The Gaps

An information gap is slowing the nascent market for high impact industrial decarbonization projects. To begin bridging this gap, RMI’s Industrial Transition Finance team initially focused on the emerging clean hydrogen market, recently completing its “hydrogen project finance roadshow” as part of the RMI and Mission Possible Partnership’s (MPP) Clean Industrial Hubs program. This initiative shared consolidated insights from a dozen leading financial institutions (FIs) with a dozen US hydrogen developers to foster knowledge exchange and pave the way for efficient market growth.

RMI and MPP’s Hubs program brings together financial institutions, policymakers, project developers, and community-based organizations to enable groundbreaking decarbonization projects in the hardest-to-abate sectors. This work is done in partnership with the Bezos Earth Fund.

This article summarizes hydrogen developers’ questions and responses to the investor community during a series of roundtables. The roadshow highlighted five major gaps between developers and FIs – and four potential market developments that, together, could close them:

Many of these finance-focused learnings are applicable not just to heavy industrials but to emerging climate infrastructure (e.g., batteries, building materials, etc.) more broadly.

Gap 1: Performance data

Using the ammonia sector as an examples, there are just two “clean” plants operating globally today with another 10 at Final Investment Decision. The energy transition needs 60 such new projects online by 2030 — a fivefold scaling in five years. Given this need, sponsors are often skipping pilot-stage projects and going straight to commercial-scale (albeit, taking a phased approach, with capacity ramping up over time). As one investment banker said, “We’re going straight from kilowatts to gigawatts without the megawatt-scale stuff in between.” The speed of this scale-up means neither debt nor equity investors have enough data on technology performance, plant production, feedstock usage, etc. to appease their cautious credit committees.

On the other hand, a private equity-backed developer flagged that banks’ perceived technology risk feels overblown because 1) certain electrolyzer designs from original equipment manufacturers (OEMs) are not as risky as perceived, and 2) alkaline and proton exchange membrane electrolzyers’ solid operating performance should scale smoothly to the gigawatt-scale because the modular cells increase in number rather than size. As one example of how to begin bridging the data gap, the hydrogen market could emulate the Enhanced Rock Weathering (ERW) market, where Cascade Climate is introducing the ERW Data Quarry, the first-ever ERW data-sharing system with 10 leading ERW companies already committed.

Gap 2: Offtake expectations

Banks’ traditional project finance frameworks generally seem too rigid to fund first-of-a-kind hydrogen facilities. Bankers are trying to find easy analogs for green molecules transactions but neither renewables nor LNG deal structures are perfectly replicable templates. While hydrogen and hydrogen-derivatives like ammonia mirror early renewables deals in their need for government loan guarantees and state procurement, the current grey ammonia industry, for example, operates on 1–2-year offtakes rather than 10–20-year offtakes.

Hydrogen buyers and financiers will need to “meet in the middle” in tactical and structural ways. Tactical solutions could include adding interest rate step-ups if the project isn’t able to recontract offtake, and/or letting “mini-perm” loans amortize beyond the length of original offtake contract. Solutions could also be structural, like aligning investors and sponsors around the value of projects’ climate attributes (e.g., how much more should investors value a project because it has locked up finite local biogenic CO₂ supply that competitors will struggle to emulate?).

Similarly, investors in offtakers (e.g., sustainability-focused corporate share- and bondholders) could incentivize corporate policy reform that encourages procurement teams to pay the necessary greenium for clean commodity contracts instead of sticking to status quo procurement practices, which mostly incentivize minimizing operating expenditures. In other words, if the most influential investors in a listed European petrochemicals giant properly incentivize the management team to procure green ammonia (like food makers pay a premium for fair-trade cocoa), this could unlock the offtake contracts needed to make green ammonia bankable. This would be a fundamental shift in mindset, with offtakers shifting their perspective on the role of their procurement departments — from cost center to a powerful medium for investments in the clean energy transition.

Gap 3: Return expectations

This first wave of clean hydrogen and hydrogen-derivative projects will get built because we must kick-start industrial decarbonization — not necessarily because they’ll generate handsome financial returns. Climate infrastructure is challenging precisely because it combines large up-front capital requirements with the relatively low returns of infrastructure and complexity of emerging technology.

Governments (both through subsidies and penalties) and philanthropy have a role to play in de-risking and improving projects economics. This support can bring the costs of hydrogen debt, equity, and tax equity closer to the financing costs of comparable renewables and LNG deals. And even with that external support, pureplay project developers expecting to exit with the multiples offered to software start-ups, for example, may be disappointed — as might creditors looking for core infra-like risk/return. The bulk of financial returns may come from/after refinancing these projects in 3–5 years as the industries mature, rather than from during initial investment period. Until then, creative risk-sharing through blended capital stacks and novel deal syndication will be needed just to meet investors’ minimum return thresholds.

