Managing carbon project risks Presented by Adam Shepherd Regional Workshop on Legal, Institutional and Financial aspects of Carbon Finance Istanbul, Turkey January 2008

1 Carbon project risks A thought about lawyers: “A prudent perspective enables a good lawyer to see every conceivable snare and catastrophe that might occur in any transaction.” – Martijn E. Seligman Ph.D. WARNING: This presentation focuses on: Everything that could go wrong!

2 Why might there be risks? THE CARBON MARKET = Science + engineering + finance + laws + industry + Public Sector + Private Sector + International law + National laws + Transboundary flows of information + Trading in valuable commodities

3 Project / Regulatory Risk RISKMANAGMENT Failure to obtain letter of Approval - Letter of Approval as precondition in contract - Guarantee from Host Country - Option to sell credits as “VERs” (Seller) Project fails validation or registration - Validation as a precondition - Payment only upon delivery (Buyer) - Option to sell credits as “VERs” (Seller) Methodology fails to be approved - Methodology approval as a precondition Project under- performance - ERPA obligation to source replacement credits - Duty to pay liquidated damages Registry delays / malfunctions - Flexible delivery provisions - Force Majeure - Alternative accounts for delivery

4 Financial Risk: Carbon Market Risk Source: European Climate Exchange EU Allowance Market Price (2006 to mid-2007) Managing Market Risk Pricing Fixed price Floating price with floor/ceiling Secondary sales (forward) Passing on the market risk What about delivery issues? Phase II Market Price Phase I Market Price

5 Legal risks RISKMANAGMENT Third party claims ownership to credits - Performing due diligence - Warranties in ERPA Litigation affecting project - Due diligence - Warranties Counterparty fails to make payments - Due diligence regarding counterparty’s credit - Third party guarantees obligations (Guarantor) Environmental liabilities - Due diligence - Warranties - Indemnities Failure to obtain / comply with local authorizations / permits - Due diligence - Warranties - Indemnities

6 Host Country / Political risks Participants in carbon projects will consider political risks in the host country prior to making investment decisions What are the Host Country risks Delays in obtaining Letters of Approval Uncertainty regarding criteria for Letters of Approval Uncertainty regarding taxes Nationalization of project assets or carbon credits Coup d'état or civil strife Strikes: labor, transport

Case Study

8 UNDP MDG Carbon Facility Country Case Study China: Giant of the CDM

9 China Overview Annex I party to Kyoto Protocol Eligible to host CDM projects Enacted national CDM Rules Regulate CDM projects in China Recognise CERs Promote foreign investment Why is China a good case study?

10 Why is China a good case study?

11 CDM Country Sellers (2006)

12 China’s DNA National Development and Reform Commission Sustainable development criteria China floor price – In the vicinity of €8.50 – Does setting a floor price promote investment? Restrictions on foreign ownership of Project Developer Equity joint ventures with foreign partners Restrictions upon consultant’s fees

13 China: Taxes on CDM projects CDM Taxes: Taxation on CER revenues: – 2 % Energy efficiency, renewable energy, methane capture, forestry small scale – 30% Nitrous Oxide (N20) – 65 % Industrial gases General Taxes (non carbon) – Corporate income tax, personal income tax, land tax Tax benefits – Income tax refunds for foreign entities which re-invest profit in China – Materials imported for carbon projects might be exempt from import taxes/tariffs for materials

14 Carbon Risks Quiz Project Facts: Seller is a wind farm project developer based in India. Seller has established a wind farm and intends to generate carbon credits under the CDM. Buyer is a French company who buys and sells carbon credits. Buyer and Seller intend to enter into an Emission Reductions Purchase Agreement (ERPA).

15 Carbon Risks Quiz Seller is concerned that Buyer will not be able to pay for the carbon credits. What can Seller do to manage this risk? Buyer intends to buy the credits and then sell them to a third party. Buyer is concerned that the CER market price might fall. What can Buyer do? Both parties want to enter the ERPA immediately, but are worried that the project may not obtain registration. What can they do?

Questions? Thank you For more information: