WELCOME Structuring and Financing the Cleantech Deal May 26, 2011
Corporate and Project Finance Structures in the Cleantech Industry Presented by Dirk Michels dirk.michels@klgates.com May 26, 2011
A Brief Introduction to the Firm Nearly 2000 lawyers in 37 offices throughout the U.S., Asia and Europe. Developed and handled innovative project financings for cleantech clients in the Bay Area and beyond. Highly experienced in cross-border transactions with German and Chinese companies. Team of lobbyists in DC help clients get access to grants and loans from the Stimulus Package. One of the largest international practices in Asia with offices in Hong Kong, Beijing, Shanghai, Taipei and Singapore. 3
Dirk Michels Resident in K&L Gates' Palo Alto and San Francisco offices. Corporate and strategic advice, including all aspects of project financing, debt and equity financing, and securing of public grants. Developed power purchase agreements and supply agreements for cleantech companies, as well as agreements related to renewable energy credits. Assisted in the development and financing of projects in U.S. and Europe. In more than 15 years of practicing law in Germany and California, total value of transactions exceeds $3 billion. 4
Project Financing Corporate/ Transactional M&A/Joint Venture Strategic Alliance Cleantech Requires Multidisciplinary Service Public Policy/ Regulatory Real Estate/ Development Intellectual Property/Patents 5
Emerging Growth Corporate Financing Seed Financing: $200K - $1M First Institutional Round Series A: $1-10M 2-3 Rounds of Expansion Financing Exit $5-15M $10-25M $20-50M 6
Emerging Growth Corporate Financing - Continued Time between Seed and Institutional Series A Financing < 1 year Time between different rounds of Expansion Financing 12-24 months Exit after 4-8 years 7
Most Cleantech Companies Are Different High capital requirement soon after Seed/Series A rounds (< 1 year) $50-150M and more Facility Build Out or Project Financing 8
Two Different Shades of Green Corporate Growth (venture financing) Facility Build Out/Project Development (project financing: equity and debt) 9
Two Different Languages Venture Capital Growth potential IRR Board representation Multiples to exit Corporate valuation Project Financing Cash flows Debt seniority Debt service coverage ratio Lockbox and reserve account Securitization 10
Different Financing Structure Venture Capital Familiar preferred stock structures Project Financing Complex debt leveraged equity structures 11
Sample Project Finance Structures Partnership Flip Sale Leaseback Lease-Pass Through 12
Partnership Flip Structure Fund General Partner 1% 1% Investment Fund Tax Credit Equity Investor 99% 99% $ Tax Credits Depreciation Deductions Cash Flow Developer Fee Developer 100% Solar 1, LLC Solar 2, LLC Solar 3, LLC Solar 4, LLC PPA/Lease Agreements System Integrator/ Installer Solar Installation Host #1 Solar Installation Host #2 Solar Installation Host #3 Solar Installation Host #4 Source: Novogradac & Company LLP 2008 13
Sale Leaseback Structure Solar Developer may provide certain guarantees to Corporate Investor and funds would be held in escrow accordingly. Yield guarantees, O&M, Insurance etc. Funds released to Solar Developer as guarantees burn off. Solar Developer, LLC Lessee Purchase Agreement Lease Agreement Sales Proceeds Corporate Investor Lessor Solar Developer PPA/Lease Agreements Sale of SEFs and Lease Payments Lessor is owner of SEF, Investment Tax Credits, Tax Losses (Depreciation Deductions), Rebates, RECs, Recipient of lease payments, Potential residual buyout Solar 1, LLC Solar 2, LLC Solar 3, LLC Energy Procurement Contract ( EPC ) Solar Installation Host #1 Solar Installation Host #2 Solar Installation Host #3 System Integrator/ Installer Source: Novogradac & Company LLP 2008 14
Lease Pass-Through Structure Source: Novogradac & Company LLP 2008 15
Thank You Very Much! For Further Questions: Dirk Michels K&L Gates LLP 630 Hansen Way Palo Alto, CA 94304 T: 650-798-6709 F: 650-798-6701 E: dirk.michels@klgates.com 16
CONNECT Public Policy Forum Structuring and Financing the Cleantech Deal May 26, 2011 California Developments Fred Greguras Palo Alto Office fred.greguras@klgates.com 650.798.6708 PL51640.2 Copyright 2010 by K&L Gates LLP. All rights reserved.
