Financial Instruments and Financing for Sustainable Agrifood Systems
Techno-Economic Analysis in the Agricultural Value Chain
Before making any investment in renewable energy technologies and energy efficiency along agricultural value chains, the feasibility and the financial and economic cost-benefits need to be analysed.
The first step before investing too much time and money is an Investment Planning on Micro-Level, where a feasibility analysis takes into account the legal, economic, technological, and scheduling factors, investigating the possible negative and positive outcomes. A clear identification of financial, economic, institutional, social and technical opportunities and risks is required as a first screening, where the energy source currently used is compared to the renewable energy technology to invest in, which can strongly vary from site to site.
In order to assess quantitatively the attractiveness of the investment options a Financial and Economic Analysis (FEA) needs to be performed, which consists of two main steps.
Firstly, a Financial Cost-Benefit Analysis (CBA), which monetizes all major benefits and costs generated by the investment is compiled. It provides four main indicators which allow assessing the attractiveness of the investment: The Net Present Value (NPV), the Internal Rate of Return (IRR), the benefit/cost (B/C) ratio and the payback time.
Financial Instruments & Support for Renewable Energy
Finance is crucial for renewable energy technology (RET) projects. Without funds, these would not materialize as they are highly sensitive to financing. Thus, inadequate financing structures and conditions can increase the disadvantage in competitiveness of RET projects. One can distinguish between on- and off-grid renewables projects:
On-grid renewables projects face the key issue of how to create a price support mechanism that provides stability and predictability over the medium and long term. Various forms of capital are involved in the financial sequence of grid connected RETs depending on the level of secureness and the level of project development. Further, there are different gaps and barriers that hinder each of these levels which can be solved with the respective interventions. Depending on the risk assumed by the funding entity and the level of leverage involved, different instruments can be employed.
- Equity finance is the capital raised by selling a stake in the business or project itself. Usual financial investors include Private Equity funds, Infrastructure Funds and Pension Funds, which will engage depending on the type of business, the stage of development of the RET and the risk associated with it.
- Debt finance consists of loans which require the repayment of the sum borrowed and the interest charged on it. Generally, financial institutions will only provide debt finance to projects where the market is mature. It can be provided to local finance institutions to allow them to on-lend to consumers, to project developers or can be provided directly to a project developer. Depending on the lending institution (private or public), there are different options for repayment.
- Project finance is debt that is borrowed for a specific project. The amount of debt made available is linked to the revenue that the project will generate over a period of time. Usually, project preparation for on-grid RE projects is carried out by large energy companies or specialised project-development companies.
Off-grid renewable energy finance can be upstream (start-up capital) or downstream (end-user finance) and also varies depending on the level of secureness. Each type of operating capital faces different challenges which can also be solved by different intervention approaches. The financial instruments here are results-based finance, microfinance and carbon finance.
- Results-based financing (RBF) is a form of payment by results and generally refers to the delivery of national or sub-national outcomes and outputs. It can be used by governments of the Global South (national or local), state agencies, or donor agencies to incentivize the provision of goods or services, create or expand markets, or stimulate innovation.
- Microfinance institutions (MFIs) are used to channel funds for small-scale RET projects, particularly at a household and community-level for off-grid electrification. These projects are generally developed by small suppliers and serve low-income communities with limited ability to pay at the initial stage of project development.
- Carbon finance is a general financing approach used by projects that are generating or are expected to generate greenhouse gas (GHG) emission reductions, which are tradable on the carbon market, and thus generate financial resources for the project itself.
Comparative Financial Analysis of Irrigation Solutions
In order to compare different irrigation solutions from a financial analysis perspective, the main costs of all components and factors need to be determined, including the grading earthworks needed, the costs of headworks, of purchasing the pumping system, the water conveyance system, of irrigation management, and labour costs. The Toolbox on Solar Powered Irrigation Systems provides practitioners with the excel-based PAYBACK tool which allows a comparative assessment between income and three different irrigation pumping options. For a thorough comparison also operational costs need to be set against each other among the different irrigation types. This relationship strongly varies depending on the component that is being analysed. For example, surface irrigation approaches require a high degree of land development, but usually work with simple water abstraction installations. In turn, pressurized systems require a bore well, implying higher initial investment costs, but do not require sophisticated land development. Irrigation water is an important production factor in agriculture, and the extent to which farm households depend on irrigation for their production depends on the geographical location, the local hydrological and soil conditions and on the actual crop water requirements. Depending on the irrigation method applied, capital and operational costs may vary and thereby impact farm budgets in different ways.
