Document:

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                                                                   Exhibit 10.26

                 Technology Development and Transfer Agreement

                                    between

                        Kawasaki Heavy Industries, Ltd.

                                      and

                    Catalytica Energy Systems, Incorporated

This Agreement is made as of this 13th day of December, 2000, by and between
Kawasaki Heavy Industries, Ltd. (hereinafter referred to as "KHI"), a Japanese
corporation and having its principal place of business at 1-1 Higashi-Kawasaki-
cho 3-chome, Chuo-ku, Kobe, Japan; and Catalytica Energy Systems, Incorporated
(hereinafter referred to as "CESI"), a Delaware corporation and having its
principal place of business at 430 Ferguson Drive, Mountain View, California,
U.S.A., either or both of which shall also be hereinafter referred to as a
"Party", and together as the "Parties", respectively.

     WHEREAS, CESI has developed expertise and technology of the catalytic
combustion system (hereinafter defined as "XONON Combustion System"), which
incorporates catalytic module(s) which are utilized to oxidize hydrocarbon fuels
in the XONON Combustion System for gas turbines, and CESI has reduced to
practice and commercially demonstrated expertise and technology relating to such
system and module(s) as applied to a Kawasaki model M1A-13A gas turbine at
Silicon Valley Power;

     WHEREAS, KHI desires to obtain from CESI the right to use such expertise
and technology to modify and adapt the XONON Combustion System for installation
on Kawasaki gas turbines of output up to [*] nameplate rating developed and/or
to be developed by KHI, including but not limited to Kawasaki model M1A-13A gas
turbine, (hereinafter defined as "Kawasaki Gas Turbines"), and to obtain from
CESI the right to manufacture and sell Adapted Kawasaki Gas Turbines (as defined
below) based upon the expertise and technology which are reduced to practice and
demonstrated by CESI as applied to the Kawasaki model M1A-13A gas turbine at
Silicon Valley Power;

     WHEREAS, the Parties wish to collaborate in the modification and adaptation
of the XONON Combustion System to the Kawasaki Gas Turbines and to the
development and commercialization of Kawasaki Gas Turbines in accordance with
terms and conditions as set forth herein;

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          NOW, THEREFORE, in consideration of these premises and of the mutual
     covenants herein contained, the parties agree as follows:

1.0  DEFINITIONS
     -----------

     All capitalized words or phrases used throughout this Agreement shall have
     the meanings as defined in this section.

     1.1   "Adaptation Program" means the collaborative program, using the
           Applied CESI Technology (as hereinafter defined), of application
           engineering to modify, adapt and metricate the XONON Combustion
           System, including the XONON Modules (as hereinafter defined) to
           Kawasaki Gas Turbines.

     1.2   "Adaptation Program Technology" means the Technology (as hereinafter
           defined) conceived during the Adaptation Program.

     1.3   "Adapted Kawasaki Gas Turbines" means Kawasaki Gas Turbines not
           larger than [*] adapted and modified under the Adaptation Program.

     1.4   "Adapted M1A-13A" means Kawasaki model M1A-13A gas turbine adapted
           under the Adaptation Program.

     1.5   "Affiliates" mean, with respect to any Person as hereinafter defined,
           any other Person which directly or indirectly controls, is controlled
           by, or is under common control with, such Person. A Person shall be
           regarded as in control of another Person if it owns, or directly or
           indirectly controls, at least fifty percent (50%) of the voting stock
           or other ownership interest of the other Person, or if it directly or
           indirectly possesses the power to direct or cause the direction of
           the management and policies of the other Person by any means
           whatsoever.

     1.6   "Applied CESI Technology" means the CESI Technology as hereinafter
           defined that CESI has reduced to practice and commercially
           demonstrated as applied to a Kawasaki model M1A-13A gas turbine at
           Silicon Valley Power.

     1.7   "Background" means, with respect to the Patents (as hereinafter
           defined) and the Technical Information (as hereinafter defined) that
           a Party or its Affiliates has acquired or acquires prior to the
           Effective Date (as hereinafter defined) or otherwise not (i) in
           connection with its work under this Agreement, or (ii) from the other
           Party.

     1.8   "Catalytic Combustion System" means a gas turbine combustion system
           that employs a catalyst upstream of the turbine inlet which is
           associated with the combustion process, and shall not include SCR,
           SNCR, SCONOx/TM/ or other catalytic devices employed in pollution
           clean-up.

     1.9   "CESI Technology" means the Technology relating to the XONON
           Combustion System and the Xonon Module, including the Background
           Technology, Applied CESI Technology, and the Adaptation Program
           Technology which is now or

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           hereafter may be owned by CESI and/or possessed by CESI (but
           excluding the Adaptation Program Technology developed by KHI
           hereunder and jointly developed by CESI and KHI hereunder) with
           rights to grant others the developmental and/or commercialization
           rights set forth herein.

     1.10  "Effective Date" means the date of this Agreement as first set forth
           above.

     1.11  "Kawasaki Gas Turbines" means Kawasaki designed and manufactured gas
           turbines of output up to [*] nameplate rating, both new and retrofit
           (that is, installed) developed and/or to be developed by KHI,
           including but not limited to Kawasaki model M1A-13A gas turbine.

     1.12  "Patents" mean patents (including patents of importation, patents of
           confirmation, patents of improvements, patents and certificates of
           addition and utility models, as well as divisions, reissues,
           continuations, continuations-in-part, renewals and extensions of any
           of the foregoing) and provisional and regular applications therefor,
           and patents which may be issued on such applications covering
           inventions with respect to which the first application for patent
           anywhere was filed prior to the date of any termination of this
           Agreement.

     1.13  "Person" means an individual, corporation, partnership, trust,
           business trust, association, joint stock company, joint venture,
           pool, syndicate, sole proprietorship, unincorporated organization,
           governmental authority or any other form of entity not specifically
           listed herein.

     1.14  "Products" mean the XONON Module and the XONON Component.

     1.15  "Technical Information" means all technical information, know-how,
           trade secrets, experience, manufacturing techniques, software and
           other copyrightable works, engineering and other data, drawings,
           material and process specifications, whether patented or unpatented,
           whether in written, printed, oral or other form, relating to, in the
           case of KHI, industrial gas turbines having ratings up to [*], and,
           in the case of CESI, the XONON Combustion System and the XONON
           Module.

     1.16  "Technology" means the Patents and the Technical Information.

     1.17  "Third Party" means any Person other than CESI, KHI and their
           respective Affiliates.

     1.18  "XONON Component" means the fuel/air mixer package, the pre-burner,
           and other elements such as combustor hardware components, which are
           necessary combustion system modifications to enable optimum operation
           of the XONON Module.

     1.19  "XONON Module" means CESI catalyst structure as used in gas turbines,
           including its container and supporting structure for fixing the
           catalyst structure, containing and including the catalytically active
           elements for oxidizing hydrocarbon fuels in the container.

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     1.20  "XONON Module Technology", abbreviated XMT, means all Technology
           relating to the XONON Module.

     1.21  "XONON Combustion System", abbreviated XCS, means a fuel combustion
           apparatus or system to implement XMT for use in gas turbines
           including those components, operating processes, and methods of
           control, testing, and operation for pre-heating fuel, mixing fuel and
           air, combusting or oxidizing fuel, controlling power output, and
           control of NOx, Carbon Monoxide(CO) and unburned hydrocarbon
           pollutants, comprising in the XONON Module and the XONON Components.

     1.22  "XONON Combustion System Technology" means all Technology relating to
           the XONON Combustion System.

     1.23  "XONON Control Algorithm(s)" mean the logic developed by or on behalf
           of CESI as of the Effective Date to provide necessary control of the
           start up, operation, management and protection of the XONON
           Combustion System or XONON Module in a gas turbine.

2.0  PROGRAM OBJECTIVES
     ------------------

     2.1   CESI and KHI each shall conduct, at their own expense, their
           respective scope of work as set forth in Exhibit 1 attached hereto as
           an integral part of this Agreement in a sound scientific manner, and
           in compliance in all material respects with all requirements of
           applicable laws and regulations and all applicable good research and
           manufacturing practices to attempt to achieve the Adaptation Program
           objective efficiently and expeditiously. CESI and KHI each shall
           proceed diligently with the works allocated respectively which are
           set out in Exhibit 1 (hereinafter referred to as "Allocated Works")
           by using their respective good faith efforts to provide, among
           others, the following resources: (a) allocation of sufficient time,
           effort, equipment and facilities to the Adaptation Program and as
           each reasonably believes is necessary carry out its Allocated Works
           and to accomplish the objectives thereof, and (b) use of personnel
           with sufficient skills and experience as are required to carry out
           its Allocated Works and to accomplish the objectives thereof. Works
           requested by KHI and performed by CESI outside the Allocated Works
           under this Agreement shall be chargeable to KHI and billed on an
           agreed upon-costs basis, due in 30 days. Each Party is an independent
           contractor.

     2.2   KHI and CESI each may subcontract portions of the Adaptation Program
           to be performed by it in the normal course of its business without
           the prior consent of the other, provided, however, that every
           subcontracted or delegated party shall enter into a confidentiality
           agreement with the subcontracting party in accordance with Article
           7.0 below and each Party shall be fully responsible for any
           activities of its subcontractors or delegated party under this
           Agreement.

     2.3   KHI and CESI each shall appoint a person (a "Program Manager") to
           coordinate its part of the Adaptation Program. The Program Managers
           shall be the primary contacts between the parties with respect to the
           Adaptation Program. Each Party shall notify the other within thirty
           (30) days after the date of this Agreement of the appointment of its
           Program Manager and shall notify

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           the other Party as soon as practicable upon changing this
           appointment.

     2.4   Each Party shall make its employees and relevant reports of non-
           employee consultants available, upon reasonable notice during normal
           business hours, at each Party's respective places of employment to
           consult with the other party on issues arising during the Adaptation
           Program and in connection with any request from any regulatory
           agency, including regulatory, scientific, and technical testing
           issues.

     2.5   KHI and CESI each shall keep the other informed of the progress of
           their tasks under Allocated Works during the Adaptation Program.
           Within thirty (30) days following the end of each quarter during the
           term of the Adaptation Program, KHI and CESI shall each prepare, and
           provide to the other, a written summary report which shall describe
           the application engineering activities performed by such party during
           such quarter.

3.0  PAYMENT OF TECHNICAL FEE BY KHI TO CESI
     ---------------------------------------

     KHI will pay CESI, as the consideration for the CESI Technology to be
     provided by CESI to KHI under this Agreement, the amounts of [*] for each
     of the [*] through [*] Adapted Kawasaki Gas Turbines and of [*] for each of
     the [*] through [*] Adapted Kawasaki Gas Turbines, sold by KHI and/or its
     Affiliates for installation anywhere in the world, provided, however, that
     such payments become due and payable thirty (30) days after KHI's receipt
     of the initial payment for each Adapted Kawasaki Gas Turbines respectively
     sold. Should [*] Adapted Kawasaki Gas Turbines not be sold during the term
     of the Agreement, the balance of payment by KHI shall be forgiven. However,
     in case of earlier termination of the Agreement by KHI prior to the term of
     the Agreement, due to the reason not attributable to CESI under Article
     10.2, the balance of payment by KHI shall be due and payable. KHI agrees to
     make commercially reasonable efforts to sell Adapted Kawasaki Gas Turbines
     during the term of this Agreement and CESI agrees to cooperate with KHI in
     support of KHI's sales efforts.

