The European wind finance sector has moved from small one-time deals in markets like Germany, to a corpus of chunky and innovative portfolio deals in Spain, the UK, and now even Germany. But it is questionable whether these deals will become a sizeable banking staple in the way expected two years ago.

The predicted wind mergers and acquisitions spree by the major Japanese and European independent power developers has yet to emerge, and looks unlikely to do so. Expectations were that the wind sector would condense into the hands of a few players, but the disparate renewables regimes across Europe, the need to spread wind risk across different geographic markets, and the continual development of more cost effective wind technology has kept major portfolio acquisitions to a minimum.

The majority of new investors in existing wind plants are not traditional developers but private equity and infrastructure funds looking at small- and medium-size acquisitions across a range of markets.

A case in point, and a deal template that is likely to see more wear, is the Spanish leveraged acquisition model, originated in 2003 by the SEC transaction and repeated in the recent Olivo portfolio acquisition.

New entrants into Spain

Global Wind Partners (GWP), a 50-50 joint venture between Babcock & Brown and Prime Infrastructure, purchased the Olivo portfolio for Eu235 million ($311 million) from Gamesa Energia. The wind farms, four of which are still under construction, will produce 158MW of power – an estimated production of over 350GWh per year – and all are scheduled to be operating by the third quarter of 2005.

Lead arranged and underwritten by Dexia and Bank of Scotland, with Dexia Sabadell Banco Local as facility and security agent, the Eu196 million debt financing for the acquisition closed on 23 December. The debt package includes a Eu165 million, 16-year facility provided to the acquisition vehicle Olivento, as well as working capital facilities totaling Eu10 million, to be provided to each wind farm upon its acquisition by Olivento, an Eu18 million VAT facility and up to Eu3 million of various guarantees and bonds to project counter-parties and local authorities. GWP will raise the balance of funds from a $75 million rights issue.

The deal also comes with an option to buy a further 450MW of wind power to be developed between 2005 and 2007 by Gamesa. Gamesa will bear the development risk of all the wind farms until they become operational.

The financing structure owes much to the SEC transaction which closed in 2003 and enabled banks to provide long-term project finance debt for an acquisition transaction under Spanish law. The facilities will be syndicated in the first quarter of 2005.

Spanish acquisitions are complicated by the fact that under Spanish civil law the assets of the acquired company cannot be used as security against debt raised to finance the takeover. Consequently these deals were done through a holding company; lender security in the short term is therefore corporate-based, with no recourse to the assets.

Nevertheless, the deals are structured as de facto non-recourse in the expectation that the holdco and parent will merge – thus giving recourse to the assets. Under Spanish law the merger is allowed if the developer suffers financial detriment. There were some doubts as to whether the contrived uptick in margins in the event of a merger not happening was sufficient enough to effectively circumvent the prohibition of a leveraged acquisition, but these doubts appear to be evaporating, despite the fact that the law's raison d'etre – namely to discourage geared takeovers – has been sidestepped.

Acquisitions of wind farm assets, albeit on a smaller scale, are also bubbling up elsewhere across Europe. HgCapital acquired the Tir Mostyn wind farm development in Wales for £21.6 million ($41 million) at the end of 2004. The wind farm has a capacity of 21.25MW, using 25 wind turbines manufactured by Gamesa Eolica. The facility will become operational in September 2005.

The £14.5 million senior debt backing the deal, including acquisition and construction costs, is underwritten by Bank of Scotland. HgCapital is providing £6.87 million in equity.

The deal is indicative of the growing interest at private equity houses and infrastructure funds in renewable energy. The picture on the developing side has crystallised and is fairly stable, with around 50% of capacity developed by the large utilities, 25% from smaller industrials and oil majors and 25% by turbine manufactures. But the buy side has shifted, as an increase in generalised institutional money has entered the market.

The ratcheting of the funds following this sector, and the emergence of new players should see developers able to recycle their equity, greater acquisition financings and, by virtue of the trickledown, more new build farms.

The most aggressive buyers at the moment are Babcock & Brown, Bridgepoint Capital, Englefield Capital, HgCapital and Macquarie. The private equity houses involved do not conform to the usual profile of looking for a ROE of 25% and a short- to medium-term exit strategy. Instead, they are more aptly named alternative investors that view wind farm equity as in a similar stable of products to real estate and high yield bonds.

Outside the large utilities, the new breed of investor is unlikely to create an upsurge in large portfolio acquisitions, as funds look to spread their credit risk to developers/operators and wind risk to different locations, acquisitions of single average-sized farms are likely to be prevalent.

"It is important to spread risk with a portfolio of assets," says Tom Murley, head of renewable energy, HgCapital. "We would look to expose a maximum of Eu50-60 million to one credit risk, so it fits well that the average wind farm size is around 25-50MW, well within this equity limit. Portfolios of wind farms on the market are few and far between. Portfolios need dominant players, such as in Spain where utilities hold most of the assets and are likely to keep hold of them."

Where will the secondary equity go?

