Italy simplified permitting for small storage systems last year but the country still needs to readjust its medium-term plans to make them coherent with its ambitious climate and energy targets.
“Storage needs to be considered, also in line with the European approach, as a market player, similar to a generating asset,” said Canazza. “To reach the renewables targets defined by the [EU] Green Deal, storage is a necessary component of the electricity system. The investments are very interesting but their economic return is still very risky.”
Several factors make such investment tricky, explained the partner at MBS Consulting -Cerved Group. REF-E recently became the practice “Energy and Utilities” of MBS Consulting -Cerved Group.
First hurdle: permitting process
Permitting procedures are heterogeneous. They depend on the size and configuration of specific power plants. “The permitting process has been quite simplified but persisting barriers are evident for [the] relevant size [of] storage which could participate in the ancillary services market,” said Canazza.
The Milan-based engineer said, for large scale power plants permitting procedures are still complex. “The simplification is applied very effectively for small scale storage projects, or for configurations that are coupled with self-consumption, or in other aggregated configurations,” she explained. “There is not a consistent approach for … market access and the simplification of [the] permitting process.”
In other words, each storage project is different but larger ones are still suffering.
Second hurdle: the dispatch market
According to Canazza, storage business models can be sustained if storage power plants can, in this first phase of development, participate in the ancillary services market, which is considered to be very attractive, especially in geographic areas with a high concentration of intermittent renewables generation.
“In our simulation of the business model for configurations of storage facilities, we see that around 50-55% of the investment cost could be covered by the expected revenues in the ancillary services market,” said Canazza, adding: “Only 10% could be expected in … time-shifting on the day-ahead [electricity] market. So, in aggregation, revenues from the spot market could arrive to cover around 60-65% of the [project] capex [capital expenditure]. Around 35-40% is the range of cost that needs to be complemented with some dedicated capacity remuneration mechanism.”
Canazza, an advisor to Milan-based management consultancy MBS Consulting, said large parts of storage revenue streams would be exposed to the electricity dispatching market. “The dispatching market is not predictable, by definition,” said the energy consultant. “It is a very local market, it is a real-time market, and significant regulatory reforms could change its equilibria in the future.”
Third hurdle: storage into the capacity market
A year ago, fast frequency reserve auctions pushed batteries through a capacity remuneration mechanism. The batteries deployed are power-intensive rather than energy-intensive. However, Canazza said storage installations will increasingly have a space in other market segments too.
“The capacity market, dedicated to a service of availability during the hours of expected shortness of the system, is the second window for storage applications in the market, after the fast reserve auctions,” she said. “The mechanism applies a de-rating factor to the nominal capacity to determine the amount of capacity eligible in the mechanism – the lower the storage capacity of the asset, the higher the de-rating factor. So the mechanism offers the greatest participation opportunities to energy-intensive storage assets.”
Fourth hurdle: competition
In the decree implementing the European directive on energy markets 2019/944, Italian electricity transmission system operator (TSO) Terna has been asked to define “system needs” in terms of flexibility requirements or pre-selected, high-quality dispatching services which could be coupled with storage. Regulatory body ARERA (the Autorità di Regolazione per Energia Reti e Ambiente) will then define a capacity mechanism for the remuneration of new power plants that could cope with the needs defined by Terna.
“We expect a progressive fine-tuning of new mechanisms dedicated to storage, with more consistent technical requirements for storage power plants,” said Canazza. “Dedicated mechanisms could be more effective to ensure the above mentioned 40% missing remuneration, and could address the supply of specific services that only storage assets can provide to the system. The counter-effect is that these mechanisms are not yet defined and the position of ARERA is that there will be a progressive upgrade of this mechanism following the emerging needs and issues. From an investor point of view, the uncertainty about future remuneration mechanisms could limit strategic investment decisions.”
She added, despite strong interest in such investment opportunities, the market design and delays to legislation about future support mechanisms could limit the scope for investment. Investor appetites could be seriously dampened.
“The draft of the decree foresees [in] article 19 that, if private investments are not sufficient to match identified system security needs, the TSO could invest in storage assets,” added Canazza. “The correct way of implementation needs, however, to be specified. Operators have already suggested that the possibility for the TSO to directly develop storage systems could limit competition, giving Terna a strategic advantage.
