Infrastructure Investments in Renewable Energy
When the word infrastructure project is used, it brings to mind images of bridges, railways, and even ports, which are considered to be essential for any country’s progress. However, this is changing rapidly. A lot of developed as well as developing countries around the world have started focusing extensively on infrastructure projects, which can be considered to be non-conventional. One such field which is seeing a lot of investment is the field of renewable energy. Every year, more and more governments are pledging billions of dollars of investment in this field. This is being done for both environmental as well as financial reasons.
In this article, we will have a closer look at the concept of renewable energy and how it relates to infrastructure investing.
Why has Renewable Energy become More Attractive?
Institutional investors have huge sums of money at their disposal. However, they do not seem to have suitable avenues in the field of infrastructure investing in deploying those funds. Traditional infrastructure projects such as roads, bridges, and railways have become commoditized. There is no special expertise which is required to execute such projects. As a result, the competitive pressures are pushing the bid prices down. Hence, the margins for such projects are also reducing.
On the other hand, renewable energy is still a nascent field. The skillset and knowledge required to execute infrastructure projects related to renewable energy cannot be freely found. Hence, these projects tend to have higher margins. It is, therefore, no surprise that infrastructure funds are queuing up to invest their money in projects related to renewable energy.
Also, renewable energy sources do not have to be more economical in order to be adopted widely. Governments all over the world are fighting the use of fossil fuels as a prime energy source. The common belief is that the usage of fossil fuels has led to carbon emissions, which have been responsible for the increase in the temperature of the earth. Hence, renewable energy is being seen as a greener alternative. A lot of capital is being invested in order to develop technology which will help make renewable energy a more economically viable proposition.
Risks Related to Renewable Energy Infrastructure Projects
However, the above-mentioned points do not mean that infrastructure projects related to renewable energy do not have any risks. There are many risks that are specific to renewable energy projects. The same has been mentioned below:
- Infrastructure projects related to renewable energy do not have a huge scale. Hence, the amount of money which can be invested in these projects is limited. This can be a problem for infrastructure funds that are on the lookout for projects wherein they can deploy large sums of money at one go.
Since meaningful amounts of capital cannot be deployed in renewable energy projects, many funds do not find it worthwhile to study the opportunity and understand its pros and cons. This is the reason that infrastructure funds have not traditionally invested large sums of money in renewable energy projects. It has been estimated that renewable energy accounts for only 0.5% of their total portfolio.
- Secondly, infrastructure projects like roads, railways, and power plants have lower rates of return because they also have lower risks. The technology related to building roads and bridges is more or less stable.
Any innovation is happening on a piecemeal basis. This means that the older investments are not rendered obsolete by a change in technology. On the other hand, the renewable energy sector is considered to be a high tech sector. Therefore, the change in technology is quite rapid.
Also, many times, older technologies become completely obsolete after new technology is introduced in the renewable energy sector. For instance, earlier models of batteries used in electric cars are considerably expensive compared to newer models. This was one of the reasons why electric cars were not economically viable.
However, companies like Elon Musk’s Tesla have created low-cost batteries, which have drastically changed the marketplace. Also, earlier models of batteries, as well as the mega factories producing them have been rendered obsolete by this innovation.
- The most important risk facing renewable energy business is a political and regulatory risk. It needs to be understood that up until now, renewable energy projects have been at the receiving end of favorable regulation. However, with the advent of time and with political pressures, this might change!
For example, Donald Trump has already passed several legislations in the United States, which favor the coal industry at the expense of the renewable energy industry. Institutional investors are afraid that if the governments stop focusing on renewable energy projects, then their cash flows will deviate quite significantly from the projections.
- Lastly, operating an infrastructure project related to renewable energy is different from operating other simple infrastructure projects. Renewable energy projects require a lot of operational excellence and capabilities. Very few companies have these capabilities. As a result, investors do not have a lot of choices. In many developing countries, there are absolutely no options to invest in renewable energy projects.
Authorship/Referencing - About the Author(s)
The article is Written By “Prachi Juneja” and Reviewed By Management Study Guide Content Team. MSG Content Team comprises experienced Faculty Member, Professionals and Subject Matter Experts. We are a ISO 2001:2015 Certified Education Provider. To Know more, click on About Us. The use of this material is free for learning and education purpose. Please reference authorship of content used, including link(s) to ManagementStudyGuide.com and the content page url.
- Infrastructure Finance: An Introduction
- Infrastructure as an Asset Class
- Infrastructure Finance Projects: Major Sources of Funding
- Why Doesn’t the Private Sector Invest In Infrastructure Projects?
- The SPV Structure in Infrastructure Finance
- Financing Needs of Infrastructure Projects at Different Stages
- Different Types of Contracts for Infrastructure Projects
- Distribution of Risks in an Infrastructure Project
- Risks Faced By Infrastructure Projects in Emerging Markets
- Bank Loans vs. Bonds: Debt Financing In Infrastructure Projects
- Key Decisions to Be Taken During Infrastructure Bond Issuance
- Parties Involved in Infrastructure Debt Issuance
- External Credit Enhancement in Infrastructure Financing
- Revenue Bonds and the Cash Trap Mechanism
- Managing Revenue Risks in an Infrastructure Project
- Cost Overruns in Infrastructure Projects
- Causes for Cost Overruns in Infrastructure Projects
- Third-Party Risks in an Infrastructure Project
- Vendor Finance in Infrastructure Projects
- Securitization in Infrastructure Finance
- Leasing in Infrastructure Finance
- Strategic Use of Land in Infrastructure Financing
- Usage of Collateralized Debt Obligations (CDO) in Infrastructure Finance
- Infrastructure Investments in Renewable Energy
- Should the Government be an Equity Partner in Infrastructure Projects?
- Lifecycle of Public Private Partnership (PPP) Projects
- Payment Mechanisms in Public-Private Partnerships
- Adjustment Mechanisms in Publich-Private Partnership (PPP) Contracts
- Early Termination of a Public Private Partnership