With this installment, we turn to a transcript of a panel moderated by Todd E. Alexander, a partner in our project finance group. It was first published in the November 2010 issue of the Project Finance NewsWire.
We hosted a workshop for the multilateral lending and export credit agencies on renewable energy projects in emerging markets in September in its offices in Washington. The workshop covered a lot of ground. The following is an edited transcript of a panel discussion among three developers whose companies are working on renewable energy projects in Africa and Asia. The panelists are Aparna Rao, vice president of AES Africa Power Company, Brian Kubeck, senior vice president for development at Sithe Global Power, and Jim Scarrow, director of legal affairs for the Americas at SunEdison. The moderator is Todd Alexander with Chadbourne in New York.
MR. ALEXANDER: Aparna Rao, do you see much difference in how multilateral lending agencies like the International Finance Corporation and other lenders view a renewable energy project compared to a conventional power plant?
MRS. RAO: I think they use the same standards. The motivation for investing in a country and the reasons the country is looking at renewables are very important. Both they and we pay close attention to the electricity sector framework.
MR. ALEXANDER: Is it your experience that the agencies do not seem as eager to finance power plants that use fossil fuel today as they are to finance wind farms and other renewables projects? For example, we worked recently with an export credit agency that is making it easier to finance small renewables projects by scaling back the level of diligence and working toward expedited closings.
MRS. RAO: I don’t think we get better pricing for renewables projects than other types of power plants, but the multilaterals seem willing to get involved at an earlier stage. The cost structures in some of these countries are front loaded in the sense that there are additional high costs to build transmission lines and other basic infrastructure that get rolled into the project cost. What might start as a 50-megawatt project can end up with the cost structure of a 300-megawatt project.
In some cases, there may be a clean investment fund set up by the agencies to help fund developers.
I would encourage banks and particularly multilaterals, because they have traction with the governments, to find innovative ways to lend directly to local banks who, in turn, might fund developers and share the development or country risk.
MR. ALEXANDER: Brian Kubeck, do you see much difference between the level of diligence and the allocation of risk in renewables projects compared to conventional power plants?
MR. KUBECK: We don’t see much difference in terms of diligence. It is dangerous to cut corners. What we have seen is a potential for tension between the agencies and governments in some of these countries. The agencies are keen to do projects that fit into a larger strategy for reducing carbon emissions. That motivates the multilaterals to watch the carbon so carefully that it can create friction with governments whose countries are still at a stage where they really need to find the least-cost alternative.
The two goals can be integrated in the longer term, but the priority in these countries has to be economic development, and it is hard for a country at an early stage of development to put all its eggs in the renewables basket.
I like Aparna’s idea of trying to work through local banks. Funding resource studies for renewables is a huge risk for a developer. It is difficult to mobilize all of your resources for smaller projects, which renewables tend to be, and to go into a country, for example, solely to develop a 20-megawatt solar plant. The resource work is the highest risk capital when you go in to measure the wind or sunlight.
If the multilaterals can work in advance with governments to get some of those resource studies off the ground, that would speed development. You need at least a couple of years of data to be able to finance a project. It is tough for a developer to go into some of these countries and say, “I am going to fund resources studies in the hope that I will have a project on which to start working in two years time, and I hope in the meantime that the regulatory regime firms up so that we can have a financeable project.”
MR. SCARROW: I have a slightly different perspective. SunEdison operates and installs PV systems around the world, and one of the benefits of solar in emerging markets is the data.
In the US, we have very good sun data. The sun, as it turns out, is extremely reliable. In the US, we know where the sun is going to shine. It is variable during any 24-hour period, but over the course of a year or two years, we nail it. We have closed a billion dollars in solar financings over the last few years. The toughest part is educating banks, and I am talking now about New York banks. We are just becoming more acquainted as a company with the multilaterals.
The risk profile for a solar photovoltaic project is different than for a wind farm. We both use P50 and P90 numbers to project output. P50 means there a 50% chance that the project will generate more than projected output and 50% chance that it will generate less. P90 means there is a 90% chance of doing better and only a 10% chance of doing worse.
For a wind farm, the difference between the two projections can be fairly significant.
For solar, the difference is something like 3% or 4% of cash flow. Irradiance data in emerging markets is pretty reliable, even though it is not as reliable as in the US.
