Financing CDM Projects

Vinay Deodhar

Workshop on CDM Opportunities in Rajasthan

January 28 – 29, 2005

Jaipur

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Outline

• Introduction• Potential sectors for CDM projects• Clean Energy Project Development• Normal Due diligence• Carbon Finance Supplement

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Introduction• Vinay Deodhar, Energy & Environmental

Consultant-Adviser to CRISIL Infrastructure Advisory

• CRISIL – A Credible independent organization providing Ratings, financial news, risk analysis, economic research, industry/company research and fund services

• CRISIL Infrastructure Advisory Services provides policy/managerial advice to Government, Corporate sector and regulators

• Specializes in power, urban infrastructure, industry, transportation infrastructure

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CDM Centre of Excellence

• CRISIL Infrastructure Advisory has been selected as a local partner for establishment of CoE by Ecofys

• Centre supported by British Commonwealth Office in its first year

• CoE to provide Technical Assistance to Project developers, SMEs and capacity building of key stakeholders like government ministries, SEBs, SERCs and FIs

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The Project Finance Cake

Conventional Due

Diligence

PromoterSector analysisProfitabilityRisk analysis

Carbon Finance Analysis

AdditionalityBaselineHC ApprovalRisk analysis

CDM offers only the Icing on the Cake!CDM offers only the Icing on the Cake!

CDM

Underlying Project

Potential Sectors for CDM projects in India

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India’s GHG Inventory

GHG emissions from key sectors* [with 5% or more contribution]

• Fuel Combustion– Energy & Transformation Industries 28.9%– Industry 12.3%– Transport 6.5%

• Industrial Processes 8.4%

• Agriculture– Enteric Fermentation 15.3%– Rice cultivation 7.0%

* Source: India’s initial National Communication – June 2004

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Energy Sector

Largest potential for projects for generating Emission Reductions– Coal – Clean coal technologies like IGCC, Super critical process, coal

beneficiation– Fuel switch – coal/diesel based plants to Natural Gas/other cleaner

fuels– Renewable Energy – India blessed with solar, wind, biomass– Waste to energy – emerging area needing greater attention– Repowering – renovation and modernization, demand side

management– Energy efficiency – end use energy efficiency, reduction in specific

energy consumption in supply of services such as litre water delivered, lumens of light provided, TOR in HVAC systems

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Industrial Energy

Specific energy consumption improvement projects– Major contributors – steel, aluminium, pulp & paper, textiles,

sugar, chemicals and fertilizers, bulk chemicals, cement, petrochemicals etc.

– Options – waste heat recovery, efficient cycles, new materials, efficient energy recovery/conversion equipment, process integration through heat exchanger networking

– Alternate fuels like biomass, wastes

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Industrial Processes

Specific to the industries – some examples– Iron & Steel – alternate materials for reduction of metal, gas capture from furnaces,

CO2 recovery from BF, optimization of coal and graphite electrodes in electric arc furnace

– Distilleries – capture of CO2 from fermentation process– Lime – CO2 capture from limestone kilns (in cement, construction, paper, sugar

industries)– Carbide – optimization coal used in reduction, and limestone used for producing

CaO– Aluminium – optimization of electrolysis to reduce emission of CO2, use of alternate

anode materials and processes to reduce anode effects that release per fluoro carbons

– Nitric Acid – capture of N2O by extended absorption, selective catalytic reduction– Circuit Breakers – technologies to reduce emissions of SF6 from sparking effects in

power lines– Dairy – Efficient manure management to reduce methane emission

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Transport Sector

• Switch over from road to rail for cargo transport• Promotion of waterways• Transport/traffic planning – staggered work timing,

redistribution of work and domestic spaces, effective master planning

• Alternate fuels like CNG, bio-diesel, blending agro based ethanol, battery operated vehicles

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Urban Sector

• Efficient water management to reduce wastage and pumping load

• Better street lighting with efficient lamps• Building energy use efficiency improvement• Plantation and afforestation wherever possible• Proper MSW collection, transport, treatment and

disposal• Proper wastewater planning and management

Clean Energy Project Development

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What is a Clean Energy Project?

Any project that employs a “better than business as usual” technology that substantially reduces GHG emissions per unit of energy produced or consumed or per unit of product or service produced.

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CDM Project Structure

Financing Structures for CDM Projects in India and Capacity Building Options for EU-Indo Collaboration, Vinay Deodhar, Axel Michaelowa, Matthias Krey HWWA Discussion Paper 247, September 2003

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Normal Due Diligence

Needs Prior to GHG Analysis - Traditional Analysis– Promoters’ capabilities and credit worthiness and

resources – Market analysis- Demand supply gaps, Sustainability of

the project activity– Project Structure

• With recourse to promoters books or • Without BOO, BOOT, BOOM

– Available revenue streams- sale of services generated – Profitability indicators- IRR, DSCR, NPV– Risk Analysis– Underlying Contracts- terms and other elements

Remember GHG Analysis is closely linked to the conventional project analysis

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Steps in Project Analysis1. Review if carbon finance is right for the project2. Review the project to ensure that: a) it can be realistically

implemented, b) reduces GHG emissions, and c) can assist India in achieving sustainable development

3. Choose a business model: the traditional corporation vs. the special purpose vehicle

4. Estimate the project cost, profitability from projections5. Complete a basic projected Income Statement for the

project6. Estimate the discount or hurdle rate7. Calculate the Net Present Value 8. Calculate the Levelized Cost of the Project (optional)9. Identify Project Risk Factors10. Distinguish between qualitative and quantitative risk11. Develop a Risk Matrix12. Decide the appropriate level of Debt the project

Contd….

