Renewable energy projects seeking to be licensed in South Africa under allocations granted in terms of IRP1 will need to raise estimated capital of between R20 and R30 billion in the course of the next two years. Only a proportion of this capital is likely to be provided as equity by sponsors. The bulk will have to be raised via project finance – using the anticipated cash flows generated by each project to fund the borrowings required. Consequently different approaches to project financing will be needed.
Many funders will be the usual commercial banks who have traditionally done business in Europe, the US and latterly, the Asia-Pacific countries. However, financial institutions other than commercial banks are increasingly entering this field, bringing a different and effective focus to the challenge of raising the large amounts of capital required.
Whilst commercial banks can be expected to continue focusing on maximising returns to shareholders and minimising the attendant risks, developmental institutions and multilaterals have at their core a desire to foster something more than profit – socio-economic development – and it seems they are making their presence felt when it comes to renewable energy projects.
In a recent briefing to clients, Norton Rose Group says that increased levels of participation of these institutions in recent times has meant that "... solutions have been developed to deal with the inter-creditor issues which invariably arise between them and commercial banks. Commercial banks now accept that such institutions insist upon certain unilateral rights, such as the right to take enforcement action if there is a breach of certain covenants (for example, compliance with environmental law)". They urge sponsors to be tolerant of the "policy" issues raised by developmental financial institutions because "... the practical reality is that the institutions will stick with you, and if anything goes wrong, are far more likely to be accommodating than a commercial lender looking to quickly recover their funds or get the project off a 'watch list'."
A unique aspect of renewable energy project financing in South Africa will stem from the requirement that independent power producers will need to incorporate a black economic empowerment (BEE) element as a precondition to obtaining an electricity generation licence. It is anticipated that many BEE partners will be looking to developmental finance institutions such as the Development Bank of Southern Africa (DBSA) to provide much of the funding necessary to acquire BEE partners' stakes in the project, and the DBSA, for example, will more than likely insist that critical BEE implementation mechanisms are built into the deal structure, and honoured by all parties.
Interest in the South African renewables market by Chinese developers and financiers will also add a different dimension and different options for sourcing finance for developments. By all accounts, the Chinese approach is a more strategic one – not necessarily concerned with (or responding in the conventional manner to) the same commercial risks that commercial banks usually take into account – and very much focussed on supporting Chinese outbound investment and the sale of Chinese manufactured renewable energy equipment such as photovoltaic panels and wind turbines.
It is not unusual for Chinese developers or equipment manufacturers to bring their own finance in line with a strategy of supporting Chinese renewables projects until they are bankable, at which point conventional funding from commercial banks can be looked to.
The above means that developers using Chinese equipment and finance can go where other developers might find it difficult to follow, due to difficulties with project bankability in terms of conventional criteria. Whilst this may be seen to be a significant advantage in one respect, when it comes to exiting the project, the local developer may find limited interest from non-Chinese sources of capital to the extent that such projects have not been structured along conventional lines.
Exactly how different the approach to project financing around renewable projects will be over the next period of two years is hard to predict – but what seems certain is that there will be new ways of dealing with the challenges faced by developers and funders, and that the South African market will develop its own quirks and nuances.
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