July 20th, 2012
A few weeks ago I went to a great little event hosted by LG Legal at their HQ next to Boris’s City Hall that brought together leading players in the Anaerobic Digestion (AD) industry. I started writing about it in an initial fit of inspiration on the last train back to Bristol, while the debate (chaired by BBC Science Correspondent David Shukman), the good dinner, and several glasses of wine were still in my system. Unfortunately after about a page of ranting I had typed myself to sleep, and only in the last couple of days has my screed come to light. Amazingly, I think I hit on a point that remains worth making – one which, if the leading players took it on board, would transform the economics of AD.
Given that the event was hosted by a leading commercial law firm a stone’s throw from the City, it was unsurprising that the investor community was well represented. Other guests were diverse – from developers to technology companies to local authorities to government agencies. The consensus view was that most AD projects remain very challenging to fund. A lot of the debate focused on feedstock supply and the extent to which the lack of large, long-term securable lumps of organic waste was a fundamental barrier to investment. Without a contract with a local authority or a major industrial or retail producer, investors would rarely feel there was the security income to make them confident to put money in.
Hogg in the limelight
The main speaker for the evening, Eunomia’s own Dominic Hogg, was clearly in the mood to be provocative and took issue with the consensus. With his usual vigour, he laid into what he characterised as investors’ lack of ability to discern between “risk” and “uncertainty”. This distinction is critical in a market that, whatever your contract says, is beset by uncertainties, especially in the longer term. While a 5-year local authority contract may give you a degree of certainty for that period of time, it does little to manage your risk on a fifteen year investment – the only way to do that is to have the right facility in the right place being managed by the right people.
When Dominic’s having a rant, I see often my role as being to interject something vaguely sensible to stave off the perception that Eunomia is awash with nutters. However, in this case I agree with nearly everything Dominic said. Risk management in long term AD investment always should have required investors and developers to look beyond the horizon of a particular contract, but now that the long-term, large tonnage sources are increasingly sewn up, the need is all the more pressing.
The best way for them to manage investment risk is to ensure that any new facility can deliver a competitive gate fee that is likely to attract food waste over the facility’s lifetime. I’m aware of a number of sites which, although they have secured a local authority contract, need to command gate fees that in today’s more competitive market simply won’t stack up. Come the end of their big contract, it will be impossible for them to maintain margins and may be really difficult to continue operating because they haven’t got the basics right.
Getting location, technology, financing and management right and well-matched is what will lead to a long-term competitive gate fee and is the best insurance policy for securing an adequate income stream for the lifetime of your facility. There are enough smaller food waste sources out there to draw in, and the growing incentive to divert waste from landfill will ensure that the amount available to compete for continues to increase.
The most striking thing about the event was the lack of representation from collectors. Of the 70 or so people in the room, only two waste collection companies were represented. These are the people who hold the key to solving the security of supply problem and ultimately to the maturing of the AD market – yet they aren’t on most funders’ radar or, for that matter, well integrated with developers.
What is surprising is that investors and developers have not embraced the most obvious solution to security of supply in a tightening market – that of spreading risk across a larger number of smaller suppliers. Rather, the obsession is still with the ‘all eggs in one basket’ strategy. But the beauty of the commercial and industrial waste collection business has always been that if your costs were competitive, even if you lost a customer you could quickly and cheaply go out and sell to a new one to replace them. The same mentality needs to be applied here, as fundamentally there is too much food waste being produced by smaller businesses for the roll-out of AD to be secured off the back of a relatively small number of large contracts.
The revolution in waste collection clearly awaits a business model that incentivises customers to separate their waste for recycling and AD to a much greater extent than is often the case now. However, we are at (or even beyond) the tipping point where disposal costs should make increased separation viable for a much larger market. The first developer that works closely with a collector, combining so as to offer a truly recycling- and AD-led service to smaller businesses at an attractive price, will secure feedstock from a large, diverse body of businesses. And provided the investment community pays attention, they will really have changed the game.