September 11, 2012

1. Environmental and Energy Law Resource TeleseminarCalifornia GHG Auction: Lessons Learned from EU-ETS September 11, 2012

2. INTRODUCTION Lawrence A. Demase 412-288-4050 ldemase@reedsmith.com

3. I. INTRODUCTION OF SPEAKERS • Todd Maiden, Partner, Energy and Natural Resources Group, Administrative Head of Reed Smith’s Environmental Attorneys, Resident in Reed Smith’s San Francisco office. A principle focus of Todd’s environmental practice involves providing advice on California’s Global Warming Solutions Act. He has been following this legislation and speaking on this subject for our Teleseminars for over a year. • Peter Zaman, Partner, Energy and Natural Resources Group and Environmental Sector, Resident in Reed Smith’s London office. Peter specializes in carbon finance, derivatives and structured products and energy trading. He has a market leading reputation on legal matters related to emissions trading. • Nicholas Rock, Partner, Energy and Natural Resources Group and Environmental Sector, Resident in Reed Smith’s London office. Nick has considerable experience in Climate Change law and has advised many companies on their participation in the regulated and voluntary carbon markets. He has represented clients participating as project developer, financier and or off taker in CDM and JI emission reduction projects around the world.

4. INTRODUCTION OF SPEAKERS….continued • Jennifer Smokelin, Counsel, Energy and Natural Resources Group and Environmental Sector, Resident in Reed Smith’s Pittsburgh office. Jennifer advises on federal GHG legislation and the cap and trade programs in the RGGI states, California and the European Union. Jennifer is an Adjunct Professor of Law at the University of Pittsburgh School of Law where she teaches the course “Climate Change and the Law.” She was a delegate to the 15th Conference of the Parties under the United Nations Framework Convention on Climate change in Copenhagen, Denmark in December of 2009. • Julia Butler, Counsel, Energy and Natural Resources Group and Environmental Sector, Resident in Reed Smith’s San Francisco office. Julia is an experienced litigator and focuses her environmental practice on CERCLA, RCRA, CECA and the Clean Water Act. She is responsible for following various aspects of California’s Global Warming Solutions Act, including related litigation.

5. II. RECENT CLIENT ALERTS, BLOGS AND FUTURE SEMINARS • “Rescued Down Under: The linking of the EU ETS with the Australian CPM” – Reed Smith Client Alert prepared by P. Zaman and N. Rock, September 2012 • “Risky Business? Lender risks from Shale Gas” – Seminar to be given by J. Smokelin and S. Regan, September 20, 2012 • “FAQ’s on the New European Union Registry for Carbon Credits”, Environmental Law Resources prepared by P. Zaman, August 2012. • “Grandfathering The Renewable Obligation: How the ROC Market will continue following the switch to the Feed-in Tariff System in 2017”, Reed Smith Client Alert prepared by N. Rock, August 2012 • “New Incentives for Solar and Transmission in BLM Lands in the Southwest”, Reed Smith Client Alert prepared by T. Maiden, A. Koch, S. Nguyen, D. Ousterhout, Philip Babich, August 2012 Also look for Client Alerts regarding AB32 Basics Alerts which will be available shortly.

6. III. PRECURSORS TO CALIFORNIA’S CAP AND TRADE PROGRAM • The Clean Air Act of 1990 • Highly successful program for trading of sulfur dioxide and NOx emission allowances from power plants • Provides for auction of allowances • The Kyoto Protocol 1. The Kyoto Protocol is an international agreement linked to the United Nations Framework Convention on Climate Change. The major feature of the Kyoto Protocol is that it sets binding emission reduction targets for 37 industrialized countries, including the European Union, for reducing GHG emissions. 2. The Kyoto Protocol was adopted in Kyoto, Japan on December 11, 1997.

7. III. PRECURSORS TO CALIFORNIA’S CAP AND TRADE PROGRAM….continued 3. Under the Kyoto Protocol countries are to meet their emission reduction targets through national measures but the Kyoto Protocol allows targets to be met through so called “flexible mechanisms” which generate allowances for covered industries. * International Emission Trading * Clean Development Mechanisms * Joint Implementation 4. The EU ETS has been criticized for over allocation, windfall profits, price volatility and failure to meet its goals.

