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Loay Ghazaleh –

BSc. Civil Eng. , MBA

Contents

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1. Global Renewable Energy Markets

2. MENA / GCC Renewable Energy Market - Preview

3. Driving Large-Scale RE Projects in MENA / GCC

4. Large-Scale RE Projects Documents & Modeling

5. Risks & Hedging in RE Projects

6. RE Projects Shareholder Capital Structures & Governance

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Selected 2012 Indicators - IRENA

IRENA - 2012 International Year of RE

The RE sector offers enormous potential in terms of growth, jobs and domestic value creation with efficiency and renewable energy being the twin pillars of a sustainable energy future.

Leadership in renewable energy markets and manufacturing is shifting to developing countries, largely concentrated in the BRICs as the fastest growing and largest emerging market economies.

Renewable Energy sector saw investments grow in 2011 to a record $257 billion while the 2012 figure reached $251 billion attributed to the steep decline in equipment costs especially solar.

Renewable energy targets , support policies and legal frameworks continue to be a driving force behind increasing RE market deployment and in accelerating technologies while The stop and go policies in developed countries are unsettling investors confidence.

The role of multi-lateral and national development banks in filling the financing gap with improved business and financing models is still needed – RE asset finance is still norm.

Significant technological efficiency innovations - smart grids & metering connectivity - combined with cost reductions, are creating affordable clean energy solutions in developing countries.

The rapidly growing RE is bringing the business models of utilities companies under stress. Utility companies are confronted with the need to scale up the use of renewable energy.

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Technology & Market Developments Drive Costs Down

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2010 Renewable Energy Share of Global Energy Consumption

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RE Outlook in MENA Region

The MENA/GCC countries have fantastic resources and opportunities within renewable energy

including cross-border collaboration opportunities within and with EU that could provide a multiplier effect across the region.

The MENA region offers high potential for Renewable Energy and could supply up to 45% of the world’s renewable energy potential with an average of 9 hours of sunshine per day.

Abu Dhabi launched its Masdar Sustainable City initiative, which will house 50,000 people and will be completely reliant on renewable sources for its power needs, is paving the way for carbon–free cities in the region.

Solar could potentially see total investments of US$ 1 trillion over the next decade in MENA region.

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MENA Solar Potential

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MENA – EU Cross-Border Collaboration Potential

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Clean Power from the Desert

http://www.solarmiddleeast.ae/spl/locator/

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MENA Wind Potential

16 Annual Wind Speed (m/s) 80m above MSL

RE MENA Activity

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The Solar Levant and GCC congress, Amman 2011

Solar Projects in GCC/MENA

Saudi Arabia is building the world’s largest solar power desalination plant at Ras Al Khair to provide 10 million m3 per year which is the third desalination solar plant in Saudi Arabia.

Abu Dhabi Shams 1 - Masdar - the world's largest CSP 100 MW plant, is due to be completed by the end of 2013 and will cost an estimated US$600 million. - the Abu Dhabi Company for Future Energy, has already connected a 10 MW PV plant to the grid.

DEWA, UAE recently announced the tender for aUS$3.3 billion Mohammed bin Rashid Solar Park, with a view to establishing 10MW of installed capacity by 2013, and eventually 1GW (1,000MW) by 2030.

Kuwait has completed a technical feasibility study for the construction of a solar thermal power plant with a capacity of 280 MW, including 60 MW solar component. Tender for the solar energy plant to provide 5% of its energy requirement through such technology by 2020 was released in 2013.

Egypt started operation in 2011 of its first grid-connected large-scale Integrated Solar Combined Cycle (ISCC) of 140 MW with 20 MW solar share. Egypt also intends to build two new CSP projects with 50 MW each, as well as a 20 MW large-scale grid connected PV plant in south Egypt by the year 2017.

Jordan is intending to build Shams Ma’an PV project, a 100 MW PV plant which can be expanded to 200 MW.

Yemen has launched rural electrification projects based on PV systems in cooperation with Germany. Ka'awa Village PV Electrification Project as an example. 18

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RE Wind Projects in GCC/MENA

Saudi Arabia began the preparation of feasibility studies for the establishment of two wind farms, the first with capacity ranging from 20 to 40 MW, and the other with a capacity of 10 MW.

Ab Dhabi , Sir Baniyas Island wind project, with a capacity to produce 30MW, is also expected to be completed in 2013. Also Masdar as considering plans for a 100MW wind farm near Saudi border.

Egypt, it is expected that 12 per cent of the total electric energy generated by the year 2020 will be from large-scale renewable wind energy projects. West of red sea area has good winds.

