Transforming project finance: how sustainable infrastructure will spur economic recovery

How an innovative approach to infrastructure financing could help accelerate a more resilient future.

As countries look to spur their economies in the wake of the COVID-19 pandemic, investments in new infrastructure will be high on the agenda for many governments.

While stimulating growth through investment in roads, buildings and power supplies isn’t a new strategy, now it offers an opportunity to redefine the traditional playbook and focus on investing and financing sustainably for the longer term.

At the same time, the need to transition to a low-carbon economy1 and bolster efforts to limit global warming is more important than ever, as is understanding where and how capital can be best deployed to complete this transition.

Supporting sustainable infrastructure around the world represents a significant opportunity to foster collaboration between stakeholders, produce gains for society and make project finance fit for the future.

Here are five themes that are set to define the creation of sustainable and climate-friendly infrastructure:

Environmental and social governance at the forefront

The effects of the pandemic are likely to be long lasting, with consideration of environmental, social and governance (ESG) factors gaining momentum. More than ever, projects will need to have a long-term benefit for society, and this is likely to be directly linked to projections of their economic value including social costs and benefits.

Across the spectrum of project size, plans for renewable power will be more attractive than new coal-fired plants. Around the world, this will mean different things: from giant offshore wind farms that will power developed countries’ energy shift to tiny off-grid solar transactions in emerging markets that will help solve energy poverty.

Sustainability has long been a core part of Standard Chartered’s strategy, and we have committed USD40 billion of project financing services for sustainable infrastructure and USD35 billion of services to renewables and clean-tech projects by the end of 20242.

As part of our push to finance clean energy projects, particularly in emerging economies, Standard Chartered acted as the structuring bank, mandated lead arranger and underwriter for Wardha Solar (Maharashtra) Private Limited in India3. The USD250 million financing was structured as an eight-year mini-perm facility with non-recourse balloon repayment at final maturity – a unique structure for the Indian market.

Transforming project finance

Watch now
"

Growing demand for sustainable finance

For decades, project finance has focused on environmental and social risks and on repairing and mitigating any negative impacts. Now this principle is evolving, with future projects required to be made sustainable, rather than simply relying on “do no harm”.

Investors in all asset classes – including equity, loans and bonds – have also signalled their preference for green financing, and this trend will accelerate in a post-pandemic environment. COVID-19 has starkly demonstrated how investments can fall in value on account of risks that fall into investors’ blind spots – such as the pandemic and the very real parallels with a potential future crisis that is exacerbated by climate change.

All this will result in a willingness for investors to pay a premium for sustainable finance to build protection in their portfolios against projects that will fail or become stranded, because they no longer fit the mandated emission guidelines in the future.

Sustainability is already becoming a ‘must have’ for financiers and investors instead of a ‘nice to have’.

A trillion-dollar partnership opportunity

While the world has just a decade to deliver on the United Nations Sustainable Development Goals (SDGs), only 60 per cent of the financing needed to achieve them in low- and middle-income countries is being met; in Africa, this is as low as 10 per cent. The COVID-19 crisis laid this shortfall bare, emphasising the deficit in social infrastructure in critical areas like healthcare and water supply.

Looking more closely at the infrastructure-focused SDGs reveals the scale of the opportunity, with a Standard Chartered study revealing a 10 trillion-dollar financing gap4 across 15 high-growth markets in Asia and Africa.

Many of these areas have been neglected in the past, as projects and investment focused on large utility-scale power plants with direct linkages to industrial growth.

Going forward, public private partnerships (PPPs) with private investors and lenders supported by partial guarantees from international financial institutions, can bring additional capital to play for sustainable infrastructure. This will accelerate sustainable investments in hospitals, water supply, run-of-the-river hydroelectricity, renewables including off-grid, high-voltage electricity grids and mass rapid transport in emerging markets.

Earlier this year, Standard Chartered signed a facility agreement with the government of Tanzania to fund the construction of the Standard Gauge Railway project from Dar es Salaam to Makutupora5. The USD1.46 billion term loan will finance a 550-kilometre long rail connection that will provide safe and reliable transport for people and cargo, create jobs and enhance regional trade.

Closing the insurance gap

All of these projects require some kind of risk mitigation, and that will necessitate more collaboration between the insurance and the financing sector, so long-term insurance products can match the tenor of this new wave of project finance.

As we adjust to the economic consequences of COVID-19, the parallels with risks stemming from climate change for long-term projects have become evident. While project finance has traditionally used insurance to protect against physical risks like floods, fires and storms, this crisis has demonstrated how catastrophic events could easily disrupt the performance for projects that are being built and financed today to last 20 years or more.

This represents both a challenge and an opportunity for insurance – and one the industry is already working on – since traditional policies were normally available for short periods and renewed several times during the life of a project.

The gap between the insurance protection needed and that available amounts to more than a trillion US dollars6, and this can make it difficult or impossible for projects to be financed at an acceptable risk level or reasonable cost.

One way of closing the part of the gap relating to climate risk is by further improving project design. Coastal projects, for example, will need to include features that protect against greater chances of flood risk and wind turbines will be designed to withstand more frequent extreme gales, so that they remain insurable.

The gaps are far more pronounced in emerging economies7, according to Swiss Re AG’s research arm, leaving scope for stronger collaboration between financial institutions, insurers and charitable entities. There is also potential for better risk management, greater pooling of risks and borrowing features from products like catastrophe bonds, which group together multiple perils from around the world.

Initiatives like the Insurance Development Forum8 are already bringing together the public and private sector to develop a better framework. The greater the collaboration between insurance, the private sector and non-profits, the more successful the outcome will be.

Partnerships can offer the best sustainable finance for infrastructure

A shared focus on sustainable finance by loan, capital market and development institutions means they can begin to work together more to resolve the infrastructure gap.

For example, project finance banks are great at evaluating credit, environmental and social risks of projects during their initial risky construction phase. Development institutions value the external and social benefits of projects beyond their explicit cash flows, enabling capital of longer tenors and better financing cost.

Capital market investors such as pension funds and insurance companies value the low risk and steady cash flows of projects during their stable operating phase, so that project loans can be taken out or refinanced into the debt capital markets, freeing up bank capital to be reinvested in newer infrastructure.

Project finance – front and centre

Creating sustainable and climate-friendly infrastructure will be a key component of the world’s economic recovery from the COVID-19 pandemic. Such projects will aid the transition to a low-carbon future, while also offering ways to meet the SDGs and generate opportunities for investors.

By embracing sustainable infrastructure, financiers, insurers and investors have the opportunity to reinvent conventional capital-heavy project finance products, creating dynamic, cutting-edge solutions while generating substantial shareholder value.

This is an opportunity that project finance must not miss.

This article is part of the Industries in Transition campaign. For more articles from the campaign, click here.

Back to CCIB News and Views

Click here