8. III. PRECURSORS TO CALIFORNIA’S CAP AND TRADE PROGRAM….continued C. The EU Emission Trading Scheme • The European Union Emissions Trading System (EU ETS) was the first large GHG emissions trading scheme in the world. • EU-ETS was originally created to operate apart from the Kyoto Protocol. When the Kyoto Protocol came into effect Phase I of EU-ETS had already become operational. The EU later agreed to incorporate flexible mechanism certificates as compliance tools. The “Linking Directive” allows use of a certain amount of Kyoto Certificates from “flexible mechanisms” to cover emissions from industrial sources. • Covers more than 11,000 facilities in thirty countries. All of the EU plus Iceland, Norway and Liechtenstein. • Employs an auction of emission credits • The proposed emission caps for 2020 project a 21% reduction of GHG.

9. III. PRECURSORS TO CALIFORNIA’S CAP AND TRADE PROGRAM….continued D. Regional Greenhouse Gas Initiative • RGGI’s CO2 Budget Trading Program – the first mandatory, market-based GHGEmission Reduction Program in the United States. • Regulated power plants use CO2 allowances issued by participating states to demonstrate compliance with individual state programs. • Goal is to reduce power sector CO2 emissions 10 percent by 2018. • RGGI’s 17th Auction held on September 5, 2012, generated $47.4 million for reinvestment by the RGGI states on energy efficiency and various consumer benefit programs. The minimum reserve price for this auction was $1.93 per allowance.

10. CALIFORNIA’S GLOBAL WARMINGSOLUTIONS ACT • California’s Global Warming Solutions Act of 2006 aka AB32 sets forth the state’s major initiatives for reducing GHG emissions with the goal of reducing GHG emissions from California sources to 1990 levels, by the year 2020 with a significant (80%) further reductions below 1990 levels by 2050. • The Air Resources Board was required to adopt specific measures to meet the 2020 target by the start of 2011. • One of the measures was the adoption of a regulation that establishes a system of market-based declining annual aggregate emission limits for sources or categories of sources that emit GHG emissions. • In 2011 the California Air Resources Board adopted a cap and trade regulation which includes an enforceable emission cap that declines over time. • One part of California’s cap and trade regulation is the provision for auctions and reserve sales of allowances to allow market participants to acquire allowances directly from CARB.

11. AB 32 and Auction Basics Jennifer Smokelin 412-288-3016 jsmokelin@reedsmith.com

12. Outline California Cap and Trade Basics California Carbon Market Basics California Auction Basics: Mechanics and Design

13. CALIFORNIA’S CAP AND TRADE PROGRAM California passed Global Warming Solutions Act or Assembly Bill 32 (AB 32) in September 2006 requiring the state to reduce greenhouse gases emissions to 1990 levels by 2020, a 17% reduction – and eventually an 80% reduction by 2050.

14. CALIFORNIA’S CAP AND TRADE PROGRAM • WHOis a “covered entity”? • WHATis the cap? • WHENdo covered entities require emissions allowances? • HOWdo covered entities acquire emission allowances?

15. California’s Carbon Market • Size • Instruments • Allowances • Offsets • Vintages • Administration Platform • Management and Tracking • Western Climate Initiative (WCI) • Compliance Instrument Tracking System Service (CITSS) • Markit North America, Inc. - Auction and Reserve Sale Operator (Auction Operator) • Deutsche Bank National Trust Company - Financial Services for Auction and Reserve Sale Provider (Financial Services Provider)

16. California's Auction Scheme Source: California EPA - Floors and Ceilings - Timing

17. Will it work?Test Auction California’s test auction offered two separate auctions: one for 20 million vintage 2013 allowances and another for 40 million vintage 2015 (future) allowances. Minimum price was $10 per allowance in lots of 1,000 units. • August 31, 2012 • Participants • Blind, sealed bid • Went well CARB chairwoman Mary Nichols: "We will be combing the record for every minor glitch we can possibly find to fix," Nichols comments. "[B]ut I am delighted that everything so far shows that the practice auction went well, and that the participants found the auction website easy to use."

18. Before the Auction • All participants had to register (provide user name, get a password, etc.) with the Compliance Instrument Tracking System (CITSS). • Everyone received an email with user ID and registration number from auctionsupport@markit.com • LIVE AUCTION TIP: For “live” auction, participants would have been required to print out and complete a series of forms, provide proof of identity and mail to CITSS.

19. At Auction - Bidding Process • After logging on to CITSS, click the “Auction” tab. • Start bidding, either manually (entering each bid individually) or upload multiple bids from a spreadsheet. • Click “submit,’’ and then click “confirm’’ to save the bid. • Bids submitted were invisible to the other participants. • Can change bids any time during the auction - click on “edit’’ by the individual bids. • LIVE AUCTION TIP: What if bid under $10?

