1 Overview and Status: CDM and JI Heather McGeory Project Manager, Natsource Introductory Workshop on the Clean Development Mechanism (CDM) & Joint Implementation (JI) International Institute for Sustainable Development Winnipeg, Manitoba March 1, 2006

2 Natsource at a Glance Asset Management Services – Greenhouse Gas Credit Aggregation Pool (GG-CAP) US$550 million – 26 Buyers from EU, Japan, North America – Managed Accounts – Other pools under development Advisory and Research Services – Risk assessments – Trading design – Market intelligence and pricing Transactional Services – Over $7.5 Billion traded in GHG, Renewables and conventional air pollutants markets

3 What Is Emissions Trading? Comparative Advantage Can reduce 1000 tons CO 2 E at €2/ton = €2000 Can reduce 1000 tons CO 2 E at €6/ton = €6000 Company A - SellerCompany B - Buyer 1000 tons CO 2 E at €4/ton = €4000 SELLBUY €2000 Profit€2000 Savings Cost of abatement is less for Company A

4 Emissions Trading Rationale Harness market opportunities to achieve targets in most cost-effective and flexible way. Benefits: – Incentive/priority to innovate at home – Lower aggregate costs – Lower individual costs – Additional revenue for over achievement

EU JI: CH4, N2O An Expanding Global Market EU ETS CO2 Only CDM: Any gas, any sector Full Global Trading Large Sources of CO2, CH4, N2O HFC, PFC, SF6 Transport??? All Major Emitting Countries Norway Phase 1 Phase 2Beyond 2012 Non-EU JI: Any gas, any sector EU ETS CO2 only, Power focus Japan Canada

6 Estimated Credit Shortfall Ratification of the Kyoto Protocol requires that developed countries will reduce GHG emissions during Market Areas Carbon Credit Shortage (in tonnes) Japan 800,000,000 Canada1,350,000,000 Europe1,600,000,000 Total Short =3,750,000,000 CDM and JI help manage the total shortage

7 Major Components of the Carbon Market EU Allowances (EUAs) – – European Union Emissions Trading Scheme (EU ETS) Certified Emission Reductions (CERs) – – Clean Development Mechanism (CDM) (Kyoto Protocol, Article 12) Emission Reduction Units (ERUs) – – Joint Implementation (JI) (Kyoto Protocol, Article 6)

8 Types of Credits EUACERERU Crediting period (non bankable from ’07- ’08) (bankable from ‘07-’08) Origination and Transfer European Union “developing” country to Annex B country Annex B country to Annex B country Project development timeline NewCan have started in 2000 Transacted?Yes UN Registered Projects? N/AYesNo

9 Assessing CDM/JI projects: Natsource Delivery Risk Model Outputs at the project and portfolio level: (1) delivery (in metric tons) (2) delivery shortfall against contracted amount (3) standard deviation of delivery (4) equivalent 'investment rating' of project (5) risk management options Applied in:  assisting the World Bank's Carbon Finance Business develop a framework to evaluate ER projects and portfolios;  working with a large European development bank to develop an acquisition strategy for its EUR 50 million carbon fund;  Natsource’s recently launched carbon aggregation pool, GG-CAP

10 Project Risk Assessment Due Diligence Project Pre-Screening Project Screening and Scoring Contractual Conditions Analysis Credit Review, Collateral Requirements and Structuring (if needed) Standard MOU / LOI Using Natsource Asset Management (NAM) Delivery Risk Model Delivery Risk Model

11 Key Screening Factors Host country’s investment climate Host country’s CDM institutional readiness Credit rating of project participants Project’s financing stage Project’s stage in CDM cycle Project’s stage of development Technology used Stakeholders’ acceptance Clear ownership title Example of Key Risk Factors: Project’s Delivery Shortfall + Rating Model

12 CER Price driven by Delivery Risk Only a PIN available Project developing new methodology No DNA or Host government approval only given after Validation by DOE Poor Credit Project not registered Flexible CER delivery schedule No punitive damages Unilateral Upfront payment CER Price increases Using approved methodology Host government approval Strong project partners, technology supplier Good Credit Ability for buyer to become a Project Participant (Multilateral) Project registered Guaranteed delivery schedule with punitive damages for non-delivery Payment on Delivery

13 Valuation of EUAs vs. CERs CERs are not yet a commodity Higher risk = lower price EUACER RiskLow, €40 excess emission penalty (€100 from 2008) High, no guaranteed delivery RegistryFunctional RegistriesInternational Transaction Log not presently functioning Trading partners Trades occur with companies with investment grade credit Trades occur with non-credit worthy companies Contract Length through 2007through 2012 Contract Size 10,000 – 50,000100,000 +

14 Global Carbon Markets: Trends and Current Developments

15 Carbon Market Transaction Overview 2005 EU ETS up and running CDM Registered Projects: Total transactions: – 800 million tons traded – $USD billion Clean Development Mechanism/Joint Implementation transactions: – 425 million tons traded – $USD 2.4 billion

16 Carbon Market Project Overview 2005 PurchasersProject Types Source: Point Carbon

17 Carbon Market Overview 2006 Market liquidity increase Price increase ($USD 26 to $USD 33 from January to early-Feb) More players coming into the market Increased numbers of project approval flow from the CDM EB

18 CER Pricing Trends Upward price pressure: Japanese buying will continue US regional programs may create some demand EU tightness will continue to seek CERs to fill needs

19 CER Pricing Trends Downward price pressure: Canadian uncertainty Increased registration of CER projects Industrial Gas “Mega” Projects (i.e. $USD 930 million China HFC Project) Corporations with excess allocation not trading yet

20 CER Pricing Trends Uncertain price pressure: EU ETS uncertainties – First true-up, May 2006 – NAP allocations for , June 2006 Post-2012 negotiations Russia & Ukraine supply has not been priced into the market

21 CER Market Trends Prices expected to continue to increase in 2006 Commoditization of CERs Increased funding for the CDM Executive Board – Increase in the number of registered projects Will likely continue as mechanism of choice for emissions reductions – Well-established frameworks for project development – Likely to survive post-Kyoto Link between EU ETS and other developing markets

22 JI Developments First meeting of the JI Supervisory Committee on 2-3 February 2006 In 2005, 28 million tons transacted with a value of €96 million

23 Canadian vs. EU Systems Canada – No firm targets – Delays have been, and continue to be, costly – Comparatively little interest in international projects among Canadian private sector vs EU private sector – Thin market predicted EU – Firm targets – More companies more seriously engaged – Looking to hedge risk in international projects – Active market, with purchases made by both governments and corporations

24 Natsource offices in: Calgary, Ottawa, New York, Washington, London and Tokyo Heather McGeory