Which countries are likely to see most purchases? Secondary equity will likely follow in step with the build out of greenfield sites. There is a general consensus that the rate of new capacity has peaked in Germany and is now in decline – despite the recent financial close of the largest onshore windfarm (see box). Spain is at its peak and the greatest increases in new generation will be in the UK and Italy. The UK is still a long way down on some of its European counterparts.

The UK's push to meet its renewable obligation targets is benefited from one of the most favourable inventive schemes in Europe – the ROC scheme – but is dented by planning issues and the recent hike in wind farm business rates (see box). Italy, likewise, has endemic problems with permitting and planning, with plant construction subject to delay, after the authorization of appeals through the constitutional courts.

"In the UK, onshore, planning issues and public perception are becoming major hurdles for developers," says Jim Barry, head of power, Bank of Scotland. "Offshore wind has got to happen in some volume if the UK has a chance of meeting its renewables obligation targets for 2010 and 2015. It's really about making the economics add up – the higher capital cost may be offset by better wind capture, but there's also construction, connection, operating and maintenance costs and availability levels and other associated risks to be considered.

"It is encouraging that major EPC contractors such as Siemens and GE are showing an increased interest in the renewables sector, but there still needs to be a rapid step up in the speed of offshore development, which may need additional impetus from government if the UK renewable targets are going to be achieved."

So whereas Germany is looking to offshore since most of its windiest onshore sites have been developed, the UK is looking for other reasons. The issues of bankability with offshore farms have not been fully settled and the argument would be stronger with further improvements in technology. Although capital inducements are being offered for offshore plants by the UK government, more needs to be done to bridge the gap in average returns, between onshore (15% according NAO figures) and offshore (11%) farms and the greater risks.

Now that the pool of high net-worth individuals in Germany is evaporating, KGs are looking to bring aboard institutional investors. Portfolio financings are likely to be limited to securitisations, in the guise of Breeze One (for more details see www.projectfinancemagazine.com), to monetise the upside to equity, lower the cost of borrowing and repower.

The salient issue for secondary equity players is mitigating the cyclical risks of wind – as the high net worth investors exposed to the German wind sector over the last three years will attest – and the seemingly cyclical nature of national fiscal policies. The investment profile of equity in wind as a relatively low-risk high yielding asset class is damaged by changes in legislation that drastically lower expected returns. Whilst the UK was the flavour at the start of year it will almost certainly not be by 2006.

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UK wind farm business rates to triple

Despite the fact that the UK is widely regarded as the hottest wind farm market in Europe, the government has dented prospective IRRs by increasing business rates for wind farms. Although the blow to developers is tempered by rate-change relief that will gradually ease in the increase over five years, it is calculated that rates could increase once the changes have full force by two to three times.

The current rateable value is £5,000 per MW, but under the new system the income minus expenditure of the developer will be the rateable value. According to the Scottish Renewables Forum, this could increase the rate liability of developers by up to three times.

The change has been incorrectly attacked as penalising the windiest farms – although the rates are proportional and not regressive, calculated by the current business rate (45p in the pound) multiplied by the difference in income and receipts. Perhaps the more plausible argument is that the government is effectively giving with one hand and taking with another, as the ROC incentive payments are is included in the income equation and so are effectively taxed.
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Beaufort equity shake up

RWE Innogy, Englefield Capital, and the First Islamic Investment Bank (through Capital Crescent) agreed on 28 January to take one third each of the share capital of the investment fund, Zephyr Investments. Zephyr is the 100% shareholder in Beaufort Wind (search www.projectfinancemagazine.com for deal analysis) which owns RWE Innogy's existing operating wind assets. Wind developments completed over the next three years, up to an estimated portfolio total of 430MW, will continue to be developed, constructed and managed by National Wind Power, but will be sold to Beaufort Wind after completion. The deal will include a £300 million debt facility arranged by RBC.

RWE Innogy's retail subsidiary, npower, will purchase power and ROCs from Beaufort Wind under long-term purchase contracts.

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WPD finances largest German onshore farm

German developer and financier, WPD, closed financing for its Havelland windfarm project on 15 December 2004. The project consists of six separate windfarms with 64 Enercon 2MW turbines, generating a headline 128MW. Construction of the first 10-15 turbines has already started, with completion of the whole project expected in 2006.
The 15-year plus construction bank debt of Eu143 million was put together by Bremer Landesbank, with KfW, NordLB, Landesbank Rhineland-Pfalz (LRP) and Helaba joining as a club. The debt pays in the region of 120bp during construction then falls slightly in operation.

Unusually, the banks are exposed to a small amount of construction risk, although most is absorbed by a performance guarantee by the delivery company, Enercon, and partial recourse to WPD. The lenders also have the security of a debt service reserve account, and the operational wind risk is softened by a more sober forecast of wind projection than has characterized some German wind projects in the past.

WPD is an equity investor in for the long haul. The deal may signal the end of widespread use of the KG fund model – largely due to the evaporation of high net worth individuals' money – and the end of the cycle for onshore farms. Participants in the deal agree that a new type of investor is needed, possibly PE houses, and that Spanish and other foreign investors are actively looking at the German market. Interestingly, consolidation of the equity side – one shareholder opposed to hundreds – will make acquisitions of German wind assets, to date a rare occurrence, easier in future.