Building an Allianz

David Jones talked to the magazine a word about wind explaining how to do deals in new markets and how the firm has grown through tough times.

The UK’s decision to leave the European Union in June will cast a long shadow over many major European investors – but means opportunities for cash-rich players.

Allianz Capital Partners, the alternative asset investment platform of German insurer Allianz, is in this cash-rich group. The firm owns wind farms worth over €3bn in Europe and the US, and funds deals off its balance sheet. This will mean it can keep doing deals even if uncertainty following Brexit causes problems for commercial lenders in Europe.

A journalist of a word about wind went to meet David Jones, head of renewable energy at Allianz Capital Partners, in his office in Knightsbridge in London to discuss the investor’s strategy in the wind sector, and its key deals in the last 12 months, including its move into the US.

He also discusses plans for emerging markets, lack of interest in offshore, and challenges for the global economy.

Jones says the UK’s Brexit vote would have little impact on the firm’s investment plans. Allianz has not bought wind farms in the UK for reasons including long-term power price uncertainty, energy policies, and because the company is uncompetitive against other bidders after it has priced currency risk into its deals.

“The Brexit vote doesn’t really change anything for us as we were not UK market participants anyway, but it does certainly increase the currency risk issue. That is even more uncertain after the Brexit vote,” he says.

Jones started his career in the mainstream power sector, working on coal, gas and nuclear power stations. He held senior business development positions with natural gas firm El Paso, UK utility National Power and US firm Sithe Energies before moving to Shell, where he was head of the company’s wind division.

He joined Allianz Capital Partners in October 2004 before the company made its initial commitment to renewables in 2005, when it announced plans to invest €300m-€500m in onshore wind in Europe by 2010. In the event, the fallout from the global financial crash of 2008 helped the firm grow its wind portfolio twice as quickly as planned, to €1bn by 2010.

“The immediate aftermath of the financial crisis, in 2009 and 2010, was a very good time for us. There was a shortage of project finance, and we really benefited from that. There were people pulling back from deals because they couldn’t get the financing and we were able to step into deals, so it helped us for a while until things normalised,” he says.

Developers have found little issue with availability or cost of capital in the interim years, but ongoing uncertainty in Europe is again providing an opportunity for firms like Allianz.

Growing in wind

The initial €500m that Allianz Capital Partners committed to wind, back in 2005, came from German insurers and life asssurance firms; and the company invested it through its Allianz Renewable Energy Partners (AREP) I and II funds.

It then diversified its investor base in its following three funds — AREP III, IV and V — to include French and Italian investors.

The business has also diversified in terms of the markets it has invested in. AREP I and II started by investing in schemes in Germany, France and Italy, but has since broadened out to invest in projects in Sweden, Austria, Finland and the US.

It typically invests in schemes worth €50m-€250m on an unleveraged basis, and favours operational assets or those in the construction phase as this restricts its exposure to development risk.

In total, Allianz Capital Partners has built a portfolio of 71 renewables assets, of which 64 are wind farms and the other seven are solar parks. The company made a move into solar in 2010 and 2011, when it bought seven solar schemes in Italy and France, but it has not done further solar deals because it has not seen good returns in its preferred markets.

Jones says that buying low-risk assets outright tallies with Allianz’s risk-averse strategy. By not investing in the development phase, Allianz Capital Partners is protected from the risk that a project could be refused or fail to secure a transmission link. In addition, by buying a project outright it cuts its exposure to risks caused by low wind speeds or power prices.

He says:“A wind farm is naturally volatile... and, if you’re 80%-plus leveraged, then a low wind year may mean you’re still servicing the debt but you’re not producing any dividend for the equity, whereas we are much less exposed to that. If we get a low wind year we get proportionally less revenue, clearly, but our returns are much less exposed to that volatility.”

One market that Jones and his team have avoided is Spain, where the market is paralysed after the government stopped new renewables subsidies in 2012 and made retrospective cuts in the following two years. Jones says avoiding Spain was more luck than judgement.

“We were fortunate not to have any investments in Spain. We looked at Spain and bid for assets, but we didn’t have any success, so we had a bit of luck really in avoiding that,” he says.

Making it stateside

You could also argue that Allianz Capital Partners has struck it lucky in the US. Jones says his team started looking at the market in May 2015 and, after further investigation, agreed its first deal in the country in December. This coincided with the US Congress extending the nation’s wind production tax credit for five years, which is set to mean further opportunities.

The firm’s first US wind deal concluded in February, when Allianz Capital Partners bought the tax equity in EDF Renewable Energy’s 250MW Roosevelt and 50MW Milo wind farms in Roosevelt County in New Mexico in a deal alongside Bank of America Merrill Lynch.

It followed this in May by taking a tax equity stake in a 200MW wind project in Texas in a deal alongside State Street Corporation. Jones says that the firm planned to move into the US regardless of any extension of the PTC, and expects more deals this year.

“We realised that, if the production tax credit was not extended, then it might be a relatively short initiative, but we would hopefully still have made several investments,” he says, and adds that there is still uncertainty given the phased reductions in the PTC through to 2020.

