The financing of the $1 billion Salalah IWPP in Oman is the last of the deals in the Middle East to close that were bid before the ceasing of the money markets. Despite the tribulations the deal has had to endure – the lead sponsor Sembcorp was ejected from its status as preferred bidder in May so that the procurer could speak to other bidders – the financing is the first time international banks are accepting Chinese EPC risk without ECA cover. The deal is also notable for getting done as fully amortizing on base case assumptions, without the deep pockets of the Saudi banks or JBIC.

The protracted financing for the project eventually closed on 22 November. The project cost is just over $1 billion and is 75% funded through 17-year non-recourse project finance loans, and 25% by equity. The $762 million debt splits into a roughly $280 million international bank tranche provided by Standard Chartered (also financial adviser), SMBC and KfW; a $350 million Chinese bank tranche underwritten by Standard Chartered while Sinosure cover is arranged; and a locally denominated bank tranche of around $130 million provided by BankMuscat, National Bank of Oman and Bank Sohar.

The Sinosure-covered tranche will be funded by Bank of China and China Development Bank. Sinosure has to pass one internal clearance procedure before the Chinese tranche is in place. Margins are around just over 300bp for all facilities and according to a source close to the deal, the international bank tranche has the lowest all-in cost to the borrower.

The project is being developed by a consortium of Sembcorp Utilities and Oman Investment Corporation (OIC). OIC is owned by Gulf Investment Corporation, the National Investment Funds Company, State General Reserve Fund of the Sultanate of Oman and BankMuscat.

Targeted to begin full commercial operations in the first half of 2012, Salalah will consist of a gas-fired power plant with a capacity of 445MW and a seawater desalination plant, which will employ reverse osmosis technology to produce 15 million gallons per day of water.

The deal is the first time international banks have lent uncovered into a GCC project with a Chinese EPC contractor. China's Shangdong Electric Power Construction III (SEPCO III) is the EPC contractor on Salalah and joint EPC contractor with Dongfang on Acwapower-Kepco's upcoming $2.5 billion Rabigh IPP in Saudi. However, on Rabigh the international banks are protected by 90% KEIC cover, and of the $475 million international tranche arranged by Standard Chartered, HSBC, Calyon and Bank of China, the latter took the majority share with a $300 million allocation.

The banks on Salalah can take comfort from the fact that leverage is just 75%. The Al Dur IWPP in Bahrain, which closed in June, was also levered at 75%, but the subsequent financings of Rabigh IPP and Shuweihat 2 were leveraged at around 80%. The ADSCR on Salalah is a fairly comfortable 1.3x, compared with Al Dur's 1.25x, Rabigh's 1.25x and S2's 1.2x.

A potential negative credit aspect for long-term financings of all Oman's power tenders to date has been the relatively short power and water purchase agreements (PWPAs) – 15 years. While banks and sponsors were able to push out the PPAs for both Al Dur and S2, the only concessions on Salalah were the tariff and a government guarantee. There is a tail on the PPA of just six months past the debt, but, combined with the six month debt service reserve account, it gives lenders a one-year cushion. There is a 15% balloon on the debt schedule but this is repaid under base case assumptions.

When Sembcorp bid and initially won the project in December 2008, its modelled returns were based on debt pricing assumptions of around 200bp. After being officially awarded the project in January 2010, and after some tough negotiations when it became clear debt pricing would be around 300bp, Oman Power and Water Procurement Company (OPWP) removed Sembcorp's preferred bidder status and talked to other bidders.

The Sembcorp bid was still considered to be the most competitive, so OPWP once again entered bilateral negotiations and conceded to paying higher tariffs. In return for this, OPWP will share any future refinancing upside – the agreement is thought to allow OPWP 80% of the upside until the extra financing costs are recovered. For the Bahraini Al Dur IWPP deal, the government similarly negotiated a share in the refinancing gain in return for lengthening the tariff five years.

The other main concession made by the Omani authorities, which was a strict requirement of the lenders, is that OPWP's tariff payments are directly guaranteed by the Ministry of Finance for the life of the PWPA. Oman's guarantee model has evolved along the same lines as ADWEA's – a government guarantee lasts for the first two years/720 days and falls away if the tariff-paying entity maintains a stable credit rating. But on Salalah OPWP has had to take a step backward to get the deal done and put in a direct government guarantee for the life of the PWPA. Given the perceived vulnerability of sub-sovereign credits in the Gulf, and the evaporated value of implicit guarantees following Dubai World's default, the need for direct government guarantees by banks is likely to continue into the foreseeable future.

In its recent Barka 3/Sohar 2 IPP tender, OPWP is trying to reassert its non-government guaranteed tariff and asking for bidders to include refinancing sharing proposals. Early indications are that none of the bidders will countenance either of these.

Salalah IWPP
Status: Financial close 22 November 2009, with CPs due to be fulfilled by the end of January 2010
Description: finance for a 445MW power plant and 15 MIGD of desalination capacity in Oman on a Build, Own and Operate (BOO) basis
Sponsors: Sembcorp (60%); Oman Investment Corporation (40%)
Mandated lead arrangers: Standard Chartered; KfW; SMBC; Bank of China; China Development Bank
ECA: Sinosure
Sponsor financial adviser: Standard Chartered
Sponsor legal advisers: Lovells; Shearman & Sterling (Chinese bank counsel)
Lenders legal adviser: Trowers & Hamlins
OPWP financial advisers: BNP Paribas; Bank Muscat with Project Finance Solutions
Technical adviser: PB Power
Insurance: Marsh
EPC Contractors: SEPCO III, with Hyflux as a subcontractor