The year 2014 was truly a threshold year for the Indian renewable sector. The country had upward-revised its renewable target significantly to 175 GW – 60 GW of wind power capacity and 100 GW of solar power capacity – by 2022, which is more than six times the current installed capacities of approximately 22GW and 3GW, respectively.

This massive quantum leap would do two things for India as it helps the country tide over the period of 2018-2023, a time when limited coal thermal assets would get commissioned. Just like in the Indian telecom industry, the nation would skip the development step of creating fossil-fuel-based plants and would directly leapfrog into the renewable era. This would eliminate the cost of stranded fossil-fuel-based power plants, which seem to be a critical issue, even in countries with significant renewable capacity such as Germany.

More importantly, the renewable energy will provide environment benefits and thrust to achieve its Intended Nationally Determined Contribution (INDC) targets to lower the emissions intensity of GDP by 33% to 35% by 2030 below 2005 levels, to increase the share of non-fossil-based power-generation capacity to 40% of installed electric power capacity by 2030 (equivalent to 26–30% of generation in 2030), and to create an additional (cumulative) carbon sink of 2.5–3 GtCO2e through additional forest and tree cover by 2030.

Too ambitious a goal?

From a macroeconomic perspective, all key indicators are pointing towards higher growth, lower inflation and lower interest rates – and, thus, a comparatively stronger rupee, which is why there is no doubt of the role clean energy will play in India’s growth.

Interestingly, after the initial euphoria of the announcement, the focus has turned to the matter of whether there is the financial wherewithal to achieve the target. Understandably, the Indian government’s limited budget, constrained by a large fiscal deficit and multiple development priorities, has made people wonder if the goal is too ambitious.

The solar and wind sectors will need around 3 trillion rupees in the next five years to double the capacity. Of this, around 2 trillion (70%) will be funded through debt. Considering the already stretched budget and the constraints due to asset-liability mismatch, there is little appetite for renewable projects. The inability of the banks to fund a longer tenure debt with attractive interest rates results in a higher cost of generation, which is dependent largely on the cost of financing. In India, renewable energy projects typically borrow for between 10 and 12 years, at interest rates of 12-13% a year; whereas in Europe 17-18-year financing is available at annual interest rates of 4-5%.

Large investors (i.e. insurance companies, pension funds and provident funds that are long term in nature) have significant corpuses but are constrained to invest only in high-rated debt. There is, therefore, a need to bridge the gap between low-risk appetite of institutional investors and the relatively high-credit-risk profile of renewable energy projects.

The situation

The banks/NBFIs lend to power projects for the entire duration of the loan period of the asset. Currently, because a large part of their portfolio is laden with NPAs and stressed assets, they are facing exhaustion of their power-sector exposure limits. This situation diminishes project-financing room for new projects. Considering that solar farms are typically a 25-year investment, the banks should transfer the debt to any of the above instruments after the initial two-to-three-year period of the asset.

The solution

Banks/NBFIs lend to construction assets as they are better positioned to do due diligence on these assets and take construction risks.

After construction and stabilization, take-out financing can be done through securitization of these assets through infrastructure trusts. This approach will not only re-establish the lending ability of banks, it will also lower the operation period borrowing interest rate.

Further, insurance and pension funds could be mandated to take a percentage of their investments in these securitized instruments, to establish and sustain the market for such instruments.

Note: RBI, in its recent notification for inclusion of the renewable sector in priority lending, has stated that investments in securitized assets (where the underlying asset qualifies for the renewable sector) are treated as meeting the priority lending requirement.

Instruments such as credit insurance/guarantees through NCEF, tax-free bonds for renewable IPPs and infrastructure trusts for securitization of assets will allow creation of space and appetite among investors in the renewable sector.

Cash flow for clean energy

Typically, renewable energy plants have limited power-plant operational risk and, thus, the cash flow is predictable. Due to this, in international markets, pension funds and insurance companies are large providers of capital at lower rates to renewable energy plants. In India, the financial condition of utilities is bad, and this is hindering the flow of long-term and cost-effective capital to renewable energy plants.

A credit guarantee scheme can be launched, allowing a government agency to provide guarantees for renewable energy projects in exchange for fees. The guarantee can be given to the renewable energy generators using NCEF funding. As an example, we may consider a situation wherein the developer carries the risk of delay in non-payment of the invoice for the first, say, three months, after which the money can be claimed from the guarantor.

In short, to help reduce the financing costs, there is a need to make new and cheaper sources of funding available to the renewable energy sector so that the renewable energy tariff can match or become even lower than that of thermal energy. Focus will be on the impetus that can be provided to address the following:

High and variable interest rates – a traditional solar or wind energy project is getting a loan with an interest rate around 12%-15%

a traditional solar or wind energy project is getting a loan with an interest rate around 12%-15% Short tenor of debt from Indian commercial banks – traditional maturity in senior debt is about 10-12 years

traditional maturity in senior debt is about 10-12 years Hedging currency for international financing – the cost is a component to carefully keep in mind before addressing any international institutions. An arbitrage between local and international financing solutions should have been completed up front.

Global investment in renewable power and fuels in 2014 was nearly 17% higher than in 2013. Investments in developing countries grew by 36% and almost reached the level of investments in developed countries. There is no reason why India – blessed with high solar radiation, which can generate 50-70% more energy than similar projects in Western Europe – cannot make the most of the sunshine.

Author: Ratul Puri, Chairman, Hindustan Power Projects (Hindustan Power), India

Umar Farooq Zahoor

Umar Farooq Zahoor

Umar Farooq Zahoor

Umar Farooq Zahoor

Umar Farooq Zahoor

Umar Farooq Zahoor