Round Table on Fixed Income : Renewable Energy Assets Backed Bonds

Presented by: 1)Ms. Shreetama Ghosh  and  2)Mr. Jayen Shah CFA

Moderated by: Biharilal Deora, CFA

Contributed by: Sandeep Bhattacharya, Climate Bonds Initiative

Background and context: –

The CFA Society India recently conducted a roundtable on bonds backed by renewable energy assets. The roundtable, attended by members and industry analysts, focused on the opportunities and challenges of this niche but highly important sector. This article gives an account of the discussions that transpired at the roundtable. It has been written by Sandeep Bhattacharya of Climate Bonds Initiative.

Background

It is estimated that, India requires US$ 1.8 trillion of additional investments by 2030 to mitigate the effects of climate change and also cater to the adaptation needs. In order to achieve the Nationally Determined Contributions (NDC) targets as agreed in the Paris accord, and ensure timely responsiveness to systemic risks of climate change, the conventional assets in the financial sector needs to be supplemented, and policies to help support the same are emerging.

Action taken by the Government

A part of the NDCs are commitments on clean energy, an area where the government has an ambitious target for deployment: 175GW of Renewable Energy (RE) installation by 2022 and 450 GW by 2030. Taken in context, India’s total generation capacity from all sources is about 360 GW currently. A strong institutional framework in the power sector has been used to roll out RE capacity through auctions.

Financing & refinancing of the RE assets 

RE deployment by private sector developers is currently funded largely by borrowing from banks and non-bank financial institutions. The IPPs’ (Independent Power Producers) receipts from PPAs (Power Purchase Agreements) are fairly fixed (varying with output) and low-risk, (though there are persistent delays by state utilities paying for their purchases) and are well suited to refinancing through a fixed income instrument like bonds.

Thus once the project is commissioned and is operating successfully, banks may refinance the loans through issuing bonds. Bigger developers, such as Renew Power, Greenko, Azure Power, CLP India and Hero Future Energies have directly accessed the debt capital market themselves.

Bonds have been issued both onshore and offshore – the latter accounting for the bulk of issuances so far. Presence of “dedicated green capital”, i.e. capital which can be invested only in environment friendly projects in the west attracted a lot of issuers, which acted as a clear incentive to label the bonds as “green”.

Round table discussion on “Bonds Backed by Renewable Energy Assets”

In this context, CFA Society India conducted a roundtable on “Bonds Backed by Renewable Energy”, and the description of the event is as follows.

The session started with Biharilal Deora, CFA, Director CFA Society India, laying down some questions which are likely to be answered in the session and encouraged the participants to be interactive. The questions to be answered were as follows: –

• How much of project risk does a RE project have compared to traditional power projects?
• What will be the impact of the recently announced target of 450 GW?
• How much of this can be financed by local capital?
• Are NBFCs too exposed to RE?

The first part of the briefing session started with Ms. Shreetama Ghosh Chief Manager, Credit – Power at L&T Infrastructure Finance Co. Ltd, briefing about credit evaluation as seen at L& T Infrastructure Finance.

The brief from Shreetama dwelt on the following aspects: –

At L&T Infrastructure Finance, the major heads in evaluating risks for energy projects are

1. Sponsor Risk
2. Fuel supply risk
3. PPA – There needs to be a PPA signed upfront
4. Financing and cash flow risks

While solar module costs have been going down, the electricity costs have been going down much faster, and part of it can be explained due to the fact that returns on equity are also going down.

The solar modules are supposed to last for 25 years, and a test of the same needs to be done. L&T Infrastructure finance gets the testing done by DNVGL or Mahindra Susten.

Another feature which is a must for L&T Infrastructure Finance is a ring-fenced trust and retention account for the project. This isolates the project from other projects of the same promoter.

In addition, there are risks specific to the state where a project is located. In some states, the per unit cost of RE may be high due to some old projects. Such states may want to re- negotiate PPAs at a lower rate.

Expenses of RE projects –  The operation and maintenance is outsourced by means of a fixed price contract and thus, those expenses are fixed.

Post the brief from Shreetama, the session became interactive, with queries on financing needs of the 450MW RE targets; possibility of operating lease for RE; the risk and opportunities of corporates in-sourcing their consumption of RE through captive power plants; distributed RE assets; typical profitability levels and the current situation in wind power.

This was followed by a brief from Jayen Shah CFA

 Jayen touched upon the following:

Debt funding of projects has largely come from domestic investors, whereas major international players have been active in equity.

Many sovereign wealth funds, multilateral Development Banks like IFC, and global pension funds have stakes in a few of the IPPs. Some examples of such IPPs are Greenko, Renew Power, Azure Power etc. CDC has promoted an IPP, exited and then re-entered the segment by backing Ayana Power. Given this play, a lot of companies started with the intention of being in this field for the short to medium term.  Their motto seems to have been “let us start and someone will buy out”. There has been notable consolidation in the field – some players who exited include Kiran Energy, bought out by Hinduja Power; and Welspun Renewable Energy Pvt. Ltd, bought out by Tata Power. Renew Power too has grown by buying out a few IPPs.

In the bond market, CLP India was one of the earliest IPPs to issue a green bond.  This was the first corporate green bond to come to the market, and was issued in September 2015. In addition, Tata Power have issued bonds to fund their RE operations.

IIFCL came up with a first loss default guarantee product in 2010.  The first transaction, involving assets of Renew Power, happened in 2015   This had a 28% first loss guarantee and uplifted the credit rating of the instrument from A or A- as warranted by the assets, to AA+( SO). The tenor was extended to 17 years.

In terms of investor appetite, insurance companies and exempted provident funds participated. The Employees provident fund organization however did not participate.

This transaction as a market educator. There have been 3- 4 deals which have happened since. These transactions have survived some of the stress scenarios of delay of payments by DISCOMS.

The issuance of green bonds has been a lot more active in the offshore markets, where investors have been lured by the benefits diversification offered by dedicated green capital, apart from cost efficiencies.

Major offshore issuers have been IPPs like Greenko, Renew Power, Azure Power, etc. together with institutions like EXIM Bank, SBI, REC, PFC, NTPC, IRFC and IREDA (both NTPC and IREDA issued a Green Masala Bond).

Besides the issuance of green bonds, there were discussions around several other topics.  These included the relevance of carbon credits, the presence of “dedicated green funds” in the offshore markets and their consolidation, institutions with appetite for term debt for RE projects etc.