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ASSESSMENT OF THE USE OF ALTERNATIVE SOURCES OF FUNDS

AND THEIR EFFECTS OF WIND POWER PROJECT

Ms. Chonnikarn Pirunsarn, Electricity Generating Authority of Thailand, +66(0)2-4362736, chonnikarn.p@egat.co.th

Abstract

Green energy such as wind and solar power is relatively costly to produce, and therefore the effective use of

sources of funds is essential. While renewable energy investments are expected to grow rapidly in the near

future with the necessity to balance the transition to a low-carbon economy, most wind energy companies may

still experience the high cost of debt due to the fact that commercial banks consider to lend money through

project finance. Financial projection with risk assessment is an important aspect which commercial banks take

into consideration. The concern, thus, depends on whether the plant will generate adequate useable energy over

its lifetime to justify the energy involved in its installation. The objective of this study is to analyze and compare

the case studies of wind power projects regarding the use of sources of funds and their effects in Thailand and

the United Kingdom (UK).

By collecting financial information such as cost of fund and return from wind power projects in Thailand and

UK for the period of time, it is able to determine the effects of the use of alternative sources of funds through

financial indicators such as Internal Rate of Return (IRR), Net Present Value (NPV), Payback period (PBP),

including the consideration of levelized cost of energy and the range of the tariff. Furthermore, risk assessment

concerning with financial environment of both countries has also been taken into account. Based on our study,

most wind power producers in Thailand obtain sources of funds through project finance, whereas various

financing channels for wind power plants in UK are used to establish access to capital and banks. These

various financing channels are UK Green Investment Bank, crowdfunding and securitization by purchasing

weather insurance or hedging the financial risk of wind variability resulting in the tariff’s lower charge.

While energy sustainability concerns provide a first-order motivation for adopting enhanced policies, a creative

selection on the use of alternative sources of funds for wind power projects will lower the tariff regarding the

financing strategies. Therefore, the electricity charge can be reduced. Moreover, it can generate great benefit to

a large proportion of population.

KEYWORDS: Wind power project, Alternative sources of funds, Green investment bank, Crowdfunding,

Weather insurance

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1. Introduction

The effective use of sources of funds is important, particularly in renewable projects. As UK wind energy has

expanded corresponding 9.5% and 11% of the UK’s electricity generating by wind in 2014 and 2015

respectively, we select UK as the comparable benchmark. Due to NPV, IRR and PBP are essential criteria of

cost effective of the project, the analysis of the effects of the use of alternative sources of fund between Thailand

and UK are performed.

Many wind power projects in Thailand obtain sources of funds through project finance while there are several

ways to obtain funds for UK wind power project. A good example is Green Investment Bank, a wholly-owned

bank by UK government, supports infrastructure projects which are green and profitable. Its main purpose is to

accelerate the UK’s transition to a greener, stronger economy. Another way to obtain sources of funds

particularly for the early-stage wind energy companies is to obtain funds from the investor through

crowdfunding which is the use of small amounts of capital from a large number of individuals to finance a new

business venture. In addition, securitization by purchasing weather insurance or hedging the financial risk of

wind variability can increase the assurance of the wind power project, resulting in the tariff’s lower charge.

The gearing ratio in wind projects of about 50-70% debt financing, where onshore and offshore projects are

typically in the upper and lower range, respectively [3]. The difference is due to the larger risk in offshore

projects, and the larger equity capital requirements. To consider how to finance the wind farm project, it is also

crucial to consider different types of investors. In Europe, lenders to wind projects among others are from

governmentally owned investment funds such as the European Investment Bank and Green Investment Bank.

Also, commercial banks have provided debt capital to wind farm investments via single bank, syndicated and

club bank loans.

The cost of debt for renewable energy projects in developed economies remained low by historical standards in

2015 [5]. This can help to prevent the competitiveness of wind and solar in terms of technologies where most of

the costs are incurred upfront rather than during operation.

2. Methodology

UK wind projects are selected as the comparable benchmark for Thailand wind projects. The analysis of Thailand wind farm regarding the financial performance and the sources of funds for the wind project is

performed following by the analysis of UK wind farm in the similar aspects.

