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Lessons to be Learned – Hydropower Industry

With more than 6,000 MW PPA concluded projects, the hydropower sector is certainly going to be the next big thing in Nepal. The predetermined revenue for 30 years of operation along with the successful completion of projects by the pioneer hydropower companies has opened up an avenue for hydropower investment. One of the main reasons for the growing interest in this sector is the fixed return. Unlike other businesses where future earning is hard to predict, hydropower revenue is almost guaranteed.

The surge in hydropower development is also due to the fact that the Government of Nepal has prioritized the hydropower sector. Nepal is planning to achieve a double-digit economic growth within the next decade, and to achieve the prosperity target, the energy sector will have a leading role to play.

A lot of new policies have been introduced by Government of Nepal recently in order to attract investment such as introduction of PPA rates for PRoR & storage projects, PPA rate determination mechanism for projects over 100 MW capacity through negotiations and revision of tariffs for RoR projects where projects are now entitled to get 6 months dry energy rate after meeting certain conditions as opposed to 4 months dry rate for all RoR projects.

Although the revenue prospect of hydropower is fairly secured, financial arrangement is still like a mountain to climb. Banks generally shy away from making investment decisions because of the longer gestation period and so many perceived risks associated during construction/generation of hydropower projects.

Things are about to change now. Commercial banks have to invest 10 percent of the total loan in the energy sector by mid-July 2024, according to monetary policy 2020/21. This compulsory requirement is almost two times its current exposure of about 5%. While this provision has given some reliefs to developers, some banks are treating it as an additional burden.

The experience of banks in hydropower is not so good. Cost manipulation, cost and time overrun, fake equity claim, selection of in-house contractor/supplier, inferior structures, and low energy generation in actual compared to the contract energy are some bad experiences faced by the banks. These problems are so acute in some projects that few banks are now struggling to recoup their interest and principal. More than 25 hydropower projects developed by independent power producers are ‘sick’ as they have either failed to service their debts or are reeling under financial crisis, according to Independent Power Producers’ Association, Nepal (IPPAN).

With the introduction of a new compulsory lending provision, commercial banks are now in pressure to increase their exposure although hydropower is not their cup of tea. We have already seen the effect of this provision. Banks with lower base rates are now encouraging developers to swap loans from other banks which have a higher base rate. However, swapping hydro loans will not be sufficient to meet the overall target of commercial banks. There is no choice but to increase the hydro lending in new projects.

Learning from the past experiences is the way to go. The above mentioned barriers faced by the bank can largely be reduced if banks adopt the right approach. One way is to appoint the consultants, both technical and financial, during construction. Hydropower projects are exposed to more risks during construction as compared to operational projects.

Banks do hire third party technical and financial consultants during construction. However, the remuneration of those consultants are paid by the developers. When the developers pay the

consultants, it is quite obvious that the consultants will write reports/recommendations by protecting the interest of developers.

Banks are missing the fundamental issues here. Typically, 70 to 75 percent of the total project cost is financed by banks and financial institutions. Banks need consultants who see the projects from the banks’ eyes, not the developers, and this will only happen if banks pay the consultant fees. Having consultants working for banks will be beneficial to tighten the screws. Cost manipulation and fake equity injections will be largely minimized. Also, the quality of work will be assured since the technical consultants will verify the lab test results and check if the construction is done as per the required standards.

The sooner the banks realize the need for consultants to safeguard their investment, the better. Otherwise, the same story will continue. Save now and suffer later.

The sooner the banks realize the need for consultants to safeguard their investment, the better. Otherwise, the same story will continue. Save now and suffer later.

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