Suggestions for improvement
of Benchmark Analysis
CDM/JI
Sustainable
Development
M４U
Investment
Finance
M4U
Advisory Service on Clean Development Mechanism and Financing for Sustainability
MASUDA, Masato President of M4U Limited
on Dec.5, 2004 at Workshop “CDM Methodologies and Project design” in Buenos Aires
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organized and supported by the Carbon Finance Business of the World Bank
Weighted Average Capital Cost
(WACC)
• M4U proposed WACC as Benchmark on
•
•
Additionality Tool to the CDM EB.
Additionality Tool accepts WACC as “company
internal benchmark” on condition that:
“there is only one potential project developer”
and
“The project developers shall demonstrate that
this benchmark has been consistently used in the
past”.
The condition is too strict for many project
participants to use WACC as Benchmark.
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WACC as General Benchmark
• WACC is the most common concept of a hurdle
rate reflecting financial effects of investment.
WACC = Equity Cost X E/(D+E)
+ Debt Cost X D/(D+E) X (1 - T)
where
Equity Cost:
government bond rate + β (average return
in the equity market - government bond rate),
herein β is to be determined as sensitivity of return on a
company against average return in the equity market
Debt Cost:
cost of bank finance and/or bond issuing
E:
equity value at the market
D:
debt value
T:
tax rate
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Past Usage is Not Important
• WACC should be used as general benchmark
regardless of the past usage of the participant.
Equity Cost
Project
Activity
Equity
Investment
Equity Cash Inflow
Project Sponsor
（Tax-adjusted
Equity IRR ＞
WACC ?）
Ta
x
Equity Providers
Capita
l
Debt Providers
Debt Cost
IF Tax-adjusted Equity IRR > WACC, then Equity
Investment is financially acceptable,
IF Tax-adjusted Equity IRR =< WACC, then Equity
Investment is NOT financially acceptable
where
Tax-adjusted Equity IRR: IRR of (equity cash inflow X (1 - T)),
because usually NOPAT/CE is compared with WACC
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WACC for Participant-specific or
Sector/Market ?
• WACC is derived from non-confidential data which
•
•
•
•
is usually available in the market.
WACC can be estimated not only for a company
but also for a sector or the national market.
Tool says “benchmark is to represent standard
return in the market”.
Why should WACC be connected to a specific
developer or participant ?
Will any problem arise if WACC for Sector/Market
is accepted ?
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Misleading WACC
• WACC might be misleading if Data is unreliable or
Market is distorted by regulation, interference, etc.
• Common Practice Analysis in Tool will prevent the
misleading usage of WACC for participants, Sector
and Market.
• If WACC presented by participants is apparently
misleading, an independent financial expert should
estimate the most likely WACC or propose other
benchmark.
6
Standard Benchmark
• Is WACC popular in Host Countries ?
• To promote CDM projects it is suggested:
(1) Standard Benchmark for Sector/Market should be
established by EB on request of Host Country,
(2) A panel/WG comprising of financial experts
should be organized and
(3) Standard Benchmarks should be recommended
initially and reviewed periodically by the Panel/WG
before EB’s decisions.
• Systematic introduction of Standard Benchmarks
could help reducing uncertainty and avoid
increasing Transaction Cost.
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Thank You !
Muchas Gracias !
M4U Limited
Advisory Service on
Clean Development Mechanism & Financing for Sustainability
9th Fl. AIG Bldg., 1-1-3, Marunouchi
Chiyoda-ku, Tokyo 100-0005, JAPAN
E-mail: [email protected]
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