On August 17, 2021, the UK Department for Business, Energy and Industrial Strategy (BEIS) launched its Hydrogen Strategy, a plan for a global hydrogen economy that is expected to support more than 9,000 jobs in the UK and unlock £ 4bn of investment by 2030.

On August 17, 2021, the UK Department for Business, Energy and Industrial Strategy (BEIS) launched its Hydrogen Strategy, a plan for a global hydrogen economy that is expected to support more than 9,000 jobs in the UK and unlock £ 4bn of investment by 2030.

In addition, BEIS has also launched:

  • its long-awaited consultation on an economic model for low-carbon hydrogen production; and
  • consultation of the Net Zero Hydrogen Fund (NZHF). This sets out the proposed scope, design and delivery of the £ 240million NZHF, which intends to make grants available to support the capital costs of the development and construction of power generation projects. low carbon hydrogen.

Context of the proposals

In the Prime Minister’s ten-point plan for a green industrial revolution released in November 2020, the UK declared its target of 5 GW of low-carbon hydrogen production capacity by 2030. The target of the business model outlined in the consultation is to encourage the production and use of low carbon hydrogen through the provision of continued income support.

The aim of the model is to overcome one of the main obstacles preventing the deployment of low carbon hydrogen projects, namely the cost differential between low carbon hydrogen and “counterfactual” fuels. with higher carbon content. A “counterfactual fuel” is fuel replaced by hydrogen for a given customer – for example, diesel, if the hydrogen is sold to a diesel customer instead of that diesel customer.

The government describes a variety of end users for hydrogen, including refinery process heating, transportation, industrial heating, hydrogen mixtures used in combined cycle gas turbines (CCGT) and production ammonia.

Summary of business model proposal

The government favors a variable premium price support model to mitigate the price risk of the hydrogen market for investors, on a sliding scale based on increased volume to mitigate the risk of hydrogen volume drawdown. This innovative proposal will require careful consideration by developers and funders of potential hydrogen production projects, and many will be keen to respond to the consultation, which will close on October 25, 2021.

The proposal will also be closely followed by companies that market counterfactual fuels who may also wish to respond to the consultation. Their markets could be affected by the proposals – and the government has repeatedly stated that it is keen to avoid “market distortion”.

The consultation defines the key parameters taken into account in the design of the business model. The business model is intended to be applicable to a range of production technologies, in particular the reforming of natural gas with CCUS (“blue hydrogen”) and electrolytic hydrogen (“green hydrogen”). Other production technologies, such as hydrogen from biomass gasification with CCUS, are also possible.

The mechanism for financing the support described in the model has not yet been published, but will likely involve financing by consumers. Further government consultations can be expected on consumer finance. For carbon capture, consumer finance models based on Contracts for Differences (CfD) are proposed, and similar models may also eventually be proposed for low carbon hydrogen.

A standard for “low carbon hydrogen”

The government intends for the hydrogen produced to meet a future UK standard on low carbon hydrogen in order to qualify and receive support for the business model. The standard aims to define what is meant by “low carbon hydrogen” and to set the maximum acceptable levels of greenhouse gas emissions associated with different production technologies.

Government and consumer risk taking

The government recognizes that it has a role to play in managing two key risks for early hydrogen projects: market price risk and volume risk. The intention is clearly to pass these risks on to consumers rather than taxpayers. The government sees the nature and balance of risks between hydrogen production facilities and government evolving as the market matures – and implicitly intends to take more and more risk from the private sector as the market matures. as the hydrogen sector grows.

Hydrogen market price risk: a variable premium price support model

Hydrogen market price risk is the risk that the price that the producer is able to reach to sell hydrogen will not cover the cost of its production, because hydrogen is unable to compete with fuels. counterfactuals, such as natural gas or diesel. This makes the production of low carbon hydrogen uneconomical and attracts the necessary investment in a production plant.

During the consultation, the government is considering various price support options, including a fixed price, a fixed premium and a variable premium, and is also considering an approach to benchmark price options, including the price of input energy. , the price of natural gas, the price of counterfactual fuel, the average sales price reached of hydrogen production. factory, market benchmark price, carbon price and natural gas price plus carbon price. Indexation methodologies are also taken into account – linked to inflation, the actual cost of input energy and the natural gas benchmark.

The government indicates that its preferred approach is a variable premium price support model, as this allows flexibility and the possibility that the level of subsidy may decrease over the term of the contract as the market evolves, rather than just between allocation rounds. For the benchmark price, the government prefers an approach that includes the higher of two inputs: the price of natural gas and the sale price achieved. The government aims to integrate a market reference price into the reference price as early as possible for future projects. The government plans to continue work on the appropriate approach to indexation.

Hydrogen volume risk: a sliding scale pricing model to support volumes

Hydrogen volume risk is the risk that a hydrogen production facility will not be able to sell sufficient volumes of hydrogen to cover costs with reasonable confidence. This can occur due to inconsistent demand for hydrogen from buyers, buyers are slow to adopt and use contracted hydrogen, unforeseen outages or unscheduled shutdowns of buyers, market conditions or a buyer’s financial situation changes unexpectedly, or a single on-demand user no longer needs low carbon hydrogen, leading in each case to stranded hydrogen production assets.

A number of options for volume support are being considered, including payments based on availability, partial government levy (take or pay), government backstop for levy (government as buyer of last resort when the volumes of hydrogen cannot be sold otherwise), the government frontstop for the levy triggered on the last volumes of non-marketable hydrogen, as opposed to the first non-marketable volumes) and declining. The sliding scale involves the government providing volume support not by purchasing hydrogen, but indirectly through gradual price changes with higher prices when hydrogen sales volumes are low, decreasing as volumes increase. The government indicates that the sliding scale approach for volume support is the preferred option by the government.

other considerations

The government is also analyzing other considerations, including the duration / contractual duration of the support and the increase in volumes in a plant supported beyond the supported capacity. The allocation method of the proposed economic model is also considered, with two options: bilateral negotiation and auction.

Consumer financing mechanism

Details of the revenue mechanism through which consumers will fund the hydrogen business model will be provided later this year. Unlike the carbon capture utilization and storage (CCUS) models proposed by the government, taxpayer funding for low carbon hydrogen production other than NZHF is not offered.

This can be explained by the fact that hydrogen raises an additional complication: since there are many end uses for hydrogen, the chosen funding mechanism should be considered across a range of different sectors and consumers, and not only a consumer. This can make the approach more complex than the mechanisms used to support clean electricity (eg contracts for difference, renewable energy obligations and feed-in tariffs).

The consultation on the government’s hydrogen strategy and business model can be viewed here: