75060 Working Paper Lessons from Output-Based Aid for leveraging �nance for clean energy Mustafa Zakir Hussain Catherine Etienne September 2012 Working Paper Lessons from Output-Based Aid for leveraging �nance for clean energy In the context of an increased focus on results based approaches and the World Bank’s new Program-for-Results instrument Mustafa Zakir Hussain Catherine Etienne September 2012 Finance, Economics & Urban Development Department Sustainable Development Network The World Bank ii L E S S O N S F R O M O U T P U T- B A S E D A I D Contents The Authors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . v Preface . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . vii Setting expectations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ix Abbreviations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xi Acknowledgements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xiii Summary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xv 1 Context for this Paper . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1 Background to the need for investment in clean energy from Climate Change policy perspective . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1 Background from the Development Policy Perspective . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2 2 Understanding Constraints to Investment . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5 The Policy Maker’s View . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5 The Private Sector Investor’s View . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6 Additional Financing Barriers . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9 3 Introducing RBF, OBA and its Use for Clean Energy . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13 De�ning RBF . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13 De�ning OBA . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14 4 Focus on Output Based Aid Experience . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17 OBA Clean Energy Projects . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17 5 Lessons from OBA for Using RBF to Develop Investment in Clean Energy . . . . . . 21 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21 Why Might an OBA Subsidy be more Effective than a Traditional Subsidy? . . . . . . . . . 22 Which Aspects of OBA Overcome Risks and Institutional Barriers? . . . . . . . . . . . . . . . . . 25 6 Using RBF to Deliver Clean Energy in Developing Countries . . . . . . . . . . . . . . . . . . . 31 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31 Issues that Need to be Addressed to Develop RBF Projects . . . . . . . . . . . . . . . . . . . . . . . 32 Proposal for Developing RBF Projects . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33 Proposal for an RBF Facility for Clean Energy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33 7 Conclusions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 41 8 References. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 43 ANNEX . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 47 iv L E S S O N S F R O M O U T P U T- B A S E D A I D Annex 1 Financiers and Developers Consulted during the 2010 Africa Energy Forum, Basel . 47 Annex 2 World Bank Clean Energy OBA Projects . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 47 Annex 3 Discussion on GPOBA ProjectProgress . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 50 v The Authors M ustafa Zakir Hussain is Senior Infrastructure Finance Specialist in the Financial Solutions Group, Finance Economics Development Network of The World Bank based in Washington, DC. Catherine Etienne is a public policy & Urban Development Department, Sustainable economist based in Paris. vi L E S S O N S F R O M O U T P U T- B A S E D A I D vii Preface T his working paper has been prepared as background documentation to sup- port a number of efforts being undertaken by of �nancing modalities for the Program for Scaling-up Renewable Energy in Low Income Countries (SREP) under the Climate Investment the World Bank and other multi-lateral and Funds and the joint program on results based bi-lateral donors in middle- and low-income �nancing and renewable energy that has been countries linking support to clean energy with launched by the Energy Sector Management the need to make such supports more effec- Assistance Program (ESMAP) and the Global tive at leveraging the private sector and more Partnership on Output Based Aid (GPOBA). focused on delivering sustainable services Also, application of the new World Bank instru- to low income consumers. These efforts ment: Program-for-Results. This working paper are linked to the delivery of grants, credits, uses a combination of project experience, recent loans, and partial risk guarantee instruments. literature, and discussions with developers to Speci�c efforts include current development substantiate its arguments. viii L E S S O N S F R O M O U T P U T- B A S E D A I D ix Setting expectations This Working Paper does: in middle- and low-income countries in coordination with other Multi-lateral t Assume that signi�cant investment is Development Bank instruments such as needed in clean energy generation infra- concessional loans and credits (such as structure in middle- and low-income from the Clean Technology Fund). countries (irrespective of how much and whether it is due to the need to mitigate This Working Paper does not: climate change, to promote green growth, or to promote the least cost local energy t Examine all the practical dif�culties of access solution). investment in clean energy in middle- t Assume that additional subsidy support and low- income countries (including (in one of a number of forms including the various barriers linked to regulation, feed-in tariffs) is required for a number of grid connection, etc.) or with the exist- these investments (irrespective of whether ing schemes that have sought to address carbon �nance is available). the desire to accelerate clean energy t Focus on delivery mechanisms for bi- investment. lateral, multi-lateral, host government t Speci�cally address strengths and subsidy, and consumer cross-subsidy fund- weaknesses of the Clean Development ing to enhance private sector investment. Mechanism and only briefly touches on However, the speci�c source of funds is not issues with using carbon �nance in the deemed to be especially relevant for the current market. purposes of this working paper. t Carry out an assessment of experience t Focus on some of the useful characteristics with Feed-in tariffs or Advanced Market of Output-Based Aid (OBA) experience to- Commitments, or indeed other results- date that may be relevant. orientated schemes. t Propose an option for how OBA experi- t Address in detail non-results based mecha- ence could be used to deliver national nisms for enhancing private sector invest- and programmatic supports to projects ment in renewable energy. x L E S S O N S F R O M O U T P U T- B A S E D A I D xi Abbreviations AEPC Alternative Energy Promotion Center MDB Multilateral Development Bank [of Nepal] MFI Micro-Finance Institution AMC Advance Market Commitment MSC Medium-term Service Contract CDM Clean Development Mechanism NAMA Nationally Appropriate Mitigation CER Certi�ed Emission Reduction Action CFL Compact fluorescent lamp NGO Non Governmental Organization CIFs Climate Investment Funds NOBA [Philippines] National Output-based CoP Conference of the Parties Aid Facility CSP Concentrating Solar Power OBA Output Based Aid CTF Clean Technology Fund OBD Output Based Disbursement DfID Department for International PO Participating Organization [in Development [UK government] Bangladesh Rural electri�cation EU ETS European Union Emissions Trading and renewable energy development Scheme project] FIRR Financial Internal Rate of Return PPA Power Purchase Agreement FiT Feed-in Tariff PRG Partial Risk Guarantee G-8 The Group of Eight [Governments PV Photovoltaic [solar energy including France, Germany, Italy, generation] Japan, the United Kingdom, the RBF Results based �nancing United States, Canada, and Russia] RBL Results Based Lending [World Bank GEF Global Environment Facility instrument] GET-FiT Global Energy Transfer Feed-in Tariffs RERED Rural Electri�cation and Renewable for developing countries Energy Development GPOBA Global Partnership on Output Based SHS Solar Home Systems Aid SIP Solar Irrigation Pump IDA International Development SME Small- or medium-sized Enterprise Association SREP Program for Scaling-up Renewable IDCOL Infrastructure Development Company Energy in Low Income Countries Limited [of Bangladesh] SPUG Small Power Utilities Group IEA International Energy Agency [of the Philippines] IFI International Financial Institution TA Technical Assistance IRR Internal rate of return TTL Task Team Leader IL Investment Lending [World Bank UNEP United Nations Environment instrument] Programme IVA Independent Veri�cation Agent UNFCCC United Nations Framework KfW Kreditanstalt für Wiederaufbau Convention on Climate Change [German Reconstruction Credit WBG World Bank Group Institute] WDR World Development Report xii L E S S O N S F R O M O U T P U T- B A S E D A I D Wp Watt-peak xiii Acknowledgements T he authors acknowledge funding from the Global Partnerships on Output-Based Aid (GPOBA), a multi-donor trust fund adminis- t International practitioners/sector experts: Nick Elms, Manager, Frontier Economics Ltd, London; and Amit Oza, Director, tered by The World Bank. Palmetto Ventures Ltd, London. Comments and advice were received from t The following World Bank staff provided the following: inputs to this paper: Geeta Kumar, Luisa t World Bank staff: Patricia Veevers-Carter, Mimmi, Mario Suardi, Wajiha Ahmed, and Catherine Russell, Yogita Mumssen, Luis Zubair Sadeque. Tineo, Victor Loksha, Beatriz Arizu de Jablonski, Alan Townsend, and Salvador Rivera. xiv L E S S O N S F R O M O U T P U T- B A S E D A I D xv Summary A t present, economically viable clean energy projects in developing countries are not being �nanced by the private sector in suf�cient An appropriate package of measures would look to raise returns (if appro- priate) and reduce return expectations numbers to meet all energy access needs. Apart (perhaps by reducing perceived risk). from the normal risks associated with invest- − Where project scale is small, access ing in developing countries, the issue raised by to �nance may be limited because investors is a perceived lack of �nancial viabil- investing in relatively small projects ity of such projects for a number of reasons: is not often cost effective to interna- t The upfront �nancing requirements for tional lenders and the local �nancial clean energy projects are often more than markets may have limited capacity. those for conventional energy investments t It follows that the following actions may and therefore place higher demands on help address these problems: �nancing, including project �nancing (if − Disbursing subsidies to increase relevant) and structuring. clean energy project returns and − The running costs of conventional address the �nancial viability gap in energy faced by the operator, though a secure manner, thereby making the typically higher than renewable energy projects bankable. Subsidies may also investments, do not reflect the true address consumer affordability gaps, economic costs. If the (negative) especially when targeted. externality-related costs were fully − Maximizing cashflows to clean added to the cost of conventional energy projects—especially during power generation, they would add to projects’ early years. the operating costs. Without the inclu- − Reducing the risks associated with sion of these externalities, the overall the project. �nancial returns to a conventional − Developing access to local �nance energy project are often still higher institutions – especially where project than comparable renewable energy scale is small. investments (even taking account of − Increasing capacity within local the need to transport fuel and face institutions—especially �nancial commodity price risk for conventional institutions. energy projects). t In terms of solutions, there is an increas- − Renewable energy investments are ing interest from donors towards using typically perceived as signi�cantly results as a basis for disbursement of more risky than conventional energy subsidy funds (known in some quarters investments for a variety of reasons as Results Based Financing or RBF). In relating to their site-speci�c nature, such schemes, resources are disbursed not signi�cant need for resource data, against individual expenditures or contracts greater reliance on the regulatory and on the input side, but against demonstrated policy environment, technology, etc. and independently veri�ed results that are To compensate for taking on more largely within the control of the Service risk, investors look for (but often do Provider. There is therefore risk transfer not �nd) higher investment returns. to the Service Provider. Output-based aid xvi L E S S O N S F R O M O U T P U T- B A S E D A I D (OBA) has pioneered this approach for in developing RBF projects. In particular, delivering basic services to the poor (for there appears to be a good case for results- water supply, sanitation, electricity, etc.). based support for generation investment t There is already signi�cant experience in that goes beyond FiT payments and offers developing countries with OBA. Emerging a more bespoke design for the project evidence suggests that OBA has deliv- along the lines of design undertaken for ered some success relative to traditional delivering OBA projects to date. (upfront) subsidy delivery mechanisms. t Going further and applying RBF experience OBA subsidies encourage ef�ciency (such as OBA) at scale—an RBF facility through good targeting of subsidies and focusing on clean energy could be set-up as creating incentives for Service Providers to a government run national umbrella recep- deliver in a timely manner and at low- tacle for international climate �nance for a est cost. If designed appropriately, OBA particular country. It would be a national schemes can also address risks and insti- level entity offering targeted subsidies/ tutional concerns that can block private reimbursement after pre-agreed results have investment. In particular, an OBA project been independently veri�ed. Contributors can be designed to both help attract local to the facility would effectively be pur- �nance (through offering low cost �nanc- chasing results. These results could be ing to catalyze local �nancing activity) and broader than meter readings (which are develop its capacity. the typical results under FiTs and which t The OBA experience highlights the merits are the result of a number of intermedi- of signi�cant time being spent up front ate steps). Subsidy payments could target on project design. A large part of design- bespoke intermediate steps in developing ing an OBA scheme concerns setting up the projects (which may include targeting the appropriate institutional relationships, actions by project developers, �nanciers, incentives, targeting, independent veri- and household consumers in turn). A �cation and funds flow arrangements in number of different intermediate and �nal middle- and low-income countries. These outputs could be incentivized and a variety are important areas of experience appli- of results could be crafted to act as triggers cable to supporting increased take up of for disbursement. These could include clean energy in developing countries. �nancial closures for targeted technolo- t This experience with OBA appears to be gies, project commissioning, generation of very relevant to developing a number of veri�ed MWhs and working connections to (institutional) aspects that are necessary to consumers. set up workable RBF schemes in develop- t In relation to commercial lending for ing countries. OBA schemes have generally projects, a partial risk guarantee issued by focused on payments for making basic an MDB such as the World Bank could be access affordable. These have in some used to back-stop host country credibility cases included payment for generation in the actions of such a national facility. capacity and outputs. Feed-in tariffs (FiTs), t Close scrutiny needs be given to how these the traditional subsidy support for clean lessons can be applied to use of funds from energy, have focused on supporting genera- CTF, SREP, and general MDB lending— tion investment (by assuring payments for which are all increasingly under pressure generated power). It would be sensible to to make use of results-based mechanisms combine the experience from both schemes for disbursement. 