2.1 Definition of Project Finance

Project Finance

Project finance is “a deal whereby lenders mainly make financing available because there is sufficient cash flow

to cover operating costs and to service debt during the life of the project [4].” Financing in a form of project

finance is used as a tool of capital intensive project on non-recourse or limited-recourse basis.

This is processed through a legal entity or special project vehicle (SPV). Non-recourse projects cause lenders

some risk because only project assets and cash flows are used for loan repayment. From this reason, lenders

issue loans covenant on the SPV in order to manage risk. A syndicate of banks is applied in cases that require

huge amount of money. The maturity of loans depends on the project finance structure, but often maturities of

10-15 years post completion are obtainable at a borrowing rate of approx. 4.5-6% in the current markets,

depending on the instalment plan and the risk of the project [3]. To compare with corporate financing, a bank is

considered to finance a company directly on a balance sheet. The bank will assess both a project and a company.

Loans are granted to the company. The degree of leverage in project finance eventually relies on expected

project’s cash flows while corporate finance relies on effects on borrower’s balance sheet.

Risk assessment by the lenders for project finance is complicated because project finance is not a well-defined

entity and it sometimes does not have credit histories which lenders always use to quantify risk. Especially,

calculating project expected values is considered as the most likely outcome of the probability distribution of

future cash flows. The lack of historical credit only allows lenders to rely on the use of expected value and

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estimated risk assessment from subjective cash flow estimation. However, there are some arguments suggested

that possible perception of ratings agencies that power producers are eventually tied to their offshore wind

projects through long-term PPAs and, therefore, consider it unlikely that they will leave them even under default

scenarios [12]. As such, the ratings agencies justify a negative perspective on non-recourse debt and often treat

it as on balance sheet. This negates some non-recourse/off-balance sheet advantages and increases the overall

cost of capital of the power producer due to the ratings impact resulting in a less attractive option.

The components of predicted operating cash flow compose of expected revenue from sales and various kinds of

expenses [4]. There are four main components of expenses related to forecasted operating cash flow. The first

component is raw material costs which are the major costs of predicted expenses. Next, it is operation and

maintenance costs which are relevant to the planned maintenance schedule. However, there may be the

unplanned maintenance due to damaged turbines or damaged generators when project starts to operate, so the

unexpected costs occur. Insurance costs for wind turbine are the third component of expenses which relate to the

insurance agreement between a power plant project and an insurance company. Lastly, the change in working

capital items which derive from forecasted assets and liabilities by the power plant project.

2.2 Thailand Wind Farm Project

In Thailand, there are two major wind projects currently operate which are First Korat Wind Co., Ltd. (FKW) and K.R. Two Wind Co., Ltd. (KR2). Each wind farm composes of 45 wind turbine generators with capacity of

2.3 MW each. The installed capacity is 103.5 MW per wind project. According to the Power Purchase

Agreement (PPA) between the wind farms and EGAT, each wind project will sell electricity 90 MW to EGAT.

After reviewing the term loan structure of FKW and KR2 obtained from Bloomberg terminal, it is clear that

FKW uses the sources of funds from equity, long-term debt and especially project finance; whereas, KR2 uses

its balance sheet as a way to derive the funds. As several power projects in Thailand use project finance as a tool

to acquire the funds, FKW is selected for the purpose of analysis on the valuation of the project in terms of

NPV, IRR and Pay Back Period (PBP) with the use of appropriate discount rate.

The data from Bloomberg and the opinion of independent financial advisor regarding acquisition and connected

transaction are used for the purpose of reviewing the project valuation and analyzing the results comparing with

the UK wind farm project.

2.3 UK Wind Farm Project

The current situation of UK wind farm is concerned with the potential to change the way the UK provides

support for renewable energy, focusing on the mechanisms for providing renewable energy with financial support.

According to the data obtained from Bloomberg terminal, currently there are 603 wind projects operating in UK

with various kinds of sources of fund, it is more suitable to use the average NPV and IRR of UK wind projects

and the trend of levelized cost of electricity to analyze the effect of the use of alternative sources of funds.

