Preparing an HMT business case for heat networks and procuring advisers

GeorgeRobinson(BEIS)george.robinson@beis.gov.uk

Official

https://www.gov.uk/government/publications/the-green-book-appraisal-and-evaluation-in-central-governent

• Setsoutaclearandrobustmethodforappraisingandevaluatingcentralgovernmentprojects,programmesandpolicies;

• OptionalforLAstoadoptGreenBook;• however,wherecentral

governmentfundingwilltypicallyrequirecompliance

• Itisalivedocumentthatgoesthroughthreeiterations:

WhatistheGreenBook?

2

SOC OBC FBC

Official

BUSINESSCASEDEVELOPMENT

3

Mappingandmasterplanning

Techno-EconomicFeasibility

DetailedProject

Development

Commercialisation Mobilisation Construction Commissioni

ng Operations

PROJECTPROCESS

BUSINESSCASES:

1.SOC

• RationalisewhyandgetinternalseedfinanceforM&MP

• Essentialtoclearlysetouttheexpectedmilestonesandfutureprofessionaladviceneeds

2.OBC

• Technicallyandeconomicallyfeasibleopportunity;

• Legalstructuresandsourcesoffinanceconsidered;

• Procurementstrategy;• Resourcemanagement;• Budgetaryimplications

considered

3.FBC

• Preferredtechnicalsolutionhasbeenprocured;

• AssessmentsatOBCreassessedinlightofthetenderfromthecontractor(s);

• ApprovalsoughtfromMembers;

• Ifachieved– constructioncanbegin!

EconomicCase

Timing of Outline Business Case (OBC)

Official

OBCwithinthedevelopmentprocess

5

Mappingandmasterplanning

Techno-EconomicFeasibility

DetailedProject

Development

Commercialisation Mobilisation Construction Commissioni

ng Operations

FBCApprovalOBCApproval

• FinancialCase• CommercialCase• ManagementCase

OBC

• CoresourcefortheEconomicCase

• CoresourcefortheStrategicCase

FBC

OUTLINEBUSINESSCASE

Procuring advisers –HNDU suggested approach

Official

Challengesofmulti-disciplinaryproject

7

LACLIENT

TECHNICAL FINANCIAL LEGAL

WHOWILLACTASLEAD?

• Technicallead?o Notamemberoflawsociety– PIriskascannothavea

dutyofcaretoclientonlegaladvice…o RelativetootheradviserstechnicalinputintoOBCis

limitedwithtechno-economicfeasibilityassessmentalreadyhavingbeencompleted…

• Financiallead?o Sameissueoverlegalastechnicallead

• Legallead?o Possiblebutinpracticenotsomethingwehaveseen;o Informalfeedbackhasbeenthatfeesastotalofwhole

workpackagearesmallerforOBCpreparation– lessinclinedtobeprimaryasaresult.

Official

HNDUproposedapproach:

8

TECHNICAL

FINANCIAL

LEGAL

LACLIENT

LACLIENT

LACLIENT

CONTR

ACTS

JOINTBIDBYCONSULTANTSTODELIVEROBC.BIDSWILLSETOUTHOWEACHPARTYWILL

WORKTOGETHERONWHOWILLBERESPONSIBLEFOROVERALLDRAFTING

OUTLINEBUSINESSCASEAND

ACCOMPANYINGFINANCIALMODEL

Whatthisachieves:• Widerangeofconsultants

abletobidtogether– expandspoolofadvisersinthesector;

• Specialistsabletoworktogetherratherthanhavingtobewithinoneorganisation;

Keychallenge:• Withthreecontractswhoisto

blameifitgoeswrong?

The 5 Cases at OBC and FBC

Official

The5CasesOverview

10

StrategicCase

EconomicCase

CommercialCase

FinancialCase

ManagementCase

EssentiallythisistheoriginalStrategicOutlineCase,possiblyupdatedfornewMembers’objectives(iftherehasbeenachange);

Thisisanoptionsappraisal (pre-taxrealNPV&SNPVarecoremetrics)andshouldcomparethevariouspotentialclustersandcombinationsthereofwithinthegeographicareaassessed(M&MP)aswellasthetechnologicaldeliveryoptions(Feasibility)comparedtoa“donothing”case.

