AD projects in the UK are leveraging innovative revenue streams such as gas-to-grid integration, RTFCs, and CO₂ recovery to enhance financial viability. These trends present an attractive proposition for lenders

Financing anaerobic digestion (“AD”) projects has historically been a challenge due to significant capital expenditure, high running costs, volatile revenues and other perceived risks around the actual process.

However, until around a decade ago, projects could rely on FITs and ROCs to support electricity generated from CHP units and RHI payments to support gas injected into the grid. Raising debt finance for an operational asset with these support payments and documented operational history was therefore possible as this mitigated a number of the risks.

Most AD plants in operation today benefit from one of these subsidy payments. As these are no longer available for new developments the financial landscape of AD projects has evolved, primarily driven by innovative revenue models that go beyond just electricity generation and RHI payments.

Revenue streams from additional gas-to-grid integration with the Green Gas Support Scheme, associated subsidies like Renewable Transport Fuel Certificates (RTFCs) and carbon dioxide recovery are gaining traction, making AD projects more attractive again to debt providers.

The approximate income from some of these revenue streams is shown below.

Gas-to-Grid Integration

Biomethane, produced by upgrading biogas, is a renewable and sustainable alternative to natural gas. Under the previous subsidy regimes, a number of AD plants were built with gas-to-grid connections; however, many of these projects involved contractual arrangements with Air Liquide rather than direct management of the equipment and sale of the gas through a Biogas Purchase Agreement (BPA).

A key trend recently is to install new gas-to-grid connections to inject biomethane into the national gas grids and to manage the sales of the gas through a BPA. This gives the projects access to current high gas prices and also allows for price fixing which provides a stable revenue which is very attractive to lenders. Furthermore, where projects already have a CHP unit in place, it allows the sponsor to optimise returns by choosing whether to run the CHP or to inject gas into the grid.

Unusually, this is also an area that benefits from a new subsidy – the Green Gas Support Scheme. Under this scheme generators are able to apply for a 15 year support payment which is linked to CPI. This is a very attractive revenue stream when looking for debt finance.

Renewable Transport Fuel Certificates (RTFCs)

RTFCs have also emerged as a potential revenue driver for AD projects, particularly those that supply biomethane.

RTFCs are awarded to producers of renewable fuels that are used for transport. Crucially, the generator is still eligible for the certificates through a sleeving arrangement. Therefore existing gas-to-grid plants that are not eligible for the Green Gas Support Scheme are able to sell their gas to transport companies that take their supplies from the grid.

The pricing of the subsidy is more volatile than the Green Gas Support Scheme, so this option is probably a second choice for new generators; however, governments are mandating increased use of renewable fuels in transport which has resulted in increased demand for RTFCs.

RTFCs are also tradable, allowing producers to optimise their value based on market conditions.

We think that this stream of revenues would certainly be useful for sponsors, but would need to be part of a larger mix to attract debt finance.

CO₂ Recovery

The capture and commercialisation of CO₂ from biogas upgrading is an emerging trend that also enhances AD assets’ economics.

The process involves separating carbon dioxide during the biomethane upgrading process and selling it to industries such as food and beverage, agriculture, or even for carbon sequestration purposes.

With increasing focus on carbon-neutral solutions, demand for sustainable CO₂ sources is rising.

Many AD projects are now integrating CO₂ capture technologies, supported by government grants or incentives for carbon capture and utilization (CCU) initiatives.

Again, this is very much a nice to have revenue stream and would need to be part of wider revenue mix to attract debt finance.

Waste management and gate fees

The investor case for many of the existing AD plants relied on gate fees for processing food waste. Unlike other sectors, such as biomass, AD plants were being paid to receive feedstock. Unfortunately, some of these fees have not been as high as expected, and in some cases, AD plants have had to pay for the waste.

The tightening of environmental regulations, including landfill bans and the future organic waste separation mandates should increase demand for sustainable waste treatment solutions like AD. Many in the sector are confident that gate fees will rebound to investor expectations from a number of years ago. Location of competitors and proximity to food waste will remain a key driver to the pricing.

For project sponsors, securing long-term contracts for waste supply with steady gate fee revenues enhances the financial stability and bankability of AD plants.

Revenue stacking

Many of these revenues can be claimed at the same time as shown in the graphs below.

