Energy Analysis Seminar Series April 13, 2006

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Innovest STRATEGIC VALUE ADVISORS New York .
Toronto . London . Paris . San Francisco
Uncovering Hidden Value Potential - Electric
Power Companies The Climate Change
Challenge National Renewable Energy Laboratory,
2006
www.innovestgroup.com
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Agenda

• Innovest
• Why Should We Care? Emerging Indicators of
  Competitive Advantage - Key Drivers
• Implications for Investors
• Innovest Rating Model-
• Findings The Electric Power Sector
• Climate Change A Key Emerging and
  Financially-Relevant Value Driver
• Conclusion- QA

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Innovest Background

• Innovest is an international equity research firm
  focusing on non-traditional drivers of investment
  risk and return
• Specializes in analyzing companies performance
  on intangible values with a focus on their impact
  on share price performance and the bottom line
• Founded in 1995 and has grown to over 50
  professionals
• International presence with offices in San
  Francisco, New York, London, Paris, Toronto and
  Melbourne
• Strategic investors include State Street Global
  Alliance and ABP, the largest European pension
  fund

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What We Do

• Research coverage reports on 2200 companies
  globally, 60 sectors North America, Europe,
  Asia-Pacific, global emerging markets
• Best-in-class rating from AAA (top) to CCC
  (Bottom) within each industry sector
• Innovests perspective AAA companies are those
  which supply the goods and services which we
  demand, with the lowest environmental impact
  relative to their peers and in a socially
  equitable manner
• Over 1 billion currently invested based on
  Innovests research platform (e.g. State Street
  Global Advisors, T.Rowe Price, Crédit Agricole AM
  (IDeAM) and ABP)

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Why Should We Care? Indicators of competitive
advantage are changing

• An increasing number of academic and business
  studies show a positive correlation between
  environmental and stock market performance

• Correlation exists because environmental
  performance is an excellent proxy for superior
  management quality

• Management quality is a leading determinate of
  stock market performance

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Why Should We Care? Indicators of competitive
advantage are changing

• Environmental issues represent one of the most
  complex challenges facing management

• High level of technical, market and regulatory
  uncertainty

• Many complex issues, stakeholders and
  non-financial measures to address

• Success in this high complexity area implies
  ability to excel in other business areas, and
  thereby earn superior returns

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What We Do
The bulk of the value (60) of any company is
determined by its long-run or sustainable
returns, the next 20 by secular or cyclical
change observed in the coming 12 months and the
remainder by longer term growth or other
issues. Goldman Sachs, February 24, 2004
Innovests Intangible Value Assessment Model is
designed to derive information on that 60
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The Iceberg balance sheet
Financial Capital 30

• Four Key Intangible Value Drivers

Intangible Capital 60-70

• Stakeholder Capital
• Regulators Policymakers
• Local communities
• NGOs
• Customer relationships
• Alliance partners
• Supply chain
• Social benefits of products services

• Human Capital
• Recruitment retention strategies
• Employee motivation
• Labor relations
• Innovation capacity
• Knowledge Development Dissemination
• Health Safety
• Progressive workplace practices

• Eco-Value
• Quality of environmental management
• Environmental risks Eco-efficiency
• Strategic profit opportunities

• Sustainable Governance
• Strategy
• Capability/ Adaptability
• Traditional governance practices

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The FindingsAnalysis of Stock Performance Based
on Environmental Ratings (May 1997 Nov. 2005)
TOP HALF
SPREAD
Top Half Outperforms by 76
BOTTOM HALF
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Superior Environmental Management Benefits

• Reduce regulatory risk and litigation
  exposure
• Improve operations (reduced energy and
  materials costs)
• Improve relations with regulators and other
  stakeholders
• Enhance ability to attract, retain and
  motivate workforce
• Increase competitive position
• Enhance market access in difficult countries
  and regions
• Lower cost of capital and insurance
• i.e. Sustainable competitive advantage

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Partial Client List

• Hermes
• HSBC Asset Management
• IBK Capital Corp.
• Insight Investment
• John A. Levin Co.
• Legg Mason Funds Management
• Lombard Odier Cie
• Mellon Capital Management
• Mellon Equity
• Morley Fund Management
• Neuberger Berman
• Rockefeller Co.
• Schroders Investment Management
• Société Générale AM
• SNS Asset Management
• Swiss RE Asset Management
• State Street Global Advisors
• Threadneedle Asset Management
• T. Rowe Price

Financial Institutions

• ABN-AMRO Bank
• ABP Investments
• Aeltus Investment Management (ING)
• Baillie Gifford
• Bank Sarasin
• Bank Julius Bear
• BNP Paribas
• BP Investments Management
• Brown Brothers Harriman
• CalPERS
• Cazenove Fund Management
• Collins Stewart (CI) Ltd
• Contra Costa County Employees Retirement
  Association
• Daiwa Securities
• Dreyfus Investment Advisors
• Friends, Ivory Sime
• Frontier Capital Management
• Glenmede Trust
• Henderson Global Investors

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Eco Value 21 Environmental Research
Multi-factor EcoValue21
algorithms integrate over 60 key data points,
including

• Policy Strategy
• Governance Capability
• Environmental Mgt Systems
• Env. Auditing, Accounting and reporting
• Value Chain Mgt
• Stakeholder Capital

• Historical Liabilities
• Operating Risks (Toxic Emissions, Haz. Waste
  Disposal, Waste Disch.)
• Product Risk Liabilities
• Market Regulatory Risks
• Health and Safety
• Climate Change
• Social License to Op.

• Ability to profit from environmentally driven
  industry and market trends
• Sustainability of earnings
• Eco-compatibility of product portfolio and RD
  initiatives

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Intangible Value AssessmentSocial Research
IVA
Human Capital Recruitment/retention
strategies Employee Motivation Innovation
Capacity Knowledge Development Dissemination Hea
lth Safety Progressive workplace practices
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Innovest Rating Model
Analyst assesses company against 100 factors by
assigning a score of 0 10 (10 best in class)
Model computes all scores to generate a
normalized figure for the company
A rating from AAA CCC is assigned to company
based on total
Example Pharmaceutical Sector
Note Figures in table above are indicative and
not actual.
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(60-80 Companies)
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Across a Number of Investment Styles. . .
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The Green Planet Fund (IDEAM)
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Focus US Electric Power Sector and The Climate
Change Challenge
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Key Drivers

• Tightening global, regional, and domestic
  regulatory pressures
• Accounting-based numbers are telling less and
  less of the story
• Tougher requirements for disclosure of
  non-financial risks for both companies and
  institutional investors (e.g. Sarbanes-Oxley,
  SEC)
• Increasing market pressures -e.g. shareholder
  activism, institutional investors awareness on
  hidden environmental liabilities, public scrutiny
  
• Changing consumer demographics Greater
  sensitivity to social/environmental issues in
  tandem with greater availability of information
  on corporate performance
• Broadening interpretation of fiduciary
  responsibility to include social, environmental
  and governance issues

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Electricity Industry - Key Drivers
Growing pressures to incorporate negative
externalities into market prices from regulators,
shareholders and customers

• Limited ability of companies to recover operating
  and compliance costs through regulated rates

Evolving industry model
The burden of environmental expenditures
continues to shift from customers to investors
Increasing Pressures
Restructuring towards more competition
Some states move beyond federal rules

Need to differentiate their products (commodity)
and diversify revenue streams
Need to improve efficiency rates, retain
customers and attract investors
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Downside Issues Risk Metrics

• Air Emissions Regulations SO2, NOX, Hg and
  increasingly CO2
• Other Operating Risks associated with coal
  mining, water and waste management
• Resource Usage Efficiency
• Site Remediation Liabilities
• Nuclear Management (long-term waste disposal,
  pot. radiation releases, decommissioning, public
  acceptance and security concerns)
• Other Sustainability Risk/Climate Change

