Policy Approaches

1
Policy Approaches Incentivesin Financing
Gasification Plants
www.ClimateVISION.gov
A Risk Framework Approach
Presentation to APPA February 17, 2005
Larisa Dobriansky, Deputy Assistant Secretary,
DOE Policy Office David Berg, Chief Advisor, DOE
Policy Office Andrew Paterson, Principal,
Environmental Business International
2
Presidents Climate VISION Initiative

• On February 14, 2002, President Bush set a goal
  to reduce U.S. GHG emissions intensity.
• Based on public private partnerships, engaging
  a dozen industry groups.
• Emphasizing voluntary actions and accelerated
  commercial use of advanced technologies.
• And achieving National Energy Policy goals.

My administration is committed to cutting our
nations green-house gas intensity over the next
10 years. -- February 14, 2002
www.ClimateVISION.gov
3
Climate VISION Private-Sector Partners

• Alliance of Automobile Manufacturers
• Aluminum Association
• American Chemistry Council
• American Forest Paper Association
• American Iron Steel Institute
• American Petroleum Institute
• Association of American
• Railroads

• The Business
• Roundtable
• International Magnesium Association
• National Mining
• Association
• Portland Cement
• Association
• Power Partners
• Semiconductor Industry Association

4

• Why Is DOE Interested in Gasification?
• (for Coal and Other Industrial Applications)

5
Aging U.S. Coal Fleet 70 over 30 in 2010
In two years, over 50 of US total coal-fired
generating capacity will be 30 or more years old.
Environmental pressures and legislative reforms
could push many of these plants into retirement.
While excess capacity has caused plant
retirements and the postponing or canceling of
projects in some regions, other regions
remainand will continue to beshort of power.
(Source Platts)
6
Advantages of Gasification
Next speaker, Jim Childress, will cover these
points

• Higher potential efficiency gt50 v. 40, if fuel
  cells added later.
• Removes S, Hg, and other contaminants before
  combustion, eliminating scrubbers.
• Wider range of feedstocks and variability in
  feedstock quality.
• Easier to capture by-products for sale
• Less input water use needed post-combustion flue
  gas desulfurization is not needed, as with
  conventional coal boilers to reduce SOx
  emissions.
• Less-cooling water discharge (-30) than
  conventional coal.
• Most gasifiers in operation today are used for
  processing refinery wastes and making chemicals
  (ammonia, syngas, methanol).

7
Clean Coal Leading Questions

• Market factors and business risks have shifted
  since 2000 to favor consideration of clean coal
  (e.g., sharp spikes and volatility in natural gas
  prices).
• Yet, few IGCC plants being ordered. Is it
  primarily a matter of elevated capital costs?
  Other business risks?
• Which risks most deter construction of commercial
  clean coal plants?
• Which policies could encourage commercial
  adoption of clean coal gasification (e.g.,
  environmental regulations, state federal
  financial support)?
• How can federal credit approaches be coupled with
  state incentives to improve the prospects for
  clean coal gasification plants?

8

• Market Failures in Power Sector
• Trigger Evaluation of New Approaches

9
Market Failures in Power Sector

• Advanced gasification systems for coal face
  skepticism.
• Owners of early plants face first mover
  penalties (higher cost and technology risk, more
  delays, than later movers).
• Customers of early plants also face first mover
  penalties from higher cost and lower reliability.
• Classic externalities (e.g., pollution) hinder
  action by prospective owner / operators and their
  customers.
• Regulatory bias in rates (defacto) impacts
  technology choicePUCs allow generators to pass
  through marginal fuel cost price spikes, but
  restrict cost recovery of capital.
• Regional differences are vast (fuel use, urban v.
  rural)
• Solving issues requires collaborative approach,
  nationally.

10
Why Are So Few IGCCs on Order?
Excerpts from interviews
DOE CCPI buys down demo plant cost by 40 to
50, so why are so few utilities considering IGCC
?
Utility Even if DOE puts up 500M on a 1
billion plant, we still have 500M at risk if the
gasifier fails to perform. Reliability is king in
our businesspower. We dont want to be guinea
pigs. Let someone else try first.
PUC commissioner What does gasification cost
per KW? Who stands behind the performance
guarantee to protect my rate payers?
Utility A gasifier looks (and smells) like a
chemical plant. We are not in the chemical
business.
IGCC technology vendor We make only a component
of the total plant and dont want to be liable
for delivering power. Our units make fuels and
by-products.
Lab Our research shows that IGCC may not be the
best choice for low-rank coals (sub-bituminous,
lignite with higher moisture).
?
11

• Risk Profile of Clean Coal Technology
• Faces Market Failures,
• Suggesting the Importance of Risk-
• Targeted Assistance

12
Risk Framework Built to Project Timeline

• Market failures require an assessment of risks.
• Risk framework approach is
• Not a technical framework, e.g., RDD roadmap.
• Not a regulatory framework, e.g., IPCC.
• Not biased toward any specific fuel source.
• Not based solely on economic analysis.
• Not another barriers study.
• Based on the analysis of business risks from
  the perspective of project development and plant
  owner.

