Tariff wars push SA’s solar producers on a knife edge
South Africa has made an emphatic start in its journey as a renewable energy producer, attracting more than R100 billion in investments from foreign and local investors since the Department of Energy signed off 64 wind and solar energy projects in December 2011.
However, this strong start may run out of steam due to intense bidding war by independent power producers (IPP) that are competing to supply the national electricity grid as part of the Renewable Energy Independent Power Producer Procurement Programme (REIPP).
The competitive bidding has pushed solar energy tariffs so low that it may disrupt the country’s newest and exciting industry since the emergence of the cellphone industry in the early 1990s.
Some IPP winners in the last three bidding windows of Round 1 have warned that the tariff war is setting a trend of a race to the bottom and may scare off a number of IPPs from participating in future bidding rounds, leading to a market dominated by a few well-resourced players.
Since the advent of the renewable energy in South Africa in 2011, average solar tariffs have dropped from R2,75/kWh in window 1 to R1,65/kWh in window 2, a fall of more than 40%, and to below 89c/kWh in window 3, a further drop of more than 50%. This has raised fears the aggressive tariff bidding could create a situation similar to California, where up to 70% of projects fail due to unsustainable low tariffs.
So far the problem of tanking tariffs has been limited to the solar energy part of the renewable energy industry and is yet to spread to the wind energy market where tariffs have held up, thanks to less fierce bidding by IPPs.
But Nedbank, one of the biggest commercial lenders of solar energy projects with more than R20 billion already pumped into the industry, believes that the wheels have not come off by any stretch of the imagination as there is still interest in the local market. In fact, bids for window 4 were more than five times oversubscribed for the allocated capacity for the window.
Nedbank is still bullish and is not backing off from financing future solar farms despite the sharp drop in tariffs, which need to be high enough to cover loan repayments by IPPs.
“While factually tariffs have reduced significantly across all technologies in the REIPP programme, we believe that the programme is still sustainable and that there is a floor at which tariffs will settle naturally that will still result in commercially viable projects from the perspective of the developers (IPPs), investors and funders,” says Mike Peo, head of Infrastructure, Energy, and Telecommunications at Nedbank Capital.
The Industrial Development Corporation (IDC) has pulled out of investing in large-scale renewable energy farms, where it has sunkR13 billion spread across 22 projects because the state-owned development financier believes that private sector commercial bank lending is sufficient and, therefore,sees no need for it to continue propping up a maturing industry.
Enel fingered for driving tariffs down
Speculation in the solar energy market is that Enel, Italy’s largest power producer, disrupted the solar energy market by adopting a risky, but innovative funding model for its window 3 solar farms.
Enel declined to comment on its funding and operational activities in South Africa.
Unlike other solar IPPs, Enel,which operates in 32 countries across four continents, opted to finance its solar farms off its balance sheet, pushing down the cost of finance for its projects as it put up its assets as collateral. The upside of this funding model is that it allowed the power giant to borrow cheaply, meaning that Enel could afford to bid at low tariffs and, therefore, significantly undercut its competitors. The downside is that in the event its solar farms go belly up, the funders will raid its assets in its balance sheet to recover their losses.
On the other hand, Enel’s competitors did not finance their projects off their balance sheets and opted for project-financing, implying that the lenders took on more risk and put faith on IPPs paying back the loans on the back of the 20-year power purchasing agreements signed with power utility Eskom.
Project-based funding is more expensive than balance sheet funding, soEnel’s rivals found the going tough as their expensive debt pushed their tariffs higher relative to Enel’s low tariffs.
Unless the state intervenes, there is fear that the cut-throat bidding war may drive IPPs with weak balance sheet out of contention in windows 4 and5.
Nedbank’s Peo is adamant that there is no need for the state to intervene and it should rather leave the “market to sort itself out”.
“If developers (IPPs) try to bid too low, their projects will become unbankable and will not be able to attract equity investment. So, a natural culling process will exist,” he warns.
Rooftops open new solar opportunities
The reality is that when one investment door closes, another opens.The game in renewable energy is expected to shift to solar rooftops generation, which is yet to take off in South Africa like it has in China, Japan, and the United States. Solar rooftops hold more promise than the solar and wind farms that litter parts of Eastern Cape and Northern Cape in terms of broadening market participation in renewable energy generation and turning South Africa into a manufacturer and exporter of solar rooftop panels in the mould of China.
The South African government is already providing industrial financing in the form of tax incentives, cash grants, and funding to stimulate the rooftops and other smaller solar installations.
Rooftop solar panel manufacturers can benefit from the Manufacturing Competitiveness Enhancement Programme (MCEP), which has committed more than R4 billion in cash grants to manufacturers since its inception. Another source of funding is the IDC’s R500 million Green Energy Efficiency Fund, which provides credit to small-scale renewable energy generators.
The lender recently supported 11 PV small projects that will supply less than 5MW as part of Department of Energy’s Small Procurement Programme. This tender closed on November 3 last year and preferred bidders will be announced in March 2015.
Lizeka Matshekga, head of green industries at the IDC, believes that the solar rooftop market could be commercially scaled up as it is fairly easy to finance. The IDC has supported a few small-scale solar projects, but residential market will need creative funding structures that could be supported by something similar to Eskom’s rebate system for solar geysers.
“Unfortunately, it is a relative capital intensive investment for the homeowner with a payback of more than five years. However, payback reduces every time electricity rates escalate,” Matshekga says.
Standard Bank, which has lent R16 billion to IPPs, is also eyeing the rooftop PV market and may jump in when it finally takes off.
“I think there are different markets for different solar applications and rooftop PV and smaller scale systems do offer specific funding opportunities. The commercial banking division is currently considering funding structures to support smaller scale projects,” revealsRentia van Tonder, head of Renewables at Standard Bank.
Protection from China’s cheap imports
While China, one of the world’s largest solar markets, is an inspiration for any aspiring solar rooftop panel manufacturer, it has been accused of dumping cheap products in its chosen foreign markets. In May 2012, the US government hit Chinese-made solar panels with stiff import tariffs in a bid to keep 61 low-cost Chinese producers out of the US market.
South African infant manufacturers will also need to build the local industry behind tariff walls, otherwise Chinese cheap imports will decimate it before it even takes off. South Africa is decently industrialised and urbanised, presenting plenty of opportunities for homes, buildings, offices, and shopping malls to mount solar panels on their rooftops.
In early last year, China set a target of building about 14 gigawatts (GW) of solar power generating projects in 2014, of which 8 GWs is expected to be generated through the rooftop panels and other small installations.
The country is doling out subsidies and soft loans to encourage manufacturing and installation of solar panels on public buildings, including affordable home housing, railway stations, motorway service areas, airports, transportation, major sports venues, parking lots, factories, construction sites and agricultural land. China wants to generate about 100 GWs of solar energy by 2018. More than 80% of the country’s current 26 GWs of existing solar energy comes from solar farms.
Article first published by www.getbiz.co.za