A bus carrying a group of international investors and analysts pulls onto a packed-dirt road leading into the new San Jacinto-Tizate geothermal power plant, a 20-minute drive outside León, Nicaragua's second-largest city. Lining the route are dozens of school children waving flags–and not only their blue-and-white national colours, as might be expected, but also Canada's Maple Leaf. And for good reason: were it not for the persistence of Toronto-based Polaris Geothermal Inc., the energy-starved Central American country of five million, which relies on imported fuel for 75% of its electricity, wouldn't be well on its way to exploiting its abundant geothermal resources, the result of considerable tectonic activity under its many volcanoes.
“If you look over to the right, you get quite a good view of the power station,” says Jim Randle, Polaris's vice-president of operations and project manager of the San Jacinto plant for Polaris, which owns an 88% stake in the operation. A Brit, Randle has worked in 30 countries and lived in six, though New Zealand–a leader in geothermal technology–has been “home” since 1979. The bus, he tells his guests, is now crossing a huge underground aquifer of superheated water that drives two turbines, which, since this spring, can each churn out about five megawatts of power. The next stage will be to develop an additional 10 MW of installed capacity, probably by the end of next year. Polaris will also start drilling in 2006 for new wells to produce additional power, which could increase substantially, given that recent consultant reports indicate there is enough geothermal capacity at San Jacinto to generate 200 MW or more.
Nicaragua's electricity demand, which stood at about 560 MW in 2004, is growing steadily. After years of political unrest and civil war, 50% of its citizens still have no electrical power–but over the next 15 years, electricity use is expected to increase at an average annual rate of 6%. Most of the thermal generation plants that today power Nicaragua on oil and diesel are old; electricity shortages are common; and the country often has to import power from Panama, Costa Rica and Honduras during peak periods. Nicaragua's current installed capacity–which doesn't equate to electricity actually being produced–is somewhere around 670 MW. About 20% of that comes from hydro and 4% from geothermal; the rest is generated from conventional thermal sources. But the rising price of oil makes alternatives like geothermal, which may have once seemed uneconomical, start to make sense. “It's a really good attention grabber when oil goes above US$50 a barrel,” says Randle, adding that agencies such as the World Bank are promoting geothermal energy in developing nations. “It's a clean, environmentally friendly resource that's renewable.” Geothermal also helps free up hard currency, in U.S. dollars, now being spent in international oil markets. “That money,” says Randle, “can be used to create wealth within the country.”
Continuing his tour, Randle briefly explains the workings of the separator station, which divides the hot water that comes out of the ground from the “dry” steam that drives the turbines. The station also removes impurities: the cleaner the steam, the better it is for the turbines. “But first I want to show you what this is really all about,” Randle says, as the bus makes a sharp turn toward Fumarole Gladys, a natural pool of boiling mud. It takes its name, affectionately, from a Polaris employee, who, according to Randle, got into “a really bad mood” one morning. As a visitor comments on the acrid, sulphurous odour Fumarole Gladys emits, Randle cannot help himself. “That, my friend,” he interjects, “is the smell of opportunity.”
An hour or so later, Polaris CEO Tom Ogryzlo tells an audience of investors, local media and dignitaries, including Nicaragua's president, Enrique Bolaños, that Nicaraguans, together with his company, can “radically change the future of the country.” Speaking confidently in Spanish, Ogryzlo–a mechanical engineer and former mining executive who commutes each week from neighbouring Costa Rica–says Polaris will provide an inexpensive source of clean, renewable energy “from a natural resource which Nicaragua has been blessed to have in abundance: its many volcanoes.”
Right now, however, it's a bit like the old saying “Water, water, everywhere, but not a drop to drink.” With 69 volcanoes, at least 10 of them active, Nicaragua has the potential to generate more than 2,000 MW of geothermal power. Only a fraction of that has been exploited so far. Before Polaris started up, the country had just a single geothermal project, pumping out around 30 MW of electricity.
Given Nicaragua's surging demand, Polaris (TSXV: GEO)–which went public on the TSX Venture Exchange at $1 a share on Aug. 30, 2004, through a reverse takeover, and now trades at just under that amount–represents real opportunity for investors, says Ogryzlo. A Canadian who has lived in seven countries and worked in close to 70, he first learned of San Jacinto's potential in 1997, when he was president of a Canadian mining company, Triton Mining Corp., that had a gold operation in the area. His original interest was in developing geothermal power for his mine, given the cost of electricity was running at the time at about US$50 for every ounce of gold, which could fetch US$260 an ounce. Ogryzlo left the company in 2000 so he could bring the San Jacinto project on line. Polaris's major shareholders now include Tarma Investments Inc., an investment company in which Ogryzlo is a beneficial owner, with about a 23% stake; ITM Ltd., a merchant bank operating out of Toronto, with around 22%; Standard Bank of London, with close to 6%; and Kruger Consultores, a consulting company owned by Erwin Kruger, a Polaris director and Nicaraguan citizen, with approximately 11%. Polaris also raised $14 million through two equity offerings to support plant construction, and has access to a US$10-million loan facility from a syndicate that includes Standard Bank and the Central American Bank for Economic Integration.
With its first stage up and running, Polaris can start generating cash through a 20-year deal it has with the Nicaraguan subsidiary of Spain's Union Fenosa to purchase all the power produced–up to 66 MW–at a price of 5.95¢US per kilowatt hour. That figure will increase in tandem with the rate of U.S. inflation over the life of the contract. Polaris has an agreement with the state utility, Instituto Nicaragüense de Energia, that gives it exclusive rights to use the San Jacinto-Tizate geothermal field for 20 years, extendible for another 20. Any production above 66 MW can be sold onto the national electrical grid at market rates, which currently run 11¢US per kilowatt hour. Based on the 20-year agreement with Union Fenosa alone, Polaris expects to generate cumulative revenue of US$662 million, average annual cash flow of US$17 million (net of capital expenditures and debt), and average annual earnings before interest, taxes, depreciation and amortization of US$27 million. Analysts give the company a net asset value per share of $1.72 for the first 66 MW, based on cash flow over the next two decades, discounted at 12%.
While the chance to earn a profit is obviously an inducement to owning a stake in Polaris, company director Kruger, who served as Nicaragua's minister of external co-operation in the government of President Violeta Chamorro from 1991 until 1996, says projects like San Jacinto present a viable solution to the country's energy crisis and play “a great role in the development of Nicaragua.” Lower energy prices encourage investment, creating jobs and raising salaries. “In this way,” adds Kruger, “as a nation we become more competitive.”
The most suitable areas for exploiting geothermal power have strong tectonic activity, movements of the Earth's plates that produce heat, bringing underground water temperatures as high as 350°C. By drilling into these aquifers, the heated water and steam can be brought to the surface and used to drive turbines. Ideally, the water is reinjected into the ground, preserving the pressure and the ability of the aquifer to generate power.
First developed at the end of the 19th century, geothermal technology is currently used in about 30 countries, and generates close to 9,000 MW of electricity annually. The World Energy Council estimates global geothermal power potential at about 64,400 MW using current technologies. Still, the method only accounts for a miniscule percentage of total electricity used worldwide. (In comparison, large hydro and nuclear plants together have a worldwide capacity of one million megawatts.) The U.S. is the largest producer of geothermal power, generating about 2,800 MW in 2003, but that figure amounts to only 0.4% of the country's total electrical generation, and 20% of its renewable non-hydro power. The Philippines, which produced almost 1,900 MW geothermally in 2003, is the country most dependent on the technology. It generates a quarter of its electrical output from geothermal sources.
Geothermal has a much smaller profile in Canada. There are 30,000 buildings in the country, including Ottawa's Carleton University, individually heated by it. Why? There just aren't enough of the necessary geological conditions here, especially outside B.C. Also, Canada enjoys an abundance of oil, natural gas, hydro and other relatively cheap power resources. But as the price for fuel and electricity continues to rise, along with demand, there's increasing interest in exploiting geothermal energy. It can be extracted without burning fossil fuel and produces about one-sixth of the carbon dioxide that a natural-gas-fuelled power plant does, with little, if any, nitrous oxide or sulphur-bearing gases. Some geothermal plants do produce solid materials that require disposal in approved sites. (So far, San Jacinto isn't one of them.) But substances like zinc, silica and sulphur can be extracted from these sludges and sold. Other potential environmental issues arise from the holes left from drilling and the noise from steam turbines.
Once a geothermal plant starts producing electricity, it's producing 24 hours a day, 365 days a year. In fact, geothermal is considered a “base load” supply of power. (Base load indicates the minimum amount of electricity consumed at any given moment.) That's because it runs most efficiently on a continuous basis, as opposed to other sources of electricity, which may run at only peak times. Says Ogryzlo: “Geothermal is not something you turn on and off once you get it going.”
