The UK is up against tough conditions in the race to meet wind energy production targets. While the rest of Europe is bulking up on the backbone of new EU Directives giving cash incentives for the construction and production of windfarms, market observers say the UK is grappling with planning obstacles and a regulatory framework that quenches the huge, untapped potential for wind power.

Countries such as Germany, Denmark, Sweden and recently, Spain, have the largest installed capacity ? their 2010 target is 7,200MW and already 3,200MW is in the ground. Despite a regulatory framework that differs greatly from country to country, which might have complicated and slowed the process of development, Europe is racing ahead to meet percentage targets. They have been endorsed by national and international banks from the earliest stages of projects, with sponsor involvement coming from big names such as EHN (which generates 6% of the world's overall installed capacity) and Eolica. Debt and equity splits are usually between 70/30 and 80/20 ? Banesto has just closed syndication on the Systemas Energeticos Vivado Eu36m ($34.8 million) 37MW windfarm in Galicia, Spain, which had an 80% gearing. Seven banks came on board for the project, which had a 13-year maturity and pricing of 120bp over Euribor. The legal system seems to have adjusted quickly to the territory. Wind power in Germany is now so popular that commercial have been known to fund heavily, for example, Commerzbank, the landesbanks and DZ Bank.

With location important to government watchdogs - farms are considered noisy and unsightly ? Europe has another advantage. Open, generally rural, exposed sites are sought after for siting this form of renewable energy ? not something that most lack. Where North Spain was last year's hot spot for developing a windfarm presence, contractors have now started to edge along the rural southern regions, where the wind is strong and population sparse. The Eu915 million, 15-year, EEE windfarm project, which signed in February last year, set a precedent as the world's largest windfarm, and for bundling several small windfarms together. The farm is based in Castilla La Mancha, Southern Spain, and numerous cluster farms have signed since. One example is the Eu38 million financing for the Parque Eolico Monte de Las Navas - a 74-turbine 49MW capacity windfarm, which Dexia signed as sole arranger in July 2002 in the Avila region of Spain. A project company owned by Endesa Cogeracion y Renovables (70%) and Union Fenosa Energias Especiales (30%), will build and operate the farm. Debt was syndicated down to La Caixa and Banco Herrero.

In the meantime, UK lenders and sponsors are generally eager to seize opportunities in the UK when they come up, but, according to one banker, from the outset the basic necessities for development of wind projects only close doors that should that be opened, saying: ?As a country, the UK has the best wind resource in Europe, but because of planning constraints and the UK's electricity regulatory environment, our installed capacity is pitiful.?

Others say that although the UK has much to offer, a too-fast decision on renewable energy regulation has caused problems for lenders. The general consensus is that legislation is complicated and time-consuming with no clear divide or overlap. The most commonly cited regulation is the Renewable Obligation, which was introduced some months ago in the UK, where the power market has been troubled since the introduction of NETA last May. NETA encourages direct trading between generators and suppliers, is an added instrument in the new market and has been met with some hesitation. The £257 million loan backing the UK Immingham heat and power project, which closed in February this year, was the first to reach close after NETA was introduced and is being closely followed in the market. Fewer investors sem likely to sit on the fence with the much newer Renewables Obligation.

Dr Tom Frost, of the Sustainability Advisory Services group at KPMG, believes that the Renewables Obligation will probably encourage wind project finance. He says: ?The UK Government's Renewables Obligation is a strong driver for investment in windfarms and other renewable energy generation. However, the strength of this driver will depend on the demand for Renewable Obligation Certificates (ROCs). ROCs are allocated to the generators of renewable electricity and can be sold into the marketplace to offset the extra cost of generating electricity from renewable means.?

Currently, the marketplace is heavily undersupplied and the spot price of a ROC is around £50 (1 ROC = 1MWhr of renewable electricity). ROCs can be sold independently of the electricity generated, and with electricity currently trading at around £16/MWhr this represents potential income of around £66/MWhr for renewable electricity generation. Dr Frost adds: ?There are inherent risks in investing in a project where the return is based on a market defined price (especially such a young illiquid market as that of ROCs) but based on current pricing, the return from renewable energy projects will far outweigh the costs of generation.?

Investment Analyst Dan Edmonds, of corporate finance house Impax Asset Management, believes that the development of renewable energy products in Europe has largely been a result of domestic renewable frameworks that have supported revenue streams and facilitated project finance, leading to a diverse market. He says: ?The long-term aim of the European Renewables Directive is to allocate national targets, harmonise these support frameworks and work towards a more market-based mechanism to support renewables. The UK is leading the way in Europe with the introduction of the Renewables Obligation but there are outstanding financing and planning issues which will need to be addressed if the industry is to take off and meet the 10% target.?

One project financier also makes a case in favour of the legislation, saying: ?The main driver in the UK is market is the Renewables Obligation. This came into force on 2 April this year and has been fundamental. It enables a higher price to be paid for renewables ? currently about 6p/KW/h - by setting targets and penalties. This creates a market for new products.?

However, another market player is at the opposite end of the scale. He says: ?In the UK, we used to have the Non-Fossil Fuel Obligation (NFFO) structure. This was easy to forecast, but now with the Renewable Obligation, it is difficult to quantify what it will be worth in five years' time. This puts financiers off financing and developers off developing.?

Yet another thinks policies have been rushed with no consideration for lenders ? ?the government should step in and set a fixed price for electricity. Getting planning permission is difficult. The UK government is not promoting green power.?

