Australia's CIS – new support for clean dispatchable projects (Part 2)
15 August 2023
15 August 2023
The CIS Agreement may comprise one contract, or it may be split into a project development agreement and an underwriting agreement.
As a long-term Commonwealth underwriting agreement linked to revenue, the CIS Agreement has been structured to achieve the following objectives:
We have set out below our insights on certain of the key commercial terms in the CIS Agreement.
Support below a floor: Where annual net revenue (all revenue less eligible expenses) is below a specified amount (the 'floor'), the Commonwealth will pay the project a percentage (set by the Commonwealth) of the difference between annual net revenue and the floor.
Profit sharing above a ceiling: Where annual net revenue is above a specified amount (the 'ceiling'), the project will pay the Commonwealth a percentage of the difference between annual net revenue and the ceiling.
This structure gives investors and financiers greater certainty that sufficient revenues will be received by the project, and gives the Commonwealth access to upside so as to minimise the cost to taxpayers.
Proponents will need to carefully consider how to size and bid the floor, ceiling and profit sharing percentage.
We expect the floor will be informed by debt obligations, however the floor amount will likely need to be higher than the minimum debt obligations. This is because the Commonwealth will only pay a percentage of the gap between actual net revenue and the floor, not the full shortfall.
The ceiling and profit sharing percentage are likely to be informed by the expected revenue streams for the project, but would also need to balance securing sufficient returns before sharing with the Commonwealth against needing to be attractive in a competitive process.
One key issue that is not addressed in the paper is whether there is a cap on the amounts payable by the parties. For example, the NSW LTESA arrangements provide that the amount to be paid by a project to the NSW Government is capped at the aggregate of prior payments paid by the NSW Government to the project.
Floor and ceiling mechanisms always apply: It is expected that these mechanisms will apply throughout the term, and will not be structured as options.
This structure means that the Commonwealth will always share in the good years.
However it also means support is always available when revenues are low, which should give financiers considerable comfort.
As compared to the NSW LTESA, it also eliminates the risk of not exercising an option and then enduring a low revenue year, and avoids the proponent having to forecast expected revenues well into the future and make decisions on those forecasts.
Participation in wholesale contracts market: Projects will remain able to participate in the wholesale contracts market. It appears that any such contracts would need to be arm's length and above the floor amount.
By permitting offtake arrangements with third parties, this structure enables projects to take advantage of potential upside and/or new markets as the energy transition continues.
However the paper is unclear on how these arrangements will work, including how obligations under the CIS Agreement and other offtakes will interact and overlap plus what is meant by needing to be above the floor amount.
Performance requirements are limited but critical: It is expected that only limited performance requirements will be imposed on projects, being:
These obligations will be backed by a combination of liquidated damages and/or abatement regimes, an ability to adjust future CIS support and termination rights.
These requirements – and the consequences for failing to comply – are essential to the CIS achieving its reliability targets across Australia whilst leaving projects to broadly operate in accordance with market conditions and rules.
Projects can contract less than 100% of its capacity: The paper indicates that the CIS Agreement will permit supporting less than 100% of the project's capacity, with performance obligations only applying to the supported capacity.
This provides proponents with greater flexibility to participate in the wholesale contracts market or the spot price market for the uncontracted capacity, whilst retaining access to CIS support.
Key project milestones backed by termination rights: The CIS Agreement will set target and longstop dates for key project milestones, including security, achieving FC, supply and/or BOP works, and COD. The Commonwealth will have termination rights for failure to achieve specific milestones (although this is unlikely to apply to interim construction milestones).
Whilst we note such rights are relatively common in the wholesale market, proponents will need to carefully consider achievable milestone dates and build in appropriate buffers to accommodate delays without losing the CIS Agreement.
Termination rights favour the Commonwealth: In addition to market standard termination rights (material breach and prolonged force majeure), the paper indicates the Commonwealth will have certain favourable termination rights, including:
It is not unusual to have favourable Commonwealth termination rights in a tender process. However proponents and financiers will be looking for further details around these rights, including for reason that:
Projects that participate in CIS tenders will be assessed in two stages: project bid and financial bid. Default and alternative bids may be permitted.
The first stage will assess the technical, commercial, and social licence merits of a project. Selection criteria is expected to include:
During the financial bid stage, applicants will be assessed against:
Bid variables and extent of departures from bid documents will also be assessed.
Authors: Bree Miechel, Partner; Robert Gough, Senior Associate; and Nikki Doan, Graduate.