Jari VayrynenOperations Team Leader

Carbon Finance Unit World Bank

March 2007

World Bank ERPA FeaturesWorld Bank ERPA Featuresand and

Risk Profile of JI ProjectsRisk Profile of JI Projects

World Bank ERPAsWorld Bank ERPAs- purpose- purpose

-key features-key features

Generation of CERs & ERPAGeneration of CERs & ERPA

Generation of Emission ReductionsGeneration of Emission Reductions

Verification by an Verification by an independent auditor independent auditor

(Independent Accredited (Independent Accredited Entity)Entity)

Issuance of ERUs by the Host Issuance of ERUs by the Host CountryCountry

ERUsERUs ERPAERPA$$$$

Purpose of ERPA Purpose of ERPA

Record agreementRecord agreement

Identify responsibilitiesIdentify responsibilities

Establish rightsEstablish rights

Manage riskManage risk

Basics of World Bank ERPAsBasics of World Bank ERPAs

Goals: consistency, flexibility, Goals: consistency, flexibility, reducing transaction costsreducing transaction costs

Two partsTwo parts • General Conditions - standard General Conditions - standard

terms, conditions, rights/ terms, conditions, rights/ obligationsobligations

• Negotiated agreement - purchase Negotiated agreement - purchase amount, price, payment terms, amount, price, payment terms, preconditions, representations preconditions, representations and warrantiesand warranties

WB ERPA Features WB ERPA Features Sale and Purchase agreementSale and Purchase agreement

• Object is the “commodity” of Object is the “commodity” of ERs ERs • Amount, Price and Delivery/PaymentAmount, Price and Delivery/Payment Schedule Schedule

Defines who does what with regard to:Defines who does what with regard to:• ValidationValidation• RegistrationRegistration• MonitoringMonitoring• Verification & CertificationVerification & Certification

Provisions on payment for ERs and preparation/supervision cost recovery Provisions on payment for ERs and preparation/supervision cost recovery (if any):(if any):• Payment generally upon delivery, some advance payments possiblePayment generally upon delivery, some advance payments possible• Recovery of cost, if any, capped and definedRecovery of cost, if any, capped and defined

Events of Defaults and RemediesEvents of Defaults and Remedies• E.g. under delivery of ERsE.g. under delivery of ERs• Other than for willful breach, no tough penalties, preferred option to amend ER Other than for willful breach, no tough penalties, preferred option to amend ER

delivery scheduledelivery schedule• WB ERPAs typically do not include “delivery guarantee” from seller WB ERPAs typically do not include “delivery guarantee” from seller

Risk Profile of JI ProjectsRisk Profile of JI Projects- principle of risk allocation- principle of risk allocation

- key elements of risk - key elements of risk - impact on pricing- impact on pricing

- some practical considerations- some practical considerations

Risk Allocation between Risk Allocation between Buyer and SellerBuyer and Seller

Risk is allocated to the party best able Risk is allocated to the party best able to bear itto bear it

Three key risk categories:Three key risk categories:• Underlying project risksUnderlying project risks• Kyoto Protocol risksKyoto Protocol risks• ERPA structuring/terms riskERPA structuring/terms risk

Rules of thumb:Rules of thumb:• Project risks borne by sellerProject risks borne by seller• Kyoto Protocol risk primarily borne by either the seller Kyoto Protocol risk primarily borne by either the seller

(ERU) or buyer (VER)(ERU) or buyer (VER)• ERPA structuring/terms risk relatively less important and ERPA structuring/terms risk relatively less important and

matter of negotiationmatter of negotiation

Kyoto Protocol Risks (1)Kyoto Protocol Risks (1) Risk may be allocated either to seller Risk may be allocated either to seller

or buyer:or buyer:• VER: buyer takes Kyoto risk >> lower priceVER: buyer takes Kyoto risk >> lower price• ERU: Project owner takes Kyoto (including host ERU: Project owner takes Kyoto (including host

country compliance) risk >> higher pricecountry compliance) risk >> higher price

Important price determinant because Important price determinant because if the project does not meet Kyoto if the project does not meet Kyoto requirements, it generates no asset requirements, it generates no asset for Kyoto compliance needsfor Kyoto compliance needs

Kyoto Protocol Risks (2)Kyoto Protocol Risks (2)

Main component is risk of project Main component is risk of project determinationdetermination• methodology, additionalitymethodology, additionality• Letter of ApprovalLetter of Approval

Other component ERU issuance risksOther component ERU issuance risks• Risks related to proper monitoring and Risks related to proper monitoring and

verificationverification• Risks related to host country actually issuing Risks related to host country actually issuing

and transferring the ERUs to buyerand transferring the ERUs to buyer

Project RisksProject Risks

Risk of the underlying projectRisk of the underlying project• Construction, operation, delays, Construction, operation, delays,

licensing/permits licensing/permits • Reliability and level of complexity of the Reliability and level of complexity of the

technology usedtechnology used Generally borne by Project Entity but can Generally borne by Project Entity but can

be limited by e.g. be limited by e.g. • conservative ER estimatesconservative ER estimates

