Cost Insights: IRENA’s report on CoC for renewables

The cost of capital (CoC) is a crucial driver of total costs and determines the cost of electricity from renewable po­wer generation technologies. However, the absence of reliable, up-to-date and di­ff­erentiated CoC data for individual countries and technologies has led to inaccurate assumptions in energy modelling. To address this, the International Renewable Energy Agency (IRENA) collaborated with ETH Zurich’s Energy and Technology Po­licy Group and the International Energy Agency (IEA) Wind Technology Collabo­ra­tion Programme (IEA Task 26) to conduct a comprehensive study. It resulted in the creation of a first-of-its-kind database of CoC for solar PV, and onshore and offsho­re wi­nd across major markets. The database enables the calibration of levelised cost of energy estima­tes, taking into acc­ount specific countries, regions, technologies, and timeframes. This data-driven ap­proach enhan­ces the accuracy of the CoC assumptions and he­l­ps inform tailored support mechanis­ms and market designs for renewable energy.

The survey validates the determination of CoC for renewable power generation te­ch­nologies in 45 countries across six co­n­tinents. These countries account for 88 per cent of new capacity additions in solar PV, 98 per cent in onshore wind, and 87 per cent in offshore wind during 2020. It also provides va­luable insights into future trends until 2025 and the key drivers influencing these re­su­lts.

Renewable Watch presents key insights from IRENA’s report titled “The cost of financing for renewable power”…

Factors influencing CoC

The report discusses contextual factors underlying CoC for renewable power generation technologies, which are:

Project finance dominance: Project finan­ce is the dominant method of financing rene­wable power projects, especially in Euro­pe, which has a long history of su­pporting renewables. Among the responses, solar PV accounted for 51 per cent of the res­pon­ses followed by onshore wind (38 per cent) and offshore wind (11 per cent).

Merchant exposure: Numerous renewable power projects face merchant exposure, implying that they are financed without guaranteed prices from offtakers. How­ever, full merchant exposure remains un­co­mmon, and the majority of projects ha­ve some form of revenue security, such as price floors or fixed-price contracts.

Revenue securing mechanisms: To ensu­re revenue security, renewable projects em­­ploy various mechanisms such as PPAs, feed-in tariffs, and contracts-for-difference (CfDs).

Multi-layered offtake arrangements: Offt­ake arrangements may involve multiple me­­chanisms, with government-backed CfDs or PPAs covering a portion of the pla­nt’s output, while merchant exposure is hedged through corporate PPAs.

These factors are essential in making re­ne­wable projects “bankable” and ensuring access to favourable financing conditions.

CoC for renewable power generation

The report highlights key findings regarding CoC for renewable power generation technologies:

  • The current CoC varies between 1.1 per cent and 12 per cent across different countries and technologies.
  • Germany has the lowest financing cost for renewable technologies, while Uk­­­ra­ine, Mexico, Egypt and Tunisia have higher CoC values.
  • The CoC for onshore wind, offshore wind, and solar PV ranges from 2.8 per cent to 12.2 per cent, depending on the country and technology.
  • There is less variance in CoC for offshore wind due to its concentrated de­ployment in the Organisation for Econo­mic Co-operation and Develop­ment co­u­ntries and China.
  • China, North America and Western Eu­rope have very low CoC (approximately 3-5 per cent), supporting the deployment of renewable power.
  • Regional differences are larger than differences between renewable energy te­chnologies within a region, primarily due to country risk premiums.
  • In North America, the debt share is typically low (35-65 per cent), primarily due to the utilisation of tax credits to expedite solar and wind deployments.
  • In Europe, the debt share in CoC is typically larger (80 per cent or more), but the cost of debt remains low due to fa­vourable financing conditions.
  • Outside the OECD, CoC is higher, but still at levels low enough to support the development of competitive renewable power generation projects.

