1. Project Finance and Project Structure Business of Energy

2. WHY DO WE NEED PROJECT FINANCE?

3. What is project finance? A method of financing where the lender accepts future revenues from a project as a guarantee on a loan – Different from corporate finance in that it does not guarantee the loan through physical collateral in case of default – Therefore, project finance is most suitable for a project where there is a predictable revenue stream to support debt repayment The twentieth century was marked by a reliance on the public sector for developing infrastructure projects – In the last two decades, however, there has been a shift from the public sector to a hybrid public-private sector model 3

4. Generation costs vary by each energy type 4 Source: EIA 2010 Estimates http://www.eia.gov/oiaf/beck_plantcosts/

5. Generation costs vary by each energy type 5 Levelized Energy Cost (LEC) is the price at which electricity must be generated from a specific source to break even over the lifetime of the project. It is an economic assessment of the cost of the energy- generating system including all the costs over its lifetime: initial investment, operations and maintenance, cost of fuel, cost of capital, and is very useful in calculating the costs of generation from different sources. Source: http://en.wikipedia.org/wiki/Cost_of_electricity_by_source

6. 2010 electricity production subsidies BeneficiaryDirect ExpTax ExpR&D Federal Elect Support Loan G'teeTotal Share of total subsidies & support Share of electricity generation in 2010 Coal374865759101,18910.0%44.9% Natural Gas and petroleum liquids 1583155606545.5%25% Nuclear09081,1691572652,49921.0%19.6% Renewables4,1781,3476321332696,56055.3%10.3% Biomass65455001141.0%1.4% Geothermal1151720122001.7%0.4% Hydropower17 5113002151.8%6.2% Solar4099928701739688.2%0% Wind3,5561,1781661854,98642.0%2.3% Unallocated Renewables 750000 0.6%0 Transmission & distribution 46158222211209718.2%NA Total 4,677 3,382 2,613 648 555 11,873 100% 6 Source: IEA 2010 report

7. High Level Project Finance Numbers $B spent worldwide in 2011 in project finance by sector (source: Dealogic) – Conventional power - $74.0B – Renewable energy - $40.8B – Infrastructure (airports, bridges, ports, hospitals, etc) - $108.2B – Oil & Gas - $77.4B – Industrial / Telecom - $23.2B – Mining - $21.0B 7

8. WOW! WHERE DO WE GET ALL OF THAT MONEY???

9. What a mess! How do you keep track of everything? 9 Source: http://zeroemissionproject.com/ The typical project structure: allocates risk to the party best able to bear it

10. Project Finance Screen Credits: 10 starring…..as the…… Sponsor Company ……….Main Actor Equity Investors.……….Supporting Actor Banks …………………..Director Machinery Suppliers …….Store Clerk 1 Equipment Provider ……..Store Clerk 2 Contractors ………………..Friends 1 - 5 Power Purchaser ………….The best friend forever

11. What about the behind-the-scenes…..the stage crew? 11 starring…..as the…… Local Government ……….The studio head Joint Venture.……….The producer Local Partner ……………..The promoter Regulatory Institutions.….Local police force Carbon Markets ……..The DVD sales

12. The Business of Energy Ltd (BOE Ltd)– a classroom example 12 BOE Wind Ltd. (US) (SPV) BOE Wind Ltd. (US) (SPV) BOE Ltd. (US) BOE Wind Europe Ltd. (Cayman) BOE Wind France Ltd. (France) 100% 80% Acciona (EU Wind Tech Co) Acciona (EU Wind Tech Co) French Utility GDF Suez (Local execution) GDF Suez (Local execution) 20% 60%40% Domestic International

13. Project structure is increasingly international – a Chinese example 13 Source: http://www.chinalawinsight.com/2012/01/articles/corporate/foreign- investment/variable-interest-entity-structure-in-china/ SPV – Special Purpose VehicleWFOE-Wholly Owned Foreign Entity PRC – People’s Republic of China

14. Steps: 14

15. Sources of Money 15 Source: http://transportationfortomorrow.com/ Equity (Partners) Debt (Banks)

16. Sources of Money 16 Source: http://transportationfortomorrow.com/ How is it different from traditional funding?

17. Sources of Money Debt investors – Banks – Typically debt period is the same length of time as the PPA contract – Usually will account for 35% to 60% of a project's costs – Goal is to get the largest portion of the debt to be "investment grade" by the ratings agencies (S&P, Moody's, Fitch) as possible --> results in significantly lower debt rates (~5-8%) 17

18. Sources of Money Equity investors – When debt is involved Equity is more risky (will only get paid after debt gets paid off) Investors usually look for 14-18% IRRs Invest 5% to 20% of a project's costs – When debt is not involved Investors look for ~10-12% IRRs Invest 5% to 50% of a project's costs – Tax Equity: Typically will take a major stake in the project for the first 5 years (to maximize depreciation and tax benefits) and then become a background player for remaining ~10 or so years – Main equity investors at this point are: Banks and insurance companies (and Google) 18

19. Wait…Google? Given that this is a somewhat new technology and space, renewable developers are still desperate for money. They therefore will pay a premium for capital. The returns on money invested is higher than they can earn elsewhere, primarily because of the tax benefits Google has a large cash balance sheet, which means they receive a lot of cash throughout the year and therefore have to pay a ton of taxes (cash from ad fees with little expenses). These investments utilize tax credits and depreciation benefits, which don't just give them additional cash. Instead, it decreases the amount of taxes they have to pay the government. – For example, Google earns $110MM one year without any renewable energy investments. The depreciation they are allocated from their investment reduces their net income to $100MM. Normally, Google would have to pay ~40%, or $40MM in taxes to the government. However, with $15MM in renewable energy PTCs, they now only have to pay $25MM. – Since it is essentially an after-tax benefit, each $ boosts their return more than a normal investment vehicle (like a stock) because they'd have to pay taxes on the gains. 19 Why would someone like Google invest in this space?