Agriculture

At EM our focus has been on AD plants based on food waste, but there are many agricultural AD plants which use the same technology to process slurry and energy crops such as maize. These fell out of favour as whilst the processing of slurry is indisputably good for the environment, the increasing reliance on energy crops such as maize was not considered to be as helpful.

Traditionally, they have been much harder to debt finance as lenders do not like the exposure to individual farmers who provide the crops and are largely not creditworthy. The perceived risk is that the AD plant may need to source its crops from an external market at a prohibitive cost when delivery is factored in.

That said, for many investors, agricultural AD has been one of their best and most reliable performers.

All the comments above about new revenue streams should apply to this sector as well.

Key considerations

While new revenue streams significantly enhance the bankability of AD projects, they come with challenges.

Gas-to-grid infrastructure and CO₂ recovery systems require substantial capital investment and advanced technology. They need to be designed correctly and installed by reliable bankable counterparties. Lenders may also need time to become comfortable with the new revenue streams.

Furthermore, subsidies such as RTFCs and support schemes for biomethane are subject to political shifts, posing risks to long-term revenues. The value of RTFCs and CO₂ themselves fluctuate based on supply-demand imbalances and policy changes.

Conclusion

The AD sector is rapidly evolving, with new revenue opportunities reshaping its financial landscape. These trends not only improve the financial viability of AD projects but also align them with global decarbonisation goals. For project developers and investors, understanding and leveraging these revenue streams is critical to unlocking the full potential of AD projects in the renewable energy transition.

Elgar Middleton continues to support our clients raising debt finance at project and portfolio level within the UK market. This article highlights our current view of the lending market.

Generally, the UK renewables lending market appears to be in good state – all core technologies are being greeted with appropriate funding solutions and lenders’ commitments to the wider sector continues to show growing robustness.

Lender types & domiciles

The UK renewables market continues to not only attract the interest of banks offering project finance debt but also the interest of institutional investors. Elgar Middleton has seen an increase in interest from institutional investors able to offer debt solutions to UK situated projects/ portfolios although it is important to note that institutional investors have not yet proven to be as competitive on pricing when compared to banks.

Lenders to the UK renewables market come from all over the world. Elgar Middleton is seeing attractive terms from lenders based in North America, Asia and Australia as well as continued support from familiar lenders in the UK and Europe. This is consistent with the view that the UK remains a leading country with regards to net zero energy production and retains an attractive lending environment.

Elgar Middleton will always look at the lenders’ experience in the UK market during a funding competition as this can offer insights into the long-term relationship between the sponsor and lenders.

Debt products available

Lenders continue to offer a wide array of debt solutions to the UK renewables market with the vast majority able to offer project finance debt accompanied by a VAT facility and derivatives such as interest rate and inflation swaps. Furthermore, most lenders are now comfortable with a debt service reserve facility as opposed to an account.

HoldCo financing options such as acquisition finance and revolving credit facilities are still attractive to some lenders, but they are typically preferred by lenders who are not able to compete in the long term asset level project finance market. Furthermore, it is mostly banks rather than institutional lenders who are capable of offering these facilities.

Preferred ticket size

The minimum ticket size for some lenders is now around £25-30m although this can depend on the asset class – the more risky sectors with higher margins can still be profitable with smaller tickets. The sweet spot for many lenders is around £75m on a take and hold basis. Whilst a number of lenders would finance transactions with loans in excess of £100m, they would typically look to sell down some after financial close. This can then lead to discussions around the level of support the sponsors should provide the lenders to help with syndication.

Most financings which require more than £100m of debt will use club deals of at least two lenders. This helps to avoid any discussions, and cost, around underwriting, but it can make it more time consuming to agree terms. This is an area where a well-developed term sheet really helps.

Preferred maturity

It remains the case that shorter term financing is cheaper and easier for lenders to offer than longer term financing. It therefore has the widest range of interested lenders and is the most competitive option; however, typically when a sponsor factors in the refinancing risk and cost, the long term financing option offers better value for money.

There are now a significant number of lenders who can finance a period of construction plus a 15 year CFD. To be competitive, lenders are required to go beyond the CFD period in the form of a merchant tail. The market has not converged on a standard approach, not helped as always by volatile power curves, but we do think that the market now requires some form of merchant tail, typically at least 3 years. We regularly analyse multiple different permutations available to establish what offers our clients the best option.

