kdc11- anand rohatgi, synergy consulting
DESCRIPTION
Kuwait District Cooling Summit 2011TRANSCRIPT
Why District Cooling Under BOT/BOO Structure May Not Be For Private Sector Off-takers: Learnings from Dhahran District Cooling Project
For Kuwait District Cooling Conference26th January, 2011
Presented byAnand K Rohatgi
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Philosophy of a District Cooling Plant
Key Participants in District Cooling Project
Key Revenue Sources – The Tariff
Requirements for a Bankable Transaction
Profiling of Private Developer / Offtaker vs. Public Offtaker
Key Challenges for a Private Development
Dhahran Area DCP – A Case Study
Conclusion
Solution for Making Such Transactions Viable
Outline of the Presentation
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Highly Profitable From National Economy
Prospective
Presents Attractive Value Propositions To Building
Owners In Terms Of Space
Smart Energy Technology And Economically Efficient
Utility Service
Improvement In Carbon Footprints For The Economy
Lower Initial And Recurrent Operating Costs For DCP
Operator
Lower Cooling Costs To End Users
Reliability In Excess Of 99.7%
Smooth Load Distribution – Lower Cumulative Capacity
Requirements
Philosophy of District
Cooling
Philosophy of District Cooling
Motivational Factors Hygiene Factors
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Utility Guarantees
Offtake Agreement
Key Participants in a District Cooling Project
Lenders
Shareholder 2
Concession Agreement
EPC Contract
O&M Contract
Shareholders Support/Agreement
Shareholder 1
Project Company
EPC Contractor O&M Contractor
Concessionaire
Participant Name Role Of Participant
Shareholders• Project Conceptualization &
Development • Equity Infusion
Lenders • Provision Of Debt
EPC Contractor • Designing, Construction & Commissioning Of Plant
O&M Contractor • O&M Of Plant
Offtaker / End User
• Off Take of Cooling Services• Payment Of Tariff
Developer / Concessionaire
• Right Of Providing District Cooling Services In Development
Project Company
• Provision Of District Cooling Services To Offtaker/End User
• O&M Of Plant• Debt Service To Lenders• Dividend To Shareholders
Utilities • Providing Electricity, Water And Sewage
Utilities
Offtaker
Financing Agreement
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Revenue Sources : For Recovery of Costs Tariff Components
Connection Charge
• Payable to compensate Project Company for Capital Expenditure incurred.
• May include coverage for costs like: Service Line Costs Distribution System
Extension Costs Some Portion of
Other Capex
• One time Upfront fee payable on connection date
No Offtaker or End User = no Connection Charge
Capacity Charge
• Payable by Offtaker to Project Company to compensate for Capital costs.
• Is a function of Contracted Capacity
• Includes coverage for: Debt Service i.e.