Jordan’s plans include the establishment of wind farms with a capacity of 600 MW until 2020.

Yemen has a 60 MW wind farm in the development phase.

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The Stakeholders in RE

key stakeholders include - Governments, manufacturers; renewables service industries, lenders, financiers, traditional utilities companies, trade and export organizations, energy and environmental NGO’s, and consumers and energy off takers.

The responsibilities should be shared by all in all development phases;

Financing the Project Planning/designing the Project Building the Project Operating the Project Retrofitting the Project Decommissioning the Project

Governments are the main stakeholder and have a key role in promoting the deployment of large-scale renewable energy and energy efficiency techniques and projects. Bringing key stakeholders together with a set dispute and arbitration / judicial processes is a key role

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Barriers Assessments for RE projects

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Government - Role

Have consistent rules Have clear rules at national and local levels of ownership and control of alternative energy facilities

and transmission lines including capacity and priority access to grids, connection costs; grid stability and protecting requirements, smart metering procedures tackling tele and net metering;

Have effective market policies, adequate Power Purchase Agreements (PPA) and RE simplified contractual procedures from non utility companies.

Adapt encouraging tariff pricing, standby charges and feed-in tariffs; Acquire renewable energy through competitive bidding process; Provide governmental incentives that tackle taxes, carbon credits and green certificates; Facilitate and expedite the approvals and applications processes; Establish renewable energy fund that uses the “anticipated fuel savings” from RE/EE projects in

addition to assess / facilitation to other financing mechanisms. Capacity building by encouraging specialized training of human resources and encouraging the

establishment of service companies to serve IPP projects. Perform perception correcting campaigns, as well as risk management approaches to overcome the

lack of knowledge and cautious attitude toward renewables.

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FIT Considerations & Options

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FIT - Pricing

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FIT – Interconnection & Purchasing

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Project Planning Documents

Feasibility & Site Survey: Verification on expected annual energy supply and a clear path of needed Planning Permissions and Environmental Consents (usually given by local authorities and may impose restrictions on operations times or demand additional investments in addition to risk allocation map.

Project Company Formation: Includes Shareholder Agreement (capital structure and governance of the) and Management Contract; specifying management incentives.

Land Agreements: The term needs to be similar to the useful life of the plant (20 - 25 years and includes definition of payments (usually based on gross revenues), audit rights of landowner, exclusivity, non-disturbance provisions and scope of indemnities.

Securities & Insurance: What liens on the land or other assets are given over loan agreements and Risks that cannot allocated may have to be insured against.

Supply Agreements: Various suppliers price & models details including payment holdback of some until completion of various asset components.

Project Operations Documents

Interconnection Agreement: Construction of grid connectivity, long-term feed-in agreement, completion schedule.

Turbine / Panel Service Agreement (fixed fee) : Provided by the supplier with term duration of the warranty and need to correlate to other O & M agreements.

O & M Contract: Includes the scope of work, compensation and separate fees, liability, compliance, remedies and dispute resolution.

Operating Licenses: Needed if using patented technology under license , agreement length must align with useful life of plant.

Power Purchase Agreement: Mostly with a utility company that includes details on what is being sold (i.e. power, credits, and certificates), peak or off-peak tariff. It also specifies if the electricity has to be purchased if not taken or what happens if not produced.

Renewable Energy Certificate Qualification: (or similar) - a certificate from government agency that project qualifies for feed-in tariffs or production tax credits.

Investment Parameters In RE Modeling

Renewable energy require large up-front investment, which may be spread over the duration of the construction. Re-payment dependent on the way the project has been financed and on the revenue stream.

[Annual Revenues = Annual Energy Production (AEP) x Unit Price]

Price Movements: Generally the unit price is known because of guaranteed subsidy payments, FIT or a power purchase agreement or can be hedged.

Annual Energy Production (AEP): The AEP itself depends on multiple factors, such as the annual incoming energy (e.g. annual irradiance, wind speed & volume), an average conversion factor for a single device and an efficiency factor in case multiple devices are used in tandem (e.g. wind farm or solar farm)

There are few operational expenses, as maintenance fees which tend to be low, although some technologies may require major maintenance half way through the lifetime of the plant - for instance inverters in solar plants may need to be replaced well before the modules.

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Revenue In RE – Volatility!

The most significant revenue stream comes from selling electricity to the grid, either at a fixed price (guaranteed feed-in tariff) or a market price. Revenues are subject to variations from the model forecast due to market price movements and variations in the annual energy production.

