Caught in the Crosswinds: Early development strategies that keep wind projects moving

Michael Weatherley:

Welcome to Ashurst's Caught in the Crosswinds podcast series. I'm Michael Weatherley, a disputes partner at Ashurst, and co-author of Ashurst's recent Caught in the Crosswinds article series, where we offer practical tips for navigating the well-documented growing pains experienced by the wind power industry over recent years, and the corresponding surge in wind power disputes.

Now, most people don't like to chat with disputes lawyers. I think there's a view that if you're chatting with me, then something must have gone horribly wrong and you're about to experience a long, painful, messy fight. And, yes, I certainly do have some of those conversations. But I think what many people don't realize is that disputes lawyers also have some of the best insights on how to proactively avoid being in that situation in the first place. We do have firsthand experience of what works and what doesn't, particularly when it comes to the drafting of contracts.

Of course, our transactional colleagues have a similar experience, and it's from that perspective that the Caught in the Crosswinds series was born. A collaboration between disputes and transactional lawyers, both in-house and at law firms, who are active in the wind energy space and looking to close the loop, as it were. Figuring out how we can learn from these disputes and really do better for the good of the industry going forward.

We start our podcast series today with capacity reservation agreements and early works agreements. We want to explore how developers and suppliers can align commercial incentives and really create win-win solutions that keep projects on track and on budget, and which remain bankable. Joining me for this session are two industry leaders, one from the turbine supply chain, Igor Bylinin, the Head of Legal for Offshore APAC at Siemens Gamesa. And the other being our very own Pete Grayson, a partner in Ashurst's energy practice, specialising in wind projects, among other things, and who often sits on the developer side of negotiations on these agreements. Thank you both for being here.

Igor Bylinin:

Thank you, Michael. Happy to be here.

Peter Grayson:

Yes, thanks Michael. Great to be here with yourself and Igor, looking forward to the discussion.

Michael Weatherley:

Great. I want to dive straight in. As you know, offshore wind projects now routinely need capacity reservation agreements and early works agreements years before financial close. From your different vantage points, why have these agreements become indispensable? Maybe you first, Pete?

Peter Grayson:

Yeah, sure. Thanks, Michael. I'd say there's probably three main points to begin with. First of all, these agreements, the intention of these agreements is to really secure what can be a scarce supply chain capacity and delivery slots. Second of all, these agreements can, if used correctly, de-risk schedule and cost ahead of FID decisions through targeted early works. And crucially, the third reason, that these agreements really underpin program credibility against the applicable subsidy regime that might be relevant to that project. For example, CFDs in the UK, et cetera. Essentially, these agreements are really enhancing the bankability prospect of the project by converting uncertainty into more defined scope, price, and schedule a bit before we get into full notice to proceed territory.

Michael Weatherley:

Igor?

Igor Bylinin:

Yeah, let's first look at the context. According to different sources, it takes between seven and 10 years from the start of development of the project until the end of commissioning of the wind turbines. In order not to make this timeline even longer, the developers need certain scopes to be commenced and completed long before the turbine supply agreement is signed. This is where the early works agreements come into play. Signing early works agreements allows developers to complete certain scopes that are on the critical path for them even before the TSA is signed. Thereby, allowing to maintain a leaner project schedule.

If, however, a developer wants all works to be commenced only after the turbine supply agreement is signed, one of the two things need to happen. Either the TSA will have to be signed much earlier in order to allow the earlier scope to be commenced under the TSA. Or if that's not possible, the TSA program will have to become much longer. Both options, understandably, are not that attractive. Then regarding the capacity reservation agreements for developers, obviously this is a way to secure manufacturing capacities early. Understandably, too much investment is being made into the projects to take the risk of not securing manufacturing capacities. And if time allows, probably to what Pete said just now, perhaps also negotiate some high-level key heads of terms that will form the basis of the future turbine supply agreement and service agreement. Again, more security for the developer. For suppliers, this obviously allows early manufacturing planning as well as early cash, as simple as that.

Michael Weatherley:

Well, thanks both. I think some interesting themes coming out of those answers, and I think the main one for me is achieving some degree of certainty for future planning purposes. I'm conscious though that certainty does itself sit on shifting ground, given how far out we are planning when it comes to these projects. And that can lead to difficulties in defining scope. And of course, the most important scope that we are considering when it comes to capacity reservation is, what does capacity reservation actually mean? What is involved in that idea, and how flexible should it be when projects slip? Perhaps, again, from each of your perspectives, what do you think capacity reservation actually means in this context? Pete, I'll again throw to you first.

