Financing closed at the end of June on the $410.5 million Termopernambuco power plant financing in Brazil. The deal, the second to close this year after the Petrobras and ABB-led Termobahia transaction, is a further sign of the increasing maturity and sophistication in the Brazilian power finance arena. It also gives renewed impetus to the Brazilian government's tardy priority thermal generation programme.

Termopernambuco is a 520MW combined-cycle gas-fired plant located at the port of Suape, municipality of Ipojuca, in Pernambuco State. It was one of the 56 plants that were designated by the Brazilian government as necessary to avoid future shortages in 2000. These shortages duly appeared in 2001, spurred by a nationwide drought.

The last two years, however, have been characterised by a number of advances in project finance in the country, including the Cana Brava and Dona Francisca hydro financings. These were a useful primer for the acceptance of non-recourse structures and dollar debt repayments by regulators. The most concrete advance so far was Termobahia (see deals of the year, March 2002), a 190MW plant financed through a $188 million Inter-American Development Bank A/B Loan.

That deal, however, had Petrobras as both the offtaker and fuel supplier, and therefore required much less robust risk allocation processes. This financing sells direct to a distribution company, and therefore falls even more fully within the remit of Brazil's oft-criticised (at least by generators) regulators. The main mover in this financing is Spain's Iberdrola, which invests through the Guaraniana consortium alongside BB Banco de Investimento S.A.of Brazil, Previ of Brazil and Brazilian private pension funds. Iberdola, however, operates the plant.

The offtake and supply arrangements, however, are not entirely independent of the sponsors. Indeed, Guaraniana owns the two distributors, Companhia Energética de Pernambuco (CELPE) and Companhia de Eletricidade da Bahia (COELBA). Set to take the plant's output. This strategy is roughly the same of the use of Gerasul by Tractebel to take output from its hydroelectric plants. The basic idea behind this aligning of interests is to increase comfort levels for lenders, but also so that the sponsor can hedge the outcomes of regulatory or market conditions.

This move, however, does not remove all of the risks inherent in selling power into the Brazilian market. Brazil has plentiful hydroelectric power, and has wanted for several years to diversify away from its dependence on this source, but has found it hard to come up with a market structure that would encourage thermal generation. At issue is the ability to index tariffs under power purchase agreements in such a way that lenders and sponsors are protected against the slide in the Brazilian currency, the Real.

The first effort by the Brazilian regulator, ANEEL, was the creation of a Valor Normativo (VN) formula, which would be adjusted on a periodic basis to ensure that Real revenues would remain sufficient to cover dollar-denominated payments to lenders. The initial complaint from sponsors was the review of the VN formula was not frequent enough to protect from sudden plunges in the Real's value.

The frequency of the review, now believed to be quarterly, has now been settled. Equally important, however, is the ability of the offtaker to pass on costs. This has been made the responsibility of the distribution companies. In this case the utilities buying the power are also Guaraniana affiliates, so the ultimate owners end up protected from any shift in the market framework towards either side.

The station is not supplied directly from Petrobras, but instead uses an intermediary ? Copergas ? under a mirror fuel supply agreement. The mirror agreement is designed so that the two sets of contracts, between Petrobras and Copergas and between Copergas and Termopernambuco, replicate each other's terms.

The financing package for the plant consists of $202.4 million from the Inter-American development Bank, $88 million from the Banco Nacional de Desenvolvimento Econômico e Social (BNDES) and $130 million in sponsor equity. The BNDES portion, which has yet to be fully authorized, currently takes the form of subdebt. $42.4 million of the IDB's portion comes directly from its books as an A loan

The B loan of $160 million is led by SG and BBVA. This syndicated at the end of June, and according to sources close to the syndication, came in close to target. Given that at the time of syndication government 8-year bonds were trading at a spread of 1700bp this is a strong showing. Despite talk at the time of a default (which seems to have been lifted following the $30 billion IMF package approved as Project Finance went to press), there was interest among the 30-40 institutions pitched in a quality project asset.

The deal has a tenor of 11.5 years, at least for B loan, and pricing of 325bp over libor during construction, 362.5bp in year one, 375bp in year two, 400bp in year three, 450bp in years 4-7, and 500bp for the remainder of the loan's life. Participants were Caja Madrid, BNL, Transamerica Finance, Banesto, Fortis and CIFI. The arrangers are anxious to point out that, while the deal benefited from Iberdrola's relationships, the syndication did not require any harsh warnings or threats.

Next up in the market could be the Macae deal, led by SG. Current market conditions, however, mean that this El Paso-sponsored deal may wait until September for a launch.

Companhia Energética de Pernambuco

Status: closed June 2002
Location: Pernambuco state, BrazilSize: $402 millionDescription: 520MW gas-fired plantSponsors: Iberdrola, BB Banco de Investimento S.A., PreviB loan arrangers: SG, BBVALawyers to the borrower: Gibson Dunn & CrutcherLawyers to the lender: White & Case (international), Souza Cescon (local)