To incentivise private investment in renewable electricity generation, the government introduced the Contracts for Difference (CfD) scheme in 2014
The scheme provides direct protection from volatile wholesale prices for project developers with high upfront costs and long lifetimes. It also protects consumers from paying increased support costs when electricity prices are high, as it is a condition that generators pay consumers back when the ‘reference price’ exceeds the ‘strike price’.
Contracts have been allocated periodically via auction to a selection of low carbon energy providers and developers every two years from 2014-2022 and annually since 2023. There will be a further allocation round at the end of 2025. The auctions operate through a descending clock format, where participants bid by indicating the lowest price at which they are willing to provide capacity. The auction continues until the required capacity is secured at the most cost-effective price.
How it works
Renewable energy project developers successful in an auction enter into a private law contract (the CfD) with the Low Carbon Contracts Company (LCCC). Once projects are constructed and start to generate electricity, the developers are paid a flat (indexed) rate for electricity produced over a 15-year period – the difference between the ‘strike price’ (which is determined by the competitive auction) and the ‘reference price’ (a measure of the average market price for electricity in the GB market) for each unit of green electricity generated.
Payments to generators under the scheme are funded by amounts collected from electricity suppliers in advance using the CfD Supplier Obligation Levy. Any payments from generators to the LCCC are returned to electricity suppliers via reconciliation of the levy. It is expected that suppliers will pass on the net cost of the CfD levy to consumers through electricity bills.
Delivery partners
- The Department for Energy Security and Net Zero sets the policy and governance arrangements for the scheme, including the allocation rules, timing and budgets of allocation rounds, and administrative strike prices.
- National Energy System Operator (NESO) is responsible for managing and operating the front end of the process, including registration, CfD applications, assessing the eligibility of applications for generic CfDs, conducting reviews for non-qualification (Tier 1 Disputes) and CfD allocation.
- The Low Carbon Contracts Company is the CfD counterparty under the regulations, responsible for processing requests for minor and necessary modifications at the outset of an allocation round, issuing CfDs in accordance with the CfD allocation, managing CfDs through various milestones during the project delivery phase and making CfD payments during the operations phase.
- Ofgem is responsible for handling Tier 2 application appeals.
Evaluation
The government called for an independent evaluation of the first three allocation rounds (between 2014 and 2019) and overall, this found the scheme represented value for money. Interviews with developers and investors provided strong support for the theory that the CfD’s 15-year price stabilisation contract reduced risks for investors by reducing exposure to wholesale price volatility, which then lowered hurdle rates for developers.
This was reported to have increased access to the provision of finance from a wider pool of investors, resulting in competition among lenders and more attractive interest rates being offered. CfDs play an important role in enabling finance deals that would not happen otherwise.
The scheme continues to attract new developers, with 131 projects (mostly wind and solar) allocated contracts within the last round (December 2024). These are projected to supply approximately 9650 MW of power and are due to be delivered from 2026 until 2029.
What does the CfD scheme mean for procurement?
Any incentive to increase low carbon energy generation is good for the planet, good for the ‘green’ economy and ultimately good for all parties who play a part in getting these development projects from a conceptual idea to an operational facility. With procurement playing a key part in that journey, EiB provides bid support for Tier 1 and Tier 2 contractors to submit successful tenders to deliver the construction of these projects. Developing a strong bid strategy at the outset will be key.
Many projects are at an early planning stage and there are many bureaucratic challenges to overcome, particularly with wind power and solar farms, which can face considerable opposition from local groups, residents and communities. Some investors/developers are pursuing multiple projects nationwide, so these will be key organisations to follow to understand the solid pipeline of opportunities incentivised by the scheme throughout 2025 and into 2026 and beyond.