Peter Grayson:

Sure. I'm not sure if Igor would agree, but you could probably spend the whole podcast talking about this one. But I think in short, from a developer perspective, capacity reservation essentially comes down to the expectation that the supplier will block out a defined manufacturing slot exclusively. It will fix a quantified slice of production or vessel time, and flexibility should be built into this capacity reservation. I think there should ideally be the right to reschedule a limited amount of times on sufficient notice, and we can get into discussion perhaps around what happens with program delay and slippage. But from a developer perspective, you would want to see a bit of flexibility and a bit of allowed slippage before any discussions happened around cancellation or redefining the slots that were initially available.

I think that whilst there should be a degree of flexibility, it needs to be balanced because there needs to be an acknowledgement that the contractor can't keep those slots available indefinitely. But that kind of flexibility is a key point. Flexibility on both sides is important. But essentially, capacity reservation always, for me, will come back to that key point around how you are defining that manufacturing slot and how long it's going to be kept for in terms of exclusivity.

Michael Weatherley:

Igor, I'm sure you've got some views on this subject. What do you think?

Igor Bylinin:

Yeah, of course. Very interesting opinion that Pete has shared. And I of course disagree, but not completely. The way I have seen capacity reservation agreements taking place is that more often than not it's a promise that a manufacturing slot will be available. Not a specific manufacturing slot, but an abstract manufacturing slot will be available to allow commencement of installation on a certain date. For developers, in my experience, it's not really that important to have a specific manufacturing slot exclusively reserved just for them. What the developers want is a promise that manufacturing capacities will be available in order to allow commencement of installation at a certain date.

Again, for context, why does a developer need a capacity reservation agreement? If we look at the situation that the developer is in, a developer usually receives an offer from a supplier, right? But an offer in itself doesn't mean that the capacities are reserved, because offers usually are subject to prior sales. Meaning, that as a developer you have an offer, but if someone else gets there faster than you and locks in the capacity, the offer will essentially be withdrawn. In this sense, an offer without a capacity reservation agreement it's, I would say, like a free or demo version of an application on app store. While when you sign a capacity reservation agreement you, so to say, upgrade this application to the premium or full version of an offer with the manufacturing capacity actually reserved to back it up.

Michael Weatherley:

I love the app store analogy. Pete, any thoughts?

Peter Grayson:

Yeah, I think there is crossover there. The one point I think is interesting is the one around the reservation being a promise that a slot will be available but not a fixed slot. And I think, sorry, in my initial answer, I agree with that conceptually to an extent but certainly from a developer perspective, what you would want to see is a sliding delivery window with maybe an element of embedded float there. But there can't... With a developer hat on, you do need some parameters around when that slot will be made available to you.

Yes, to Igor's point, I wouldn't expect it to be nailed down date certain when you sign a capacity reservation agreement. But bearing in mind some of the points we've touched on already around products being, overall needing to be, delivered within certain time scales to make sure you don't lose your subsidy, et cetera, the developer will be after some kind of comfort that the slot will be within a certain window that allows you to hit that program. I think just a general promise that a slot will be made available to you at some point would be challenging for developers to accept.

Michael Weatherley:

Yeah, I guess balancing that certainty and flexibility is really the crux of what we're talking about here, isn't it?
I want to change gears a little bit and move on to what I think is keeping many in the industry up at night. External shocks like tariffs or rapid changes in political or regulatory winds, things that neither party controls. We've seen recent trade measures. And indeed, in some cases, quite open political opposition to offshore wind in certain countries. And certainly, I think some people have been a bit blindsided by that. I want to ask, what does good drafting and good relationship management look like when the rules do change midstream?

As is tradition, Pete, do you want to go first?

Peter Grayson:

Sure, happy to. Look, I think there's no silver bullet to this question, but there are some tips I guess I would like to raise for discussion. First of all, I think you have to draft for regulatory volatility and not a single scenario. I think the trap that certainly us lawyers can fall into sometimes is an event happens and all of a sudden we go a bit mad about trying to address it, that specific event. And then, obviously you can't govern what's going to come next. It's about drafting, it's general regulatory volatility as opposed to single scenarios, because you'll never be able to cover everything in that way. You need to build a robust change in law regime that clearly splits fiscal, regulatory, trade, tariff measures, deals with them generically but really succinctly. And then the contractor should allocate who bears baseline risk versus extraordinary shifts in the market.

