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Q&A: Nick Knapp, CohnReznick Capital — Part III

In the third and final part of this exclusive interview, Nick Knapp, president of CohnReznick Capital, discusses co-advisory mandates, emerging areas of activity in renewables and the state of the project finance market with PFR reporter Fotios Tsarouhis.

PFR: On several recent larger M&A deals, it is noticeable that one or more larger, perhaps bulge-bracket, firms have been mandated alongside a boutique.

Yeah, and I think that will continue. There will be cases where a bulge-bracket is by itself or where a CohnReznick Capital is by itself, but I think we do see more of the co-adviser dynamic. And it is valuable, there are different skill sets, I would say, and it is typically pretty seamless in terms of how we work together, and that goes for buy-side as well as sell-side.

In terms of M&A activity, we know that our investor base and relationships are as strong as anybody in this space, we put our full focus on developing these relationships. And we know that our execution capability is second-to-none. That said, we are seeing more co-adviser situations on the larger portfolio and company sales and I do think that continues, because the sellers see the value in having both at the table. We’re going to continue to play that role where the sellers express a strong interest for multiple advisers.

PFR: One of your 2017 mandates was a financing for JLM Energy, which lined up a $25 million loan to develop commercial and industrial solar-plus-storage projects, and we have also seen an uptick in wind repowering activity. Are you seeing more storage and repowering deals these days?

We’re focused on making sure we’re not missing anything. We want to be advising on storage and repowering, but we’re not seeing meaningful trading volume yet. So we will certainly continue to be involved as the scale picks up.

The repowerings that have happened so far have primarily been big names like NextEra Energy Resources, and they’re not using advisers for that, so there’s not really play for us.

In storage it seems to be less stand-alone storage projects and more adding storage to solar or wind projects. We have a couple of those financing mandates right now and we expect that will continue to steadily grow over time.

In general, we have a ton of project finance activity right now, split evenly between solar and wind. We have a handful of development platform sale and private placement mandates, ranging from the smaller but proven companies to the largest top-quality companies in the industry. Then there’s also a ton of sale and capital stack optimization activity on the secondary large portfolios–500 MW to, say, 1.5 GW. We have a couple of these mandates active now, and there are a few pending that we expect to launch over the next couple months.

PFR: Are you seeing more activity in distributed generation and commercial and industrial projects?

The scale’s tough in the D.G. market. More and more folks—tax equity and lenders—are getting comfortable and more creative there but it’s never going to be the same as doing large utility-scale projects in terms of time and effort and the return you get for doing that. CohnReznick Capital has lived in the D.G. space since our inception and we continue to be highly active with the leading sponsors. We see it as a natural value add play for us, due to the complex structuring and underwriting nature of these transactions.

I do think we will continue to see steady growth and so you’ll naturally see more and more names get into the mix. Some of our operating portfolio activity is large D.G. portfolios. The more trading volume the industry sees, the more awareness and interest we will see in the D.G. market. With the return premium offered by D.G. compared to large utility scale, it is proving to be a great area of focus for the vast universe of financial investors focusing on renewables.

PFR: Are solar securitizations anything CohnReznick Capital would get into or is that too nichey?

No, it is something we are getting involved in. We like getting involved on the debt side, as much as tax equity. Typically, we’ll co-advise on securitizations and that’s what we’ve done historically. We’ve advised on a few successful securitizations, and were at the front end of the process working with the rating agencies to put in the time to get them comfortable, allowing for the appropriate rating levels. There haven’t been too many to speak of, so we feel our batting average is fairly strong here. The securitization process requires our focused skill set in that you really need to understand the ground-up financing structures and project risk and be able to explain that to the rating agencies in a way that some of the bigger banks would be challenged to do without a renewables focused boutique advisor in the mix.

PFR: How attractive does the project finance market look as we head into the second half of 2018?

In terms of investors, we touched on the new sponsor investors and strategics but from a capital markets standpoint it’s the same dynamic—it's been a strong market for a long time. But the creativeness that the competitive landscape has created has continued to improve.

