The development of public-private-partnership (PPP) in France took some big steps forward in the last quarter of 2005, with the awarding of big hospital and prison deals, and a renewed commitment from the French Government to involve private investors in sectors as diverse as defence communications systems, airports, and sports and cultural facilities.

Earlier this year the French government decided that deals under the PPP Ordonnance were not moving fast enough, and asked each Ministry to find a number of projects that they could launch. In October the Government announced 35 projects that could be included in the PPP programme. These are currently undergoing pre-feasibility studies, but may be ready to move forward in Spring 2006.

Hopital 2007 picks up

The deal pipeline is already picking up in the healthcare sector. In September ABN Amro and Bouygues reached financial close on the first project in the Hopital 2007 programme – the Eu30 million Douai Logipole DBFO.

The Hopital 2007 programme aims to generate Eu10 billion in new hospital investment, Eu2 billion of which is likely to come from PPPs.
Douai was followed in October by the 25-year Centre Hospitalier Universitaire de Caen concession – the second deal in the programme – which has been awarded to a consortium comprising Bouygues Construction subsidiaries Quille and Exprimm, together again with ABN Amro, Architecture Studio and Jacobs France. Project financing of around Eu100 million will be provided mainly by ABN Amro, in the form of bank debt and equity – Societe Generale and RBS are also lending to the deal.

As with the Douai project, the Caen project will be financed using a debt-equity ratio of roughly 90/10. The debt will be cheaper than is usually the case in UK-style health PPPs as the transfer of risk to the private sector is not complete. Under the "Cession d'Eailly", the SPV is able to sell a proportion of its receivables directly onto the banks as a form of securitization (in effect forfaiting).

The same structural approach will likely be used for the upcoming Centre Hospitalier du Sud Francilien at Corbeil-Essonnes, the Centre Hospitalier Universitaire de Rennes, and the opthalmological hospital Quinze Vingts in Paris. Final bids for some hospitals, including the facility at Corbeil-Essonnes, could be on the table as early as mid-January 2006.

There has also been some important progress in the prison sector, with the award of the first contract in France's Eu900 million prisons programme to Eiffage on 1 December. The deal is for four prisons at Rhone, Loire, Herault and Meurthes-et-Moselle at a total cost of Eu250-Eu300 million. Eiffage has Natexis and Calyon as mandated lead arrangers.

The second tranche of the programme came out in September and is expected to be awarded in early 2006. Three 20-year concessions are to be included in the second tranche.

Sector specific legal frameworks

Both the prisons and hospitals are being done under their own specific sectoral laws, but importantly, the work already done on these by bankers and lawyers will be templates for the upcoming projects under the PPP Law.

"The first prison deals are being done under LOPSI, not under the PPP Ordonnance, law, though future prisons could be done under the PPP law," comments Patrice Vabre, Vice President Structured Finance at Dexia Credit Local in Paris. "But the deals under the PPP Law may take more time to close, since there has to be an independent evaluation of the cost effectiveness versus other financing methods."

"Under the PPP process, public authorities have to identify the advantages of various ways to develop a project involving the private sector, such as a concession, a traditional public procurement contract, or a contract under the 2004 PPP Ordonnance," comments Laurent Vandomme, partner at law firm Herbert Smith in Paris.

"It is a condition of validity of the PPP contract that the other two possibilities are first discounted," Vandomme says. "However, once the feasibility studies have been completed, there are likely to be a significant number of projects developed during 2006 under the PPP Ordonnance, including some of the 35 projects recently identified by the government as possible candidates for PPP."

"In 2002 there was a specific law for the Home Office and the Justice Departments (The LOPSI/LOPJ), and in 2003 another law was passed for the Healthcare sector (the Ordonnance Sante), so projects in these areas are the furthest developed, but the next group of projects will include those structured under the PPP Ordonnance passed in 2004," explains Bertrand de la Borde, Head of Infrastructure Project Finance at Societe Generale Corporate & Investment Banking in Paris.

