ABSTRACT
India’s energy sector is experiencing a
ENERGY FINANCE &
RISK MANAGEMENT
[Document subtitle]
transition with increasing penetration
of renewable energy in the energy mix.
One of the major impediments in the
process of such a transition is to secure
the necessary finance to achieve the
transformative goal of producing 175
gigawatts of renewables by 2020. The
study analyses the investment in
renewable energy market. Its analysis
focused on the changing market
landscape in the form of market
concentration in investment decision
for RE. It also identify the risk
associated with the RE deployment and
address these risk through combination
of policy and market based
intervention.
Kunal Fulewale
PRN: 18020448037, MBA(E) 2018-21, Weekdays
 A Project report on
“ENERGY FINANCE & RISK MANAGEMENT”

Project report submitted to SIMS, KIRKEE, PUNE

In partial fulfillment of Requirement for the Award of degree of

EX- MASTER OF BUSINESS ADMINISTRATION

By

Kunal B. Fulewale

PRN No. 18020882037

Under the valuable guidance of

Prof. Rahul Dhaigude

SYMBIOSIS INSTITUTE OF MANAGEMENT STUDIES

Ex MBA 2018-2020 (SEM III)

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 DECLARATION

I, Kunal B Fulewale the undersigned, hereby declare that the project

report entitled “Energy Finance & Risk Management” written and
submitted by me to the SIMS, Pune, in partial fulfillment of the
requirement for the award of degree of Master of Business Administration
under the guidance of Prof. Rahul Dhaigude. This is my original work
and the conclusions drawn therein are based on the material collected and
data analyzed by myself.

Place : Pune

Date: 18/10/2019 Kunal B Fulewale

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 ACKNOWLEDGEMENT

I take this opportunity as privilege to express my deep sense of gratitude

to Prof. Rahul Dhaigude for his continuous encouragement, invaluable
guidance and help for completing the present research work. He has been
a source of inspiration to me and I am indebted to his for initiating me in
the field of research. So in the same sequence, I would like to thank Prof.
Rahul Dhaigude for his support and expert guidance in preparing the
report.

I would like to thank SIMS for conducting such confidence building activity
as a part of academics of ex-MBA.

At last but not least, I would remain indebted to all my friends, teachers
and all concerned persons for their precious support in the preparations of
this project.

Thanking all,

Place: Pune Signature

Date: 18/10/2019 Kunal B Fuewale

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 Certificate

This is to certify that Mr. Sandesh O Lohiya (PRN No. 18020884037)

student of Symbiosis Institute of Management Studies, Ex-MBA 2015-17
Sem III, has successfully carried out the project titled “ Sources of Long
term Financing ” under my supervision and guidance as partial fulfillment
of the requirement of Ex-MBA (SIMS) Batch 2018-20.

Prof.Rahul Dhaigude

Project Guide - Finance

Date: 18/10/2019

Place: Pune

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Objective :

The study analyses the investment in renewable energy market. Its analysis
focused on the changing market landscape in the form of market concentration in
investment decision for RE. It also identify the risk associated with the RE
deployment and address these risk through combination of policy and market
based intervention.

The motivation for the study came from the Global investment flows into
renewable energy (RE). It has increased rapidly, with RE investment outstripping
investment in thermal energy globally in 2017. India’s RE capacity has grown ten
times in the last four years. India is primed to become one of the largest renewable
energy markets in the world in the coming years. The rapid pace of growth in the
market and investment is accompanied by, and often function of, the evolution of
the industry landscape for renewable development.

Scope of work :

The analysis will reveal the trends of market concentration among renewable
developers, the stake holder challenges in scaling up the model and the credit
worthiness of off takers which would impact on renewable investment decisions.

Methodology :

This study will begin by outlining the RE ecosystem in India, through detailed
secondary research. Identifying the key stakeholders in the RE sector in India and
market interactions helped supplement our understanding of RE-specific issue to
investment.

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 INDEX

Sr.no Topics Page no.

A. INTRODUCTION 7

B. RENEWABLE ENERGY IN INDIA : BRIEF OUTLOOK 8

C. STRUCTURE AND PATTERN OF RENEWABLE ENERGY 10

FINANCING IN INDIA
D. THE NEED & CHALLENGES IN DIFFERENT REGIONS 12
ACROSS INDIA

E. RENEWABLE ENERGY FINANCING IN INDIA: 16

INCENTIVES AND INSTRUMENTS

E.1 Designing a Clean Energy Investment Trust (CEIT) 18

E.2 Recognition of Priority Sector Lending 19

E.3 Soft Loans from IREDA 21

E.4 Green Bonds 21

E.5 Infrastructure Debt Fund 22

E.6 Crowd Funding 22

F. ASSESSING THE IDEAL ALLOCATION OF RISKS FOR 23

DIFFERENT INVESTMENT AND EVALUATING
INSTRUMENTS

F.1 Principles for assessing how risks should be 23

allocated

F.2 How different ownership models imply different 24

risk allocations

F.3 Evaluating the instruments 25

G. CONCLUSION & NEXT STEPS 26

G.1 Recommendation and next steps 27

BIBLOGRAPHY 29

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A. Introduction

The energy sector of any economy holds critical importance for realizing its
developmental goals (IEA 2015). The primacy of energy, however, has
received a renewed thrust in an era where the nexus between energy and
climate change has occupied the central position in the policy agenda and
requires strategic energy sector interventions to arrest the imminent threats
of climate change. India, being one of the fastest growing economies across
the globe, one has, of late, witnessed major transformations in its energy
systems and structures with strategic policy thrust on promoting renewable
energy. This is also in line with India’s growing strategic global importance as
a country that increasingly assumes center stage in global renewable energy
order. A glaring example of such strategic importance is evident from the lead
taken by India in forming the International Solar Alliance (ISA) on 1 December
2015, with a goal to mobilize joint global efforts to address the climate change
concerns. This conscious policy decision to promote renewables has become
imperative with burgeoning domestic energy demand spurred by high
economic growth, rapid urbanization through initiatives like Smart City
projects, and recent industrialization measures such as ‘Make in India’. Not
only is this the policy priority of the Government of India to provide 24X7
electricity to all the households by 2019, but it is expected to add about 600
million new electricity consumers by 2040, leading to a significant increase in
demand. Studies have asserted that there would be a dramatic rise in the
electricity demand in the country, leapfrogging from the present capacity of
300 GW to more than 1,000 gigawatts (GW) by 2040.