Interest + Principal Equity returns for
investors i.e. ROE
• Paid From Date of Connection of Load No End User / load =
no Capacity Charge
Fixed O&M Charge
• Payable to compensate Project Company for Fixed O&M cost
• Includes coverage for costs like: Plant O& M Overhaul &
Replacement Plant G&A Other Fixed
Expenses
• Paid from Date of Connection of Load No End User / load =
no Fixed O&M Charge
Variable O&M / Consumption Charge
• Payable to compensate PC for Variable O&M cost
• Is a function of Actual Cooling provided, EFLH
• Includes coverage for costs like: Water Electricity Sewage Chemicals Variable O&M
• No Impact on Economics if Pass -Through
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Requirements for a Bankable Transaction
Interpretation
Impact
• Provides comfort to Lenders that Debt Service
shall be met within schedule
• Ensures balanced recovery of all project costs
• Ensures appropriate equity returns
• Ensures proper risk allocation
• Ensures availability of economical debt
• Ensures rationale equity return requirements
• Financial viability over the concession term
• Successful DC services
• Rationale tariff levels for the End Users
Key Success Factors
Credit Worthy Offtaker
• A credit worthy Offtaker ensures lower payment risk
• Thus enables access to competitive, long term and high level debt funding
Take or Pay
• Capacity planning should be such that complete capacity is utilized at commissioning
• In case of under-utilization, proper debt repayment should be ensured thru fixed revenues
Risk Allocation
• Contractual framework should be such that proper risk allocation is made to the entity who is best positioned of handling the risk
Tariff Structure
• Tariff structure should be designed so as to cover 100% of underlying costs (Fixed & Variable)
• Should be properly indexed to inflation
A Bankable Transaction
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Profiling of Private Developer / Offtaker vs. Public Offtaker
Aspect Public OfftakerPrivate Offtaker
Single Offtaker Multiple Off-takers
Ability to Project Future Load
High Mainly for Captive Use
Low Demand Linked to Ability to Sell (Real Estate Risk)
Very LowDemand Linked to Ability
to Sell + Use
Balance Sheet Strength / Credit Worthiness
Strong Balance Sheet Ability to Cover Payments
–Credit Worthiness
Weak Balance Sheet No Ability to Service Payments - Not So
Strong Credit Worthiness
No Balance Sheet No Ability to Service Payments - Not So
Strong Credit Worthiness
Contractual Framework Generally Strong Not Very Strong Not Very Strong
Utility GuaranteesAbility to Cover
Non-Availability / Influence Utilities
No Ability of Covering Non-Availability / Influence Utilities
No Ability of Covering Non-Availability / Influence Utilities
Ability to Support Unrecovered Project Costs
High Low Nil
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Developer • Takes the financial onus of
unachievable projections
Project Company• Undesired increase in
costs absorbed by Public Offtaker
• Thus no impact
Lenders• Strong Balance Sheet
ensures timely debt repayment, thus provides required comfort
End User• Financial onus of wrong
projections on Offtaker• Tariff not prone to
changes
Impact on Stakeholders
• In a better position to project the demand figures as planning based on Captive requirements
• Lower probability of demand-supply mismatch due to planned requirements
• Can take the financial onus of inconsistent projections due to strong balance sheets
Public Sector Offtaker
Developer • Nil as generally may not
take any obligation
Project Company• Bears increase in costs due
to incorrect projections• Thus Higher contingency
requirements or failure to meet obligations
Lenders• May face a risk of delay in
debt repayments• Thus Project may not be
bankability
End User• Increase in tariff due to, if
borne by end users may lead to increased Tariff
• Or failure to receive DC services
Impact on Stakeholders
• Higher probability of demand-supply mismatch as basic infrastructure for medium-term demand to be created upfront
• Demand linked to ability to sell (real estate risk)• Further offtake subject to start of utilization.• May have to infuse extra equity impacting overall Project IRR
Private Sector Offtaker
Challenge: Capacity Planning and Utilization…1/2
• Not Guaranteed Capacity Requirement Forecast
• No Fixed Schedule + level for such capacity utilization
Capacity Planning / Forecast
?