The project may also be able to generate and sell renewable energy certificates or carbon emission

reduction certificates, depending on the country. A third income stream comes from tax benefits which depends on the tax capacity of the investor. They

can take the form of; Production Tax Credits: An amount for every kWh produced over a fixed time period. Investment Tax Credits: The opportunity to offset some or all of the initial investment over a number of years against Investor pre-tax profits. Tax needs to be paid after the investment has been fully depreciated.

Tools in Hedging Energy Price Risks

20 - 25 years Power Purchase Agreement

1 - 3 years Electricity Swap

The project company receives floating income from sale of electricity at at floating clearing price (per kWh) to market maker - spot price- (per kWh) . It receives fixed price electricity swap transactions from market maker.

10 years Gas Price Swap

The project company receives floating income from sale of electricity at floating gas price (per Btu) to market maker (assuming natural gas price and electricity prices are correlated). It receives fixed price gas (per Btu) from market maker

Spark Spread Option

The spark spread is a cross-commodity option paying out the difference between the price of electricity sold and the gas price assuming a fixed heat rate (the strike rate of the option).

Tolling Contract / Agreement

An electricity supply contract where the buyer (market maker) obtains the marketing control of the electricity produced - for an upfront payment. Hence, it gives the buyer the right to operate and control the scheduling of the plant (for the tolling fee). The buyer is also responsible for procurement of fuel such as biogas. 34

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Levelized Cost of Energy

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Levelized Cost of Energy (LCOE) is an economic assessment of the cost of the energy-generating system including all the costs over its lifetime: initial investment, operations and maintenance, cost of fuel, cost of capital over 20 to 40 year lifetimes, and are given in the units of currency per kilowatt-hour, for example USD/kWh or EUR/kWh or per megawatt-hour.

A net present value calculation is performed and solved in such a way that for the value of the LCOE chosen, the project's net present value becomes zero. This means that the LCOE is the minimum price at which energy must be sold for an energy project to break even.

When comparing LCOEs for alternative systems, it is important to define the costs that are included (transmissions lines , distribution systems ,R&D, tax, environmental impact studies , the costs of impacts on public health and environmental , the costs of government subsidies )

Another key issue is the decision about the value of the discount rate. The discount rate depends on the cost of capital (WACC), and an assessment of the financial risk.

Uses of the Financial Model

The assumptions and outputs of the model are used for in-depth risk assessment and in presentation to potential investors.

Base Case - The most likely or the mean case (50:50 chance) Sensitivity Analysis - A sensitivity analysis measures changes in key financial

outputs (e.g. IRR or interest cover) due to variations in significant input drivers. Scenarios - scenarios may be created by varying multiple input parameters. The

"worst case" is often used by investors to test the potential downside.

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RE Models Simulations

Using the Monte Carlo simulation technique, multiple parameters can be varied at the same time, depending on certain assumptions of likely ranges and variations of those input parameters.

The analysis provides expected averages and distributions of each output parameter.

In RE generally the focus of investors and bankers is on the uncertainty of the estimate for the annual energy production as the price is either fixed or market risk otherwise mitigated.

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Risk Parameters In RE Modeling

Scenarios & Simulation Comparisons

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Estimated WACC & CAPM – Different Sources of Funds & Technology

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TGC : Tradeble Green Certificates FIT : Feed in Tariff

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Generic Risks In RE Projects

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Types of Risks In RE Projects

•Risk of property damage - natural hazards, ramp up issues

•third-party liability arising from mishaps during building or testing of new plants , example unproven technology (Guarantees!)

Building and testing risk

•Risk affecting the viability of the business, for example, risk of technological obsolescence Business/strategic risk

•Risk of damage to the environment caused by the power plant, and the liability arising from such damage Environmental risk

•Risk of insufficient access to capital, change of interest rates, covenant violation, default on debt.

•Product liability, shareholders law suits, investment & production tax issues Financial & Legal risk

•Risk of an increase in the price of commodities and other inputs, or decrease in the price of the electricity sold or increased competition Market risk

•Risk of unplanned plant closure, for example owing to unavailability of resources, plant damage or component failure Operational risk

•Risk of a change in public policy, for example change or end of subsidies policy, affecting plant profitability, strict anti trust regulations, tax issues. Political/regulatory risk

• Risk of a fall in volume of electricity produced owing to lack of wind or sunshine. Weather volume risk

RE Seller & Buyer Risks Perspectives

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Intensifying efforts to reduce and mitigate general and specific risks, sharing of risk with JV partners and investing at later stages in RE as projects become larger and more complex.

Fostering industry collaboration on renewable energy technologies including pooling of maintenance equipment and spare parts, joint collection of more comprehensive information weather data.

Deepening of industry expertise both within the renewable energy sector and among external stakeholders coupled with industry education programs can pave the way for wider availability of effective risk transfer products.