20. Post Auction Settlement • Test auction participants received sample results in an email on September 4th, but the test auction results were not available on the auction platform. • Also, the test auction settlement price and data on the number of allowances were not available to participants. • LIVE AUCTION TIP: Participants in the “live” auction will be able the review the results.

22. Live Auction • The first “live” auction is scheduled for November 14, 2012 where CARB plans to auction in lots of 1,000 allowances both 20 million current (vintage 2013) allowances and 40 million (vintage 2015) allowances. • In addition to regular auctions, CARB will hold quarterly advanced auctions for a portion of the 2015-2020 allowances. • Allowances purchased at advanced auctions are not valid for compliance purposes until the year of the allowance (e.g., 2015 allowance). • The advanced auctions are designed to prepare entities for future compliance obligations and to give price signals for the 2015-2020 period.

23. Will it work? Design Elements • Inter-sectoral competition due to partial auction. • Leakage • “Floor" price as artificial “prop up” and market fairness. • The “Double Counting” Dilemma: an auction requires some regulated entities to pay for cap-and-trade twice – once when they buy allowances to keep operating, and again by investing in operational alternatives for reducing their GHG emissions. • “Sealed-bid" auction platform and transparency. Do these scenarios exist in EU-ETS and how has it played out?

24. California Climate Change: Legislative and Regulatory Developments Todd O. Maiden +1 415 659 5918 tmaiden@reedsmith.com

25. Legislative Developments • August 31 – Close of Two Year Legislative Session • 88 bills address “Global Warming Solutions Act” • Many on “Related Topics” • CEQA • High Speed Rail • Bills Signed • Bills on Governor’s Desk • Bills Failed at Eleventh Hour

26. SB 1018– Budget Trailer Bill • Cap and Trade Revenues: • Background: State budget assumes up to $500M to offset general fund expenditures related to AB32 • Creates “Greenhouse Gas Reduction Fund” • Dep’t of Finance will propose an expenditure plan by January 10, 2013, unless legislature passes a bill to establish long-term spending strategy for moneys in the Fund • CPUC to credit allowances for clean energy and energy efficiency project directly to small businesses and emissions intensive trade-exposed retail customers • Signed by Governor • Chaptered: June 2012

27. AB 1532 (Perez) - Cap and Trade Revenues • Creates the Greenhouse Gas Reduction Fund Investment Plan and Communities Revitalization Act • set procedures for the investment of regulatory fee revenues derived from the auction of greenhouse gas allowances

28. AB 1532 – Authorized Spending • Energy efficiency, clean and renewable energy generation, distributed renewable energy generation, transmission and storage, • and other related actions, including • public universities • state and local public buildings • industrial and manufacturing facilities • Transportation • development of state-of-the-art systems to move goods and freight • advanced technology vehicles and vehicle infrastructure • advanced biofuels • low-carbon and efficient public transportation

29. AB 1532 – Authorized Spending • Funding to reduce GHG emissions associated with • Water use and supply • Natural resource conservation and management • Forestry • Sustainable agriculture • Strategic planning and development of sustainable infrastructure projects • Transportation • Housing • Diversion of municipal solid waste from disposal through waste reduction, diversion, and reuse

30. AB 1532 – Status • On Governor’s Desk

31. SB 535 (De Leon) – Communities Health Air Revitalization Trust • Requires the investment plan related to the Greenhouse Gas (GHG) Reduction Fund (GHGR Fund) to allocate: • a minimum of 25% of the available moneys in the fund to projects that provide benefits to identified disadvantaged communities; and, • a minimum of 10% of the available moneys in the fund to projects located within identified disadvantaged communities. • This bill is contingent on the enactment of AB 1532 • Status: On Governor’s Desk

32. SB 1139 (Rubio) – Carbon Capture and Storage • Regulated development of CCS from enhanced oil recovery projects • Failed Deadline – Assembly appropriations

33. AB 2529 (Wieckowski) – Cap and Trade Allowances • To amend SB 1018 (trailer bill) • Pulled from Floor

34. AB 2563 (Smyth) – Offset Credits • Goal: selects protocols that ensure offsets credits represent projects that provide real environmental benefits • Requires Air Resources Board to adopt a process for the review and consideration of new offset protocols • regularly updated schedule of new offset protocols submitted to ARB • online system for public to track the progress of new offset protocols • point of contact at ARB • explanation of how the process will accommodate public input • explanation of the criteria used for consideration of new offset protocols • Status: Failed in Assembly Appropriations