1 1 Context for this Paper The key messages of this section are sum- marized in the box below. Background to the need for investment in clean energy from Climate Change policy perspective The Policy Response being Requested by the Global Community Focuses on t Although there is signi�cant Modalities for Scaled up Investment investment taking place in clean and Results based Mechanisms. energy, indications are that signi�cantly more investment Global investment in clean energy is increasing. is needed to meet investment However, by many measures, signi�cantly more objectives whether linked to climate investment may be needed. If looked at purely change, broader green growth from a climate change perspective, the World objectives or as national/local least Development Report 2010 states that mitiga- cost energy access solutions. tion costs in developing countries could reach t (Limited) public funds need to $140–$175 billion a year by 2030 with associ- focus on maximizing impact. In ated �nancing needs of $265–$565 billion.1 practical terms, this means ensuring Current flows of mitigation �nance average that expenditure creates the right some $8 billion a year to 2012. investment incentives for other To address this requirement, the Conference stakeholders, especially co-investors of the Parties (CoP) through the United Nations from the private sector. Framework Convention on Climate Change t There has also been a shift in (UNFCCC) and related legal instruments exist— development policy towards with the aim to achieve stabilization of global results based �nancing. Through greenhouse gas concentrations in the atmo- the 2005 Paris Declaration on Aid sphere at a level that prevents dangerous anthro- Effectiveness, 90 countries signed up pogenic interference with the climate system. to the principle of results orientated The thirteenth meeting of the CoP aid, and in 2010, the UK Government hosted by the Government of Indonesia in announced its review of multilateral 2007 resulted in the Bali Action Plan,2 which aid which aims to redirect funds in formalizes the need for action at the national favor of results-based programs. level. It states that the CoP should imple- ment enhanced national/international action t Donor action to increase aid on mitigation of climate change including effectiveness, while critically “Nationally appropriate mitigation actions important, is not going to address by developing country Parties in the context the funding gap in clean energy. of sustainable development, supported and More than anything else, donor enabled by technology, �nancing and capacity- funds need to be deployed in a building, in a measurable, reportable and form that maximizes private sector veri�able manner.� �nancing. 1 To limit global temperature increase to just under 2° Celsius. 2 UNFCCC 2007: 1.(b)(ii). 2 L E S S O N S F R O M O U T P U T- B A S E D A I D Signi�cant funding has been pledged funds that have more concessional terms than to support such actions. In September 2008, conventional MDB lending to middle-income thirteen donor countries pledged over US$6.1 countries) for use in developing greater invest- billion to �nance the two Climate Investment ment in clean energy. They are able to combine Funds (CIFs) Trust Funds, the Clean Technology the two and have signi�cant opportunity to Fund (CTF) and Strategic Climate Fund (SCF).3 expand private sector investment. The CTF has been developed to demonstrate new approaches and provide lessons to Background from the Development contribute to the negotiations under the Bali Policy Perspective Action Plan. It promotes scaled-up �nancing for demonstration, deployment, and transfer Sustainable Development and Green of low-carbon technologies with signi�cant Growth5 potential for long-term greenhouse gas emis- sions savings. The CTF is �nancing programs A number of recent international initiatives have in 15 to 20 (predominantly middle-income) sought to broaden the rationale for investing in countries or regions and may total in the region clean energy from solely climate change (which of US$5 billion in concessional funds to be lent has global bene�ts) to also green and inclusive together with MDB funds. The SCF provides growth, which has more localized bene�ts. support to three targeted programs to pilot new A recent report by the World Bank on approaches with potential for scaled-up, trans- Inclusive Green Growth (World Bank 2012) formational action aimed at a speci�c climate argues that what it refers to as “greening change challenge or sectoral response. One of growth� is necessary, ef�cient, and affordable. these programs is the Program for Scaling-up Such growth is critical to achieving sustain- Renewable Energy in Low Income Countries able development and mostly amounts to good (SREP) which is to pilot and demonstrate, as a growth policies. Obstacles to such policies are response to the challenges of climate change, political and behavioral inertia and a lack of the economic, social, and environmental viabil- �nancing instruments, not the cost of green ity of low carbon development pathways in the policies as is commonly thought. energy sector by creating new economic oppor- The UN Secretary General has launched a tunities and increasing access to energy through global initiative to achieve Sustainable Energy the use of renewable energy. The program’s for All by 2030 (United Nations 2012). The size is approximately US$250m. The �nanc- initiative urges all stakeholders to take concrete ing modalities documentation for the SREP action toward three critical objectives: (1) ensur- includes results-based �nancing mechanisms.4 ing universal access to modern energy services; The CIFs were created through a con- (2) doubling the global rate of improvement in sultative process that involved a series of energy ef�ciency; and (3) doubling the share multi-stakeholder design meetings held by the of renewable energy in the global energy mix. World Bank Group and which took account Sectoral action areas for this initiative include of extensive global climate change consulta- large-scale renewable power and distributed tions (with potential recipients and donors, electricity solutions. Enabling action areas the United Nations family, other MDBs, civil society organizations, and the private sector). 3 See www.worldbank.org/cif for more details. The funds are to be disbursed as grants, highly 4 Available at: http://www.climateinvestmentfunds.org/cif/ node/2902. concessional loans, and/or risk mitigation 5 “Green Growth� or promoting growth in an environmental- instruments. ly sustainable manner refers to promoting economic growth while reducing emissions, minimizing waste and inef�cient Thus MDBs have both lending capacity use of natural resources and maintaining biodiversity and access to concessional donor funds (i.e. (OECD de�nition accessible at http://www.oecd.org). C O N T E X T F O R T H I S PA P E R 3 include �nance and risk mitigation, referring the poor in developing countries. In May 2010, to the need for approaches and instruments GPOBA donors agreed on expanding GPOBA’s to mobilize the amount of capital required, scope of technical assistance, and allocated a to direct that capital to appropriate priority portion of GPOBA’s budget for �scal years 2011– opportunities and—very importantly—to reduce 13 to support selected World Bank country and the risk of private investment in sustainable sector teams in connection with the design of energy through targeted use of philanthropic RBF schemes and projects. The purpose is to and public capital and the engagement of local share GPOBA’s experience on designing and �nancial institutions. implementing OBA schemes with project teams that are interested in results-based �nancing A Major Shift to Results-based mechanisms but where OBA may or may not be Approaches the most appropriate RBF approach. In 2010, the UK Government’s Department In developing programs under future fund- for International Development (DfID), a major ing efforts (such as those described above), donor to multilateral organizations (IDA) and MDBs are cognizant of a strong trend by trust funds (GPOBA),7 carried out a high pro�le donors towards using results as a basis for review of multilateral aid. The review aims to disbursement of funds. Actions such as the ensure the UK gets the maximum value from its Paris Declaration on Aid Effectiveness, where aid money by reviewing institutions’ perfor- 90 countries including the UK and France mance and redirecting funds to those that take signed up to the principle of “Managing Aid for a results-based approach to their programs Results: results-orientated aid evaluation and and that can demonstrate their impact on the noti�cation frameworks to improve the decision ground.8 making and monitoring process,� are important Donor action to increase the effectiveness to consider when designing policy.6 of aid, while critically important, is not going The World Bank’s Global Partnership for to address the funding gap in clean energy. A Output Based Aid (GPOBA) is a partnership signi�cant contribution is going to be required of donors and international organizations. Its from the private sector to meet targets being mandate is to fund, design, demonstrate, and discussed. More than anything, donor funds document OBA approaches to improve delivery need to be deployed in a form that maximizes of basic infrastructure and social services to private sector �nancing. 6 Paris Declaration on Aid Effectiveness 2005. 7 DfID provides around £3 billion (US$4.5 billion) of funds to multilateral aid organisations and is a major donor to IDA and GPOBA, providing GBP 2.13 billion of funding to IDA over the three-year period, 2008–11. Source: DfID. 8 DfID 2010a. 4 L E S S O N S F R O M O U T P U T- B A S E D A I D 5 2 Understanding constraints to investment T he key messages of this section are sum- marized in the box below. It is important to take into account all of the expected economic costs and bene�ts when evaluating a clean energy investment: The Policy Maker’s View t Costs include the capital and operating costs of the investment as well as any non- The rationale for public sector investment is �nancial economic costs of the project; and linked to the test for economic viability.9 By demonstrating that the overall bene�ts to soci- 9 Conceptually, the rationale for public sector involvement ety are expected to exceed the costs, the public is the presence of a market failure. In the case of clean investor can expect that society will be better energy investment projects, the market failure includes off as a result of the investment. the failure of the market to monetize the impact of pollu- tion and climate change. There are other market failures Where there is more than one investment as well. These include local environmental impacts and option (including different options based on the for development projects, productivity bene�ts. Although timing of the investment), calculation of the identi�cation of a market failure is in principle carried out at the start of the project, we have structured this section net economic bene�ts can be used to select the to talk about barriers to investment, including market most economically bene�cial option. failures, later on in this section. t Apart from due to developing country political and off-taker credit worthiness related risks, clean energy projects fail to attract investment if they are not �nancially viable. Renewable energy projects tend to cost more and carry more risk than comparable conventional energy projects. A renewable project’s cash flow may not fully price in the bene�ts of renewable energy, and may not offer suf�cient additional compensation for the additional risk the investor must bear. Failure often occurs in the developmental stages of a project where relative costs and risks are particularly high. t The timing of payments and cash flows can themselves be an additional barrier to investment. In the current climate especially, investors’ preference for early returns makes renewable energy projects’ combination of relatively high upfront capital costs and long pay-back periods potentially unattractive. t A further barrier to investment concerns project scale. Small scale projects (below approximately US$20 million) face the problem that they are generally unattractive to international investors, yet the local �nance infrastructure is often ill-equipped to supply the necessary �nance. t Any solution to attracting more private investment capital to clean energy projects must therefore be seeking to address one or more of the following issues: − Disbursing subsidies to co-�nance projects and address the viability gap. − Maximizing cash flows to the project (especially in the early years). − Reducing risk to the project. − Developing access to local �nance institutions, especially where project scale is small. 6 L E S S O N S F R O M O U T P U T- B A S E D A I D t Bene�ts take into account both �nancial revenues as well as the non-�nancial FIGURE 1 DEMONSTRATING THE economic bene�ts (such as the avoided VIABILITY GAP FOR RENEWABLE environmental costs of carbon and other ENERGY PROJECTS emissions, health improvements and pro- Technology (installed capacity if ductivity bene�ts). applicable, capital cost, country) The Private Sector Investor’s View Existing IRR Target IRR Grid connection In considering whether or not to invest, a (US$75, Ethiopia) non-philanthropic private investor focuses on Solar PV (5Wp, US$1,050,Ghana) �nancial viability. Potential project �nancial Small hydro returns are compared against a benchmark rate (6MW, US$14m, Turkey) of return. The project’s internal rate of return Geothermal (20MW, US$80m, Turkey) (IRR) is compared against a target IRR, or cost Biomass gas of capital. For a renewable energy investment, (20MW, US$41m, Turkey) the target IRR may be the IRR of a comparable Onshore Wind conventional energy investment. (40MW, US$43m, India) Economically viable clean energy proj- CSP (100MW, US$630m, con�dential) ects may fail to progress as gaps in �nancial –10% –5% 0% 5% 10% 15% 20% 25% viability are common for such projects. This relates to the concept of “additionality� associ- Source: World Bank Project data ated with climate �nance: that the project is not Note: The project labeled “grid connection� in Ethiopia included the provision of CFL lamps and �nancially viable and would not be undertaken therefore could be considered a low carbon, mitigation, or green project due to its promotion of energy unless the (climate) �nancing is made available ef�ciency. For this project, the target IRR actually refers and that therefore the project is “additional� to to the eventual IRR when a subsidy was added. business as usual. Figure 1 demonstrates the case for a number of real projects. The �nancial viability gaps shown in Figure 1 above are created by one or both of the We discuss both of these investor deter- following: rents, inadequate cash flows and high project t Inadequate cash flows: The market or risks, below. regulatory regime’s failure to account for signi�cant economic bene�ts leading to Inadequate Cash Flows as a Deterrent low cash flows and low or negative project to Private Investment returns, demonstrated by the Ghana Solar PV project which exhibited negative �nan- There are a number of costs and bene�ts cial rates of return; and/or associated with clean energy projects that are t High project risks: Investors requiring a not normally priced by the market. The failure high target rate of return to compensate of markets to price all the bene�ts associated for the high project risks, illustrated by the with clean energy investment may lead to low Turkey biomass gas project where inves- �nancial returns and a �nancial viability gap tors were generally looking for return of 20 for an otherwise economically viable project. percent. This difference is compounded by the relatively high upfront capital costs needing suf�cient These potential deterrents are illustrated in project cash flows. The major bene�t not repre- Figure 2 below. sented in the cash flows is the avoided carbon U N D E R S TA N D I N G C O N S T R A I N T S T O I N V E S T M E N T 7 Advisors believe the CER value on average, but FIGURE 2 THE CLASSIC CLEAN subject to case-by-case analysis, would cover ENERGY PROBLEM: HIGH less than 5 percent of the initial investment UPFRONT INVESTMENT CASH required for generation using photovoltaics FLOWS AND INSUFFICIENT (AND (PV) and less than 10 percent for wind genera- UNCERTAIN) CASH FLOWS FROM tion in developing countries.11 It should be PROJECT RETURNS noted that this could be because PV and wind are not the cheapest forms of CO2 reduction, Project returns provide not because the price of CO2 is too low.12 Cash flow insuf�cient return In addition to the issues surrounding CER on initial investment prices, according to Deutsche Bank (2010), Project returns + CDM revenues can be limited because of the transaction costs of the CDM, and the Time comparatively small CER volumes generated – by renewable generators. Transaction costs resulting from CDM procedures can con- Investment sume 14–22 percent of CER revenues (Chafe Source: Authors. and French 2008: 100) and the average CDM project can take three years to start to issue its �rst CERs (Kossoy and Ambrosi 2010). A practitioner in the �eld raises the broader issue emissions from generating renewable energy.10 of risk vs. reward in developing CDM projects. Carbon emissions impose negative externalities For transactions costs for CDM that can be because their costs (causing global warming) of the order of $100,000 per project (which are not fully reflected as �nancial costs of the is a high proportion of total costs for small project. As a result, the high upfront capital projects), the risk associated with the project costs associated with clean energy projects being registered can be high, leading investors are often not suf�ciently offset by the ongoing to discount CER revenue entirely from their project cash flows to provide investors with a �nancial analysis. viable �nancial return (see Figure 2 above). Francoz (2010) suggests that some clean Mechanisms such as the Clean energy projects could still manage to be �nan- Development Mechanism (CDM) and the EU cially pro�table despite the omission of carbon Emissions Trading Scheme (EU ETS) cre- pricing, and yet fail to attract investment. This ate supplementary carbon �nance “assets.