Flush or deadpan?
Since the demise of the early build-lease-transfer (BLT) and build-operate-transfer (BOT), the build-own-operate (BOO) facility has become the standard for new tenders in the country. Most of the innovation in deals in the market this year has been the development of contracts with a lesser role for the Mexican state power monopoly, the Comision Federal de Electricidad (CFE). As the only domestic transmission and supply company, the CFE has a major effect on all projects, even those dependent on alternative purchasers.
And behind the CFE, chequebook in hand, stands the government of the United Mexican States. Mexico is in a unique position, with a steadily growing economy, proximity to the United States ? and a government that is barely able to float the idea of the electricity sector leaving public hands. The result: a slew of IPP deals carrying sovereign credits, and an initial rush by sponsors and banks towards the country.
The recent elections in the country have spurred a bout of introspection amongst players in the market. Vicente Fox, the opposition leader that ended ruling party the PRI's 70-odd-year reign, has not issued a firm statement on the power industry, and is unlikely to do so until he can get a clearer idea of the make-up of parliament and cabinet. Current speculation centres on a virtual demerger of generation and transmission assets, but power project tenders are still carrying the imprimatur of a government guarantee.
To a certain degree, the relevance of this forecasting to the project finance market is small. Far more immediately important are worries about exposure to the country on the part of developers and finance houses, and a bid process with a tendency towards knife-edge bids almost built-in. What has certainly been noticed with alarm by the CFE is the dwindling list of bidders for future tenders. Prices offered by winners have been steadily decreasing, and competitions with one bidder threaten to reverse this trend, especially as proposed facilities head away from the more obvious prosperous areas of the country.
On 26 October 2000, the three bidders on the Chihuahua III tender learnt that the CFE had ordered a rebidding. The reason given was that two of the prospective developers had submitted technically insufficient documents. El Paso Energy, Transalta and AES were on the shortlist, and the latter two are believed to be the parties at fault. If true this would be the second occasion that AES have fallen at such a hurdle, after difficulties in completing the Rosarito X and XI tender. InterGen eventually won the deal and is now working on awarding an arranger mandate.
Equally alarming for the developer community is the possibility that US investor-owned sponsors will be unable to generate the margins that would make involvement in Mexico possible. Such a scenario places both the privately-owned sponsor and the better capitalised and government-supported European players, those, in the words of one rival sponsor, that have ?fifty million shareholders that don't get a chance to demand higher returns?, in pole position. Transalta has been one of the rare exceptions in winning a pure-IPP tender ? EdF, Union Fenosa and Iberdrola have received a healthy proportion of both the pure-PPA and new excess capacity ?self-supply? contracts.
Iberdrola, for instance, decided to use its balance sheet to support the construction of the Monterrey III station. $457 million of the 1000MW gas-fired station's $600 million financing came from the Inter-American Development Bank (IDB), but this has been secured at a corporate level. Iberdrola has suggested that the facility might come up for refinancing in the near future, but admits that the flexibility offered by the corporate finance route provides a crucial advantage because of the speed that it allows. Financing signed on 15August.
Monterrey and InterGen's Bajio deal (see Project Finance, August 2000) both illustrate possible solutions, in the right circumstances to the problem of plummeting margins. As self-supply deals (so called because additional non-CFE offtakers hold nominal stakes in project companies) they offer the upside necessary to compete for the cut-throat CFE contract element. Invitations to tender usually specify an approximate site and capacity and are largely predicated on the price offered. Those sponsors that can include lucrative and creditworthy off-take contracts gain advantageous financing terms and lower per unit power costs.
Monterrey III has a variety of customers that are dominated by the Alfa group but also include GIS, Riqusa and Cemex. Bajio sells to a series of growing industries within the Baja California Norte region. The excess capacity scheme, often known as overaggregation, has enabled InterGen to source cover from the US Export-Import Bank that, for the first time, extends back into the construction period. The Ex-Im backed portion of the financing achieved a good enough rating to pass through a dedicated conduit provided by Citibank to healthy reception from institutional investors. It offers another government-provided solution to sponsors' varying abilities to extend completion guarantees, and one that US corporates can selectively access.
But, while these structures suggest a way to keep a sufficient number of operators in the game, the current Mexican political situation may lead to the plants running on empty. The conundrum posed by the fortunes of state-owned oil company Pemex is far more intractable. The possibility of the privatization of Pemex, as the dominant contributor to federal finances, is an absolute political non-starter. But without a way of bringing an element of private capital into the exploitation of the country's gas reserves or an end to Pemex' distribution monopoly, power stations will find natural gas an increasingly scarce commodity.
The build-transfer structure is still the only game in town for Pemex' suitors. The three most recent deals ? the Tula, Salamanca and Madero refinery upgrades ? have all simply asked banks to take on construction risk before full repayment by the sponsor. Syndication on the $345.7 million financing for the first two facilities was completed in April 2000, and is part of an estimated $1.9 million in deal flow from the oil and gas monopoly in the near future. The deals are generously known as structured finance and tend to have short tenors and bullet repayments. Such loans are good business since they leave little debt on banks' books for long, and as essentially EPC facilities attract strong ECA support.
No real options exist for meaningful private participation in Pemex deals. Several private pipeline deals have been completed, although these tend to be marginal to the main transmission network and face a lengthy process in obtaining easements and local acceptance. In the North-West of the country there is a large private presence because of historic under-investment, leading many sponsors to examine the possibility of cross border gas supply and off-take agreements.
The use of cross-border supply contracts is a little way off, mostly because the US marketers can obtain attractive enough domestic prices at present and Pemex is still the only legal source of gas in the country. More promising is the potential for a plant to sell its output across the border, especially into California, where generators will be able to name their price for several years to come. This is the idea behind InterGen's Rosarito X and XI, now renamed La Rosita, project. Building on the Bajio deal's ability to sell to Mexican corporates direct, La Rosita will sell 261MW of the plant's 750MW capacity to energy consumers and marketers that operate on the other side of the US-Mexican divide.
The advantages of using a shorter permitting process and cheaper labour to build capacity in excess of that mandated by the CFE are clear. There may even be the possibility of establishing a tolling agreement for this capacity, where both supply, subject to a relaxation of Pemex' monopoly, and demand originates in the US and only the plant exists in Mexico. The Mexican government has shown little opposition to export thus far and emissions regulations do not show any great disparities ? La Rosita has gone through permission with the relevant authorities on both sides.
The problem is the more simple lack of interconnection, much of which is concentrated on the Texas border. The Electricity Reliability Council of Texas (ERCOT) is forecast to begin suffering from overbuild, so future interconnects will be most eagerly anticipated if their ultimate destination is the Southern Californian utility San Diego Gas & Electric's lines. It is currently difficult for deregulation in Mexico to keep pace with the frenzied pace in the US ? market volatility has killed off most plans for new capacity for the time being, including the Rosita-SoCal link, upon which the La Rosita plant depends. Whilst a power purchase agreement has been signed with the CFE, financing will probably wait for a clearer picture of the potential cross-border market to present itself in 2001.
Certainly, InterGen will want to have the strongest possible offtakers possible in place to ensure that it can effect a repeat of the use of the Ex-Im guarantee.The alternative is to keep the CFE element of the project to the bare minimum, as effectively a purchaser of last resort for excess production from an inside the fence plant. It is here that the Sithe/Alstom deals have been making the most progress, although contenders from Enron and Grupo Vitro and others exist. The inside the fence deals benefit from the fact that they are immune to a future CFE default ? plants working under the Bajio/Monterrey III template will find that only CFE-contracted capacity will be bought out.
The two Termoelectrico del Golfo (TEG) deals are heavily touted as the future template for serving growing industrial demand, with the proviso that strong enough offtakers can be found. The first deal to reach close ?TEG I or Cemex Tamuin ? closed in April and featured cement maker Cemex as an off-taker and nominal shareholder. The deal worked by selling power to 12 of Cemex' plants (the 230MW capacity represents two thirds of its requirements) under a 20-year PPA.
