At the cutting edge

Tobias Reichmuth, co-founder and chief executive of sustainable fund manager SUSI Partners, had his climate change epiphany driving north on Alaska’s Dalton Highway. Reichmuth had taken two years off to travel the world after selling his first company – an employer branding consultancy firm – and a stint at the Boston Consulting Group which he enjoyed, but not enough to embark on the partner career ladder.

So he found himself driving on the 666-kilometre highway, one of the most isolated stretches of road in the US (there are only three towns along the route), thinking about what to do next, when “suddenly, I see an old man with a white beard waving to me on the side of the road,” Reichmuth recalls. “Turns out he was a truck driver and his truck had got stuck on the side of the road, where it was all muddy, further down the highway.”

Given there was nothing between where he found the man and the oil fields of Prudhoe Bay, seven hours to the north, Reichmuth gave him a lift. Naturally, he asked him how his truck veered off the road. “He said he had been doing this driving job for 20 years, just driving up and down the same road. Super well paid, because in winter you drive on icy roads. But very boring. So he had been keeping an eye on the TV screen in his truck,” Reichmuth says.

“Normally that wasn’t a problem, because the road was very flat and when you lost your way it would just become a bit bumpy and then you’d correct.” Unfortunately, that was only applicable when the ground was frozen. But according to the driver, that was the first time in 20 years the ground hadn’t frozen. That little tidbit of information sparked Reichmuth’s curiosity and the rest, as they say, is history. 

STORAGE PIONEER

Fast forward to 2015 and SUSI is gearing up to launch what will probably be one of the world’s first energy storage infrastructure funds. When it finishes raising the €200 million vehicle sometime in 2016, it will have over €1 billion of assets under management across four energy transition-themed infrastructure funds covering renewables, energy efficiency, and now storage (see table p.35).

Storage is, of course, the ‘it’ sector of the clean energy world nowadays, widely seen as the panacea for renewables’ nagging intermittency problem – what to do when the sun doesn’t shine or the wind doesn’t blow? When billionaire entrepreneur Elon Musk unveiled Tesla’s suite of low-priced batteries in May, the sector’s popularity skyrocketed.

“You need storage so that you can steadily consume renewable energy without fossil fuels,” argues Reichmuth. “We knew we wanted to do storage and that it made a lot of sense, but the technology was too expensive when we started SUSI in 2009. There were no viable business models back then.”

“A year ago, we saw that lithium-ion battery prices were coming down a lot. In fact, over the last three years, they’ve come down by some 40 to 50 percent. So we thought it was time to look at storage again,” Reichmuth explains. To do that, SUSI teamed up with the Swiss Federal Institute of Technology in Zurich (ETH Zurich) and mandated the university to find out what business models made sense for industrial-scale storage.

“Our general assumption before we did the study was that with the lower prices per kilowatt/hour of storage electricity, some business models must be profitable or be very close to being profitable,” says Reichmuth. The study, co-sponsored by the Swiss Ministry of Energy, ran until March of this year and proved him right.

So in which business cases does storage already make sense then? “Frequency regulation in combination with ‘black starts’ is one of the business models already making sense today,” answers Reichmuth. “Say you have a glass manufacturer that once a year switches off all its plant’s furnaces to clean them. You then need a lot of energy to restart that plant. You only have to do it once, but you will have to pay for that capacity, which is super-expensive. To get that energy, you can either install a diesel generator, which has to be of a certain size and will only be used once a year, or you need a high-capacity power line nearby.

“Nowadays, you can just install a battery. It needs to be a large battery, but they are available and they don’t cost as much as they did. Now comes the interesting part, though. Since you only need your battery to restart your plant once a year, you can use it for something else during the rest of it – like frequency regulation. Once you start combining business models, storage starts making economic sense,” the SUSI chief executive explains.

Frequency regulation, in this context, consists of using batteries to regulate the grid’s supply/demand imbalances, getting paid for capacity. Other viable business models include using a combination of renewable energy and storage to replace diesel generation in island nations, or in remote, off-grid mines in sunny places like Chile, for example. Which is why, for the first time, SUSI is leaving its European comfort zone and venturing into the rest of the OECD with its storage fund.

The role of SUSI’s new energy storage fund will be, much like its energy efficiency fund, to allow its large-scale battery manufacturer partners to offer their clients a one-stop shop – backed by SUSI’s off-balance sheet capital.

“Say a mining company has just spent $5 million on diesel generators. Why would they switch to storage? That’s where we come in,” explains Reichmuth. “We help a battery producer offer the mine a combination of solar plus storage, for example, and we pocket the delta between the diesel cost of energy and our clean energy cost of energy. Mind you, you will not fully replace the diesel generators – that would still be too costly today – but you can replace 75 percent or so with an off-grid storage solution.

“In some places, diesel-generated power can cost as much as $0.35 per kilowatt hour, including the cost of bringing in the diesel and maintaining the generator, which always needs to be running. When you look at a large-scale off-grid solution (wind or solar combined with a battery), you can come to a total electricity price of some $0.15-0.24 per kilowatt/hour.”

 RISKY BUSINESS

If it’s easy to understand the mechanics of SUSI’s upcoming storage fund it’s equally easy to see that it carries a significant amount of risk. There’s novelty risk, because battery technology is so new; two layers of counterparty risk, comprising SUSI’s battery partners and their ultimate clients; geography risk, since SUSI will be investing outside Europe for the first time; and the currency risk that comes with that widening of borders.