20. Tax Equity Occurs in projects that government wants to incentivize through tax breaks, special depreciation schemes Sponsored by companies with large tax obligations Volatile source. Total funds available depend on state of economy Types: – Partnership Flip – Sale Leaseback 20

21. Tax Equity – Partnership Flip 21

22. Tax Equity – Partnership Flip 22 During the period when tax benefits are available or until such later time as the Investor achieves a specified rate of return on its investment (typically 6-7 years), a large majority (typically, 95% or more) of taxable income, loss and tax credits are allocated to the Investor. After the later of the expiration of the tax credit recapture period or the achievement of the investor's specified hurdle rate of return, the ownership of the LLC (partnership) interests flips, to, for example, 90% or 95% to the Developer and the rest to the Investor. After target IRR is reached, Developer frequently has an option to buy out the Investor's interest for fair market value determined when the option is exercised. Option should not be continuous, but may be exercisable at predetermined times.

23. Tax Equity – Partnership Flip 23 Fund is the owner of the solar installations (via lower tier LLCs disregarded for tax purposes) Tax Benefits Depreciation deductions 30% ITC flows through to the tax credit equity investor State incentives – Rebates, Renewable Energy Certificates (RECs) and state tax credits Cash flow from PPA / Lease revenue

24. Tax Equity – Sale Leaseback 24

25. Tax Equity – Sale Leaseback 25 Developer lessee bears all operating costs, costs of insurance, etc. At the end of the lease term, the system is retained by the Investor/lessor (who is its owner all along) Developer/lessee typically has an option to purchase the system at the end of the lease term (and sometimes at one or more specified times before the end of the term) Purchase option at fair market value

26. Tax Equity – Sale Leaseback 26 More effectively frontloads economics to developer Allows developer to grow business with current cash flow More effective use of developer’s corporate capital? Developer establishes track record Sacrifice of residual interest for current cash flow Investor has flexibility to get into the deal within 90 days of PIS mitigating/eliminating construction risk

27. Tax Equity – Sale Leaseback 27 System is owned 100% by investor Efficient monetization of tax benefits No leakage of tax benefits compared to a partnership (e.g. 1% to G.P.) Sales taxes paid over life of the lease agreement Simplicity of structure, Cost effective Investor utilization of lease optimization model

28. Tax Equity – Lease Pass-through 28

29. Why don't more people invest in this space?: Primarily, because it's very complex to structure these projects, and most companies don't have (or want) the expertise needed to do so effectively. As they'll tell you in finance…invest in what you know. Most companies don't know this type of investment, so they don't invest in it. The White House has tried to bring more investors into the space, but it's a slow process 29

30. WE’VE SPENT $400M ON A POWER PLANT, HOW DO WE MAKE MONEY?

31. Revenue comes from “off-takers” 31 Sell product to “off-takers” For Oil and Gas – Refineries – Other Oil companies – Commodity Market – Foreign governments For Electricity – Utility – Factories – Private establishments Source: http://sunetric.com/solar-for-business/

32. ALLOCATING RISK? HOW DO WE KEEP ALL THE PARTIES IN LINE?

33. Risks 33 Source: http://transportationfortomorrow.com/ What are the risks involved in setting up a power plant?

34. Types of Risk 1.Construction phase risk (Completion risk) 2.Operation Phase risk 3.Common risks 1.Participant risk 2.Technical risk 3.Currency risk 4.Regulatory risk 5.Political Risk 6.Force majeure risk 34

35. Due to the impact & monetary scale, it is critical to minimize risk 35 Source: http://transportationfortomorrow.com/

36. In energy, contracts are everything 36 Contracts govern all transactions Contract Examples: – Power Purchase Agreement (PPA) – Land rights – Drilling Right – Subcontractor Agreements – Operating Agreements – Interconnection Agreement Can see sample contracts here (U.S. Dept. of Energy): http://www1.eere.energy.gov/femp/financing/ppa_ sampledocs.html

37. Contractual provisions play a critical role in project success 37 In order to ensure timely completion of a project; penalties are built into contracts – Late completion penalty: $/Day late – Money set aside in an escrow to pay for non- performance – Reduce post project completion $ awards Penalties are written to reduce risk of the receiver of benefits. One down-day can cause millions in lost rev.

38. NOW THAT WE’VE MET ALL THE PARTIES, WHAT ELSE DO WE NEED TO CONSIDER

39. Projects are heavily regulated and need to abide by Gov. laws 39 Typical Gov agencies that govern energy projects: – State Government – Local Government (mayor) – Energy Agency – Real Estate Agency – Environmental Protection Agency – Department of Natural Resources – National Transmission Company – Wildlife Agency – Marine Agency – Transportation Agency – Local bureaucrats

40. Projects are heavily regulated and need to abide by Gov. laws 40 Each agency is created to protect the public, however… – You have to understand and cater to each one’s needs – You might see more agencies and more red tape in countries with high corruption The application and approval process is at times very painful – Applications are long, the processing time is long, and simple mistakes can cause a rejection

41. Governments, international agencies & Local partners can be your best partner 41 Various International Agencies can help with projects Financial help – IFC – ExIm banks Operational Help – World Bank – U.S. EPA – Local business development agencies Risk assistance – OPIC – World Bank

42. Q&A

43. TYPES OF RISK

44. BACKUP

45. Source: World Energy Outlook 2011

46. Example of a letter of intent