Innovative Financing Mechanisms for Energy Efficiency in India

Sanjay Dube Vice President, Emergent Ventures International

Asia Clean Energy Forum, Energy Efficiency Workshop 20-21 June 2011 Manila, Philippines

Contents

Policy Initiatives for Energy Efficiency: India Financing Energy Efficiency Barriers to Energy Efficiency Financing Energy Efficiency Funds in India

Partial Risk Guarantee Fund for Energy Efficiency (PRGFEE) Venture Capital Fund for Energy Efficiency (VCFEE)

Conclusion

Existing Policy and Regulatory Framework for EE

Energy Conservation Act, 2001
Foremost policy directive of GOI, making EE distinct area of sustainability in the Indian policy regime , amended in 2010

A holistic document that integrates key elements of efficient use and conservation of energy, expresses legal intent and commitment It notified energy intensive industries as designated consumers, prescribed energy conservation building codes, standards and labelling for equipment and appliances Led to establishment of a statutory body, The Bureau of Energy Efficiency (BEE) assisting in developing policies and strategies with a thrust on self-regulation and market principles, within the overall framework of the EC Act BEE introduced several energy efficiency schemes and programs in the country, initiated, one of the more successful program is the Standards and Labelling (S&L) program

The Integrated Energy Policy of India, 2008 also emphasizes on energy conservation and efficiency, particularly through DSM measures with estimated energy savings of 15%

Policy and regulatory Frameworkcontd

The second key development in the history of EE in India till date has the formulation of:

National Mission for Enhanced Energy Efficiency (NMEEE) Under the National Action Plan on Climate Change, 2008 One among the eight missions of the Action Plan
The implementation plan for NMEEE seeks to: Further the work done so far , taking the EE efforts in the country to a next level

To promote innovative policy and regulatory regimes, financing mechanisms, and business models to create and sustain, markets for EE (estimated to be $ 16.4 billion) in a transparent and time bound manner
Four new initiatives to enhance EE: Perform, achieve and trade (PAT), Market Transformation for Energy Efficiency (MTEE), Energy Efficiency Financing Platform (EEFP) and Framework for Energy Efficiency Economic Development (FEEED) As a result the Mission envisages: a fuel saving of 23 MTOE every year
Over 19000 MW of capacity addition to be avoided Carbon-di-oxide emissions to be reduced by 98.55 Mt annually

FEEED under NMEEE

National Mission for Enhanced Energy Efficiency
Among the four initiatives

Framework for Energy Efficient Economic Development (FEED) Aims to develop innovative financial derivatives of performance contracts and fiscal and tax incentives for investment in EE

Reassuring the lenders by providing a guarantee for performance contracts Through Partial Risk Guarantee Fund for Energy Efficiency

Provide venture capital from government sources to provide equity for energy efficiency projects Through Venture Capital Fund for Energy Efficiency

Barriers to financing energy efficiency in India

Despite efforts, EE service delivery mechanisms (such as ESCOs) has not caught up in India. Reason include:
Limited Weak

number of ESCOs

balance sheets; unavailability of non-recourse finance, due to high risks perceptions banks unfamiliar with financial aspects of EE projects; thereby less willing

National Banks

yet to initiate comprehensive or long term lending programs for EE

Institutional barriers
Asset

based lending requirement of Reserve Bank prevents national banks from considering non-recourse lending with security of performance contracts yet to be demonstrated, receivables thus considered risky

Efficacy

EE

projects lack fiscal incentives to banks of institutional guarantee mechanism

Absence

PRGFEE & VCFEE are expected to:

Provide the much needed impetus to promoting energy efficiency financing in India by: Reducing/eliminating first cost barrier Improving ROI/Paybacks Financing project development costs Implementing pilots/demonstrations Informing/educating Financial Institutions Bundling projects Covering the initial risk Leveraging commercial financing

Partial Risk Guarantee Fund for Energy Efficiency (PRGF)

About PRGFs
A risk sharing mechanism (transfer and diversification), lowering the risk to the lender by substituting
part of the risk of the counterparty by that of the issuer of the PRG, which guarantees repayment of part of the loan upon a default event

Objectives: in case of EE the guarantee directly supports financing of EE projects by: addressing credit risk and barriers to structuring the transactions involved in financing EE projects engaging commercial FIs and building their capacity to finance EE projects on a commercially sustainable basis

Key Aspects of PRGF Structuring -careful market studies prior to introduction of the PRGs --identification of the right risk sharing formula --pricing of PRGs --size of the total fund --the governance structure

International PRGFs offer some learning's

Characteristics
Objective Components Size of the Fund Duration Guarantee coverage Guarantee Fees Types of Projects Fund Management

Details
Creating sustainable commercial lending market for EE; to tide over collateral issues & scale up of ESCO industry Guarantee mechanism & Technical Assistance program Wide variation depending on the country & size of the EE market Observed to be in the range of 5-12 years In the range of 50-90%, generally less than 100% to maintain the interest of the lender and ensure proper monitoring of the borrower 1-1.5% of the total guaranteed amount. Commitment/initiation fees also charged A diversified project portfolio Have involvement of FI/Bank as manager of the fund. In some cases the contributors (IFC/World Bank/GEF) manage the fund with participation from local program officers recruited Or a local implementing body is assigned as a manager e.g. China ESCO Loan Program, Poland GEF Energy Efficiency Project Depends on expected default rates, length of loans, debt a part of total project finance Internationally, a positive leverage ratio from 5:1 to 10:1

Leverage ratio

Features of PRGF for EE

Would act as a first-loss and subordinated recovery guarantee, placed in a guarantee reserve account and paid out to participating banks in the event of loss or default Will cover up to 50% of outstanding balance of principal due in respect of Approved Projects, exact risk sharing percentage to be determined on institution of the fund Proposed to be initially, for a fixed duration or could last till the guarantees issued are equivalent to fund amount To be focused on loans executed for EE projects based on performance contracting (ESCO)

BEE, GOI is the implementing body for the Fund Proposed amount: $ 21.1 million (current and next financial year) Institutional Structure

Fund to be managed by a bank/financial institution , which will be selected through a competitive bidding process

Typically the Guarantee Process would entail

BEE or a body appointed by BEE (Overall Supervision)
Eligible projects could include: Those aimed at improving efficiency of energy use in buildings, industrial processes and other energy end-use applications. The type of projects: lighting, boiler upgrades and controls, cogeneration systems, energy management control systems, variable speed drive motors, power factor correction, waste heat recovery, etc. Each Eligible Project could be required to meet the following criteria: i. achieve demonstrable energy savings and reductions in emissions of GHGs and must offer a viable method to monitor and verify the same; ii. be a new project, not refinancing existing projects or any outstanding obligations of the Eligible Borrower; and iii. use proven technology and be developed with competent energy audit/feasibility studies and include energy savings monitoring plans.

Fund Manager (FI / Bank)

Appraisal Report, Guarantee Fees Guarantee Facility Agreement

Participating Financial Institutions (PFIs)

DPR + Collateral Loan

ESCO

PRGF India is expected to

Address credit risk and transaction structuring barriers to EE finance, by leveraging commercial lending for EE projects through ESCOs Engage and built capacity of commercial financial institutions to provide financing for EE projects on a commercially sustainable basis Act as guarantor and will enter into agreements with commercial banks who will originate transactions Remove the initial discomfort with regard financing ESCOs With initial GOI money it is expected the PRGF would attract other sources of funding (from international agencies) to be able to provide greater number of guarantees and covering a larger market for EE in India in coming years Indian Banks/FIs are forthcoming to participate in the scheme as well as for fund management In general there is lack on experience and knowledge on the implementation of guarantee schemes amongst the India FIs/Banks but large interest

A need for the scheme to be accompanied by Technical Assistance (TA) program as part of PRGF is widely felt; to train bankers as well as ESCOs

Venture Capital Fund (VCF) for Energy Efficiency

About VCFs
Venture Capital is a type of equity capital typically provided for early-stage, high-potential, and growth companies in the interest of generating a return through an eventual realization event such as an IPO or trade sale of the company In the case of energy efficiency: The rationale for VCF by government could be traced to the fact that government funding is generally available for R&D and private financing for the commercialization of mature technologies; but funding is unavailable for entrepreneurial activitiessuch as proof-of-concept, piloting, firm-building, and marketingthat happen between these two stages

VCFEE under NMEEE

To provide last mile equity investments in emerging technology areas (like LEDs) Identify key investment themes and their characteristics and develop

opportunity assessment metrics

Develop fund strategy including opportunity appraisal, risk management framework Design organizational framework and human resources plan

International VCFs offer some learnings

Internationally, there are not any government funds which have made equity investments in companies with promising new EE technologies. There are private funds though mostly in renewable energy. These offer some learning:
Characteristics Duration Details Generally, 8-10 years Harvesting 1-4 years Managing the Investments 5-7 years Managing Exits 7-10 years IPO, Strategic sales, trade sales and repurchase Pre-seed, Seed, Early stage, Growth stage, Expansion stage having different risk perception 2 kinds of models for VCF Stand alone Venture Capital model Fund of Funds model

Exit routes Stages of investment Operating Model of Fund

Features of VCF for EE

Provide risk capital support Leverage private venture investments in EE sector by identifying the possible coinvestment opportunities Could set a comparatively lower expectation on return on its share of investment in specific projects Could allow private venture fund players to capitalize the transaction costs associated with specific EE investments Could help to create the volume in EE deal flow by the fund manager of VCFEE through advertising & soliciting opportunities in energy efficiency area.

BEE is the implementing agency Proposed amount: $ 16.7 million (current and next financial year) Institutional Structure

Would be managed by an independent trust consisting of board of trustees and an independent fund manager hired by BEE

VCF Indiacontd
Objective The objective of this Fund is to: To accelerate the adoption of proven energy efficient technologies having impact on energy efficiency in India To leverage the private venture investments in energy efficiency sector Independent Trust
Board of Trustees

Fund Management Agreement

Fund Manager

Business Models of invested entities

Could be manufacturing of specific devices, undertaking projects as ESCO, services based on EE technologies, etc.

Company 1

Company 2

Company 3

Company 4

VCF India is expected to.

An energy efficiency Venture Capital Fund in India could have a decidedly stimulating effect on EE market:

It will build capacity of venture firms in EE projects which have generally been lacking in the country Would promote R & D by research institutions in spinning out effective technologies; by proving a source of investment Help the private equity investors in overcoming perceptions related to the unfamiliar risk profiles of energy users and energy service providers such as ESCOs Encourage entrepreneurship in EE sector

Enhance awareness and expertise for energy efficiency projects among financial institutions and private equity providers

Overall this GOI initiated Fund can go long way in addressing many EE barriers and kick starting some of the long awaited energy efficiency projects in the country The Fund can look to invite funding from other sources from international agencies

Way Forward

PRGFEE and VCFEE a positive start by a country like India having large market and potential for EE The Funds will help India in early transformation of EE markets. The learning would be useful for other developing countries Next step is to introduce additional incentives like tax rebates, subsidies, soft loans, etc to build the momentum for a self sustaining EE market The international bi-lateral and multilateral agencies are showing interest in participating in the program. The investments from international agencies will help India in unlocking the EE market substantially

THANK YOU
Contact:
Sanjay Dube Ph: +91-98187 66255 email: sanjay.dube@emergent-ventures.com