Heat networks – some thoughts on demand assurance

The government intends that heat network zoning will transform the district energy sector by accelerating the pace and scale of development of heat networks.

Key to the success of this transformation is the creation of “demand assurance”. This means establishing an investable environment so that developers and investors can be confident that there will be demand for heat from their heat network, and therefore a guaranteed revenue stream. 

Demand assurance can be achieved by ensuring that buildings will connect to a network, an issue which has historically been a barrier to expansion and investment in the sector.

Heat network zoning is seen as a mechanism for reducing the risk that buildings will not connect and the heat network sector has hoped that zoning regulations would stipulate that certain types of buildings in zones could be instructed by local zoning coordination bodies to connect to the zone’s heat network within a specified timeframe. 

The question of whether a building can be mandated to connect to a heat network in a zone is, therefore, fundamental and has been the subject of much debate. Obviously for organisations looking to bid for a zone developer opportunity and invest in growing a heat network within a zone, mandating connection of buildings in that zone is key to demand assurance.

The draft heat network zoning regulations that are in circulation for review (referred to below as the “Draft Regs”) indicate that the following buildings will be covered:

• new buildings which receive planning permission after a zone has been designated but which are not yet built (though it appears this will not include buildings that are being developed or refurbished);
• pre-existing communally heated domestic and non-domestic buildings;
• pre-existing non-domestic buildings with more than 100 MWh annual average heat demand and a “wet” heating system (i.e. those that are not electrically heated).

The Draft Regs go on to indicate that the following procedure will apply:

• If requested by the zone developer, a local zone coordination body can issue a ‘connection notice’ to specific buildings (provided the zone developer has received consent to develop a heat network in the relevant zone delivery area);
• The connection notice will require the building owner to enter into negotiation with the zone developer and provide the building a 12-month window to connect, with a minimum deadline of 6 months to agree the exact connection date.

However, it will be possible for building owners who have received a connection notice to apply for either a long-term conditional exemption (i.e. where it is not possible or suitable for their building to connect), or a temporary exemption being a short-term deferral lasting a maximum of 2 years. 

There will be an important role for the relevant zone coordination body to manage how this will work in practice, including ensuring that any connection notices are managed within the relevant timescales.

A further component of demand assurance is the ability of a heat network developer to charge a connection charge to cover its costs of connecting a building. The Draft Regs indicate that buildings which receive a connection notice do not have to pay a connection charge – that is, they can be mandated to connect but they cannot be obliged to pay to do so. Further, there is no obligation to enter into a heat supply agreement to buy heat – so a building may be connected but is not required to take heat from the network.

The government has confirmed that zone developers will, instead, be expected to negotiate a connection charge and heat supply agreements commercially with buildings as they do currently. In other words, it will be for the heat network developer to present an attractive commercial opportunity to the customer to encourage the customer to make use of the connection.

This position is somewhat of a departure from what the sector had been hoping to see in the Draft Regs and appears to undermine the level of demand assurance developers and investors had been hoping that zoning would deliver. It is therefore encouraging to see that DESNZ has recognised importance of connection charges and is alive to the possible need to introduce primary legislation to address this point, though it is worth noting that current indications are that primary legislation would make connection charges subject to specific caps. 

DESNZ has also indicated that it is undertaking work around how to reduce the cost of low carbon heat, which will be a support to heat network developers who are making the case for buildings to take supply once they are connected. Clearly in the current environment, affordability of low-carbon heat is more important than ever and we look forward with interest to forthcoming proposals.

All of that said, and while demand assurance is obviously fundamental, it is worth noting that heat network zoning means that heat network developers appointed via a competition in a zone will have the right to develop the network within a zone on an exclusive basis (akin to a monopoly). There are developers/building owners for whom decarbonisation of energy supply is a key priority and these will be looking for a resilient, low carbon heat supply. There is, therefore, the opportunity for the heat network developer to create a compelling case for connection (including paying a connection charge) based on economics and the lowest cost low carbon solution for the customer. 

While the Draft Regs may not go as far as some in the sector had hoped in creating demand assurance, the introduction of zoning along with recent announcements about funding for the sector, are important and encouraging developments and show the strength of the government’s commitment to the sector.

If you would like to discuss the changes in the district energy sector and impacts of heat network zoning on your organisation, our sector specialists are here to help: 

Our team is here to help – please get in touch and we will be more than happy to discuss your specific situation. 

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