Indonesia has a long list of projects to get banked – the remainder of the first 10,000MW power programme, all of the second 10,000MW power programme, and a major, if foetal, PPP programme. But it has yet to find a way of squaring politically sensitive project ROIs to the development costs and risks for sponsors, particularly in the power sector.

Power is at the heart of the Indonesian project pipeline. Demand for power is growing by 8%-plus per year and state-owned PLN, which has a monopoly on the transmission and distribution of electricity, has not been able to meet existing demand since the Asian financial crisis of the late 1990s.

The effects of the precedent set during that crisis – when the Rupiah collapsed and PLN could not, and the government initially would not, meet dollar-based offtake contracts on the first IPP projects – are still being felt. According to bankers close to the 815MW Paiton 3 deal (in the market now) financial close has been delayed due to concerns over PLN's ability to service the 30-year take-or-pay offtake contract.

PLN's retail tariffs have historically been below generation and transmission costs, and for international lenders on the $500 million Paiton 3 commercial tranche to be comfortable with PLN as offtaker, the Indonesian Ministry of Finance (MoF) must offset PLN's low creditworthiness. However, the gap between what the MoF is prepared to step in to provide – the extent of state guarantees for IPPs is highly politicised – and what international lenders want to bank the deal, remains wide.

Nevertheless, Paiton 3 – lead arranged by Sumitomo Trust and Banking Corporation, BNP Paribas, HSBC, Bank of Tokyo Mitsubishi, Calyon, Mizuho, ING and Sumitomo Mitsui Banking Corporation, and expected to price around 300bp over Libor – is close to getting banked. Lenders are at the final stages of documentation on the 18-year $1.2 billion loan, primarily because the model features a $700 million JBIC tranche alongside the $500 million commercial tranche.

JBIC is playing a significant role in getting Indonesian IPPs banked and has had an umbrella note of mutual understanding with Indonesia on IPPs since 2006.

In late 2008 JBIC backed the Tanjung Jati B IPP expansion and is now expected to come into the Central Java IPP. Prequals for the 2,000MW project were entered in October and many of the bidders have Japanese partners. International bank appetite for the project is therefore strong based on the expectation that debt is likely to come in the form of a single JBIC-covered tranche with default risk cover and extended political risk guarantees. As in Paiton 3, the winning bidder will enter into a 30-year PPA with PLN.

The 20,000MW power programme

Indonesia's first emergency 10,000MW power programme launched in 2006 and features 35 coal-fired plants – 10 on Java with a total generating capacity of 4,337MW and 25 located outside the main Java-Bali system, delivering 5,626MW. All projects in the first programme carry a 100% guarantee from the government with PLN as sole offtaker.

PLN has secured around 90% of the financing required for the first 10,000MW, primarily via ECA-backed EPC contracts for its own plants. This year, it signed three loan agreements worth a total $1.09 billion with two bank groups to finance plants in Central Java, West Sumatra, North Sumatra and Lampung. China Development Bank (CDB) and Industrial and Commercial Bank of China (ICBC) lent $625 million to finance a 660MW plant in central Java, and $138 million for a 224MW plant in west Sumatra. Bank Mandiri, Bank Negara Indonesia (BNI) and Bank Rakyat Indonesia provided a loan to finance the 200MW Lampung and 400MW North Sumatra plants. The latter deal involved $329 million of 10-year debt with a three-year grace period, priced at 140bp over Jibor.

The second 10,000MW programme, which comprises tenders for 83 plants, is scheduled to launch in early 2010 and to be complete by 2014. PLN has stated it will only build 20% of the programme with the rest to come from IPPs – an optimistic take on private sponsor appetite for the market.

However, the second phase programme is different to the first 10,000MW. First, it will come under the guidance of the new Electricity Law, which states that IPPs can generate, distribute and sell power outside PLN. Second, the projects will include generation from renewable sources – an estimated 12% from hydro, 48% from geothermal and 14% from natural gas, with only 25% coming from coal-fired facilities.

Around 4,700MW of the second 10,000MW programme will come from geothermal power plants. According to PLN, Indonesia has a total geothermal reserve of around 27,000MW-9,600MW in Sumatra, 5,400MW in Java, 1,500MW in Sulawesi and the rest spread across the archipelago, which amounts to around 40% of projected global reserves.

Many IPP developers are expected to come into the smaller capacity renewables projects, although the most recent examples of projects illustrate that renewables is still at the stimulus-spending stage in Indonesia.

For example, the financing for Geo Dipa Energi's 55MW Patuha geothermal project in West Java, which closed in September, features $103 million of 11-year debt priced at 7.9% all-in solely provided by BNI, and $41.2 million of equity from PLN and Pertamina. Given all the participants are state-owned the deal is effectively state-financed.

A further example is the financing of the Lahedong IV plant in North Sulawesi. The Asian Development Bank is lending $40 million (90% of capex) into the project on the back of its $161 million clean energy fund.

