THE CLEAN DEVELOPMENT MECHANISM: Legal Considerations for Buyers and Sellers

1. THE CLEAN DEVELOPMENT MECHANISM: Legal Considerations for Buyers and Sellers Introductory Workshop on CDM/JI March 1, 2006 Inn at the Forks Winnipeg, Manitoba

2. TOPICS • Lawyer’s Role • Categories of Risk • Nature of CDM • Emission Reduction Purchase Agreements

3. LAWYER’S ROLE • address risk • maximize likelihood of value capture • facilitate the settlement of deal terms • documenting transaction

4. CATEGORIES OF RISK There are three main risk categories which a CDM project presents for participants and stakeholders: • political and regulatory Host Country uncertainties; • general project risks that are common to all projects; and • unique risks due to the fact that a CDM project relies upon a new and developing international legal framework.

5. CATEGORIES OF RISK (Cont’d) • Host Country risks • changes in foreign investment policies or laws • the imposition of a tax on CER revenue from the project or the CERs generated by the project • failure to approve the CDM project through its DNA • administrative procedures imposed by the Host Country could involve a significant amount of time and expenditures • absence of an efficient legal system in which parties can enforce their rights • community opposition to CDM project

6. CATEGORIES OF RISK (Cont’d) • General project risks • risks that impact on the ability of the project to operate as intended • cost overuns – delayed construction • commissioning of the project is delayed • disputes between project participants • failure to comply with local laws and regulatory requirements of the Host Country

7. CATEGORIES OF RISK (Cont’d) • Kyoto Protocol risks • risk that CDM project may be rejected by the CDM Executive Board • inaccurate monitoring or verification of ERs • disputes over legal title to CERs

8. RISK ISSUES FOR SELLERS • Project construction • prepayment for financing (?) but lower price • CER delivery failure • liability for liquidated damages? • Buyer payment failure • credit assessment of Buyers • security (letters of credit?) • pools/funds • Surplus CERs • options to purchase • third party sales discussions

9. RISK ISSUES FOR SELLERS (Cont’d) • Buyers’ involvement in project • validator and verifier • additions to PDD • focal point • Price fluctuations • floor • sliding scale price based on % of market price

10. NATURE OF CDM • UNFCCC, Kyoto Protocol, COP/MOP Decisions (including adoption of the 19 decisions of the Marrakesh Accords), Executive Board Decisions • Canadian law status? • new Government, new Minister of the Environment • no Canadian statute approving or incorporating Kyoto Protocol or imposing GHG reduction obligations • EU Countries – under EU ETS Registries Regulation, each member state establishes a national registry that links to the others and to the Community International Transaction Log

11. EMISSION REDUCTION PURCHASE AGREEMENTS • Carbon purchase agreement between a Buyer and a Seller • Purposes • record terms of agreement • identify responsibilities/address risk • establish rights

12. ERPAs (Cont’d) • Conditions precedent to obligation of Seller to sell, and Buyer to purchase, CERs • preparation of project design document • obtaining all necessary consents • project having been Validated and Registered • Host Country having authorized Seller to participate in the project and Buyer having been designated as a PP and authorized by its DNA to participate in the project • project commissioning (completion of the Project) • due diligence

13. ERPAs (Cont’d) • CDM Process Considerations • Validation • independent evaluation of the project activity against the requirements of the CDM on the basis of the PDD • carried out by a DOE • Registration • formal acceptance of a validated project by the CDM executive board as a CDM project activity

14. ERPAs (Cont’d) • CDM Process Considerations (cont’d) • Monitoring of the Project • collection by Seller of data necessary to calculate GHG reductions in accordance with the monitoring plan • Verification and Certification • periodic independent review by a DOE and ex post determination of the monitored GHG emission reductions • certification – written assurance by a DOE that the project activity has achieved the reductions in GHG as verified

15. ERPAs (Cont’d) • CDM Process Considerations (cont’d) • Issuance of CERS • EB will issue CERs equal to the certified amount of GHG emission reductions into the pending account of the EB in the CDM Registry

16. ERPAs (Cont’d) • CDM Process Considerations (cont’d) • CDM Registry has the following accounts: • pending account for the EB • holding accounts for non-Annex I Parties • temporary accounts for Annex I Parties and PPs from such Parties until national registries for such Parties are operational for the purposes of receiving CERs • in order to transfer CERs from the CDM pending account to the temporary account of Buyer, Buyer must be a project participant and must be authorized by its DNA to participate in the Project

