Cost of Capital: 2024 Outlook

Cost of Capital: 2024 Outlook

February 19, 2024 | By Keith Martin in Washington, DC

Four veteran tax equity investors and project lenders talked during a live podcast in mid-January about what to expect in the tax equity, tax credit sale and bank lending markets this year.

The four are Jack Cargas, head of tax equity origination for Bank of America, Rubiao Song, managing director and head of energy investments for JPMorgan, Ralph Cho, co-CEO of Apterra Infrastructure Capital, and Beth Waters, managing director for project finance Americas at Japanese bank MUFG.  The moderator is Keith Martin with Norton Rose Fulbright in Washington.

The US central bank has done a good job so far of trying to guide the US economy to a soft landing.  The Federal Reserve signaled late last year that it expects a 75-basis-point reduction in the federal funds rate this year in three 25-basis-point increments.  However, that is not guaranteed, and many people do not expect the reductions until the last half of the year.  In the meantime, the Fed is facing a murky outlook this year.  The hostilities in the Middle East, Ukraine, the Korean peninsula and Taiwan are potential sources of instability.  Governments globally are running massive deficits that create upward pressure on rates, and the US economy is still suffering from labor shortages. 

Tax Equity Data

MR. MARTIN: Jack Cargas, what was the tax equity volume last year?

MR. CARGAS: We estimate that the volume was $20 to $21 billion last year, roughly in the same ballpark as the year before. Some observers predicted a dip, but there was a fair amount of volume that slipped from 2022 into 2023, due primarily to construction delays.  There were also a number of outsized multi-asset transactions in 2023, and the first offshore wind tax equity transaction of size closed. 

On top of that, a large number of direct tax credit transfer deals were signed in 2023.  We know that Norton Rose has been particularly active in this space.  We have been trying to track the tax credit transfer deals by volume.  We are aware of about $2.5 billion of publicly-announced tax credit trades and estimate another $1.5 billion of unannounced tax credit trades, so we would put the 2023 number at about $4 billion of tax credit transfer volume outside of tax equity deals.  If you add that to the $20 to $21 billion of traditional tax equity in 2023, you are at about $24 to $25 billion.

MR. MARTIN: Rubiao Song, do you have the same numbers?

MR. SONG: We generally agree with Jack's numbers. We saw a slight uptick in tax equity volume in 2023 compared to 2022.  We put the traditional tax equity at $21 to $22 billion in 2023.  The $4 billion in tax credit trades sounds right.

[Editor's note:  Crux, a digital platform, said in a report in mid-January that it is aware of $3.5 billion in 2023 tax credit trades, and estimated that total trades were $7 to $9 billion.]

MR. MARTIN: Jack, how did the $20 to $21 billion you counted in tax equity break down among solar, wind and storage?

MR. CARGAS: It is getting harder to track these totals. Some deals are being done privately on a negotiated basis.  We have less confidence in estimates of volume by resource. 

We can talk about our own activity on the theory that it probably pretty closely reflects what happened in the broader market.  We did approximately 50% wind and 50% solar plus storage. 

Most of the solar deals we did last year included storage. 

A number of solar deals were done as PTC transactions, which you know further complicates how you collect this data.  I think the market as a whole may have been a little more solar heavy than what we did.

MR. MARTIN: Rubiao, before you answer, you told us during the summer that nine out of 10 solar projects you saw last year were ITC rather than PTC projects and 50% of solar projects qualified for energy community bonus credits. Did those numbers hold through the end of the year?

MR. SONG: We saw more like a 60-40 breakdown for the full year. That is 60% of solar projects choosing investment credits versus 40% production tax credits.

As for solar versus wind, we saw about 60% solar and storage and 40% wind.  Solar and storage tax equity was maybe $13 to $14 billion, with standalone storage accounting for a very small part of that, probably less than $1 billion.  We put wind, including offshore wind, at about $7 to $8 billion.

MR. MARTIN: Jack, what tax equity volume do you expect in 2024 given that a lot of the market is shifting simply to trading tax credits?

MR. CARGAS: We expect tax equity volume to remain at roughly the same level as in 2023. There are a number of commitments that have rolled over into this year, either by original design or due to construction delays. 

