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«A thesis submitted to the Bucerius Master of Law and Business Program in partial fulfillment of the requirements for the award of the Master of Law ...»

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Project Finance of On-shore wind power in

Uruguay

A thesis submitted to the Bucerius Master of Law and Business Program in

partial fulfillment of the requirements for the award of the Master of Law and

Business (“MLB”) Degree

Diego Sánchez Grecco

July 22, 2016

14.355 words (excluding footnotes)

Supervisor 1: Christian Decker

Supervisor 2: Dr. Fernando Jiménez de Aréchaga (h)

TABLE OF CONTENTS

Table of Contents………………………………………………………………………………………………………I List of Abbreviations…………………………………………………………………………………………………..II

1. INTRODUCTION…………………………………………………………………………………………………..1

1.1 Research Problem………………………………………………………………………………………….1

1.2 Course of investigation…………………………………………………………………………………….2

2. WIND ENERGY SITUATION IN URUGUAY………………………………………………………………….4

2.1 Overview of the Electricity Market………………………………………………………………………..4

2.2 Energy Policy 2005-2030………………………………………………………………………………….6 2.2.1 Causes leading to its implementation………………………………………………………….6 2.2.2 The content of the Policy……………………………………………………………………...8 2.2.2.1 A “State Policy”…………………………………………………………………..8 2.2.2.2 Structure and objectives…………………………………………………………..9

2.3 Legal Framework…………………………………………………………………………………………11 2.3.1. Laws & Regulations on the Electricity Market……………………………………………….11 2.3.2 Wind Power laws & regulations……………………………………………………………....14 2.3.3 Tax Incentives………………………………………………………………………………..17 2.3.3.1 Investment Promoting Scheme…………………………………………………..17 2.3.3.2 Decree 354/009…………………………………………………………………20

3. PROJECT FINANCE OF WIND FARMS………………………………………………………………………21

3.1 Concept and basic elements……………………………………………………………………………....21 3.1.1 Concept……………………………………………………………………………………...21 3.1.2 When to Project Finance…………………………………………………………………….23

3.2 Project Planning………………………………………………………………………………………….24 3.2.1 Structure…………………………………………………………………………………….24 3.2.1.1 Participants……………………………………………………………………....24 3.2.1.2 Legal Structure………………………………………………………………….26 3.2.1.3 Financial Structure…………………………………………………………….....27 3.2.2 Key Project Agreements……………………………………………………………………..28 3.2.3 Equity raising………………………………………………………………………………..30 3.2.4 Timing……………………………………………………………………………………….31 3.2.5 Security……………………………………………………………………………………....32

3.3 Risks and costs…………………………………………………………………………………………...33 3.3.1 Cost structure………………………………………………………………………………..33 3.3.2 Risks to be considered……………………………………………………………………….35

4. COMPARATIVE ADVANTAGES OF URUGUAY……………………………………………………………..38

4.1 Country Facts…………………………………………………………………………………………….38 4.1.1 Political system and foreign direct investment………………………………………………..38 4.1.2 Market structure……………………………………………………………………………...40 4.1.2.1 Existing Infrastructure…………………………………………………………...40 4.1.2.2 Geographic conditions…………………………………………………………...41

4.2 Financial perspective……………………………………………………………………………………...42 4.2.1 The role of PPA’s and the state-owned utility………………………………………………...42 4.2.2 A profitable business…………………………………………………………………………44





5. CONCLUSION…………………………………………………………………………………………………….46

5.1 Summary………………………………………………………………………………………………….46

5.2 Critical Acclaim…………………………………………………………………………………………...47 BIBLIOGRAPHY……………………………………………………………………………………………………..49

LIST OF ABBREVIATIONS

DNE National Board of Energy of Uruguay FDI Foreign Direct Investment ECA Export Credit Agency EPC Engineering, Procurement and Construction GDP Gross Domestic Product IP Net Wealth Tax IRAE Corporate Income Tax IMEBA Agricultural Products Sale Tax km Kilometre kV Kilovolt MIEM Ministry of Industry, Energy and Mining of Uruguay MMEE Wholesale electricity market MW Megawatts MWh Megawatts hour kW Kilowatt PFI Project Finance PPA Power Purchase Agreement R+D+I Research, Development and Innovation SIN National Interconnected System of Uruguay SPV Special Purpose Vehicle T&D Power Transmission and Distribution UK United Kingdom of Great Britain URSEA Regulatory Agency for Energy and Water Services USD US Dollars USD/MWh US Dollars per Megawatts hour UTE Uruguay’s state-owned utility VAT Value Added Tax W Watt

1. INTRODUCTION

1.1 Research Problem

On-shore wind power in Uruguay has experienced a significant growth over the last decade. With 22 % of the country’s electricity coming from wind energy, Uruguay has become the leading country in Latin America and one of the world’s leaders1. In 2005 the country had no wind generation at all and relied heavily on hydropower electricity and the imports of traditional resources such as oil and gas. In December of 2015, Uruguay had 26 on-shore wind-mill farms operating in its territory with an installed wind capacity of 856 MW and, by 2017, such capacity will be increased up to 1613 MW. Wind power will produce 38% the electricity in 2017, positioning Uruguay as the world’s leading country after Denmark (42%)2.

