EnerTech has completed its debut debt financing for its Rialto waste processing project. The $160 million financing is notable not only for featuring new and unproven technology, but also for dispensing with cash equity contributions from the developer. For municipalities looking for a cleaner way of disposing of their municipal waste, the project, and its financing, offers a tempting solution.

EnerTech uses a process it calls SlurryCarb to apply a mixture of heat and pressure to biosolids, and thus dry them in a less energy-intensive fashion. The resulting product, which EnerTech calls E-Fuel, has a high calorific content, and can be burned in any facility that runs on bituminous coal.

But the sales of fuel are not central to the project's economics. Mitsubishi Cement will buy the E-Fuel, which commands a small discount to fuel with a similar calorific content, but revenues under this agreement will account for maybe 10% of the Rialto project's total revenues.

The project has an anchor agreement in place with the city of Rialto, where the plant is located, under which the project will occupy the same site as the city's treatment works and will take all of its waste in return for a tipping fee. It has signed similar contracts to process waste from the cities of Riverside and San Bernardino, taking substantially all of their waste. Los Angeles and Orange counties have signed contracts to supply 150 tonnes per day, a small but significant proportion.

The Rialto project has contracts in place to process 683 tonnes per day, and a design capacity of 750 tonnes. The waste will be brought to the project using trucks under contract both to the suppliers and the project. Permitting the truck routes were as complex a part of gaining approvals under the California Environmental Quality Act process as ensuring the plant's process met the necessary standards.

In 2004, the developer raised some series A venture capital funding, at a corporate level, from a technology merchant bank known as Paperboy Ventures. This funding bought Paperboy a stake in EnerTech, and provided funding for the continuing development efforts, but it did not provide sufficient equity to bring Rialto to completion.

In mid-to late 2005, EnerTech had completed the task of signing up municipal waste suppliers. At this stage EnerTech and its then financial adviser, Lehman Brothers, had imagined that the project would be financed with 70% bank debt and 30% equity. The project's relatively untested technology, and the potential for lower interest expense after the project was operational, would have opened the project to a later bond refinancing.

The project had an allocation of roughly $80 million from the California Statewide Communities Development Authority (CSCDA). It also wanted to minimise the amount of outside equity it had to raise. But initial reaction from ratings agencies and potential bond buyers indicated that the project would need to raise much higher levels of equity.

EnerTech approached a number of strategic and private equity investors, including Veolia, which was sceptical about the technology, and Deutsche Bank. While the project did not meet the bank's private equity arm's risk return profile, its municipal finance group came back to the sponsor with a solution that would finance the project using 100% debt.

The solution involves Deutsche underwriting all of the bonds, both taxable and tax-exempt, and relying on a heavy-duty series of structural enhancements to ensure that the bonds stay current up to completion. The designer, and builder of the project under a standard engineering, procurement and construction contract, is HDR. HDR is providing a standard set of liquidated damages and performance guarantees.

The construction contract is valued at $78 million, but the face value of the financing is $160 million, and after an issue discount the developer raises $138.7 million. The transaction is not rated, although the indicative rating given to the earlier deal was BB, and the deal could have been done within the B loan market. The sponsor, after some back and forth, prevailed upon the CSCDA to increase its allocation to $160 million. CSDCA, the issuer, lends the proceeds on to the borrower, a special purpose vehicle that owns the project.

The financing benefits from funded debt service reserve accounts for both the senior and the subordinated debt, as well as an operations and maintenance reserve, and a process reserve, designed to carry the project through to acceptance. The size of these reserves, as well as transaction fees, explains the difference between construction costs and issue size, although the developer was also able to recoup some of the funds it had spent on development up to financial close.

The issue consists of both taxable and tax-exempt debt, with three levels of security. There are two tranches of senior tax-exempt debt, both of which have coupons of 5.5%. One of these, of $124 million, has a maturity of 1 December 2033, and was discounted by $18.3 million, while the second, of $6.125 million, is due on 1 December 2032 and discounted by $903,000. There is a $9 million senior taxable piece with a coupon of 7% due 2016 sold at par, and two subordinated tranches, each with a coupon of 10%, an $11.5 million 2033 piece discounted by $2.18 million, and an $8.7 million 2032 discounted by $1.65 million. The last element to the financing was a third lien taxable tranche of $2.5 million, to which EnerTech subscribed. The senior tax-exempt debt yields 6.25%, and the subordinated debt yields 12%.

EnerTech's return will come in the form of management fees that will reflect the project's ability to make revenues from additional processing activities. The sales of fuel are expected, in part, to service the bonds. More important, for the sponsor, will be signing up additional municipal customers. LA and Orange counties have waste to spare, and other Southern Californian governments could show interest. This would bring with it additional complications, however, since crafting financeable tipping contracts with five different governments was complex enough.

EnerTech California LLC
Status: Closed 2 April 2007
Size: $162.9 million
Location: Rialto, California
Description: 750 tonnes per day waste processing facility
Sponsor: EnerTech
Debt: $131.25 million senior tax-exempt debt, $9 million senior taxable debt, $20.2 million subordinated tax exempt debt, $2.5 million third lien taxable piece.
Bond buyer: Deutsche Bank
EPC contractor: HDR Design Build
Subcontractor: Filanc
Plant operator: North American Energy Services
Sponsor's venture capital adviser: Pacific Growth Equities
Sponsor's permitting consultant: Justice & Associates
Borrower legal: Morrison & Foerster
Issuer bond counsel: Orrick
Lender legal: Milbank Tweed (project documents); Katten Muchin Rosenman (bonds)