Gap 4: Risk management solutions

There’s a standard way to measure and price traditional infrastructure project risks—the sponsor can pay for a full-wrap EPC, performance guarantees, and/or insurance. Emerging climate infrastructure is trickier. In green hydrogen for example, investors and sponsors are unsure whether to solve intermittent clean electricity supply by overbuilding storage infrastructure or overpaying for firm power; they’re unsure whether exporting lowers their regulatory risk (by diversifying it) or increases their financing cost (because their project is now much more complex). The consensus on efficient risk management for new clean industrial projects will likely form only as the first deals close in 2025. In the meantime, to speed up learning, more transparency is needed on the deal structure, offtake agreement provisions, and other risk management solutions that get deals over the finish line.

Gap 5: First mover investors

Developers are not only wondering who the first mover offtakers are, they are also asking which banks, asset managers, and institutional investors are first mover financiers. In public, financial institutions have committed billions to the energy transition; in practice, developers are encountering more fast follower behavior from investors, with limited access to the types of flexible terms needed from first movers to scale up nascent markets. Part of the issue resides in the legacy investment selection frameworks that guide most mainstream investor decision-making with limited evidence that the value being created by high impact climate solutions is being properly accounted for. In parallel, the risk exposure of legacy assets being used as benchmarks for investment performance also needs to be properly accounted for. There is a lack of transparency on which investors have greater risk capacity/appetite, and therefore should be the focus of fund-raising efforts for high impact industrial decarbonization projects.

At this stage of the market, there is often a fundamental disconnect on term structures, which immediately halts fundraising progress. For example, developers cite frustrations as they pitch to private equity funds who want risk-return profiles similar to a wind farm or toll road; venture capitalists meanwhile often want proprietary technology to be licensed so revenues can scale exponentially. Lastly, sponsors understand they may need to dilute equity — painful as it may be — to bring midstream companies, utilities, etc. into the consortium. However, that partner identification process is time-consuming. It is a job ripe for innovative deal-making from investment bankers, but those bankers are also highly incentivized to be fast followers instead of first movers, often focusing their attention on easier to implement solutions like drop-in fuels, which at this stage of the market, are much easier to structure and scale.

Bridging the Gaps

As one developer pointed out, today’s hydrogen projects pose the classic chicken-and-egg problem: sponsors need capital to de-risk projects, and investors need de-risked projects to provide capital. We therefore need creative solutions that align investments with climate impact and bring different sources of capital together. Here are four developments to help the market scale.

Development 1: Creative Deal Syndicates

Creative deal syndicates can help spread risk across multiple investors to reduce risk for each individual investor. For example, they can bridge the gap between developers’ and FIs’ performance data quality: Financial investors without high-quality data could get comfortable with a deal where large strategic investors and/or OEMs provide performance guarantees or experience with similar kinds of projects. Take, for example, the Egypt Green Hydrogen Project at Fertiglobe’s Ain Sokhna ammonia plant in Egypt, which recently won the €397 million 10-year H2Global contract. The project plans to spread risk between multiple parties with complementary expertise spanning a complex value chain; the table below indicates how different types of organizations could bring their unique de-risking abilities to an emerging climate infrastructure project:

The project is expected to raise debt from five North Atlantic development financial institutions by mid-2025. US developers may similarly need to bring in “first-mover” institutional investors and strategic corporate investors (such as utilities or offtakers) into their equity consortia — a process investment banks can accelerate. Creative deal syndication helps the market by 1) spreading risk more evenly across different investors/sectors/geographies, 2) ensuring finance reaches high-impact projects (rather than only low-hanging fruit), and 3) maturing these nascent commodity markets so they begin to resemble established liquid, transparent, global commodity markets.

Diverse syndicates require balancing competing objectives of multiple parties; bankers generally like consortia partners with “molecules” expertise and large balance sheets. In parallel, to attract more “first mover” investors, more work needs to be done to articulate and gain consensus among offtakers and investors on the value created by products and services in the industrial decarbonization economy.

Development 2: Innovative capital stacks

As more types of investors enter the market, sponsors can access more types of capital and this increased flexibility should further support risk sharing. This, for example, could bridge developers’ and FIs’ return expectations: banks may get comfortable providing senior debt if they know there’s first-loss financing from impact investors and/or a tranche of flexible junior debt. Non-dilutive capital remains the holy grail for sponsors: several US developers have already secured federal and state grants and can also look to regional economic development agencies to provide tax abatements. RMI publishes free databases to source both public and private capital.