It helps when lenders have a broader energy background, especially when you are talking about merchant risk as sponsors look to get some of that merchant component sized into tax equity and debt transactions. The broader energy experience is beneficial because these investors are used to underwriting merchant conventional power and oil and gas projects. In comparison, renewables has a much cleaner story as it relates to managing downside risk, as there is no cost of fuel, so it removes a key risk variable they are typically used to dealing with.

Tax equity has been a great story for the past couple of years in terms of the number of investors focused on the space. There have been a lot of new players, heavily driven by tech companies and insurance companies, and I don’t think that trend stops. We went from five to ten names in tax equity a few years ago. We’re probably somewhere between 45 and 50 names that are dedicated, have a team focused on renewables with an annual budget target, and I think that continues. People are getting the risk profile that a tax equity investment provides for and if you have an interest in supporting sustainability it’s a good way to move the needle on that cause but also have a safe high yield investment.

PFR: How do you view tax equity going forward? Are you seeing tax reform’s impact on the market?

It’s healthy. Pre-tax reform, I was saying that I think that tax equity spreads will converge to back-leverage spreads. Because of tax reform, I don’t know that we get to that point, but they continue to be highly competitive and I would still say we’re seeing all-time lows for the after-tax yields. So the number of investors remains at that higher 45-to-50 range and it’s growing, it’s not going the other way.

The biggest issue with tax reform was the uncertainty around it. Trying to close deals not knowing what the tax rate is was challenging. But turning the corner, once it was all finalized and we’ve removed the uncertainty, this industry has always been resilient. We’ve always had uncertainty in policy for all of these years and now we have a strong longer-term horizon.

There’s been some reduction in annual volume targets from a couple of investors, just because of tax capacity and not having as much with a lower tax rate, but that’s completely neutralized by the newer investors who are coming in at scale.

PFR: Do you think any macro factors have stopped new investors from entering the market?

No, I don’t. I think if you look at it historically, the more mature the market gets the more investors you’re going to have. We are really past the inflection point of whether this is a strong and sustainable industry. At this point, investors understand the risk and it’s just a matter of doing the work to solve and mitigate those risks. With tariffs, especially for solar, it impacted development and timing of commercialization activity but people are sizing that in now and everybody comes to the table to figure out where and how to recover that incremental cost. We’re currently not seeing any material delays related to tariffs or tax reform.

The current tax credit policy has a nice, steady phase-out and we don’t have the historical expiring [production tax credit] dynamic every one or two years. That was binary risk—that’s tough to get around. With current policy, you can proactively prepare, you can price it into your PPA, price in your equipment costs according to what we have, and it allows for consistency.

Knowing the horizon that we have here for tax credits, it’s not a one-year rush. That’s a big part of why the new strategics are coming in with a strong focus. We are extremely bullish on the level of activity over the next few years. As long as the large corporates and energy strategics continue to stand behind the renewable and sustainable industry—and we have no reason to believe they’re not going to—I don’t think there’s going to be a big activity dip when tax credits are phased down as scheduled.

PFR: In recent years, we’ve seen some less-traditional tax equity investors enter the market, including Starbucks and Google. Will more of these companies enter the tax equity market in the years to come, or will it remain mostly banks and the odd insurance firm?

Yeah, they will—it’s happening now. A lot of corporates, including a handful of major tech companies—some of the same guys that are signing PPAs—are already active with tax equity. And the same thing is happening with insurance companies—names that aren’t really known as tax equity investors are plugging away but staying under the radar. We’re on our third and fourth tax equity investments with a few of them. I think that dynamic continues to play out. For the tech companies, it will be a big program for them, similar to what we saw with Google. The repatriation policy changes have been a big part of the story that really helped push things along even more. Historically, it was a matter of a tax director stepping out of their comfort zone without a strategic corporate story and a management push behind them. They were looking at the investment returns, compared to their core business—it doesn’t necessarily make sense from that perspective. But when you view it as supporting the renewables industry and hitting their sustainability goals, which is now being driven from c-suite down, it’s more attractive and is leading to strong traction.

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