What Approaching Grid Parity Means For Investment In Renewable Energy
In a few, short years, renewable energy sources like wind turbines and solar panels will produce energy at a price that is equal to or lower than that of fossil fuels. The approaching grid parity, as it is called, is great news for renewable energy. Counterintuitively, it may also be a contributing factor to a recent drop in renewable investments.
My proverbial two cents is that while grid parity does indeed present investors in renewable energy with a conundrum, it is also a situation that can lead to massive returns on investments. Getting it right depends a lot on the due diligence process – which for renewables is a process that involves a lot of moving parts.
China Starts Grid Parity Trend
Grid parity’s imminent arrival is charted in a new Lloyd’s Register report, based on input from 800 energy professionals and experts from around the world.
The experts predict that solar power will reach grid parity in China, in 2022, followed by Spain and Saudi Arabia in 2024. Australia and the United States will follow a year later. For wind, Germany and the UK will be the first to reach grid parity in 2024, followed by Denmark 2025.
The energy industry experts and insiders add a couple of caveats to their predictions. One is that technological advances are needed to make widespread grid parity a reality. Better materials, energy generating technology and improved software, including artificial intelligence and big data, will be key.
“Renewable energy’s intermittent energy production and new demands on energy infrastructure create challenges. This is one of the reasons why we are seeing strong interest in energy storage and renewables-related software solutions,” Marc Reinecke, Partner and head of the Renewable Energy and Industrials team at BDO UK, explains.
The Investment Conundrum
One might think that grid parity should mean that investments were on the up across the renewables space, but data from the International Energy Agency suggests otherwise. In the 2018 version of its World Energy Investment report, the IEA warned that global investment in renewables fell by 7% in 2017, the largest drop in over 15 years.
“Although part of the drop-off was due to falling costs that made renewable sources like solar PV more affordable than ever, the investment decline still represents a warning,” the IEA said.
In other words, investors are getting more for less when it comes to renewables. One would think this would mean more, not less, investment, but the current situation represents a classic investor conundrum: why should I invest today if I can buy the same for less later? It would seem some investors are sitting on dry powder, mulling the answer to that question.
Perhaps playing a waiting game is a good idea. On the other hand, delaying investments could mean investing during a likely gold rush when renewables do reach grid parity - in other words, investing when the competition will be be fiercer.
“We are in the transition towards grid parity. At the same time, we are seeing increased interest in power purchase agreements (PPA), and major investors divest from coal towards renewables. It is likely a question of time before the same happens to natural gas,” Marc Reinecke says.
Due Diligence Provides Clarity
Uncertainties regarding the pros and cons of specific renewables projects, companies or solutions – and when to invest - can be addressed through a thorough due diligence process. In the renewables space, that entails keeping track of many moving parts, and getting it right can be challenging.
Expert insight is at a premium as certain technical, legal, environmental, financial, and social risks and opportunities are unique to the renewables space.
- Technical aspects include in-depth understanding of current technologies and developing trends. It also covers areas such as production forecasts, energy yield analysis, design, projected lifespan, and upgrade opportunities.
- Legal aspects include permits and licenses, grid contracts, tariffs, understanding ramifications of changes to legislation, and industry-specific EPC contracts.
- Environmental issues could include construction, sustainable supply chains and quantification of environmental impact.
- Social aspects include local, national and international perception of projects and factories and potentially changing energy needs.
- Financial issues include industry, market and technology valuation, model assurance, profitability analysis, as well as tax and auditing aspects.
The Small Print
Taking a closer look at specific steps in a renewable energy due diligence process illustrates how complex issues need to be addressed before investing.
Markets and regulations
Changing regulations have dogged renewable energy projects over the last few years. That is particularly true for feed-in tariffs, which are likely to disappear as we approach grid parity. Precise projections of how and when feed-in tariffs will be phased out in all the markets where a company or project is active help accurately evaluate mid to long-term profitability.
Model assurance and R&D taxes
Such projections are integral for valuations, as well as developing a precise financial model. The latter is decisive when it comes to obtaining loans for funding investment from the likes of banks or other financial institutions.
While the areas that need considering are too many to list here, I would like to mention capital allowances and R&D taxes as particularly important. The latter is particularly pertinent in the transition towards grid parity, as it can help future-proof investments through continued innovation It is worth noting that R&D claims in renewables are by no means the remit of manufacturers and technology developers. Servicing companies is another area, and renewable asset managers also have golden opportunities to invest in R&D that, amongst other things, improve monitoring.
Finding Your Way
The central point is that the complexity of renewable energy investments means that most investors will need to ally themselves with several parties to optimise the due diligence process.
Technical experts are vital, but so are financial experts. Collaborating with specialists in each field means getting the best foundation for making informed business decisions on investments that help build a greener future while simultaneously being profitable.