Last year, governments in Latin America such as Colombia and Mexico wanted to boost long-term infrastructure project spending, including road building, seeing it as excellent counter-cyclical policy at a time of recession.

Colombia announced a huge $24 billion infrastructure program in January and said that it expected $14 billion would come from the private sector. Mexico planned to spend $3.7 billion of public money and leverage a further $1.67 billion of private sector money to continue its series of Farac concessions, covering 23 highways and construction of 2,193km of roadway.

This year, a more sober approach has sunk in. Mexico suspended Ps12.64 billion ($980 million) of road building projects, or 24% of the total, in August, citing the downturn. Sponsors and bankers have backed off from committing to long-term projects because the downturn has bitten hard into revenues, limiting the ability to fund road building programs from budget resources.

Government priorities scaled back

Governments have had to scale back plans to meet market realities. "We had to adjust our Farac project to our clients. Investors are looking at projects of up to Eu500-600 million or $1 billion total," says Federico Patino, managing director at Mexico's Fondo Nacional de Infraestructura (Fonadin).

"We are trying to focus on mid-sized projects. We tell governments that for projects over $300-500 million, if there's no government funding, it may be too big for the market," says Richard Cabello, head of infrastructure advisory for Latin America and the Caribbean at the International Finance Corporation. The best advice is to carry out preparatory work so when the market is ready, these larger projects can be advanced quickly, he says.

Additional traffic risk is making life tough even for the biggest and most seasoned players. Traffic is growing, if not as much as predicted, says Cleverson Aroeira, head of the department for project structuring at Brazil's development bank BNDES. He believes that in Brazil, while 2009 results will be better than 2008, they will be as much as 4-5% less than predicted. The priority of the Federal government has become to ensure the completion of priority routes, he notes.

Amid these uncertainties, one of the first questions for governments today is whether to bring projects conceived as partnerships with the private sector in-house and complete them as public works. The dilemma is the same as that faced by countries in Europe and the Gulf, and to a lesser extent the US, but Latin governments usually operate under greater budgetary pressure.

Public sector works can be bid out more quickly, in contrast to a more lengthy structuring and tendering process than PPPs and give governments more control, says Cabello. For government without major fiscal constraints, and in cases where toll revenue is not adequate, roads done through public sector works can be attractive and could be funded through existing sources of revenue or borrowing, says Gabriel Goldschmidt, IFC's manager for infrastructure in Latin America.

However, bond markets remain hostile to large new issues. Mexico does not have much wiggle room, as both Standard & Poor's and Fitch Ratings have placed its sovereign ratings on negative outlook, although Patino points out that recently large corporates, including Cemex and ICA, have been able to issue debt. Sub-investment grade Colombia was able to reopen its 7.375% due 2019 in May.

There is also controversy over the long-term effects on investor confidence in changing over from a private sector-friendly programme to a public road works model. "Governments have invested a lot of institutional and regulatory effort to create the right environment for investors. If they abandon these initiatives and carry out projects as public works, this effort might be lost. They need to be careful in analysing the consequences," says Cabello.

Governments also need to bolster other areas, such as social programmes, in a recession, says Albert Santos, head of the Latin American infrastructure group at Fitch. Still, he believes there is greater recognition of the importance in maintaining programs. "In the past, infrastructure was one of the first items to be cut. Today, the mindset is different. It's understood that in global market you need roads and particularly in Latin America where the cost of transport can be meaningful," he notes.

Tweaks and pieces

Colombia and Mexico are generally opting for a halfway house by splitting up road building projects into digestible sizes, staggering the tendering process and offering more government support. They are focusing on other market-friendly measures such as increasing the number of brownfield and lowering the number of greenfield roads in a concession and bringing forward payments.

The increased use of brownfield concessions enhances cash flow predictability and is particularly attractive in cases where there is a reliable traffic history, while giving concessionaires earlier access to revenues reduces capex and helps secure sponsor and bank support, notes Goldschmidt. Colombia, for example, brought forward payments to one concessionaire to 2011 from 2013, he says. "We have seen flexibility by governments in adjusting expectations to the reality of the crisis," he adds.

