Carbon Funds in the Emerging Carbon Market and the Role of the Prototype

Carbon Fund

Carbon Finance Conference

February 15th-16th, 2001, London

www.Prototypecarbonfund.org

PCF Status and Focus

Deal flow far exceeds funding - several carbon contracts now under negotiation

� >50 deals with $300m+ carbon purchases under review

� Targeting signed ERPAs of $35-40mm in Argentina, Chile, Cost Rica, Morocco, Uganda, Poland, Honduras, India by end-Summer, 2001

� Reserve ERPAs of $17-22mm in Hungary, Bulgaria, Jamaica, Guyana, Guatemala, Brazil

� conditional letters of intent to purchase to 6 others by end Feb, 2001

Constraints: Government Awareness and Resolve, Quality of Asset after baseline review

PCF Portfolio and Focus

• predominance of wind, waste management, small-hydro and bagasse/biomass co-generation

• strategic focus on building market infrastructure for aggregation and intermediation of small projects

• leaving space for PV, transport, fuel-switching, LULUCF (EITs) and Energy Efficiency

Typology of Funds/Plays

• Pure Carbon Funds (PCF, National Funds)• Private Equity Funds

Aimed at JI/CDM Projects New Energy, RE, EE Funds with Carbon Credits Forestry Funds with Carbon Credits Energy or Forestry Funds that Could Add Carbon Credits

• Mutual Funds with % in Private Equity• NGO Funds• Sustainability, Social, Ethical Mutual funds• Corporate “Funds” Earmarked for Carbon Credit

Investment

Summary Findings from Fund Manager Interviews

• About 5 private sector funds to capture JI/CDM C credits in all investments (UBS, Hancock, Commonwealth, Carbon Trader, Env Fin Prod)

• Handful of private equity funds also seeking carbon credit investors to raise IRR in deals

• Major forestry funds thinking about C credits• New energy private equity and mutual funds might seek C

credit deals if demand rises• Social funds use C as screening indicator• total capital driving C credits: $2.5-4 billion in Energy

sector; $1bn+ in forestry

Carbon Funds(All leverage private finance)

• PCF $145M + potential fund subscription by Participants up to $180m

• Netherlands Clean Development Funds: ~$230m over three to four years

• Commonwealth Bank’s Clean Fuel Program BP is first participant, other companies expected. Funded by consumer “checkoff.” Program invests in GHG mitigation projects in Australia. AGO certifies.

• National FundsAustralian government funds/initiatives The Netherlands – Eru-PT – government funded

Private Equity Funds Aimed at JI and CDM Projects

In PlanningAbout $50M: Aus investors in lead, to mkt Japan, Europe

To invest in C offset forestry projects in Australia

The Carbon Trader carbon unit trust

In planning$????Environmental Financial Products details confidential

In PlanningAbout $100JI Article 3.3. Forestry in US, Australia, NZ

Hancock New Forestry Funddetails confidential

In PlanningAbout $50

Swiss investors

JI & CDM RE, EE, Fuel Switching

UBSdetails confidential

Private Equity Energy Funds with JI/CDM Carbon Credits to Enhance IRR

To Seek Investors March 2001

$150-500MRE in EU, Turkey, E Eur

Black Emerald LeasingPartners

On Hold$400-500MGlobal

RE, EE

CreditLyonnais/

ArthurAnderson

Seeking Investors

$20-35MLatin Am

RE, EE, PC

LA Clean Tech Fund

Seeking Investors

$200-300ME&C Europe

RE, EF

Clean Energy Fund

Operating$70-100ME&C Europe RE, EF

Dexia/

FondElec

Operating$200MGlobal RE, EFREEF

New Energy Private Equity Fundswhich Could Have C Component

?Societa di Gestione Risparmia (Milano)

Launched 2000

US&Eur

RE,EE,other

$35MSAM (Switzerland & US)(includes food)

UnderwayFuel cellsNuveen Investments fuel cell unit trust (US)

ProposedEnergy tech$100MFirst Albany Corp (US)

Launched Clean tech$25MImpax Capital (UK & US)

New Energy Mutual Funds with % in Private Equity or Companies

with possible C Component

1st half 2001 start

Small% unlisted

$50M+

SAM Smart Energy Fund

Planning?$?Innovest New Energy(with C Component)

Launched 2000

75% in priv cos

$113MBank Sarasin New Energy Invest

Launched 2000

25% in priv cos

$300MMerrill Lynch New EnergyTechnology

Private Equity Forestry Funds with Carbon Credits to Enhance IRR

In Planning

No details

$M?US, global?

