Arthur J. Gallagher & Co. · NYSE:AJG
Arthur J. Gallagher & — Investor Presentation (April 2012)
58 slides from Arthur J. Gallagher &'s investor presentation, Apr 11, 2012
Slide 1: Clean Energy Investments Conference Call
ARTHUR J. J GALLAGHER & CO CO. Presented by: Douglas K. Howell CFO Clean Energy Investments Conference Call April 11, 2012
Slide 2: Information Regarding Forward-Looking Statements
Information Regarding g g Forward-Looking g Statements This presentation contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. When used in this presentation, the words “anticipates,” “expects,” “believes,” “should,” “could,” “estimates,” “
Slide 3: Presentation Agenda
Presentation Agenda g During the call, management will review and frequently reference the presentation materials and then open p p the call for q questions and answers. Management anticipates total time for the call to be approximately 1.5 hours in duration. Some of the topics management expects to
Slide 4: What is the Clean Coal Production Process?
What is the Clean Coal Production Process? Conventional Coal Clean Coal Plant Conventional coal is treated with The Chem ModTM Solution to capture mercury Chem-Mod mercury, nitrogen oxides and sulfur dioxide. 4
Slide 5: Parts of a Clean Coal Plant
Parts of a Clean Coal Plant Average Capital Cost to Construct a Plant Approximately $1,000,000 ($600,000 After-Tax*) Storage Mixer * Assumes 40% tax rate 5
Slide 6: Plant Connected and in Housing
Plant Connected and in Housing g Storage Mixer Refined Coal Returns Average Capital Cost to Connect and House a Plant Approximately $4,000,000 ($2,400,000 After-Tax*) * Assumes 40% tax rate 6
Slide 7: Coal Power Facility with Clean Coal Plant
Coal Power Facility with Clean Coal Plant* Boiler (Furnace) Turbine T bi Coal Steam Transmission Lines Water Generator Transformer Clean Coal Plant Utilizing The Chem Mod™ Solution Chem-Mod™ * Not to scale 7
Slide 8: Simplified Clean Coal Plant Development Steps
Simplified p Clean Coal Plant Development p Steps p Step 1 Step 2 Step 3 Step 4 • We built the core • Once a host utility is • We sell a majority portion • When we sell a majority components of the plants secured, we connect the of the plant to an portion, we relinquish as the developer plant to the
Slide 9: Operations After Selling Portion of Plant
Operations p After Selling g Portion of Plant LLC Members Chem-Mod Gallagher and Financial Partners Unanimous Vote on “Major Decisions” LLC Manager Manager Pitt Clean Energy Management Gallagher Plant Manager Chemical Supply Contract Counsel Tax and Accounting Inventor Intellectual Taggart Global
Slide 10: Simplified Description of The Chem-Mod Solution Chemistry
Simplified Description of The Chem-ModTM Solution Chemistry • The Chem-Mod recipe is a patented combination of dry and wet chemicals • It gets mixed with coal • When the mixture heats up in the boiler, mercury, nitrogen oxides and sulfur dioxide react with the Chem-Mod chemicals • As it cools, a che
Slide 11: Simplified Description of The Chem-Mod Solution Chemistry (Continued)
Simplified Description of The Chem-ModTM Solution Chemistry (Continued) • In more simplistic p terms,, as the chemistry y cools,, the mercuryy is encapsulated in a ceramic bond. Think of a coated chocolate candy where the chocolate center represents the mercury, etc., and the hard candy shell repr
Slide 12: Does a Clean Coal Plant Comply with New Mercury Standards?
