Solar Financing in India: Challenges to Reducing the Cost of Capital


Guest Blog by Nehmat Kaur, NRDC India Representative.

The renewed sense of optimism within India’s solar market sparked by the announcement of the Phase II guidelines of the National Solar Mission (NSM) last month was palpable at the recent Intersolar conference in Mumbai as companies announced plans for mega solar power plants. Along with the NRDC-CEEW roundtable on solar financing held in New Delhi last month, the Intersolar conference was instrumental to giving industry stakeholders an opportunity to discuss challenges impacting India’s burgeoning solar market. Despite the evident optimism, the general consensus from both stakeholder gatherings is that obtaining financing for solar projects and reducing the cost of capital pose major obstacles to scaling solar in India. 

Based on their experiences during the Mission’s first phase, developers have provided many insights into the financial barriers to grid-connected large-scale solar projects and how to overcome them. The following themes emerged from our roundtable discussion about Phase II of the Mission and the way forward to reduce the cost of capital and scale solar in India.

Viability Gap Funding vs. Generation Based Incentive

Viability Gap Funding (VGF) under Phase II of the NSM aims to provide a capital grant that meets the funding gap to make solar projects economically viable. The VGF mechanism allows developers to seek financing for their projects up front and allows the government to provide one-time support instead of spreading it over 25 years (as in Phase I). Since the VGF covers only a small part of the financing required for a project, developers theoretically need to generate power efficiently and consistently in order to achieve a decent return on investment (RoI) from the project over its projected 25 years. Due to the uncertainty surrounding its impact, however, the upfront VGF does not appear to reduce the cost of capital required for projects under NSM Phase II.

The Generation Based Incentive (GBI) pays per kilowatt produced, which decreases over time. The GBI, unlike the VGF, directly incentivizes improving the efficiency or output for a project.  Additionally, the minimum project size (10MW) under the Mission’s second phase – intended to ensure that relatively serious and experienced developers would bid under the project – contributes to reducing the skepticism attached to generation of solar power under NSM Phase II’s VGF. 

Rooftop solar array at Kuppam i-community office. (Photo by Ho John Lee under Creative Commons licensing.)


Phase I of the NSM designated NTPC's Vidyut Vyapar Nigam Ltd (NVVN) as the nodal agency for purchasing solar power. NVVN was authorized to enter into Power Purchase Agreements (PPAs) with the developers and provide power “bundled” with fossil fuels directly to the distribution utilities. Phase II, however, allocates the Solar Energy Corporation of India (SECI) as the implementing organization of the NSM to achieve the targets set therein.

Developers have expressed concern about SECI being the right organization for the successful deployment of Phase II.  According to popular opinion, even though NVVN and SECI are ultimately both government-backed power trading companies, NVVN’s considerably larger balance sheet (assuming they can offset losses in solar through other power trading investments) provides confidence to investors that are contemplating financing their projects.  Hence, the perceived risk associated with the relatively newer SECI does not help reduce the cost of capital for financing projects under Phase II of the Mission as compared to NVVN.

Risks Perceived by Lenders

The cost of obtaining capital for renewable energy projects in India, especially solar, is commonly considered high. The perceived risks range from technology risk (low for solar in India) to developer risk (low – medium) and ultimately to counter party risk (high), all of which may make financing more expensive. The high counter party risk in India arises from the inability of the distribution companies (DISCOMS), who are the ultimate buyers of solar power, to pay for the power they purchase. DISCOMs in India are mandated to purchase renewable power to fulfil renewable purchase obligations (RPOs), but thus far, power from renewable energy sources has proven more expensive.

The availability of low-cost financing from foreign sources under Phase I has been attributed as a key to the success of the initial phase.  Following completion of Phase I, financial institutions have gained confidence that projects can become operational, and their market knowledge about the major players and project performance has increased. The percentage of non-performing assets (NPAs) accruing to banks from renewable energy projects are much lower than those associated with other kinds of projects. The success of Phase I has reduced the cost of capital for solar developers in a sense by increasing the financial institutions’ familiarity and confidence.

However, despite this decrease in skepticism, many banks that are mandated by the government to provide a minimum percentage of their annual loans to renewable energy projects still refuse to finance projects once that limit has been reached. Developers believe this unwillingness to lend is reducing with every passing year of successful solar projects coming online.

Availability of External Sources of Finance

Developers believe India’s recent economic slowdown and the associated currency depreciation and inflation have decreased some foreign direct investment (FDI) in India. Foreign financial agencies like the US Export Import Bank (EXIM) and the Asian Development Bank, however, continue to finance solar projects.

A possible alternative is to tap infrastructure funds to finance solar projects in India or for the Ministry of New & Renewable Energy (MNRE) to encourage SECI to issue tax free bonds for solar projects and raise financing through that channel. Despite suggestions, India’s macroeconomic state is not helping developers approach international financiers for raising cheap capital. 

Implementing Successful International Mechanisms

Looking to financing mechanisms employed by countries with successful renewable programs such as Brazil, the United States, Germany, China and Norway offers other potential schemes to motivate India’s solar market. Other countries’ versions of India’s renewable purchase obligations (RPOs) program have been incredibly successful in spurring clean energy growth, making it clear that enforcement of RPOs are integral to sustained solar growth in India. Although it is not clear that RPOs are enough to drive down the cost of capital, RPO enforcement by the central government is vital for the future of the renewable energy market in India.  The current vicious cycle of a lack of financing for solar projects and the consequential failure to meet RPO standards by the Indian states further exacerbates the challenge of expensive financing.

The discussions at Intersolar also raised some mechanisms that could help reduce the risk and the high cost of financing in the future.  From the lender’s standpoint, various risk mitigating options such as using multiple lenders to share the risk or employing various debt structuring options could be implemented. Some of the more specific measures proposed included:

  • Multiple lenders to share the risk (syndicated debt, portfolio financing, platform funding, conduit financing)
  • Debt structuring options (mezzanine debt, bridge loans, construction loans, buyers credit, vendors financing, refinancing)
  • Alternate options for payment recovery
  • Hedging against interest rate fluctuations and currency rate fluctuations
  • Loan repayment guarantee arrangements
  • Risk sharing with local partners (for international funders)

For the project developer, optimizing project bankability and reducing cost of capital, improving analysis of technology selection and quality control, increasing predictability of performance, utilizing past track records and third party ratings, and maintaining an EPC framework on projects could be instrumental in increasing investor confidence and reducing the cost of capital.

To enable the renewable energy market to reach its full potential across India, evaluating international best practices, major information gaps and the expected market failures are key first steps. The recent discussions at the CEEW-NRDC roundtable and Intersolar enabled stakeholders to identify many of these gaps and financing mechanisms. Phase II is certainly another step in the right direction to support a robust solar market, but it is clear that fostering a financial ecosystem is imperative to the long term sustainable scalability of solar in India.

Contributions from Meredith Connolly, Energy Law and Policy Fellow