Financialanalysisthatoverlaysaccounting,taxes,indexationetc.ontothelegalstructuresconsideredinthecommercialcaseandthedifferentsourcesoffinancethatmaybeavailable(assessedthroughmarketengagement)toproduce:LAbalancesheetimplications,LAnetdebtimplications,LAbudgetaryrequirementsandinicativeinvestorreturns.

Keycommercialandlegalconsiderationswithsensitivitiesrun.E.g.tariffstructure,procurement strategy,legalstructures,sourcesoffinance,regulatoryrequirements(e.g.LicenceLite),warranties,othercontractualneeds(e.g.shareholderagreement,parentcompanyloanagreementandtheirkeytermsetc.).

Basedontheproposedtechnicalsolutionassessedintheeconomiccaseandtheproposedprocurementstrategyandongoingcontractmanagementwhatresourcewillneedtobemadeavailabletomaketheprojectwork.

Official

Logicalorderofpreparation

11

STRATEGICCASE

ECONOMICCASE

COMMERCIALCASE

FINANCIALCASE

MANAGEMENTCASE

• AtOBCthecoreworkfortheEconomicCaseshouldhavebeencompleted(techno-economicfeasibilitystudy);

• ThepreferredoptionintheEconomicCaseistakenforwardtotheCommercial,FinancialandManagementCases;

• Thereneedstobeastronginter-relationshipbetweentheCases– aweakOBCisonewherethecasesdonotinformtheothersandhavebeenpreparedinisolation.

• Intheeventofamaterialchangeincircumstancesitmaybenecessarytoreverttotheeconomiccase.

Economic Case

Official

OverviewofEconomicCase

13

Who• Technicalconsultants;or• InhouseexpertsWhat1. Taketechno-economicfeasibilitystudy

andaccompanyingwork;2. Re-freshmaybenecessary3. Ifnotalreadydeveloped,establish

counter-factualcase;4. Comparealloptionsagainstcounter-

factualonNPVbasis;5. Comparealloptionsagainstcounter-

factualonSocialNPVbasis(e.g.carbonimpact,airquality,impactonresidualchargesetc.);

6. Evaluatequalitativepros/cons(e.g.jobcreation,regeneration,fuelpovertyetc.);

7. Selectpreferredoptiontotaketoothercases.

StrategicCase

EconomicCase

CommercialCase

FinancialCase

ManagementCase

StakeholderManagement

ProjectManagement

FinancialAdvisers

LegalAdvisers

TechnicalAdvisers

OUTCOME=PREFERREDOPTIONFORDETAILED

ANALYSIS

Official

• Feasibilitystage• Pre-OBCbutneedtobethinking

oftheEconomicCase• Basiccashflowmodel=>what

doestheprojectoffer;DoNOTs:• Donotneedfullfinancial

statements(justcashflow)• Donot needfinancingsolutions;• Donotneedlegalstructuring;• Donotneedcorporationtax/

businessrates/VATetc.• Donotneedindexation;DOs:• Doneedrealoperatingcash

flows;• Doneedtounderstandoperating

sensitivities;• DoneedprojectIRRandproject

NPVatLAhurdlerateorelseatthesocialdiscountrate

Techno-economiccashflowmodel(EconomicCase)

14

INPUTASSUMPTIONS

ENERGYBALANCE

COSTSCHEDULES

REVENUECALCULATIONS CASHFLOW

HNDUAPPENDIXC

Basictechno-economicmodelstructure

Simple,easytofollowandthatisFASTcompliant(essenceofnewHNDUfeasibilityITTguidance)

Commercial Case

Official

Who• Legalconsultantsaslead;• Financialconsultants;or• InhouseexpertsWhat• TariffstructureandcoreHoTs forESA;• Legalstructures– whatkeyoutcomesdo

theyaddress?Incorporatewhen– howdoesthisfactorintoprocurementstrategy?

• Procurementstrategyconsidering:– ConstructionandO&Mcontractandterms(EPC

withO&Mseparatelyprocured/DBOM?Cost+/PainGain /Fixed?)

