Deepak Verma, Chief Operating Officer and Head Energy Business, Emergent Ventures India Pvt Ltd

The potential for renewable energy in the country has been assessed comprehensively by MNRE and others, and is estimated to be greater than 150,000 MW. There is a fair amount of policy support from the governments at the centre as well as from the states such as for wind energy in Tamil Nadu, solar in Gujarat and Rajasthan, and biomass in Andhra Pradesh, Tamil Nadu and Rajasthan. This support is critical because generation using renewable sources is more expensive than conventional sources (like coal and gas), and needs financial support from the government in terms of preferential tariffs and/or other incentives.

The per unit cost of generation ranges from Rs 3.5 - Rs 15 from for various kinds of renewable sources, with wind and biomass coming at the lower range and solar coming in at the higher end. Compare this to the coal-based generation, which ranges from INR 2.5-3.5. Thus you could do biomass and wind projects with little to no government support, by selling the power in the open market. But solar is much more expensive, and therefore requires substantial subsidy support.

There is a lot of progress in wind energy with 10,000-11,000 MW of wind projects installed in India. Biomass has lot of potential, but it poses more operational challenges such as management of fuel related logistics. It is also riskier, as returns are heavily dependent on fuel costs which are likely to rise over time. Wind, and solar, on the other hand, have significant upfront costs and much lower operating costs and risks.

At present the National Solar Mission and Gujarat Government are funding solar projects. We also expect the Rajasthan Government to announce a state solar programme in the near future. All these programmes need budgetary support.

The Governments are doing a lot to encourage solar in the country and the early results look promising. However, there is more that can be done in order to lower overall costs and secure investor returns, which in turn will encourage still further investment. In particular, I believe the Government can play a role in lowering the cost of finance by making lower cost infrastructure funds available and by providing low cost foreign exchange covers.

I'm not as concerned about the other forms of renewable energy. What is important is that the Renewable Energy Certificate (REC) and Renewable Purchase Obligation (RPO) mechanisms have to become robust. RPOs must be backed by penalties for non-compliance. This will help in developing a market for RECs, which will then provide adequate support for funding most non-solar forms of renewable energy.

Right now RECs have some features that I would call constraints. The first is that each REC expires in the year it is generated making it necessary for one to sell it in the same year. Currently REC trading happens without any third party trading platform, which means a transaction can happen only between the generator and the consumer, without intermediation by market makers. Buying and selling is more difficult in the absence of market-makers.

There is another issue, particularly with solar RECs. The initial floor price established by the Central Electricity Regulatory Commission (CERC) is about 12 rupees. Clearly, this is unlikely to last more than 3 years, as solar capital costs are coming down rapidly. If the solar REC floor price drops every 2-3 years, it will adversely impact the financial health of projects that are counting on stable revenues for 15-25 years. In such a scenario, banks will not be willing to include REC revenue as part of the base revenues of the project. One possible solution, although complicated to implement, is to have different categories of solar RECs, defined by the year in which projects are commissioned. Solar RECs that originate in different years could have different prices, but the price for RECs from any one project remains the same for 10-15 years. This also implies that RPOs need to have a requirement that a mix of RECs from different years must be used in order to satisfy RPO obligations. Given these issues, I believe it will take some time for the solar REC market to firm up.

Scale matters, and to that extent, the policy makers have got it right. With scale, the prices will come down. Reverse tariff bidding, however, is a double edged weapon. On the one hand, it allows for price discovery and lowering of overall cost to the Government. On the other hand, in the absence of real-world implementation experience, developers anxious to win projects are likely to bid far too aggressively, jeopardizing not only their own projects, but the health of the overall program. One of the biggest challenges these projects face will be in achieving financial closure as lenders would ask for recourse to the corporate balance sheet in order to extend financing.

The other concern relates to a commitment of 25 years by the government. Firstly, is there money to pay for the next 25 years and secondly, would the future governments honour this commitment? There is some perceived uncertainty around that, especially amongst foreign lenders.

A concern with the Gujarat program is that the current tariff is valid only for projects which commission before December 2011. If the project gets delayed into the next year, you don't know what the applicable tariff would be as it has not been specified till date. The question in the minds of most bankers is "what happens if you miss the COD deadline?", and the trouble is that we do not have an answer. Clearly, this will have an adverse impact on achieving financial closure.

I'm not sure if we are pushing the domestic manufacturing in the best way. Solar PV is a global commodity; ingots, wafers, cells and modules are a part of the global supply chain. So, why not benefit from the best prices everywhere in order to lower the cost rather than going after boosting the domestic manufacturing which is likely to lock in artificially higher costs due to scale disadvantages.

Though, the local manufacturing will definitely boost the domestic industry but a small-scale domestic industry will not be as competent as a much larger scale global industry. While there is a lot of demand for PV, this policy is constraining the supply. If the Government were to instead push for domestic manufacturing companies to become globally competent, that would help build a competitive domestic industry. Overall, things are looking good as there is a lot of interest in India, investment is ready to flow in and we are positioned to achieve grid parity in the next seven to ten years.