� suggests another force is at play. The following This puts a �nancial cost on emissions and sub-section considers the role of project risk in a value on abatement. However, there are explaining the �nancial viability gap. concerns that the market value of this cost is very volatile and the emissions are not suf- 10 This study focuses on the bene�t of avoided carbon emis- �ciently highly priced compared with the size sions that is realized by clean energy investment. Clean of the negative externality to attract signi�cant energy investments often result in further non-monetized investment (Kossoy and Ambrosi 2010:5,7). bene�ts. These include local environmental impacts, health bene�ts and, particularly for development projects, The value of Certi�ed Emissions Reductions productivity bene�ts. 11 Deutsche Bank 2010. (CERs) peaked at US$25/ton of avoided CO2 12 The percentages are a generalization. As well as the equivalent in July 2008 but fell to below US$8 technology in question, the countries in question will be in February 2009 and has remained below important. Countries with higher grid emission factors will lead to higher CER volumes and hence a greater contribu- US$15 ever since (Kossoy and Ambrosi 2010:5). tion to capital expenditure coming from CER revenue as By way of illustration, DB Climate Change compared with countries with low grid emission factors. 8 L E S S O N S F R O M O U T P U T- B A S E D A I D Project Risk as a Deterrent to Private Operational Risks Investment Once the project infrastructure is built, the Risk is an important driver of a project’s project is capable of generating cash flows. viability gap. This is particularly true for clean Investors need to be able to assess what these energy projects in developing countries where future cash flows will be. These are affected risks are perceived to be higher than in devel- by operational risks: the risks that cover how oped countries (Ritchie 2010). much energy will be generated and the ongoing Even if a project is pro�table, it may still costs of generation. have dif�culty attracting investment because of There are four broad areas of operational the investor’s prime interest in the risk-reward risks: ratio (Francoz 2010). In general, if an investor t Operations and maintenance risks – where considers there to be a risk that a project will the reliability of the generating plant may not deliver its expected return, it will demand a be unknown, leading to uncertainty over higher return as compensation. the running costs of the plant. Potential investors will want to assess the t Output quality risks – uncertainty about following three areas of project risk:13 the performance of the generating equip- t Construction risks; ment (equipment is usually adapted from t Operational risks; and one project to another so it is unlikely to t Contract terms risks. be fully tested, pre-project) and the local transmission equipment lead to uncertain- Construction Risks ties over the timing and quantity of energy that will be produced. The primary concern for investors is knowing t Environmental factor risks – the character- when the construction phase of the project will istics of the local environment are unlikely be completed so the project can start to generate to be fully known. Uncertainty over wind cash flows (the longer the construction phase speeds and crop yields, for example, will the more heavily discounted future returns will create uncertainty over the ability of the be) and what the capital costs of the project project to generate energy and realize cash will be (higher costs require higher and possibly flows. earlier future returns). These may be uncertain because of a number of construction risks. Contract Term Risks The �rst set of construction risks relates to preparation of the site (where environmental Contract term risks affect a project’s ability plans and resettlement frameworks may need to to generate cash flows as well as the ongoing be complied with). Clean energy projects such transaction costs of the project. as hydro-power and wind can be extremely There are three main types of contract term site speci�c and this can lead to signi�cant risks: site related complications. The next set of risks t Currency risks – the risk that the local relates to the physical construction of the gen- currency may be devalued over the course erating equipment. Each project is unique and of the project (reducing the value of cash there is a risk that some stages of the construc- flows outside the local economy) and the tion process will not go as planned. Also, the more complex a project, the harder it will be 13 Note: �nancing risks that form part of the contract terms— to coordinate contractors. A delay with one for example promises of loans or payments by public contractor may force delays on all other parts of institutions such as national governments or multi-lateral the project. lenders—are covered under contract term risks. U N D E R S TA N D I N G C O N S T R A I N T S T O I N V E S T M E N T 9 ease with which the local currency can costs of renewable energy projects raise a num- be converted into another and transferred ber of further issues that act as barriers: internationally (increased transaction costs t Access to initial developmental �nance: would lower project returns for investors Carrying out credible initial assessment, from outside the local economy). including the IRR calculation, requires t Force majeure events – these are outside the considerable information, which can be control of investors and may lead to sig- costly to acquire. Obtaining initial �nance ni�cantly lower cash flows, and/or higher for such early exploratory developmental project costs. This typically relates to phases is dif�cult yet crucial to a project naturally occurring events (such as floods attracting its equity and debt �nance and and hurricanes which can damage capital achieving �nancial closure. A developer equipment). has described access to developmental/ t PPA/off-taker/regulatory/market rules/sub- project preparation �nance as one of the sidy payment risks – for grid (and mini-grid) most signi�cant project investment barri- projects, investors need a guarantee that the ers. Estimates in the literature for project local utility company (or power consumer) preparation costs range from 2–10 percent will purchase the electricity they generate of construction costs (UNECA 2011). at the price and over the time period that t High up-front capital costs and liquid- allows them to recover their investment. ity constraints: Clean energy generation In practice, local utilities’ promises to pay projects tend to have higher upfront costs may provide little guarantee. This may than conventional energy projects (as proj- be because of weak �nances or political ects are site speci�c and technologies have demands over tariff setting.14 For smaller higher upfront costs). As well as this con- off-grid projects, investors require prom- tributing to the problem of inadequate cash ises of subsidy payments to be credible. In flows (discussed above), it causes another countries with new or nascent renewable problem for investors who (in the current energy policies, regulatory delays often stop �nancial climate) face liquidity constraints. projects in their tracks. Procedures around The project payback period (or the time termination of contracts and ensuing com- period until the project can be re�nanced) pensation will also need to be clari�ed. is important and investor appetite is strongly in favor of short payback periods. Additional Financing Barriers This means that larger projects with high upfront costs and longer payback periods There are further practical reasons why a proj- are even more dif�cult to �nance without ect may fail to attract investment. These relate support. to: t Development costs and investors’ liquidity Project Scale constraints; and t Project scale. The discussion so far has focused upon factors that affect the �nancial viability of all types of These are discussed below. clean energy projects, regardless of technology, geography, and scale. However small projects Development Costs and Liquidity face a slightly different set of investment chal- Constraints lenges to those of large projects, namely: The need for detailed information to assess 14 Substantiated by �nanciers at the Africa Energy Forum �nancial viability and the high up-front capital 2010, Basel (see annex for list of contributors) 10 L E S S O N S F R O M O U T P U T- B A S E D A I D t Investors view small projects as relatively �nance markets. But, this in itself can be prob- risky; and lematic because �nance markets in developing t High due-diligence costs deter international countries: investment and force small projects to t Often lack a track record with renewable access local �nance. technologies and so are less well equipped to undertake due diligence and assess Investors view small projects as relatively project risks;18 risky t Can charge high rates of interest—Chatham Smaller scale projects are often delivered by House (2010) provides the example of a 45 relatively small organizations such as non- percent interest rate in Zambia; and governmental organizations (NGOs). Investors t Are unable to support long term loans tend to view these organizations as relatively due to the high risks of supporting these high risk and so may not invest. The percep- through their short term deposits19 or tion of high risk is driven by the overall high indeed are unable to process anything failure rate of small- and medium-sized orga- other than a simple corporate loan. nizations (SMEs) and the tendency of these organizations to have short track records on The above assessment suggests that a which to base an investment decision and little number of factors will need to be adequately acceptable collateral (UNEP SEF Alliance 2010). addressed as a prerequisite to making projects �nanceable. This may include the regulatory Due diligence costs and access to local environment, site-speci�c issues, access to �nance adequate transmission, and use of government In addition to the higher risk that smaller and MDB guarantees. Fundamentally, however, projects represent, international investors are the project may require subsidies to bridge the unlikely to consider investing in small- or viability gap. medium-sized projects because of the �xed and The challenge therefore is to �nd a way of sunk costs of doing so. Our conversations with a disbursing subsidies to a project in a way that large �nancial organization suggested that proj- overcomes as many of the complications high- ects with funding needs of under US$25 million lighted above as possible to attract investment. would not be considered attractive.15 This is sub- There is extensive literature comparing different stantiated in Chatham House (2010) where an funding mechanisms and their advantages (see international bank described a debt size of less for example, DfID 2009 and Frontier Economics than US$20 million as being dif�cult to �nance. 2009). The remainder of this paper focuses on The �xed and sunk costs relate to the RBF—an innovative form of payment—and its project-speci�c due diligence process that must ability to bridge the gap and deliver greater be undertaken by investors prior to investment. investment. These can total between US$0.5 million and The above discussion suggests that any US$1 million per project, regardless of how solution to attracting more private investment small the project is.16 Portfolio �nancing, which capital to renewable energy projects must is used successfully in developed countries seek to address one or more of the following to overcome this problem, is less attractive in issues: developing countries as it exposes the project 15 Interviews with �nanciers at the Africa Energy Forum to currency risk, which is dif�cult to protect 2010, Basel (see annex for list of contributors) against in countries without sophisticated 16 Chatham House 2010. �nancial markets.17 17 Deutsche Bank 2010. 18 Interviews with �nanciers at the Africa Energy Forum To overcome the scale problem, project 2010, Basel (see annex for list of contributors). developers need to be able to access local 19 Source: Chatham House 2010. U N D E R S TA N D I N G C O N S T R A I N T S T O I N V E S T M E N T 11 t Disbursing subsidies to co-�nance projects t Reducing risk to the project. and address the viability gap. t Developing access to local �nance institu- t Maximizing cash flows to the project tions/local �nancing on appropriate terms (especially in the early years). where project scale is small. 12 L E S S O N S F R O M O U T P U T- B A S E D A I D 13 3 Introducing RBF, OBA and its use for clean energy T he key messages of this section are sum- marized in the box below. The discussion starts by de�ning RBF, before considering OBA in some detail. Introduction De�ning RBF The previous sections have set the scene in RBF can be de�ned as payments that are provided terms of the need to increase private invest- to businesses or households after measurable ment in clean energy and the barriers to pre-agreed actions have been achieved and veri- delivering this investment. This section turns �ed. The “�nancing� in results-based �nancing to potential solutions and in particular, RBF. refers to a payment to address the gap in funding between costs and revenues—the so-called afford- ability or viability gap. The payment could, for t Results-based �nancing (RBF) is example, be a subsidy to households so they can an umbrella term for innovative afford to pay the costs of connection to the elec- mechanisms that disburse subsidies, tricity grid, or a cross-subsidy to a utility enabling generally after pre-agreed results it to purchase otherwise �nancially unviable have been veri�ed. Resources are energy from renewable (clean) energy sources. disbursed not against individual The key difference from a traditional expenditures or contracts on the input (upfront, non-performance related) subsidy is side, but against demonstrated and that with RBF, payments are made only after the independently veri�ed results that Service Provider has delivered an adequate level are largely within the control of the of performance. The performance is normally Service Provider. There is therefore risk (independently) veri�ed before the payments transfer to the Service Provider. are made. This means that the performance risk t Output Based Aid (OBA) has is transferred from the subsidy provider to the been used by the World Bank to Service Provider. If an inappropriate investment is deliver investment in developing made, it is the Service Provider who is left unpaid. countries. While OBA is generally The Service Provider is motivated to deliver used to deliver relatively small- these outputs by an agreement entered into before scale investment, each project undertaking the investment setting out how much has had to deal with the issue of �nancial payment it will receive for delivering a overcoming risks and developing set of de�ned outputs. This could be a payment local institutional arrangements in per amount of electricity supplied or per house- developing countries. The experience hold connected to the grid, for example.20 of using OBA to deliver investment in developing countries is therefore a 20 In some cases, Service Providers may receive other ben- valuable resource that can be drawn e�ts such as re�nancing at attractive interest rates once the service has been veri�ed. The International Develop- upon to adapt the design of efforts ment Association (IDA) funded component of the Bangla- to deliver investment in low- and desh RERED SHS project is a good example of how this has been carried out in practice. See Box in Section 5 for middle-income countries. a description of the Bangladesh project and how low cost loans were used. 14 L E S S O N S F R O M O U T P U T- B A S E D A I D De�ning OBA Figure 4 illustrates the following process: 1. The Service Provider self-�nances and OBA refers to subsidy payments disbursed on delivers pre-de�ned outputs (for example, the basis of pre-agreed and independently veri- connections for off-grid households to the �ed outputs such as the number of working con- electricity grid, and in some cases afford- sumer connections to a mini-grid. OBA focuses able credit to households to �nance capital on delivering basic services (such as electricity costs). and water supply) to low-income communities. 2. To receive these subsidy payments, the OBA places great emphasis on ensuring good results must be veri�ed. First the Service targeting of low-income recipients, independent Provider reports on the outputs it has deliv- veri�cation of outputs, and robust institutional ered to an Independent Veri�cation Agent arrangements to ensure sustainability. (IVA). Table 1 below compares OBA with the tra- 3. These results may be checked by the IVA. ditional approach to disbursing subsidies. Checks usually focus on whether appropri- Figure 3 shows how OBA subsidies tend ate connections have been made. In the to boost upfront project returns. In order to be case where the results relate to the delivery sustainable, OBA subsidies have typically cov- of energy this veri�cation process could ered upfront connection-type costs, with ongoing simply consist of meter readings. Checks costs paid by the consumer. However there are may be scheduled over a number of months also examples of OBA transitional subsidies. to ensure sustainability of outcomes. Figure 4 below illustrates the steps to dis- 4. The IVA reports back to the funding bodies bursing subsidies for a typical OBA project. The on the actual quantity of outputs delivered. process follows the numbering given against 5. Based on the veri�cation reports, the the arrows. funding bodies release funds to the Implementing Agency. Table 1 Comparison of traditional subsidy and OBA instrument “Traditional� subsidy OBA Timing of payments Upfront – before capital One-off, transitional or ongoing depending upon funding costs are incurred and administrative capacity, nature of outputs and Service Provider preferences Ex-ante size Size of subsidy based on difference between cost (of technology) and ability/willingness to pay by consumer Ex-ante assessment of Review of institutions and determination of most institutional capability appropriate incentive structure Ex-ante de�nition of Contractual arrangement for funds flow funds flow Basis for payments Physical veri�cation that agreed outputs have been delivered (not necessarily 100% sampling) and veri�cation of billing records to ensure ongoing services are delivered Ef�ciency incentive? No – payments typically Yes – subsidy level pre-determined therefore Service on costs incurred Provider incentivized to minimize its costs Targeting of recipients Counterparty Geographic, self selection, means-based or other Independent Veri�cation agent (usually independent) veri�cation of results Source: Authors. Note: We use the term “traditional subsidy� to describe subsidies that are (usually) delivered on the basis of input costs rather than ef�cient output services, for instance, an upfront, �xed capital subsidy. I N T R O D U C I N G R B F, O B A A N D I T S U S E F O R C L E A N E N E R G Y 15 cases the World Bank/IFIs provide low cost FIGURE 3 TYPICAL OBA loans to the Implementing Agency.21 SUBSIDIES FOCUS ON ONE OFF 8. The Implementing Agency then uses these AND UPFRONT COSTS loans to offer low cost loans to the Service Providers. These loans are typically used OBA subsidies have typically focused on upfront costs to �nance household credit, the prof- (though there are also examples of transitional subsidies) its of which are used to �nance Service Cash flow Providers’ working capital. 9. The IVA gathers information on output Typical OBA Project returns delivery throughout the course of the + subsidies project and delivers an ex-post evaluation review to the funding bodies at its close. Time – While OBA is generally used to deliver Investment relatively small-scale investment, each project has had to deal with the issue of overcoming Source: Authors. risks and developing local institutional arrange- ments in low- and middle-income countries. The experience of using OBA to deliver clean energy investment in particular countries is 6. The Implementing Agency then releases these funds as subsidy payments to the 21 Low cost re�nancing is an important aspect of clean energy Service Provider. OBA projects where access to local �nance is a signi�cant 7. The OBA project may also provide incen- investment barrier. The next section of this paper (section 5), provides more explanation and uses the experience of tives to Service Providers in the form of the Bangladesh RERED SHS phase I project to illustrate low-cost re�nancing of credit. In these how low cost loans have been delivered in practice. FIGURE 4 THE OBA PROCESS Government or national/IFI facility Credit re�nancing 7 5 Subsidy Disbursement Implementing 4 Agency Output veri�cation 9 Credit re-�nancing 8 6 Subsidy Disbursement report 2 Report on outputs Ex-post delivered review Service Independent Provider(s) Veri�cation Agent 1 Pre-�nance and deliver Outputs Bene�ciaries 3 Veri�cation Source: Authors. 16 L E S S O N S F R O M O U T P U T- B A S E D A I D therefore a resource that could be drawn upon The next section discusses the OBA experi- to adapt the design of schemes to better deliver ence in more detail. The sections after that investment in clean energy in low- and middle- focus on the lessons learned from the OBA proj- income countries. ects and how these lessons can provide insights to deliver scaled up clean energy investment. 17 4 Focus on Output Based Aid experience T he World Bank has considerable experi- ence with using OBA to deliver invest- ment in low- and middle-income countries. fund, Global Partnership on Output based Aid (GPOBA).22 The key messages of this section are sum- There are lessons to be learned from the OBA marized in the box below. projects for delivering scaled up investment in clean energy. This section introduces the OBA Clean Energy Projects World Bank clean energy projects that have been funded through the multi-donor trust OBA has a signi�cant track record of deliver- ing investment in low- and middle-income countries.23 Since the creation of the OBA t There is signi�cant experience with approach in 2002, the World Bank has funded using OBA to deliver investment in 116 OBA projects worldwide. GPOBA has 33 of developing countries. The World these in its portfolio.24 Some recent research Bank has worked on 116 projects (presented below) suggests that on aver- that incorporate OBA design age, World Bank OBA funded projects have features since 2002. Emerging been delivered more effectively than projects evidence suggests that OBA has that have employed traditional “up-front� delivered some success relative to subsidies. traditional (upfront) subsidy delivery The results in Figure 5 relate to projects mechanisms. in all sectors. Focusing now on clean energy, the World Bank is involved in the delivery of t The World Bank is currently using 19 OBA clean energy projects. Six of these are OBA to deliver six clean energy funded by GPOBA and details of these projects projects through its GPOBA (and, where relevant, their predecessors) are program. These cover a wide range provided in Table 2 (please see Annex 2 for of technologies (SHS, mini-grid, details of all 19 World Bank OBA clean energy grid access with CFL and biogas), projects).25 geographies (Asia, Africa and South Each OBA project is designed on a case- America) and use different levels of by-case basis and considerable time is typically subsidy according to a case by case spent on this project design phase. The table analysis of what is required (from 11 percent to 52 percent). 22 GPOBA is a multi-donor trust fund set up jointly by the t The portfolio of OBA projects provide World Bank and D�d. It is funded by D�d, AusAid, SIDA, us with a useful evidence base from DGIS and the International Finance Corporation. For more which to consider how RBF schemes information, visit www.gpoba.org. 23 See Mumssen et al. 2010 for a fuller account of OBA expe- could be designed to overcome rience to date. some of the risks and institutional 24 GPOBA was established in 2003 to test the OBA ap- proach with the aim of mainstreaming OBA within the issues that are currently preventing International Development Association (IDA) and other investors from funding renewable World Bank development partners (Source: Mumssen et energy projects on a larger scale. al. 2010). 25 Source: Mumssen et al. 2010, including technical support projects. 18 L E S S O N S F R O M O U T P U T- B A S E D A I D illustrates the diversity of technologies and FIGURE 5 COMPARING THE countries receiving funding and the different PERFORMANCE OF OBA AND levels of subsidy being provided within any TRADITIONAL PROJECTS given technology, for example, SHS subsidies range from 11 percent (Bangladesh RERED Phase II) to 52 percent (Ghana Solar PV OBA Non-OBA 60% systems). 50% Box 1 provides short write-ups of examples 40% of how the OBA process (which was illustrated 30% in Figure 4) is being applied to GPOBA funded 20% clean energy projects—delivering transitional subsidies to support off-grid electricity supply 10% in the Philippines, the Nepal Biogas Support 0% Overachieved Achieved Not fully Unclear Program IV and the Bangladesh RERED achieved Minigrid project. Source: Mumssen et al. 2010. The remainder of this paper looks more Note: Analysis based on a comparison of 37 closely at the GPOBA projects to illustrate completed non- OBA World Bank funded projects with 13 completed OBA World Bank funded projects the experience of using OBA compared with in the energy, health and water sectors. traditional subsidies and also in particular Table 2 Summary of the GPOBA funded renewable energy OBA projects (including previous non-GPOBA phases where applicable) OBA Subsidy Start Project Name Technology (% total capital costs) date Bangladesh RERED Phase I SHS 21% (average at start) 2003 (not GPOBA funded) 20–85Wp 12% (average at close) Bangladesh RERED Phase II SHS 11% (50 Wp system) 2010 (SHS) 20–85Wp Bangladesh RERED Phase II Renewable energy mini-grids 40% (average) 2010 (mini grid) 10kW–500kW and Solar Irrigation Pumps (SIPs) Bolivia – decentralized infrastructure SHS installations 33% (50 Wp system) 2003 for rural transformation 10–100Wp (not GPOBA funded) Bolivia – decentralized electricity SHS 50% (average) 2007 for universal access Pico-PV & 30–75Wp Ethiopia – rural energy access Grid access and CFLs 43% (average) 2008 Solar PV systems for rural poor in Large SHS (over 50Wp) 52% (50Wp system) 2008 Ghana Medium System (approximately 30–50Wp) Small SHS (under 30Wp) Solar lanterns Pico-system Nepal Biogas Support Program Biogas 35% (2005 average) 1992 I,II,III (not GPOBA funded) 4–20m3 Nepal Biogas Support Program IV Biogas 22% (8m3 hill) 2007 4–10m3 37% (4m3 remote hill) GPOBA funding up to 8m3 Sources: World Bank analysis based on data from GPOBA database; GPOBA 2006b, 2007, 2008a, 2009, 2010a, 2010b, 2010c; Bajgain and Shakya 2005; and World Bank 2002:15, 2003. FOCUS ON OUTPUT BASED AID EXPERIENCE 19 BOX 1 APPLYING OBA – THE PHILIPPINES RURAL NON-GRID, AND GPOBA NEPAL BIOGAS AND BANGLADESH MINIGRID PROJECTS Philippines rural non-grid power supply project The Philippines rural non-grid support program aims to deliver electricity services to 360,000 households. These households are located on three of the many islands that make up the Philippines where connection to the main electricity supply grid is considered to be �nancially unviable. The program delivers ongoing transitional subsidies to a competitively selected local consortium of New Power Providers (NPPs) to address the problem of relatively high costs of (off-grid) generation coupled with lower household affordability. Payments are made to the NPPs on the basis of the number of veri�ed kWhs delivered to households in each billing period. The subsidy amount is set by reference to the total ‘true’ cost of electricity generation (taking into account upfront capital expenditure) relative to the maximum affordable tariff to households. The subsidy is expected to decrease over time, in line with increasing household affordability and decreasing electricity generation costs. Initial projects being �nanced include 12MW, 2MW and 6MW hybrid of bunker and wind projects with about 30 percent provided by the wind component. This initial pilot phase has been a success. Electricity supply costs are expected to halve (compared with supply from the previous incumbent supplier), requiring subsidy amounts to reduce and dependable capacity is expected to increase from 15MW to almost 25 MW. As a result the project is being rolled out to serve a second missionary area. Nepal Biogas Support Program IV The GPOBA Nepal Biogas Support Program IV closed in April 2012 and delivered biogas plants to about 261,100 rural bene�ciaries. The total program cost is approximately $77m and it received $21.5m of funding from GPOBA, the Government of Nepal, the Netherlands Development Organization (SNV), the German Development Bank (KfW) together with carbon �nance revenue from the World Bank-managed Community Development Carbon Fund (CDCF). The OBA process for the project worked as follows: Biogas companies signed installation contracts with households. The installation includes a guarantee on pipes, �tting and appliances for one year and a three year guarantee on performance of the concrete structure of the plant. The OBA subsidy payment is made by the Alternative Energy Promotion Center (AEPC) on receipt of a plant completion report. The IVA provides certi�cation on plant installation and usage to GPOBA and AEPC in parallel triggering disbursement from GPOBA to AEPC. Bangladesh RERED Mini-grid project The objective of the GPOBA RERED project is to provide output-based grants to the developers of renewable energy sub-projects through mini-grids and to the operators of solar irrigation pumps (SIPs) in off-grid areas to support access to electricity to households, farmers, market shops, and small and medium enterprises. The project relies on proposals submitted by sponsors of sub-projects. (Continued on next page) 20 L E S S O N S F R O M O U T P U T- B A S E D A I D BOX 1 (Continued) IDCOL has received considerable interest from sponsors of SIPs. The SIPs aim to replace diesel-run pumps with solar pumps contributing to increased access to renewable electricity to farmers while helping to reduce environmental pollution and savings in the foreign currency reserves resulting from reduced petroleum imports. For the SIPs, without GPOBA support, the tariff (cost per kWh electricity) is US$0.65. With GPOBA support, the cost is reduced to US$0.47 per kWh, a rate comparable to that paid by farmers using diesel pumps. Without grant support, operators will have to charge an unaffordable rate to farmers. Source: GPOBA2006b, GPOBA 2007, GPOBA 2009, GPOBA 2012 and International Finance Corporation and Castalia 2007. how OBA could overcome the risks and insti- considers how these lessons apply to other tutional barriers that are currently preventing RBF instruments, to scale up clean energy scaled up investment from occurring. It then investment in developing countries. 21 5 Lessons from OBA for using RBF to develop investment in clean energy T he previous sections have highlighted the potential for GPOBA’s experience delivering OBA clean energy projects to be used to adapt considers how OBA has been used to reduce the risks and institutional barriers that can deter investment. other RBF instruments to deliver large scale The key messages of this section are sum- investment in developing countries. To date, marized in the box below. RBF has not been widely applied in developing countries and there are concerns about how to Introduction overcome the chief investor concerns of risk and local institutional arrangements. OBA has been used since 2002 by the World This section examines how OBA can Bank as a way of disbursing subsidies to proj- deliver clean energy projects effectively. It also ects. This section focuses on the GPOBA clean t OBA subsidies can be extremely ef�cient in part because a direct link is set between pre- agreed payments (not actual costs) and outputs. This has four important effects: − Subsidies can be set at the ef�cient level; − Subsidy recipients can be well targeted; − Service Providers are incentivized to deliver projects quickly and ef�ciently; and − OBA projects can be continually monitored and regularly improved upon. t OBA can help to reduce the three main areas of risk that can deter investment: − Construction and delivery risks – Outputs are clearly de�ned and by linking subsidy payments to these outputs, contractors are incentivized to quickly deliver the de�ned outputs. Cost overruns may also be avoided because the subsidy amount is �xed and therefore does not cover additional costs. − Operations risks – subsidy payments can be staggered to reflect the various project milestones and provide an incentive for these to be delivered as a basis for payment. − Risks linked to contract terms – OBA projects place considerable emphasis on specifying the institutional conditions right at the start of a project. The presence of national entities to make payments based on independently veri�ed results keeps all stakeholders focused on delivering results, helping to address some (counterparty and other) risks. t OBA can also improve access to local �nance institutions by demonstrating a project’s �nancial viability through the pre-set subsidy; reducing the perceived credit risk of local service providers through a formal contract from a credible national body to provide subsidy payments (with the potential for providing further credit cover, as required, as a potential addition to the project); reducing perceptions of performance risk by de�ning outputs clearly and incentivizing their delivery; and by removing lending capacity constraints at �nancial institutions through low cost re�nancing options to re-�nance local lenders—thereby allowing them to re-invest any pro�ts into expanding their renewable energy �nancing business. 