Leverage in IFC’s Climate-Related Investments A review of 9 Years of Investment Activity (Fiscal Years 2005-2013) NOVEMBER 2013 ACKNOWLEDGEMENTS This report was prepared by the Climate Business Department (Stephanie Miller, Director) and Climate Policy and Finance Group (Vikram Widge, Head). The authors are Shilpa Patel and Rusmir Musić. It is based on a review of IFC’s climate-related investment activities undertaken over the period 2005-2013. It has greatly benefited from inputs and comments from Sabin Basnyat, Abhishek Bhaskar, Lucas Bossard, James Fergusson, John Graham, Gonzalo Gutierrez, Rory Jones, Thomas Kerr, Aditi Maheshwari, Joyita Mukherjee, Ajay Narayanan, Neelam Patel, Randy Riopelle, Kruskaia Sierra-Escalante, Eva Szaky, Dana Younger, and Nina Zegger. SUMMARY Starting from a relatively modest level in 2005, when IFC began tracking its climate-related activities (21 projects amounting to IFC Development banks – whether global, regional investment of $211.7 million, or 4% of IFC’s or national, or multilateral, bilateral, or own account commitments), IFC’s activities domestic – can play an important role in have grown in volume as well as in the breadth financing climate-related investment and in of sectors involved, to reach 14% of total own leveraging significant resources from the account3 commitments in 2013. This review private sector to do so. This report presents an encompasses 562 investments undertaken analysis of the International Finance over the 2005-20134 period in a variety of Corporation’s (IFC) climate finance experience sectors, using the full panoply of IFC financial over a nine-year period from July 2004 to June structures and instruments. 2013, and provides insights on trends in the nature of the activities that have been The analysis points to a number of interesting financed, as well as the leverage and observations and insights: mobilization achieved. There is great potential in leveraging Why this paper? Climate change is now private sector climate-related investment acknowledged to be one of the greatest through multilateral development banks challenges facing our planet. The recent World (MDBs). As IFC’s experience shows, one Bank publication, Turn Down the Heat: Why a dollar of IFC climate-related investment brings 4° C Warmer World Must be Avoided, in close to 3 additional dollars from other describes well the perils that face our planet if investors on average; and that one dollar of we continue on our current emissions IFC investment has itself been leveraged on trajectories.1 Climate change could erode or the strength of IFC’s shareholder capital. All reverse the gains that the world has made in MDBs follow a similar funding model, and economic development. Action to move growth would likely have similar leveraging potential. trajectories to lower-carbon pathways is urgently needed, and massive investment in Average leverage ratios, while useful, mask mitigation and adaptation will be required. It is significant variations across project types. also widely acknowledged that this investment A nuanced picture of leveraging potential will need to come predominantly from the emerges when the underlying activities are private sector. However, the private sector is broken down into “like” categories. Even within reluctant to invest where the returns are not a relatively homogeneous category, such as commensurate with risks, be they real or renewable power generation, there are perceived. The public sector has a large role to variations depending on technology and play in creating an appropriate enabling market characteristics. The private sector does environment conducive to investment in not behave in a homogeneous fashion. general, and low-carbon activities in particular.2 A simple leverage ratio calculation does not This paper demonstrates that significant always tell the full story. Because of the way private finance can be mobilized for climate- IFC accounts for investments, the leverage related investment. It attempts to glean lessons that will actually be achieved on the ground is from IFC’s extensive experience in financing not always captured. This is particularly the such investment; these insights could inform case for indirect investments, as through the deliberations currently taking place in the financial intermediaries (FIs). Direct investment design of international climate finance financing better captures the actual investment mechanisms. that takes place. Neither case captures the broader multiplier effects of investment on 1 income and economic development. See wrld.bg/mBkXD 2 See IFC (2011). Climate Finance: Engaging the 3 Investments that are carried on IFC’s balance sheet; Private Sector available at www.ifc.org/Report- does not include monies mobilized through third parties. 4 ClimateFinance IFC’s fiscal year runs from July 1 to June 30. LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 1 has undertaken to date have not involved Greater leverage is achieved with well- explicit subsidies. This means that their established technologies. Where creditworthiness derives from the prevailing technologies are well established and business environment, policy and regulatory understood by the market, it is easier to attract regimes in the countries involved. In the other financiers to participate in the investment absence of such conditions, such investments plan. Where there are technical issues will simply not take place – or will require associated with a technology, as in solar additional risk mitigation measures. thermal electric technology (concentrated solar power – CSP), or where the activities financed Active “selling” of climate-related activities have not yet entered the mainstream, as in can help. In some cases, climate-related some types of energy efficiency (EE), leverage opportunities may not be immediately obvious ratios are lower. to a client. This is particularly the case in some EE improvements. In such cases, the Leverage ratios are often higher for larger difference between their adoption or not is the projects. Big, capital-intensive projects tend to advice and technical expertise that can be attract more financiers, as individual lenders brought to bear in a given project. IFC’s in- run up against exposure limits. Large projects house technical experts (engineers and can also absorb the higher transaction costs environmental specialists) are key to such associated with multiple lenders and complex active client engagement, particularly in the project finance structures. context of IFC’s Performance Standards5 which requires clients to consider resource Lower leverage activities may still fulfill efficiency possibilities. important market development roles. In some cases, leverage appears to be low Climate finance is often a portion of the because of the conventions underlying project overall financing. In many cases, the climate- accounting for that type of activity (as in FI related portion could be tangential to the main activity, for example). In other cases, the investment being pursued, yet there may well underlying technology may be less well be opportunities to reduce the project’s understood by the market, and a critical mass emissions footprint through captive renewable of activity may not yet have been attained for energy (RE) or EE measures. Such market demonstration purposes, leading to components may be a small part of the project limited co-financing interest on the part of other overall, but they should not be discounted for investors. IFC can play an important role in their impact or demonstration value. Here financing such activities, so as to bring them again, active client engagement by IFC’s up the curve and create greater market technical staff is key. awareness and acceptance. Blended finance can nudge investment into Climate-related investment follows promising, but as yet commercially underlying market trends. The growth in unproven areas. Often, being a first-mover IFC’s climate-related business, particularly for entails risks that make it difficult for a client to renewable energy (RE), reflects underlying complete a financing plan on acceptable terms. market trends in the RE business, which has The perceived risk may be too high even for a seen significant growth in many of IFC’s development finance institution like IFC. A markets. IFC has been ready and able to small amount of concessional finance used to support such growth, but the supply of capital, address such risks can act as a catalyst and while undoubtedly critical, is not necessarily mobilize the necessary financing. the defining element in the growth of such What gets measured gets managed. It is activity. only when IFC made a public commitment to grow its RE and EE activities6 that a tracking Climate-related investment needs a conducive underlying investment 5 environment. Most of the activities that IFC www.ifc.org/performancestandards 6 In Bonn in 2005. LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 2 system was put in place; it is only when such Advisory services and capacity building are investments began to be tracked and targets essential components of some activities. set that staff realized that there were several This paper has not examined Advisory climate-related opportunities in the business Services (AS) and the role that it has played in that could, with a little extra effort, be supporting IFC’s climate-related activities. The materialized. IFC’s commitment to grow its brief description of AS programs provided climate-related business has given a boost to shows that some technical assistance and such endeavors. capacity building activities are essential building blocks for certain types of climate- related investment. Leverage is an important “bang for buck” measure, but not the only one. Leverage shows how much money was mobilized on the back of a public dollar, but it does not capture the impact of that money in terms of GHG reductions, or employment creation, or any number of other co-benefits on health and local pollution or other objectives that a country may wish to pursue. These should be areas for further work for IFC and others. LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 3 TABLE OF CONTENTS Acknowledgements ............................................................................................................................. 