Environmental Financial Products(details confidential)

Started, one investment

In Planning

No details

>$100M in Brazil

$?M new global

Brazil

Global

Renewable Resources LLC

Two funds:(details confidential)

In Planning>$100MGlobalSylvan Capital Partners(details confidential)

NGO Forest Funds Which Include Carbon Prospect

So far $10M in Belize & SAfrica

$?GlobalFFI Arcadia Fund

Planning

Planning

$30M

?

Both in Latin Am SE Asia

TNC Catalyst Investment Fund

And Carbon Fund

$5M invested

Up to $100M

Southern Countries

CI Tropical Wilderness Preservation Fund

Types of Fund Investments in Projects with Carbon Credits

• PCF invests cash for C credits. Price of C and amount of credits negotiated with equity holders.

• UBS, Hancock, Carbon Trader to invest cash for equity and negotiate for C credits with other equity holders in projects. Investors get return plus C credit, or combination.

• REEF, FondElec, LA Clean Tech will invest cash for equity and negotiate for some/all of C credit with other equity shareholders. Fund may sell C credit to enhance fund returns.

Types of Fund Investments in Projects with Carbon Credits

(Continued)

• Black Emerald to provide equipment lease in return for cash return, depreciation and tax loss benefits, and C credit. May have to negotiate C credit with equity owners of project.

• Commonwealth Bank’s Program: Participants pledge revenues (BP’s penny checkoff on premium petrol). Program invests in projects in return for C credit. Credits owned by consumers and “retired.”

• NGO funds use donor money to buy land or bid on concessions. C credit may be sold and the proceeds reinvested.

Investor Carbon Market Sentiment

• Most fence sitting – waiting for national and international regulations

• Early movers in deals and funds:– have high carbon exposure and regulatory risk,– are seeking strategic positioning – are seeking to influence policy– are at an early stage– wish to capture upside speculative C benefit

• Mainstream investment, “big” money still skeptical

Other Players and Angles

• Investment banks: waiting for market development• Social/ethical/sustainability funds: use carbon as a

screening criteria• Some companies have internal “funds” for carbon

credit investments (e.g., Fortum, Sucor Energy)• Agribusiness companies (Syngenta, Monsanto)• Swiss consortium funding R&D in Africa

Carbon Market Observations IRelative Value of CDM/JI Carbon Financing

• Carbon Prices are NOT >$5/t/CO2 and unlikely to exceed this level before 2005

• At $3-5/t/CO2 Carbon Finance contributes:– typically 0.5-1.5% to Project Financial IRR– 5-10% of project finance in PV terms– Exceptions: Waste management (and methane-driven plays) and

merchant renewables plants cf. coal

• Conclusion:– carbon finance is no “magic bullet”– delicate balance between Protocol transaction costs and carbon

finance volume

Carbon Market Observations IIPrivate Capital and CDM/JI

• Private Capital Flows are Crucial to achieving Protocol objectives of:– technology transfer/sustainable development– climate change mitigation

• Current Financial Incentives are modest AT BEST• Hence, transaction volume/cost must be low and certainty

high to attract private capital• Current Decision Text and Proposals severely restrict

private investment in CDM. Barriers include: – Transferability, Fungibility and Eligibility

Impact of Current Decision Text on CDM/JI

project-based C Trade• Hampers or eliminates:

– secondary market outside of domestic regimes;

– greatly reduces investors incentives and market volume

– arbitrage between domestic regimes for CERs: may render “surplus” CERs worthless at end of Commitment period (fungibility constraint)

– Global Funds: ‘pooling’ of investment from mult-Annex I country investors (due to registration, transfer and eligibility uncertainties)

– much small-country, small project ER trade

– low cost CERs (due to possible baseline rules)

Annexed material

Features of the PCF

• Portfolio or fund structure– Minimize Project Risks

– Reduce Transactional Costs

– Enhance the Learning Experience• Governments: $10 m; Companies: $5 m• Total: US$145 million to be used in 25-30 projects• PCF Products:

– Competitively priced, high quality emissions reductions• target price outcome: $4-5/t-CO2 (= $20/t-C)• target cost of generating ERs: $3/t-CO2 (= $10/t-C)

– High value knowledge asset to help create competitive advantage for corporate investors and efficient market regulation for Parties

PCF Subscribers

Governments: (6)

Netherlands, Finland, Sweden, Norway, Canada, Japan (through Japan Bank for International Cooperation)

Private Sector: (17)

RWE - Germany, Gaz de France, Tokyo Electric Power, Deutsche Bank, Chubu Electric, Chugoku Electric, Kyushu Electric, Shikoku Electric, Tohoku Electric, Mitsui, Mitsubishi, Electrabel, NorskHydro- Norway, Statoil -Norway, BP-Amoco, Fortum, RaboBank, NL

($145 million)