Contrary to the conventional wisdom, we don’t need two years of data to go in. We are diving into emerging markets very quickly. I think our challenge is almost the same internationally as domestically -— to convince lenders that this is reliable technology and that the data is credible.
Moving to another point, one thing we do run across is that once a solar system is installed, there are no moving parts and very little maintenance is required. We monitor the equipment through wireless communications. People sit in our Sacramento office and can tell you within 10 minutes when any string of panels around the globe shuts down. We are able to monitor everything internationally from one location.
The significance is there are not a lot of jobs. One of the challenges we have in fact, whether it is with stimulus programs in the United States or talking to governments internationally, is these countries are interested in jobs first. Energy security is a secondary concern.
Where solar could produce jobs is in local manufacturing, so that is what we are seeing. To the extent a government wants a jobs program, you see solar panel factories being built—not just in emerging markets but also in places like Canada. The feed-in tariff in Canada has domestic content requirements and has been very successful. There are huge amounts of investment going into Ontario for solar facilities.
MR. ALEXANDER: Samsung alone committed to an $8 billion investment in Ontario. Do you think you receive preferential treatment from the host country because you are trying to bring green energy or are you treated the same as if you were building a coal-fired power plant?
MR. SCARROW: We get very good receptions internationally. The same is true in the US. For example, we are installing a large solar facility in North Carolina. Sometimes it is surprising how receptive communities are to solar. I had thought when they see the back 40 acres being covered in blue pieces of glass, they would go through the roof. But either it is good fortune or it is North Carolina, but we have been welcomed everywhere.
MRS. RAO: Just to return to the resource mapping initiative, in India, the solar division of the National Renewable Energy Laboratory is conducting studies everywhere and it has released maps already for, I believe, the northern and western parts of India. Our solar group is following on the heels of where maps are released. It just secured a power purchase agreement in one of these areas.
Various agencies are working on resource mapping, but it is not a very well coordinated approach or the data is not always made widely available. Another challenge in some of these countries is the governments appear to hand out licenses to anyone with a telephone and you get essentially a large number of local science projects.
MR. KUBECK: I agree with what was said about solar data. However, it is still a good idea to have at least a year of on-site collection.
The more challenging area involving data is geothermal. The problem is that it is like drilling for oil. A lot of money must be spent to prove the resource.
Turning to the reception in developing countries, India is going to be very successful in solar because it has invested in the manufacturing end of the business. But when you get to smaller countries that are really in the early stage of development, manufacturing is not an option. For them, whether to install solar comes down to questions of reliability and cost. Jumping on the green bandwagon for the sake of being green is not always the best approach.
MR. ALEXANDER: Scale is another challenge in the developing
world. You may not be able to do a 200-megawatt wind farm. There isn’t the infrastructure to accommodate it.
MRS. RAO: I think it makes sense for a private developer to go into a country where it is possible to build a pipeline of projects that aggregate to 150 or 200 megawatts. We are not opposed to doing a series of smaller projects. In Tanzania, for example, I believe the World Bank supports an 8.5¢ per kWh subsidy for projects that are less than 20 megawatts in size.
MR. ALEXANDER: Many of these projects are not competitive with coal or gas, at least at this time. Some countries have feed-in tariffs to support renewables. How worried are you that the law might change as it did in Spain and Germany? How much risk is there in a country that is struggling to decide whether to support renewables or put food on the table?
MR. KUBECK: There is a crowded graveyard of developers who said, “I have a good contract, and that’s all I care about.” We need to feel the project fundamentally makes sense for a country. The subsidy might be provided through the financing, making it less susceptible to change. The burden does not have to fall entirely on the country’s shoulders. For example, the subsidy might be in the form of carbon credits.