"The main difference between sectoral deals under LOPSI/LOPJ or the Health Ordonnance, and those under the PPP Ordonnance is that the sectoral deals are more restricted in terms of the services that can be transferred to the private sector," says de la Borde. "But what has been put in place with regard to risk allocation and the overall financing structure should be very similar for deals under the PPP Ordonnance."

Creating the pilot projects

Societe Generale is acting as advisor to the French government on the prisons programme and has been closely involved in developing the contractual and financial structures for these projects, which are considered as pilot projects by the government.

"During construction there is full project risk, which is the same as in UK PFI deals, but once the project is commissioned there will be two debt tranches," de la Borde explains. "One tranche will be straight public credit risk (sovereign risk, if the contract is with the State, as is the case with prisons, or local authority risk for some other deals). On the other hand, and while the overall PPP contracts appear really protective, the second tranche could be seen as somewhat riskier than traditional UK PFI debt, since all the project risk will be concentrated in this tranche. The balance between the guaranteed tranche and the one with project risk will depend on the particular project, but for prisons it is around two-thirds versus one-third."

There is strong competition from banks across Europe, including the big PFI lenders in the UK, to participate in the first wave of upcoming financings, which suggests that their analysis of the overall risk is positive.

Under the terms of the PPP Ordonnance an evaluation must be made, under which the public authority sets out the economic, financial, or legal reasons for choosing PPP as opposed to other options.

"Although seemingly onerous, since this evaluation is required prior to tender, it is generally viewed as offering important protection against any challenge at a later stage, that tender as a partnership contract was unnecessary or inappropriate," comments Simon Ratledge, partner at Linklaters in Paris.

Ratledge also notes that the PPP Order anticipates the possibility of financing by transfer of rights (cession de creances) and provides for a specific alternative option to the general position at law. "This could signify a relatively new departure for the funding of PPP projects by isolating, and potentially securitising, certain payment streams," he says.

The great toll sell-off

Despite the movement in the Health and Prisons PPP sector, the high-profile deals for 2007 will be in the toll roads sector where the government is both awarding concessions for new toll roads, as well as privatising three very large existing toll road companies.

The first financial close for a new real toll project took place in November. This was a financing for the A41 in the French Alps. The Eu940 million debt financing has been put in place by lead arrangers Calyon, HSBC and HBOS, and they will launch syndication in January.

The A41 is run by consortium members that include Bouygues, Colas, Setec and Caisse d'Epargne des Alpes, who have a 55 year concession. But the biggest stakeholder, with 49.9%, is state owned Autoroutes Paris Rhin-Rhon (APRR), which is one of the state owned companies that is in the process of being privatised.

Final bids for the Toll Road Operators (TROs) that are up for sale were also received in November, and as of early December awards are imminent. The three TROs are APRR, Autoroutes du Sud de la France (ASF), and Sanef. As a result of the changed status via the privatisation process Standard & Poor's recently put the three TROs on CreditWatch with negative implications (see box). The three are currently rated Single A.

Nevertheless, there is strong interest from toll road operators across Europe, with bidding groups including companies from Italy, Spain and Australia as well as France.

Vinci was one of the hotly tipped bidders for Autoroutes du Sud de la France, and Abertis tipped for Sanef. With regard to APRR, rumours in the market focussed on a consortium consisting of Eiffage and Macquarie, with some stiff competition from Autostrade and Cintra.

Questions over rail

Advisors have also been working for some years on privatisation of various sections of the rail network, to be undertaken either as classic concessions or to be done under the PPP Ordonnance. The Bordeaux to Tours TGV line is one section still under evaluation. And there is also an international line connecting Lyon and Turin, where Dexia are advising the French and Italian governments, along with Mediobanca.

But in spite of the stated objective of the French Government to bring private sector investment into the rail sector, it remains one of the most politically sensitive sectors with regard to PPP.

The government has already run into major trouble with reforms, such as wanting to lower the retirement age for railworkers, and there could be big union opposition to private rail projects.

