Kelly Bayer Rosmarin addresses energy sustainability
13 November 2015
Kelly Bayer Rosmarin, Group Executive Institutional Banking and Markets, Commonwealth Bank of Australia
It’s a great pleasure to be speaking at the Trans-Tasman Business Forum. This has always been a really important forum for CBA especially being such a Trans-Tasman focused organisation – with our ASB / Sovereign business and also my own area of Institutional Banking. We're also onto our second CEO born and bred in New Zealand - so we know better than to joke about the Kiwis or the All Blacks, although the Australian cricket and netball teams are doing their best to equal things up.
Johnny Weiss and his team do a wonderful job to bring together business and political leaders, and they have really driven a lot of the common policy discussions and debates on both sides of the Tasman. The topics have been wide ranging and I know they have also held many events around the topic of sustainability.
Today, we are here to talk about energy sustainability. Energy is a fundamental need that we often take for granted.
Right now, the energy sector is going through a period of very rapid change – moving away from fossil fuels towards a low carbon future.
This transition isn’t easy and it won’t happen overnight. But there can be no doubt that the transition is having a profound impact on every single person in this room.
In a few weeks, the Paris Summit will occur where significant commitments will be made to keep global warming to under 2 degrees. This week CBA hosted a Climate Change Symposium and the Climate Council quoted a staggering statistic, that to have a 50% chance of limiting global warming to 2 degrees, the world needs to keep 62% of fossil fuel reserves in the ground. This will clearly require a shift in our thinking as well as in our actions.
For financiers, this shift presents a particularly interesting challenge. We know that to affect the shift, viable commercial alternatives to fossil fuels are needed, but are those alternatives viable enough to be banked by mainstream financiers? That's what I will spend the majority of my time talking about today.
Throughout our 104 year history, CBA has been at the forefront of many transformational shifts in the Australian economy including in the energy sector – a few that come to my mind are financing Snowy Hydro, Icthys LNG and more recently the award winning Sundrop Farms.
We are passionate about our involvement in these projects and we believe they embody our vision – to excel at securing and enhancing the financial wellbeing of people, business and communities.
To transition to a sustainable renewables sector, there is no silver bullet. But we know CBA is well placed to play an important role in this transition.
As Australia’s largest corporate, CBA is not surprisingly a significant user of energy, but we have and have had a real focus on reducing our own carbon footprint. We have won numerous awards including:
- Being on the Carbon Disclosure Project's ASX200 Leadership Index for 7 consecutive years, consistently scoring 100/100
- Being rated the number one Australian corporate and number two bank in the world by the Global 100 Most Sustainable Corporations
- Our office in Darling Harbour was awarded a 6 Star Green Rating and announced as Australia’s most sustainable office by the Green Building Council for producing 50% less emissions than the average commercial office space.
- In FY15, we exceeded our internal carbon emissions reduction targets and over the last 6 years, have achieved almost a 40% reduction in our domestic emissions.
- From an investment perspective we have a significant commitment to the renewables space. Through Colonial First State Global Asset Management, one of Australia’s largest fund managers with over $250bn funds under management, we are actively growing our direct and indirect investments in the renewables space.
From a financing perspective, CBA has a strong presence in renewables.
Today, we are one of Australia’s largest lenders to renewables projects, with $1.64bn in business lending exposure to the sector, around 16% of our broader energy exposure. This lending covers more than 180 assets, 50% are Australian and 50% are offshore, mostly in NZ, UK and Europe. In fact our renewables exposure is significantly more than our coal mining exposure, which has been reducing over the last 10 years.
In February this year, we began disclosing our indirect emissions footprint – and we expanded that reporting to cover the emissions from all our business lending. We do this to provide transparency on our decision making - and we look forward to seeing other organisations follow our lead.
We are also involved in helping households and small businesses to make the transition. CBA was the first bank to back Australia’s Clean Energy Financing Corporation and together we have pledged $200m in reduced cost funding to help businesses improve their energy efficiency.
We want to support and partner with the Government in this area too and are in discussions with Ministers Hunt and Frydenberg and key agencies around renewable policies and initiatives.
All of these credentials underscore our strong track record of supporting the transition to a low carbon economy and our commitment to continue to do so. Some other companies publish statements and big numbers about their future appetite for financing the sector, and that's not a bad thing, but we prefer to act and let our actions speak louder than words. We have no need to put a dollar limit on our appetite to support the sector because I am happy to confirm today that we have unlimited credit appetite in renewable projects and are actively seeking to grow our portfolio. But they of course have to be good projects that we find commercially viable and therefore bankable.