Risk Management Tends in RE

Obstacles to More Effective Risk Management in RE

Insufficient information on magnitude of weather-related risk, financing risks, on market or commodity risks or on technical risks (e.g., engineering and construction risks)

Lack of awareness of weather markets and available solutions (e.g. weather-based derivatives and other hedging instruments)

Lack of awareness of risk management’s role or commitment from top

management

Lack of relevant information on internal operations Lack of funds or other resources for risk management or a dedicated risk

management function 46

Tools In RE Risk Mitigation Strategies

Insurers External risk and security consultants Suppliers to the company Government and regulatory bodies Investors in the company Lawyers/litigation experts The company’s supervisory board and senior management The company’s risk management function Weather protection providers (e.g., financial hedging instruments) Emergency services Individual business units

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Tools to Mitigate Environmental and Political/Regulatory Risks in RE

Improving environmental audits

Implementing strict environmental standards

More frequent and/or detailed communications with policy makers, regulators and industry bodies

More frequent and/or detailed communications with media, consumers, and environmental groups

Adopting stricter monitoring of sub-contractors’ environmental practices

Seeking compensation from governments for the impact of adverse policy decisions

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Tools to Mitigate Financial and Market Risks In RE

Hedging against a fall in the price of power

Improving legal and regulatory , corporate governance practices and policies compliance to ensure continued access to financing

Adjusting the company’s capital structure to ensure access to capital at a reasonable cost

Hedging against a rise in the price of inputs

Hedging against adverse weather conditions and the resulting fall in volume of electricity produced

Diversifying the customer base to reduce market risk 49

Tools to Mitigate Business/Strategic, Operational and Construction Risks

Using proven technology in construction Regular maintenance of plant and equipment Training of employees and testing of recovery plans Investing in R&D Improving analysis of market data Improvements to supply chain management Improving monitoring of industry and market trends Improving analysis of weather data ahead of investment decision Improving scenario planning Adjusting the strategic business mix on an ongoing basis

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Risk Transfer Mechanisms In RE Projects

Insurance Contracts - providing third-party coverage in case of loss.

Special Purpose Vehicles – SPV – non recourse financing

Financial Derivatives Contracts - specifying payment in the event of certain adverse changes, such as in weather

Alternative Risk Transfer - Catastrophe bonds, risk-linked securities transferring risks to investors.

Self Insurance Pools - Setting aside specified amounts for future loss.

Captive Insurance – Subsidiaries financing parent company’s risks.

Measurements and Forecasts - rain, wind , energy prices. 51

Concluding Remarks on RE Risks

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Specific Risks Management Actions

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Benefits of Scale in Risk Management

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SOME Financing Sources in RE Projects

There are 22 international RE & EE financing mechanism/funds available worldwide: These institutions differ on being global or regional in scope in terms their focus on developing

countries or countries in transition in addition they differ in the financing being offered in terms of equity/quasi-equity, debt, guarantees and grants and also on their target market being Energy Service Companies, energy utilities, households. 56

European RE Fund LP (Patina Partners) CHUEE

EnerCap Power Fund LP Berkeley FIRST

GEEREF Grameen Shakti

FIDEME USAID Development Credit Authority

CAREC 2nd Energy Conservation Program

1st Energy Conservation Program mode BEEF

UKrESCO IREDA

Bulgarian ESCO Fund Carbon Trust

PROSOL EE Revolving Fund

Empower New YorkSM EBRD SEFF

TPPPA for Solar PV AFD Climate credit line

CARBON FINANCE - Clean Development Mechanism (CDM)

The Kyoto Portal has set emission reduction targets for industrialized countries, to be

an average 5.2 per cent blew the 1990 levels during the first commitment period of January 2008 at December 2012.

The MENA region is comprised of non - industrialized countries and therefore stands to

benefit from the Clean Development Mechanism (CDM), which also allows industrialized countries to achieve part of their emission reduction commitments by implementing emission reduction projects in developing countries without emission reduction targets.

Currently, there are some CDM projects in such countries as Bahrain, Egypt, Jordan and

United Arab Emirates. The New and Renewable Energy Authority for Egypt was the first entity to pursue a

CDM project in the field of renewable energy (wind) in the region. 57

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Financing & Returns in RE Projects

Corporate Financing – Rare in RE!

Used by utility companies in setting up subsidiaries, with 100% ownership.

The corporate parent must have sufficient capacity for tax credits and benefits to be of use.

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Sale Before Construction – Smart!

The developer acquires lease and land rights, permits, interconnection agreements, power purchase agreements and any renewable certificates or feed-in-tariffs.

