Financing accelerates for low-carbon hydrogen projects as challenges loom

Low-carbon hydrogen project investment is gaining steam in 2021, but stakeholders will have to address looming challenges to ensure that hundreds of billions of dollars in pledged funds translate into real capital deployments, according to industry watchers, investors and rating agencies.

The drive to decarbonize various industries by developing a clean hydrogen economy has yielded hundreds of project proposals, some of which are moving forward with funding in hand. But financing projects based on emerging production technologies and end-use applications that are unproven at scale always presents a challenge, members of the financial community said during panels at the U.S. Energy Department's Hydrogen Shot summit on Aug. 31.

"There is an incredible momentum that we see right now," said Bernd Heid, a senior partner at McKinsey & Co. Inc. who leads the consultancy's global hydrogen service line business. "[W]e have a growth in investment into the hydrogen space of $1 billion a week in direct investments ... and another $2 billion that go into indirect investments."

Stakeholders have announced 350 large-scale hydrogen projects totaling more than $500 billion in investments, according to Heid. McKinsey forecast that the hydrogen investments will drive an incremental $120 billion in spending on wind turbines, solar panels and transmission lines.

Counting only mature investments, including those that have reached final investment decision, announced projects total about $150 billion, according to data compiled by McKinsey and the Hydrogen Council, a business consortium that supports hydrogen development. However, Heid noted that since February, mature investments have grown from a total of $80 billion.

Europe continues to lead investment activity, with Canada and the U.S. together ranking second. Hydrogen production equipment and facilities have attracted the most investment, followed by end-use applications and midstream infrastructure.

New production pathways still risky

Despite the momentum, rating agencies said they face challenges in assessing many hydrogen projects, which often use new technologies and lack stable cash flow from fixed revenue streams. Projects that attract investment-grade ratings typically rely on established technology and operate under long-term revenue agreements.

While some low-carbon hydrogen production technology is well-established, the agencies must also assess projects based on less mature applications such as high-temperature and solid-oxide electrolyzers, according to Karl Nietvelt, global head of analytics and research for infrastructure at S&P Global Ratings. Demonstration and pilot projects stand to provide critical insights and can help rating agencies publish sound analysis, Nietvelt said.

Supporting those projects requires taking on technology risk that makes many mainstream lenders uncomfortable, panelists said. By helping to commercialize new technologies and applications, the DOE aims to reduce the cost of low-carbon hydrogen by roughly 80% to $1 per kilogram within a decade through its Hydrogen Shot program.

Financing the first commercialization of innovative technologies is the DOE Loan Programs Office's special focus, said Monique Fridell, the lead originator for the renewable sector within the office. The agency has a large lending capacity and can offer long-term loans that project developers often cannot secure elsewhere.

"In the past two years, we've been executing a methodical outreach strategy across the hydrogen sector," Fridell said. "We've seen a real surge in interest in our lending products from hydrogen players particularly, I'd say, in the last year."

That financing can help deploy innovative technologies and achieve what Fridell called "the Holy Grail": reducing the cost of hydrogen production and improving economies of scale to make the fuel competitive on a sustainable basis. That includes cutting costs and increasing electrolyzer technology efficiency, broadening the supply chain and creating or adapting storage and midstream infrastructure necessary to move hydrogen.

Scaling demand could be difficult

Hydrogen Technology Ventures CEO and Managing Partner Vishal Shah said his firm avoids technology risk and instead focuses on funding commercially ready electrolyzer technologies that can be scaled into large projects. Shah said achieving scale on the supply side is within reach in the U.S., given the ability of low-cost renewable energy to drive down the cost of green hydrogen, produced using clean power to split water through electrolysis.

But in the absence of incentives sufficient to offset green hydrogen's cost premium, the challenge of scaling demand will likely slow the progress of project deployment, particularly for large projects, Shah added.

"You can potentially get a 20-MW project off the ground and have an off-take for that," Shah said. "But if you're looking at a 200-MW project, we will have to spend a lot of time talking to both existing industry participants as well as some of the potential new industrial participants, like the transportation sector, to get the off-takes."

Existing hydrogen-consuming industries such as ammonia production will likely be the first to adopt green hydrogen at scale, in Shah's view. With more policy support, project developers can grow into sectors like power generation and steelmaking over time, the CEO said.

Similar to upstream hydrogen production, the challenge of assessing demand-side projects could throttle deployment. Nietvelt said S&P Global Ratings would be "very comfortable" assessing hydrogen in power generation, given that converting combined cycle power plants to burn hydrogen is no great leap in technology. However, rating agencies will need to gather more evidence for projects like fuel cell applications for aviation, green ammonia-fueled maritime shipping and reconversion of ammonia to hydrogen, Nietvelt said.

Here, too, the DOE hopes to play an enabling role. According to Fridell, the office is in talks with project developers on a wide range of applications: power generation, waste-to-hydrogen fuel, transportation, storage, materials handling, midstream infrastructure and industrial process decarbonization. Still, the risks DOE is willing to take are not without limit.

"While we're comfortable taking that higher technology risk — that is our mission and our sweet spot — as senior lenders, we do seek bankable revenue and business models that can demonstrate a reasonable prospect of repayment for our loans," Fridell said.

S&P Global Ratings and S&P Global Market Intelligence are owned by S&P Global Inc.