Wind power CEO explains the company will be profitable and will generate cash flow as soon as the first turbine starts turning
Alternative energy has become a hot topic among the general public of late and North American equity investors are increasingly looking for ways to participate in this industry, which will clearly play in an important role in our future. NaiKun Wind Energy Group (TSX: V.NKW, BullBoards) is a listed company working on one of Canada's premier alternative energy projects, one that would help British Columbia to solve its shortfall of locally produced energy. In an interview conducted on March 23, NaiKun Wind Energy Group President and CEO Michael Burns spoke about NaiKun's plans to build a wind farm off the coast of northern British Columbia and how investors can expect a project of this type to generate above-average returns. Excerpts from the discussion follow.
Resourcex: This is an exciting project, what with evidence of global warming now hard to deny and a growing acknowledgement that mankind needs to change its ways for the good of the planet. I think readers would be interested to know why you chose to initiate this project five years ago, before wind energy was such a major topic of discussion in North America.
Michael Burns: I came from the gas business and it was increasingly obvious that the cost of gas was going to price combined cycle gas turbines out of the electric energy business. That was the most common way of providing incremental electric energy in North America five years ago. It was where we were going to get most of our additional energy. But with gas past the $5 mark it became uneconomic. And it was clear that we were going to have to find other ways of doing this. That put things like wind, biomass and nuclear back in the game. That's why when I saw this opportunity it looked like something worth pursuing.
Resourcex: Can you talk about the objectives of the project and its scale?
M. Burns: It's a large project in any one of the five phases, but it's huge in terms of the five phases. If it were built today, the first phase would be the largest offshore wind farm in the world. When all five phases are built in the next ten years it will provide about 10% of British Columbia's total energy. It will put out about six terawatt hours per year and by then B.C. will be using about 60 terawatt hours per year.
Resourcex: So, Phase One alone would be the biggest offshore wind farm in the world?
M. Burns: Yes. There is nothing of that size built offshore in the world. The largest ones are just under 200MW (megawatts).
Resourcex: It is interesting that you would choose to build a wind farm with turbines standing out in the ocean, kilometres from the nearest land? Why that choice?
M. Burns: There are basically three reasons why we would build it out in the ocean. The wind is much better on the sea because it's not interrupted by the topography. Bigger turbines can be installed offshore and they are difficult to install onshore - you just can't do it. And the construction is easier offshore. You can take very large machinery to the site. Taking it over roads and hills would not be possible. So, it's chiefly the quality of the wind, but you get the other bonus in terms of ease of construction.
Resourcex: It all sounds very impressive, but what about the true economic viability of wind farms. Some people claim that without government subsidies, there wouldn't be any wind farms. Realistically, will NaiKun's project be profitable when it is up and running?
M. Burns: The true economic viability of wind farms is going to be controlled and governed by the ability to finance them. They just aren't going to get built until the economics are well understood. This project will not get financed until we have a 40-year off-take agreement from a triple-A credit such as B.C. Hydro. We are not going to be in a situation where the wind farm gets built and proves to be uneconomic, so there is not that danger. In terms of subsidies, there is a modest subsidy in Canada - about one cent per kilowatt hour for most wind farms. It's about a quarter to a third of subsidies offered in the U.S. But large, efficient farms like ours don't need more subsidies than that. That's adequate with the prices we are forecasting for the off-take agreement and will provide a mid-teens return to equity-holders in the project.
Resourcex: At this point of the development process you must have an economic model that points to the wind farm being quite profitable, and certainly enough so that you will easily be able to attract the money you need.
M. Burns: We've been modeling this for five years and increasing the quality and probability of all the elements in the model. They are getting better and better understood and we're getting more and more confidence in them. Frankly, with the cost of energy rising the way it has, the numbers are getting better and better. But from the beginning, we could see that this was a viable economic proposition and those of us who have been in the energy business know that you can't start without the numbers. And we've always had a set of numbers that said this thing could be run economically.
Resourcex: What is the timeline for the project? When would investors be able to expect earnings to be generated?
M. Burns: From first generation of power the project will be profitable and produce cash flow. If we begin construction in 2009, the cash flow will begin in 2010. It's a fairly short build cycle.
Resourcex: Do you think all of Phase One can be completed in 2009?
M. Burns: We are trying to assess how much we can get done in a season. There is a fairly complex combination of sea conditions and the time of erection and it's going to be tight to get it all done in one season. There will likely be some pre-build required in 2009 to make that happen. The best thing about wind farms, though, is that you don't have to have them all done to make them produce. It's not like a big power plant. Whatever you've got done produces energy. As soon as you've got four or five turbines working they produce energy and revenue. So, as much as you get done goes online and you get cash flow coming in. You don't have large amounts of stranded capital like you would have if you experienced a delay on a single-use plant.
Resourcex: Where do you currently sit in the context of that timeline? Progress with engineering would be a major focus for investors in terms of deciding whether they believe the project will get done.
M. Burns: The engineering is not the major factor in our critical path now. The engineering is pretty much off-the-shelf stuff. The main critical factors now are turbine supply because the world is short of turbines and offshore turbines are coming more into demand. The second issue is the erection equipment. There are not many vessels capable of doing this and we have to acquire, modify or build the equipment. And the third item on the critical path is the completion of the entire environmental study. So, those are the things that we're watching. We're on track with those, although the turbine supply is a hard one to predict. But, of course, we're not going to launch until we've got confirmation that we've got turbines.
Resourcex: When you talk about turbine supply that sounds like the factor most likely to cause a delay in the project. What can you say with regard to what you've done so far to make sure there is no delay?
M. Burns: Our vice president Design and Construction, Peter Hunter, is based in London and he's a former senior executive with two of the equipment manufacturers. Peter is well positioned to find the shortest path to supply that we can get. So, we think we've got the best man on the job in Europe, which is where these will come from, to secure it, and we'll know by the third or fourth quarter of this year what we have available. That will then cause us to set a hard start date.
Resourcex: Now, once you produce the power, you, of course, have to sell it to a buyer. Who do you anticipate will be potential buyers and how will the power be supplied to them?
M. Burns: Once we've got power we need a buyer…well, it really is the reverse of that. We first find the buyer and there is only one buyer and that is B.C. Hydro. They control the whole system in our area. They are the obvious buyer. We have been in informal pre-contract talks with them for some time. The Energy Purchase agreement process is a complex but well-understood process by which we'll negotiate an agreement with them to take the power. We won't begin any construction or raise construction finance until we've got that contract. We are moving along very satisfactorily on this issue.
Resourcex: The Haida First Nation plays an important role in the project. Can you talk about that please and your relationship with the Haida?
M. Burns: First nations have indeed played an important role in the project. Without their support and assistance the project could not go forward and could not have progressed to this stage. We've had a respectful and balanced relationship with all the First Nations in the area, one that is characterized by collaboration as opposed to an adversarial one. They have taken the time to understand the project and are supportive of it if it does not conflict with their traditional beliefs on the environment and the impact on their social structures. We think together we can find solutions to those issues.
Resourcex: I do believe that in 2004 warrants were issued entitling the Haida to purchase some 860,000 shares and that those warrants were due to expire in November 2006. What happened with those? Were they extended or exercised, or did they simply expire? If they were exercised, the Haida would have a pretty substantial position in the company.
M. Burns: The Haida were issued warrants in 2004. Those warrants were exercised and the Haida - as far as we know - continue to hold those common shares.
Resourcex: Can you speak about the environmental impact of the project, especially considering its massive scale?
M. Burns: The environmental side of the project is the subject of a massive environmental impact assessment, despite the fact that there is little evidence of any negative results of the activity. Our belief in that was shored up by a Danish study, which after five years of operation of major offshore wind farms in Denmark found that there was almost no impact, and those that were observed were generally positive. There were some minor reef effects created which added to the sea life in the area, but they saw no noticeable negative impact, with the exception of some minor disruption during construction. That report has been broadly circulated and was done by a well-respected group of independent scientists. It is becoming the touchstone for that particular issue. Nonetheless, we'll be spending close to $2 million on studies of fish, birds and other sea life.
Resourcex: Let's talk a little about the current financial state of the company. How are your finances looking? Do you have enough money on the balance sheet to accomplish your goals according to your stated timeline?
M. Burns: We've raised approximately $10 million for a budget that in our view has a maximum of $7 million planned to reach our goal of an Energy Purchase Agreement. We believe we've got more than adequate funds to do all the work that we need to do. When that is completed we'll move to the next phase, which is to fund the GenCo investment of the billion dollars in capital costs to actually build the project. That will be done through GenCo in a separate project-based financing.
Resourcex: You just made an exciting announcement about a strategic partnership with ENMAX Corporation. How will this benefit development of the project?
M. Burns: We really get three things out of that. We get a partner in the generating company who has got direct experience as an energy generator and user as a medium-sized utility. We get a marketing capability for our green credits, as ENMAX is the largest marketer of green credits in Canada. And we get access to several hundred people experienced in the utility business without having to bring them on staff. So, it's a win-win for us and for ENMAX. Their experience in wind is onshore but they are actual owners of wind farms and builders of wind farms in Alberta. So, the combined experience of the two firms really adds up to a really nice synergistic effect.
Resourcex: What were some of ENMAX's primary reasons for becoming interested in the project?
M. Burns: Number one they want to own green generation. They are a coal-based utility and they see a need for balancing that. This will not displace their coal generation directly, as it is not practical to move this energy from where it's generated to Calgary, but they see this as an offset. They want more product for their green marketing side and they want outlets for their capital. They have a fairly large pool of capital accumulated and as we understand it they want to find opportunities to invest in a business that they know something about, which is electricity generation.
Resourcex: Finally, what would you say to an investor who asked why he or she should want to own NaiKun stock?
M. Burns: Well, it's going to be a solidly based financial operation. The people who have put this together are experienced energy executives who are going to build a sound financial platform. Similarly, we've got the technical people to build this out, a technical energy platform that's going to work. We're not going to overstate the numbers, and we're going to confidently take this thing to conclusion. We know how a utility thinks, so we know what our customer needs. And we're comfortable that we can negotiate a balanced EPA with B.C. Hydro that will be good for them and profitable for us. We've got long-term plans for this that extend the value for shareholders beyond Phase 1. Our plan is to work with the Haida if they decide to utilize this huge energy field, which is 50 times bigger than the first phase of our project. It will ensure deal flow long into the future. And the continued participation of NaiKun in all the projects that go into the region. We think it is going to be solidly based from the beginning and it's going to continue to build on that base in a region where we know the energy exists and is never going to be depleted. If someone is looking for a long-term investment that is going to have more of the same coming year after year, this is the place to be.
Doug Hadfield is the Chief Editor of the Resourcex Investor, an internationally distributed newsletter specializing in identifying as-yet-undiscovered resource companies representing the best in their class. For more information, visit the website www.resourcexinvestor.com.
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