We saw five sponsors who are serial issuers of tax equity indicate in the last week that it remains their preferred approach.  It is the only way to monetize depreciation, and they need to crystallize a fair return for their development activities via a step up to fair market value.  Even without the step up, some sponsors just want to lock in upfront funding for PTC deals. 

We also expect to see significant growth in the tax credit transfer market this year.  Those kinds of trades can be more attractive for some applications.  We think Congress wanted to see tax credit sales add to the volume of financing for renewable energy rather than cannibalize the existing forms of financing.

MR. MARTIN: Rubiao, do you expect tax equity volume to remain around the same level as in 2023?

MR. SONG: Yes. Tax equity remains the preferred option for many sponsors, and the demand will continue to outstrip supply.  We see the supply of tax equity also growing as more investors are drawn into the sector, but at a slower pace than market demand.  If the economy remains strong, we could see tax equity volume growing by single-to-low double digits.  Most tax equity is moving to hybrid structures where the tax equity partnership is expected to make a tax credit sale.

MR. MARTIN: I have asked you both in the past what percentage of the tax equity you will do this year has already been committed.  It has been a staggeringly high number in the past, something like 80% to 85% already by mid-January.  Is the percentage the same this year?

MR. CARGAS: It is a little lower than that this year. We are more in the neighborhood of 50% to 60%. 

MR. MARTIN: Is that because I had the number wrong in past years or because something has changed?

MR. CARGAS: I think we were probably in the 80% range in past years. It is hard to say exactly what we expect we will do this year.  The tax credit transfer market is important.  It could have a big impact, but we are not sure.

MR. MARTIN: Rubiao Song, flip yields seem to us to be up 100 to 200 basis points over the summer 2022. In which direction do you expect them to move during 2024? 

MR. SONG: It is very hard to say with the Fed not showing its hand fully on whether it will cut interest rates this year. I can certainly see tax equity yields remaining relatively stable.  Supply and demand are also important factors.

The yield is not the only metric or even the most important metric at which investors look. 

Basel III

MR. MARTIN: It is the easiest metric for purposes of comparisons.

Let's move to Basel III.  The federal bank regulators are proposing to assign a 400% risk weighting to tax equity investments, meaning you would have to compete internally for four times the scarce regulatory capital, starting in 2025, to support any tax equity investments you make.  This past summer, you both seemed hopeful that the regulators would back off the proposal and you were not pressing pause on new deals.  By the fall, you had realized that any deals you do today with a 10-year time horizon will be affected starting in 2025.

How is Basel III affecting the market?

MR. SONG: It is the elephant in the room. The trade associations and renewable energy sponsors are helping us to educate the bank regulators.  We are seeing some encouraging signs from the regulators acknowledging that the 400% risk classification on tax equity was unintended, but, as of now, there is still significant uncertainty around how the final rules will read.  We are proceeding cautiously. 

If we do not see a resolution by mid-year, I expect the major bank investors to stop issuing new commitments, particularly for deals involving PTCs.

MR. MARTIN: So the uncertainty affects PTC deals more than ITC deals. You are hoping for some sort of statement from the bank regulators that they intend to address this whenever the final rules come out.  In the meantime, I think you are putting clauses in documents that are essentially regulatory outs.  If this becomes an actual burden, then the tax equity investor can back out of the deal.  Is that right?

MR. SONG: Selectively. It depends on the transaction timing and whether we are being asked to claim an ITC or PTCs.  The downside scenarios are being evaluated.  There is a lot of caution right now that is slowing down the market.

MR. MARTIN: Jack Cargas, I think you mentioned that you are doing transactions where PTCs are claimed on a generating facility while an ITC is claimed on a co-located battery.

MR. CARGAS: Yes. We have done a number of such transactions.  The facts have to be right.  The two facilities in question need to be separate facilities so that one can qualify for PTCs while the other qualifies for an ITC. 

MR. MARTIN: When you say they have to be separate facilities, that suggests that you have to run through a set of single-project factors and concluded that the generating facility and battery are two different projects, which as a practical matter is hard to do. What if they are one project?

MR. CARGAS: Before the Inflation Reduction Act, the only way to claim an ITC on a battery was to treat it as part of the solar project.

