The foreign bank influx into Spain was expected to dissipate once the Spanish project market slowed. Neither has happened. Despite a downturn in large volume deals Spain is still one of the largest project finance markets in the world – second in Europe and seventh in the world, according to Dealogic Projectware's 3Q 2006 tables.

But while the domestic market is still large, it is not as attractive as it once was. Margins are very tight and deals (mostly PPP) are small in volume but high in number, making economies of scale difficult and hence putting pressure on fees as well. In effect, Spain is nearing the maturity of the UK PPP market.

Despite those market dynamics the foreign bank presence appears permanent. The focus has, and is, changing from deal-by-deal domestic debt supply and arranging to long-term relationship banking with Spanish sponsors.
Mergers and acquisitions at home and abroad, aggressive financing and innovative balance-sheet use have made Spanish sponsors, like Cintra/Ferrovial, Dragados, FCC, OHL, Abertis and Repsol some of the most sought after corporate credits in Europe. And while the Spanish banks have long supported Spanish sponsor global spread, international banks like RBS, Dexia, ING and HSBC have made strong and successful plays to partner up with Spanish sponsors.

Relationship banking

The relationship aspect of the Spanish market is one that the rating agencies have yet to get to grips with. There is usually cross-shareholding between Spanish banks and Spanish sponsors, making it much easier for the banks to assess non-recourse deals on the basis of the credit behind them rather than on a project-by-project basis (if your lender is also one of your major shareholders the likelihood of default or difficulty in rescheduling debt is limited). Consequently Spanish sponsors rarely need or have the patience to go for a rating and to date have had little trouble finding lenders for some of their more aggressive structures – with or without a rating.

But while the ratings agencies find Spanish project methodology difficult to get comfortable with, many international banks have started acting like, or at least have developed the capacity to act like, a pseudo-Spanish bank. As Jose Maria Arana Arbide, head of project and export finance for Spain and Portugal at RBS, says: "The key to being successful in Spain is to maintain excellent relations with sponsors. This is a global relationship you have to help in difficult moments for example with mergers and acquisitions. Loyalty is a two-way thing".

Going local

The local approach continues to pay off for those foreign banks still highly active domestically. For example on the Dragados-sponsored northern section of the Valladolid-Segovia shadow toll road, which closed this month, Dexia and ING got MLA roles. On the southern section, sponsored by Sacyr, RBS was a joint MLA and on the Renomar wind financing RBS, Dexia, Calyon and Societe Generale all got MLA roles.

Some foreign banks have even managed to form the kind of on-going relationships that were previously the preserve of Spanish banks. For example Dexia has partnered with OHL on several projects in the US, notably the North Tampa East West Road project and the SH161 toll lanes concession in Texas.

For the most part, though, it has long been a common feature of Spanish-sponsored deals abroad to have Spanish banks on the arranging roles. And many international banks have started to realise that they need to start acting as Spanish banks to gain these lucrative partnerships. RBS now negotiates through its Spanish office if a Spanish sponsor is bidding and there is no local team in the country where the deal is located (for instance the N6 road contract in Ireland was negotiated through the RBS Spain office). When there is a local team in place it is also brought in.

Liaison and communication between the local team and Spanish team is key: RBS has Spanish-speaking representatives in its London office and is planning to put them in its New York office: This expansion from Spain mirrors the outposts that Spanish banks like BBVA and Santander are also starting to open in new markets throughout the world.

It is not only Dexia and RBS that have cottoned on to the idea of building up their operations in Spain to foster relationships with the big Spanish sponsors. Calyon, ING, HSBC, WestLB and BNP Paribas are all pushing to develop their businesses in the country. As Alejo Fernandez Duran, Head of ING's Spanish project finance team says, "Banks can't run their Spanish operations from Paris or London as effectively and of course relationships with Spanish sponsors are very important. Proximity, language and the time zone are all important factors".

Banks have realised that the operations they start in Spain need to be as local as possible. Most banks now follow the pattern of hiring mainly locals and do not simply send a representative from headquarters to run the new branch as a mini replica of the main outfit. Furthermore, it does not matter where a Spanish sponsor is doing a deal – the decisions are made in Spain. As Duran adds: "Only Cintra has a sizable presence in the US, this is changing slowly and more sponsors are opening offices there. However, decisions are still very much centralised in Madrid".

Spanish sponsor global drive

With the global spread of Spanish sponsors growing, even traditionally local Spanish lenders are looking to follow. According to Javier Huergo Cruzado, a director at Banesto which has traditionally arranged big-ticket domestic deals, "We are now looking more outside of Spain than in it. The US is the main growing market. Spanish sponsors are active there so we will go there. That is where the big projects are."

