by Charles Marias

Renewable Energy Projects

Legal challenges in setting up Renewable Energy Projects

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The REIPPP is well regulated and various South African policies and laws make up the legal framework within which the REIPPP operates. It is perhaps, partially at least, regulatory certainly that has been responsible for the success of the programme to date–the rules of engagement are clear.

The Renewable Energy Independent Power Producer Programme (REIPPP) is an initiative of the South African Government, through its Department of Energy. The aims of the programme are (a) to help alleviate South Africa’s electricity generation shortfall by using independent power producers to generate electricity from renewable sources such as solar, hydro, biomass and wind, and (b) to introduce an element of clean energy to the country’s generation mix, currently heavily dependent on coal base-load.

The programme also seeks to address broader national economic issues such as poverty alleviation, inequality and unemployment by encouraging infrastructure investment, skills transfer and social development in the areas where the projects are located.

At the end of February 2016, a total of 6,326 MW had been allocated to various bidders with bids for a further 1,800 MW under adjudication. The next bid window (round 5) is expected to be launched by the end of the second quarter of 2016.

Legal Framework of the REIPPP

The sector is well regulated and various South African policies and laws make up the legal framework within which the REIPPP operates. It is perhaps, partially at least, regulatory certainly that has been responsible for the success of the programme to date – the rules of engagement are clear.

Potential sponsors of renewable energy projects in South Africa face numerous challenges as bidders must comply with the formal requirements of the Requests For Proposals (RFP’s) issued for each bid window.

Bid Requirements

Before submitting a proposal, each bidder has to pay a prescribed fee to obtain a copy of the RFP and register its bid with the Independent Power Producer office of the Department of Energy. In addition, the bidder must, on or before the bid submission date, lodge an original bid guarantee calculated according to the size of the project. The guarantee must be valid for the duration of the bid evaluation period.

Each bid should contain an organogram of the project company, indicating debt and equity providers as well as details of key contractors (such as construction and operation counterparties) and equipment suppliers. Once the proposal has been submitted, the consent of the DOE will be required before any change in shareholding can be made.

The bidder must indicate willingness to sign, inter alia, the power purchase agreement (PPA) with Eskom (South Africa’s state-owned utility) and the Implementation Agreement with the Department of Energy, amongst other agreements in published forms.

When adjudicating a proposal, the authorities need to be satisfied that the rights to land are secure, at least for the duration of the project. This is a key issue for lenders as well. For bid purposes, options to purchase or lease land are sufficient provided the option is conditional only on achieving preferred bidder status and has appended to it a fully developed lease or deed of sale.

The proposal must provide details of the selling price of the electricity to be produced, the financial standing of the sponsors, and functionality and robustness of the financial model. This last item entails physically running the model in the presence of an official who needs to be satisfied that the financial model actually works as intended.

Bidders must deliver proof of finance, in the form of commitment letters from financial institutions.

The bid should demonstrate clearly the technology to be employed in the project, details and experience of the contractor employed to build the plant, resource data and a cost estimate from Eskom of connecting the plant to the grid.

Bid Adjudication

Compliant bids are judged on two criteria: (a) proposed tariff (70% weighting) and (b) economic development (30% weighting). The latter is subdivided into several sub-categories such as job creation, local content and ownership, management control, preferential procurement, enterprise development and socio economic development.

Licences

A generation licence will be a requirement for financial close. If the project owns the distribution infrastructure required to get the electricity to the nearest connection point with the national grid, a distribution licence will also be necessary.

The terms and conditions of the licences will be subject to lender scrutiny and this may mean having to apply for changes to the licences to meet lender requirements.

Land

There can be no project without unfettered ownership of or access to land. The legalities and processes for gaining access to land are extensive and complex. Issues that could impact on the project timetable include (a) rezoning (e.g. from agriculture to industrial), (b) the subdivision of agricultural land (not permitted without ministerial consent), (c) servitudes and rights-of-way to link the generator with the transmission infrastructure, (d) environmental impact assessments and records of decision, (e) third party mineral or mining rights, (f) proximity to airports (g) water use licences, (h) national heritage sites, (j) waste disposal, and more. Public participation is part of the process in some of these matters and that can lead to unforeseen delays.

The Process of negotiating a land purchase or lease should be initiated at an early stage.

Servitudes and Rights-of-Way

Servitudes are often required to obtain access to key points over someone else’s’ land (for example, water access and grid connection points). Consents from landowners and existing servitude holders can be done by way of an option, conditional only on achieving preferred bidder status. The option must include a fully developed servitude agreement as an annexure.

The option route is sufficient for bid purposes, but the timeframe for acquring consents from existing right holders can be protracted, and the process must be set in motion as soon as possible.