1 Summary ............................................................................................................................................. 1 Introduction.......................................................................................................................................... 5 IFC’s Climate-Related Activities ........................................................................................................... 7 What constitutes a climate investment? ........................................................................................... 7 Overall Climate-related Investment .................................................................................................. 9 Energy Efficiency ........................................................................................................................... 17 Financing via Financial Intermediaries ........................................................................................... 22 Other Activities ............................................................................................................................... 25 Blended Finance ............................................................................................................................ 25 Insights .............................................................................................................................................. 27 for Consideration ............................................................................................................................... 27 TABLE OF FIGURES Figure 1: IFC's Climate and Total Investment Figure 6: IFC Commitments in Renewable Commitments (Own Account) FY05-13........... 9 Energy (Real Sector - Own Account) ............ 14 Figure 2: IFC Climate Business Commitments Figure 7: IFC Direct Commitments in (Own Account) FY05-13 by Category ........... 10 Renewable Power Generation FY05-13 ....... 15 Figure 3: IFC Climate Business Commitments Figure 8: IFC Commitments in Energy (Own Account) FY05-13 by Geography ........ 11 Efficiency (Real Sector - Own Account) ........ 18 Figure 4: IFC Climate Business Commitments Figure 9: IFC Commitments in EE Process (Own Account) FY05-13 by Type of Instrument Improvement (Real Sector - Own Account) .. 19 ..................................................................... 11 Figure 10: IFC Climate Commitments through Figure 5: Climate-Related Projects and IFC's Financial Intermediaries ............................... 23 Own-Account Commitments 2005- Figure 11: Summary Tables ......................... 29 2013 (Totals) ................................................ 12 LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 4 INTRODUCTION commensurate with risks, be they real or perceived. The public sector has a large role to play in creating an appropriate enabling This paper examines IFC’s climate-related environment conducive to investment in portfolio, with a view to discerning trends in the general, and low-carbon activities in nature of the activities that have been particular.10 financed, as well as the leverage and mobilization achieved. It is based on an The multilateral development banks can play analysis of 562 investments undertaken over an important role, too.11 This paper 2005-20137. IFC is the private sector arm of demonstrates that significant private finance the World Bank Group, and as such finances can be mobilized for climate-related only private sector projects in developing investment. It attempts to glean lessons from countries. In 2005, IFC began tracking its IFC’s extensive experience in financing such activities related to climate change. Starting investment; these insights could inform the from a relatively modest level in 2005 (21 deliberations currently taking place in the projects amounting to IFC investment of design of international climate finance $211.7 million, or 4% of IFC’s own account mechanisms. commitments), IFC’s activities have grown in volume as well as breadth of sectors involved to reach 14% of total own account LEVERAGE commitments in 2013. In part, this is due to a greater focus by IFC and explicit institutional Leverage implies the use of a lever to enhance mandate, but it is equally attributable to trends an action. In a financial or business context, it in the market, where renewable energy’s high is the ability to have a relatively small amount growth rates – in particular in wind and solar of cost yield a relatively high level of return, photovoltaic (PV) – have begun to extend in a and generally refers to the amount of debt that significant way to emerging markets.8 can be raised on the strength of equity.12 The Overseas Development Institute defines Why this paper? Climate change is now leveraging as the process by which private acknowledged to be one of the greatest sector capital is mobilized as a consequence of challenges facing our planet. The recent World the use of public sector finance and financial Bank publication, Turn Down the Heat: Why a instruments. ODI recognize that there is no 4° C Warmer World Must be Avoided, uniform methodology to calculate leverage describes well the perils that face our planet if ratios, which can be expressed as the ratio of we continue on our current emissions total funding to public funding; the ratio of trajectories.9 Climate change could erode or private funding to public funding; or the ratio of reverse the gains that the world has made in specific public climate finance to broader public economic development. Action to move growth and private finance flows.13 trajectories to lower-carbon pathways is urgently needed, and massive investment in mitigation and adaptation will be required. It is 10 See IFC (2011). Climate Finance: Engaging the Private also widely acknowledged that this investment Sector at www.ifc.org/Report-ClimateFinance 11 will need to come predominantly from the See WRI (2012). Public Financing Instruments to private sector. However, the private sector is Leverage Private Capital for Climate-relevant Investment available at http://www.wri.org/publication/public- reluctant to invest where the returns are not financing-instruments-leverage-private-capital-climate- relevant-investment 7 12 IFC’s fiscal year runs from July 1 -June 30, so the data A discussion of different approaches to leverage is cover the period July 1, 2004 through June 30, 2013. In contained in Brown, J. et al (2011) Improving the two of the projects analyzed, IFC did not have any Effectiveness of Climate Finance: A Survey of Leveraging investments of its own account, but provided a platform Methodologies, available at for investments from other sources through syndication. http://climatepolicyinitiative.org/wp- 8 See REN21 (2013). Renewables 2013 Global Status content/uploads/2011/11/Effectiveness-of-Climate- Report, available at ren21.net/gsr Finance-Methodology.pdf 9 13 See wrld.bg/mBkXD http://www.odi.org.uk/resources/docs/7082.pdf LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 5 Mobilization is sometimes used ratios are generally presented as simple interchangeably with leverage, and can also be averages of the individual leverage ratios expressed along different dimensions. At IFC, contained in a category, as this was deemed mobilization is traditionally used to refer to the more representative of individual project marshaling of resources from other investors experience. alongside an IFC investment, typically (though not exclusively) through its syndicated lending TYPES OF FINANCING program.14 More recently, the creation of IFC’s Asset Management Company provides an IFC provides financing through loans and avenue to mobilize and manage funds on equity on commercial terms for investment behalf of a wide variety of institutional projects. It also provides advisory services for investors. capacity building and market development on a fee or grant basis, and, alongside its own In some quarters, leverage implies a more funds, channels concessional funding provided complicated calculation that attempts to by the Global Environment Facility, the Climate measure the value of the lower return that Investment Funds or other bilateral funding investors may be induced to accept on account sources (Blended Finance). This paper is of the risk-mitigation provided by the public focused on IFC’s investment financing support. The concept of “net” flows, evoked in activities, and includes concessional finance the Secretary-General’s High-level Advisory provided towards such investments. Group on Climate Change Financing report (AGF), reflects this sentiment. The AGF define The vast majority (by dollar volume) of IFC’s “gross” flows as the total amount of private activities remain centered in its investment finance, offset finance, and non-concessional financing. Loans are classified as A, B or C: A lending from multilateral development banks, loans are senior debt held for IFC’s account; B and “net” flows as the grant-equivalent loans are syndicated to other financial transfers from developed countries and the net institutions, but IFC remains lender of record; benefit to the developing countries for non- and C loans are subordinated debt or quasi- concessional public and private flows. This net equity products that generally comport higher benefit would essentially be the value of the risk but also provide a higher return. IFC is lower return that investors are prepared to also able to take minority equity positions in accept on account of any risk-mitigation that projects. they receive through public or quasi-public support (concessional finance, for example, or Instruments such as guarantees and other loans from multilateral development banks).15 credit enhancement are treated as loans for the purposes of IFC’s financial statements. In this paper, the term leverage is generally used to denote the ratio of project cost (as IFC’s Advisory Services (AS) provide advice, represented by the financing plan) to IFC’s problem solving, and training to companies, portion of the financing. Since IFC tracks the industries, and governments in four areas: climate component of its financing separately, access to finance, investment climate, the leverage number provided uses the climate sustainable business, and public-private component of the project cost as the partnerships. Some AS programs are directly numerator, and the corresponding IFC “climate relevant to climate-related business claim” as the denominator.16 Average leverage development, such as the Resource Efficiency 14 Program (see Box 2). However, given its IFC can also arrange parallel loans. 15 http://www.un.org/wcm/webdav/site/climatechange/shar investment focus, this paper does not examine ed/Documents/AGF_reports/AGF_Final_Report.pdf IFC’s AS activities. Where relevant, the role of 16 If it is easier to think of leverage as the number of AS is pointed out, and it is hoped that additional dollars mobilized on account of one dollar of IFC Investment, then please subtract one (1) from the leverage number reported. LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 6 additional work will be done to do full justice to What Constitutes a Climate the topic. Investment? IFC is also an executing agency for IBRD as implementing agency of the Global The guiding principles underlying the Environment Facility (GEF), which from 2005 definitions and typology that IFC uses for to 2013 has channeled $76.3 million through climate-related investment and advisory IFC towards climate-related projects. The projects are contained in a document entitled Clean Technology Fund (CTF) of the Climate IFC Definitions and Metrics for Climate-Related Investment Funds (CIF), in operation since Activity.17 This typology went into effect in 2008, has also provided $93 million in IFC’s FY2013. Sometimes, the entire project concessional financing towards climate-related can be considered climate-related; in others, projects financed by IFC through 2013. In climate-related activities will be a small addition, the Canada Climate Change Program component of a broader project. IFC isolates (CCCP) has provided $85.4 million in the climate-component of the project for concessional financing towards climate-related tracking and reporting purposes. Thus, it projects from 2011 to 2013. determines the share of climate-related activities within a given project, and then calculates the IFC “climate claim” based on a pro-rata share of the financing provided. For IFC’S CLIMATE-RELATED example, if total project cost is 100, the climate ACTIVITIES component is 50, and IFC has financed 20 overall, the “climate claim” will be 10. Since 2005, when IFC first began tracking its IFC now uses three broad categories to define climate-related activities, the climate-related climate-related investment: Mitigation, portfolio has grown significantly. Climate- Adaptation, and Special Climate. However, related activity is tracked annually through prior to FY2013, activities were classified as “commitments.” A loan or equity investment renewable energy (RE), energy efficiency (EE) goes through several steps before financing is or “other” climate, and the dataset available for committed: a project team is constituted to review is organized along this categorization. “appraise” a project once the initial project RE and EE are, of course, subsets of proposal is deemed worth pursuing; the mitigation, which also includes waste appraisal involves a detailed review of the management, transport, carbon markets and project’s technical, environmental, social, other activities – some of which were financial and economic aspects. This process previously captured in the “other” category. As can take several months, depending on the a general rule, IFC classifies activities as project characteristics and level of preparation. mitigation if the project can show a GHG A project is “approved” by the Board once it emissions reduction according to the relevant has passed this due diligence and an internal IFC GHG emissions reduction methodology.18 review; following approval, it is “committed” A distinction is also drawn between direct and when the investment documents are signed; it indirect mitigation.19 Projects with climate- is then “disbursed” according to an agreed related objectives for which such schedule. Once committed, the investment methodologies have not been defined are enters the committed portfolio. The investment classified in the “Special Climate” category. exits the portfolio when the loan has been repaid or the equity stake divested, or if the 17 Available at www.ifc.org/ghgaccounting investment has been cancelled for some other 18 Methodologies have been defined for 10 sectors and reason. are available at www.ifc.org/ghgaccounting 19 Direct mitigation activities result in GHG reductions attributable to changes in an IFC client’s operation as a result of IFC investment or advice. Activity by an IFC client that leads to GHG reductions by a third party is called indirect mitigation. LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 7 aspects of IFC investment activity. In industrial This report categorizes IFC’s climate-related applications, process improvements can activities along the broad dimensions outlined improve the efficiency of the process or below. As previously discussed, the process peripherals. Combined Heat and categorization now employed by IFC has Power (CHP) investments co-generate heat undergone some change, and activities are and power at the facility, which is often less now classified as mitigation, adaptation or GHG-intensive than buying electricity and “special climate”, but given that one of the generating heat within the facility. The objectives of the report is to discern trends in buildings sector offers large EE opportunity, as the leveraging experience of different project does EE in Transmission and Distribution types, the previous categorization has been (T&D) to reduce T&D losses in the power maintained for the purposes of the analysis. sector. Improvements in the efficiency of transport also come under this category. EE RENEWABLE ENERGY (RE) is energy component manufacturing consists of projects obtained from natural resources such as that manufacture EE equipment. sunlight, wind, or sustainable biomass. IFC includes hydroelectric power projects in its EE financing projects are those where accounting for climate-related investment. financing is provided to a financial intermediary Within RE, IFC’s investment activities span the for on-lending or investment in any of the EE spectrum from direct RE generation projects to activities above. support for equipment manufacturing and investing in funds; IFC’s Advisory Services OTHER CLIMATE-RELATED ACTIVITIES works with regulators on the enabling include IFC’s Carbon Finance transactions; environment, provides public-private investments in sustainable forestry, and any partnerships support, and helps develop the other activity that results in carbon reduction or market for clean energy at the base of the provides other “green” benefits.21 IFC has pyramid. detailed guidelines that describe the sorts of activities that can be considered climate- Power generation projects are those where related or “green” to inform its tracking. energy is generated and sold to the grid or micro-grid, or for captive use where the energy In the period under review, only one project is used internally by the project with limited was undertaken that could be classified as external sales (if any). Renewable fuel projects “ADAPTATION”. This is largely due to the fact are those where biofuels are produced. that there are few commercial opportunities in Component manufacturing involves the adaptation at the present time. With regard to financing of manufacturing activities associated climate-proofing, in many cases, the with RE equipment. incremental costs associated with building climate resiliency into a project are simply Renewable financing projects are those where internalized by the project and not accounted financing is provided to a financial intermediary for separately. IFC is in the early stages of (FI - financial institution, bank or fund) for on- looking to mainstream identification and lending or investment in any of the RE mitigation of climate risks across its activities above or as part of a trade finance investments. IFC announced its first adaptation guarantee. Often, such transactions will commitment in FY13 and expects adaptation to include both RE and EE components. be a growing area of business.22 ENERGY EFFICIENCY (EE) is the goal of efforts to reduce the amount of energy required to provide products and services.20 There is potential for greater EE in practically all 21 These would now be classified as mitigation or “Special Climate”. 