Renewable Energy Auctions: the Brazilian

Experience

Luiz Barroso

luiz@psr-inc.com

World Bank – IFC – ESMAP workshop on How to Choose Appropriate Incentives to Deploy Renewable

Energy and Increase Energy Efficiency: Use of Feed-in Tariffs and Competitive Mechanisms

January 2012

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The Brazilian power system

► Brazil has one of the “cleanest” energy

matrices in the world, with about 45% of the

overall energy production coming from

renewable sources

The worldwide average is about 15%

► The power sector is even “greener” – more

precisely, “bluer” – with 80% of the country’s

120,000 MW installed capacity coming from

hydropower

Large plants in cascade over different basins

Large reservoirs

Hydropower is an essential resource for the country

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The new renewable energy sources (RES)

► In the past five years, three other renewable resources have

become competitive for large-scale generation expansion:

1. Bioelectricity (BE): cogeneration from sugarcane bagasse

2. Small hydro

3. Wind power

► Hundreds of BE, SH and wind plants, totaling 6,000 MW, are

already in operation; an additional 7,000 MW is under

construction

► And they have other interesting attributes

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Interesting attributes of RES

► Brazil has a significant resource potential of these sources

► Geographical complementarity: wind (South and NE) & BE (SE)

► Smaller-sized projects: diversify risks of delay, increases investors range

► Shorter construction time: hedges load growth uncertainty

► Location close to load centers

► Brazil’s hydro reservoirs and the countrywide transmission grid provide

flexibility and modulate seasonal and intermittent production

► Production complementarity with hydro:

Hydro and wind (in the Northeast)

Hydro and bioelectricity (in the Southeast)

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RES support mechanisms

► Brazil has different support mechanisms, which co-exist:

1. (2002 – 2006): Proinfa: quota & feed-in tariff scheme

2. (from 2007) Incentives on wire costs for selling energy contracts at the

free market

3. (from 2007) Technology-specific auctions

Tax breaks & local (BNDES) incentivized financing offered

The main support mechanisms are (1) and (3) and they will be

discussed next

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Proinfa

► Created in 2002, mandatory contracting of 3,300 MW of RES

until Dec 2006 through a 20-year contract

1,100 MW for wind, small hydro and biomass

Cost of these contracts collected from all consumers through a levy

Consumers entitled to portions of Proinfa energy (in proportion to

actual consumption) in their contract portfolios.

Eletrobras (federal power utility) centralizes payments.

► “FiT-like” program: each technology receives a fixed price

Wind: 184 USD/MWh, SH: 96 USD/MWh, Bio: 70 USD/MWh

► Proinfa started the RES business in Brazil

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Difficulties with Proinfa

► Economic value: information asymmetry between suppliers & government

► Criterion to select projects: date of the project’s environmental permit

The older the permit, more priority the project had in the merit order for

contracting “black market” for environmental licenses.

► Difficulties to manage grid connection

► BNDES required 60% of the project’s costs to be supplied by local

manufacturers: deadlock for wind, as Brazil had only 1 supplier at the time

► Proinfa’s implementation delayed several times; still not fully completed

and completion postponed for the 6th time now to 2012

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The path towards RES auctions

► Contract auctions are integrated into the regulatory framework since 2004

Brazil runs an organized market to auction firm energy contracts to contract

new energy for the regulated market (regulated consumers pay) or specific

auctions to contract supplementary generation to increase the security of

supply (all consumers pay)

Original motivation was price disclosure and efficiency in the procurement

process (reduction of information asymmetry)

► Since 2005, these auctions have resulted in the contracting of 31 GW of

new capacity

40% is conventional hydro & 20% renewable (60% renewable in total)

40% is fossil-fueled, mostly natural gas

US$ 300 billion in contracts

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The organized contract auctions for new capacity

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► Regular (yearly) auctions exclusive for new energy

Discos declare the volumes to contract (regulated consumers pay) and a

centralized procurement (economies of scale) is organized by the government

Standardized long-term energy contracts offered, backed by firm energy

Technology-neutral but the government can interfere in the candidate projects

with policy decisions:

• has been used to organize project-specific auctions (e.g. large hydros), to avoid oil-

and coal-fired generation as candidate supply and to contract renewable

► “Reserve energy” auctions

Contract supplementary energy to increase the system's security of supply

Government defines the volumes to contract, all consumers pay for the energy

Government can select the technologies that will participate, has been used

to contract renewable

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Outlook of the RES energy auctions

► Long-list of technical pre-requisites to register a project, e.g.:

Prior environmental license, grid access, financial qualifications

► Specific products offered

In case of wind, product converges to a FiT with some revenue

stabilization and a complex scheme for penalties/incentives for

production above/below a threshold

► Main auction tasks distributed among the institutions (an

auction committee is formed) to allow coordination:

Definition of auction mechanism & suggest price caps

Definition of auction product, preparation of tender documents, etc

Coordination with transmission planning

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► Guarantees for new energy auctions: bid bond (1% of project’s estimated

investment cost) & project completion (5% of project’s estimated

investment cost)

► Regulator has the right to ask for contract termination if delay higher than

1 year is observed

► Several other penalties in case of delays

Reduction of contract price while plant is delayed

Depending on the auction type, it is needed to contract replacement firm

energy during the delayed period

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How to guarantee the projects will be build?

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Technology-specific auctions results – wind power

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PROINFA was the first RES support mechanism in the country and based on a feed-in tariff (administratively set)

* Wind competed against small hydro and biomass

** Wind competed against small hydro, biomass and gas-fired plants

Total of 6.8 GW of wind contracted in auctions @ 78 US$/MWh

2.9 GW @ for 60 US$/MWh (2011)

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Problems observed and ongoing adjustments

► Some 40% of the wind projects of the 2009 auction are behind

schedule (COD should be July 2011). Why?

► Delays in financing: BNDES is concerned about the financial

situation of one contracting distco and requires higher

guarantees

This distco is one of the few remaining under state control (Amapá). It

will probably suffer federal intervention for later privatization

Affects smaller investors with less proven track records

► Delays in environmental licensing

Lack of experience of investors (incomplete environmental studies) and

lack of personnel from the environmental licensing agency

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Main lessons

► Auctions do not operate in a vacuum: they must be an integral part of a

country’s overall energy and procurement policies

► An effective auction depends on the existence of competition: attracting

additional bidders are far more effective than limiting reserve prices

► Regulatory stability, transparency and the investors’ perception about the

fairness of the process are pre-conditions for the success of an auction

► The product offered will depend on the auction objective and is a key of the

auction success (risk allocation is everything)

► Stimulus for “early warnings” of problems & delays in project

implementation should be so that the “bad news” can be known in advance

► There is no “one size fits all” type of auction design and the “devil is in the

details”

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For further reading*

1. Electricity Auctions: An Overview of Efficient Practices, by L.T. Maurer, L.A.Barroso, J. Chang, P.Benoit, D. Fields, B.Flach,

M. Herrera-Dappe and M.V. Pereira., 2011.

2. C. Batlle, L.A.Barroso, Review Of Support Schemes For Renewable Energy Sources In South America - IAEE Energy

Forum, Fall issue, 2011

3. L.A. Barroso, H.Rudnick, F.Seinsuss and P. Linares Economic and market impacts of renewable integration in Europe and

Latin America –– IEEE Power & Energy Magazine, Vol.7, Issue 4 , September-October 2010, Page(s): 28 – 36

4. R. Moreno, L. A. Barroso,, B. Bezerra, S.Mocarquer, H.Rudnick, Auction Approaches of Long-Term Contracts to Ensure

Generation Investment in Electricity Markets: Lessons from the Brazilian and Chilean Experiences - Energy Policy, vol. 38,

Issue 10, 5578- 5589, 2010.

5. F. Porrua ; B. Bezerra; L.A. Barroso; P. Lino; F. Ralston; M.V. Pereira, ,”Wind Power Insertion through Energy Auctions in

Brazil” IEEE General Meeting, 25-29 July 2010, Minneapolis, Minnesota, US

6. S.Mocarquer, L.A. Barroso, H.Rudnick and B.Bezerra, Energy policy in Latin America: the need for a balanced approach,

IEEE Power & Energy Magazine, Vol.7, Issue 4 , September-October 2009, Page(s): 26 - 34.