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Steps in Project Analysis

13. Decide the company’s investment hurdle rate (or Cost of Capital)

14. Recalculate the project’s net present value (NPV)15. Decide the best risk mitigation procedures for the project16. Put in place the appropriate contract (s)17. Decide what type of ‘back-up’ the project needs to cover

non-project based Risk (Risk Insurance, Guarantee, Leases, etc…)

18. Calculate the Price per metric ton of emission reductions19. Calculate the total revenue from potential carbon sales 20. Incorporate carbon revenues into the cash flow analysis 21. Decide on the right model to sell the Reductions

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Lender Requirements

• Loan Application Review Process– Promoter Credentials– Sector Analysis – Demand Supply gaps– Project Feasibility studies – Risk Analysis– Due diligence process

• Technical• Economic/financial• Legal/contractual/ Political• Environmental

• Lender’s perspective– If risk is inappropriately allocated, credit

enhancement from a creditworthy third party may be necessary to mitigate risk to lender

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The Carbon Finance Supplement

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GHG Mitigation Checklist

• Does the Project result in real, quantifiable, measurable, GHG emission reduction?

• Does it satisfy the host country sustainable development criteria?

• Is it’s cost higher than the least cost option meeting all the legal requirements of India?

• Does it satisfy the Additionality criteria?• Is it possible to develop a baseline

methodology that is consistent with the Additionality criteria?

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Establishing the AdditionalityTool for the demonstration and assessment of additionality

PASS

PASS

PASS

Step 0: Preliminary screening based on the starting date of the project activity

Step 1: Identification of alternatives to the project activity with current laws and

regulations

Step 2: Investment Analysis

Step 3: Barrier Analysis

Step 4: Common Practice

Step 5: Impact of CDM Registration

Project Activity is Additional

PASS

PASS

Source: EB 16 Report Annex 1

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Steps in Developing a CDM Project• In parallel with DPR, identify appropriate “baseline

methodology” if existing. Else propose a new methodology

• Baseline – A scenario with least cost that could have prevailed in the absence of the CDM project activity

• Estimate the baseline and project GHG emissions and Evaluate the emission reductions

• Prepare the project design document (PDD), justification of Additionality – environmental, technical, investment and sustainable development as per latest tools

• Apply and obtain the host country approval from CDM NA at MOEF

• Identify and engage a DOE for validation of the above• Prepare an Emission Reductions Purchase Agreement

(ERPA)• Make necessary changes as suggested by EB

methodology panel and register the project• Locate a buyer. Negotiate and enter into the ERPA

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Regulatory Mechanism for CDM

COP/MOP Under UNFCCC

CDM Executive Board (EB)

Methodologies Panel/Desk Reviewers

Host Countries

DNA

DOE

Project Promoter

CDM Registry

World

Baseline and monitoring methodologies, PDD

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Rules of the Game Project Approval

• In Non Annex 1 nation (Host Country)– Project has to meet SD criteria– Stakeholders consultation– Should receive approval from the HC Designated Nodal Agency

(DNA)

• International Level– Project Design Document (PDD), Baseline and monitoring and

verification methodologies have to be approved by CDM Executive Board

– Validation of the above delegated to “Designated Operational Entity” (DOE) approved by EB

– DOE will make the above documents on CDM website for comments by concerned parties and EB members within a specified time

– Registration by CDM EB– Monitoring and Verification by DOE* at predefined periods– Sale the CERs to party with mitigation target through an Emission

Reduction Purchase Agreement (ERPA)

* Could be the same DOE for Small Scale CDM projects

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Don’t Forget the Complexities!

Source: CDM institutions and procedures; Dr. Axel Michaelowa http://www.hwwa.de/Projects/Res_Programmes/RP/Klimapolitik/HWWA_3392_HWWA_3391_Hintergrund_Kyoto3.htm

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Transaction Costs – At Each Stage!• Preparation of project documents – baseline and M&V

methodologies, PDD, Additionality etc. need consulting time!!

• Host Country approvals• Hiring of DOE for validation• Developing the ERPA and negotiating it with buyers• CDM registration costs depending on CERs* and

adaptation tax (2% CERs retained by EB)• Estimated figures $ 150,000 to $ 250,000

In addition there will be cost for yearly verification

* Ranges from US $ 10,000 – $30,000

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Advantage Small Scale!

• To bring small size projects in CDM ambit simplified modalities and procedures have been developed for “Small Scale” CDM (SSc CDM) Projects– renewable energy project activities with a maximum output

capacity equivalent to up to 15 megawatts– energy efficiency improvement project activities which reduce

energy consumption, on the supply and/or demand side, by up to the equivalent of 15 gigawatt hours per year

– project activities that both reduce anthropogenic emissions by sources and directly emit less than 15 kilo tonnes of carbon dioxide equivalent annually

– Afforestation and reforestation projects that sequester not more than 8 kilo ton of carbon dioxide

• SSc CDM projects can use the simplified baselines accepted by EB

• Lower registration cost $ 5,000• Same DOE can validate and monitor the projects

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Opportunities in Rajasthan• Rajasthan endowed with bountiful sunshine – could

easily harness solar energy for useful purpose• Solar water heaters, dryers, PV system operated pumps

etc.• Rajasthan has a huge tourist potential – Energy

conservation and use of renewables in hotels and industry offers yet another area for CDM projects

• Wind energy potential is also sizeable, especially desert regions

• Growth in urban centres leads to increasing generation of solid waste and wastewater, which could be used for generating energy in the form of power or cooking gas to replace fossil fuels

• Finally, Rajasthan is industrializing fast, efficient use of energy therefore offers yet another avenue for developing CDM projects

Thank You for Your Attention!