Almost a year after the UK power capacity market was suspended by the European Commission, the regulator has reinstated the programme, freeing up around £1bn in deferred payments to energy providers. The government intends to make most of the payments in January and three auctions are scheduled for early 2020 to secure the majority of the UK’s capacity needs to 2024.
Following a ruling by the European Union’s General Court, the UK capacity market was temporarily halted by the European Commission last November pending an investigation into its compatibility with EU state aid rules. The capacity market was designed to ensure a reliable electricity supply upon its introduction in 2014. With government auctions held four years in advance, energy companies bid to supply capacity to the national grid at times of stress and in return receive steady payments across the duration of the contract. This revenue visibility is meant to incentivise investment in new and existing generation assets.
While SSE (SSE) and Centrica (CNA) are in line to receive around £148m and £50m in deferred payments, respectively, RBC Capital Markets said the biggest winner is Drax (DRX). In the near term, the group will receive £75m of accumulated capacity payments, already included in management’s guidance for £410m in cash profits in 2019.
An analyst at the brokerage, John Musk, estimated that capacity payments to 2022 should boost Drax’s current share price of 314p by 15 per cent, or 25 per cent if payments are sustained at £8.40 per kilowatt. However, Mr Musk pointed out that some upside may already be baked into the share price, given recent speculation the capacity market would be reinstated. However, he said “the removal of this overhang will allow Drax to focus on future growth options” and momentum will come if the group can lay down a path for continuing profitability once the current subsidy regime for biomass generation ends in 2027.
Drax has signalled that subject to an appropriate auction price, it is looking to develop new gas generation capabilities. Chief executive Will Gardiner says the group will be “prequalifying a number of Drax's flexible and reliable power stations, as well as some of our development projects, later this year”.
