Q&A - Low Carbon Contracts Company: CfDs for hydrogen, how will they work?

The Low Carbon Contracts Company (LCCC) was established to be the independent counterparty to Contracts for Difference (CfDs) in the UK.

CfDs have become the UK government's main mechanism for low-carbon electricity generation. Since 2014, there have been four successful allocation rounds, with the winning project developers entering into private law contracts with the LCCC.

In March [2023] the Department for Energy Security & Net Zero (DESNZ) reported that it expected the LCCC will act as the counterparty for the hydrogen production and Industrial Carbon Capture business models. This was followed shortly after by the shortlist of the first Hydrogen Business Model / Net Zero Hydrogen Fund allocation round.

inspiratia speaks to Leonidas Papanikolaou, senior head of bespoke and new schemes at the LCCC on the company's involvement in the planning process, about how the contracts will differ from standard CfDs and when the industry can expect to see the results of the first allocation round.

What is the Low Carbon Contracts Company?

The LCCC is a private limited company owned by the DESNZ. This means whilst we are government funded, we retain operational independence. The LCCC was first established in the middle of 2014 to manage the contracts for difference schemes to support the development of renewable and low-carbon projects. Since then, our portfolio has expanded exponentially. We are now managing 166 projects with a total capacity of 30GW, almost 40% of the UK's total generation capacity.

What role will the LCCC play in the hydrogen business model?

With the net zero agenda becoming even more important, DESNZ began to look at the best means to decarbonise the entire economy. Two key spaces arose following this process, that of carbon capture and storage and hydrogen.

Following this policy, advisers within that department started working on those business models. The LCCC was brought in as an advisory partner using its contract management expertise garnered through the successful CfD process to shape the new hydrogen business model. We have been involved in that capacity for the last two years, supporting the development of the hydrogen business model.

The other role of the LCCC is to manage the contracts when the process is concluded. The shortlisting process is managed by DESNZ, who, a few months ago, released a shortlist of 20 electrolytic hydrogen projects, totalling 408MW of capacity across England, Scotland and Wales. The timeline is that by year's end [2023], the first Hydrogen Allocation Round (HAR1) will have concluded, with the first contracts awarded.

How realistic is the HAR1's timeline?

I feel it is realistic, as we have achieved tremendous progress so far. There have been a number of successful publications and a set of pretty detailed terms circulated. Additionally, there are very frequent interactions with the industry and the relevant stakeholders through expert group sessions, much of which are outside the public domain.

How will the structure of the contracts and management of the contracts differ from standard CfD schemes?

The first challenge is determining the reference price due to the lack of a set hydrogen price. Subsequently, for the DESNZ and the government, there needs to be a means to incentivise the development of projects to procure security and ensure a healthy return for stakeholders. On the other hand, you need to ensure checks and balances to prevent over subsidising the projects.

The solution we saw is to use the actual achieved sales price as reported by each project but with the natural gas price as the floor to ensure that the reference price will always stay below this. In addition, we want to ensure over time that the reference price reflects the market price for hydrogen. The expectation is that this will happen over time which may mean that subsequent allocation rounds will be signed on a different market reference price towards a commonly accepted hydrogen price.

How do you manage the differences and complexities of hydrogen projects and their offtakers?

Firstly, there will be a sizable increase in the data we receive from the projects. For example, the business model of the contract will only subsidise the production of hydrogen if what is produced is considered low carbon. Another requirement will be ensuring you have eligible offtakers, which will prevent offtakers from exporting the hydrogen abroad. Companies will, in turn, have to prove they meet the requirements.  

What role will carbon capture, utilisation and storage (CCUS) projects play in ensuring the hydrogen projects produce clean hydrogen?

The contracts being developed cover both green and blue hydrogen projects. The blue hydrogen projects have more provisions in their contracts because of their interactions with the transport and storage C02 network. To comply with the low carbon hydrogen standard, the associated emissions have to be below a certain threshold, which means that, amongst other things, a percentage of the C02 generated must be captured. This makes CCUS a vital tool for blue hydrogen projects to ensure they meet a low carbon standard.