Emerging markets require 13 trillion electricity investment

02 February 2016 Consultancy.uk

To meet growing demand in emerging markets for electricity, up to $13 trillion will need to be invested between 2015 and 2040, a WEF and Bain report finds. As private sector capital is becoming more and more important in financing the required investment in the region, yet tend to pay poor returns, creating a stable investment environment becomes crucial. Following agreements at COP21 about what is required to meet the 2.0C limit, as well as the future possibility of reducing the target to 1.5C, countries can now start to create the stable environments required to meet investors’ expectations.

Meeting climate change policy objectives set out broadly at COP21, as well as changes in supply requiring new distribution models, are likely to come to affect the utilities markets in the coming years. Demand for electricity, particularly in emerging economies, also continues to grow. As it stands, up to 1.2 billion people lack access to electricity, while many others remain dependent on intermittent supply.

Providing electricity for a range of goals comes, however, with considerable capital costs. In a recent report from the World Economic Forum (WEF) in association with Bain & Company (a strategic partner of the WEF), titled ‘The Future of Electricity in Fast-Growing Economies’, the cost of investment is quantified as well as barriers to investment considered.

power market required investment

Investment needed
The COP21 conference has set a roadmap for the power and utilities sector, with as aim the further decarbonisation of the fuel supply in favour of sustainable energy sources. Creating the capacity to meet that demand will, as is highlighted by the report, be tricky. As demand increases across developing countries, sticking to the commitments necessary to offset dangerous climate change – as agreed on during the November conference – will require considerable investment in renewable energy forms as well as distribution nets.

As it stands, the investment profile of developed countries weighs in favour of renewables (around half of additional supply), with around $7 trillion worth of investment required to meet policy objectives. Transmission and supply account for around a third of the total required investment. In terms of yearly investments, around $260 billion is required to meet demand and developed nations’ policy objectives. Emerging economies will require almost double the investment of developed economies, totalling around $13 trillion between now and 2040. Almost half of that amount needs to be invested in transmission and supply, while renewables accounts for around a third of total investment. In total, up to $528 billion in investment will be required per year between 2016 and 2040 for the policy objectives to be met.

The reliance on fossil fuels in emerging markets is, in the model used by the WEF report, considerably higher than in developed economies. According to the International Energy Agency’s report, on which the model is based, considerable advancement in fossil fuel technology will need to be made – as well as policy directives – to allow the COP21 commitments, as well as further future aims of limiting warming to 1.5 C, to be met.

poor utilities return on investment

Market prices
Against the backdrop of the massive scale of the investment required in the coming decades the authors warn that emerging countries are likely to face considerable issues funding their capital expenditures. Historically, 60% to 70% of the investment in the power sector of non-OECD countries has come from the public sector compared to 45% in the European Union, 25% in Japan and 20% in the US. Yet over the next few decades investment from the private sector is likely to play a more significant role – this is especially true for emerging markets where public coffers are becoming increasingly constrained.

The utilities sector in non-OECD markets, however, struggle to match the returns of broader equity markets, according to the researchers highlighting the challenge ahead toward attracting sufficient funds. Particular utilities in BRIC countries have seen a downward trend and are diverging further from stocks by around 60 points. Emerging market utilities are underperforming emerging market stocks by almost ten points.

Stable policy
The power market as it stands faces considerable challenges from other sectors for capital, these other markets tend to be more predictable, transparent and friendly to investors – both in other sectors within fast-growth economies and in the power sector within mature markets. Creating stability in the electricity market, according to the report, will be needed to bring in the private investment required to meet goals.

eight recommendations

To create this stability the report highlights eight key recommendations targeting three broad categories, regulators, policy makers and business & investors. At the strategic level, creating clear set policy objectives that meet COP21 commitments, as well as the provision to increase these requirements as the world moves towards a 1.5 C target, will provide some stability for the expectations of investors. Policy makers are also advised to embrace technology in order to take advantage of declining digital cost curves and are advised to ensure concerted action across the power value chain.

Regulators should in the view of WEF and Bain pave the way for a level playing field for technologies and ensure there is a sound infrastructure in place, while investors are recommended to embrace public private partnerships, foster favourable investment environment and ramp up investments in education and R&D.

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