4.0  TECHNOLOGY AND USE RIGHTS TRANSFERS
     -----------------------------------

     4.1   Technology Transfer. Within thirty (30) days after the Effective
           Date, CESI shall provide KHI with all the available Technical
           Information, including but not limited to those as set forth in
           Exhibit 3 attached hereto as an integral part of this Agreement,
           required to enable KHI to perform its Allocated Works and
           manufacture, have manufactured, use and sell the Adapted M1A-13A and
           the Adapted Kawasaki Gas Turbines, under this Agreement. KHI shall
           provide CESI with all the Technical Information required to enable
           CESI to perfrom its Allocated Works.

           In the event CESI and/or any third party who enters into
           collaboration agreement with CESI and which agreement contains
           provisions permitting CESI to sub-license or otherwise transfer such
           Technical Information to KHI, conceives inventions and/or
           improvements in CESI Technology, Adaptation Program Technology and
           Products solely or jointly with CESI during the term of this
           Agreement, CESI shall provide KHI, [*], with Technical Information
           concerning to such inventions and/or improvements.

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     4.2   Use Rights Under CESI Technology. In consideration for and upon KHI's
           payment of the Technology Fee to CESI provided in Article 3.0 herein,
           CESI hereby grants to KHI for the purposes and term of this Agreement
           a royalty-free, worldwide, right for KHI and its Affiliates to use
           CESI Technology and the inventions and/or improvements as set forth
           in Article 4.1:

           (a)  to perform KHI's Allocated Works in the Adaptation Program;

           (b)  to make, have made, use, lease, and sell the Adapted M1A-13A
                incorporating the Products purchased from CESI;

           (c)  to make, have made, use, lease and sell the Adapted Kawasaki Gas
                Turbines incorporating Products purchased from CESI; and

           (d)  to use and sell the Products to be incorporated into the Adapted
                Kawasaki Gas Turbines including Adapted M1A-13A.

     4.3   The rights granted in Section 4.1 shall be exclusive during the term
           of this Agreement and any subsequent Supply Agreement term, subject
           to KHI and its Affiliates and suppliers purchasing all of their
           respective requirements for the Products for Gas Turbines from CESI,
           and in case that CESI is unable to consistently meet KHI's and its
           Affiliates' requirement for Products from a quality or delivery
           standpoint, CESI shall promptly establish a second source of supply
           (as a vendor to CESI) with a Third Party manufacturer designated by
           CESI and approved by KHI (which approval shall not be unreasonably
           withheld), solely for the purpose of satisfying CESI's obligations to
           supply Products to KHI and its Affiliates.

     4.4   The limited field exclusive rights granted in Section 4.2 shall be
           limited to Kawasaki Gas Turbines, and CESI retains and reserves the
           rights, to itself or through its licensees, to design, adapt, make
           and have made, import, export, use, sell, offer to sell, service,
           repair and reconstruct the Products for sale, lease or transfer to
           Third Parties non-Kawasaki Gas Turbines applications employing the
           CESI Technology.

     4.5   Grant Back. KHI and its Affiliates and subcontractors hereby grant
           back to CESI an irrevocable and fully paid-up license to make, sell,
           lease, have made, use, export and import, service, repair,
           reconstruct the Xonon Combustion System and Xonon Module including
           rights to sublicense, to all improvements thereof, whether made
           solely by KHI or jointly with its Affliates and/or subcontractors,
           which are conceived during the term of this Agreement and the term of
           the Supply Agreement to be concluded between KHI and CESI with
           respect to supply of the Xonon Module. Such license shall be i)
           exclusive with respect to improvements of the Xonon Module, and ii)
           Non-exclusive with respect to improvements of the Xonon Combustion
           System and Xonon Control Algorithm. Such license will permit CESI to
           sublicense said improvements to third parties only to the extent that
           as far as there is in effect a reciprocal agreement between CESI and
           such third party which reciprocity shall provides similar benefits to
           KHI respecting improvements made by that third party.

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     CESI shall notify KHI prior to transferring such Technical Information or
     granting a sub-license. Such Technology or Technical Information as KHI
     must provide to CESI under this section shall be provided without cost to
     CESI and in a reasonable period of time, however, this clause shall not be
     construed so as to unreasonably burden KHI by requiring additional design
     work on its part to fulfil its obligation under this Article 4.5.

     KHI and its Affiliates shall have no responsiblity for any damages incurred
     by CESI and third party including Product Liability arising out of such
     grant back, except for intellectual property infringement.

     4.6   Requirement and Obligation to Use Xonon/TM/ Trademark. CESI hereby
           grants to KHI and its Affiliates for the term of this Agreement, a
           royalty-free, non-exclusive, worldwide right under CESI's Xonon
           trademark, to use the trademark "Xonon/TM/" in connection with KHI's
           and its Affiliates' marketing and sales activities related to the
           Products. In this regard, KHI agrees to market the Xonon Modules
           and/or Xonon Components under CESI's Xonon trademark, and to state in
           its literature that Xonon is technology used under license from CESI,
           in language and format to be agreed between CESI and KHI. This
           agreement on the part of KHI to use the Xonon trademark also requires
           KHI to use the designation "-X" at the end of the model number of all
           Kawasaki Gas Turbines employing CESI Technology. In connection with
           this grant of trademark use rights, KHI agrees that it will submit
           samples of all Xonon trademark usage to CESI for approval prior to
           use in KHI advertising, promotion and/or sales activities and that
           KHI will promptly discontinue any usage of the Xonon trademark which
           CESI specifically objects to and so informs KHI in writing in a
           timely manner. This right to use grant does not confer ownership of
           any rights in the mark(s) to KHI.

     4.7   Grant of Right to Use Xonon Control Algorithms. CESI hereby grants to
           KHI during the term of this Agreement, a non-exclusive, royalty-free,
           perpetual and worldwide license (with rights to sub-license)
           applicable to those models of Kawasaki Gas Turbine to which Xonon was
           adapted during the term of this Agreement, to copy, have copied, use,
           sub-license and offer to sub-license the Xonon Control Algorithm(s)
           for use with the Products applied to Adapted M1A-13A and/or Kawasaki
           Gas Turbines sold during the term of this Agreement.

5.0  PRODUCTS SUPPLIED BY CESI TO KHI
     --------------------------------

     CESI shall supply all of KHI's requirements for the Xonon Module for
     incorporation into the Adapted Kawasaki Gas Turbines pursuant to the terms
     and conditions as set forth in the Supply Agreement to be executed
     separately between CESI and KHI.

6.0  COMBUSTION SYSTEM DESIGN PACKAGE WARRANTY
     -----------------------------------------

     6.1   System Design Warranty. CESI warrants to KHI that the Xonon
           Combustion System, upon design, manufacture and operations approval
           by CESI, will be free of component failure which renders the system
           incapable of substantially meeting the performance specification
           within the first twelve (12) months after

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           placing the initial Xonon Combustion System in commercial service. If
           KHI must repair or replace any combustor system components, under its
           warranty to its end user customer, that are manufactured to CESI's
           approved design, which design has not been modified by any party
           other than CESI, except for metrification by KHI, and provided that
           KHI can reasonably show that the necessity for repair or replacement
           was caused by errors or omissions in the design of the component,
           attributable substantially and directly to CESI, then CESI, as CESI's
           sole liability for this warranty, will pay a proportionate share of
           KHI's costs for the repair or replacement. Such costs shall include
           only KHI's direct cost not including overhead burden, margin or
           profit.

           Further, should KHI pay liquidated damages which arise directly from
           the breach of the foregoing system design warranty then CESI shall
           reimburse the proportion of KHI's liquidated damages substantially
           and directly attributable to CESI's breach of this warranty, subject
           to the cumulative limitation of liability provisions of this
           Agreement.

     6.2   Pressure Drop Warranty. CESI further warrants that, when (a) built to
           CESI's design, and (b) installed on a Kawasaki M1A-13A engine
           equipped with the "low flow" scroll and transition piece with no
           cooling holes, and which engine otherwise meets KHI's performance
           specification for a "new & clean engine"; the combustion system
           pressure drop and combustor "TAD" (as defined in Appendix "A" to this
           Agreement) will meet the performance requirements specified therein.
           Should the gas turbine system not meet this warranty, CESI as its
           sole liability will pay a portion of the liquidated damages (LD's)
           actually paid by Kawasaki for failure to meet kW output and Specific
           Fuel Consumption ("heat rate") commitments to KHI's customer, as
           follows:

     .  CESI will pay [*] of liquidated damages actually paid by KHI to Enron on
        the VAMC Jamaica Plain project provided that such damages arise
        substantially and directly from CESI's failure to meet the pressure drop
        warranty set forth above, pursuant to KHI's agreement with Enron as such
        agreement exists as of the date hereof.
     .  Should KHI be able to negotiate full or partial mitigation of any such
        LD's then CESI's liability shall be proportionally decreased.
     .  Recognizing that the total project power output is the parameter of
        interest, performance deficiencies on one engine will be netted against
        performance gains of any others so that no LD's shall be due if the net
        power output of the three engines meets the total project guarantees.
     .  In all cases CESI shall have the option, at its sole discretion, to make
        corrections to the system in order to improve the performance so as to
        meet the required performance level in lieu of paying LD's and shall be
        given reasonable time and access to make such corrections.

     Should warranted air emissions not meet the guaranteed levels, or the
     requirements of the site air permit, whichever is less stringent, then CESI
     will diligently pursue correction of the problems attributable to its
     guaranteed system components, including on-site investigation and support
     to KHI.

     This warranty shall conclusively be deemed to be satisfied and no further
     liability to

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     CESI shall accrue when any Xonon combustion system, version 2.1, has
     operated satisfactorily for a total period of [*] clock hours connected to
     an electrical power grid or after a period of [*] from the initial
     synchronization of the first Xonon system, version 2.1, to the electrical
     power grid at the Jamaica Plain location, whichever occurs first.

     CESI's total aggregate liability to KHI and its' affiliates for liquidated
     damages and other costs or payments to KHI and its affiliates arising out
     of the warranties contained in this Agreement, shall in no event exceed
     US$[*] per engine or a total of US$[*]. In order for CESI to have any
     liability for liquidated damages for any unit other than those installed at
     Enron's Jamaica Plain project CESI must provide explicit written
     acceptance, at CESI's sole option, of such LD responsibility prior to
     contract execution by KHI.

     In addition to the $[*] limitation for liquidated damages and corrections
     stated above in this Article 6 CESI will be liable for an additional amount
     of up to US$[*], as liquidated damages, payable only in the event that the
     combustion systems at US Veterans Administration Medical Center at Jamaica
     Plain, Boston, MA are required by Enron to be replaced at KHI's cost by
     DLN plus SCR systems due to a failure of the Xonon Combustion System to
     perform to the guarantee conditions set forth in this Agreement and which
     failure was directly and substantially the result of CESI's inability to
     meet its emissions performance obligations under this Agreement and
     provided that CESI shall have been given reasonable opportunity and access
     to correct such performance breach, including the reasonable cooperation
     and support of KHI and its affiliates.