The developer sells the developed project to a strategic investor and receives a development fee from the investor. The developer's risk is limited to the development capital.

The strategic investor (possibly a utility company) constructs the project on its balance sheet. The strategic investor owns and operates the plant.

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Sale After Construction – High WACC!

The developer seeks bridge financing from lenders for construction. Developer may provide limited guarantee for cash equity.

Bank is repaid in full at completion of construction with funds from Sponsor / Developer. Alternatively, bridge is converted into long-term loan.

Tax Equity Bridge: Bank is repaid at completion of construction with funds from tax investor, who will only come in once the plant produces tax credits. 61

Investor Ownership Flip

The investor contributes almost all of the equity and receives a pro-rata percentage of the cash and tax benefits prior to a flip in allocation.

At a given return on investment, the ownership flips back to the developer, after which most of the cash and tax benefits are allocated to the developer.

Only the production tax credits will continue to go to the tax investor even after the "flip".

If the investor is a tax investor rather than a strategic investor, the pre-flip allocation may not be pro-rata, and all tax benefits may go to the investor instead.

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Leveraged Ownership Flip and Pay-As-You-Go ("PAYGO") – Most Common, Lowest LCOE

The leverage is at project level with long-term debt of up to 18 years, based on the PPA .

The tax investor makes contributions before production begins, though a portion may be deferred until the project receives production tax credits, which are initially allocated to the tax investor, though a high percentage is paid to the developer as an equity contribution. This serves as a claw-back should the project not perform.

This structure also includes a return-based flip in the allocations.

An additional loan may be secured against the production tax credits.

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Back Leveraged Structure

Similar to the Investor-Ownership-Flip structure. However, the developer is leveraging its equity stake in the project using debt financing. The tax investor commits equity upfront.

Pre-Flip: Initially, 100% of cash goes to the developer until return of investment (similar to a development fee) is reached. Then 100% cash goes to the investor.

Post-Flip: After the investor's pre-agreed IRR (typically 7% - 10% depending on project risks) is reached, ownership and cash flow allocations go back to the developer, including most of the tax benefits.

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Leveraged Lease

Construction is funded by sponsor equity and a construction loan. Once constructed, the sponsor sells the project to the investors that have formed a trust and leases it back.

The developer repays the construction loan from the sale proceeds. The trust is financed with cash equity and a non-recourse term debt. Lease payments are likely to be assigned to a lender. For tax purposes, a minimum of 20% equity is usually required.

Leasing generates a "time value of money" cost saving achieved by deferring tax payments. If set up as Operating Lease, the lease may only be for 5 years with the option to re-lease.

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Homeowner Model

When homeowners invest in renewable energy generators, they will own 100%. However, in some cases they can get bank finance up to 100% of the capital costs.

Depending on the jurisdiction, homeowners may have to set up a company to run the generator, in which case they will also be able to profit from tax benefits.

Unless they can offset the investment against profits elsewhere, the overall tax benefits are not significant. The lack of tax benefits is often compensated for by higher feed-in tariffs for small installations.

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RE Optimum Financing Structure

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Impact Of Financing Structure On Returns And The Cost Of Energy – 1MW Solar Park Example

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Consideration /

Motivation RE Financing Motivation

Most

suitable

structure

Project Finance

Large Projects above $50m can enjoy the advantages of Project Finance;

Non-recourse/limited recourse financing

Risk Sharing

Favorable Tax Treatment

Improved Financing Terms

Project

Project Size If the project's value is less than $50m, the transaction costs, higher interest

rates and insurance coverage of Project Finance will outweigh the benefits. Corporate

Developer can use tax

benefits

If the developer wants to use tax benefits, the project needs to be on its

balance sheet. However, often, developers are much smaller than the

projects they develop and have no capacity to use all the tax benefits.

Corporate

Developer can fund

project costs If the developer can fund project costs

Corporate

PAYGO

Low Project IRR If the project's projected internal rate of return (IRR) is low, increasing debt

levels will help increase the equity holder's rate of return.

Leveraged

Structure

Developer wants early

cash distribution

Due to the large capital expenditure there are no early cash distributions

available if developed on own balance sheet. The developer either needs to

sell early or device a structure whereby the developer receives a large

proportion of cash.

Project Sale

Back-leveraged

PAYGO

Re-financing If the project already exists, but just needs re-financing, possibly after

construction, options include a pay-as-you-go structure or leasing.

PAYGO

Leveraged Lease

loayg@works.gov.bh; loay.ghz@gmail.com

00973-36711547 , Skype: loay.ghazaleh

http://bh.linkedin.com/in/loayghazaleh

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