Presenting a live 90‐minute webinar with interactive Q&A

Renewable Energy Certificates and Carbon OffsetsStrategies to Negotiate Offsets and Structure REC Transactions

T d ’ f l f

1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific

WEDNESDAY, APRIL 20, 2011

Today’s faculty features:

Keith M. Casto, Partner, Shook Hardy & Bacon, San Francisco

Christopher B. Berendt, Of Counsel, Drinker Biddle & Reath, Washington, D.C.

The audio portion of the conference may be accessed via the

Adam C. Raphaely, Director, Environmental Markets, Karbone Inc., New York

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Tradable Renewable Energy Credits (TRECs) in CaliforniaCredits (TRECs) in CaliforniaKeith M. Casto

What is aWhat is a Tradable Renewable Energy Credit?

• “A certificate of proof, issued through the Western Renewable Generation Information System (WREGIS), that one megawatt-hour ofSystem (WREGIS), that one megawatt hour of electricity was generated by an Renewable Portfolio Standard (RPS)-eligible renewable energy resource and delivered for consumptionenergy resource and delivered for consumption by California end-use retail customers.”

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The Basics of TRECs(T d bl R bl E C dit )(Tradable Renewable Energy Credits)

• The “green” attributes of power generation, can be separated off from the power itself.separated off from the power itself.

• This would be traded and reattached to other forms of power which help those entities fulfill their green power energy requirements.energy requirements.

• The credit is produced at the time of energy production.• And is “cashed in” or removed from the market once

purchased allowing the buyer to claim to have promotedpurchased, allowing the buyer to claim to have promoted the corresponding volume of electricity from renewable energy sources.

• The purpose of TRECs is to reduce costs and greatly• The purpose of TRECs is to reduce costs and greatly increase flexibility for those entities with RPS compliance obligations, by allowing them to procure power at lower costs while also meeting their RPS compliance

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g pobligations.

Development of TRECs in Californiap• 2006

– Passed in 2006 by the California Legislature, SB 107 required at least 20% of total electricity sold to retailrequired at least 20% of total electricity sold to retail customers be from eligible renewable energy sources by December 2010.

– April 2006 – The California Public Utilities CommissionApril 2006 The California Public Utilities Commission (CPUC) initiated proceedings to define what constitutes a REC.

• 2007 – CPUC determines that RECs generated from renewable

systems belong to the system’s owner.– September 2007 – California Legislature passes ABSeptember 2007 California Legislature passes AB

1613, which authorized the CPUC to require that IOUs buy excess power from combined heat and power systems.

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Development of TRECs in California• 2008

– CPUC determines that an REC is “a certificate of proof, issued through the Western Renewable Generationissued through the Western Renewable Generation Information System (WREGIS), that one megawatt-hour of electricity was generated by an Renewable Portfolio Standard (RPS)-eligible renewable energy resource and delivered for consumption by California end-use retail customers.”

– October 29, 2008 – CPUC proposed creating TRECs as h i t t ti ll d t d ia mechanism to potentially reduce costs and increase

flexibility for entities with RPS compliance obligations.– November 17, 2008 – Governor Schwarzenegger issues

Executive Order S 14 08 which along with E O S 21 09Executive Order S-14-08, which along with E.O. S-21-09 (passed in Sept. 2009), increase the target from 20% to 33% of renewable energy sources by 2020.

8

Development of TRECs in California• 2009

– California Legislature passes SB 14 and AB 64 which together authorize investor-owned utilities (IOUs) to usetogether authorize investor owned utilities (IOUs) to use TRECs for RPS-compliance purposes and limited out-of-state RPS purchases of RPS-qualified MWh which could be eligible as TRECs.

– October 2009 – Governor Schwarzenegger vetoes both bills, largely because they discriminate against out-of-state RPS power.

• 2010– March 11, 2010 – CPUC issues the “2010 TREC

Decision,” authorizing renewable energy credits for li ith C lif i RPS bli ti th hcompliance with California RPS obligations, though

placed some limitations, including a limit on IOUs including a 25% cap on an IOU’s RPS MWh purchases.

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D l t f TREC i C lif iDevelopment of TRECs in California• 2010 (continued)

• April 12, 2010 all three IOUs (PG&E, SCE, SDG&E) file a Joint Petition for modification of the TREC Decision, seeking to change the definition of an REC-only and bundled transactions among other requestsbundled transactions among other requests.

