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Staying ahead of the energy transition

With renewable energy asset valuations and new oil and gas investment in question, energy investment is being redefined by electrified transport, hydrogen and energy storage…

With renewable energy asset valuations and new oil and gas investment in question, energy investment is being redefined by electrified transport, hydrogen and energy storage…

Though many institutional investors in private equity have taken a hard line on new oil and gas investment in recent years, the idea of a longer, more rational energy transition that does not marginalise populations in the developing world is becoming more widely accepted.

But although hundreds of billions of dollars still need to be invested in oil and gas production to meet global demand, it is the number of investment opportunities related to low carbon power generation that looks set to grow at a faster rate in the next decade.

In Europe, energy M&A deal volumes are at their highest level for 15 years, according to a report by law firm CMS in February.

“With the regulatory clock running down, businesses are looking to offload carbon-intensive assets when opportunities for optimisation have been exhausted,” according to the firm’s head of energy and climate change, Munir Hassan. Power and transmission – including renewable energy – generated the most M&A in Europe last year, with a total of 442 transactions in 2021, putting the sector far ahead of oil and gas (73 deals) and utilities (69 deals), according to the report.

Positioning for these opportunities, the number of energy-transition- oriented funds has grown by over 12x in the last 15 years, according to Hamilton Lane, with the bulk of that coming in the last three years. The energy transition attracted USD755 billion investment last year, a 25 per cent increase over 2020 and a more than 20-fold increase since 2004, according to figures published by BNEF.

Valuation anxiety

Renewable energy in particular is now an established sub-asset class of its own, and cuts across energy M&A, private equity, infrastructure/ real assets and impact investment strategies, making it fiercely competitive and driving anxiety recently over asset valuations.

“Renewable energy is very competitive,” says James Magor
at Actis. “It doesn’t matter the strategy everyone wants to invest in renewable power. But it’s an enormous pie so there’s enough for everyone to have a slice.”

Private equity firms are accessing the growth in renewable energy through early-stage development risk, buy and build strategies and green lending, as with Blackstone’s new sustainable credit platform for renewable energy companies.

But while renewable energy represents around half of all investment in energy transition and climate technology, investment in electrified transport, which exceeded USD270 billion last year, is growing 10 times faster, according to BNEF. Of course, only a small proportion of this was made by private equity funds. VC and PE climate tech investment hit almost USD54 billion last year and was fairly consistent throughout the year even as public market activity shrunk to near-zero in April and again in October 2021.

Private equity and VC investment in the space will grow year-on-year. Fund managers such as UK-based Zouk Capital, which manages around EUR1 billion, and France-based Meridiam have identified and raised private equity or infrastructure fuds specifically targeting electric vehicle charging infrastructure and sustainable urban mobility.

Energy storage, hydrogen and carbon capture and storage (CCS) are other areas where private equity investors are building strategies and deploying capital.

Lapis Energy, a Texas-based carbon capture and storage company, said in January that private equity player Cresta Fund Management will fund the company’s origination, development, and implementation of CCS and clean hydrogen projects. It is worth noting that Lapis Energy was formed in 2021 under executive Brian Maxted and Glen Cayley, former vice president of Shell UK.

UK-based company Storegga, which is building one of the largest CCS facilities in Europe, counts GIC, Singapore’s sovereign wealth fund and Mitsui & Co and Macquarie as investors and received over GBP30 million in government funding for the project last year.

The International Energy Agency reported in October 2021 that governments have committed at least USD37 billion to the development and deployment of hydrogen. In the same way that subsidies and policy support provided revenue certainty for wind and solar power investors, the same is expected for green hydrogen and electric vehicle charging infrastructure too.

Green and greenest

French private equity player Ardian and H2- focused asset manager FiveT Hydrogen launched a joint venture last year called Hy24 that is targeting EUR1.5 billion for its first hydrogen fund, making it the largest to date. Insurer Axa has pledged to join French and Asian industrial groups as an anchor investor. Other hydrogen funds are expected to follow, targeting specific markets globally where policy and projects are being developed. In February, the Biden Administration in the US announced a series of initiatives worth USD9.5 billion to support the development, production and transportation of clean hydrogen around the country.

Energy transition technologies will need investments of around USD131 trillion by 2050, according to the International Renewable Energy Agency (IRENA). Around 80 per cent of this is expected to come from the private sector, with debt financing growing to a 60 per cent share within that, says IRENA.
Some of this investment will be in renewable energy, but investments in gas infrastructure in developing countries, in Asia for example, and in the deeper decarbonisation of more complex sectors and companies will also feature.

“We’re seeing the emergence of different kinds of transition strategies and it’s something that we;4er thinking deeply about,” says Magor at Actis. “Th easiest thing in the world is just to say, well, we’re going to stick to the greenest if teh green. But actually, that’s to what society in there world needs to transition. Then hard fact is that the energy transition from coal to gas in Asia is probably as fundamental as the rest of the world transitioning.”  

The ability of buyout funds to take controlling stakes in carbon- heavy companies and use active management to drive outcomes gives private equity a unique role in the energy transition – for example in buying up firms that might be under managed from an ESG perspective.

“I think that there’s a lot of additionality there because not every manager is going to bother doing that,” says Colin Etnire at BC Partners. “I think that that’s perhaps the difference between the broader ESG sector and what private markets can do for ESG. Our asset class has this advantage.”

Read the rest of the Private Equity Wire Insight Report: Creating Values: Behind the ESG Revolution in Private Equity

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