Innovating Finance for Infrastructure Development
Joint Article with Olivia Vaughan
By Olivia Vaughan, Bcom Law Cum Laude, MBA, and Hügo Krüger, BEng Civil Engineering, MSc Nuclear Civil Engineering
Catalytic Development
Infrastructure development is essential for a country's economic growth and progress. However, developing countries often face a deep funding gap, which limits their ability to invest in infrastructure necessary to drive economic growth and catapult hundreds of millions of impoverished people into prosperity.
One of the challenges to combating global inaccessibility to basic infrastructure and increase standards of living is the sizable chasm between the risks that financial institutions are willing to take, and the ability of the developing country to afford pricing in that risk.
For this reason, Multilateral Development Banks, like the World Bank created by the United States and its allies after World War II , provide a mechanism for providing affordable loans to developing countries.
According to the World Bank, almost 700 million people live in poverty and subsist on less than $2.15 per day. That is roughly R40 per day at the current rate of exchange. Astonishing given the sheer volume of humanitarian funding and lending from Multilateral Development institutions, in an age where we have the technological capability to overcome the most basic obstacles to extreme poverty.
Critical infrastructure, which will catalyze economic development in regions facing these dire situations, is also a lucrative financing opportunity for pools of liquidity seeking alpha in the current global economic downturn, as cash seeks asset based hedges to inflation.
Non-Concessional Lending Facilities
Multilateral Development Banks (MDBs), including institutions like the World Bank and the Asian Development Bank, have been key players in financing infrastructure projects in developing countries. These banks typically allocate substantial funds to support projects such as electricity, transportation, energy, water supply, and telecommunications.
The actual amounts can vary annually and depend on factors such as the banks' budgets, global economic conditions, and the specific needs of recipient countries.
MDBs offer financial assistance to developing countries by borrowing money from international capital markets at interest rates similar to those available to developed countries. They are able to do this because their member governments provide guarantees that allow them to borrow.
Donors contribute 5%-10% of the value of the capital shares as payments to the MDBs, with the rest provided as a guarantee, and not as direct cash payments to the receiving countries. This guarantee, known as "callable capital," is only transferred to the MDB if needed and can be called upon if necessary.
Electricity Infrastructure
Access to electricity is a crucial cornerstone to alleviating poverty, promoting economic growth, and improving living standards. It is an essential social and economic indicator. The link between electricity and GDP per capita is one of the strongest correlations in the social sciences.
The generally accepted definition of access to electricity, includes the provision of electricity, safe cooking facilities and a minimum level of consumption.
The International Energy Agency (IEA) takes a more holistic approach to its definition, requiring households to meet a minimum specified level of electricity, which gradually increases over time and is based on whether the household is in a rural or urban environment.
The set minimum threshold, according to the IEA, is currently at 250 kWh per year for rural households and 500 kW per year for urban households according to the IEA.
According to the US Energy Information Administration (EIA), the average annual electricity used by a US residential customer in 2022, was 10,791 kWh. This equates to an average of roughly 900 kWh per month, 43 times the minimum rural threshold accepted by the IEA..
China, who have approved over 100 new build coal projects near or adjacent to industry, are also the first country in the world to successfully operate a High Temperature Gas-Cooled Reactor-Pebble-bed Module (HTR-PM), at the Shidaowan site in their Shandong province.
Incidentally, the base technology used for the HTR-PM, comes from the South African Pebble Bed Modular Reactor (PBMR) project, which was permanently put on hold in 2010. Partly due to many South African engineers and scientists, having been absorbed into research and development companies all over the world, imparting their knowledge and assisting these countries to build reliable and clean power stations.
In South Africa, the HTMR-100, is a privately funded, Generation IV, Small Modular Reactor, in its final stages of engineering design and development. At its late stage of development and globally respected team, headed up by the Nuclear Scientist and head of Stratek Global, Dr Kelvin Kemm; it is currently attracting a lot of attention globally.
