The services are sold in descending clock auctions to the lowest bidder, which ensures the best value for the system operator and ultimately to the end user, as these costs are passed on to energy consumers.
The auctions take place as T1 and T4, representing one year and four years ahead respectively. This ensures that capacity is met for the coming year by providing payments to participants to allow existing capacity to remain open, whilst also incentivising longer term investment in new forms of capacity to provide ongoing security of electrical supply.
Payments are made on a £/kW/year basis for the capacity they make available to the grid. As an example, a contract secured for £1/kW/year, with a 10MW capacity provider could earn £1 x 10,000kW = £10,000 per year for making that capacity available to the grid during times of peak stress. Crucially these payments are made whether or not providers are required to deliver capacity or not, which makes for a reliable and guaranteed source of income.
The future of the Capacity Market may be in doubt since legal action taken by Tempus Energy in 2015 led to its suspension following a European Court of Justice ruling. Tempus argued the CM was anticompetitive as it favours large generation over technology like Demand Side Response. This is because DSR participants can only secure contracts one year ahead, compared with 15 years for larger generators, giving them an unfair advantage.
As there is currently no guarantee of payments for participants in winter 2018, this could mean they choose not to respond to stress events. The National Grid has confirmed the system will be able to cope with demand this winter, due to high electricity wholesale prices incentivising power stations to stay open. However, by winter 2019/20 there could problems without sufficient intervention. Current plans to resolve the issues include offering equal contract terms to both DSR providers and large generators to ensure an even playing field and the reinstatement of payments to capacity providers.
Whether you are currently participating in the Capacity Market, a similar scheme, or are unsure of how these changes may affect your business, contact our team of experts for advice and guidance on the best course of action.