De-risking renewables

Funding renewable energy projects is becoming more challenging because of increasing financial, regulatory and operational risks. But it is not too late for government, the insurance sector and banks to help, says Siân Crampsie

The momentum of growth achieved by Europe’s renewable energy sector in recent years is under threat from the increasing risks faced by the industry.
Financial risk is growing in line with the increasing scale and complexity of renewable energy projects in Europe, while policy changes by governments in the region in the past 12 months have led to a rise in political and regulatory risk.
These risks are becoming particularly acute in the current macro­economic environment because risk management is a critical element in securing project financing, say insurance firm Swiss Re and the Economist Intelligence Unit (EIU), which have recently surveyed senior executives in the renewables ­sector.
While the survey showed that growth in the renewable energy sector is set to continue over the next three years, funding will be a particular challenge because risk management – including expertise and risk transfer products – is currently poor.

Good awareness
“There is a good awareness of the risks but [the renewable energy industry is] not so good at transferring or mitigating them,” explains Juerg Trueb, head of environmental and commodity markets at Swiss Re. “Banks and investors are becoming more prudent, and the way to [secure financing] is to de-risk, for example with new insurance products.”
Insurance products are already playing an increasing role in the renewables sector, with alternative risk transfer solutions starting to appear on the market. However, Swiss Re and EIU’s survey showed that less than two-thirds of respondents use insurance to transfer the risks they face. The industry appears to be demanding more standardised and cost-effective insurance products, as well as ones that are more suited to small-scale projects.
The use of weather-based financial derivatives is also picking up, although only an estimated 4 per cent of wind power producers apply them to their projects, says Swiss Re. Weather-related volume risk is a particular challenge for wind energy developers because wind volumes may deviate by 25 per cent from the values determined by weather data.
“There is evidence that some wind power projects in the UK have a utilisation that is half of what was expected, and there is a growing awareness that projects may not live up to expectations,” says Trueb.
When output falls below what is expected, revenues drop and may not be enough to pay down debt on financing.

Financial risks
Trueb points out that renewable energy projects are particularly exposed to financial risks because they tend to be highly leveraged – some with up to 80 per cent debt – and because they are capital-intensive. Financial risks are highest during the early stages of project development, and, like weather-related volume risk, grow with increasing project size.
Many developers currently offset such risks by diversification in terms of both geography and technology, by using proven technology and by passing on some risks to technology suppliers.
Governments can also play a role in decreasing levels of risk by implementing more stable and predictable regulatory regimes, says Swiss Re, whose survey shows how confidence in government support for renewable energy has waned in the past 12 months. It notes that the surging uptake of solar energy schemes has burdened government finances, which in turn has lead to drastic cuts – sometimes retrospective – in several European countries’ solar energy feed-in tariff (FIT) schemes.

Investment slump
Swiss Re’s report points to an investment slump in renewables in those countries where government support was cut in 2010. In Spain, where cuts to FITs were applied to existing solar energy schemes, renewable energy investment dropped by more than half in 2010 to £3 billion, according to Bloomberg New Energy Finance.
“Countries must adopt stable regulatory regimes if they are to gain investors’ trust and support the huge volumes of capital investment required to ensure a stable supply of energy,” notes Joan MacNaughton, executive chair of the World Energy Council’s (WEC’s) 2011 Assessment of Country Energy and Climate Policies.
In this assessment, WEC says free market solutions alone cannot deliver sustainable, clean energy systems because investors demand robust frameworks. The International Energy Agency (IEA) also identified regulatory and policy uncertainty – as well as the high upfront capital demands of renewable energy projects – as key barriers to renewable technology deployment in one of its latest reports on the global renewable energy market.
“The changes to regulatory schemes are hindering investment,” notes Trueb, who suggests that FITs could be modified so that renewable energy projects are rewarded for producing energy when it is most needed. This would help developers to reduce weather-related volume risk and would also reduce the burden on government budgets.
The financial sector could also help developers to adjust to the changing market conditions. “Banks and the insurance sector need to come up with products to help investors de-risk and invest in clean energy by coming as close as possible to stable cash flow schemes,” concludes Trueb.

This article first appeared in Utility Week’s print edition of 27 January 2012.
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