Also a very important price determinant as Also a very important price determinant as has direct impact on likelihood and timing has direct impact on likelihood and timing of the physical ERs being generatedof the physical ERs being generated

Risks related to ERPA Structure (1)Risks related to ERPA Structure (1)

ERU delivery guarantees required by buyer or ERU delivery guarantees required by buyer or not:not:• 33rdrd important price determinant important price determinant• If guarantees provided by seller, can get 10%-30% If guarantees provided by seller, can get 10%-30%

higher price but a big risk to takehigher price but a big risk to take• Large variation on how delivery guarantee definedLarge variation on how delivery guarantee defined• WB ERPAs typically do not include “delivery guarantee” WB ERPAs typically do not include “delivery guarantee”

from seller from seller Advance Payments:Advance Payments:

• Risk to buyer that the project is not completed and does Risk to buyer that the project is not completed and does not deliver the emission reductionsnot deliver the emission reductions

• The price may be discounted to reflect this risk taken by The price may be discounted to reflect this risk taken by buyerbuyer

• Can be mitigated by the seller providing a guarantee for Can be mitigated by the seller providing a guarantee for the advanced amountthe advanced amount

Risk Related to ERPA Structure (2)Risk Related to ERPA Structure (2)

Preparation costs:Preparation costs:• If buyer pays for them, may discount the If buyer pays for them, may discount the

price to reflect thisprice to reflect this Structure of delivery:Structure of delivery:

• If buyer has rights to all/first ERUs If buyer has rights to all/first ERUs generated, likely to pay a higher pricegenerated, likely to pay a higher price

Some practical Some practical considerations/lessons considerations/lessons

learned learned

Other practical considerations Other practical considerations that can manage risk and expedite process (1)that can manage risk and expedite process (1)

Prepare technical and financial (pre-)Feasibility studyPrepare technical and financial (pre-)Feasibility study Ensure clear commitment from company management (and Ensure clear commitment from company management (and

not just operational staff):not just operational staff):• E.g. included in the business planE.g. included in the business plan

Establish clear institutional set up between project owner, Establish clear institutional set up between project owner, advisers, and technology provider/sub-contractor importantadvisers, and technology provider/sub-contractor important

Advanced stage of negotiations with equity and debt Advanced stage of negotiations with equity and debt financiers is helpfulfinanciers is helpful

Compliance with environmental regulations, including Compliance with environmental regulations, including transparent stakeholder consultationstransparent stakeholder consultations

Application of an already approved CDM methodology Application of an already approved CDM methodology makes a big difference:makes a big difference:• Cuts down JI preparation time and reduces risk of non-Cuts down JI preparation time and reduces risk of non-

DeterminationDetermination Typically point source reductions or clearly defined systems Typically point source reductions or clearly defined systems

are easier:are easier:• e.g. landfill gas flaring, N20 catalyzer, utilization of coal mine e.g. landfill gas flaring, N20 catalyzer, utilization of coal mine

methanemethane• e.g. wind power project displacing coal in the national gride.g. wind power project displacing coal in the national grid

Dispersed or multi-component/measure projects tend to be Dispersed or multi-component/measure projects tend to be more challenging:more challenging:• expect a longer preparation timeexpect a longer preparation time• e.g. transportation, household level energy efficiency e.g. transportation, household level energy efficiency • e.g. complicated industrial energy efficiency improvement e.g. complicated industrial energy efficiency improvement

programs or complex district heating system upgradesprograms or complex district heating system upgrades

Other practical considerations Other practical considerations that can manage risk and expedite process (2)that can manage risk and expedite process (2)

Other practical considerations Other practical considerations that can manage risk and expedite process (3)that can manage risk and expedite process (3)

Consider your commercial strategy for ER Consider your commercial strategy for ER sales carefully:sales carefully:• Sell all ERs or part of the ERs, save some for Sell all ERs or part of the ERs, save some for

sale at the spot market?sale at the spot market?• Sell all ERs to one buyer or to several buyers?Sell all ERs to one buyer or to several buyers?• What is the delivery schedule of the ERs to the What is the delivery schedule of the ERs to the

buyer(s)buyer(s) E.g. deliver all of them in the first 2 year of the E.g. deliver all of them in the first 2 year of the

project OR, for example, deliver 400,000 ERs/year project OR, for example, deliver 400,000 ERs/year over five years?over five years?

Thank youThank you

www.carbonfinance.orgwww.carbonfinance.org