7. L. A. Barroso, R. Moreno, B. Bezerra, S.Mocarquer, H.Rudnick , Auctioning Adequacy in South America Through Long-

Term Contracts and Options: From Classic Pay-as-Bid to Multi-Item Dynamic Auctions- IEEE PES General Meeting 2009,

Calgary, Canada

8. L.A.Barroso, P.Lino, F.Porrua, F.Ralston, B.Bezerra Cheap and Clean Energy: Can Brazil Get Away with that? - IEEE PES

General Meeting 2008, Pittsburg, USA

9. L.M. Thomé, L.A. Barroso, M.V.Pereira and F.Porrua, “Planning for big things in Brazil: Planning and Building Large-Scale

Transmission Networks in Competitive Hydrothermal Systems: Technical and Regulatory Challenges”, IEEE Power &

Energy Magazine, Vol. 5, Issue 2, September-October 2007.

10. L.A.Barroso, B.Bezerra, A.Guimarães, J.Rosenblatt, M.V.Pereira, Auctions of Contracts and Energy Call Options to

Ensure Supply Adequacy in the Second Stage of the Brazilian Power Sector Reform; - IEEE PES General Meeting 2006,

Montreal, Canada.

11. L.A. Barroso; H. Rudnick, S.Mocárquer, T.Castro The Challenge Of Conciliating Energy Development & Environmental

Constraints In South America; - IEEE Power and Energy Magazine, Vol 4, July-Aug 2006.

* available at www.psr-inc.com

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Backup

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Lessons learned: auctions (1/2)

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Topic Main Lessons

1. Auction-related

Procurement and

Energy Policy

Aspects

Auctions do not operate in a vacuum; rather they must be an integral part of a

country’s overall energy and procurement policies

2. Market Context

An effective auction depends on the existence of competition: it is widely accepted

among practitioners that the results of attracting additional bidders are far more

effective than limiting the reserve prices

Even in countries where competition is modest and markets are relatively small,

competitive auction mechanisms can be beneficial

3. Pre-conditions

Designing and implementing any type of formal auction system requires a candid

assessment of the robustness of the institutions and the regulatory framework

Regulatory stability is a key element to attract investors to participate in competitive

auctions

Transparency and the investors’ perception about the fairness of the process is a

pre-condition for the success of an auction

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Lessons learned: auctions (2/2)

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Topic Main Lessons

4. General

Design Issues

There is no “one size fits all” type of auction design

The product offered in an electricity auction will depend on the auction objective and is a

key of the auction success (risk allocation is everything)

Centralized auctions seem to be more efficient in fostering competition compared to

carrying out various smaller auctions

5. Technology

Choice and

Renewables

Auctions have proved to be an alternative to the administratively set feed-in tariffs:

indirect way for feed-in tariff price discovering but managing to reach the right amount of

investment

6.Implementation

issues

Moving from auction theory to real-life implementation is not an easy task, special care

should be taken in markets that are not fully functional, or where institutions are not

strong enough to support any formal competitive electricity auction procurement schemes

Governments have to specify who should be allowed to participate in the auctions among

all potential buyers and sellers in the market

Stimulus for “early warnings” of problems & delays should be given so that the “bad news” can

be known in advance

The “devil is in the details” – well-specified auction rules are critical for the auction success

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Tax breaks

► Waiver of taxes on equipment imports

► Special financing lines:

70% leverage, 14 to 16-years amortization, 6-9% interest rate, 6-month

grace period

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Discount on T and D tariffs

► Up to 50% discount on transmission and distribution tariffs for

free consumers who buy contracts backed up by renewable.

1. Energy cost: 50 USD/MWh

2. Wire cost: 80 USD/MWh

3. Tariff (1+2): 130 USD/MWh

► A discount of 50% is 0,5 x 80 USD/MWh = 40 USD/MWh

an energy price of 80 USD/MWh could be offered for a

renewable and would save 10 USD/MWh in the final tariff:

1. Energy cost: 80 USD/MWh

2. Wire cost: 40 USD/MWh

3. Tariff (1+2): 120 USD/MWh