South Africa’s energy generation capacity will need to grow by more than 40 000 megawatts over the next 20 years, double the current installed capacity. The government’s Integrated Resource Plan published in May 2011 set a target that 42 percent of this new power generation should come from renewable energy. Public-private partnerships can play an integral role in achieving this and alleviating the current energy constraints.
According to estimates, renewable energy will make up more than 20 percent of the country’s total generation capacity by 2030, compared with the 5 percent it currently accounts for. Investing in renewable energy is, therefore, considered a growing asset theme in domestic capital markets and offers investors opportunities to access a pool of assets not normally available to them, such as new solar and wind projects.
Research released by the Pew Charitable Trusts confirms the emergence of new markets as renewable capacity grows in the global clean energy sector. Phyllis Cuttino, the director of Pew’s clean energy programme, said South Africa’s commitment to developing wind, solar and other clean energy technologies, was a promising example of the expanding market for clean energy investments.
The investment required to implement the Department of Energy’s (DoE) Renewable Energy Independent Power Producer Procurement (REIPPP) programme is substantial. During round one of the programme, 28 preferred bid tenders totalling almost R50 billion in total investment were awarded to independent power producers. Debt and equity finance for the projects has been largely secured from local banks and the institutional market.
REIPPP projects are backed by a power purchase agreement (PPA) with Eskom that guarantees payment of an agreed tariff for power generated, on a “take or pay” basis for at least 20 years. This means that irrespective of power demand by the grid, if the power is generated by the renewable project, Eskom will pay the tariff for each kilowatt of energy produced. The tariff is agreed upon at the time of the awarding of the preferred bid and is indexed to the rate of inflation bid by the sponsor over the duration of the contract with Eskom.
The DoE has also contracted with the project companies in order to offer recourse for project investors in the event that Eskom fails to meet its obligations under the PPA. This government backstop of the PPA has earned the REIPPP programme significant credibility with international investors.
The growth of investment in renewable energy is driven by the argument that these technologies are growing more cost competitive with fossil fuel options. The International Renewable Energy Agency, which promotes the accelerated adoption and sustainable use of all forms of renewable energy, states that the levelised cost of electricity is declining, especially for solar photovoltaics, concentrated solar power and wind power.
While electricity supplied by renewable energy projects is initially more expensive than traditional thermal power, it will not be a significant contributor to consumers’ increasing energy costs. The so-called grid-parity – the price at which tariffs for coal- and renewable-generated energy intersect – is not that far off. The existing coal-fired plants were constructed in the 1970s with an intended lifespan of 30 to 40 years. Given the increasing maintenance and upgrade requirements to extend their lifespan and the cost of building new coal-fired plants at Medupi and Kusile, the tariff paid by Eskom for wind power will achieve grid parity by 2015 and solar power by 2019.
Renewable energy projects generally also have a shorter construction timetable than thermal projects and can, therefore, start supplying power to the grid within 12 to 24 months. This coupled with a low carbon footprint, is a win-win investment.
The banks have committed debt finance to the projects that were awarded preferred bids under the REIPPP programme to date. In some cases, the banks have syndicated the debt to specific players in the financial market whose funds are structured to seek long-term returns and tangible social and development impacts.
The REIPPP programme places a strong emphasis on social and economic development. All projects will be creating a significant number of new jobs during the construction and operations cycles, local communities have shareholding in the projects and will benefit from enterprise development and socio-economic development spend from top line revenue, and with each new round of projects awarded under the REIPPP programme, an increasing amount of the project capital expenditure will be manufactured locally.
While local procurement will compel equipment suppliers to establish manufacturing operations in South Africa – which may increase capital expenditure costs – there also will be a demand for local electrical engineers, civil works contractors and a host of subsidiary companies in the supply chain.
The renewable energy market internationally is facing challenges such as adverse government policy changes, pressure on utilities and reluctance on the part of banks to offer long-tenor loans, leading to increasing competition among developers to bid for projects under the South African REIPPP programme. This has encouraged a compression of the tariffs awarded to preferred bidders in round two and the trend is expected to continue in further rounds, resulting in downward pressure on internal rates of return for projects, lower developer premiums and thinner margins for contractors and equipment suppliers.
Given the limited capacity of the local capital market, this pressure has not yet translated into any significant reduction in yields earned on debt finance invested in projects to date. According to the Pew Charitable Trusts report, “Who is winning the clean energy race? – 2012 edition”, clean-energy investment in South Africa, however, will remain strong in the coming years.
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