• April 15, 2010 – Independent Energy Producers Assoc. (IEP) files a similar Petition seeking to have the CPUC adopt a presumption that transactions using firmadopt a presumption that transactions using firm transmission qualify as bundled transactions.

• May 6, 2010 – CPUC stays the 2010 TREC Decision and places a moratorium on any further commission p yapprovals until controversy sorted out.

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D l t f TREC i C lif iDevelopment of TRECs in California• 2010 (continued)

• June 2010 – When CPUC was originally to decide on theJune 2010 When CPUC was originally to decide on the TREC Decision and accompanying Petitions, but legislation was circulating the California Legislature (SB 722) may have trumped CPUC’s actions, so nothing was done at this time.

– August 25, 2010 – during final days of Legislature, CPUC President Michael Peevey issues a Proposed Decision th t ld h th IOU f 25% t 40%that would change the IOUs cap from 25% to 40%.

– October 2010 – CPUC President Peevey issues a second Proposed Decision that would have changed the cap from 25% to 30% just a day before the decisioncap from 25% to 30% just a day before the decision conference was to be held.

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D l t f TREC i C lif iDevelopment of TRECs in California

• 2010 (continued)– October 25, 2010 – Commissioner Grueneich issues an

Alternative Proposed Decision which would have denied b th P PD lift th t d li i tboth Peevey PDs, lift the stay, and eliminate an expiration date for the TREC cap and price cap. (Due to procedural rules, this pushes the decision conference until December 2010)until December 2010).

– December 2010 – decision conference was held, none of the Proposed Decisions were adopted, and the term ended (ending the terms of two Commissioners including ( g gGrueneich)

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D l t f TREC i C lif iDevelopment of TRECs in California

• 2011– January 7, 2011 – CPUC President Peevey revises his

prior Proposed Decision and essentially adopts a more t i ti TREC i il t th G i h PDrestrictive TREC program similar to the Grueneich PD.

– January 13, 2011 – CPUC rejects the Joint Petition filed by the three IOUs as well as IEPAs Petition, adopts the 2001 Peevey PD/2011 TREC Decision and lifts the stay2001 Peevey PD/2011 TREC Decision and lifts the stay and moratorium imposed in 2010.

– January 13, 2011 – CPUC implements SB 695, which requires the CPUC to treat Electric Service Providersrequires the CPUC to treat Electric Service Providers (ESPs) the same as IOUs and subject to the same requirements and limitations.

– April 12, 2011 – Governor Brown signs Senate Bill 2

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p , g(SBX 2), which affects the 2011 TREC Decision caps.

Governor Schwarzenegger’s Executive Order S-14-08Executive Order S-14-08

– Required all retail sellers of electricity to serve at least 33% of their load with renewable energy by the year 20202020.

– Created need to substantially evolve state’s development of wind, thermal, solar, geothermal, and other “RPS Eligible” energy projects.g gy p j

– Sought to accelerate this development by streamlining siting, permitting, and procurement processes.

– Issued 2 directives:• (1) existing Renewable Energy Transmission Initiative

(RETI) will identify renewable energy zones that can be developed with little environmental impact, and

• (2) California Energy Commission (CEC) and California Dept. of Fish and Game (DFG) will collaborate to expedite review, permitting, and

14

licensing process for proposed RPS-eligible renewable energy projects.

Governor Schwarzenegger’sGovernor Schwarzenegger s Executive Order S-21-09

• Directed California Air Resources Board (CARB) to adopt regulations increasing California’s RPS to 33% by 2020.

• Provided additional guidance to state regulators about how t hi 33% i tto achieve 33% requirement.

• Allowed renewable energy imported from “resources and facilities” in states throughout the Western Interconnection, power grid in the western part of the U S to count towardspower grid in the western part of the U.S., to count towards RPS target.

• RPS will apply to all load serving entities, including IOUs, publicly-owned utilities (POUs) direct access providers andpublicly owned utilities (POUs), direct access providers and community choice aggregators.

