Financial Strategy

Presented By
PARAG PATIL
MANDAR RODY
RAVI SINGH
NAMASIVAYAM SUBRAMANIAN
ABHIRAM T KANDALA
ADELINE HERAULT


Calpine Corporation
Agenda
Introduction
Q1
Financing through Equity
Financing through Project Finance
Financing through Corporate Finance
Financing through Hybrid Finance
Important criteria for decision making
Q2
Corporate goal shifts from 15,000 MW to 25,000 MW

Introduction
Goal of Calpine : To raise production capacity significantly to
capitalize on the current opportunities due to deregulation
Immediate goal : 4 power plants to be built with an investment of
$1.2bn
Long term power purchase agreements not possible due to
changing dynamics of industry
Need to raise huge capital in short span of time
Reducing costs and increasing speed of financing was very critical
to create a competitive advantage over the next 5 years
For 15000MW in 5 years they needed a debt of $4.5 billion and
assuming they generated $1.5 billion from cash flows

Question 1: How should Calpine finance the high-
growth strategy: with equity, PF, CF or the hybrid
construction facility? What are the most important
criteria for making this decision?
Financing through equity
Cost of Equity is 9.26%
IRR is 9.63%
Project NPV is $168 million
Advantages
Calpine can use capital for business activities as there is no need to service debt via
interest and principal payments
Disadvantages
Raising equity is highly risky prior to completion as market demands VC returns.
If Calpine sells equity before plants are built then it will be priced at 12 times earnings.
If Calpine sells equity after plants are built then it will be priced at 25 to 40 times
earnings.
Risk is that it will dilute EPS which would have effect on Calpines stock price.
No Interest Tax Benefit


Financing through Project Finance (1/2)


Cost of Funding (WACC) is 6.73%
IRR is 7.93%
Project NPV is $98.33 million
Advantages:
100 % of construction amount for 2 years
High Leverage possible with Non- Recourse on Corporate
Assets
Easier source of funding
Books of parent company not affected

Financing through Project Finance (2/2)


Disadvantages
High Transaction Costs because each plant is separate
Banks may not allow merchant trading of power from one
plant to other plants customers Act as a power system and
thus reduce costs
50 % of construction amount to be repaid after two years
Only around 50 banks in the project finance market Stretch
to finance $6 billion expansion plan
Time and Cost of structuring individual deals 6+months

Financing through Corporate Finance (1/2)


Cost of Funding (WACC) is 5.87%
IRR is 20.41%
Project NPV is $1.08 billion
Advantages:
Can raise loans for a tenure of 7-10 years
No collateral required if high yield is offered
Calpine free to switch between plants in the power system
No restrictions on non-recourse debt at subsidiary, keeping
project finance option open for new constructions
Information to be given out- Normal SEC filings
Covenants are more liberal compared to Project Finance
Financing through Corporate Finance (2/2)


Disadvantages
The high-yield market was thinner and more volatile compared to
investment grade market, creating pricing and availability risk.
Negative arbitrage: Have to pay high interest on undrawn funds
Large debt could jeopardize its BB debt rating
As a firm with high leverage and sub-investment grade rating, the high
cost of corporate financing might lead Calpine to miss the opportunity
to invest in a positive NPV growth project
EBITDA/Interest ratio should be greater than 2:1 to secure additional
unsecured debt
Revolving Construction Facility Features of the Arrangement
Calpine Construction
Finance Co.
Calpine Corporation
Lenders
Plants
$430 million Equity
Investment
$1 billion Revolving
Construction Facility
Excess Cash Flows
Cash Flows
Financing through RCF Hybrid (1/1)


Cost of Funding (WACC) is 6.62%
IRR is 22.98%
Advantages
Multiple plants can be funded with one facility Power system
CCFC could borrow $1 billion in a secured revolving construction facility with
4year maturity 2003
Amounts borrowed and repaid may be re-borrowed for construction of
additional plants
Reduced legal and other fees, transaction costs
Time saving
No dependency on uncertainties of bond markets
Allowed raising a large amount of debt on a non-recourse basis, which was
impossible at the parent level

Financing through RCF Hybrid (2/2)

Challenges
Identify the ways to mitigate the refinancing risk after four years:
Use operating cash flow
to repay the revolver
balance.
Issue debt or equity
at Calpine level.
Refinance the plants
individually using
Project Finance.
Management believed
that CCFC cash flows
would pay off $1 billion
loan within reasonable
period.
Need to convince more than 20 banks
The concept of Revolving Construction Facility was new &
convincing the banks was going to be difficult .
Comparison


Method Of
Raising
Funds
Cost of
Funding
IRR Max. Fund Raising
Ability
Impact on
Corporate
Balance Sheet
Flexibility of
Covenants
Equity 9.26% 9.63% 100% Dilution of
Shareholder
value
Highly Flexible

Project
Finance
6.73% 7.93% 100% in the first 2
years;
Replace with 50%
equity at the end of
construction period
(2yrs)
Non Recourse

Rigid;
Wont be able
to connect the
plants into one
system

Corporate
Debt
5.87% 20.41% Upto 80% without
impacting current
credit rating
Entire liability
falls on
Calpine
Fairly Flexible
RCF 6.62% 22.98% $1 billion through
debt & $430 million
through equity
Non Recourse Flexible
Question 2: Would your answer change if the
corporate goal shifts from 15,000 MW to 25,000
MW of generating capacity by 2004?
RCF Model for Future Expansions (1/1)


Using 1-RCF Loan Agreement of $1billion
Total 8 plants can be planned to be constructed till 2003
~4800MW of capacity will be created



# of plants to be funded 4 2 0 0 2
Year 1999 2000 2001 2002 2003
Capex 900 450 0 0 450
Drawn debt 470 450 0 0 377
Repaid Debt 0 0 122 175 164
Undrawn portion 530 80 202 377 164
Equity raised 430 0 0 0 73
Total outstanding Equity 430 430 430 430 503
Total outstanding Debt 470 920 798 623 836
Financing through Revolving Credit facility
RCF Model for Future Expansions(2/2)


Using 2-RCF Loan Agreements of $1 billion each
Total 16 plants can be planned to be constructed till 2003
~9600MW of capacity will be created


# of plants to be funded 4 2 4 0 6
Year 1999 2000 2001 2002 2003
Capex 900 450 900 0 1350
Drawn debt 470 450 470 0 907
Repaid Debt 0 0 122 175 287
Undrawn portion 530 80 732 907 287
Equity raised 430 0 430 0 443
Total outstanding Equity 430 430 860 860 1303
Total outstanding Debt 470 920 1268 1093 1713
Financing through Revolving Credit facility
Financing for 25000MW Capacity


Requirements
5 Bn. $ of additional Capex requirement
20 more plants after capacity reaches 15000 MW
Requirement of additional RCFs to finance 25000 MW, making it
difficult to raise $4 billion from banks
It is difficult to convince 40 banks to get two RCF accounts
Corporate Finance Method will negatively impact credit rating and
increase cost of debt thereby decreasing IRR
The other concern is the refinancing risk associated with four year
maturity period


Thank You!