With falling solar panel prices and improving wind technology yields, not only has renewable energy become cost competitive, but it also offers low feedstock risk vis-a-vis conventional power. This makes it a preferred asset class for investors. The government thrust on renewables has further boosted investor confidence in this sector, thereby leading to heightened activity in the deal space as well as the debt domain. Experts from the financial community provide their perspective on the current investment scenario, the key risks and challenges, and their future plans for the sector…
What is the biggest concern for a financier as far as the solar and wind power segments are concerned?
Proper enforcement of signed power purchase agreements (PPAs) is a must to retain investor confidence. This is a big concern as tariff and counterparty risks directly impact the debt-servicing capability in cash flow-based lending projects. This risk has amplified further post the recent competitive auctions, in which significantly lower tariffs were discovered as compared to the feed-in tariffs (FiTs) of various state governments.
Land acquisition is another key risk, considering the sensitivities and complex administrative processes involved. Further, as both wind and solar are “infirm” sources of power, an increase in the power generated through solar and wind increases the load on the grid. Investments in suitable evacuation infrastructure should, therefore, be of prime importance.
Dr Ashok Haldia
The biggest concern stems from the irresponsible conduct of the discoms. Till recently, this was limited to their payment behaviour. But now, with the discovery of low prices in recent auctions and often under the pretext of public interest, the discoms have started threatening to renegotiate PPAs. This creates uncertainty, which should be avoided at this juncture because it will slow down the influx of investments. What the discoms and the state governments need to understand is that they are risking the future of investments in renewable energy projects. Renegotiation of existing PPAs is thus a short-sighted approach and would, in fact, end up being against the public interest.
Another concern, as a financier, is the potential risk of over-leveraging of renewable energy assets. These days, most developers get their project loans refinanced with a top-up loan. Renewable energy projects are not like the class of infrastructure assets that have revenues linked to availability, such as power transmission projects or build-operate-transfer annuity projects. Hence, excessive leverage can prove to be counterproductive and potentially lead to stress in debt repayment.
The biggest challenge being faced by financiers today is the uncertainty over PPA enforcement with discoms, which are changing course as lower tariffs are being discovered and the FiT era comes to an end. Another big concern is the quality of solar panels being imported.
How has the investor perspective changed post developments such as the tariff crash in the solar and wind segments, the introduction of competitive bidding for wind and the slowdown in project allocation?
The high capital costs and low tariffs are making it tough for smaller players since it is difficult for them to achieve economies of scale. Therefore, significant consolidation is expected in the industry, with large players looking to grow inorganically. Some investors are also making speculative and aggressive assumptions on future equipment prices, debt refinancing, etc. Any volatility in the price of solar modules on account of an increase in international prices or adverse movement in currency will pose a key challenge to the solar segment.
Additionally, there has been a standstill in the addition of new wind projects as the wind segment is transitioning from an FiT regime to tariff-based auction regime. Recent wind auctions have witnessed aggressive bidding by many players, with wind turbine manufacturers consenting to provide turbines at significantly lower costs on account of excess capacity triggered by the sudden withdrawal of the FiT regime.
Dr Ashok Haldia
The tariff reduction is a result of a number of factors, besides the reduction in capex. These include the removal of inefficiencies in the system of land procurement, power evacuation approval through solar parks and improvement in the credit profile of the Solar Energy Corporation of India (SECI). Moreover, each tender has its unique characteristics, which decide the tariff. These include payment security and offtaker risk, location, size and timing of the tender, bidding mechanism, availability of land evacuation infrastructure, and deemed generation benefit.
Tariffs have come down and so have the risks and uncertainties, and this has brought down the cost of capital. As far as the price of modules is concerned, the slowdown is temporary on account of uncertainties in the global market. Further, wind auctions have only recently been adopted and hence there could be some teething issues that have to be dealt with.
The evolving nature of the renewable energy sector globally is resulting in investors shifting their focus from organic growth to inorganic growth via mergers and acquisitions. There have already been some big transactions in this space and accelerated consolidation is the way ahead as investors seek to achieve economies of scale.
Which renewable energy segments are likely to see an increase in investments in the coming year?
Rooftop solar can be a major investment driver in the coming years. Developers, which traditionally looked at ground-mounted projects, are actively looking to expand their rooftop portfolio in order to diversify their risks and earn better tariffs. In addition to rooftop solar, the other segments of interest in the coming years will be around energy storage technologies and energy efficiency projects.
Dr Ashok Haldia
Both the wind and solar energy segments will continue to see an increase in investments. Performance uncertainties are less in solar projects than in wind projects. However, of late, the solar segment has been reeling under the pressure of increasing module prices due to the cost impact of the goods and services tax and the possible imposition of a trade barrier in the form of duties. Once these uncertainties are done away with or priced in, investments will begin to flow in once again.