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CPUC’s Definition of a REC• CPUC adopted definition of a REC: “A certificate of proof,

issued through the Western Renewable Generation Information System (WREGIS), that one megawatt-hour of electricity was generated by an RPS-eligible renewable energy resource and delivered for consumption by California end-use retail customers.” (CPUC Decision 08-08-028).D i i l ifi d th t REC i l d “ ll bl d• Decision clarified that RECs include “all renewable and environmental attributes associated with the production of electricity from eligible renewable energy resource, including any avoided emission of pollutants to the air, soil, or water;any avoided emission of pollutants to the air, soil, or water; any avoided emissions of carbon dioxide, methane, nitrous oxide, hydrofluorocarbons, perfluorocarbons, sulfur hexafluoride, or any other greenhouse gases that have been determined by the United Nations Intergovernmental Panel on Climate Change, or otherwise by law, contribute to the actual or potential threat of global climate change, and the reporting rights to these avoided emissions such as Green

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reporting rights to these avoided emissions, such as Green Tag reporting rights.”

How the “Delivery” of Energy is defined by the California Energy Commission (CEC)the California Energy Commission (CEC)for In-State Facilities

• For RPS compliance, electricity is deemed delivered if either:– Generated at a location within state, or– Scheduled for consumption by California end-use retail

customers as .• Electricity generated by facilities located in-state or having

their first point of interconnection to WEC transmission system in-state satisfies California RPS delivery requirementsrequirements.

• Electricity may be delivered into California, at different time than when RPS-certified facility generated electricity per Cal. Public Resources Code § 25741(a)Public Resources Code § 25741(a).– Delivered electricity may also be generated at a different

location than that of RPS-certified facility.

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How the “Delivery” of Energy is defined by th C lif i E C i i (CEC)the California Energy Commission (CEC)for Out-of-State Facilities

• To count generation by out-of-state facilities for RPS compliance, RPS-certified facility must enter power purchase agreement (PPA) with a retail seller, procurement entity, or third partythird party.

• PPA must include both RECs and electricity generated by facility as bundled commodity, and matching quantity of electricity must be delivered to in-state market hub (a k a aelectricity must be delivered to in state market hub (a.k.a. a “zone) or an in-state point of delivery (a.k.a. a “node”) which is located within California.

• After the CEC compares amount of RPS-eligible electricity p g ygenerated by the RPS-eligible facility in a calendar year with the amount of electricity delivered into California for same period, lesser of the two amounts will count as RPS-eligible

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procurement.

The “2010 TREC Decision” March 2010The 2010 TREC Decision – March 2010

• CPUC issued its final decision allowing LSEs, including IOU ESP d it h i t t b iIOUs, ESPs and community choice aggregators to begin procuring tradable RECs to satisfy applicable RPS mandates.

• Gave LSEs greater flexibility by allowing “unbundled”• Gave LSEs greater flexibility by allowing unbundled renewable contracts and by allowing purchases from out-of-state providers.

• Decision classified most out-of-state transactions as REC-Decision classified most out of state transactions as REConly and thus subject to the 25% cap, regardless of whether transaction was designed to transfer only a REC without underlying energy or whether California utility sought to purchase both energy and RECs in an integrated (bundled) transaction, but did so from a generator whose first point of interconnection lies outside of any California balancing authority

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authority.

Controversial Aspects of theControversial Aspects of the “2010 TREC Decision” – March 2010

• Decision included 3 controversial components:– (1) CPUC limited use of TRECs by three large California

IOUs (PG&E, SCE, SDG&E) for RPS compliance t th 25% (th ) f l RPSpurposes to no more than 25% (the cap) of annual RPS

procurement obligations.– (2) 25% cap applied to REC-only contracts, which are

defined as “any contracts that do not meet the criteria fordefined as any contracts that do not meet the criteria for being a “bundled” transaction.

– (3) CPUC did not exempt pre-TREC Decision contracts from being placed in the REC-only category thus thosefrom being placed in the REC only category, thus, those pre-TREC contracts are classified as REC-only and count towards the 25% cap.

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H “B dl d” i D fi dHow “Bundled” is Defined

• “Bundled” transactions are those that are either when:– (a) generator’s first point of interconnection with the grid

is within a California balancing authority, or• California Independent System Operator (which is

state’s largest balancing authority) does extend beyond state lines, but not very far.

(b) RPS li ibl i d i ll t f d t– (b) RPS-eligible energy is dynamically transferred to California balancing authority (either through dynamic scheduling or through pseudo-ties).

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Fallout from the TREC DecisionThe Joint PetitionThe Joint Petition

• Joint Petition by PG&E, SCE, & SDG&E (filed April 12, 2010) sought to:sought to:– Revise criteria for determining what transactions are bundled

transactions and what transactions are for RECs only.– Apply criteria only to contracts that are submitted for pp y y

Commission approval after the effective date of the decision.– Eliminate temporary limit on use of TRECs for RPS

compliance obligations by large utilities (or at least, apply it t ll RPS bli t d l d i titi d th t thto all RPS-obligated load-serving entities and ensure that the temporary limit terminates at the end of 2011).

