IS IT STILL RISK, OR ALREADY GAMBLING?

Judging by the title alone, one might be surprised that this short text concerns wind farm development. However, when reading the draft of the so-called Grid Package (UC 84), currently being debated in the Polish Parliament, one can find provisions that could indeed be described as gambling. Let us examine the issue step by step.

I believe there is a broad consensus regarding the main objectives of the Grid Package: eliminating so-called “zombie projects” and raising entry barriers for obtaining grid connection conditions. However, I have a problem with one particular element of the latter, as in my view it goes beyond the boundaries of rational regulation. I am referring to the consequences of introducing additional guarantees required to sign a grid connection agreement.

How does it work today?

If we want to apply for grid connection conditions, we must pay an upfront cash deposit of PLN 30,000 per MW. In addition, signing the grid connection agreement often requires providing an additional guarantee (not necessarily in cash) when the estimated connection cost exceeds the amount of the deposit. This additional guarantee is not stipulated in any regulation and is solely at the operator’s discretion.

Both the deposit and the additional guarantee are refundable, excluding costs incurred by the operator in connection with the concluded grid connection agreement.

Both forms of security have a sound business rationale: they protect the operator’s interests against an investor withdrawing from the project being developed.

How is it supposed to look after the Grid Package is adopted?

The advance payment will increase to PLN 60,000 per MW, and guarantees of PLN 30,000 per MW (for projects below 100 MW) and PLN 60,000 per MW (for projects above 100 MW) will become a mandatory requirement upon signing the grid connection agreement, regardless of the scope of works and the costs incurred by the operator in connection with the implementation of the connection. But that is not the core issue.

The Grid Package introduces a milestone into the grid connection agreement, which terminates the agreement if, within 36 months, a building permit is not obtained for at least 80% of the contracted connection capacity. This period may be extended by another 24 months in the event of force majeure, but this requires increasing the guarantee by an additional PLN 60,000 per MW, regardless of the project’s size.

Where is the gambling?

The original draft provisions assumed that the entire guarantee would be forfeited if the project is not completed, either due to failure to meet the milestone condition or even if the wind farm obtains a building permit but is not ultimately implemented for other possible reasons, such as changes in economic conditions that prevent a final investment decision.

At the last moment, before submitting draft bill UC 84 to Parliament, a mitigating provision was introduced regarding the forfeiture of the guarantee if the investor withdraws from the grid connection agreement before 36 months have passed since its signing.

Thus, if the withdrawal occurs within 6 months, 10% of the guarantee will be deducted. If it occurs between 6 and 12 months, 25% will be deducted; between 12 and 24 months, 50% will be lost; and between 24 and 36 months, the deduction will reach 75%.

Therefore, as the critical 36^th month approaches, the investor will face a decision on what to do next if there is no realistic chance of obtaining the final building permit within that deadline. At that point, the situation begins to resemble a decision made in a casino.

I can save 25% of the guarantee amount if I withdraw, but if I want to keep playing (sorry, developing) further, I must triple the stake and provide an additional guarantee. And if I do not win (i.e., fail to obtain the building permit), I lose both the original and the additional guarantee in full.

This effectively introduces a contractual penalty for not completing the project, regardless of the reasons. Because even if the investor obtains a building permit but decides to withdraw from the project, for example, due to unfavourable regulatory changes, they would need to terminate the agreement to recover at least part of the deposit. In that case, the entire guarantee would remain with the operator, regardless of whether the operator actually incurred costs that the guarantee was supposed to cover.

Should it really work this way?

Wind farm development takes between four and seven years. During that time, everything can change: economic conditions, prices, and regulations (we all remember the 10H rule). And in such a situation, the authors of the Grid Package are effectively introducing a contractual penalty for not completing a project, regardless of the cause and regardless of the operator’s actual costs. For what purpose?

For example, for a 40 MW wind project, wouldn’t an increase in the financial commitment required to obtain grid connection conditions from today’s PLN 1,200,000 to PLN 3,600,000, and up to PLN 6,000,000 if the option to extend the milestone deadline by 24 months is used, already be sufficient? This is in addition to the several hundred thousand, or even several million zlotys, already spent on development up to the point when an application for grid connection conditions can be submitted.

This more than satisfies the criterion of a significantly increased barrier to market entry. What, then, is the purpose of this additional contractual penalty, amounting in our example to as much as PLN 3,400,000, if the project ultimately is not implemented?

Grzegorz Skarżyński
Partner
Tundra Advisory