Government proposals to change the inflation link in existing clean energy incentives have intensified the gloom over the embattled renewables fund sector.
Shares in listed renewable energy infrastructure funds slid this week before making a partial recovery after the Department of Net Zero and Energy Security launched a consultation last Friday on changes to the inflation indexation calculation used in the renewables obligation (RO) and feed-in-tariffs (FIT) schemes.
Two options
It outlined two options for moving the schemes from using the traditional but flawed retail prices index (RPI) to the more accurate consumer prices index (CPI). One proposal for a simple switch next March, four years before the planned 2030 changeover, would be relatively benign, but a more radical option to backdate CPI over 20 years could see current payments to funds frozen and big cuts to the net asset values (NAV) of their investments.
The initiative comes as the Labour administration seeks to reduce energy bills for households ahead of a Budget this month that is widely expected to see further tax rises as the chancellor grapples with a £20bn-£30bn deficit.
The estimated benefit to the average household bill for 2026-27 is £4 under the first proposal and £13 under the second, before any costs such as an increase in the cost of capital.
It fits in with moves by the Treasury and UK Statistics Authority in following the Office for National Statistics which called for RPI to be dropped in favour of its preferred measure of CPIH, which includes housing costs. RPI has been proved to consistently over-estimate inflation, thereby inflating contractual payments linked to it.
Although RO and FIT incentives were withdrawn in 2017-2019, renewable energy operators who built wind and solar farms under the schemes will continue to receive inflation-linked payments until 2037.
As a result, all London-listed renewables funds are exposed to the changes and will see their income streams from ROC and FIT assets fall, further eroding NAVs that have already been hit by successive falls in inflation and power price forecasts.
The government said using CPI to annually adjust the RO and FIT buyout price was a “proportionate and fair” approach. It would ensure generators continued to receive a stable and predictable return while making savings and preventing the risk of over-payment, as occurred when energy prices and inflation soared after Russia’s invasion of Ukraine in 2022.
It said the savings were greater if CPI rather than CPIH was used. According to Treasury estimates, total savings if CPI was applied to both RO and FIT could start at £100m in 2026/27 and rise to £310m in 2031/32.
The government’s first option would involve simply moving from RPI to CPI next March for the calculation of renewable energy buy-out prices.
“Severe” second option
A more radical second option would effectively backdate CPI to 2002. The current RO buy-out price of £67.06 would be frozen with officials creating a “shadow” price starting in 2002 and annually adjusted for CPI instead of RPI. No further inflation adjustments would be made until the shadow price caught up with the current buy-out price, after which CPI adjustments would be made.
Estimating the impact of these proposals on the renewables funds is challenging because of the varying levels of disclosure by the investment companies.
Nevertheless, Investec analyst Alan Brierley calculated the first option would knock 1.7% off the NAV of Bluefield Solar Income (BSIF), a fund that today put itself up for sale alongside its fund manager. Rivals Foresight Solar (FSFL) and NextEnergy Solar (NESF) would fare worse, losing 2.1% and 3%, he said.
More generalist and wind-based funds would also see NAVs fall with Greencoat UK Wind (UKW) down 1.8%, Octopus Renewables (ORIT) down 1.3% and Renewables Infrastructure Group (TRIG) off 0.5%.
Brierley said the outcome was more “severe” under option two with solar funds BSIF, FSFL and NESF suffering drops in NAV of 6.7%, 6.8% and 8.5%, while UKW, ORIT and TRIG would decline 6.2%, 4.1% and 2.2%.
Commenting yesterday, the analyst noted that share prices in the sector had been weak on Tuesday with falls ranging from 2.8% for Foresight Environmental (FGEN) to 8.9% for BSIF, although they rebounded a little on Wednesday.
The consultation closes on 28 November which means the outcome will be known fairly quickly, said Brierley, adding, “however until then, there will clearly be a cloud hanging over the sector which will likely weigh on sentiment.”
TRIG is the only fund to have commented on the proposals so far. In a third quarter update yesterday, it said it had 16% exposure to RO and 1% FIT revenues for 2025. It estimated that option one would would remove just 0.6p off its 30 September NAV per share of 109.7p. Option two would lower it by 2.4p.
Our view
James Carthew, head of investment company research at QuotedData, said: “Having the government unilaterally change the terms of its contract with the renewables industry will further undermine confidence in the sector and creates an unwelcome precedent. It may present a short-term saving for electricity users but raises a risk that all infrastructure developers will demand a higher return to compensate for an unreliable partner going forward.
“There is also an inconsistency in the government’s proposal in that it is suggesting a shift from RPI (which includes housing costs) to CPI (which doesn’t). Why not use CPIH, which the Office for National Statistics describes as its lead inflation index?”