Mineral and Mining Rights

All rights to minerals are held by the State. However, mineral and mining rights are granted to private sector applicants and the holder of a mineral or mining right can halt a project. Therefore, developers should take all steps necessary to obtain the consent of the licence holders prior to financial close. Speculative applicants have been known to apply for mineral and mining licences which places them in a position to demand high prices for the necessary consents.

Environmental Matters

Each Bidder must produce evidence, acceptable to the authorities, that the bidder has in place an environmental authorisation, as required by relevant legislation, for each project. Alternatively, each bidder must provide a full description of the progress made in obtaining any environmental consent which may be required for the project which has not been obtained at bid submission date, and indicate when the consent is expected to be given.

An Environmental Impact Assessment (EIA) can be onerous and time consuming, as it involves public interest hearings in which any interested party may raise an objection to the project, which would require assessment by the authorities before being processed further. Public hearings open the door for competitors to frustrate a bid.

A bid without a valid EIA would be non-compliant, and any change to the technology or footprint of the project would require a re-evaluation of the EIA, with a new public participation process being required.

Water Use Licence

The applying for and granting of a water use license has proven to be a stumbling block for renewable energy projects requiring a license. The Department of Water Affairs is tasked with assessing applications for water use licenses and has experienced capacity constraints, resulting in backlogs. In practice, it has been accepted that prove of application is sufficient for bidding purposes.

Other Permits

These include (a) a permit from the Civil Aviation Authority if a project (such as a CSP tower or wind farm) could potentially be an obstruction to airline traffic, (b) a permit in pursuant to the Biodiversity Act if there is endangered flora or fauna in the project site, (c) a permit in terms of the National Heritage Act if any archaeological sensitive sites are present on the project site, and (d) a waste licence where waste will be produced such as air, water or soil contamination.

Grid Connectivity

A critical requirement for a valid bid is the Budget Quote Letter (BQ Letter) from Eskom. The receipt and acceptance of the BQ Letter confirms that Eskom will commence with any upgrades or construction required to ensure that grid connectivity of the relevant renewable energy project is achieved. This letter creates a binding obligation on Eskom for the construction of the required connection infrastructure. Capacity or budgetary constraints have resulted in caution on the side of Eskom in issuing BQ letters.

Once the project reaches Commercial Operations date, it must be connected to the grid. Another challenge is Substation Capacity. As a result of technology specific requirements certain geographical areas have been focus areas for renewable energy projects which, in turn, has led to sub-station saturation. Substation upgrades can be challenging and potential delays should be factored into the project timetable.

Project Finance

Renewable energy projects are expensive. As a result, they are heavily dependent on third party finance in the form of limited recourse lending, or Project Finance. Financial institutions have shown good appetite for these projects and gearing of seventy per cent is common. But it does not come easily. Lender scrutiny is intense and the credit criteria are strictly enforced. Risk mitigation strategies are not always convenient for sponsors as they result in an erosion of returns. However, without such loan finance, the project will not see the light of day. Lender involvement at an early stage is advisable (a) to understand what’s bankable and what isn’t and, (b) as it is difficult to reopen negotiations to address lender requirements.

Many lenders are commercial banks and the preponderance of lending opportunities in the sector results in concentration risks for those banks. This gives rise to securitisation opportunities, which, in turn, offer further benefits for banks in the form of structuring fees and the liberation of capital to enter into further lending opportunities.

Equity Considerations

As mentioned above, these projects can attain a high level of gearing. But even with seventy per cent debt, the equity requirements are significant. A high level of equity commitment is expected of the sponsors and it is one of the rules of engagement that the larger shareholders in a project may not dispose of their shares within a certain period of time after financial close without the consent of the authorities. Certain long-term investors, such as financial institutions, are keen to invest in these projects but only after the project has achieved certain milestones which indicates a lower level of risk. The concomitant premium at which they will purchase these shares is an attractive exit for the early investors.

Advisors

Sponsors surround themselves with various advisors in bringing a project to fruition. The list is long but the most essential are technical, legal and financial. Advice comes at considerable cost and sponsors should budget accordingly. In many instances fees can be negotiated and even put on risk, thereby making it easier for the sponsor to structure a winning bid. In process of compiling a bid and building up to financial close, the sponsors acquire significant rights and intellectual property. These assets will be sold to the project company at a premium so that the sponsor can get an early return on its investment.

The REIPPP programme in South Africa has been regarded internationally as a well-structured programme which has attracted much needed foreign investment in the country. Given the success of the model, it is likely that other African countries with good natural resources, will adopt and adapt the programme to address their own energy challenges. The programme is set to continue in South Africa, the only real impediment to a more rapid roll-out being access to the national transmission grid, a problem which is being addressed by Eskom as the owner of the system.

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