MR. SCARROW: Let me come back to the question of scale. I came from Chadbourne where I worked on very large projects. When I got to SunEdison and someone asked, “Jim, can you help with this big project? It is 15 megawatts.” I thought, “Are you kidding me? Is that before construction?” My perspective has changed. To give you a very rough rule of thumb because prices are all over the map, it costs about $5 million a megawatt of installed capacity for solar PV. The company started with solar systems on roofs of big box stores like Walgreens, Best Buy and Wal-Mart. A small Walgreens system would be on the order of 30 kilowatts. A big Staples distribution center, meaning a warehouse, might be one megawatt. The challenge when working on projects on this scale is to come with efficient financing structures. We have done a good job in the US coming up with structures whose transaction costs don’t bury us. Internationally that becomes more of a challenge. We are a subsidiary, as of last November, of MEMC, which is a semiconductor manufacturer with a global footprint, particularly in Asia. Our projects are coming in from many sources. We are particularly active in India. The challenge is to find $2.5 billion to build lots of very small projects. Change in law risk is significant. We saw the markets close in Germany and Spain. Then the market sort of re-opened in Germany and, suddenly, all of the panels in the world gravitated towards Germany again, driving up prices everywhere else. Italy is our most active international market today where the changes in law are working in the market’s favor. We are building a 70-megawatt project outside Venice, which I think will be one of the larger PV projects in the world until we get leap frogged by someone else.
MR. ALEXANDER: How do you recommend developers screen projects?
MR. SCARROW: You can’t get to a meaningful size just screening 4,000 small projects as they come in the door. You need to find a way to make the utility the ultimate credit behind the deal. That’s the only way in some countries to do financings on a large scale.
MR. ALEXANDER: Aparna, how does AES get comfortable in countries where it has to charge more for electricity than competing suppliers using fossil fuels? The project is not economic without some form of government support. That support can be pulled away.
MRS. RAO: It boils down to how strongly motivated the country is to move to renewable energy. A credible motivation in richer countries is a drive for energy security and for alternatives to continuing to deplete scarce natural resources. When you are screening countries, it is very, very important to understand what is driving them. A general interest in being green and keeping people happy does not translate into a stable regulatory framework.
MR. ALEXANDER: Does involving a multilateral lending agency or export credit agency in the financing give you any legal protection?
MRS. RAO: We often take advantage of political risk guarantees from the agencies. I am now speaking more broadly than just renewable energy development. Political or civil unrest does not necessarily make a project more likely to default on its financing. For example, in Côte d’Ivoire, the government has never defaulted on a payment despite the civil unrest over the past decade, and you find examples like this elsewhere. The fact that a country has had to borrow from the International Monetary Fund instills some fiscal discipline.
MR. ALEXANDER: Brian Kubeck, how important is it to have a savvy local partner?
MR. KUBECK: Boots on the ground are critical. We need a local partner whom we trust. Screening local partners is no easy task. It often takes a year or more to find someone with whom you can really get comfortable. We have had projects on which we have spent a lot of money and time and, six months in, we end up with concerns about whether our local partner is complying with the Foreign Corrupt Practices Act. That sort of behavior from a local partner is a non-starter, no way, no how, no benefit of the doubt. If we have any doubt, we don’t proceed, so that’s a challenge. It is hard for us to justify spending time on a project that is less than 200 megawatts in size. It can be a pipeline or a couple different types of projects, but if we are going to invest development capital and take the time to vet a local partner and put our own team on the ground for a long period of time, it has to be a large opportunity.
MR. ALEXANDER: Jim Scarrow, in the next five years, what do you think are the biggest growth opportunities overseas?
MR. SCARROW: Asia and South America. We are keeping an eye on Chile and Peru, although those markets are not yet ripe. Solar, like most renewables, requires some form of government inducement. There are plenty of inducements in the developed countries. We are in India, Malaysia and Thailand. In South America, we are not seeing the fundamentals in place yet where a lot of the existing capacity is in cheap hydroelectricity.
MR. ALEXANDER: Brian Kubeck, where are the greatest opportunities for Sithe?
MR. KUBECK: Hydroelectric projects are a no-brainer. After that, we think geothermal is poised for growth. Those are the projects that we think make the most sense if we can figure out a way to get the resource studies financed at an acceptable level of risk.
MR. ALEXANDER: Aparna Rao?
MRS. RAO: My focus is in Africa. I think we are looking harder in eastern Europe for PV solar and some in South Africa. For wind, the growth will be largely in China. China is a very good example of what we have talked about earlier in terms of government support and having extremely good coordinated efforts among developers, offtakers and regulators and providing innovative financing packages such as financing for turbines. Obviously the turbines are manufactured in China, and it is all local content, but our experiences in China have been good for wind projects. Returning to Africa, geothermal is looking like a good resource, especially in east Africa.