3 September 2015

Financing offshore wind: blowing in the right direction

What are the lessons to be learned from the numerous success stories in the offshore wind so far, asks Roland Chalons-Browne

Photo: www.siemens.com/press

Renewable energy technologies are poised for growth in coming years, as governments around the world step-up efforts to transition from fossil-fuel dependency to a cleaner, greener system. Indeed, at this year's G7 Summit, member nations announced their commitment to decarbonising the global economy, as well as voicing support for legally binding emissions reduction targets, to be passed at the UN climate change conference in Paris later this year.

Offshore wind is likely to play a significant role in this transformation. Leading offshore wind markets – notably the UK, Germany and Denmark – have shown positive momentum, driven by political support (although this is now under threat in some markets) and private sector innovation. As such, offshore wind stands at an inflection point in its development; not only in Europe, where utility-scale mega projects are coming to market, but also globally, as it looks to expand into new markets, such as China, Japan, Korea and the US. The development of a 152MW offshore project in Jiangsu Province in East China, which will use 38 Siemens turbines, is one example of the industry spreading its wings.

Yet, if the offshore wind sector is to successfully ramp-up growth globally, it is vital that the right conditions for investment are established. This begins with developing solutions to overcome potential barriers to investment in the different financing stages of offshore wind projects. It is also vital that the sector learns from previous lessons and best practice examples.

Early-stage development financing: governments and multilaterals can play a key role

This is the phase in the project lifecycle when projects are most likely to be cancelled, as a number of shelved projects have shown in the past year. Commercial banks are not financing project development, meaning that it remains a balance sheet commitment, with development costs in the region of €50 million ($56 million) to €80 million.

Increasingly, we are seeing partnerships between new players – such as independent power producers and specialist developers – become more prevalent given the increased capacity size of the nine UK offshore wind sites identified for development in Round 3 .

With projects increasing in size and complexity as they move further offshore ... there is a risk that developers will be unable to continue financing development without some form of financial support.

However, with projects increasing in size and complexity as they move further offshore, and with new global markets poised to open up, there is a risk that developers will be unable to continue financing development alone without some form of financial support. This could potentially limit capacity growth as fewer projects are developed and taken on for construction-stage financing.

Governments, as well as national and multilateral financial institutions, can therefore play a key role in keeping project pipelines progressing by making financing available at this critical early-stage. This could be through providing development loans, or acting as an equity financing partner themselves.

In addition, governments must provide suitable tender structures in order that financing is obtained efficiently. A strong example of this is the tendering process for the Horns Rev 3 farm off the coast of Denmark, which market participants report to be one of the cheapest tender processes to date, due to the low risk set-up. This helps cater for cheaper and more varied financing options.

Construction-stage financing: a focus on strong risk management

The traditional model of utility balance sheet financing of offshore wind project construction has changed in the past two years, as utility companies limit balance sheet exposure in the face of credit constraints.

Certainly, financing offshore wind construction remains a challenge due to the increasing size of the projects and the technical risks involved. That being said, the major project finance banks are now experienced in lending to offshore wind projects, and have the expertise to understand the risks.

In fact, with growing numbers of new lenders also looking at offshore wind, there is positive sentiment in the market and good appetite for well-structured projects. This is reflected in growing competition among lenders, a reduction in the pricing and improvement in the terms being offered.

With growing numbers of new lenders looking at offshore wind, there is positive sentiment in the market and good appetite for well-structured projects.

Yet, in order to tap into this positive appetite and secure project financing, it is important that projects are led by experienced sponsors with structuring expertise. Our experience suggests that these new lenders are principally interested in a simplified interface and reduced risk profile – and, as such, Siemens is already extending the scope of its involvement in certain projects by investing debt or equity as well as lending its expertise to help with project structuring and risk management.

Last year's standout transaction – the landmark €2.8 billion Project Gemini – provides a good model of how offshore wind projects can be structured in order to tap this lender appetite. The project brought funding from four equity investors – including Siemens Financial Services – totalling around €500 million, subordinated loans of €200 million, and loans from banks, export development agencies and credit insurance companies amounting to somewhat over €2 billion.

Following the example of large-scale energy projects in the more mature oil and gas sectors, reducing the number of contracting parties to just two leading offshore wind companies reduced construction interface risks and simplified project management. In this project, Siemens Wind Power Division entered into a long-term maintenance and service contract for its offshore wind turbines, while another project sponsor, Van Oord, provided an engineering, procurement and construction (EPC) wrap. The dovetailing of these two contracts helped us at Siemens Financial Services, along with the other sponsors, accelerate financing negotiations with the bank club on this landmark transaction, as lenders were comfortable with the project's risk profile.

As capital demands for offshore wind construction become more intensive, multi-source financing solutions will play a bigger role. But beyond capital provision, they also have another key benefit: they enable different partners to each bring their own skills to the project alongside their equity stake. For instance, Gemini brought together the significant industry experience of lead sponsor – Canadian utility Northland Power – with Siemens' technological and financing expertise and the unique industry, technical and regulatory experience of the other equity partners; Van Oord Dredging and Marine Contractors and renewable energy company HVC. The synergies this partnership fostered significantly contributed to the project's progress during construction.

Operational-stage financing: opportunities for refinancing assets exist

An increasing number of institutional investors are also looking at the sector, attracted by the long-term and stable returns of these projects. They have the ability to deploy substantial amounts of capital in any given offshore wind project.

There are growing opportunities to refinance offshore wind assets at the operational stage.

And so, with the number of operational offshore wind farms increasing and strong investor appetite, there are growing opportunities to refinance offshore wind assets at the operational stage. Indeed, the recent issuance by OFTO TenneT of a €1 billion dual tranche green bond was two times oversubscribed, showing healthy capital market interest provided the right financing instruments are made available. Similar use of innovative bond financing can also play an important role in helping to recycle capital back into construction, or even development, thereby improving the efficiency of financing across project lifecycles.

A promising future

Offshore wind has taken positive steps forwards, and a diversified investor base and innovative financing solutions across the project lifecycle suggest a bright future for the sector.

Certainly, the speed at which financial close was reached on the recent €1.9 billion Veja Mate project off the coast of Germany – which will be among the largest wind farms in the world, producing roughly 1.6 terrawatt hours of electricity per year – is testament to this bright future. The fact that Veja Mate reached financial close less than a year after its acquisition highlights the bankability of well-structured projects, as well as the strength of the German regulatory framework for offshore wind.

Indeed, if the offshore wind market is to continue growing, it is vital that investment in innovation and global supply chains continues and is encouraged by governments. Companies need confidence about the trajectory of future market growth in order to make longer-term investment in research and development and innovation in production viable. As such, governments must provide a commitment to a clear vision of their offshore wind goals and work closely with private sector offshore wind partners in order to develop long-term offshore industrial strategies with robust pipelines of projects in which to invest. The successes achieved by the UK, Germany and Denmark show that this can be done and should serve as models of how strong political will, supportive financing mechanisms and private sector innovation can accelerate deployment of offshore wind technology.

This year may be a milestone in the global response to climate change. It may also be a milestone in the development of the offshore wind market. Success will rely on the technology, of course, but also effective financing solutions throughout the project lifecycle.

Roland Chalons-Browne is CEO of Siemens Financial Services