The IRA allows an ITC for storage facilities.  People were waiting to hear from Treasury whether that opens the door to mixing tax credits on what is essentially a single project.  The confirmation did not come until late November.

MR. MARTIN: Rubiao Song, same answer?

MR. SONG: Keith, you are probably in a better position than either of us to answer this question. My recollection is that this is now allowed.  When we do this type of financing, we want to make sure that there is separate metering.  If you elect PTCs for the solar generating facility, you want to make sure that electricity sales can be accurately measured.

MR. MARTIN: The first tax equity financings of standalone utility-scale storage projects closed in 2023. You said they were a small fraction of the total.  Are there any new issues raised by such transactions that we have not seen before?

MR. SONG: The revenue arrangements are unique to storage. The technology is different.   That is requiring some consulting analyses that could be an impediment to getting the deal done in a timely fashion.  Most investors are very comfortable with storage assets.  You just need to have a good revenue contract and commercially-proven technology.

Tax Credit Sales

MR. MARTIN: Straight tax credit sales became possible for the first time in 2023. Jack Cargas estimated that the tax credit sale market was about $4 billion last year.  Was that a faster or slower ramp up than you expected?  How would you characterize how the market is developing?

MR. SONG: Not surprisingly, there was fairly strong demand from corporates for 2023 credits at year end. Some corporates are only interested in buying PTCs because PTCs have no recapture risk, and they are only buying credits from investment grade sponsors or they will require tax insurance. 

We are working with corporates who want to invest alongside us and benefit from our due diligence and knowledge of documentation.

We expect the market to segment.  Large corporates will mostly participate in large tax credit deals in the utility-scale market where there are efficiencies on diligence and documentation.

 Corporate buyers are buying 2023 or 2024 tax credits today.  A few banks and insurance companies are committing to forward purchases of five to 10 years of PTCs.  We expect to see more buyers in 2024.

MR. MARTIN: Jack Cargas, at what prices are tax credits trading?  We saw them starting at 90¢ to 93¢ for the most popular credits early in the year, but the prices moved up late in the year, when we closed a string of deals at 94¢, 95¢, 96¢ and even one at 97¢.  These are prices per dollar of tax credit. 

MR. CARGAS: Market participants have a tendency to want to boil down a tax credit trade to a single metric like you are describing. We don't have any argument with your numbers, but we don't think a single price tells the whole story. 

For example, 93¢ cash today may be more valuable than 95¢ paid on a future date or over a multi-year PTC period.  If there is an indemnity involved, how does that factor into the price?  If a premium will be paid because the sale is backed by tax insurance, which party pays the insurance premium?    

 Pricing is in the range you said, but we have to take into account these other factors and look at the whole economic picture rather than a single figure.

MR. MARTIN: Let's see whether we can squeeze in four more tax equity questions.

Rubiao Song, developers are being approached by cash investors who are proposing to form partnerships to buy projects near the end of construction and sell the tax credits on a stepped-up basis.  Are you comfortable with these structures?

MR. SONG: We have not done such a structure. Whether we can get comfortable with the structure depends on how much substance there is to the cash investment, the size of the step up, and other factors.  We believe any step up must follow the guidance around the 1603 grant program.  We are not comfortable with aggressive step ups.

MR. MARTIN: Jack Cargas, project-level debt has been an impediment to selling investment tax credits. Even back-levered debt can be challenging to make work.  What forbearance are tax credit buyers requiring from lenders in ITC tax credit sales?

MR. CARGAS: I don't think there is a market standard yet. These transactions are all being negotiated on a unique basis. 

In cases where there is project or back-levered debt, the tax credit buyer is likely to require some kind of consent.  Lenders have exhibited different levels of receptivity to providing consent.  They can have legitimate concerns about contest rights and other issues, but sometimes it is just difficult for large lender groups to get approvals. 

The market is not yet settled on exactly how to deal with this.  It would be better if we were able to negotiate these deals upfront to make sure that the tax equity investors have the ability to direct partnerships to sell tax credits. 

MR. MARTIN: The main challenge we have been running into is tax credit buyers worry that a default on the debt will lead to a foreclosure that triggers ITC recapture. If the loan is at the sponsor partner level, any foreclosure would not terminate the partnership and trigger recapture.  Do you think that works?   

