How profitable are off-shore wind farms, and should they be of more interest to institutional investors?

European countries with programmes to develop off-shore wind farms include, UK, Germany, Denmark, France, Spain, Belgium, Netherlands. As of early 2014 the EU had 6.6GW of off-shore wind. By end-2015 there will be around 9.9GW connected. In terms of a pipeline of projects, The European Wind Energy Association (EWEA) identified 22GW of consented offshore wind farms in Europe out to 2025. Germany (30%), the UK (22%) and The Netherlands (13%) account for 65% of consented farms. In terms of location, North Sea (68%) and Baltic (16%) are the main locations. In the case of the North Sea, many of the locations are further out from coast. For example, the UK will develop the Dogger Bank (70kms from the nearest coast), and German developments are a similar distance from their coast. Greater distance means higher costs due to the need for high voltage direct current (HVDC) power connections and also because water depths tend to be greater (average now is 20 metres – growing to around 20 to 40 metres for the Dogger bank).
Capacity Factors
The main attraction of off-shore is higher and more consistent winds than on the mainland. In turn this means more energy output from the wind turbines (WTs). The productivity of a given WT is a function of its capacity factor (CF), usually expressed as a percentage. In any given period of time (usually a month or a year – expressed in hours) the actual output of the turbine is given as a percentage of its full rated power multiplied by the number of hours in the period chosen. Putting numbers to this, capacity factors for on-shore WTs in Germany are around 20% (depending on location). In a good location in the UK, one would expect a CF of 25%. By contrast Alpha Ventus (60MW) in the German North Sea has a CF of around 50%. Horns Rev 2 (209MW) in the Danish sector of the North Sea over the period 2011 to 2013 had similar CFs. This is due to good average wind speeds, typically around 10mtrs/second. This datasuggests that, at least for the Danish and German North sea sectors, off-shore wind is more than twice as productive as on-shore.
Data Availability (or not)
Although the UK has the largest fleet of off-shore WTs it does not provide data on the production from individual farms. It is not known why this is the case, given that these farms receive extensive public support. By contrast, Denmark publishes data on the monthly output of every single wind turbine, on and off-shore. It also provides hourly data on the output of the off-shore farms (in aggregate). This data facilitates a financial analysis of existing and future wind farms, at least for Denmark, and by extension for developments in the German sector of the North Sea.
Denmark & Off-shore
Denmark went through two phases of off-shore construction. The first in the early 2000s which featured small WTs (2MW) and low CFs, typically around 25%. The second phase of construction started in the late 2000s, with farms such as Horns Rev 2 using larger and more modern WTs (3.6MW) with much higher CFs. The most recent off-shore WF to be commissioned in Denmark was the 400MW Anholt farm developed by Dong. PKA and PensionDanmark, the Danish pension schemes, own 50% of Anholt: Link to RI story. It is located on the east cost of Jutland in the Kattegat, the body of water which connects the North Sea to the Baltic sea. The Danish side of the Kattegat is shallow (20 meters max) and Anholt is located no more than 15kms off-shore.
Average wind speeds in the Kattegat are around 14mtrs/second i.e. 40% stronger than the Danish sector of the North Sea. 2014 was a low-wind year for Denmark. This is known because the average CF for Horns Rev 2 was 35.8% compared to a more normal 50%. In 2014, Anholt managed 55.6%. Thus in a normal year, Anholt should reach a CF of around 77%, i.e. 3x what would be expected from a land-based
WF. For the sake of being conservative a CF of 65% has been assumed for the Kattegat.

Name (Size), Capacity factor%, IRR %, NPV (Euro millions), Bid (Euro/MWh), Lifetime MWh (Euro), Project Value
Anholt (400MW), 65, 21-25, 762-1180, 140, 71 (est), Euro 1.355bn
Horns Rev 3, (400MW), 50, 11.4, 391, 103, 55 (est), Euro 1.16bn?
Saeby, (200MW), 65, 16.5, 400, 42 (est), Euro580m?

Anholt.
Simple discounted cash flows were developed based on the above numbers. For the first 10 years Anholt will receive Euro140/MWh. Thereafter it will get market rates. Key assumptions (all projects): discount rate 5% (cost of capital/debt – based on cost to Dong to raise bonds). Other assumptions were made with respect to operation and maintenance and the average price for electricity sold, after the first ten years have elapsed (Euro25). By year 6 the project will go (cumulative discounted) cash positive. By year ten when the Euro140/MWh finishes it will be Euro1bn cash positive. Dropping the average value of electricity by 20% (to Euro20/MWh) changes the IRR by 1% and the NPV marginally. Given the above numbers it is not surprising that some Danish pension funds were keen to take part in the project.
Horns Rev 3.
Denmark currently has two rounds of bidding for a new set of off-shore farms in the North Sea and the Baltic. It just awarded the Horns Rev 3 (HR3) farm (400MW) to Vattenfall. The company bid Euro103/MWh for 10 years. The average cost of a MW at the Anholt farm was Euro3.355m. Apart from wind speed (10mts/sec vs 14mts/sec) the main difference between HR3 and Anholt will be the use of WTs with a much higher output – probably the new Vestas 8MW units. These can be expected to reduce costs and possibly increase CF. Thus the financial assumptions for HR3 is that there will be a 15% reduction in costs (to Euro2.9m). Based on this, in year 9 the project goes cash positive and by year 10 is cumulative cash positive at Euro125m. The change in capacity factor (55% vs 65%) and the drop from Euro140 to Euro100/MWh has made a difference. Despite these changes the project still looks to be attractive.Saeby.
Denmark aims to install a further 1GW of off-shore wind by 2020. It will soon be tendering for a 200MW off-shore WF in the Kattegat near Saeby, just north of Anholt. Cash positive year 7 and cumulative discounted cash of Euro238m by year 10. Project costs should be around Euro580m, possibly less. Other projects are planned for the South Kattegat.
The Kattegat covers about 12,000km2 and could be considered one of the best locations in the world for off-shore wind. Projects in this location appear to be financially attractive and relatively low risk. This makes it surprising that, so far (with one exception), only Scandinavian financial organisations have taken part at the project stage. The exception is Goldman Sachs which holds 20% of Dong (Danish power company and the leading off-shore developer in Europe). Goldman is also heavily promoting Vestas, the Danish wind turbine supplier.
Off-shore wind in Denmark looks a better risk than in other locations. Policy with respect to off-shore wind in the UK seems to vary as much as wind strength and direction. Remuneration is complex (Contracts for Difference – what contracts? which “difference”?) when compared to the relative simplicity of Denmark.
Last Words
Recent reports such as the one by Ernst & Young imply that off-shore wind is still expensive. However, it is clear that in some locations it is low cost. Indeed, the energy-only component in a Danish electricity bill for 2013 is around Euro48/MWh. As can be seen for the Saeby project, long run MWh costs are lower than the energy-only component. This does not mean that some support could not be given to off-shore wind to build a given project. The Danish auctioning process seems to be driving costs down (30% reduction over 5 years Anholt vs Horns Rev 3). A guaranteed payment for the first 10 years of operation provides some certainty for investors, after that it is down to the operator to maximise the return from the asset. A separate report will be produced on hourly output of off-shore farms and how this could be matched with, for example, pumped hydro storage.

Mike Parr is Director of energy consultancy PWR. He previously worked for one of the UK’s distribution network operators as a systems engineer running their network on Merseyside. He then moved into industrial engineering running the services (and energy saving activities) at Sony’s Bridgend TV plant. In the late 1990s he founded PWR Consultants which undertakes research in the area of climate change and renewables for clients which include a G7 country and global corporations.