Well, we should know in about 20 years from now…

Clean energy agencies find themselves a long way from home

That the biggest investment in the Clean Energy Finance Corporation’s (CEFC) history isn’t for a clean energy technology say a lot about how Australia’s two clean tech funding agencies have drifted over the past decade.

The CEFC will sink up to $295 million into the EnergyConnect transmission line between South Australia and NSW. It’s not the first transmission investment the CEFC has made. It also provided capital for some of the transmission to enable the giant 2000MW Snowy 2.0 pumped hydro project.

Both projects will transport at least some renewable electricity, but in a literal sense, that could be said for every pole and wire in the electricity system. When does electricity infrastructure stop becoming a clean energy project that should be funded like every other regulated asset used to be?

And last month the Australian Renewable Energy Agency (ARENA) made a much publicised $103 million investment into three hydrogen projects, which were curious for the similarity and nature of the projects. At what point can we say a clean energy demonstration project is really just demonstrating political hutzpah?

Both ARENA and the CEFC were created nearly a decade ago, the consolidation of a flurry of generous but disorganised renewable technology funding that emerged under the enthusiasms of the Rudd and then Gillard Governments.

The overly simplistic thesis underpinning the creation of the two agencies was to decarbonise its energy supply, Australia would need to invent a whole host of new clean energy technologies, and then develop them through from commercialisation to being market ready.

ARENA would do the job of finding and nurturing infant technology ideas like geothermal or wave generators and help them get to proof of concept and commercialisation. The CEFC would then help steward these technologies down the cost curve, helping to reduce borrowing risk for other investors until economies of scale were established.

The CEFC was never a pure renewables investor. Its 2012 founding definition of “clean energy” included renewables, low emissions and energy efficiency technologies. But not transmission lines. ARENA was more specifically focussed on renewables: its first funding plan included research and development, demonstration and deployment of renewables.

In any case, the original thesis turned out to be fairly naïve. In the real world there weren’t lots of brilliant renewable technology ideas looking for assistance, just lots of bad ones. Both agencies, but especially the CEFC, hit political headwinds with the election of the Abbott Government in 2013.

Abbott originally vowed to shut the CEFC when elected, and its survival was made possible by a tactical retreat to zero risk commercial lending. The CEFC basically made enough money for the government to be useful. Behaving like just another commercial bank was kind of pointless, as there were plenty of those already, and contradicted the indented role of the agency. But it managed to survive.

Operating under successive coalition leaders, both agencies evolved a more pragmatic approach. ARENA focussed more on demonstration and deployment, usefully demonstrating the reliability of renewables in off grid mining sites, and then the reliability of renewables and batteries.

It was and still is seen as a hybrid between a bucket of easy government money for innovative projects and a branding agency. Getting ARENA funding is an elephant stamp that can help keep pesky activists away from your project.

Under Malcolm Turnbull, the CEFC Board got a makeover away from a left-leaning activist base to a respectable set of Australia Club bankers. ARENA got its make-over last year, with four new conservative and more government friendly Board members steering the agency towards a more politically useful direction.

Both agencies now operate with a much closer leash and reflect the will of the Federal Government more than in the past. The CEFC has new formal riding instructions since March that require it to focus on energy production (code for gas), generation including fossil fuels, fuels and transportation and using, reducing or eliminating greenhouse gases.

The current CEFC Investment Guidelines still don’t mention infrastructure assets like transmission, unless you take a very broad interpretation of the word “transport”. In reality, pretty much anything except a new coal fired power station is on the table.

ARENA’s $103 million hydrogen investments were a long way from Kansas. Why? Green hydrogen demonstration is certainly a valid place for ARENA to play. But why do two of the three projects involve injecting green hydrogen into gas networks? Why aren’t a range of electrolyser technologies specified, so everyone else can see how PEM works differently to cheaper but less efficient alkaline [subscribers can read our in depth Background Paper on Hydrogen here]. Why is hydrogen storage being trialled by any of the projects, given its critical importance (and high cost)? Why aren’t details about each projects costs and operations shared by ARENA on each of the projects?

It’s unlikely that ARENA didn’t do its homework, or forgot to post the project details. Both the CEFC and ARENA appear to be on a tight political leash now, operating a long way from where they originally set out.

Why can’t TransGrid afford to build EnergyConnect?

Setting aside the questions of whether EnergyConnect should be built, and who should pay for it, under the current electricity market rules big transmission projects get added to the Regulated Asset Base (RAB) of the transmission business that pays for it. Subscribers can read our briefing paper about how networks get paid here, but essentially once it is in the RAB it earns a guaranteed return for the life of the asset (50-60 years for transmission lines). The rate of return gets reset every five years* but is always intended to be sufficient for a well-run network business to finance its activities. But TransGrid (and to a lesser extent ElectraNet) has spent the last year complaining that it can’t get finance for such a big project. Why is this? They have two arguments:

Argument 1) the rate of return (which has to be determined in the same way for all networks, whether they have a big investment pipeline coming up or not) is too low. The difficulty with evaluating this argument is that networks always say this, and yet there is never any evidence of financial distress. But share prices and transaction values consistently indicate that these businesses are valued at a premium to their RAB. Financial theory is clear that if the rate of return allowed by the AER was just right, the businesses would be worth exactly the same as the RAB. The difference can’t be explained by their – relatively small – unregulated sideline businesses.

Argument 2) there is a quirk in the regulations that makes it harder to finance businesses. For reasons too arcane to go into here, the inflation portion of the rate of return is not given out in cash but is instead added to the RAB. So, the RAB grows from year to year, which will make the value of returns in later years greater. Again, finance theory says this is fine, because the businesses get the same return in the end, but it does mean much of the cashflow comes later and in the real world, and lenders care about that. At least ratings agencies do, which is pretty much the same thing.