• Shareholderagreement• Warranties• Connectionagreements• Easements/wayleaves,utilityconnectionsActions• Headsoftermswithcustomersoratleast

MoUsshouldbeunderway;• Softmarkettestingwithfinanceand

potentiallyDBOM/ESCos;

OverviewofCommercialCase

16

StrategicCase

EconomicCase

CommercialCase

FinancialCase

ManagementCase

StakeholderManagement

ProjectManagement

FinancialAdvisers

LegalAdvisers

TechnicalAdvisers

OBC

Official

• SeparatesessiononthisbutneedtoensurethatthelegalstructuresaredesignedtomeetLAobjectives

• Forexample:• Maximiseabilitytoexit

(eitherasdivestmentorbyrefinancingshareholderloans);

• Pushfinanceriskdowntotheproject(e.g.bringfinanceinatprojectlevelwithlimitedornon-recoursetoLA);

• Managetax– e.g.Teckalstructures;

LegalStructures

17

Lotsofstructures!!!

Official

• Theprocurementstrategyneedstosetoutaclearroutetomarket.

• AtOBCsomesoftmarkettestingwillhavebeendone;

• ByFBCtheDENshouldhavebeenprocuredand,onthebasisoftheprocurement,Members’approvalsoughttoagreethetermswiththe,say,DBOMcontractor;

ATOBC:• Needtobeconsideringthe

typesofcontractthatmostappropriate:o EPC+O&M?DBOM?;o FixedpriceEPCbutcost+for

O&M?o Wouldpain/gainshare

mechanismhelpmanagecontingencyreduction?

o Etc.

Procurementstrategy

18

IncorporateSPV

PayDBOMcontractor

CommissionDEN

OperateDEN

ProcureDBOM

PRE-FBC POST-FBC

Typesofquestionsworthaskingaroundplannedincorporatingdate• WhenshouldtheSPVbe

incorporated?• Whathappensifthisisdelayed–

whowillbetheprocuringbody?• WhataretheimplicationsforVAT

recovery?• Whataretheimplicationsfor

budgeting?Etc.OftenwillnotneedtomodelthisbutratherprovidequalitativenarrativeintheCommercialcaseoftheimplications.

Operatingperformance• Whatoperatingperformance

metricswillbeusedandhowwillthesebefactoredintotheO&Mcontractforservicepayments?

• Whatrecourse(e.g.viawarranties)willwehaveintheeventthatthecommissionedassetisnottospec?

• Etc.

Official

• Whenandhowoftenwillyoubeengaging;

• AtOBCshouldideallyhavesecuredHoT withkeyofftakecustomers;

• Howmuchprotectiondoestheproposedtariffstructureprovidetooverallinvestorreturns?E.g.o Indexationhedging– what’s

theexposureundertheHoT?o HowsensitiveisIRRto

demand(doweneedtonegotiateharderonfixedcomponent)?

• Whatkindofcontractdurationislikelypossiblewithdifferentcustomers;

• Howsensitivearereturnstodifferentconnectionsbeingdelayedorneverconnecting?

• Etc.

CustomerEngagementandTariff

19

Fixed Variable Connection

COREINCOME

IDEASBOARD:

Financial Case

Official

Who• Financialconsultants;or• Inhousefinancespecialists;What• Balancesheetimplicationsof:

– Legalstructuresconsidered(clearlinkstoCommercialcase)onLAbalancesheet;

– Ownership/levelsofcontrol

• NetdebtimplicationstoLAofsourcesoffinanceconsidered;

• Budgeting(revenueandcapital)implicationsofprojectandsourcesoffinanceconsidered

• DetailedfinancialmodellingActions• Assessownborrowinglimits;• Softmarkettestingforsourcesoffinance;• s151engagement

OverviewofFinancialCase

StrategicCase

EconomicCase

CommercialCase

FinancialCase

ManagementCase

StakeholderManagement

ProjectManagement

FinancialAdvisers

LegalAdvisers

TechnicalAdvisers

OBC

ProcuringtheOBC• Therearesignificantchallengesinwrapping

technical/financial/legalworkpackages.• Akeyissueisthatfinancialadviserswilloften

representthelargerportionofadviserfeesforpreparingOBC.Theywillnotbeabletosub-contractlegaladvisersastheycannotprovidelegaladvice.Thisappliestotechnicaladvisersalsoweretheytobelead.

• Recommendedtoprocureeachadviserseparatelybutrequireaconsortiumbidwithaleadconsultanttocollatedeliverables.

Official

• DPD/FinancialCase• TakethroughOBCapprovals• Detailedfinancialmodeltoassess

sourcesoffinance,investorreturnsandimpactoflegalstructures.

