Castleman Power

The Electric Reliability Council of Texas (“ERCOT”) is the independent system operator that manages the flow of electric power to more than 25 million Texas customers, representing about 90% of the state’s electric load
ERCOT is not synchronously connected to the rest of the U.S. power grid and as a result is not subject to oversight by the Federal Energy Regulatory Commission (“FERC”), but is instead regulated by the Public Utility Commission of Texas (“PUCT”) and the Texas Legislature
Another unique feature of the ERCOT market design is the energy-only market structure which does not have bifurcated energy and capacity markets as most of other organizes regional transmission organizations (“RTOs”) within the US.

- Instead, ERCOT uses real-time co-optimization of energy and ancillary services that responds to real-time shortages of operating reserves

- This structure is called the Operating Reserves Demand Curve (“ORDC”)

- As a result of the energy-only structure, real-time prices are allowed to spike up to $9,000/MWh to incentivize new generation
Natural gas is the marginal fuel in ERCOT and accounts for over 44% of generation, followed by coal, which represents 25% of generation
ERCOT has the largest amount of installed intermittent renewable generation (more than 24 GW of combined installed wind and solar resources)
The wind penetration record is 56% of load, which was achieved in January 2019

Scarcity Pricing and the ORDC Curve Benefit Units with Fast Response Capacity

ERCOT’s unique scarcity pricing mechanism is designed to reward fast and reliable generation capacity
The scarcity pricing mechanism, i.e., the ORDC, creates a real-time price adder to reflect the value of available reserves and is meant to incentivize resources to produce more energy and reserves
- This adder can be as high as $9,000/MWh and was gradually increased from $3,000/MWh and $5,000/MWh in recent years to provide stronger price signals
ERCOT’s unique market mechanism has consistently generated price signals when the system had shortages, translating into a long-term average of ~$35 – $40/kW-yr. in capacity payments, even under past lower price cap regimes

Increasing Renewable Generation Prompts Higher Need for Flexibility and Reliability

Texas has a significant renewable energy potential
- In addition to the existing 22 GW of wind and 1.8 GW of solar capacity, the ERCOT queue includes 14 GW of wind and 8 GW of solar with executed Interconnection Agreements “IAs”
Increasing renewable generation suppresses baseload margins, but benefits peakers in a number of ways:
- First, the impact of intermittent renewables on reserve margin is limited and heavily discounted; put another way, increased renewables penetration has a muted effect on scarcity pricing
- Second, increasing need for flexible generators and ancillary services to balance intermittent resources will reward peakers
- Third, peakers will be the technology of choice because low fixed O&M allows them to take advantage of the scarcity pricing regime. In contrast, volatile spark spreads challenge CCGT and coal economics, as these units need to recoup their fixed costs in the energy market

Baseload Retirements and Decreasing Reserve Margin

More than 5 GW of coal capacity has retired since 2017 within the ERCOT footprint
ERCOT still has 15.5 GW (22% of peak demand) of coal generation capacity with an average age of 32 years
As coal generation capacity continues to leave the market, the demand will be met by a mix of flexible peakers and renewables, as the new build CCGT pipeline is limited

Growing Demand for Ancillary Services

With increasing penetration of renewables and intermittency the demand for flexible capacity will increase
ERCOT historically augmented ancillary services procurement with increasing wind penetration, as ERCOT is not synchronously connected to the rest of the US grid and cannot disperse volatility