22 L E S S O N S F R O M O U T P U T- B A S E D A I D energy projects to answer some of the questions Subsidies can be set at the Ef�cient that have been raised in the preceding chapters: level t Why might an OBA subsidy be more effec- tive than a traditional subsidy? Traditional upfront subsidies, where payments t Which aspects of OBA may make it pos- are typically made prior to or as expenditure sible to overcome the risks and institu- occurs, create little incentive to independently tional barriers that are currently preventing pre-determine what the ef�cient cost of service, scaled up investment in renewable energy willingness-to-pay and therefore level of sub- from occurring? sidy—should actually be. With OBA projects, there is signi�cant emphasis on project design While the GPOBA projects are all in prog- at the start. The quantity of subsidy to be paid ress and their experiences to date are informa- out for a given output is (contractually) pre- tive, the most useful source of evidence to date agreed with emphasis on setting the right level comes from the previous (completed) phases of subsidy. of two of the GPOBA projects: Bangladesh The process of determining the ef�cient RERED SHS; and Nepal Biogas Support I, II, level of subsidy is a three-step process III. As a result a number of experiences from t De�ning the outputs: De�ning the outputs these two projects serve to inform the analy- is a critically important part of the OBA sis herein. For the remaining projects, as their design process. Outputs should focus on pilot status infers, signi�cant efforts have been the desired service, should capture how required in project planning and design relating reliable the service delivery should be and to the adequacy of local �nance infrastructure be measurable and veri�able. before output delivery can begin (experience t Establishing unit costs: Once the output has shown that a project can take around 18 has been de�ned, a unit cost approach is months or more to deliver outputs). In a few typically used. The ef�cient cost of supply- cases, unforeseen events such as political ing the required service is arrived at based upheaval and a grid-connection moratorium on input from (independent) experts. have temporarily halted progress. Annex 3 Depending on the context, industry asso- provides a more detailed account of each of the ciations and stakeholder consultations GPOBA project’s progress. processes may form part of the process of reaching agreement upon the appropriate Why Might an OBA Subsidy be ef�cient level of subsidy for given outputs. more Effective than a Traditional Ef�cient cost levels may also be arrived at Subsidy? by building competitive bidding into the process of determining the cost. OBA subsidies may be more ef�cient than t Determining the level of subsidy support: traditional subsidies in part because a direct To make a renewable technology competi- link is set between pre-agreed payments (not tive with non-renewable technologies, the actual costs) and project outputs. This has four difference in cost relative to the least cost important effects: non-renewable energy project may be used t Subsidies can be set at the ef�cient level; to indicate the level of subsidy required. t Subsidy recipients can be well targeted; Any consumer willingness to pay for t Service Providers are incentivized to the additional costs of clean energy (for deliver projects quickly and ef�ciently; and instance through green tariffs) would result t OBA projects can be continually monitored in a reduction of the size of the subsidy and regularly improved upon. required. OBA projects have generally been designed to overcome affordability issues LESSONS FROM OBA FOR USING RBF TO DEVELOP INVESTMENT IN CLEAN ENERGY 23 and in these cases, an affordability assess- Box 2 illustrates how this was done for the ment at the household level is required GPOBA funded Ghana SHS project. to estimate how much subsidy support should be provided to each household. Subsidy Recipients can be well Targeted Subsidies that reach their intended target are more effective. For a traditional (up front) sub- BOX 2 SETTING SUBSIDIES sidy, there is often no certainty that the desired AT THE EFFICIENT LEVEL TO outcome will be achieved and no certainty that DELIVER SHS INVESTMENT IN the subsidy will bene�t those that it is intended GHANA for. OBA on the other hand has more control over what and whom it bene�ts. The Ghana Solar PV systems project A speci�c step in OBA project design aimed to deliver solar generated involves setting the appropriate target for the electricity to poor households. Average subsidy. For GPOBA-supported OBA proj- per capita daily income is around $1 and ects the target is low-income consumers. the upfront capital cost of the SHS unit is Targeting can be achieved through a variety many times this at US$1,050. The project of approaches. The simplest has proven to be therefore needed to establish the level geographic targeting. This works by setting a of subsidy that would make the SHS clear geographic boundary within which all technology affordable to households. residents are eligible. This can be effective, for An IRR analysis was carried out for the instance, where there is a clear boundary to project, which considered the costs of a slum. Eligible residents in the Shivajinagar the SHS technology and compared this slum in Mumbai could be de�ned using with the �nancial bene�ts of households clear geographic landmarks set out in a map switching from traditional fuel sources to included in the project’s operations manual. solar generation, that is, not having to Other low-income proxies include possession purchase kerosene fuel or replacement of ration cards and subsidizing only those dry cell batteries. The analysis showed goods and services that are demanded by that, without a subsidy, households would low-income groups. The following examples receive a negative return from a SHS unit. illustrate this principle. The IRR analysis was then repeated, The IDA funded predecessor to the current but this time including different levels GPOBA Bolivia SHS project contained a strong of subsidies, until the project could be pro-poor element to its subsidy design. Box 3 shown to give households a reasonable below describes how this was achieved and level of return. its role in influencing the design of the current Conducting this detailed analysis GPOBA Bolivia SHS project. has therefore enabled the Ghana The Bangladesh SHS project uses a combi- SHS project to set its subsidies at the nation of geographic targeting and proxy. The minimum required level to deliver scheme focuses on off-grid rural areas to cap- investment in SHS. By de�ning the ture households that are poor, since the grid is subsidy on a per household basis, the only extended to areas if consumers in that area project disburses its subsidies in a can pay for the new extension. By de�nition targeted and ef�cient manner. therefore, off-grid consumers are low income. In addition, the scheme’s value is further targeted at the poor because the subsidy (of Source: GPOBA 2008c. $50 per household) is �xed. Smaller systems, 24 L E S S O N S F R O M O U T P U T- B A S E D A I D households were demanding different size BOX 3 USING SUBSIDIES systems from those anticipated and, as a result, TO TARGET THE POOREST the subsidies were recalibrated to cover the HOUSEHOLDS IN BOLIVIA smaller and mid-sized systems that were being demanded by the poorest households. The GPOBA Bolivia SHS project was For larger projects under other RBF instru- preceded by an IDA �nanced SHS ments, pro-poor targeting may not be a key project that introduced targeted objective, but the ability to target recipients subsidies. In particular, subsidies were of payments is likely to be very important to available for SHS installations in public improving effectiveness of the support. The facilities (which tend to be used by the previous examples are all sound targeting poorest households). As a result, 87 methods. systems were installed in schools and clinics. The Approach Creates Incentives for The project demonstrated strong Service Providers to Deliver Projects demand for systems that bene�ted the Quickly and Ef�ciently poorest households. This influenced the subsequent GPOBA funded project to OBA, as with all RBF approaches, incentivizes offer subsidies for pico-PV systems (small, Service Providers to deliver projects quickly by low capacity, and low cost systems), paying only upon delivery of outputs. Liquidity which tend to be used by the poorest constraints were discussed in Section 2 as a households. In addition, the GPOBA barrier to investment. The quicker a project is funded project is available for larger delivered, the quicker returns will be realized SHS system sizes. However, a focus on and the more attractive it is for investors. low income consumers is maintained OBA incentivizes ef�cient delivery because by offering an increase in unit subsidy the subsidy payment the Service Provider for SHS units up to 40Wp only, beyond receives is �xed and known upfront, irrespec- which the unit subsidy is constant and the tive of actual costs incurred. It is therefore in subsidy becomes a lower proportion of the interest of the Service Provider to deliver costs as the system size is increased. the results at least cost and retain the bene�ts of any cost saving. In regulatory terms, this Source: GPOBA 2006:19 and Mumssen et al. 2010. is a similar incentive concept to facing price controls. To try to ensure that the subsidy remains ef�cient over time, a process can be followed typically purchased by poorer consumers, to review and adjust the levels of subsidy up bene�t from a higher proportion of their costs or down as required for new installations. being covered by the subsidy.26 This has been the case for the Nepal Biogas The Ethiopia Electricity Access Rural Support Program, where continued strong Expansion Project delays the introduction of its demand has resulted in subsidies being low- loan program until the second year of the proj- ered over time to ensure subsidies are ef�cient ect in newly electri�ed towns. This means that and reflect consumers’ willingness and ability the consumers left unconnected are predomi- to pay for energy.28 However, care needs to nantly those who are unable to pay, making it easier to target the subsidies at the most needy households.27 26 GPOBA 2009. The Ghana Solar PV project targeted 27 GPOBA 2008a and GPOBA 2010c. the poorest households but found that these 28 28 GPOBA 2006b. LESSONS FROM OBA FOR USING RBF TO DEVELOP INVESTMENT IN CLEAN ENERGY 25 be taken that such reductions do not create Disbursing Subsidies to Make Projects unnecessary regulatory risks. If payments can Viable be lowered at a future date, Service Providers may start to discount the payment. This The main aim of a subsidy is to increase a proj- would be of particular concern if reimburse- ect’s cash-flow and make a project �nancially ment of signi�cant capital costs were due to viable from the view point of investors. As with happen through the subsidy payment. Good traditional subsidy �nancing mechanisms, OBA regulatory practice suggests that such sub- subsidies achieve this. sidies to Service Providers should only be adjusted for new Service Providers. Existing Demonstrating ex-ante �nancial viability arrangements should be grandfathered (unless OBA subsidies are designed to make the project the agreement period comes to an end). If �nancially sustainable in the long-term. This Service Providers face a risk that their subsidy normally translates to a focus on subsidizing may be cut mid-way through an engagement, upfront and one-off costs such as costs of con- this will serve to reduce the incentive power nection to the grid or capital costs of installing of the scheme. generation capacity. The aim is normally to Where external events force a project onto encourage ongoing operating costs to be paid hold, as was the case for the Ethiopia Electricity by consumers. In addition, subsidies are only Access Rural Expansion Project and the Bolivia disbursed after a number of months’ continu- Decentralized Electricity for Universal Access, ous service delivery, and can be withheld if a striking difference between OBA and tradi- contractual service terms are not met. However, tional up-front subsidies is that no grants are as highlighted in Table 1, OBA subsidies can disbursed up front or during this holding period also be transitional or ongoing. For example, (as no outputs are being delivered) and that the Bangladesh RERED mini-grid project (Box these grants continue to be available to be re- 1) will require the subsidy to ensure (in part) structured/re-allocated, if required. that ongoing consumer tariffs are affordable to consumers bene�ting from the mini-grid. Which Aspects of OBA Overcome By setting the level of subsidy payments Risks and Institutional Barriers? ex-ante, OBA projects provide investors with a transparent demonstration of potential �nancial To ensure greater private sector investment in viability. This bene�t arises from the clear link clean energy, Section 2 drew the conclusion between outputs and �nancial support, mean- that any solution must deliver one or more of ing that OBA projects tend to come with clear the following actions: and contractually/legally de�ned payments t Disbursing subsidies to co-�nance proj- before the investor has even decided to invest. ects and address the viability gap, thereby Potential investors can use this information to making them viable/bankable; re-calibrate their �nancial models (by increas- t Maximizing cashflows to the project ing revenues linked with operations). This can (through means additional to a subsidy); assist with investor and bank �nancing. t Reducing risk to the project; and Box 5 describes how the Ghana SHS project t Developing access to local �nance insti- was able to demonstrate �nancial viability by tutions, especially where project scale is comparing detailed information on the expected small. costs and bene�ts of the project.29 This infor- mation would be available to and veri�able OBA subsidies can be effective in disburs- by investors prior to making the investment ing subsidies, reducing risks and developing access to �nance. 29 GPOBA 2008c. 26 L E S S O N S F R O M O U T P U T- B A S E D A I D BOX 5 DEMONSTRATING FINANCIAL VIABILITY TO INVESTORS FOR THE GHANA SHS PROJECT Financial Costs (US$) = Financial Bene�ts = Cost of kerosene Total net Cost of Hardware and battery bene�ts Year SHS unit + replacement + Maintenance = Total replacement (US$) 1 800 50 850 76.8 –773 2 50 50 76.8 27 3 100 50 150 76.8 –73 4 8 8 76.8 69 5 8 8 76.8 69 6 100 8 108 76.8 –31 7 8 8 76.8 69 8 8 8 76.8 69 9 100 8 108 76.8 –31 10 50 8 58 76.8 19 11 8 8 76.8 69 12 100 8 108 76.8 –31 13 8 8 76.8 69 14 8 8 76.8 69 15 100 8 108 76.8 –31 16 8 8 76.8 69 17 8 8 76.8 69 18 100 8 108 76.8 –31 19 8 8 76.8 69 20 50 8 58 76.8 19 FIRR (without GPOBA subsidy) –3% FIRR (with US$550 GPOBA subsidy reducing Year 1 cost of SHS unit from US$800 to 9% US$250) Source: GPOBA 2008c. decision. In particular, investors are shown the Reducing Risks expected magnitude and timing of the costs and bene�ts as well as the �nancial impact of the Section 2 discussed the main areas of risk that OBA subsidy. In this case, the subsidy is used to deter investment. OBA and RBF approaches can reduce the cost of the SHS unit in Year 1 from help in reducing all three main areas of project US$800 to US$250. As a result, the overall �nan- risk: construction risk, operational risk, and cial internal rate of return (FIRR) increases from contract terms risk. a negative amount (–3 percent) to a positive value (9 percent). If investors’ hurdle rates are Reducing construction risks lower than 9 percent, they will consider invest- OBA requires that project outputs are well ing in the Ghana SHS project. de�ned at the start of the project. For example, LESSONS FROM OBA FOR USING RBF TO DEVELOP INVESTMENT IN CLEAN ENERGY 27 in the case of an electri�cation project such as the Ethiopia Electricity Access Rural Expansion BOX 6 BANGLADESH RERED: Project the outcome can be de�ned as provid- USING RBF TO INCREASE ing a community with access to working elec- LIKELIHOOD OF PROJECT tricity services and the output can be de�ned PERFORMING in terms of the number of working grid connections established, or in remote areas, The Bangladesh RERED project has the number (or capacity) of free-standing been hugely successful in delivering generating units installed. Service Providers its aim of investment in SHS in rural only receive subsidy payments if and after Bangladesh. In the space of ten years, they deliver these outputs. They are therefore investment in Solar Home Systems highly incentivized to deliver the intended increased from just 7,000 units to over measurable outputs as quickly as possible, 1.2 million units. The project is currently reducing the possibility of construction delays. delivering investment at a rate of 41,666 The subsidy amount is pre-determined so systems per month. there is also a high incentive to avoid cost The project has minimized the risk overruns, since the Service Provider will not that its suppliers do not perform by be compensated for these. carefully designing project outputs (including a post-installation warranty) Reducing operational risks to reflect desired performance and OBA provides the flexibility to stagger sub- by having an inspection process sidy payments through the course of a project undertaken by the government to reflect a number of desirable outputs that coordinating agency (IDCOL) as a relate to the operational phase of a project. For central design detail of the project. example, the current GPOBA-funded Bolivia and IDCOL checks the Service Provider’s Ghana SHS projects spread the payment of sub- performance as part of the process of sidies to the Service Providers over a number of releasing subsidies and re�nancing years to reflect a series of medium term project arrangements. milestones.30 To receive all of the subsidy pay- This inspection process is considered ment, a Service Provider must correctly install a “absolutely critical� by the project team SHS system and carry out annual service visits in terms of ensuring con�dence in the for the following three years. This ensures that program by Service Providers, �nancing a SHS unit is installed and is subsequently agencies and consumers. The project operating properly over a number of years.31 team monitors inspection rates and If these outputs are not achieved, subsidies the quality of outputs and observes will not be disbursed. Again the direct output a direct link between the probability based subsidy provides a strong incentive to that a Service Provider’s outputs will be deliver measurable output and in this case, inspected and the quality of the output reduces a project’s operational risks. Box 6 it delivers. describes how the Bangladesh RERED SHS proj- ect has been able to achieve this by implement- Source: Based on discussion with World Bank project ing a thorough inspection process. Task Team Leader. Reducing contract terms risks In designing an OBA scheme, there is signi�- 30 GPOBA 2006 and GPOBA 2008c. cant focus on getting institutional arrangements 31 Operation risk is also reduced by FiTs, which pay a �xed right at the program design stage. This includes rate tariff over a period of around 20 years. 