To keep down the length of concession contracts and reduce risk, governments are also using selection criteria to shorten initial concessions and then bidding out repair and maintenance contracts on the same road package to raise revenues and create more visibility on future cash flow for the concessionaires, says Cabello.

The advisory group has also entered in areas that were traditionally left to private sector bidders, such as later-stage financing details, says Cabello. The IFC went on a fund raising roadshow in Europe and the US for Colombia's Ruta del Sol that included both potential sponsor and funding sources. "Today, we need to hand hold our clients throughout the process," he says. Financiers are particularly interested in the IFC's view on due diligence and there is a stronger emphasis on a demand for clear step-in rights, he says.

Commercial banks have seen the presence of multilaterals as essential for completing deals. One banker familiar with the market said that Spanish banks would not even look at projects without the inclusion of multilaterals in the first quarter although he says he sees some interest returning from banks in deals without multilateral support.

The crisis is also stimulating a search for alternative funds. One of the richest potential sources is domestic pension funds. Historically, their involvement has been hamstrung by national legislation as well as difficulties in analysing risk and the lack of standard contracts, points out Cabello. Chile has more progress in this area and has more standard contracts so it's easier for pension funds to appraise individual projects, he notes. Goldschmidt sees such funds as an attractive source of cash, but adds that because of fiduciary responsibilities and a lack of experience in project financing, pension funds tend to be more conservative than banks.

One solution to the concentration of risk lies in the creation of private equity funds that by funding various long-term projects diversify risk. Mexico is working on arranging two such funds, with assistance from the IFC and the Inter-American Investment Corporation, notes Patino, adding that private equity could raise several billion dollars for Mexican road programs. Fonadin can participate as investor in private equity of up to 20% of a project's enterprise value.

Mexican stand down

These new financing sources are likely to prove partly effective but are both too small and too long-term for this crisis. Mexico has already had to shrink its ambitious Farac program and offer multiple sweeteners to keep even this smaller version on track.

The scale of the economic downturn took the government aback, says Fitch's Santos. Mexico thought it would have a number of bids for Farac 2, a project with around 850km of roads involving 400km of new construction in the Pacific coast states of Jalisco, Nayarit, Sinaloa and Baja California Sur. It did not meet with the fanfare expected thanks to the size of the deal and number of greenfield projects, he says.

The project was considered too big by the market, admits Patino. That led the government to divide Farac 2 into two tenders in April. The first, northern section includes the roads in Sinaloa with estimated costs of some $600-700 million. The project has one brownfield, to guarantee cash flow from day one, and two greenfield highways. The government is expecting bids by the end of summer, says Patino.

Mexico is also stepping up financing support for road projects, notes Patino. "We are sending the message that road projects will not be stopped by lack of financing. We will provide it," he says. Fonadin will provide subordinated debt of up to 20% of the value of each project and is talking to the Inter-American Development Bank to participate on the deal, as the multilateral offered to do with Farac 1, says Patino.

With estimates that the Farac 2 project will involve costs of Ps9 billion, subordinated debt support should amount to roughly Ps1.8 billion pesos. That will allow the equity component to be reduced to 30% while Banobras and commercial banks provide 50% of the financing through senior debt, says Patino.

The tenor on the subordinated debt can be up to 30 years if needed and the terms will be at market rates, normally between 150-300bp over the senior rate, Patino notes. The structure will be flexible and the sponsor will be able to take out the debt at any time through the market, he says.

The government has decided to sandwich Farac 3, the northeast package, which takes in about 400km of mostly existing roads in the far north-eastern states of Nuevo Leon and Tamaulipas, between the two stages of Farac 2.

Patino expects to be receiving proposals for the three brownfield and two greenfield projects of Farac 3 by the end of the year. The southern part of Farac 2, focusing on Jalisco state, is expected at the beginning of next year, he says, adding that costs for both Farac 3 and the second part of Farac 2 are estimated at around $1 billion apiece. Patino thinks that projects the size of Farac 1, at close to $4 billion, will not be seen again for at least one and maybe two years.

Brazil shelters under BNDES

The picture in Brazil remains brighter because the country is less reliant on commercial banking, thanks to the dominant role of the BNDES, which can provide up to 70% of financing for concessionaires.