Whilst subsidy free wind and solar transactions have declined due to the availability of CFDs, if 10-year bankable corporate PPAs returned to the market, we would expect lenders to finance a merchant tail of at least 5 years. As with the CFD financings, there is not a standard approach and the high breakeven power prices since the energy crisis can be hard for some lenders to accept.

We continue to see enthusiasm for merchant-only battery debt financings. This market is being helped by the competitive nature of the optimiser market where floor prices are offering lenders some fixed revenue protections. We continue to see a requirement for a tail between the debt maturity and the warranty expiry and, as a result, notional loan tenors are now around 10-13 years post COD with a legal tenor of around 5-7 years. In comparison to the wind and solar market, the BESS market continues to evolve at a rapid pace. A key part of what we do at Elgar Middleton is to help with this evolution to ensure the sponsors obtain the very best terms.

Elgar Middleton’s role in debt financing

Elgar Middleton has extensive experience in arranging debt finance for solar, wind and BESS projects having closed 45 debt transactions totalling almost £6bn. In addition to comprehensive knowledge of structuring bankable offtake arrangements and financial modelling to optimise a sponsor’s gearing and equity IRR. This experience assists our clients not only in designing their sites optimally from the outset, but also to achieve the lowest cost of capital from the debt markets, thereby maximising their investment returns.

Elgar Middleton is pleased to have advised Bio Capital Limited (“Bio Capital”) on the £26m accordion financing of their UK-based AD portfolio.

Bio Capital Limited owns and operates anaerobic digestion (“AD”) plants in England, Scotland, and Northern Ireland.

The Company has carried out a number of operational enhancements of which the latest is the expansion of CO2 Recovery and Gas to Grid export capacity across the group. The £26m accordion facility will facilitate the funding of these and other capital optimisation projects.

This debt raise follows the original non-recourse financing successfully put in place in 2021, for which Elgar Middleton also acted as exclusive financial advisor to the Sponsors.

The accordion financing was supported by the existing lenders, being Allied Irish Banks (“AIB”), Banco de Sabadell (“Sabadell”) and NatWest Westminster Bank plc (“NatWest”).

Elgar Middleton has extensive debt and equity experience in arranging finance for BESS portfolios, having closed three market-leading transactions in the UK in the past 18 months totalling more than £600m. Our experience covers bankable revenue structures (such as merchant vs fixed / floored optimisation arrangements) and bankable technical arrangements including around BESS duration, warranty length, cycling limits, and degradation curves.

The Climate and Net Zero….

The lowest hanging fruit of the energy transition has long been recognised to be the decarbonisation of the electricity sector, which has been satisfied by a large increase over the past c.20 years of intermittent generation capacity, predominantly wind and solar.

The ever-increasing intermittent generation supply and a move away from large steady state carbon generating power stations create a more volatile energy market, with increased imbalance potential arising from sudden changes in the weather. Unforeseen low wind and low temperatures in the winter can lead to soaring intraday wholesale market (WM) and balancing mechanism (BM) prices when demand massively outstrips supply, or alternatively the prices can swing downward when there are unexpectedly milder conditions and/or strong winds – even giving rise to significant periods of negative pricing due to the surplus of supply versus demand. All of this leads to increased volatility and wider pricing spreads for each MWh bought or sold. The sudden and unpredictable supply / demand imbalance suits BESS which can deploy during periods of high demand at peak prices or receive a premium when there is high supply and negative prices. Over the past 3 years this had led to a huge increase in the deployment of BESS in the UK from under 1GW online at the end of 2020 to 4GW by the end of 2023.

Capacity Market and Ancillary Services

WM and BM revenues are examples of energy trading revenues: participation in a market that (in theory) balances supply and demand in each period to give the best deal for consumers.  The supply of electricity needs to be reliable as well as cheap, giving rise to further opportunities for BESS assets that less sophisticated zero-marginal cost generators (such as wind or solar) might bypass. For instance, the UK seeks to manage a degree of safety margin by awarding Capacity Market (CM) contracts through the National Grid’s Electricity Transmission System. These contracts are awarded on either a one- or fifteen-year basis and provide stable revenues for BESS.