Hence, charting the future energy trajectory of the country that is more secure,
sustainable, and technologically advanced looks challenging. Challenges loom
large as the Indian electricity sector continues to suffer from multiple
distortions. Operational constraints, such as declining capacity factors poor
financial health of power distribution utilities, and infrastructural-related
constraints continue to disrupt the electricity sector of the country. On the top
of this, India is infamously known as one of the energy deprivation hotspots
globally, with per capita availability of electricity close to one-third of the global
average and about 239 million people are still deprived of basic minimum
access to electricity. However, despite the presence of such anomalies, a
transition to a low-carbon regime with a specific thrust on renewable energy
looks promising. The early signs of such transitions are already visible. For
instance, the year 2017 has been recorded as a landmark year in the history
of renewable energy development in the country primarily because of two
important considerations; one is that for the first time, the renewable energy
capacity addition has outpaced the conventional capacity addition for the first
time in the history of India; second, the year 2017 also witnessed an
unprecedented fall in the renewable energy price, in particular the price of solar
and wind energy, falling below INR 3 per kWh, which is roughly less than $0.5
per kWh. However, the process of this transition to a low-carbon energy regime
is not smooth. Though the promise looks worth strategizing, renewable energy
development confronts a host of structural, governance, and institutional
hurdles. Despite clear strategic policy thrust on promoting renewable energy

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in the country, the vision continues to be blurred by the country’s complex
political system and the multiplicity of institutional settings governing the
energy sector. The ownership structure of the renewable energy sector in India
also causes some form of hardships for the sector. Renewable energy, unlike
the conventional forms of energy, is primarily driven by private sector. This is
evident from the fact that while two-thirds of conventional power generation
capacity is with the direct ownership of Central and State governments, in the
case of renewable energy, the entire responsibility of developing the sector
rests with the private sector. Given the emphasis on private-sector-driven and
commercially focused renewable energy development in the country, one of
the major concerns for the sector revolves around mobilizing the required
finance (IEA 2015). More specifically, mobilizing cheap and adequate finance
to achieve the ambitious target of 175 GW of installed renewable energy
capacity by 2022 appears to be a major stumbling block. One of the key
questions related to the financing of renewable energy is “where would all
these finances come from?” Given that the onus of renewable energy
development in India rests on the private sector, which is more sensitive to
associated risks and uncertainties, it looks more challenging.

B. Renewable Energy in India : A Brief Outlook

The genesis of renewable energy development in India could be traced back to

the global oil crisis in late eighties. The Government of India has been, since
then, striving consistently to develop renewable energy sector with a set of
strategic policy and regulatory measures. Given the constitutional status of
energy strategic policy initiatives are framed from time to time both by the
federal government as well as provincial governments to expand the renewable
energy sector. However, the most recent policy thrust to transit to a greener
energy regime is manifested in the Government of India’s transformative
energy vision to produce 175 GW of renewable energy by 2022. Solar power
has been given a place of pride in the renewable basket with the specific policy
pronouncement of the Jawaharlal Nehru National Solar Mission. Similar policy-
level initiatives, such as provision of 24 X 7 power availability across the
country by 2019, are clear reflections of the thrust laid on renewable energy.
This emphasis also further reiterated by India’s global climate pledges made
to UNFCCC through Intended Nationally Determined Contributions (INDCs).
The global climate commitment to sourcing 40% of its energy from renewable
energy by 2040 is a clear indication of policy-level priorities on renewable
energy. Not only this, but the current energy mix also indicates such changing
policy focus on energy generation with increasingly larger share of renewables
in the country’s energy basket. Figure 1 captures the installed capacity of the
country by source.

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 Fig 1 : Energy Mix by Installed Capacity in India in 2017

It is clear from the above figure that renewable energy generation capacity in
the country has touched a new height with about 18% of the share constituting
about 57,245 MW of the total capacity of the country. A further decomposition
of this installed capacity shows that about more than 50% of this installed
capacity is wind energy capacity, about 20% capacity is solar energy capacity,
and rest are small hydro, biomass, and waste-to energy sources. However, the
most recent trend suggests that solar power is occupying an increasingly larger
space in the renewable energy basket.

Fig 2 : Primary Energy Consumption in India in 2016

However, mapping of primary energy consumption does not really point to such
a transition, primarily due to over reliance on biofuels and oil products (Fig 2).
This clearly reflects that rural India continues to depend on fossil fuels for its
primary energy consumption. This also reveals that India has a long way to
travel in terms of complete energy transformation. On other hand, renewable
energy as a source of electricity has been fast replacing other sources of energy
in the country. It can be gauged from the various growth projections of
renewable energy made for the country. For instance, the National Action Plan

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on Climate Change (NAPCC) targets aim to have 15% renewable energy
consumption by 2020. Estimates by the NITI Ayogo’s “heroic scenario” presents
a very ambitious future target of 410 GW of wind and 420 GW of solar by 2047
(GoI 2014). The most important projections are made by IEA in its New Policy
Scenario (IEA 2015). It suggests that electricity generation capacity in the
country will increase more than three times by 2040, with compound annual
average growth rate of about 7% per annum. The detailed projections by IEA
under the New Policies Scenario are presented below in Table 1.

