COP26 and mobilizing finance

MATHIAS STECK    Hello, and welcome to the 11th series of the DNV Talks Energy podcast. I’m your host, Mathias Steck. In the series so far, we have explored the global target of hitting net zero by 2050, and how actions taken at COP26 have impacted upon this. In this episode, we delve deeper into the key issues of financing the transition, and the role COP played here. Specifically, we look at how capital can be redirected in the right way, and where policy and government support is needed to sustain this. To discuss this, I’m joined by Dennis Jong, Senior Director at DIF Capital Partners. Working in the infrastructure and energy sector, DIF focuses on building diversified portfolios in Europe, the Americas, and Australasia. Dennis gives us his own unique insights, based on his work in financing projects all around the world. We hope you enjoy the episode.

Dennis, many thanks for joining me today. We’ll cover lots of ground today on the topic of financing the energy transition, and the role COP26 plays in supporting this. But firstly, for the benefit of our listeners, could you give us a bit of background about yourself, your role at DIF Capital Partners, and what the company focuses on?

DENNIS JONG    Thank you, Mathias. And I’m pleased to join you on the show today. So, my name is Dennis Jong. I am a Senior Investment Director at DIF. Based in Amsterdam, I am one of the two co-heads of the local investment team. And as a team, we cover the infrastructure and energy sectors. Personally, I have a focus on the renewable energy markets, and look at many different opportunities across Europe. I keep track of the pipeline, and I’m responsible for the sourcing and execution of renewable energy opportunities. Prior to DIF, I worked for a number of years at Vattenfall, where I worked on their portfolio of offshore wind projects in development and construction. Altogether, I have worked for 11 years on renewable energy projects and enjoy being part of a sector that is growing, and growing fast. Where we see many technological developments which you’ll also find appealing, being trained as an aerospace engineer. DIF Capital Partners is a global fund manager that has around €9 billion of assets under management. That money is being invested through two fund strategies, both in the infrastructure and energy space. DIF has been around for 15 years. And of one of the two funds, today we’re investing vintage number six. We see many recurring investors, including institutional investors, such as pension funds and insurance companies. But also sovereign wealth funds, and fund-to-fund investors. The feedback we get from many of those recurring investors is that they appreciate the focus on clean energy, which often goes hand in hand with stable cash flows and predictable returns. In the past, those have often been provided through government incentives, like feed-in tariffs, contracts for difference, and green certificates. But today we see that markets are changing. They’re becoming increasingly merchant, which brings corporate demand to the forefront. Going forward, we see that corporates’ demand, and therefore their willingness to enter into power purchase agreements or PPAs, is going to be the key enabler of the build-out of renewable energy capacity. So, again, happy to be with you on the show today, and discuss how the energy landscape is going to change as a consequence of COP26.

MATHIAS STECK    Many thanks, Dennis. And finance, of course, was one of the key political focus areas ahead of COP26. And we saw a number of pledges made in advance of, and then during the event. I’d like to start by asking you a broad question. In your view, were the spending commitments made by the world major economies at COP enough?

DENNIS JONG    First of all, it’s promising to see that the world is coming together on the issue of climate change. And that itself is a major step forward. I think what is now being widely recognized is the need to reform our energy landscape. And one of the key challenges that we’ll need to resolve is, who will pick up the bill on this? And one of the controversial topics that has been there ever since the Paris Agreement is the transition of wealth from the developed to the developing countries. And what we see when we look back during the past five years is that the developed countries have not been able to adhere to their commitments. So, what has been promising during COP26 is that we now see that some of those commitments are reconfirmed. And that developed, and the more wealthy countries, are committing to step up their contribution to support the developing countries in going through that transition. We see that there are two arguments being used. One of it being that the developing countries have not had the historical benefits of industrialization, and did not have the opportunity to emit a similar amount as the developing countries. And similarly, for those countries to go straight towards an all-renewable economy, they simply don’t have the funding available. So, it is absolutely key for the world as a whole to achieve a net zero emission by 2050, to make this a shared effort. And that is where some of the positive signs of COP26 can be seen.

MATHIAS STECK    So, there is sufficient capital to support a Paris, or maybe we should now say a Glasgow compliant energy transition. But it will require a massive redirection of capital away from fossil fuels towards clean technologies. Could you give us an overview of what exactly this process entails?

