All Energy 2014 Alternative business models & funding structures

Engaging with merchant risk in a rapidly changing industry October 2014

Stuart Anderson +61 419 135 065 (mob)

+61 2 8264 2483 (tel)

sanderson@sydneycapital.com.au

Level 6, 2 Bulletin Pl

Sydney NSW 2000

Australia

www.sydneycapital.com.au

Background

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Situation

Challenges

Opportunities

Significant investment funding is available, seeking quality projects

However, investment levels into Australian grid scale renewable especially grid are falling – Lack of attractive PPAs (outside ACT) plus regulatory uncertainty (RET review etc)

– Recent poor financial performance of industry

– Falling wholesale demand

Maturing renewables technologies - pricing approaching grid parity, especially behind meter – Significant market acceptance of rooftop solar PV (Moore’s law in energy!)

– Enables customer choice through small scale generation at point of consumption

Changing Industry dynamics with falling power usage / demand

Continual regulatory uncertainty (RET, Carbon Price, FiT subsidy creation & removal)

Falling grid scale asset values -> Re-pricing risk / reward calculations in light of uncertainty

Embrace change by taking on a proportion of Merchant Risk -> How? – By shifting business models

– Supporting funding structures

Questions Is the “YieldCo” model sustainable?

Is there an alternative model based on proactively embracing merchant risk?

Agenda

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Changing energy industry

Impact on financing

renewable projects

Paradigm Shift:

Centralised to Decentralised

generation

Alternative business models

Funding structures

Funding available

Changing energy industry Falling wholesale demand yet rising end user pricing

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Base Load Price Trend - New South Wales Based Load Price Trend - Victoria

Wholesale price trends Base load prices at all time low! Excess generation capacity - fossil fuel & renewable gen.

Source: www.asx.com.au, 2014 Source: www.asx.com.au, 2014

Observations from Europe demand as manufacturing activity slows renewables penetration. e.g. rooftop solar Led to talk of the “theft of peak demand” (by rooftop solar)

End user price trends Almost treble 1990 prices From Govt. owned to user pays models

Electricity prices in Capital Cities Observations

Changing energy industry Characterised by long term pricing volatility

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Observations Australia’s wholesale market is characterised by wholesale

pricing volatility since mid-2007 - Environmental factors, regulatory, demand

YieldCos require stable PPAs to attract infrastructure style investment characterised by higher debt ratios

- Sustainability?

Source: IES Consulting, 2014

Adapting to merchant risk Own the integrated solution for the customer’s energy problem

– Deliver c.30% through embedded generation (ie Solar PV)

– Lift to c.50% ++ through storage

– Reduce (efficiency) & shift (demand management)

Diversified portfolio of grid scale renewable assets to

supplement embedded generation

Changing energy industry Dynamic regulatory environment

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Source: The Guardian, The Age, ABC, Energy Matters, Solar Council Australia, SMH

High Demand / Low Regulatory

Increased investment in grid scale generation capacity

Rising wholesale electricity prices

Improved economic activity, weak signals for innovation

Customers drive investment behind meter

Investors agnostic

Low Demand / Low Regulatory

Low wholesale, high retail prices

No extension of existing targets / policies -> No / Low PPA prices

Customer seeks - behind the meter, distributed & embedded generation

Less opportunity for centralised project development

Higher capital costs – higher equity % in financing structures

Consolidation of market participants

Low Demand / High Regulatory

Low demand, low wholesale and higher retail $ includes carbon

Social discontent to higher electricity price

Flood of cheap imports of RE (ie Solar PV), lower asset values

Capital – higher premium (debt + equity) & hybrid instruments

Fragmentation of NEM grid – increased solar PV @ customer site

Demand Low

Regulatory Low

Demand High

High Demand / High Regulatory => Mature & static

Carbon tax / cap and trade / re standards/ stable policy / reg certainty

Price parity vs alternates for customer

Willingness to embrace new models & tech

Privatisation of energy companies

Drive for supply chain efficiency

Improved capital availability -> able to leverage assets & distribute dividends

& create “YieldCos”

Changing energy industry Dynamic environment

Regulatory High

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Impact on renewables financing Significant fall in activity in light of poor performance

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200 150 240

550 650 900

1,250 1,000

800

1,200

2,490

700

1,000

1,990

240

0

500

1,000

1,500

2,000

2,500

3,000

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 YTD

A$m Total annual large-scale renewable energy investment in Australia

-50%

0%

50%

100%

2006 2008 2010 2012

Pacific Hydro - EBITDA margin

Source: Bloomberg New Energy Finance

Centralised Distributed / Decentralised Integrated

Paradigm Shift: Centralised to decentralised generation Clean Energy Transition

We are here

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Paradigm Shift: Centralised to decentralised generation Generation at point of consumption increasing as SolarPV costs fall