South Africa also has the third largest Uranium reserves in the world, at an impressive 166 thousand metric tons, or 166 million kilograms of Uranium. As a matter of fact, 1 (one) kilogram of uranium-235, the most prevalent isotope utilised in nuclear reactors, has the same energy potential as burning approximately 24,000,000 (that is 24 million!) kilograms of coal.
At the coal face, South Africa has the 8th largest coal reserves in the world and supplied in 1990, more than 50% of Africa’s electricity. In 2001, its utility, Eskom, won the title of Power Company of the Year at the Global Energy Awards.
Both Coal and nuclear-powered energy, are proven technologies, that have millions of safe kilowatt hours of electricity generation under their collective belt. They provided the foundations on which modern first world economies were electrified and industrialised.
These are two technologies, that are not only historically proven to be efficient at energy generation, but they are also going through rapid innovation, bringing the world cleaner, greener and safer, reliable base-load electricity.
Nuclear Energy
France relies heavily on nuclear energy, with approximately 70% of its electricity being derived from this source. This policy was put in place through the Messmer Plan to ensure energy security in the wake of the 1973 oil crisis. In 2014, the government aimed to reduce nuclear power's share of electricity generation to 50% by 2025; however, political pressure from the unions, made it impossible for President Macron to execute on the policy and the target was postponed to 2035, before ultimately being abandoned in 2023. Despite this, in February 2022, France declared plans to construct six new pressure water reactors (PWRs) and consider building eight more, as well as a smaller 300MW Small Modular Reactor (Nuward). The nation's very low cost of generation has made it the world's biggest net exporter of electricity, earning over €3 billion annually. France is a global player in nuclear technology and exports reactors, fuel goods, and services. Recycled nuclear fuel accounts for roughly 17% of France's electricity.
High Efficiency, Low Emissions Coal
The term "clean coal" is now being used to describe ultra-supercritical and supercritical coal-fired power plants that are highly efficient, with thermal efficiency of 42-48%, and produce low emissions. These power plants are also known as high-efficiency low-emission (HELE) plants. Although the capital cost of implementing ultra-supercritical HELE technology can be 20-30% higher than traditional sub-critical units, operating at a higher efficiency result in a 75% reduction in emissions and fuel costs when compared to sub-critical plants. Supercritical steam generators operate at extremely high temperatures (about 600°C) and pressures (above 22 MPa), where the liquid and gas phases of water are no longer distinct. In Japan and South Korea approximately 70% of coal-fired power comes from supercritical and ultra-supercritical plants.
Water Infrastructure
Ensuring sufficient water supply is vital for global food and energy security, economic progress, and supporting livelihoods worldwide. However, many regions face a concerning water shortage as demand for this resource, increasingly outweighs its availability.
This problem stems primarily from a lack of investment in water services and inefficient management of water during the processes of collection, treatment, and reuse.
Unfortunately, policymakers and economic planners tend to overlook the fundamental importance of water, leading to intensifying water shortages in various parts of the world. Bulk water services are also almost always critically linked to stable electricity supply required to pump water through reticulation systems and purification plants.
Today, South Africa's 995 water treatment facilities, process 7.5 billion litres of waste water per day. That is the equivalent of over 80 million bathtubs full of water per day, or 29 billion bathtubs full of waste water every year. Johannesburg, the largest city in South Africa, relies on an artificial river system that uses bulk water infrastructure to supply the needs of the city and surrounding urban settlements.
In 2022, the Water Institute of Southern Africa, released their Green Drop Report on their audit of South African waste water treatment systems.
The report verified, that in 2021 a total of 334 municipal wastewater systems were found to be in critical condition, which accounts for 39% of all systems. This is a significant increase from the 29% (248 systems) reported in 2013.
The percentage of systems in a critical condition varies across provinces, with Limpopo having the highest at 78%, followed by Northern Cape (76%), North West (69%), Free State (67%), Mpumalanga (43%), Eastern Cape (39%), Gauteng (15%), KwaZulu Natal (14%), and Western Cape (11%).
Out of the 115 DPW systems, 102 (89%) were found to be in critical condition, which is a further increase from the 84% reported in 2013.
