NRG says capacity markets drive decisions like Avon Lake conversion

Capacity markets need to send the right price signals to allow generators to make major investment decisions, like NRG Energy’s (NYSE: NRG) decision for only a partial coal-to-gas conversion at the Avon Lake power plant in northern Ohio.

That is according to Lee Davis, the President of NRG’s East Region, in Sept. 10 testimony filed at the Federal Energy Regulatory Commission. FERC plans to hold a Sept. 25 technical conference on centralized capacity market issues and Davis was one of several industry parties that on Sept. 10 filed preliminary testimony ahead of that session.

NRG Energy owns about 46,000 MW of generation nationwide, including both conventional and renewable resources, over 2 million retail customers, and recently acquired several thousand MW of demand response capability. NRG’s generating fleet is split between parts of the country with a centralized capacity market (including PJM Interconnection, New York ISO and ISO-New England), and areas of the country without a stable centralized structure for ensuring resource adequacy (including the Electric Reliability Council of Texas, the California ISO and the Midwest ISO).

Capacity markets have allowed NRG to successfully manage its generation fleet during an extremely challenging period in the industry, Davis noted. “The Eastern capacity markets are critical to allowing companies like NRG to adapt to the steep decline in natural gas prices and corresponding decrease in energy revenues, changing federal and state environmental rules, and the fast-paced evolution of disruptive technologies,” he explained. “Without the centralized capacity markets, a substantial portion of NRG’s oil- and gas-fueled fleet would not have sufficient revenues to remain in operation. These plants operate infrequently, but are critical to maintaining reliability at peak demand times and when the natural gas system experiences constraints. For example, during the summer 2013 heat wave almost 15,000 MW of NRG’s units in PJM, NYISO and ISO-NE were online and generating power or committed to provide reserves. While all of the centralized capacity markets still have gaps and shortcomings that need to be addressed before these markets can be declared a success, they nonetheless are a critical component of every investment decision NRG makes in its East Region.”

Each of the Eastern capacity markets has some, if not all, of the features of a viable capacity market, Davis said. “In contrast, markets such as MISO and California have virtually none of these features,” he said. “Even the ISO-NE market, with its flawed design elements, still includes a forward commitment period and mandatory centralized clearing.”

Davis gave examples at specific NRG power plants of how capacity markets actually drive investment decisions.

Avon Lake: A Coal-to-Gas Conversion Success Story in the ATSI Zone – NRG’s Avon Lake facility, located in Avon Lake, Ohio, is a 753 MW facility (732 MW of it coal-fired) with its coal units originally put into service in 1949 and 1970. The coal-fired units were slated for retirement in 2015 by GenOn Energy, a predecessor of NRG, because of their inability to meet increasingly stringent environmental regulations. NRG is now in the process of enabling the coal units to operate on both natural gas and coal. NRG’s decision to keep the facility on-line was largely based on the following factors:

  • The (moderate) locational premium for capacity located in the ATSI zone, which includes the Cleveland area, provided NRG the necessary confidence to invest tens of millions of dollars in additional capital into the Avon Lake facility.
  • The three-year forward commitment period will give NRG the necessary lead time to site, permit and construct a new natural gas lateral, as well as make the extensive changes to the facility’s boilers to accommodate natural gas firing.
  • The centralized auction structure provided a clear and transparent price signal that the cost of making this source of capacity available to the market represented the least-cost source of capacity to ratepayers.
  • PJM’s buyer-side market power protections, imperfect as they are, gave NRG the confidence that uneconomic resources were unlikely to undercut competitive prices.

“Each of these elements was critical to providing a level of price stability necessary to make this multi-year investment in this facility,” Davis wrote. “It is hard to imagine how my counterparts in other parts of the country, without a forward price signal and some certainty of future revenues, would have the confidence to put this type of capital at risk. For example, making a comparable investment in California, with its bilateral market, would be very difficult to finance, as a generator would be required to seek recovery for the entirety of the capital expense in a single year. Incorporating the entirety of such an expense into a single year’s bid risks pricing the resource out of the bilateral market. As a consequence, major maintenance expenses and incremental capital investments tend to be deferred, which simply increases ratepayer costs in the longer term.”

Gilbert Unit 8: Installation of Environmental Control Success Story in the JCPL Zone – Gilbert is a 280-MW combined cycle facility located in Milford, N.J., within the JCPL Zone. Because of new environmental regulations in New Jersey, NRG was required to install NOx controls. Installation of these controls was both expensive and technically challenging, and required a fundamental reconfiguration of the facility. However, after detailed economic and technical analysis, NRG was able to justify a significant investment in keeping some of the units at Gilbert as viable resources for many of the same reasons that drove NRG to invest in retrofitting the Avon Lake facility, including:

  • The three-year forward commitment period gave NRG the necessary lead time to site, permit and construct required environmental controls.
  • The centralized auction structure provided a clear and transparent price signal that the cost of making this source of capacity available to the market represented the least-cost source of capacity to ratepayers.
  • The (modest) premium price available to resources in New Jersey.