20 22 http://en.wikipedia.org/wiki/Efficient_energy_use See www.ifc.org/climaterisks LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 8 OVERALL CLIMATE-RELATED commitment stage (i.e., when the investment agreement has been signed). Disbursements INVESTMENT may differ from the committed number if some portion of the committed amount is not The sections below provide data and details on disbursed on account of cancellations, IFC’s climate-related investment activities, changes in project scope, or droppage. reported as amounts committed. These However, for the purposes of this paper, the numbers are own-account only (i.e., investment commitment number remains the investments that IFC will carry on its balance best ex ante measure of project intentions and sheet) and do not include monies that may scope. have been mobilized alongside IFC from other co-financiers, although those numbers will be HISTORICAL EVOLUTION: Figure 1 situates picked up in total project cost. Throughout this IFC’s climate-related commitments against report, investment numbers are reported at the total IFC activity in a given year for the period under review. Starting from a modest 4% of total own-account commitments in 2005, when IFC began tracking its climate-related portfolio, climate-related activity has grown consistently alongside, and in most years, faster than, IFC’s overall investment portfolio. Figure 1: IFC's Climate and Total Investment Commitments (Own Account) FY05-13 $25 16% 14% 14% 13% 14% Climate as % of IFC Total Commitments $20 Commitment volume ($US billions) 12% 11% 9% 9% 10% $15 8% 6% $10 5% 6% 4% 4% $5 2% $0 0% FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 IFC Climate Commitments IFC Non-Climate Commitments Climate as % of IFC LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 9 Figure 2 shows the evolution of IFC’s climate- in EE across the portfolio (both direct support related investment activities over the 2005- and via FIs), while Clean Energy comprises 2013 period, as well as period aggregates, RE. The Annex contains aggregate data over broken down by major category of investment. the same time period, broken down by major Resource Efficiency encompasses investments category. Figure 2: IFC Climate Business Commitments (Own Account) FY05-13 by Category $3,000 132 140 120 $2,500 92 Commitments ($US millions) 89 100 $2,000 85 Climate project count 80 $1,500 57 60 $1,000 38 40 26 21 22 $500 20 $0 0 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 RE EE Other Mitigation Adaptation Project count Resource Efficiency Other Mitigation 40% 6% Adaptation 1st Investment in Clean Energy FY13 54% LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 10 GEOGRAPHICAL DISTRIBUTION: IFC’s business, followed by East Asia. These regions climate business spans all 6 of IFC’s regions – are home to the larger emerging market though volumes are different depending on the economies, which have the market size and maturity of the markets, as can be seen in the industrial development necessary to support graph below. Latin America and Eastern domestic RE and EE activity. Europe hold the highest shares of climate Figure 3: IFC Climate Business Commitments (Own Account) FY05-13 by Geography Europe and Central Asia Latin America and 27% the Caribbean 25% South Asia Middle East and 14% North Africa East Asia and the 3% Pacific Sub-Saharan Africa 21% WORLD 9% 1% TYPE OF INSTRUMENT: Figure 4 shows the terms, IFC provides more financing through evolution as well as the aggregate volume of debt instruments that it does through equity or IFC’s climate-related investment activities guarantees, although guarantees are a rapidly broken down by debt, equity and guarantee growing part of IFC’s business. instruments. Both in volume and project count Figure 4: IFC Climate Business Commitments (Own Account) FY05-13 by Type of Instrument $3,000 $2,500 Commitments ($US millions) $2,000 $1,500 $1,000 $500 $0 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 Loans Equity Guarantee LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 11 LEVERAGE: Figure 5 provides a picture of could also be calculated as the climate IFC’s investments in climate-related activities component of the project cost as a multiple of and situates the IFC climate claim within the the IFC climate claim. On a simple24 average total IFC commitment, the total climate basis, which is more representative of component of the underlying projects, and the individual project experience, the project total project costs associated with the leverage was 4.1. Given that IFC will not, in investments. most cases, finance more than 25% of project cost for greenfield projects25, this means that Figure 5: Climate-Related Projects and leverage ratios achieved overall in the climate- IFC's Own-Account Commitments related portfolio are very close to statutory 2005-2013 (Totals) requirements. However, there is an additional aspect of leverage that must be pointed out here. IFC raises financing in capital markets on the strength of its balance sheet, which is itself derived from shareholders’ contributions and retained earnings. IFC’s balance sheet for 2013 reports a debt/equity26 ratio of 2.6:1 – implying that IFC borrowed 2.6 dollars for every dollar of capital. In that same year, IFC reported total capital of $22.3 billion, including $2.4 billion of capital stock (the rest being retained earnings and other accumulated income), and total assets of $77.5 billion, including investments of $34.7 billion. One dollar of shareholder paid-in capital could thus be considered to have leveraged 14 dollars of IFC investment. This is a simplistic calculation, to be sure – one could argue that retained earnings represent foregone shareholder Out of a total project cost of $72.1 billion for returns and should therefore be considered as climate-related investment over 2005-2013, shareholder contribution, or that the climate components accounted for around appropriate numerator should be total assets, 55%; IFC’s financing towards these projects for example – but it does demonstrate the very amounted to $19.9 billion, and the “climate high leveraging potential that one dollar of claim” reported was $10.5 billion (calculated as public contribution, judiciously managed and a simple pro-rata share of the overall IFC deployed, can have on private sector financing. financing). As the graph above suggests, leverage could be calculated along several The summary data presented above do not tell dimensions. One is to look at total project cost, the full story on leverage. Different leverage divided by total IFC commitment; in the case of the climate portfolio, this yields a weighted23 24 The average of the individual leverage ratios of the average of 3.6, implying that one dollar of IFC underlying projects 25 financing mobilized close to 3 additional dollars In some cases, and notably for brownfield (expansion) projects, IFC is able to finance up to 50% of project costs. of financing from other sources (essentially 26 Defined as the number of times outstanding borrowings private). However, since IFC tracks the climate plus outstanding guarantees cover paid-in capital and component of its financing separately, leverage accumulated earnings (net of retained earnings designations and certain unrealized gains/losses);see http://www.ifc.org/wps/wcm/connect/92f23b804112384a8 23 The average obtained by using totals across the 9a1fffe5679ec46/AR2013_Results_Financial_Summary.p relevant projects. This means that one or two large df?MOD=AJPERES&Sections%206:%20Financial%20Su projects can unduly influence the result obtained. mmary LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 12 ratios were obtained for the different categories RENEWABLE ENERGY of activities, and understanding these differences could provide insights into market Figure 6 breaks down IFC’s real sector RE characteristics, investor behavior and the activities into broad constituent parts: power structural issues underlying different asset generation, generation for captive use, types. renewable fuels, and component manufacture.27 Overall, IFC has financed 177 The sections below differentiate between IFC’s distinct projects that have included RE over direct investment activities – loans and equity 2005-2013. Please note that the data include provided to the project (often referred to as real only the climate claim of IFC’s own-account sector) – and those where IFC’s finance is commitments (i.e., financing that IFC carries provided via a financial intermediary such as a on its balance sheet, as opposed to financing it bank or private equity fund. A separate section arranges via syndications and other presents IFC’s blended finance activities, mobilization activity). where additional calculations are provided to assess leverage per donor-funded dollar. The largest single category of commitments was in power generation – both in terms of project counts as well as investment volume. Figure 6: IFC Commitments in Renewable Energy (Real Sector - Own Account) $700 $600 Commitments ($US millions) $500 $400 $300 $200 $100 $0 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 Power Generation Renewable Captive Use Renewable Fuels RE Component Manufacturing 27 Financing via intermediaries is not included here, but reported separately following this section. Component manufacturing is also discussed separately following the RE and EE discussion. LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 13 Figure 6 Continued - IFC Commitments in Renewable Energy (Real Sector - Own Account) Renewable Captive Use 5% Renewable Fuels 1% RE Component Manufacturing 11% Power Generation 83% POWER GENERATION: This category The graphs below show the evolution of IFC’s comprises projects where energy is generated activities in power generation by major through renewable resources and sold to the technology. Hydro holds the single largest grid or micro-grid. IFC has made 122 direct share both in terms of project count and dollars investments in renewable power generation in invested. Hydro is a well-established the period 2005-2013, with hydro being the technology, can be used for base load, and largest single group. Not surprisingly, this is presents the best fit with energy systems the category where the project’s climate based on traditional fuel sources. Furthermore, component comes closest to total project size, it is capital intensive, with relatively large because projects are focused on the project size and financing needs. Perhaps generation activity and rarely contain other, most importantly, it is often competitive in broader components. levelized cost and tariff terms to thermal generation, and so does not typically need specific regulatory support. LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 14 Figure 7: IFC Direct Commitments in Renewable Power Generation FY05-13 600 500 400 300 200 100 0 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 Biomass Geothermal Hydro Solar Wind Biomass 6% Geothermal 8% Wind 29% Hydro Solar 44% 13% Solar energy consists mostly of solar PV wood. As can be seen in figure 7 above, there (photovoltaic) technology, with two CSP is increasing diversification in RE technology (concentrated solar power) projects financed in as non-hydro RE becomes more competitively 2012 in South Africa using CTF concessional priced and increasingly supported by funding support, and a couple of small solar regulation. Overall, IFC activity follows thermal