Oman's market reforms are beginning to unfold more swiftly and successfully than anywhere else in the Gulf. Over the last year, its power privatization initiative and independent power financings, have become conspicuous models for the entire region. But with a new market structure forthcoming, the scheme's mettle has yet to be put to the real test.

Oman's first taste of privatization took place in 1994, with the initial sketches of the Al Manah independent power project (IPP). Finally commissioned in 1996, it was a first for the entire Middle East. For years, as proposals for a comprehensive privatization framework continued to flounder, it remained an isolated example of a privatized utility ? until now.

Since the government unveiled its revamped power privatization strategy in 1999, the skeptics have been largely silenced. Over the last year, the program has bounded ahead, wrapping up its first objective ? the installation of new generating capacity.

?The government realized that they had to mend their reputation internationally as regards privatization,? explains a lawyer. ?The drop in oil prices was a good push for them to wake up and realize that one way of solving the problem was a revised privatization program. And this time they realized that it had to be done successfully, to give the right message internationally.?

To give weight to its commitment, the government hired a consortium, consisting of ABN Amro, Denton Wilde Sapte and Mott Mcdonald, to help facilitate the job.

A critical component of this effort is the sophistication of the Omani legal framework, and the government's openness to private sector reform. ?Omani law is the most advanced of GCC legal systems by far,? explains Denton Wilde Sapte's Alistair Jeffrey. ?But of course with these new privatizations and projects, the law is being tested to see whether it really is sufficient to handle the changes. And so far, it seems thoroughly robust.?

The government has also implemented substantial reforms to its corporate tax regime and other existing legislation, to facilitate the process. For example, the applicable maximum tax rate for foreign companies has been reduced from 50% to 30%, and, in a separate clause, mixed ownership (foreign and local) companies are treated as branches of a foreign corporation, thus reducing their tax rate by the same amount

Another substantial change was the increase last year in permitted level of foreign ownership in local companies from 49% to 65%. And to accelerate the program, foreign investors were allowed 100% ownership of power projects, with the proviso that the stakes will be reduced to 65% in 4 years through an IPO.

With these and numerous other incentives in place, and with Oman's recent entrance to the WTO, with, of course, its liberalizing membership conditions, the Sultanate's private sector push is ever more vigorously under way.

The Ministry of National Economy has drawn up a substantial list of infrastructure to be privatized. Forthcoming privatizations include Omantel, the state telecommunications operator, and Seeb International Airport.

Powering up

In Oman, the need for power and water is amplified by a burgeoning downstream industrial base. And the recent developments in the power sector are widely thought of as invaluable for similar developments throughout the region.

Over the last year, final agreements were signed with developers for the Al Kamil IPP, the Barka independent power and water (IWPP) and the Salalah power system privatization.

The first awarded was the 240MW Al Kamil, picked up by a consortium led by the UK's International Power. The project, tendered on a build, own and operate (BOO) basis, was the first of the newly implemented ?fast track,? and will be scheduled for commission in April next year.

Explains International Power's Tom Mackaye, ?Al Kamil is especially important because it shows how transparent the whole process can be.? He adds, ?the government was very clear that price was its primary criterion.?

The $99 million loan backing the project is currently in syndication, led by SG and Bank Muscat. Bank Muscat is selling the deal to the local Omani bank market, with SG selling the balance to the regional market.

?Risk profiles have improved and comfort levels have increased,? says an executive at Bank Muscat. Accordingly, he explains, longer tenors are more feasible.

He adds, ?we are well placed to understand the market, the local banking and regulatory issues,? a point which bodes well for the bank and its steadily broadening project financing role.

The loan is a straight amortizing financing with a step up in pricing to encourage refinancing, rather than cash sweep lock ups. Debt financing covers 75% of the project costs, with IPower making a $33 million equity contribution.

Says Mackaye, ?we are absolutely delighted with the speed with which this got wrapped up.? Further testimony indeed of the program's success to date.

The 280MW plant, to be situated some 25km north of Al Kamil in the Eastern province, is due to come on stream in the second quarter of 2002. Construction is being carried out in association with AIC. GE Power Systems is supplying Frame-9E gas turbines.

The second awarded fast track project is the 427MW power and 3800 cu meters desalination plant, Barka, won last November by AES. This was only the second IWPP to have been awarded in the world, the first being in Abu Dhabi. Though awarded after Al Kamil, the deal closed first.

Total project cost is $450 million, with a 20-25% equity commitment. AES was advised by ANZ. Lead arranging the deal are ANZ, which also acts as global coordinator, and ABC.

Says a banker close to the deal, ?it is a credit to all parties involved that this deal closed so fast. We all took a realistic approach to the deal and I feel confident in saying it really is a prize transaction.?

General syndication of the $348.6 million project financing for the IWPP was recently wrapped up. The facility has a tenor of 16 years, and comprises a $332 million term loan and a $16.6 million standby facility. The margin is 115bp above Libor pre-completion. This drops to 112.5bp for years 3 to 8, post completion, then moving up to 125bp for years 9 to 11, 135bp for years 12 to 14 and 155bp for years 15 and 16. Syndication of the deal also received encouragement from Oman's recent sovereign rating upgrade, from BBB- to BBB.

This is the longest dated project financing to be attempted in Oman. The previous benchmark was set at 12 years, although this did not involve international sponsors. With a cash sweep mechanism kicking in at year 11, the deal is likely to be refinanced by year 12.

One of Barka's major advantages is the fact that it is one of the first major deals in the region to come to market this year ? and appetite is particularly strong. The deal also stands out as a highly strategic financing, and the enthusiasm for this type of project is reflected in its pricing.

The engineering, procurement and construction (EPC) contract is being carried out by Enel and Hitachi Zosen.

But all is far from over for Barka. Proposals for phase 2 and phase 3 expansions are expected over the next few years.

In any event, explains another foreign developer, ?there is no doubt now that this new process has put Oman squarely on the map. The new IPPs, and the privatizations, have all fit into an outstanding package offered by the government, which is, above all, very transparent.?

?Al Kamil and Barka really were firsts for the Middle East where projects of this kind were done on time,? says a London-based banker familiar with the deals. ?And the real reason for this was the work done on the documentation ? it provided highly equitable distribution of risk. And now the lenders are prepared to accept the risks of future privatizations.?

Indeed, the international syndicated loan market has been noticeably keen about the bulk of Omani projects ? a fact which has lengthened loan tenors considerably. At the same time, pricing for long maturity loans, particularly in the power sector, has been surprisingly low. A key question to be asked, however, is whether ? and how ? the Sultanate can raise enough debt for the number of projects it hopes to usher to conclusion.

On the whole, explains a Muscat-based financial lawyer, there is strong domestic and international appetite for Omani risk. ?This is an eminently stable environment with a prudently managed economy. A lot of international players who haven't been here before are beginning to realize this,? contends the lawyer.

?But,? he adds, ?a key problem going forward will be that liquidity ceilings are reached and that, consequently ECA financing will become necessary.?

The third scheme currently being put together is the 200MW Salalah project, which covers the construction of the plant and the operation of two existing gas turbine units, in addition to the operation of existing distribution and transmission networks.

PSEG, advised by BNP Paribas, picked up the contract for the $300 million project.

BNP Paribas recently appointed WestLB as joint lead arranger for the debt financing for the deal. The loan tenor is said to be around 16 years. PSEG is expected not to take volume risk, and will be paid one combined availability and capacity payment linked to operational costs. General syndication will be most likely launched in early September.

Larsen & Turbo acts as EPC contractor for the plant which is expected to achieve commercial operations by early 2003.

Unlike the other IPPs, there will be a termination payment mechanism, since the company will be the sole generator, distributor and transmitter in the region.

PSEG is in talks with the government over Salalah's integration with the northern grid, which encompasses the other power projects.

Way to go

Notwithstanding its successes to date, the privatization program is just beginning. The restructuring of the electricity and water sectors, and the sale of existing assets is next.

The government is now working on unbundling and corporatizing its assets in preparation for the sell off program scheduled to begin at the end of the year. The assets to be privatized, after the corporatization, are at Rusail, Ghubrah and Wadi Jizzi.

For these sales, the government plans to offer a 65% stake in each company. And one criteria likely to boost prospective bids is job creation for locals (Omanization), a key government concern.

In addition to generating assets, the government is also looking to privatize fixed transmission and distribution networks. The transmission sell off is likely to occur towards the end of 2002. Distribution will likely be privatized between 2003-2004.

According to Mohammed Al Mahrouqi, acting director of privatization at the Ministry of National Economy, ?the challenge still facing all players is the restructuring of the utility sectors.? But a new Sector Law is currently being drafted to cover electricity sector which, he says, should be finalized by September. The possible form of an independent regulator is now being considered. Ultimately, the regulatory framework is expected to look something like the UK model.

Gas, but what about industry?

Although Oman has much to celebrate, the targets set down in its latest economic diversification plan are formidable. In fact, their fulfillment pivots on the progress of several major industrial projects. So far, most of the schemes exist only on paper, and in the weighty stacks of preparatory documentation. This is about to change.

Oman has already taken some bold steps towards stimulating foreign investment and diversifying away from oil. The result, so far, has been one of the most punctual and extensive privatizations of its kind in the Gulf, alongside some landmark industrial and power project financings. In the wake of Oman LNG and Salalah port project successes ? both of which rake in massive foreign investment, provide long term revenue streams and, crucially, employ local Omanis ? the lender community has ample proof of the potential for successfully pulling off big ticket projects in Oman.

