A power play in Nepal

Constant power outages and a “complete ignorance of private equity” – that was the state of affairs in 2014 when Dolma Fund Management launched its first fund in Nepal.

Capacity on the Nepalese grid could not meet demand, resulting in power outages lasting up to 16 hours a day. Locals couldn't rely on Nepal's power grid to charge their devices or prepare food, while factories struggled to keep the lights on, let alone operate efficiently.

But the difficulties that the underperforming grid brought to daily life and the economy also presented opportunities for investment, while Nepal's mountainous terrain provided the right geography for hydropower development.

As Nepal expands its hydropower sector and meets its domestic electricity needs, it is also eyeing energy exports to neighboring countries, including India, leading to further increases in its capacity and greater opportunities for investors.

While Nepal's private investment scene is small, current players hope their efforts will encourage larger players to enter the market.

Unknown waters

Dolma launched its first fund, Dolma Impact Fund I, in September 2014. Founder Tim Gocher says the fund was the first of its kind in Nepal. “Private equity of any kind – infrastructure, venture capital – did not exist in 2014.”

As the first company to attempt a Nepal-focused fund, Dolma faced the challenges of any first-mover company: it had to carry out a high level of due diligence on its management and pipeline, while simultaneously providing potential investors with the economics and state situation in Nepal.

“We were in uncharted waters. It was easier to raise a second fund because we at least had the track record of the first fund. In the first fund, however, not only did we not have a track record – no one had a track record.”

Dolma Impact focuses on three core sectors: renewable energy, technology and healthcare.

In the renewable energy sector, Dolma has invested in three hydropower companies: Seti Khola with a capacity of 22 MW, Swet Ganga with 28.1 MW and Suri Hydropower with a total capacity of 13.4 MW in its two projects.

Dolma also claims a 5 MW solar park in Gandaki province among its portfolio companies, making it the first independent solar power producer to enter into a power purchase agreement with the Nepal Electricity Authority.

Although these projects are relatively small, Nepal's energy sector offers room for growth. Over the last decade, the Nepal Electricity Authority has redesigned the Nepalese grid to make it more efficient by eliminating much of the energy previously lost in transmission and reaching agreements with India.

In January, India signed a power trade agreement to purchase 10 GW of hydropower from Nepal over the next decade. The agreement represents a significant energy boost for Nepal, which currently has about 2.6 GW of capacity across 144 hydropower projects.

However, given the government's goal of achieving 28.5 GW of hydropower generation by 2035, this could be just the beginning of Nepal's ambitions. Studies have estimated the total theoretical potential of Nepal's hydropower at up to 83 GW.

Although such a measure may not be feasible due to the country's geographical limitations, even a more conservative estimate of around 42 GW would still more than meet Nepal's domestic demand and provide scope for exports.

Gocher says Nepal's first export deal with India is a “game changer” for the economy. “Right now, Nepal’s biggest export is probably labor. People leave because there aren't enough jobs; There are a large number of people going abroad to work every day.”

Gocher said such agreements could also be a game-changer for the climate, as Nepal begins to replace its neighbors' dependence on fossil fuels with renewable energy.

In fact, an upcoming trade deal with Bangladesh could result in Nepal's hydropower export capacity being expanded by an additional 5 GW.

Big potential

As more independent power producers enter the market, Nepal is witnessing a steady increase in generation capacity.

Still, the level of investment in the energy sector remains well short of the $46 billion that the Nepalese government plans to attract by 2035.

“Currently, the biggest foreign players would be Indian state-owned developers, DFIs and multilateral development banks – the kind of people who are our investors,” says Gocher. “But you need to expand this to large private sector infrastructure funds. And to achieve that, you need a better track record of exiting people like us.”

Since there are few private buyers in the hydropower market, the Nepal Stock Exchange provides an exit mechanism while giving locals the opportunity to invest in the hydropower plants at their doorstep.

Hydropower companies must offer 10 percent of their shares to the local community.

“It is not the most advanced stock market in the world, but compared to the level of economic development in Nepal, it is more advanced. We see sufficient liquidity to sell our shares, albeit piecemeal.” Gocher cannot disclose the returns on Dolma's hydropower investments, but says they have been enough to launch a new climate-focused fund in which Dolma will take a majority stake becomes.