transactions. The biomass category underlying market trends: there has been comprises the use of wood waste, agricultural significant growth in RE capacity in developing residues (such as bagasse) and plantation countries in the period under review, with wind LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 15 and solar PV increasing their market shares in financiers as individual lenders run up against recent years. exposure limits. Smaller projects may not face this constraint, and IFC may be prepared to Leverage ratios vary across the categories, provide the totality of the financing required. with the highest leverage achieved in Also, larger projects can tolerate the larger geothermal projects (8.7), followed by hydro transaction costs associated with multiple (average 6.1). This could be a reflection of the lenders and complex project finance perceived commercial attractiveness of the structures. project: where the technology is well established and can cater to base load With a few recent exceptions, none of these requirements, it is easier to mobilize other projects have been undertaken with any sources of finance alongside IFC. Conversely, concessional support. Their financial viability where the technology is less well established, has therefore been based on technology cost or faces technical issues that present reductions that have enabled competitive challenges to the grid, perceived risk is higher tariffs, or conducive policy regimes, feed-in and other sources of finance less readily tariff support and other regulatory measures. available, resulting in lower leverage ratios. But for some projects, such as the Wind and solar achieved leverage ratios of 3.5; concentrated solar plants in South Africa biomass came in at 3.1. This could also simply described in Box 1, concessional support was be a matter of project cost and capital intensity. critical to the project. Larger projects are likely to need more Box 1: South Africa Concentrated Solar Plants IFC invested $145 million in two concentrated solar power plants in South Africa, representing IFC’s first large scale investments in this technology and first for the region. The Abengoa Ka Xu project, worth a total $934 million, included $26.5 million in concessional funds, while another $15 million in concessional funds supported the $489 million Abengoa Khi plant. The two projects will provide 150 MW of power. The plants are using innovative proprietary technology to specifically address South Africa’s needs, such as dry cooling technology that will reduce water consumption by two thirds. Alongside the investment, IFC is also providing technical and structuring expertise to address the challenges of financing the plants. The deals have won numerous project finance awards. The solar power plants will help diversify South Africa’s electricity away from coal-fired power, which contributes heavily to greenhouse gases. Interestingly, there has been a significant shift RENEWABLE CAPTIVE USE: this is RE in IFC’s power generation business from generation for internal use within complexes, conventional fuel sources (fossil fuels) to with limited (if any) external sales. The types of renewable energy. As a comparison, over the activities that would be classified thus would be same period IFC’s conventional thermal power bagasse use, captive hydro or wind; clients generation business accounted for $2 billion of tend to be big energy users seeking to replace IFC financing – against $2.9 billion of RE conventional energy sources such as fuel oil or financing. In addition, out of the $2 billion in diesel with solar, wind, biomass (historically conventional power, $350 million was for EE considered to be waste) or hydro technologies. improvements in the power sector. This was a Many of these large corporates have significant area for climate business in FY13. introduced targets for RE within their own Leverage ratios for conventional power operations and supply chains, ahead of generation have averaged around 8 - similar to national regulations or requirements. Often, the higher end of the RE power portfolio. such activities will form part of a larger LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 16 rehabilitation or other investment project. The ENERGY EFFICIENCY leverage ratios observed in this category bear this out: the climate component was around Figure 8 breaks down IFC’s EE activities into 18% of total project cost on average. While broad constituent parts: process overall IFC leverage at the project level was improvements, Combined Heat and Power 5.4 (on a weighted basis); the climate (CHP), buildings, T&D, transport, and leverage ratios were around 4.3 (simple component manufacture.28 Overall, IFC has average) or 3.8 (weighted). This suggests that financed 169 distinct real sector projects that while IFC financing was a small part of the have included EE over 2005-2013, for a total overall project, the climate component formed climate claim of $2.4 billion. As with the other a large part of it. This could reflect greater data presented in this report, only the climate perceived risk on the part of other financiers; claim of IFC’s own-account commitments (i.e., this could also reflect active IFC “selling” of the financing that IFC carries on its balance sheet, climate-related technology as part of the as opposed to financing it arranges via overall project investment. syndications and other mobilization activity) is included. EE is one area where IFC’s in-house RENEWABLE FUELS: these are projects technical expertise plays a critical role: often, where biofuels are produced; to date there EE opportunities will be identified as part of have been only 13 such projects in the project preparation for a broader investment portfolio, mostly concerning the manufacture of project. ethanol from sugar. The biofuel component is a very small part of the overall project – in this sample, around 11%. Surprisingly, leverage ratios for the climate component, at 7 (simple average), or 5.7 (weighted), were higher than overall IFC leverage at the project level (weighted average 4.7) – suggesting that the biofuel component was not a key driver in the project’s financing. IFC’s limited commitment to this sector does not reflect the underlying market opportunity, but rather some reluctance on the part of the institution to finance biofuels – either because other liquid fuel opportunities have been pursued instead or because of lingering sustainability concerns. 28 Financing via intermediaries is not included here, but reported separately following this section. Component manufacturing is also discussed separately following the RE and EE discussion. LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 17 Figure 8: IFC Commitments in Energy Efficiency (Real Sector - Own Account) $800 $700 Commitments ($US millions) $600 $500 $400 $300 $200 $100 $0 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 EE in Process Improvement Green Buildings CHP EE in T&D EE in Transport EE Components & Systems EE Components & Systems 13% EE in Transport 7% EE in Process Improvement 30% EE in T&D 13% Green Buildings 21% CHP 16% PROCESS IMPROVEMENT: Figure 9 shows improvements (replacing motors and boilers IFC’s EE process improvement investments, with higher-efficiency models) and process further broken down by sector. In general, changes and modernization; production process improvements consist of activities that changes and changes in operational increase output per unit of energy consumed. procedures could also contribute to efficiency In manufacturing, such efficiency gains, as is typically encountered in improvements could consist of utility system agribusiness. LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 18 Figure 9: IFC Commitments in EE Process Improvement (Real Sector - Own Account) $200 $180 $160 Commitments ($US millions) $140 $120 $100 $80 $60 $40 $20 $0 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 Manufacturing Agribusiness & Forestry Other Agribusiness & Forestry 4% Other Manufacturing 2% 94% As shown above, manufacturing process EE will be included as an add-on, rather than improvement holds the largest share of as the primary purpose of the transaction. investment, with over 84% of projects and 94% of investment volume. The climate-related However, the averages hide significant component of process improvement variation by sector. Manufacturing shows the investments averaged around 31% of total highest leverage (6.3), while leverage in the project cost, implying that the EE component agribusiness sector was considerably lower was a small part of the overall investment. (3.7). This is most likely a reflection of the Rarely will a client undertake an EE investment difficulty in identifying and implementing EE as a stand-alone activity; for the most part, the improvements in the sector. Manufacturing EE improvements form part of a broader processes likely represent “lower-hanging fruit” investment plan. Interestingly, the more on the EE opportunity scale, and other established the technology, the more likely that financiers may be more familiar with such LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 19 investments and therefore participate in the led advisory engagement (Resource Efficiency financing. Program), followed by the necessary financing to implement audit findings through an IFC An interesting use of AS to support climate- investment. IFC has approved a $125 million related investment activities is illustrated by the financing facility (Cleaner Production Lending example below (Box 2). This program involves Program) to provide such financing, and to the provision of energy and cleaner production date, 14 transactions have been undertaken. auditing services to the client through an IFC- Box 2: Ukraine – Mriya: Cleaner Production Program Mriya Agroholding produces and processes into sugar 1.5 million tons of sugar beets per year. Energy and water account for up to 25% of the processing cost of sugar. IFC’s $5 million loan was made following an audit financed and provided through IFC’s Advisory Services. The $12.5 million project involves repairing a