Webcast Reviews

Why lenders are adopting an eco-system approach to green risk

Share

Low carbon asset classes are demanding a fresh approach to risk analysis

Summary

Asset finance lenders are having to evaluate an entirely new set of criteria as the European economy greens. It is no longer sufficient to assess the asset’s technological performance to establish a residual value forecast – its entire eco system has to be taken into account. The future values of battery-powered heavy goods vehicles, for example, depends on the buyers of used electric trucks having easy and cost-effective access to suitable charge points. And used hydrogen-powered plant and equipment will only have a value if future users can conveniently refuel with hydrogen.

Addressing these issues at AFC’s European Unconference, sponsored by Alfa, delegates addressed the Catch-22 situation of not wanting to take the risk on unproven assets until the required infrastructure is in place, while acknowledging that infrastructure will only develop when there is guaranteed demand from users.

“The guaranteed supply of the fuel is driving our view on residual values,” said one delegate.

The result is a stand-off, with some lenders deciding not to fund new ‘clean’ assets, particularly when their traditional disposal channels might rely on exports to countries that lag well behind in their charging and hydrogen infrastructures.

One possible solution, especially for captives, is to provide an as-a-service offering that bundles the supply of energy with the asset. This might involve securing grid capacity and supplying high powered chargers, or guaranteeing the delivery of hydrogen to the customer’s site.

The difficulty is that it will also require customers to make seven-figure investments in infrastructure designed to last 10 to 15 years for assets they will cycle every five years. The risk of infrastructure becoming obsolete if technology advances in a different direction is clear.

Further complications arise from the multiple links in the supply chain of plant and machinery, given that 80% of this equipment is acquired by hire companies that subsequently rent it to third party customers. Each of these end-users will have its own unique requirements in its own geographical locations, exacerbating the challenges of providing as-a-service offerings.

Moreover, the need to create a flourishing used market for these machines and vehicles is even more of an issue, amplifying residual value alarm bells.

“It’s all well and good seeding the new technology with PLCs that have a mandate to find a green solution, but when the machine leaves those businesses where do we put it next?” asked one delegate.

The traditional model of financing an asset for a fixed period, after which the customer makes a profit on disposal and orders a replacement, is an awkward fit in this new green world. Even in EV-pioneering Scandinavia, lenders are pushing finance rather than operating leases to transfer the residual value risk to customers.

For businesses carrying this risk, one expert suggested setting forecasts no higher than projections for diesel plant, trucks and buses of a similar age and use, despite battery-powered assets costing three to four times more when new. Buyers of second-hand assets have their own budgets, and simply because an asset cost several times more to acquire initially does not mean used buyers will pay this multiple.

Even the major corporates that are driving progress to net zero may see their commitments to new eco technologies wobble, depending on how environmental reporting requirements change.

In broadbrush terms, the EU currently appears to consider any assets that are zero emission at the point of use as zero emission. But more sophisticated science-based analyses reveal this to be a flawed approach.

The triple-whammy of energy-intensive manufacturing processes to make battery-powered plant and vehicles, the high CO2 emissions of electricity used to power factories in manufacturing powerhouses, such as Germany, and the even higher CO2 grid emissions at the point of use in some markets, such as Poland, mean that a forensic whole lifecycle appraisal of some new technologies is likely to find that some are actually higher emitting than the diesel equipment they are replacing.

“We combined Volvo’s numbers in the construction, use and disposal of an electric bus versus a diesel bus in Europe, and then we took the European Energy Commission’s numbers for the carbon emissions of electricity generated in the EU,” said one delegate. “And we saw that in two-thirds of the EU, the electric bus actually generates more carbon emissions than a diesel bus in normal use, if you take the wholelife chain together.”

More detailed analysis revealed that while the electric bus would start to have a smaller carbon footprint than its diesel equivalent after just six months in Sweden, it would take 12 years to reach this point in the Netherlands, and would never be carbon cleaner during its entire life if it were operated in Germany.

This exposes the uncertainty over definitions of ‘clean’. Local air quality certainly benefits from replacing diesel with battery power, but global warming is being driven by carbon emissions.

Lenders argue that governments and investors need to adopt a common-sense approach to transition finance, which is funding progress towards net zero. Governments and major banks appear to be reserving advantageous terms exclusively for financing zero emission assets, but considerable carbon savings could be made by supporting ‘stepping stone’ assets that are significantly cleaner than their predecessors, even if they are not yet zero emission.

However, securing accurate data to support these arguments and to fulfil reporting requirements is hugely problematic. Even within the EU the difference in national grids, from renewable power in Norway and Sweden, to gas-power in Germany and coal power in Poland, make science-based targets difficult to calculate, while international comparisons with countries such as China expose the wide variance in the methods used to calculate and report carbon emissions.