KenGen Risks Losing Olkaria Wells Over 18-Year Licence Blunder Kenya Electricity Generating Company (KenGen) faces a serious legal and operational risk at Olkaria after an error in the coordinates of its geothermal licence left part of the company’s wells, steam infrastructure and other assets outside its legally recognised area. The licensing mistake, made nearly two decades ago, remains unresolved despite the Ministry of Energy and Petroleum acknowledging the problem in 2017. The dispute has raised questions about the security of KenGen’s investments, the government’s management of geothermal resources and the potential consequences for Kenya’s electricity supply. Olkaria is the country’s most important geothermal centre and accounts for the overwhelming majority of Kenya’s installed geothermal generation capacity. Licence Error Exposes Strategic Assets The problem dates back to September 19, 2008, when the Ministry of Energy and Petroleum issued KenGen a licence covering ...
Geothermal Project Finance Structuring: SPVs, Mezzanine Debt, Blended DFI Finance and Contingent Capital for Drilling Risk
Geothermal Project Finance Structuring: SPVs, Mezzanine Debt and Blended Capital for Drilling Risk
Image : A depiction of a geothermal complete project
Geothermal power sits in an awkward place on the project finance spectrum. It behaves like long‑lived infrastructure once it’s operating, but it looks like frontier exploration during the early drilling phase. To build bankable deals in that environment, developers and investors have had to invent a toolkit of SPV structures, mezzanine drilling tranches, blended public–private finance and contingent instruments that allocate subsurface risk without blowing up returns.
This is not just a technicality for lawyers and bankers. The way geothermal deals are structured determines whether otherwise viable resources ever reach financial close. It also shapes how much upside sponsors keep via GP carry, how quickly equity can recycle, and how development platforms position themselves in a crowded clean‑energy pipeline.
Why geothermal is structurally harder to finance
Compared to solar and wind, geothermal presents three financing headaches:
Front‑loaded resource risk
You can spend tens of millions of dollars on exploration and appraisal wells before you know if you have a commercially viable reservoir. That risk sits before traditional non‑recourse project finance can even start.
Lumpy capex and long timelines
Full‑scale projects often cost hundreds of millions of dollars and can take 4–6 years from early exploration to COD. That pushes sponsors and lenders to look for ways to stage risk and funding.
Hybrid risk profile
Once the field is proven and the plant is built, geothermal looks like a classic infrastructure asset: stable cash flows under a PPA or feed‑in regime. But until then, it behaves more like upstream oil & gas or mining.
The result is that plain‑vanilla project finance doesn’t fit neatly. Bankers want non‑recourse debt backed by contracted cash flows and proven resources; developers need capital precisely when nothing is proven. Bridging that gap is where structuring comes in.
SPV basics: ring‑fencing risk and returns
At the core of most utility‑scale geothermal financings is a special purpose vehicle (SPV). The SPV:
Holds the key assets: licences, leases, wells, plant and PPA.
Enters into all the major contracts: EPC, drilling, O&M, offtake and financing.
Allows lenders to take security over a defined asset base and cash‑flow waterfall.
From a sponsor’s point of view, the SPV:
Ring‑fences project risk from the broader corporate balance sheet.
Provides a clean container for equity investors, including PE funds and infra platforms.
Creates a natural locus for GP/LP economics – for example, a development‑platform GP holding a 10–20 percent promote on successful projects.
For geothermal, SPVs are often structured to accommodate phased development: multiple units or stages within the same licence area, each with its own financeable scope but sharing reservoirs and infrastructure. That allows early units to de‑risk later phases and generate pre‑operating revenue that can be rolled into the capital stack.
Two‑phase capital stack: pre‑FID and post‑FID
Because drilling risk is so front‑loaded, geothermal capital stacks are usually split into:
Pre‑FID (pre‑final investment decision)
Funded by sponsor equity, development capital, sometimes early‑stage DFIs or climate funds.