Currently, new storage projects are strictly related to the geographical development of new renewables plants. “This is the first driver for the localization of … new storage projects,” said Canazza. As already stated, fast frequency response service auctions are a second driver and, according to the energy expert: “Some are currently in an advanced phase of … implementation.”
In the future, though, storage project location could depend on other factors. According to Canazza, storage will be a solution in congested cluster nodes with a limited capacity to host renewables generation, and also in areas affected by critical grid and security issues.
“Considering the current topology and the critical areas in the electricity grid, storage will be very important in the [Italian] islands, in the south of Italy, or where there are portions of the grid [which are] very congested and [where] network reinforcement [is] difficult to implement,” said Canazza. “For … new projects, the business model is very connected to … local opportunities, not only to the zonal market: Storage will take part in the ancillary services market, which is, naturally, local.”
She predicted that would not mean electricity interconnections such as the Tyrrhenian Link connecting southern regions to the main islands of Italy, would limit the scope of storage options. “Storage can answer to local flexibility needs; the Tyrrhenian Link can solve structural congestion among market zones, expanding the competitiveness of the market,” she explained. “They have different objectives, which are complementary in the energy transition.”
Long term opportunities
Looking ahead, storage projects which are now operational could be upgraded.
“There is the possibility that current power-intensive storage [projects] will be progressively upgraded … to energy-intensive storage … to capture increasing market opportunities,” added Canazza. “This would be a progressive transformation, following system flexibility needs.” Big utilities are already including storage in their strategic plans.
“But new players will enter … the market, including investors that come from abroad,” she told pv magazine. “We are working for different developers that come from markets where they [have] accumulated experience. And they would like to export their expertise [to] Italy, given the attractiveness of the Italian [legislative] framework.”
Storage and hydrogen
Batteries and hydrogen have a theoretically similar function: the storage of energy. Canazza said the two are complementary, rather than direct competitors.
“Electrolyzers need to reach high utilization factors in order to reduce the LCOH [levelized cost of hydrogen], the cost per unit of hydrogen production,” said Canazza. “Electrolyzers can work well when there is … systematic renewables over-generation, or in general whenever there is a great excess of renewables production to be absorbed. It refers to the condition that could occur in the long-term, when renewables will represent the main component of the energy mix.”
Storage assets, instead, intrinsically act as flexible short term resources, balancing the system against the variability of intermittent energy sources. They are, added the consultant, “very fast and efficient in responding to security system needs for maximizing demand coverage by renewables.”
The raw materials crisis may have an impact on storage, due to an increase in the cost of renewables and battery assets.
“The timing is very important,” said Canazza. “If sourcing the technology will require more time than the optimum timing for capturing emerging market opportunities, this will be an issue for investors that could produce delays, losses and competitive disadvantages.”
The analyst agreed with other energy commentators who have predicted big companies could enjoy a favorable position, especially if they have made investments in components in advance. Big business could also benefit from the strategies of technology developers. “Technology providers could apply greater discounts to bigger orders, that could also [offer] a certain priority in … supply,” added Canazza.
Another risk, in the longer term, stems from over-investment and intense competition.
“Excessive storage development can produce strong cannibalization effects,” said Canazza, “price spreads will be reduced by the operation of the assets and regulation volumes on the ancillary services market could be optimized thanks to the major availability of flexible resources. During the useful life [of storage projects], there is a significant risk [of capturing] lower revenues than those expected at the time of the investment decision, depending on the level of competition.”
In the first phase of storage plant deployment, the risk of cannibalization is expected to come from traditional power plants participating in the ancillary services market. “CCGTs [combined cycle gas turbines] are very competitive in the ancillary services market and additional high efficiency and flexible thermal capacity will enter the market through the capacity market mechanism in the next few years,” said Canazza. “If the current wave of storage projects [are] realized, in the short term there could be an excess of flexibility resources compared to … system needs. But this effect could be different at a local level.”
In a second phase of the utility scale storage market, over a more long-term horizon when renewables hit policy targets, Canazza said, “a boom in energy-intensive storage could have the counter-effect of mitigating day-ahead market price-spreads and limiting time-shifting opportunities.”
That risk, however, could be mitigated if future storage-dedicated mechanisms effectively consider the available market room for storage capacity at a geographical level, the REF-E analyst added.
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