And also, a mechanic which really provides for prompt relief without reopening the whole bargain that was struck at the beginning of the deal. You really need to be using objective triggers to manage this. To the extent possible, you want to be looking at pre-agreeing mechanics that actually handle anything to do with index price adjustments, tariff pass-through formulas, et cetera, and things like that to keep manufacturing and site works moving as efficiently as possible whilst costs are escalating. Certainly, some of the projects I've been involved in, something major has happened and the contract doesn't really facilitate quick agreement at a time when costs are escalating. So rather than mitigating and escalating costs, you end up arguing about how you're going to end up at the final price. So making any kind of objective criteria you can have at the beginning and pre-determining mechanics, which I appreciate is not always easy, but the more you can include that in your contract, the better.
And then, another point really is around, I do believe political risk should be kept distinct from force majeure (FM). I think there should be different reliefs in the contract for that. Essentially, it's two distinct risks that often get put in the same bucket. And then, generally, I think moving away perhaps from drafting semantics on change in law, you do want to pre-wire into your drafting governance so the escalation decisions happen fast. Good drafting will hard code how the parties should respond, how quickly they should respond, and then how quickly the solution's implemented. It all comes back to ensuring collaborative behaviours, responsiveness, problem solving. And some of the themes we already talked about in terms of incentives and rewarding good collaborative behaviour instead of positional bargaining, essentially.

Michael Weatherley:

Yeah. No, that good relationship management piece really does come down to things like that, doesn't it? And I take your point about keeping political risk and FM separate. And you'll be very glad to know, I was looking at a contract earlier today which did exactly that. So, someone's listening to you, Pete.

Peter Grayson:

Must've been an Ashurst contract.

Michael Weatherley:

Yeah, I'm pretty sure you weren't the author, but you'll be glad to hear it nonetheless.

Peter Grayson:

Indeed.

Michael Weatherley:

Igor, I'll go to you. Any additional thoughts?

Igor Bylinin:

Yeah. Probably just a couple of thoughts from my side. First of all, I agree with Pete in many things. The regulation has to be clearly structured, it has to be detailed. It probably shouldn't address specific cases, but it should address the topic holistically. And I also agree with Pete that the political risk should be addressed separately from force majeure, but I think the way I see it is a little bit different compared to how Pete sees it. Because in my view, the political risk, when it occurs, it has to entitle the contractor to actually more relief compared to a normal force majeure situation. There are different ways to skin a cat, right? And we have seen different force majeure clauses.

But I would say that the magnitude of the political risk and its potential impact on the supplier. And the fact that the supplier probably is so distant from that risk, that has absolutely zero influence and ability to predict it and mitigate it. That, if anything, if force majeure and political risk are treated differently, then force majeure should be treated differently in a sense that the political risk should entitle to much more relief on the contractor side.

And then, yeah, Pete, you were also mentioning the risk sharing as a concept potentially. And Michael, if you allow, probably this would be a good segue into another question. So if... Okay, for you I will answer not the question that you have asked, but the question that I'm going to ask now.

Michael Weatherley:

Sure.

Igor Bylinin:

As to what is wrong with the industry. As you know, successful projects begin with realistic distribution of risk along the supply chain, and not all risk can be pushed to the supplier. And the offshore wind industry historically allocates too much risk to turbine manufacturers. And if you look at the numbers in the last years across major suppliers, they speak for themselves. At the same time, if you look at the numbers that some of the developers who are reporting their numbers were communicating, you could see a strong financial performance in the last years. If I were to change anything, I would actually be, to your point of risk sharing, I would actually change the risk allocation in favour of a more balanced, in my view, allocation where developers accept more risk than they used to.

I sympathise a bit with the developer side where you have obviously different stakeholders pulling you in different directions. You have suppliers who want to be paid more with less risk being accepted by them. And on the other side, you have financing parties who want you to accept less risk. It's a difficult position to be in, no doubt, but it also comes with a bigger reward compared to the rewards us further down the supply chain are getting.

Michael Weatherley:

And do you think that shift that you're hoping for is already happening?

Igor Bylinin:

The only thing I can say is that we are trying. And then only time will show. Because you cannot change such fundamental things overnight. Obviously, historically, there have been certain mechanisms that have been in place for many years that the financing institutions are used to seeing. And then, if all of a sudden in a project finance deal a contract looks substantially different in respect of certain key concepts important for the financing parties, then obviously it's not as easy. Sometimes you see that a developer is sympathetic with that request to accommodate certain more balanced risk allocation between supplier and the developer. At the same time, you can see that the developer is not the ultimate decision-maker in the sense that the deal also has to be approved by the financing parties, by the lenders council, et cetera. It's not a quick process. And in the light of what I said earlier about the wind turbines being a very popular product at the moment, one could probably think that it's super easy for us to change things. The reality, unfortunately, is different. It's not easy at all.