17. ERPAs (Cont’d) • CDM Process Considerations (cont’d) • Share of Proceeds (Costs of Administration) • issuance of CERs in accordance with the request of PPs shall only be effected when share of proceeds to cover administrative expenses has been received: • USD 0.10 per CER issued for the first 15,000 tonnes of CO2 equivalent for which issuance is requested in any given year • USD 0.20 per CER issued for any amounts in excess of 15,000 tonnes of CO2 equivalent for which issuance is requested in a given year

18. ERPAs (Cont’d) • CDM Process Considerations (cont’d) • Share of Proceeds (Costs of Adaptation) • among issued CERs, 2% of the CERs will be deducted for the share of proceeds to assist developing Parties that are particularly vulnerable to the adverse effects of climate change to meet the costs of adaptation

19. ERPAs (Cont’d) • Transfer of Legal Title to CERs • ERPAs normally provide that legal and beneficial title to CERs pass at the time the CERs are delivered into the Buyer’s account • Sole Communicator (Buyer/Seller?) • Use of escrow agreements • Delays at EB

20. ERPAs (Cont’d) • Quantity of CERs being acquired: • ERPA should specify the quantity of CERs being acquired by Seller and the timeframe • ERPA should specify a delivery schedule for CERs which accords with the anticipated performance of the Project • Minimum delivery requirements • Option to purchase excess CERs?

21. ERPAs (Cont’d) • What happens in the event of a delivery failure? • negotiation of an amended delivery schedule • substitute CERs from third parties for project CERs • termination of the ERPA by the Buyer

22. ERPAs (Cont’d) • Price of CERs • fixed • floating – Project Entity partially participates in any increase in a benchmark index

23. ERPAs (Cont’d) • Representations and warranties of the Seller and the Buyer • due incorporation, organization and subsisting • all necessary consents for the Seller to perform its obligations under the ERPA have been obtained • agreement enforceable in accordance with its terms • in the case of the Seller, title to the CERs

24. ERPAs (Cont’d) • Representations and warranties of the Seller and the Buyer (cont’d) • no insolvency proceedings pending or threatened • no conflict • Seller has, and will continue to have throughout the term of the ERPA, adequate and sufficient funding in place • Project has been registered

25. ERPAs (Cont’d) • Payment of Costs • ERPA should contain provisions relating to the payment of costs leading to the creation of CERs (including monitoring, verification, certification and issuance of CERs) • General approach in that the Seller is responsible for covering all costs associated with the Project and creating the CERs and that these costs are factored into the purchase price for the CERs • Buyer is responsible for costs associated with establishment of Buyer’s accounts in the CDM Registry

26. ERPAs (Cont’d) • Force Majeure clause – scope • When will the Buyer and Seller be excused from their obligations? • Natural force majeure events, such as fires, storms, etc. • Any other events beyond the control of either party including acts of governments (regulatory risk)

27. ERPAs (Cont’d) • Events of Default • non-payment • any representation or warranty made is false or materially misleading • failure to perform a material obligation • commencement of insolvency proceedings • material adverse changes • delivery failure

28. ERPAs (Cont’d) • Liability and Indemnity • Parties will have to determine to what extent, if any, the liability of either or both parties shall be limited • Damages may arise out of or by reason of breach of obligations and/or breach of representations and warranties • Seller may only be liable for a delivery failure if the delivery failure is a result of “wilful misconduct” or “gross negligence”

29. ERPAs (Cont’d) • Liability and Indemnity (cont’d) • “Wilful misconduct” – act or omission which would be regarded by those familiar with projects of the nature of the Project and with the circumstances of the particular case as amounting to misconduct and which was intentional • “Gross negligence” – act or omission, whether deliberate or not, which in the circumstances would be regarded by those familiar with projects of the nature of the Project and with the circumstances of the case as amounting to more than a mere failure to exercise proper skill and care

30. EMISSION REDUCTION PURCHASE AGREEMENTS (Cont’d) • Dispute Resolution • Buyer and Seller should be obligated to sit down together and try to work out a mutually acceptable solution • if unable to resolve dispute – resort to arbitration

31. CONCLUSION • Carbon credit business has boomed since the ratification of the Kyoto Protocol • Demand for carbon credits is likely to continue to grow • 390 million tonnes of CO2 were traded worldwide in 2005, up from 9.65 million tonnes traded in 2004 • Exciting, new and dynamic market • IETA ERPA

32. CONTACT INFO Andrew Kingsmill Bennett Jones LLP 3400 One First Canadian Place Toronto, Ontario Canada M5X 1A4 Direct No. 416.777.4807 Main No. 416.863.1200 Ext 4807