H3G SpA has signed banks into the Eu3.2 billion debt backing UMTS build out, making it the first fully funded ?pure play' 3G operator. The project company, 88.2% owned by Hutchison Whampoa, paid Eu3.5 billion for a UMTS licence in the Italian auction of October 2001. The financing is now in the final stages of documentation, with vendor signing and final close expected this month.

The facility breaks down into two tranches: an Eu1 billion project loan and Eu2.2 billion that commences with full recourse to the parent company. The guarantees then drop away gradually once H3G achieves agreed operating and financial performance thresholds until the entire debt is fully non-recourse. Equipment vendors are also putting up Eu1 billion of non-recourse debt, ranking pari passu to bank debt. Initial drawdown of the two will occur at the same time, once close is reached, although from then on the vendor facility may be drawn in line with invoices. This official display of vendor commitment is increasingly being expected by lenders on large scale, new technology, financings. Banks are not prepared to take all the risks themselves. Hutchison's recent UK 3G financing package included Eu1 billion from Nokia and Siemens. The names of the vendors for H3G SpA are officially still under wraps but participants suggest that there will be no great surprises.

As planned, the bank debt was fully underwritten prior to general syndication by the mandated lead arrangers. The fifteen strong group is comprised of: ABN Amro, Banca Antoniana Popolare Veneta, Bank of China International, Centrobanca, China Construction Bank, Credit Agricole Indosuez, The Development Bank of Singapore, Deutsche Bank, HSBC, IntesaBci, JP Morgan, The Royal Bank of Scotland, SG, Unicredito Banca Mobiliare and WestLB. These banks kept the non-recourse portion for themselves, only selling down the recourse tranche.

General syndication saw only another two climbing on board: San Paolo IMI and SE Banken. This has been described by some onlookers as a disappointing result but participants are quick to point out that interest at the initial stage was greater than originally anticipated, attracting five more than the targeted 10 banks. They claim that there are presently only a limited number of 3G players within the international financing community and they all want mandated lead arranger status and fees.

Pricing on the guaranteed portion rises as the recourse rights fall away. The starting rate has a significant premium on top of that normally expected for Hutchison corporate debt. Some have said that this is the reason for such success in the first round of syndication but one banker involved says that attractive pricing initially is offset against the fact that lenders must buy into the whole package, which becomes totally non-recourse at a later date. Pricing on the non-recourse facility is also said to be quite conservative, varying according to criteria linked to the debt-EBITDA ratio. It is expected that five years after project start up, the company will have moved comfortably into profitability and margins on the latter portion will have fallen considerably below their initial rates.

The decision to go for long term financing, setting the company up with a fully funded business plan, is in contrast to the H3G UK deal that closed last year. The major rationale behind this change in tactic is the current state of the market. Conditions have deteriorated. In 2000 when the UK deal was launched, markets were still hot and competitive financing meant that the operators had the upper hand. Lenders were forced to take on refinancing risk. Now, however, liquidity has dried up and the tables have turned. Banks are being more cautious and operators have to be accommodating. H3G will clearly look to refinance if market conditions improve but has not set a pre-determined time. The capital markets could well be a viable route for refinancing once the company is in profit.

Achieving a fully funded business plan through bank debt is a significant benchmark for telecoms financing. Hutchison has no operating history or customer base in Italy and it is the first time that a pure 3G start up has achieved full funding. One market player points to the early 2G financing when bank debt was not available at all until stipulated revenue streams were met as an indication of this deal's success. Hutchison, with its very strong global brand and successful track record, allowed the project to fall within this category. A significant number of lenders in the mandated lead arranger line-up are Hutchison relationship banks.

More important than simply the weight of the name, Hutchison has provided considerable explicit financial support to the project. In addition to the guarantees offered on much of the senior debt, Hutchison has put up an Eu1 billion shareholder loan. In total, then, lenders are only taking full project risk at the start on Eu1 billion of a total Eu5.2 billion debt. Moreover, the Hutchison facility's status as sub debt, ranking below senior tranches, was crucial in extending lender comfort.

The fact that it is a pure 3G project has been identified as a positive. The project company can concentrate all its energies on building out UMTS operations, without having to service the lower margin users of a 2G customer base. Companies that have attempted 2.5G build-out have found that a real drain on revenues. However, being a pure play project does mean that H3G SpA does not have any infrastructure from which to build out. This is addressed by regulations in Italy similar to that of the UK demanding that local incumbents offer roaming agreements and lease to new entrants during their start up phase. Through such agreements, it is believed that H3G SpA could be operational by the end of the year. Full network build-out is projected for five years.