Q&A - Renewable Power Capital: Can sub-IG PPAs work?

Signing an offtake agreement is a landmark moment in the lifespan of any renewable generation project under development. These agreements, typically through a power purchase agreement (PPA), are key to securing debt financing from lenders looking for projects with guaranteed revenues.

However, as the sector has matured, sponsors have opted for a variety of offtake strategies, with some developers even financing projects on a merchant basis. 

inspiratia sat down with Steve Hunter, managing director of power markets and asset management at Renewable Power Capital (RPC), to discuss the evolving offtake strategies in the renewables space. 

RPC is a London-headquartered pan-European renewables firm established in 2020, with the backing of CPP Investments. The company invests in the development, construction, and long-term operation of onshore wind, solar, and battery storage projects.

Lenders have typically favoured PPAs with investment-grade counterparties. However, Hunter noted that with some negotiating, it is possible to finance projects that PPAs with sub-investment counterparties.

Hunter also spoke about RPC's strategy when taking merchant risk on projects and what opportunities it provides.

RPC has invested across renewable technologies like solar, wind and BESS. What are the most exciting opportunities you are seeing right now?

RPC's focus at the moment is across six markets – five if you count the Nordics as one market. We are looking at Sweden, Finland, GB, Poland, Italy, and Spain. In those markets, our mandate covers all onshore renewables, including battery storage.

Ideally, what we would like is a presence in every onshore renewable and storage technology in every market, but that will all depend on market conditions and the practicality of entering new sectors.

With regard to our recent focus, we are just starting construction on two battery projects. One in GB, near Liverpool, and another one in Finland. Recently we signed a solar PV development opportunity in Finland. While it is not a country that you would immediately associate with solar PV, it is a small but growing market with great potential. We also announced financing for our largest collection of projects to date: about 553MW of onshore wind capacity in northern Sweden. We had to secure PPAs for all of those projects, so that has kept us busy for a while.

Among those three core technologies, we have recently spent more time on batteries. As the market reacted to rising interest rates, like many investors, we found it more difficult to transact for onshore wind and solar PV during that period. The fact we are also able to work with batteries gave us an input there, so we have reprioritised and refocused a lot of activity onto batteries in the short term.

Overall, I think we are starting to see the wind and solar markets return, as we hoped they would, with a pick-up in activity. Nordic wind has always been quite an active market but, given we have quite a lot of exposure here, we are keen to complement that with other countries and other technologies.

When you say "every technology in every market", does that include other sectors like hydrogen, offshore wind, etc?

We do not participate in offshore wind. We have a sister company called Reventus Power, and they are a global offshore investor. We stay on the land, they stay in the sea, and that way, we get along fine with each other!

We are open to other technologies and are looking at additional ones in some locations. But we see the vast majority of our growth coming from those three core technologies.

We have tried to avoid spreading ourselves too thin and instead see opportunities for expansion in markets that are linked. For example, while we are currently focused on Spain, Portugal is clearly an opportunity; while we are currently working in GB, the Republic of Ireland and Northern Ireland provide another opportunity.

What is the rationale behind investing in the BESS sector right now?

We made our first investment in BESS about a year and a half ago, and we had been working on the technology for up to two years prior to that.

This is not just a very recent thing for us; BESS has been part of our ambition for a long time. The value we see in BESS is diversification. Just like we want to diversify markets across those we are already focusing on and between onshore wind and solar PV, we also see a huge opportunity for batteries to support this diversification.

Our ambition is to be a relatively large independent power producer (IPP), active with those main generation technologies. As a part of our investment thesis, we take on more merchant risk than some other investors and IPPs. Therefore, we are exposed to things like negative pricing.

Negative pricing is clearly an opportunity for batteries. We think the technology provides a really strong complement to our renewable generation technologies, which is part of the reason we would like to get some representation from each technology in all of those markets to maximise the benefit of diversification.

How important is securing offtake for your renewable generation assets? Are you open to merchant risk?

We are very open to merchant risk. For our three operational assets in Finland, we have contracted just over half of their expected production while the rest is merchant. Our operational asset in Sweden is, in one sense, fully contracted, but this is on the basis of a floor price rather than a fixed price. So, we take on a lot of merchant risk when the pricing is above that floor.

Our new assets in Sweden, which are in construction, are again a combination of fixed and floor prices. In one sense, we are fully contracting the asset, but we are keeping a lot of merchant upside available to ourselves. We have signed five PPAs for our onshore wind assets in Sweden, all of which are either fully floor or have an element of floor.

While a little unusual in the Nordics, it is a contract structure that was relatively common in Spain a number of years ago. The result is that they have become more attractive to us and potentially more attractive to offtakers, as the value of a guarantee of origin has increased by essentially swapping this for the floor price.

How comfortable are lenders with sub-investment offtakers? Has the market become more comfortable with those kinds of PPAs?

I think lenders will always favour investment-grade offtakers. We have some counterparties who are technically not investment-grade for reasons such as they are state-owned – lenders tend to look quite favourably on those as well. That said, we have some offtakers in our portfolio who are sub-investment-grade.

There is no doubt that it is more of a challenge to get lenders comfortable with these deals, typically because it is generally more difficult or expensive for sub-investment grade offtakers to secure letters of credit, but we ensure a combination of additional safety measures and robust discussion to bridge those concerns and get lenders broadly comfortable with them.

What kind of securities could that include?

It is quite common in PPAs to have triggers whereby if the offtaker's credit rating falls below a defined level, they have to provide security. You would agree in advance on the amount and form of the security, so the lenders are comfortable that there will be some support provided if the credit rating deteriorates.

So far, we have seen a lot of commercial banks financing in the BESS space. Are we likely to see institutional investors like debt funds interested in battery storage?

I would hope so. Certainly we have seen institutional investors take on a more risk-tolerant position in the financing of generation projects. I think it is reasonable to assume this will feed into battery projects: if investors are willing to go uncontracted on wind generation, then batteries will probably look attractive to them.

The difficulty has been with scale, and this is as true for raising regular project finance on batteries as well. Until recently, the size of individual assets has been relatively small, and therefore, the benefit you get from project finance has been more limited than if you are financing big wind projects, for example.

But I think what we will likely see is asset owners financing portfolios of batteries in the future or potentially raising corporate-level debt rather than asset-level debt.

What advantages would portfolio-level debt provide?

The big advantage is scale, because if you are carrying out all the due diligence necessary for a single 50-100MW project, it gets quite expensive, and that eats into a lot of the benefit you get from financing.

If you can pool together a portfolio of hundreds of megawatts of assets, those due diligence costs are a much smaller portion of the benefit that you get. It is largely about economies of scale.

There is also an advantage in terms of cross-colateralisation between assets. If you're lending across a big portfolio, in which one asset has a performance problem and is disconnected from the grid for a period of time, you would not expect all of those assets to suffer the same problem at the same time.