Questions to Ask When Investing in an Energy Project in Tanzania

Who is/are your target customer(s)? This is a critical question that you have to consider when planning to invest in an energy project in Tanzania. The law allows independent power producers (IPPs) to establish facilities, generate power and sell to public and private customers. Meaning, the customer can either be the national off-taker, companies and/or individuals.

Currently, due to the fact that the largest electricity distribution/transmission infrastructure is owned by the national off-taker, most IPPs prefer to enter into transactions where the IPP sells the generated power to the national off-taker, which uses its infrastructure to supply to customers countrywide. Separately, there are private power purchase agreements (PPA) executed particularly as back-up power e.g. generators or solar between IPPs and private customers, mainly companies. Also, there are companies which deal in mini solar power projects which install the solar equipment directly on individuals’ homes and charge per usage. Overall, identification of the target customers is important before establishing the energy project. 

Will you require land? 

Most energy projects require access to land for generation facilities, among others. For IPPs who seek to sell power to the national off-taker need to consider acquiring land closer to the delivery point of the infrastructure of the national off-taker. Otherwise, the costs for building the infrastructure up to the delivery point must be taken into account in the financial model for the project. This will also, include obtaining licences and permits for establishing such infrastructure unless an agreement is reached with the national off-taker, where the IPP is financing the infrastructure and the national off-taker is implementing the construction. For other projects involving a supply directly to the customer, the customer may allocate a piece of land within its operations where the generation equipment can be installed. In instances where the IPP has to acquire land, payment of compensation and/or relocation may be necessary depending on the size, location and the type of land required. Alternatively, private purchase arrangements can be entered into to the extent allowed under the law, particularly in general land. 

Is there distribution/transmission infrastructure to be built?

Depending on the distance between the project land and the delivery point, it may be necessary to finance and construct a distribution / transmission infrastructure up to the delivery point. Usually, such infrastructure is owned by the national off-taker although the law allows the similar licences to be issued to private companies. Accordingly, the IPP has to consider the costs of this infrastructure, engage with the national off-taker on the costs, timeline and any other terms, including if the IPP will incur the cost to construct the infrastructure, whether the IPP will be allowed to gradually recover such costs and how.  

Funding: Domestic or international?

Funding is another aspect to look at. Usually depending on the size of the project, the funding can be procured from locally or internationally. It is harder to secure funding without a signed ‘something’ from the expected customer target. For IPPs intending to sell to the national off-taker, usually a signed memorandum of understanding is a critical step to convince financiers and a signed PPA is stronger in securing funding. This means that, there are initial costs which the developer must incur before the project executes the relevant documents for initiation of the project. At times, there can be a considerable time lapse in between hence the developer must ensure this is taken into account in the funding arrangements. 

Will Government Guarantee be required? 

Most financiers prefer government guarantee as security for payments, and this is common for projects involving IPPs and the national off-taker, where the latter is the customer. As of recent, no government guarantees are being issued for or in favor of energy projects by IPPs. This has created a challenge with the financiers who want assurance that the invoices for power supplied will be paid on time so that the IPP can satisfy its debt obligations. Usually this is not a concern for power projects where the customers are non-governmental institutions. 

What payment security measures are available?

Since government guarantees are generally no longer an option, other options can be considered, if the customer is a national off-taker. Other options which can be considered is ‘put-call option’ agreement which means that, if there is default in payment of due invoices, the IPP can require the government to acquire the facilities, and pay the outstanding invoices. Another option is an escrow account where an agreed amount of money will be deposited and if there is default in settling any invoice, the IPP can deduct the outstanding amount from the escrow account. Local or foreign bank guarantee can be an option but it is likely to be a challenge to obtain the same. For private customers, the usual security measures are bank guarantee and escrow accounts where three - six months’ worth of invoices are deposited in advance. 

Will the Tanzania registered entity need to open a bank account outside of Tanzania? 

Another aspect that is key for the financiers is the ability for the local IPP Company to open an offshore bank account which will ensure that the funds are deposited in the jurisdiction that the financier is comfortable with and remittances to service the debt are directly placed in this account. Tanzania has restrictions imposed against residents in opening of foreign bank accounts. It is possible to do so after obtaining the approval from the Central Bank of Tanzania. Usually, the funds deposit account will be opened locally and from this domestic account, the remittances are made to the foreign financiers. At times, if the parent entity of the IPP is an international company, the parent entity can provide the required security to the financier for the debt extended to the local IPP entity. 

Pricing mechanism: Are there regulatory benchmarks?

