The UK has been at the forefront of promoting interconnectors as a reliable and resilient method of transporting and trading electricity to, from and with our European and Irish neighbours. While Brexit heralds a loosening of connections with Europe, we can take some comfort that the development of strategically important energy interconnectors is certain to continue, albeit at a more cautious pace.
Britain has four interconnector links – two to Europe via France and the Netherlands and two to Ireland – which have a total capacity of 4 gigawatts (GW). Net imports of electricity through the interconnectors represent around 5 per cent of Britain’s existing generation capacity. In the short term, interconnector capability is expected to almost double in the next four years as two new links to northern France and one to Belgium come on stream, while a number of other projects could add a further 10GW of capacity over the next decade or more.
As with most, if not all, business sectors, the post-Brexit arrangements that will apply to the energy sector are anything but clear. Given that the government’s clearly stated position is that the UK will be leaving the EU Single Market, it follows that it will also leave the Internal Electricity Market (IEM). It remains to be seen if some sort of bilateral agreement allows us to remain part of the wider internal energy market and enables electricity to continue to flow in both directions without trade barriers, tariffs or other restrictions.
Notwithstanding this lack of clarity, I would wager that shrewd equity investors will take the view that the requirement for interconnectors between the UK and the Continent as a vital element of our energy supply chain will remain unchanged. Indeed, statistics show that demand for electricity is increasing and it is recognised that in the winter months when wind power is variable, the UK runs very close to security of supply margins and becomes a net importer of electricity. It is very difficult to see how this fundamental dynamic is going to change because of Brexit, though given the uncertainty, it is likely that investors will find themselves in a stronger position to demand a higher return on their equity.
The value of sterling in recent months and its future performance will also have an impact on interconnector projects that rely on technologies and equipment manufactured in Europe. A weakened pound means start-up costs will be higher, while similarly importing electricity and gas into the UK will hit pockets harder.
In addition, there is concern about the continued availability of funding for strategic energy infrastructure projects from EU sources, such as the European Investment Bank (EIB). The EIB plays a central role in the part-financing of strategic infrastructure projects, including in the energy sector, and it would be a safe assumption that the levels of funding approved by the EIB for UK-centric projects will diminish.
On a more positive note, the “cap and floor” pricing mechanism introduced by regulator Ofgem in 2014 – which caps the revenues interconnector owners can earn from sales of transmission capacity and limits the losses they could suffer as a result of reduced revenues in years of low demand for capacity – provides a welcome safety net for developers and operators looking to invest in the sector.
It is accepted that the UK needs a more robust energy supply pipeline, and interconnectors are an important part of establishing an energy mix that is sustainable, reliable and fit for purpose. While Brexit may be partly responsible for a more cautious approach by investors, my sense is that fear of the unknown has not dented long-term enthusiasm for interconnector projects and we will continue to see greater networks established with Europe and, further down the line, Scandinavia.
l Murdo Maclean, partner and energy sector specialist at legal firm Pinsent Masons.