However, even Europe is not a totally clear run. Looked at closely, even countries where renewables are established, such as Germany and Spain, are not entirely wind-friendly. Issues here lie within state aid, and under the EU Directives, windfarm size limitations have been imposed, so farms can be no larger than 50MW. But production and development is good. With a ten-year production target of 10,000MW, and approximately 3,200MW of that already encompassed, cluster projects ? with numerous smaller plants - are beginning to feature heavily. Tax breaks, cost-plus premiums and guaranteed output have driven this. In France, where feed-in tariffs (which are in effect a direct subsidy) were launched last year, the capacity is generally lower, with the average windfarm production being about 12MW, with financing secured through lessor vehicles. Economically speaking, France may well be the next hotspot for windfarm projects, due to late regulatory development ? tried and tested methods will instill a sense of security among funders and act as an effective risk mitigant. Hiatus feed-in tariffs, or hybrid commercial/subsidy regimes, practiced in Denmark, have already attracted attention, with the assurance in a trodden path and a confidence in wind resource. Denmark saw huge development in 2001.

It would seem that one of the major problems bothering UK wind investors is the financing structure. The rest of Europe enjoys a fixed rate on wind production, guaranteed at the end service with a premium, however this is not so for the UK, where prices are unpredictable. ?This feed-in tariff provides a definable structure, for instance, in Germany. Not having a fixed price for wind in the UK is all the more risky, as you can't assess how much the project will be worth,? says Mark Henderson at SG, London.

The UK is aiming to hit about 4,200MW in capacity by 2010. So far, 480MW has been installed and the market is up against volatile prices and strict regulations. The biggest growth for the UK, it seems, has been, and will be, in offshore windfarms on sites granted by the crown. There are 18 currently awaiting finance, but it is unclear how these will proceed as yet because the Ministry of Defence has complained that turbines interfere with low-flying aircraft. Planning policy onshore is a problem for mainland wind farms. Although investment interest may be there, the opportunity to bite is not: reluctance lies in the technological risk of offshore projects: construction is expensive and complicated and farms in an exposed position have a greater risk of collapsing in strong winds, something which has happened at least twice in rural Europe already. However, sponsor interest remains in the UK because offshore farms can be large, long-term and therefore can operate with good returns and adequate security.

As well as the associated risks of financing a new market, financiers also lose sleep over the unpredictable nature of wind ? and netting it for the grid. This has brought into play factors such as availability, revenue, grid absorption capability and viability. There is no way to store electricity, so it will never make a significant contribution to the national grid. For this reason, other generators, such as gas and biomass, are waiting in the background.

In terms of installed capacity and production targets, Germany, Spain, Italy and even France, which has little wind, are ahead of the game. Maturity on projects is usually between 10 and 12 years, although some large capital projects are for 20 years. Guy Wilson, of Energiekontor Group, which develops windfarms from start to finish in Europe, says: ?The future here for wind is very good. In Germany, for instance, 2,000MW was installed. The year before that was 1,600MW, so it is going up and up. Most countries' legal systems are coming up with clear support for windfarms.?

Pascale Sordaini of Natexis Bank describes points taken into consideration when structuring the financing of a windfarm. He says: ?The main point we consider is the framework. Also, the involvement of national authorities of offtake, pricing of the offtake in windfarm energy, maturity of contracts and the possibility of changes in the future of contracts - is it possible for the offtake agreement to change??

Looking ahead, NIB is arranging the Eu20 million, 13-year 20MW Trandeyndras windfarm project in Portugal. Energiekontor is the project's sponsor. Financial close is expected late this month. Two offshore UK windfarms have been approved for development - Powergen's Scroby Sands and another off the coast of Wales. In Spain, an Eu13 million project to develop a 15MW windfarm in Jaen, southern Spain, is in finance. This will be another cluster farm of 23 turbines. It is understood to be arranged by Caixa, Galicia. On the UK front, a £25 million inland wind project will be developed from the end of this year's third quarter. It will have a 59MW capacity and be developed by GE Wind Energy and Renewable Development Company (RDC). In northwestern Spain, Hypo has been selected as mandated arranger for a Eu200 million farm sponsored by Tomen & Terranova, which will have a 207MW capacity.

USA

In America, where resources are good and legislation is supportive, project financiers are optimistic for the future. Wind development is driven by federal and state incentives. Tax credit legislation is renewed every four years, most recently four months ago. Its biggest incentive is tax subsidy. Based on today's US power market environment, windfarms cannot support themselves without a subsidy or incentive to make them economically viable. Wind power is averaging sales at 2.5 cents per kW hour, although this does vary from state to state. For instance, in Texas, a mandate now exists for each regulated utility to sign power purchase agreements with independent wind generators. In the Midwest there are currently a number of utilities willing to sign offtake agreements and this has led to the development of more wind farms. The USA differs from UK and Europe, as there are no overall MW targets to meet. Various financing structures are used, mainly supported by the power purchase agreement (PPA) that the windfarm has with the third party offtaker, and also by the production of tax credit. Hendrik Vroege, MD of Fortis Capital, Connecticut, explains the kind of projects that are attractive in today's market: ?Generally, the bigger the windfarm the better. We (Fortis) usually would go for a project between 100MW and 200MW, but can go smaller. For efficiency reasons, we would not go below $25 million, with $50 million being our average.? Fortis is currently lending into two windfarms, one in Texas at 150MW and another in California at 70MW.

One US renewables analyst thinks the Bush Administration has been particularly supportive of renewable energy. He says: ?The market is increasing, it is going through a boom. The conventional power business has been going through a difficult time, and wind power is one of the few areas in the US power market business where you can still get long-term offtake agreements from creditworthy entities. From a banker's perspective wind power investment is very attractive as you have access to highly rated offtakers.?