Renewable Energy Project Financing: Legal Strategies for Structuring the Dealpresents Legal Strategies for Structuring the Dealpresents
A Live 90-Minute Teleconference/Webinar with Interactive Q&A
Today's panel features:John T.W. Mercer, Partner, Mercer Thompson, Atlanta
Nicholas H. Politan Jr., Partner, Gibson Dunn & Crutcher, New York
Wednesday, February 24, 2010
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Renewable Energy ProjectFinancing: Legal Strategies for Structuring the Deal ‐‐d l f bl
PRESENTED BY:
Federal Loan Guarantee Program for Renewable Energy
John T. W. MercerMercer Thompson LLC191 Peachtree Street, N.E.Suite 4410Atlanta, Georgia 30303404.577.4201jtwmercer@mercerthompson.comwww.mercerthompson.com
MERCER THOMPSON LLC
IRS Circular 230 disclosure: To ensure compliance with requirements imposed by the IRS, we inform you that any tax advice that may be contained inthis communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding anypenalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any transaction(s) or tax‐related matter(s)that may be addressed herein .
Copyright 2009 John T. W. Mercer. All rights reserved.
Obama Administration: New Energy for America PlanNew Energy for America Plan
P d R bl P tf li St d d Proposed Renewable Portfolio Standards 10% of electricity from renewable sources by 2012
f l f bl b 25% of electricity from renewable sources by 2025
Carbon Carbon Reduce GHG 80% by 2050E id C d T d S t Economy‐wide Cap‐and‐Trade System
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American Recovery and Reinvestment Act of 2009 (and 2008 Legislation)Act of 2009 (and 2008 Legislation)
“R id D l t” f Additi l “Rapid Deployment” of Additional$60 Billion DOE Loan Guarantees for Renewable Energy and Transmission Projectsj Tax Incentives Long‐term extension and modification of RenewableLong term extension and modification of Renewable Energy Production Tax Credit (“PTC”)
Temporary election to claim Investment Tax Credit (“ITC”)
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in lieu of PTC
3
American Recovery and Reinvestment Act of 2009 (and 2008 Legislation) (continued):of 2009 (and 2008 Legislation) (continued):
T I ti ( ti d) Tax Incentives (continued) Treasury Department Energy Grants in lieu of tax credits Repeal of subsidized energy financing limitation on ITC Repeal of subsidized energy financing limitation on ITC Others
Transmission and Smart Grid Funding (in addition to temporary loan guaranteeaddition to temporary loan guarantee program for transmission projects)
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President’s FY 2010 Budget and Proposed 2009 Energy Bill: Creating a Clean Energy
Economy
Limit GHG Emissions Economy Wide with Cap Limit GHG Emissions Economy‐Wide with Cap‐and‐Trade System (Carbon Tax not Dead)
National Renewable Portfolio Standard (“RPS”) National Renewable Portfolio Standard (“RPS”) Modernize the Electric Grid for Integration and U f G t A t f R bl EUse of Greater Amounts of Renewable Energy
Clean Energy Bank Further Extension and Enhancement of Tax Incentives for Renewable Energy and T i i
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Transmission5
Project Finance Fundamentals
P j t Fi C t Fi Project Finance vs. Corporate Finance
P j Fi R i R li bl Project Finance Requires a Reliable Source of Revenue (Usually a “Creditworthy” PPA)
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Fundamentals: Key Issues for Financeable PPAsFinanceable PPAs
C dit f Offt k Credit of Offtaker Scale of Project Utility CommercialR id ti l Residential
Nature of Seller’s Obligationbli i ll d li d Obligation to sell delivered energy
Capacity/Availability – Applicable only in limited circumstances Qualification for RECs
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Qualification for RECs
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Fundamentals: Key Issues for Financeable PPAs (continued)Financeable PPAs (continued)
Nature of Buyer’s Obligation Nature of Buyer’s Obligation Minimum and maximum delivery and purchase obligationsobligations
Pricing methodology/ / Term/renewals/extensions
Completion schedule and consequences for failure to meet schedule or milestones
Power production
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Fundamentals: Key Issues for Financeable PPAs (continued)Financeable PPAs (continued)
Maintenance requirements Maintenance requirements Tax ownership
l d ( h d Environmental credits (ownership and allocation)
Buyer option(s) to buy facility Regulation and “Reg out” provisions Change of law Access to facility
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Fundamentals: Key Issues for Financeable PPAs (continued)Financeable PPAs (continued)
Grid access and interconnection Grid access and interconnection Defaults Security Consent to assignment of PPA and facility Step‐in rights Force Majeure
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Fundamentals: State IncentivesState Incentives
T dit Tax credits Renewable portfolio standards: EEI reports as of 4/3/09: 4 states with goals 29 states (plus District of Columbia) with mandatory RPS (9 that equal or exceed Waxman 25%)
17 states have not adopted RPS or goals 17 states have not adopted RPS or goals
REC trading
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State Renewable Electricity Standard Programs
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29 States and the District of Columbia Mandate Renewable Electricity StandardsRenewable Electricity Standards
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Fundamentals: Federal Tax Credits and Certain Other Tax Incentives (Post ARRA):Other Tax Incentives (Post ARRA):
