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Debt Financing for Wind Projects By John Harper, Birch Tree Capital, LLC IPED Financing Wind Power Conference July 25-27, 2007 Birch Tree Capital Background Financial advisory services supporting financing for clean power generation and biofuels projects:

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Debt Financing for Wind Projects

By John Harper, Birch Tree Capital, LLC

IPED Financing Wind Power Conference

July 25-27, 2007

birch tree capital background
Birch Tree Capital Background
  • Financial advisory services supporting financing for clean power generation and biofuels projects:
    • Multi-technology focus (wind, PV, biomass, MSW).
    • Clients include investors, developers, and public sector entities.
    • Collaborates with Deacon Harbor Financial & other firms.
  • Recent wind sector assignments:
    • Advising a large insurance company in due diligence review and negotiation of tax-oriented interests in new wind projects.
    • Co-author of review and comparative analysis of wind financing structures for Lawrence Berkeley National Labs (to be published next month)
    • Co-author of April 2007 study profiling financial viability of state’s wind resources for State of Rhode Island.
    • Advising the Cape Cod Compact on using a cooperative to finance local wind projects.
wind financing structures
Wind Financing Structures
  • Historically, few financing sources and structures available to developers.
  • Now, multiple structures available.
    • Equity & Debt sources have expanded.
    • Varying combinations of equity, tax equity, debt, & grants.
    • No one optimal structure.
    • Relative utility varies by:
      • Project size.
      • Developer characteristics & goals
wind financing structures4
Wind Financing Structures

Developer types:

  • Small, independent developer
  • Large, Strategic developer/investor
  • Utilities (for own supply)
  • Community groups
  • Individual entities (for own use)

Structures created to meet varying developer needs.

  • Relative ability to fund development costs.
  • Relative ability & willingness to fund construction costs.
  • Relative ability to use tax benefits.
  • Focus on up-front profits vs. ongoing cash flows from operations.
  • Relative need for early cash returns vs. waiting 10+ years.
  • Relative interest in managing operations.
wind financing structures5
Wind Financing Structures

Main structures in use for utility-scale wind:

wind financing structures using debt
Wind Financing Structures using debt
  • Many types of debt in use:
    • Turbine construction loans.
    • Construction loans.
    • Equity bridge loans.
    • Term loans.
      • Cash-based loans
      • Production tax credit-based loans
    • Backing for letters of credit.
    • Tax-exempt bonds
    • Tax credit bonds (CREBs)
  • Facilities vary in their purposes and terms.
  • A given project may use multiple facilities.
financing structures using debt
Financing Structures using debt

Why use debt?

  • Improve liquidity.
  • Improve profits from project development.
  • Husband developer capital.
  • Reduce equity risk.
  • Recycle developer capital.
  • Enable marginally economic projects.
  • Third party risk validation.
financing structures using debt8
Financing Structures using debt

Profile three structures that use term debt:

  • Cash Leveraged
  • Cash & PTC Leveraged
  • Back Leverage
cash leveraged financing structure
Cash Leveraged Financing Structure
  • Note typically involves separate tax investor.
  • Parties:
    • Developer
    • Tax Investor
    • Lender
  • Loan reduces upfront equity capital requirements
  • Limited-recourse, aka project financing, structure
  • Loan to special-purpose project entity
  • Loan sized on project cash flows (power & RECs)
    • Typically debt is 40-55% of total capital costs
    • Key drivers: tenor, debt service coverage ratio, interest margin
  • Lender has first lien on project cash flows, assets, contract rights, and pledges of equity shares
  • Term loan is distinct from/replaces:
    • Turbine Supply Loan, Construction Loan, Equity Bridge Loan
cash ptc leveraged financing structure
Cash & PTC Leveraged Financing Structure
  • Same basic structure as Cash Leveraged Structure
  • But, loan sized on both:
      • Project cash flows (power & RECs)
      • Production tax credits
    • Typically aggregate debt is 50-65% of total capital costs
    • Key drivers: tenor, debt service coverage ratio, interest margin
  • Lender provides incremental debt, based on present value monetization of projected PTC flows
    • Projected PTC flows based on conservative independent review
      • Base case: 1.45x DSCR using 10 year P50 scenario
      • Stress test: 1.00x DSCR using 1 year P99 scenario
    • Requires Tax Investor contingent guarantee to inject new equity to project company tied to PTCs actually generated
    • Effectively creates 2nd flow of cash to project company that supports the incremental debt
  • Detailed loan terms relating to tax investor obligations/rights.
back leveraged financing structure
Back Leveraged Financing Structure
  • Used when tax investor doesn’t want debt at the project company level or when developer anticipates a later refinancing.
  • Same parties: developer, lender, tax investor
  • All-equity financing at level of project company.
  • Loan leverages only developer’s share of equity funding obligations.
  • Loan made to developer’s holding company holding developer’s equity shares in project company.
  • Limited-recourse, aka project financing, structure.
  • Loan sized on developer’s share of project cash flows (power & RECs)
    • Consequently, debt is lower % of total capital costs
    • Loan terms usually include a cash sweep to fund loan prepayments
    • Tenor typically shorter
  • Collateral security limited to pledge of developer’s shares in project company.
why not use debt
Why not use debt?
  • Increased transaction costs.
  • Increased time.
    • PTC expiration worries.
  • More complex deal structure.
  • Many tax investors dislike debt.
    • Equity squeeze concerns
    • Term conversion hassles
    • Pricing future PTC-loan equity contributions
    • PTC-loan equity funding into troubled projects
debt considerations
Debt Considerations
  • Project size: small projects may not merit debt
  • Timing
  • Transaction cost
  • Complexity
  • Power/REC off-take arrangements
  • Turbine technology
  • Limits pool of willing tax investors
community public wind financing structures
Community/Public Wind Financing Structures
  • Still need to establish the project’s financial goal
  • Financing structure options:
    • Public-private partnerships
      • Strategic Investor Flip
      • Institutional Investor Flip
    • Full community/public ownership
      • All-equity
      • Debt
      • Grants
community public wind financing structures15
Community/Public Wind Financing Structures

Financing Sources:

  • Federal:
    • USDA Farm Bill Section 9006 grants
    • USDA Farm Bill loan guarantees
    • CREBs
  • State:
    • Clean energy funds
    • Economic development funds
  • Private
    • Taxable bonds
    • Cobank, NRUCFC
    • Local lenders
    • Local tax investors
    • Rural Community Renewable Energy Bonds Act (Bill S.672) (www.refcoalition.com)

Most small projects to date have tapped multiple sources.

community public wind financing structures16
Community/Public Wind Financing Structures

Recommended financing options:

  • Use private sector incentives/capabilities/money
    • PTC & accelerated depreciation provide more financial boost than other non-grant incentives.
    • Partner with an experienced private developer and/or a tax investor.
    • Take project through permitting to reduce private sector risk.
    • Community/public sector buys long-term power at fixed rate.
    • Use flip partnership structures to enable ultimate ownership.
  • For smaller projects:
    • USDA Farm Bill Section 9006 grants.
    • Partnering with local contractors/investors
wind financing structures17
Wind Financing Structures

Trends & Observations:

  • Relative popularity of structures varies from year to year.
  • Leveraged structures being considered more than in the past.
  • Emerging financing source: power pre-payments.
  • Utility ownership waxing.
  • Need to watch market trends.
  • Be clear on your own role in the market.
  • Seek expert advice on tax-oriented deals.
  • Simplicity remains a virtue.
wind financing structures18
Wind Financing Structures

Most importantly, a comment from that wise sage of the office:

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Thank you.

John Harper

Birch Tree Capital, LLC

www.birchtreecapital.net