Even so, Brazilian projects face a timing hurdle. Federal laws prevent the tendering of new concessions within six months of the Presidential election slated for October of next year, according to Arthur Piotto, financial director at CCR in Sao Paulo. The country needs to move fast if it is to achieve its schedule of concessions, he says.

For now, most interest is being generated from the ambitious plans of the state government of Sao Paulo. In August, the state secretary of transport announced a package of new concessions. The plans, which amount to more than R$13 billion ($7 billion), include construction of three of the four stretches of the Sao Paulo ring road and upgrades of routes that connect the interior to the coast, including Mogi-Bertioga, Tamoios, Oswaldo Cruz, Rio-Santos and Padre Manoel da Nobrega. The tendering may be through public private partnerships or via regular concessions and could come before year-end. The state government has said that it would like the slate to be ready in time for the 2014 World Cup, notes Piotto.

Routes to the coast involve high levels of capital expenditure, thanks to the difficult geography, says Alessandro Levy, finance manager in the Brazilian office of OHL. Furthermore, traffic projections depend heavily on the development of ports, particularly Sao Sebastiao and Caraguatatuba. "It's a Catch-22 situation. The government needs to provide a contractual commitment to build the ports in conjunction with the roads," says Levy.

The Federal government meanwhile is planning on structuring two lots of three roads in Minas Gerais, according to Aroeira. These include the continuation of BR-040 from Juiz de Fora to Brasilía, BR-381 between Belo Horizonte and Governador Valadares and BR-116 between Rio de Janeiro and the border with the state of Bahia, he notes. There are also plans for routes in and around the Bahian capital, Salvador.

For CCR, the Sao Paulo roads look initially more interesting simply because the state government has provided more information on them. A perennial difficulty is that there's little information in terms in Brazil unlike in Mexico which provides detailed breakdowns, says Piotto. "We depend on our own initiatives to discover what is going on," he says.

A further complication for one of the biggest players in the Brazilian market, OHL, which won five of the seven lots offered by the federal government in an auction in 2007 has been securing long-term financing from the BNDES.

OHL did not complete two out of the 29 slated toll plazas thanks to delays in environmental licensing, according to Levy. Citing a lack of traffic data, the BNDES declined to provide long-term financing and instead provided more expensive bridge loan financing, with bank guarantees, for R1 billion, he notes.

BNDES is financing the bridge loan at the Brazilian long-term rate TGLP + 3.58%. That is much lower than any offer from private banks, says Levy, but it is more expensive than the long-term financing of 2.58%. The long-term loan will probably be ready at start of next year, he says.

At least in Brazil, corporate debt markets are slowly reopening. CCR issued a successful R$598 million debenture issue in July. It garnered demand of more than three times offer, says Piotto. "It is surprising that the market is reacting so favourably," says Piotto. "Our reading is that banks think that rates are coming down or that there are few quality credits," he notes.

The re-opening of the Brazilian debt market should allow CCR to push forward with capital raising at the subsidiary level. Five of CCR's concession companies are able to issue securities and two deals are expected in coming months, says Piotto. He expects the Nova Dutra concession to issue some R$600 million by the end of the year and there are plans for ViaOeste, which runs the western portion of the Sao Paulo ring road, to issue some R$100 million, both probably some four years of duration or what the market will bear, he notes.

For CCR, the downturn represents an opportunity to expand in Brazil at a time when prices for concessions are attractive. The company is prepared to spend some R$1.5-2 billion on road toll assets in Brazil, says Piotto, declining to specify concessions which are of interest. There were on-off rumors in the market about sales of concessions before the downturn, but these sales were put on hold thanks to the crisis. He believes that these Federal and state concessions will now be relaunched. "Competition will naturally be less for these assets and they will be cheaper and therefore more profitable," he reasons.

The ambitious schedule of toll road projects in Latin America has been whittled down by the realities of the recession on government budgets and bank interest and an excess of supply. Governments are reluctantly prioritizing as well as offering a range of sweeteners for the private sector. As government finances are likely to continue to deteriorate, well capitalised construction companies and banks are liable to thrive and pick off the most attractive deals while more stretched companies have to sit out what could be a generous give-away.