F d l P d ti T C dit Federal Production Tax Credits Wind (placed‐in‐service date extended through 12/31/2012 f S ti 45 PTC)12/31/2012 for Section 45 PTC) Other qualifying facilities (closed‐loop biomass, open loop biomass geothermal small irrigationopen‐loop biomass, geothermal, small irrigation, hydro, landfill gas, waste‐to‐energy and marine renewable facilities – placed‐in‐service date pextended through 12/31/2013)
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Fundamentals: Federal Tax Credits and Certain Other Tax Incentives (Post ARRA):Other Tax Incentives (Post ARRA):
Yield from PTC is less certain than ITC (or tax Yield from PTC is less certain than ITC (or tax credit in lieu of ITC or PTC)d l di ( i ) Federal Investment Tax Credits (Section 48)
Solar Other Qualifying Facilities Other Qualifying Facilities
Election to Claim Federal ITC in Lieu of PTC Wind (if placed in service by 12/31/2012)Wind (if placed in service by 12/31/2012) Other Qualifying Facilities (if placed in service by 12/31/2013)
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Fundamentals: Federal Tax Credits and Certain Other Tax Incentives (Post ARRA):Other Tax Incentives (Post ARRA):
T D t t G t i Li f Treasury Department Grants in Lieu of PTC or ITC Intent is that grant mimic the operation of the ITC Not includable in income and 50% basis reductionN ITC l l Numerous ITC rules apply
Grant percentage generally is 30% of the cost of the renewable energy facilitythe renewable energy facility
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Fundamentals: Federal Tax Credits and Certain Other Tax Incentives (Post ARRA):Other Tax Incentives (Post ARRA):
G t i Li f ITC/PTC ( ti d) Grants in Lieu of ITC/PTC (continued):
Treasury is to make the grant within 60 days of Treasury is to make the grant within 60 days of facility being placed in service (or, if later, within 60 days after receiving application for grant)60 days after receiving application for grant) Application must be received by 10/1/2011 Limitations on when facility must be placed in service
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Fundamentals: Federal Tax Credits and Certain Other Tax Incentives (Post ARRA):Other Tax Incentives (Post ARRA):
G t i Li f ITC/PTC ( ti d) Grants in Lieu of ITC/PTC (continued):
Grant provisions apply if property is placed in Grant provisions apply if property is placed in service during 2009 or 2010 (or is placed in service after 2010 and before the creditservice after 2010 and before the credit termination date with respect to the property, but only if construction commenced in 2009 or 2010)
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Tax Equity Financing
I t Investors: Historically banks with tax exposure
d l Current status: traditional tax equity investors have left the market Will traditional investors return? Will traditional investors return? Will there be replacements?
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Tax Equity Financing (continued)
IRC S ti 45 i hi IRC Section 45 requires ownership Disproportionate allocation of profit and loss Partnership “flip” structuresPartnership flip structures IRS Revenue Procedure 2007‐65 provides flip structure safe harbor for windflip structure safe harbor for wind projects
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New Energy for America: Current Market StatusCurrent Market Status
Traditional Project Finance Debt Markets are Closed Traditional Project Finance Debt Markets are Closed (for all practical purposes) as Part of General Credit FreezeFreeze
Most Traditional Tax Equity Investors have (hopefully temporarily) Exited the Market( p y p y)
Developers With Balance Sheet Capability can Finance and Construct Projects
State RPS Requirements Continue to Drive Utility RFPs and PPA and Project Development Activities
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New Energy for America: Current Market Status (continued)Current Market Status (continued)
E if P j t D bt d E it Even if Project Debt and Equity were Available, Transmission Constraints Inhibit Development of Wind (offshore and onshore) and Solar Sites Implementing Regulations for Recovery Act Programs are Still in Process –Act Programs are Still in Process Uncertainty as to Practical Implementation
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Implementation22
New Energy for America: DOE Loan Guaranty ProgramDOE Loan Guaranty Program
DOE Loan Guaranty Program was Enacted as Title XVII to the DOE Loan Guaranty Program was Enacted as Title XVII to the Energy Policy Act of 2005 (the “Title XVII Program”)
Pre‐Recovery Act, Congress had Authorized DOE to make $38.5 Billion of Loan Guarantees for Certain “Innovative Energy Technologies” not in Current Commercial Use in the United States ($18.5 Billion Allocated by Congress forUnited States ($18.5 Billion Allocated by Congress for Advanced Nuclear Technologies)
In ARRA, Congress Authorized an additional (Estimated) $600 Billion of Loan Guarantees for Renewable Energy and Transmission Facilities Under a New Section 1705 (“Section 1705 Program”)
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g )
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New Energy for America: DOE Loan Guaranty Program (continued)DOE Loan Guaranty Program (continued)
To Date, DOE Has Issued 5 “ConditionalTo Date, DOE Has Issued 5 Conditional Commitments” but has Not Made Any Actual Loan Guarantees Under Title XVIIActual Loan Guarantees Under Title XVII The 5 “Conditional Commitments” are summarized in the following table:g
Date Offeree Amount Issued
3/20/2009Solyndra, Inc., to support the company’s construction of a commercial‐scalemanufacturing plant for its proprietary cylindrical solar photovoltaic panels.