– Expand rules for “earmarking” TREC contracts.Remove requirement that new standard terms and– Remove requirement that new standard terms and conditions set out in the 2010 TREC Decision be added to RPS procurement contracts that have been submitted for CPUC approval.

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pp

Fallout from the TREC DecisionFallout from the TREC DecisionIEP’s Petition and the Stay & Moratorium

• Independent Energy Producers Association’s (IEP) Petition (fil d A il 15 2010) ht t(filed April 15, 2010) sought to:– Revise criteria for determining what transactions are

bundled transactions and what transactions are REC-only transactions proposing revisions different fromonly transactions, proposing revisions different from those suggested in the Joint Petition.

– Expand review of least-cost best-fit methodology for RPS bid evaluation and set time for its completionbid evaluation and set time for its completion.

• May 6, 2010 – CPUC stayed 2010 TREC Decision and placed a moratorium on any further Commission approvals ofplaced a moratorium on any further Commission approvals of contracts for RECs to be used for RPS obligations.

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The Three 2010 Proposed Decisions (PDs)p ( )• Peevey’s August PD contemplated:

– Raising the cap in the 2010 TREC Decision on TREC use from 25% of the RPS target to 40% of the RPS target.g g

– “Grandfathering” in contracts predating the TREC Decision so that the contracts would be classified as “bundled” and would not count against the raised cap.

– Together these changes would free up significant space for utilities to purchase RECs from out-of-state producers.

• Peevey’s October PD contemplated:Th h A PD h ld b– The same as the August PD except the cap would be set at 30% as opposed to 40%.

• Grueneich’s Alternative PD contemplated:Eliminating expiration provision on 25% TREC usage cap– Eliminating expiration provision on 25% TREC usage cap and $50/REC price cap to ensure each provision exists indefinitely until superseded by decision by CPUC or California Legislature.

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g– Keeping RPS target cap at 25%.

Peevey’s January 2011 Proposed DecisionPeevey s January 2011 Proposed Decision(a.k.a. the 2011 TREC Decision)

• January 7, 2011, Peevey again revised his PD, this time proposing standards similar to Grueneich’s Alternative PDproposing standards similar to Grueneich s Alternative PD.

• This PD:– Lifted the stay and moratorium, and reinstates the 2010

TREC DecisionTREC Decision.– Capped the TREC MWh that may be included for RPS

compliance to 25%.– Effectively designated almost all contracts with out-of-stateEffectively designated almost all contracts with out of state

RPS generators as involving TRECs and thus subject to the TREC cap.

• (This effectively overruled the CEC’s policies on the eligibility of out-of-state generators to qualify for participation in the California RPS program.)

– With only limited “grandfathering,” reclassified RPS contracts with out of state generators that had been approved as

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with out-of-state generators that had been approved as “bundled” into TREC transactions.

State of TRECs in California After 2011 TREC Decision

• Use of TRECs by IOUs and ESPs to meet RPS obligations limited at 25%, which will expire on December 31, 2013.– IOUs: if an IOU TREC contract was approved before March

11, 2010, the IOU can use deliveries from that contract even if its deliveries exceed the usage cap. If this occurs, the IOU must bank the TRECs for a future year.ESPs: If an ESP TREC contract was signed before January– ESPs: If an ESP TREC contract was signed before January 13, 2011, the ESP can use deliveries from that contract even if deliveries exceed the usage cap, and must also bank them.

• All TRECs must be associated with RPS-eligible energy g gygenerated on or after January 1, 2008 and be tracked in WREGIS to be used for RPS compliance.

• RECs from bundled contracts currently delivering or scheduled to d li RPS li ibl ld b b dl d d t d ddeliver RPS-eligible energy could be unbundled and traded separately from associated energy, subject to exceptions.

• Only RECs retained in WREGIS active sub-accounts for three calendar years or less could be used for RPS compliance

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calendar years or less, could be used for RPS compliance.

