Clean Development MechanismOverview and Concepts

Bridget McIntoshClimate Change/Energy Specialist working with Cambodian Climate Change Project

National Workshop on Capacity Development for the Clean Development Mechanism

26-27 March 2003

Presentation Outline

CDM Context within the Kyoto Protocol Overview of CDM

Eligible Projects Basic Rules & Processes Baselines Sustainable Development CDM Concepts - Developing Projects

What does the CDM mean for Cambodia? Opportunities Reality and Issues with CDM Next Steps

CDM Context

The Kyoto Protocol commits industrialized countries to legally binding GHG reduction targets during the period 2008-2012

Most countries have to reduce GHG emissions on ave 5% below their 1990 emission levels results in a global target of ‘carbon’ reduction

These countries can choose to reduce emissions ‘at home’ in their own country in other countries

Reducing emissions in Developing Countries is eligible – known as CDM

Overview of CDM

CDM – Clean Development Mechanism A mechanism by which Industrialised Nations

can achieve part of their reduction obligations through projects that reduce or fix/sequester carbon in Developing Countries.

The Certified Emission Reductions (CERs) are a unit of carbon that is reduced or sequestered.

Industrialised Nations can submit their CERs to meet their target in 2008-2012. there is a worldwide demand for projects and

activities for ‘carbon’ reduction or fixation Many of these projects will be in Developing

Countries.

CDM Concept

Developed Country

Govt and companies want to reduce GHG emissions Invest in their own

country Invest in a project in

Developing Country

Developing Country Many opportunities

for projects that reduce emissions eg Forestry planting Renewable electricity Energy efficiency Clean transport Biomass energy

Project Produces CERs

Investment

CERs

$

Purpose of CDM

1. to assist developing countries in achieving sustainable development

2. to assist developed countries in achieving compliance with part of their quantified emission reduction commitments.

Types of CDM Projects

Energy efficiency End use improvements Supply-side improvements

Renewable energy Methane reduction eg landfill gas capture Fuel switching Agriculture (CH4 and N20) Industrial processes Sequestration/sinks – only afforestation

and reforestation

CDM Project Examples

End-use energy efficiency

High efficient lighting; efficient cook stoves; vehicle efficiency

Supply-side energy efficiency

High efficiency turbine replacement; combine cycle

Renewable energy

Biomass; Solar; Wind; Hydro

Fuel switching Gas conversion Biofuels replace fossil fuels

Forestry Afforestration; ReforestationCommunity forestry

Agriculture Intermittent ricefield irrigation

Summary of basic CDM Rules

Baseline Concepts

The baseline is a measure of emissions that would have occurred in absence of project

Used to estimate emission reductions for project – basis for CERs On a project by project basis

Standard baselines for small scale projects 15 MW renewable energy 15GWh energy efficiency

Baseline Methodologies

3 main accepted methodologies approved on the basis of:- Status Quo - future emissions would been the

same as current/historic emissions Market Conditions - the technology used in the

market is the baseline and market barriers prevent new technology being adopted

Best Available Technology - for markets where conditions are changing, historic emissions are less relevant – assume emissions for the technology that would have been installed

Baseline Examples

Project Baseline Approach Type of CDM Baseline

3 Micro-hydro Guatemala

The 3 communities did not have access to electricity, so emission reduction based on displacement of kerosene

Market Conditions(technology used is the baseline)

Biomass power plant El Salvador

Current electricity is fossil fuels and future additions would be similar. Current emissions used as baseline.

Status Quo

Wind Power, Honduras

This project is displacing the need for a new thermal plant. Emission reductions based on average emissions of typical thermal plants in previous 5 years + performance in top 20%

Best Available Technology

Basic Rules for CDM Emission reductions from CDM project must be

additional in developing country Use of CERs can only supplement emission reduction

at home in developed countries CDM projects must:-

be approved by the host country lead to sustainable development in host country result in real, measurable and long-term benefits in terms

of climate change Money for CDM projects not divert Official

Development Assistance (ODA) Nuclear power projects are not eligible Only afforestation and reforestation allowed

Small Scale CDM Projects

Simplified rules for small scale projectsSimplified baseline methodology, reduced

validation and registration requirements; exemption from adaptation and admin fees

Examples includeHome Bigoas (cooking and lighting).

Replace KeroseneEfficient woodstovesMini-grid renewable energy

CDM ChecklistProject approved by National Authority? - consistent with Sustainable Development - consistent with national + local development priorities; - no negative environment impact;- has local support

Project results in real, measurable +

long-term emission

reductions?

Project leads to transfer of new, environmentally efficient technologies or management practices?

Are the emission reductions additional?

The project does not divert ODA.

Project validated, registered monitored, verified and

certified?

Project started after 1 Jan 2000 + submitted by 31

Dec 2005?

CERs Certified Emission

Reductions

Sustainable Development Criteria Social Criteria

Improves quality of life Alleviates poverty Improves Equity

Economic Criteria Provides financial returns to local entities Results in new investments Transfers new technology

Environmental Criteria Reduces GHG and use of fossil fuels Conserves local resources Reduces pressure on local environments Provides health and environmental benefits

How does CDM work in practice?

CDM Concept

Developed Country

Govt and companies must reduce GHG emissions Invest in their own

country Invest in a project in

Developing Country

Developing Country Many opportunities

for projects that reduce emissions eg Forestry planting Renewable electricity Energy efficiency Clean transport Biomass energy

Project Produces CERs

Investment

CERs

$

CDM Project InvestmentPROJECT

$9 millionhas emission reductions and

eligible to produce CERs

CERs$500,00

0

Project Investors/Financiers:-

International or Local Developers/Financiers

Cambodian Government

International Governments

Multilateral Agencies eg World Bank; ADB

CDM Investors/Buyers:- Multilateral CDM Funds

eg PCF; CERUPT Annex 1 Governments Private Companies eg

Shell Non-Annex 1

Governments Brokers/Traders

$$

CDM Investment Structures Full or partial equity in project

CER ownership becomes annex to the normal financing agreement

Usually investing for more than just CERs Financial contribution

Usually upfront payment and takes ‘rights’ to CERs as they are produced

Normally not more than 10% project cost Loan

Company provides loan at concessional rates in return for CERs eg payment of interest in CERs

CER Purchase Agreement Company buys CERs as they are produced Becomes additional income stream to project finance

CDM examples

Project Project Cost

CER Partner

Basis of contribution

Structure

Wind Farm Honduras

$58m $4.05m CER sale @ $3.50/ton

Annual CER Purchase for 10 years

3 Micro-hydro Guatemala

$320,000

$15,000 Value of 4,755 tonnes over 10 yrs

Upfront payment

Biomass power plant Nicaragua

$2.3m $0.4m Financing of climate friendly component

10% pre; 40% finance; balance = $ for 5 years

Run-of river Hydro plant Chile

$34m $3.4m 10% total cost

Initial payment + ongoing CER purchase

Case Study

3.65 MW micro hydro project Indonesia Project offsetting diesel generation – 18,500t $9.89m capital cost; $0.4m operating costs Project executed by IBEKA a local institute 16.5% IRR without CDM; 18.2% w CER @$5 Investment plan:-

Up to 70% of project capital through long term loan from financial institution; rest through equity

CDM investor options:-- Long term CER purchase agreement- Equity (JV partner) + commitment to buy CERs- Soft loan against realisation of CERs

CDM Case Study

Any Country looking for CDM

Project CDM Project Partner

Long term CER purchase agreement

Equity in project Soft loan upfront in

return for CERs later

Indonesia CDM Project

3.65MW hydro $9.89m capital cost $0.4m operating costs Project offsetting diesel

emissions Likely 18,500 CERs basic CER value

$92,500

looking for CDM Partner

Investment

CERs

$

Choosing a Host Countrywhat do investors want?1. Clear CDM Policy

Willingness for investment in CDM projects

Transparent and clear processes, Quick and smooth government approval

Time, effort and resources to complete deal

2. Secure investor climate Political and economically stability

What could occur that could affect investment?