First-of-a-kind capital stacks may explore government funding, philanthropic grants, convertible notes, impact investors willing to forego financial returns for emissions impacts, royalty-based financing, mezzanine capital, sale leasebacks, equipment/inventory financing, trade financing, and more. At least one investment banker in the roadshow was exploring municipal bonds. Oaktree’s Montana Renewables deal in 2021, for example, combined several innovative features. For certain projects, sponsors may also plan to refinance some of their bank debt by accessing the “term loan B” market post-construction; power/energy sponsors have often used these leveraged loans to increase debt-to-equity once assets are operational and use new, extra debt for a dividend recap. New industrial projects will carry new risks; the more parts of the financial sector that can absorb them, the healthier it will be.

Development 3: Driving Change with Institutional Investors

Institutional investors have directly financed clean hydrogen projects. For example, Canadian pension and insurance funds helped put $650 million into the ACES Delta project in Utah. Yet, with some exceptions, institutional investors and their asset managers — especially in the United States — can do much more to shape industrial decarbonization.

In 2025 and beyond, institutional investors should increase their exposure to green molecules, starting by aligning their sustainable investment frameworks to incorporate industrial decarbonization pathways and properly value key technologies and business models essential to sector transitions. Lenders to shipping, steel, aluminum, and aviation already have robust sectoral decarbonization pathways to benchmark companies’ pathways against. Individually or through climate investor networks and campaigns, investors can also engage directly with industrial corporates to request robust net-zero targets and procurement reforms that lead to long-term offtake of green molecules. In this way, they can directly bridge developers’ and FIs’ offtake expectations.

As the largest part of the financial sector, institutional investors can then demand more green industrials-themed investment vehicles, which would incentivize asset managers to seek out more credible projects, accelerating industrial decarbonization into the mainstream, and lowering cost of capital for high impact projects. This could help facilitate the creation of tailored investment funds that have a greater tolerance to technology risk due to the decreased regulatory risk and increased exposure to new sources of value derived from the energy transition. Alternatively, institutional investors reshaping their views on risk mitigation could have the same impact: investment in clean industrial projects and technologies can represent a hedge against volatility in legacy fossil fuel investments. Targeted investments in sustainable industries, such as clean hydrogen projects, can create more resilient portfolios that adapt to changing regulatory pressures and public sentiment.

Development 4: Involving Insurance Early

Traditionally, investment banks’ advisory teams are the external financial experts involved in shaping development-stage projects. But their time is extremely limited and their focus is nearer-term revenue opportunities, like “renewable natural gas,” biodiesel, and other drop-in fuels. Insurers can step in to play that advisory role for emerging climate infrastructure like hydrogen. By helping sponsors during pre-FEED or FEED, insurers can be risk advisors and shape project configurations, site selection, commercial agreements and equipment supply from day one. For instance, if insurers can flag that technology performance insurance premiums are going to be prohibitively high, sponsors can instead solve project underperformance risk through OEM guarantees. By providing this kind of support, insurers can de-risk projects and minimize the costs of insurance going forward — perhaps in exchange for right-of-first-refusal or better terms on the final project’s full insurance product.

This proactive involvement could position insurers to tailor existing coverage more precisely to project-specific risks and increase the number of new products offered to reduce financial uncertainties in the hydrogen sector. Aside from supporting first-mover projects, insurers have a larger role in proactively identifying and managing risks — particularly physical and poorly understood technology risks — before they escalate and threaten other investors.

The Year of “Doing” Decarbonization Deals

RMI is identifying partners to quickly implement the four necessary market developments outlined above in 2025. Recent developments in sustainable aviation fuel financing show what hydrogen can aim for: Infinium and Twelve have closed landmark fund-raises, Gevo and Montana Renewables secured almost $3 billion in conditional government debt guarantees, and BlackRock has stepped up to support offtake. Hydrogen and other high impact industrial decarbonization solutions can follow suit. If 2024 was the year bankers saw innovative industrial decarbonization deals, 2025 must be the year bankers do innovative industrial decarbonization deals. And more deals will happen as the market continues to develop — not just in US hydrogen but across emerging climate infrastructure globally.

Source: https://rmi.org/four-ways-to-jump-start-clean-hydrogen-finance-in-2025/

TECO2030 Fuel Cell Update March 2022