     In any event, KHI shall take all reasonable action and use its best efforts
     to mitigate warranty costs and liquidated damages which CESI may be liable
     to pay and CESI shall only be liable to the extent that such costs and
     damages could not have reasonably been avoided or mitigated by KHI or its
     affiliates or subcontractors.

     THIS WARRANTY IS IN LIEU OF ALL WARRANTIES, EXPRESS OR IMPLIED, INCLUDING
     WITHOUT LIMITATION, WARRANTIES OF MECHANTABILITY AND FITNESS FOR A
     PARTICULAR PURPOSE. All other representations to KHI/KMC and all other
     obligations or liabilities do not constitute a warranty. Liability for
     incidental or consequential damages is specifically disclaimed. No person
     is authorized to give any other warranties or to assume any other liability
     on CESI's behalf unless agreed to in writing by CESI.

7.0  CONFIDENTIALITY
     ---------------

     7.1   Nondisclosure and Use Obligations. Except as otherwise provided in
           this Article 7, during the term of this Agreement and for a period of
           five (5) years thereafter and in no event, for less than a total ten
           (10) years from Effective Date, all information of a confidential
           nature disclosed pursuant to this Agreement by one party to another
           and, in the case of documents, designated by the disclosing party by
           an appropriate stamp, marking or legend as being confidential to the
           disclosing party shall be used by the receiving party only for the
           purposes of this Agreement and shall be maintained as confidential by
           the receiving party, using the same safeguards as it uses to protect
           its own confidential information of a similar character. The
           receiving party will not

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           publish or disclose to Third Parties any such received information of
           a confidential nature without the prior express written consent of
           the disclosing party. The foregoing obligations on use and disclosure
           of confidential information shall not apply to any information which:

               (a)  is shown by objective evidence to be already in the
                    possession of the receiving party at the time of first
                    receipt from the disclosing party; or

               (b)  is shown by objective evidence to be developed independently
                    by employees of the receiving party who had not had access
                    to the confidential information; or

               (c)  is or becomes part of the public domain without breach of
                    this Agreement by the receiving party; or

               (d)  is made available by the disclosing party to a third party
                    without like obligations on disclosure; or

               (e)  is rightfully obtained by the receiving party from third
                    person without restriction or breach of this Agreement by
                    the receiving party; or

               (f)  in the case of documents, is not designated by an
                    appropriate stamp, marking or legend as being confidential
                    to the disclosing party at the time of disclosure.

     7.2   Oral information disclosed by one Party to the other shall be
           confirmed as confidential by a written summary to be submitted by the
           disclosing party to the receiving party within thirty (30) days after
           the oral transmission thereof. For purposes of this Article 7 ,
           information and data described above shall be referred to as
           "Information".

     7.3   To the extent it is reasonably necessary or appropriate to fulfill
           its obligations or exercise its rights under this Agreement,

               (a)  a Party may disclose Information it is otherwise obligated
                    under this Article 7 not to disclose to its directors,
                    officers, employees, attorneys, accountants, consultants and
                    sublicensees, on a need-to-know basis on the condition that
                    such Persons agree to keep the Information confidential for
                    the same time periods and to the same extent as such party
                    is required to keep the Information confidential;

               (b)  a Party may disclose Information, described in Section 8.1
                    below, that it is otherwise obligated under this Article 7
                    not to disclose to its Affiliates and outside contractors,
                    on a need-to-know basis on the condition that such Persons
                    agree to keep the Information confidential for the same
                    periods and to the same extent as such party is required to
                    keep the information

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                    confidential; and

               (c)  a Party may disclose such Information to government, other
                    regulatory authorities or any competent court to the extent
                    that such disclosure is required by applicable law,
                    regulation or court order, or is reasonably necessary to
                    obtain patents and to commercially market the Adapted M1A-
                    13A, the Adapted Kawasaki Gas Turbines and the Products,
                    provided that the disclosing party shall provide prior
                    written notice to the other Party and sufficient opportunity
                    to object to such disclosure or to request confidential
                    treatment thereof.

     7.4   Disclosure of Terms. CESI and KHI shall not disclose any terms or
           conditions of this Agreement to any Third Party without the prior
           consent of the other Party, except as required by applicable law.

8.0  PUBLICATION
     -----------

     8.1   Notice of Publication. During the term of this Agreement, CESI and
           KHI each acknowledge the other party's interest in publishing certain
           of its results to obtain recognition within the scientific and
           investment communities and to advance the state of scientific
           knowledge. Each Party also recognizes the mutual interest in
           obtaining valid patent protection and protecting business interests.
           Consequently, either Party, its employees or consultants wishing to
           make a publication (including any oral disclosure made without
           obligation of confidentiality) relating to work performed by such
           Party as part of the Adaptation Program (the "Publishing Party")
           shall transmit to the other Party (the "Reviewing Party") a copy of
           the proposed written publication at least forty-five (45) days prior
           to submission for publication, or an outline of such oral disclosure
           at least fifteen (15) days prior to presentation. The Reviewing Party
           shall have the right (a) to propose modifications to the publication
           for patent reasons or to protect or delete proprietary information,
           and (b) to request a reasonable delay in publication in order to
           protect patentable or proprietary information.

     8.2   Timing of Publication. If the Reviewing Party requests such a delay,
           the Publishing Party shall delay submission or presentation of the
           publication for a period of ninety (90) days to enable patent
           applications protecting each Party's rights in such information to be
           filed. Upon the expiry of forty-five (45) days, in the case of
           proposed written disclosures, or fifteen (15) days, in the case of
           proposed oral disclosures, from transmission to the Reviewing Party,
           the Publishing Party shall be free to proceed with the written
           publication or the presentation, respectively, unless the Reviewing
           Party has requested the delay described above.

     8.3   Disclosure Regarding Agreement. Neither Party shall make a press
           release or other public disclosure of the fact that this Agreement
           has been entered into or any details of its terms without the other
           party's prior consent, unless such disclosure is required, on the
           advice of counsel, to comply with any local, state or federal law or
           regulation, in which case disclosure can be made upon prior

                                      11
<PAGE>

           written notice to the other party.

9.0  TECHNOLOGY AND PATENT RIGHTS
     ----------------------------

     9.1   Ownership of Background Technology. The entire right, title and
           interest in all Background Technology shall be retained by the Party
           owning it. To the extent a Party is granted any right to use
           Background Technology under this Agreement, the use of such
           Background Technology shall be limited to the express purposes of
           this Agreement and for the defined field as appears in this
           Agreement.

     9.2   Ownership of Adaptation Technology. The entire right, title and
           interest in all Adaptation Program Technology (a) conceived by
           employees or others acting solely on behalf of CESI or its Affiliates
           shall be owned solely by CESI, (b) conceived by employees or others
           acting solely on behalf of KHI or its affiliates shall be owned
           solely by KHI. Inventions conceived during the term of this Agreement
           by employees of CESI and KHI, or their respective Affiliates, shall
           be owned jointly by CESI and KHI. The joint interest of inventions
           shall be based on employees or agents of both parties being named as
           inventors in accordance with applicable laws of inventorship of the
           United States. CESI and KHI each hereby represents that all employees
           performing its obligations under this Agreement shall be obligated
           under a binding written agreement to assign to the appropriate owner,
           or as it shall direct, all Technology conceived by such employees.

     9.3   CESI Indemnification. CESI shall indemnify and hold KHI, its
           Affiliates, customers and sublicensees, harmless, and hereby forever
           releases and discharges KHI, its Affiliates, customers, and
           sublicensees, from and against all liabilities, damages and expenses,
           including attorneys' and experts' fees and costs, arising out of any
           claim of patent or copyright infringement or trade secret
           misappropriation brought by a Third Party because of any use of CESI
           Technology, including the Applied CESI Technology and the
           manufacture, use or sale of, or offer to sell, any Product supplied
           by CESI to KHI, provided: (1) such use is in accordance with the
           Product or the Xonon Control Algorithm specifications; (2) CESI is
           notified promptly of receipt of the Third Party claim; and (3) CESI
           is given full control of any defense against such claim. If as a
           result of the claim, the use by KHI of the CESI Technology, including
           the Applied CESI Technology, the Product or Xonon Control Algorithm
           is enjoined, then CESI shall at its option (i) obtain the appropriate
           license from the Third Party claimant to enable KHI and its customers
           to continue such Product or control algorithm use, (ii) modify the
           CESI Technology, including the Applied CESI Technology, the Product
           or Xonon Control Algorithm so that it no longer is infringing, but
           still satisfies agreed upon performance specifications, or (iii)
           replace the CESI Technology, including the Applied CESI Technology,
           the Product or Xonon Control Algorithm with a non-infringing the CESI
           Technology, including the Applied CESI Technology, the Product or the
           Xonon Control Algorithm which satisfies agreed upon performance
           specifications. In the event CESI is unable to eliminate the
           infringement by any of the aforementioned measures, then CESI and KHI
           shall meet and agree on possible alternatives which as a last resort,
           shall include

                                      12
<PAGE>

           CESI taking back any infringing Product or Xonon Control Algorithm
           and refunding the purchase price for such Product or Xonon Control
           Algorithm, subject to KHI's agreement which shall not be unreasonably
           withheld. This indemnity is further subject to the understanding and
           agreement that KHI components are not covered by CESI's warranty
           under this Article 9.3.

     9.4   KHI Patent Indemnification. KHI shall indemnify and hold CESI and its
           subcontractors or sublicensees harmless and forever releases and
           discharges CESI and its subcontractors or sublicensees from and
           against all liabilities, damages and expenses, including attorney's
           and experts fees and costs arising out of any claim of patent or
           copyright infringement or trade secret misappropriation brought by a
           Third Party because of the manufacture, use or sale of, or offer to
           sell, the Adapted M1A-13A and/or Kawasaki Gas Turbines incorporating
           the XONON Combustion System (other than claims attributable to the
           CESI Technology, including the Applied CESI Technology, the Products
           or the XONON Control Algorithm) plus any use of KHI Technology or
           Technical Information pursuant to Article 4.5 of this Agreement by
           KHI, its Affiliates, customers or sublicensees, provided CESI
           notifies KHI promptly of receipt of the Third Party claim and KHI is
           given full control of any defense against such claim. Further, as to
           any CESI technology that is modified and/or adapted by KHI to
           function with Kawasaki Gas Turbines, KHI will fully indemnify CESI
           within the terms of this Article 9.4, unless KHI can reasonably show
           that the failure was (1) caused directly and solely by a CESI error
           or omission and (2) that KHI could not have been reasonably expected
           to detect such an error or omission.

     9.5   Enforcement of Patents and Other Technology Rights. CESI shall, at
           its sole expense, use its best efforts to enforce CESI owned Patents
           and other Technology rights relating to any Products purchased by KHI
           against any infringement of such Patents or unauthorized use or
           misappropriation of such Technology rights by a Third Party of which
           CESI becomes aware. KHI shall promptly notify CESI if KHI becomes
           aware of any such infringement or Technology misappropriation. In the
           event such action includes the bringing of a suit against such Third
           Party, KHI shall provide such assistance as CESI shall reasonably
           request, provided that CESI shall reimburse KHI for all reasonable
           expenses thereby incurred. Costs and expenses, including attorney's
           fees of any lawsuit instituted by CESI shall be borne by CESI. The
           amount of recovery paid to CESI shall belong to and be the sole
           property of CESI.