TransGrid and ElectraNet tried to get the rules changed to “fix” argument 2) last year. But the rule-maker, the AEMC said no. So TransGrid did what everyone else building energy infrastructure is doing, and went to see the Federal government. The government’s clean energy bank, the CEFC, rode to the rescue and nobly agreed to be the last lender in line if TransGrid goes belly up. This was enough for regular banks to pile in, and the deal was done. Our story [below] looks more at how CEFC and its fellow clean energy agency ARENA make their decisions.

It’s worth noting that there was another option for TransGrid. The investors who have been talking up how good an investment TransGrid is could have put their hands in their pockets and stumped up some extra equity. They would have got their money back in the end thanks to the inflation-indexation of the RAB giving them higher returns down the track. They just didn’t want to.

There’s also another option for the way we hand out these megaprojects. If TransGrid is struggling to finance this project and the rest of its ISP projects down the track, maybe it’s not fair that we are making them build it. Other countries have realised that you don’t have to just hand these projects to the incumbent – they are big enough to be built by a separate business and then connected to the rest of the grid at the end. The British have put together a competitive tender process for the transmission lines needed to connect their giant offshore wind projects to the mainland grid. This has the merit that the bidders effectively decide their own rate of return, so financing is not an issue. Competition and regulatory oversight mean that this rate is kept down to an efficient level. But this is Australia, so we’d prefer to do things the hard and expensive way.

*The author is a member of the Consumer Reference Group, which is advising the AER on its current Rate of Return review. Any views expressed are his own.

Chart of the week: renewables correlation

 This week we take a look at how correlated solar and wind were to each other in each region of the NEM during May 2021. A positive correlation of 1 means the two technologies and state are perfectly correlated. A score of minus one means they are perfectly inversely correlated – one only runs when other doesn’t. A score of zero means there is no real relationship at all between the two – sometimes they match, sometimes they don’t.

Obviously solar technologies are very highly correlated because the sun rises and sets at pretty similar times across the NEM. This plus varying cloud cover is the reason correlations don’t quite achieve the perfect 1. In principle, wind may or may not be correlated.

A key metric for the new EnergyConnect transmission line is the wind correlation between NSW and SA. This is a score of 0.58 for May, which means they are fairly positively correlated.

Renewables correlation, May 2021, by State

NSW windNSW solarSA windSA solarTas windVic windVic solarQld windQld solar
NSW wind1.00
NSW solar-0.291.00
SA wind0.58-0.131.00
SA solar-0.260.88-0.171.00
Tas wind0.29-0.080.13-0.051.00
Vic wind0.56-0.100.70-0.120.491.00
Vic solar-0.280.93-0.140.90-0.06-0.071.00
Qld wind0.36-0.460.29-0.460.000.23-0.461.00
Qld solar-0.220.88-0.140.82-0.09-0.110.84-0.381.00

What does this mean for the value of Project EnergyConnect and the several other interconnectors being planned? in the near term, while renewables penetration is fairly low, there is likely to be value in them moving the cheapest dispatchable electrons to regions with higher cost (i.e. brown coal < QLD black coal < NSW black coal < gas). Then when there’s high renewables output, the flows can reverse and the thermal plants can turn down. But in the long run (i.e. by 2050) we’re not expecting these fuel cost relativities to be relevant any more. When the wind is blowing and sun is shining, there will be cheap abundant electricity everywhere. When it’s not, everywhere will be relying on storage: pumped hydro, batteries and hydrogen. Apart from the big hydro complexes of Snowy and Tasmania, these technologies can be deployed anywhere. So we’ll probably deploy them where they are needed rather than move their electrons thousands of kilometres. This is especially the case now that state governments have taken a firm grip on the electricity systems inside their own state. The political mindset will be to ensure enough home grown electrons rather than rely heavily on neighbouring states.

There will be some times when it’s cloudy in one state and windy in another and it will be useful to move some renewable electricity around the system. But the table above suggests these times will be the minority. Unfortunately, if this is how it turns out, electricity users will still have several decades of interconnector payments left to go.

The rest of the news

While everyone was talking about transmission, TasNetworks were keen to remind everyone that their $3.5 billion Marinus Link transmission project running a second undersea cable between Tasmania and Victoria was still on the table, even if the Victorian Government continued to ignore it.

The fallout from last week’s explosion at the Callide C coal fired power station continues with a queue of vested interests providing advice on what the Queensland Government should do instead of repairing the unit or the power station. The proponents of CopperString 2.0, another proposed transmission line that would connect a range of generation projects from Mt Isa to Townsville in Queensland’s politically sensitive far-north suggested their project would be a perfect solution to mitigate the fallout from coal fired power station explosions. The Queensland Government remains committed to repairing the power station.

The global activist campaign targeting corporate reputations and financing on climate risk rolls on. Three climate activists have now secured seats on the Board of US oil major Exxon, while Chevron’s investors at its AGM called for accelerated emissions reduction. This accelerating risk of shareholder pressure has global ramifications for any listed business with exposure to significant emissions.  Woodside’s Scarborough gas project is now in the activists’ sights. As if on cue, the Australian Securities and Investments Commission (ASIC) started leaning on oil and gas companies for non-disclosure of climate risks. The flip side is that emissions-intensive industries may just move to friendlier regimes, leaving Western economies reliant on the likes of Saudi Arabia and Russia until they can wean themselves off fossil fuels.

Just to make sure everyone is still paying attention, the N-word got rolled out again this week. Members of a Minerals Council of Australia forum flagged nuclear as a possible future energy solution for Australia, and so too did new Climate Change Authority Chair Grant King.

Have a great weekend.