C. Structure And Pattern of Renewable Energy Financing In India

Technological artifacts of renewable energy systems are significantly different

from the conventional power system. Hence, the cost elements also differ for
both the sectors. The cost characteristics are such that renewable energy
projects are highly capital intensive in nature, with zero fuel cost, in contrast
to conventional energy systems. These zero recurring costs do have positive
implications on the average electricity prices, which are less volatile in nature.
Considering the technological characteristics of the sector, it has been
projected that an investment requirement to meet the ambitious target set by
the Government of India of setting up 175 GW would be around $189 billion.
It is interesting to dwell more on the market structure of renewable energy in
India. Unlike the conventional energy sector, the onus of developing the
renewable energy sector is with the private sector. The challenge for the sector
is then to mobilize private capital at a pace and rate in tune with the policy
targets and goals. This is imperative due to the limited availability of public
budget. Whatever limited public financing is available, it is primarily used as
support funding to incentivize private capital to flow into the sector. It is built
on the premise that private sector has the potential to fund the sector;
however, it requires an enabling framework to be created by the government.

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 A deconstructed financial mapping for the sector reveals that the renewable
energy sector is being driven by private investors and there is reliance on
banking institutions to mobilize the necessary finance. However, there has
been a reluctant attitude among the banking communities to finance renewable
energy projects primarily due to associated risks and uncertainties with these
projects. This is evident in a recent study that clearly brings out that a
substantial amount of finances from government-owned banks and other
financial institutions have been flown into coal projects, rather than renewables
(CFA 2018). This financing pattern is also very much in alignment with the
debt-equity type of financing, where 70% of funds are sourced from debt and
30% are mobilized as equity funding. It is also contended that the debt costs
of renewable energy projects in India is 24% to 32% higher than what it is in
the United States and Europe, calculated on the basis of the levelized cost of
energy (CPI 2012). On the other hand, the equity component of financing,
traditionally, provided by the project developers, has experienced a
metamorphosis. Recent financing patterns reveal that equity funding is
provided by third parties, such as private equity (PE) investors. This is evident
as equity investment in renewable energy in India is gradually moving from
balance-sheet financing to project-based financing. Though the financing
structure of renewable energy in India is dominated by bank finances, of late,
a variety of investors are found in the renewable energy space in Indian
market. They range from commercial banks to private equity investors,
institutional investors, and to development banks. The table below (Table 2)
maps the presence of various types of investors in the renewable energy
market. It can be observed from the table that the most recent type of
investors in the space is the venture capital type of investors to support the
equity component under the project-based financing mode. However, the
presence of foreign banks is conspicuous by their absence.

A detailed bank and non-banking financing of renewable energy projects reveals

that about $2,570 million have been committed by several banks (Please refer
to Table 3). Of this, about 20% of the amount has been committed by IDFC.
The table also clearly reflects the fact that the commitments are largely made
by non-banking financial institutions.

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C.1 Market Concentration through Private Sector

Market concentration in this analysis has been defined as the total sanctioned
name plate capacity by a particular firm as a share of the overall projects
sanctioned in that year. In estimating the share of projects for a particular firm,
all projects sanctioned by its subsidiaries have been grouped together. For
example, projects awarded to Parampujya Solar Energy Private Limited and
Prayatna Developers Private Limited, both subsidiaries of Adani Green Energy
Limited, have been considered as projects awarded to Adani. Tables 1 and 2 list
the top 10 firms in descending order of sanctioned capacity for each of the years
under assessment. The definition of market concentration adopted in this report
is different from the traditional metrics of market concentration such as the
concentration ratio and the Herfindahl-Hirschmann Index (HHI), which reflect the
extent of market dominance in terms of the pricing power enjoyed by firms in their
respective industries.4,5,6 Although market concentration as defined here may
not be a direct measure of market power, it does provide an indicator for the
relative influence of top firms in driving investment decisions. By contrast, this
report describes the concept of industry consolidation through the degree to which
the total number of firms taking investment decisions is changing, due to
developers entering and exiting the market, or mergers and acquisition activity.

Investment in both solar PV and wind generating capacity is characterised by the

dominance of a few firms, with the top five and top 10 firms adding more than
40% and 60% of sanctioned capacity respectively each year for both markets. By
comparison, some 40-80 firms for solar PV and some 20-50 firms for wind,
depending on the year, drive the overall investments in new solar PV and wind
capacity.

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 Table 4 : Market Concentration in the sanctioning of new solar PV capacity

Table 5 : Market Concentration in the sanctioning of new wind capacity

The concentration in investment decisions for both solar PV and wind generating
capacity is unsurprising given that one of the major sources of competitive
advantage in these markets is access to finance on favourable terms, with the
cost of finance accounting for over 60% of solar and wind power purchase
tariffs.7,8 In particular, those firms with access to favourable sources of finance
through foreign private equity investments, lower cost foreign debt, balance-sheet
strength, or by virtue of being state-owned enterprises are able to undercut the
competition consistently and win bids.

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Fig 3 and Fig 4, the evolving market concentration of sanctioned solar PV and wind
generating capacity, respectively. For solar PV, market concentration increased in
2015 with the announcement of the new 100 GW by 2022 target, with close to
85% of the total sanctioned capacity coming from just the top ten companies.
However, concentration among developers dipped significantly the following year
with many more players entering the growing market. Factors such as declining
module prices, a decline in interest rates for solar projects, and greater interest
in contracting for solar power by offtakers resulted in increased bidding activity.
That said, increasing competition among developers crowded out some of the
smaller players active in 2016 and resulted in just five companies sanctioning 50%
of the new generating capacity in 2017. Further, market uncertainties around the
impact of the goods and services tax (GST) and the imposition of trade duties on
imported solar modules, and the related impact on tendered projects under
construction, also contributed to increase in market concentration. The total
number of companies sanctioning new capacity in 2017 was nearly half of the total
firms active in 2016.

Interestingly, the market concentration in 2017, after the fluctuations of previous

years, is very similar to the concentration levels in 2014-even as the total number
of firms participating in the sanctioning of new capacity declined by nearly 20%.
Given this observed trend towards greater industry consolidation and the intensity
of competition among developers within tendering processes, the market could
become more concentrated in the future. However, the design of solar tenders by
central and state government actors which limits the maximum capacity awarded
to a single parent company (including subsidiaries) in any single bid, could limit
future market concentration to some extent.