Covers surface studies, exploration drilling, appraisal wells and initial infrastructure.
Often housed in a development SPV or platform, with the right to drop proven projects into separate project SPVs once resource risk is acceptable.
Post‑FID (project finance phase)
Funded by a mix of senior debt, mezzanine/subordinated tranches and equity.
Triggered once a minimum proven capacity threshold is met (e.g., P50/P90 resource report, tested wells, PPA signing).
Structured as classic non‑recourse or limited‑recourse project finance.
A common model for developers is:
Use platform equity and high‑risk development capital to fund pre‑FID.
Once a field is proven, bring in long‑term infra equity (pension funds, infrastructure funds, utilities) and raise senior debt.
Retain a promoted stake as GP, capturing upside via carry, success fees and retained equity.
Mezzanine debt as a drilling‑risk buffer
One of the most important tools in geothermal structuring is mezzanine or subordinated debt targeted at drilling risk.
In practice, mezzanine tranches:
Sit between senior project debt and equity in the capital structure.
Are often used to fund “make‑up wells” or additional drilling reserves required by senior lenders.
Carry higher coupons and sometimes profit‑sharing features, compensating lenders for stepping closer to exploration risk.
Key features of these mezz structures typically include:
Subordination and security
Mezz lenders may share security with senior lenders (pari passu) but agree to contractual subordination on payments and enforcement. Alternatively, they take junior security with standstill provisions.
Use of proceeds
Clearly earmarked for drilling, workovers or contingency wells that must be drilled if capacity falls short.
Triggers and sweeps
Cash sweeps and step‑up margins if debt service coverage ratios (DSCRs) fall below certain thresholds, ensuring senior lenders are protected.
For sponsors, mezzanine can be a cheaper way to fund marginal drilling risk than pure equity, while still preserving leverage. For DFIs and climate funds, mezz tranches are an effective way to leverage public capital: a subordinated loan can enable multiples of senior lending.
Blended finance: DFIs and climate funds as capital multipliers
Because private lenders are wary of early‑stage geothermal risk, development finance institutions (DFIs), multilateral banks and climate funds frequently play anchor roles in geothermal financings.
Blended finance structures can include:
Concessional senior or mezzanine loans
DFIs offer long‑tenor debt at below‑market rates, often with grace periods aligned to drilling and ramp‑up.
First‑loss tranches
Climate funds or public vehicles take a first‑loss or junior position, absorbing initial losses and making senior tranches attractive to commercial banks.
Guarantees and political risk cover
Sovereign or multilateral guarantees on offtaker obligations (e.g., PPA payments) and political risk cover reduce non‑resource risk and make banks more comfortable.
Risk‑sharing facilities
Dedicated geothermal risk funds co‑finance exploration drilling and forgive part of their capital if wells under‑perform, reducing the effective cost of failed campaigns.
From a structuring standpoint, blended finance allows:
Higher overall leverage than pure commercial lending.
Lower weighted average cost of capital (WACC) due to concessional components.
Deeper participation by local banks that would otherwise avoid geothermal.
For a PE‑style sponsor or GP, blended finance is also a way to stretch equity across more projects. Every dollar of concessional mezz or first‑loss capital can unlock several dollars of senior debt and private equity.
Contingent equity and convertibles for drilling outcomes
Beyond conventional debt, many geothermal deals use contingent or convertible instruments to align capital with drilling outcomes.
Examples include:
Contingent equity commitments
Sponsors commit to inject additional equity
if drilling fails to achieve a minimum capacity threshold or if costs overrun. This can substitute for completion guarantees and reassure lenders.
Convertible notes
Pre‑FID development capital is provided as convertible debt that turns into equity in the project SPV once FID is reached, often at a discount or with a structured promote.
Contingent convertibles (CoCos)
Instruments that behave like debt under normal conditions but convert into equity, or take a write‑down, if specific triggers are hit – for example, repeated drilling failures, delays, or cost overruns.