It is important to understand the pricing mechanism for power. Power pricing is controlled in Tanzania meaning there are established benchmarks for selling and purchasing of power from all power producers, including from national off-taker and the IPPs. The pricing benchmarks are usually amended from time to time taking into account the market conditions, among other things. This means that, the IPPs has to be aware that they do not have unchecked authority to price the power at whatever pricing they consider fit. 

Do you plan to enter into an implementation agreement?

An Implementation Agreement is a contract between the IPP and the government where, among other things, it explains what the government promises to do so that a project can be built and operated successfully, beyond what is covered in commercial contracts like a PPA. Usually the implementation agreement sets out how the energy project will be supported, protected, and implemented under national law. It is common for the implementation agreement to be executed between the government and the IPP in projects where the national off-taker is the customer. It is recommended that the IPP considers entering into this agreement. 

Are you open to consider Government partnership through equity?

For some projects, the national off-taker may be open to acquire equity in the project company, whether or not the project is through a public private partnership. This means that the national off-taker is an equity holder and a customer. The equity can be allocated on a free carry basis or otherwise. IPPs may be open to this in an assurance that the project will get the required support throughout if the national off-taker holds the stake in the project. Accordingly, it will be necessary to discuss this with the national off-taker in advance and determine if it is willing to pay up for the equity allocated or it will be on a free carry basis, or the contribution of the national off-taker is through non cash means e.g. granting access to land etc. 

Have you reviewed the model power purchase agreement?

The model for PPAs, depending on the nature of the project are stipulated in the law. Whilst during negotiations some clauses can be amended/adjusted depending on negotiations between the parties, this does not mean that there will be re-writing of the entire model of the PPA as stipulated in the law. Accordingly, reading and understanding the PPAs models which are in the law is important because that will be the starting point. Usually, when the discussions for the projects have progressed, the national off-taker will circulate the first draft for review and thereafter discussions on the key terms will follow. 

Regulatory framework: What licences and permits will the project require? Timeframe? 

Regulatory framework which includes the steps to be taken, the licences and permits and all the nuances to get an energy project up and running is robust. It is important for the IPP to engage advisers who can assist with this from the onset before incurring substantial costs on the project and end up with regulatory challenges which can be frustrating, especially to financiers. The major challenge on licences and permits is time. Time for ensuring the project commences and all licences are obtained is an important factor for the IPP (and financiers) to be aware of to avoid unmet expectations. 

Do you intend to apply for any exemptions (fiscal or non-fiscal)?

If there is intention to apply for any exemptions, fiscal or otherwise, it is important that these exemptions are considered from the onset. Usually these exemptions are tabled when discussing the project documents, i.e. PPA and the implementation agreement. Exemptions become enforceable under the law when they are published in the Government Gazette. There are separate steps to be followed for publication to occur and it may take some time. Accordingly, the time to be spent in this exercise should be considered when assessing the overall project timeline. One thing to note, blanket exemptions are unlikely to be granted so the best option is to be as specific as possible, and if the IPP intends for such exemptions to be extended to its key service providers, the wording of the exemption should reflect that. 

Are your service providers aware of mandatory local registration? 

The project will likely require engagement of foreign service providers and the general rule is that, the service providers have to be registered locally to be able to provide service to the project. For international service providers who have other customers in the country, they would already have an entity within the country. It is important to consider this in advance because some international companies may not be willing to establish an entity in the country just for one project. It is worth noting that, when the entity is registered locally, regardless of its shareholding structure, trading within the country must be in Tanzanian Shillings, unless exempted by law or individual application. Hence, the contract for the services will have to be in local currency. 

Planned exit: When and to whom?

Exiting projects in Africa is a challenge and usually takes time to find a buyer who is interested to acquire a project, and the same is for power projects. The term of the licenses and the PPAs with the national off-taker are usually over a long term which intend to give assurance that the project will continue to generate a healthy balance of income. Hence, if the IPP has plans to exit the project in less than ten years from commencement, it is important to consider the challenges of exiting and planning accordingly. 

The above are just a few of the questions that the IPP should ask itself before considering to establish an energy project in Tanzania. We will be delighted to assist you to navigate these issues.

Disclaimer

The views expressed in this paper are those of the author only and should not be considered as an official interpretation, defamatory or interference of any legislation, laws or policies of any country including Tanzania. The contents of this paper should not under any circumstances be reproduced or used without the express written consent of the Go2Experts. It should not be considered as legal advice to any of its recipient(s) and should not be relied upon without obtaining further legal advice. We accept no liability for any loss occasioned or suffered due to the contents of this paper.