Domestically, the discovery of solar tariffs has been under way for some time now and it is not unreasonable to expect that we are at the end of that cycle. Wind tariffs, on the other hand, are just emerging with the advent of competitive bidding. Overall, in the short term, solar and solar–wind hybrid structures may see greater traction over other segments.
What are the new and emerging modes of financing in the renewable energy sector in the backdrop of various players having built large asset portfolios?
We have seen various new products like green masala bonds, credit enhanced bonds and plain vanilla offshore bonds. Infrastructure debt funds have also become quite active, which attempt to widen the investment pool to include pension and insurance funds. This is expected to substantially boost the funds available for deployment in the renewable sector. Going forward, we may also see the emergence of InvITs for the monetisation of assets, as we have seen in the power transmission and road sectors. Besides, for nascent sectors like rooftop solar and energy efficiency, a number of multilateral global banks have come forward and are offering concessional lines of credit.
Dr Ashok Haldia
We are witnessing an increase in the refinancing of renewable energy projects, once they are operational. While one of the primary reasons for this is a benign interest rate environment, other contributory factors are increasing investor confidence. Refinancing definitely enhances equity returns as it reduces the cost of capital. However, a fusion of refinancing and top-up loans, which effectively end up freeing up partial equity of the developer, should be treated with caution.
Another instrument that has hitherto been used by companies in the transmission and the roads and highways sectors is infrastructure investment trusts (InvITs), which can be used as a vehicle to free the locked-up equity of investors. From a cash flow yield perspective, InvITs can offer better returns, but from a cash flow risk perspective, InvITs need to be structured in a way that they derisk the assets from the perpetual problem of delayed payments from discoms.
Considering the momentum in the renewable space today, there is increasing interest from various equity investors looking for steady and guaranteed payouts over the medium and long terms. Investors are willing to bring in convertible instruments with the idea of refinancing them at a later stage once the certainty of PPA enforcement is established. Also, various multilaterals and development financial institutions are willing to participate in achieving the government’s target of 175 MW of renewable energy by 2022. We have also seen that investors are trying to refinance the facility through green bonds.
Do you see rooftop solar as an upcoming investment opportunity? What are the risks and positives in this space?
The rooftop solar market has grown at a compound annual growth rate (CAGR) of 98 per cent over the past four years. The commercial and industrial segment currently makes up almost 63 per cent of this market, while the residential and government segments account for 25 per cent and 12 per cent respectively. This is much lower than other key markets such as the US (46 per cent), Germany (73 per cent), China (18 per cent) and Australia (97 per cent). We expect India to catch up with the trend soon.
In the current fiscal, the cost of generating solar power from rooftop projects is estimated to be Rs 5.30 to Rs 5.60 per unit (without capital subsidy) for projects not claiming accelerated depreciation (AD) and Rs 4.30 to Rs 4.80 per unit for those claiming AD benefits. At present, the commercial and industrial segment pays between Rs 11 and Rs 12.50 per unit. As per our estimates, rooftop solar installations will grow at a CAGR of 70 per cent in the next five years. Capacity addition is expected to be concentrated in Delhi, Gujarat, Maharashtra, Andhra Pradesh, Telangana, Karnataka and Tamil Nadu.
The key issue in this segment is the requirement of “net meters”. As the supply from solar power is infirm, it necessitates an arrangement for the supply of the excess power to the grid and evacuation of power from the grid in case of excess demand. However, some public utilities do not encourage the net metering scenario as it leads to them losing their high-revenue customers. This issue will find a permanent solution only once battery storage becomes economical.
Dr Ashok Haldia
Rooftop solar is one of the most efficient ways of producing and consuming renewable energy because of its decentralised nature. It has immense potential as an investment opportunity. The cost of electricity generation through rooftop solar is less than the discom tariff for commercial or industrial consumers and hence, there is a business case for investment. The internal rate of return can also be potentially better than grid-connected solar projects.
The industrial consumer segment is the most profitable for most discoms and that is where the discoms hide their inefficiencies and losses. The increasing adoption of rooftop solar can potentially lead to the disciplining of discoms and rationalisation of the tariff structure. As a lender, the credit risks are more with regard to the quality of the offtake arrangement. If the offtaker is of good credit quality and the arrangement has adequate safeguards that deter the offtaker from renegotiating PPAs, the projects are bankable.
Rooftop solar did not see too much activity initially on account of teething troubles like establishing offtaker credibility and finding the right roofs to work with. However, with institutions like SECI and Indian Railways stepping in with large-sized tenders, increased activity is being seen. Timely commissioning and achievement of the projected capacity utilisation factor remain to be seen in order to establish the credibility of this burgeoning space. With subsidised financing now available from large banks, we expect the pace of growth of this segment to speed up.