Astoria Units 10 & 11: Return to Service of Mothballed Units in New York City – The Astoria facility is comprised of 31 older combustion turbine units in New York City. NRG mothballed two of the units in 2012, when prices in New York City declined following the unmitigated entry of a contracted resource in summer 2011, and persistent uncertainty regarding the application of buyer-side mitigation rules in the New York City market. During this period further investment to maintain the reliability of these units could not be justified. However, in the wake of several FERC orders upholding buyer-side market power mitigation rules, NRG was able to justify making the investment to bring Astoria Unit 10 and Astoria Unit 11 back into the market. Again, the critical factors driving NRG’s investment decision were:

  • Locational premium for capacity within Zone J.
  • Absence of market price suppression through the reinforcement of the buyer-side mitigation rules. In fact, the NYISO mitigation allowed truly merchant-build to enter the market, while economic projects were subject to a price floor.
  • The presence of a sloped demand curve which provides a measure of price stability and dampens the boom-bust cycle caused by the lumpiness of entry and exit in the market.

Again, the capacity market in NYISO allowed NRG to reflect the actual price of making these resources available to the market, and its bid was accepted as the most cost effective method of allowing New York to meet its installed reserve margin needs.

Norwalk Harbor: An Example of a Dysfunctional ISO-NE Market – The “poor design” of the ISO-NE Forward Capacity Market (FCM) has directly led to NRG’s decision to deactivate the Norwalk Harbor station, Davis wrote. This oil-fired facility is the same type of resource that ISO-NE said it needs to reliably operate the system during periods of natural gas constraints. However, FCM revenues are not enough to justify either repowering this facility or allowing it to continue in the market. Factors that NRG considered in deactivating the facility are:

  • Lack of a sloped demand curve means that prices in ISO-NE can be expected to approach near-zero levels, even when there is only a modest excess of capacity.
  • The historical lack of buyer-side market power mitigation in ISO-NE resulted in over a thousand MWs of out-of-market capacity coming into the market that will continue to suppress prices into the foreseeable future.
  • Lack of real locational price differentiation in ISO-NE provides little hope of price recovery in the foreseeable future.
  • Over-mitigation of offers from existing resources makes it extremely risky to bid capital investments into the ISO-NE market for fear that even real costs will be amortized under unrealistically long periods or disallowed altogether, leaving the resource with no ability to effectively price the full cost of its service, potentially forcing the premature retirement of otherwise economical resources.

“While NRG sees severe problems with the ISO-NE market, we do not see ISO-NE’s current suite of capacity market reforms, known as ‘Performance Incentive,’ as solving the problems underlying the ISO-NE market,” Davis wrote. “Rather than attempting to address the material real-time energy market price formation problems with a badly misdirected set of capacity market changes, NRG would be far more willing to invest in New England if ISO-NE put into place a sloped demand curve and reformed its deeply flawed delist process. To date, however, ISO-NE does not appear interested in either of these common sense reforms.”

Acquisition of Energy Curtailment Specialists: Investment in Demand Response Driven by Capacity Market Price Signals – Capacity market revenues also continue to drive NRG’s investment in alternatives to traditional generation. In August, NRG purchased Energy Curtailment Specialists (ECS), a leading supplier of demand-side management services. NRG was able to invest in demand response largely because of the revenues available to ECS from the capacity market. “Indeed, ECS’s portfolio is largely concentrated in PJM and New York – the two market areas with the most robust capacity market structures,” Davis said. “ECS recently exited the ISO-NE market due to the overly complex capacity market rules and anemic market revenues, and has only modest participation in California and ERCOT, with no participation in MISO. NRG believes that the Commission’s best method of incenting increased investment in demand response is to strengthen its capacity markets, particularly in areas of the country where capacity markets are moribund or non-existent.”

About Barry Cassell 20414 Articles
Barry Cassell is Chief Analyst for GenerationHub covering coal and emission controls issues, projects and policy. He has covered the coal and power generation industry for more than 24 years, beginning in November 2011 at GenerationHub and prior to that as editor of SNL Energy’s Coal Report. He was formerly with Coal Outlook for 15 years as the publication’s editor and contributing writer, and prior to that he was editor of Coal & Synfuels Technology and associate editor of The Energy Report. He has a bachelor’s degree from Central Michigan University.