My way
You can't use the term ?project finance' in the presence of Calpine
Senior Vice-President for Finance Robert D. Kelly. ?The financial
model we use is a form of project finance. But we call it
construction financing rather than project finance and it shares
few of the characteristics of traditional project finance.
?The banks lend to the projects, and then we take it out in the long-term capital markets at the Calpine Corporation level. Today, we have $3.5 billion of construction project finance available in the form of revolving project finance ? which is a misnomer in itself. And as you use that capital and the plants are built, you convert at the corporate level using a shelf, debt or equity ? or whatever is the attractive product of the day.?
Kelly says Calpine has looked at the market from a number of vantage points. ?We have talked about whether it is better to finance a region or to finance as Calpine Corporation, the nation-wide power company. Every single provider of capital I talk to says to finance as the corporate because none of us is smart enough to figure out what is the best region to invest in and lend against. You are taking regional market risk on a commodity product.? The presence of Calpine in 31 states allows spreading of risk.
On October 18, Calpine Corp. filed with regulators to sell up to $1.15 billion in common and preferred stock and debt securities. Proceeds from the shelf offering will be used to finance power projects under development or construction, as well as for working capital and general corporate purposes. The shelf registration will allow Calpine to sell securities from time to time in one or more separate offering, at prices and on terms to be determined at the time of the sale.
?We put up a universal shelf to get the market conditioned that we will always have a shelf out there to raise capital ? debt, equity, preferreds, whatever ? on the most efficient basis. With our capital programme, we will be in the debt markets for $1 billion a year for the next four years. So this just allows us to hit the markets quickly.? Calpine will choose underwriters when a deal goes to the market.
Calpine also has two revolving credit facilities in place. In late July, Calpine closed a $2.5 billion revolving construction credit facility with a consortium of banks, including Bank of Nova Scotia and Credit Suisse First Boston (CSFB) as lead arrangers. CIBC , ING (US) Capital, Bank of America, TD
Securities, Bayerische Landesbank, and Dresdner Bank will serve as co-arrangers. The four-year construction facility will be refinanced in the longer-term capital markets prior to its maturity: Calpine entered into a similar $1 billion four-year revolving construction credit facility in November 1999 with the same lead arrangers.
?Those deals are constructed as portfolio financings. But they allow multiple financings to occur. In traditional project finance when you pay it down, that's it. But we re-borrow as we bring in the next plant. Essentially, what we try to do is commoditise the product ? a power plant. We convince the lenders that the product is a commodity in that it is a standard design. So we are basically constructing plants in a circle. Even though we've got $3.5 billion in capital here, we will probably use it three times. That allows us to finance 50-plus plants instead of 12 plants. So you've done one project financing and you can use the money three times. You've saved a lot of money.
?I think the old recourse model is dead. I've been a strong proponent of that concept because if you look at the old business, it was basically a financing business where you had a long-term power contract and you financed it. Those who had the lowest cost of capital had the best economic returns. The industry has changed considerably in that it is now a business whose elementary characteristics are different than they were for project finance.
?For instance, let's start with the basic unit of power sales. In the old days, the basic unit was the power plant ? a single asset. Today the business unit is the power system ? multiple plants in an electric region. Power also is sold differently, with short-term and medium-term contracts, and you manage those sales the way any other business would manage sales.
?Compare that to the business characteristics of project finance. Project finance is single asset, single contract with a 20-year term. So you find a mismatch there. On the revenue side it's an entirely different business. Move down to the gas purchasing side. You used to have single gas contract. It was really an operating risk ? which is exactly what project finance is. Now you have a multiplicity of revenue and you can't match revenues and gas exactly. You're managing your gross profit ? or spark spread as they call it in the industry. Because you can't match the two exactly, the concept goes entirely against the structure of traditional project finance.
?Even on an operating level, we might have one plant manager for three plants because those three are all in our system. And we might have one set of inventory instead of 10 inventories for things like blades and rotors. For project finance, backup equipment requirements include extra equipment for each plant. We have multiple plants. From the standpoint of purchasing, producing power and selling power, the business characteristics do not match those of project finance.?
Kelly says the development phase of the business is the most important part of the process. In any commodity market where there is a lack of infrastructure and capital to develop that foundation, a successful company must have the ability to gauge the market and move in quickly. ?First mover advantage and project finance do not match. In project finance, all the t's are crossed, all the i's are dotted, and then the lender funds.?
He adds that using the Calpine model, the company might purchase land and large quantities of turbines separately. ?You never did that in project finance. In project finance, you structured your deal and then went to General Electric to purchase a turbine. ?Today, we'll go out and buy 200 turbines. Not all t's and i's will be crossed and dotted by the time we're ready. We make decisions based on what we call no fatal flaws. We know we can get financing. But even though it might take some time, we're positive we can access capital, so proceeding with a project is not a big deal.
