Michael R. WalkerResearch DirectorIGCC Financing ProjectKennedy School of Government, Harvard UniversityPH: 720.842.5345, FX: 720.851.5784mwalker@e3ventures.com

Financing IGCC for Near-Term Deployment

September 2004Report available at:www.ksg.harvard.edu/bcsia/enrp

2 Financing IGCC

Kennedy School IGCC Financing Project

Sponsors: DOE (NETL) EPA (Clean Air Markets) National Commission on Energy Policy Packard Foundation

June 03’—began study to develop financing program to stimulate IGCC deployment

Feb. 04’—draft working paper & IGCC financing symposium at Harvard

July 04’—final report: Deploying IGCC in this Decade with 3Party Covenant Financing

Fall 04’—follow-up IGCC symposium, ongoing dialogue, issue papers, implementing legislation

3 Financing IGCC

IGCC financing project objectives

Access to capital

Share advanced technology risks

Produce competitively priced energy

Minimize federal costs

Deploy half-dozen IGCC plants in this decade

4 Financing IGCC

IGCC deployment rationale

Abundant domestic coal resource

Energy & national security

Energy independence

Low cost electricity for economic growth

Relieve natural gas price pressure

Lower air pollutant emissions

Less water consumption and waste

Technical pathway for carbon control

Foundation technology for hydrogen economy

Reconcile coal use and environmental protection

5 Financing IGCC

50,000

100,000

150,000

200,000

250,000

300,000

1950's 1960's 1970's 1980's 1990's '00-'02

Other

Renewable

Oil

Hydro

Nuclear

Natural Gas

Coal

Fuel Type

MW

Historic U.S. capacity additions

6 Financing IGCC

Natural gas price volatility

1

2

3

4

5

6

7

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003YTD

$/mmBtu

Natural gas

Coal

Average Delivered Fuel Prices to U.S. Electric Generators

7 Financing IGCC

IGCC deployment obstacles

Economics

Higher capital cost (~20% higher than PC)

Higher kWh energy cost

Public, not private benefits

Perceived Technology Risks

Construction overruns (EPC wrap?)

Reliable performance (limited track record)

Access to Capital

Wall Street skepticism

S&P utility credit rating from A to BBB (just above junk status)

Environmentalist skepticism

Renewable & conservation priority

“Anti-coal” opposition

8 Financing IGCC

3-Party Covenant

PUC ApprovedRevenue Stream

Owner 20%Equity Investment

Federal 80% Debt Guarantee

IGCCDeployment

9 Financing IGCC

Federal loan guarantees

Access to low-cost financing with favorable terms Lower cost debt

Higher debt/equity ratio

IGCC economic competitiveness 38% lower cost of capital 25% lower cost of energy

Foundation for risk sharing Federal government

State PUC/ ratepayers

EPC contractor/technology vendors

Owner

10 Financing IGCC

Traditional Utility Financing

80% Federal Loan Guarantee

45% Equity(18.6%)

80% Debt

(5.5%)

20% Equity(18.6%)

Pre-tax weighted cost of capital:

11.9%

Pre-tax weighted cost of capital:

8.1%

Cost of capital with 80% federal loan guarantee

55% Debt

(6.5%)

11 Financing IGCC

IGCC cost of energy with guarantee

36.5

22.6

8.0

8.0

10.9

10.9

10

20

30

40

50

60Trad. Utility Finance

$/MWh

80% Loan Guarantee

O&M

FuelCapital

55.4

41.5

IGCC IGCC

3Party Covenant:

-- Adds 10% Operating Reserve Fund

-- Changes debt fraction & cost

-- 38% cost of capital reduction

-- 25% energy cost reduction

Overnight Capital Cost ($/kW) $1,400 $1,400

Fuel Cost ($/mmBtu) $1.25 $1.25

Capacity Factor 85% 85%

Heat Rate (btu/KWh HHV) 8,700 8,700

Debt Fraction 55% 80%

Debt Cost 6.5% 5.5%

Pre-Tax Equity Return 18.6% 18.6%

12 Financing IGCC

PC vs. IGCC cost of energy with guarantee

31.336.5

8.0

8.0

10.9

10.9

10

20

30

40

50

60Traditional Utility Finance

$/MWh O&M

FuelCapital

50.255.4

IGCC SCPC

22.6

8.0

10.9

41.5

IGCC

IGCC shown has:

-- 17% higher Overnight Capital Cost than PC

-- 10% higher energy cost than PC with traditional financing

--17% lower energy cost than PC with 80% federal loan guarantee

Overnight Capital Cost ($/kW) $1,400 $1,200 $1,400

Fuel Cost ($/mmBtu) $1.25 $1.25 $1.25

Capacity Factor 85% 85% 85%

Heat Rate (btu/KWh HHV) 8,700 8,700 8,700

Debt Fraction 55% 55% 80%

Debt Cost 6.5% 6.5% 5.5%

Pre-Tax Equity Return 18.6% 18.6% 18.6%

80% Loan Guarantee

13 Financing IGCC

Loan guarantee risk mitigation—3Party Covenant

Prohibitive risk and cost without protection Budget scoring based on risk of default

Without risk mitigation scoring could be as high as 100%

Assured revenue stream to reduce federal risk Upfront & ongoing determinations of prudence

Approval of timely pass-through

Project cost or power purchase agreement

IOU, Muni, Coop

Alternative credit enhancement Insurance

Corporate credit

Other

14 Financing IGCC

Federal budget cost

7.8

2.6

1.8

0.51

2

3

4

5

6

7

8

10-yr PTC1 30% Grant2 3 Party Covenant3

30-yr PTC1

$ billions

1 PTC = Production Tax Credit equal to 1.0 cent/kWh of generation (10-year PTC program provides significantly less economic benefit than the other programs that provide about 1 cent/kWh over 30 years). 2 Federal grant equal to 30 percent of total plant investment (equivalent to 0.96 cent/kWh of economic support for 30 years).3 Assumes 10 percent scoring of federal guarantees (equivalent to 0.95 cent/kWh of economic support for 30 years).

Budget Cost of 1 cent/kWh equivalent incentive (3,500 MW of IGCC)

15 Financing IGCC

State PUC participation

Benefits Low cost base load power

Low air emissions

Hedge against future CO2

Promote long-term sustainable coal use

Local coal and jobs

Ratepayer protections Transparent PUC process

10% construction and operating reserve fund

15% line of credit

EPC performance guarantees

Gasifier redundancy

16 Financing IGCC

NGCC refueling opportunity

Convert to base load plant Establish need for base load power net of new PC

Long-term power purchase agreement

Inclusion by PUC in rates

New valuation Base load vs. cycling

80% vs. 20% operations

Potentially par value

Financing 80% federally guaranteed debt

Existing plant becomes equity contribution

Equity that remains in earns regulated 11.5 after tax return

Surplus equity withdrawn