DENNIS JONG    So, first of all, what we have seen during the past decade is that central banks around the world have been providing cheap, if not free, capital to the entire economy. Including to fossil fuels. Right now, we’re seeing the first signs of institutional investors, and capital markets in general, moving out of fossil fuel. We’ve recently seen some examples of large pension funds publicly announcing their withdrawal from investments in fossil fuel companies. So, this is a slow process. The first signs are there. But it’s promising overall. An alternative way to look at this, and this is actually what I prefer to do, is to look at companies active in fossil fuels as having a riskier business model than they did in the past. With climate change, with change in the energy system, their business models are becoming obsolete. And for any investor to be active in fossil fuels, that means a riskier investment. And that, at the end of the day, should drive them towards renewable markets. Now, for private market investors like DIF, we have always been operating with a mandate that was focused on clean technologies. In fact, the business was formed around this. We have a mandate to promote renewable energy technology. Our mandate prohibits us from investing in coal and nuclear technology. We will support gas infrastructure only where it is part of a broader transition. For instance, by enabling coal retirements. And that is why, for DIF and companies like DIF, this has been why we are around. So, we have been driving this transition during the past 15 years. It is therefore never a decision that we consciously had to make. It was one of the reasons that we founded. And that will not change going forward. In addition, we have always entered into a net zero commitment ourselves by 2050. And DIF Capital Partners, as a fund manager, has been carbon neutral since 2019. Apart from that, we have subscribed to the United Nations’ Principles for Responsible Investments, which give us guidance to improve, in terms of environmental, social, and governance performance, so ESG performance. And this is also an area that we see increasing emphasis being put on by the investors in our funds.

MATHIAS STECK    So what do you think the biggest barrier to an accelerated transition is? We talked somehow about capital already, but it doesn’t seem to the biggest problem. But there could be a lack of projects. And I’m also worried, if I look at the supply chain, that it develops fast enough.

DENNIS JONG    This is a great question. And you are spot on, Mathias. When we look at market opportunities, we actually see a discrepancy between the big number targets that governments set, and what we see day-to-day when talking to developers. What we hear when we talk to our relationships, being equipment suppliers, being developers, we hear that it is more difficult than ever to get projects permitted. Especially for wind power. We’re even seeing signs of political headwinds for solar projects. Especially where those are being built on land that was previously used for agriculture. We are seeing that grids are becoming increasingly constrained around the world. We see transmission and distribution grid operators struggling to keep up with the increasing capacity of renewables. So, what we see in practice is not a shortage in capital, but rather a lack of investable projects. And this is something that governments should work on to resolve, where they should put their money and resources into. And the market, especially for renewable energy generation, has already proven to be capable of delivering massive capacities.

MATHIAS STECK    So, did you see anything at COP26 which gave you more hope that either the capital side or the unavailability of investable projects will be addressed?

DENNIS JONG    So, my reading is that most progress have been made by governments committing to make capital available. And especially in the area where we mentioned, transfer of wealth from the developed to developing countries. One example we saw in this area is a coalition of the willing, consisting of the US, the UK and a number of EU countries, that will financially support South Africa’s decommissioning of coal capacity and support, thereby, South Africa’s energy transition. In my view, it is much harder for governments to directly facilitate and increase project pipeline. And that is why it is much more of a challenge for them to support developers to beef up their pipeline, and to eventually provide them to investors like DIF. This requires them to rethink their permitting systems, to rethink their incentive systems, to upgrade their grids. And that is all long term. And often we see them getting stuck in day-to-day politics, and the nitty-gritty of local legislation and regulation. So, while I would have hoped to see some promising signs out of COP26 to directly improve project pipelines, in reality we will need to wait and see how things develop. One of the most promising signs is perhaps that one of the commitments that all countries made is to deliver action plans by COP27. So, we’re curious to see what will happen during the next months and year leading up to next year’s meeting.

MATHIAS STECK    From an investor’s perspective, Dennis, what factors are most important in providing the confidence needed to stake capital in low-carbon projects?

DENNIS JONG    That’s a good question. And again, it’s critical for our projects to have predictable and preferably contracted revenues and costs. So, historically for renewables generation, this has been provided by government incentives, like contracts for difference, feed-in tariffs, or green certificates. We’re now seeing that, in the more mature markets, those government incentives are disappearing and markets are transitioning into a merchant market. And renewable energy projects are often enabled by power purchase agreements with corporates. While markets are becoming more volatile on the back of intermittent production from renewable, it is that kind of power price hedge that really enables the build-out of renewables capacity. That is something where governments no longer directly control market demand. But we see an important role for governments to play. So, when it comes to setting the price of CO2 credits, setting up the system or imposing a carbon tax, that will, in the future, be the key enabler of corporates’ demand for energy, and their desire to directly contract with renewable energy generation capacity. What is important there is that when such carbon measures are being implemented locally, that they don’t impede a company’s competitive position globally. And that really requires governments from around the world to come together and impose similar and aligned carbon incentives. And only then will corporates around the world have a similar incentive to enter into those PPAs.

MATHIAS STECK    So, what was the investor’s response to COP? Is that more an upbeat rationale, they feel it will come more? Is the response more muted?