Does a Clean Coal Plant Comply with New Mercury Standards Using the Chem-ModTM Solution? • Section 45 Mercury capture standards for Clean Coal Plants are governed by tax regulations outlined in the Internal Revenue Code • These standards are different than the mercury capture standards in the EPA’s
Slide 13: Evolution of Chem-Mod Investment
Evolution of Chem-Mod Investment Accounting GAAP Net Month Investment Ownership % Impairment1 Carrying Value 2004 – June $100,000 $ , 2.5% ($100,000) ($ , ) -- 2004 – July 200,000 2.5% (200,000) -- 2004 – October/2005 – January 227,500 5.0% (227,500) -- 2005 – July 1 000 000 1,000,000 32% Option (1
Slide 14: Summary of Balance Sheet
Summaryy of Balance Sheet Proceeds GAAP Net Clean Energy Investments # of Gross from Sale Carrying ($ Millions as of January 1, 2012) Plants Investment to Partners Values 2009 Era Plants – Useful life 2019 Operating ‐ under long‐term contracts (minority positions(1)) 12 $ 30.8 $ 14.5 $ 8.9 Seeking l
Slide 15: Two Investment Income Value Streams to Gallagher
Two Investment Income Value Streams to Gallagher Clean Chem-Mod Coal Plants • Generate pretax losses offset by • Generates high margin royalty tax credits (see pages 16-18) stream (see page 19) 15
Slide 16: Simplified Illustrative Economics of Clean Coal Plant Investment
Simplified Illustrative Economics of Cl Clean C Coall Plant l Investment $ Per Ton of Coal on an After-Tax Basis Assuming 40% Tax Rate What Plant Receives Where it Goes Materials and Gallagher(2) (1) Operating $6.40 Costs $1.04 From $2.27 $2.06 Estimated Ownership 2012 T Tax Interest Credit + Subsid
Slide 17: Materials and Operating Costs
Materials and Operating p g Costs $ Per Ton of Coal on an After-Tax Basis Assuming 40% Tax Rate License Fee to Chem-Mod Utility (Rent or $0.30** Discount on Coal)* $0.45 Labor and Other Plant Operating Costs $0.72 Total $2.27 Materials $0.80 * In addition to a financial incentive, the utility may re
Slide 18: Gallagher's Portion
Gallagher’ss Portion* Gallagher $ Per Ton of Coal on an After-Tax Basis Assuming 40% Tax Rate Compensation and Oth Other Ad Administrative i i t ti Expenses $1 91 $1.91 Total $2.06 Profits/Cash Flow * Average of all projects deployed as of December 31, 2011 See page 2 for information regarding how r
Slide 19: Simplified Illustrative Economics of Chem-Mod Investment
Simplified Illustrative Economics of Ch Chem-ModM d Investment I $ Per Ton of Coal on an After-Tax Basis Assuming 40% Tax Rate Royalty Income Where it Goes Compensation, Gallagher 42% of Administrative, Profits/Cash Flow Business Development & Insurance $0.05 $0.11 $0.30 ($0.50 Pretax) $0.14 Other P
Slide 20: Chem-Mod Opportunity
Chem-Mod Opportunity pp y • In addition to Gallagher’s clean coal plants, Chem-Mod licenses its clean coal technology gy to other p plants not developed p byy Gallagher g entities 33 other qualified plants owned by other investors Representing coal consumption of approximately 100 to 140 million
Slide 21: Recap – Financial Snapshot
Recap p – Financial Snapshot p Est. Qtrly Clean Energy Investments # of GAAP Net Net ($ Millions as of January 1, 2012) Plants Carrying Values Earnings/Cash(1) 2009 EEra Pl Plants t – Useful U f l life lif 2019 Operating ‐ under long‐term contracts (minority positions)(3) 12 $ 8.9 $ 4.3 Seeking long
Slide 22: Example of Excerpt from Press Release and 10-Q/10-K
Example of Excerpt from Press Release e ease aand d 10-Q/10-K 0 Q/ 0 Corporate Segment Fourth Quarter Highlights The following provides non-GAAP information that management believes is helpful when comparing 20XY operating results for the Corporate Segment with the same periods in 20XY (in millions)
Slide 23: Simplified Illustration: Annual Recognition of Clean Energy Activity
Simplified Illustration > Annual Recognition of Clean Energy Activity Assumed Assumed Without Assumed With Clean Energy Clean Energy Clean Energy Investments Investments Investments Revenue $xxxxx $xxxxx $xxxxx Expenses ($xxxxx) ($xxxxx) ($xxxxx) Pretax Earnings $300.0 ($16.0) $284.0 A Tax (Expense)
