After a long period in the doldrums, South Africa’s renewable energy sector has received a shot in the arm. In what local bankers are calling the most exciting time in project finance for a decade, multiple new solar and wind developments valued at R50 billion ($6 billion) are going forward.

In an announcement timed to coincide with the United Nations climate change conference in Durban, the government named 28 preferred bidders on 1,416MW of independent renewable energy projects to supply its power-starved grid. It’s the first step in a grand plan to build out 3,625MW of renewables capacity and finally kick-starts a process that began life as a white paper 10 years ago.

Progress in South Africa follows the closing of other deals in the region. Switzerland-based Addax Bioenergy recently signed on a Eu133 million ($174 million) ethanol project located in Makeni in northern Sierra Leone, which is the largest single investment outside the mining sector in the country’s history, ContourGlobal closed the $91.5 million debt financing for its $142 million KivuWatt project to generate power from lake-bed methane, in Rwanda.

Although both projects combine the same pool of lenders they are markedly different transactions, and presented lenders with new types of risks. Sub-Sahara Africa still has a long way to go to put in place the frameworks to enable renewable energy to really take off, but a growing track record suggests it may not be far away.

South Africa assembles the debt

Financial close for South Africa’s 28 should be smooth, since all are already either banked or bankable. Projects’ debt portions are coming from a mix of South African commercial banks comfortable lending to new technologies and local development finance institutions such as the Industrial Development Corporation, which is lending R5.2 billion to 12 different projects, and the Development Bank of Southern Africa. Dutch development bank FMO and the International Finance Corporation have also lent to some of the projects and the European Investment Bank has provided liquidity.

Debt/equity splits hover around 70:30 on most projects. Tenors will stretch between 15-17 years and commercial pricing is expected to be between 200-400bp over the Johannesburg Interbank Rate. Although there will be a premium attached to lending in rand, rather than dollars or Euros, pricing will be competitive because of government guarantees underpinning the power purchase agreements between state utility Eskom and the independent developers.

Payments will go through a Single Buyer Office, which although housed in Eskom for now, will be hived off in the long-term. “There would be a real concern if this was a long-term structure. For the moment lenders are comfortable because of the government backing,” says Alastair Campbell, head of power finance at Standard Bank in South Africa, which has underwritten R8.2 billion ($1 billion) of projects in the first round.

Tariff certainty has come from a new tender mechanism, under which bidders propose a tariff that must be under a technology-dependent cap. The idea is that the different tariff caps are likely to reduce during each bidding window as competition increases. “The pricing will get tighter each time but from a lender perspective these tariffs are bankable,” said Mike Peo, head of infrastructure, energy and telecoms at Nedbank Capital, which is lending to 40% of the total energy capacity slated for the first round. Other banks vying to get into the sector include Investec, which together with the EIB has just established a Eu100 million renewable energy facility. “I would not be surprised to see broader involvement of local commercial banks beyond the usual suspects and greater consolidation of industry players in the coming months,” says Glenn Hodes at the UNEP Risoe Centre on Energy, Climate and Sustainable Development.

There will be challenges ahead. Although the plan is to localise equipment production, South Africa does not yet host any wind turbine manufacturers. Importing and hauling turbines to sites around the country will be a logistical challenge. Another test will come once the Durban convention leaves South Africa. Although the tender stipulations rule that projects must close in the next six months or risk losing their PPAs, after the talks end “the pressure will be off,” said one critic, who points to the tendency of South African tenders to flounder in the past. “I will be very happy if five of the 28 close by the end of 2012.”

Public competition

It’s not just South Africa’s private sector expanding into renewable energy. Eskom has signed a $250 million loan agreement with the World Bank to build 200MW of its own solar and wind projects. The utility is also is in talks with the EIB over a Eu50 million facility to fund the construction of solar capacity. The same is happening in Kenya, where the partially-privatised Kenya Electricity Generating Company or KenGen, the country’s main power producer, has lined up $920 million in loans for a 280MW geothermal project.

Under the new South African Renewables Initiative the government and the EIB plan to raise debt internationally for renewable energy projects. Between 2011-2013 the AfDB promises to lend Eu2 billion at concessional rates to renewable projects in Africa through its Climate Investment Funds. This means in the next 3 years it will lend the sector the equivalent of what is has over the past 15 years. In Mali the AfDB is advising the country’s government on how to structure PPPs and how best to negotiate PPAs.

The AfDB is helping Kenya scale up geothermal development, and potentially create a new model for attracting private capital to the technology. It recently approved $105 million for the new government-run Geothermal Development Company to develop the Menengai field, its first solo project. Of the total AfDB loan, CIF funding accounts for $25 million, in the shape of grants and concessional loans. Once the steam resource has been proven GDC will tender out production to four private operators, which will each develop 100MW plants.

GDC says it has already had “overwhelming” interest from developers representing 19 countries to bid in a process that it hopes will lead to a first power plant by 2014. The winning bidders will negotiate 20-year power purchase agreements with Kenya Power and Lighting Co, GDC guarantees steam supply, and the government has set a feed-in tariff of $0.085 per kWh for all production under 70MW. Of an estimated 7,000MW potential, Kenya only produces 210MW of geothermal power.

Under the new model GDC plans to drill 72 wells a year to push geothermal production to 1,200MW by 2015. The initiative is designed to eliminate the risks attached to exploration, which can cost between $4 and 5 million per well and has deterred commercial backers. “Right now there isn’t much lending in geothermal that a credit committee would approve,” said one sceptic. It’s one reason why geothermal has traditionally been heavily financed by private equity with support from DFIs. “The new model could spur financing, with increased debt shares by local banks backed by partial risk guarantees,” suggests Hodes.

Kenya’s envelope-stretching pipeline

Proven resources are a different matter. The Overseas Private Investment Corporation has approved $310 million in debt financing for Ormat Technologies’ Olkaria III plant in Kenya. The loan will allow the sponsor to add up to 52MW of generating capacity to an existing 48MW plant in the Rift Valley. The financing, which will replace the original lenders to the project, breaks down into a $85 million tranche that refinances the $83 million in outstanding debt, a $165 million expansion construction tranche, and a $60 million optional additional expansion tranche. The World Bank’s Multilateral Investment Agency (Miga) is insuring the sponsor’s $110 million equity investment.

Even Kenya’s Eu588 million Lake Turkana wind project looks like it might close in the first quarter of 2012. New due diligence requirements imposed by the World Bank and clarity on ownership of the transmission line have been factors in delayed closure. The sticking point was the project’s 20-year PPA with Kenya Power & Lighting Co, 40% owned by the government. Here the developers haven’t been able to reassure lenders with direct government guarantees. Instead they have had to get comfortable with government support, in the form of a comfort letter backing KPLC, plus a suite of guarantees from the World Bank.

The World Bank group member the IDA will bolster the government’s support for KPLC with a letter of credit, while another World Bank entity, MIGA, is providing breach of contract insurance. “The proven creditworthiness of the offtaker – which has not missed a payment to an IPP in 14 years – and the fact that Lake Turkana Wind Power will be producing some of the cheapest power in Kenya gives us and our lenders great confidence that offtake will not be a problem,” says Carlo Van Wageningen, chairman of LTWP. “We do not believe that 7 years to develop this complicated project, which is innovative in the Kenyan, African environment is necessarily a long period.”

The deal will be use an African Development Bank A/B loan. The AfDB, together with Standard Bank and Nedbank, are the mandated lead arrangers. The debt requirement is Eu441 million, but tenor and the split between the A and B tranches have yet to be decided. However, the AfDB has indicated in the past that it will offer a tenor of 15 years with a three-year grace period.

Regulatory roundabouts

Continued progress in African renewable sector hangs on more government support. Governments need to commit to bold targets stating their renewable ambitions, like South Africa’s pledge to generate 42% of all new electricity from renewables in the next 20 years. Banks and DFIs will not lend without guaranteed access to the grid or tariff certainty in the form of feed-in-tariffs. So far only a handful of African countries have feed-in tariffs and where they have been introduced teething problems are common. In South Africa several stakeholders argued that they were “too concessional” and a new regime was introduced in August. In Uganda the government scuppered a 2MW solar development when it announced it could not pay the promised tariff.

Additional revenues under the clean development mechanism (CDM) are still a long way off. Carbon prices are at historic lows, making heady projections of the past out of date. At one stage the developers of Lake Turkana said the project would generate an estimated 7.5 million Euros, equivalent to 10% of its revenue stream, from carbon credits.

From 2013 the EU, the world’s biggest consumer of carbon offsets, will only admit carbon credits from new CDM projects in least developed countries (LDCs), in a bid to push carbon finance using the CDM away from dominant suppliers like China and Brazil. Africa’s non-LDC countries like South Africa, Kenya, Nigeria and Ghana are in danger of losing access to the European market unless they register their projects by the end of 2012. “It takes 18 months to register a project from the start. If developers haven’t already begun the process they might as well forget it,” says Adriaan Tas at consultancy Carbon Africa in Nairobi, adding that six Kenyan projects have registered, and 14 are in the pipeline.

Other well-versed arguments against the future growth of the sector include cheaper access to coal and oil and lukewarm enthusiasm from commercial banks, though the last factor could well apply to any infrastructure financing outside South Africa. But as more ground-breaking projects close and African governments successfully grapple with the complexities involved, the continent’s demand for energy should spur additional development.