This momentum was supposed to ripple through to a pool of projects designed to harness the sultanate's newly discovered gas reserves, and stimulate even further diversification and investment. With the success of Oman Gas Company's Sohar and Salalah pipeline projects last year, and with resurgent oil prices, the pace of further industrial development was meant to pick up. It has not ? yet.

The Omani government readily proclaims its fundamental commitment to diversification. The argument used to be that the slew of drawing-board industrial projects languished for many years because, without gas pipelines, there could be no industry. But with the discovery of substantial proven gas reserves, the ongoing construction of Sohar and Salalah pipelines, a new port and a massive boost in power generating capacity, the infrastructure needed to serve the industrial schemes is now largely locked in place.

?There will be, with the gas pipeline projects, an increase in the speed with which some of the industrial projects will come on line. The gas will be delivered to Sohar and Salalah and there'll need to be something for the gas to be supplied to,? explains a Muscat-based lawyer.

But delays in establishing new industry still persist, particularly in the Sohar industrial estate. Says a foreign banker familiar with schemes, ?The government and its advisory teams have been working extremely hard to put all the supporting infrastructure ? legal, financial and physical ? in place. This is now largely complete and I expect significant deal movement soon.?

?The thrust of our work is to make these projects bankable,? explains Denton Wilde Sapte's Alistair Jeffrey. ?There will have to be a lot of coordination between all parties before this happens.? For example, government guarantees on gas and water supply still need to be addressed, possibly in the form of direct agreements between the governments and the lenders.

?One of the major things being considered by the project companies is how they can park risk allocation. At the moment they can't park it with the government, or the construction companies, who can't handle it,? he adds.

But still, the scenario plaguing planners is the allocation of valuable and, by regional standards, scarce, gas reserves to industrial projects which may never materialize. And there is the rub. With an expansion of Oman LNG under consideration, its as yet unclear what will prove more profitable.

Senior government officials pick out five or six schemes which they hope will emerge favorably. Among them are the Sohar industrial estate schemes, the Oman-India Fertilizer Scheme, and the Aluminium Smelter project. The latter is least likely to move. But despite frilly rhetoric, there is reason to be hopeful, yet.

Sohar Fertilizer project sponsors Bahwan Trading Company earlier this year appointed HSBC as financial advisers. The project involves the construction and operation of an ammonia/urea plant at Sohar on the north coast of Oman which, when complete will produce 2,000 t/d of ammonia and 3,500 t/d of granular urea.

The project is expected to cost between $500 million and $550 million, with financing likely to come from a mix of export credits and commercial bank debt. Legal Adviser to the sponsor is Denton Wilde Sapte, with James Chemical Engineering acting as technical adviser.

Most advanced of the Sohar schemes, however, is the $870 million Sohar refinery project. ABB Lummus Global has been selected to act as the project management contractor on the project, sponsored by Oman Refinery Company

In other developments, the $1 billion Oman India Fertilizer Company's (Omifco) Sur project is understood to have been revived recently, after years of starting and stalling. The three arranging banks, ANZ, ABC and BNP Paribas, have apparently had their mandate for the $660 million debt package reaffirmed. The team is aiming for financial close by October.

But what sets this reaffirmation apart from previous positive-sounding noises is the fact that the Omanis are more forcefully pursing its completion, having given India an ultimatum to sign or see the deal cancelled. India's motivation to move forward quickly is compounded by the fact that the world price of fertilizer is ever increasing and the Omani product will be the cheaper alternative. The Indian government has signed a take-or-pay agreement for the urea output, representing 87% of project revenues, and the Indian Farmers Fertilizer Cooperative (Iffco) has signed a parallel agreement for the ammonia production, representing the remaining 13% of revenues.

The scheme was first announced in 1994 but was plagued from the outset by bureaucratic delays and volatility in world fertilizer prices.

The debt/equity will be 70/30, with half the debt covered by Coface and Sace, and the other half remaining uncovered. Equity will be sourced from the Oman Oil company, and two Indian state owned companies, guaranteed by the Indian government. Banks will be approached for the commercial loans in July.

Of course, the provision gas is essential. And the question is whether there will be enough to sustain all the projects. Indeed, the sultanate has more than doubled its reserves over the last decade. The government has also signed a memorandum of understanding with the vast Dolphin gas project, which aims to pipe gas from Qatar throughout the Gulf. In any event, future additions to current gas reserves are inevitable.

At the same time, other ambitious gas export plans exist. Citibank was recently appointed financial adviser for the proposed expansion of the Sur liquefaction plant of Oman LNG. The expansion plan is based on the addition of a 3.3 million t/y train to the current facility.

The project's debt financing requirement may be between $685 million-$735 million, with the total cost of the expansion expected to be around $979 million.