Sinclair Knight Merz Ltd., one of the world's largest geothemal consulting firms, recently indicated the San Jacinto-Tizate geothermal zone has a 90% probability of developing 200 MW of electrical capacity. As well, Polaris has a 100% stake in a geothermal concession at nearby Casita San Cristobal and full ownership of exploration rights with the intention to build a hydro-electric plant at Larreynaga, 50 kilometres northeast of San Jacinto. This could provide up to another 115 MW and 10 MW, respectively. In all, Polaris has the chance to develop 325 MW.
Ogrzylo says Polaris is taking steps to ensure the San Jacinto project doesn't run into the same problems as the only other geothermal plant in Nicaragua, which is run by the state-owned utility ENEL. In 1983, ENEL started operating a 35 MW geothermal unit at Momotombo, a volcano close to San Jacinto, and opened up a second 35 MW unit there in 1989. Unfortunately, ENEL's strategy focused on exploiting the geothermal reservoir without reinjecting water. The reservoir was depleted and output declined to about 10 MW by 1999. (The project was privatized in 2000, with Nevada-based Ormat Technologies Inc. taking over. It has since been successful in tapping into a deeper reservoir on the site, increasing production to more than 20 MW. Ormat expects it can boost that figure to about 75 MW.) San Jacinto will instead reinject water into the ground so water pressure isn't depleted, and expects future units at the site to be 94% efficient. A well-run geothermal plant can operate for at least 40 or 50 years, Ogryzlo says. A geothermal plant in Larderello, Italy, has been operating since 1913, one at Wairakei in New Zealand since 1958, and the Geysers plant just north of San Francisco, North America's largest, since 1960.
According to Ogrzylo, operating margins on a geothermal plant are typically quite high, about 70% to 80%. But the big costs with geothermal come from building infrastructure. At San Jacinto, Ogryzlo says capital costs are about US$2,300 for each kilowatt of generating capacity installed, fairly typical for a geothermal project of its size. On average, geothermal operating and maintenance costs range from 1¢US to 3¢US per kilowatt hour; at San Jacinto it's about 1.5¢US. Ogryzlo says most geothermal power plants can run at 97% or 98% capacity. By comparison, coal plants have an “availability” factor of about 75%, while wind power is available 30% of the time.
The other upside to geothermal, Ogryzlo says, is the potential to earn money by selling carbon credits developed as part of the Kyoto Accord. Once accredited as a “clean” energy source, the initial 66 MW from San Jacinto would give the company an estimated 360,000 tonnes of carbon credits, which it could eventually sell on the open market to large polluters. European Union carbon credits, known as EU Allowances, are now trading on the spot market at more than €20 per tonne. In its own modelling, Polaris says even allowing for a more modest price of US$5.50, the carbon credits for its initial 66 MW could potentially bring in an extra US$1.7 million in revenue.
But building the infrastructure for Polaris's first 66 MW is expected to cost close to US$160 million–so far, US$23 million of that has already been spent. Feasibility and cost studies are still underway. Analyst John McIlveen, with Dundee Securities in Toronto, says while the geothermal resources at San Jacinto have been confirmed, and wells successfully drilled, the main risks are “whether the fluids can be brought to surface at the budgeted costs” and whether they will be “clean enough to avoid costly chemical separation or gas-emission handling.”
There is also no assurance that the current government's relative stability and encouragement of foreign investment will continue. In fact, Nicaragua's political climate has become even more complicated since President Bolaños lost the support of the Constitutionalist Liberal Party, in 2002, when his government decided to take legal action against former president Arnoldo Alemán, who governed the country from 1997 to 2002. Alemán was sentenced to 20 years in prison for fraud, money laundering and embezzlement and is now under house arrest. In response, the Constitutionalists, supported by the Sandanista National Liberation Front party led by former left-wing president Daniel Ortega, introduced constitutional reforms that restrict presidential powers. Bolaños has so far refused to sanction the amendments, but the standoff makes it harder to move forward with foreign investment projects like this one. McIlveen, who has a Strong Buy recommendation and target of $1.72 on Polaris's stock, finds “comfort regarding political risk by the participation of London's Standard Bank and the Central American Bank for Economic Integration.”
About eight hours after Ogryzlos's speech–at a party hosted at the Princess Hotel in Managua to mark Polaris's first 10 MW output–analysts and investors mingle over champagne and appetizers. Project manager Jim Randle relates a local joke about three philosophers–French, English and Nicaraguan–debating the Garden of Eden's location. Randle says the Nicaraguan philosopher dismisses the other two, insisting Eden was “undoubtedly Nicaragua” because Adam and Eve “had no shoes, no clothes, yet they thought they were in paradise.” It's a gentle reminder of how far Nicaragua must go before the lot of its people improves. But by taking advantage of its geothermal resources, there's a better chance it will get there sooner.