California Renewables Portfolio Standard (RPS) New Statutory requirements: 20% from renewable energy sources by 12/31/2013; 25% by 12/31/2016; 33% by 12/31/2020. Reasonable annual progress in each year after 2013 to ensure 2016 and 2020 goals are met. Targets California s investor-owned utilities ( IOUs ), municipal and other public utilities as well as independent sellers Renewable energy projects must provide actual delivery of electricity not just signed contracts Current status of IOU compliance RPS helps create demand for renewable energy products and systems that are used in generation, storage and grid management Products need to be developed to the bankable commercialization stage ASAP. Proven technology which operates for the life of the system 18
California Tradable Renewable Energy Credits REC is one megawatt-hour of electricity generated from an eligible renewable energy source. Credit representing such generation. Utilities must either generate renewable energy or buy RECs to satisfy RPS CPUC 2010 decisions moved TRECs closer to having monetary value TRECs are acquired by utilities together with the renewable energy under Power Purchase Agreements ( PPA ) May provide an additional revenue stream for non-utility projects in the future but not 2011 Need a REC purchase agreement with a creditworthy purchaser in order to be predictable revenue for a financing in NJ and other places where RECs are currently available TRECS may be an important source of financing revenue in the future because of limitations on government funding Contracted as annual progress? 19
Other Developments California Solar Initiative Production Based Incentive ( PBI ) Payment per kilowatt-hour of electricity generated from an eligible non-utility renewable energy source during the first 5 years of operation Provided a revenue stream in the past that can make the financing numbers work in a non-utility project New reservations for PBI are currently on a waiting list for non-residential applications other than from Southern California Edison ( SCE ) Even when available, PBI per kilowatt-hour rate has decreased significantly which means a smaller revenue stream for project financing Global Warming Solutions Act (AB32). Purpose is to reduce carbon emissions by 25% by 2020 and by 80% by 2050 (relative to 1990 levels) Emission reduction requirements were to begin in 2011 with mandatory caps beginning in 2012. Proposition 26 approved implementation March 18 Superior Court decision will delay; other law suits likely from Proposition 23, etc. May eventually create demand for a broader variety of renewable energy products and systems but not in 2011 20
Reverse Auction Pricing/ Feed-in Tariffs (FiTs) CPUC is approving reverse auction pricing for many utility projects rather than FiTs. FiT is a kilowatt-hour rate paid during a specified period of generation. California is unlikely to ever have a meaningful FiT because of limitations on funding and ratepayer impact Public Utility Regulatory Policies Act provides that states may not set the PPA rate above the avoided cost as opposed to actual cost which utilities may use in determining ratepayer impact Federal Energy Regulatory Commission 10/21/2010 decision provided more flexibility for state avoided cost calculations for PPA pricing including RPS requirements. Decision permits but does not require this flexibility to be used. Reverse auction-bids are selected on price starting with the lowest price per kilowatthour until the auction capacity cap is reached. See SCE RFP announced 5/13/2011. Result is more utility financed and owned projects (rather than independent power producers) because utilities may use actual costs in ratepayer financing of projects Build and transfer business model Demand for products and systems regardless but need to be bankable 21
Summary Technology companies need to develop products to the bankable commercialization stage as soon as possible TRECS may be an important source of financing revenue in the future because of limitations on government funding California is unlikely to have a meaningful FiT because of limitations on funding and ratepayer impact There will be more utility financed and owned projects because actual costs may be used in ratepayer financings. 22
Renewable Energy Federal Tax Credits and Incentives Tom Stevens Deloitte Tax LLP May 2011