Slide 24: Simplified Illustration: Scenario 1
Simplified Illustration > Scenario 1 All Clean Energy Investment Activity Occurs in FIRST Quarter Total Q1 Q2 Q3 Q4 Year ASSUMPTIONS Pretax Earnings Without Clean Energy Investments A $60.0 $80.0 $85.0 $75.0 $300.0 Percentage of Year 20% 27% 28% 25% 100% Pretax Loss From Clean Energy Investments B (
Slide 25: Simplified Illustration: Scenario 2
Simplified Illustration > Scenario 2 All Clean Energy Investment Activity Occurs EQUALLY IN EACH Quarter Total Q1 Q2 Q3 Q4 Year ASSUMPTIONS Pretax Earnings Without Clean Energy Investments A $60.0 $80.0 $85.0 $75.0 $300.0 Percentage of Year 20% 27% 28% 25% 100% Pretax Loss From Clean Energy Investme
Slide 26: Simplified Illustration: Scenario 3
Simplified Illustration > Scenario 3 All Clean Energy Investment Activity Occurs in FOURTH Quarter Total Q1 Q2 Q3 Q4 Year ASSUMPTIONS Pretax Earnings Without Clean Energy Investments A $60.0 $80.0 $85.0 $75.0 $300.0 Percentage of Year 20% 27% 28% 25% 100% Pretax Loss From Clean Energy Investments B
Slide 27: Intended Uses of Cash Flows Generated by Clean Energy Investments
Intended Uses of Cash Flows Generated by Clean Energy Investments • Gallagher’s clean energy investments will generate cash flows for a limited time (through 2019 for 2009 Era Plants and 2021 for 2011 Era Plants) • Cash intended to be used for: Acquiring insurance brokers and risk managers thereby
Slide 28: Converting Clean Energy Investments Cash Flows to Brokerage Cash Flows
Illustration: Converting Clean Energy Investments Cash Flows to Brokerage and Risk Management Cash Flows • The expected purchase multiple is 5x to 8x EBITDAC* – we are using 7x EBITDAC for this ill t ti illustration • Accordingly, $66 million of annual cash flow from clean energy investments would b
Slide 29: Converting Clean Energy Cash Flows to Brokerage and Risk Management Cash Flows
Converting Clean Energy Cash Flows to B k Brokerage and d Ri Risk kMManagement CCash h Fl Flows Illustrative Compounding Clean *Assumes annual 5% GAAP Energy Brokerage and Risk Management Cash Flows* growth in acquired Carrying Cash brokerage and risk Value Flows 2013 2014 2015 2016 2017 2018 2019 2
Slide 30: What Can Go Wrong? Overview of Risks
What Can Go Wrong? g – Overview of Risks Important factors that could cause actual results to differ materially from those described in the forward-looking statements in this presentation include the risks set forth below, as well as those set forth in greater detail in Gallagher's Gallagher s Annua
Slide 31: Availability of the Tax Credits (I)
Availabilityy of the Tax Credits (I) () RISK FACTOR (10-K, page 13): Our ability to claim tax credits under IRC Section 45 depends upon the operations in which we have invested satisfying certain ongoing conditions set forth in IRC Section 45. These include, among others, the emissions reduction, “q
Slide 32: Availability of the Tax Credits (II)
Availabilityy of the Tax Credits (II) ( ) RISK FACTOR (10-K, page 14): IRC Section 45 contains phase-out provisions based upon the market price of coal, such that, if the price of coal rises to specified levels, we could lose some or all of the tax credits we expect to receive from these investments
Slide 33: 2005-2012 Coal Reference Prices and Phase Out
2005 ‐ 2012 Coal Reference Prices and Phase Out $95.00 2012 Est. $89.01 $86.53 $87.16 $85.59 $83.88 Alway Always $85.00 $81.60 $8.75 $80.26 $8.75 $79.15 $78.41 $77.78 $76.69 $76.84 $75.13 $ 2012 Est. $75.00 $72.85 +1.2% +0.8% +2.3% +2.4% $70.40 +3.1% $67.94 +3.5% +3.6% Growth from inflation $65.00 2
Slide 34: Estimated Phase Out Year(s)
Estimated Phase Out Year(s) ( ) Important Disclaimer Trendlines were calculated using the linear trendline capability in Microsoft Excel. Each line is based on seven years of actual data (2005-2011). According to Microsoft, a linear trendline is formed by using the equation y = mx + b to calculate t
