The Evolution from Project to Corporate Finance Harvard Case Solution & Analysis

The Evolution from Project to Corporate Finance Case Solution



“The Calpine Corporation” wholly-owned subsidiary of Electrowatt's, which was founded in 1984. Mostly in the business of power generation. Currently, there are 22 operational plants and another 12 that are in the planning stages. $ 1712 million in total assets, $556 million in revenue, and $ 46 million in net profit (8.27 percent of Revenue & 2.70 percent of Assets).

“Calpine Corporation” is a United States based company. It was established in 1984. The name "Calpine" comes from the company's position in California, which is alpine. Calpine has used the project financing to construct the new plants for the first ten-years, but it recently reversed its financial policy.

The IPPs have begun to build new power plants in response to increased opportunity. Calpine chose to depart from its (IPP) roots &venture into the uncharted territory of the merchant power. By 2004 the capacity will have increased from 3,000 to 15,000 megawatts (MW). Calpine needs to acquire or Build up to 25 power-plants at a cost of $6 billion approximately $500,000 per 1000MW” to meet the new goal. They need to finance the 4 generation plants. “Valley of Magic” (Texas) Sutter is a character in the film Sutter (California) South Point of Westbrook (Maine) (Arizona)

U.S. Electric power industry

After automobiles and healthcare, the ‘electric power’ industry was the 3rd largest in the United States. Inadequate generating capacity to keep up with rising demand. During this time, the industry was divided into three categories: generation, bulk transmission, and distribution. By 2015, 45 percent of the US generating capacity would have to be replaced because it was over 25 years old.

Problem Statement

Increase capacity to 15000 MW from 2729 MW, with a $ 6 billion funding requirement at a $ 0.5 million per MW average. Expected returns on investment (ROI) and return on capital (ROC) of 18-22 percent and 10-12 percent, respectively.

Question 1

Prior to1998 project financing strategy proved to be beneficial strategy for the company and yes project financing make sense as it can be seen from the fact that around 1994 and 1998, the Calpine Corporations combined assets grew from $421 million to $1712 million, revenue from $94 million to $556 million, net income from $6 million to $46 million. Calpine followed the design and maintenance of QF power plants using IPP model during this period.To fund each facility, as well as acquisitions of other IPPs, a new subsidiary was created. They were successful as the till end of 1998 they had 22 plants which were operated at the combined capacity of 2729 MW. Apart from this they started a new policy of retiring debts which further reduces the financial burden in the Parent Company. In 1996 they were also able to raise the capital of $317 million by IPO.

Benefits of using project finance

There are a number of advantages to using project financing for power plants with long term power purchase agreements. Long Term PPAs maintain a consistent source of cash flow and are ring fenced from other risks associated with the parent firm, making project financing simple.

. Since Project Company has the privilege of investing on a non-recourse basis, which ensures that the parent entity is not liable repaying affiliate borrowing, there is a low risk of cost overrun. It provide high leverage with little to no recourse on sponsor’s balance sheet as well as higher tax shields, which makes it more appealing to IPP. It provides the opportunity to use debt at lower cost.

Strategy of the company

Repower America become one the US largest and most profitable power generators. Their main focus is on Clear Energy. The physical product is commoditized by vertically integrated power system. Calpine Construction Corporation, a new subsidiary, was formed to reduce lifecycle cost rather than cost of construction. Management of fuel supply and power marketing functions are main requirement of achieving the strategy’s objectives. Other objectives include diversifying credit risk, enhancing product offerings, and identifying best plant location.................

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