MR. CARGAS: That would be very helpful.

MR. MARTIN: Rubiao Song, in what situations are you requiring tax insurance in tax equity and tax credit sale transactions? I am guessing it is when there is a significant basis step up or it is not an open-and-shut case whether the project was under construction in time to avoid the wage and apprentice requirements.  

MR. SONG: Those are the big ones. Another one is in ITC transactions where the sponsor does not have a strong balance sheet to stand behind the obligation to indemnify for any recapture of the tax credit.  Tax insurance to cover the recapture risk would also be very helpful.

MR. MARTIN: So if the tax credit sale is not backed by a creditworthy sponsor.

Here is my last question: Jack, what other new developments are you seeing as we enter 2024?

MR. CARGAS: We are hoping that the hybrid structure will settle into a less bespoke and more standardized product. We are now negotiating each such transaction uniquely.  We believe it would be better for the market to have a standard approach.

We need to focus on how due diligence is carried out in tax credit sale transactions.  What are the minimum and maximum amounts of diligence required?  When we first started thinking about these transactions, we thought they were going to be a whole lot easier to do than tax equity deals, and that may be true from a documentation perspective, but the diligence is surprisingly voluminous.  Tax credit buyers and insurers are looking for a lot of information.  Hopefully the diligence process will start to become more standardized during 2024.

MR. MARTIN: "Hybrid" means a traditional tax equity partnership where the partnership sells the tax credits and allocates the depreciation to the tax equity investor.

MR. CARGAS: The tax equity investor would have the right, but not the obligation to direct the partnership to sell the credits.

MR. MARTIN: Rubiao Song, what other new developments are you seeing as we enter 2024?

MR. SONG: The hybrid structure is a welcome development. It is a good tool that will help expand the tax benefit monetization market.  I also believe buyers will find that credits transferred from tax equity partnerships are more appealing as they can leverage off the due diligence done by the tax equity investors. 

Another development we saw in the fourth quarter last year is project finance lenders were getting more comfortable with the collateral value of the tax credits.  We see more lenders willing to provide tax equity bridge loans without committed tax equity.  That, too, has been a welcome development.  It is solving a funding gap given the long construction periods and large checks that developers have to write these days. 

We are also watching closely how the tax credit transfer market will further evolve.  There is no doubt there will be more corporate participants, but there will also be more types of tax credits coming to market.  It will make for a dynamic market this coming year.

Loan Volume

MR. MARTIN: Let's move to debt. Ralph Cho, for the past several years, you have given us the volume of North American project finance bank debt.  What was it in 2023 compared to 2022?

MR. CHO: Refinitiv hasn't published the final numbers yet as information is still trickling in, but we have looked at its latest raw data.

The third quarter numbers were off by about 7% year over year, but it looks like we had a huge fourth quarter run of deal closings.  Full-year 2023 volumes in North America are coming in almost in line with 2022 volumes. 

There was at least $115 billion of transaction volume over 214 closed deals in 2023 versus $116 billion over 226 deals in 2022.  I imagine as Refinitiv finalizes this data, the numbers might move upward a bit, but 2022 was a record year, so it looks like we are going to have two record years back-to-back in project finance volume. 

One factor in these numbers is the large number of mega deals that closed, like the Rio Grande LNG financing, which was more than an $11 billion financing.  We also saw some substantial digital transactions such as the $3.1 billion financing for Blackstone's acquisition of QTS and a $1.6 billion financing for an AT&T and BlackRock joint venture called Gigapower.  Almost $30 billion of the debt was for LNG alone.

MR. MARTIN: US Treasury Secretary Janet Yellen said in the last couple days that the Inflation Reduction Act has been a big factor in keeping the economy from dipping into recession. This seems to provide some evidence of that.

How many active lenders were there in 2023 and how many do you expect in 2024?

MR. CHO: There are probably 70 to 80 active lenders in the market, down from 100 active project finance lenders in the past. Of the active group, something like 30 to 40 are consistent tried-and-true core lenders.

The number of potential lenders varies by type of deal.

