Fukushima gets a gas-fired solution
The 1,180MW Fukushima LNG-based power generation project is expected to significantly contribute to the revitalisation of the region. By Naoaki Eguchi, partner, and Tsutomu Kobayashi, partner, at Baker McKenzie.
On March 31 2017, the natural gas-fired power generation project at Soma Port in Shinchi Town, Fukushima Prefecture (the project) reached financial close.
Japan Petroleum Exploration Co Ltd (JAPEX) and Mitsui & Co Ltd led the project and founded Fukushima Gas Power Co Ltd (FGP) as the operating company for the project in April 2015. In October 2016, Osaka Gas Co Ltd, Mitsubishi Gas Chemical Company Inc and Hokkaido Electric Power Co Inc joined the project as new shareholders and business partners for the project.
The Fukushima natural gas electric power generation plant that the project is currently constructing will comprise two 590MW gas turbine combined-cycle (GTCC) power generation units, for a total of 1,180MW. An LNG storage tank and LNG vaporisation equipment will also be installed by the project at JAPEX’s Soma LNG Terminal, one of the largest of its kind in Japan, currently under construction on a site adjacent to the power plant site.
Financing for the project has been arranged by Development Bank of Japan Inc, Mizuho Bank Ltd, Sumitomo Mitsui Banking Corporation and Bank of Tokyo-Mitsubishi UFJ Ltd as lead arrangers. Approximately ¥140bn (US$1.2bn) in syndicated loans will be raised and will cover most of the project costs.
FGP began the process of preparing the construction site in August 2017 before starting construction work on the power plant. The company aims to commence commercial operations in the spring of 2020.
Power supply in Japan
Most nuclear power plants in Japan have remained offline since the accidents at the Fukushima Daiichi Nuclear Power Station following the Great East Japan Earthquake on March 11 2011. As of December 1 2017, only five of Japan’s 60 reactors – 15 of which it has been decided will be decommissioned – are operating, including those under regular inspection after resuming operation.
Addressing the need to secure alternative energy sources to replace nuclear power, the Japanese government introduced a feed-in-tariff (FiT) programme in July 2012 and has strongly supported construction of power plants utilising renewable energy sources, including solar, wind and biomass. Thus, as of the end of March 2017, a total capacity of more than 28GW utility-scale solar, 9GW residential rooftop solar, 3GW wind and 2GW biomass power stations are in operation under the FiT programme.
Electricity generation from renewable energy is highly sensitive to the time of the day and/or year. The resulting supply stability issues require an increase in the number of thermal power plants as base load power plants. The number of new thermal power plant construction projects has thus been increasing in Japan in recent years.
Ten major electric utility companies, including Tokyo Electric Power Company and Kansai Electric Power Company, have been virtually dominant in the Japanese electricity business – from generation to transmission and distribution – since shortly after the end of the Second World War.
The accidents at the Fukushima Daiichi nuclear power station revealed the problems of Japan’s power supply system and prompted the government to take action. Electricity system reform efforts began in 2015 with the objectives of i) securing a stable electricity supply, ii) suppressing electricity rates to the maximum extent possible, and iii) providing various options for users and expanding opportunities for business entities. These efforts resulted in full liberalisation of the Japanese retail electricity market in April 2016.
While companies are required to obtain registration from the Japanese Minister of Economy, Trade and Industry to operate electricity retail businesses, this doesn’t mean that they need to obtain approval; applicant companies basically obtain registration automatically as long as they comply with the requirements. Because of the low barriers to entry, more than 400 companies had obtained registration as of December 1 2017.
However, the transaction volume at the Japan Electric Power Exchange (JEPX) only accounted for about 3.5% of the total electricity traded on the Japanese retail electricity market in the period from January to March 2017. Companies that run electricity retail businesses increasingly need to own their own power generation plants to secure stable electricity supplies. This has in part contributed to the recent increase in the number of power generation projects.
In addition, as the commitment under the Paris Agreement to a decreased environmental impact takes on much greater significance, the increase in the number of coal-fired power plants would be controversial. Thus, natural gas-fired power generation plants that use LNG with a lower environmental impact are better suited to Japan’s needs.
The project is based on a recognition of these circumstances and is also intended to contribute to the liberalisation of the retail electricity market by adopting a “tolling scheme”.
Distinctive features of the project
The first and most notable feature of the project is its adoption of a tolling scheme. In a tolling scheme, one or more tollers supply a power plant owner (SPC) with fuel. The power plant owner then generates electricity using the fuel and provides the electricity to the toller(s). The toller(s) in effect outsource power generation to the power plant owner and thus, the toller(s) are obligated to pay a fee to the power plant owner for the conversion from the fuel to the electricity.
In a conventional power project in Japan, the SPC, as an independent power producer (IPP), procures fuel on its own, generates electricity at its own plant, and sells the electricity to utility companies.
Under this conventional model, the SPC bears a variety of risks associated with the procurement of fuel and fluctuations in fuel prices and electricity rates throughout the operation period. Accordingly, in such conventional projects, the power purchase agreement (PPA) between the SPC and utility companies usually covers the entire operation period, exempting the SPC from the risks associated with securing electricity buyers.
