Coal conversion faces capital crunch

As oil prices continue to climb in tandem with global demand, policy makers are examining the potential of converting coal, one of America's most abundant fossil minerals, into a liquid or gas fuel to help meet the nation's growing energy needs.

Committees in both houses of Congress have conducted several hearings on coal gasification and coal-to-liquids technologies this spring.

The House Resources Subcommittee on Energy and Mineral Resources held its third hearing in four weeks May 4 on domestic alternative energy, focusing on the potential of producing ultra-clean transportation fuels through coal-to-liquids technology.

At the very least, the technology could produce about 2.6 million barrels of fuel (109 million gallons) per day by 2025 and meet 10 percent of projected U.S. oil demand, according to federal estimates.

Fuel produced by coal liquefaction can be used in trucks, buses and jets, and burns cleaner than today's petroleum. Witnesses told the House panel that the technology is an affordable alternative to oil, with finished fuels produced at $36 to $42 per barrel. To match this cost, crude oil would have to sell for $30 to $35 per barrel. Oil prices currently exceed $70 per barrel.

The U.S. Senate Committee on Energy and Natural Resources held a hearing on coal gasification May 1 at which a U.S. Department of Energy witness testified that coal gasification is poised to make a revolutionary impact in the U.S. and global marketplace.

Converting coal to gas could boost the energy efficiency of industrial consumption of coal to 55-60 percent from just 32 percent to 38 percent for coal-burning plants, said DOE Undersecretary David K. Garman. Additionally, the ability to use waste heat and carbon dioxide recaptured from emissions as well as dramatically cutting emissions increased the energy efficiency to 70 percent to 80 percent.

Whether coal is converted to a liquid or a gas, Alaska should be on the frontlines of this innovation. That's because the state has abundant coal resources near tidewater and potentially hungry markets.

However, developers of coal gasification and coal-to-liquids projects face major challenges in finding the considerable up-front capital needed to build conversion plants.

"Lenders lack experience with these projects, so they are less willing to assume the extra risks involved in early generation commercial deployments of gasification technologies," Garman said.

But as gasification plants are built and the industry gains experience with them, costs will go down, Garman told the Senate panel. "The 10th plant will be more affordable and reliable than the first," he added.

Agrium: Cook Inlet complex would cost $1.5-$2B

Bill Boycott, general manager of Agrium U.S. Inc.'s Kenai Nitrogen Operations, testified at the Senate hearing. He explained the history and effects of ongoing natural gas shortages in Southcentral Alaska and outlined Agrium's efforts to find a long-term feedstock to replace natural gas at its fertilizer manufacturing operations in Nikiski. Boycott said developing a $1.5 billion to $2 billion coal gasification complex using coal from the Beluga coal field 25 miles across Cook Inlet could not only fuel Agrium's operation but also help supply gas to local residents and industry and other industrial users.

After outlining the benefits of a coal gasification project, Boycott echoed Garman, saying up-front capital is proving to be the single biggest hurdle facing the proposal.

He said Agrium began considering building such a plant in late 2004, dubbed it The Blue Sky Project, and launched the first part of a feasibility study. If results of Phase 1 are positive, Boycott said Agrium and partner Usibelli Coal Mines will advance to a Phase 2 detailed study in July. Phase 1 is expected to cost $4 million and Phase 2 at least $28 million.

Go/no go decision could be in late '07

"We hope to complete Phase 2 by late 2007 at which time we will be in a position to make the "go/no go" decision on the project," Boycott said.

He praised Congress for passing the Energy Policy Act of 2005, legislation that could help with raising financing for the Blue Sky Project.

"We have concluded that there are two programs (in the Energy Policy Act) that could be beneficial - the industrial gasification tax credits authorized by §48B of the Internal Revenue Code and the innovative technologies loan guarantee program authorized in Title XVII," Boycott said.

Under the act, the Blue Sky Project could be eligible for up to $130 million of some $350 million in tax credits.

"Our preliminary analysis shows that these tax credits could improve the rate of return on investment in the project by up to 0.5 percent, which could be the difference between going forward and not," Boycott said.

Problems with tax credits, self-funding mechanism

However, the method used for awarding the tax credits puts a time constraint on Agrium. The deadline for applying for the tax credits is June with final decisions on which projects qualify to receive them due in November, he said. This means Agrium and its partners must apply for the tax credits before a decision has been made to develop the project.

"Given that our Phase 2 detailed study will be just under way on June 30, we will, by necessity, have to submit an application for the tax credits that is somewhat contingent on the outcome of that analysis," Boycott said. "We already have amassed a great deal of reliable information, but the timing for tax credit applications may be a factor that works against the Blue Sky Project."

Another potential problem is the self-funding mechanism of the innovative technologies loan guarantee program, which unlike other federal loan guarantees, requires the developer to put up cash to cover the possibility of the project defaulting on a loan. For a $1.5 billion project with an 80 percent loan guarantee, that sum could be $120 million, Boycott said.

It is unlikely that Congress would appropriate that amount for such a project, he said, so Agrium and it partners would have to provide the $120 million, thus increasing the overall cost of the Blue Sky Project by 8 percent. "This added cost is likely to make the project uneconomic," he said.

Though the Energy Policy Act had only two programs that could help a coal gasification project, Boycott said the legislation did provide an intangible benefit by sending a strong signal to government agencies, particularly the DOE, and the commercial marketplace that supporting and promoting the development of these projects is a high priority of the Congress.