Capacity payment

A capacity payment is made by a user of an energy asset to the owner of that asset in return for the rights to utilize the asset’s capacity. Capacity payments are most utilized for power plants in the electric industry and for pipelines in the natural gas industry. 

Electric power plant capacity payments

For an electric power plant, capacity service is a commitment to provide a quantity of supply that is available for a specified period in the future. The power plant owner has the obligation to provide energy if called upon, while the buyer receives the right (but not the obligation) to receive energy when requested. Capacity typically trades in two types of markets – bilateral markets where parties receive a call option on capacity for a negotiated price; and organized ISO markets where generators are obligated to offer energy in the daily ISO energy markets in return for a monthly capacity payment determined in an ISO facilitated capacity auction. In either case, the payment is specified in $/MW-day or $/MW-month. For example, a 100 MW generator may have successfully bid into an ISO capacity market with a clearing price of $250/MW-day. The generator will then receive a monthly capacity payment of 100 MW x $250/MW-day x 30 days in the month = $750,000/month. 

Gas pipeline capacity payments

For a gas pipeline, capacity payments are used in firm transport agreements and they are often called reservation rates. In return for rights to firm pipeline capacity, the shipper agrees to pay a monthly reservation rate that is tied to the amount of firm capacity under contract. An additional variable rate is paid, based on the amount of gas moved, when gas is actually transported. An example of a reservation rate would be $17/Dth-day per month, where the Dth-day is the decatherms per day of capacity specified in the shippers firm contract. For a shipper who has contracted for 1,000 Dth-day of firm capacity, the shipper would pay a monthly capacity payment equal to $17 x 1,000 = $17,000. Note that in this case the shipper pays only this amount, not this amount every day for 30 days as in the power plant example above.