Costs and Benefits of Clean-Energy-Technologies in the Milk Value Chain
Despite the importance of the milk sector for income generation among small-scale farmers in Tanzania, Kenya, and Tunisia, only a reduced amount has access to extension services, which could improve their productivity. Raw milk is usually transported to milk collection facilities, where it is often rejected due to low quality, as it is not cooled during transportation. The lack of a reliable electricity grid hinders most rural households from using adequate refrigeration systems. Cooling technologies can significantly improve milk quality and add value along the milk value chain. Since grid electricity does not reach many rural areas, off-grid renewable energy (RE) solutions to cool milk can be a viable option. Biogas domestic milk chillers and solar milk coolers are attractive from a financial point of view and have socio-economic and environmental net co-benefits. Policies, financing mechanisms and capacity building activities to facilitate the adoption of renewable energy cooling solutions for milk include: the development of a clear national strategy for the milk sector, strict milk quality standards and a price premium for quality refrigerated milk, the establishment of controls and fines against illegal milk commercialization, eradication of counterfeit RE products, financial incentives, extension services, technical assistance, information programmes and training.
Costs and Benefits of Clean Energy Technologies in the Philippines’ Rice Value Chain
Publications & Tools
WinDASI: A Software for Cost Benefit Analysis of Investment Projects
Developed for current or future practitioners in Cost-Benefit Analysis (CBA) of investment projects, working in public administrations, in NGO’s, professional organizations or consulting firms, WinDASI allows calculating a) flows of physical quantities of outputs, inputs and investment items; b) flows of current, discounted and cumulative costs, benefits and net benefits; c) flows of incremental (With-Without project) current, discounted and cumulative net benefits; and d) project indicators such as the Net Present Value (NPV), the Internal Rate of Return (IRR), the Benefit/Cost Ratio (BCR), the Switching Values (SVs) and Sensitivity Analysis. The tool addresses normal and phased mode of calculation and comparisons of different projects alternative scenarios. Read more…
FAOVCA-Tool – A Software for Value Chain Analysis
Value chains act like socio-economic links between upstream and downstream agents, connected through technical, economic, territorial, institutional and social relationships. Value chain analysis explores the structure of these links and relationships, building accounts for the different agents and analysing their revenues, costs, value added and profits. This enables a consistent accounting framework for the whole value chain and identifies bottlenecks and opportunities for value chain development. It is suitable to assess evidence-based policy options and monitoring of their impact. The FAO VCA-tool 3.1 is particularly useful to store and organize data for different agents, structure the value chain accounting framework, calibrate and compute flows, shadow prices, competitiveness and protection indicators. Further, it allows building and comparing alternative value chains scenarios for policy impact assessment and performance monitoring. Tool and manuals are freely available online on FAO’s EASYPol platform. Read more…
Toolbox on Solar Powered Irrigation Systems – Payback Tool
RuralInvest – A Participatory Approach to Identifying and Preparing Small/Medium Scale Agricultural and Rural Investments
RuralInvest, developed by the FAO Investment Centre, answers the need for support to local investment by offering a series of modules. These provide a range of materials and training courses such as technical manuals, custom developed software, user guides and instructor’s materials. The modules include guidelines to assist local technicians working with communities and other rural groups to assess their investment needs. Further, the modules provide a simplified methodology and approach to facilitate the conversion of general ideas into specific investment profiles. For large investments, a detailed project formulation and analysis including all information concerning the viability can be compiled using the software which allows calculating working capital requirements and annual cash flows, as well as Net Present Value (NPV) and Internal Rate of Return (IRR). The software can generate a variety of reports in either electronic or printed form. The complete report is typically of 15-20 pages, depending upon the complexity of the investment. The RuralInvest software is designed to be operable on the Internet but can also be installed directly on computers of field technicians. It is applicable for any agency, project, organization or private investor managing funds for small and medium scale agricultural and rural investments. Read more…