KeydistinguishingattributestoTEM• Tariffstructure(minimumfixed/

variable/connection/indexationlinktounderlyingcosts);

• Budgetaryimplications(LAbalancesheet,netdebtandcashbudgeting);

• Assessmentofaccountingandimpactoninvestorreturns;

• Integratedfinancialstatements;• Corporationtaxcalculations;• Businessratesestimate;• Environmentallevies;• Sourcesoffinance;• Legalstructuring;• Solvinglogic(tariff,returnsetc.)

DetailedFinancialModel(FinancialCase)

INPUTASSUMPTIONS

IndicativeFullFinancialModelstructure

COSTSCHEDULES

ENERGYBALANCE

FINANCING

ParentCo

TAXATION

ACCOUNTING

CASHFLOWS

FINANCING

DaughterCo 1

TAXATION

ACCOUNTING

CASHFLOWS

FINANCING

DaughterCo 2

TAXATION

ACCOUNTING

CASHFLOWS

Inter-companycharging

functionality

FINANCIALSTATEMENTS

LAINVESTORRETURNS

LABUDGETARYANALYSIS

HNDUAPPENDIXC

RECONCILIATIONTOTEM

Complexfinancialmodellingonly atthepointwhereatechnicallyandeconomicallyviablesolutionhasbeenidentified.

NOMINALPROJECTCOSTS

Official

• Astrongbusinesscasewillconsiderarangeofsourcesoffinance;and

• Softmarkettesttheextenttowhichdifferenttypesoffinancemaybemadeavailabletotheprojectandunderwhatindicativeterms;

• ThelegalstructuresconsideredwillbeassessedwithintheCommercialCase.ThefinancialcaseshouldconsiderthetypeoffinancethatmightbeavailabletheimplicationsofsuchfinanceforLA:• BalanceSheet• NetDebt• BudgetingWhichoptionoroptionsbestmeetLAobjectives?

SourcesofFinanceLA

SPV

SPV1? SPVx?

CORPORATEFINANCE

?

?

?

PROJECTFINANCE?

?

Typesoffinance:• Corporatedebt finance,e.g.

o PWLB,Europeanfunding,LEEF/MEEFetc.• Projectfinance,e.g.

o Privateequity(pureinfra-capital,taxefficient,energyefficiencyetc.)– thisisasegmentedmarketwithdifferentgoals;

o Leasefinance(e.g.ECandassociatedplant);o Debtfinance(however,almostcertainlywill

requireaPCG);• Concession/ESCo model(possiblywithLAasJV

partner)

Thirdpartyfinancefundingmodel

Official

• Thefinancialcaseneedstolookaheadatleastoverthenext3-5yearsandassessthepotentialimpactoftheprojectforbudgetingpurposes;

• Thisshouldcoverbothcommittedfundingandcontingentfunding

Inexamples:• Corporatefinancemaybesimplest

butlargercapitalatrisk;• WithaPEpartnermayhaveaccess

toexpertise,retaincontrol(ifrequired)andreducecapitalatrisk;

• Withleasefinancecouldretainfullcontrolofprojectbutpushfinanceriskdowntotheproject– willcomeatacost

Budgeting:capitalvsrevenue

100%Corp. Fin. Y1 Y2 Y3 Y4 Y5

Capex(£m) (0.5) (1.0) (1.0) (0.5) -

LAborrowing 0.5 1.0 1.0 0.5

LADebt Service (X) (X) (X) (X) (X)

50%Private Equity Y1 Y2 Y3 Y4 Y5

Capex(£m) (0.5) (1.0) (1.0) (0.5) -

LAborrowing 0.25 0.5 0.5 0.25

LAdebtservice (Y) (Y) (Y) (Y) (Y)

Privateequity 0.25 0.5 0.5 0.25

50%LeaseFinance Y1 Y2 Y3 Y4 Y5

Capex(£m) (0.5) (1.0) (1.0) (0.5) -

LAborrowing 0.25 0.5 0.5 0.25

LADebtService (Y) (Y) (Y) (Y) (Y)

Lessor acquiresPPE 0.25 0.5 0.5 0.25

Leasepayments (Z) (Z) (Z) (Z) (Z)

Campaign/Event title

Questions/discussion