Driven by rapid expansion in developing countries, renewables are becoming a significant source of the world’s power. According to the United Nations Environmental Programme’s (UNEP) 9th “Global Trends in Renewable Energy Investment 2015,” investment in developing countries was up 36% in 2014, totaling $131.3 billion. China ($83.3 billion), Brazil ($7.6 billion), India ($7.4 billion) and South Africa ($5.5 billion) were all in the top 10 of investing countries while more than $1 billion was invested in Indonesia, Chile, Mexico, Kenya and Turkey. As renewables continue to expand into developing nations, it is incumbent upon developers to understand the risk features of some of these environments.
Best Practices for Renewable Development in Developing Countries
Renewable developers need to be mindful of the politics when they locate their projects. Unstable governments may expropriate projects, change laws, or even change regimes due to war or internal uprisings during the life of a long-term Power Purchase Agreement (PPA). Political risk insurance may be available, but coverage plans may be costly or incomplete. Partnering with an international organization like the World Bank or International Finance Corporation (IFC) may ease some of these worries since even unstable regimes look to these international organizations for financial stability and support in the global markets in the event of government default.
Developing countries may lack the general rule of law that provides for predictability and transparency of business transactions. In some countries, bribing government officials to obtain required permits may be the norm. Additionally, local courts may not offer developers relief for their claims as judicial officers may also request bribes or be closely aligned with the government decision-makers. U.S. companies need to be mindful to steer clear of engaging with such officials to avoid allegations of violating the Foreign Corrupt Practices Act (FCPA). Corruption risk may extend beyond just bribery; there are reported instances of local counsel threatening projects and extorting foreign developers to pay increased legal fees.
A developing country’s local currency may fluctuate greatly, and if their currency inflates the project’s revenue stream loses its value in international markets. To protect against currency risk, developers should either negotiate their PPAs to receive payment in a predictable currency or hedge this risk. Although, financial institutions offer exchange rate hedging instruments, such as currency swaps or currency futures options, the upkeep on these agreements may be expensive if the developer negotiates a good position on a volatile currency.
In negotiating the terms of PPAs and debt financing agreements, project sponsors should consider the potential impact on their projects of adverse weather/climate conditions or other natural disasters. Thus, developers should be mindful that, if for example completion or ongoing operation of their projects could be delayed or interrupted by flooding or other impacts from a major storm, they may need to invoke a force majeure clause due to an unavoidable event or occurrence.
The offtaker in many of these countries may be the government-sponsored utility. If the utility refuses to accept the project’s renewable power or fails to make payments, developers could find themselves seeking relief in a government-sponsored court. Developers should ensure that their PPA agreements provide for arbitration in a neutral venue to help alleviate this concern. Additionally, involvement by the World Bank or IFC could help developers navigate such situations.
If you have any questions regarding assessing risk or developing risk management strategies for renewable energy projects in developing countries, please contact our Energy Finance practice.