A major focus over the last decade has been on attracting more development capital into renewable energy in Sub-Saharan Africa (SSA) to improve the bankability of projects and achieve financial close. While this remains crucial given the challenges previously highlighted and is a primary focus for SCAF, another significant but less discussed issue involves the exiting of investments.
Achieving more consistency in exits is one of the main missing pieces in the Sub-Saharan African renewable energy puzzle. Consistent exits will have a major impact on the landscape as they will allow existing investors to recycle capital and build broader investor confidence in the market.
Apart from some larger players who have entered the market, financial close equity is dominated by Development Finance Institutions (DFIs) due to their mandate. However, there is a need to expand the pool of investors who can either come in at financial close or purchase operational assets. The questions we explore below pertain to the current market status: Is there a need for more exits, and what potential options exist to kick-start the secondary market?
Status Quo
When examining the current market conditions and their impact on potential exits, two points come to mind: return expectations and the nature of projects in SSA.
Consistent debates at conferences and in market reports revolve around the risks of investing and the real versus perceived risks in the African market. Despite Africa’s historically low default rates for project finance loans1, the perception of high risk and financing costs in the region remains unchanged. Investors’ equity return expectations treat projects in Sub-Saharan Africa more like private equity growth strategies rather than infrastructure assets, which renewable projects are. New investors unfamiliar with the market enter with higher perceived risks, seek higher levels of protection (PRI, hedging etc. which comes at a cost) and thus seek higher returns which the projects typically do not achieve. Achieving these returns would require current owners to sell at a loss, which many are unwilling to do given the already lower-than-expected returns. This results in a stalemate, with no deals being made.
Another less obvious hindrance to the exit market in Sub-Saharan Africa is the type of projects available. When comparing the projects SCAF has financed in SSA to those in Asia, a key difference is project size and the number of markets developers are active in. As of Q1 2024, SCAF has financed 3 GW of projects across Africa and Asia across 44 projects, with the average Asian project 30 MW larger than in Africa (the median project size in Asia is 71 MW versus 40 MW in Africa). Additionally, developers in Asia typically focus on 1-2 markets, while in Africa, they often have pipelines across more than four countries. This is driven by market conditions and the need for developers to de-risk their business models given the uncertainty surrounding project completion. Smaller projects present a harder exit as larger pools of capital do not find them compelling investment cases.
Is There a Need for Exits or Can We Be Patient?
In short, yes. There are two main reasons for the need for more exits. First, many investors have capital tied up in projects and funds for several years without distributions, which limits the amount of capital that can be reinvested or recycled into new transactions. Given that the current market is primarily composed of DFIs, this creates a major bottleneck for new projects to receive financing. Second, new investors considering entering the market will have significantly higher confidence if they see liquidity options rather than stagnant capital pools. As capital allocation strategies shift with global markets, investors need to feel confident that they can exercise these strategies if necessary.
What Can Be Done to Kick-Start the Exit Market
To drive exits in the current market, several paths can be pursued, but there are three core considerations to address first:
- Mindset Change: Developers and owners need to adopt a medium-to-long-term perspective when developing assets, considering potential exit options from the beginning. This is challenging due to uncertain timelines to reach operations, but the initial focus on reaching this point is valid.
- Expectations Alignment: Developers often view developed assets as the start of their journey to becoming Independent Power Producers (IPPs). There need to be clear expectations from the onset that all parties are aligned in seeking to drive a potential exit. For some developers, this can be difficult to accept, but it is part of the journey.
- Realistic Return Expectations: Sellers and new potential investors need to have grounded and realistic return expectations for these assets.
Potential Pathways to Exit Projects
- Large-Scale Projects: These are potentially the easiest to exit. There are several examples in the market where large-scale projects have already attracted significant capital due to their strong unit economics as standalone transactions.
- Regional / Technology Consolidation: Smaller assets, which make up most transactions, pose a greater challenge for exits due to their size. One potential pathway is regional or technology consolidation, where smaller assets are integrated under a single operating platform and team. This allows for better overall economics by aggregating several smaller assets to scale a platform and utilizing the same human capital behind the projects.
- Yieldco Model with a local twist: Another approach for smaller operational assets is to sell them under a yieldco-type structure. Local investors, comfortable with real estate investing and bonds, may find a de-risked operational portfolio with smaller capital requirements attractive.
There are already innovative examples in the sector, such as Prime Energy in Rwanda, which is listing a local currency bond for 7.8 MW of operational assets and using the proceeds to upgrade assets, and Revego Energy in South Africa, which follows a yieldco model. This approach also brings local currency into transactions, a long-term goal in development finance that has been difficult to achieve.
There is a need for all industry stakeholders to work together, forming strong partnerships to facilitate exits, as increased investment will only come through such collaborations.
Footnotes
1 Moody’s Investor Services, Default and Recovery for Project Finance Bank Loans, 1983 – 2015, 2017