This approach is not financable under the project finance paradigm. So that's one reason we moved away from project finance.
The other reason is that the project finance market is not large enough to support all US infrastructure requirements. ?If we were to syndicate our $2.5 billion construction finance loan ? which we refer to as ?the deuce' and which I call quasi-project finance ? there would not be enough lenders. We need a blending of project finance principles with corporate finance concepts to get lenders.
?There aren't enough banks out there. Say there are 50 to 75 core lenders ? and that number may be high. Let's take 50 even though there may not be that many just to do the math. That's an average of $75 million per bank, a sizeable chunk for one customer. And we work very hard to make sure that it all gets distributed. One of the lessons I've learned in this $2.5 billion syndication and some of the other things we're doing, is that we are some of those banks' major customer. So where do you go to grow the business? That's the reason we migrated the business to the capital markets. The bond market is huge. And we are looking into the commercial paper market and the money market. And we need to continue to access larger and larger amounts from the capital markets.?
Kelly says Calpine's corporate goal is to grow the business to 40,000MW within four years. ?At $500 per KW, that means a $20 billion organisation from $7 billion today. Simple math tells you we have to raise $13 billion. If we tried to do this using project finance, we could never grow the company that large.
?We have financed 18 power plants in the last 9 months. Two plants over six months is good in the project finance world.? Even straining company resources, as well as those of the banking and legal communities, independent engineers, and power consultants and gas consultants, Calpine could never keep up the building pace with a project finance model, according to Kelly. ?We have been able to commoditise and standardise so-called project finance and that is what has allowed the velocity of money into these deals,? he adds.
?Before we did the first construction facility, we wondered how we were going to project finance all these projects. We realised we just couldn't do it and had to come up with another way. We brought a couple of banks in and they said you can't do this and you can't do that. This is how it's done, they told us. We said that the old way wouldn't work.
?We slowly worked on the banks. We had a standing joke in meetings with CSFB and Bank of Nova Scotia. We brought them in and said this is how we want to do it. And each time you mention the phrase project finance in any of our discussions, you have to throw five dollars into the pot. At the end of the second day, we could eat very well with what was in the pot. It was difficult getting banks away from the characteristics of project finance and to think of the market a little differently. After all, the old model was what they had grown up with. We had to completely re-educate the banks to the market.?
Kelly says European lenders have been more flexible than their US counterparts. ?I think US banks are capital constrained, and worried about how they are going to make more money ? after all, project finance has been a fairly lucrative business. For example, we were customers of Bank of America and NationsBank. They merge and want to cut their exposure in half. When we were over in Germany, we had 15 or 20 banks in a room talking about the ?deuce'. Lenders liked our programme and they had capital they wanted to put to work. We got the same kind of excellent response in the UK. And if you look at the line-up of our banks, you'll find they are mostly European and UK based as well as Canadian lenders.
?CSFB and Bank of Nova Scotia are at the top of our lenders list and they were in on the architecture of our construction loans. Morgan Stanley has come in on the capital markets side but didn't do too much for us on the project side. Toronto Dominion and ING Barings were two very active players in the project finance business, but recognised that the business was changing. So we started with that core and worked down to the next core level. We tried to marry up with Chase because it is a big player in the business and we are becoming a big player in the business.
?I brought Chase in and discussed our concepts with them. Chase said, ?No, this is not how it's done.' I said, ?Do you realise that you just told me this is not how the customer needs to have it done? You are trying to put a square peg in a round hole. Your concept is very nice but it doesn't work for us.' Chase has never been a player in any of our deals for that reason. And in my mind they will continue to struggle with us as a customer until they flip it around and understand characteristics of the business ? what the customer requires ? and provide a product to meet those criteria.
?CSFB, ING Barings and Scotia listened to us and understood our requirements right away. Citibank is in the ?deuce' as a co-arranger. But their view was that they were being left behind. They needed to be in our deal because of the Citibank-Salomon Smith Barney (SSB) push-pull strategy, in which one entity lends money and the other takes it out in the capital markets. SSB was being left out of the capital markets piece because they weren't in the bank deal. And they were trying to argue with me about two separate balance sheets.
?I just need the money and I don't care whose balance sheet it comes off. I've been right up front with them and it's been interesting that I am a customer of one but not of the other. But they are getting there, and we'll see how the relationship evolves. CIBC is also a big player. It has been a strong supporter with a little bigger push on the capital markets side than the lending side.