Also, in a PPA, the selling price is split into a “capacity charge” and an “energy charge”, allowing changes in fuel procurement costs to be reflected in the price. This arrangement enables the SPC to avoid assuming the fuel price fluctuation risk and secure payment of the capacity charge as long as the power generation equipment is available.
On the other hand, under the tolling scheme adopted by the project, where the toller(s) procure fuel and outsource power generation to the SPC, ownership of both the fuel and the electricity generated using it remain with the toller(s). This means that the SPC faces none of the above-mentioned risks in the first place and will receive tolling fees from the toller(s).
Due to the importance of ensuring that the SPC receives a stable tolling fee, the SPC signs long-term tolling agreement(s) covering the entire project period with certain toller(s). This ensures that a certain amount of the tolling fees is paid as long as the power generation equipment is available, allowing the SPC to recover the project costs.
In this project, five of FGP’s business partners and shareholders have entered into a tolling agreement with FGP. Each business partner is obliged to procure LNG and is responsible for the supply/distribution of the electricity generated from it. With five business partners involved, arrangements were made to ensure that use of the plant is allocated in accordance with their agreement.
The electricity generation process requires two steps: converting LNG into natural gas and then generating electricity using the natural gas as fuel. Under the project, FGP is outsourcing the vaporisation process to JAPEX, which will assume responsibility for receiving, storing and vaporising LNG and for transferring the vaporised LNG to the power plant using facilities owned by JAPEX or FGP at its Soma LNG Terminal.
Although tolling schemes have rarely been adopted in Japanese power projects, they are expected to become more common in the future. Now that Japan’s electricity retail market is fully liberalised, this model meets the needs of retail electricity businesses that have obtained registration from the Japanese Minister of Economy, Trade and Industry and are seeking to secure their own electric power supplies, without owning power generation equipment themselves.
In addition to this project, a power project developed by Kobe Steel Ltd in Moka City, Tochigi Prefecture adopted a tolling scheme. This project reached financial close on March 31 2016.
Another unique aspect of the project is that the operating company – FGP – owns not only the power generation plant but also an LNG storage tank and LNG vaporisation equipment. This means that the construction costs for the LNG storage tank and the LNG vaporisation equipment are included in the overall project cost and thus, recovered through the toll fees received from the business partners as tollers.
As mentioned above, FGP plans to build an LNG storage tank and install LNG vaporisation equipment on the site of JAPEX’s Soma LNG Terminal, currently under construction.
FGP will entrust the management of the construction process, as well as the operation and maintenance of the storage tank and LNG vaporisation equipment after construction, to JAPEX, which plans to operate them in combination with other facilities it owns at the site of the Soma LNG Terminal, ie LNG storage tanks, LNG vaporisation equipment, petrol truck shipment facilities, a berth for domestic and ocean-going vessels etc.
JAPEX also plans to use both its own facilities and those owned by FGP to carry out the vaporisation process entrusted to it by FGP.
A consortium of Mitsubishi Hitachi Power Systems Ltd and Mitsubishi Electric Corporation is constructing the electricity generation equipment for this project. The consortium, along with Tokyo Energy & Systems Inc, will also provide long-term maintenance and operational/maintenance services after construction is completed.
Another consortium of IHI Corporation and Shimizu Corporation is constructing the LNG storage tank, while JFE Engineering Corporation builds the LNG vaporisation equipment. FGP entered into EPC contracts for each facility it owns under this project.
Reconstruction of Fukushima
The project is positioned as one of the “New Energy Generation: Low Environmental Impact Energy Introduction” projects and is expected to play a key role in the Fukushima International Research Industrial City (Innovation Coast) Framework as a part of the “Basic Policy on Economic and Fiscal Management and Reform” adopted by the Cabinet in June 2014.
The Fukushima International Research Industrial City (Innovation Coast) Framework aims to restore the industries and employment that were lost in Fukushima’s Hamadori region after the Great East Japan Earthquake and the subsequent accidents at the Fukushima Daiichi Nuclear Power Station to enable people to return and begin working again in the region.
The plan includes the creation of new industries and employment opportunities through research and development related to reactor decommissioning and robotics technologies, concentration of energy industry infrastructure, revitalisation of agriculture, forestry and fisheries utilising leading technologies and enhanced human resources development.
The project and JAPEX’s Soma LNG Terminal will have the capacity to provide natural gas, heat and electricity to the surrounding region and thus contribute to building its industrial infrastructure. Approximately 2,000 to 10,000 new job opportunities are expected to be generated in association with them. Thus, the project is expected to significantly contribute to the revitalisation of Fukushima.
As stated above, the project’s goal of constructing a natural gas-fired power generation plant utilising a tolling scheme aligns with the Japanese government’s objectives of meeting demand for stable electricity supplies amid growing calls for environment protection, while liberalising Japan’s retail electricity market.
The project is meaningful in that it contributes to the revitalisation of Fukushima. Therefore, the project is of great importance as a precedent and sets a course for future power generation projects in Japan. Baker McKenzie represented FGP and its five business partners.