These instruments:
Give early‑stage capital some downside protection (seniority, coupons) while preserving upside through conversion.
Allow sponsors to stage their equity commitments to drilling milestones.
Create clear risk‑sharing rules between sponsors, early‑stage investors and later‑stage infra capital.
For a GP managing a geothermal development platform, contingent and convertible instruments are also a way to monetise development risk: you can bring in strategic co‑investors at the platform or SPV level with structured exposure to upside and downside.
Image : Fervo Crew Climbing up a drilling rig
Cash‑flow waterfalls and GP economics
On the project finance side, geothermal SPVs use standard cash‑flow waterfalls:
O&M and operating expenses.
Senior debt service (interest and principal).
Reserve accounts (DSRA, maintenance reserves).
Mezzanine debt service.
Distributions to equity and GP promotes.
To reflect drilling risk and blended finance, waterfalls may include:
Cash sweeps when DSCRs fall below thresholds, redirecting excess cash to accelerate debt repayment.
Performance‑linked distributions where GP carry and sponsor dividends escalate once certain capacity factors, resource performance, or DSCR levels are achieved.
Use of pre‑operational revenue from phased plants to fund remaining capex rather than paying early dividends.
For PE sponsors and infrastructure funds, the GP/LP economics are often structured around:
A base developer fee or success fee at FID.
A carried interest in project SPVs – for example, 10–20 percent promote above a preferred return to LPs.
Options to roll development‑platform equity into operating platforms (yieldcos or listed vehicles).
Geothermal’s long asset lives (20–30+ years) make these carries particularly valuable once drilling risk is behind you.
Risk allocation across the capital stack
All of these instruments and structures ultimately serve one purpose: allocating risk to the party best suited to bear it.
Subsurface and drilling risk
Primarily sits with sponsors, development capital, mezz lenders and public risk‑sharing facilities. Some portion can be transferred via geothermal risk insurance and parametric drilling covers.
Construction and completion risk
Managed via EPC contracts, completion tests and sometimes completion guarantees or contingent equity.
Offtaker and market risk
Mitigated by long‑term PPAs, feed‑in schemes or corporate offtake (data centres, industrial buyers). Political and payment risk can be wrapped by guarantees and insurance.
Operational and resource‑decline risk
Shared between lenders and equity, with covenants and maintenance reserves providing buffers.
The art of geothermal finance structuring is to make sure each layer of capital is compensated relative to the risk it actually bears. If mezzanine is priced like senior, it will disappear; if senior is asked to swallow exploration risk, the deal won’t close.
How this ties back to your SPV/GP platform thesis
For a sponsor or GP positioning a geothermal platform, the mechanics above are not abstract. They define where you sit in the value chain and how you earn your carry:
Platform‑level SPV strategy
You can use a holdco to aggregate multiple development SPVs, each feeding proven projects into separate project SPVs. That allows you to raise development capital at the platform level (with its own GP/LP structure) and recycle it across a pipeline.
Drilling‑risk mezz and CoCos
By mastering mezzanine and contingent instruments, your platform can offer investors tailored exposure: some capital focused on higher‑risk, higher‑return development; other capital focused on de‑risked, yield‑oriented operating assets.
DFI and blended‑finance relationships
As a repeated user of DFI and climate‑fund instruments, you build credibility and a playbook, shortening timelines and lowering transaction costs for each subsequent deal.
Corporate offtakers and data‑centre deals
Pairing sophisticated project finance structures with credible corporate offtake (e.g., data centres) positions you as a partner‑of‑choice for buyers who want firm, low‑carbon energy without becoming geology experts.
In short, geothermal project finance is where exploration‑risk capital and infrastructure capital meet. The developers who win are those who understand both sides: they speak the language of mezz and CoCos for drilling, and they can still deliver the clean, predictable cash‑flow profiles that long‑term investors and lenders need.
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