El Faro Project:Valuing an LNG Plant in Honduras
Stan BrunsonRachel Fefer
Andrew FrankelCarlos Sanchez
Emerging Markets Corporate FinanceProf. Campbell Harvey
Fuqua School of Business, Duke UniversityTerm 3, 2002
Case Issue
• Senior investment advisors Carlos Garcia and Stan Johnson must decide…
• Should United Energy invest $25 million for an equity stake in a Central American power plant project?
Agenda
• Background
• Key Parties
• Project Overview
• Financials
• Case Discussion
• Project Valuation and Decision
• Update
Background
• Honduras– Pro-market Stanford-educated President
• Central American electricity market currently fragmented– Puebla-Panamá Plan for regional wholesale
electricity market• $240 million IDB financing support
Key Parties
• AES– U.S. power company– International experience– Equity holder – offering 12.5% stake
• IFC– A-loans– B-loans
• Export Credit Agencies
Project Overview
• $650M: largest project ever in Central America• Construction of LNG power plant in El Faro,
Honduras– Capacity to grow in stages
• Upgrade to existing transmission line• Electricity to be sold below existing market rates
to Honduras, El Salvador, Nicaragua, Guatemala, Costa Rica
Project Integration
El Faro Site
Power Transmission Upgrade
El Faro Project$650M investment
Puebla-Panamá Plan$240M investment
Financials
OperationsCosts: LNG at NYMEX spotRevenue: $0.05 per kWh base, which fluctuates with LNG spot price
El Faro ProjectSources and Uses of Cash
-
100
200
300
400
500
600
700
Sources Uses
US
$, m
illio
ns
$140MA-loans
$150MB-loans
$150MECA
$200MEquity
$621.5MCAPEX
Working Capital
El Faro ProjectSources and Uses of Cash
Sources Uses
$650MM
Case Discussion
• Should United Energy invest in this project?
• How should Carlos and Stan value this investment opportunity?
Major RisksRisk Mitigation
Operational Completion AES experience
Natural gas price volatility
Some hedging in tariff structure
Sovereign Currency USD denominated
Expropriation IFC involvement
Financial Cost of debt IFC involvement
Natural Gas Spot Price
Natural Gas, Henry Hub
$0.00
$2.00
$4.00
$6.00
$8.00
$10.00
$12.00Ja
n-9
8
Ap
r-9
8
Jul-
98
Oct
-98
Jan
-99
Ap
r-9
9
Jul-
99
Oct
-99
Jan
-00
Ap
r-0
0
Jul-
00
Oct
-00
Jan
-01
Ap
r-0
1
Jul-
01
Oct
-01
Jan
-02
$ /
MM
BT
U
Cost of Capital Calculation
1. Use ICCRC to calculate a blended country risk to reflect exposure to multiple countries
2. Adjust for idiosyncratic risks• Composite risk 29.91%• Currency risk -5.75%• Operational risk -1.50%• Financial risk -3.00%• El Faro cost of capital 19.66%
Project Valuation and Decision
• IRR
• Project valuation: Monte Carlo analysis
• Real options
• Sensitivity analysis
• United Energy recommendation
IRR, Static Results
IRR, Year 10: 18.6%
IRR, Year 15: 25.3%
IRR, Year 20: 26.7%
IRR, Year 25: 27.1%
Cost of Capital: 19.66%
Monte Carlo Results
Abnormal Earnings ModelNPV positive project
LNG price modeled in10-50-90 distribution
Statistics ValuationTrials 5000.00Mean 45713964.13Median 44583056.14Mode ---Standard Deviation 13439785.67Variance 180627838889182.00Skewness 0.41Kurtosis 2.96Coeff. of Variability 0.29Range Minimum 15048155.10Range Maximum 107275218.75Range Width 92227063.65Mean Std. Error 190067.27
Real Options
Best OutcomeBuild LNG 2 and LNG 3 on time
0.8Build LNG 3 On Time
14,084,611$ 14,084,611$ 14,084,611$
0.85 0.15Build LNG 2 On Time Build LNG 3 Delayed
8,330,408$ 0 11,293,362$ 8,330,408$ 8,330,408$
0.05Don't Build LNG 3
(24,477,760)$ (24,477,760)$ (24,477,760)$
0.7Build LNG 3 On Time
5,911,683$ Construct Plant 5,911,683$ 5,911,683$
0 5,665,447$ 0.1 0.2Build LNG 2 Delayed Build LNG 3 Delayed
157,481$ 0 872,789$ 157,481$ 157,481$
0.1Don't Build LNG 3
(32,968,853)$ 1 (32,968,853)$ (32,968,853)$
5,665,447$ 0.05
Don't Build LNG 2(80,423,793)$
(80,423,793)$ (80,423,793)$
Don't Construct0
0 -$
Static Model
Sensitivity Analysis
Terminal Growth RateNot sensitive
Terminal Growth Rate Value
0.020 14,121,208.09$ 0.025 14,103,442.68$ 0.030 14,084,610.77$ 0.035 14,064,613.33$ 0.040 14,043,338.71$
Recommendation
• We recommend investment in this project– NPV positive given electricity pricing
fluctuates with LNG spot price.– Static IRRs higher than cost of capital, except
for IRR at year 10.– Even with construction delays or change to
capacity built, project NPV positive.