State of TRECs in California After 2011 TREC DecisionTREC Decision

• Only TRECs for which an IOU pays $50 or less per TREC are allowed for RPS compliance, which will expire on December 31, 2013.2013.– All non-IOUs will negotiate rates between buyer and seller

and are based on the market.• California Energy Commission (CEC) determines whether a gy ( )

TREC contract will satisfy RPS delivery rules.• RECs are tracked using Western Renewable Energy Generation

Information System (WREGIS).• Status of “grandfathered” TRECs:

– All generation delivered before March 11, 2010 will be considered bundled for all RPS-obligated retail sellers.All ti d li d ft M h 11 2010 dl f– All generation delivered after March 11, 2010, regardless of when associated contract was approved, will be classified as TREC or bundled pursuant to classification scheme for all RPS-obligated retail sellers.

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g

April 12, 2011 –C lif i ’ S t Bill 2 (SBX 2)California’s Senate Bill 2 (SBX 2)

• Continues requirement that California retail electric providers procure 33% of their retail energy sales from eligible renewable p gy gsources by 2020.

• Mandates that retail electric providers meet their RPS compliance obligation through procurement of eligible renewable

i 3 tf li t t t ienergy resources in 3 portfolio content categories.– Minimum of 50% procured from in-state and in-state

equivalent products.Maximum of 25% from unbundled RECs– Maximum of 25% from unbundled RECs.

– Remainder from firmed and shaped products that provide incremental power.

• These %’s remain in place until 2017 when in-state and in-stateThese % s remain in place until 2017 when in state and in state equivalent is raised to 75%, and maximum from unbundled RECs drops to 10%, with the remainder being from firmed and shaped products.

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April 12, 2011 –California’s Senate Bill 2 (SBX 2)California s Senate Bill 2 (SBX 2)

• For out-of-state generators, RPS-eligible generation form an out-g , g gof-state project that is “scheduled . . . into a California balancing authority without substituting electricity from another source” qualifies as an “in-state product.”

I t d d t bl t f t t j t th t h fi– Intended to enable out-of-state projects that have firm transmission rights and the corresponding right to schedule and deliver power into California to qualify for the most advantageous of the three portfolio categories as effectivelyadvantageous of the three portfolio categories as effectively an in-state bundled sale.

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April 12, 2011 –California’s Senate Bill 2 (SBX 2)

• May potentially provide broad exemption from limitations on transactions involving both firmed and shaped products and unbundled RECs for existing projects– Following existing and prospective RPS transactions are not

subject to the limitations on transactions involving both firmed and shaped products and unbundled RECs:

• (a) RPS power from out of state resources that is being• (a) RPS power from out-of-state resources that is being sold to CA utilities in accordance with CPUC-approved power purchase agreements and will “supply electricity to California end-use customers”; and

• (b) “[N]early 7,000 megawatts of additional proposed renewable energy resources located outside of California that are awaiting interconnection approval from the” ISO is procured by a California utilityfrom the ISO, is procured by a California utility.

• These exemptions arguably grandfather all prior CPUC-approved power purchase agreements.

• Full extent of scope of grandfathering of prior RPS transactions

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Full extent of scope of grandfathering of prior RPS transactions will not be known until CPUC issues rule construing specific statutory language of new law.

SBX 2 th 2011 TREC D i iSBX 2 versus the 2011 TREC Decision• 2011 TREC Decision

R i 20% t• SBX 2

R i 33% t• Requires 20% procurement from eligible renewable sources by 2010.

• California’s 3 largest IOUs

• Requires 33% procurement from eligible renewable sources by 2020.

• California’s 3 largest IOUsCalifornia s 3 largest IOUs limited to 25% cap on TRECs.

• Counted all transactions

California s 3 largest IOUs creates 3 categories of caps: 50%, 25%, remainder for 2013 and updated caps

involving both firmed and shaped products or unbundled RECs to count against the 25% cap prior

in 2017.• Arguably grandfathers in all

prior CPUC-approved power purchaseagainst the 25% cap prior

to the 2011 Decision, regardless whether CPUC previously approved.

power purchase agreements.

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C t t I f tiContact Information

Keith M. CastoShook, Hardy & Bacon LLPOne Montgomery Suite 2700One Montgomery, Suite 2700San Francisco, CA 94104Tel : 415 544 1980Tel.: 415.544.1980Fax: 415.391.0281Email: kcasto@shb.com @

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Rene able Energ CertificatesRenewable Energy Certificates & Carbon Offsets:

Federal Update and Transactional Best Practices

Christopher B. Berendt, Esq.Head of the Environmental Markets Group

Strafford WebinarStrafford Webinar April 20th 2011

Federal Update: RES CES > Why CES?Why CES?