water treatment station, installing a new press for beet pulp, and adding new press filters at four of the firm’s six sugar refineries. Through these steps, improved production efficiency at Mriya’s affiliated refineries is increasing capacity utilization by about 8.5%, while production costs are being reduced by up to 6.8% at the various refineries, generating the equivalent of about $3 million in annual savings. Avoidance of penalties by the local regulator and utilities for high water use and wastewater treatment add to the company’s savings. WASTE HEAT UTILIZATION AND ratios for the climate component were 4.6, COMBINED HEAT AND POWER: Waste heat slightly higher than the overall leverage utilization consists of adding new energy obtained in the climate portfolio. As in all other sources, derived from waste heat or materials, cases, the averages hide variation between into the production process, and represents projects, as illustrated by the example shown significant EE opportunity. CHP entails the co- in Box 3. Waste heat utilization is a well- generation of heat and power at the facility, understood technology, with proven financial which is usually less GHG-intensive than the attractiveness, and most large energy users alternative of buying grid electricity and will have explored such options as a matter of generating heat in boilers. IFC has done 14 course. Opportunities for IFC to actively projects in waste heat utilization and CHP over promote such components would generally 2005-2013; the relevant component was arise in the context of large retrofits or around 62% of total project costs. Leverage alongside debottlenecking exercises. Box 3: Jordan – JIFCO phosphoric acid plant Jordan India Fertilizer Company (JIFCO) is a joint venture between IFFCO, India and Jordan Phosphate Mines company, to build and operate a phosphoric acid project with annual capacity 475,000 tons of phosphoric acid in Eshidiya in Jordan. JIFCO will construct a 26-MW onsite power plant based on stream generated from the manufacturing process instead of using additional fossil fuels. This will meet JIFCO's own needs and sell approximately 2 MW electricity to the grid. The climate-related portion of the total project cost of $673 million was around 3%, and IFC provided $125 million towards the total financing – at a leverage ratio of 5.4 times. LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 20 BUILDINGS: IFC defines green buildings as TRANSPORT: To date, IFC has undertaken 10 having a 20% efficiency gains in energy, water, projects that can be categorized as and embedded materials as compared to the representing EE improvements in transport. local baseline.29 EE opportunities in buildings The projects are large (over $227 million on can be found in heating, ventilation and air average) and IFC’s share in the overall conditioning (HVAC) systems, lighting, and financing small (around 17%). The climate insulation. Most of IFC’s 31 investments in this component of such projects is also relatively category have been in new building small, at 21%, and leverage ratios obtained construction in the commercial, hotels, and were around 4.9 for the climate financing. The retail sectors and have taken place in the last projects have included airline fleet two years. Project size tends to vary from less improvements, engine replacements in barges, than $100,000 to $210 million. This great and smart traffic controls. variability, combined with differences in the recording of total project costs in the sample, EE COMPONENTS MANUFACTURE AND make an analysis based on averages SMART SYSTEMS: This category consists of misleading, if not meaningless. Overall, investments that support the manufacturing of leverage ratios tend to be low, due in part to equipment for renewable energy and energy several equity investments where IFC’s efficiency use – in general, investment that investment is often recorded as total project supports the supply chain for these size. IFC expects to see greater activity in the technologies. This is a relatively new activity green buildings sector going forward. for IFC and to date, a total of 36 projects have been financed; the climate claim for these TRANSMISSION & DISTRIBUTION: T&D projects totaled $730 million, out of a total improvements consist, inter alia, of upgrading project cost of $5.7 billion towards which IFC substations and transformers, and the provided close to $1.1 billion of financial reduction of technical losses in the system. support. There are some differences between Most of these projects are undertaken with component manufacture for renewable energy municipal or subnational entities (such as and energy efficiency. Average project size utilities), and to date have been focused on was $309 million for the renewable supply electricity.30 In general, these are large chain, almost completely composed of climate- projects, averaging $230 million. Even though related activities; IFC financing represented the climate component represents around 55% just 12% of total project cost, leading to of total project costs, IFC tends to provide a leverage ratios that averaged 6 across the small part of the overall financing required; the portfolio (see Box 4). For energy efficiency, the large project size means that other financiers average project size was considerably smaller, are often involved, and thus leverage ratios are at $85 million; climate-related activities relatively high (simple average of 4.9 for the represented around 30% of the average climate claim, and weighted average of 8.6). It project, with IFC financing around 30% of total could also be that the commercial viability of project cost. Climate-related leverage ratios T&D improvements is well understood by the were lower, at around 3.5 – implying that the market, which results in reduced perceived risk IFC involvement was most likely structured and attracts other sources of finance. around the climate component. IFC also invests in smart systems, or projects where smart technology is used to discover and implement efficiency gains. 29 IFC has created EDGE (Excellence in Design for Greater Efficiency), a mass-market building design and certification tool for emerging markets. See www.ifc.org/edge. 30 The reduction of transmission losses in gas pipelines is a growing area and there will likely be increased activity in this category in the years ahead. LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 21 Box 4: Philippines – SunPower: Solar Cell and Module Manufacturing IFC’s loan provides funding for SunPower’s 108-megawatt solar cell and module manufacturing plant in Laguna and a 466-megawatt solar cell fabrication facility in Batangas. The investment will strengthen SunPower’s ability to manufacture its high-efficiency solar cells. The investment is expected to spur the use of solar power globally, support local economic growth and sustain the many skilled jobs that the company has created in the Philippines. The $525 million project was entirely focused on RE component manufacturing, and IFC’s $75 million financing leveraged 7 times other resources to complete the financing plan. manager who then manages the money on FINANCING VIA FINANCIAL their behalf in exchange for a fee and INTERMEDIARIES participation in the upside. Trade finance is a relatively new area of activity for IFC, with the Financial intermediary (FI) activities are a first transactions having taken place only in significant part of IFC’s overall business (60% 2009. However, the growth in this category has in 2013) and are also a significant constituent been phenomenal: IFC commitments on of IFC’s climate-related portfolio. IFC account of trade transactions represent a third undertakes three broad categories of activities of the total FI climate-related commitments. in this rubric. Debt finance is provided These transactions are essentially structured essentially through credit lines, but could also as guarantees, which helps to explain the include guarantee facilities and leasing significant increase in the use of this finance. The borrowing bank then on-lends the instrument over the past years. proceeds to its clients. Risk sharing and portfolio guarantees are particularly important Figure 10 charts IFC’s FI activities by the three for climate-related investment, but they are not major component categories. A discussion of tracked separately and are included under debt these different categories follows. One point to in this report. Funds investments are note here is that FI transactions tend very investments in equity made through private rarely to be uniquely focused on RE or EE; in equity funds, where IFC, together with other general, the investment will cover both RE and financiers, will provide capital to a fund EE, albeit in varying amounts. LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 22 Figure 10: IFC Climate Commitments through Financial Intermediaries $1,200 $1,000 Commitments ($US millions) $800 $600 $400 $200 $0 FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 Credit Line Fund Trade Finance Trade Finance Credit Line 38% 51% Fund 11% DEBT FINANCE: This category consists and 3.9, respectively), suggesting the essentially of credit lines and other debt presence of a few large transactions at the facilities provided to banks. In the case of lower end of the leverage spectrum. However, climate finance, these facilities are tied to the these ratios are misleading. IFC financing financing of a specific kind of activity. The bank tends to be a very small portion of the bank’s establishes an asset pool of eligible activities; balance sheet (unlikely to exceed 5%); these “additional” activities are financed by the secondly, the bank itself will require some IFC credit line or other facility. Such financing equity participation in the on-lending can go up to 100% of requirements, and so transaction (typically 20-30%), so the actual leverage ratios can be low. This category investment financed on the ground is contains 78 projects over the 2005-2013 considerably greater than would be implied by period, and shows a large difference between the leverage ratio obtained from