28 L E S S O N S F R O M O U T P U T- B A S E D A I D determining the required outputs, payments in many of the remote rural areas that for eligible outputs and how funds will flow. OBA projects target, the Service Provider Determining and operationalizing these will have to seek external �nance to cover arrangements ahead of time offers signi�cant these up-front costs. certainty to the Service Provider that payments t Service Providers are unable to access will be received if it performs. In most projects, international �nance sources for small the Service Provider deals with a local agent, projects: Access to local �nance is impor- but has the assurance that the local agent is tant for many OBA projects because the acting on instruction from and �nancial/techni- project size is often too small, and the risks cal support of the government (or perhaps one associated with (local and small) Service or a group of international organizations). This Providers too high, to attract international may help reduce perceived counterparty risks. investment (see Section 2). For example, under the Bangladesh RERED SHS phase I project, the local Service Providers were OBA projects have the potential to both able to access credit more easily because of the access local �nance and, where the local good reputation of the project and, in particu- �nance infrastructure is less well developed, to lar, the guarantee that a government sponsored remove capacity constraints. program involving international donor agencies supported Service Providers �nancially (and OBA projects can help Service Providers often technically).32 access local �nance The combination of well-de�ned outputs With a well-designed OBA project, the local and linked subsidy payments can reduce inves- �nance institutions are given suf�cient comfort tor concern over project delivery and provide and are able to offer �nancing to the Service increased con�dence over future returns. This Provider: assumes that there is a high degree of con�- t Potential investors can see that the project dence in the central institution managing and is �nancially viable because of the pre-set funding the subsidy payments. OBA subsidy (see, for example, Box 5), which is carefully sized, taking account of Developing Access to Local Finance consumer willingness and ability to pay; Institutions t The perceived credit risk of local Service Providers is lowered because they have an One of the key bene�ts associated with OBA explicit contract with national or interna- to date is its ability to develop access to local tional institutions paying the subsidy and �nance institutions. As discussed herein, two these institutions are viewed as credible by factors encourage the Service Provider to make local lenders; and the most of possible local/regional �nancial t Perceptions of performance risk are lowered options: through clear output de�nition and provid- t Service Providers must pre-�nance ing delivery incentives to Service Providers project outputs: This is one of the central in the form of performance based subsidies. features of the OBA process, as illustrated in Section 3. Service Providers are required OBA projects can remove capacity to self-�nance project outputs (e.g., the constraints within local �nancial markets purchase of capital equipment and labor Where projects cannot access international costs) until the delivery of outputs has �nance markets, a key barrier to accessing been independently veri�ed. Unless the Service Provider has signi�cant working 32 Source: Conversations with the current Bangladesh RERED capital, which is unlikely to be the case project TTL LESSONS FROM OBA FOR USING RBF TO DEVELOP INVESTMENT IN CLEAN ENERGY 29 �nance is often the lack of existing �nancial from one activity (�nance) to be transferred capacity within local �nance markets. Finance to the other (dealing). The �nancial institu- institutions may be constrained in their ability tions use the low cost loans they are eventually to lend because of their relatively small size able to secure through OBA to offer (higher and the short-term nature of the deposits that cost) loans to consumers. As well as address- secure their lending (IDA 2009). OBA can ing households’ �nance constraints, the pro�ts attempt to address this issue by providing low from offering the loans can be used to expand cost �nancing to local �nancial institutions. In the capacity of their dealer business. The many OBA projects, the local �nancial institu- Bangladesh RERED SHS Project is an example tions are also the dealers. This allows pro�ts of how low cost IDA lending combined with BOX 7 THE BANGLADESH SHS PROJECT: EXPANDING LOCAL FINANCE CAPACITY The Bangladesh RERED project has been particularly successful because of a project design that effectively leverages the existing network of the local �nance community to support the RERED project’s activities. The RERED project identi�ed affordability and access to �nance as the key barrier to SHS investment in rural Bangladesh. Local �nance institutions had some dif�culty in offering loans to households because the short-term nature of their deposits would not support the medium-term loans required by households to pay for SHS units. To address these issues the project sought to demonstrate and then roll out a credit facility to households that would make the SHS units affordable and develop the local �nance market so that eventually there would be a sustainable local credit market. This was achieved through a two-step process: t First the project demonstrated the viability of offering credit to households via a no-risk pilot project. The pilot offered participating institutions total re�nancing of their loans to households thereby eliminating their credit exposure to households. t Next, the OBA project was started. This enabled Service Providers to bene�t from a low-cost (government backed) IDA credit to re�nance 80 percent of each existing micro credit loan, once the outputs for the project had been veri�ed. Participating Organizations (POs) were offering households credit at a rate of 12 percent to 15 percent with a repayment period of three to �ve years. By being on-lent (upon output veri�cation) IDA credit at a rate of six percent to eight percent over a period of 10 years, the POs could extract their capital for use in further new projects, thereby enabling them to rapidly increase the size of their lending and projects portfolios (all based on delivering results). As a result, the project has seen the entry of several �nancial institutions into the market, all of which are offering credit to rural households. It is the view of the project team that the project has led to at least one institution having suf�cient lending capacity that it could offer credit without any donor support. Source: Based on discussion with the World Bank project Task Team Leader. 30 L E S S O N S F R O M O U T P U T- B A S E D A I D a results-based approach can be harnessed to Ethiopia Electricity Access Rural Expansion grow the capacity of the local �nancial institu- Project is providing a connection subsidy to the tions and deliver clean energy investment. This local electricity supplier EEPCo. This provides is summarized in Box 7. the utility with suf�cient working capital to be Similar credit schemes have been put able to offer poor new households �ve-year in place for other GPOBA funded projects to loans to cover their grid connection costs.34 enhance the capacity of local �nance provid- OBA projects appear to generally have sev- ers. The Nepal Biogas Support program is eral positive facets, especially relative to up-front subsidizing approximately 37,300 biogas plants subsidies. They can address risks and institu- for rural Nepalese households. The program tional barriers that have been identi�ed as key targets households with the ability to raise up blocks to scaling up investment in clean energy. to US$485 of capital, which can be partially There is never, of course, a one-size-�ts-all achieved through micro-credits. The program solution. OBA relies on the capacity of Service supports this by including a micro�nance com- Providers to pre-�nance their activities and, in ponent to help target households pre-�nance some cases, to offer consumers access to credit. their investment. Local micro�nance institu- It also requires some level of institutional tions have been provided with a credit facility capacity to allow credible independent veri�ca- (sourced from KfW) to �nance loans to biogas tion and funds flow. Most often, this institu- users. The Micro-Finance Institutions (MFIs) tional capacity is most bene�cial if held at the can charge households an interest rate of up government level. OBA is also reliant on being to 16 percent on their loans, enabling them to able to identify the ef�cient cost of delivering build lending capacity. In addition, the project the service ex-ante. is providing MFIs with ongoing capacity-build- Furthermore, slightly different concerns ing advice.33 may apply when considering larger-scale solu- Where there is an absence of microcredit, tions. The �nal chapter of this report looks at OBA can help overcome this by support- what these concerns may be and discusses how ing alternative sources of credit. The GPOBA OBA experience could be applied at scale. 33 GPOBA 2006b and GPOBA 2007. 34 GPOBA 2008a. 31 6 Using RBF to deliver clean energy in developing countries A s the previous sections have demon- strated, OBA, a form of RBF, has been effective in addressing critical areas for section looks to how OBA could be scaled up to deliver signi�cant clean energy investment. The key messages of this section are sum- projects (including clean energy), namely: marized in the box below. enabling a project to be �nanceable by dis- bursing subsidies—and in many cases doing so Introduction in ways that has reduced risks and increased project cash flows; developing institutional The previous sections have discussed OBA and arrangements including local �nancing archi- its effectiveness in addressing areas of concern tecture; and enabling continuous project evalu- for implementing RBF clean energy projects in ation and improvement. developing countries on a larger scale. This sec- The experience to date with OBA is how- tion looks to how OBA outcomes could be scaled ever with relatively small-scale projects. This up to deliver signi�cant clean energy investment. t OBA schemes include payments for consumer connections that have also included covering the costs of generation investment. FiTs have focused on supporting generation investment. It appears to be sensible to combine the experience from both schemes to develop RBF projects. In particular, there appears to be a good case for results-based support for generation investment that goes beyond FiT payments and offers a more bespoke design for the project along the lines of designs undertaken for delivering OBA projects to date. t Employing OBA principles at scale, an RBF facility focusing on clean energy could be set up as a government run national umbrella receptacle for international climate �nance for a particular country. It would be a national level entity offering targeted subsidies/ reimbursement after pre-agreed upon results have been independently veri�ed. Contributors (donors) to the facility would effectively be purchasing results. t These results could be broader than meter readings (which are the typical results under FiTs and which are the result of a number of intermediate steps). Subsidy payments could target intermediate steps in developing the projects (which may include targeting project developers, �nanciers and household consumers in turn). A number of different intermediate and �nal outputs could be incentivized and a variety of results could be crafted to act as triggers for disbursement. These could include �nancial closures for targeted technologies, project commissioning, generation of veri�ed MWhs and working connections to consumers. t A partial risk guarantee issued by an MDB such as the World Bank could be used to back- stop host government credibility in the actions of such a national facility (especially in early years and in countries with high government risk perception). 32 L E S S O N S F R O M O U T P U T- B A S E D A I D The section starts by recapping on the capacity of local operators; and improve the issues that need to be addressed when develop- credibility of local legal structures and increase ing RBF projects, and discusses the additional local �nance capacity. evidence on these issues that has been gathered Conversations with a developer involved in during the course of this research through con- delivering clean energy projects in Africa high- versations with developers and �nanciers. The lighted three particular concerns for attracting section then proposes a framework for making project investment (see Section 2): use of the bene�ts of OBA to date to deliver t Liquidity constraints: reflecting the �nanc- larger scale investment in renewable energy ing concern in table 3 below brought projects. about by the current �nancial climate whereby investors are less willing to invest Issues that Need to be Addressed in projects where capital must be commit- to Develop RBF Projects ted for relatively long periods. This puts some bias in favor of relatively smaller To date, the focus on scaling up investment in projects. developing countries has been on FiTs. Under t Raising developmental equity �nance: the heading of the potential of FiTs to deliver reflecting the �nancing and technical scaled-up investment, the Deutsche Bank concerns in Table 3 on the costs and risks GET-FiT paper35 identi�ed a number of issues associated with preparing a project for in implementing FiTs, but these concerns are �nancial closure and dif�culties raising relevant to RBF in general. These concerns have equity �nance to do so. been con�rmed and added to by developers t Raising project debt �nance: reflecting during the course of the research for this paper the �nancing concern in Table 3 that and are summarized in Table 3. local banks lack the capacity to offer Many of these considerations (highlighted in more sophisticated forms of project debt bold in Table 3) derive from concern around �nance and expertise in renewable energy. institutional arrangements. For example, the This applies mainly to smaller projects, need to: level the playing �eld for renewable since larger projects will attract more technologies through incentive programs; sig- ni�cantly increase knowledge on local resource 35 Deutsche Bank 2010. and grid conditions; increase the regulatory Table 3 Considerations that need to be addressed to implement RBF in developing countries Consideration Examples of speci�c concerns Cost competitiveness Cost competitiveness of renewable technologies and availability of incentive programs to level the playing �eld with conventional technologies. Technical and Grid quality and availability of grid data; availability of resource data; ability to engineering concerns integrate renewable energy generation; local technical expertise; and equipment supply. Project development Experience of local utilities and developers with PPAs, feed in tariffs and standard concerns offer contracts; local legal structures; interconnection standards; utility regulatory structure; available �nancial resources for development. Financing concerns Risk-return ratios; credibility of policies and regulations; political currency and corruption risks,; local bank lending capacity and expertise in renewable energy; access to international �nance and investor liquidity constraints. Source: Deutsche Bank 2010 and conversations with developers. USING RBF TO DELIVER CLEAN ENERGY IN DEVELOPING COUNTRIES 33 sophisticated regional commercial banks Proposal for an RBF Facility for (and many practitioners are of the view Clean Energy that there are suf�cient quantities of debt for larger well-prepared projects). This section considers delivery of supports to clean energy at scale, using OBA experience. With the case of FiTs in developed An RBF facility could be permanent. It could countries, pre-existing institutional arrange- be based around a credible national institution ments (such as the availability of wind data with a well-designed system of delivering sub- or regulatory and interconnection arrange- sidies and concessional/long tenor �nancing ments) have typically been strong and FiTs to incentivize increased investment in, and use have tended to focus on providing viability of, certain forms of generation capacity. The gap payments for renewable generators on the facility could bring together several sources of basis of power generated. In contrast, OBA donor funds and could be scaled up over time. addresses low-income consumers in areas that One of the principal bene�ts of having typically have relatively weak institutions. A such a facility in place is that a number of com- signi�cant part of designing the OBA scheme mon issues are addressed upfront at the design has therefore been about designing appropri- stage. This includes identifying key institu- ate institutional relationships, incentives, tions involved in the scheme and developing targeting, independent veri�cation and funds appropriate legal/�nancial inter-relationships. flow. These would all be important agenda Key institutions and staff can receive capacity items for successfully extending FiT type building at an early stage. There may also be a RBF schemes into developing countries. The technical assistance (TA) window, independent announcement of FiTs on their own—without veri�cation, and secretariat capabilities that can setting up the arrangements above—would be shared across projects operating through this likely look good on paper but would leave a facility. Having such a credible national facil- lot of work still to do on the implementation ity in place encourages new Service Providers of such projects. to enter the market and, it is expected, will The challenge is therefore how to apply encourage greater donor and national commit- the lessons from individual OBA projects to ment to providing these basic services. funding larger scale RBF (e.g., FiT) projects The Facility would offer an umbrella at a national or regional level. arrangement, allowing government and various donor funds to be co-mingled for coordinated Proposal for Developing RBF disbursement. This allows flexibility if the Projects government or donor funds vary in size (even signi�cantly) over time. Such a facility arrange- In some cases, OBA has provided payments