Fig 3: Market Concentration in the sanctioning of new solar PV capacity

The wind sector saw a decline in market concentration in 2015, which was a
reflection of the reinstatement of 80% accelerated depreciation benefits, which
allowed developers to immediately write-off the costs of new wind power projects
in the second half of 2014. This reopened the playing field for developers, leading
to the participation of a greater number of firms in the sector. The rising market

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concentration in subsequent years is a reflection of industry consolidation10 as
the transition to competitive auctions for wind projects significantly reduced the
financial buffers and profit margins for developers. This effect contributed to the
crowding out of several of the smaller players who did not enjoy the same access
to capital or who were not able to improve their business processes in order to bid
for larger lot sizes.

These observed trends could result in greater market concentration in the future.
The level of concentration in the wind sector is even greater than in the solar PV
sector, with the top ten companies contributing more than 90% of the sanctioned
generating capacity in 2017. However, the total number of active firms has also
been on the decline since 2015. In 2015, five firms contributed 40% of capacity
addition, but 47 firms contributed the remaining 60%. In contrast, the total
number of contributing firms in 2017 shrank to 17, pointing towards greater
industry consolidation in addition to market concentration. This evolution occurred
despite the design of the wind tenders, which limits the maximum capacity that
can be awarded to a single parent company.

Fig 4: Market concentration in the sanctioning of new wind capacity

Among the leading firms, while a few companies feature regularly among the top
developers of new capacity, they are not always the same (Figure 5). The churn
rate is defined as the extent of change in the top 10 developers with respect to
the previous year. For example, five firms from the top 10 bid winners in solar in
2014 lost their positions in the top 10 to five new firms in 2015. This is represented
as a churn rate of 50% in 2015. The relatively high churn rate (greater than or
equal to 50% every year for both wind and solar) is perhaps indicative of the
limitations of the capacity of even the top firms to finance new projects every
year, especially in the face of increasing market competition. In addition, firm-
level portfolio considerations pertaining to the diversification of projects across
locations and across off takers could also have affected the bidding pattern of
specific developers.

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 Fig 5: The churn rate is quite high for the top developer

The high churn rate seems to suggest that despite high levels of market
concentration, there is limited industry consolidation as the biggest market
contributors change year on year. This could be a function of a young market,
with several players competing to capture a growing share of the market.
However, it is interesting to note that in terms of total operating capacity, some
firms are clear frontrunners.

D. The Need & Challenges in different regions across India

Indian electricity supply and demand as a single unit, unhindered by transmission

costs or constraints. The reality is different as India is a large and diverse country
with significant transmission costs and constraints. An important consideration in
developing a flexible Indian electricity system is a trade-off between building
additional local flexibility or building transmission to harness excess flexibility in
one region to use in another. Local flexibility can involve building batteries or
prioritising demand side or power plant options in one area, whereas pan-India
flexibility might enable balancing loads between regions with disparate needs. For
example, regions with excess generation during the monsoon season may balance
those that have excess solar production at different times of the year.

A complete evaluation of transmission requirements would require detailed

assessment of demand and power plant options in each state and an India-wide
transmission model to forecast costs and constraints. This analysis is beyond the
scope of this study, but given the range of uncertainties in the estimates of option
availability in 2030, it is unlikely that the detailed analysis would provide a great
deal of valuable insight. Instead, we have investigated the flexibility needs of four
individual states – with different electricity supply and consumption characteristics
and flexibility needs – to ascertain how limiting interstate exchange of flexibility
might affect the results, and to evaluate how transmission planning and interstate

16
exchanges and markets should be incorporated into a dedicated flexibility
development policy.

A complete evaluation of transmission requirements would require detailed

assessment of demand and powerplant options in each state and an India-wide
transmission model to forecast costs and constraints. This analysis is beyond the
scope of this study, but given the range of uncertainties in the estimates of option
availability in 2030, it is unlikely that the detailed analysis would provide a great
deal of valuable insight. Instead, we have investigated the flexibility needs of four
individual states – with different electricity supply and consumption characteristics
and flexibility needs – to ascertain how limiting interstate exchange of flexibility
might affect the results, and to evaluate how transmission planning and interstate
exchanges and markets should be incorporated into a dedicated flexibility
development policy.

Four states with different mixes of energy:

Tamil Nadu where wind is already close to 30% of the capacity mix faces seasonal
balancing challenges. By 2026/27, nuclear and renewable generation at
approximately 42GW are expected to outstrip demand during the monsoon
season. In the absence of flexibility measures the state will face the dual economic
impact of curtailment of must-run renewables and compensating thermal
generation for capacity not called. The left side of figure 6 shows how by 2030 the
residual demand after renewables and must-run hydro, which must be met mainly
by thermal generation, falls to 1% in the lowest month of the year. That is, power
plants in Tamil Nadu would be, effectively, completely shut down in the absence
of sufficient transmission export capacity. This figure compares to 30% for India
as a whole.

Karnataka’s renewable capacity today represents half of its total; by 2026/27

solar at 18.8GW will make up 40% of its capacity mix. Solar energy output declines
rapidly around sunset. Karnataka, with its growing household wealth and energy
demand, sees its energy demand increasing during those same evening hours.
The result is that the rate at which the thermal and hydro power would need to
increase – that is the ramp rate – is growing rapidly. By 2030, Karnataka will need
to increase its capacity by 30% of its peak demand in just one hour. This figure is
double our forecast for India on average. In the absence of flexibility measures,
the significant mismatch between the daytime generation and evening peak load
will lead to demand for substantial ramping needs of about 11GW.

Uttar Pradesh meets its demand largely through contracted thermal capacity
and has relatively low renewable energy ambitions. Simultaneously Uttar
Pradesh has a relatively well-established industrial base and has a diverse
potential for demand flexibility, 12GW spread across AC, agriculture pumping
and industry. With access to adequate transmission and distribution
infrastructure, the state could look at exporting the flexibility, especially if it is
able to harness its demand flexibility potential.

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Bihar is a thermal generation heavy state with 4.3 GW of contracted capacity
faces internal challenges of its power deficit and balancing its own system as
demand grows rapidly from a relatively small base. Managing transmission links
internally and to other states could help it tap into over 1.5GW of demand
flexibility by 2026/27 could contribute substantially in addressing the deficit and
also reducing bills.

