Achieving universal energy access is a key pillar of SDG 7. It is also a crucial development priority in sub-Saharan Africa, as the region accounts for more than two thirds of the global population without access to electricity. Even though certain countries have set ambitious targets to reach universal access within the decade, around 592 million people still lack access to electricity in the sub-continent.
While expanding national power grids into the numerous sparsely populated regions of sub-Saharan Africa is often not economically viable (at least in the short-medium term), decentralised solutions are projected to play a key role in the provision of modern energy services to a large part of the regional population currently without access to energy. In that sense, mini-grids represent, among others, an interesting solution.
However, investments in the mini-grid sector are currently insufficient and usually concentrated among big players, leaving seed and early-stage financing in short supply. In addition, return-seeking investors have a high risk perception towards (decentralised) energy access solutions in sub-Saharan Africa. Therefore, the development of innovative financing instruments and risk-sharing strategies able to channel the capital required by decentralised energy solutions is critical, especially those targeting the hundreds of millions without electricity.
Creative financial engineering and use of data to mitigate risk
Many of the key risks often cited by investors when focusing on the financing of mini-grids in sub-Saharan Africa can be partially mitigated through creative financial engineering and effective uses of existing data technologies. While some of them, like the currency risk or uncertainties linked to environmental factors, can hardly be addressed by investors and/or project developers due to their macro dimension, others may potentially be decreased by developing appropriate financing solutions and using adequate business and technological support. This article focuses on the latter and presents how certain investment risks associated with the financing of mini-grids in sub-Saharan Africa could be mitigated by profit-seeking investors and/or project developers.
In addition, it aims to present a concrete example of an innovative financing vehicle, the Rural Futures Fund (RFF), that uses customer payments of existing mini-grids as collateral to provide energy project developers with low-cost growth capital. This financing vehicle utilises data derived from smart meters, geospatial information systems (GIS) and demographics to estimate and categorise future electricity consumption of mini-grid customers over a given time period. It then exploits this information to select, segment and acquire the rights over future revenue streams from customers with similar characteristics across multiple mini-grid projects and geographies. Thus capital flows to developers who benefit from this increased liquidity and can, for example, expand their businesses and build more mini-grids.
First, the myriad of business environment risks in sub-Saharan Africa may be complex to conceptualise and understand for many investors, making their analysis and pricing difficult, and more expensive. Yet, certain operational risks such as technical and management related issues can be addressed through the use of industry equipment standardisation and quality assurance frameworks, as well as the selection of high-quality mini-grid developers with good implementation sites and solid operational processes. Solutions, like those based on real-world data, that enable a better selection and segmentation of developers, sites and customers can thus reduce business and operational risks.
Second, the customer risk and social acceptance concerns remain major challenges for both mini-grid developers and investors, as it is extremely difficult to predict stakeholder behaviour at an early development stage before a site is built. Such uncertainties become clearer over time as the project operates. Yet, these risks can be partially lessened through modern smart metering technologies, geospatial analysis and advanced data analytics techniques. High resolution insights gleaned from smart meters and satellites can be exploited to overcome data gaps such as inaccurate demand prediction and seasonal variation. They also help understand the willingness and ability to pay, as well as assess social acceptance issues which exist during implementation phases.
Diversified project portfolios lessen risk
Furthermore, the provision of energy can go beyond household needs, and be combined with income generating activities and/or anchor customers (e.g. health centres, telecom towers, public agencies). Focusing on productive users of energy can help reinforce revenue streams and guarantee a minimum demand level for mini-grid projects, as households typically have a low ability to pay and little energy consumption, especially in rural zones. Extending the client focus to productive users of energy is a strong emerging strategy to reduce the off-taker (customer) risk.
Third, country-specific risks, including political, legal and regulatory uncertainties, can be partly mitigated through the building of large and diversified project portfolios (including distinct countries, developers, sites, technologies and/or customer segments). Indeed, using aggregation techniques and diversification strategies reduce risks associated with the overall country situation. Moreover, aggregation has the added benefit of increasing transaction sizes, as small investment tickets is another often cited pain point for large commercial investors due to high transaction costs relative to the investment size.
Finally, certain economic and financial risks borne by early-stage investors can be lessened through the provision of solid and foreseeable exit strategies. The latter can be ensured through the development of mature refinancing and securitization markets for mini-grid projects. Strong secondary markets for African mini-grid infrastructures would be seen as a sign of industry maturity and an inflection point for the sector’s growth, bringing confidence to early-stage investors (in particular construction debt providers). In addition, the use of affordable and adequate financial products, adapted to overcome the financial constraints of mini-grid projects, may avoid potential liquidity issues faced by project developers and further decrease the refinancing risk.