Reichmuth is aware of the increased risks and to his credit he doesn’t try to paper over them. “Yes, technology is a big risk because batteries are so new and that’s one of the reasons why we can’t work with start-ups from our energy storage fund,” he acknowledges. “But you can mitigate the technology risk contractually. It’s the same when you buy a wind farm and get a 98 percent availability guarantee.”

Client risk can also be managed, but it may perhaps prove harder to do so. “If your mining company client goes bust and you have your battery stranded in the middle of nowhere with no grid around, then you won’t even be able to re-use it to do frequency regulation, for example. That’s a risk we need to manage,” Reichmuth admits.

He is, however, confident that the experience gained from its energy efficiency fund will help. That’s because the SUSI team has been doing internal counterparty ratings on a daily basis for its energy efficiency clients, using a proprietary tool acquired from rating agency Standard & Poor’s.

All that increased risk means the storage fund will mark a second departure for SUSI. If its first three funds were firmly anchored in the low returns end of the spectrum – 5 to 6 percent for energy efficiency; 7 to 9 percent for the renewables funds – its energy storage fund is aiming for double-digit returns.

“That’s a strategic difference from our first funds. Our renewables and energy efficiency funds are clearly focused on the lower end of the risk scale,” says Reichmuth. “We still want to have an annual distribution for the storage fund, but when we surveyed investors about what kind of return they wanted from the fund given all the risks, they clearly told us they wanted more than 8 percent.”

THE ECONOMICS OF ENERGY EFFICIENCY

While SUSI’s storage fund sounds like a lot of work to produce a high return, its recently closed €250 million energy efficiency fund sometimes sounds like too much work for the relatively low 5 to 6 percent it generates.

With a team of 16 sifting through some 50-odd investments that can sometimes amount to as little as €4 million per deal, SUSI is employing four times the people investing its renewable funds, which, when Fund II finishes fundraising, will have amassed a combined €535 million to €735 million.

Speaking to sister publication Low Carbon Energy Investor last year, Reichmuth admitted the economics of energy efficiency were unattractive to most fund managers. “We asked ourselves why other fund managers weren’t doing energy efficiency and the answer is easy: right now, you don’t make much money out of it. You need a large team for the size [of the fund]. This has stopped a lot of fund managers from looking into the space.”

Why is SUSI doing it then? “We want to establish a track record before anybody else,” he answered at the time. Plus, Reichmuth believes the energy efficiency market will grow significantly in the next five to 10 years, “and then it’ll be interesting if you can raise a €1 billion fund to invest in 20 projects of €50 million”.

A year later and with the fund on track to invest some €60 million by the end of 2015, we ask Reichmuth how the economics are stacking up. “We break even. Investors will not accept a higher fee and you can’t use the bigger team to sway them – they will only pay fees based on the risk/return profile. So we agreed with our investors they’d pay a higher fee during the investment phase because we need a lot of people working on these deals, but we halve the fee significantly in the asset management holding period,” he explains.

Like its soon to be launched storage fund, SUSI’s energy efficiency vehicle works by providing off-balance sheet working capital (see box below) to technology partners. Unlike the storage vehicle, though, the risks are much lower.

Energy efficiency retrofits have been done for the past 25 years so there are solid measurement algorithms in place. Plus, SUSI always extracts a guarantee from the technology provider regarding the savings it purports to generate. The only real risk is the client going bust, which SUSI’s team hedges against through its internal rating system and by making sure all of its deals are investment grade.

Also, while SUSI initially thought it would end up doing between 50 and 70 small-scale energy efficiency investments, there are signs it might be able to accelerate deployment via larger deals. In early October, the fund acquired a €33 million Italian energy efficient lighting portfolio in what it called one of the sector’s largest deals. And Reichmuth added that most of its current pipeline is peppered with deals north of €10 million. If it can clinch a few more of those, it might find itself raising a second and larger energy efficiency fund sooner rather than later.

REPEAT BUSINESS

Which brings us to SUSI’s approach to fundraising. By keeping its fundraising and investment teams separate, SUSI is able to be out in the market raising new products all the time. By being conservative with its return expectations and delivering on what it promises, it builds trust and keeps investors coming back for more.

That’s what allowed SUSI to reach a €66 million first close for its sophomore renewable energy fund backed solely by LPs from Fund I. Or to survey 17 of its existing investors on whether they would be interested in committing to an energy storage fund ahead of commencing work on such a pioneering product.

SUSI is certainly not the only alternative assets manager that’s hit on the idea of building a multi-technology family of energy transition-themed funds. Impax Asset Management, Equilibrium Capital and Zouk Capital, to name just three, are pursuing similar strategies. But SUSI stands out for being, at heart, a pure-play infrastructure fund manager. It just so happens to be an infrastructure fund manager building a family of cutting-edge clean energy infrastructure funds.

In an infrastructure fundraising world on track to hit $53 billion in dry powder by the end of the year and a core space that is absolutely saturated, it is little wonder SUSI is catching the eye of a broad swath of investors.

“We have few impact LPs,” muses Reichmuth. “We have very few investors asking critical questions about impact – they ask us critical questions about risk/return, correlation, stuff like that.” Assuming SUSI doesn’t end up with too many batteries stuck in the middle of nowhere, €1 billion under management might really just be the beginning