?If I don't have the money up-front, I don't have to worry about taking it out. I also don't have money to build power plants. So our philosophy has been, send money first then we'll talk about taking it out in the capital markets. That's the financial model we use.?
?The banks lend to the projects, and then we take it out in the long-term capital markets at the Calpine Corporation level. Today, we have $3.5 billion of construction project finance available in the form of revolving project finance ? which is a misnomer in itself. And as you use that capital and the plants are built, you convert at the corporate level using a shelf, debt or equity ? or whatever is the attractive product of the day.?
Kelly says Calpine has looked at the market from a number of vantage points. ?We have talked about whether it is better to finance a region or to finance as Calpine Corporation, the nation-wide power company. Every single provider of capital I talk to says to finance as the corporate because none of us is smart enough to figure out what is the best region to invest in and lend against. You are taking regional market risk on a commodity product.? The presence of Calpine in 31 states allows spreading of risk.
On October 18, Calpine Corp. filed with regulators to sell up to $1.15 billion in common and preferred stock and debt securities. Proceeds from the shelf offering will be used to finance power projects under development or construction, as well as for working capital and general corporate purposes. The shelf registration will allow Calpine to sell securities from time to time in one or more separate offering, at prices and on terms to be determined at the time of the sale.
?We put up a universal shelf to get the market conditioned that we will always have a shelf out there to raise capital ? debt, equity, preferreds, whatever ? on the most efficient basis. With our capital programme, we will be in the debt markets for $1 billion a year for the next four years. So this just allows us to hit the markets quickly.? Calpine will choose underwriters when a deal goes to the market.
Calpine also has two revolving credit facilities in place. In late July, Calpine closed a $2.5 billion revolving construction credit facility with a consortium of banks, including Bank of Nova Scotia and Credit Suisse First Boston (CSFB) as lead arrangers. CIBC , ING (US) Capital, Bank of America, TD
Securities, Bayerische Landesbank, and Dresdner Bank will serve as co-arrangers. The four-year construction facility will be refinanced in the longer-term capital markets prior to its maturity: Calpine entered into a similar $1 billion four-year revolving construction credit facility in November 1999 with the same lead arrangers.
?Those deals are constructed as portfolio financings. But they allow multiple financings to occur. In traditional project finance when you pay it down, that's it. But we re-borrow as we bring in the next plant. Essentially, what we try to do is commoditise the product ? a power plant. We convince the lenders that the product is a commodity in that it is a standard design. So we are basically constructing plants in a circle. Even though we've got $3.5 billion in capital here, we will probably use it three times. That allows us to finance 50-plus plants instead of 12 plants. So you've done one project financing and you can use the money three times. You've saved a lot of money.
?I think the old recourse model is dead. I've been a strong proponent of that concept because if you look at the old business, it was basically a financing business where you had a long-term power contract and you financed it. Those who had the lowest cost of capital had the best economic returns. The industry has changed considerably in that it is now a business whose elementary characteristics are different than they were for project finance.
?For instance, let's start with the basic unit of power sales. In the old days, the basic unit was the power plant ? a single asset. Today the business unit is the power system ? multiple plants in an electric region. Power also is sold differently, with short-term and medium-term contracts, and you manage those sales the way any other business would manage sales.
?Compare that to the business characteristics of project finance. Project finance is single asset, single contract with a 20-year term. So you find a mismatch there. On the revenue side it's an entirely different business. Move down to the gas purchasing side. You used to have single gas contract. It was really an operating risk ? which is exactly what project finance is. Now you have a multiplicity of revenue and you can't match revenues and gas exactly. You're managing your gross profit ? or spark spread as they call it in the industry. Because you can't match the two exactly, the concept goes entirely against the structure of traditional project finance.
?Even on an operating level, we might have one plant manager for three plants because those three are all in our system. And we might have one set of inventory instead of 10 inventories for things like blades and rotors. For project finance, backup equipment requirements include extra equipment for each plant. We have multiple plants. From the standpoint of purchasing, producing power and selling power, the business characteristics do not match those of project finance.?
Kelly says the development phase of the business is the most important part of the process. In any commodity market where there is a lack of infrastructure and capital to develop that foundation, a successful company must have the ability to gauge the market and move in quickly. ?First mover advantage and project finance do not match. In project finance, all the t's are crossed, all the i's are dotted, and then the lender funds.?
He adds that using the Calpine model, the company might purchase land and large quantities of turbines separately. ?You never did that in project finance. In project finance, you structured your deal and then went to General Electric to purchase a turbine. ?Today, we'll go out and buy 200 turbines. Not all t's and i's will be crossed and dotted by the time we're ready. We make decisions based on what we call no fatal flaws. We know we can get financing. But even though it might take some time, we're positive we can access capital, so proceeding with a project is not a big deal.
