Nalcor's appetite for risk on Muskrat Falls increased in 2010, inquiry told

Nalcor Energy's risk appetiteappears to have grown in mid-2010 as the provincial Crown corporation shifted focus from developing Gull Island's hydroelectric potentialto the smaller Muskrat Falls option on the Churchill River.

That was one of the revelations Wednesday as a former member of the project management team testified at the commission of inquiry into the project.

It's more evidence that senior leaders at Nalcor were exploring every option to try to keep cost estimates for the project as low as possible six years ago as final sanctioning neared.

"We were providing all that information on a P75 basis up until August of 2010, (when) we were requested to provide cash flows on a P50 basis," Jason Kean told commission co-counsel Kate O'Brien.

A riskier p-factor

If you don't work in major project planning, you've probably never heard of the p-factor formula.

But it's come up plenty of times at the inquiry, and did so once again on Wednesday.

Simply put, the higher the probability factor, the less chance of cost and schedule overruns.But this also means higher cost estimates to ensure greater accuracy.

For years, the development scenario on the Lower Churchill was to build the larger Gull Island project first.

Kean testified that any estimates related to this project were compiled based on a P75 model, meaning there was a 75 per cent chance of meeting targets.

But the Gull Island option, which relied on export sales outside of the province to make it viable, was set aside after efforts to get Hydro-Quebec approval to transmit power through Quebec failed.

Who gave the directive?

The focus then shifted to the 824-megawatt Muskrat Falls and the Labrador-Island Link option, which was sold by government-owned Nalcor as the least-cost option for Newfoundland's future electricity needs.

It was sanctioned at a construction cost of $6.2 billion, with first power from Muskrat scheduled to occur in July 2017, but it's now become clear that these targets were long shots.

Capital costs have since soared to $10.1 billion, but increases to $12.7 billion if you include financing charges. And first power is now delayed until sometime in 2019.

Kean was in charge of Nalcor's project services team ahead of sanctioning, which means he was heavily involved in developing cost and schedule estimates.

In the summer of 2010, he explained, his team was asked for the first time to prepare estimates based on the riskier P50 scenario.

That's despite the fact Nalcor's own risk assessment advisor, Westney Consulting, had recommended a P75, and therefore a higher cost estimate.

So where did this directive come from?

Was it former Nalcor CEO Ed Martin, Gilbert Bennett, another senior executive, or project director Paul Harrington?

Kean said he couldn't remember, but said he did not have the authority to make such a change.

"It must have been requested," Kean said. "Otherwise it wouldn't have been given, I guess."

All three are scheduled to testify in the coming days at the inquiry.

Audit questioned the risky approach

The P50 model of preparing cost estimates was questioned by accounting firm Grant Thornton in its forensic and investigative audit of the decision to sanction Muskrat Falls.

The audit, which was commissioned by the inquiry, found that if Nalcor had used a P90, for example, it would have added nearly $800 million to the cost estimates.

Evidence indicates that in addition to lowering the p-factor, Nalcor also eliminated any allowance for strategic risk, a figure estimated by Westney at nearly $500 million.

A new document entered Wednesday reveals there was also no contingency for "time risk or foreign exchange risk," though no amount was attached to these categories.

• 'Something gone awry': Did Nalcor remove Muskrat costs to win support in Nova Scotia?

And there's growing evidence that Nalcor removed the strategic risk allowance at the request of Emera, its partner on the Maritime Link project, because of Emera's concerns about getting approval from Nova Scotia's utility regulator.

When asked about this,Kean said the request to reduce the "risk exposure provision" on the project came from Nalcor's investment evaluation team.

All this occurred with full knowledge that the provincial government, in a commitment made by then-premier Kathy Dunderdale, would "backstop" any cost overruns.

First project team member to testify

Kean is the first member of the project management team to testify at the inquiry, and there were points Wednesday when the heat started to rise between Kean and Kate O'Brien.

O'Brien, for instance, accused Keanof "cherry-picking" from a report that reviewed the capital cost estimates for Muskrat Falls.

A quote from the report by Validation Estimating describing the estimates as "one of the best megaproject baseestimates that this reviewer has seen in some time" wasoften cited by Nalcorand the provincial government when making the case for Muskrat sanctioning.

But the report was only presented in draftform, and O'Brien said the report was never widely distributed, and some critical elements of the report were never disclosed.

At one point, Kean'slawyer, Deborah Hutchings, said O'Brienhas strayed "over the edge" with her questioning, but commissioners Richard LeBlancruled O'Brien's questions were acceptable.

Kean is scheduled for a second full day on the witness stand on Thursday, when he will be cross-examined by other lawyers at the inquiry.

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