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Calpine Corporation

Financing Growth Strategy

How to finance four new power plants that are currently under development?
Project Finance Corporate Finance Hybrid CCFC (revolving construction finance)

Does your choice support the new strategy? Whats the new strategy?

Why CEO Cartwright wants to raise $ 6 bn?


Changing competitive environment The profit opportunity in MPP Magnitude of nationwide investment opportunity Key success factors in capturing the opportunity.

What has been the financing strategy of Calpine? Why was is appropriate?
Used PF
High leverage as tax arbitrage Agency cost: No need for managerial discretion on use of cash flows Debt Overhang. Under investment

Weather using PF would be feasible under regulatory environment and strategy? Analyze alternative financing options.

Is Calpines Historical practice of Project Financing adequate for new growth model?

What were the Key trends in US power Industry? P 2


Regulatory Business Economic Demand and Supply Financing

How has been Calpine competing and doing business? What are it financial strengths?
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The implication for new energy policy was Merchant Plants. Are they an attractive investment opportunity? See Exhibit 5

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How is Calpine organized? P1, 3 &4 What Business and Model of financing company practiced? P1,3&4 What has been the financial position of Calpine? How has been Calpine financing over years PF, Corporate Debt and IPO? P4
Why did calpine finance projects with high leverage? Why did calpine use project finance?
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High Leverage
Low expected cost of financial distress- COFD
Probability (default) X Cost (given default) IPP is contractual bundle and generates large amounts of cash flows All business risks are mitigated well

To capture incremental interest tax shield


Assume 300 mn IPP Difference between 50% and 90% leverage leads to $120 mn in debt $3.3 mn of Additional Interest tax Shield ($120 debt X 7.75% Cost of Debt X 38% tax rate)

Induces agency cost of Debt


Shareowners can force managers to disgorge free cash flow as debt service High leverage induces under investment problem But IPP do not have many growth options & investments other then routing maintenance

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Project Finance
To avoid Debt overhang problem Corporate debt would leave few financing options for further projects Serial Developer Project finance provides capital to new capital providers rather then using time to subsidize senior claimants or dilute more junior claimants.
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What implication did the bid for Pasadena Power plant had on the future business strategy? Future financing strategy ?

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What were the key components of the new strategy?

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How did Calpine envisage to reduce the costs?


Construction O&M Financing Life Cycle Fuel Supply Marketing and Off take management Life cycle cost management

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Evaluate the financing options for the new Strategy. See Term sheets
Project Finance Corporate Finance Revolving Credit Facility

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What criteria should Kelly use to select an option?

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Feasibility Execution or issuance cost Flexibility Refinancing Risk Managerial time and effort

Which of the options are feasible? Which options are more cost effective?

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Other issues
Why is CSFB being so flexible and supportive of Calpines aggressive growth strategy? Dose your chosen financing option change if Cartwright increases the 5 year target to 25000 mw? Would you like to renegotiate specific terms of financing agreements?
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Corporate Strategy

Competitiveness Sustainability

Finance function role and decisions

Financial Markets
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What happened?
Despite Enron debacle and stock price decline, Calpine deal was viewed a success in PF Calpine closed $1bn revolving credit facility on November 3rd 1999 CSFB was lead arranged Oversubscribed by 50% North American Power Deal of the Year by Project Finance Second revolver called CCFC II for $2.5 bn was issued in December 2000
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Raised $9 bn through these two facilities to finance 22 plants Other companies tried the Calpine way but few could match the success Calpine continued to grow rapidly.. See Tn February 2001 Cartwright increase the target to 70000 mw by 2015 Excellent stock market performance See Graph Calpine Debt rating increased to BBB32

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2000-01- Spark Spread increased as Power shortage became more acute and the wholesale electricity price increased by 683% while natural gas price increased by 432% The falling oil prices, Enron Collapse etc brought Calpine stock price and growth strategy down. Stock Price was drawn down to $12 Moody cut bond rating to junk status only two months after awarding an investment grade Calpine cut back growth strategy Overbuilt cause market prices to collapse Calpine plans to complete 27 projects by 2003. Total 26,000 mw a far cry for its 70000 my by 2005 Calpine returned to the project structure for recent transaction as market closed down on power financing.
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