35. SB 1572 (Pavley) -Specifies expenditure of funds derived from the auction • ARB to allocate 75% of the funds for GHG reduction projects undertaken by industries covered by the cap-and-trade program. • ARB to allocate 25% to the Strategic Growth Council (SRC) to be awarded to: • metropolitan planning organizations or councils of governments for regional and local GHG reduction plans; and • to local governments and non-profits for local climate innovation projects according to specified criteria. • Requires funds benefit "disadvantaged communities" to the maximum extent feasible • Failed deadline – Assembly Appropriations

36. Regulatory Developments • Complete CARB Rulemaking Calendar: • http://www.arb.ca.gov/regact/regact12.htm • Notice • Hearing • Adoption • To Office of Administrative Law

37. Selected GHG Related Developments • Amendments to California Cap on Greenhouse Gas Emissions and Market Based Compliance Mechanisms • New Regulations re Reporting Requirements

38. Recent Cap / Trade Regulations • May 9, 2012: CARB issues Proposed Amendments re California Cap on Greenhouse Gas Emissions and Market Based Compliance Mechanisms • June 28, 2012: Public hearing – CARB approves proposed amendments • Executive Order: R-12-010 • July 31, 2012: filed with Office of Administrative Law • August 31, 2012: Deadline – OAL Approved

39. Regulatory Developments: August 2012 Regulations re Reporting Requirements • 2006 – Global Warming Solutions Act passes • 2009 - Regulations implemented • Dec. 2010 - Regulations amended (eff. Jan. 2012) • EPA revises federal GHG reporting requirements (40 CFR Pt. 98) • Oct. 2011: CARB Adopts Cap and Trade regulations • Required new amendments to reporting rules

40. Reporting Regulations • Leakage Analysis • Impacts 10,000 – 25,000 Metric Tons CO2 / equivalent / year • Before: submit short form emissions data report • Combustion Emissions • Now: also include process emissions

41. Reporting Regulations – Misc. • No more third party verification for smaller emitters ( < 25,000 MTCO2e) • Emissions Factor Reports • Listed sources (e.g., refinery): • 2013 Emissions Factor Report based on • 2012 transaction data • 2011 emission factor data • Asset Controlling Suppliers: • Owners or operators of electricity generating facilities or exclusive marketers for certain generating facilities • 2013 Emissions Factor Report based on • 2012 transaction data • 2010 emission factor data

42. Reporting Regulations – Best Available Monitoring Requirements • BAMM no longer allowed after 2012 • Best Available Monitoring Method (BAMM) • monitoring methods currently used by the facility that do not meet the specifications of the rule • supplier data • engineering calculations • other company records. • EPA granted owners and operators of petroleum and natural gas systems three extra months in which to (1) apply for permission to use, (2) use, and (3) seek an extension of permission to use BAMM to calculate their GHG emissions • 2013: rely on EPA calculation methodologies

43. CARB GHG Reporting Regulations – Status • Public Comment Period: August 6 – September 19, 2012 • Public Hearing: September 20, 2012 • Cal EPA Building – Sacramento • Webcast: http://www.calepa.ca.gov/broadcast/?BDO=1

44. California Climate Change: Status of Litigation Challenges Julia Butler +1 415 659 4762 jbutler@reedsmith.com

45. Citizens Climate Lobby and Our Children’s Earth Foundation v. CARB, San Francisco Superior Court Case No. 519554, Judge Harold E. Kahn • Argues that CARB’s offset protocols and Early Action Program do not comply with the Act because they allow counting of greenhouse gas emissions decreases that would otherwise occur as qualifying reductions • Act requires that voluntary emission reductions or offsets be “in addition to any greenhouse gas emission reduction otherwise required by law or regulation and any other greenhouse gas emission reduction that would otherwise occur” (§  38562(d)) • Argue the offset protocols undermine the integrity of the Act and result in a false accounting of progress • Seeks to invalidate the offsets for the Cap-and-Trade program only • Various amici on side of CARB: Climate Action Reserve, Environmental Defense Fund, Nature Conservancy and many large utilities including So Cal Edison, SDG&E, PG&E • Hearing on writ petition set for November 6, 2012

46. Rocky Mountain Farmers Union v. Goldstene, Case Nos. 12-15131 and 12-15135 • Sought and obtained injunction in Eastern District of California that prevented ARB from enforcement of the low carbon fuel standard (LCFS) • Ninth Circuit stayed the injunction pending appeal • Briefing is complete and hearing is set for October 16, 2012.

47. Association of Irritated Residents, et al. v. ARB, 206 Cal.App.4th 1487 (2012) • Challenged ARB’s 2009 AB32 Scoping Plan • On June 19, 2012 Court of Appeal decision held that the scoping plan complies with AB32

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