$535 Million
7/02/2009Nordic Windpower, USA, to support the expansion of its assembly plant in Pocatello,
$16 Million7/02/2009Idaho, to produce its one megawatt wind turbine
$16 Million
7/02/2009Beacon Power, to support the construction of its 20 megawatt flywheel energystorage plant in Stephentown, New York that will help ensure the reliable delivery ofrenewable energy to the electricity grid
$43 Million
12/09/2009Red River Environmental Products, to build an activated carbon (AC) manufacturingfacility near Coushatta, Red River Parish, Louisiana
$245 Million
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2/16/2010Georgia Power, to construct two new nuclear reactors at a plant in Burke County,Georgia
$8.33 billion
New Energy for America: DOE Loan Guaranty Program (continued)DOE Loan Guaranty Program (continued)
DOE TEMPORARY PROGRAM FOR RAPID DOE TEMPORARY PROGRAM FOR RAPID DEPLOYMENT – RENEWABLE ENERGY AND ELECTRIC POWER TRANSMISSION PROJECTS (Section 406 of ARRA – Added Section 1705 to Title XVII of Energy Policy Act of 2005))
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New Energy for America: DOE Loan Guaranty Program (continued)DOE Loan Guaranty Program (continued)
S ti 1705 “R id D l t” Section 1705 “Rapid Deployment” Program $6 Billion appropriated to pay COST OF GUARANTEESC f C i i h hi ld Conference Committee estimate that this would support $60 billion of loan guarantees Credit Subsidy Cost Debate Credit Subsidy Cost Debate
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New Energy for America: DOE Loan Guaranty Program (continued)DOE Loan Guaranty Program (continued)
Eli ibl S ti 1705 P j t Eligible Section 1705 Projects Renewable energy systems (including incremental h d ) th t t l t i it th lhydro) that generate electricity or thermal energy, and facilities that manufacture related componentscomponents Electric power transmission systems, including upgrading and “reconductoring” projectspg g g p j
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New Energy for America: DOE Loan Guaranty Program (continued)DOE Loan Guaranty Program (continued)
Eli ibl S ti 1705 P j t ( ti d) Eligible Section 1705 Projects (continued) “Leading edge” biofuel projects that will use t h l i f i t il t d t titechnologies performing at pilot or demonstration scale that the Secretary determines are likely to become commercial technologies and willbecome commercial technologies and will produce transportation fuels that substantially reduce life‐cycle GHG emissions compared to y pother transportation fuels (separate guarantee limit of $500 million)
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New Energy for America: DOE Loan Guaranty Program (continued)DOE Loan Guaranty Program (continued)
Eli ibl S ti 1705 P j t ( ti d) Eligible Section 1705 Projects (continued) Do not have to comply with the requirements of S ti 1703 di “Eli ibl P j t ”Section 1703 regarding “Eligible Projects” No “new or significantly improved technology” test No “commercial use” testNo commercial use test Other restrictive definitions do not apply
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New Energy for America: DOE Loan Guaranty Program (continued)DOE Loan Guaranty Program (continued)
Eli ibl S ti 1705 P j t ( ti d) Eligible Section 1705 Projects (continued) Must “commence construction” not later than S t b 30 2011September 30, 2011 “Factors” for transmission projects Viability of project without guarantees Viability of project without guarantees Availability of other Federal and State incentives Importance of project in meeting reliability needs Effect of the project in meeting a State or region’s environment (including climate change) and energy goals
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goals
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New Energy for America: DOE Loan Guaranty Program (continued)DOE Loan Guaranty Program (continued)
Eli ibl S ti 1705 P j t ( ti d) Eligible Section 1705 Projects (continued) Sunset for entire Section 1705 program is 9/30/20119/30/2011 Still must meet most requirements of Section 17021702 Guarantee limited to 80% of project cost Secretary must determine there is a reasonable yprospect of repayment – current heavy emphasis on “creditworthy” projects
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New Energy for America: DOE Loan Guaranty Program (continued)DOE Loan Guaranty Program (continued)
Still t t t i t f Still must meet most requirements of Section 1702 (continued) Secretary must determine there are sufficient funds to carry out the projectN b d b No sub debt Appropriate interest rate taking into account prevailing rates in the private sectorprevailing rates in the private sector
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New Energy for America: DOE Loan Guaranty Program (continued)DOE Loan Guaranty Program (continued)
Still t t t i t f Still must meet most requirements of Section 1702 (continued) Maturity not to exceed lesser of 30 years or 90% of estimated useful life“S i i h ” f li l d d “Superior rights” of liens – co‐lender and intercreditor issues Borrower must pay administrative fees in amounts Borrower must pay administrative fees in amounts the Secretary determines are sufficient to cover administrative expenses