Summary of credits and incentives Tax Credit Research and Development ( R&D ) ( 41) Investment Tax Credits ( ITC ) ( 47, 48, 48A, 48B, 48C, 48D) Production Tax Credits ( PTC ) ( 45, 45K, 45J) Cash in Lieu of ITC/PTC (ARRA 1603) Economic Development Credits ( 45D, 42, 1397-1397F, 1400-1400U) Employment Credits ( 51, 45A, 45B, 38) Renewable and Alternative Fuel Incentives ( 40, 40A, 4041, 6426, 6427) Brief Summary Increasing qualified research and experimentation expenditures Investment in qualified property by acquisition, rehabilitation or construction (e.g., solar, advanced energy project, therapeutic discovery project, historic rehab, clean coal) Production-based credits for qualified facilities placed in service (e.g., renewable energy, Indian coal, refined coal, coke, advanced nuclear) Grant in lieu of ITCs or PTCs to reimburse a portion of expense of certain specified energy property (e.g., solar, wind, biomass) Commercial or residential investment in qualifying low-income areas (e.g., New Markets, Low-Income Housing, GO Zone, Empowerment/Renewal Community Credits) Wage credits for hiring targeted groups, within empowerment zones or GO Zones, paying excess social security taxes for employee-received tips, or retaining qualified individuals under the HIRE Act Using, mixing, producing or selling as fuel alcohol, agri-biodiesel, biodiesel, renewable diesel, cellulosic biofuel, and alternative fuels
Summary of credits and incentives (cont d) Tax Credit Energy Conservation Incentives ( 25C, 25D, 45L, 45M, 179D) Alternative Fuel Vehicle Credits ( 30, 30B, 30C, 30D) Brief Summary Producing or investing in certain renewable or energy efficient property (e.g., new energy efficient home credit, energy efficient appliances credit, residential energy efficient property credits, energy efficient commercial building deduction) Investment credit for acquisition or lease of certain fuel cell, hybrid, lean burn, alternative fuel, plug-in electric motor vehicles Accelerated Cost Recovery Non- Fossil Fuel ( 168(e)(3)(B)(vi), 168(l), 169, 291) Accelerated Cost Recovery Fossil Fuel ( 167(h), 168(e)(3)(C)(iii), 168(e)(3)(E)(vii), 169, 291) Accelerated cost recovery and expensing provisions for certain renewable and alternative energy property, cellulosic biofuel plant property, and pollution control facilities Accelerated cost recovery and expensing provisions for geological and geophysical expenditures, Alaska natural gas pipeline, natural gas gathering and distribution lines, tertiary injectants, intangible drilling costs, depletion Miscellaneous Credits Employer provided child care credit ( 45F), Railroad track maintenance expenditures ( 45G), agricultural chemicals security credit ( 45O), and others
Incentives are Integral to Project Economics Renewable Energy Generation Incentives Investment and production tax credits ARRA Section 1603 Treasury Grant in lieu of tax credits Accelerated MACRS and bonus tax depreciation State tax credits, exemptions and incentives What if I can t monetize the incentives currently? One year carryback; 20-year carryover period Multiple monetization structures are utilized Partnership flip Sale-leaseback Inverted lease Power prepayment 26 Copyright 2010 Deloitte Development LLC. All rights reserved.
A High Level Summary of Incentives Production Tax Credit 10-year credit period for qualified resources 2.2 cents per kwh Credit reduction for subsidized or tax-exempt financing Third-party sales requirement Ownership requirement No basis reduction in property Investment Tax Credit One-time tax credit (30% or 10% of eligible basis) No credit reduction for subsidized or tax-exempt financing after 12/31/08 No third-party sales requirement No ownership requirement 50% basis reduction of property Recapture applies Normalization required Treasury Grant Cash payment (30% or 10% of eligible basis) If not placed in service in 2009, 2010 or 2011, construction must begin during 2009, 2010 or 2011 completed by required placed-in-service date Received within 60 days of receipt of complete application May be taxable by certain states or localities No ownership requirement 50% basis reduction of property Limited recapture applies Normalization required Copyright 2010 Deloitte Development LLC. All rights reserved.
Summary of Qualifying Resources and Facilities Qualified Resources/ Facilities Credit Amount for 2010 Placed-in-Service Date 30% ITC Election Treasury Grant Solar 30% Before 1/1/2017 N/A 30% Fuel cell 30% Before 1/1/2017 N/A 30% Stationary microturbine Geothermal heat pump 10% Before 1/1/2017 N/A 10% 10% Before 1/1/2017 N/A 10% Small wind 30% Before 1/1/2017 N/A 30% Combined heat/power 10% Before 1/1/2017 N/A 10% Geothermal 10% N/A Section 45 is available 10% Copyright 2010 Deloitte Development LLC. All rights reserved.
Summary of Qualifying Resources and Facilities Qualified Resources/ Facilities Credit Amount for 2010 Placed-in-Service Date 30% ITC Election Treasury Grant Wind Geothermal (new facilities) Closed-loop biomass Open-loop biomass Municipal solid waste (landfill gas, trash) Hydropower Refined coal 2.2 cents/kwh* (10 years) 2.2 cents/kwh* (10 years) 2.2 cents/kwh* (10 years) 1.1 cent/kwh* (10 years) 1.1 cent/kwh* (10 years) 1.1 cent/kwh* (10 years) $6.20/ton* (10 years) Before 1/1/2013 2009-2012 30% Before 1/1/2014 2009-2013 30% Before 1/1/2014 2009-2013 30% Before 1/1/2014 2009-2013 30% Before 1/1/2014 2009-2013 30% Before 1/1/2014 2009-2013 30% Before 1/1/2010 N/A N/A * Adjusts for inflation. 2010 rate. Copyright 2010 Deloitte Development LLC. All rights reserved.