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Solar PV + storage technologies

Provides customers with an economic alternative to the Black

Energy Companies

Targets Commercial and Small to Medium Enterprises, and

certain Residential customers

Provide fit for purpose technical solutions with project / product

financing

Solves for improved energy management, all-green power and

capital expenditure

Number of households with small solar generation units installed - 2001-2011

Source: Renewable Energy Certificate Generation Data 2001-2011, Clean Energy Regulator Source: Energy Darwinism in Australian Utilities 2014, Citibank

Solar PV module price declines

Alternative business models - evolving over time Solar PPAs for embedded generation – c.30% power demand

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Transmission Grid

Distribution Network Tran

smis

sio

n G

rid

Local “smart” grid + distribution

network

Local distribution network

Own the integrated solution for the customer’s energy problem – Deliver c.30% through embedded generation (ie Solar PV)

– Lift to c.50% ++ through storage

– Reduce (efficiency) & shift (demand management)

Supply remainder through portfolio of grid scale renewable assets – Mixed generation sources (wind / solar / biomass / hydro) to offset weather risk

– Match supply against internal demand volumes

– Active use of energy trading to balance internal customer demand vs grid scale supply

Adapting to merchant risk -> An integrated solution

Alternative Business Models - currently in play Look to ‘disruptive’ innovators

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CAT Projects – Bushlight India project

Husk Power Source: www.catprojects.com.au

Source: www.huskpowersystems.com

Alternative business models - future potential Integrated energy solutions - >50% power demand (stage 2)

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Customers

Energy Efficiency &

Mgmt

Demand Side Mgmt

Structured Products

Renewable Generation

Distributed Generation /

Storage

Opportunity to offer a tailored suite of services to attract & retain customers

Focussed on meeting the needs of Commercial and Small to Medium Enterprises

Five service segments identified – provides customers with an alternative to the BIG Energy Companies (AGL, Origin, Retail etc..)

Provide energy solutions and services to meet the customers medium term needs – low cost certainty

Provide fit for purpose technical solutions with project / product financing – manageable operating cost expense, no CAPEX

Provides for voluntary buyers to support renewable energy

Requires developing retail capability with remote demand management capabilities

Energy Services that provide customers with affordable, sustainable, secure and reliable electricity supply

Alternative business models Incumbents can adapt….

Old

New

Revenues for a traditional utility

(%) 30-40 15-20 40-50 0-10 0-5 0-2 0-2

Drivers of value shift

Lower plant utilisation

Investment in grid, lower regulated remuneration

Smart-meter, AMI services

IT systems, self-service

applications

Distributed-generation equipment

installation and leasing

Smart equipment, IT

Direction of shift

Future revenues with DE (%)

20-30 10-15 20-30 5-15 5-10 15-20 0-10

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Services “behind the

meter”

Distributed Generation

Retail Metering Distribution Transmission Generation &

Wholesale

Alternative funding structures Reflect private equity style structures with higher cost of funds

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Old World (Static)

New World (Dynamic)

Old thinking: rising demand Oligopoly Government reliant Old/inefficient plants Traditionally high

yield/dividend focused Little diversification Government’s increasing

reluctance to fund leaves large-scaled projects expensive

In reality : falling demand Increase in decentralised / local

generation Customer focused Innovative technologies High equity %, low dividend

payout and high reinvestment Diversified Small-scaled projects can be

more readily funded through conventional / innovative avenues

Old world

Grid

New world

Factor Old world New world

Price risk PPA secured No PPA secured / must take some merchant risk

Business model risk Infrastructure risk Industrial / operation risk (until achieve scale)

Operation focus Technical/engineering Customer solutions

Financial model Yield play / infrastructure style Capital growth / private equity style (higher cost of capital until achieve scale)

Asset structure Single asset/ energy source Portfolio of assets across energy sources to offset generation risk

Australia’s investment fund pool is currently US$1.7 trillion Funds are available…

16

Observations

Australia has the 3rd largest investment fund asset pool

An indicative asset allocation (from Australian Super ) averages 33% to Australian shares, 3% to Private Equity and 12$% to infrastructure

Capital is available for scale businesses which aggregate smaller PPA projects

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Source: Standard & Poors, 2013

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

2006 2007 2008 2009 2010 2011 2012 2013

Cash BondsAbsolute Return InfrastructurePrivateEquity Listed PropertyDirect Property International EquitiesAustralian Equities