CREO INVESTING IN DISTRIBUTED GENERATION IN INDIA THE CREO SYNDICATE SEPTEMBER 2017 THE CREO SYNDICATE IS A not-for-profit network organization that is helping catalyze more private capital into low carbon, resource efficient and environmental solutions to accelerate the transition to a cleaner and more sustainable global economy and society. CREO believes that wealth owners, as well as their family offices and foundations, have a leadership role to play in this transition. Working with an established network of private investors, CREO provides an expert and peer-to-peer educational platform that promotes collaboration and resource sharing to enable more private investors to execute their investment theses for commercial return and measurable impact. For more information, please visit www.creosyndicate.org. The information provided in this document is for informational purposes only and does not constitute a solicitation, offer or sale of securities. Neither the investment examples cited, nor the CREO Syndicate’s mention of examples, constitute investment advice or a recommendation to purchase or sell any securities. The CREO Syndicate is not, and does not provide services as an investment advisor, investment analyst, broker, dealer, market-maker, investment banker or underwriter. The CREO Syndicate does not receive any compensation or fee for citing investment examples in this document or any consideration as a result of any discussion or transaction with respect to any such investments. TABLE OF CONTENTS I. Executive Summary .............................................................................4 II. Introduction ........................................................................................8 III. Market Overview .............................................................................10 A. India’s Power System ...........................................................11 B. Segment Overviews: Market Size, Trends & Investment ..............15 Rooftop PV .........................................................................15 Solar Home Systems ............................................................17 Mini and Microgrids ............................................................17 C. Stakeholder Ecosystem ........................................................19 D. Role of Government & Policy .................................................23 IV. Market Analysis ................................................................................25 A. Business Models & Project Structures .....................................26 B. Financing Landscape, Vehicles & Expected Returns ..................30 Rooftop PV .........................................................................31 Mini and Microgrids ............................................................32 Solar Home Systems ............................................................34 C. Risk Factors .......................................................................35 Rooftop PV .........................................................................35 Mini and Microgrids ............................................................37 Solar Home Systems ............................................................39 V. Opportunities .....................................................................................41 A. Catalytic Solutions ..............................................................42 B. Commercial Opportunities ....................................................44 VI. Investment Considerations............................................................46 B. Impact Analysis ..................................................................48 C. Legal, Tax, and Regulatory ....................................................52 VII. Conclusion.......................................................................................57 VII. Acknowledgement & References ................................................59 TABLE OF CONTENTS 3 EXECUTIVE SUMMARY This report is designed to serve as a primer and companion for those considering investing in distributed clean energy systems in India. India has emerged as a booming market for renewables in recent years. While the vast majority of capaci- ty deployed to date has been at utility scale and for large commercial and industrial (C&I) customers, a significant opportunity remains for additional investment to scale smaller, distributed systems. Three market segments are the focus of the study: 1 Grid-connected rooftop photovoltaic solar (PV) systems Systems <100kW in size serving small C&I customers and households 2 Off-grid mini and microgrids Distributed systems, ranging in size from 2kW-50kW, serving rural villages 3 Solar home systems (SHS) Integrated modular packages for households ranging from 20W-250W Investment in off grid solar home systems and mini and microgrids has the potential to deliver impact through improving energy access, and scaling deployment of rooftop systems for residences and small C&I can meaningfully reduce CO2 emissions. In particular, India has seen dramatic change in the past decade as the ongoing transformation of the country’s electricity system has brought significant growth in both renewable and conventional thermal generation. An ambitious government deployment target of 100 GW by 2022, of which 40 GW is rooftop PV, combined with the implementation of policies to meet this goal, have driven growth. But the transformation is not yet complete. Over 3,600 rural villages were still lacking access entirely as of Q2 2017. India is forecast to be the world’s largest contributor to new electricity demand through 2040. And as the third largest greenhouse gas emitter in the world, continued growth in renewables deployment is poised to have a substantial impact on India’s emissions profile going forward. Taken together, India’s march towards electrification and the tremendous market potential for renewables point toward latent demand, which is apparent in all three segments covered in this report. KEY FINDINGS The stakeholder ecosystem in India for distributed generation is complex. Foreign investors must navigate a wide range of national and state regulato- ry bodies, public and private financial institutions, an evolving landscape of young developers and vendors and legal and tax considerations. This report provides a snapshot of these issues. EXECUTIVE SUMMARY 5 Moreover, each vertical covered herein is at different stages of market maturation and faces unique challenges in terms of business model risk and financing gaps. Still, current challenges present significant opportunities for investors able to successfully navigate the ecosystem. Global trends like cost declines in hardware and continued downstream technology innovation have enabled new business models to take hold and carve niches in the Indian power ecosystem. Nevertheless, access to capital has been the most significant barrier to scale. Concessionary capital, grants, lending from development financial institutions and early stage equity have fueled much of the growth and deployment to date. As the distributed generation market in India matures, there will be a need to move beyond these early stage vehicles into structures that bring enough capital to scale up. Opportunities exist today across a range of structures: direct equity investments, investments in proj- ects, partnerships with local finan- cial institutions, and participation in innovative financing vehicles managed by other foreign entities. Risk profiles vary for each market segment and investment type. Three major risks relevant to for- eign investors have persisted across the markets: credit, currency risk, and insufficient debt tenures – currency as a direct risk, credit and debt tenures as risks to developers and local financ- ing partners. Many emerging developers and customers have been unable to access debt markets due to their lack of sufficient credit. Collateral lending requirements have been prohibitive. Emerging developers in all three ver- ticals struggle to find low-cost debt for sufficiently long tenures to support growth. The market lacks sufficient cost-effective tools to mitigate foreign exchange(FX) risk on top of the other business model and market challenges. Across the three market segments this report explores, there are substantial differences in the character of investment opportunity: Concessionary capital sources remain necessary to support continued growth in the mini and microgrid segment. Microgrid levelized cost of elec- tricity (LCOE) values, while improving, remain uncompetitive with grid tariffs by a wide margin. Furthermore, the threat of grid extension to developers’ project sites remains a significant barrier to scale. A number of top tier devel- opers have shown promising progress, but commercial capital has yet to enter the segment in a meaningful way. The solar home systems market on the other hand has shown strong, sus- tainable unit economics, but the market remains fragmented across regional and cultural boundaries, though a small number of reputable players are emerging. The maturation of SHS markets in East Africa likely offers clues to EXECUTIVE SUMMARY 6 future growth in India: mobile payment systems must continue to proliferate and developers must manage customer portfolio credit quality in order to scale sustainably. Rooftop PV for small C&I customers offers perhaps the most promising near- and mid-term potential for commercial returns, noting however that most development