DENNIS JONG    I think following what we just said, we’re hopeful that governments will start implementing the measures that require project pipelines to pick up. After that, we typically see that developers will need some time to start developing projects before they become investable to parties like us. So, as we discussed just before, we’re hopeful that the interim action plans that need to be delivered by COP27 force governments to put measures into place, and take local action to enable further build-out of project pipelines. And we’re available. We have funds to invest when those project pipelines materialize.

MATHIAS STECK    Can you give us some examples from your own experience at DIF where injection of capital is helping to accelerate the transition? And are there any key projects which stand out for you?

DENNIS JONG    I think one good example is our activities in Poland. What we’re seeing there is a coal-dominated economy that needs to go through the transition to become renewable energy driven. Currently, we see that CO2 prices have been driving up prices. And we expect that to remain the case in the short term. In the long term, we see that coal plant retirements will keep up prices. Because of those reasons, in 2019 we started to look at the market. And by now we have six onshore wind projects that are in construction and are expected to deliver clean power to the grids by the summer of 2023. Together with a number of local advisers, including DNV supporting us on the technical side, we have been able to forge relationships with local developers and international construction parties. And we see that when different things come together, combined with government incentives and a desire to drive change, that such change can happen really fast. And if you look at the speed at which renewable energy capacity is built out in Poland, it looks quite promising. Even though they have quite a way to catch up, before being on par with some of the more mature Western European countries.

MATHIAS STECK    And what would you say are the biggest funding priorities right now?

DENNIS JONG    So, when looking at multiple forecasts, and DNV’s Energy Transition Outlook is one of them, you can really see that the energy transition requires a massive amount of funding. But it can generally be split into a public and a private funding need. When looking at investable opportunities for private markets, and that’s what we are eventually after, it seems that by far the largest part is in renewable energy generation and storage. That’s why historically we’ve been investing a lot in wind and solar. And going forward, we expect to continue to do so. In addition, and on the back of intermittent renewable generation, we see an opportunity to invest in storage. We also see hydrogen as a promising development as an energy carrier. And that’s what we’re continuing to focus our business on for the coming years.

MATHIAS STECK    I want to touch on another issue, and that is loss and damage. Particularly the effect it has on developing countries. Has COP helped shine a spotlight on key areas where major investment is needed?

DENNIS JONG    So, previously we discussed the transfer from developed countries to developing countries. And during the Paris Agreement, there was support put in place in three key areas. First, moving out of fossil fuels and towards renewable generation. Second, to rebuild developing countries, societies, to cope with the effects of climate change. And the third is to recover from damage and loss, which is what your question is about. Looking back during the past five years, we’ve seen that there has been a shortage of support for a transition from fossil to renewable fuels. But there was support, nonetheless. We see that the developed countries have not been able to adhere to their commitments to rebuild societies. And there has been virtually no support to recover from damage and loss. So, this is, in a way, a missed opportunity. And also during COP26, we see that the developed countries have recommitted to support developing countries to rebuild their societies. But very little has been done to support them to recover from damages.

MATHIAS STECK    In DNV’s Pathway to net zero report published before COP, we projected that fossil fuel expenditure will fall to around 10% of all energy investment by 2050. My final question to you today is, how will we get to this 10%, and then even 0% beyond that? And did COP do anything to make that happen?

DENNIS JONG    So, today we’ve been talking a lot about what you might call easy-to-abate sectors. Such as renewable energy generation, or electricity generation in general for that matter. What we haven’t talked about yet is the hard-to-abate sectors, such as heavy transport and industry. For those sectors to become neutral, and for fossil fuel investments to indeed go to zero, we will need to find abatement measures for those sectors as well. And what that requires is technologies to mature that are not there today. Including synthetic fuels, biofuels, hydrogen, and carbon capture and storage, CCS. DIF is in the fortunate position that we’re already active in the easy-to-abate sectors. We’re monitoring the maturity of the emerging technologies closely, and we will be there to support the build-out once they do. But this is a key area of concern, where we’re hopeful of developments in the future.

MATHIAS STECK    Dennis, many thanks for joining us today. It was fascinating to talk to you. And I wish you the best of luck with DIF’s many important projects.

DENNIS JONG    Thank you, Mathias. It was a pleasure to be with you today.

MATHIAS STECK    Thanks for joining us for this week’s episode. It’s been a pleasure to discuss mobilizing finance with Dennis Jong, and dig a little deeper into this topic following the COP26 conference. Dennis reminded us that capital is only useful if there are projects to invest in. And it was great to hear exactly where finance is making a big difference to the energy transition. Join us next week as we focus on financing a just and accelerated transition, and how COP26 put important issues into the spotlight. To hear more podcasts in the series, please visit dnv.com/talksenergy.