13
Overview of Risk Framework Approach
This diagram depicts the studys logic flow and
approach to the analysis.
Evaluation, Application of Risk Mitigation
Mechanisms
Power Plant Project Development Timeline
Risk Analysis of Coal Project Development Stages
Rating and Ranking of Risks by Stages

• Risk Analysis by Stage
• of Project Development
• Showstoppers
• Air regulatory issues?
• Tech performance and
• availability?
• PUC rate approval?
• Major Risk Category
• Technology / Design
• Development / Siting
• Regulatory
• Construction
• Operating performance
• Fuel price, supply
• Demand
• Dispatch
• Waste, byproducts
• Transmission

• Interview and Rating Approach .
• Design of survey instrument
• Work with industry groups for interview
  candidates
• Selection of interview candidates
• Contact of candidates
• Interviews, risk ratings
• Evaluation of risks
• Workshops with industry on results

• Evaluation of Mitigation Mechanisms
• Financial model and sensitivity analysis
  (conducted by utilities)
• Delineation of mechanisms
• Matching of possible mechanisms to risks
• Evaluation of risk coverage for each stage
• Determination of measures, legislation needed to
  implement
• Negotiations

• Timeline
• Evaluation .
• Delineation of key development stages for power
  plant
• Matching of development stages with financing
  events

The risk framework approach builds on work done
for the Business Case for Nuclear Power
(www.nuclear.gov)
14
Risk Questionnaire 33 Respondents

• Utilities, IPPs
• AEP
• Cinergy
• EPRI
• Excelsior Energy
• Tennessee Valley Authority
• Tri-State Generation
• Engineering Firms Energy Cos.
• Alstom
• Bechtel
• Burns McDonnell
• Conoco Energy
• CONSOL
• Eastman Chemical

• Technology Firms, Labs, DOE
• Air Products Chemicals
• ChevronTexaco Gasification
• Gas Technology Institute
• Gasification Technology Council
• Powerspan
• Siemens
• TMS
• DOE NETL
• Financial Community
• CS First Boston
• JP Morgan Chase
• EBI
• Rosenberg Associates

Global Energy Southern Co. Tampa Electric WE
Energy
Fluor Engineering Foster Wheeler USA Kennecott
Energy
15
Risk Rating Recap Highest Risks
Clean coal systems offer public benefits, but are
not fully proven. High capital costs magnify
risks. State and national policies not yet
clear. Financing large plants poses challenges
Risk-informed credit-based assistance may help
address them effectively and efficiently.
16
Risk Profile Too High Early in Plant Life
Tax credits dont provide enough lift early on,
and offer too much over life of plant.
17
IGCC Risk Traits 1,2,3 Observations

• Industry rates technology risks of IGCC, other
  advanced technologies as too high without
  government support.
• Top concerns
• Technical High capital cost and excessive
  downtime, which make financing difficult.
  Warranties appear to be inadequate.
• Regulatory Potential for big advantage in CO2,
  but owners remain skeptical of full valuation,
  near term, of CO2 advantage. IGCCs have apparent
  edge on capture of mercury, plus on water and
  solid wastes.
• Market Note that risk of decline in gas prices
  rates as a low probability, high severity event.
  Gas price rises make clean coal plants more
  competitive.

18
IGCC Risk Traits 1,2,3 Observations
(continued)

• Other observations
• State policy can help, but probably will be
  insufficient in most states. PUC dispatch
  preference, rate approval, or ROI assurance would
  usefully mitigate risk.
• Electricity competition is a concern due, in
  part, to uncertainties about regional impacts of
  market reforms.
• If government accepts significant technology
  risk, then adequate EPC warranties probably could
  be negotiated. Also, government reliability
  backing should reduce contingency in price of
  plants by gt100 / kWe.
• Workforce risks (for construction and operation)
  rate low.

19

• Designing Risk-Targeted Assistance
• for the Power Generation Sector

20
New Financing Approaches Needed?

• Tax credits and co-funding are inefficient and
  expensive for the federal budget. They are not
  targeted to specific risks.
• Compounded by tying tax credits to heat rate
  for electricity or by allowing conventional
  plants to qualify for tax benefits
• Government (federal and state) risk-sharing with
  advanced clean coal plant owner / operators could
  offer more flexibility on financing and ownership
  structures.
• Could better allocate risks (e.g., higher capital
  cost on first units, technical performance
  uncertainties)
• Federal credit process could force healthy
  negotiation and independent credit analysisand
  it would complement state actions. Credit
  process would add rigor and improve project
  quality, and it may dampen earmarking.

