Revenue and Risk of Variable Renewable Electricity Investment: The Cannibalization Effect Under High Market Penetration

28 Pages Posted: 12 Oct 2022

See all articles by Lina Rechenberg

Lina Rechenberg

Chalmers University of Technology - Department of Space, Earth and Environment

Tommi Ekholm

Government of the Republic of Finland - Finnish Meteorological Institute

Trine Boomsma

University of Copenhagen

Abstract

The market revenue for variable renewable electricity (VRE) assets has been under intense scrutiny during the last few years. The observation that wind and solar power depress market prices at times when they produce the most has been termed the 'cannibalization effect', and its magnitude has been established within the economic literature on current and future markets. Although it will have a substantial impact on the revenue of VRE technologies, the cannibalization effect is neglected in the capital budgeting literature, including portfolio- and real options theory.In this paper, we present an analytical framework that explicitly models the correlation between VRE production and electricity price, based on the production costs of surrounding generation capacity. We derive closed-form expressions for the short-term and long-term expected revenue, the variance of the revenue and the timing of investments.The effect of including these system characteristics is illustrated with numerical examples, where we find the cannibalization effect to decrease projected profit relative to investment cost from $33$\% to between 13% and -40%, depending on the assumption for the future VRE capacity expansion rate. Using a real options framework, the investment threshold increases by between 13% and 67%, due to the inclusion of cannibalization.

Keywords: Variable renewable energy, Cannibalization effect, Merit order effect, Investment analysis

Suggested Citation

Reichenberg, Lina and Ekholm, Tommi and Boomsma, Trine, Revenue and Risk of Variable Renewable Electricity Investment: The Cannibalization Effect Under High Market Penetration. Available at SSRN: https://ssrn.com/abstract=4245509 or http://dx.doi.org/10.2139/ssrn.4245509

Lina Reichenberg (Contact Author)

Chalmers University of Technology - Department of Space, Earth and Environment ( email )

Gothenburg, SE-412 96
Sweden

Tommi Ekholm

Government of the Republic of Finland - Finnish Meteorological Institute ( email )

P.O.Box 503
FIN-00101 Helsinki
Finland

Trine Boomsma

University of Copenhagen ( email )

Nørregade 10
Copenhagen, DK-1165
Denmark

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