This approach is not financable under the project finance paradigm. So that's one reason we moved away from project finance.
The other reason is that the project finance market is not large enough to support all US infrastructure requirements. ?If we were to syndicate our $2.5 billion construction finance loan ? which we refer to as ?the deuce' and which I call quasi-project finance ? there would not be enough lenders. We need a blending of project finance principles with corporate finance concepts to get lenders.
?There aren't enough banks out there. Say there are 50 to 75 core lenders ? and that number may be high. Let's take 50 even though there may not be that many just to do the math. That's an average of $75 million per bank, a sizeable chunk for one customer. And we work very hard to make sure that it all gets distributed. One of the lessons I've learned in this $2.5 billion syndication and some of the other things we're doing, is that we are some of those banks' major customer. So where do you go to grow the business? That's the reason we migrated the business to the capital markets. The bond market is huge. And we are looking into the commercial paper market and the money market. And we need to continue to access larger and larger amounts from the capital markets.?
Kelly says Calpine's corporate goal is to grow the business to 40,000MW within four years. ?At $500 per KW, that means a $20 billion organisation from $7 billion today. Simple math tells you we have to raise $13 billion. If we tried to do this using project finance, we could never grow the company that large.
?We have financed 18 power plants in the last 9 months. Two plants over six months is good in the project finance world.? Even straining company resources, as well as those of the banking and legal communities, independent engineers, and power consultants and gas consultants, Calpine could never keep up the building pace with a project finance model, according to Kelly. ?We have been able to commoditise and standardise so-called project finance and that is what has allowed the velocity of money into these deals,? he adds.
?Before we did the first construction facility, we wondered how we were going to project finance all these projects. We realised we just couldn't do it and had to come up with another way. We brought a couple of banks in and they said you can't do this and you can't do that. This is how it's done, they told us. We said that the old way wouldn't work.
?We slowly worked on the banks. We had a standing joke in meetings with CSFB and Bank of Nova Scotia. We brought them in and said this is how we want to do it. And each time you mention the phrase project finance in any of our discussions, you have to throw five dollars into the pot. At the end of the second day, we could eat very well with what was in the pot. It was difficult getting banks away from the characteristics of project finance and to think of the market a little differently. After all, the old model was what they had grown up with. We had to completely re-educate the banks to the market.?
Kelly says European lenders have been more flexible than their US counterparts. ?I think US banks are capital constrained, and worried about how they are going to make more money ? after all, project finance has been a fairly lucrative business. For example, we were customers of Bank of America and NationsBank. They merge and want to cut their exposure in half. When we were over in Germany, we had 15 or 20 banks in a room talking about the ?deuce'. Lenders liked our programme and they had capital they wanted to put to work. We got the same kind of excellent response in the UK. And if you look at the line-up of our banks, you'll find they are mostly European and UK based as well as Canadian lenders.
?CSFB and Bank of Nova Scotia are at the top of our lenders list and they were in on the architecture of our construction loans. Morgan Stanley has come in on the capital markets side but didn't do too much for us on the project side. Toronto Dominion and ING Barings were two very active players in the project finance business, but recognised that the business was changing. So we started with that core and worked down to the next core level. We tried to marry up with Chase because it is a big player in the business and we are becoming a big player in the business.
?I brought Chase in and discussed our concepts with them. Chase said, ?No, this is not how it's done.' I said, ?Do you realise that you just told me this is not how the customer needs to have it done? You are trying to put a square peg in a round hole. Your concept is very nice but it doesn't work for us.' Chase has never been a player in any of our deals for that reason. And in my mind they will continue to struggle with us as a customer until they flip it around and understand characteristics of the business ? what the customer requires ? and provide a product to meet those criteria.
?CSFB, ING Barings and Scotia listened to us and understood our requirements right away. Citibank is in the ?deuce' as a co-arranger. But their view was that they were being left behind. They needed to be in our deal because of the Citibank-Salomon Smith Barney (SSB) push-pull strategy, in which one entity lends money and the other takes it out in the capital markets. SSB was being left out of the capital markets piece because they weren't in the bank deal. And they were trying to argue with me about two separate balance sheets.
?I just need the money and I don't care whose balance sheet it comes off. I've been right up front with them and it's been interesting that I am a customer of one but not of the other. But they are getting there, and we'll see how the relationship evolves. CIBC is also a big player. It has been a strong supporter with a little bigger push on the capital markets side than the lending side.
?If I don't have the money up-front, I don't have to worry about taking it out. I also don't have money to build power plants. So our philosophy has been, send money first then we'll talk about taking it out in the capital markets. That's the financial model we use.?
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