By Prasad Ashok Thakur, CIMO Scholar, and Labanya Prakash Jena, Head, Centre for Sustainable Finance, Climate Policy Initiative
The rapid adoption of clean energy, such as solar, wind and hydropower, is key to decarbonising energy systems to limit global warming. However, most clean energy technologies are inherently intermittent and have fluctuating features. The intermittent nature of clean energy does not allow for 24×7 energy and its fluctuating features destabilise the grid. These scenarios are not ideal for modern energy systems.
Battery energy storage systems (BESSs) are accepted as one of the key solutions to address these challenges. BESS can respond to real-time renewable energy fluctuation challenges through its fast response capabilities, such as congestion relief, frequency regulation and wholesale arbitrage; simultaneously, it can generate and release stored clean energy when there is no wind and sunlight. This can address challenges related to the adequacy of power. Additionally, BESS can provide value-adds such as the creation of contingency reserves, network upgrade deferral opportunities and fixed/variable charge reduction.
Financing challenges
The adoption of BESS is low, and the adoption growth is less than desired. As per the International Energy Agency (IEA), global BESS capacity was 85 GW (approximately 190 GWh) at the end of 2023 and is expected to reach 400 GW (over 1,200 GWh) by 2030 to enable the seamless grid integration of renewable energy, with the net zero 2050 emissions scenario as a target. This will involve utility-scale and behind-the-meter storage capacities. There are several challenges hindering the adoption of BESS, and one of the key challenges is financial risks due to technology risks and the absence of a secured financial model. Technologies are still at an early stage, and performance record is limited. Technological risk pertains to system performance, unreliable warranty providers (recent manufacturers), partially consolidated supply chains and inadequate supporting infrastructure.
Although the presence of risk-taking investors seeking a higher return on their investment in BESS translates into higher energy tariffs, it is not ideal for the large-scale adoption of BESS. Moreover, the capital available with this class of investors is limited compared to this solution’s growth potential. The large-scale adoption of BESS requires low-risk/low-cost capital/large capital providers such as banks, pension funds and insurance companies, also known as institutional investors. This warrants a comprehensive investment risk mitigation to address these risks and attract large investors.
Development finance institutions: Need for out-of-the-box frameworks
The IEA states that capital flows for BESS are concentrated in China and other developed countries due to the high cost of capital for clean energy projects in emerging economies. Here, development banks and financial institutions (DFI), by their high reputation and credit ratings, create an impact-multiplier effect on two fronts: generating a “pull factor” for substantially increasing the scale of funding, and judicious capital allocation across the clean energy value chain and geographic areas. The urgent actions that can be supported by DFIs are through conventional soft loans to national-level public finance institutions of middle/low-income economies for mission-mode development and the deployment of BESS capabilities. Such measures help improve the creditworthiness of BESS projects in these countries and result in a reduced cost of capital for them.
Participation in DFIs, in many ways, involves incorporating a risk-mitigation measure and can attract private capital. A stream of DFI funding can also be partially dedicated to creating a robust talent pipeline for BESS ecosystems. This can help infuse “green skills” in local youth, who can act as ambassadors and early adopters of rapidly evolving BESS solutions. Such measures motivate entrepreneurs/corporations to innovate across technology configurations, business models and geographical reach. DFIs can underwrite only the interest component of debts taken by BESS technology/project developers to ensure further optimisation and enable reasonable allocation of their scarce capital at the fastest possible pace. This can achieve the dual goal of increasing the creditworthiness of BESS projects while freeing up precious DFI capital to achieve wider geographical coverage and reach the most underserved communities.
Need for innovative solutions
In 2023 alone, about $40 billion was invested in the BESS ecosystem. As per McKinsey & Company, the market size of the BESS ecosystem is expected to reach $150 billion by 2030. Thus, blended financing as a financial model should be considered, where public capital can be used as a first-loss capital for BESS projects. This offers private financers the comfort of providing capital at a competitive rate. Independent BESS projects can be bundled together and issued as green bonds to potential large investors. A partial credit guarantee can be provided by public capital providers to improve the credit ratings of green bonds, which is necessary to attract these low-risk-seeking investors. Debt financing can be structured so that BESS solutions are optimally used. For example, the outcome can include storage capacity, the number of charge/discharge cycles, the ability to respond to supply/demand, etc. All these incentives can entice developers to choose a good combination of BESS technology, business models and execution strategies. This will incentivise manufacturers to produce superior-quality BESS equipment.
New-age business models such as battery-as-a-service powered by digital capabilities can be explored to pool finances from investors, corporations and government agencies. On the demand side, customised leasing models can give an impetus to BESS by reducing its upfront costs. This can cater to the evolving needs of residential, and commercial and industrial customers, promoting behind-the-meter deployment. It empowers customers to take full control of their BESS capacities.
Similar business models can also be explored for front-of-meter players such as generation and distribution companies to ease their working capital requirements. Another model that can create an additional revenue stream for BESS adopters is trading the resulting green credits. This is increasingly relevant as more countries establish structured and regulated carbon markets in their jurisdictions as per global best practices. These developments are attracting investor interest.
The year 2023 alone witnessed investment flows of more than $400 million in pre-seed/seed/Series A funding stages in battery start-up firms. For growth-stage (Series B and equity), fund flows of about $5 billion were executed. As per the IEA, these figures are expected to grow six times by 2030.
As novel and customised chemistry combinations such as lithium-iron phosphate, sodium-ion and flow batteries, etc. are invented for use cases across the energy generation/transmission/distribution/consumption spectrum, boutique private equity-venture capital/investment banks are expected to join the bandwagon in larger numbers.
(The views presented here are the personal views of the authors and do not represent those of the organisation.)
