Investment criteria for hydropower investment

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Senior Investment Manager | Hydropower & Head | Energy Research

2 Managed Funds
1 Professional Article

20 June 2013 | Hydropower is the most widely used renewable energy source in the world, according to the World Energy Outlook 2012. With installed capacity of more than 1,000 gigawatt (GW), a surge of investment is expected to take capacity to 1,680 GW by 2035, with non-OECD countries accounting for 90% of this growth. China, for example, is expected to double capacity by 2035 to 420 GW. The report also forecasts high power investment in other growth countries such as India and Brazil.

Investment location Turkey

A difficult issue for investors, however, is knowing how to estimate the market-specific, infrastructural and political risks which in some cases are high. For us, the crucial concern is to decide where investors can find a good risk-return profile which at the same time takes political, technical and ecological background conditions and demands into account. An example of this can be found in Turkey. The huge hydropower resources which the country on the Bosporus has to offer are confirmed by Germany Trade & Invest, which believes that more than 16% of Europe's hydropower potential is located in Turkey. Until now, however, this southern European country has only been tapping around 40% of this potential. The Turkish government is promoting the expansion of renewable energies with a Renewable Energies Law which makes provisions for the share of alternative fuels in power production to be raised to 30% by 2023. Prompting these measures is the growing demand for energy in the domestic market which is being spurred by strong economic growth. Today Turkey imports a good 70% of its energy requirement in order to meet demand and will need to find alternative solutions for even higher demand expected in the future. As hydropower is able to boast an above-average efficiency factor of 90-95%, its share in energy provision will prove decisive in this context.

Specific criteria

To structure a successful hydropower investment, location and a number of other key investment criteria must be considered. Below we elaborate on the criteria which the Aquila Capital Hydro team uses as the basis for its investments in hydropower plants. At the moment, the team is made up of six members, some of whom have been working for Aquila Capital since 2007. They have years of experience and can draw on an extensive network of contacts in the field.

1. Expertise:
The most important criterion is the experience of both the issuer and the partners involved. Both the construction companies and the suppliers of key components such as turbines, generators and automation technology should give evidence of sufficient expertise and of good reference plants.

2. Project status:
The plant or plants in question should have reached at least the "ready to build" status. This means that offers for the construction prices should already be available and the contracts for connecting the plants to the grid should also be signed. If the power plant in question has already been built, both in-house hydropower engineers and external, independent hydropower experts should be consulted in order to determine the value of the plant.

3. Authorisations and studies:
It is vital that all authorisations, licenses and concessions have been obtained for the project and proposed operations. Investors should also attach great importance to the availability of studies by independent experts. Such analyses should focus on environmental sustainability, geology and hydrology, using data covering at least 20 years. This is where one of the inherent strengths of hydropower comes into play, thanks to the availability of historical data which goes back many years.

4. Maintenance and operating costs:
For the operating phase of the plant, agreement should already have been reached in advance on the maintenance and operating costs so that any unexpected cost developments can be ruled out. For example, a maintenance contract with a reputable hydropower plant construction company is necessary. Furthermore, a producer-performance guarantee, agreed and signed in advance, is also essential to carry out any repairs or replacements should key components such as turbines or generators break down.

5. Purchasing and feed-in tariffs
A further decisive factor for the profitability of a hydropower plant is whether the power being produced will also be purchased – and if so, at what tariff. As regards remuneration, there should either be a state-guaranteed minimum feed-in tariff or the possibility of selling the power to state-owned or private utilities or to clear this via public securities exchanges. For private utilities, it is vital to obtain information on the particular investment grade rating.