An end to PLN's monopoly?

To date, the failure to get IPPs to feature in any significant way in Indonesian power – renewables or otherwise – owes much to the monopolistic offtake status of PLN and its lack of creditworthiness as an offtaker. The Indonesian parliament approved a new Electricity Bill on 8 September which, when ratified by the president, should end PLN's monopoly and allow companies other than PLN to operate at all levels of the electricity industry, in effect freeing up the offtake market.

But there are still areas of concern for developers and lenders. For example, the Bill provides a vaguely worded priority for state-owned enterprises to carry out electricity supply – in effect a first-refusal-for-state-utilities clause – which has not been seen in action yet.

Furthermore, licences for generation will be granted to state or regional government-owned enterprises, or to private companies by local authorities, depending on the area. How these local licensing processes will go is also a question that can only be answered through application.

The issue of land rights has also been a problem for many Indonesian projects over the years, across all sectors, including power plants. The problem lies in the fact that current law states that when land rights are being sought the incumbent must negotiate directly with the government, which has proven to be costly and extremely slow in many cases, and caused some projects to be shelved indefinitely. However, the government is drafting an amendment to the law that will transfer negotiations to the courts, drawing the focus away from discussions with provincial governments and making price caps and predictable transaction timescales more likely than before. In the meantime, the government has put an interim amendment in place.

PPP development

Infrastructure development is lagging even further behind than Indonesian power. The MoF recently estimated that it will need $143 billion for infrastructure projects between 2010 and 2014. An estimated 69% ($97.8 billion) of that must come in the form of debt, much of which is expected to be PPP.

The ADB, World Bank and DEG have been funding and assisting the development of the Indonesian State Ministry For National Development Planning's (Bappenas) PPP procurement and financing process, the object being to put in place a more finely constructed and predictable procurement system and improve bankability and deal flow.

In March of this year, Bappenas launched the first edition of its PPP Book (Blue Book), a compilation of proposed PPPs complete with structural details, cashflow projections and contact details.

The Blue Book, a new copy of which is planned to be released every year, contains some ambitious programmes. For example, the Sunda Strait Bridge is a planned 29km suspension bridge over the water separating the islands of Sumatra and Java. This $10 billion PPP, as well as being in the league of the world's truly massive deals, is also ambitious in that it would feature an extraordinary construction risk profile and require cover against unforeseeable and potentially catastrophic events (Indonesia's 2004 earthquake had its epicentre in the strait which measured 9 on the Richter scale. Krakatau volcano is also only 40km away from where the bridge would be built).

The ADB is providing further funding and financial consultancy for the development of the PPP structure into law. Local firm Mochtar Karuwin Komar and Lovells Lee & Lee are acting together as consultants to the government. The next step is to extend the PPP system to local government, which is essential if project sponsors and lenders are to succeed in such a politically decentralised country.
The government is also backing specialised fund development to assist infrastructure project bankability – notably the Indonesia Infrastructure Finance Fund (IIFF) and the Infrastructure Guarantee Fund (IGF).

The IIFF has been put together by ADB, IFC and Sarana Multi Infrastruktur (SMI) – a subsidiary of the MoF. The fund was built following the model of India's Infrastructure Development Finance Company and will act along similar lines, as both fund and financial intermediary and consultancy, offering a broad range of products. It will launch soon, following the recent approval of an interim chief executive officer.

The IGF will be a stand-alone guarantee and insurance provider, but will operate in much the same way as a state agency, and will be funded mainly by the MoF, though it is also seeking commercial investors and is said to be in talks with one international bank. It will indirectly channel government support to projects and create credit enhancement through the setting up of specific links with ECAs. Once it is up and running (its launch is expected to be announced in tandem with that of the IIFF), it is expected to make it easier for internationals to lend into Indonesian projects in general and PPP in particular, where banks will need, for example, availability payment and event of termination guarantees.

The deal predicted to set the benchmark for the new PPP procurement process is the Umbalan Springs water supply project in Surabaya – a PPP that the government of East Java has been conducting front-end studies for since early October. The project involves tapping the existing spring at the foot of the Mount Bromo volcano and creating pipelines to five urban areas.

The Indonesia Infrastructure Initiative (III), part of the Australian government's AusAID programme, is advising the government on the $200 million project. The III has also been in talks with the governor of East Java over running the project on an availability basis, thus making it more bankable.

Lenders are already being sounded out – BNP Paribas, Societe Generale, Standard Chartered, National Australia Bank and SMBC for the dollar-denominated tranche; and Bank Mandiri, BNI and Bank Central Asia, for a rupiah-denominated tranche. The project's advisers are also seeking a guarantee from the Indonesian government as well as ECA involvement.

If Umbalan Springs launches and finances smoothly, it will demonstrate Indonesia's developing PPP regulations, land acquisition process and the IIFF and IGF in action – a successful precedent that should inspire confidence in Indonesian PPP and create international appetite for the market.