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administrative expenses
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New Energy for America: DOE Loan Guaranty Program ‐‐ RulemakingsDOE Loan Guaranty Program Rulemakings
There are no additional rules for the Section There are no additional rules for the Section 1705 Programh i d l i d i h The revised rules issued in the Loan Guarantee Solicitation Announcement dated O b 2009 d S iOctober 7, 2009, purported to cover Section 1703 Programs, but are being interpreted to l h S i 1705 Palso cover the Section 1705 Program
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Conclusion
F d l d St t P li i M d ti Federal and State Policies are Mandating and Providing Substantial Incentives for Development of Enormous Capacity of Renewable Energy and Related Transmission State and likely federal mandatory RPS EPA and Congressional Action to Regulate and Cap GHG Emissions
Federal cap and trade or carbon tax
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Federal cap and trade or carbon tax
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Conclusion (continued)
T diti l S f P j t D bt d Traditional Sources of Project Debt and Tax Equity are sitting on the sidelines DOE is facing an enormous challenge to make its loan guaranty program work g y p gquickly and effectively
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MERCER THOMPSON LLCwww mercerthompson comwww. mercerthompson.com
Mercer Thompson LLC is a focused boutique law firm that provides top‐Mercer Thompson LLC is a focused boutique law firm that provides top‐tier transactional legal services to companies in the electric powerindustry. Founded by former partners of a major international law firm,our “diamond‐shaped” structure provides clients with direct access toour diamond‐shaped structure provides clients with direct access topartner‐level attorneys who have, for their entire careers, representedelectric power and project companies in their most importanttransactions Our legal expertise includes corporate and capital marketstransactions. Our legal expertise includes corporate and capital marketsfinance, project finance and development, Department of Energy loanguarantees for qualifying energy projects, as well as mergers, sales,acquisitions and joint ventures of power projects We are particularlyacquisitions and joint ventures of power projects. We are particularlyfocused on clean technology and renewable energy projects, as well asnuclear energy, conventional fossil‐fuel, and transmission projects.
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Financing Renewable Projects in the U.S.
February 24, 2010
<Presentation Title/Client Name>
OVERVIEWOVERVIEW
• Current Renewable Energy Financing Marketgy g• Debt and Tax Equity Structures• Critical Components of Renewable Energy Financings• Tax Equity: Detailed Structures and Features
2
<Presentation Title/Client Name>
CURRENT RENEWABLE ENERGY FINANCING MARKETCURRENT RENEWABLE ENERGY FINANCING MARKET
• Debt Market– Lenders are back in business
led by European banks– Flight to “quality” projects
brand-name sponsors proven technology creditworthy, well-structured offtakes
i fi i d l i conservative financing model assumptions– Tenors lengthening (up to 15 years for wind; up to 20 years for solar)– Pricing still robust (275-400 over LIBOR including periodic step-ups;
300 bps upfront for structuring and lead arranger)300 bps upfront for structuring and lead arranger) – Most important new market feature: cash grant bridge loans– DOE loan guaranty program: multiple programs, limited success to
date for renewables
3
date for renewables
<Presentation Title/Client Name>
CURRENT RENEWABLE ENERGY FINANCING MARKETCURRENT RENEWABLE ENERGY FINANCING MARKET (cont’d)
• Tax equity market q y– Market is very thin for ITC/PTC deals– Mostly insurance companies and financial institutions– Returns have increased since credit crunch– Returns have increased since credit crunch
• Unleveraged after-tax returns of 8% (grant) to 8-9.25% (PTC); leveraged grant and PTC returns 13-16%; lease equity 12-14%
Sti l Bill– Stimulus Bill PTC in-service periods extended (2012 (wind); 2013-16 (others)) ITC/lease structures now available to all PTC technologies (previously not
for wind)for wind) Cash grant in lieu of ITC available for projects completed in 2009-2010 or
projects in construction by such dates and completed by otherwise applicable PTC credit expiry dates (administered by Treasury)
4
pp p y ( y y)
<Presentation Title/Client Name>
DEBT AND TAX EQUITY STRUCTURESDEBT AND TAX EQUITY STRUCTURES
• Debt Structure– Project Company – SPV or holding company of multiple SPVs (LLC
or LP) Sometimes bankruptcy remote
– Limited or no recourse to sponsors Exception: PTC monetization structure Exception: Cash grant indemnity for disqualifying transfers
S it f L d– Security for Lenders All assets of project company (including contract rights) Pledge of ownership interests in project company
5
<Presentation Title/Client Name>
DEBT AND TAX EQUITY STRUCTURES (cont’d)DEBT AND TAX EQUITY STRUCTURES (cont d)
• Debt Structure (cont’d)( )– Disbursement Waterfall