– Something for everyone, budget neutral, goal not a mandate with state flexibility, national market functionality, energy summer, “WWTHD”

> What is Clean Energy? Watch your words …> Existing and New Unit Issues: Baseline, Compliance,

Origination Trading overall variance by technologyOrigination, Trading, overall variance by technology > Preemption, Savings Clauses and the State RPSs

– Parallel market operations 1 MWh of Renewable Generation = 1 REC and 1 CECGeneration = 1 REC and 1 CEC

> Downward trend in Value Chain Competition: EECs to be a future bite out of DSM?

Strafford: RECs and Carbon Offsets | April 20th 2011 34

Federal Update: Compliance Offsets> “Cap and Trade” not at least until after the election> Cap and Trade not at least until after the election …> Attempts to inject offsets into CES design unlikely to succeed > EPA CAA §111 NSPS “source boundary” issues and bubble &

netting theory on the facility and sectoral level, what is a “ t ” ll ?“category” really?

> Let the States Cook? Existing Units under §111, mixed with a little §110 SIP theory, do we get an Ozone Transportation Coalition for Carbon? Sounds like RGGI or WCI….pre-pcompliance issues…

> WCI still on the launch pad, but the fighting over the honor of the first “named” forward contract in California was a good sign, CEQA gates…CEQA gates…

> RGGI still not worth the transaction costs

Strafford: RECs and Carbon Offsets | April 20th 2011 35

Federal Update: CFTC / SEC & Dodd Frank

> The Nature of the Thing creates confusion > Avoiding clearing and collateral requirements

– 5 – 15 % collateral margins on primary market forward5 15 % collateral margins on primary market forward contracts?

> Exclusion from “Swap” definition is critical– RECs and Offsets are Environmental Commodities /– RECs and Offsets are Environmental Commodities /

Instruments that physically settle, don’t confuse with standard derivative contracts built for hedging on DCMs

– Creative OTC forward agreements critical for project finance g p jin the environmental markets

> End-user focus not only on commercial and compliance hedging, but project finance as well?

Strafford: RECs and Carbon Offsets | April 20th 2011 36

p g g, p j

New York | London | Istanbul

KarboneMarket Structure and Opportunities for CAOpportunities for CA 

Renewable Energy Market

Market OverviewMarket Overview

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Portfolio Content CategoriesPortfolio Content CategoriesBucket 1. First Point of Interconnection with CA Balancing Authority (BA)OR h d l d f li ibl bl i t b l iOR scheduled from an eligible renewable energy resource into a balancing authority without substituting electricity from another source.

Bucket 2. Firmed and shaped electricity products from eligible renewableBucket 2. Firmed and shaped electricity products from eligible renewable energy resources providing incremental electricity and scheduled into a California balancing authority.

Bucket 3. Unbundled eligible Renewable Energy Credits (RECs)

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OpportunitiesOpportunities

Firm Transmission will be at a PremiumFirm Transmission will be at a Premium

Dynamic Scheduling definition eased to ‘hourly balancing’Dynamic Scheduling definition eased to ‘hourly balancing’

Power Marketers to assist in Firming and ShapingPower Marketers to assist in Firming and Shaping

Compliance buyers should optimize by using all 3 bucketsCompliance buyers should optimize by using all 3 buckets

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LiquidityLiquidity

• TRECs will be the most liquid product• TRECs will be the most liquid product– Demand will fall off in phases 2 and 3

• Firm and Shaped will prove popular with Power Marketers– Ability to deliver bespoke power products to certain delivery points at a premium

• In State Structures will favor IOU/POU over ESP– IPPs are reluctant to sell less than 10 years

– Hard to get financing for any less

– ESPs don’t hedge longer than 3 years into the future

– Duration mismatch could cause difficulties/opportunities. 

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New York | London | Istanbul

Adam C. Raphaelyp yDirector | Environmental Markets | Karbone Inc. 130 W42nd Street, 9th Floor | New York, NY 10036T 646-616-0074 | C 917-361-1807 | i k b daim:karboneadam

www.karbone.com

P ti TiPractice Tips: Use Project Theory for RECs and Offsets

> RECs and Offsets are “activity derived” commodities, stemming from the environmental attributes created by a projectby a project

> Project’s Attributes similar to real-estate “sticks in a bundle”

> Single instrument vehicle for attributes becoming the standard

Because you can does not mean you should compliance– Because you can does not mean you should, compliance stripped for voluntary, voluntary stripped for voluntary are all bad ideas …

– FTC Revision of Green Guides

Strafford: RECs and Carbon Offsets | April 20th 2011 43

– FTC Revision of Green Guides

Transactional Best Practices: Compliance RECs > Due Diligence Process

– Primary or secondary market? Lets focus generally on Primary … Transaction appropriate for client goals? Deliverability / Certification obtained?– Transaction appropriate for client goals? Deliverability / Certification obtained? Certification for unit for life of strip? 2-4% brokerage fee depending, spot, forward or auction OTC, who takes title?