Not only are BESS well suited to responding rapidly to supply and demand imbalances through energy trading but they can also help manage the stability of the grid through frequency response contracts, which in the UK, fall under the umbrella of ancillary services. The current suite of products includes Dynamic Containment (DC), Dynamic Moderation (DM) and Dynamic Regulation (DR). Together these services provide system control services to maintain the grid within 50 Hz +/- 1%, and some (particularly DC) are well suited to BESS given its ability to respond very quickly (sub 1 second) to ensure small deviations from the target frequency do not develop into larger issues. NGESO is responsible for the award and management of these services.

There are some subtleties around the awarding of these contracts, including the time period for which these contracts are held and when they are contracted relative to the delivery of the service, but one important point is that these are in general remunerated on a £/MW basis – unlike energy trading revenues which are remunerated on a £/MWh basis. So (again in general – the experience of specific assets in specific market conditions may vary) shorter-duration or degraded older assets (i.e., assets with lower MWh-to-MW ratios) might expect to see a greater share of their revenues coming from ancillary services rather than the WM or BM.

Dynamic Stacking

There are only limited restrictions for qualifying BESS assets on bidding for CM contracts or ancillary service contracts as well as bidding into the WM and BM in any given half-hour period. This freedom allows BESS participants to stack revenues across multiple revenue streams in the same trading periods. This flexibility increases BESS efficiency in delivering services, increases competition and in turn should reduce costs to the consumer.

In addition to the various stacked revenues relating to delivery of ancillary services or energy trading activity there is also scope for ‘churn’ as the icing on the cake. This is simply unwinding a physical contract to deliver in future (say, in the day-ahead wholesale market) prior to physical delivery (say, by taking an offsetting position in the intraday or balancing markets) for a profit. This is valuable because it allows the asset to respond to rapidly evolving market conditions at almost no marginal cost (including avoiding degradation from the charging and discharging of the asset that is necessary for physical delivery). 12-18 months ago, this revenue stream would have been seen as some sort of esoteric equity upside but is now accepted as a normal part of BESS operations and forms part of a bankable business case.

Optimised and Arbitrage Trading

There is usually a separation between asset owners and asset operators, as there are very different barriers to entry in owning a BESS asset compared to trading power in the regulated electricity markets. As the various revenue streams and asset classes are better understood there have been a number of trading counterparties establish themselves in the marketplace: some of these are inhouse teams of the big utility companies while others are bespoke nimble trading platforms which have joint ventured with a larger corporate to provide bankable products. The range of products has evolved such that ten-to-fifteen-year Optimisation Agreements (OA) now exist with offerings for both fixed price and a floor plus an incentive pass through arrangement to align the interests of an asset owner or financier and an optimisation trading counterparty. Optimisers operate within technical parameters set from time-to-time by asset owners. While a CM contract and OA floor cannot fully protect senior debt it does underwrite a significant degree of market protection, although senior debt providers still need to assume some market risk to participate in the BESS sector.

There is no doubt as the trading platform optimisers evolve there is almost certainly going to be some divergence in performance as those with the most agile platforms will adapt to maximise arbitrage revenues between the physical and virtual markets across both the WM and BM. Many contracts that we see used for debt-financed transactions recognise this optimiser performance risk by ensuring that asset owners have the right to replace the counterparty where performance is poorer than had been advertised.

Duration, Warranty, Cycling, and Degradation

BESS assets are more technically complex than many of the assets that come across the average UK project finance lender’s desk. This nascent market is rapidly adapting to several somewhat unpredictable factors and its impact on both senior debt cover ratios and equity IRRs. The four key technical parameters of duration, warranty, cycling and degradation impact both the project economics and the risk profiles for lenders and asset owners.

BESS duration first began commissioning at one hour in the UK market, but two hours is now the norm. This reflects that historically the ‘buy low, sell high’ approach that underpins arbitrage business models has become increasingly viable as costs have fallen and wholesale market volatility has increased. This trend now means that some of the newest systems now benefit from four-hour duration to offer even greater trading flexibility. Higher storage duration has a non-linear impact on both capital expenditure and revenues so careful analysis is required to ensure it can be properly evaluated from an equity IRR perspective.

