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How to mobilize energy and power investment in emerging markets

Developing countries face a two-fold energy challenge: to improve energy access and to participate in a global transition to clean, low-carbon energy systems.

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The clean energy transition in developing countries will require tens of trillions of dollars in foreign direct investment. Ongoing political and economic crises may deter investors from deploying this much-needed investment, especially in countries where there is perceived to be additional risk. One effective tool to mitigate risk and improve financial return prospects is political risk insurance.

Developing countries face a two-fold energy challenge: to improve energy access and to participate in a global transition to clean, low-carbon energy systems. Foreign direct investment (FDI) is one solution, given the potential for investments in the energy sector. Renewable energy, efficient technologies, and the extractive industry are three areas where FDI has been increasing. FDI can also spur economic opportunities in emerging markets. 

But the ability of emerging markets to attract and retain investment is made more difficult by today’s challenging global and domestic macroeconomic environment. Globally, the pandemic, economic uncertainty, geopolitical tensions, and competition for resources have dampened investors’ confidence. Domestically, governments are focusing on national security (including energy security) and reshoring, while across borders, the post-war globalized, free market order of open investment, and trade has given way to increasing regional fragmentation and politically driven interventions.

A stable regulatory and political environment are often priority considerations for companies before they commit to investing in a region. This is why getting investment into developing regions can be complicated, as weak institutions, fragile business environments, and political instability are more commonplace.

While the above challenges are acute, there are ways to alleviate some of the risk and improve financial returns on energy projects. Policy reforms, legislative measures, government-backed export credit agencies, and multilateral organizations are well-known levers to help attract FDI to emerging markets. Less well known, but significantly effective in helping companies to weather political and economic crises, is political risk insurance (PRI). This coverage acts as a safety net against policy decisions or actions by a government or political forces. In volatile markets, PRI can help to secure infrastructure or provide protection on contracts for the supply of goods or services. 

There are numerous examples of political risk affecting energy and power companies in terms of infrastructure, operations, and profitability. These risks include excessive government regulations and breach of contract, war and political violence, and expropriation of assets. On the back of today’s complex political and economic landscape, and the slowing pace of the energy transition, these risks and opportunities look set to become more prominent.

In a recent Marsh and S&P Global paper, we examined how businesses can understand and quantify country risk in the context of emerging market direct investments in energy and power. S&P’s findings show how PRI can mitigate country risk and enhance the project’s returns. PRI coverage can also help projects attract debt and equity financing, mitigate asset impairment risk, and facilitate project exits, in addition to protecting project assets.  

To highlight this, we assessed a hypothetical (and identical) gas-fired power generation project in three countries where there is perceived risk: Brazil, Ghana, and Indonesia. Using S&P Global’s Country Risk Investment Model (CRIM), which incorporates 21 country risk factors (a subset of which precisely maps to coverages provided by a political risk insurance policy), we modelled the country risk premium (CRP) for each project, before and after applying political risk insurance. The results show that a well-crafted PRI policy measurably lowers the CRP and cost of capital, while raising the project’s valuation and the investment’s internal rate of return. 

Note: The above analysis assumed that the project had obtained a full package of political risk coverage; benefits would be reduced if not all standard PRI coverages were included in the policy.

In the case of Ghana, PRI cover moves the expected project net present value (NPV) out of negative territory with a full seven-notch improvement in country risk when converted to a sovereign credit rating scale. The project’s risk profile and return metrics are effectively improved with PRI – upending popular notions that PRI is “expensive” and reduces investor returns – showing that PRI literally “pays for itself”.

Political risk is unavoidable for energy operators and developers in some regions. As the energy transition becomes more urgent, investment in new energy infrastructure is likely to be directed to emerging economies where political risk may be a bigger consideration. And, with the current worrying geopolitical and economic situation showing no sign of abating, these types of risks are likely to become more evident even in well developed countries. Up to now, the benefits of PRI for the energy industry have not been clearly demonstrated. But S&P’s new research, commissioned by Marsh, shows that political risk insurance should be considered to enhance project valuations, protect investor returns, make projects bankable, and help accelerate the energy transition.

To learn more about how Marsh can support your risk management, please speak with your Marsh contact or one of our credit specialty experts. Read about the full findings of the Marsh and S&P Global study A new perspective on the cost and benefits of political risk insurance for foreign direct investments.

Pri claim for wind power project in Ukraine

A consortium of private investors built a wind farm in Ukraine. Equity and shareholder debt was raised to fund the project. The equity investors procured PRI through Marsh, covering their investment against inconvertibility, expropriation, political violence, forced abandonment, breach of contract, and denial of justice. 

On February 24, 2022, following the invasion of Ukraine by Russia, the staff on the wind farm project were evacuated. Four days later, Russian forces consolidated and expanded control of the region, where the project is located. The project’s high-voltage power line was severed and the sub-station was damaged, rendering it inoperable. Underwriters concluded that there was coverage, and after the waiting period for forced abandonment expired, the claim was paid in full by the private market providers of the policy.


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