All revenues collected in collateral account and disbursed in specified order of priority: expenses, debt, equity
– Lease structure for ITC deals May be single-investor or leveraged
6
<Presentation Title/Client Name>
DEBT AND TAX EQUITY STRUCTURES (cont’d)DEBT AND TAX EQUITY STRUCTURES (cont d)
• Tax Equity Structure--Unleveraged LLC/Partnership Flip– Tax investor sizes investment to an after-tax return
Investment may be combination of upfront or deferred payment – Tax investor receives tax benefits and cash
Sponsor typically receives initial cash until return of (not on) capital – Once tax investor return achieved, benefits "flip" back to sponsor
• Cash grant tax equity deals often include multiple flips and larger cash h i b S i d t t d lif d d f ll tsharing by Sponsor in order to extend average life and produce full term
yield– Safe harbor--Rev Proc 2007-65
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<Presentation Title/Client Name>
DEBT AND TAX EQUITY STRUCTURES (cont’d)DEBT AND TAX EQUITY STRUCTURES (cont d)
• ITC/Lease Structure for Solar (and, via Stimulus Bill, Wind and Other Renewables)– Tax investor (lessor)/sponsor (lessee)– Tax benefits utilized more efficiently, but larger residual – Traditional leasing and ITC rules apply
maximum lease term not to exceed 80% of useful life maximum PV of rentals not to exceed 90% of FMV minimum residual of 20% residual and early buy-outs at actual or projected FMV recapture on change in control for five years after in-service date
C h l l– Cash grant may run to lessor or lessee
8
<Presentation Title/Client Name>
DEBT AND TAX EQUITY STRUCTURES (cont’d)DEBT AND TAX EQUITY STRUCTURES (cont d)
• Cash Grants (in lieu of ITC)– Highly successful program to date (over $2 billion disbursed in 2009)
• large wind projects have taken bulk of grant dollars to date– Project owner (or lessee) eligible to receive lump-sum cash grant equal
to 30% of eligible costs (essentially costs available for ITC)– Not included in owner’s federal gross income; possible state tax issues;
reduces depreciation by 50% of grant amountM b li d f it ( t bi l l)– May be applied for on a per unit (e.g., per turbine or solar panel) or aggregate (i.e., project) basis
– Paid within 60 days of later of application date or project COD
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<Presentation Title/Client Name>
DEBT AND TAX EQUITY STRUCTURES (cont’d)DEBT AND TAX EQUITY STRUCTURES (cont d)
• Cash grants (in lieu of ITC) (cont’d)– Subject to ratable five-year clawback for disqualifying dispositions by
original tax owner(s) to tax-exempt entities or cessation/change in nature of operations
• recourse to project owner/grant applicant; no look throughp j g pp ; g• compare ITC recourse to taxpayer and recapture upon any change in
control– Utilized in leveraged and unleveraged structures, often to bridge
construction costsconstruction costs• if leveraged, advance rates of 75-100% but same financing costs
– “Start of construction” requires physical work of a significant nature• 5% of project costs safe-harbor (excludes land and engineering)
– Proposal to replace up front cash grant program with tax refund program
• would introduce numerous additional potential risks/complications
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<Presentation Title/Client Name>
CRITICAL COMPONENTS OF RENEWABLE ENERGYCRITICAL COMPONENTS OF RENEWABLE ENERGY FINANCINGS• Technology
– “proven” technology– supportable by IE report– creditworthy warranty
• often backstopped by L/C or other security• often backstopped by L/C or other security– warranty terms shortening (wind: 5 years to 1-2 years)
warranty covers defects, availability, power curve– micrositing and ambient conditions can be critical g
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<Presentation Title/Client Name>
CRITICAL COMPONENTS OF RENEWABLE ENERGYCRITICAL COMPONENTS OF RENEWABLE ENERGY FINANCINGS (cont’d)
• Offtake/Hedging Contracts (electricity, RECs)– term (drives financing term)– creditworthy counterparty (collateral too)– default triggers
project performance-based covenants and milestones should trigger LDs, not termination
– allocation of transmission constraint risk– “as-available” delivery– pricing fixed or pre-determined– related party restrictions in PTC structures– need to address intercreditor issues (debt, tax equity)
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<Presentation Title/Client Name>
CRITICAL COMPONENTS OF RENEWABLE ENERGYCRITICAL COMPONENTS OF RENEWABLE ENERGY FINANCINGS (cont’d)
• Land Rights– typically easements or leases– term must match/exceed financing term– default triggers
minimum payments vs. % of revenues– recurring issues
access rights crossing agreements oil and gas rights liens on the fee interest/subordination
ll l i b b d– consents to collateral assignment can be burdensome
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<Presentation Title/Client Name>
CRITICAL COMPONENTS OF RENEWABLE ENERGYCRITICAL COMPONENTS OF RENEWABLE ENERGY FINANCINGS (cont’d)
• Operations and Maintenancep– costs needs to be supported by IE report– reputable operator (often equipment supplier)– spare parts costs/availability for particular technology– spare parts costs/availability for particular technology– preventive maintenance