Having these changes took place, wind-energy will become the main source of renewable energy in a country where 92% of the power production comes from renewable sources3.

Project finance (PFI) is a form of financing where the lenders –either through a loan or the issuance of bonds- provide money for the development of a project based on the project earnings, future cash flows and the assets of the project as collateral. A typical PFI structure involves an independent economic unit (Project Company) created only for the purpose to carry out the project’s activity. The Project Company will repay the debt service from its future cash flows, coming mostly from a long term off-take or power purchase agreement. A unique feature of project finance is the limited or no recourse that lenders have against the parent company sponsoring the project (Sponsor), which means that they will have either limited or no access to the assets of the Sponsor in case of the project’s bankruptcy or default. Since the 70s, project finance has become an attractive source for private companies and governments in order to boost infrastructure development with mechanisms such as guarantees, long-term off take agreements and off-balance sheet treatments for the project’s shareholders4.

Martins, Cómo Uruguay logro ser el país con mayor porcentaje de energía eólica de América Latina, in: BBC Mundo of 1 14.3.2016, http://www.bbc.com/mundo/noticias/2016/03/160314_uruguay_energia_eolica_am (last visited July 19, 2016).

2 Thwaites, How Uruguay Became a Wind Power Powerhouse, http://www.wri.org/blog/2016/03/how-uruguaybecame-wind-power-powerhouse (last visited July 19, 2016).

3 Uruguay XXI, Uruguay, a la vanguardia en la generación de energía en base a fuentes renovables, 17.3.2016, http://www.uruguayxxi.gub.uy/inversiones/uruguay-a-la-vanguardia-en-la-generacion-de-energia-en-base-afuentes-renovables/ (last visited July 19, 2016).

4 Alexander, Clean Technology Project Finance Primer, Jeffries & Company, Inc., 13.2.2009, p.276.

1 This thesis aims to identify the reasons why on-shore project finance of wind mill farms has been successful in Uruguay. Special emphasis will be given to the state policy concerning renewable energies, the country’s legal framework and the tax incentives given to wind-power projects. Furthermore, the topic of project finance will be addressed, specifically the concepts regarding the planning process, the cost structure and particular risks involving project finance on wind farms. In addition to this, the comparative advantages of Uruguay as a country will be analyzed from an investor’s perspective, considering some country facts such as geographic conditions and existing infrastructure as well as the role of the state-owned utility in the financial viability of this type of projects.

1.2 Course of Investigation

Based upon the research question that has been formulated in Chapter 1.1, an analysis of the current wind energy situation in Uruguay is done in Chapter 2 by providing an overview of the electricity market and its characteristics. Furthermore, the Energy Policy 2005-2030 will be explained by making reference to the situation before 2005 and the causes which lead to its implementation. The reason why this policy is considered a state policy will be explained as well as its structure, objectives and results achieved so far. The final part of Chapter 2 will contain an explanation concerning the legal framework in the country, the investment promoting scheme and the particular tax incentives given by the national government to onshore wind power projects. The first part of Chapter 3 will address the general concept of Project Finance and its basic elements and characteristics. Later on, the second part will address the application of project finance to on-shore wind power, specifically the project planning, key project agreements, equity raising, timing and security measures. In the end of Chapter 3 special consideration will be given to the cost structure of on-shore wind farms and the specific risks applicable to this kind of projects.

Following this last two chapters, Chapter 4 will analyze the comparative advantages of Uruguay for project finance of on-shore wind power. For instance, its solid political system, investment friendly environment, the local market structure and the country’s natural geographic conditions. The last part of the analysis will consider the investor’s point of view by explaining the importance of power purchase agreements in the financial viability of on

–  –  –

Finally, Chapter 5 will contain the conclusion addressing the point of why on-shore wind power project finance has been successful in Uruguay since 2005, with a critical acclaim in the end containing the research limitations and further concerns beyond the research question.

–  –  –

In Uruguay, the national state-owned utility (UTE) plays a major role in the structure of the electricity market. This company, born in 1912, used to have until 1997 full control –by means of a monopoly- of the production, power transmission and distribution (T&D) and trading of electricity. In June 1997, the state monopoly regarding production was deleted and therefore private companies (either national or foreign) were allowed to participate together with UTE in the production activity on a free competition scheme. Despite the market opening for production, UTE still maintains the monopoly on power T&D and trading. The 1997 reform also allowed private companies engaged in production to get free access to the transmission and distribution lines operated by UTE5.

The National Interconnected System (SIN) of Uruguay is composed, on one hand, by a 700 km line of 500 kilovolts (kV) which connects the biggest dam in the north-west part of the country called Salto Grande (950 Megawatts of full potential) with Montevideo, the main consumer centre and capital city of the country. This connection is done through two smaller intermediary dams called Palmar and Rincón del Bonete located at the Rio Negro river, which crosses the entire country from east to west. On the other hand, there is a 3,549 km network of 150 kV which connects the rest of the power plants in the country to the major cities and consuming centres6. The population’s access to electricity in Uruguay is one of the highest in Latin America with an average connection rate of 98.7%7.



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