The key thing we need to determine when we lend money is whether the company we lend to will be able to pay us back our money and service the debt for the duration of the loan. In the case of energy projects that can be 15, 20 years.
So how do we make this assessment?
- Firstly, we look to certainty of cash flows.
- Secondly, we look at the credit worthiness and track record of the company we are lending to, its sponsors, and its construction partners.
- Thirdly, we try to understand its position in the broader market so we bank companies who are able to compete on price and quality and technology advantage.
- Fourth, we overlay our views on the stability of the landscape and certainty of regulatory outlook.
- Finally, we assess whether there is return for risk that meets our shareholder expectations.
Sounds pretty sensible, so let's see how renewables projects in Australia stack up.
It is incredibly difficult to obtain a solid forecast of cashflows for most renewables projects in Australia. For starters, there is huge variability in our ability to predict the overall demand for energy when according to AEMO and others there is a variation of 71,000 GWh on a base amount of 180,000. So even if we are targeting having renewables make up about 20% of the mix by 2030, the demand is very hard to predict.
You add to that huge price volatility in renewables, and an uncertain business model. Many renewables companies target approximately 50% of their earnings from Renewable Energy Certificates (REC's) but these themselves have very volatile prices, and many energy retailers have pre-banked a bunch of them so may not want to buy more.
We further look at whether there are parties committed to buying the energy produced by the renewables companies but find that there is a lack of commitment from the energy retailers to offtake agreements. This is partially because of their lack of certainty of demand, and partly fuelled by consumer indifference. Very few consumers are willing to pay extra for renewable energy. We commissioned a study in consumer attitudes and found: they do not want the costs of investment in newer forms of energy to be passed on to them; energy costs are already seen as ‘out of control’.
So given all of this, there are challenges in estimating the cashflows of many renewables projects
I'd like to contrast this with some other markets. The percentage of renewables in the energy mix is legislated, so there is a much clearer consensus on forecasts, carbon is priced on a free traded market which can therefore be hedged and the associated risks managed, price differences are compensated for by a levy on all consumption, and offtake agreements are common.
Given the uncertainty of cashflows, many projects are not attracting large, solid companies as sponsors/operators and so we see in the mix a large number of lower rated counterparties without strong track records. Naturally these will be more challenging to bank. Unlike equity investors who may back less known players because of the potential upside, as debt providers we focus on what can go wrong, and so backing less known players definitely increases our risk.
How about attracting strong contractors to Australia? Experienced contractors value a consistent pipeline of builds. If they know what is coming, they can roll staff onto the next development, then the next development – they don’t need to start new procurement processes – so the incremental projects create scale efficiencies. The consistent pipeline also means that they would be more likely to bring their cutting edge technology to Australia. Unfortunately, no material pipeline exists yet in Australia but it was great to see South Australia announce yesterday an additional 481 GWh for innovative proposals to deliver affordable low carbon electricity.
Again in other markets, there seems to be a larger proportion of investment grade names getting behind renewables projects in a serious way, including companies like GE and Siemens – and we need to ensure we retain their involvement in Australian based projects.
The UK and Europe benefit from geographic proximity, which when added to Government commitments – effectively the pipeline – provides both companies and contractors with a good medium term view on activity.
When we bank companies in a sector, we like to understand how they stack up relative to others, including substitute products (especially when technology development is rapid).
So we look at the relative position of different energy sources on the cost curve. Unfortunately in renewables this does not look great - especially in the absence of clear volume commitments in the form of off-take agreements and price volatility.
There is currently a three turn pricing differential between solar and brown coal when it comes to powering the “Great Australian Dream” for 1 week (simple analysis excluding current network and retail costs).
New build renewables are competing against the marginal cost of established coal plants and without an increase in demand or retirement of fossil fuel fleet, it will make it very difficult to level the playing field.
In other markets, this is addressed by subsidies and pricing of carbon. In Europe they are moving towards fixed price be it Contract for Difference or Feed in Tariffs and we are banking both structures. These structures align more with asset life (15-20 year term), are Federal arrangements, and operate in a transparent manner, again helping investors and financiers.
Federally, we have the Renewable Energy Target which is designed to double the amount of large scale renewable energy delivered, through the creation of tradable certificates. Unfortunately, it has become a bit of a political football – it has changed a lot and pretty much everyone has an opinion on its merits.