Thus some bankers view rail as potentially the slowest moving sector, and the most likely to get caught up in political controversy during the 2007 Presidential election campaign.

Looking forward

Rail aside, French PPP activity is highly welcome for bankers and lawyers, who have worked hard for several to years to get deals on track. In addition the TRO privatisations will involve multi-billion Euro financings, with project debt and possible project bonds being put in place.

With a flurry of deal closings and debt syndications, the fee income has started to flow for bank infrastructure teams and law firms. And 2006 should be much busier than 2005. To quote a very diplomatic French banker: "PPP in France has moved quite quickly, or quite slowly, depending on how you look at it."

Box: French road privatizations: potentially riskier

France's three toll road network operators about to be privatized – Autoroutes du Sud de la France, Autoroutes Paris-Rhin-Rhone and Sanef – have been on CreditWatch at Standard & Poor's with negative implications since this August. Although they are relatively strong credits, all are in the single-A category, there are potential worries ahead.

The two biggest concerns are the change of ownership and the potential for post-sale financing structures to hit their credit quality.

And with the last stage of the privatization approaching – the toll road operators submitted their final bids on November 7 for the road concessions and the French government is likely to make an award by year end – there is no reason to alter that analysis.

However the French state's views on acceptable levels of debt post-privatization are worrying.

The French government has suggested a requirement for post-acquisition structures to retain credit quality commensurate with sector norms. Before the receipt of binding offers, the government specified that net debt to Ebitda at the toll-road (operating company) level should not exceed 7x as a result of privatization, with interest cover at a minimum 2.2x.

Based on forecast 2005 Ebitda, that would represent an estimated additional Eu1.6 billion of debt for Autoroutes Paris-Rhin-Rhone and Eu3.3 billion for Autoroutes du Sud de la France vis à vis year-end 2004, and Eu1.3 billion for Sanef (vis à vis June 2005, to take into account the first-half 2005 capital increase).

These levels of additional debt and lower coverage ratios would not be commensurate with ratings in the 'A' category.

And, if the levels were to drop even lower, this could endanger investment-grade ratings.

The toll road organizations recently amended their credit arrangements with the Caisse Nationale des Autoroutes and included the above-mentioned net debt to Ebitda and Ebitda interest cover covenants.

While this gives some evidence of the state monitoring the financial impact of the privatization on their ability to repay their debt, it also takes the toll road organizations back to pre-capital increase and pre-initial privatization levels. (For example, Autoroutes Paris-Rhin-Rhone net debt to Ebitda stood at a high 7.2x, and Ebitda interest cover at 2x, at year-end 2003.)

The three organizations have also agreed that until the Caisse Nationale des Autoroutes loans have amortized, the contribution of toll-road, parking, and related activities should not fall below 80% of consolidated revenues and 85% of consolidated assets, while M&A activity should require the caisse's approval.

This is a positive rating factor as the very strong business profiles of the toll road organizations, stemming from the high contribution of their core concession toll-road business, will likely continue to partly offset a more aggressive financial profile.

Indeed, there are still strong factors that underpin the toll operator's strong business profiles and mitigate against their moderately aggressive financial profiles.

First, they benefit from a supportive regulatory framework that insulates them from certain risks, such as inflation and changes in law, and enables a relatively stable tariff or toll system and generally predictable tariff adjustment mechanics; second they have a portfolio of roads that are frequently important corridors or road networks; third they have a fairly good track record of traffic growth; fourth a history of stable recurring cash flow generation; and low construction risk.

In addition to examining legal aspects, management strategy, and the resulting ownership structures of the privatized entities, the next step in terms of analyzing their rating is to assess their future strategy.

In particular the ownership change could trigger a more aggressive approach toward diversified business, which currently represents only 3% to 5% of revenues. While diversification is not negative per se, it often requires large cash investments and the activities in question may have a much less robust business profile than the toll road entity's core activity.

By Alexandre de Lestrange, credit analyst, Standard & Poor's, alexandre_delestrange@standardandpoors.com