Michael Weatherley:

And Pete, from the developer perspective, what's your... First of all, your comment on whether that shift is or should take place. But perhaps then after that, the second part of the question, if you could rewrite industry practice tomorrow, if you could change one thing, what would it be?

Peter Grayson:

Sure. And firstly, I should say or should pre-empt my comments with the fact I have a huge amount of sympathy for what Igor was saying around what I would call "the race to the bottom" essentially in terms of price that has happened in the recent past, which has put on a huge pressure on the OEMs. I think just, obviously with my developer hat on, and perhaps the next podcast we could get a government representative on. But from my perspective, it's not just asking the developers to take on more risk, it's actually asking the governments to do so as well. Because part of the wider context here is that actually, just look at AR5 in the UK with zero bids, because they got the strike price wrong. They're asking too much of the developers. And in years gone by, the developers have pushed that down to the supply chain who have quite rightly reached … said "enough's enough".

But it's not just a case of the developers taking on more risk, it's actually the government's getting their level of subsidy correct and being reflective of the stage of the industry in that particular jurisdiction and region. Sound like a broken record, but it's back to being collaborative. We work across different offshore wind projects across the world. And in developed markets or emerging markets, at each stage, the industry is hitting quite big speed bumps, and it's always down to breakdown in collaboration between the key stakeholders.

Where you see success is where actually the government entities, the developers and the supply chain are coming together to make sure there's an equitable sharing of the risk. And where that risk balance goes wrong is where we have the problems that we've been discussing in response to this particular question. That's for the first part of my response to observations from Igor.

In terms of what I would like to see in terms of big seismic changes to the industry. If I had a wish list, I would love to see every government adopt a CFD regime, if I'm honest. I think if that's implemented correctly, I think certain markets have demonstrated that that is a really effective and great way of supercharging the industry. And I think if that kind of regime is harmonised across different regions, I think that'd be fantastic for the industry. It's proven, it works. There's no need to reinvent the wheel, is my view on that.

Michael Weatherley:

It does sound like we need a government representative on the next one, because there's some really strong themes there around the regulatory framework in which these projects are being proposed, and that being an absolutely fundamental part of the mix. Do you find that governments are now having to compete with each other in terms of their regulatory regimes to attract investment?

Peter Grayson:

I think, absolutely there's a recognition amongst governments that they are competing. You just have to look at some of the big players in the market that are withdrawing from specific countries to say they're targeting specific jurisdictions where they see the most value. I do think governments globally are aware of that need to compete. Whether or not that acknowledgement is filtering through to the actual regulatory regimes, I'm not sure at this point. But I think there's certainly strong awareness amongst the authorities that there is that need to remain an attractive as possible environment for developers and the supply chain. I do think that's in the context of increasing awareness perhaps amongst the general public around the cost of the subsidies and how it's filtering through to the end user. I think that is in the political environment we're currently in many jurisdictions there is an increased spotlight on that. I think governments are also in a bit of a tricky balancing act on this point.

Michael Weatherley:

Interesting. Igor, any thoughts on that last question?

Igor Bylinin:

Pete's comment was so good that I literally have nothing to add to it.

Michael Weatherley:

Well, we're in furious agreement with each other, which is very good to see. We've hit some interesting points of disagreement, but very nice to see us come together at the end. Okay, time has flown. We've had a very engaging discussion about capacity reservation agreements and early works agreements. Who would've thought? Really interesting insights from both the developer side and the turbine supplier side. And while not agreeing perhaps on everything, I do think there's a certain degree of mutual ground there from which the industry can build. Thank you Igor and Pete for your candid insights. I really appreciate you being here today.

Peter Grayson:

Thanks your time, Michael, really enjoyed the discussion. Looking forward to working with you, Igor, in the future.

Igor Bylinin:

Thank you very much, Michael. Thank you very much, Pete. It was a pleasure having this interesting discussion with you.

Michael Weatherley:

This episode kicks off our Caught in the Crosswinds podcast series. Next up, we'll delve into construction disputes. Keep an eye on Ashurst's website and LinkedIn feed for the accompanying articles and future podcasts.

In the meantime, I'm Michael Weatherley, thanks for listening. And goodbye for now.