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Challenge: Capacity Planning and Utilization…2/2
Case Study *
Case Impact on Tariff(If IRR Held Constant)
Impact on IRR(If Tariff Held Constant)
Debt Service
Base Case X Y As scheduled
Case II Increase by 6% Reduction by 3% Can only be met if additional Equity infusion or tariff increased
Case III Increase by 100%(In first 2 Yrs) Reduction by 2% Can only be met if additional Equity
infusion or tariff doubled
Case IV Increase by 35% Reduction by 9% Can only be met if additional Equity infusion or tariff increased
Case V Increase by 15% Y As scheduled
Base Case
• 20,000 TR Capacity, scheduled to be commissioned in 2 phases of 10,000 TR each
• Phase II to start after one year of Phase I• 5% Annual Capex Inflation and 5% annual increase in O&M costs• Base Equity IRR of 15%
Case II • Phase II Moves Forward by 2 years (as compared to scheduled)
Case III • Phase II commissioned on time but demand delayed by2 years
Case IV • Phase II does not happens (Assuming 75% of CAPEX costs incurred in Phase I including that for common infrastructure)
Case V • Phase II not planned from start
* Only Elaborative in Nature
Inference
• Developers Prefer Proposals For Larger Capacity than Real
• Any Short Fall In Future Would Result in Costs to Be Covered by One of the Stakeholders
• If the End Users, Then Tariff May Become Unaffordable
• If the Project, Then May Make Project Unviable
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Developer • Water tight framework
ensures lower but defined / balanced risk
Project Company• Well defined rights and
obligations • Lower risk thus lower debt
and equity costs
Lenders• Well defined contractual
obligations • Acceptable protection for
client risks events• Acceptable project risk
End User• Well defined rights and
obligations • Lower tariff due to lower
overall project risk
Impact on Stakeholders
• Ensure tight contractual framework with adequate penalties and remittances for appropriate events
• Can favorably influence regulatory aspects
Public Sector Offtaker
Developer • Mostly nil, as offtaker
takes no obligations
Project Company• Exposed to risks as rights
and obligations not clear and balanced
• May fail to be viable in long term
Lenders• Exposed to substantial
project risk • Thus project not
financeable
End User• Unfavorable clauses may
lead to higher obligation or higher tariff or failure to receive district cooling
Impact on Stakeholders
• May not ensure a water tight contractual framework leading to increased project risk
• Has little influence on the laws of regulations
• May tend to execute not very strong contracts
Private Sector Offtaker
• Un-clear / un-balanced risk allocation
• Generally offtaker sided contracts
Weak Contractual Framework
Challenge: Not Very Strong Contractual Framework
?
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Developer • Nil
Project Company• Adequate utility supply
thus plant operational • No cash flow risks
Lenders• No Impact as defined
revenues to the Project for debt service
End User• Lower tariff due lower risk
on Project, Lenders and Shareholders
Impact on Stakeholders
• Public Offtaker has better control over the public utilities
• Can support adequate and timely supply of utilities to keep the plant operational (utilities a part of overall development)
• Can support payments even if plant is un-operational
Public Sector Offtaker
Developer • Nil
Project Company• May not be able operate
due to unavailability • Loss of revenue for such
periods
Lenders• May impact ability for
timely debt service• Thus project not bankable
End User• No district cooling service
for periods when plant does not receive utilities
• May result in higher overall costs
Impact on Stakeholders
• Generally do not take any obligations related to utilities
• Cannot guarantee adequate and timely utility supply
• Poses high risk to the viability of the project
Private Sector Offtaker
• Utilities may not guarantee adequate and timely supply
Utility Guarantees
Challenge: Utilities - Minimal Control and Full Risk
?
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Developer • Minimal impact as Public
Offtaker have the financial strength to make such payments
Project Company• No impact as payments
are received in full
Lenders• No Impact as defined
revenues to the Project for debt service
End User• May face disconnection (if
End User not same as Developer)
Impact on Stakeholders
• Generally payments guaranteed by the Public Sector entity
• Public Sector entities tend and have the ability to fulfill their financial obligations
Public Sector Offtaker
Developer • Nil
Project Company• Reduction in anticipated
revenues• Eventual failure to provide
service if cost unrecovered
Lenders• May put debt service at
risk• Thus project not bankable
End User• If recovered from existing
users - increase cost of services
• Or, no district cooling services
Impact on Stakeholders
• Onus of tariff collections from End Users on Project Company
• Developers tend to back-end payments to ensure lower upfront to encourage sales. Thus higher risk
• Exposing Project to credit risk from non-payments later
Private Sector Offtaker
• Risk of delay or non payment by end users
Non Payment by End Users
Challenge: High Payment / Credit Risk
?