Summary of Qualifying Resources and Facilities Qualified Resources/ Facilities Credit Amount for 2010 Placed-in-Service Date 30% ITC Election Treasury Grant Indian coal $1.625/ton* (7 years) Before 1/1/2009 (not extended) N/A N/A Marine and hydrokinetic renewables (including small irrigation power) 1.1 cents/kwh* (10 years) Before 1/1/2014 2009-2013 30% * Adjusts for inflation. 2010 rate. Copyright 2010 Deloitte Development LLC. All rights reserved.
ARRA Section 1603 Treasury Grant Which technologies are getting the money? 31 Copyright 2010 Deloitte Development LLC. All rights reserved.
ARRA Section 1603 Treasury Grant Who is submitting the most applications? 32 Copyright 2010 Deloitte Development LLC. All rights reserved.
ARRA Section 1603 Treasury Grant Guidance When Construction Begins Physical work of a significant nature Work performed by the applicant and by other persons under a written binding contract is taken into account in determining whether construction has begun Work must be continuous OR 5 percent safe harbor An applicant may treat physical work of a significant nature as beginning when more than 5 percent of the total cost of the property has been paid or incurred Only costs included in the eligible basis of the specified energy property are taken into account in determining if 5 percent of total costs has been exceeded No continuous work requirement Copyright 2010 Deloitte Development LLC. All rights reserved.
ARRA Section 1603 Treasury Grant Guidance When are Costs Incurred (Accrual Basis)? All events test Fixed and determinable Economic performance Depending on taxpayer s method of accounting, the cost of such property is treated as incurred or provided either when: title passes delivered, or accepted Note: 3 ½ month rule Look through to supplier s costs (binding contract) Copyright 2010 Deloitte Development LLC. All rights reserved.
Tax Equity Structuring Tax credit monetization Monetization is the process of turning certain tax credits into capital for project financing Third party investors provide capital in exchange for the tax credits and tax losses (from MACRS tax depreciation) Monetization is accomplished through commonly accepted structures, which vary depending on the credit and motivating factors of each party There are large taxpayers in the U.S. actively looking to invest There are more developers looking for tax equity investment into their projects, however Credit investors are motivated by Return on Investment ( ROI ) and ability to utilize tax attributes generated by the project Copyright 2010 Deloitte Development LLC. All rights reserved.
Tax Equity Partnership Flip Structure
Partnership Flip Developer Tax Investor Cash distributions Period 1: 100% Period 2: 0% Period 3: 95% Gross income (loss) Period 1: 1% Period 2: 1% Period 3: 95% Project Entity Rev. Proc. 2007-65 Example 1 Cash distributions Period 1: 0% Period 2: 100% Period 3: 5% Gross income (loss) Period 1: 99% Period 2: 99% Period 3: 5% Copyright 2010 Deloitte Development LLC. All rights reserved.
Tax Equity Leasing Structures
Sale Leaseback Structure (Construct / Sell) 1. Developer buys or obtains long term roof lease rights and installs solar panels 2. Tax Investor purchases the installed panels from Developer and leases them back under LT lease 3. Tax Investor will receive the 30% Investment Tax Credit based upon the purchase price paid for the panels and accelerated depreciation Developer Lessee (Developer Owned) 1 2 Tax Investor Lessor (Investor Owned) Tax Credits 3 39 Copyright 2010 Deloitte Development LLC. All rights reserved.
Sale Leaseback Structure (Leaseback / Operate) 4. Tax Investor will lease the panels back to the Developer 5. Developer will make annual lease payments to the Tax Investor to cover debt service 6. Developer enters into Power Purchase agreement to sell electricity from panels Developer Lessee (Developer Owned) 6 5 4 Tax Investor Lessor (Investor Owned) Local Utility 40 Copyright 2010 Deloitte Development LLC. All rights reserved.
Inverted Lease Structure 1. Owner obtains long term roof lease rights and installs solar panels 2. Owner leases the panels to Operator & makes election to pass through credits to lessee allocated 99% to Tax Investor 3. Operator enters into Power Purchase agreement to sell electricity from panels 4. Operator will make annual lease payments to the Owner to cover debt service Developer Owner (Lessor) 1 51% owner 1% owner 49% owner 4 2 Lease panels Operator (Lessee) 3 Tax Investor 99% owner Local Utility Tax Credits 41 Copyright 2010 Deloitte Development LLC. All rights reserved.