Slide 35: Business Risks Relating to Our Financial and Operating Partners
Business Risks Relating to Our Financial and Operating Partners RISK FACTOR ((10-K,, pagesp g 13-14): ) We are working g to negotiate g and finalize arrangements g with potential co-investors for the purchase of equity stakes in one or more of the operations that are not currently producing refined
Slide 36: Operational Risks
Operational p Risks RISK FACTOR (10-K, page 14): Chem-Mod’s multi-pollutant reduction technologies require chemicals that may not be readily available in the marketplace at reasonable costs. Utilities that use the technologies could be idled for various reasons, including operational or environmenta
Slide 37: Demand for Coal
Demand for Coal RISK FACTOR (10-K, page 14): Market demand for coal. If the price of natural gas and/or oil declines relative to that of coal, some utilities may choose to burn natural gas or oil instead of coal. Market demand for coal may also decline as a result of an economic slowdown and a corre
Slide 38: Demand for Coal (Continued)
Demand for (Continued) Coal Total Energy Consumption by Fuel Source 2010 U.S. Electricity Source: U.S. Energy Information Administration Annual Energy Outlook 2012 Early Release as of January 2012 Generation by Fuel Source Source: U.S. Energy Information Administration History 2010 Projections and m
Slide 39: Demand for Coal (Continued)
Demand for (Continued) Coal How Much Coal is Consumed in the U.S. for Electricity Generation? Billions of Tons 12 1.2 1.0 0.8 0.6 0.4 0.2 0.0 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 Source: U.S. Energy Information Administration (EIA) Note: Coal consumption is expected to decrease mod
Slide 40: Demand for Coal (Continued)
Demand for (Continued) Coal Electricity from Coal vs. Natural Gas • The U.S. is home to the largest g recoverable coal reserves in the world ((200+ years based on current consumption levels) • According to the latest government estimates, the share of electricity generation in the U.S. from coal is
Slide 41: Demand for Coal (Continued)
Demand for (Continued) Coal If utilities stop burning coal, it is anticipated that our existing partners will want to move the Section 45 clean coal production plant to a different utility to garner the remaining potential tax benefits. • There would be some “leasehold improvements” left on the site
Slide 42: Intellectual Property Risks
Intellectual Property p y Risks RISK FACTOR (10-K, page 14): Other companies may make claims of intellectual property p p y infringement g with respect p to The Chem-Mod™ Solution. Such intellectual property claims, with or without merit, could require that Chem-Mod (or we and our partners) obtain a
Slide 43: Environmental and Product Liability Claims
Environmental and Product Liabilityy Claims RISK FACTOR (10-K, page 14): The construction and operation of the IRC Section 45 operations are subject to Federal, state and local laws, regulations and potential liabilities arising under or relating to the protection or preservation of the environment,
Slide 44: Key Personnel
Keyy Personnel RISK FACTOR (10-K, page 11): The loss of our chief executive officer or any of our other senior managers, brokers or other key personnel (including the key personnel that manage our interests in our IRC Section 45 investments), or our inability to identify, recruit and retain such per
Slide 45: Other Frequently Asked Questions
Other Frequently Asked Questions 45
Slide 46: How Did Gallagher Get Into These Investments?
How Did Gallagher Get Into These Investments? • Gallagher has a history of developing and realizing value from these types of structured investments dating back to the 1980s Low-income housing Biogas from biomass facilities IRC Section 29 alternative fuel IRC Section 45 refined coal • A core
Slide 47: Why a Tax Subsidy for Clean Coal?