21
Risk-Targeted Assistance for IGCC

• Risk Area
• High capital cost
• Excessive downtime
• (poor availability)
• Lagging national policy
• Lagging state policy
• Lack of standardization

• Possible Assistance Targets
• Enhance financial returns
• Improve warrantees
• Backstop cash to avoid
• default
• Helpful national policies
• PUC, environmental roles
• Financial support for standardized designs

22
Next Steps through Climate VISION

• For discussion
• Collaborate with states, NARUC, EPA, EPRI, CURC,
  GTC, APPA and NCC on further risk analysis work.
• Evaluate how to target potential assistance on
  critical business risks that hinder orders of
  early commercial plants.
• Conduct sensitivity analysis of federal
  assistance options, including credit. Review
  results across DOE and with OMB, Treasury.
• Consider complementing state incentives with
  potential federal credit (or other) assistance.

www.ClimateVISION.gov
23
FINISH
www.ClimateVISION.gov
Contact us Larisa Dobriansky
202-586-1524 Deputery Asst. Secretary, DOE Policy
Office David Berg 202-586-1117
david.berg_at_hq.doe.gov Chief Advisor, DOE,
National Energy Policy Office Andrew Paterson
619-807-3267 adpaterson_at_aol.com Principal,
Environmental Business International
24

• Backup Slides

25
Beyond IGCC ?

• Many advanced energy technologies are reaching
  commercialization, but most face market entry
  difficulties.
• These technologies improve energy efficiency,
  electricity transmission, nuclear power, and
  renewable energy.
• NEP advocates rapid commercial use of a portfolio
  of such advanced technologiesif, long term, they
  can compete.
• Market use of advanced energy technologies
  developed with DOE support rewards taxpayer
  support for applied RDD programsand advances
  U.S. energy security.
• Traditional government deployment assistance
  tools are not targeted on key market risksand
  they are expensive.
• Negotiated federal credit tools, teamed with
  state incentives, could address specific risks to
  accelerate market adoption effectivelyat a lower
  cost.

26
The Climate VISION Challenge

• Climate VISION Challenges industries to make
  voluntary commitments to adopt cost-effective
  systems, technologies, and best practices to
  reduce GHG emissions.
• Commitments from 12 industries and Business
  Roundtable thousands of companies nearly 45 of
  U.S. GHG volume.
• Climate VISION partnership
• Industries commit to make meaningful commitments
  toward the 18 intensity reduction goal and to
  report emissions in 1605(b)
• Partners identify, implement cost-effective
  solutions for reducing GHGs
• Partners develop and use the tools to calculate,
  inventory, and report GHG emissions reduction,
  avoidance, and sequestration
• Government recognizes voluntary mitigation
  actions
• Partners develop enabling strategies across the
  economy to further reduce GHG emissions

27
Climate VISION Enabling Initiatives

• Goal Garnering private actions to extend
  voluntary commitments across entire economy.
• Current focus Major energy end-use sectors,
  such as transportation, buildings, and
  electricity system.
• DOE, industry exploring enabling initiatives in
  key sectors
• Efficiency in buildings, starting with new homes
• Advanced Clean Coal power generation
• Acceleration of renewables and bioenergy
• Others based on analysis
• Potential goal for new homes 50 market
  penetration of energy efficient new homes by
  2012.
• Potential goal for clean coal power generation
  Build first of several new plants in a series
  starting in 2006 2007.

28
Climate Vision Promotes Energy Security
Energy Security goals adapted from Energy
Challenges in NEP (May 2001)
Climate VISION approaches contribute to overall
energy security goals.
29
Oil Gas Price Volatility Continued in 2004
Market volatility not being addressed.
Natural Gas Natural gas volatility, varying more
than 80 within a 12 month period, has aggravated
industries dependent on gas as a primary
feedstock or heating fuel, such as chemicals,
fertilizers, metalworking and cement. LNG
terminals are facing stakeholder resistance.
Crude Oil Ascent of crude oil prices in 2004 has
hindered full economic recovery, and provides a
painful reminder of U.S. commercial vulnerability
due to import of more than 60 of our crude oil,
the primary fuel for all transport modes.
30
Competitiveness in U.S. Chemical Sector

