Financing the Energy Transition 2025

Robust mechanisms are needed to mitigate the risks and improve the financial performance of energy transition projects. These measures will help shift the global energy landscape towards low-carbon technologies and fuels, while maintaining resilience and affordability. Banks consider several factors when deciding on project finance and interest rates, including the project’s ability to repay the loan, technical feasibility, demand and risk management. Interest rates are determined by adding a margin to the base market rate and by adding ancillary fees, influenced by risk, market conditions and competition. Greater competition or better risk management can reduce interest rates, while projects in higher-risk areas face elevated rates to account for the additional risk. This chapter outlines several strategies that regional policy-makers and stakeholders can take to attract investment and reduce financing costs for energy transition projects. Government support and regulatory certainty 3.1 3.2Government support, through measures such as tax incentives, grants, loan guarantees and performance-based incentives, is crucial for energy transition projects. This support helps bridge the cost and risk gaps between fossil fuel and renewable energy projects, aligning the goals of equity sponsors, lenders, insurers and governments. In addition, dedicated government funds that provide financing for technology demonstration and deployment projects can have a major positive impact on the commercialization of innovative energy technologies. The primary goal of these funds should be to strengthen SMEs and promote new technologies and innovations to maintain the country’s economic competitiveness. To ensure long-term regulatory and revenue certainty, while limiting the costs of state support for public finances, governments can select the beneficiaries of their support via auctions. These allow selection of the most cost-competitive projects – among other criteria such as environmental impact, job creation and supply chain benefits – and provide long-term certainty over operating conditions and revenues. Governments can define in advance how much funding is available over the lifetime of the assets. A strong track record of regulatory certainty and a clear visibility over government support enable significant reductions in financing costs and incentivize investment. Revenue guarantees Offtake agreements are crucial for the bankability of energy transition projects, guaranteeing a market for the output and reducing financial risk. Indeed, electricity and certain clean fuels, like green hydrogen generated with renewable power, are constrained by local market conditions as the infrastructure to transport them across continents has not been built yet. Conventional fuels such as oil or natural gas, benefit from a fully integrated global market, so they can more easily find back- up offtake solutions outside the country or region if they face issues with local offtake. Offtake agreements create contractually or legally guaranteed revenues and provide steady cash flows that support the overall case for project financing. They can be government-backed, such as CfDs, FITs, feed-in premiums (FIPs) and utility rate-based tariffs,37 or private contractual arrangements such as long-term PPAs. Once technologies are proven and markets established, financial institutions are more willing to offer support due to the decreased risk profile. This shift is being seen in the US with the transition from long-term to short-term PPAs for wind and solar projects, facilitated by tax-equity partnerships and equipment guarantees. The counterparty to the offtake agreement needs to have a high credit rating, or investors will not consider the revenue as guaranteed. Where traditional offtakers, such as distribution grids, do not have the credit rating level required, public finance can step in. In India, for example, the state-owned Solar Energy Corporation of India (SECI) acts as an intermediary, using risk-mitigation tools such as letters of credit, payment guarantees and escrow accounts to secure payments for generators and maintain project viability. SECI also requires performance guarantees from generators to protect offtakers from non-performance risks. These mechanisms facilitate project financing and scaling-up of energy transition projects. Electricity and certain clean fuels, like green hydrogen generated with renewable power, are constrained by local market conditions as the infrastructure to transport them across continents has not been built yet. Financing the Energy Transition: Meeting a Rapidly Evolving Electricity Demand 19