There are lots of lenders interested in ESG deals.  For thermal generation, the potential lender group is smaller.  The market had a hiccup last year in the form of a regional banking crisis.  We saw a pullback from some of the commercial banks, particularly US regional banks.  The loss of liquidity created upward pressure on rates.  A high SOFR and higher spreads made more people turn to the private credit markets.

As we head into 2024, some of the regional banks are coming back into the market, although in a limited way.  Hopefully that will temper any further upward pressure on rates.


MR. MARTIN: The base lending rate, SOFR, was under 1% as recently as early July 2022, but now it is between 5.3% and 5.4%, and there is a margin on top of that at which the banks actually lend. Where are the spreads today for construction debt, tax equity bridge debt and back-levered term debt? 

MR. CHO: Tighter liquidity conditions affected the market pricing for deals. Everything for me starts with ESG plain-vanilla loans.  We saw spreads move up slightly this year to between 162.5 and 175 basis points. That’s up from 150 basis points that I mentioned last year.  You are potentially looking at almost a 7% all-in interest rate assuming you are not hedging the underlying rate. 

For an ESG merchant deal, you should figure a premium of about 75 to 125 basis points.  The extra premium varies depending on the sponsor, asset class, the amount of merchant exposure the lender will have to rely on to be repaid, and the size of the deal.  For example, a very large deal may require many lenders to clear the market, and it means you have to make the last guy happy and then everybody in the lender syndicate benefits.    

Short-term construction bridge loans that are bridging committed investment-grade tax equity have spreads of SOFR plus 125 to 150 basis points. 

As Rubiao and Jack mentioned, we are also starting to see naked tax equity bridge loans pricing at 225 to 350 basis points.  Such loans are still new, so the market is trying to find a comfortable level.  It also depends on how aggressive an advance rate the loan has.  I have seen anywhere from 60¢ to 80¢ per dollar of tax credit. 

We also see a significant volume, running into the billions of dollars, of pre-NTP development loans. 

Last year, we closed a $600 million holdco loan that had both private credit and commercial banks in the structure.  This type of structure is going to become more important as developers seek alternatives to expensive equity to get their assets built.  Pricing for such a facility ranges between SOFR plus 375 to 600 basis points, depending on the composition of the portfolio.  Relevant factors are whether the portfolio has any operating assets, the extent to which they are contracted, and the track record of the sponsor.  There is so much interest from private credit funds to lend into this type of structure, especially at the wide end of pricing.  However, remember they can't do normal letters of credit and revolvers, so you are going to have to make it fully synthetic. 

Another type of transaction we saw last year is merchant gas deals.  We see these come to market not as greenfield construction, but mostly as either acquisition debt or refinancings.  The spreads above SOFR range from 350 to 500 basis points.  They are a tough sell to banks since many banks are trying to decarbonize their books.  If you can't sell a deal to the banks, then you really need to offer at least 400 basis points and close to a 10% yield to attract private credit lenders.  If borrowers want to do something creative with their assets, add a hydrogen burner or an ammonia burner as a primary fuel source or maybe add a carbon capture system that could bring some ESG-focused banks back to considering lending to these assets.  More liquidity will help narrow the margins. 

Even then, it can be difficult to get the commercial banks to look at these kinds of deals.  We lost some active commercial banks last year, and the remaining ones have been flat-out busy because there is so much deal flow. 

Lenders can really be choosy about what opportunities they want to go after.  They can be super selective when business is booming, as it was toward the end of the year.

Strong sponsors can always muscle their way in with their relationship banks, but not every borrower has that luxury.  There are situations where private credit lenders might pick up the slack. 

MS. WATERS: Here is what we see at MUFG. I am focused specifically on renewables.

A construction loan for a fully-contracted project is pricing at SOFR plus 150 to 175 basis points.  If you introduce merchant risk, it can go from 170 to 250 over, depending on the amount of merchant exposure.  Spreads on the tax equity bridge loan part of the construction debt range from 150 to 162.5 basis points over with a 98% advance rate.

On bridge loans against future tax credit sale proceeds, the market is still in discovery mode, but we are seeing pricing anywhere from 225 to 300 basis points over SOFR, depending on the deal.  We are lending at a 75% advance rate and at 90% of the tax credit face amount, so the net advance rate is 67.5%.  Again, we are still in discovery mode.  Let's see where we end up in the next year or two.