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<Presentation Title/Client Name>
CRITICAL COMPONENTS OF RENEWABLE ENERGYCRITICAL COMPONENTS OF RENEWABLE ENERGY FINANCINGS (cont’d)• Permits
– final, nonappealable permits needed– conditions that could affect operations
noise, sight, avian mitigation measuresrenewal risk– renewal risk
• Regulatory– federal issues
state issues– state issues• Other Issues
– “sizing” project (wind, solar) vs. construction phasing-in needs to be coordinated with underlying contracts vs damages COD needs to be coordinated with underlying contracts vs. damages, COD
definition
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<Presentation Title/Client Name>
CRITICAL COMPONENTS OF RENEWABLE ENERGYCRITICAL COMPONENTS OF RENEWABLE ENERGY FINANCINGS (cont’d)• Construction Financing Issues
– take-outs tax equity (may need additional sponsor equity) cash grant (may be leveraged to provide construction financing)
– no EPC structureno EPC structure equipment supplier – critical BOP contractor
often not a “brand name”h i i d– short construction period many larger sponsors finance construction on balance sheet
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<Presentation Title/Client Name>
TAX EQUITY DETAILED STRUCTURES ANDTAX EQUITY: DETAILED STRUCTURES AND FEATURES
• Partnership (LLC) Structuresp ( )– Originated in wind projects, have been applied to solar and other
renewables• Lease Structures
– Sale/leaseback; historically not available for wind or most other PTC structures due to PTC owner/operator requirement; under Stimulus Bill, now available for wind and other renewables too
• Common Partnership Structures (typically implemented through LLC vehicle)– Pro-rata
Sale of a partial, pro-rata interest in the partnership Not really a true “tax financing” Rare; requires both partners to have tax capacity as well as an interest in
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underlying project rather than just tax benefits
<Presentation Title/Client Name>
TAX EQUITY: DETAILED STRUCTURES AND FEATURESTAX EQUITY: DETAILED STRUCTURES AND FEATURES (cont’d)• Common Partnership Structures (cont’d)
– Pro-rata with a flip (most common structure pre-2003) Tax equity initially receives substantially all (99%) of value of the project When a specified hurdle return is reached, allocations “flip” to cash equity
(80 95%)(80-95%) Typically (not always), initial financing is set to reach hurdle return in 10
years Maximizes amount of day-1 financing from tax equityy g q y Target hurdle rates have ranged from 6%-10% AT depending on details
(leverage, etc.) Sometimes referred to as the “99/1” or “partnership flip” structure
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<Presentation Title/Client Name>
TAX EQUITY: DETAILED STRUCTURES AND FEATURESTAX EQUITY: DETAILED STRUCTURES AND FEATURES (cont’d)• Common Partnership Structures (cont’d)
– Disproportionate allocations (most common post-2003) (see also Rev Proc 2007-65 discussion) Functionally minimizes tax equity financing while still maximizing
t f f t b fit t t ittransfer of tax benefits to tax equity Similar to 99/1, except that it bifurcates cash distributions from taxable
income and tax benefits in early years (“disproportionate allocation”) Generally speaking, 100% of first few years of cashflow get distributed to cash y p g, y g
equity and are treated as return of principal (no tax consequences; no PTC consequences (PTC follows income))
Otherwise same as 99/1 structure after first few years Extent of cashflow redirection is generally the maximum permitted by IRS g y p y
regulations Target hurdle rates have ranged from 5.5%-9% AT depending on details
(leverage, etc.); 2009 rates TBD but certainly higher Sometimes referred to as a “partnership flip” or “PAPS”
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Sometimes referred to as a partnership flip or PAPS
<Presentation Title/Client Name>
TAX EQUITY: DETAILED STRUCTURES AND FEATURESTAX EQUITY: DETAILED STRUCTURES AND FEATURES (cont’d)• Rev Proc 2007-65 for disproportionate allocation wind
structure• Elements of safe harbor
– initial allocation of all items other than cash no more than 99/1 to tax investor
– flip to no more than 95/5 to cash investor– no more than 25% of purchase price can be contingent “in amount or p p g
certainty of payment;” at least 20% of purchase price paid up front– cash investor purchase option only at FMV at time of exercise and no
sooner than 5 years after COD– no guaranteed return by cash investor to the tax investor
• Has been applied to non-wind PTC structures (e.g. solar)
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<Presentation Title/Client Name>
TAX EQUITY: DETAILED STRUCTURES AND FEATURESTAX EQUITY: DETAILED STRUCTURES AND FEATURES (cont’d)
• Common partnership structures (cont’d)Common partnership structures (cont d)– Other disproportionate allocations
Not very common Generally are developed to satisfy specific goals from a cash partner Generally are developed to satisfy specific goals from a cash partner
standpoint (a “sale-focused” mentality) Most common manifestation is a hybrid between the standard three
