Energy Storage: The economics

Article

Energy Storage: The economics

Analyzing how to build a business case

Following on from our article offering an overview of the energy storage landscape in the Netherlands, we now examine some of the economic factors in play as the market develops. As we noted previously, this is a market where the policy and regulation on a national basis has yet to provide a clear steer for the structure of the future industry, but some patterns are emerging both for operators and investors. As in the second article, the below is predominantly focused on grid-scale assets.

Overview of revenue markets

In our first article in this series, we mentioned that there are multiple different roles that storage assets could play to support the energy markets as part of the transition to a lower carbon energy system. The inherent flexibility of storage assets means that there are multiple different routes to markets that they can access. It is therefore important to understand the different revenue markets that exist and which are most applicable to different types of storage.

Wholesale Markets

The wholesale markets are those in which parties often enter into bilateral transactions for the sale or purchase of electricity. The three wholesale markets that operate within the Netherlands are as follows:

  • The Forward and Futures market - electricity is traded between four years and one month delivery in these markets. The futures market involves standardized contracts traded on the market while the forwards market involves bilateral contracts between market participants. Both help to provide stability to generators and off takers for a set period of time.
  • The Day Ahead (‘’DA’’) market - buying or selling one day forward for hourly blocks. The market closes at 12.00 hrs on the preceding day, and outlines the electricity price and volume for each hour; and
  • The Intraday market – the trading of electricity up to five minutes before the moment of actual delivery. This helps to avoid imbalances that exist within the DA trades, as buyers and sellers can adjust their order volumes in line with updated generation/demand profiles. 

In line with their time horizon, longer-duration storage assets are better suited to the forward and futures market whilst shorter-duration assets can play a role in the day ahead and intraday markets.

Balancing Markets

TenneT, in its role as the transmission system operator ("TSO"), is required to ensure the grid frequency and supply/demand balance is maintained at appropriate levels at all times, to avoid blackouts on the grid. To achieve this, the TSO uses a number of different markets to procure the relevant demand/supply of electricity to enable the electricity grid to operate at the required levels.

  • Frequency Containment Reserve (‘’FCR’’) – eserve power available to be drawn upon by TenneT to ensure that the required frequency can be maintained across the grid network in instances of disruptions. These services are procured by the TSO in daily auctions covering four hourly blocks in the following day.
  • Automatic Fast Restoration Reserve (‘’aFRR’’) – this market is the second reserve market available to the TSO in instances of frequency disruptions to the electricity network. This is activated to free up the original FCR capacity. Balancing Service Parties (‘’BSP’’) are requested to automatically activate their reserves in the instance of a power imbalance. The TSO procures this capacity by entering into contracts with suppliers through daily auctions in which they commit to making bids for a certain period.
  • Manual Fast Restoration Reserve (‘’mFRR’’) – this market is the third reserve market available to TenneT in instances of frequency disruptions to the electricity network. BSPs are requested to provide services through to provide services through a manual request by the TSO. For mFRR there are no bid-obligation contracts but capacity contracts. This means that market participants need to have this capacity at all times and when needed, the TSO activates the procured amount.

The FCR and aFRR are activated within a shorter time period, and therefore are well suited to the supply characteristics of Li-ion BESS, whereas the mFRR has a longer duration, and therefore is likely to be a better fit for the longer-term technologies.

Congestion

The increasing level of congestion that is occurring on the electricity network has led to new contracts and platforms being introduced to the Dutch market. These help to support the TSO and the distribution network operators (i.e. Alliander, Enexis, and Stedin) in procuring services from producers and consumers to enable them to manage the congestion on their networks. These include: 

  • Congestion management contracts – following the introduction of the new Electricity Grid Code (‘Netcode’) in November 2022, producers and consumers can enter into a congestion management contract that allows them to provide congestion management services to the grid operators when requested.
  • GOPACS – a platform introduced by grid operators that enables them to procure additional demand or supply at a location that’s facing congestion. The balance of the overall electricity grid cannot be impacted, and therefore if additional demand or reduced supply at one location is provided, then this must be offset by a reduction in demand/additional supply from another market participant outside the congestion area. Market participants can place a buy/sell order on a linked trading platform, and once approved, the network operators pay the price difference between the two orders. This provides additional income to the market participants, and ensures that the congestion in the electricity grid is resolved.

Li-ion batteries are well placed to provide these congestion services due to their fast response time, which aligns with the requirements of the congestion services procured by the system operators. 

The revenue stack

The individual revenue streams for storage assets are unable to provide sufficient returns to make the assets economically viable on their own. It is therefore a necessity for assets to ‘stack’ their revenues to generate the highest returns. This involves the storage asset participating in multiple revenue markets throughout each day (see below).

To achieve this, the owner of the storage asset needs an internal or external trading and optimisation team that’s responsible for ensuring the asset is utilised across the relevant markets at the most beneficial times each day. The trading and optimisation can be done manually, but increasingly this is being carried out using automated software based on machine learning algorithms, for improved results. As the energy storage market grows, and the electricity trading markets adapt to storage being a larger portion of the mix, the algorithms will be constantly evolving to reflect what’s happening in the energy supply ecosystem.

There are restrictions on how flexible a storage asset can be placed within a stacked revenue strategy. For example, if a storage asset is entered into a contract to provide a particular service during a set period of time (i.e., FCR or FRR), then contractually it is not able to operate in the potentially more lucrative immediate revenue markets. This is one of many factors to consider when determining the optimal trading strategy for each storage asset.

Current business models

Currently, business cases for grid-connected storage assets in the Netherlands centre on a rental model whereby the utility wholesaler pays the battery developer and operator to rent the capacity of the battery system. This provides certainty through predictable revenue, and lower risk for the developer, but also limits the potential upside during times of volatility in supply and demand. As the market matures, it’s likely that this rental approach will give way to business models involving guaranteed floor levels of revenue, or a fully merchant approach whereby the asset owner trades the assets freely on the energy markets.

Each of these business models comes with a different risk/return profile, and the asset owner will have to take this into consideration – particularly when assessing the capital structure for a project, and the risk appetite of the funders.

Deloitte’s involvement

Through our global Financial Advisory and Consulting practices, we are involved with many clients already active in the energy storage market or looking to enter the market in the near future. Much of our work at this stage is to help potential investors get more comfortable with the features of the sector, and we see our role in part as enabling energy storage to reach its full potential – including by connecting interested parties through our network.

Some projects involve exploring the business cases for longer-term energy storage technology alternatives mentioned in our previous article, but we have also been extensively involved in supporting investments in the development and operations of BESS facilities. For example, we recently provided tax structuring and vendor financial due diligence support to Powerfield ahead of its deal to raise €500m in structured equity and portfolio financing from EIG and Landesbank Baden-Württemberg (LBBW) to finance their portfolio of solar, storage and EV charging projects.
 

In our fourth and final article, we will look at the total supply chain considerations for energy storage. For now, if you would like to explore energy storage business models, and how Deloitte can help you develop a business case or raise financing, please contact one of the individuals below.

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