There are large Indian power producers, which are very aggressive about solar, such as Reliance and Lanco. They have bid in order to win projects, and they have succeeded. They may or may not make as much money as they would like in these initial projects, but they want to be the first ones in, build expertise, scale, and a low cost position, and become dominant solar players over time.

Then there are the developers who have been doing solar around the world. They know what their real costs are. They are interested in India because it will be a large attractive market. But they are not generally in a position to bid the kind of tariffs required in order to win. The downside of this is that India may not get the benefit of foreign implementation experience in the nascent stages of the program.

The third kinds of players in the field are Indian companies which have no presence in the power sector, but are now diversifying into solar. Some of them have done their homework and know that they have bid based on the pricing they will get from their suppliers. But some have not. The problem they now face is in selecting technologies and partners in a way that makes economic sense. They will be under pressure to design projects to achieve a lower cost by cutting corners on equipment and engineering design.

If we look at it broadly, there are two mainstream technologies, thin-film and crystalline that currently dominate the industry. Crystalline has been in business longer and there is lot more comfort around it in view of long-term performance. Even banks would be comfortable about lending when the technology used is crystalline. With thin-film, we have only two to three players with substantial amount of experience and many small and younger players. They may have a good product but whether or not it is going to deliver in the long run say for 20-25 years is still uncertain.

Thin-film typically offers lower efficiency but is also cheaper. When the tariff is low, the play is in favour of thin-film. Another factor to be considered is that the crystalline technology performs differently based on the temperature of the environment. In hot locations such as in Gujarat and Rajasthan, thin-film tends to do better than crystalline because temperature degradation of thin-film is much less than that of crystalline.

India will have substantial thin-film based generation right from the start because of two reasons -lower cost and less degradation in efficiency due to temperature. Also, based on the domestic criteria specified under NSM, there are no import restrictions on thin-film.

When a new form of infrastructure comes up nobody understands all the risks initially. Through the first few projects everybody learns and generates a better understanding. With wind we have crossed that inflection point. Now most banks are comfortable with wind and they understand what there is to know and what the important parameters are.

I think biomass is more complicated. With other forms of renewable energy once you have built a project, it requires very little maintenance. As long as the wind is blowing or the sun is shining, there is no problem. But with biomass, the work starts after you have built the project, because then you have issues of fuel collection and logistics.

There is the issue of cost and availability of biomass and all of these can affect returns. Banks are going to be very careful about biomass projects. They will want to satisfy themselves that there is a proper fuel logistics system in place and that the source will allow 10-15 years of biomass to come at an affordable price. But assuming that you make the bank comfortable on this issue, financing should not be a problem.

In case of solar, the banks have a lot of learning to do. Initially, they will require some form of recourse to provide an insurance cover for their lack of understanding. Over time, as their understanding grows, they will be more willing to provide non-recourse project finance.

There are three kinds of international finance available. The first one is multilateral finance offered by organisations such as International Finance Corporation (IFC) and Asian Development Bank (ADB). These are the organisations that have interest in catalyzing renewable energy in India. Promoters with strong projects, with good PPAs and technical know-how and infrastructure experience, would have access to this finance. Accessing this type of finance will be very hard for a mid-market company who is diversifying into solar.

Several countries have EXIM banks, which are keen to promote export from those countries. The United States has U.S. Exim Bank and Germany has DEG and there are others. So if you are buying a product from Germany or US you can potentially get access to EXIM finance. This kind of financing is good because EXIM banks typically or more interested in selling the product and offer longer terms and lower interest rates. They are less concerned about the returns from the project, though it's important for them to know that they are working with high-quality project sponsors. However, EXIM finance does restrict your technology choices as you have to source from a specific country.

The third is external commercial borrowing (ECB) from international banks. Access to such finance is going to be difficult in the case of solar. This is because these banks need to be first convinced about the India story, then the reliability and stability of the state where the solar plant is coming up and finally the long-term reliability of the Power Purchase Agreement (PPA). The PPAs for National Solar Mission and Gujarat have some aspects that will be labeled short-comings by foreign banks.

The enthusiasm has cooled off somewhat for solar primarily because of the way the projects are being rolled out and the tariffs that are prevalent. I don't think investment is a concern because over 900 MW of PPAs have been signed in Gujarat, 600 MW of PPAs have been signed under the National Solar Mission, and more are coming up.

I think there is a lot of money coming in and investment is not a constraint at all. If we design a program, which will allow us to get 3,000 to 4,000 MW of solar energy in the next five years then I am not worried about investment because it will come, as long as the investors see decent returns (ranging from 15-18 percent) on their investments.

But as is the case with everything else, investors are smart and they look at long-term returns on their investment. After their first or second project, they will expect the projects to start making money.

The policy leadership on solar in the country is rather diffuse, and several policy-makers are of the view that we will learn as we go. In my view, what is required is a centralised, holistic, and empowered leadership that can address solar in a systemic way, by proactively establishing the right policy frameworks, and by actively attacking the hurdles that developers are facing, whether they be related to land, regulations, financing.