3. Sound Techno-Economic potential

Based on report conducted by Point Carbon www.pointcarbon.com

What does CDM mean for Cambodia?

Opportunities of CDM CDM encourages developed countries to

undertake GHG reduction projects in developing countries. Increased investment flows Attract capital for less carbon-intensive projects Technology transfer

Assist in development priorities and sustainable development goals Create new industries in environmentally sustainable

technologies Poverty alleviation through income and employment Assist in improving current and future environment

(including air quality

CDM in Cambodia Governments, Project Developers and Brokers

are seeking out CERs and emission reduction projects.

Emission reduction projects exist in Cambodia in many sectors:- Transport – establish intercity/intra-city transport Forestry – community forestry, replanting Energy –

- renewable energy (particularly in rural areas)- Installation of cleaner technology (cogeneration)- Energy usage – energy efficient technologies; building

design Waste management – capture of methane

Reality + Issues w CDM

CDM may tend towards large CDM Projects High transaction costs with CDM projects

PCF experience = $270,000 per project transaction costs similar for small or large projects

Solution - bundle small projects togethereg association of community forestry; many small scale hydro

projects

Larger developing countries more attractive infrastructure & institution to deal w large projects Larger market = ability to do many similar projects Spreads the upfront cost in learning local conditions;

securing suppliers, local management, financial, legal and contractual processes

CDM Transaction Costs

Preparation and review of the Project

Validation process

Project Appraisal and Negotiation

Periodic verification & certification

Construction and start up

Project completion

3 months

2 months

2 m

onth

s

3 months

1-3 years

Up

to 2

1 ye

ars

• Upstream Due Diligence, carbon risk assessment and documentation: $ 40K

• Baseline : $20 K• Monitoring Plan: $20K

• Contract, Processing •and documentation: $30k

Total through Negotiations

• Initial verification at start-up: $25K

• Verification: $10-25 K• Supervision: $10-20K

Based on presentation from Ken Newcombe, PCF Fund Manager COP 8 www.prototypecarbon.com

All expenses

$265 K

Reality + Issues w CDM (2)

CDM will be a competitive marketRestricted without the USLimit on amount of CERs developed

countries can use towards target (~20%)

larger projects with low risk and smooth approval/transaction procedures will be preferred

May limit opportunities in least developed countries

Reality + Issues w CDM (3)

Preparation of developing countries poor co-ordination among Ministries internal conflict over approvals

Only 12 National Authorities registered

Capacity of developing countriesWeak knowledge of CDM at all levels

policy-makers, businesses, finance + legal institutions, NGOs

Summary

CDM presents an opportunity for Cambodia developing energy infrastructure; forestry is significant activity

worldwide increased demand for projects that reduce emissions win-win situation for both parties

Cambodia must be prepared need an approval body + smooth and transparent

approval process need a ‘pipeline’ of projects for investors when they

come investigating Need to improve investor climate

Acronymns

CDM – Clean Development Mechanism CER – Certified Emission Reductions

A standard unit of greenhouse reduction or sink PCF – Prototype Carbon Fund

World Bank CER Fund ODA – Official Development Assistance

Part of 0.07% govt aid IRR – Internal Rate of Return DNA – Designated National Authority

The national body who assess +/or approves CDM projects

Acronyms

Annex 1 countries 36 industrialised countries and economies in

transitions listed in Annex 1 of the convention who can invest in CDM projects. These countries have emission reduction obligations.

Non - Annex 1 countries The countries who are not listed in Annex 1

of the Convention and who can host CDM projects