Comparison Sale Leaseback FINANCING Investor provides 100% financing (secured by PPA) Inverted Lease Investor provides partial financing (secured by PPA) EXIT COST Higher exit costs Lower exit costs OPERATING RISK TECHNOLOGY RISK BASIS ADJUSTMENT Insulates tax investor from operation risk by separating ownership from operations Insulates tax investor from technology risk since financing closed after placed in service date Tax investor benefits reduced by 50% basis adjustment (only 85% of property depreciated) Tax investor takes on a share of operation risk but will seek to transfer this risk contractually to Developer through various agreements Tax investor has technology risk since financing must be closed prior to placed in service date Owner entity depreciates 100% of basis Tax investor recognizes 50% basis adjustment into income (offset by allocable share of 49% full depreciation and rent) This anti-depreciation increases Tax Investor s capital account and basis allowing basis recovery on disposition 42 Copyright 2010 Deloitte Development LLC. All rights reserved.
Tax Equity Power Prepayment Structure
Power Prepay Structure Illustrative example for discussion purposes only Tax Equity Lender Project (Owner) Prepay for Tier 1 power Tier 2 power billed monthly Pass-thru some O&M costs Electricity Buyer Electricity Buyer may have an option to buy the Project in the future at FMV Electricity Buyer may hold a security interest in the project to secure delivery of the Tier 1 power Copyright 2010 Deloitte Development LLC. All rights reserved.
Contact Information Tom Stevens 619-237-6785 tstevens@deloitte.com 45 Copyright 2010 Deloitte Development LLC. All rights reserved.
Circular 230 Statement Any tax advice included in this written or electronic communication was not intended or written to be used, and it cannot be used by the taxpayer, for the purpose of avoiding any penalties that may be imposed on the taxpayer by any governmental taxing authority or agency. Limitation on Use The information contained in this publication is for general purposes only and is not intended, and should not be construed, as legal, accounting, or tax advice or opinion provided by Deloitte Tax LLP to the reader. This material may not be applicable or suitable for the reader s specific circumstances of needs. Therefore, the information should not be used as a substitute for consultation with professional accounting, tax, or other competent advisors. Please contact a Deloitte Tax LLP professional before taking any action based upon this information. Copyright 2010 Deloitte Development LLC. All rights reserved.
2009 Deloitte Development LLC All rights reserved.
Navigating the Valley of Death By: Gerry Di Popolo VP, Business Development
Situation Profile In spite of being a +30 year old renewable energy developer, Cannon consistently faces the challenge of navigating the valley of death New technology (e.g., renewable vs. conventional) New markets, policies and customers (e.g., international, solar, PTC/ITC, IOU s/muni s) New sources of capital (e.g., founders, investors, vendors, operations, etc.) Significant challenges exist (and often emerge) along our company s and/or projects path to success Proven technology (or the lack thereof) Access to capital (or the lack thereof) Government policy support (or the lack thereof) Entrenched enemies (oddly, never a lack thereof) All emerging clean technologies, new cleantech companies, and renewable energy developers must build a bridge on sound fundamentals to cross the valley of death (of course, never overlook timing and luck)
Even with a bridge, crossing the valley of death may still feel more like this
than cruising in a 69 Corvette across the beauty and precision of this
Shrink the gap with prudent planning and sheer determination, while achieving quantifiable milestones reward Risk (i.e., discount rate, premium) valley of death time Value (i.e., cashflow or net present value) risk Patient (warm promise)????? Permanent (cold execution) Investor Type (and mood)
Hard Won Wisdom: Think backwards while always moving forward Know what end the game looks like Investor mood, profile, and requirements (understand the implications it will have on you, your team and goals) Financial benchmarks clear, realistic, and achievable Single or multiple exit options, cherish the art of closing Understand how decisions/actions today impact end game Going slow versus fast tracking (impact on day-to-day cash flow, snapping branches off decision tree, home-run swinging) Key staffing (leadership, commitment, most valuable role players) Forging relationships with stakeholders, investors, proponents and opponents (helps with decisions on permitting, technology and investments)
About Cannon Established in 1979 by current founder and chairman Gerry Monkhouse (determination), and fortified by long-time partner Gary Hardke (key staffing) Developed in Tehachapi, CA in the 1980 s, overseas in the 1990 s (e.g., Europe, Asia), returned to Palm Springs, CA post-energy crisis, exported green power from Pacific Northwest to California in 2000 s (Windy Point), and focused on utility-scale solar (CA) and foreign wind markets (e.g., Mexico, Croatia, Poland) (timing, luck, new markets, customers, and policies) Sold original CA operations to Florida Power & Light, partnered with strategic/local partners overseas, built turn-key projects for Shell Oil, financed Windy Point with innovative muni-financing, and currently codeveloping a Mexico wind project with a turbine vendor (access to capital, proven technology, and entrenched enemies)
PANEL DISCUSSION Moderated by: Duane Roth, CEO, CONNECT