Similarly, warranty duration, correlated to senior debt gearing, needs to be considered over various time periods to find the optimum solution between equity IRR and senior debt gearing. Our experience is that the warranty period is often the constraint for prospective BESS lenders and hence paying for an additional warranty at the back end of the expected asset life can ‘pay for itself’ through increased debt capacity – although again this will depend on the cost of the product and the broader warranty package on offer, where there is as yet limited convergence on a market standard offering.

The cycling strategy is a function of the local market dynamics and the optimiser’s deployment plans and there are various conflicting viable solutions in the UK, typically between one and two full cycles per day. Again there are equity and senior debt considerations, as a higher cycling strategy may quite possibly suit both equity and senior debt, given increased revenues, but this comes at a cost (increased degradation) which is non-linear and potentially conflicts with either the cell manufacturer’s warranty package or, for less extreme increases in cycling, with the lenders’ base case – meaning that the cashflow projections late in the asset life become less reliable. These conflicts are often resolved by limiting annual cycling which needs to be included in the equity return calculations. Another option, popular with lenders but not always with sponsors and not always required, is some kind of upside-sharing approach that de-risks lenders. The principle is that if outperformance comes about from higher cycling than base case, then this should pay down debt at the back end of the project where the cashflow forecasts are now less reliable.

Evolution of the Senior Debt Market

When Elgar Middleton first began seeking senior debt for BESS in 2018 there were at most two debt funds willing to consider financing the new asset class. Having now closed three quite different structures there are over twenty senior lenders in addition to a range of debt funds able to finance UK BESS. The approach of different lenders to sizing fixed vs variable revenues, views on floors vs fixed revenue, and debt maturity have hugely different outcomes for sponsors. Unlike solar and onshore wind, one size does not fit all; some lenders will size over twenty years (and factor in a full cell replacement programme), and others don’t require any fixes or floors. More broadly, different lenders make different assessments of both the type of revenues that they class as contracted (most classify ancillary services as merchant, but some classify these as contracted or somewhere in-between the two) and the level of contracted revenue that they require to lend over different time horizons. All of this offers maximum flexibility for a sponsor depending on its key drivers with lots of possibilities to contemplate.

Co-location of solar and BESS

Having financed a mega £500m solar and BESS pipeline in the UK there is huge debt appetite for this combination. Solar and BESS complement one another well, when solar is dispatching there is limited expectation that BESS will be dispatching and so the grid can be shared. This gives a material saving on both time (given the current state of the grid connection queue) and cost with minimal impact on revenue.

The benefit of solar provides a high degree of revenue certainty, which is key for lenders who require a certain level of contracted revenue across the assets taken together; a solar asset with a fixed price PPA with an investment-grade counterparty (or, for newer assets, a UK government-backed CfD) may be largely or wholly contracted, allowing a more merchant approach to be adopted on the BESS. There is also additional downside protection when looking at the assets together, partly from diversification of revenue streams and partly from lenders taking comfort from excess solar cashflows at the end of the asset life being used to support lending against the BESS.

Taken together, this enables a co-located scheme to achieve higher gearing and take a more aggressive optimisation strategy to further enhance equity IRRs while also providing lenders with strong cover ratios. This results in material interest rate margin savings for a co-located scheme versus standalone BESS. We see this effect irrespective of the technical or contractual arrangements for the solar and BESS and so is worth pursuing even on physically separate portfolios of assets (where the cost savings are less material, but the financing benefits are still there).

Bringing it all together

Elgar Middleton has extensive knowledge of, and experience in financing, co-located BESS, standalone BESS, BESS duration, warranty duration, cycling, degradation, floors, fixes as well as the various stacked revenue streams and the interaction between all these factors. For each transaction we will work with the sponsor to develop a bespoke financing strategy and analysis to evaluate a customised physical system and the revenue profile to optimise the structuring of equity IRR and senior debt gearing.

Elgar Middleton is delighted to have advised Arjun Infrastructure Partners on the financing of 22 solar PV farms, totalling 130MWp, in the United Kingdom.

The twenty two operational solar projects all benefit from UK ROC subsidies of varying vintages.

Elgar Middleton advised Arjun Infrastructure Partners throughout the financing process which had some complexities as the portfolio is one of the UK’s more established solar portfolios.

Following a funding benchmark exercise NatWest Bank was appointed to provide over £100 million of long-term non-recourse debt and ancillary facilities and worked diligently with Arjun to close the transaction in a timely manner.