E. Renewable Energy Financing in India: Incentives and Instruments

Renewable energy financing in India reveals some interesting evolution and

patterns. A variety of incentives and instruments are present in the Indian market
to support renewable energy financing. The present section attempts to briefly
highlight the most important incentive schemes and instruments of renewable
energy financing in India. Historical analysis of the incentive structures for the
renewable energy could be traced back to the year 1992 with the creation of a
separate Ministry at the centre, rechristened later as the Ministry of New and
Renewable Energy (MNRE) in 2006. Since the very beginning, various incentives
have been provided from time to time to accelerate the growth of the renewable
energy sector in India. It is observed that there has been a transition from publicly
supported incentive mechanisms for renewable energy development in the
country to more of a competitively based incentive regime. Most relevant incentive
schemes prevalent in the renewable energy space in India and which have
bearings on the financing of the sector are of three important types i.e. accelerated
depreciation (AD), generation-based incentive (GBI) schemes, and viability gap
funding (VGF). AD is essentially a tax-based incentive on the tax returns of the
project developers. AD provides financial incentives to investors by relaxing its tax
liability on the investment. It was introduced in 2009 and continues as a
mainstream incentive scheme for wind projects until 2012. This was again
reinstated in 2014 and continues to date with some modifications. For instance,
the latest information shows that solar projects are eligible to avail depreciation
of about 40% of their investment. Generation-based incentive mechanisms (GBI)
offer an incentive per kWh of grid interactive solar and wind energy generation.
One of the prime goals of this incentive mechanism was to mobilize a variety of
independent power producers with a focus on promoting generation rather than
only setting up projects. This incentive is over and above other incentives such as
feed-in-tariffs, which are provided by state utilities. However, these incentive
schemes are largely withdrawn for utility scale projects, primarily due to the rapid
growth of the renewable energy market, leading to a dramatic fall in tariffs, which
have almost achieved parity with thermal power tariffs.As a consequence, there
have been new forms of smart incentive schemes introduced, such as viability gap
funding (VGF), a mechanism to finance economically justifiable infrastructural
projects that are not financially viable. This is usually a one-time grant provided
by government to make projects commercially viable. The VGF scheme has been
used by the Solar Energy Corporation of India (SECI) to promote solar energy
generation in the country. The latest available statistics show that about 785 MW
of tenders are considered to avail the VGF incentive. Apart from the above, solar
projects used to receive a 10-year income tax holiday, which has been scrapped

18
from April 2017. However, these incentive schemes are either redesigned or
downscaled with a dramatic fall in renewable prices in the country. In addition,
there exist a gamut of policy instruments, such as renewable portfolio obligations
(RPO), renewable energy certificates (REC), and feedin-tariff (FiT) schemes to
drive the renewable energy sector in the country. RPO essentially mandates power
distribution utilities and other obligated entities to procure a certain percentage of
electricity from renewable energy sources. These schemes are part of regulatory
requirements to transition to a green regime in India. However, issues exist
related to the compliance of such obligations, primarily due to concerns related to
the financial health of electricity distribution utilities at the provincial level. This
happened despite interventions by the Supreme Court of India. This compliance
problem also has led to the piling up and oversupply of renewable energy
certificates (RECs). The current RPO statistics indicate that percentages vary
significantly across states, such as 0.6% in Meghalaya to 10% in Karnataka for
non-solar RPO. These regulatory requirements have also gradually become
irrelevant with the introduction of competitive-bidding mechanisms as a
procurement mode of renewable energy.

The discussion of renewable energy financing in India is incomplete without a

discussion of the key organizational structure devised for the sector. Given that
technical contours of the renewable energy sector are different from other
economic sectors, attempts have been made by the Government of India long
ago, in 1987, to create a non-banking, dedicated financial institution, called the
Indian Renewable Energy Development Agency Limited (IREDA), as a Government
of India enterprise to promote renewable energy projects through financial
assistance. This institution works under the aegis of the Ministry of New and
Renewable Energy (MNRE) of the Government of India and offers financial support
to renewable energy projects by offering soft loans, counter guarantees,
securitization of future cash flows, etc. Beyond, IREDA, organizations such as the
Power Finance Corporation (PFC), Rural Electrification Corporation (REC), and
National Bank for Agricultural and Rural Development (NABARD), are the key
government agencies providing required finance for the renewable energy sector.
Apart from the above, there exist a host of banking and non-banking institutions
offering various financial services to accelerate renewable energy growth in India.
Apart from that, there have been efforts made to create new institutions,
mechanisms, and instruments to drive renewable energy development by
providing alternative funding avenues. This section briefly highlights all of them.

E.1 Designing a Clean Energy Investment Trust (CEIT)

The CEIT is at the core of our proposal to restructure renewable energy project
investment. The CEIT would be the lowest-risk and hence lowest-cost element of
the investment structure. The CEIT, structured as a long-duration, low-risk, listed
investment could be attractive for pension funds and insurance companies as a
means of “liability hedging”. If successful, it could expand potential for investment
by OECD institutions in renewable energy countries by a factor of 13 to nearly $4
trillion. Like the YieldCo, the CEIT is an investment vehicle designed for liability-
hedging investors who are unable or unwilling to take on illiquid assets. However,
the CEIT has crucial differences, the most important one being that it will not be

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allowed to buy or sell any projects once the portfolio is set. The ability to buy and
sell assets created a growth premium for the YieldCo, but this growth premium
adds significant risks around whether new assets will be available, what price the
CEIT will have to pay, the effectiveness of management in deciding which assets
to buy. Each of these risks is equivalent to the risks faced by an IPP or an IOU in
the course of their business. In other words, by adding the growth premium and
risks, the YieldCos began to look more like the IOU or IPP equity they were
designed to replace, rather than the bond-like instruments that liability-hedging
investors seek.