     9.6   KHI License. In the event KHI conceives inventions or exchanges
           Technical Information comprising improvements and/or modifications to
           the Xonon Module during the period of this Agreement and for five (5)
           years following expiration or termination of this Agreement and/or if
           KHI conceives, by participation in whole or in part of KHI employees
           who had access to CESI Technology, any invention comprising an
           improvement or modification to the Xonon Combustion System and/or
           Xonon Module or develops Technology which is derived from CESI
           Technology, during such period, then KHI shall grant to CESI an
           exclusive royalty-free, perpetual world-wide, irrevocable license
           (with unrestricted rights to sublicense) to make, have made, use,
           sell, lease and/or export Products under both the aforesaid technical
           information and

                                      13
<PAGE>

           any Patents which result from the aforesaid inventions

     9.7   CESI License. In the event CESI conceives inventions or exchanges
           technical information comprising improvements and/or modifications to
           KHI Gas Turbines, other than combustion systems, during the period of
           this Agreement and for five (5) years following expiration or
           termination of this Agreement and/or if CESI conceives, by
           participation in whole or in part of CESI employees who had access to
           KHI Technology, any invention relating to the aforesaid gas Turbines
           or develops gas turbine technology which is derived from KHI
           Technology, during such period, then CESI shall grant to KHI an
           exclusive royalty-free, perpetual, world-wide, irrevocable license
           (with unrestricted right to sublicense) to make, have made, use,
           sell, lease and/or export KHI Gas Turbine under both the aforesaid
           technical information and any Patents which result from the aforesaid
           inventions.

     9.8   Patent Filing Procedure. In cases of sole inventors during the term
           hereof, the inventing party shall retain the sole right to determine
           whether or not Patent applications will be filed, and whether Patents
           and Patent applications will be maintained, on any such inventions
           which are solely conceived by its employees. With regard to
           inventions conceived jointly by both parties during the Adaptation
           Program under this Agreement and Patents arising from such joint
           inventions which shall be the joint property of CESI and KHI. Both
           parties shall be free to utilize the same and to license third
           parties only as described in Article 4.0 of this Agreement. With
           respect to such joint inventions, each party has the right to file
           the Patent on such inventions in any country and to jointly own such
           Patent to be filed and/or registered. And the party who has made
           Patent application shall keep the other party fully advised of the
           status of the prosecution of each such jointly conceived Patent
           application and shall consult with such other party in advance with
           respect to the advisability of continuing said prosecution in the
           event of any final rejection, appeal, interference, or the like, and
           each party may, at any time by ten (10) days' notice to the other
           party, elect not to continue to pays the services and expenses
           incurred after the date of said election with respect to any such
           Patent or Patent application; provided, however, that if either party
           elects to proceed, the other party who does not want to continue such
           prosecution or payment shall assign to the party electing to proceed
           all rights to the Patent or Patent application with respect to which
           the election is being made. Neither party hereto shall be obligated
           to make any payments for or on account of proceedings before any
           court or any other tribunal or agency in connection with the
           maintenance or assertion of any Patents based on joint inventions.

     9.9   No Other Technology Rights. Except as otherwise provided in this
           Agreement, under no circumstances shall a Party, as a result of this
           Agreement, obtain any ownership interest or other right in any
           Technology, know-how, Patents, pending patent applications or
           products of the other Party, including items owned, controlled or
           developed by the other, or transferred by the other to such Party at
           any time pursuant to this Agreement.

10.0 TERM AND TERMINATION
     --------------------

     10.1  Term. The term of this Agreement is five (5) years unless extended in
           writing for an additional period by mutual agreement of the parties
           at least 60 days in

                                      14
<PAGE>

           advance of the expiry hereof.

     10.2  Early Termination. KHI may, in its sole discretion (after giving due
           regard to CESI's concerns), terminate this Agreement prior to its
           expiration date by written notice to CESI setting forth such
           expiration date. However, should thirty-eight (38) Adapted Kawasaki
           Gas Turbines be not sold until such termination, the balance of
           payment stipulated in the Article 3 shall be payable to CESI at the
           time of such termination. Should CESI terminate the Agreement during
           the term of this Agreement, by its sole discretion, KHI's obligation
           for above balance of such payment shall be forgiven.

     10.3  Termination for Cause. Either party may terminate this Agreement for
           cause upon the occurrence of any of the following:

               (a)  The other party shall (a) seek the liquidation,
                    reorganization, dissolution or winding up of itself (other
                    than dissolution or winding up for the purposes of
                    reconstruction or amalgamation) or the composition or
                    readjustment of all or substantially all of its debts, (b)
                    apply for or consent to the appointment of, or the taking of
                    possession by, a receiver, custodian, trustee or liquidator
                    of itself or substantially all of its assets, (c) make a
                    general assignment for the benefit of its creditors, (d)
                    commence a voluntary case under the Bankruptcy Code, (e)
                    file a petition seeking to take advantage of any other law
                    relating to bankruptcy, insolvency, reorganization, winding-
                    up or composition or readjustment of debts, or (f) adopt any
                    resolution of its Board of Directors or stockholders for the
                    purpose of effecting any of the foregoing; or

               (b)  A proceeding or case shall be commenced without the
                    application or consent of the other party and such
                    proceeding or case shall continue undismissed, or an order,
                    judgment or decree approving or ordering any of the
                    following shall be entered and continue unstayed in effect,
                    for a period of ninety (90) days from and after the date
                    service of process is effected upon the other party, seeking
                    (a) its liquidation, reorganization, dissolution or winding
                    up, or the composition or readjustment of all or
                    substantially all of its debts, (b) the appointment of a
                    trustee, receiver, custodian, liquidator or the like of
                    itself or of all or substantially all of its assets, or (c)
                    similar relief under any law relating to bankruptcy,
                    insolvency, reorganization, winding up or composition or
                    readjustment of debts; or

               (c)  Except as otherwise provided in Article 10.5 below, upon or
                    after the breach of any material provision of this
                    Agreement, if the breaching Party has not cured such breach
                    within ninety (90) days after notice thereof from the other
                    Party, this Agreement shall terminate for cause, at the
                    option of the other Party, upon the expiration of such
                    ninety (90) day cure period.

                                      15
<PAGE>

     10.4  In case of termination of this Agreement by KHI in accordance with
           Article 10.3 due to the causes attributable to CESI, CESI agrees that
           (i) CESI shall supply KHI with the Product to be incorporated into
           Kawasaki Gas Turbines for the project of which order KHI has already
           received from its customers; and (ii) KHI has the right as set forth
           in Article 4.2 after the termination of this Agreement, until such
           time as this Agreement would naturally expire had KHI not terminated
           this Agreement.

     10.5  Effect of Termination. Termination of this Agreement shall not
           relieve the parties of any obligation accruing prior to such
           termination. The provisions of Articles 4.3 and 4.5 [Technology and
           Use Rights Transfer], Article 6 [Warranty and Representation by
           CESI], Article 7 [Confidentiality], Article 9 [Technology and Patent
           Rights], Article 11 [Settlement of Disputes] and Article 12
           [Indemnity] shall survive the expiration or any termination of this
           Agreement.

11.0 SETTLEMENT OF DISPUTES
     ----------------------

     In the event that any disputes arise between CESI and KHI which cannot be
     amicably settled by the parties, each party shall have the right to request
     binding arbitration on the issue. In such event, CESI and KHI shall agree
     on a single, qualified, legally and technically trained, independent
     arbitrator to review the relevant evidence and render a decision on such
     disputes including whether(disputes including but not limited to)
     termination is justified under the circumstances. The arbitration shall be
     held in Los Angeles, California, U.S.A., unless otherwise agreed by the
     parties. Although the rules of commercial arbitration of the AAA may be
     employed, its auspices need not be employed. Both parties shall use all
     reasonable efforts to select the independent arbitrator and complete the
     arbitration within sixty (60) days after the notice of request for
     arbitration. The decision of the arbitrator shall be final and binding, and
     the non-prevailing party shall pay all of the costs of the arbitrator. If
     arbitration is requested hereunder, in no event shall any remedies provided
     in this Agreement and triggered by default under this Article 11.3 be
     implemented until after the decision of the arbitrator has been rendered.

12.0 INDEMNITY
     ---------

     12.1  Direct Indemnity. Each party shall indemnify and hold the other
           party, its Affiliates and sublicensees harmless, and hereby forever
           releases and discharges the other party, its Affiliates and
           sublicensees, from and against all claims demands, liabilities,
           damages and expenses, including attorneys fees and costs (all
           "Liabilities"), in respect of personal injury to or death of third
           parties, or in respect of loss of or damage to any third party's
           property, arising out of any breach of a representation or warranty
           contained herein, negligence, recklessness or intentional wrongful
           acts or omissions of the indemnifying party, its Affiliates or
           sublicensees in connection with the work performed by such party
           during and after the term of this Agreement except in each case to
           the extent such Liabilities resulted from negligence, recklessness or
           intentional wrongful acts or omissions of the other party. Neither
           party shall be liable to the other for any special, indirect,
           incidental or consequential damages arising out of any terms or
           conditions in this Agreement or with respect to the performance
           thereof.

                                      16
<PAGE>

     12.2  Procedure. A party (the "Indemnitee") that intends to claim
           indemnification under Article 12.1 shall promptly notify the other
           party (the "Indemnitor") of any Liability or action in respect of
           which the Indemnitee or any of its Affiliates intend to claim such
           indemnification, and the Indemnitor shall have the right to
           participate in, and, to the extent the Indemnitor so desires, jointly
           with any other Indemnitor similarly noticed, to assume the defense
           thereof with counsel selected by the Indemnitor. The indemnity
           obligations under Article 12.0 shall not apply to amounts paid in
           settlement of any loss, claim, damage, liability or action if such
           settlement is effected without the consent of the Indemnitor, which
           consent shall not be withheld unreasonably. The failure to deliver
           notice to the Indemnitor within a reasonable time after the
           commencement of any such action, if materially prejudicial to its
           ability to defend such action, shall relieve such Indemnitor of any
           liability to the Indemnitee under Article 12.0, but the omission so
           to deliver notice to the Indemnitor will not relieve it of any
           liability that it may have to any Indemnitee otherwise than under
           Article 12.0. The Indemnitor may not settle the action or otherwise
           consent to an adverse judgment in such action that diminishes the
           rights or interests of the Indemnitee without the express written
           consent of the Indemnitee. The Indemnitee, its employees and agents,
           shall cooperate fully with the Indemnitor and its legal
           representatives in the investigation of any action, claim or
           liability covered by this indemnification at Indemnitor's expense.

13.0 EXCUSABLE DELAY
     ---------------

     Neither party shall be held liable or responsible to the other party nor be
     deemed to have defaulted under or breached this Agreement for failure or
     delay in fulfilling or performing any term of this Agreement to the extent,
     and for so long as, such failure or delay is caused by or results from
     causes beyond the reasonable control of the affected party including but
     not limited to fire, floods, embargoes, war, acts of war (whether war be
     declared or not), insurrections, riots, civil commotion, strikes, lockouts
     or other labor disturbances, acts of God or acts, omissions or delays in
     acting by any governmental authority or the other party. The foregoing
     shall be subject to the delayed party using reasonable efforts to mitigate
     the adverse consequences of such delay.