 

Elgar Middleton are pleased to have advised Foresight Group LLP (“Foresight”) on the RCF financing for their ITS Fund.

The Foresight ITS Fund was established to provide a diversified real asset investment portfolio for retail investors. The Fund has been investing for over 10 years in mainly UK situated infrastructure assets, including renewable energy generation, telecommunications, forestry, social infrastructure, and biomethane refuelling.

The RCF provides additional capital for the expansion of the existing portfolio investments and will also provide Foresight greater liquidity during their acquisitions of new portfolio investments.

The facility was provided by Hamburg Commercial Bank AG.

Elgar Middleton was exclusive financial advisor to Foresight on this transaction.

Elgar Middleton are delighted to have advised Cero Generation (“Cero”) on the financing of their 49.5 MW (99MWh) Larks Green Battery Energy Storage System.

Cero was able to leverage the strengths that stem from co-located projects to obtain a robust financing solution.

Elgar Middleton advised Cero through the financing process to secure £26.3m of construction finance. The finance was provided by Rabobank, who also financed the Larks Green solar project.

The BESS project has enabled the establishment of long-term partnerships with both Canadian Solar as the lead on the engineering, procurement and construction (EPC) for the battery, and EDF as the battery performance optimiser. Together, the projects will form the UK’s first co-located solar and battery storage project to feed electricity directly into the transmission network.

This transaction marks the second BESS financing that Elgar Middleton has closed this month and demonstrates the firm’s capabilities in structuring robust financing solutions for newer technologies such as battery storage.

Elgar Middleton are pleased to have advised DIF Capital Partners (“DIF”) on the financing of their UK-based solar generation and battery storage portfolio.

The portfolio consists of seven ready-to build assets equating to a total capacity of 720MW of which 380MW is solar and the remaining 340MW is BESS. Elgar Middleton facilitated the senior debt financing of the first 540MW of the portfolio. The financing encompasses not only senior debt, but an equity bridge loan provided by the group of senior lenders (ABN Amro, ING, Rabobank, NAB, KFW and Lloyds) and an accordion facility to enable the build of the final 180MW of the portfolio.

The first two projects within the portfolio are under construction, with an expectation that all projects will be operational by 2025.

This co-located solar/ battery storage portfolio was acquired by DIF in November 2022, 10% is owned by ib vogt with the remaining 90% sitting within DIF Infrastructure VII fund.

Elgar Middleton is delighted to have advised TagEnergy on the financing of Stage One of the Golden Plains Wind Farm.

With all agreements now in place, building the A$2bn, 756MW Stage One development will begin early in 2023, with the project expected to start producing green energy in the first quarter of 2025. The engineering, procurement and construction work and turbine supply will be undertaken by Vestas and will feature 122 wind turbines.

Once both stages are complete, Golden Plains, which is 150 km west of Melbourne, will be Australia’s largest wind farm at 1,300 MW. It will supply sustainable energy for more than 750,000 homes and feature a 300MW battery storage facility that will add flexibility and stability to the grid.

Elgar Middleton was exclusive financial advisor to TagEnergy, the sole investor, and assisted in securing an innovative non-recourse financing package from a lending group comprising Commonwealth Bank of Australia, Westpac Banking Corporation, KfW IPEX-Bank, Mizuho Bank, Bank of China, EKF, Denmark’s export credit agency and the Clean Energy Finance Corporation, Australia’s government owned green bank.

Financial close was achieved without the need for power purchase agreements (PPAs) and reflects TagEnergy’s pioneering investment strategy as well as an increasing willingness among banks to adopt innovative approaches to funding renewable energy in the Australian market.

Elgar Middleton is excited about the future of the Golden Plains project and, in particular, its ability to assist in the decarbonisation of the Australian electricity grid for many years to come.

Elgar Middleton is delighted to have advised Hermes GPE LLP (“Federated Hermes”) on the holdco financing of its majority stake in the 144MW Fallago Rig Wind Farm (the “Project”)

Federated Hermes was able to leverage the Project’s robust contractual structure and high proportion of fixed revenues to obtain a competitive financing package. This included PPAs with EDF Energy plc and BT plc.

Elgar Middleton advised Federated Hermes throughout the financing process to secure c.£132 million of long-term non-recourse debt and ancillary facilities.