Moreover, due to some limitations in gathering the financial information of the wind projects in UK particularly

the cost and expenses to derive the NPV and IRR, the Offshore Electricity Transmission Regulatory Regime

providing by Department of Energy and Climate Change (DECC) is used to estimate the NPV of the overall offshore wind farm.

3. Results and Discussion

The estimated cost of wind power varies significantly, depending on the capacity factor, which in turn

depends on the quality of the wind resource and the technical characteristics of the wind turbines. Capacity

factors can vary significantly onshore and offshore, with higher capacity factors achievable in general

offshore, particularly in UK.

Based on our study, most wind power producers in Thailand obtain sources of funds through project

finance, whereas various financing channels for wind power projects in UK are used to establish access to

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capital and banks. All indicators presented should be used in economic analysis to meet specific information needs for decision making in situations of investment opportunity for wind power projects.

3.1 Thailand Wind Farm

First Korat Wind farm (Onshore) is selected and is also known as the Huay Bong wind farm. The project was

developed, owned and operated through the special purpose vehicle (SPV), First Korat Wind Co Ltd. In 1 Aug

2011, Siam Commercial Bank PCL and Kasikorn bank PCL agreed to provide Aeolus power Co., Ltd, Chubu

Power Co.,Ltd amd Ratchaburi Electricity Generating PCL with THB 5.27bn in debt for the development of the

project. The debt was composed of three tranches of undisclosed size and seniority. As of this date, the total

project cost was disclosed to be THB 6.65bn, with the balance of the cost being equity capital of THB 1.39bn

provided by the oweners of the project. The project was commercial operation date on 31 December 2012.

First Korat Wind farm (Onshore) with its financial data as follows [1];

2.3 MW wind turbines with a nameplate capacity of 103.5 MW.

Financing type: Term loan

Transaction type: New build

Total value: 6,653.00 MM THB

Equity raised: 1,386.00 MM THB

Gearing ratio: 79.20

Total capacity: 103.50 MW

Revenue

- Term Contract: 5-year agreement period and automatically extended on a continual basis.

- Tariff : Bulk supply tariff rate plus average wholesale Ft charge

- There are three main revenues from the project:

1) Revenue from selling of electricity to EGAT

2) Additional tariff or Adder: The government will provide the Adder at 3.50 Baht per kWh for the

first 10 years after COD for the power sold.

3) Revenue from selling of CERs

BOI Privilege

Year of Operation Tax rate Exemption Tax payable

Year 1-8 30% 100% 0%

Year 9-13 30% 50% 15%

Year 14 onwards 30% 0% 30%

Table 1: BOI Privilege

Cost of fund

The core financial cost is long-term loan which accounts for 70% of the project value with interest rate at 6-

month THBFIX+2.2% per annum. The repayment will be made in 20 consecutive installments on a semi-annual

basis.

Discount Rate

The weighted average cost of capital (WACC) is used to derive present value of future cash flows of FKW.

WACC = Kd (1-T) * D/(D+E) + Ke * E/(D+E)

= 5.2% (1-30%) * 70% + 12.4% *30%

= 6.3%

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The forecasted cash flow is prepared with some adjustments based on the data from the opinion of independent

financial advisor on acquisition and connected transaction. With the discount rate at 6.3% and the project life 25

years, the NPV IRR and PBP of FKW project are as followed;

Forecasted cash flow

Table 2: Forecasted cash flows of FKW and NPV/ IRR/ PBP calculation Source: Adapted from the opinion of independent financial advisor on acquisition and connected transaction [8]

Net Present Value (NPV)

For energy projects, the NPV, is defined as the present value of benefits less the present value of costs. The

present value of costs is the cost of initial capital. NPV is derived by using expected cash flows and adjust with

project investment, debt and equity and then discounted by WACC. The NPV of FKW is approximately Baht

4,180 million which can indicate that the project should be profitable with the estimated cash flows.

