Raj Kulasingam, Senior Counsel, Dentons UKMEA LLP

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Subjects of Interest

  • Finance and Investment
  • Frontier and Emerging Markets
  • Private Sector Development

The Donald, COP 22 and climate financing frameworks in Africa 21 Dec 2016

I feel like I am in a bad dream in which the world has gone crazy – right-wing parties are taking over, Britain has voted for Brexit and United States of America has voted for an orange-coloured, bouffant-haired man called Donald Trump. I keep expecting to wake up from this bad dream but that has yet to happen.

The Donald

If you know me, you would know that the Donald winning the U.S. presidential election further confounded my anguish from the Brexit vote. My anguish can perhaps be traced to what the Donald stands for – as summarised by this statement from Right Wing Watch (http://www.rightwingwatch.org/people/donald-trump/) about him:

He’s based his campaign on hardline stances on immigration, attacks on minority groups, appeals to the far-right, anti-government paranoia, contempt for religious and press freedoms and advocacy for war crimes. Perhaps more than any other major party candidate in recent history, Trump has used bizarre conspiracy theories, innuendo and outright falsehoods throughout his presidential bid.

I could go on and on about Trump. But others more qualified have said it all, and much more eloquently. However, I decided to pick up on one particular ‘Trumpism’ – ideas promoted by Trump or his politics – this month.

It is nearly universally accepted, through overwhelming and long-established evidence, that burning fossil fuels and deforestation have caused and continue to cause global warming. Notwithstanding, the Donald said during his campaign that climate change is a “hoax” perpetrated by the Chinese. He also said that he would abandon the international climate accord reached last year at the 21st Conference of the Parties (COP 21) in Paris.

Since his election victory, he has softened his stand on this, saying that “I’m looking at it very closely,” and that “I have an open mind to it.” He has also said clean air and “crystal clear water” are vitally important, and that there is “some connectivity” between human actions and the climate.

The question still remains whether this is indeed a softer stance or another example of his flip-flops on policy debates. Bearing in mind that the U.S. is attributed to contribute 17.89% (http://climateanalytics.org) of global emissions, this is worrying for the global fight against climate change for the commitment of the country to be in doubt.

COP 22

In this context, it was slightly ironic that the Donald’s presidential win occurred on the second day of COP 22 (the 22nd Conference of the Parties under the UN Framework Convention on Climate Change) in Morocco.
COP 22 followed on from COP 21 in Paris in 2015, where there was international commitment to, 1) limit global temperature rise to below two degrees Celsius by the end of this century; and 2) support least developed countries (LDCs) and emerging economies in their efforts to mitigate and adapt to the impacts of climate change while still pursuing economic development.

To date, over 100 countries (including the U.S.) have ratified the Paris Agreement, which entered into force in November 2016.

Climate change is real and it’s affecting Africa

Irrespective of Trumpism, the reality is that climate change is affecting large parts of the world. According to the Climate Change Vulnerability Index for 2015, seven of the ten countries most at risk from climate change are in Africa. Africa has seen a decrease in rainfall with attendant droughts in large parts of the Sahel, Southern Africa and Central Africa. This has not only had devastating effects on harvests but also on lives, livelihoods, water availability, economies and farming ecosystems.

In addition, the number of weather-related disasters over the last 25 years, such as floods and droughts, has doubled. This has resulted in Africa having a higher mortality rate from droughts than any other region.

Dark clouds and silver linings

Yet, Africa has the opportunity to leapfrog the developed world and solve its lack of access to power, whilst taking part in the fight against climate change by embracing renewable technologies. This is especially the case given the high rate at which the costs of these technologies have been falling.
As the Africa Progress Report 2015 (Power, People, Planet: Seizing Africa’s Energy and Climate Opportunities) says:

As the costs of low-carbon energy fall, Africa could leapfrog into a new era of power generation. Utility reform, new technologies and new business models could be as transformative in energy as the mobile phone has been in telecommunications.

A “triple win” is within the region’s grasp, as renewable technologies create opportunities to increase agricultural productivity, improve resilience to climate change, and contribute to long-term reductions in dangerous carbon emissions.

This view is bolstered by a recent report called, “Mind the Gap
Bridging the Climate Financing Gap with Innovative Financial Mechanisms,” by the Global Green Growth Institute (GGGI). According to the report:

The best path forward for policymakers, public financial institutions, and other stakeholders working for and with LDC and emerging economy governments is to pursue strong, inclusive, and sustainable “green growth,” defined as economic growth that achieves – and, in many cases, is driven by – significant environmental protection.

The Challenge

The challenge is how to deliver these climate-friendly projects when public purses are often tight and governments are cash-starved. Globally, it is estimated that it will cost USD 16.8 trillion in total over the next fifteen years to finance all climate change projects.

Even where public finance is available, the scale of the costs of implementing these projects far outweighs the ability of the public purses to meet them. In a 2015 report, the United Nations said that the majority of future climate finance must come from the private sector. The brakes that are on private sector capital are still there because there are significant risks in investing in these projects, especially in frontier and emerging markets.