The CEIT must have the following essential characteristics:

1) Lower cost of capital by maximising the low-risk cash flows available to CEIT
investors. The central objective of the CEIT will be lower effective energy prices
through lower finance costs. Lower costs will make renewable energy more
competitive and encourage greater deployment, and will also make the CEIT
competitive in acquiring assets.

2) Deliver an attractive risk-adjusted return. Investors will need to get a return

that is high enough to compensate for their risks. For the first CEITs,
uncertainty around the concept might amplify risk perceptions and therefore
force returns slightly higher than investments with comparable risk profiles.
However, once investors are convinced that the level of risk in a CEIT is
equivalent to that of an investment grade bond, required returns – and thus,
capital costs – should fall.

3) Resilience and liquidity. Investors with a liability-hedging strategy will need to

be convinced that the CEIT can be useful for matching long-term liabilities. Our
interviews with investors suggest that there are two essential elements:

a) Investment grade risk profile. The vehicle will need to emulate the liability-
matching benefits of an investment grade bond, ie, the cash returns for a
CEIT will need to be as resilient to downside risks as a high-grade debt
instrument.
b) Liquid/publicly tradeable. Regulations and policies keep institutional
investors from making direct investments in renewables. To reach this
target group, the CEIT will almost certainly need to be traded and listed on
an exchange.

The primary structuring challenge we face in designing the CEIT is in achieving all
three of these goals simultaneously – and in particular addressing the tension
between maximising the size of the vehicle (by distributing nearly all available
cash to CEIT investors) and achieving an investment grade risk profile.

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How the CEIT can reduce the cost of renewable energy?

The CEIT would not meet our objective for reducing the cost of renewable energy
if it did not result in a cost of capital lower than that which is currently the case
for project financed assets and yieldco-owned assets. We reviewed a number of
packages of risk-mitigating tools which were effective at reducing risks for CEIT
investors but not at reducing the cost.

However, we determined that there were structures, which could enable

a reduction in the cost of renewable energy of between 15% and 17%.

E.2 Recognition of Priority Sector Lending

Considering the importance of the sector and the need for mobilizing capital by
the private sector, RBI has categorized the renewable energy sector as a priority
sector lending in April 2015. The primary purpose of such categorization, inter
alia, is to enhance employability, build basic infrastructure, and strengthen the
competitiveness of the economy. The RBI guidelines suggest that 40% of the net
credit of banks should be lent out to the priority sectors. However, there is cap
put on the bank loans for renewable energy projects. The loan ceiling has been
kept at $2.3 million per borrower (INR 15 Crore) for renewable energy projects
such as solar power generators, biomass based power generators, wind mills,
micro-hydel plants, and for non-conventional energy-based public utilities viz.
street lighting systems, and remote village electrification (RBI 2015).

Though the effort to list the sector in the priority lending sector is praiseworthy
and can enhance the ease of doing business. However, the current trend shows
that it has not resulted in flowing in the required finance from bank to the sector.
One of the reasons is due to the clubbing of renewable energy within the larger
umbrella of ‘energy,’ resulting in a larger chunk of money flowing into the non-
renewable energy sector. Given the magnitude of the exposure of the power sector
to bank loans, it becomes a cumbersome affair to mobilize additional loans
through the priority sector lending route.

E.3 Soft Loans from IREDA

IREDA extends loans to the renewable energy project developers that bear low
interest rates. The funding is routed through various modes, such as direct lending
and lending through various financial intermediaries such as providing various
lines of credits to NBFCs, and underwriting of debts etc. IREDA also uses the
NCEEF to provide subsidized debt at a 5% rate of interest to renewable energy
projects through select banks. IREDA often sources funds from international
agencies and banks to provide such loans for renewable energy projects. For
instance, European Investment Banks (EIB) has provided a long-term loan of Euro
150 million to fund clean energy projects recently. Similarly, the World Bank has
provided $100 million to IREDA to promote and develop solar parks. Along with
the soft loans, IREDA also offers other services, such as providing a letter of
comfort, discounting of energy bills, and providing credit enhancement facilities.

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However, it has been reported that IREDA as an organization has not been able
to continue as a leader in financing the renewable energy. There have been
regulatory concerns with the financing of projects in terms of delay in sanctioning
of loans. A recent study highlights that on average, sanctioning of projects is
delayed by about 66 days beyond the prescribed norm of 90 days.

E.4 Green Bonds

Green banks have emerged as an innovative tool for accelerating clean energy
financing globally. Such dedicated financial institutions are proved to be a
successful mechanism for leveraging the limited public finance to mobilize the
required private capital into the sector. The first such effort in India can be traced
back to the Indian Renewable Energy Development Agency (IREDA)’s plan in May
2016 to explore becoming the first green bank in the country. This idea was
conceptualized with an understanding that it would utilize limited public funds to
mobilize private funds in order to meet the overarching clean energy goals of
India. This was the result of a two-year discussion among various government
agencies such as MNRE and IREDA and other stakeholders. Several other
commercial banks in India have also taken initiatives toward converting to green
banks. For instance, the State Bank of India (SBI) offers long-term loans at
concessionary rates of interest to renewable energy projects. Green banks have
the potential to reduce the lending rates and offer flexible finance to match the
needs of renewable energy financing. It is posited that a green bank system in
India could address the persisting finance related challenges, such as minimizing
foreign-exchange risks, setting up an escrow facility, providing blended lines of
credit, etc.

There have been a host of concerns associated with the green banking initiative
in India. One of the basic concerns is about the legal sanctioning of such initiatives.
While the need for such banks is felt in every nook and corner, regulatory
mechanism in terms of recognition of these new form of institutions by the Reserve
Bank of India (RBI) is very much imperative. The goal that green banks will
mobilize the necessary finances at a cheaper rate has not been successful in India.
This is primarily because of a lack of mainstreaming of such kind of financial
institutions in the larger financial settings in the country.