Term loan pricing fully contracted is 178 to 200 basis points over, with 12.5-basis-point step ups at intervals to encourage early payment.   The spread depends on the perceived riskiness of the deal and the amount of merchant exposure.

Coverage Ratios

MR. MARTIN: A lot to unpack there. Beth Waters, what are current debt service coverage ratios for wind, solar and storage?

MS. WATERS: For contracted wind, expect a coverage ratio of 1.3 to 1.4 times P50 revenue.  For a merchant wind project, the coverage ratio is more like 1.8 to 2.0 times P50 revenue.

For fully-contracted solar, expect a coverage ratio of 1.25 times P50 and 1.0 times P99.  Merchant solar is 1.75 times P50 and 1.4 times P99. 

Contracted battery storage is 1.15 to 1.2 times P50.  Merchant battery storage is at least 2.0 times P50, with a to-be-determined upper end of the range.

MR. CHO: Lenders are willing to structure tight coverage ratios if they feel confident about the cash flow. The more volatile the cash flows, the wider the coverage ratios.

A tight coverage ratio in the current market is 1.2 to 1.35 times P50.  No one wants to see less than a 1.0 coverage ratio on P99 numbers.

MR. MARTIN: Beth, why 1.15 times P50 for contracted storage, which is less than for contracted wind or solar?

MS. WATERS: There is more certainty in the technology.  We are more comfortable with it.

MR. MARTIN: For standalone utility-scale storage? That is very interesting.  Ralph, I heard a 60% to 80% advance rate for bridge loans.  What was that for?

MR. CHO: That is for a naked tax equity bridge loan or naked transferability loan where the tax equity is not yet committed or the tax credit buyer had not yet been identified. The sponsor still wants an advance against a potential sale.  If the tax equity or tax credit buyer is fully committed, then lenders would probably lend 98¢ on the dollar. 

MR. MARTIN: What are the advance rates currently on construction debt?

MS. WATERS: A construction loan that rolls into term debt plus tax equity bridge loan can never exceed roughly 90% of total project cost because you want the sponsor still to have some hurt money or equity exposure. 

MR. MARTIN: What upfront fee should a borrower expect to have to pay?

MS. WATERS: Typically it will match the starting margin, but sometimes it could be a little lower.  It is set on a deal-by-deal basis. For purposes of planning, I would assume it matches the spread.

MR. CHO: Borrowers should expect to pay from 200 to 300 basis points on a credit facility. Lenders look at it in three components,

There is a structuring fee that can be anywhere from 25 to 100 basis points.  It will be $250,000 to $2 million if it is for a huge deal.  It goes to the lead bank or banks.   

Then you have an upfront fee that goes to any retail or participating bank that puts money into the deal, and that could be anywhere from 100 to 200 basis points.  It depends on whether the loan is being sold wholesale or retail.  If it is being sold wholesale, then the upfront fee will be at the wider end.  If it is retail, meaning no further syndication is expected, then it will be at the tighter end.

The last component is an underwriting fee for any deal that is being underwritten.  If you need your whole deal underwritten, which we see more often for acquisition debt than construction financings, expect to pay something like another 25 to 50 basis points on top.  That's how I get to 200 to 300 basis points all in.

MR. MARTIN: Beth Waters, you were on a panel at our annual conference last June that talked about the effects of the regional bank failures. They were causing all lenders to focus on bigger deals and regular customers.  Does that remain true?

MS. WATERS: Many more factors contributed to that than just the regional bank failures.  There were balance-sheet constraints, a rising cost of capital, limited human resources to work on deals, too many deals to choose from, and the appearance of mega-deals running into the billions of dollars.

Banks are looking to get the biggest bang for the buck from the lowest-hanging fruit.  We are doing deals today with new sponsors to whom we have not made loans in the past.  Every bank has a slightly different strategy depending on the bank's strengths and constraints.

MR. CHO: It always helps to be a platinum diamond AAA sponsor that has tons of relationships with banks. These are experienced sponsors with lots of deal flow who will be able to get the banks' attention.  There is a finite number of banks willing to process new deals because everyone is busy.