Recent examples of growing Spanish sponsor influence include the Indiana toll road in the US sponsored by Cintra and Macquarie Infrastructure Group. The deal has a debt package of $4.063 billion and attracted the usual suspects for MLA roles in terms of Spanish banks – BBVA, Caja Madrid (its first US deal) and Santander. However, the list also included RBS and Dexia, two banks that have put a lot of resources behind their Spanish operations.

Similarly, on the large Canadian Canaport LNG deal, which closed last month, the sponsor was the Spanish oil producer Repsol. The MLAs were three Spanish banks – Santander, BBVA and La Caixa – one local bank, BMO, and RBS. Furthermore, despite North American interest the debt will mostly likely be targeted for syndication in Europe.

It is not surprising that most Spanish banks are keen to follow local sponsors to new markets like the US. Margins in Spain are at an all-time low, yet competition for arranging roles is fierce. According to Itziar Sogo Aldamendi at BBVA: "The level of competitiveness in this market is so high that margins are now very low even on small deals. In the past just the biggest banks were involved. Now it's very crowded, foreign banks and Spanish savings banks are very aggressive". Margins routinely come in under 100bp and PPPs often price as low as 60-70bp. In fact for the first time banks are now struggling to sell debt down in syndication on some deals. And as Banesto's Huergo Cruzado says: "If we look at the pipeline there are more projects in the Americas than in Europe. Also American banks don't focus on project finance."

When the Spanish acquisition of US infrastructure started last year, sponsors approached US banks and found they would not accept the same degree of leverage that had become typical in Spain, or European PPP-style margins. Consequently the sponsors went back to Spain to source financing and have continued to do so since.

----------Box 1: Wind change for Spanish renewables----------

New legislation due at the end of the year could change the nature of the Spanish renewable sector. While the Spanish government is still keen to pursue renewables energy in general it is moving the focus from wind to other types of renewables – specifically solar and biomass plants.

While the legislation has not been finalised, it is expected to adjust fixed price agreements for the different types of renewables. The fixed price for wind will be lowered while biomass, solar and thermal could see their fixed tariffs rise.

There are two main reasons for reducing the incentives for wind. Firstly there is a perception that the profits being made by the wind sector are too high and consequently the incentive in terms of the fixed price agreements need not be so high. Secondly, the Spanish government is hitting targets for renewable energy and wind already makes up the vast majority of that.

Spain has been so successful with installing renewable energy that it has revised its initial target of 13,000MW by 2010, to 20,155MW which will represent 12.1% of energy needs. The Spanish government is now intent on achieving this through a number of sectors rather than just wind.

Nevertheless, 2006 has seen a lot of activity in the Spanish wind sector – notably the Eu887 million RENOMAR 793MW portfolio financing of 21 wind farms. This was one of the largest wind project financings in the world and given the change in legislation might well represent the high point in Spanish wind for the foreseeable future.

The legislation change is not the only thing that could spell a downturn for Spanish wind. Margins for wind deals in Spain are getting so low that some banks are no longer interested in lending. Margins on RENOMAR were as low as 50bp over Euribor during construction, moving up to 70bp post-construction and while appetite for arranging roles is still strong, some Spanish banks are reporting that debt is proving difficult to sell down in syndication.

Ironically, if Spain's generous feed-in tariffs are reduced it will make some deals less economically viable but also increase the risk and so drive up debt margins.

While wind financing looks set to drop, other renewables sectors are picking up. Spain's largest solar photovoltaic project – located in Trujillo, south-west Spain -reached financial close in mid-November. The 20MW project has a total cost of Eu182 million; the financing comprises a 22-year Eu152 million senior term loan and a Eu26 million VAT facility – both underwritten by Dexia Sabadell and Santander on a 50/50 basis – and a Eu9 million subordinated loan provided by Santander.

Another deal from November also demonstrates that Spanish renewables is starting to diversify – the Abengoa-sponsored solar thermal project. The deal funds two facilities, PS10 and PS20, that have a capacity of 10MW and 20MW respectively. The debt comprises an 18-year Eu136.3 million senior facility and a Eu12.4 million VAT facility. PS10 is expected to be running by the end of 2006 and will be the first commercially operated power plant of its type.

Other changes in the legislation could impact on the size of solar plants. At the moment a loophole means that solar photovoltaic plants under 100kW have a fixed tariff for 25 years worth 575% of what consumers pay. Not only is this extraordinarily high but it is a different tariff to solar photovoltaic plants over 100kW which get 300% of what consumers pay.

This means that a lot of solar photovoltaic facilities have actually been portfolios of much smaller installations. For instance the 20MW Trujillo project is actually divided into 200 separate installations of 100kW each. It is likely that this loophole will be closed and it is also possible that tariffs will be reduced even from the 300% level. The current fixed tariff for wind is about 85% of what consumers pay and will almost certainly fall.

The new legislation will only come into force from 31 December 2007. This means that all projects closed in the next 12 months will benefit from the current feed-in tariffs.