– In regulatory markets both counsel and analyst should have a view for clients on market directionDeliverability and the dormant commerce clause– Deliverability and the dormant commerce clause

> Don’t confuse a confirm for a contract, use ABA EMA ACORE Master to think about structure and fit …

> Statutory Product Definition– Avoid disaggregation temptation even if allowed, use wide definitional net as backup

> No Double Counting Clauses> Government Action

Sub divide risk of value impacts and total value destruction– Sub-divide risk of value impacts and total value destruction

> Standard is Seller has change in law risk up to the Transaction and / or delivery date, thereafter bore by Buyer

> Disclaimer of Warranties for Future Fitness and Off-ramps t ll d f t i if it d tifi ti

Strafford: RECs and Carbon Offsets | April 20th 2011 44

tolled from strip if unit decertification occurs

Transactional Best Practices: Voluntary RECs

> Reputational? LEED Green Building? Government Agency> Reputational? LEED Green Building? Government Agency Compliance? Green Power Purchase Program? Consent Decree? Portfolio Permitting?

> Do you need an carbon offset but are buying a REC? – REC works with Scope 2 GHG Inventory but not much else– Take “awards” with a grain of salt, do your due diligence, ask about the

specific environmental instrument you will be taking physical delivery of … clear accounting and retirement records

> Unless you want to stake a financing claim to a specific unit not> Unless you want to stake a financing claim to a specific unit, not much value in buying far forward today (“6/12/3”)

> You can shop nationwide, but do you need local? > Green-e product standard supports clarity of claimp pp y

– Utility / retailer power marketer specific RPS and Green Power Purchase Program issues, No double counting, reporting rights, “eligible” in primary and wholesale markets, stamped as “certified” in secondary and retail markets

Strafford: RECs and Carbon Offsets | April 20th 2011 45

Transactional Best Practices: Compliance Offsets> California is the current focus for compliance offsets, RGGI silent

– ARB the “key master and the gate keeper” in compliance, CAR pre-compliance 2005 – 2014

– Final suite of compliance protocols uncertain, validation due diligence, verification, registry roles?

> No best practices domestically yet detailed due diligence required> No best practices domestically yet, detailed due diligence required …> Unique issues for project developers (project by project or

aggregation) and naturals as they play in the primary market, the secondary market is a less risky place

> Primary Market: Allocate carefully the Regulatory Risk component of> Primary Market: Allocate carefully the Regulatory Risk component of Delivery Risk

– Forward contract vehicle – Understand your project and your role as offtaker or developer: pool, unit

contingent or origination contingent?contingent or origination contingent? – Transfer shifts to voluntary market if compliance play goes?– Market pricing hard to access, LDs dangerous, floor on the voluntary

market, mark only if volume is present – Project cost tails hard to nail down, set limits

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j

Transactional Best Practices: Voluntary Offsets > Reputational? Consent Decree? Portfolio Permitting? Pre-compliance?p g p> Part of a package?

– GHG Inventory, Carbon Disclosure Project, The Climate Registry?> Do I need a REC but I am buying an Offset?

Th Th A i Th A i C b R i t (ACR) th Cli t> The Three Amigos: The American Carbon Registry (ACR), the Climate Action Reserve (CAR), and the Voluntary Carbon Standard (VCS)

– Choice of standards body is critical: huge differences in approach, applicability and client fit

> All about the “project story” make sure you capture it in contracting or risk embarrassment and worse …

> Walk your clients through the project cycle, help them understand encumbrances obligations rights and costsencumbrances, obligations, rights and costs

> Concluding: Consider special counsel for environmental markets transactions

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Contact Information

Christopher B. Berendt1500 K Street, N.W.

Washington, DC 20005(202) 230 5426 (Di t)(202) 230-5426 (Direct)

(202) 230-5136 (Executive Assistant) Christopher.Berendt@dbr.com