Expected trends till 2025

Survey respondents anticipate minimal change in CoC by 2025. CoC is a crucial component in future electricity system planning and cost predictio­ns. Expec­ta­tions for CoC trends until 2025 differ. In Latin America, experts highlight the possibility of an increase in CoC due to uncertainties in political stability, macroecono­mic conditions and support schemes. How­­ever, in mature markets such as Europe and North America, deployment rates, project experience and financial co­m­munity involvement are likely to reduce both debt and equity costs over time, even with the current low CoC. CoC for offshore wi­nd in the Asia-Pacific region is expected to decline by 34 basis points (bps) due to factors such as technology maturation and an improved understanding of project risks. Similarly, CoC for onshore wind and solar PV is expected to decrease due to growing experience and familiarity with lending. Moreover, survey respondents expect CoC for solar PV to increase in Europe by an average of 27 bps, while CoC for onshore wind is predicted to increase in some European countries and decline in others. CoC for both onshore wind (36 per cent) and solar PV (83 per cent) in Latin and South Ame­rica is expected to decline significantly, potentially resulting in a substantial re­d­uction in renewable electricity costs by 2025. The Middle East and North Africa have mixed expectations, with anticipated increases in CoC for onshore wind in some countries and declines for solar PV in others. In North America, modest chan­ges are expected, including a possible increase in onshore wind due to uncertainties surrounding production tax credits.

The survey results indicate that experts generally anticipate minimal ch­anges in CoC for renewable power projects by 2025, with regional and technological variations affecting the predictions. Some regions foresee reductions in CoC, primarily driven by factors such as growing ex­perience, project deployment and inc­rea­sed financial involvement. The­se developments could result in more affordable renewable electricity costs in the future. However, uncertainties and regional dyna­mics play significant roles in shaping these expectations.

Benchmark values vs survey data

Benchmark tools may provide conservative CoC values when there is a lack of adequate renewable project financing data. Though conducting a comprehensive survey of renewable technologies across global markets would be challenging, engaging experts with direct knowledge of financing conditions can yield relatively robust CoC data. Combining ex­pert knowledge with benchmark tools utilising publicly available data enables bro­ad country market CoC estimates.

CoC values estimated by the benchmark tool tended to be higher than survey res­ponses, especially for onshore wind and solar PV. Certain outliers (Argentina and Yemen) exhibited significantly higher bench­mark values compared to experts’ estimates, while Hungary showed a lower benchmark value compared to the survey results. The benchmark tool tended to ov­erestimate the CoC value for offsh­ore wind, onshore wind, and solar PV. For so­me regions, such as Europe and the Asia-Pacific, the overestimation was more significant. However, in Latin America, the benchmark tool slightly underestimated CoC for solar PV. The­se results underscore the importance of using benchmark tools that are specifically calibrated with project finance cost data to avoid CoC overestimation. Furthermore, CoC values are influen­ced by various factors such as the techno­logy utilised, the country, and the experie­nce and business models of different sta­ke­­holders. As such, there is no singular CoC value for a given market and technology.

These findings indicate that a calibrated benchmark tool, adjusted using surveyed CoC project costs, could provide more ac­curate estimates. However, single-point es­timates for CoC will always be approximate, as CoC can vary around that average for different projects. Overall, combining expert knowledge with calibrated benchmark tools can yield more more accurate and transparent CoC estimates for renewable power projects, considering variations among co­untries, technologies, and projects.

Industry insights

The report provides insights from semi-structured interviews regarding CoC for renewable power projects. Three key concerns are:

Multiple factors influencing CoC: CoC for renewable power projects is influenced by various factors and are specific to each project and country. One major determinant of CoC is the macroeconomic environment, which includes prevailing interest rates. Additionally, experience in financing and the level of standardisation play crucial roles. Capital availability has increased in several markets due to the entry of new providers such as pension funds, making it easier for viable projects to secure financing and leading to a reduction in CoC. Un­ce­rtainty surrounding revenue expectations, often stemming from support sche­mes and regulatory regimes, contributes to a higher CoC.

Risk variability across countries and technologies: The level of risk associated with re­newable energy projects varies across co­untries and, techno­logies. This variability primarily affects the debt share available to projects, followed by the cost of equity. The cost of debt is us­ually standardised within a market but can be influenced by variations in country risk premiums. Investment decisions are ba­­sed on the project’s risk profile and the level of debt that financiers are willing to support.

Role of development banks: In emerging markets, financing is often facilitated by multilateral development banks and sovereign guarantees, which typically involve relatively small merchant components and higher insurance requirements. In de­veloped markets, semi-public investment and development banks, play a significant role. In mature markets with stable re­gulatory environments and well-established financial systems, renewable energy projects can achieve high debt shares, resulting in competitive CoC, especially during periods of low interest rates, as observed during 2020-2021.

In conclusion, CoC for renewable po­wer projects is influenced by diverse factors such as macroeconomic conditions, risk variability and the invol­ve­ment of development banks. Stable regulatory environments and the availability of new capital providers have contributed to a decline in CoC in recent years.