International Power's £190 million non-recourse financing currently out in the market breaks away from the standard profile of UK power deals. The unique characteristics of the Rugeley power plant have given rise to a mini-perm, a short-term loan, typically not repaid through project revenues alone. Instead project sponsors are obliged to refinance in order to amortize the facility.

Mini-perms are not a common feature of UK power deals to date but Rugeley may not be a one-off. Uncertain conditions created by the introduction of NETA (New Electricity Trading Arrangements) and a subsequent shift towards trading rather than long-term power purchase agreements suggest that short-term financings may be coming into fashion.

International Power acquired the 1000MW coal-fired power plant from TXU in June 2001. ING Bank and TD Securities scooped the mandate to take the purchase off balance sheet. This is now underway, with debt being raised through special purpose vehicle, Rugeley Power Ltd. The facility breaks down into a £160 million 7-year term loan, a £20 million 7-year letter of credit and a £10 million working capital facility. Although they have fully underwritten the amount themselves, ING and TD secured a further two lead arrangers prior to general syndication, Bank of Tokyo-Mitsubishi and Credit Lyonnais. Each sold down half of their portion and debt now stands underwritten equally between the four.

A bank meeting on November 12 marked the launch of syndication. An insider says that 12 or 13 positive responses have already been secured. It is expected that the deal will be signed and sealed by the end of the year. Reports suggest that funds could be dispersed before then.

The use of the mini-perm in this instance can be put down to two of the project's characteristics. Firstly, International Power has a four-year tolling agreement with an affiliate of TXU to supply coal and buy the plant's output. Once this expires, the plant will either operate on a purely merchant basis or have to secure new tolling or power purchase contracts. The former is a situation that lenders are particularly wary of. The price spikes that have occurred in UK electricity trading since the introduction of NETA on 21 March 2001 make long term lending against merchant operations at the moment very expensive.

Secondly, International Power has pledged to add a flue gas desulphirization unit (FGD) to Rugeley. These units serve the dual purpose of increasing the shelf life and improving the environmental record of a coal fired plant. A £70 million letter of credit has already been raised through corporate means to fund this.

The short-term financing route thus provides a period for uncertainties surrounding the plant to be realised and dealt with. By the time the four years of the tolling agreement is up there may be replacement contracts, the teething problems of NETA should have been smoothed out and the FGD unit will be in place.

These would combine to create more favourable conditions for longer term financing than at present. Industry players suggest that, after this time lapse, appetite for a refinancing will be more than sufficient and either a bank or capital markets route could be chosen.

Pricing rises steeply over the life of the current debt, reflecting the desire of both lenders and sponsors to refinance as soon as possible. There is a 3-year window following the end of the tolling agreement. The loan pays a spread of 120bp over libor for years 1 and 2. This rises to 130 bp in years 3 and 4, 170 bp in 5 and 6 and 195 bp in the last. If refinancing has not been achieved by the end of the 7-year tenor then a 100% cash sweep comes into play. According to this, lenders will have recouped the full amount after a further four years.

The face of UK power is changing. International Power was born from the privatized National Power, after the latter had spun off much of its assets to Innogy. Since its birth, International Power has made clear a plan for aggressive expansion across Europe. Rugeley is one step and it is widely rumoured that the company has its eye on Enron's potential UK divestments. It is also pursuing a program of greenfield IPP developments in Italy.

TXU, on the other hand, is seeking to reduce its presence in the UK. In August it sold 650MW of combined cycle gas capacity to Centrica and, most recently, it has agreed to sell the 2000MW coal-fired West Burton power station to London Electricity Group for £366 million. The company is looking to expand its interests elsewhere in Europe.

The backdrop to these shifts in players is a fundamental change to energy trading in the UK, the introduction of NETA. The new system of bilateral contracts directly between generators and purchases undoubtedly exposes the former to greater dispatch risk than the previous system. This is to say they risk either generating power that they cannot sell or not being able to generate power that they have contracted. These risks were previously assumed by the system operator under electricity pool arrangements.

With the impact of these changes still to be fully realised, it seems likely that short-term financings may become a more common feature of UK power deals. A spokesperson for International Power states that their policy is to pursue non-recourse financing when possible but financiers will shy away form long-term financings without long term offtake agreements backing them.

Rugeley is one of the first UK power deals to go to the markets since the introduction of NETA and has also been cited as the first European power deal to adopt a mini-perm structure. However, an emphasis on refinancing has been noted before. NRG's £390 million financing to acquire 650MW Killingholme, which closed at the beginning of this year maximised lender comfort with a structure allowing it to be taken out easily. Although having a 19-year tenor, one of the two tranches has a cash-sweep after year-six.

A trend towards short-term financing is definitely emerging and, with the hey-day of long-term PPAs over, it may be here to stay. One banker speculates that this will be particularly prevalent as European capital markets develop, creating a much greater pool for refinancing.