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UTILITY WEEK | 2nd - 8Th MaY 2014 | 15 Policy & Regulation Analysis B iomass has been a sector on the defen- sive over the past few years. Claims by environmental non-governmental organisations that burning wood for power could be "dirtier than coal" gained traction despite vehement rebuttals from the indus- try. That has been implicitly reflected in a series of cutbacks to policy support. Through all this, Drax was the valiant exception. As the largest fossil fuel power station in the UK, Drax has strategic impor- tance the government cannot afford to ignore. Rather than cling to coal in the face of climate change objectives, Drax led the biomass conversion agenda and, on the whole, brought the government along. It was all the more shocking, then, that the government on Wednesday dropped one of two Drax biomass units off the list of renewable projects to secure an early support contract (see table of winners). Both units topped the provisional rankings in Decem- ber, but one is now deemed "ineligible". Drax shares fell 13.5 per cent in the course of the day, wiping more than £400 million off the company's value. That was the downer on what was other- wise a good day for renewables. Eight large- scale projects worth £12 billion and 4.5GW of power generation capacity got the first con- tracts for difference (CfDs) of the new sub- sidy regime. Seven of these were in line with December's assessment of "provisionally affordable" projects. Then there was a happy result for SSE, as its previously omitted Bea- trice offshore windfarm made the cut. But why the change of heart? The Depart- ment of Energy and Climate Change (Decc) was not forthcoming with the rationale for its decision. A spokesperson would only say the second Drax unit "was assessed as not continuing to meet all of the qualification criteria". Dorothy Thompson, chief executive of Drax, said in an analyst call the decision was "unexpected and disappointing" and the government "has not provided an adequate explanation". She added: "Nothing has changed, as far as our plans are concerned, between being deemed eligible in December and now." The company is mounting a legal challenge. The only clue Drax offered was that Decc had said the decision concerned "mobilisa- tion of capital". Analysts at RBC Capital Mar- kets interpreted this as Drax being "a victim of its own success", as its conversion was so far advanced it was not seen to need the extra assurance of an enabling CfD. Consultants at Cornwall Energy say the answer could lie in the budget profile. Decc has set a cap on funding for early CfDs that starts low and rises to £1 billion a year in 2020. Supporting two biomass units at Drax would hog the budget in the early years, according to Cornwall's analysis. Beatrice, on the other hand, is slightly cheaper and not due to start generating until 2019. Political considerations may have played a part. SSE radically scaled back its offshore wind programme in March to focus on Bea- trice. It made clear a final investment deci- sion would depend on securing an early CfD, putting the onus on government to save it from the chop. Given the government's ambitions to be a world leader on offshore wind and a recent run of axed projects, to let another scheme fail would have been embarrassing. Beatrice also happens to be the only Scot- tish scheme approved. Energy has become a key battleground in the Scottish independ- ence debate and the Better Together cam- paign likes to argue that Scotland benefits from UK-backed renewable subsidies. That line falls flat if only English and Welsh pro- jects get contracts. Where does this leave Drax's biomass conversion programme? While it is undoubt- edly a setback, Decc's decision is not neces- sarily terminal. One biomass unit is already up and running. This latest decision affects plans for a second and third unit. Drax is evaluating the case for converting a fourth burner out of a total six. The unit denied an early CfD is eligible for support under the old Renewables Obliga- tion regime, albeit on less favourable terms. With a CfD, power from a biomass conver- sion is guaranteed £105/MWh. Under the Renewables Obligation, it gets 0.9 Renewa- bles Obligation Certificates, currently worth £41.50/MWh, plus the wholesale power price. The estimated difference is a shortfall of £10/MWh. Thompson said: "Everything now needs to be reassessed." However, the company remains "fully committed" to the biomass conversion strategy, she added. "The invest- ment case for our biomass conversions remains very strong." Analysts appeared confident that while earnings may take a hit, the biomass conver- sion programme will stay on track. Deutsche Bank said Drax was still "an attractive prop- osition with scope to drive strong earnings growth over the next few years". Investec takes a similar view, saying that while the decision adds to the policy uncertainty facing all energy investors, Drax remains in a relatively strong position. The need for reliable renewable capacity will "eventually trump Decc irrationality", says Investec analyst Harold Hutchinson. "As the UK's largest 'conventional' plant, the country can ill afford to lose Drax," he says. Reality check for Drax Losing out on the lucrative award of a biomass CfD sent Drax's shares plunging, so how solid is the business case for large-scale biomass in the long term? Megan Darby reports. Project DeveloPer technology Size (MW) location Beatrice Beatrice Offshore Windfarm Offshore wind 664 Outer Moray Firth, Scotland Burbo Bank extension Dong Energy Wind Power Offshore wind 258 Liverpool Bay Drax Unit 1 Drax Biomass conversion 645 Selby, North Yorkshire Dudgeon Dudgeon Offshore Wind Offshore wind 402 The Wash north of Cromer, Norfolk Hornsea 1 Dong Energy Wind Power Offshore wind 1200 North Sea, off the Yorkshire coast Lynemouth Lynemouth Power Limited Biomass conversion 420 Ashington, Northumberland Teesside MGT Power Biomass with CHP 299 Middlesbrough Walney Extension Dong Energy Wind Power Offshore wind 660 Irish Sea