After 2020, the RET will still exist, but it plateaus to 2030. When you consider the build and asset life of 15-20 years, the existing 15 year term doesn’t provide investors or financiers with critical long term certainty.
Add the fact that the certificates are traded at a rate determined by supply and demand, and that many retailers have pre-banked the certificates, and we have a bit of a problem.
There is also an interesting interplay between Federal and State. Gaps in Federal policy are being filled by the States, and this is resulting in an unintended distortion of energy use.
So what are we seeing internationally? Most schemes are solely Federal and this provides much better transparency and more consistent investment decisions. Carbon Pricing Schemes are also prevalent in around 40 countries.
In Europe, the issue of an emissions trading scheme is not a political one because the reality is that the impact on the consumer is so small in the overall scheme of electricity costs.
Whatever mechanism is in place it needs to sufficiently incentivise the transition to a lower carbon environment and do so in as transparent a way as possible. We would support Australia moving towards a market based carbon trading scheme in the medium term. However, we understand the political realities of the current policy setting.
Given the tough cash flow challenges facing new renewables projects, and the need to bring down costs, all these projects need cheap funding costs.
But given the risks which I have described, the banks require adequate returns for that risk.
The challenge for project proponents and financiers is to make a commercial case for supporting such projects.
Now, this may sound tricky - but we have managed to fund 180 projects including 90 in Australia, and so clearly there are exceptions and success stories and so I'd like to highlight a few of these.
A transaction we are particularly proud of is the Green Deal of the Year – Sundrop Farms – supported by global private equity firm KKR, the South Australian Government and CBA. The transaction financed an innovative renewable technology ultimately through an offtake agreement to sell tomatoes.
The project uses solar power to desalinate seawater and irrigate tomatoes. The panels also provide the greenhouses with energy and also regulate the temperature, avoiding the need for pesticides.
For us, great technology was important, but the financing was secured by a 10 year fixed price exclusive contract with Coles. The long term contract provides Coles with year round supply of truss tomatoes. Demand for truss tomatoes is growing at 15-25% per year and there is constantly a demand / supply imbalance, so this contract gives Coles a nice competitive advantage in the market.
This project is a game changer in global agriculture and proves that Australia is well positioned to lead in the transition to renewables.
Another example I like is Lundin Petroleum who have been developing an oil field in Norway - and they power the entire operation - 100% - using hydro power. Don’t worry, we count that as financing oil and it is not one of the 180 projects, but it does make you see the opportunity for leveraging renewables in all industries!
Another we have banked is a windfarm, a bit closer to home. It’s called Collgar and is located in the traditional wheat belt in WA. The topography and climate conditions are ideal for wheat but it’s also ideal for making electricity from wind - with particularly high capacity factors due to wind conditions and flat terrain. An interesting new revenue stream for our farmers!
So there are areas we are doing well, but there are some areas where we need to play a bit of catch up.
There is no hiding from the fact that Australian is a heavily carbon intensive economy.
Everyone here today knows that we have a significant challenge ahead of us if we are to contribute to limiting global warming to 2 degrees.
We believe CBA will play an important role in this journey. We are a top 10 global bank, with a very large balance sheet and leading financing experience in renewables here and offshore. We also really enjoy thinking creatively about issues that impact the community and business.
We firmly believe that meeting the challenge of transitioning to a low carbon economy requires that we mobilise the best minds, capabilities and resources across a variety of disciplines.
That’s why we’re committing to hold a world class Fintech meets Cleantech Innovation Forum/Summit in the next six months off the back of our recent Climate Change and Renewables Symposium. We will apply the kind of thinking we do in CBA’s Innovation Lab to find ways to bridge the clear gaps we’ve identified in the financing of renewables.
To do this we’ll bring together a ‘brains trust’ – a network of thinkers and innovators who are not only asking ‘why’ but ‘why not’.
It will include industry players and funders, and best young entrepreneurs and researchers, including our own Sir John Monash Foundation scholars.
Many of these scholars are training and working in fields that will deliver the solutions to our future energy and resource needs. They are tapped into the latest leading technologies and innovations at universities such as Caltech, MIT, Oxford, the London School of Economics and Harvard.
Our objective is to come up with new creative financial solutions for renewables and to ensure financial and commercial viability is factored in at the design and inception stages of renewables projects.
By incubating this creative talent and focusing it on bridging the gaps, we think we can help the renewable sector flourish in Australia.
We are proud to have announced that we have an unlimited global credit appetite in renewable projects that are of good credit quality.
And we look forward to working with you all, with Government, the energy sector as well as large and small business on our transition to green.