Revised profitability assessment regarding Kárahnjúkar Power Plant

21. January 2008

A previous review of the profitability assessment was carried out in 2006. It revealed that the project’s returns would be somewhat less than originally expected, although they would still meet the requirements of Landsvirkjun’s owners. This new review reverses those conclusions, and shows higher profits than the previous report. The explanation is that income will be higher than expected, mainly because of higher aluminium prices.

Main conclusions of the profitability assessment

  • Expected return on equity is now 13.4% as opposed to the previous figure of 11.9%.
  • The positive present value of the construction beyond the owners’ profitability targets is ISK 15.5bn according to the assessment. That is an increase of ISK 8.9bn on the original estimate.
  • Kárahnjúkar Power Plant’s annual profit before tax is estimated to be ISK 4.22bn on average at 2008 prices.

Assessment based on present value cash flow
The assessment uses the same methodology as before, and considers the project’s present value cash flow. It takes into account newer and more detailed information concerning the assessment criteria. Capacent consultants were employed to scrutinise the profitability calculations and assess their reliability.

Capacent’s view of the profitability assessment
Capacent considers that Landsvirkjun’s updated profitability assessment regarding the investment in Kárahnjúkar Power Plant is generally well-founded, and that it maintains uniformity with the original assessment. The assessment was produced in accordance with recognised practices. Capacent considers the assessment’s criteria to be “unnecessarily conservative” in several respects. Capacent considers that the assessment gives a realistic picture of expected profits from Kárahnjúkar Power Plant.

The assessment’s criteria
The profitability assessment is based on criteria regarding initial cost, electricity sales, the price of aluminium and subsequent developments, US dollar exchange rates, operational costs, power plant lifetime and investment costs. Significant changes to the criteria since the original profitability assessment include:

The accrued cost of the installation and transmission facilities is taken into account, along with investment costs during the period up to 20 September 2007, and the estimated cost of completing the construction project.

The cost of Kárahnjúkar Power Plant alone is estimated at ISK 133.3bn, which is 7% higher than in the original budget, revalued in line with prices at the end of September 2007. Kárahnjúkar Power Plant has proved dearer than budgeted for, mainly because of the higher cost of constructing tunnels and resultant delays.

The price of aluminium has risen, but at the same time, the dollar has weakened against other major currencies. The profitability assessment review’s criteria concerning aluminium prices and exchange rates reflect this relationship – that a lower dollar and a higher price for aluminium go hand in hand. The profitability assessment uses an aluminium futures price on active markets for the next five years, then assumes an annual decrease of 0.45% in the actual aluminium price during the lifetime of the installation, as in the original assessment. The average rate of exchange of the US dollar against the Icelandic krona is now expected to be ISK 69/USD instead of ISK 87.5.

One difference from the original assessment is that investment costs are now calculated with interest because Landsvirkjun does not enjoy state guarantees.

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