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• Projected changes in climates worldwide will
  affect the frequency and severity of extreme
  natural events with the potential of causing
  physical damage to power assets

• Unpredictable weather patterns will impact the
  availability of water for power plant cooling
  and cause unpredictable variabilities in power
  consumption

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• Investors have been filing shareholder
  resolutions demanding disclosure of the climate
  change risks and opportunities with 20-30 percent
  of shareholders support

• The potential influence of institutional
  investors over corporate boards and management is
  substantial controlling 60 percent of the shares
  in the 1,000 largest US companies

• Signatories to the 2006 CDP, which has combined
  assets under management of 31 trillion, have
  demanded the chairmen of the 500 largest quoted
  companies in the world to mandate corporate
  disclosure of the risks posed by climate change

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• Legislation to cap CO2 emissions is inevitable
• Question of when and what form, rather than
  if?
• What will be the impact on the Utility sector?
• Debate has moved from policy to technology -
  Global focus is on technology solutions

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Exposure to Carbon Regulations Some States Are
Moving Beyond Federal Standards
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Downside Issues Potential Carbon Caps

• Electric power plants account for 40 percent of
  U.S. CO2 emissions

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Carbon Caps- Implications for Investors

• Major C02 emitters may face higher debt charges
  from air quality conscious lenders

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Carbon Caps- Innovest Analytical Approach

• Financial impacts are highly differentiated
  across companies, creating potential winners and
  losers
• Prevailing power market dynamics and competitive
  environment in operating states
• Pace of carbon regulations in operating states
• Ownership of generating assets and geographic
  diversification
• Fuel mix of generating assets

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Carbon Caps- Innovest Analytical Approach

• Financial impacts are highly differentiated
  across companies, creating potential winners and
  losers
• Flexibility to diversify the existing generation
  portfolio away from carbon- intense fuels
• Ability of passing on costs to consumers, and
  access to less-carbon-intensive technologies
• Strength of the corporate carbon governance,
  management systems and mitigation strategies
• Positioning to pursue and profit from emerging
  business opportunities in new less carbon-intense
  technologies

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Leading Carbon Management Practices

• Develop GHG hedging strategy as critical
  component of risk management to anticipate
  mandatory GHG emission caps

• Follow third party GHG inventory and reporting
  protocols

• Incorporate risks in asset and investment
  planning decisions (better capital allocation)

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Industry Carbon Mitigation Practices

• Reduce GHG emissions through internal energy
  efficiency

• Offset GHG emissions through emission trading,
  i.e., offset purchases

• Engage in renewable power

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Benefits of Investments in Green Power and
Distributed Power Generation

• Allow companies to gain expertise and strategic
  positioning in a niche market

• Lower exposure to fluctuating fossil fuel prices

• Protect companies from grid disruptions (on-site
  projects)

• Reduce operating costs due to avoided potential
  carbon related charges

• Align with potential national security energy
  goals to reduce fossil fuel dependency

• Create additional assets from tradable
  certificates generated during project

• Enhance access to capital- About 66 of total
  investment in energy generation were in clean
  technology (Cleantech Venture)

• Target of fast-growing clean technology funds

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• The EUs Emissions Trading Scheme started in Jan
  2005-Price of CO2 is 26.5 per ton (March 2006)
  from 7 in April 2004
• The value of the EU carbon emissions trading
  market is about 58.3 billion per year (US 73.4
  bn) based on March 2006 prices
• Further standardization is expected to increase
  liquidity
• Price drivers include policy events, fuel/other
  commodity prices, CDM/JI supply, and weather
• Japan, Canada and New Zealand as well as some US
  states have considered similar trading schemes
• The US Chicago Climate Exchange provides for a
  voluntary spot market platform.
• Financial institutions increasingly engage in
  carbon trading-Bloomberg expands coverage

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For Further information
Carla Tabossi Senior Research Analyst Innovest
Strategic Value Advisors 675 Third Avenue, Suite
400 New York, NY 10017 Phone [phone]
x211 Fax [phone] ctabossi_at_innovestgroup.com