The bankruptcy of Lehman Brothers now looks like an insubstantial starter before the frozen main course of the broken bank lending market. But its collapse provided an indication of what might happen if larger and more active peers in the energy market had failed, and generated considerable uncertainty in power trading markets. Even with Goldman Sachs and Morgan Stanley safe – for now – power producers and developers are struggling to make sure they have reliable funding and credit support in place.

Lehman's bankruptcy will have a small number of direct impacts on project financings both closed and pending. The investment bank was best known as an underwriter of project bonds, and the occasional B loan, for power and oil and gas projects. While Barclays Capital's acquisition looks like providing a home to the bulk of Lehman's investment banking staff, the prospects for users of its credit support products are less certain.

It has been active in initial public offerings of power and renewable developers, including names such as Ormat and Noble Environmental Power, the latter of which is still pending, and for which Citigroup, Credit Suisse and JP Morgan are also bookrunners. It has also been active as a principal owner of power developers, owning Canadian wind player Skypower outright, a large stake in turbine maker Clipper, and holding a 28% stake in Indian firm KSK Energy Venture, which is developing the 1,800MW Chhattisgarh power project.

Many of these equity stakes were held by Lehman Brothers Private Equity, part of its Neuberger Berman asset management business. John Veech, formerly Lehman's head of project finance, was part of the team that made these principal investments. The asset management business is likely to be sold to a consortium of Bain Capital Partners and Hellman & Friedman for $2.7 billion. Lehman also, according to recent filings, had a substantial block of shares in solar panel maker Evergreen on loan at the time of its collapse, although were apparently held at its brokerage, rather than asset management, arm.

Lehman's energy investment bankers, including a renewables group headed by managing director Theodore Roosevelt, will transfer to Barclays Capital. Barclays has taken over the financial advisory mandate for the Cape Wind project, a proposed 420MW offshore project located near Horseshoe Shoal, off the coast of Nantucket, Massachusetts. When Lehman was mandated, in May 2005, the project had an estimated cost of $890 million. The project has been held up in legal appeals over its permits, and still has to gain a plethora of approvals, including water quality and transmission siting.

Lehman Brothers' tax equity capabilities also suffered a blow from the bankruptcy. While Barclays acquired an experienced team, which had been active in wind and geothermal deals, its UK parent will have a minimal amount of tax capacity, and the Barclays group will now have to syndicate any commitments. The US financial sector was a mainstay of the renewable tax equity market, and the crunch has both diminished their numbers, and produced huge losses that can be offset against their tax bills. Tax equity yields already up, are likely to rise further.

However, Lehman Brothers also had significant energy trading, municipal bond and tax equity operations, all of which were enmeshed in existing financings. As Moody's noted in a report issued on 16 September, however, many transactions that rely upon credit enhancement will not only give trustees or agents the ability to replace the enhancer, but also usually have sources of liquidity such as debt service reserve accounts to bridge borrowers to such replacements.

But Lehman's collapse, as well as associated uncertainty in credit markets, has pressured generators to lock in access to liquidity. Reliant Energy and Calpine rushed to access bank debt, the former by raising a new loan and preferred equity from Goldman Sachs and First Reserve, the latter by drawing on an existing credit line. Lehman Brothers Commercial Paper provided $70 million of Dynegy's $1.15 billion revolving credit, as well as an $850 million letter of credit facility, though Dynegy stressed that it had ample liquidity from other sources.

The recovery of the US power sector from its post-Enron nadir was highly dependent on the support of large investment banks. Commercial banks had been preferred letter of credit providers before Enron's fall, but had suffered heavy losses as the power market collapsed. Investment banks, with substantial proprietary trading operations, promised to provide merchant generators with the substantial credit support they required to operate in deregulated energy markets.

Goldman Sachs and Morgan Stanley, the leaders, soon found themselves sharing the field with the likes of Lehman, Merrill Lynch, Barclays Capital, Credit Suisse, Bear Stearns, UBS (which bought Enron's trading operations), RBS and Fortis. The banks provided both physical and financial hedges to the large generators, as well as leveraged acquisitions of distressed power plants. They were not alone, since oil companies such as Shell also provided hedges, and Constellation Energy was also an active power trader. But Constellation's rushed, and disputed, sale to MidAmerican Energy demonstrates how drastic the results of a loss of confidence in a hedge provider can be.

Lehman Brothers Commodity Services was counterparty to several power and oil and gas financings as an offtaker or hedge provider. Its bankruptcy has already led to several downgrades of gas pre-pay transactions. Arcapita's Bosque acquisition and conversion financing is one of the first project deals to be exposed to the bankruptcy. The B1-rated (Moody's) financing, which closed in December 2007, and was led by Credit Suisse, involves the acquisition, from an LS Power-owned special purpose vehicle, of both simple (315MW) and combined-cycle (245MW) gas-fired generating units, and the conversion of the simple-cycle units to combined cycle.

The hedge is over the existing combined-cycle unit, will cover 30% of the project's capacity after conversion, and was expected to provide 50% of the plant's gross margin this year. The hedge runs until 2010, but Lehman's bankruptcy means that the provider may not be willing or able to make good on its obligations, or may have to post collateral in connection with the hedge agreement.

The only positive development for generators, is that they have increasingly offered hedge providers asset pledges instead of posting collateral in their favour. In the event that market conditions improve a generator would normally have to post higher collateral, because a hedge counterparty's exposure to it would be much greater. An asset pledge recognises that in such an event the value of an asset would also increase beyond what is necessary to satisfy lenders, and this excess can be hedged to a counterparty. But such right way risk, while lessening the need for generators to raise additional liquidity, still does not help them manage the risk of a counterparty collapsing.