Lack of financing is often seen to deter African investments from getting realised; however, alternative approaches, such as redeploying aid and grants into seed capital, can attract private capital, technology, and talent to successfully execute energy investments.
Investing in the African energy market? One is met with a barrage of obstacles that deter access to financing: Weak institutions that fail to protect creditor rights. Corruption increases costs of doing business, compounded by (or encouraging) inefficient and opaque bureaucracy.
High financing costs and short duration halt investors in their track. Politics hardly help: costs of energy supplies exceed subsidised prices, creating struggling utilities.
While these shortcomings are well rehearsed, piecemeal solutions are developed. Poor access to financing is not for lack of funds; there are plenty and often inadvertently squandered by poor accountability. In 2016, Africa received in excess of $49 billion in OECD aid, accounting for 5% (Kenya) to 70% (Liberia) of gross national income (GNI). Since 1960, Asia, receiving less aid, has become a dynamic region, while a number of African countries are poorer today, in spite of some successes.
David Cameron, former British prime minister, elucidated on this aid paradox. He prescribed his “golden thread” proposition as a cure: Africa needs stable, transparent, and low corruption governance, which respects human rights and institutes the rule of law. Translated to energy financing, lenders can secure their money with collaterals that they can call on when things go sour.
In theory, projects’ loans and interests are repaid from cash flows. Guarantees or escrow accounts meet unplanned cash flow variations, with collaterals liquidated in the worst case. Lenders, therefore, lend when they judge they could be repaid and earn a profit.
Three problems arise in African energy financing:
1. Collaterals such as real estate or financial assets are insufficient to secure the loan amounts;
2. Low skills, high returns consumer or micro-financing crowds out high skills, low returns project lending within banking systems with low penetration and depth; and
3. Below costs subsidised prices subject investments to vagaries of politics.
Collaterals often fall short in value to cover the sums borrowed. Financial assets, such as shares in sponsors’ private or locally listed companies, are valued at zero by international banks. Ironically, wealthy local sponsors are rated as “paupers”.
Local financial institutions focus on lucrative consumer credits, yielding 12% to 18% to reflect poor credit culture, against project financing’s low teens.
Micro-financing ranges from 22% to 30%, given its high administration costs – legal or extra-judicial.
In reality, with borrowers having no alternative, they are prepared to borrow say $5 in the morning to purchase inventory, and pay $6 at close of business from the goods they sold.
Under these market conditions, local banks’ incentive to venture into project financing, and earn meagre spreads by African banking standards, is nil.
Masami Kojima and Chris Trimble, in their 2016 study “Making power affordable for Africa and viable for its utilities” for the World Bank, estimated power prices were up to 50% below their supply costs. The government injects cash to keep utilities afloat. Raising prices is a solution that confronts governments with a dilemma: Face popular backlash and fall, or delude consumers until the lights go out.
This is where multilaterals and aid agencies could realign their common interests in developing Africa. Working with governments, they could steel politicians’ nerves to take action on sector reforms. Potentially, this is reinforced by demonstrating early success. Kenya’s geothermal programme may serve as an example, imperfections included.
Hotspot for investment
Kenya decided to split steam exploration and production, from power generation, to facilitate risk allocation and enhance financing. Here’s how:
Exploring for steam is a technically complex process. Risks are compounded by loose ownership rules, rights of way, and ancestral domain, and vagaries of creditor rules. Through the state’s Geothermal Development Company (GDC), Kenya’s government underwrites the exploration and production risks, and supplies steam to power generators at agreed prices. Italy’s May 2017 technical assistance was delivered through UN Environment, thanks to Ambassador H.E. Marco Massoni’s efforts.
With exploration giving some results, Kenya has scoped some reserves with its initial estimates on power generation potential: Suswa (100MW), Eburru and Elementaita (20MW), and Baringo (100MW). Compared to Kenya’s extant 533MW installed geothermal capacity, successful development could push the country closer to energy self-sufficiency.
With state-owned power utility KenGen focusing on building power generation facilities, a template is now available and is bearing some fruit.
By April, African Development Bank had extended $120 million to fund the Menegai geothermal project, with a proposed tariff of $0.077/kWh – among the lowest in Africa.
To accelerate Kenya’s 5,000MW geothermal programme, $12 billion may have to be mobilised. Aid money and multilateral lending could realign their financing, in order to harness the larger pools of private capital.
Here’s a feasible approach:
1. Aid money as seed capital: Social equity is contributed to kick-start steam exploration to cover surveys, social and environmental impact, and reserve assessments.
2. Public sector contribution: Site preparation, rights of way, and permitting, are the domains of government (or GDC), and secure property rights as “owner”, complemented by formula-based tariff increases to market levels over a specified period.
3. Technical or equity partnership with private sector: Broadens access to technical capabilities, as needed, from private and global resources.
On successful exploration, the project moves into commercial operation. To sustain financing, a social equity fund is established where the project contributes a share of its revenues.
To ensure sustainability, the fund ensures that it:
1. Rewards good behaviour by providing ready access to future seed capital to certified private or public entities with proven success.
2. Competes with global funding sources to ensure transparency, minimise nepotism, and reduce financing costs.
3. Deters rent-seeking or plunder by adhering to international governance standards, with recourse to legal remedies (both local and international) against erring beneficiaries.
While investors are free to seek funding elsewhere, the fund provides a means to recycle aid money that is inadvertently squandered. Instead, it offers a self-sustaining financing.
Expanding geothermal development achieves a cleaner energy mix. In their 2018 study, Imperial College Business School estimated that environmental mitigation could benefit a society that redounds to lower business interruption costs. For every $10 paid in interest, developing countries incur $1 for climaterelated costs.
Africa’s energy poverty is potentially resolved by unblocking access to funding. Throwing more money at a continent that can hardly absorb the gargantuan aid is not, and has never been, a wise approach. ESI
About the author
Based in Spain, Ricardo G Barcelona is a corporate advisor who has executed
complex gas infrastructure projects, and global M&A deals. He is an academic and
author of Energy Investments: An adaptive approach to profiting from uncertainties,
Palgrave Macmillan, London.