Financial solution for mini-grid developers
Mini-grids have been failing to attract the necessary capital to achieve universal energy access in the subcontinent due to high risk perception associated with (rural) sub-Saharan African projects and businesses. Creative financial engineering and the use of data can help shed light on this lucrative yet daunting investment opportunity. This is what the RFF aims to achieve by combining many of the above-mentioned risk mitigation techniques to provide mini-grid practitioners with a customised financial solution and support them in becoming a pillar in the sector’s growth and maturation. Put simply, this financing vehicle leverages existing mini-grid data infrastructure to deploy traditional securitization techniques (already in use in adjacent markets) tailored to the mini-grid sector. The RFF’s objective is to help project developers monetize one of their single greatest financial assets, namely future customer revenues. Unlocking investment and effectively shortening the capital cycle is expected to drastically accelerate sectoral growth across sub-Saharan Africa.
By using data technology, the RFF selects, segments and aggregates customers, enabling a reduction of risks, including business environment, financial, client and social acceptance risks. The financing vehicle will start by identifying low volatility (low risk), high-value and high growth customers, through information emanating from smart metering combined with complementary datasets. High-value customers typically consist of entrepreneurs and commercial energy users, with higher and more predictable consumption patterns than households and other consumptive users. Selecting, isolating and ring-fencing productive users of energy allows a significantly better allocation of risks across different customer types. This subset can thus be financed through low-cost, patient and risk averse forms of commercial capital, whilst others, like household customers, may require concessionary financing to become viable. Moreover, as the financing vehicle’s financial returns are strongly linked to customers’ payments, the RFF’s team also offers them targeted business support, in order to further de-risk the financial performance of this specific subset of energy consumers.
Alleviating certain risks for investors
Parallel to isolating and ring-fencing customers, the RFF aims to achieve the same with revenues from energy sales. It provides upfront capital to project developers in return for rights over future revenues from the selected subsets of customers, isolating them from the parent company. Accordingly, this kind of bankruptcy remoteness separates the risks associated with the financial product from those directly linked to the company, thus effectively alleviating certain risks for investors.
On top of this, the RFF refinances a subset of customers from existing sites with visible and stable customer behaviour trends, enabling a better prediction of the expected financial performance of the subsets of customers acquired by the investment vehicle. By using accurate data inputs instead of often inaccurate demand estimates emanating from feasibility studies, this strategy reduces the off-taker and social acceptance risks. Furthermore, it effectively separates volatile project development and construction phases from stable operating activities, highlighting the strong case for distinct financing vehicles and risk premiums adapted to different implementation stages of mini-grid projects.
Finally, as a refinancing or securitization facility, the RFF provides a foreseeable exit for early-stage investors. This effectively reduces the risks for early forms of capital and supports sectoral growth. In addition, as the financing tenure of the RFF is time-bound, the facility enables a better allocation of risks for different investment mandates. The same flexibility allows the financing vehicle to isolate stable operating activities from risker ones.
The fund’s aggregation of customers, as well as the diversification of project developers and geographies, enable the reduction of a broad range of investment risks including but not limited to economic, financial, business environment and sovereign uncertainties. This provides investors with a clear and transparent opportunity to invest in the sub-Saharan African mini-grid sector at scale, and thus enhance the access to clean, modern energy services in the subcontinent.
AUTHORS:
- Kumbirai Makanza is a Renewable Energy and Energy Efficiency professional. He is currently an Energy Access Analyst at TFE Energy and the Founder of Asambe Mobility.
- Bruno Michoud is a PhD Candidate at CIRED (Centre International de Recherche sur l’Environnement et le Développemen)
- Manfred Hafner is a Professor in International Energy Studies and lectures at the Johns Hopkins University (School of Advanced International Studies – SAIS Europe Bologna Center) and at the Paris School of International Affairs at Sciences Po Paris.
References:
1. IEA; IRENA; United Nations Statistics Division Tracking SDG7: The Energy Progress Report 2020.
2. IEA Africa Energy Outlook 2019.
3. GOGLA The Off-Grid Solar Energy Industry and Sustainability 2021.
4. Michoud, B.; Hafner, M. Financing Clean Energy Access in Sub-Saharan Africa: Risk Mitigation Strategies and Innovative Financing Structures; Springer Briefs in Energy Series; Springer International Publishing, July 2021; ISBN 978-3-030-75828-8. available online at https://www.springer.com/gp/book/9783030758288 Falchetta, G., Hafner, M., Michoud, B., Rother, M., Private Investment in Decentralised Energy Access: Towards New Financing Strategies, Energy Research & Social Science, 202
