Investments in FY21 dipped ~24% due to the fall in energy demand amid the nationwide lockdown. However, as the demand revived, investment jumped 125% from FY21 and ~71% from the pre-pandemic level (FY20) in FY22.
The asymmetry in debt financing
PSUs play a dominant role when it comes to the financing of energy in India. However, a substantial amount of finance from govt-owned financial institutions flows into conventional sources of energy instead of RE. This is because over 50% of conventional power generation capacity is under the direct ownership of central and state governments. Hence, the onus to arrange finance of energy capital and development of RE capacity falls on the private sector.
Some of the biggest private sector players have already embarked on a massive clean energy journey. Reliance Industries has announced a target to reach net-zero carbon by 2035 and is investing over US$10 billion (INR 75,000 crore). Adani Green, the largest renewable company in India by market capitalization and the top project developer in solar and wind, with a portfolio of ~14,000 MW, announced debt financing of over INR 10,000 crores till Mar 2021 for its RE projects. Other key players in the sector include Tata Power (one of the highest revenue earners in the industry) and ReNew Power.
Among the state-run players, NTPC is a notable example of business diversification. The company is following a target of 60 GW of net renewable energy capacity by 2032. Coal India is also considering building capacity for solar wafer manufacturing.
On an overall basis, the clean energy sector still lacks scale and diversified access to financing. Although established companies like Reliance, Adani, and Tata are able to get success in financing being behemoths, other players, which are mainly MSMEs, smaller energy service companies (ESCOs), and other unlisted and lower-rated companies face difficulties in raising finances from capital markets despite having a sound business model or meeting financial benchmarks like the minimum debt-service coverage ratio or DSCR (the ratio of net operating income to current debt obligations) requirements.
However, “small and medium enterprises are going to be crucial to the growth of the RE sector”, said Saurabh Marda, the Managing Director of Hyderabad-based Freyr Energy, which provides rooftop solar solutions for residential and commercial customers. Marda added, “Most of these companies operate on an asset-light model and one of the things holding back their growth is the ability to finance projects. Most traditional lenders ask for collateral that is not feasible beyond a point. Another gap is that most lenders even today do not understand solar as an asset class, especially at the branch level. If this understanding improves and lenders start looking at solar project financing or discounting cash flows from solar customers, the overall financing situation can improve”.
The financing pattern of RE projects is such that 70% of funds are sourced from debt and the rest 30% are mobilized as equity funding. Sadly, the debt servicing costs of renewable energy projects in India are 20%-30% higher than in the US and Europe (calculated on Levelized cost of energy). The banking sector also depicts some level of reluctance while lending to smaller players due to its perceptions of associated risks and uncertainties with RE projects of such players.
When it comes to the financing of greenfield RE projects by banks and NBFCs, the following are the characteristics (IEA, CEEW, Dec 2021) noted in RE loans (the terms vary with the level of the project’s riskiness): —
- Long-tenure and floating-rate debt with periodic reset clauses
- A moratorium period of up to one year after the project’s scheduled commissioning date
- Debt-service reserve account (DSRA), a cash reserve set aside to meet debt-servicing requirements for a period, requirements of typically one to two quarters
- Minimum DSCR of 1.1
The cost of debt comprises the internal benchmark rates (based on the marginal cost of lending rate for banks and the prime lending rate for NBFCs) and the spreads over them. The spreads component is determined by the creditworthiness of the power offtaker (which are electricity distribution companies or discoms), the type of project site, the creditworthiness of the sponsor, and any additional corporate guarantees. For example, if the project is set up on a solar park site, its borrowing costs become ~25 basis points (bps) lower than the one set up on a non-solar park site. If the developer has signed a PPA with a highly leveraged state discom, it could add up to 50 bps in borrowing costs compared to a PPA signed with a central govt entity or a low-leveraged state discom. The below chart depicts how the cost of debt for developers varies as per the determinants.