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• Due to higher and sometimes unbalanced risks, lenders may not provide Long Term Debt but will only provide Short Term Corporate Finance
• In order to make the project viable, the revenues may need to be able to meet debt service i.e. meet DSCR requirements
• Thus for higher revenue levels, higher tariffs should be required (as compared to Long Term debt transaction)
Un-Competitive Debt Financing
Result: High & Un-Competitive Capital – Debt & Equity
• Due to higher and sometimes unbalanced risks, equity investors may need higher return
• Lender’s requirements of Corporate Guarantees for debt may result in increased equity risk (and thus pricing)
• In order to meet such return requirements, the revenues may need to be higher and thus higher tariffs
High Returns for Equity
8% 9% 10% 12% 14% 16% 18% 75
100
125
150
Tariff vs. IRR
Equity IRR
5 7 10 12 15 18 20 -
50
100
150
200
250
300
Tariff vs. Debt TenorTariff Inhouse ConsumptionTariff Inhouse O&M + CapexTariff DCP ConsumptionTariff DCP O&M + Capex
Debt Tenor Years
Nor
mal
izaed
Mon
thly
Pay
men
t per
TR
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Result: High Cost of Capital – Debt + Equity
8% 9% 10% 12% 14% 16% 18% 75
100
125
150
Tariff vs. IRR
Equity IRR
Assumptions:• In house cooling capex of SR 13,400 per TR of cooling with SR
2200 / TR as O&M each year• Debt interest rate is assumed to be 10% for the computations• Leverage of 70% and tariff is set while ensuring that the debt is
serviced in the required tenor• EFLH of 4,000 Hrs • A typical in-house cooling consumption charge of SR 0.481/TR-HR
whereas for DCP of SR 0.187/TR-HR
Inferences:• DC is viable in the long run due to better efficiency which can be
observed by comparing the consumption charges• The viability increases with the availability of longer term debt• In the above, DCP becomes viable if debt tenor is >9 years
5 7 10 12 15 18 20 -
50
100
150
200
250
300
Tariff vs. Debt TenorTariff Inhouse ConsumptionTariff Inhouse O&M + CapexTariff DCP ConsumptionTariff DCP O&M + Capex
Debt Tenor Years
Nor
mal
izaed
Mon
thly
Pay
men
t per
TR
Assumptions:• Leverage of 70%.• Various combinations of IRRs are used and the
increase in tariff required to meet the IRR is normalized and displayed
Inferences:• To double the IRR from 8% to 16% a 33% increase
in tariff is required in this particular example
To Make Tariff Attractive for End
Users
For Public Off-taker / Developer
For Private Off-taker / Developer
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Dhahran Area DCP – A Case Study
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About ProjectShowcasing the first scheme of its kind in the MENA region
• Saudi Tabreed as Project Developer is required to develop, own & operate a district cooling system to provide cooling services for offices at Dhahran.
• Cooling Capacity of 27,000 TR expandable to 32,000 TR
• Developed under Offtaker’s initiative towards energy conservation & environment protection since District Cooling consumes half the electrical energy as compared to traditional cooling.
• First District Cooling Project to be financed under long term non-recourse project financing structure.
• Project under “Take or Pay” Structure to ensure commercial viability of the Project
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Advantage All – With Public OfftakerPublic Offtaker
Public Offtaker Support• Credibility and strong balance sheet of Public Offtaker
lead to Long Term Non-Recourse debt funding
• Tariff components covered all underlying costs and thus assured returns on equity.