Internal Rate of Return (IRR)

Internal Rate of Return (IRR) is a discount rate that makes the net present value (NPV) of all cash flows from a

particular project equal to zero. IRR is used to evaluate the attractiveness of a project or investment. If the IRR

of a new project exceeds a company’s required rate of return, that project is desirable. If IRR falls below the

required rate of return, the project should be rejected. From expected cash flow, IRR of FKW is 13.45% which

is considerably higher than WACC at 6.3%.

Pay Back Period (PBP)

The payback period (PBP) is the length of time required to recover the cost of an investment. The payback

period of a given investment or project is an important determinant of whether to undertake the position or

project, as longer payback periods are typically not desirable for investment positions. From expected cash flow,

the payback period of FKW is 7.30 years.

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3.2 UK Wind Farm

The average NPV and IRR of UK wind projects and the trend of levelized cost of electricity are used for

analyzing the UK wind projects.

Table 3: The comparison of Europe 2020 LCOE and current project IRR Source: Green Investment Bank pitch book December 2014 [9]

From table 3, by considering the current project IRR, UK has been shown to provide the highest project IRR

with an expected 2020 levelized cost of electricity reducing to €128/MWh by 2020. When comparing with

Belgium which has almost the same levelized cost of electricity amount, UK wind projects provide better IRR.

Table 4: Offshore wind generation projects Source: Department of Energy and Climate Change (DECC), Bloomberg Terminal, UK Green Investment Bank’s website

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Figure 1: The current status and MW of the UK wind farms

Source: Bloomberg Terminal [1]

From table 4, the capacity and the current status of offshore wind projects in UK were obtained from Bloomberg

Commodity Maps as of July 2016, please refer to figure 1. Then, we determine which wind projects use Green

Investment Bank as sources of funds by obtaining information from UK Green Investment Bank’s website.

Price Base Year 2009

Time Period 20

Net Benefit Range (NPV) £461m - £1390m

Installed capacity 90 MW – 900 MW

Net Benefit (NPV Best estimate) £925m

Table 5 Financial data of wind power project in UK Source: Department of Energy and Climate Change (DECC)

From table 5, it can be seen that the range of NPV is between £461m and £1390m for the installed capacity of 90 MW – 900 MW. The average NPV is approximately £925m.

Roughly comparing the NPV of UK with Thailand in the almost similar capacity, it is showed that the NPV of

UK is higher than Thailand. Despite the fact that UK has been using the various channels of sources of funds,

the location of the wind projects are one of the causes that lead to high revenue stream of the wind projects in

UK.

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3.3 Discussion and Suggestion

In Thailand, according to the revenue forecast from sales and expenses, there are various uncertain variables that

power plant companies have to forecast and declare to the lender. Thus, it is very important to effectively use

project finance by carefully consider the uncertain variables and provide a clear explanation to the lender. As a

power purchase agreement is a long term contract, a carefully negotiated series between a power plant company

and a lender should be applied. Despite the fact that the project finance is on a non-recourse or limited recourse

basis and has effects only the project’s asset, it is more expensive than corporate financing. The cost of initial

contracting, legal costs, and advisory fees are usually high. This explains why the project might not be suitable

for a small project. In addition, a loan agreement is normally split into two phases which are a construction

phase and an operational phase. By considering the uncertain factors, a power plant company should negotiate

with a lender to split the loan agreement more than two phases.

For example, a loan agreement can be signed by both the lender and the power plant company every five years.

Thus, the lender can consider the credit history and profitability of the power plant project. Also, the power

plant company can issue a more reliable operating cash flow based on the previous operating performance. As a

result, the interest rate charged by the lender may reduce due to the shorter period of loan agreement.

In UK, Green Investment Bank, a wholly-owned bank by UK government, supports infrastructure projects

which are green and profitable. Another way to obtain sources of funds particularly for the early-stage wind

energy companies is to potentially obtain funds from the investor through crowdfunding. Securitization through

weather derivative is also a new financial tools for the wind power project. The details of financial mechanism

can be described as follows:

3.3.1 Green Investment Bank (GIB)

Figure 2: Green Investment Bank structure [11]

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The UK Green Investment Bank (GIB) was formed as a public company in May 2012. With £3.8 billion of

funding from the UK Government, it is the first bank that provide this kind of service. Its mission is to

accelerate the UK’s transition to a more green economy. GIB made its first direct equity investment in offshore

wind through the acquisition of a 24.95% stake in Rhyl Flats Wind Farm Limited.

