Financial sophistication comes to wind power

Institutional investors are falling over themselves in efforts to pick up wind assets, and the macro economic trends in financing are looking good for the investment class wind belongs to, but traditional utilities are still struggling to deal with an upstart new technology that follows few of the known rules of the power business

Financial sophisticatioN comes to wind power

As the wind industry grows up, the financing available to get wind energy projects built has also evolved and become more readily available. "Wind energy has made great progress in terms of financial sophistication," Nick Gardiner of Fortis Bank told those attending the session on financing wind projects at last month's European Wind Energy Conference in Milan. As if to illustrate the point, Jan Coeligh of Ecofys Netherlands mounted the podium to describe how financial derivatives can be used to stabilise cash flow from wind projects and allow developers to gain better project financing terms.

What has changed is that the entire industry has become more consistent so more investors are willing to participate, said Todd Allmendinger of Emerging Energy Research. "It is a long way from the doctors and dentists, sandal wearing, backpack toting explorers with hand held anemometers." Even an institution like the European Investment Bank (EIB), known for a conservative lending approach, has upped its sophistication level with the launch late last year of clean energy funds targeted largely at wind investments. Christopher Knowles of the EIB said the first of these funds is expected to close shortly. At the same time, the EIB has also recently entered the field of wind project financing. It is targeting small and mid-sized projects that may have more difficulty accessing financing, although Knowles acknowledged that the EIB's appraisal process could also prove more onerous for these players.

While the EIB is getting into the business just now, other speakers noted that project financing for wind projects is thriving. "There is a tremendous amount of activity in wind project finance," said Gardiner. The size of the financings is helping to create this strong interest among banks; larger projects with larger turbines need greater capital requirements, he said.

The competition among investors to put money into wind assets is driving down financing costs. John Dunlop of HSH Nordbank predicted that while wind farm prices would stay high, he expects to see a fall in returns for wind investments. Currently, the capital markets require a return from wind farms of 12%, with a 7% benchmark return delivered to shareholders. "In the near term, we see the benchmark return for wind farms likely to fall from 12% to about 9% as a result of the growth of listed wind power funds with their lower cost of capital," he said. The spread of listed wind funds, he explained, should help to eliminate the current illiquidity premium supporting the 12% figure.

Tax advantaged equity will dominate in niche markets where governments allow tax relief on wind investments, Dunlop said. And due to the limited number of investment opportunities in completed projects, private equity investors will increasingly have to take more development risk. "They'll be forced to start pouring money earlier in the development cycle or get squeezed out of the market entirely."

Looking good on cost

Over the long run, the macro-economic drivers for sustaining investor interest in wind are looking good said Dunlop. Ageing populations in Europe and North America are contributing to a shift from high-growth investments towards more fixed income investments like infrastructure -- the investment class to which wind belongs. Low inflation and low returns, which should help keep down the price of producing capital-intensive wind power, are also here to stay, Dunlop said.

In a session on the investment strategies of power producers, Carlos Gascó Travesedo of Iberdrola noted that calculations of generation costs are based on simple and static models. He argued that a number of elements should be factored in, including the cost of energy dependence, environmental costs, and expectations on the evolution of fuel prices and the likely effect of a sharp increase in C02 prices. In the not so unrealistic scenario in which oil prices reach $100 a barrel and C02 prices EUR 25/ton, wind generation costs would be significantly below those of fossil fuel-fired plants, he said.

A utility viewpoint

From a more traditional utility than Iberdrola, Tobias Petrini of Swedish Vattenfall acknowledged that new times had arrived. "We want to change. We must change. Our current portfolio is not sustainable from a C02 perspective," he said. "We're prepared to invest EUR 5 to EUR 10 billion in the next decade for wind power, provided we're comfortable with it."

Petrini indicated, however, that Vattenfall does not feel itself in the comfort zone yet. For a start, he said, wind suppliers seem to find it a challenge to meet utility standards. "We tend to feel that we do not speak the same language as suppliers," he said. "We expect functionality from our suppliers." Furthermore, for Vattenfall it is "a bit strange to work with component suppliers rather than power plant suppliers," he continued, explaining that Vattenfall was used to buying a whole power plant and operating it by itself, rather than being required to focus on the performance of individual turbines and ask for help to keep them running. "Generation is what we do but wind contracts come with compulsory service agreements." Petrini said this makes it difficult for Vattenfall to optimise its portfolio. The company is accustomed to having complete control and information on equipment.

The point he was trying to make, Petrini said, is that Vattenfall would like to have a better dialogue with its wind plant suppliers. "There is a difference in attitude. That will take dialogue to overcome." A better dialogue could also make financial sense for wind power suppliers. "Happy investors will allocate more to wind," he said.

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