In a round table discussion on the state of the Vaal River Water system in Gauteng South Africa, world renowned trans-boundary water specialist Prof. Anthony Turton reaffirmed the need for innovation in water systems in South Africa when he said, “We don’t have water problems, we have idea problems.”, a statement that provoked robust discussion and confirmed the need for out of the box thinking to solve complex problems.
A New Approach to Infrastructure Investment Models
Given the urgent nature of the crisis faced by developing economies and the increasing availability of both deep technology and digital technology; it stands to reason that the next logical step would be to use innovation in technology to increase the pace at which critical infrastructure is financed and deployed.
South Africa, with deep capital markets and world class financial and banking rails, is primed for regulated Fintech investment mechanisms. These mechanisms are poised to provide attractive annuity income for investors, resulting in capitalisation of critical infrastructure projects in under-served regions.
H2O Securities, led by entrepreneur Julius Steyn, a Public Liability Company registered in the United Kingdom, has developed an innovative funding mechanism based on its business model that provides leasing for water infrastructure assets on 5-15 year arrangements.
The result is sustainable long-term lease annuity income streams from both private and public sector clients. The company generates revenue and profit by selling these leases to credit line providers at a net present value margin (off-balance sheet leases) or keeping the leases on the book for the lease contract period (on-balance sheet leases).
The innovation comes in the form of a Fintech solution, a financial services technology platform designed to connect credit line providers, underwriters, equipment manufacturers, distributors of water treatment equipment, and water plant owner-operators.
The ecosystem created by this platform allows these parties to inter-operate in a way that traditional finance methodologies simply do not allow. It is because of the limitations of traditional financiers, that the current funding gap exists, making this ecosystem a game-changer in critical infrastructure financing and deployment.
Furthermore, these leases, underwritten by top tier insurers and re-insurers, include stringent, contractually binding Service Level Agreements. These agreements dictate terms under which the assets are operated and maintained (O&M), in accordance with underwriting risk compliance requirements. This alone, drastically reduces operational risk exposure for both investors and infrastructure project promoters.
O&M contracts would have had to have been concluded in any event and by including these Service Level Agreements before contractual close, investors and citizens, are shielded from the risk of major infrastructure decay, often experienced in developing countries.
Although France has attempted this with their “Assistance technique” in African countries previously, the way that technology has developed, allows countries to access affordable funding, without having another country mediate on their behalf.
By using block-chain technology to track real-time plant, maintenance and scheduling performance, the Fintech solution reduces human error, and provides valuable real time data for engineers and capital managers to optimize resources.
New, regulated, and safe funding mechanisms, that connect the multiple stakeholders required to execute large scale infrastructure development, are critical to developing countries in which the infrastructure is constructed, and to liquidity pools seeking low risk, long term annuity income, such as pension funds and life insurance. Because the risk is underwritten by top tier insurers, based on the safety and transparency afforded through real time data ledgers, institutional crowding in is achievable.
The mechanisms involved in smart contracts, mitigate various financial risks, including corruption and contractual fraud, and paving a new way forward for existing and new investment pools.
In a working paper published in 2018 by think tank, ODI, Judith Tyson’s key findings suggest that international financing institutions should adapt their approach to include syndication and securitisation to crowd in institutional investors, offer more attractive foreign exchange and political risk hedging, and deepen domestic market participation of pension and life insurance.
The way new and innovative financing mechanisms are designed and deployed, will enable infrastructure development in developing countries that was previously out of reach and provide new liquidity channels for investors, in both domestic and international markets.
About the Author:
Olivia Vaughan is the Director of Westman Vaughan Pty Ltd, a strategy company specialising in Trans-boundary Circular Economy innovation in which capacity she heads stakeholder relations at Stratek Global Pty Ltd. She is an investor in businesses spanning multiple industries and holds a Bcom Law and MBA from the Northwest University. She is based in South Africa.
Hügo Krüger is a YouTube podcaster, writer and civil nuclear engineer who has worked on the design of various energy-related infrastructure projects, ranging from Nuclear Fission, Nuclear Fusion, Liquified Natural Gas and Offshore wind Technologies. He currently resides in Paris and regularly comments on energy and geopolitical matters.