The GIB participates in projects through the supply of its capital in the form of equity, mezzanine debt, or senior

debt [11]. In offshore wind, the idea of co-investment equity seems to be attracted by some utilities in case their

balance sheet is constrained resulting in inability to find a lender or co-investor who is willing to accept the

prevalent commercial risks. From figure 2, the role of GIB is to administrating Government grants, subsidies,

and low interest loans to an early stage venture capital and provides risk reduction mechanism.

Feed-in Tariff (FIT) is a common tool for persuading investment in renewable generation. A feed-in tariff is

essentially a premium rate paid for clean generation such as small wind projects, and guaranteed for a long time

period [10].

Figure 3: The weighted average cost of capital (WACC) of UK Green Investment Bank Plc. as of 2015

Source: Bloomberg Terminal [1]

The Weighted Average Cost of Capital (WACC) of the UK Green Investment Bank Plc. as of 2015 is 10%

which mainly comprises of equity.

3.3.2 Crowdfunding

Crowdfunding is the use of small amounts of capital from a large number of individuals to finance a new

business venture suitable for the early-stage or small wind energy companies to obtain funds from the investors.

There are several crowdfunding platforms for various kinds of business in UK. Green investing is a new trend

for crowdfunding in an objective of promoting the greener economy. A good example crowdfunding for wind

power project is Fundsurfer [6] which is a hybrid crowdfunding and commercial funding platform and

community provides crowdfunding and accesses to a range of funding options for projects and companies by

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offering a range of funding options with no upfront fees [7]. It is also promoted to furthering green investment

in the UK and supporting projects and companies that will make the UK a centre for innovative green

investment.

3.3.3 Weather Derivatives as insurance products in the wind projects

For the wind projects, the wind speed during a given timeframe are the weather variables of concern. Advanced

risk management techniques can help protecting their assets and ensure revenue streams. Weather derivatives

are a special type of derivative contract that specify payouts in the event that certain weather conditions

adversely affect the revenue streams of a business. That business will pay a premium to the contract offtaker in

exchange for assuming the weather risk. The underlying asset of a weather derivative, and from which payouts

and premiums are defined, is an index of weather variables that have been assigned dollar amounts [7]. As a

type of performance insurance leading to potentially boost project bankability, and eventually tamp down capital

costs in the pre-financial close phase. Thus, wind derivatives as a subset of weather derivatives would be applied

to hedge weather-related production risk which is the risk that the quantity of resource during the contract period

will fall short of that needed to generate power, and thus revenues, sufficient to service debts. The wind power producer will give up some of the upside revenues in exchange for downside protection. In this way, derivatives

may not only mitigate project losses but also the threats from revenue volatility.

The benefits of using derivatives are that the hedge is more protected from adverse weather patterns and the

settlement process is quicker and less difficult due to instantly pay out process and the movements of an index basis. Currently, the derivatives market in terms of hedge weather-related production risk in the renewable

energy industry is quite small. However, many industry stakeholders believe this form of risk management will

take off soon.

The power generation from wind is, naturally, vulnerable to weather conditions. To ensure security of supply,

wind generation must be augmented by traditional stand-by power generation. That industry model will lead to

technological development around grid storage and developments. One example is the new capacity auction

market that was recently created in the U.K. to compensate conventional generators for stand-by power in order

to secure a steady rate of supply despite weather conditions [2].

The increase in wind’s share of electricity generation has increased the risks associated with its inherent high

variability and low marginal cost. The risk not only affects electricity producers, but also influences throughout

the value chain. At a fundamental level, wind derivatives can be structured using two dimensions: wind speed

and wind power. Wind speed products will be defined based on the daily average wind speed as measured by a

predefined meteorological station over a specified period. Wind power products will be defined based on power

generated by the installed wind capacity in a particular region over a specified period. It’s a market that will

provide the right hedging tool to generators and other participants in the value chain.