for ment could start small but expand to receive connections that have also included payment much larger sums for disbursement should a for generation investment. FiTs have focused on global funding agreement for GHG reduction be supporting generation investment. It appears reached. to be sensible to combine the experience from The facility would be housed in an exist- both schemes to develop RBF projects. In ing national institution with a good reputation particular, there appears to be a good case for for independent, credible, and transparent results-based support for generation invest- decision-making. The basic concept is for the ment that goes beyond FiT payments and facility to enter into legally binding agreements offers a more bespoke design for the project with Service Providers before disbursing funds. along the lines of designs undertaken for These agreements would de�ne the scope, scale, delivering OBA projects to date. and requirements for subsidy payments to be 34 L E S S O N S F R O M O U T P U T- B A S E D A I D delivered. The facility may also provide technical pre-screened, found to meet requirements, and assistance to support project implementation. then vetted in detail by a credible technical As they are described above, the perma- body. This support could be achieved through nence of such a facility addresses the need to parallel contracts with national and interna- deliver subsidies on a scaled-up basis, rather tional level research bodies under credible than on the pilot basis that is the case for most con�dentiality agreements with the developer. OBA projects. Such facilities are also likely to Such a body would contain the required techni- bring together several sources of donor funds. cal and resource capacity to effectively and This sends out a strong signal to potential quickly provide a credible view as to whether investors that funds are immediately available the project should move ahead. to support eligible projects and will be for the Figure 6 illustrates a possible structure for foreseeable future. using an RBF facility to scale up investment in Donors should be attracted by the insti- a developing country. tutional arrangements and results-based The remainder of this section provides a approach. Different donors (and the govern- more detailed description of the characteristics ment) could pick different results off a menu of the proposed national RBF facility and how of results that would be independently veri�ed such a facility would address the problems prior to disbursement by the facility. The aim faced in scaling up clean energy investment would be to incentivize behavior that leads to while �tting in with MDB priorities. the outcomes required by those contributing the funds. The government and the donors The Characteristics of an RBF Facility would effectively be “purchasing results� in relation to clean energy investment and The characteristics of a RBF facility are production. described below in terms of the: Subsidies for large-scale investments using t Overall characteristics of the facility; FiTs are designed to make an investment �nan- t Eligible results that could be supported; cially viable. OBA is often employed to address t Types of funds that could be held; and downstream household affordability. Large- t Potential counterparts to the facility (direct scale clean energy investment in developing recipients). countries may, in practice, need to address both upstream �nancial viability and downstream Overall characteristics of the facility consumer affordability. Additional targeted The RBF facility could have the following key subsidies may therefore also need to be paid characteristics: directly to low-income households. t Disburses against results, not inputs – It could be envisaged that projects—espe- Disbursements would occur after prog- cially larger ones, would have cash flows from ress has been veri�ed against pre-agreed the facility shaped/tailored to ensure the proj- results. The aim would be to incentiv- ects are able to move ahead. This would, for ize behavior that leads to the outcomes instance, require care as regards the capabili- required by those contributing the funds. ties of parties to reach �nancial closure and to t Flexibility on types of results (which address risks as appropriate. means flexibility on types of actions Once there is a national facility in place, being incentivized) – Results would not credible and effective technical support to be limited to electricity generation meter projects’ developmental phases could be built readings (as is typically the case with FiTs). into processes relating to working with the The Facility could pay out for a number facility. For instance, a requirement of bring- of (intermediate) activities that donors ing a project to the facility could be that it is or government are trying to incentivize. USING RBF TO DELIVER CLEAN ENERGY IN DEVELOPING COUNTRIES 35 FIGURE 6 ONE POSSIBLE STRUCTURE OF AN RBF FACILITY TO SCALE UP INVESTMENT IN DEVELOPING COUNTRIES Donor funds National government funds MDB loans Independent Veri�cation Veri�cation Agent National RBF Facility Veri�cation Technology Technology ?????? ??? OBA consumer speci�c supports neutral viability ???????? subsidies e.g. solar gap payments Projects Equity investors Commercial banks Source: Authors. For instance the facility could incentiv- that uses a broad program—with RBF ize banks/national �nancial institutions taking the form of a national level Facility. to achieve �nancial closure for eligible Ideally, the Facility would be housed in technologies through the provision of debt/ an existing credibly run national institu- equity, in which case �nancial closure tion (e.g. the major national development and subsequent commissioning could be bank). This would help to reinforce the triggers for disbursement of concessional fact that this is a facility for the country funds to the project. Certain donors/the and for the long-term. government could focus on speci�c tech- t Targeted – Different windows could target nologies by specifying results speci�c to project types and end-consumer types that the technologies, for instance, concentrat- meet the overall objectives for the facility. ing solar power could be given a boost by Targeting would be carried out by clarifying de�ning installation of generation capac- what is and isn’t eligible for reimbursement ity and generation of MWhs of energy as from the Facility. Such targeting could also earning disbursements. Others funds in the help countries with untargeted existing sub- facility could remain technology neutral sidies to target them by re-channeling these and pay out simply on results relating to a funds through the RBF Facility. broad set of qualifying (renewable energy) t Veri�cation – Results would be veri�ed technologies. independently prior to disbursements by t Programmatic and national level – A the facility. Veri�cation could take many partnership approach across the donor forms, including documentary audits and community would maximize the impact of physical assessments/meter readings. The limited funds. This suggests an approach veri�er would be independent and credible. 36 L E S S O N S F R O M O U T P U T- B A S E D A I D Eligible results that could be supported the existence of the subsidy should not The government and the donors would effec- take away risks that the developer is best tively be “purchasing results� in relation to equipped to handle (such as commercial clean energy investment and production. These risks). However, payment and timing risks results can take many forms as long as they can are risks that could be reduced through be clearly understood, captured in contracts this arrangement. Cash flows can be and veri�ed. shaped to provide appropriate incentives OBA subsidies have tended to cover to developers etc. upfront costs—the thinking being that not subsidizing ongoing costs would help to ensure Type of funds that could be held that the scheme is sustainable in the long term The funds held by the facility could originate (as it would not require ongoing subsidies). On from a number of sources. the other hand, FiTs are all based on ongoing t From an international perspective, the costs. There is some experience in OBA with Facility acts as an umbrella set-up for all transitional subsidies. For instance, the Private donors, increasing coordination and consis- Sector Participation in SPUG areas project in tency in use of donor funds. Looking for- the Philippines involves a subsidy designed to ward, such a facility could be the national cover the difference between the “True cost of receptacle for new global climate �nance generation rate,� a rate revealed through an funds for the country in question. It could auction process, and the “socially acceptable also be a focal point for the MDBs deliver- generation rate.� This subsidy is levied on all ing clean energy related funds. users of electricity. t However, national (domestic) funds could t Results can be broadly speci�ed, such as equally be routed through this facility. “energy from a list of qualifying tech- nologies,� or narrowly speci�ed, such as “energy from wind or CSP.� Donors could FIGURE 7 RBF FACILITY influence the types of results used as dis- PAYMENTS ENVISAGE BESPOKE bursement triggers based on their and host STRUCTURING OF CASH government priorities. FLOWS—ESPECIALLY IN THE t Results could relate to a number of dif- EARLY YEARS—WITH A FOCUS ferent stages of developing the project, ON DELIVERING OPERATIONAL including �nancial closure, commission- PROJECTS FROM QUALIFYING ing, meter readings, etc. Therefore, this TECHNOLOGIES could be wider than simply feed-in tariffs (though it needn’t be if FiTs would be RBF Facility envisages bespoke structuring of cash flows to appropriate). The approach would be enable projects to deliver results bespoke (though probably less so for Cash flow RBF subsidies smaller projects). The design of these Other (existing national) stages would be important to reducing + subsidies some of the risks perceived by developers. including FiTs For instance, early stage investors would Project returns Time be comforted that as long as they take the – Other existing national risk and invest on early stages (data gath- subsidies may be linked to ering and feasibility studies), they would Investment metered outputs and would be complemented by the receive payment rapidly at a certain point RBF subsidies. in time that does not have to be as late as Source: Authors. the project generating revenues. Clearly, USING RBF TO DELIVER CLEAN ENERGY IN DEVELOPING COUNTRIES 37 These could be from the central budget or CTF. These come with repayment moratorium from speci�c surcharges on energy users. periods and long repayment tenors. They could also be sourced from current untargeted subsidy programs. Potential counterparts to RBF Facility (direct recipient of payments) Experience with OBA has mainly been The Facility could disburse to a number of dif- with grants, and grants would clearly offer the ferent counterparties. In fact, one project could easiest approach for delivering the subsidy. have a number of recipients from the Facility, The amount required could be estimated to be especially if it is a large project and different roughly equivalent to the difference between stakeholders are responsible for delivering dif- the avoided cost of viable conventional power ferent pre-agreed results. and the cost of clean energy (multiplied by t Developers/IPPs: Developers and the IPP the quantity of clean energy being developed). project company would be assimilating the However, grants may be limited and subsidized equity to cover the riskiest upfront costs loans, especially those offering long tenor, may for the project (including land, permits, be extremely attractive. Depending on the coun- feasibility studies, etc.). The experience try, IBRD and IDA could be on offer as well as to date with FiTs in developing countries BOX 9 USE OF IBRD, IDA AND CTF FUNDS AND IBRD/MIGA GUARANTEE OPPORTUNITIES As the Facility is housed in a national institution, IBRD, IDA and/or CTF funds could be disbursed to the facility with the usual sovereign guarantee arrangements. IBRD would help to extend tenor while IDA and CTF would clearly offer extremely concessional terms (together with long tenor). How RBF facilities �t with MDB priorities The World Bank is preparing a number of lending projects with disbursement based on results. These are referred to as output-based disbursement (OBD). The aim is to shift from funding inputs to funding outputs. This also means that the focus of preparation moves from developing and assessing procurement plans to setting up veri�cation and monitoring mechanisms. The latter are institutional arrangements that could outlast the project itself. In fact, the World Bank recently launched a new instrument known as “Program-for- Results.� This is in line with a broader shift from transaction-based to program-based support to governments. It would ensure that the Bank’s technical as well as �nancial support is even more strongly focused on institutional development, capacity building, and implementation support at the program level with emphasis on the countries’ capacity to monitor results. It would also enable the Bank to more effectively leverage its own �nancing and collaborate with other development partners in supporting government programs. The RBF facility approach set out in this paper would therefore be very much in keeping with the direction of the World Bank in relation to its approach to lending. Funds from the CTF that currently use World Bank lending modalities would also be able to be disbursed using approaches consistent with the RBF facility approach, whether with the existing Investment Loan (IL) Output based disbursement instrument or the new Program-for-Results instrument. Source: World Bank 2010d. 38 L E S S O N S F R O M O U T P U T- B A S E D A I D suggests that there may be signi�cant that delivered payments for results reduction in risk for these parties if the based on delivery of early stage outputs Facility disburses directly to them rather such as achieving �nancial closure. The than to a utility that is eventually purchas- developer commented that early output ing the power. Paying each developer/IPP triggers (rather than waiting for project separately may increase transaction costs revenues) would have a signi�cant impact relative to paying an intermediary (such as on attracting equity investors to �nance the utility). However, direct payment to the the developmental phases of projects and investor is considered to reduce potential interestingly, that using such incentives risk surrounding the willingness and abil- to attract early phase equity would have a ity of the intermediary utility to continue signi�cant positive impact on a project’s to pay the agreed subsidy to the investor ability to attract equity investment for the throughout the project term. It is likely that later phases. risk mitigation would more than compen- t Attracting debt �nance: The RBF facil- sate for the higher transaction costs. More ity may mobilize/scale up local �nancial actions may be required though in terms institutions by providing them with more of developing contractual certainty (for certainty of re�nancing through the RBF instance through PPAs) in conjunction Facility once the project reaches certain with the facility. milestones. This is a particularly important t Commercial bank or syndicate: The area. A developer commented that, based facility can also focus on �nancial closure on its experience delivering a project in and thus a �nancial institution, fund, or East Africa, medium/small-sized projects other entity could receive payments from often �nd it hard to attract debt �nance the Facility when �nancial closure and (more so than equity). For the East Africa further �nancial milestones are achieved. project, while local African (equity) funds Disbursing directly to �nancial institutions were available to take on the project may reduce their risk and increase their risk and invest up until the project was willingness to participate in �nancing the operational, obtaining the necessary debt project. �nance was more challenging. In particu- lar, the local banks’ experience was limited How the RBF Facility Addresses the to simple loans or balance sheet �nancing Investment Problems arrangements and they lacked the capac- ity to provide project �nance. The view The RBF facility has the potential to address a on RBF is that if these commercial banks number of problems related to scaling up clean receive comfort that there will be cheaper energy investment. re�nancing available in the future (RBF t Attracting equity �nance: Equity �nanc- payments based on the project reaching ing the developmental stages of a project certain milestones), they may feel com- is high risk and in practice, few develop- fortable to develop their capabilities and ers are available to come in with equity business line in this area. This would be �nance for these early stages (project similar to the effect discussed in the con- preparation). Yet, at the developmental text of micro-�nance for the GPOBA project phase, equity �nance is often critical to in Bangladesh, where the provision (and obtaining the necessary further equity and certainty) of cheaper re�nancing when debt �nance and therefore �nancial clo- outputs were veri�ed spurred the micro- sure. In discussions, a developer supported �nance �rms to expand their business lines the concept of an RBF facility solution in relation to solar home systems. USING RBF TO DELIVER CLEAN ENERGY IN DEVELOPING COUNTRIES 39 t Liquidity constraints: The current �nan- cial climate puts a premium on invest- BOX 10 FOCUS ON GUARANTEE ments that are able to make early returns SUPPORTS FOR THE FACILITY AND on investment, releasing the original ITS