14.0 ASSIGNMENT
     ----------

     This Agreement may not be assigned or otherwise transferred, nor, except as
     expressly provided hereunder, may any right or obligations be assigned or
     transferred by either party without prior consent of the other party;
     provided further, however that (i) each party may assign its rights and
     interests, and delegate its obligations, hereunder, effective upon written
     notice thereof, to any Affiliate, and (ii) either party may assign its
     rights and interests, and delegate its obligations, hereunder, effective
     upon written notice thereof, to any Third Party which acquires all or
     substantially all of the assets of CESI or KHI, as the case may be, or
     which is the surviving third party in a merger or consolidation with either
     of CESI or KHI as the case may be, if such Third Party assumes all of the
     obligations of CESI or KHI, as the case may be, hereunder. Subject to the
     foregoing, any reference to CESI or KHI hereunder shall be deemed to
     include the successors thereto and assigns thereof. Notwithstanding
     anything to the contrary contained in this Article 14.0, if, without KHI's
     prior written consent, either (a) CESI

                                      17
<PAGE>

     assigns or otherwise transfers its rights and interests under this
     Agreement to any Competing Manufacturer (defined below) including any
     transfer by merger or asset sale; or (b) any Competing Manufacturer
     purchases or otherwise obtains a controlling ownership interest (defined as
     50% or more ownership interest) in CESI; then this Agreement shall
     terminate upon KHI's election and written notice thereof to CESI and such
     termination shall be deemed a termination for cause under Article 10.3. For
     the purposes of this Agreement, "Competing Manufacturers" shall mean only
     companies that design, manufacture and sell gas turbines of less than [*]
     for power generation or mechanical drive applications.

15.0 SEVERABILITY
     ------------

     Each Party hereby acknowledges that it does not intend to violate any
     public policy, statutory or common laws, rules, regulations, treaty or
     decision of any government agency or executive body thereof of any country
     or community or association of countries. Should one or more provisions of
     this Agreement be or become invalid, the parties shall substitute, by
     mutual consent, valid provisions for such invalid provisions which valid
     provisions in their economic effect are sufficiently similar to the invalid
     provisions that it can be reasonably assumed that the parties would have
     entered into this Agreement with such provisions. In case such provisions
     cannot be agreed upon, the invalidity of one or several provisions of this
     Agreement shall not affect the validity of this Agreement as a whole,
     unless the invalid provisions are of such essential importance to this
     Agreement that it is to be reasonably assumed that the parties would not
     have entered into this Agreement without the invalid provisions.

16.0 MISCELLANEOUS
     -------------

     16.1  Price, Payment and Escalation. Out of scope work to be billed at
           CESI's then current US DOE approved rates. Terms are net 30 days,
           late payments subject to one point five (1.5) percent (%) per month
           charge. Payments must be made by electronic funds transfer to CESI's
           bank in US funds, net of all exchange rates, taxes, excepting CESI's
           tax on income of its operations, imposts, duties, and foreign
           governmental license taxes or fees.

     16.2  Notices. Any consent, notice or report required or permitted to be
           given or made under this Agreement by one of the parties to the other
           shall be in writing, delivered personally or by facsimile (and
           promptly confirmed by personal delivery, U.S. First class mail or
           courier), U.S. first class mail or courier, postage prepaid (where
           applicable), addressed to such other party at its address indicated
           below, or to such other address as the addressee shall have last
           furnished in writing to the addressor and (except as otherwise
           provided in this Agreement) shall be effective upon receipt by the
           addressee.

           If to CESI:  Catalytica Energy Systems, Inc.
                        430 Ferguson Drive
                        Mountain View, CA 94043, U.S.A.
                        Attention: Patrick T. Conroy, Sr. Vice President

                                      18

[*] - Confidential information has been deleted from this section.
<PAGE>

           If to KHI:   Kawasaki Heavy Industries, Ltd.
                        Gas Turbine Division
                        1-1, Kawasaki-cho, Akashi 673-8666, Japan
                        Attention: Yoshihiro Asada
                                   International Sales Manager
                                   Industrial Gas Turbine Center

     16.3  Applicable Law. This Agreement shall be governed by and construed in
           accordance with the laws of the State of California, without regard
           to the conflicts of law principles thereof.

     16.4  Agreement Limited to Express Terms. Except as otherwise expressly
           provided in this Agreement, the parties agree that the Adaptation
           Program contemplated herein, and any discussions or communications
           between the parties relating thereto, shall not restrict, either
           party's right to take whatever future actions such party unilaterally
           determines to be in its best interest, including the right to
           undertake similar programs or relationships with Third Parties
           covering subjects related to the matters covered herein, and neither
           the holding of any discussions between the Parties, nor the exchange
           of any information shall diminish or restrict in any way the right
           that any party has to market, lease, sell or otherwise make available
           its products and services to any customer or Third Party.

     16.5  KHI shall be liable for the breach of this Agreement by any its
           Affiliates.

     16.6  Entire Agreement. This Agreement contains the entire understanding of
           the Parties with respect to the subject matter hereof. All express or
           implied agreements and understandings, either oral or written,
           heretofore made are expressly superseded by this Agreement. This
           Agreement may be amended, or any term hereof modified, only by a
           written instrument duly executed by both parties.

     16.7  Headings. The captions to the Articles and Sections hereof are not a
           part of the terms but are merely guides or labels to assist in
           locating and reading the Articles and Sections hereof.

     16.8  Independent Contractors. It is expressly agreed that CESI and KHI
           shall be independent contractors and that the relationship between
           the two parties shall not constitute a partnership, joint venture or
           agency. Neither CESI nor KHI shall have the authority to make any
           statements, representations or commitments of any kind, or to take
           any action or undertake any obligation, which shall be binding on the
           other party, without the prior consent of the other party.

     16.9  Waiver. The waiver by either Party of any right hereunder or the
           failure to perform or of a breach by the other party shall not be
           deemed a waiver of any other right hereunder or of any other breach
           or failure by said other party whether of a similar nature or
           otherwise.

                                      19
<PAGE>

     16.10 Counterparts. This Agreement may be executed in two or more
           counterparts, each of which shall be deemed an original, but all of
           which together shall constitute one and the same instrument.

     IN WITNESS WHEREOF, the parties have executed this Agreement as of the date
first set forth above.

AGREED FOR AND ON BEHALF OF                 AGREED FOR AND ON BEHALF OF
KAWASAKI HEAVY INDUSTRIES, LTD.             CATALYTICA ENERGY SYSTEMS, INC.
GAS TURBINE DIVISION

By:                                         By:

       ---------------------------------           -----------------------------
Name:  Kengo Yamashita                      Name:  Patrick T. Conroy

       ---------------------------------           -----------------------------
Title: Director and General Manager of      Title: Senior Vice President
       Gas Turbine Division

       ---------------------------------           -----------------------------

                                      20
<PAGE>

                                   Exhibit 1

                                Allocated Works
                                ---------------

CESI and KHI each shall conduct, at their own expenses, their respective scope
of works as follows:

1. CESI:
   1)  to transfer the Technology relating to the XONON 2.1 Combustion System,
       as defined in Exhibit 3, excluding XONON Module
   2)  to incorporate XONON 2.1 modification into the SVP configuration, testing
       of updated configuration and refinement as required to demonstrate the
       capacity to meet the performance specification defined in Exhibit 2.
   3)  to host additional meetings at CESI's facilities with KHI's engineering
       staff to ensure an effective transfer of technical data, and making a
       reasonable number of trips to KHI facilities to participate in design
       meetings and to provide consultation.
   4)  to transition the SVP controls information to support KHI's development
       of the production control system.
   5)  to provide reasonable support to KHI's development of an integrated
       control system for its' M1A-13X packages.
   6)  to document specification for maintenance and operation of the XONON 2.1
       combustor.
   7)  to provide 1 week of engineering support to assist in Factory Acceptance
       Testing at the Kawasaki Packager's U.S. facility.
   8)  to provide 3 weeks of engineering support to assist in Site
       commissioning.

2. KHI:
   1)  to modify the XONON 2.1 Combustion System to metricate, cost reduce and
       otherwise adapt the design to enhance its integration into the Kawasaki
       Gas Turbines, including model M1A-13A model with low flow scroll
       configuration.
   2)  to provide technical information to CESI for the M1A-13A and M1A-13D as
       required in support of CESI's XONON 2.1 development activities.
   3)  to provide engine performance and emissions data from the XONON 2.1
       engine testing at Akashi.

                                      21
<PAGE>

                                   Exhibit 2

                          Performance Specifications
                          --------------------------

CESI Xonon 2.1 system emissions Performance Specification

     1.  Air emissions, when operating on natural gas fuel of a composition
         within the range specified in Exhibit 4, equal to or less than the
         concentrations specified in this section all corrected to 15 % Oxygen
         in the engine exhaust; with the ambient air temperature between 0
         degrees F and 120 degrees F at sea level elevation and with the engine
         load between [*] and [*] of the temperature and altitude corrected
         nameplate rating of the M1A-13X, without consideration for any gearbox
         or other accessory equipment limitations on power output of the
         machine. (reference drawing X21/K15-08200 Rev.A)

     2.  Oxides of Nitrogen (NOx) equal to or less than 2.5 parts per million
         plus the cumulative calculated accuracy limits of test instrument
         system.

     3.  Carbon Monoxide (CO) equal to or less than 10 parts per million plus
         the cumulative calculated accuracy limits of test instrument system.

     4.  Unburned Hydrocarbons (UHC) equal to or less than 10 parts per million
         plus the cumulative calculated accuracy limits of test instrument
         system.

     5.  Emissions testing will be performed in accordance with the applicable
         requirement and methods as adopted by the MDEP and the U.S. EPA as
         listed below. NOx, O2 and CO2 will be tested in accordance with U.S.
         EPA Gas Turbine Test Method 20 located in Appendix A of 40 CFR 60. CO
         will be in accordance with Method 25E. The UHC testing will be in
         accordance with Method 25E. Mass Flow (both pollutants and exhaust
         flow) will be determined using Method 19.

                                      22

[*] - Confidential information has been deleted from this section.
<PAGE>

                                   Exhibit 3

                             Technical Information
                             ---------------------

CESI shall provide KHI with all the Technical Information for the Xonon 2.1
combustor as follows:

1.  XONON 2.1 Bill of Material(BOM)
2.  Engineering Drawings for Fabricated Combustor Hardware, Sub Assemblies and
    the Top Level Assembly
3.  By Pass Valve Specifications
4.  Part Numbers and Sources for "Off the Shelf" Hardware
5.  Drawings for Special Tooling or Handling Equipment used on the Combustor at
    SVP
6.  "Pro Engineer" part and drawing files for the Combustor Hardware and
    Assemblies
7.  Written Instructions of the Combustor Assembly Process
8.  Written Instructions for the Catalyst Module Change Out Procedure
9.  2-D Finite Element Analyses of XONON 2.1 Combustor Excluding the Catalyst
    Module
10. SVP Engine Test results from Silicon Valley Power (SVP) test installation
    for Configuration Incorporating XONON 2.1 Upgrades;
    a.  Combustion system overall aerothermal performance
    b.  Engine operating data
    c.  Preburner aerothermal performance
    d.  Mixing system aerothermal performance
    e.  Measured temperatures
    f.  Bypass system measured performance
11. Description of Existing XONON 2.0 Control System and Incremental Changes
    for XONON 2.1 Control System
12. I/O list for SVP

                                                                            END.

