KDC11- Anand Rohatgi, Synergy Consulting
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This document discusses why district cooling projects under a BOT/BOO structure may not be viable for private sector off-takers based on learnings from the Dhahran District Cooling Project. Key challenges for private developers include uncertain capacity planning and utilization, weak contractual frameworks, lack of utility guarantees, and high payment/credit risk from end users. These risks result in high costs of debt and equity that require very high tariffs to make projects financially viable. The Dhahran project succeeded due to support from the public sector off-taker which ensured long-term financing, adequate utility supply, a take-or-pay structure, and a strong contractual framework. The conclusion is that projects with private off-takers
KDC11- Anand Rohatgi, Synergy Consulting
- 1. Why District Cooling Under BOT/BOO Structure May Not Be For Private Sector Off-takers: Learnings from Dhahran District Cooling ProjectFor Kuwait District Cooling Conference26th January, 2011Presented byAnand K Rohatgianand.rohatgi@synergyconsultingifa.com
- 2. 2Outline of the PresentationPhilosophy of a District Cooling PlantKey Participants in District Cooling ProjectKey Revenue Sources – The TariffRequirements for a Bankable TransactionProfiling of Private Developer / Offtaker vs. Public OfftakerKey Challenges for a Private Development Dhahran Area DCP – A Case StudyConclusionSolution for Making Such Transactions Viable
- 3. 3Philosophy of District CoolingMotivational FactorsHygiene FactorsHighly Profitable From National Economy ProspectiveLower Initial And Recurrent Operating Costs For DCP OperatorSmart Energy Technology And Economically Efficient Utility ServiceReliability In Excess Of 99.7%Philosophy of District CoolingImprovement In Carbon Footprints For The EconomySmooth Load Distribution – Lower Cumulative Capacity Requirements Presents Attractive Value Propositions To Building Owners In Terms Of SpaceLower Cooling Costs To End Users
- 4. 4Key Participants in a District Cooling ProjectShareholder 2Shareholder 1Shareholders Support/Agreement LendersUtilitiesFinancing AgreementProject CompanyOfftake AgreementOfftakerUtility GuaranteesConcession Agreement ConcessionaireEPC ContractO&M ContractEPC ContractorO&M Contractor
- 5. 5Revenue Sources : For Recovery of Costs Tariff ComponentsConnection ChargeCapacity ChargeFixed O&M ChargeVariable O&M / Consumption ChargePayable to compensate Project Company for Capital Expenditure incurred.
- 6. May include coverage for costs like:
- 8. Distribution System Extension Costs
- 9. Some Portion of Other Capex
- 10. One time Upfront fee payable on connection date
- 11. No Offtaker or End User = no Connection Charge
- 12. Payable by Offtaker to Project Company to compensate for Capital costs.
- 13. Is a function of Contracted Capacity
- 15. Debt Service i.e. Interest + Principal
- 16. Equity returns for investors i.e. ROE
- 17. Paid From Date of Connection of Load
- 18. No End User / load = no Capacity Charge
- 19. Payable to compensate Project Company for Fixed O&M cost
- 20. Includes coverage for costs like:
- 21. Plant O& M
- 23. Plant G&A
- 25. Paid from Date of Connection of Load
- 26. No End User / load = no Fixed O&M Charge
- 27. Payable to compensate PC for Variable O&M cost
- 28. Is a function of Actual Cooling provided, EFLH
- 29. Includes coverage for costs like:
- 30. Water
- 31. Electricity
- 32. Sewage
- 33. Chemicals
- 34. Variable O&M
- 35. No Impact on Economics if Pass -Through 6Requirements for a Bankable TransactionKey Success FactorsA Bankable TransactionInterpretation Provides comfort to Lenders that Debt Service shall be met within schedule
- 36. Ensures balanced recovery of all project costs
- 37. Ensures appropriate equity returns
- 38. Ensures proper risk allocationCredit Worthy OfftakerTake or PayRisk AllocationTariff StructureA credit worthy Offtaker ensures lower payment risk
- 39. Thus enables access to competitive, long term and high level debt funding
- 40. Capacity planning should be such that complete capacity is utilized at commissioning
- 41. In case of under-utilization, proper debt repayment should be ensured thru fixed revenues
- 42. Contractual framework should be such that proper risk allocation is made to the entity who is best positioned of handling the risk
- 43. Tariff structure should be designed so as to cover 100% of underlying costs (Fixed & Variable)
- 44. Should be properly indexed to inflationImpactEnsures availability of economical debt
- 45. Ensures rationale equity return requirements
- 46. Financial viability over the concession term
- 48. Rationale tariff levels for the End Users 7Profiling of Private Developer / Offtaker vs. Public Offtaker
- 49. 8Challenge: Capacity Planning and Utilization…1/2Not Guaranteed Capacity Requirement Forecast
- 50. No Fixed Schedule + level for such capacity utilizationCapacity Planning / ForecastPublic Sector OfftakerPrivate Sector OfftakerIn a better position to project the demand figures as planning based on Captive requirements
- 51. Lower probability of demand-supply mismatch due to planned requirements
- 52. Can take the financial onus of inconsistent projections due to strong balance sheets
- 53. Higher probability of demand-supply mismatch as basic infrastructure for medium-term demand to be created upfront
- 54. Demand linked to ability to sell (real estate risk)
- 55. Further offtake subject to start of utilization.