structures to allow cash equity to receive either constant cashflow, q y ,GAAP earnings, or a small amount of tax benefits
Many cashflow-type goals might be satisfied more easily with cashflow swaps outside of partnership transaction
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TAX EQUITY DETAILED STRUCTURES AND FEATURESTAX EQUITY: DETAILED STRUCTURES AND FEATURES (cont’d)• Common features in financing structuresg
– PPA “Intercreditor” issues for tax equity
– Energy HedgeEnergy Hedge Typically necessary for transactions without PPAs Often coupled with “intercreditor” provisions for tax equity
– REC SalesREC Sales Stipulated pricing is critical in order to get financing credit
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TAX EQUITY DETAILED STRUCTURES AND FEATURESTAX EQUITY: DETAILED STRUCTURES AND FEATURES (cont’d)
• Common features in financing structures (cont’d)g ( )– Leverage
Disfavored at the project level due to perceived heightened risk of tax recapture; “forbearance light” provisions often sought by tax equityp ; g p g y q y
Back-leverage more common Generally uses a coverage ratio of 1.4-1.5, depending on quality of wind
resource and fixed-price nature of power sales Historically, LIBOR-based spreads, often escalating over time; typically will
be swapped to a fixed rate at the behest of lender or tax equity If transaction includes pay-as-you-go aspects (see next slide), tax equity and
lender typically negotiate cure rights/limited forbearance for the 10-year PTC period
Depending on term of contracted power sales/hedges, tenor typically ranged historically from 10 18 years; now mini perms (5 7 years)
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historically from 10-18 years; now mini-perms (5-7 years)
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TAX EQUITY DETAILED STRUCTURES AND FEATURESTAX EQUITY: DETAILED STRUCTURES AND FEATURES (cont’d)
• Common features in financing structures (cont’d)– Pay-as-you-go
Partner receiving tax credits (tax equity) agrees to contribute additional equity into partnership on an ongoing basis, tied to receipt of tax credits
Typically 85-95% of value of credits received are contributed back in the form of cash, often only if needed to support DSCR
Accomplishes three main goals Allows project to monetize tax credits, supporting additional debt financing Provides a form of wind resource hedge for the tax equity, as low wind output
results in lower investment and vice versa but limited by PTC safe harbor in taxresults in lower investment and vice versa, but limited by PTC safe harbor in tax equity sale/financing context
Provides a hook to encourage lenders to forbear on foreclosing out tax equity Some pay-as-you-go structures take slightly different forms, such as payment
directly to developer/cash equity in lieu of contribution to partnership Generally used to accomplish ancillary objectives for cash equity in terms of
book treatment, cashflow, or back-leverage Structure significantly limited by IRS safe harbor (no more than 25% of
purchase price can be contingent “in amount or certainty of payment”; at l t 20% f h i id f t)
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least 20% of purchase price paid up front)
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TAX EQUITY DETAILED STRUCTURES AND FEATURES
• Lease Structures
TAX EQUITY: DETAILED STRUCTURES AND FEATURES (cont’d)
– Basic Structure Tax investor purchases project from developer and immediately leases it
back to the developer Developer pays net rent under “hell or high water” lease Developer pays net rent under hell-or-high-water lease Project reverts to tax investor at end of lease but developer typically has
purchase option (often at multiple intervals) which may be FMV at time of exercise or projected FMV (contrast PTC which must be FMV at exercise)exercise)
Traditional lease rules apply regarding maximum residual, maximum term, and early buy-outs
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TAX EQUITY DETAILED STRUCTURES AND FEATURES
• Lease Structures (cont’d)
TAX EQUITY: DETAILED STRUCTURES AND FEATURES (cont’d)
– Lease vs. Partnership Structure Financing can close up to 3 months after “in service” date More efficient financing of tax benefits (100%); developer often not
needed to fund capital gapneeded to fund capital gap Developer gets immediate benefit of operating upside above rental
payments Established parameters for governance, operating control Possible accounting advantage (mitigates book losses) Possible accounting advantage (mitigates book losses) Developer’s purchase option more expensive (per leasing guidelines,
residual must be at least 20% of initial cost) Heightened default risk due to “hell-or-high-water” lease payments
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TAX EQUITY DETAILED STRUCTURES ANDTAX EQUITY: DETAILED STRUCTURES AND FEATURES (cont’d)
• Ownership and Substantial Economic Effectp– Ownership: risk that tax equity is construed as debt
Control – does the tax equity have sufficient control/voting rights? typically negative control through major decision consent rights in partnership typically negative control through major decision consent rights in partnership
structure Residual – does the tax equity have a residual interest?
