More than half a year has passed since Hurricanes Irma and Maria made landfall in the Caribbean and left a trail of destruction through the region’s energy generation and distribution infrastructure. While dedicated local and international organizations have made great progress toward rebuilding Caribbean energy systems, there is still much work to be done.
Across the Caribbean, three innovative finance approaches may be able to play a role in rebuilding infrastructure to be more efficient and resilient by embracing clean energy technologies.
1. Bundling projects
As economies grow, energy demand grows in kind, particularly among small and medium-sized commercial businesses. This trend creates new opportunities for energy companies and service providers to develop smaller-scale renewable infrastructure that can save money and increase reliability. As a result, the number of commercial and industrial energy requests for renewable energy systems are increasing in many Caribbean countries. These projects alone, however, are often too small to attract the interest of development banks and other large lending institutions. In some countries, the absence of development bank interest means capital is hard to come by for energy project developers. Bundling projects may prove to be a technique for creating larger finance portfolios in smaller markets that open doors to capital.
These projects may be, for example, small industrial facilities with demand of one megawatt (MW) or more, or local utilities looking to add rooftop solar to municipal buildings and need funding for five or 10 MW projects. However, international finance agencies will generally only look at projects where a debt amount of $25 million or more is needed. As better data emerges for developers to understand, analyze and de-risk solar investments, bundling projects enables larger financial institutions to commit to a portfolio of smaller renewable energy projects and fund urgently needed projects in the Caribbean.
Much of the energy industry struggles to understand project bundling because it differs from more common finance packages for larger individual projects. Securing buy-in from wary lenders requires tactics to address collateral security over multiple sites and managing multiple contracts with differing terms. The project portfolios should look like small, corporate transactions and need to be represented as such. In most cases, the developer will need to assume construction risk – the cost and time necessary to structure a construction loan component of the financing may overly complicate the process, especially when the construction timeline can be as short as three months for an installation.
Local financing is available in certain markets, but terms of greater than eight to 10 years are unusual for local lenders even for an asset class with useful lives of 20 to 30 years. Bundling increases those loan sizes, justifying investment from development banks and in turn increasing terms to 15 to 16 years and lowering borrowing costs. Through this greater access to capital and reduced borrowing costs, projects for reliable renewable energy in the Caribbean become more economical.
2. Mission bundling
Another option is tying financing to specific objectives and accomplishments, which is a common practice for development organizations. This tactic, though it originated with international development agencies decades ago, is appearing in new iterations with timely and more mainstream applications like the Caribbean Climate-Smart Coalition – an $8 billion climate investment plan to create greater energy and infrastructure resilience in the Caribbean. The initiative brings together international governmental and non-governmental organizations like the Inter-American Development Bank, the World Bank and the Caribbean Development Bank with businesses and supporters from the Caribbean and the international community.
The Coalition’s funds will be put toward hurricane reconstruction and targeted projects with programs such as a debt-for-resilience swap initiative. The goal of the debt-for-resilience swap initiative is for utilities, governments and businesses to exchange demonstrated progress on resiliency initiatives for financing. In doing so, the people and organizations at the forefront of rebuilding efforts in the region will build a foundation for the additional public and private funding needed to see projects through to completion.
With the Caribbean Climate-Smart Coalition and other types of mission-bundled energy finance, microgrids will flourish because they allow countries to reduce strain on centralized grids by operating independently when needed, enabling a quicker recovery after disasters. Economics, as always, remain critical with these innovative approaches. The remarkable drop in construction and generation costs has made renewable energy cheaper than natural gas or fuel oil in many countries.
By lowering the barriers to financing resilience-focused energy projects, the Caribbean Climate-Smart Coalition aims to kick-start collaborations that will open channels for climate-smart investments. Within these partnerships, a concerted effort must be made to avoid introducing time-consuming bureaucracy and to simplify coordination among large, multilateral agencies for what in many cases will be relatively small investments in infrastructure. Innovative action is key to assure that the mission-bundled effort can succeed where project-specific funding has not. Care is also needed to encourage and facilitate continued private capital investment to maximize the benefit achieved by the program.
3. Creative insurance
Recovery is progressing in the Caribbean since the hurricanes of 2017. But just when you thought things were getting back to normal, another devastating storm is about to hit the islands – this time it is a shocking rise in insurance premiums.
Most Caribbean energy project managers are used to high insurance rates needed for hurricane coverage. After a major storm, rates always increase in the years that follow. Based on the size and intensity of last year’s hurricanes, 2018 is shaping up to see the mother of all insurance increases. Increases are driven by two factors: 1) insurers increasing premiums to rebuild the reserves depleted by big payouts and 2) reduced insurer appetite to cover storm risk at all, further limiting the amount of coverage available.
Caribbean energy companies are facing storm coverage premiums that are 14 or 15 times basic property insurance costs. These costs will bankrupt some companies or force them to go uninsured. Others will see deep margin cuts that drastically limit funds available for new investments.
Getting creative with new insurance models could smooth the impact of these storms on premiums. One idea is to establish a special hurricane insurance program fund focused on the Caribbean with financial support from the international banking community. Such a program could provide catastrophic coverage for energy project losses in excess of 20 – 25 percent of the asset value for projects. To qualify for this coverage, projects would have to buy commercial insurance for the initial 20 – 25 percent of the loss and some level of self-insurance could also be allowed. Such a program would lower the cost of commercial coverage while still limiting risk exposure and allow for regional pooling of the excess damage risk – ultimately lowering costs across the board.
With so much devastation still keeping people in the dark across the Caribbean, there is no question that local and international stakeholders must use every possible approach to secure financing for rebuilding. And with climate change making powerful hurricanes more frequent, it has never been more important to rebuild with resilience and sustainability in mind.
The preceding tactics for financing these crucial projects are all dependent on third-party financing, which tends to be more flexible than local funding. While maintaining public interest in and support for energy projects is critical to their long-term success, financing from international sources can free up governments to focus on new value metrics for energy infrastructure. For growing economies, a little debt can be a good thing for getting them to where they want to be.
Originally published on: Renewable Energy Caribbean