                                      23
<PAGE>

                                   Exhibit 4

                               Natural Gas Fuel
                               ----------------

A composition of natural fuel gas for Performance Specifications in Exhibit 2 is
specified as follows:
The turbine is to be operated on gaseous fuel with methane as the dominant
component, Acceptable maximum concentrations (on an inerts-free basis) of other
gaseous species are as follows :

                   Ethane (C2)                      4.0 mol%
                   Propane (C3)                     1.5 mol%
                   Butanes and higher (C4 plus)     0.2 mol%

Fuels with compositions outside of the above limits must be referred to
Catalytica for evaluation.
The combustor cannot be operated on a liquid fuel.

Contaminants in the fuel (i.e., species containing elements other than carbon,
hydrogen, and/or oxygen) that could affect catalyst durability or performance
must be removed to acceptable levels, Although they are unlikely to be present
in the fuel supplied to the turbine, the presence of any of the following
elements may require special precautions for cleanup:

                      Antimony      Calcium       Phosphorus
                      Arsenic       Chromium      Potassium
                      Bismuth       Lead          Sodium
                      Boron         Magnesium     Vanadium
                      Cadmium       Mercury

Low levels of sulfur-containing species are not injurious to the catalyst
itself, but they can be harmful to downstream equipment. The specifications for
the turbine should be consulted for limits on sulfur concentrations.

Detection of any of these species in the fuel supplied to the turbine should be
discussed with Catalytica.

NOTE: The catalyst module itself can operate on a fuel of Wobbe Index (Lower
Heating Value basis) as low as 900 (e.g., 15 mol% CO2) to as high as 1200.
Current control systems are designed for fuels with Wobbe index of 1150-1200.
Lower Wobbe values would require modifications to fuel valves and piping to
provide for higher fuel flow rates. Consult with Catalytica regarding
feasibility of specific fuels.

                                      24
<PAGE>

                                  Appendix A

1.   Drawings

     All drawings necessary to procure fabricated components for Xonon Ver. 2.1
     must be complete and shipped to KHI by either FedEx or DHL by November 1,
     2000.(( Part numbers for purchased items (e.g. bolts, thermocouples,
     standard flanges, etc.) will be provided in place of drawings.)) Proof of
     shipment shall be by providing the shipping company's tracking number.
     Failure to ship such drawings by 1 November 2000 shall result in an
     assessment of liquidated damages of [*] per day until such time as all
     drawings are complete and shipped to KHI.

2.   Combustion System Performance as affecting Power Output

     When equipped with a Xonon 2.1 combustion system which system's pressure
     drop does not exceed [*] as measured from compressor discharge plenum
     flange to 1st stage turbine nozzle inlet and which system's Tad (2) is at
     least [*] degrees C, and which system is installed on a Kawasaki M1A-13A
     gas turbine (with the "low flow" scroll and transition piece with no
     cooling holes) , in new and clean condition, and otherwise conforming to
     Kawasaki's performance specification then power output shall not be less
     than [*] kWe when corrected to site conditions (3) and while meeting the
     emissions levels specified below. Should the power fall between [*] and [*]
     kWe, on a per engine basis, then liquidated damages of $[*] shall be
     assessed in a pro-rated manner across this range--and CESI shall pay [*]
     thereof. If [*] kWe cannot be achieved, then a remedy action must be
     undertaken. Power and efficiency shall be measured by ANSI / ASME PTC 22-
     1985.

3.   Combustion System Performance as affecting Heat Rate

     When equipped with a Xonon 2.1 combustion system which system's pressure
     drop, does not exceed [*] as measured from compressor discharge plenum
     flange to transition piece inlet and which system's Tad (2) is at least
     [*] degrees C, and which system is installed on a Kawasaki M1A-13A gas
     turbine (with the "low flow" scroll and transition piece with no cooling
     holes) in new and clean condition, and otherwise conforming to Kawasaki's
     performance specification, then the heat rate, as measured in accordance
     with ANSI / ASME PTC 22-1985 shall not exceed [*] BTU / kWh-e at [*] kWe
     output, when corrected to site conditions (3) and while maintaining the
     emissions levels specified below. Should the heat rate exceed [*] BTU /
     kWe-hr, but be less than [*] BTU/kWe-hr, then liquidated damages of $[*]
     shall be assessed in a pro-rated manner across this range on a per machine
     basis--and CESI shall pay [*] thereof. If [*] BTU/kWe-hr cannot be
     achieved, then a remedy action must be undertaken.
     Exhaust Gas Temperature

     The exhaust gas temperature must be more than [*] degrees C at [*] kW while
     meeting the emissions specified below; except that during the new catalyst
     break-in period of [*] the exhaust gas temperature shall be not greater
     than [*] degrees C.

4.   Emissions
     The required emissions are as follows:
     1)   NOx       2.5 ppm

                                      25

[*] - Confidential information has been deleted from this section.
<PAGE>

     2)   CO        10 ppm
     3)   UHC       10 ppm
     4)   [*]

     If the above mentioned emissions cannot be achieved, then a remedy action
     must be undertaken. Such remedy action may include the addition of a
     compressor air bleed.

5.   Turn Down Operation

     Stable operation must be achieved from [*] load while complying with the
     emissions levels listed above. In the event that the Enron contract does
     not require turndown to [*] load then CESI's obligation for % turndown
     shall be no greater than Kawasaki's contractual obligation.

______________________________
NOTES:

(1)  All measurements must be per mutually acceptable procedures.

(2)  Tad is defined as the [*]. The Tad calculation is based on [*]
 .  Combustor air flow defined as a fixed fraction of the total engine air flow
   with zero air flowing through the bypass and bleed systems. [*]
 .  Natural gas fuel with LHV = 908 BTU/ft 3 and specific gravity = 0.5868

(3)  Site Conditions:
Elevation                 100 Ft.MSL
Atmospheric pressure      14.7 psig
Ambient temperature       59 degree F ( 15 )
Inlet pressure drop       [*] inch W.C.
Exhaust pressure drop     [*] inch W.C.
Combustor pressure drop   [*] measured from compressor discharge plenum
                          flange to 1st stage turbine nozzle inlet

                                      26

[*] - Confidential information has been deleted from this section.<PAGE>

                                                                   Exhibit 10.27

                                                                         AG-024D

                      Xonon(TM)  Module Supply Agreement

This Agreement is made as of this 13th day of December, 2000, by and between
Kawasaki Heavy Industries, Ltd. (hereinafter referred to as "KHI"), a Japanese
corporation and having its principal place of business at 1-1 Higashi-Kawasaki-
cho 3-chome, Chuo-ku, Kobe, Japan;  Kawasaki Motors Corp., U.S.A. (hereinafter
referred to as "KMC"), a Delaware corporation and having its principal place of
business at 5080 36th Street S.E. Grand Rapids, Michigan, U.S.A. and Catalytica
Energy Systems, Incorporated (hereinafter referred to as "CESI"), a Delaware
corporation and having its principal place of business at 430 Ferguson Drive,
Mountain View, California, U.S.A., any or all of which shall also be hereinafter
referred to as a "party", and together as the "parties", respectively.

Whereas KHI and CESI entered into Technical Development and Transfer Agreement
dated as of 13th day of December, 2000 (hereinafter referred to as "TDTA"), and
agree to execute the Supply Agreement separately under Article 5.0 of the TDTA;
and

Whereas KHI and KMC are desirous to procure the XONON Module(s) from CESI, to be
incorporated into the Adapted M1A-13A and/or the Adapted Kawasaki Gas Turbines
or to be used as replacement of such XONON Module(s) , under the terms and
conditions as set forth in the Supply Agreement.  CESI is also desirous to
supply KHI and KMC with the XONON Module(s) , to be incorporated into the
Adapted M1A-13A and/or the Adapted Kawasaki Gas Turbines or to be used as
replacement of such XONON Module(s), under the terms and conditions as set forth
in the Supply Agreement.

     NOW, THEREFORE, in consideration of these premises and of the mutual
covenants herein contained, the parties agree as follows:

1.   Definitions
     -----------

Unless otherwise as specifically defined in this Agreement, the capitalized
words used in this Agreement shall have the same meanings as defined in the
TDTA.

2.   Customer Use / Rights
     ---------------------

CESI furnishes each XONON Module to KHI/KMC under the terms of a License with
the KHI/KMC having rights to sub-license the XONON Module to the operator of the
gas turbine (hereinafter the End User) only for installation in a gas turbine
combustion system designed specifically for such use by KHI/KMC licensed by CESI
pursuant to a written License.  The XONON Module consists of the container and
its internal components including the catalytically active elements.  The term
of License to the End User is for the period of time during which the XONON
Module is capable of combusting the specified range of fuel within the limits
set forth by CESI for emissions of NOx and other products of combustion.

KHI/KMC or its End User shall recover and return to CESI, freight prepaid, the
spent  XONON Module immediately after it is removed from service in the gas
turbine.  This license does not confer on KHI/KMC or the End User any rights of
ownership of such  XONON Module or in any underlying technology rights, of any
type, embodied or used therein.  The license to the End User is not transferable
to any other person, user, supplier, or customer; nor does it extend

                                       1

<PAGE>

                                                                         AG-024D

beyond the duty life of the XONON Module. No warranty of CESI extends to any
non-CESI provided XONON Module nor to the operation of any turbine not using a
CESI provided XONON Module.

If any returned XONON Module, which on inspection by CESI is substantiated by
CESI by reasonable proof with the consent of KHI/KMC to have been damaged,
altered, misused, tampered with or disassembled, in whole or in part, result in
forfeiture of the core charge for that module XONON Module.

All Licenses KHI/KMC enters with End Users shall include such terms, and KHI/KMC
shall enforce the terms of its Licenses with End Users.

3.   Acceptance
     ----------

The issuance of a purchase order document by KHI/KMC under and with reference to
this Agreement shall constitute a definitive contract of sale (herein
"Order"),subject to acknowledgement by CESI to the said purchase order within
seven (7) calendar days after the issuance thereof. Provisions contained in
purchase order documents issued   under and with reference to this Agreement
which materially add to or subtract from the provisions of this Agreement shall
not be a part of the Order unless specifically agreed to in CESI's written
acknowledgement.

4.   Modifications/Changes.
     ----------------------

Requests by KHI/KMC for any modifications or changes to the Order, including but
not limited to changes in specifications, quantities, delivery obligations and
terms of payment, must be made in writing. All such requests are subject to
CESI's written acceptance (such acceptance shall not be unreasonably withheld by
CESI) and may result in adjustments to price and / or delivery schedules.

5.   Prices and Payments
     -------------------

The License for the XONON Module has two price components.

The Core Charge is a charge levied on being granted the License for each XONON
Module and is subject to refund or credit to the account of KHI/KMC on return of
the spent XONON Module in good condition, reasonable wear and tear excepted, and
on the condition that the terms of the License have not been violated.  The Use
Charge is levied on procurement by KHI/KMC of each XONON Module and is not
refundable.

Unless otherwise specifically stated in CESI's offer, all prices are in U.S.
dollars and are valid for a period of ninety (90) days from the date of the
offer.

Prices of the XONON Module offered by CESI do not include sales, use or excise
taxes, import or export duties, special financing fees, value added taxes,
income or royalty taxes imposed outside the United States, consular fees,
special permits or licenses or similar charges.  KHI/KMC shall either pay any
and all such taxes and charges or provide CESI with acceptable exemption
certificates. All the prices are based on delivery EXWORKS factory (as defined
by Incoterms 1990), and do not include any charges for services such as
preservation packaging,

                                       2

<PAGE>

                                                                         AG-024D

insurance, brokerage fees, marine survey, load out and tie down, site
installation, or equipment start-up.

Invoices shall be submitted to KHI/KMC according to the payment schedule stated
in the offer, otherwise, invoices shall be submitted to KHI/KMC upon readiness
of modules for shipment.  If payment originates in the United States, invoices
shall be due and payable NET 30 DAYS from date of the invoice without regard to
delays for inspection or transportation. If payment originates outside the
United States, KHI/KMC must establish an irrevocable letter of credit in a form
and with a bank acceptable to CESI. Unless otherwise specifically stated in the
offer, all payments shall be in U.S. dollars. Should KHI/KMC's financial
responsibility become unsatisfactory to CESI, cash payment or other security may
be required. If KHI/KMC fails to meet these requirements CESI may discontinue
manufacture and treat such failure as reasonable grounds for repudiation of the
Order. In such event, cancellation charges set forth in this Agreement shall be
due CESI. Past due invoices shall be subject to interest charges at the maximum
lawful rate of interest. (1.5% per month)

The breakdown of the Core charge and the Use charge, and payment terms thereof
shall be stipulated on EXHIBIT "A" attached hereto.

6.   Escalation.
     -----------

The Core charge and the Use charge shall be adjusted in accordance with the
formula as set forth in EXHIBIT "B" attached hereto.

7.   Risk of Loss.
     -------------

CESI warrants that the License and any sub-license to End Users granted
hereunder to KHI/KMC is rightful and free from any security interest or other
lien or encumbrance of third parties. Unless otherwise expressly agreed in
writing by CESI, risk of loss of the XONON Module shall pass to KHI/KMC upon
delivery of the XONON Module  EX-WORKS factory. Claims for damages or shortages
attributable to CESI must be in writing and received by CESI within thirty (30)
days after receipt of XONON Module or within thirty (30) days after notice of
loss, whichever shall occur first, and must be accompanied by CESI's packing
slip and full particulars of any such claim.  Prior to returning any XONON
Module for any reason, except the return of spent XONON Module in the normal
course of business, KHI/KMC must obtain a Return Material Authorization (RMA)
from the CESI sales department.

8.   Alternative Product Source
     --------------------------

In case that CESI is unable to consistently meet KHI/KMC's requirement for XONON
Module(s) from a quality or delivery standpoint, CESI shall promptly establish a
second source of supply (as a vendor to CESI) with a Third Party manufacturer
designated by CESI and approved by KHI (which approval shall not be unreasonably
withheld), solely for the purpose of satisfying CESI's obligations to supply
XONON Module(s) to KHI/KMC.

9.   Warranty
     --------

CESI warrants the XONON Module to be free from defects in design, workmanship
and

                                       3

<PAGE>

                                                                         AG-024D

material used in their manufacture. This warranty will cover , each XONON
Module on a unit-by-unit basis, only for claims for such defects made during the
first expiration of that period (the "Warranty Period") (i) which begins upon
the first firing of a gas turbine containing the XONON Module and ends after an
aggregate [*] of fired operation of the gas turbine containing the XONON Module,
or (ii) which begins on the date of the first firing of the gas turbine
containing the XONON Module and ends [*] thereafter, whichever occurs first.

This warranty is conditioned on:

a. The XONON Module being installed and used in accordance with CESI's
recommended procedures and good industry practice, not altered, disassembled,
misused, tampered with or otherwise subjected to conditions outside the
environmental envelope specified; and,

b. Any defective XONON Modules are returned to CESI's facility without undue
delay within the Warranty Period in accordance with CESI's standard warranty
claim instructions, transportation charges prepaid; and,

c. Examination of such module(s) by CESI confirms the existence of such a
defect.

CESI's obligations under this warranty are limited to repair or replacement
including freight of such defective XONON Module(s) (as CESI elects ), free of
charge at CESI's place of business. Should multiple removal and reinstallation
during a single warranty period be required CESI will reimburse KHI/KMC for
reasonable costs of the second and subsequent installations. All replacement
XONON Module and repaired XONON Module are, warranted through, but not beyond,
the original Warranty Period. CESI's sole liability and responsibility, and
KHI/KMCs sole and exclusive remedy, with respect to this warranty shall be
limited to the remedies set forth above.

This warranty shall not apply to or include (i) Normal maintenance services or
adjustments, or (ii)  the removal or reinstallation of warranted modules except
as stated above (iii) any XONON Module which have been repaired or altered by
others, or (iv) the effects of corrosion, erosion or wear and tear or failure
occasioned by operation or condition of service more severe than specified.

CESI warrants that the XONON Module will conform only to such national, federal,
state or local laws, ordinances, regulations, codes and standards, as stated in
the Purchase Order applicable to the XONON Module supplied by CESI hereunder.

THIS WARRANTY IS IN LIEU OF ALL WARRANTIES, EXPRESS OR IMPLIED, INCLUDING
WITHOUT LIMITATION, WARRANTIES OF MECHANTABILITY AND FITNESS FOR A PARTICULAR
PURPOSE.  All other representations to KHI/KMC and all other obligations or
liabilities do not constitute a warranty. Liability for  incidental or
consequential damages is specifically disclaimed. No person is authorized to
give any other warranties or to assume any other liability on CESI's behalf
unless agreed to in writing by CESI.

10.  Force Majeure
     --------------

CESI shall not be liable for any delay in performance, any nonperformance, or
any other deviation in performance of CESI's obligations, nor for any loss or
damage to the  XONON Module supplied hereunder, when occasioned directly or
indirectly by any cause or causes

                                       4

[*]-Confidential information has been deleted from this section.
<PAGE>

                                                                         AG-024D

beyond the reasonable control of CESI or its subcontractors or suppliers,
including, but not limited to, acts of God, acts of criminals or of the public
enemy; war, riot; official or unofficial acts, orders, regulations or
restrictions of any governmental authorities, or failure, shortage or delay in
CESI's usual sources of labor or material supply caused by such reasons as
described in the proceeding of this sentence. CESI shall have a reasonable
extension of the time for performance when delayed by any such cause.

11.  Suspension of Order/Delay By KHI/KMC
     ------------------------------------

KHI/KMC's request for suspension of the Order or a delay in shipment must be
delivered in writing to CESI, and shall be valid if dispatched by facsimile or
e-mail with confirmation by registered mail. Such suspensions or delays may
result in adjustments to prices, payments and delivery schedules and are subject
to the provisions of the agreement licensing Xonon technology to the KHI/KMC.
The time required for subsequent completion of the Order may exceed the number
of days of suspension or delay due to CESI's scheduling constraints. If a
suspension is more that sixty (60) days in duration, KHI/KMC will pay CESI pro
rata for the portion of the Order completed. In the event that production-
fabrication has proceeded to the point that CESI deems it cannot reasonably
reschedule completion or the request for suspension is received less then sixty
(60) days prior to scheduled shipment, the Order shall be completed, invoiced,
and the XONON Module placed in storage at KHI/KMC's expense. CESI shall retain
ownership and a security interest therein until payment of the total Order price
is received. In the event CESI is otherwise unable to deliver the  XONON Module
when ready due to the action or inaction of KHI/KMC, CESI shall so notify
KHI/KMC. Such inability to deliver shall also be subject to the above
provisions.

12.  Term and Termination
     --------------------

12.1   The term of this Agreement is five (5) years, and shall be automatically
       renewed for an indeterminate number of consecutive one year periods
       unless either party shall serve the other with a notice of the
       termination in writing at least 60 days prior to the next renewal date.

       Such termination is effective at the close the business on next
       anniversary date.

12.2   Either party may terminate this Agreement for cause upon the occurrence
       of any of the following:

       A)  The other party shall (a) seek the liquidation, reorganization,
       dissolution or winding up of itself (other than dissolution or winding up
       for the purposes of reconstruction or amalgamation) or the composition or
       readjustment of all or substantially all of its debts, (b) apply for or
       consent to the appointment of, or the taking of possession by, a
       receiver, custodian, trustee or liquidator of itself or substantially all
       of its assets, (c) make a general assignment for the benefit of its
       creditors, (d) commence a voluntary case under the Bankruptcy Code, (e)
       file a petition seeking to take advantage of any other law relating to
       bankruptcy, insolvency, reorganization, winding-up or composition or
       readjustment of debts, or (f) adopt any resolution of its Board of
       Directors or stockholders for the purpose of effecting any of the
       foregoing; or

       B)  A proceeding or case shall be commenced without the application or
       consent of the other party and such proceeding or case shall continue
       undismissed, or an order, judgment or decree approving or ordering any of
       the following shall be entered and

                                       5

<PAGE>

                                                                         AG-024D

       continue unstayed in effect, for a period of ninety (90) days from and
       after the date service of process is effected upon the other party,
       seeking (a) its liquidation, reorganization, dissolution or winding up,
       or the composition or readjustment of all or substantially all of its
       debts, (b) the appointment of a trustee, receiver, custodian, liquidator
       or the like of itself or of all or substantially all of its assets, or
       (c) similar relief under any law relating to bankruptcy, insolvency,
       reorganization, winding up or composition or readjustment of debts; or

       C) Upon or after the breach of any material provision of this Agreement,
       if the breaching party has not cured such breach within ninety (90) days
       after notice thereof from the non-breaching party, this Agreement shall
       terminate for cause, at the option of the non-breaching party, upon the
       expiration of such ninety (90) day cure period.

12.3   In case of termination of this Agreement by KHI/KMC in accordance with
       Article 12.2 due to the causes attributable to CESI, CESI agrees that
       (i)CESI shall supply KHI/KMC with the XONON Module(s) to be incorporated
       into Kawasaki Gas Turbines for the project of which order KHI/KMC has
       already received from its customers; and (ii) KHI/KMC shall have the
       rights as granted under the Article 10 of the TDTA to continue to
       purchase Xonon Modules during the remainder of the term if the Agreement
       had not been terminated by KHI/KMC.

13.  Patent Infringement.
     --------------------

CESI warrants that the XONON Module shall be delivered free of rightful claim of
any third party by way of infringement of any patent, trademark and other
intellectual property rights.  Subject to the limitation of liability as set
forth Article 16 hereof, CESI shall reimburse the damages incurred by KHI/KMC
due to any rightful claim raised by a third party alleging infringement and,
CESI will defend, indemnify and hold KHI/KMC harmless from any such claim for
infringement provided prompt notice and opportunity to defend is given by
KHI/KMC to CESI.  This warranty constitutes CESI's sole responsibility for
infringement claims.

14.  Assignments.
     ------------

Neither of the parties hereto may assign the whole or any part of this Agreement
and any rights or obligations under the Order to any third party without prior
written consent of the other party thereto, provided, however, that such consent
shall not be unreasonably withheld by such other party.