“I would certainly say that for the next couple of years we’re pretty confident. We’ll just have to see after that.”

“It’s still potentially limited. Nobody knows what’s happening with any certainty post 2020. There’s a staircase of reducing production tax credits until then and it remains to be seen how viable projects will remain as the staircase goes down. I would certainly that say that for the next couple of years — this year and next — we’re pretty confident. We’ll just have to see after that.”

The difference in the firm’s approach in the US market is driven by the US system, where investors do not receive subsidies in the form of feed-in tariffs. Instead, inves- tors either invest in the cash equity for the scheme, where they receive cash benefits of energy sales, or tax equity, where they gain tax benefits such as accelerated depreciation. Allianz Capital Partners invests in tax equity as it can then send those tax benefits to its parent company.

Jones says one of the biggest challenges in the US and Europe is the high prices being paid for wind assets, but adds that returns are still attractive compared to government bonds.

He says that typical returns from wind farms are now 5%-6% in all European markets on Allianz’s own risk assumptions, but that they were as low as 4% for new German projects.

“We’re all in danger of overpaying for assets, but it’s not just wind assets. I think the price of assets has generally got very high.”

“It’s got worse. Absolutely. We’re all in danger of overpaying for assets, but it’s not just wind assets. I think the price of assets has generally got very high, which is due to an oversupply of capital and an undersupply of good assets,” he says.

Further diversification

Following the US move, Allianz Capital Partners is looking to expand into new markets in the next couple of years. Jones says that the company has been considering deals in riskier developing markets in Africa, Asia and South America, but that it would be looking for higher returns than it could get in Europe in exchange for the potential higher risks.

He says: “Where the returns are higher, the risks tend to be higher as well. We are scanning the markets to find where the risk-return balance is acceptable, so that is where there is good solid renewables legislation, regulation, rule of law, political stability and so on. But I don’t believe we will be going to real frontier markets.”

Jones says the attraction of dealing in stable wind markets in Europe is that investors are very unlikely to lose their money, particularly those buying assets outright: “It would require an extremely unlikely combination of circumstances to result in you not recovering your investment cost over the operational life of a wind farm.”

“As you move into more exotic markets, the actual risk of capital loss increases, so it’s a big decision to move out from an environment where you perceive the risk of capital loss to be negligible to where there’s a credible risk of capital loss. To do that, you need to be able to see materially better returns in the base case... and feel that you are getting properly compensated for taking that extra risk. That’s how we look at developing markets.”

This means that Allianz Capital Partners could potentially do a deal outside Europe and North America in 2017, but no sooner, and there are likely to be opportunities in Europe as the start of formal Brexit negotiations increases volatility.

Indeed, Europe was the focus of the firm’s diversification in 2015.

Last July, Allianz Capital Partners entered Austria by buying four projects with combined capacity of 65MW from Austrian developer ImWind, for an undisclosed sum.

It also made a move into Finland by buying the 21MW six-turbine Jouttikallio project from local firm OX2 in a deal that completed in January 2016, again for an undisclosed sum. The scheme is due to complete by the end of this year.

Offshore Scepticism

One area where Jones does not expect to do imminently deals is the offshore sector, because he says that he does not see high enough returns for the extra risk. He says that, as Allianz Capital Partners is a euro-based investor, there are currency issues with doing deals on schemes in UK waters. He says that once the currency risk is factored in, “we are pretty close to seeing an onshore return for an offshore risk, and that doesn’t make sense”.

Meanwhile, he says that support structures in Germany, which is Europe’s second-largest offshore wind market, offer feed-in tariffs for less than ten years, which does not give long-term certainty. After those ten years, the project’s owners gain their returns from selling the electricity at market prices, but Allianz is bearish on the future direction of energy prices.

Jones adds that there are a large number of unknowns about the performance of offshore wind farms after their first ten years.

“We don’t see a good enough return to justify the risks of investing offshore.”

“If it’s a wind farm that has been ten winters in the North Sea, it definitely won’t be as good as a new one. What’s the availability going to be like? Without a tariff above the wholesale electricity prices, the risk to that business after the tariff period, often only ten years in Germany for example, is pretty high and we don’t see a good enough return to justify that risk.”

However, he says there is good potential in the emerging offshore market in France, where the government is looking to build 3GW of capacity by 2023 and an extra 3GW after 2023. Allianz does not take development risk, which means it is still far too early for it to do deals in French offshore, but Jones says the combination of 20-year feed-in tariffs and the euro currency make it more appealing. It could get involved by the end of this decade.

The company’s investment strategy will continue to be flexible in the face of big changes in Europe, and the potential election of Donald Trump as US president, which could be a disaster for wind and renewables more widely. Trump is a climate change sceptic and has threatened to pull the US out of the Paris climate change deal agreed in December.

“One has to be flexible,” he says. “That’s the key to being able to manage and grow the business by being diversified, by being able to move around geographically. That’s what we’re trying to do.”

Given the big challenges facing Europe, that is what it will have to do.