E.5 Infrastructure Debt Fund

This is again an innovative financing instrument for renewable energy financing in

India. These funds can be created to accelerate and further the long-term debt in
infrastructure projects. The current regulatory regime allows such funds to be lent
to PPP projects. Such funds have been floated in the market by L & T IDF, India
infra debt, and IDFC IDF. Infrastructure debt funds can start investing in projects
after one year of their operation. IDF is currently primarily used to refinance debt
of infrastructure companies to mobilize up to 10% of their total outstanding
borrowings through shorter tenure bonds and commercial papers. It has been
reported that IDFs have yet make any impact in the country. One of the key

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reasons for such low growth of IDFs is the problem of availability of well-
performing projects, resulting in much less use of this instrument in the renewable
energy space in India.

E.6 Crowd Funding

Crowd funding has emerged as a new source of green financing in countries like
North America and Western Europe and has experienced tremendous popularity.
This kind of funding mobilizes funds from large number of small private investors
to reach the desired scale. Hence, it is more of a decentralized funding mechanism
to gather funds for renewable energy projects. This has become possible due to
widespread use of information and communication technology (ICT). One recent
example of such funding is by Sun funders. Crowd funding also has been employed
in India in the rural electrification space. Bettervest —a German crowdfunding
platform has been investing in ‘MeraGao Power’ and ‘Boond Engineering’—
initiatives to energize rural India through renewables. However, it appears that a
proper regulatory framework for such innovative fund-raising mechanism has to
yet to evolve in the country. It is also imperative to develop an understanding that
such finances are necessary to drive renewable energy in the country. Despite
efforts taken to mobilize the required finance for the sector through a portfolio of
sources, financing of renewable energy continues to be challenging for the sector.
The assessment of current investment flows and patterns reveal that the
investment flows fall short of the requirement to sustain the development needs
of the sector. The next section identifies such key challenges and offers some
plausible solutions.

F. Assessing the ideal allocation of risks for different investment and

evaluating instruments

Risk allocation is fundamental to reducing the costs of clean energy. By ensuring

each risk is allocated to who is best placed to manage, understand and bear it,
the risk is reduced as is the cost of financing that risk. In this way, correct risk
allocation minimizes the overall costs of a given investment (operating costs,
capital costs and financing costs). In this report, we focus on public versus private
allocation of risk as a key distinction (see Figure 2 below). In other words, should
the risk be borne by the public (taxpayers or consumers) versus private investors.
There are many sub categories of risk ownership below this “public” versus
“private” distinction:

Under “Public risk”, there are many different levels to which risk can be
“socialized”.

 Consumer versus taxpayer. Risks can be transferred to consumer through

economic regulation or costumer ownership (where some or all of the cost
risks are passed through to consumers via their tariffs). Or through public
finance or ownership (eg, municipal or state-ownership) risks are borne by
taxpayers. Socialising risks to taxpayers rather than consumers gives
greater flexibility over how costs are distributed across the population. But

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 also means costs are less targeted on users which can reduce incentives to
control them.
 Local, national or international. The socialization of risks can be very
localized (eg, if the investment is owned by local municipality or local
consumers), national (eg, national SOEs) or even international (eg, MDB
finance). The less localised the risk, the more remote those bearing the risk
are from the decision-makers and management. Which can mean there is
less direct pressure on decision-makers and they are instead more guided
by the mandates given to them (eg, to promote growth or development).

Under “private risk”, there are many different private players and the allocation
of risk between these is important in managing them effectively. Table below
summarizes all of the generic arguments for private versus public financing of risk.

Public Risk Private Risk

Cost of  Lower explicit cost of capital
Capital  Public bodies less likely to
misprice some risks
Cost of  Public sector may have
Operational greater ability to manage
efficiency risks around planning,
regulation and policy
Capital  Public bodies typically have
allocation greater understanding of
policy risk/change
Competition  Where competition is less or
& regulation weak, sate-
distributional control helps protect
issue consumers.
 Public balance sheet
may strained
 Opportunity cost of
public may be high
 Private shareholders and
debt providers can exert
stronger pressure on
cost efficiency
 Private investor may
provide stronger scrutiny
& diligence on
investment
 Greater scope of
competition to drive
innovation

F.1 Principles for assessing how risks should be allocated:

 Manage and control the risk. Being exposed to a risk gives an

organization incentives to manage that risk. Therefore, greater reductions
in a risk can be achieved by allocating it to the party best placed to manage
it. For example, if private investors can better manage costs/operations
than the public sector, exposing them to these risks increases efficiency.
This situation is often the case for construction and operating cost
management and there is a large amount of empirical evidence to support
this.
However, the argument for private finance of a risk varies hugely depending
on the type of risk, the market context and the technology. If the private
owners cannot manage a risk well (eg, regulatory or policy risk) exposing
them to it simply raises the cost of capital, or deters investment altogether,
without providing any offsetting efficiency or risk management benefit.

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  Understand the risk. If private investors have limited understanding of
the risk (eg, policy risk), they may misprice the risk through high premiums
on their hurdle rates and/or underinvest (or underprice and overinvest). In
this situation it can be optimal for the public sector to bear the risk as the
public sector does not require high risk premia for such risks, and it may
have a better understanding of them. For example, as policy-makers,
governments can be expected to have greater visibility of and comfort with
policy and regulatory risk. Given the high amount of policy risk in clean
energy investment, some state finance of risk may therefore be important
in reducing financing costs. For example, in developing countries, policy risk
can add more than 200-300 bps to the private cost of capital of a
renewables project, and public entities should be able to finance some of
this risk at a lower cost (eg, through guarantees or policy risk insurance).

 Bear and share the risk. Some risks entail very high cost but low
probability events which can be (i) difficult to absorb by a private firm and
(ii) cannot be easily diversified in private financial markets, or it is
expensive to do so (eg, if private financial markets are immature or illiquid).
For example, the clean-up costs for Fukushima nuclear accident were
$150bn. This cost is well beyond the market capitalisation of most private
generators and there is lack of private markets to insure such risks. Not
least because such risks are low probability/high impact events which are
very difficult for insurance firms to quantify and diversify (eg, they are not
negatively correlated with other events). As a result, some risks may need
to be explicitly or implicitly borne by the public sector or consumers,
because private investors simply cannot bear all of the risk.

