Ongoing consolidation in South Africa’s renewable-energy sector has led consulting firm Deloitte Africa to assess several asset valuation methodologies to help guide participants in secondary market transactions.
Deloitte Africa partner Mohsin Khan tells Engineering News Online that valuing domestic renewable-energy assets has proved challenging, owing to the distinctive character of Renewable Energy Independent Power Producer Procurement Programme (REIPPPP) and the absence of a transaction history for such assets.
Under the REIPPPP, the Department of Energy has procured, through five competitive bidding rounds, 6 323 MW of renewables capacity since 2011 across 92 separate projects.
Each project has a 20-year take-or-pay power purchase agreement (PPA) with State-owned electricity utility Eskom and the National Treasury guarantees Eskom’s PPA obligations.
Shareholders in the REIPPPP projects are subject to a three-year lock-in period, which has already lapsed for projects procured during the initial bid windows. This, together with delays in launching of the fifth bid window, has stimulated secondary market activity and the need for asset valuations.
The REIPPPP assets have become particularly attractive to infrastructure funds, which perceive the power plants as ‘yield vehicles’ that are able to provide steady and predictable revenue streams. At the same time, several project developers are keen to find a way to recycle the equity associated with the plants so that the capital can be deployed in the construction of new renewables assets.
Khan recognises that the final transaction price tag is the outcome of negotiations between a willing buyer and willing seller, but says a robust asset valuation is nevertheless useful in facilitating the sale process.
Deloitte Africa has concluded that typical valuation approaches, such as the Free Cash Flow to Equity model using a traditional discount rate, may fail to fully capture the unique characteristics of REIPPPP projects as they tend to overestimate the financial and operational risks.
Khan recommends the use of the Adjusted Present Value (APV) method, which is able to accommodate the varying capital structure across the lifecycle of a REIPPPP project.
“The APV method effectively splits the present value of unlevered free cash flows, assuming the company is wholly equity funded, and discounts the respective project free cash flows using an unlevered cost of capital to obtain an unlevered enterprise value.
“The tax shield is then valued separately, where tax savings related to future interest costs are discounted at the cost of debt,” Khan explains.
To determine an appropriate discount rate, or cost of capital used to present value cash flows, Deloitte typically applies the Capital Asset Pricing model, but cautions that the implied risk may be misstated, owing to the nuances of REIPPPP assets.
“REIPPPP projects are niche in nature and a robust valuation of the asset is a critical factor in executing a successful transaction for an acquirer, and to mitigate key project finance risk for a potential lender.”