Achieving the United Nations Sustainable Development Goals will require massive investment in developing countries. Blended finance, which combines concessional public funds with commercial funds, can be a powerful means to direct more commercial finance toward impactful investments that are unable to proceed on strictly commercial terms.
Blended finance has grown in the past decade. In 2021 it represented an aggregated financing of over USD160 billion, with annual capital flows averaging approximately USD9 billion since 2015. One of the most compelling aspects of blended finance is that it uses relatively small amounts of donor funding to rebalance a project’s risk profile. With this small infusion of concessional funding, pioneering investments become attractive to private investors.
Private investment can be unlocked with blended finance
In emerging markets, the flow of private capital is constrained by investors’ perceptions of high risks and low returns. When investors perceive a high risk, either because of the pioneer nature of a project or a challenging environment, they tend to expect commensurately high returns. The desire for high returns can result in products or services being priced too high for consumers.
The strategic addition of blended finance to project financing structures can ease investor concerns. Successful projects include the right combination of debt, equity or grant financing, the right seniority of investors in terms of absorbing losses and earning returns, and appropriate risk-mitigation products.
Blended finance has achieved notable success in Sub-Saharan Africa, attracting 61% of global concessional financing in 2020. Most of this financing supported climate-smart agribusiness and energy investments.
Blended finance is a tool for scaling up African energy infrastructure investments
Africa urgently needs to increase investment in electricity infrastructure. About 570 million people in Sub-Saharan Africa lack access to electricity. Existing infrastructure cannot meet demand. Yet, the region currently accounts for just 4% of global power sector investments. Achieving universal access to electricity by 2030 will require tripling annual customer increases. Catalytic instruments like blended finance are critical for scaling up investment.
The construction of off-grid solar-powered electric facilities can expand African access to affordable clean energy. In Nigeria, a large off-grid market has developed to cope with chronic electricity reliability issues and currently provides about 80% of energy demand. Nigeria plans to develop 13GW of off-grid solar PV capacity by 2030. Other countries will follow suit. ESMAP projects that by 2030, nearly half a billion people could be using electricity from mini-grids.
The structure of the off-grid market and its nascence offers challenges and opportunities for private sector investments. Unlike grid electrification, where large utilities typically operate under robust regulatory frameworks, off-grid systems must often operate under incomplete or ill-designed regulations. Off-grid developers serve a fragmented customer base. Risk mitigation measures, such as long-term power purchase agreements, are generally lacking.
In Nigeria and elsewhere, off-grid solar energy providers face competition from a well-established diesel generator industry. Diesel suppliers typically enjoy longstanding customer relationships and easy access to capital. In contrast, off-grid solar projects often experience financing gaps, even in sun-rich locations. Financing barriers for pioneer solar projects can range from lack of credit history to investors’ unfamiliarity with solar and battery solutions.
Blended finance can mitigate risks on pioneering transactions and support long-term growth of the off-grid solar market in Africa. Linda Munyengeterwa, Regional Industry Director of Infrastructure Middle East and Africa, IFC
Strategic use of blended finance can help smooth the transition to renewable energy. Daybreak, a pioneer provider of off-grid and distributed solar and battery solutions to commercial and industrial customers in Nigeria, offers lessons on how to achieve a bankable financing structure and competitive tariffs for customers.
Daybreak’s financing plan sought to leverage long-term subordinated debt, a portion of which was provided at concessional terms, to de-risk the investment and crowd-in commercial senior debt at more competitive terms. A cost-effective financing structure ensured the project’s competitiveness as an alternative to diesel. A successful pioneering of the model will provide comfort to commercial lenders supporting the market’s scaling phase. Market projections show that the off-grid and distributed solar market in Nigeria could grow ten-fold by 2025.
Democratic Republic of the Congo (DRC), home to the world’s second-largest population in need of electricity access, is launching an ambitious mini-grid expansion. DRC is pioneering implementation of the World Bank Group’s new Scaling Mini-Grid initiative. IFC expects the blended finance guarantee provided to mitigate demand risk to help mobilise USD400 million in capital investment into mini-grids. The investment will develop 180 megawatts of installed solar PV capacity in DRC, providing renewable energy for more than 1.5 million new users.
Scaling Mini-Grid seeks to increase private investment in mini-grid services based on renewable energy by working with governments, private sector investors and donors in Africa and the Middle East. Like Scaling Solar, the initiative provides a semi-standardised set of project preparation activities, transaction documents, risk mitigation instruments, as well as a financing package offer to scale up the deployment of mini-grids. Blended finance can be leveraged in pioneering investments to de-risk commercial investments and improve power affordability.
Efforts by the World Bank Group, including those implemented under the Scaling Mini-Grid initiative, are helping to improve strategic clarity and increase focus on delivering mini-grids at scale. Linda Munyengeterwa
Mobilisation is key to achieving sustainable investment at scale
Despite its potential, blended finance remains volatile and has not yet reached its full potential. To attract consistently large volumes of commercial financing, governments, development partners and development practitioners must work together to make private capital mobilisation a core part of their strategies. Each stakeholder must prioritise scalable and replicable approaches. By employing blended finance through a platform approach, IFC’s Scaling Mini-Grid and similar initiatives can catalyse increased investment in renewable energy in low-income countries.