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Indonesia’s Renewable Energy Boom

October 19, 2010

Electricity generation from renewable energy is beginning to experience a major investment boom in Indonesia, with fundamental structural conditions driving investment. 

In Indonesia, a country of 240 million people, electricity demand has been consistently outstripping new generation capacity in recent years. Without serious action, the Government has realised that the situation will only deteriorate.

Indonesia has weathered the global economic storm well – with annual GDP growth rates still over 6% in 2010.  The World Economic Outlook (WEO) of the International Monetary Fund (IMF) supports the view that Indonesia will continue with an extremely robust pace of GDP growth for years to come, forecasting a 7% growth in GDP in 2015 (World Economic Outlook, International Monetary Fund, October 2010, P200).

However, Indonesian electrification rates still stand at only a little over 62%.  With economic growth, energy demand growth, and population growth, the Indonesian Government has prioritised investment into generation capacity.  renewable energy will be a big beneficiary, and Indonesia is well place to see through the plan.

Foreign Direct Investment (FDI) in the first half of 2010 has soared by a hefty 48.7 percent compared with the same period a year ago, indicating rising levels of trust in the country, according to the Investment Coordinating Board.  FDI amounted to USD 7.8 billion, with Singapore, Hong Kong and the United States the largest investors.  Full year FDI is expected to be $13.1 billion.  Local investors are also bullish, investing $2.4 billion in the first half. 

External debt is conservatively low, standing at USD$150bn which is around 30% external debt to GDP ratio – multiple times lower than most major economies.  In addition, Indonesia has maintained a prudent fiscal policy, with a budget deficit of only 1.7%.  Indonesia has amassed substantial forex reserves of USD$80 billion – more than each of the European Central Bank and Canada – and is implementing policies to constrain large short-term arbitration cash movements.

Much of this success has been the result of continuing reform and progressive policies.

In response to the requirement to increase installed capacity, the Indonesian Government has passed a variety of facilitative policies in order to boost rnewable energy uptake.  These include a  law guiding participation of Independent Power Producers (IPPs); and legislation and regulations to incentivise renewable energy projects in particular. 

Indeed, due to it’s sustainable governance of energy, Indonesia is ranked 31st on the World Energy Council’s 2010 Assessment of Country Energy and Climate Policies – the highest in it’s economic grouping and ahead of several OECD countries – and within the top 10 on some indicators.

Much has already been made of geothermal opportunities by both national and international investors, including India’s Tata Power and Australia’s Origin Energy and Panax Geothermal.

Unlike large projects, small (<10M) hydropower projects are not subject to tender processes, and benefit from an uncontestible direct Power Purchase Agreement process and attractive tariffs.   Small hydro in particular is set to benefit substantially.

Indonesia is not short of hydropower potential.  75 GW of hydropower potential has been recognised, while only 4.3 MW has been installed thus far.  Of this, about 7.5 GW is small hydropower, and only a small amount of that potential has been exploited either.  

At between $1.5-2m per MW to construct, this represents a $15bn investment need for high-yielding assets.

Much of the market potential is readily accessible to end-user markets.  Attractive Power Purchase Agreements are being rapidly closed with State-owned PLN.

In addition, small hydro projects have been main beneficiaries of carbon credits (CERs) from the Clean Development Mechanism (CDM) of the Kyoto Protocol, which might add an additional 10-15% to the already attractive revenue prospects.

With most focus being on larger power generation development opportunities, small hydropower projects have not received the attention that they might.

However, small hydro projects are an attractive proposition from a portfolio perspective.  PE Funds including Franklin Templeton and Terra Firma are invested in small hydro development and ownership businesses.  Closer to home (Australia) an industry superannuation fund, IFM, owns the delisted hydropower company Pacific Hydro, which has hydro assets in Chile, the Philippines, and Australia.

Small projects are attractive in particular as they  are developed rapidly to point of commissioning and operation due to a streamlined licensing and power offtake agreement process; have high capacity factors, environmentally sustainable attributes and low installed cost.

For a well-understood, proven technology class with high returns to equity possible there is a golden opportunity for the right venture.

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