Energy investors urge caution as UK mulls following Spain’s windfall tax

UK energy minister Kwasi Kwarteng said the government was ‘looking at all options’ after Spain enacted a windfall tax on ‘extraordinary’ profits made by gas price spikes.

The UK is considering replicating a windfall tax imposed by the Spanish government on energy generators in a bid to protect consumers from the effects of gas price hikes.

Spain’s prime minister, Pedro Sánchez, this month introduced a temporary tax reform to prevent energy generators and suppliers from reaping “extraordinary benefits” as a result of increased wholesale prices. Although facilities benefiting from subsidy contracts will continue to receive those benefits, electricity generators will have to pay back excess revenues above €20 per MWh, offsetting the cost of higher gas prices. Gas prices in Spain this month have exceeded €60 per MWh, while in February they were as low as €15 per MWh. The new measures will apply until the end of Q1 2022.

The UK is considering similar measures after wholesale gas prices rose by 250 percent since the beginning of the year. Energy minister Kwasi Kwarteng told the House of Commons’ business, energy and industrial strategy committee last week that “all options” were on the table when it came to mitigating the effects of the current crisis.

“I think what they’re doing in Spain is recognising that it’s an entire system,” he told members of parliament. “I’m not a fan of windfall taxes, but of course [the energy system] is an entire system and we have to think about how we can get the energy system as a whole to help itself.”

Spanish energy giant Naturgy, partially owned by Global Infrastructure Partners and the subject of a bid from IFM Investors, said the move could affect its 2021-25 strategic plan, whereby it intends to invest €14 billion across its conventional and renewable energy networks.

It said in a statement: “The board reports that the company is analysing the effects and potential impacts – economic, accounting and other types – of such measures, although at this time it is impractical to size them due to the uncertainties mentioned and the difficulty of modelling the impact on the business.”

Kwarteng’s mooted plan to follow suit was criticised by Rory Quinlan, co-founder of Quinbrook Infrastructure Partners, who said the current crisis was born of several factors.

“Soaring gas prices will continue to result in soaring power prices so long as we have to call on gas-fuelled power plants to meet peak power demand,” he told Infrastructure Investor. “Until low marginal cost plants such as renewables are routinely setting the power price – projected to occur in 2030 – power in the UK will continue to be coupled to commodity prices.

“The government won’t bail out [energy supply] companies that left themselves exposed to the risk of higher gas and power prices by applying poor business models. That’s fair enough, but it doesn’t follow that if you endorse the free-market mechanism and refuse help for those who failed, that same government can go on to punish those who operated 100 percent in accordance with the rules with a so-called ‘windfall tax’. That’s counterproductive and is simply finger-pointing for political purposes. You need to look at the underlying causes behind the gas price increases in the first place if you are concerned about price gouging.”

The intricacies of the UK and Spanish markets mean Sánchez had to act quicker in a bid to protect consumers, according to Ricardo Pineiro, head of UK solar at Foresight Group.

“The UK has a longer period of deferred impact to consumers,” he explained. “The price you’re seeing today will probably only end up impacting consumers early next year. In Spain, this usually happens on a month-by-month basis.”

Scars from the past

Spain’s intervention is likely to bring back bad memories of the retroactive renewable energy subsidy acts from the previous decade, and which ended with the Spanish government being successfully sued by multiple investors.

“In some cases, the profit has clearly increased,” warned Diego Biasi, chief executive of renewables fund manager Quercus Investment Partners, when asked about Sánchez’s claim of “extraordinary” profits. “We have to remember though that the business plans of energy investors span decades, during which power prices go up, but also down.

“The question is whether these types of measures represent the right approach and whether the government has the right to intervene in such circumstances. A cap to profit when there are temporary spikes would make sense, if coupled with a floor to protect against price reductions, otherwise it can only harm investors’ confidence, which is not exactly what you aim for when trying to give a boost to investments to meet ambitious global renewables targets. Whoever is in favour of this should at least refresh their memories with what happened at the beginning of the last decade in the renewable energy market in some countries in Europe due to regulatory changes.”

Biasi added that he will wait to see the details of Kwarteng’s measures before comparing them to the subsidy cuts, but added: “Any involvement of the government to curb profit in a sector can only be harmful for the sector, especially if the underlying investment horizon is long-term.”

Pineiro echoed these sentiments and questioned the wisdom of the measures in Spain that will hit renewables generators.

“From all the tools they have to mitigate these issues, it’s not helpful from an investor sentiment,” he said.