Don’t bank on the sun

Author: | Published: 1 Aug 2012
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One the most significant challenges facing governments today is energy security. The challenge becomes more profound for governments of developing nations, such as India, where a balance must be achieved between the crippling cost of import of petroleum, gas and coal and the cost at which energy is supplied to the vast majority of poor consumers. To this one must add the burden of securing long term energy requirements. A glance at projections of the Planning Commission of India suggests that for India to sustain a GDP growth rate of 9% per year over the next five years, it will require energy supply to grow at around 6.5% per year. Such a rate of growth in the supply of energy is achievable and presents an opportunity for investors.

Recognising the need to reduce dependence on conventional sources of energy and the abundance of solar energy, the Government of India formulated the Jawaharlal Nehru National Solar Mission and issued corresponding guidelines i.e. the Jawaharlal Nehru National Solar Mission Guidelines. Most parts of India receive approximately 4kWh to 7kWh per square metre per day of solar radiation, thus offering significant solar energy generation potential. The Government of India incentivises investment into solar power projects through a slew of measures. Given the determination demonstrated by the Government of India to promote solar energy generation, several state governments have also formulated respective state level solar policies.

In this discussion, we will analyse the Gujarat Solar Power Policy (Gujarat Policy) and the main issues affecting banks and project developers in financing solar power projects. On the one hand, the Gujarat Policy offers incentives to project developers such as exemptions from electricity duty, exemption from demand cut to the extent of 50% of installed capacity and a fixed tariff for a period of 25 years. On the other hand, concerns relating to land acquisition and usage, structure of the power purchase agreements (PPAs) and the lack of clarity in policy are overriding concerns affecting the bankability of solar power projects.

It belongs to you, but I own it

In line with various state solar policies, the Gujarat Policy also aims to facilitate single window clearances for the setting up of solar power projects. Nevertheless, project developers still end up liaising with several departments to obtain clearances. For instance, the Gujarat Energy Development Authority (GEDA) has oversight over all solar projects in Gujarat. However, a project developer still ends up having to liaise with other government departments for obtaining land related approvals. For example, in the event a project developer is acquiring government land, the developer must obtain prior approval from the District Industries Centre/Industries Commissioner Gujarat, rather than GEDA obtaining this approval on behalf of the project developer.

One may argue that when government land is being acquired, liaising directly with the department that has administrative oversight relating to that land would be necessary. However, even when a project developer has acquired land that is not government land, such as agricultural land, the usage of this land must be converted to non-agricultural land for other purposes from the Collector/ District Development Officer Gujarat. Failure by the project developer to obtain conversion from the appropriate authority would render the land unusable for the solar power project. If the land acquired is used for any other purpose, the project developer will be liable to pay a penalty for usage of the land for purposes other than agriculture.

Inordinate delays on account of administrative formalities defeats the very purpose of appointing GEDA for single window clearances. Furthermore, a delay in obtaining conversion for usage of land has a cascading effect leading to delays in construction. This, in turn, affects the commercial operation date of the solar power project thereby financially impacting the developer. In the absence of speedy land clearances, banks and lending institutions tend to be unwilling to offer financing.

I have the power, you have control

Another significant hurdle to achieving financial closure in solar power projects is the bankability of the PPAs. In addition to other factors, at the time of lending, banks and lending institutions take into consideration factors such as whether the borrower has inter alia a good technology partner and experience. Since special purpose vehicles (SPVs) setting up solar power projects are relatively new and do not possess large balance sheets, the experience and financial stability of the promoters may also be considered. Banks and lending institutions also consider whether the borrower is a traditional energy developer with a strong balance sheet and guaranteed revenue generation.

The PPAs under the Gujarat Policy contain shareholder lock-in for a period of five years from the date of commercial operation, wherein the shareholding pattern of the SPV setting up the solar power project cannot be changed. An exception for inducting a technical partner is carved out i.e. any such technical partner can only acquire up to 49% of the shareholding of a SPV with the prior approval of GEDA. Project developers have realised that their applications to induct technical partners are met with indifference by GEDA, with GEDA not responding to such requests in either the affirmative or negative. This results in financing proposals of project developers being considered riskier by banks and lending institutions.

It is common for commercial banks and lending institutions to insist on security in the form of a pledge of the shares of the promoters of a company to secure debt. However, in the case of solar power project SPVs, banks and lending institutions tend to be reluctant to accept a pledge over promoter shares as security. Banks and lending institutions consider enforcement of the security risky as it would result in a change in the shareholding pattern of the SPV, which is not permitted without GEDA approval.