generally, a floor of a 5% share of the economics as a residual interest is applied for partnerships; leases require 20% floor
issue if non-FMV purchase options Guarantee – is the tax equity’s return too debt-like in terms of guaranteed
return?return? True Lease – length of lease, total rental payments, residual, purchase
options
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TAX EQUITY DETAILED STRUCTURES AND FEATURESTAX EQUITY: DETAILED STRUCTURES AND FEATURES (cont’d)• Ownership and Substantial Economic Effect (cont’d)
b i l i ff ( d)– Substantial Economic Effect (cont’d) General term given to summarize an extensive and explicit set of IRS regulations
regarding partnership distributions and allocations Allocations of cash items and tax items are generally unfettered, though subject to a
few overarching rules some of which come into play in project financingfew overarching rules, some of which come into play in project financing– Depreciation
Depreciation is typically capped at a partner’s capital account; basically equal to such partner’s basis in the partnership
Certain structures/leverage allow for more depreciation; manyCertain structures/leverage allow for more depreciation; many disproportionate allocations allow tax equity to receive substantially all depreciation available
Some structures allow tax equity to receive depreciation temporarily in excess of basis (though realization is still delayed) if accompanied by a deficit restoration obligationrestoration obligation
Tax Credits Production tax credits must follow allocation of gross taxable income (excluding
depreciation) Actual rules for tax credits vary depending on nature of tax credit
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TAX EQUITY DETAILED STRUCTURES AND FEATURESTAX EQUITY: DETAILED STRUCTURES AND FEATURES (cont’d)
• Ownership and Substantial Economic Effect (cont’d)p ( )– Substantial Economic Effect (cont’d)
Tax Credits Production tax credits must follow allocation of gross taxable incomeProduction tax credits must follow allocation of gross taxable income
(excluding depreciation) Actual rules for tax credits vary depending on nature of tax credit
Cash Distributions Can either function as a return of capital or a distribution of profits Return of capital is a nontaxable event but is typically capped at such partner’s
basis in the partnership Distribution of profits is not capped at partner’s basis, but is taxable and draws p pp p ,
an allocation of tax credits, which may not be desired» This is what limits distributions of cash to cash equity in disproportionate allocation
structures
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TAX EQUITY DETAILED STRUCTURES AND FEATURESTAX EQUITY: DETAILED STRUCTURES AND FEATURES (cont’d)
• Ownership and Substantial Economic Effect (cont’d)Ownership and Substantial Economic Effect (cont d)– Substantial Economic Effect (cont’d)
Minimum Gain Transactions with sufficient nonrecourse debt can “break” the limitation on
depreciation of tax basis, typically resulting in additional depreciation for tax equity
Extra depreciation is not “free”; it is reattributed to the beneficiary parties upon repayment of debt
» Post-flip repayment of debt creates “minimum gain chargeback” for tax equity; cash equity often needs to somehow reimburse tax equity for this liability, generally through adjustments to partnership distributions
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<Presentation Title/Client Name>
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Gibson Dunn & Crutcher is a premier law firm routinely recognized as one of
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of our lawyers unmatched dedication to client service and teamworkof our lawyers, unmatched dedication to client service and teamwork• Coordinated and seamless service as one firm across a fully-integrated
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Worldwide Capabilities with Local ExecutionWorldwide Capabilities with Local Execution
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Scope of Transactional PracticeScope of Transactional Practice
Our premier transactional practice provides exceptional business-focusedl l d i h ld’ l di b i i h i l dlegal advice to the world’s leading businesses in their most complex and challenging transactional matters in the following areas:
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Our OfficesOur Offices
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