The economic repercussions of the coronavirus pandemic are souring some of the key ingredients for merchant renewables development, leading industry players to anticipate a short-term setback for unsubsidized wind and solar plants.

But while certain transactions have been delayed by the crisis, momentum is expected to pick up again as nationwide lockdowns ease and investors realign their businesses to the new market reality.

Developers had increasingly been building renewable power plants without government subsidies in countries from Spain to Norway and Germany before the pandemic hit. While many are backed by large companies buying electricity directly from projects to power factories and data centers, others are set to generate revenues pegged entirely to wholesale power markets.

Fully merchant project development will likely slow in response to the pandemic, which is exerting short-term pressure on power prices, making it harder to access debt financing and leading to caution from equity investors, Fitch Ratings said in a May 5 report.

"This sudden shock may have a significant effect on fully merchant structures," Fitch analysts said.

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Across Europe, power prices have taken a hit from reduced demand as industrial engines have ground to a halt and workers have retreated into lockdowns. In Great Britain, the crisis has lowered power demand by 17.2% compared to the same period in 2019, consultancy Cornwall Insight found, with similar drops in France, Spain and Italy. Germany saw a less pronounced decline of 11.5%.

Models from think tank Aurora Energy Research project that a less severe COVID-19 scenario could return power prices to pre-crisis levels by 2022, but its worst-case scenario would delay a full recovery until 2025. For market-exposed wind and solar plants, this means developers and their financiers are now seeing revenue forecasts dwindle.

"The subsidy-free energy transition risks being damaged by the low power price," said Hanns Koenig, head of commissioned projects at Aurora.

Citing market uncertainty, Swedish utility Vattenfall AB recently pulled out of an unsubsidized offshore wind tender in the Netherlands, while executives at First Solar Inc. are concerned that some customers of its solar module business will have trouble securing project financing in the current environment.

Aurora said merchant revenues could drop by up to half in the next two years, depending on the severity of the economic downturn after the crisis. The think tank now sees as much as 34 GW of merchant developments at risk up to 2025, with such projects previously expected to become more prevalent in countries such as Poland and the Netherlands.

Tighter lending conditions

Due to the uncertainty around project economics, some market players have observed a slowdown in project financing transactions. Where projects are backed by corporate power purchase agreements, or PPAs, certain equity sponsors are looking to ride out the downturn to get better PPA terms, and banks are taking into account increased risk of default by PPA counterparties.

While many PPAs are agreed at fixed prices, the majority still have some merchant exposure, said Gerard Pieters, head of origination in Europe for German bank Norddeutsche Landesbank Girozentrale's energy division. PPA prices are typically below wholesale power prices, and sponsors treat the merchant element as their upside.

As a result, the fall in power prices will impact bottom lines. "Certain projects, on the equity side, will see lower income now than would have been anticipated ... The big question, ultimately, is how long this disruption will last," Pieters said.

On the other hand, for pure merchant projects, momentum does not appear to have slipped, even if investors are adapting to the new market environment. "We are not seeing a slowdown [in merchant transactions]," said Roger Font, global director of project finance and specialized lending at Banco de Sabadell SA. "I think [sponsors] have adjusted their expectation about the electricity price curve."

Miguel Angel Amores, director of renewable energy and environmental technologies at Triodos Bank NV in Spain, said developers now need to make do with lower leverage and will benefit more than ever from a PPA with a strong off-taker. But banks such as Triodos, which is specifically geared toward lending to environmentally sustainable projects, as well as other domestic and international lenders are unlikely to turn their backs on unsubsidized development as long as developers can cope with the tighter conditions, Amores said.

"Even in the current environment, with a lot of uncertainty about the future, we are receiving a lot of requests for term sheets from different sponsors," Amores said. Developers are renegotiating prices with landowners and contractors to make up for lower power prices in their calculations, Amores added. Costs for grid permitting are also expected to fall as some players are expected to pull back from the market amid the crisis.

Amores said bankers will need to form a clearer view on the economic outlook and its effect on power prices before signing new loans, leading to a pause in market activity until the second half of the year. "Probably everything will slow down, but the [long-term] growth will continue," Amores said.

The temporary impact will not be felt in the same way across the developer landscape. Utilities with strong balance sheets are less likely to face tough questions from banks given they often finance projects without bank debt, relying on a large pool of customers as a secure outlet for their electricity.

Instead, "you may find pressure on some of the smaller participants," said Ian McCarlie, partner at law firm Pinsent Masons LLP.

Long-term view

The large tech companies and other energy consumers that have fueled the corporate PPA market might want to avoid locking themselves into long-term contracts while power prices are low. On the other side, developers may prefer to wait out the price slump to snag a better deal later.

"Some of the bigger players will have the ability to sit on their hands and see how things pan out," said Ronan Lambe, legal director at Pinsent Masons, adding that even advanced projects that are now being reassessed could weather the crisis, with buyers taking a long-term view on power prices and corporate sustainability goals.

Among both banks and corporate off-takers, "there is more scrutiny of forward prices than there has ever been," Lambe said. "But deals can still go through. Price certainty is really critical, and so is the ability to demonstrate compliance to internal and public carbon-reduction targets."