Renewables can power farm diversification plans

Many farmers have been drawn to on-farm renewable energy projects by the prospect of attractive returns on investment, boosted by Feed-In-Tariff (FiT) and Renewable Heat Incentive (RHI) support.

But the relative security of income these can provide could be the catalyst for more ambitious ventures.

Predictable and structured income streams from renewable energy generation can allow diversification projects to be explored, which would otherwise have sapped too much capital or time from day-to-day operations.

A level of income, fixed for 20 years under the FiT or RHI support schemes, can also offer increased flexibility in management time and focus.

This flexibility should allow farm businesses to react to supply-and-demand effects within the ever-volatile agricultural commodities markets with greater efficiency – or allow them to develop new, added-value income from other sources.

And, as many businesses have found, one successful diversification can lead to others.

In essence, this is about removing risk. Without a stable income such as that provided by renewable energy, the risk associated with diversifying the core agricultural business into the delivery of new products looks formidable enough to hamstring many promising enterprises.

But it this really the case? Energy is a typically inelastic product – a large proportion of industry is reliant upon it and as such, demand is uncoupled from underlying price.

There are practical considerations too. Dairy farms, for instance, have a significant requirement for energy and as energy costs grow, the use of self-generation looks more and more profitable over time.

Assessing the investment

Most valuation techniques for assessing the benefits of investing in renewable energy look at an investment horizon of 20 years, mainly because of the lifetime of government support schemes.

To a farm business that is looking further than this horizon, it is important to consider the underlying ability for the development to continue to provide value to the farming enterprise after subsidies end.

Looking for synergies

Consider investment in renewables on more than just income alone. A successful, long-term renewable energy strategy is one that dovetails neatly with existing business practices and structures, so the more complementary the development to the existing farm business, the higher the prospect of long-term profitability.

For example, farming enterprises with high heat demands for housing or drying processes (for example poultry) could benefit significantly not only from electricity generation through techniques such as anaerobic digestion, but could also easily consume a large proportion of the recoverable heat.

There are other synergies too. A poultry enterprise could also use the waste chicken litter as an efficient feedstock for an anaerobic digestion facility. This would provide a waste management service, in addition to the primary heat and electricity generation income, which would previously have been a cost to this farming business.

Energy systems that do not complement existing business practices are much less likely to be able to deliver profitability past the 20-year subsidy period and as such will be heavily reliant on the performance of energy markets after this time to justify their worth.

Outlook for renewable energy incentives

The index-linking of both the FiT and RHI provides a secure and predictable cash flow, capitalised by the UK government.

Performance estimates for the RPI through to 2017 are between 2.9% and 3.6%, with estimates on longer-term performance obviously being much more varied. A common consensus on the performance of the Retail Price Index is for it to remain above inter-bank lending base rates (LIBOR) for the foreseeable future.

The publishing of the draft Energy Market Reform in July 2012 posed a number of questions with regards to replacing the familiar Renewables Obligation Certificates with Contracts for Difference payments. The switch aims to sustain incentives for the generation of renewable electricity, but reduce the reliance on consumer payment schemes by producing a market- driven payment. Consultations are on-going and as such it is difficult to comment on the exact nature of the proposed Energy Market Reform.

Key strategy considerations

The stable nature of the underlying tariff, once secured, allows the financial risk of subsidy payments to be minimised. There are, however, other risks to be considered. The ability for the energy system to generate electricity or heat is obviously a key consideration – if you are not generating, you’re not receiving a subsidy income. Therefore it should be factored into a long-term renewable energy strategy that capital may be required for replacement generation and distribution equipment. An important consideration within this for a renewable energy development plan is to address who will be liable for this expenditure.

Examine the detail

Another consideration, particularly with the payment of the RHI, is that unlike the FiT, which is paid purely on a units-generated basis, the RHI requires you not only to generate renewable heat but to also use it for an OFGEM-specified ‘Prescribed Purpose’. Therefore, a vital point is not only whether the technology can supply the heat for the 20-year tariff period, but will there be a business demand for that heat after that time is up?

Unless you are considering biomethane injection, there is not a national export market for heat and as such any sustainable heat produced but not demanded will not attract payment.

A renewable energy strategy can be a rewarding and profitable addition to farming businesses, providing secure additional income and reducing costly overheads over both short- and long-term investment horizons.

This can, in turn, allow a more flexible and entrepreneurial ­attitude by providing a stable cash flow foundation for the overall business.

But synergies are important – the more complementary the renewable energy technology you choose to your core farming business, the greater the likelihood that it will add value and remain beneficial after the 20-year subsidy period ends.

Eligible uses of RHI eligible prescribed purposes

• Heat should meet an existing or new heating requirement that is not created artificially, purely to claim the RHI
• The heat must be supplied to meet an economically justifiable heating requirement, that is a heat load that would otherwise be met by an alternative form of heating such as a gas boiler
• Acceptable heat uses are space, water and process heating where the heat is used in fully enclosed structures

Key pointers

• Ensure any renewable energy scheme complements existing farm activities, for example, using biomass on a dairy farm to meet the hot water demand in the parlour
• Factor breakdown costs into your renewables business plan – the outlook for government subsidies may be favourable in terms of providing a steady income for 20 years, but you must remember if the scheme stops working you will not receive any payments
• Assess whether income from diversifying into renewables could fund and work together with further diversification projects, for example, income from a wind turbine could fund a farm shop or holiday lets and also provide electricity for them

More on this topic