15.  Independent Contractor.
     -----------------------

At all times while performing the Order, CESI shall be deemed to be an
independent contractor and not an employee or agent of KHI/KMC. Equipment
operators and other KHI/KMC employees, agents, subcontractors, or servants
assigned to assist CESI may receive temporary instructions, directions, or
control from CESI but shall, at all times be considered the employees, agents,
subcontractors, or servants of KHI/KMC and not of CESI.

                                       6

<PAGE>

                                                                         AG-024D

16.  Limitation of Liability.
     ------------------------

Neither KHI/KMC nor CESI or their Affiliates, subcontractors, agents and/or
employees shall be liable for any incidental or consequential damages
whatsoever, including but not limited to, loss of product, loss of profit
(except profit of CESI from the Order), loss of use of the power generation,
pumping or compression system or any auxiliary system, losses resulting from or
related to downtime of the modules or the cost of replacement power or
compression, heating, cooling or pumping, howsoever caused, and whether based on
warranty, contract, tort (including negligence) strict liability or otherwise.
The total liability of CESI, its affiliates, subcontractors, agents and
employees arising out of the performance or nonperformance of the Order or its
obligations in connection with the design, manufacture, sale, delivery, storage,
installation or use of modules or the rendering of any work or services in
connection therewith, whether based on warranty, contract, tort, (including
negligence), strict liability or otherwise, shall not exceed in the aggregate a
sum equal to the Order price.  The limitation of liability set forth in this
article shall prevail over any conflicting or inconsistent provisions contained
in any document comprising the Order.

Solely in case of the Jamaica Plain Project,

CESI shall pay as Liquidated Damages, up to [*] of Liquidated Damages actually
paid by KHI/KMC which are solely attributable to a breach of the warranty
provided in this Agreement for the Xonon Modules initially furnished to the
Project during the first [*] of commercial operation of the Adapted Kawasaki Gas
Turbines. KHI/KMC shall have a duty to minimize and mitigate any Liquidated
Damages due under its Agreement with Enron and CESI shall only be liable for
Liquidated Damages provided KHI/KMC has taken all reasonable actions to mitigate
CESI's Liquidated Damages exposure.

17.  Regulatory Compliance.
     ----------------------

KHI/KMC shall not use or operate the XONON Module in a manner other than that
intended in CESI's offering without CESI's prior written consent. The XONON
Module shall not be exported or transshipped contrary to U.S. law.  As KHI/KMC
is the exporter of record (XONON Module sold EX-WORKS), it is the responsibility
of KHI/KMC to acquire any required export license. CESI will assist in the
supply of information required in the application process

18.  Disputes/applicable law.
     -------------------------

KHI/KMC and CESI shall use their best efforts to resolve any dispute or claim
which may arise under the Order and/or this Agreement in an amicable manner. In
the event CESI is in breach of or noncompliance with any of the provisions of
the Order and/or this Agreement, KHI/KMC shall notify CESI in writing and CESI
shall take reasonable measures to remedy such breach or noncompliance within
fourteen (14) days after receipt of notice. Any dispute or claim arising out of
or in relation to the Order and/or this Agreement which is not settled by
agreement of the parties shall be submitted to arbitration before a single,
qualified, technically trained, arbitrator selected by mutual consent of the
parties in accordance with the Rules of the American Arbitration Association,
(but the auspices, at CESI election, need not be used) and judgment upon the
arbitrators award may be entered in any court having jurisdiction.  The rules of
commercial arbitration of AAA shall apply in any arbitration and the laws of the
state of California shall govern. The request for arbitration shall be made
within a reasonable time after

                                       7

[*]-Confidential information has been deleted from this section.
<PAGE>

                                                                         AG-024D

the dispute or claim arises, and in no event after it would be barred by any
applicable statute of limitations. The cost of such arbitration shall be borne
as determined by the arbitrator. Unless otherwise mutually agreed, arbitration
hearings shall be held in Los Angeles, California, U.S.A. Should any provision
of the Order and/or this Agreement be declared invalid, such declaration shall
not invalidate or void the remaining provisions of the Order and/or this
Agreement except that such invalidated provisions are indispensable to such
Order and/or this Agreement.

                                       8

<PAGE>

                                                                         AG-024D

     IN WITNESS WHEREOF, the parties have executed this Agreement as of the date
first set forth above.

<TABLE>
<CAPTION>

AGREED FOR AND ON BEHALF OF                           AGREED FOR AND ON BEHALF OF
KAWASAKI HEAVY INDUSTRIES, LTD.                       CATALYTICA ENERGY SYSTEMS, INC.
GAS TURBINE DIVISION
<S>                                                   <C>
By:                                                   By:

         -------------------------------------------            -------------------------------------------
Name:                   Kengo Yamashita               Name:                   Patrick T. Conroy

         -------------------------------------------            -------------------------------------------
Title:          Director and General Manager of       Title:                Senior Vice President
                     Gas Turbine Division

         -------------------------------------------            -------------------------------------------
</TABLE>

AGREED FOR AND ON BEHALF OF
Kawasaki Motors Corp, U.S.A.
GAS TURBINE DIVISION

By :

----------------------------------------
Name:  Hiro Matsumura

----------------------------------------
Title:   General Manager

----------------------------------------

                                       9

<PAGE>

                                                                         AG-024D

                                  EXHIBIT "A"

Prices of Xonon Modules:
------------------------

1.   Per Section 5 of this Agreement the price of Xonon modules for the Kawasaki
     M1A-13X shall consist of the following two components:

         .   Core Charge.  US$[*] plus  applicable price adjustment as
         calculated per EXHIBIT "B" to this Agreement.  Base date for price
         adjustment shall be July, 2000.

         .   Use Charge. The use charge shall be calculated by multiplying the
         CESI guaranteed operating hour life of the module by the KMC guaranteed
         kW output of the gas turbine generator package by the CESI `mil factor'
         and rounding the result to the nearest dollar.

             A.  For modules to be installed in the first [*] gas turbine
             units sold with Xonon the CESI `mil factor' shall be US$[*]

             B.  For modules to be installed in all subsequent gas turbine
             units sold the CESI `mil factor' shall be US$[*].

             C.  For modules to be used for development and testing, including
             testing of commercial engines, the use charge shall be $US[*].
             These modules may not be used in commercial service and while they
             shall be manufactured to the same specification as commercial
             modules shall carry no warranty of longevity.

         .   Use charge example: [*]X [*] X $[*] = $[*] which is rounded to
         $[*].

         .   The use charge shall be price adjusted as calculated per EXHIBIT
         "B" to this Agreement. Base date for price adjustment shall be July,
         2000.

2.   Prices herein , as adjusted, shall be effective for the term of this
     Agreement.

3.   Prices shall apply to all Xonon Modules ordered for shipment in standard
     lead time. CESI may from time to time advise KMC of changes to its standard
     lead time, giving at least thirty (30) calendar days advance notice of
     effectiveness of such changes. CESI's standard lead time shall not be less
     than 90 calendar days. Shipments of modules requested in less than the
     standard lead time then in effect shall be subject to availability of
     materials and resources and may be subject to reasonable premiums
     reflecting the additional costs resulting from the request for accelerated
     shipment.

4.   Refunds for core charges for returned spent modules shall be made by CESI
     within thirty (30) days of receipt of the returned module provided the
     module meets the criteria set forth in Section 5 of this Agreement. Should
     a module not meet such criteria CESI shall so notify KMC within the same
     thirty day period stating the specific reasons why the refund is not being
     made.

5.   The core charge for a replacement module shall be the escalated core charge
     in effect at the time the replacement module is shipped. The refund of the
     core charge for the returned spent module shall be the escalated core
     charge for new modules then in effect when the spent module is received by
     CESI. Provided that the replacement module has been ordered from CESI prior
     to the receipt of the spent module and the spent module is received by CESI
     within sixty (60) days of the shipment of the replacement module then CESI
     will make the spent module core charge refund amount equal to the
     replacement module core charge amount regardless of any changes to the
     price adjustment amount that may occur subsequent to the establishment of
     the replacement module core charge. Therefore, KMC is protected from the
     changes in the price of precious metal for replacement modules provided
     that replacement modules are ordered in a timely fashion as described
     herein and

                                       10

[*]-Confidential information has been deleted from this section.
<PAGE>

                                                                         AG-024D

     the spent modules are returned within the sixty day window
     specified.

         .   In the event no order has been received by CESI before the spent
         module is returned to CESI then, subject to the criteria set forth for
         refund of core charges in Section 5 being met, the core charge refund
         for the spent module shall be an amount equal to the price adjusted
         core charge in effect on the day the returned module is received by
         CESI.

         .   In the event of a module having been timely ordered but KMC shall
         fail to return the spent module within the sixty day window but shall
         return it sometime in the future than CESI shall refund the price
         adjusted core charge then in effect for new modules.

6.   The term "price adjustment" shall mean price  adjustments, whether
     increases or decreases, arrived at by means of the formulas contained in
     EXHIBIT "B" to this Agreement.

7.   For the purposes of determining which new module is a replacement for a
     particular spent module the KHI turbine serial number in which the spent
     module operated shall be specified on Orders for every module. Should
     modules be purchased as either spares or for test purposes they shall be so
     identified in Orders and designated sequentially as "spare #1", "spare#2",
     "test #1"etc. When replacements for these modules are ordered they shall be
     identified in the Order as "replacement for spare #X", as appropriate.

8.   Title to, and risk of loss therefor, for spent modules returned for credit
     shall pass to CESI on receipt, freight prepaid, at CESI's designated
     facility.

                                       11

<PAGE>

                                                                         AG-024D

                                  EXHIBIT "B"

Price adjustment
----------------

1.   Quarterly adjustment of Core Charge.  The core charge shall be adjusted on
     the first business day of every calendar quarter in accordance with the
     following formula:

          Current core charge  =  [the initial core charge]  x  [Pd/c/ / Pd/o/]

  in which

  Pd/c/ = The London PM Fix Price (US$) of Palladium (Pd) as published by the
          London Exchange for the first British business day of the quarter
          during which shipment is scheduled in the Order for the module(s).

  Pd/o/ = The London PM Fix Price (US$) of Palladium (Pd) as published by the
          London Exchange for July 3, 2000. (US$638.00)

          In the case where this index is no longer reported or becomes non-
          representative of the costs of the product against which it is
          applied, then a new, mutually-agreed index will be substituted.

2.   Quarterly adjustment of Use Charge.  The use charge shall be adjusted on
     the first business day of every calendar quarter in accordance with the
     following formula:

          Current use charge =  [the initial use charge]  x  [W/c/] / [W/o/]

  in which

  W/c/ = The most recently reported US CPI for Urban Wage Earners and Clerical
         Workers (CPI-W) 1982-84=100 (Unadjusted), as tracked and reported by
         the Bureau of Labor Statistics Data (BLS), as of the first US business
         day of the quarter in which shipment is scheduled in the Order for the
         modules.

  W/o/ = The most recently reported US CPI for Urban Wage Earners and Clerical
         Workers (CPI-W) 1982-84=100 (Unadjusted), as tracked and reported by
         the Bureau of Labor Statistics Data (BLS), as of July 1, 2000. This was
         the CPI-W for May, 2000, its value was 126.7.

  In the case where this index is no longer reported or becomes non-
  representative of the costs of the product against which it is applied, then a
  new, mutually-agreed index will be substituted.

                                       12

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