Incurred risk and increased project acquisition costs that result from inefficient processes are detracting from power producer’s ability to achieve profitable growth.

 

Growth is a high priority for many energy companies looking to compete in today’s burgeoning renewable sector. With the race for market share tightening, power producers are increasingly expanding their businesses with new technologies and services. However, with the bankruptcies of a few industry leaders still fresh in our minds, power producers today need to do extra diligence when investing in projects and acquiring portfolios. The process however of developing viable projects, passing them through investment committee and securing development capital at a low cost is becoming more cumbersome. This is largely due to the abundant inefficiencies within the current investment committee and fundraising processes, which at present are extremely manual and error-prone. As a result, energy companies are facing difficulty when trying to grow, yet still be profitable.

 

There are two key factors limiting energy companies’ ability to achieve profitable growth:

  1. The current investment screening and decision-making processes are impeding growth and contributing to increased employee frustration and turnover.
  2. Cost of capital is extremely expensive; on average 100 to 200 basis points higher compared to other businesses. This results in increased project acquisition costs.

 

Inefficient Investment Screening Practices are Hindering Growth

Current investment screening and decision-making methods are creating significant bottle-necks and hindering new growth for many energy companies today. On average about 50-70% of projects presented to the Investment Committee are rejected at first largely due to errors or inaccurate information. In order to present a viable project to the Investment Committee, business developers have to collect a fairly complex amount of information including site qualifications, modeled output, EPC agreements, and estimated financial returns. This process today is extremely manual and labor intensive as it requires digging into disparate data sources to compile the necessary information needed to present to the Investment Committee. At present, this process takes at the minimum of 2-3 weeks. Additionally, due to lack of process alignment and silo’ed thinking, there is often a mismatch between the screening models used by the development team and the financial model used by the investment committee. The lack of alignment the two teams coupled with an inefficient process results in a frustrating and painful situation for everyone involved in the investment process- and is a contributing factor to high turnover in the energy industry.

 

Flawed Funding Lead to High Cost of Capital

Similar problems are further complicating the project funding process. Consequently, most independent power producers are burdened with 100-200 basis points higher cost of capital compared to other businesses. This is due to the high-risk reputation that investors and lenders still associate with renewable energy investments, which limits company’s sources of approachable capital. It’s not the business itself that is inherently risky, but rather their behavior as demonstrated by the way they collect and present information to investors and lenders that makes them appear as such. This perception stems from the relatively incomplete and inaccurate information that is being presented to investors and credit lenders by a developer who has yet to establish a credible track record. The process of collecting data, which includes resource information, financial performance and credit history, is still very manual and error-prone, and often results in an inaccurate representation of the information. The inherent inability to easily access data that is dispersed across different departmental silos results in an incomplete representation of the company’s financial standing. Hence, access to capital and costs to borrow are becoming major dilemmas to developers.

 

Image 2: This diagram illustrates the flow of capital to the project company from different types of investors and lenders. The number of external agreements with suppliers must be economically crafted as they all impact returns to investors.

 

The Implications for Profitable Growth

 

Power producers have yet to understand the full implications of having a slow investment process and a high cost of capital. Having a lower than average rate of project approvals results in demoralized and frustrated teams, both on the development and investment committee side. Already we are witnessing a high turnover rate of employees within the energy sector, with most new employee tenure at a company being 3 years on average. Having a high cost of capital handicaps power producer’s ability to be profitable. The Inability to meet financial goals results in a higher turnover of executives because they cannot fulfill their commitment to their investors and stakeholders. If power producers continue to neglect their operational inefficiencies, their chances of achieving credibility and profitability will be diminished.