• Letter to the President (Nov. 19, 2004)
• Mr. President, we believe that the high and
  volatile price of natural gas is the number one
  threat to our ability to compete in global
  markets. All consumers are paying a terrible
• price. Solving this problem will require
  committed leadership on the part of the next
  Energy Secretary. I urge you to select an Energy
  Secretary who will champion the cause of the
  consumer and tackle the problem of high and
  volatile natural gas prices head on.
• Thomas E. Reilly, Jr.
• President and CEO
• American Chemistry Council

National Petroleum Council The NPC calls for
increased energy efficiency, greater flexibility
in industrial and residential fuel choices,
immediate development of new sources of supply,
and enhanced infra-structure investment. (gas
report, 2003)
31
Coals Leading Role in Power Sector
EIA forecast for U.S. Electricity Generation,
2002 2020 (AEO 2004)

• By 2020, EIA forecasts that U.S. will still use
  coal for 45 50 of U.S. electricity
• Climate VISION
• How do we best use coal to economically sustain
  industrial competitive-ness and energy security
  with minimal environmental impact?

32
IGCC Risk Study 1 Questions
Risks are evaluated based on probability of
occurrence and severity of impact, if risk is
realized.

• TECHNOLOGY OPERATIONS RISKS (system
  performance)
• Risk Electric price is materially higher for
  IGCC due to high capital costs.
• Lack of competitiveness of electricity due to
  higher labor or operating costs.
• Excessive IGCC breakdown, downtime, non-routine
  engineering repair costs.
• Poor technical performance of IGCC relative to
  specs (e.g., higher heat rate).
• Lack of standardized IGCC systems (higher costs
  or reduced performance).
• Lack of skilled workforce to build IGCC plants to
  specifications.
• Lack of skilled operators to properly run IGCC
  plants to specifications.
• Lack of materials and engineering progress keep
  system costs high (gt1,500/KWe).
• Acute accidents generate penalties or severely
  damage the plant.
• EPC or vendor fails to provide adequate support
  of IGCC to maintain performance after startup.
• Waste disposal risk (e.g., price of disposal
  rises sharply or location is closed).

33
IGCC Risk Ratings 1 Technical
33 ratings
34
IGCC Risk Study 2 Questions

• REGULATORY POLICY RISKS (differentiation for
  IGCC)
• Risk State-level air permitting delays fail to
  deter conventional coal plant orders.
• Federal mercury regulations favor conventional
  coal (e.g., PC) plants.
• Federal SOx and NOx regulatory delays favor
  conventional coal plants.
• Economic value of carbon capture fails to
  materialize, reducing advantage of IGCC.
• Risk that IGCC is regulated (by states or EPA)
  based on NGCC performance.
• Cost of carbon sequestration for PC plants
  approximates that for IGCC.
• Regional and state policies fail to provide any
  or sufficient incentives for IGCC
• National policies provide insufficient rewards,
  incentives for IGCC (e.g., tax, NSR, etc.).

35
IGCC Risk Ratings 2 Regulatory
33 ratings
36
IGCC Risk Study 3 Questions

• MARKET FINANCE RISKS (dynamics of demand and
  supply)
• Long-term electricity demand (for utilities,
  IPPs) fails to grow as fast as forecast.
• Erosion of coal transportation infrastructure
  raises delivered cost of coal over time.
• Competing old coal generation reduces dispatch
  of IGCC, thereby curbing revenues.
• Low natural gas prices make NGCC more competitive
  (reducing dispatch).
• Coal prices rise markedly, inflating IGCC
  electricity generation costs.
• Interest rates rise in the medium term,
  penalizing new capital-intensive projects.
• State PUC does not approve long-term contract or
  rate review to cover IGCC costs.
• Financing of IGCC is difficult, or requires lots
  of equity, even at low interest rates.
• Revenues of IGCC by-products (e.g., sulfur, slag)
  fail to materialize as forecast.
• Customer of IGCC suffers significant losses and
  cancels IGCC project midway.

37
IGCC Risk Ratings 3 Market
33 ratings
38
Example Terms Three Risk Mitigants
39
Power Project Timeline
Different risks arise at each phase of power
projects value in matching appropriate tools to
particular risks.
40
Timing of Mitigants Combined
1a) Interest Coverage
1
1
Standby Credit Facility for Regulatory
Commissioning Risk Debt Equity 1a) Coverage of
interest payments in downtime 1b) Loan guarantees
for debt coverage (established before close of
financing) 2) Direct Loan for Engineering
Construction
1b) Loan guarantees
Possible early downtime

Repayment of government credit from future
revenues
Scheduled rampup
Close Financing
Industry Investment


Government Credit
3


3) Power production incentive for X years
Development
Direct Loan
2
Shakedown
Power Project Timeline ?
Regulatory Approval
Engineering
Construction
Operation (or delay)