analyzing the weighted averages and simple averages (1.9 IFC portfolio. LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 23 Box 5: China – CHUEE – Financing sustainable energy via domestic banks IFC’s China Utility-Based Energy Efficiency Finance Program (CHUEE) started in 2006 with two Chinese banks and to date has grown to incorporate 6 partner banks in China for a total IFC financing of over $300 million. IFC’s program brings together, for the first time, three key players -- utility companies, suppliers of energy efficiency equipment, and commercial banks – to create a new financing model for the promotion of energy efficiency. It provides marketing, engineering, project development and financing services to commercial, industrial and multi-household residential sector energy users to support the implementation of energy efficiency and renewable energy projects. By the end of FY 2012, banks participating in the program had provided loans worth close to $800 million to 175 energy-efficiency and renewable-energy projects, reducing greenhouse-gas emissions. Capacity building services are provided through IFC’s Advisory Services and financed by donors. The major benefit of IFC’s activities in this area generate returns for his investors, the manager is not the “bang for buck” that leverage ratios will attempt to leverage his equity investment may indicate, but rather the long-term market with debt to the extent possible. Thus, penetration and market development that individual project-level investments will be a occurs. The CHUEE project (Box 5) is often combination of equity (say, 30%) and debt cited as having been a particularly successful (70%); this in turn implies that one dollar of example of such FI lending. The critical fund money is leveraged over 3 times, so the success factor for this investment, according to actual IFC leverage would be correspondingly IFC staff who worked on it, was the conducive higher for such investments. environment that enabled such investments to take place. The CHUEE project tapped into TRADE: This is a relatively new area of IFC this by providing regulatory and financial involvement, but has experienced significant support and structures that allowed local banks growth not just in the climate portfolio but to take advantage of the enabling environment. across the board in IFC. A trade transaction consists of credit enhancement of the local FUNDS: IFC participation in a private equity bank issuing a letter of credit (L/C) on account fund generally does not exceed 25% of the of a foreign trade transaction and typically total fund size, so one would expect to see takes the form of a guarantee confirming the leverage ratios around 4; leverage ratios issuing bank’s L/C. The underlying activities registered for IFC’s 24 funds investments were could be the production, trade or use of RE 3.9 for the climate component. However, as and EE; the volumes so defined are included in with debt facilities, these numbers mask the the climate claim against this category. Project actual leveraging potential of funds cost is taken to be the face value of the L/C, investments. The funds manager will use the and since the credit enhancement is provided monies available in the fund for equity on this amount, the leverage ratio tends to investments. Since the major objective is to hover around 1. LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 24 OTHER ACTIVITIES the investment (expansion or rehabilitation projects rather than greenfield). This category includes activities that cannot properly be classified as RE or EE,31 or that OTHERS: This category covers activities that represent special characteristics, such as contribute to GHG reductions but where such carbon finance. Forestry activities are included reductions are not credibly quantifiable, here for historical reasons: through FY2012, thereby precluding their inclusion on the they were classified in the “other” category, mitigation category. Water projects, for and it is only in FY2013 that they are included example, would fall into this category. Given under the mitigation classification. the wide range of activities covered in this category, it is not meaningful to examine CARBON FINANCE: Between 2007 and 2009, project data and leverage ratios on an average IFC undertook 3 specific transactions related to basis. its Carbon Delivery Guarantee (CDG) product. This instrument essentially addressed risk BLENDED FINANCE perceptions between the buyer of carbon credits (Carbon Emissions Reductions or IFC has been involved in concessional CERs), generally for compliance purposes, financing32 activities since 1991, when it began and the seller of the CERs (an emissions to engage with the Global Environment Facility reducing project in a developing country). By (GEF) and the Multilateral Fund for the guaranteeing delivery of the contracted amount implementation of the Montreal Protocol of CERs, IFC was able to remove project risk (Montreal Protocol). In 1996, it set up an from the transaction and provide the buyer with Environmental Projects Unit to carry out such an investment grade product; its guarantee fee activities. The early investment activities were was covered by the premium that such a solely donor-funded and did not involve IFC’s product carried in the market. The collapse of financial resources. In addition to the GEF, IFC secondary trading and continuing uncertainty was able to mobilize other donor financing for of carbon markets has limited the uptake of such activities, and early investments in the this instrument. Given that the CDG contract clean tech space were carried out using such was written for the face value of the contracted funds. amount of CERs and guaranteed in totality, leverage ratios obtained are 1 for both the Subsequently, starting with the GEF-funded climate claim and the overall project. Earth Fund platform and later with the advent of the Climate Investment Funds, and the FORESTRY: 8 projects that fit this Clean Technology Fund in particular, IFC classification were financed in the review began to provide blended finance (a mix of period. The activities financed include carbon donor-funded concessional finance and IFC’s sequestration and sustainable plantations, both own funds). In 2011, IFC also received funding sustainable harvesting as well as new growth from Canada for its blended finance activities plantations. Project sizes are small, at an in climate. All of these funds aim to address average of around $60 million per project, and climate change by catalyzing private sector 72% of project costs are climate-related. investments and advisory projects that would Leverage ratios are also on the lower side, at not otherwise happen under current market 4.0, a reflection of both the size and nature of conditions. Blended finance can take the form of a variety of products and structures including risk sharing products, lower interest 31 As of November 2012, IFC classifies activities as mitigation if the project can show a GHG emissions 32 reduction according to the relevant IFC GHG emissions Concessional finance involves the provision of reduction methodology. Projects which have climate- financing at below market rates. This can be in the form related objectives but for which GHG reductions are not of interest rate subsidies, longer tenors, structured equity easily or credibly quantifiable are classified as “Special products or other risk-mitigating measures. The subsidy Climate”. element is covered through donor contributions. LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 25 rates, longer tenors, subordinated rank in In the case of the 10 real sector transactions loans, or other structures for equity that have been committed, 6 are in the power investments. generation sector. Leverage ratios for these projects, at an average of 19.4 for total project IFC manages approximately $700 million in cost and 3.5 for IFC funds to donor funds, hide funds from the Climate Investment Funds, the significant variation between technologies. The Global Environment Facility, and the Canada fact that a power sector project needs Climate Change Program. These funds are concessional support to begin with suggests often matched by IFC resources and can be limited commercial viability without such deployed as softer loans, guarantees, and support, which in turn suggests a greater need equity for projects that would generally not be for the concessional support. taken up by the private sector alone due to high project risks, technology costs, or The blended finance portfolio is still new and technology risk. Donor funds also support emerging, and it is difficult to draw definitive standard-setting innovations and advisory conclusions based on such limited activity. services (often with a grant element) to build However, what is clear is that this instrument local capacity within firms and governments, has the potential to leverage very high and to develop new financial products allowing multiples of investment from both the IFC and firms to identify opportunities to reduce GHG other co-financiers for projects that they would impacts and countries to adopt more favorable not have financed in the absence of such regulatory and business environments for support. In that regard, blended finance renewable energy, energy efficiency, and appears to come closest to the definition of cleaner technologies. climate finance embodied in the UNFCCC agreements and discussions of the Green Since FY2006, 39 investment transactions Climate Fund. have been committed using blended finance deploying concessional resources managed by IFC and including an IFC investment alongside. Fifteen of these transactions have used guarantee instruments, 23 have used debt products, and one project has used equity. A majority of the projects (29) are investments made through FIs. The leverage ratio for blended finance transactions through FIs is quite high: on average one dollar of concessional finance leveraged more than 13.8 dollars of investment on the ground, including 9 dollars of IFC investment, that would not have taken place without such risk mitigation support. The