People will work with their core relationships first.  If you are a new borrower, try to approach lenders early in the year before everyone gets really tied up.

Tax Credit Bridge Loans

MR. MARTIN: Beth Waters, buyers of production tax credits are only able to pay one year at a time for the tax credits under IRS rules. You mentioned that you are making bridge loans against the future tax credit sales proceeds.  You said earlier that the net advance rates on such loans are something like 67.5% of the projected future revenue, but that the market is still in discovery mode.

MS. WATERS: We have closed at least one, maybe two, and are in the market now with another two.  We have only done these loans on future sales proceeds for investment tax credits.  We have not done PTC loans yet.  Our view of PTCs is that the future sales proceeds are like merchant cash flow.   

It is a whole new world for everyone.  Banks were more conservative than we were expecting when we went out to market with a couple of deals last year.

MR. MARTIN: Ralph, the US Treasury said just before Christmas that companies making green hydrogen will have to match the intermittent renewable electricity used with the hydrogen output on an hour-by-hour basis, starting in 2028. The Treasury also said that hourly matching is not yet feasible.  Will this be an impediment to financing green hydrogen projects in the meantime?

MR. CHO: Absolutely yes. That is a problem.  Lenders want to see a business model that works.  Even though we hear a lot about green hydrogen deals, I don't think the market expects to see any of these types of deals in 2024 or possibly even in 2025 until everyone figures out how hourly matching will work. 

MS. WATERS: One green hydrogen client we spoke to last spring told us it was in Washington lobbying to get that changed and now that the result has come out, it is not good.   We are trying to see what can work.  No one has come to us with a specific deal yet.

Other Trends

MR. MARTIN: Are there any other noteworthy trends as we enter 2024?

MR. CHO: Hopefully rates will start to come down. If higher rates and an upward bias on spreads continues, I think we are going to see real stress on the system.  It means lower advance rates from lenders and a higher cost to build assts.  It means developers will have to put in more equity, which reduces returns on projects. 

That will mean more power purchase agreements have to be renegotiated to make the economics work for equity.

We think interest in pre-NTP development facilities will continue to explode.  It is critical capital because it is cheaper than equity.  This is going to be a real opportunity for commercial banks and private capital to collaborate due to level of demand and the risk profiles of such loans.

We expect to see consolidation this year of smaller developers who do not have the money to put up large letters of credit to hold interconnection queue positions to connect to the grid and to pay in advance for equipment.  We expect to see more mergers of such developers into larger developers who have better access to capital.

Notwithstanding all of the talk about green hydrogen and carbon capture and sequestration, I expect 2024 will be taken up mainly with solar, wind and standalone storage rather than these other areas.  Maybe we will see more of them in 2025, but we are unlikely to see them in 2024. 

It looks like LNG activity is slowing down, so we expect fewer LNG mega-deals than we saw in 2023.

Digital infrastructure deals will pick up.  We are seeing this type of paper selling more and more to traditional project finance lenders than to real estate lenders. 

We are also hearing more and more about domestic manufacturing opportunities this year.

Finally, I think we are going to start to see more opportunities with thermal power assets this year.  These assets are going to have to be refinanced or else the owners will have to amend their existing financing structures.  There will be a need for creative capital to solve their issues.  These projects are facing lower revenue projections combined with a higher cost of capital.  It is not a good situation for the owners.  They are going to have to think about putting in some fresh equity to weather the storm because any refinancing will be with more expensive capital. 

MR. MARTIN: That's a pretty clear crystal ball. Beth Waters, what other noteworthy trends do you see as we enter 2024?

MS. WATERS: One trend is the cancellations of numerous offshore wind projects and write downs.  We will probably see a few more, but then we are going to have a clean slate.  The first movers got hurt.  Those coming behind should do better. 

Batteries and other forms of energy storage will continue to grow. 

Something else we did this past year is a tax equity term loan.  Tax equity was either not available because of Basel III or it was very costly.  The banks made a loan that was almost like a bridge but it is called a term loan.  It is for projects with long construction periods. Banks commit to such a facility.  The developer is not expected to draw on it, but it is available to draw if needed.  We closed one deal like that. 

The last new trend is bridge loans against future tax credit sale proceeds.  It will take a year or two for the market to settle on standard terms.