Dolma's climate fund is targeting $300 million – a step up for the company, whose second fund closed in December 2022 at $72 million.

Patient capital

As one of the investors in the Dolma Impact Fund II, the development finance institution British International Investment wants to promote further private equity activities in Nepal.

BII has been present in Nepal since 2020 and has provided more than $100 million in “long-term, patient capital” through direct investments, loans and funds. This includes an investment of $14.25 million in Dolma Fund II.

Separately from Dolma, in 2019, BII and a consortium of lenders including the International Finance Corporation and the Asian Infrastructure Investment Bank supported the Upper Trishuli-1 Hydroelectric Project, a 216 MW run-of-the-mill project 70 km north of Kathmandu, through debt financing in 2019 Amount of $453 million package.

“The idea was to create a model for more foreign direct investment in Nepal,” says Sameer Usgaonkar, BII head of project finance for South Asia.

The 216 MW capacity of Upper Trishuli-1 (UT-1) was ambitious and was equivalent to 10 percent of Nepal's total hydropower capacity at the time. Such a project would have faced difficulties in accessing local finance, which was reflected in the type of lenders it attracted: DFIs and international banks.

“You don’t want to get into a cycle where liquidity is tight and you build a hydroelectric project so you still need foreign direct investment in the form of debt.”

Sameer Usgaonkar
British International Investment

“The local market was not big enough to support this, whereas today in Nepal you can easily realize a 150-200 MW project with only local bank financing,” says Usgaonkar.

However, he adds that the cyclical nature of banking market liquidity in Nepal remains a challenge. “You don’t want to get into a cycle where liquidity is tight and you build a hydropower project, so you still need foreign direct investment in the form of debt.”

While production of UT-1 is primarily for the domestic market, both the scale and target of hydropower projects have since changed and are increasing as Nepal seeks to supply India.

“Today we are talking about the development of 900 MW [UT-1] is no longer the biggest project in Nepal,” says Usgaonkar.

This title goes to the Upper Karnali hydroelectric project currently under development, which will serve offtake agreements in India and Bangladesh through dedicated transmission lines.

Usgaonkar said Nepal's export prospects are good with another 6 GW currently under development. He says discussions about exporting electricity to India have been going on for at least 20 years but are only now becoming a reality as three factors come together.

First, he says a modern transmission system is key. “A transmission line only allows electrons to be transported from one point to another. If you really want to do it right, the two transmission networks in the two countries have to communicate with each other; they have to be in sync.”

The second priority is demand, says Usgaonkar. As India's renewable energy capacity expands rapidly, its utilities have had to find a stabilizing energy source other than coal. “This has given a lot of impetus to hydropower demand in Nepal.”

Third, it has become easier to find buyers through the Indian Energy Exchange, allowing the national electricity market to sell electricity directly to Indian consumers. “This is something that could not have been imagined five years ago and it gives a major boost to the hydropower capacity that can be developed in Nepal.”

Neighboring views

Investment Board of Nepal Vice Chairman Prakash Sharan Mahat is optimistic about the country's investment potential.

“As green investment has become a buzzword, there are no better investment destinations than Nepal as we have negligible emissions and have the potential to provide clean and renewable energy to other countries in the region to minimize emissions in line with their goals. “

However, Gocher is pragmatic about the prospect of others in the private equity space entering the Nepalese market, having personally experienced the challenges of starting up.

One of these challenges is the issue of currency, as every new business has to convert Nepali rupees from its PPA into another currency.

The fact that the Nepalese rupee has been pegged to the Indian rupee since 1994 (at a ratio of 1.6:1) may give it stability, but it also means that it is tied to the fate of the Indian economy.

“Basically, the Nepalese rupee is the Indian rupee,” says Gocher. “There is currency risk unless you are an Indian investor, but we see the Indian bond markets and the offshore bond markets in India becoming much more attractive as India grows.”

Economists have predicted that India will overtake Japan and Germany to become the world's third-largest economy by the end of the decade.

Given such a growth trajectory, Nepal's close ties with India could work in its favor and provide opportunities for investors already familiar with the Indian market to consider cross-border investments in Nepalese energy.