F.2 How different ownership models imply different risk allocations

These ownership models result in different patterns of risks allocation. Figure 4

below, shows how at a generic level, these ownership models can allocate risks.
For example:

 Pure public ownership leaves risks with taxpayers. For example, if a

state-owned entity makes losses as a result of rising costs and/or falling
revenues, governments will cover these with taxpayer-funded equity or
debt injections.
 Under mutual or customer ownership, risks ultimately sit with the
customers who own the business. For example, if there are cost overruns
these will be passed onto customers via their tariffs.
 Private finance under fixed price regime leaves construction and
operational risks with the private owner while transferring some price risks
away. For example, a private renewable generator may sign a fixed price
PPA with a state-owned utility. In this case, construction and operational
risks remain with the private owner, but price risks are transferred away.
 Private finance under formal regulation offers a wide spectrum of
options for sharing risks between private investors and customers (eg,

25
 through different cost-sharing incentive rates). For example, a regulated
fossil power generator may be allowed to pass some or all of the changes
in its fuel costs through to consumers in their tariffs.
 Pure private ownership leaves risk with private investors. The private
equity and debt investors into these firms ultimately bear the gains/losses
associated with all of the risks.

F.3 Evaluating the instruments

Having identified the instruments that can be used to plug the remaining risk gaps,
the next step is to evaluate these instruments. This evaluation can follow a process
aligned with that described in Section 3, specifically:

 The impact on finance costs. In particular, what is the impact of the

instrument in reducing private finance costs (ie, the impact in reducing their
cost of capital)? And, where the instrument is public finance, how does this
compare to the finance costs for the public entity.

 The impact of operational and cost efficiency. We then need to consider how
the risk transfer affects operational and cost efficiency. For example, if
construction risks are partially transferred away from private investors
through a guarantee, will that have an impact on their incentives to reduce
costs? Or if price risks are transferred through a fixed price PPA or Feed-in
Tariff will that have any negative effects on dispatch efficiency (eg, it could
give plants incentives to run less flexibly making it more difficult to balance
supply and demand).

 Transaction costs. Finally, we need to consider the transactions cost

associated with the instrument. For example, there will typically be
arrangement, administration and monitoring costs associated with an
instrument, as well as potential legal costs if there are disputes around the
instrument (eg, arbitration costs in the event of a government contract
default). These costs can be high for bespoke instruments for small projects
(relative to the overall project costs) but often immaterial for generalized
instruments for large projects or industry-wide instruments.

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G. Conclusion & Next Steps:

The assessment carried out indicates that financing of renewable energy in India
continues to face multiple conundrums. The problem is largely entangled with the
nature of the financial market of India in general, such as short tenure of loans,
high capital costs, and lack of adequate debt financing, etc. Sectoral contours
further exacerbate the problem of mobilizing the necessary finance because of the
technological specificities requiring high capital costs and almost no operational
costs. In addition, inconsistencies at the policy and regulatory level, the juxta
positioning of the renewable energy sector within the ambit of the power sector,
and the lack of necessary support infrastructure, such as land, further compounds
the problem. Efforts have been undertaken from time to time to minimize such
risks and introduce innovative financing mechanisms that are in tune with the
technological transitions and need of the sector. Innovative mechanisms, such as
setting up of green banks, issuance of green bonds, infrastructure debt bonds,
sourcing crowd funding, etc. are proved to be successful to some extent. This is
evident, as recent statistics indicates that India globally is positioned as the third
largest country in terms of energy investments.

Risk should ideally be allocated to those best placed to understand and manage
it. To help policy-makers and investors achieve this we have developed a simple
four step framework for choosing ownership models and finance/policy
instruments for energy investments:

 Step 1: Identify the key risks and their impact, given technology type and
country context.
 Step 2: Assess how these risks should be allocated between private
investors, taxpayers and consumers.
 Step 3: Choose the most appropriate ownership model.
 Step 4: Identify and select instruments to “fine tune” the desired pattern of
risk allocation.

G.1 Recommendation and next steps

We are continuing to develop this framework so that it can be used as a practical

tool for energy ministries, finance ministries and development banks (as well as
for private investors in power generation). This framework is designed to
complement decision-making processes used by these institutions, such as the
“Cascade” approach currently being implemented by the World Bank.

This initial work has also suggested some key risks which are (i) having a major
impact of the cost of renewable energy and (ii) where further quantitative analysis
of the right risk allocations and ownership model/instruments to achieve this are
warranted. These include:

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 Price and offtake risks. These risks can have a large impact on the cost
of capital for renewables and, as we have argued, there is a good case for
transferring much of these risks away from private investors in many
contexts. To a large extent this risk allocation is already happening in many
countries through the use of fixed price PPAs for private investors. But in
turn the growth of this model means offtake risk is becoming a more
important issue. In many developing countries, the offtaker for PPAs is a
state-owned utility which is financially weak. As a result the private investor
can face large risks around contract default (or payment delay). Evaluating
the effectiveness of instruments to help manage these risks better (eg,
development bank insurance) is a key issue.

 Curtailment risk. As the penetrations of renewables in electricity markets

grow, curtailment rates are also likely to grow. In turn, curtailment risks
will grow and could have an increasingly large impact on financing costs,
depending on how they are allocated. As we have argued, in many contexts
most of these risks should be socialized, since private renewables
generators have limited ability to manage this risk once a plant is built.

 Development risks. The correct allocation of development risks is also

becoming a major issue for two reasons. First, renewables (eg, wind, solar)
tend to be geographically dispersed and the ability to acquire land, navigate
local planning rules and arrange grid connection Is critical to managing the
risks. Second, the growth of auctions amplifies these risks. For a private
developer the risks around (i) what the future auctions volumes will be and
(ii) whether they will be successful in these auctions can be very high,
implying a high cost of capital at the development stage. Given that
national/local governments and regulators have a major impact on these
risks (eg, they determine auction volumes and set planning rules), public
entities may be better placed to manage these in some contexts (eg, by
financing development work publicly as is the case with solar parks in
India).

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