ACTIVITIES investment capital back to the investor. The RBF facility would use results-based The RBF national facility being discussed subsidies to provide strong incentives would be reliant on the host government to deliver outputs rapidly (as subsidy institution following an operations manual disbursements are dependent on this) and setting out the detailed institutional would therefore have the effect of speed- arrangements. Investors with concerns ing up returns on invested capital. In over whether these arrangements will be addition, a subsidy that could be designed adhered to could bene�t from an MDB- to provide payments at early project mile- backed partial risk guarantee (PRG). A stones would further incentivize investors PRG provides a guarantee for private who are looking for early returns on their lenders (and indirectly for investors/ investment. project companies) against the risk of a t Policy credibility: A credible, national, government (or government-owned entity) visible institution will help to reduce risks failing to perform its contractual obligations that the payments will not be forthcoming with respect to the private project. In this in the future. Ideally, the Facility would be case, the PRG could guarantee the actions housed in an existing credibly run national of the national RBF Facility. institution (e.g. a national development IBRD guarantees are counter- bank). This would help to reinforce that guaranteed by the sovereign and could this is a facility for the country and for the be offered at two levels—the entire long-term. facility and on a project-by-project basis. t Credibility of agreements: The national Guarantees would cover speci�c actions facility could be reliant on the government under the control of the sovereign or its following an operations manual setting out institutions. For example, changes in law, the detailed institutional arrangements. failure by a national entity (such as the Investors with concerns over whether facility) to meet contractual agreements, these arrangements will be adhered to and failure to issue approvals in a proper could bene�t from an MDB backed partial and timely manner. Guarantees, when risk guarantee (PRG). A PRG provides triggered, have a signi�cant impact on a guarantee for private lenders against the sovereign in terms of requirements the risk of a government (or govern- for repayment on outstanding loans and ment owned entity) failing to perform its negative market perception and are contractual obligations with respect to the therefore highly effective at enforcing private project. In this case, the PRG could government actions relating to contracts guarantee the actions of the national RBF and policy. They also provide a strong Facility (see Box 10). signal that the government is committed to the program. It should be noted here that the host government’s indemnity of the World Bank does not actually increase the government’s liabilities if the government is already directly obligated to the private sector on the same liabilities. 40 L E S S O N S F R O M O U T P U T- B A S E D A I D 41 7 Conclusions T here is considerable discussion on the need to scale up investment in clean energy through more effective use of donor funds and and increasing project cash flows; and ensuring continuous project evaluation and improve- ment. The experience with OBA appears to be their use to leverage greater levels of private relevant to a number of institutional aspects investment. There is currently considerable that need to be developed in order for RBF to debate about how RBF instruments (including be a success in developing countries. FiTs) could be applied to better deliver scaled-up This paper puts forward the concept of investment in developing countries, for instance RBF Facilities as a way to apply OBA type deliberations prompted by Deutsche Bank under solutions at scale to address a number of the a scheme known as “GET FiT.� RBF, which issues for delivering scaled up investment can be de�ned as payments that are provided in clean energy. An RBF Facility focusing on after measurable pre-agreed actions have been clean energy could act as a national umbrella achieved and veri�ed, has been delivering receptacle for international climate �nance for large-scale clean energy projects successfully in a particular country. It would be a national developed countries (under FiTs), but faces insti- level entity offering targeted subsidies/reim- tutional hurdles before it can be used to deliver bursement after pre-agreed results have been similar projects in developing countries. independently veri�ed. These results could be These institutional hurdles to scaling up broader than simply meter readings (the typi- investment include (but are not limited to) the cal results under FiTs). Subsidies could target issues of: setting in place credible payment and projects, project developers, �nanciers, and veri�cation mechanisms; raising equity �nance, household consumers. particularly to �nance the early development A number of different activities could be stages of a project where lack of data can make incentivized and a variety of results could be it dif�cult to predict future performance; raising crafted to act as triggers for disbursement. debt �nance especially for small projects where Bespoke subsidy cash flows could be crafted there is limited access to sophisticated national to maximize the likelihood that good projects or regional lending facilities; investors’ liquidity from qualifying technologies reach �nancial constraints, a result of the current �nancial cli- closure and are developed. Results triggering mate which puts a premium on (smaller) proj- disbursement could include �nancial closures ects where capital is committed for relatively for targeted technologies, project commission- short periods; and the credibility of policies and ing, generation of veri�ed MWhs and working agreements that support project delivery. connections to consumers. There is already considerable experience in A partial risk guarantee issued by an MDB such developing countries with one form of RBF— as the World Bank could be used to support OBA. OBA projects focus on delivering pro-poor investor con�dence in such a national facility. services. 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Washington D.C., World Bank. World Bank. 2010a. World Development Report 2010. Washington D.C., World Bank. 46 L E S S O N S F R O M O U T P U T- B A S E D A I D 47 ANNEX Annex 1 Annex 2 Financiers and Developers World Bank Clean Energy OBA Consulted during the 2010 Africa Projects Energy Forum, Basel 1. ABSA Capital, South Africa. 2. AES Africa Power Company. 3. Aldwych International. 4. Fieldstone Private Capital Group. 5. Globaleq. 6. Nur Energy. 7. Vestas Mediterranean. 48 Funding World Bank Planned number Project Name Country source Type of output subsidy (US$m) of bene�ciaries Project status Rural electri�cation Bangladesh GEF, IDA, SHS installations 8.2 1,221,960 OBA component complete (met targets) and renewable energy ADB, IDB, development (IDCOL SHS) KfW, GTZ Bangladesh RERED Phase II Bangladesh GPOBA SHS installations 13.75 2,373,075 Implementation (SHS) Bangladesh RERED Phase II Bangladesh GPOBA Household connection 1.1 TBD Implementation (mini-grids) to the mini-grids and solar irrigation pumps Bolivia infrastructure for rural Bolivia IDA SHS installations 10.0 90,000 OBA component complete (met targets) transformation Renewable energy China GEF PV SHS 27.0 1,600,000 Closed (target achieved) development Renewable energy Cambodia GEF PV SHS 3.5 316,200 Closed (target not fully achieved) development Rural energy access Ethiopia GPOBA Household 8.0 1,142,857 Implementation connections and CFLs Solar PV systems to increase Ghana GPOBA SHS installations 4.35 75,000 Implementation access to electricity services Rural Electri�cation Project Honduras GEF SHS installations 2.35 35,000 Implementation Home Solar Systems Indonesia GEF SHS installations 5.2 35,438 Closed (under-achieved on targets) Household energy and Mali IDA, GEF Household 3.5 36,360 Implementation universal access connections and SHS Biogas Support Program IV Nepal DGIS, KfW, Biogas plants 5.0 261,000 Closed GPOBA Off-grid Rural Electri�cation Nicaragua IDA SHS installations 1.8 42,000 OBA component complete (met targets) Rural Power Philippines GEF SHS installations 1.85 50,000 OBA component complete (met targets) Sustainable Energy Rwanda GEF Solar Water Heaters TBD TBD Implementation Development Project L E S S O N S F R O M O U T P U T- B A S E D A I D (Continued on next page) (Continued) Funding World Bank Planned number Project Name Country source Type of output subsidy (US$m) of bene�ciaries Project status ANNEX Renewable energy for rural Sri Lanka GEF SHS installations 3.9 425,000 OBA component complete (met targets) economic development Energy services delivery Sri Lanka IDA SHS installations 5.7 75,000 Closed (over-achieved on targets) Increased Access to Zambia GEF SHS installations 2.54 15,000 Implementation Electricity Additional Financing for Zambia IDA SHS installations 10 180,000 Implementation Zambia Increased Access to Electricity Services Source: Mumssen et al. 2010: 148–150 and World Bank data. Note: Project status dates as of June 2012. 49 50 L E S S O N S F R O M O U T P U T- B A S E D A I D Annex 3 Discussion on GPOBA The following sub-sections describe the Project Progress issues encountered and progress to date for these four delayed OBA projects—Bolivia The experience to date with GPOBA funded decentralized electricity for universal access; renewable energy projects is that, in general, Ethiopia rural energy access; solar PV systems once a project has been approved for OBA for rural poor in Ghana; and Nepal biogas sup- funding, it takes typically at least 18 months port program IV. to deliver veri�able outputs when dealing with incumbent Service Providers, longer when com- Bolivia – Decentralized Electricity for petitive bidding is involved. Universal Access36 Table 4 illustrates the progress of the seven GPOBA funded projects and the relevant The GPOBA Bolivia decentralized electricity predecessors. project continues the investment in SHS units Four of the projects in Table 4 have that was started by a similar International been delayed either because there has been Development Agency (IDA) funded project. The a higher than expected need to invest in the project aims to provide at least 7,000 house- local �nance infrastructure, or because politi- holds, micro enterprises, and schools with cal upheaval and/or local generation capacity 36 The principal source for this sub-section is GPOBA 2010a. issues have made it impossible to proceed. Table 4 Summary of GPOBA clean energy project progress Planned subsidy Actual % disbursements (date subsidy Project Name Technology vs. % of total) disbursed Bangladesh RERED Phase I SHS Completed project 100% (not GPOBA funded) 20–85Wp Bangladesh RERED Phase II (SHS) SHS 2010 (25%) 2011 (35%) 62% 20–85Wp 2012 (40%) Bangladesh RERED Phase II Renewable energy mini- 2010 (15%) 2011 (40%) 15% (mini grid) grids 10kW–500kW 2012 (45%) Bolivia – decentralized SHS units OBA component 100% (OBA infrastructure for rural 10–100Wp complete component) transformation Bolivia – decentralized electricity SHS 2007–09 (100%) 3% for universal access 30–75Wp Ethiopia – rural energy access Grid access and CFLs 2008 (18%); 2009 (41%); 0.7% 2010 (41%) Solar PV systems for rural poor in SHS 2008 (10%); 2009 (25%); 23% Ghana Solar lanterns – 50Wp 2010 (65%) Nepal Biogas Support Program Biogas Completed project 100% I,II,III (not GPOBA funded) 4–20m3 Nepal Biogas Support Program IV Biogas 2008 (10%); 2009 (40%); 100% 4–10m3 2010 (50%) GPOBA funding up to 8m3 Sources: World Bank Analysis based on information provided in the GPOBA database (April 2010); GPOBA 2002:15; GPOBA 2009:24,30; GPOBA 2010a; GPOBA 2008a:9; GPOBA 2008b:18; GPOBA 2006b; GPOBA 2007:10,12;GPOBA 2010b; GPOBA 2010c; and World Bank 2003. Note: Subsidy disbursement data based on GPOBA records as of 29 June 2012. ANNEX 51 access to electricity and to deliver improved are provided with a �ve-year connection fee lighting to communities. Overall the project loan, and to lower ongoing electricity costs by hopes to bene�t 9,000 households or 45,000 providing each household with two compact people. fluorescent lamps (CFLs). The Project had been A key technical aspect of the GPOBA delayed for about two years due to a now- Bolivia project was to re�ne and bring into resolved national energy supply crisis. more common usage, an output based service The Project was extended and restructured contract mechanism. This has been achieved. to modify the subsidy disbursement schedule to The Bolivia project was the �rst to implement 80 percent disbursed upon physical veri�cation medium-term service contracts (MSCs).37 In and 20 percent after three successive billing doing so it has passed on valuable lessons to cycles in order to ease the pre-�nancing burden subsequent projects such as the Ghana SHS on the service provider. project (described subsequently). By June 2012 the project had disbursed Solar PV Systems for Rural Poor in three percent of its total subsidies against a Ghana39 planned disbursement total of 100 percent by the end of 2009. Aside from the achievement The Ghana solar PV systems project aims to of developing a service contract mechanism, deliver 15,000 solar lanterns and SHS units, the project which is being delivered with the bene�tting 90,000 households—this is three Bolivian Government had been severely delayed times the current level of installations in because of political upheaval: Ghana. The project became effective in January t 2007–08: the project changed Ministry 2009 and by September 2010 had disbursed 14 which in turn saw three changes of percent of the total project subsidy (against Minister and the departure of key project a planned disbursement of 35 percent by the staff within the Ministry. end of 2009). As of June 2012, the project has t 2009: Project paralyzed for nine months disbursed 23 percent of the planned subsidy. while new Ministry staff appointed. Project The relatively low subsidy disbursement recommenced in September 2009 when masks signi�cant project activity in three prin- the project coordination unit became fully cipal areas: operational. t Building local micro�nance capacity: Micro-�nanciers at the rural bank respon- Overall, the project was delayed by over 2 sible for re�nancing Service Providers’ years but is now on track to achieve planned loans received training during the �rst two outputs. Contracts were awarded in 2011 and months of the project. implementation work has commenced. t Training inspectors: Inspectors were hired and trained and an inspection manual Ethiopia – Rural Energy Access38 developed and consulted on during the �rst four months of the project. The Ethiopia rural energy access project aims to connect (or legalize the connection of) 37 MSCs provide suppliers with exclusive access to project 229,000 households, or 1.14 million individu- subsidies for a period of three to four years following installation. In return, suppliers are contracted to not only als. Poor rural households are unable to afford connect households to SHS technology, but to ensure the the upfront costs of connecting to the grid and units remain serviceable and to engage in market develop- ment activities to support market growth and sustainability in some cases the ongoing cost of electric- of servicing facilities. After the contract period, users and ity. The OBA subsidies are being used to help suppliers may graduate to open competition (Mumssen et al. 2010). �nance the local electricity provider’s connec- 38 The principal source for this sub-section is GPOBA 2010c. tion �nance program, whereby households 39 The principal source for this sub-section is GPOBA 2010b. 52 L E S S O N S F R O M O U T P U T- B A S E D A I D t Product and market development: The and valuable lessons can now be passed onto project team found there to be a largely other RBF projects that face similar issues. absent product market. Local vendors were largely new to the market and were Nepal Biogas Support Program IV40 developing bespoke PV solutions at (too) high costs. A pilot phase ran from June The Nepal Biogas project aims to construct to December 2009 to test demand and the 37,300 household size biogas plants, bene�tting ef�cacy of other project areas. 261,000 people. The project became effective at the end of 2007 and closed by April 2012 hav- Access to local �nance, a solid inspec- ing achieved all targets. tion process and a marketable product are all The project completed the design phase fundamental aspects of any OBA clean energy on time but was delayed a bit due to weak project, yet were largely absent at the start of demand. Lack of demand may have been the project. A key output of the project was driven by, for example, the dif�culties in to rectify this. The Project was extended and mobilizing remote communities with no expe- restructured to (i) reduce the target for large rience of biogas; to some extent the ongoing SHSs and increase the target for small and political instability in Nepal, and perhaps to a medium-sized SHSs, responding to market larger extent, currency changes that increase demands; (ii) offer an output-linked incentive the cost of raw materials such as cement to payment for participating rural banks to com- households. To address these issues the project pensate their costs in servicing PV rural loans. delivered an improved dissemination strategy, Having done so, the Ghana project is now revised its subsidy rates and is also decreased expected to achieve its targets, taking into the wholesale loan rate to micro�nance account the necessary delays discussed above institutions. 40 The principal source for this sub-section is GPOBA 2010d. http://www.gpoba.org 1218198