• Lower IRR requirements by equity as assured of repayment thus leading to lower tariff
Adequate Utility Supply• Offtaker agreed to pay capacity payments to Project
Company in case of failure of availability of utilities
• Cost of utility supply accepted as a pass-through cost
• Lead to lower risk of increase in tariff due to non availability of essential utilities
Take or Pay Tariff Structure• The Public Offtaker understood the consequences of
demand supply mismatch and agreed on a Take-or-Pay structure to ensure commercial viability of the project
• Essential so that Project Company can meet its debt obligations on time
Water Tight Contractual Framework• Ensured water tight contractual framework assuring
appropriate risk sharing mechanism
• Ensured low project risk with other supporting aspects for project financing such as termination payments, force majeure coverage, etc
Lower Tariff for End Users
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The Conclusion
Aspect Public OfftakerPrivate Offtaker
Single Offtaker Multiple Off-takers
Ability to Projected Future Load High Low Very Low
Balance Sheet Strength Strong Balance Sheet Not So Strong Balance Sheet No Balance Sheet
Contractual Framework Generally Water-Tight Not So Strong Not So Strong
Utility GuaranteesAbility to Cover
Non-Availability / Influence Utilities
No Ability of Covering Non-Availability / Influence Utilities
No Ability of Covering Non-Availability / Influence Utilities
Ability to Support Unrecovered Project Costs
High Low Nil
Projects with Private Off-takers May Not Be Viable
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The Solution: Support from All Stakeholders From Developers
• Consider DC as any other Utility
• Should not be treated as a Construction Contract and consider importance over Concession Term (15-20 Yrs)
• Important to balance between lower tariff & viability
• Work with the Project Company in defining the Project configuration (capacity, schedule, tariff , payments etc)
• Hold partial stake in Project to ensure balanced approach by Project Company
From Lenders
• Treat District Cooling like any other utility concession thus lower risk
• The risk of non-payment is lower as DC alike any other utility is a minimum requirement. Thus disconnection of DC services to End Users is not a likely option
From Shareholders
• Maintain balance between the profitability and viability of the project as this is a utility
• Should budget temporary plants to avoid phasing risk
• Should implement a granular design to avoid phasing risk, the additional cost is a reflection of reduced risk
• Should maintain transparency by involving all stakeholders in sharing both, the appropriate risks and the benefits
From End Users
• Realize the benefit of District Cooling over In-house Cooling
• Should accept a level of “Take or Pay” as may exist in any other utility (similar to power or water)
• Should accept that DC service in the initial period might cost more due to the presence of temporary chillers (ramp-up period) but should be beneficial over long term .
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Thank You
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AbbreviationsABBREVIATION EXPANSION DESCRIPTION
CTA Common Terms Agreement Agreement between the Project Company and the Lenders for the project
DCS / DCP District Cooling System District Cooling System / Plant
DSCR Debt Service Coverage Ratio Debt Service Coverage Ratio
EPC Engineering Procurement and Construction Engineering Procurement and Construction
IRR Internal rate of Return A profitability metric defined as the interest rate at which NPV is zero
O&M Operations & Maintenance Operations & Maintenance
TR Ton of Refrigeration Rate at which heat is removed.
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About Synergy…1/2
• Synergy is a team of 17 professionals• Mr. Anand K Rohatgi – Senior Vice President E-Mail: [email protected] Mobile: +91 9811964229• Website – www.synergyconsultinigfa.com
Foundation
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• Contract Design & Analysis• Structured & Project Finance• Investment Advisory• Mergers & Acquisitions
SYNERGY CONSULTING INC. is an International Financial Advisory firm founded in 2002, providing services in the areas of Investment Advisory, Project Finance, Financial Analysis, Financial Modeling, Project Restructuring, PPP Programs and Policy Reform for the infrastructure sector with focus on Energy, Water, Wastewater, District Cooling and Transport.
Presence
Team
• Offices in Virginia, USA and New Delhi, India• Associate Offices : Cairo, Egypt and Kuwait
Domain
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About Synergy…2/2An International Financial Advisory Services Company with experience in projects
across 36 countries spanning across most of the continents
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Power• Solar• Hydro• Wind• Biomass
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Across All Infrastructure Sectors
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Disclaimer
This information has been prepared by Synergy Consulting Inc. for information purposes only and does not constitute an offer or commitment. This information does not constitute investment advice.
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