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Financing focus identifies challenges

Attracting new money to the wind business is vital if the industry is to meet the dramatic growth envisioned during the next two decades, experts warn. The challenge lies in overcoming the significant uncertainties which overshadow the huge opportunities in wind by negatively impacting how the financial community views wind investments. Regulatory change, like the US's production tax credit or Denmark's faltering attempts to shift from premium fixed tariffs to competitive market forces, is one area of concern. The issue of grid interconnection is another potential roadblock.

The wind sector must not run away from the need to become market based if it is to attract the vast sums of money needed to lift it out of a niche and into the mainstream of power generation

Attracting new money to the wind business is vital if the industry is to meet the dramatic growth envisioned during the next two decades, expert panellists addressing the 2002 Global Windpower conference warned. Although delegates heard predictions that the wind energy market could more than double over the next five years and supply 12% of the world's energy needs by 2020, James Tynion, a US lawyer specialising in project finance, pointed out that there were only about six to ten lenders attending the Paris conference. "To get to the next level we need to get ten times more lenders involved," said Tynion. "We need to get out and bring lenders into this market and start to educate them."

The challenge lies in overcoming the significant uncertainties which overshadow the huge opportunities in wind by negatively impacting how the financial community views wind investments. Regulatory change, like the US's infamous on-again, off-again production tax credit or Denmark's faltering attempts to shift from premium fixed tariffs to competitive market forces, is one area of concern. Financial institutions, says Ernst and Young's Jonathan Johns, want what he calls certainty of understanding. "There is less of an objection than you might imagine to market risk, as long as there is certainty of the path and the path isn't subject to sudden change," he says.

The issue of grid interconnection is another potential roadblock the industry needs to take seriously from a financier's point of view, says Johns. "Bearing in mind the need to attract more financial institutions into the industry, they need a lot of comfort about the longevity of the industry," he points out. "In particular, the risk that we could get up to fifteen per cent capacity in various countries and suddenly it all has to stop because the grid isn't there, that's a big issue."

The impact of Enron

Banks and investors are also becoming more wary about power market volatility, particularly since California's deregulation debacle when prices dropped from $300 to $30/MWh in a matter of months. "I don't think that lenders in the nineties realised the volatility of the power market when taking on merchant risk. What I've seen is a return to PPA-based lending," said Stephen Probyn of Canada's Clean Power Income Fund, referring to lending based on power purchase agreements.

Enron Wind's bankruptcy and decision by GE, who bought the company at auction, not to assume warranty obligations for Enron's US-built 750 kW turbines, predicts Probyn, is an issue that could dog the industry for years -- in much the same way that the implosion of Kenetech Windpower is what the wind industry is best remembered for in US financial circles.

"The recent history of this industry is looking all too much like the ancient history," he told delegates. "Every time I get involved in this industry, there seems to be a bankruptcy. There was Kenetech, then there was Enron. The Enron bankruptcy has significant implications for lenders who rely on long term warranties, revenue reimbursement warranties, to support the transactions. Those warranties no longer exist. That is going to be part of the historical record for lenders who are making decisions about this industry."

CORPORATE CASUALTIES

Other speakers, however, downplayed the potential impact of the Enron situation on financing. All industry sectors, pointed out Johns, have corporate casualties where warranties are a problem. "I think we have to be very careful not to get overexcited by that issue."

The American Wind Energy Association's Jim Caldwell agreed, saying it's too early to draw conclusions about the warranty situation. "I don't believe the story on the Enron warranties is anywhere close to being over. I don't think anyone should say the current situation is the way it's going to look two, three, four months from now. It's obviously a very strange situation and obviously a very fluid situation."

In fact, said Johns, GE's acquisition could go a long way towards stabilising the investment environment for the US wind market. Its lobbying strength will add muscle to the industry's efforts to gain a long term policy supporting wind energy development. "I don't think you argue with GE too much."

The European dilemma

In Europe, financing is a factor in the debate surrounding the potential harmonisation of wind energy support mechanisms among European Union member states. Dealing with the details of at least 15 different regimes is not very efficient for financiers and does add to transaction costs, says Johns, but it is not a big enough concern to drive a move towards a more homogenous structure, at least in the short term.

"It's arguable that maybe it's a good idea for each individual country to continue its own specific policy because different countries are at different stages of development of the industry," he said. "What the industry has to be careful about is that I think treasuries are going to one day wake up and question the amount of money some of these things costs." The wind industry, he added, "mustn't run away" from the need to eventually get to a market based environment and its financing implications.

The developing world, where up to two billion people lack access to electricity and where 1500 GW of new capacity and more than $1.2 billion in transmission investment will be needed over the next 20 years, is a key growth market for wind. But political and regulatory risk, high transaction costs, lower returns and more promising opportunities elsewhere, said Johns, have all contributed to a substantial withdrawal of private sector investment in power projects in the developing world.

"There's a logical role for private capital to play," the World Bank's Dana Younger told delegates. "The key issue is going to be: can we provide the right set of market conditions to induce private investment to come back to these regions?"

One of the promising tools to further develop emerging markets is carbon financing, said Younger. In fact, India's Minister of Non-Conventional Energy Sources, Shri M. Kannappan, emphasised his country's interest in projects developed under the Kyoto Protocol's Clean Development Mechanism (CDM) as part of India's plan to develop an additional 6000 MW of wind power by 2012.

The price of carbon

But some presentations made at the conference cast doubt on whether the price of carbon will be enough to drive significant development. A study of a potential CDM project in Egypt by Denmark's Risø National Laboratory found the revenue generated from sales of certified emission reductions at $20 per tonne of carbon would be $0.003-$0.004/kWh. Aside from questions about whether reductions will be valued that high, says the World Bank's Richard Spencer, it still fails to make wind competitive with natural gas in Egypt, which costs $0.02-$0.025/kWh compared to wind at $0.03-$0.04/kWh.

FINANCING CHALLENGE

Swiss consultant Thomas Stetter painted a scenario for delegates of a 10 MW wind farm producing 30,000 tonnes of CO2 reductions at $5 a tonne, a price in line with those beginning to emerge as world markets gain more experience with the concept. The increase in the internal rate of return would be about 1.5% over a project in which the emissions reductions are not sold. "The increase is not enough to turn a bad project good, it adds enough cream to turn a regular into an excellent coffee."

Despite the financing challenges wind faces, said Johns, the good news is that it is a mature industry. "Successful wind projects are happening everywhere. This is a challenging statement, but I think good projects under all regulatory support regimes are financeable," he said. "It is a good story. The wind industry is like the Internet with cash flow. You get all the excitement and you still get a cheque every month."

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