The PPAs do not specifically restrict the creation of security. However, the consequence of enforcement of the security results in a change in shareholding pattern. It would therefore be imperative for banks and lending institutions to obtain GEDA approval at the time of enforcement of the security. The PPAs do not contain a carve-out for lenders, and so banks and lending institutions are unwilling to secure the debt against a pledge of promoter shares. Therefore, in effect, banks and lending institutions that wish to consider lending to solar project developers must also expose themselves to regulatory risks, in addition to the promoter risks adding further uncertainty.

Another apprehension relating to the overall structure of the PPAs is with regards to the allocation of risk of non-payment by the state power distribution companies (SPDCs). Given the financial health of the SPDCs and the huge losses suffered by them, it is not uncommon in many instances that an SPDC ends up delaying or defaulting on payments. This is clearly a cause for concern for banks and lending institutions as the damages for delay in payment or for non-payment are not proportionate to the risk. Consequently, banks and lending institutions tend to seek additional collateral in the form of sponsor guarantees, which can often prove to be onerous for the sponsors.

It's my state, my rules

Prior to advancing loans, a bank or lending institution usually considers all aspects relating to a project to gauge the overall risks associated with it. Therefore, a bank or lending institution will generally examine the policies and regulations directly and indirectly affecting the solar power sector, as well as approvals, permissions and consents required and the legal documents entered into by a project developer. While the Gujarat Policy is a reflection of the considered view of the state administration, and it prescribes the manner in which the state wishes to do business with project developers, there is an urgent need for the Gujarat Policy to be streamlined and become more 'bank' friendly.

The Jawaharlal Nehru National Solar Mission and the Gujarat Policy, along with the solar policies of other states, have set out clear targets and established a market for solar power. However, in their present form, these policies offer little in terms of comfort to banks and lending institutions. The concerns of banks and lending institutions, such as those over uncertainty in policy, slow paced land reforms and vaguely drafted PPAs, need to be addressed.

Anjan Dasgupta
  Anjan Dasgupta joined HSA as a partner in April 2011. Prior to joining HSA, Dasgupta practiced as a senior associate with top tier international law firm Herbert Smith LLP in its London office. He was a core member of Herbert Smith's global energy and project finance practice. Dasgupta began his career in 2002 with well-regarded Indian law firm Trilegal in its Mumbai office. He has also practiced with top tier international law firm Norton Rose Canada LLP in its Toronto office.

Dasgupta's practice focuses on infrastructure, energy and project finance, public private partnerships and general banking and finance. He has more than 10 years of experience advising clients on large multi-currency and multi-sourced financings and has extensive multi-jurisdictional experience in finance and security package structuring, project management and advising on, drafting and negotiating finance documentation.

He has specific experience in acting on projects in emerging markets across a range of sectors including telecommunications, energy, mining, roads, oil and gas, ports, agribusiness and healthcare. He also has experience in clean technology and sustainable development financings. Dasgupta's clients include major corporations, banks and financial institutions, governments and other public bodies, and commercial organisations. He also has extensive experience acting for export credit agencies and multilateral institutions like International Finance Corporation (the World Bank Group), European Bank for Reconstruction and Development (EBRD) and Asian Development Bank (ADB).

He is a dual qualified lawyer admitted as both an advocate in India and a solicitor in England and Wales. Dasgupta has been recommended by Legal 500 – 2011/12 Edition for banking and finance, and projects and energy transactions in India.

Mobile: +91 8879338180

Navin Syiem
  Navin Syiem joined HSA as a partner in 2010. Prior to joining HSA, Syiem practised as a senior associate with Ashurst, a top tier international law firm, in the Dubai office. He was a core member of the firm's India practice focusing on corporate and corporate finance transactions. Syiem started his career in 2000 with a top tier Indian law firm in its New Delhi office and has also worked in-house as the India legal counsel for GE Commercial Finance from 2004 to 2007.

Syiem's expertise includes banking and finance, M&A, joint ventures, corporate finance and financial investment. He has around 12 years of experience advising domestic and multinational corporates, financial investors and government-linked entities on cross-border M&A and joint ventures in the Middle East and Asia, including India and Sri Lanka.

Syiem has experience advising on projects across a range of sectors, including manufacturing, television and media, aviation, energy, microfinance, telecommunications and financial services. Syiem also has extensive multijurisdictional experience in finance and security package structuring, project management and advising on, drafting and negotiating transaction documentation.

Syiem's clients include major corporations, equity investors, banks and financial institutions and government linked entities.

He is a dual qualified lawyer admitted as both an advocate in India and a solicitor in England and Wales.

+91 9560557767

The authors would like to thank Rajesh Pathania, senior associate, and Pooja Chatterjee, associate, of HSA Advocates for their contribution made to this article.

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