- 56. May have to infuse extra equity impacting overall Project IRRImpact on StakeholdersImpact on StakeholdersDeveloper Takes the financial onus of unachievable projectionsDeveloper Nil as generally may not take any obligation Project CompanyUndesired increase in costs absorbed by Public Offtaker
- 57. Thus no impact Project CompanyBears increase in costs due to incorrect projections
- 58. Thus Higher contingency requirements or failure to meet obligations LendersStrong Balance Sheet ensures timely debt repayment, thus provides required comfort End UserFinancial onus of wrong projections on Offtaker
- 59. Tariff not prone to changesLendersMay face a risk of delay in debt repayments
- 60. Thus Project may not be bankabilityEnd UserIncrease in tariff due to, if borne by end users may lead to increased Tariff
- 61. Or failure to receive DC services?
- 62. 9Challenge: Capacity Planning and Utilization…2/2Case Study ** Only Elaborative in Nature
- 63. 10Challenge: Not Very Strong Contractual FrameworkWeak Contractual FrameworkUn-clear / un-balanced risk allocation
- 64. Generally offtaker sided contractsPublic Sector OfftakerPrivate Sector OfftakerEnsure tight contractual framework with adequate penalties and remittances for appropriate events
- 65. Can favorably influence regulatory aspects
- 66. May not ensure a water tight contractual framework leading to increased project risk
- 67. Has little influence on the laws of regulations
- 68. May tend to execute not very strong contracts Impact on StakeholdersImpact on StakeholdersDeveloper Water tight framework ensures lower but defined / balanced riskDeveloper Mostly nil, as offtaker takes no obligationsProject CompanyWell defined rights and obligations
- 69. Lower risk thus lower debt and equity costs Project CompanyExposed to risks as rights and obligations not clear and balanced
- 70. May fail to be viable in long term LendersWell defined contractual obligations
- 71. Acceptable protection for client risks events
- 72. Acceptable project riskEnd UserWell defined rights and obligations
- 73. Lower tariff due to lower overall project riskLendersExposed to substantial project risk
- 74. Thus project not financeable End UserUnfavorable clauses may lead to higher obligation or higher tariff or failure to receive district cooling?
- 75. 11Challenge: Utilities - Minimal Control and Full RiskUtility GuaranteesUtilities may not guarantee adequate and timely supplyPublic Sector OfftakerPrivate Sector OfftakerPublic Offtaker has better control over the public utilities
- 76. Can support adequate and timely supply of utilities to keep the plant operational (utilities a part of overall development)
- 77. Can support payments even if plant is un-operational
- 78. Generally do not take any obligations related to utilities
- 79. Cannot guarantee adequate and timely utility supply
- 80. Poses high risk to the viability of the projectImpact on StakeholdersImpact on StakeholdersDeveloper NilDeveloper Nil Project CompanyAdequate utility supply thus plant operational
- 81. No cash flow risks Project CompanyMay not be able operate due to unavailability
- 82. Loss of revenue for such periodsLendersNo Impact as defined revenues to the Project for debt service End UserLower tariff due lower risk on Project, Lenders and Shareholders LendersMay impact ability for timely debt service
- 83. Thus project not bankable End UserNo district cooling service for periods when plant does not receive utilities
- 84. May result in higher overall costs ?
- 85. 12Challenge: High Payment / Credit Risk Non Payment by End UsersRisk of delay or non payment by end usersPublic Sector OfftakerPrivate Sector OfftakerGenerally payments guaranteed by the Public Sector entity
- 86. Public Sector entities tend and have the ability to fulfill their financial obligations
- 87. Onus of tariff collections from End Users on Project Company
- 88. Developers tend to back-end payments to ensure lower upfront to encourage sales. Thus higher risk
- 89. Exposing Project to credit risk from non-payments later Impact on StakeholdersImpact on StakeholdersDeveloper Minimal impact as Public Offtaker have the financial strength to make such payments Developer Nil Project CompanyNo impact as payments are received in fullProject CompanyReduction in anticipated revenues
- 90. Eventual failure to provide service if cost unrecovered LendersNo Impact as defined revenues to the Project for debt service End UserMay face disconnection (if End User not same as Developer)LendersMay put debt service at risk
- 91. Thus project not bankable End UserIf recovered from existing users - increase cost of services
- 92. Or, no district cooling services?