point made earlier about the true leveraging potential of funds and credit lines holds here, too – actual leverage on the ground will be higher, given the deployment modalities of such instruments. In addition, the catalytic impact of the investments must be borne in mind: these projects often involve an emerging area (venture capital or early stage funding of cleantech) or activities that have not yet entered the mainstream FI environment. LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 26 INSIGHTS plan. Where there are technical issues associated with a technology, as in solar FOR CONSIDERATION thermal electric technology (concentrated solar power – CSP), or where the activities financed The data presented above constitute a have not yet entered the mainstream, as in comprehensive dataset with detailed project- some types of energy efficiency (EE), leverage level information spanning 9 years and 562 ratios are lower. projects across a variety of sectors. The analysis points to a number of interesting Leverage ratios are often higher for larger observations and insights: projects. Big, capital-intensive projects tend to attract more financiers, as individual lenders There is great potential in leveraging run up against exposure limits. Large projects private sector climate-related investment can also absorb the higher transaction costs through multilateral development banks associated with multiple lenders and complex (MDBs). As IFC’s experience shows, one project finance structures. dollar of IFC climate-related investment brings in close to 3 additional dollars from other Lower leverage activities may still fulfill investors on average; and that one dollar of important market development roles. In IFC investment has itself been leveraged on some cases, leverage appears to be low the strength of IFC’s shareholder capital. All because of the conventions underlying project MDBs follow a similar funding model, and accounting for that type of activity (as in FI would likely have similar leveraging potential. activity, for example). In other cases, the underlying technology may be less well Average leverage ratios, while useful, mask understood by the market, and a critical mass significant variations across project types. of activity may not yet have been attained for A nuanced picture of leveraging potential market demonstration purposes, leading to emerges when the underlying activities are limited co-financing interest on the part of other broken down into “like” categories. Even within investors. IFC can play an important role in a relatively homogeneous category, such as financing such activities, so as to bring them renewable power generation, there are up the curve and create greater market variations depending on technology and awareness and acceptance. market characteristics. The private sector does not behave in a homogeneous fashion. Climate-related investment follows underlying market trends. The growth in A simple leverage ratio calculation does not IFC’s climate-related business, particularly for always tell the full story. Because of the way renewable energy (RE), reflects underlying IFC accounts for investments, the leverage market trends in the RE business, which has that will actually be achieved on the ground is seen significant growth in many of IFC’s not always captured. This is particularly the markets. IFC has been ready and able to case for indirect investments, as through support such growth, but the supply of capital, financial intermediaries (FIs). Direct investment while undoubtedly critical, is not necessarily financing better captures the actual investment the defining element in the growth of such that takes place. Neither case captures the activity. broader multiplier effects of investment on income and economic development. Climate-related investment needs a conducive underlying investment Greater leverage is achieved with well- environment. Most of the activities that IFC established technologies. Where has undertaken to date have not involved technologies are well established and explicit subsidies. This means that their understood by the market, it is easier to attract creditworthiness derives from the prevailing other financiers to participate in the investment business environment, policy and regulatory regimes in the countries involved. In the LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 27 absence of such conditions, such investments What gets measured gets managed. It is will simply not take place – or will require only when IFC made a public commitment to additional risk mitigation measures. grow its RE and EE activities34 that a tracking system was put in place; it is only when such Active “selling” of climate-related activities investments began to be tracked and targets can help. In some cases, climate-related set that staff realized that there were several opportunities may not be immediately obvious climate-related opportunities in the business to a client. This is particularly the case in some that could, with a little extra effort, be EE improvements. In such cases, the materialized. IFC’s commitment to grow its difference between their adoption or not is the climate-related business has given a boost to advice and technical expertise that can be such endeavors. brought to bear in a given project. IFC’s in- house technical experts (engineers and Advisory services and capacity building are environmental specialists) are key to such essential components of some activities. active client engagement, particularly in the This paper has not examined Advisory context of IFC’s Performance Standards33 Services (AS) and the role that it has played in which requires clients to consider resource supporting IFC’s climate-related activities. The efficiency possibilities. brief description of AS programs provided shows that some technical assistance and Climate finance is often a portion of the capacity building activities are essential overall financing. In many cases, the climate- building blocks for certain types of climate- related portion could be tangential to the main related investment. investment being pursued, yet there may well be opportunities to reduce the project’s Leverage is an important “bang for buck” emissions footprint through captive renewable measure, but not the only one. Leverage energy (RE) or EE measures. Such shows how much money was mobilized on the components may be a small part of the project back of a public dollar, but it does not capture overall, but they should not be discounted for the impact of that money in terms of GHG their impact or demonstration value. Here reductions, or employment creation, or any again, active client engagement by IFC’s number of other co-benefits on health and local technical staff is key. pollution or other objectives that a country may wish to pursue. These should be areas for Blended finance can nudge investment into further work for IFC and others. promising, but as yet commercially unproven areas. Often, being a first-mover entails risks that make it difficult for a client to complete a financing plan on acceptable terms. The perceived risk may be too high even for a development finance institution like IFC. A small amount of concessional finance used to address such risks can act as a catalyst and mobilize the necessary financing. 33 34 www.ifc.org/performancestandards In Bonn in 2005. LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 28 Summary Table Total IFC Simple Weighted Weighted Project Total Project Total Climate Total IFC Simple Total Climate Climate Climate Total Count Size Component Commitment Leverage Component Leverage Leverage Leverage Power Genera ti on (Projects where energy i s genera ted 122 $16,357 $14,171 $3,176 $2,899 4.70 4.89 4.70 5.15 a nd s ol d to gri d or mi cro gri d) Renewa bl e Ca pti ve Us e (Renewa bl e energy Real Sector RE 30 $3,788 $668 $701 $174 6.08 3.85 6.08 5.40 genera ti on for i nterna l us e wi th l i mi ted externa l s a l es ) Renewa bl e Fuel s (Projects where bi ofuel s a re produced 13 $1,718 $197 $368 $34 4.28 5.73 4.43 4.67 a nd us ed) RE Component Ma nufa cturi ng 12 $3,707 $3,603 $445 $403 7.08 8.94 7.08 8.32 a nd Sma rt Sys tems Total Real Sector RE 177 $25,570 $18,639 $4,690 $3,510 4.90 5.31 4.92 5.45 EE Improvement i n Proces s es (Inves tment i n i mprovi ng the 69 $18,313 $5,680 $2,440 $728 5.97 7.81 5.86 7.50 effi ci ency of the proces s or proces s peri phera l s ) Combi ned Hea t a nd Power (CHP) (i nves tment i n uti l i zi ng 14 $3,134 $1,933 $662 $382 4.57 5.07 4.57 4.74 wa s te hea t or combi ni ng hea t a nd power a t the fa ci l i ty) Green Bui l di ngs (Inves tment Real Sector EE i n i mprovi ng bui l di ng 31 $2,303 $1,333 $677 $498 4.29 2.68 4.28 3.40 effi ci ency) EE i n Tra ns mi s s i on a nd Di s tri buti on (T&D) 21 $4,849 $2,687 $751 $313 4.91 8.60 4.91 6.46 (Inves tment i n reducti ng T&D l os s es ) EE i n Tra ns port (Inves tment i n i mprovi ng effi ci ency of 10 $2,271 $476 $382 $173 4.88 2.75 5.38 5.95 tra ns port) EE Components a nd Sys tems (Inves tment i n projects whi ch 24 $2,032 $1,024 $626 $327 3.47 3.13 3.47 3.25 ma nufa cture EE equi pment or produce s ma rt s ys tems ) Total Real Sector EE 169 $32,901 $13,133 $5,538 $2,419 4.67 5.43 4.66 5.94 Intermediaries Fi na nci ng (Fi na nci ng provi ded Financial for Fi s to i nves t i n RE a nd EE 189 $12,176 $6,462 $9,108 $4,132 2.66 1.56 2.66 1.34 dea l s ) Total Financial Intermediaries 189 $12,176 $6,462 $9,108 $4,132 2.66 1.56 2.66 1.34 Ca rbon Fi na nce (ca rbon 3 $100 $100 $100 $100 1.00 1.00 1.00 1.00 del i very ga ura ntee) Fores try (Inves tment i n 8 $481 $348 $159 $117 4.02 2.97 4.02 3.03 Other s us ta i na bl e fores ts ) Others (i nves tment i n ca rbon reducti on a nd other green 16 $937 $706 $297 $217 8.39 3.26 8.39 3.16 projects ) Total Other 27 $1,517 $1,153 $555 $433 6.08 2.66 6.08 2.73 Grand Total 562 $72,165 $39,387 $19,891 $10,495 4.14 3.75 4.14 3.63 LEVERAGE IN IFC’S CLIMATE-RELATED INVESTMENTS 29 Contact Information: Climate Business Department International Finance Corporation 2121 Pennsylvania Avenue NW Washington, DC 20433 ifc.org/climatebusiness 2013