4. Conclusion

It can be concluded that UK provides support for renewable energy, focusing on the mechanisms for providing

renewable energy with financial support. In this regards, Green Investment Bank, crowdfunding and weather

derivative are to accelerate the UK’s transition to a greener, stronger economy.

In Thailand, the project’s economic attractiveness of wind energy is influenced by government intervention

through regulatory actions. Common tools of public intervention are tax incentives, direct subsidies, regulated

tariffs (revenue) or subsidized loans (low interest loans). This study also found that the IRR of wind farm project

in Thailand was approximately 13.5% comparing to UK in a range of 10-15%. Nevertheless, there are some

difference factors in terms of government subsidies, revenue generated from wind, and other factors that incur the expenses of wind projects.

Our study is stated that the financing structure is very important influencing factor for the attractiveness of wind

farm project. In general, the investors have to finance the project in order to earn sufficient income to meet their

demands. So far, possible investments in wind farm projects have been treated as if the consequences were

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entirely predictable. In reality, the consequences may still uncertain. This applies to projects of all types and

especially for wind farm projects.

Consequently, a creative selection on the use of alternative sources of funds for wind farm projects will lower

the tariff regarding the financing strategies which may result in the reduction of electricity charge. Furthermore,

the appropriated financing strategies provide a motivation for adopting enhanced policies and offer the development of the energy sustainability to a large proportion of population.

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References

[1] Bloomberg Terminal

[2] Casey, K., Joshi, S., & Intekhab, S. (2015). Wind Derivatives: Has Their Time Come?.

Renewableenergyworld.com. Retrieved 1 July 2016, from http://www.renewableenergyworld.com/articles/2015/11/wind-derivatives-has-their-time-come.html

[3] Establishing the investment case Wind power. (2014). deloitte.com. Retrieved 15 June 2016, from http://www2.deloitte.com/content/dam/Deloitte/global/Documents/Energy-and-Resources/gx-er-deloitte-

establishing-the-wind-investment-case-2014.pdf

[4] Gatti, S. (2013). Project Finance in Theory and Practice: Designing, Structuring and Financing Private and Public Projects. Amsterdam: Elsevier.

[5] Global trends in renewable energy investment 2016. (2016). http://fs-unep-centre.org/. Retrieved 15 July

2016, from http://fs-unep-

centre.org/sites/default/files/publications/globaltrendsinrenewableenergyinvestment2016lowres_0.pdf

[6] Green Investment. (2015). Fundsurfer. Retrieved 20 June 2016, from https://www.fundsurfer.com/funding-

options/green-investment

[7] Lowder, T. (2012). Weather Derivatives as Insurance Products in the Wind Industry | Renewable Energy Project Finance. Financere.nrel.gov. Retrieved 1 July 2016, from

https://financere.nrel.gov/finance/content/weather-derivatives-insurance-products-wind-industry

[8] Opinion of Independent Financial Advisor regarding acquisition and connected transaction. (2011). http://demco.listedcompany.com/. Retrieved 5 July 2016, from

http://demco.listedcompany.com/newsroom/2011-06-10_DEMCO02_EN.pdf

[9] UK Offshore Wind: Opportunities for trade and investment. (2014). greeninvestmentbank.com. Retrieved 15 July 2016, from http://www.greeninvestmentbank.com/media/44638/osw-pitchbook_dec-2014.pdf

[10] Unlocking investment to deliver Britain’s low carbon future. (2016). e3g.org. Retrieved 5 July 2016, from https://www.e3g.org/docs/Unlocking_investment_to_deliver_Britains_low_carbon_future_-

_Green_Investment_Bank_Commission_Report_June_2010.pdf

[11] Vivid Economics in association with McKinsey & Co, The economics of the Green Investment Bank: costs and benefits, rationale and value for money, report prepared for The Department for Business, Innovation &

Skills, October 2011

[12] Where's the money coming from? Financing offshore wind farms. (2016). ewea.org. Retrieved 10 July 2016, from

http://www.ewea.org/fileadmin/files/library/publications/reports/Financing_Offshore_Wind_Farms.pdf