- 93. 13Result: High & Un-Competitive Capital – Debt & EquityUn-Competitive Debt Financing High Returns for EquityDue to higher and sometimes unbalanced risks, lenders may not provide Long Term Debt but will only provide Short Term Corporate Finance
- 94. In order to make the project viable, the revenues may need to be able to meet debt service i.e. meet DSCR requirements
- 95. Thus for higher revenue levels, higher tariffs should be required (as compared to Long Term debt transaction)
- 96. Due to higher and sometimes unbalanced risks, equity investors may need higher return
- 97. Lender’s requirements of Corporate Guarantees for debt may result in increased equity risk (and thus pricing)
- 98. In order to meet such return requirements, the revenues may need to be higher and thus higher tariffs14Result: High Cost of Capital – Debt + EquityTo Make Tariff Attractive for End UsersFor Public Off-taker / DeveloperFor Private Off-taker / DeveloperAssumptions:In house cooling capex of SR 13,400 per TR of cooling with SR 2200 / TR as O&M each year
- 99. Debt interest rate is assumed to be 10% for the computations
- 100. Leverage of 70% and tariff is set while ensuring that the debt is serviced in the required tenor
- 101. EFLH of 4,000 Hrs
- 102. A typical in-house cooling consumption charge of SR 0.481/TR-HR whereas for DCP of SR 0.187/TR-HRInferences:DC is viable in the long run due to better efficiency which can be observed by comparing the consumption charges
- 103. The viability increases with the availability of longer term debt
- 104. In the above, DCP becomes viable if debt tenor is >9 yearsAssumptions:Leverage of 70%.
- 105. Various combinations of IRRs are used and the increase in tariff required to meet the IRR is normalized and displayedInferences:To double the IRR from 8% to 16% a 33% increase in tariff is required in this particular example15Dhahran Area DCP – A Case Study
- 106. 16About ProjectShowcasing the first scheme of its kind in the MENA regionSaudi Tabreed as Project Developer is required to develop, own & operate a district cooling system to provide cooling services for offices at Dhahran.
- 107. Cooling Capacity of 27,000 TR expandable to 32,000 TR
- 108. Developed under Offtaker’s initiative towards energy conservation & environment protection since District Cooling consumes half the electrical energy as compared to traditional cooling.
- 109. First District Cooling Project to be financed under long term non-recourse project financing structure.
- 110. Project under “Take or Pay” Structure to ensure commercial viability of the Project17Advantage All – With Public OfftakerPublicOfftakerPublic Offtaker SupportCredibility and strong balance sheet of Public Offtaker lead to Long Term Non-Recourse debt funding
- 111. Tariff components covered all underlying costs and thus assured returns on equity.
- 112. Lower IRR requirements by equity as assured of repayment thus leading to lower tariffAdequate Utility SupplyOfftaker agreed to pay capacity payments to Project Company in case of failure of availability of utilities
- 113. Cost of utility supply accepted as a pass-through cost
- 114. Lead to lower risk of increase in tariff due to non availability of essential utilities Take or Pay Tariff StructureThe Public Offtaker understood the consequences of demand supply mismatch and agreed on a Take-or-Pay structure to ensure commercial viability of the project
- 115. Essential so that Project Company can meet its debt obligations on timeWater Tight Contractual FrameworkEnsured water tight contractual framework assuring appropriate risk sharing mechanism
- 116. Ensured low project risk with other supporting aspects for project financing such as termination payments, force majeure coverage, etc Lower Tariff for End Users
- 117. 18The ConclusionProjects with Private Off-takers May Not Be Viable
- 118. 19The Solution: Support from All Stakeholders From DevelopersFrom LendersFrom Shareholders From End UsersConsider DC as any other Utility
- 119. Should not be treated as a Construction Contract and consider importance over Concession Term (15-20 Yrs)
- 120. Important to balance between lower tariff & viability
- 121. Work with the Project Company in defining the Project configuration (capacity, schedule, tariff , payments etc)
- 122. Hold partial stake in Project to ensure balanced approach by Project Company
- 123. Treat District Cooling like any other utility concession thus lower risk
- 124. The risk of non-payment is lower as DC alike any other utility is a minimum requirement. Thus disconnection of DC services to End Users is not a likely option
- 125. Maintain balance between the profitability and viability of the project as this is a utility
- 126. Should budget temporary plants to avoid phasing risk
- 127. Should implement a granular design to avoid phasing risk, the additional cost is a reflection of reduced risk
- 128. Should maintain transparency by involving all stakeholders in sharing both, the appropriate risks and the benefits
- 129. Realize the benefit of District Cooling over In-house Cooling
- 130. Should accept a level of “Take or Pay” as may exist in any other utility (similar to power or water)
- 131. Should accept that DC service in the initial period might cost more due to the presence of temporary chillers (ramp-up period) but should be beneficial over long term .20Thank You
- 132. 21Abbreviations
- 133. 22About Synergy…1/2
- 134. 23About Synergy…2/2An International Financial Advisory Services Company with experience in projects across 36 countries spanning across most of the continentsAcross All Infrastructure SectorsBoutique of Services Offered
- 135. 24Disclaimer