Ohio opens the gates to economic growth and GHG reduction through a green public-private partnership
What is the best way to use government dollars to speed the deployment of cutting edge renewable energy technologies while creating jobs and growth at home and not destroying private incentives? It’s sort of a trick question in that there is no single answer and the strength of the American system is the diversity of its responses to such questions. The Ohio Energy Gateway Fund is one promising experiment being run out of Ohio, one of the fifty policy laboratories that are the US states.
The Ohio Energy Gateway Fund is a private equity style investment fund that has been initially seeded with public dollars. Specifically, the State of Ohio has allocated $40 million ($30 million in federal stimulus funds and $10 million from the Ohio Bipartisan Job Stimulus Act of 2008) to two investment managers, Enertech Capital and Arsenal Venture Partners to invest in local “advanced energy projects and companies.” These investments must be “Ohio-based” and must be in “commercially viable projects” “ready or near commercialization” in the areas of renewable energy, efficiency, fuel cells, generation III or later nuclear, energy and efficiency services or other related areas.
According the request for proposals issued by the state, key features of the program include:
- the public money will be invested as debt at the fund level, not at the level of portfolio investments. This means that the government will not have the primary claim on portfolio level cash flows or assets (i.e. the government is “structurally subordinated”), which should facilitate investments by other investors (e.g. banks providing debt capital) at the portfolio level;
- the fund’s business model must demonstrate a preferred return on the portfolio to the government of 5-10% commencing within 3 years of the investment;
- each public dollar must be matched by at least 1 private dollar (1:1 leverage ratio);
- the fund manager must form an investment committee to evaluate and select investments and the government, through a private sector consultant, will only have a non-voting role; and
- the government agrees to reinvest its returns in the fund.
The fund managers were selected after a competitive bidding process that led to Enertech and Arsenal being appointed and respectively allocated $30 million and $10 million in investment commitments. The investment horizon is 10 years with a requirement that 40% of the public funds under management be committed within 12 months of fund commencement and the remaining 60% by April 30, 2012.
There are many reasons to be optimistic about the success of the program. First, the structure properly aligns incentives. Because professional managers run the fund and the government only has an indirect nonvoting role on the investment committee, the government will not be selecting the investments (i.e. “picking winners”), an area in which the fund managers have demonstrated expertise and the government does not. Second, the public dollars will be co-invested in proportion with the private dollars, which should ensure that the fund managers have adequate incentives not to take excessive risks with the public money. Third, no equity private investment will be crowded out because by investing debt at the fund level, the government is leveraging, not diluting the equity invested (while simultaneously protecting the public interest insofar as the debt receives a preferred return prior to equity). Fourth, as mentioned above, the fact that the government is not taking direct security over the project assets ensures that the government investment will not be a barrier to attracting debt or equity investors at the project or company level.
We think the Ohio Energy Gateway Fund is an exciting, well-designed project that strives to mitigate many criticisms of government involvement in the private sector and which, if successful, could be replicated in other states or at the Federal level as one of the products of a “green bank” or “Clean Energy Deployment Administration” (also known as "CEDA") that is contemplated in legislation currently before Congress. Greater public funding commitments and increased private sector leverage targets could enhance the impact of the program, but there is also clear value in building consensus around the success of smaller steps.
Whether Congress acts or does not act in the near future to invest in our low carbon, high growth future, we expect (and encourage) Ohio and other cutting edge states to continue leading in renewable energy and efficiency policy innovation.