Whyy a Tax Subsidyy for Clean Coal? • U.S. governmental policy is to subsidize the development and utilization of clean energy technologies through the application of tax i incentives ti • The government has been subsidizing energy projects in the U.S. for over a century y • We expect the government
Slide 48: Status of Emerging Environmental Regulations?
Status of Emerging Environmental Regulations? • Since 2005, the Federal government/EPA have pursued regulations that would require coal power generation facilities to significantly reduce the emissions of mercury, acid gases and particulate matter • Mercury and Air Toxics Standards (MATS) issued Dec
Slide 49: Any Strategic Alternatives for Investments in Clean Coal Plants?
Any Strategic Alternatives for Investments in Clean Coal Plants? • While Gallagher continually evaluates strategic alternatives, we currently expect to hold minority-position investments in the 29 clean coal plants • If Gallagher sold these investments prior to the expiration of the tax credits, the
Slide 50: What are Next Steps for Chem-Mod?
What are Next Steps p for Chem-Mod? • We, along with our partners, continue to evaluate alternatives to maximize the value of our investment in Chem-Mod Chem Mod • In particular, we will likely need the expertise of a strategic partner to fully realize the financial benefits of deploying the technol
Slide 51: What is the Competitive Landscape for Chem-Mod?
What is the Competitive Landscape for Chem-Mod? • There are a number of emissions control technologies that address mercury, all with varying degrees of cost and effectiveness • The traditional emissions control technology for coal power generation facilities is “scrubbers”, comparatively expensive
Slide 52: Who are the Key Competitors for Mercury Emissions Control?
Who are the Key Competitors for Mercury Emissions Control? • Provides P id activated i d carbon b iinjection j i systems and d chemical supplies ADA Environmental • Also offers a pre-combustion coal additive Solutions gy similar to the The Chem-ModTM Solution technology that qualifies as a refined c
Slide 53: What is the Potential for Chem-Mod in International Markets?
What is the Potential for Chem-Mod in International Markets? • Gallagher g holds a non-controlling g 20% interest in Chem-Mod International LLC • Chem-Mod International LLC owns the rights to license The Chem- ModTM Solution in countries outside the U U.S. S and Canada • The international market for
Slide 54: What Other Clean Energy Technologies Are in Gallagher's Portfolio?
What Other Clean Energy Technologies Are in Gallagher’s Portfolio? • We hold a non non-controlling controlling 8% interest in C C-Quest Quest’ss global operations • C-Quest was founded by the same founder of Chem-Mod •C C-Quest Quest possesses rights, information and technology for the reduction of
Slide 55: For Additional Information
For Additional Information Marsha Akin Director – Investor Relations Marsha_Akin@ajg.com Phone: 630-285-3501 55
Slide 56: Sources & Notes for Coal Reference Prices and Phase Out
Appendix A Sources & Notes for Coal Reference Pi Prices and d Ph Phase O Out • 2005 – The reference price for refined coal production is $36.36 per ton for tax year 2005 as published in the Federal Register on April 8, 2005. 2005 phase out prices derived based on the published inflation adjustment f
Slide 57: Estimating 2012 Reference Price & Phase-Out
Appendix A Estimating 2012 Reference Price & Phase-Out Phase-out threshold = 2002 reference price x inflation adjustment factor(1) x 1.7 CONSTANT Estimated Starting Phase-Out Phase Out Price = $31.90 $31 90 x 113.361 113 361 x 1.7 1 7 = $80 $80.26 26 76.598 CONSTANT Estimated 100% Phase Phase-Out Ou
Slide 58: Estimating 2012 Reference Price
Appendix A Estimating 2012 R f Reference Price i Avg. Cost Of Markup Calendar Coal Factor Tax Reference Year ($/ton) (derived) Year Price 2004 $27.42 1.3260 2005 $36.36 2005 $31.20 1.3712 2006 $42.78 2006 $34.09 1.4183 2007 $48.35 2007 $35 48 $35.48 1 2841 1.2841 2008 $45 56 $45.56 2008 $41.14 0.965
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