Elephants and innovation

The GGGI report also states that:

Private sector underinvestment in climate projects is primarily the result of high investment risks, both real and perceived, that are common in emerging markets. Standard investment practices have proven unable to adequately mitigate such risks. Thus, accomplishing LDCs’ and emerging economies’ green growth objectives will entail identifying – and scaling – new approaches to project structuring and risk mitigation in order to attract significant funds from commercial and institutional investors.

In some ways, it’s a simple equation. The public sector needs to do more to derisk projects (e.g. by creating regulatory certainty, clear policy frameworks and fiscal incentives). As this happens, access to this wall of private money will become more readily available. However, creating innovative financial mechanisms can in itself be the catalyst for faster delivery of capital and thus projects.

So what’s an innovative financial mechanism? It’s a bit like an elephant. You know one when you see it. On a serious note, the GGI Report defines an innovative financial mechanism as financial structures that, blend financial instruments; reduce specific investment risks; and leverage private capital.

Climate Investor One

Cl One was established by FMO, the Dutch development bank, in partnership with Phoenix InfraWorks, to encourage private sector investment into renewable energy projects in developing countries. I’d like to think that I thought of the concepts that sit within CI One before it was created. However, as usual I (probably, along with many others) thought about it but did nothing to actualise the concepts, whilst the team at CI One, backed by the support of FMO, put the hard miles in, actualised the concepts and entered and won a competition hosted by the Global Innovation Lab for Climate Finance. The Lab is a global initiative that supports the identification and piloting of cutting edge climate finance instruments and also aims to drive billions of dollars of private investments into climate change mitigation and adaptation in developing countries.

The problem that CI One was set up to address has to do with the different pools of capital controlled by different parties for different stages in the life cycle of a project. What CI One did was to create a three-fund structure with three separate pots of money (i.e. a blended financial solution) to provide a “complete lifecycle” financing solution to cover each of the stages of the project lifecycle: development stage; construction stage; and operational stage.

Each pot of money is tailored to address different investment risks at different stages of a project’s evolution whilst still under the umbrella of CI One. Effectively, it is a “cradle to grave” or “one-stop shop” solution for developing and financing these projects.

The three funds are:

•    USD 30 million Development Fund for early stage project development;

•    USD 500 million Construction Equity Fund for the bankable and financing stage of the project ; and

•    USD 500 million Refinancing Fund for the mature stage of the project.

Once the facility has been fully capitalized, it will mobilize public sector grants and guarantees from several donor governments to leverage private capital from pension funds, asset managers, insurers, and similar sources.

According to the GGI Report, it’s an innovative financial mechanism because of the following:

•    Blending – The facility blends grants and public capital, private equity and preferred mezzanine capital, which allows different investor classes to participate at the stages that match their risk-return expectations and requirements.

•    Risk reduction – The complete lifecycle structure mitigates process risk because it provides a mutual “line of sight” between financing stages, enabling earlier investors to move forward with investment and it removes the halting effect of requiring new financiers at each stage.

•    Leverage – With an initial USD 130 million in public financing, CI One estimates that it will leverage up to USD 2 billion in private capital by 2020.

As Mr. Andrew Johnstone of CI One would say, “Nice.”

Africa Infrastructure Development Association

So how else can we drive delivery of these projects? It always amazes me how every project that I have been involved with in Africa has strikingly different documentation. Many in the industry have bemoaned the lack of standardisation and a central organisation that promotes development of energy and infrastructure projects. The precedents are there. Look how successful the UK PFI/PPP programme and the South African renewables programme has been.

Well, it looks like the Africa Finance Corporation (AFC) has been listening. I was present when Andrew Alli of AFC formally launched Africa Infrastructure Development Association (AfIDA) at the Africa Investment Exchange: Power and Renewables meeting at RSA House in London on 21 November. AfIDA aims to be a forum that promotes the development of energy and infrastructure projects in Africa by developing market benchmarks, and facilitating knowledge transfer. AfIDA also aims to lead and commission independent research and serve as a policy advocacy forum for the industry.

Specifically, AfDA plans to: 1) develop guidelines and industry standards to govern project development; 2) provide pro-forma templates for basic agreements between stakeholders; 3) assist regulatory authorities in formulating policy; 4) enhance capacity building through training, professional development and knowledge sharing; and 5) improve transparency through information and knowledge sharing and dialogue between members.

All these are great objectives. Hopefully, they would deliver and further catalyse the delivery of projects (including climate change projects) across Africa.

Horse dung, fossil fuels and renewables

As I was finishing writing this article, I got my copy of the Economist through the post. The headline was: “The burning question – Climate Change in the Trump Era.” It talked about how the world dealt with the environmental effects of horse dung through the invention of the car and the dawn of the age of fossil fuels. It’s a question of when (rather than if) renewable technologies will end the age of fossil fuels.