Energy transition: How to finance the race to net-zero

White & Case LLP

White & Case LLP

  • Green bond issuance climbed 13% in 2020, to US$305.3 billion
  • Global energy investment will have to increase more than three fold to US$5 trillion by 2030 if net-zero carbon emissions are to be achieved by 2050
  • At the start of 2021, renewables accounted for more than 20 percent of total energy generation capacity in the US, surpassing the use of coal

Global momentum behind the fight against climate change has never being stronger, as governments and energy companies around the world make ambitious pledges to reduce carbon emissions to net-zero by 2050.

The US, under the administration of President Joe Biden, has taken a leading role in the race to net-zero by putting an ambitious program in place to facilitate the country's energy transition away from hydrocarbons to renewables.

On his first day in office, President Biden signed the US back on to the Paris Agreement, the international climate change treaty signed in 2016. The Biden administration subsequently outlined targets to deliver a 50 percent to 52 percent reduction in net greenhouse gas emissions from 2005 levels by 2030 and to have a carbon-free power sector by 2035, on the way to achieving net-zero carbon emissions by 2050.

Renewable energy sources now account for more than 20% of the total energy generation capacity in the US

Finding finance

The technology required to facilitate energy transition is developing at an accelerating pace, with huge strides in renewables, battery storage, electric vehicles, carbon capture, green hydrogen and energy efficiency technologies. But these technologies require a significant financial outlay to scale at the pace required to meet the net-zero 2050 timetable and retrofit existing hydrocarbon infrastructure to cover demand from renewable sources.

The government balance sheet will be an essential source of funding but given the size of investment required, private investors will have to step in to cover the funding needs.

According to the International Energy Agency (IEA), which outlined a roadmap to achieving net-zero, annual global energy investment will have to reach US$5 trillion by 2030, a more than three-fold increase on the US$1.52 trillion of global energy investment recorded by the IEA in 2020.

For private investors and energy companies, many of which have significant sums of capital locked up in hydrocarbon infrastructure, maintaining market returns while simultaneously reorienting to green energy provision poses a major challenge.

Private markets, driven by investor demand, have already begun to pivot in this direction. The issuance of green bonds raised specifically for climate-related and sustainability projects increased by 13 percent to US$305.3 billion in 2020, according to Bloomberg. In April 2021, ratings agency Standard & Poor's forecasts that issuance of sustainability-linked debt instruments (credit facilities not linked to specific projects, but which incentivize compliance with key performance indicators relating to sustainability) will climb by more than a third in 2021, reaching more than US$200 billion in total.

These already burgeoning markets, however, will have to grow at far faster rates to cover the net-zero fund requirements. What makes this particularly challenging is that much of the investment will have to be in still nascent renewable and carbon-free energy technologies. According to the IEA, by 2050, almost half of the reductions in hydrocarbon usage will have to come from technologies that are still in the early stages of prototype development.

Risk and reward

Investors see significant potential for strong returns from investments in renewables and green energy, and commitments to net-zero targets offer opportunities to benefit from these rapidly growing industries.

The expansion of now established renewable energy sources such as solar and wind—both of which are now as competitively priced and commercially viable as hydrocarbon energy—serves as a blueprint for these growth opportunities.

According to a Forbes analysis of the most recent BP Statistical Review of World Energy, the renewable energy sector has quadrupled in size over the past decade and is the only energy vertical to have shown double-digit growth during this period.

Investing in solar or wind is now no riskier than investing in any other energy source, which gives investors comfort and the confidence to deploy.

Investing huge sums of capital upfront in newer technologies and infrastructure, such as hydrogen, however, represents a very different risk-reward dynamic. There are no established customer bases for these energy sources, and they feature long lead times before an investment may start to return capital.

This is where governments have a role to play by investing in upfront R&D to develop proofs-of-concept for new technologies, sharing risk for investment in green energy infrastructure and supporting the formation of new renewables markets through clear policy and regulation.

If their private capital is to be released into the market, developers and investors need a clear long-term policy vision for how the energy transition will progress, as well as the assurance that governments will not change direction.

The US government and regulators have put a variety of measures in place to support renewable energy development and mitigate the risks posed by these projects. These include a federal government renewable portfolio standard, which mandates that a percentage of electric power sales in states come from renewable energy sources; feed-in tariffs, where the government covers any price differentials between new renewable sources of energy and established energy supplies; and renewables R&D grants.

Renewable energy consumption in the US surpassed coal for the first time in 2019, according to the US Energy Information Administration. Early in 2021, the Federal Energy Regulatory Commission reported that renewables now represent more than 20 percent of total energy generation capacity in the US. This demonstrates that governments can play a role in creating new commercially sustainable industries, and corral private sector investment.

Governmental measures will be essential to encourage private sector investment into new renewable energy technologies and projects, and to achieve the ambitious targets for a net-zero future.

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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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