Excess power is sold to the CFE on a marginal cost basis, not the most competitive terms but attractive when the TEG plants come in just above hydro in terms of fuel costs ? by using petcoke. Petcoke is a byproduct of the refining industry and is a result of a move by Pemex towards producing its own light crudes. The fuel is clean enough when using circulating fluidised bed technologies and supplied from Pemex using Cemex as an intermediary.
The $227.5 million financing was led by ABN Amro and Deutsche and divided into a $75 million IDB A loan, a $102.3 million B loan and a $100 million credit from Coface. It utilised a Mexican business trust structure to provide tax advantages and enable an easier distribution of dividends and voting rights. The IDB looked at the possibility of providing cover to the TEG II plant, but another source emerged instead.
TEG II, or Termoelectrico Penoles, or TEP, has a number of similar features, including, according to sources close to the deal, a similar pricing and tenor to TEG I. This was a fourteen year deal, with pricing on the B loan stepping up from 225bp over libor to 337.5 bp, and that on the Coface tranche at 185bp pre-completion and 75bp thereafter. TEG II, however, has large-scale silver producer Penoles in place of Cemex, although Cemex continues to act as nominal fuel supplier. One reason for this situation may be that Cemex had originally been in discussions with Pemex for the latter to provide a plant, but these never bore fruit.
TEG II is an improvement, not only because it has to accommodate an offtaker without the international presence of Cemex, but also because it has escaped from the A/B loan structure. Here the trust structure is controlled by Sithe and Alstom, with a nominal stake held by an affiliate of Penoles, with further Penoles subsidiaries as offtakers. A put option held by the trust with Penoles guarantees the twenty-year PPA which, like the Cemex PPA, is transmitted through the CFE system.
The financing comes in the form of a $240 million loan from lead arrangers ABN Amro, Credit Agricole Indosuez and ANZ Investment Bank, the last of whom acted as advisor to the sponsors and stepped up to fill the final lead arranger position some time after the other two. Coface provides a comprehensive guarantee for half of the financing, with the Export Credits Guarantee of the UK providing political risk insurance for the other half. The latter cover is untied, albeit reflected by the fact that Alstom has a sizeable UK presence.
The TEG template mitigates a large part of the difficulty of relying too much on a stretched sovereign credit, although it is still vulnerable to a currency downgrade, and is very much reliant on being a consistently low-cost producer. Moreover, the technology used requires a much higher initial capex. Petcoke is unlikely to become available in sufficient supply to make this a large scale solution and the number of available off-takers is not infinite. Further sovereign upgrades (especially an end to the split rating between Standard and Poor's (BB+) and Moody's Investors Service (Baa3) may drag further corporates up with the sovereign ceiling.
A renewal of the project bond market may take a little more time and may depend to a large extent upon the fortunes of the Monterrey II project, a bond-financed station which scraped into CFE acceptance after turbine teething troubles. Monterrey was a $235.4m capital markets project financing of a 484MW power plant. The project is sponsored by ABB Energy Ventures Inc and Nissho Iwai and was the first bond deal of its type in Mexico after the Asian crisis, demonstrating that, if the spreads are right the liquidity is there.
In the mean time, whilst the build-lease-transfer model has largely fallen out of favour a number of straight transfer projects, under the wings of either CFE or Pemex, are still doing the rounds and tend to attract strong Japanese interest. BNP Paribas, for instance, has concluded several deals this year that support the construction of transmission assets that are intended to improve the reliability of the utility's lines.
The near future, however, still holds out the promise of in increase in speed in the tender process, since many observers note that the timetable is already slipping. The most recent award has been to Union Fenosa, which has been awarded the 25-year PPA for a 1000MW gas-fired plant at Tuxpan in Veracruz state. The project could cost up to $600 million. Other tenders due before 2008 include:
? Valladolid 440MW in Yucatan
? Coatzacoalcos 900MW
? Dos Bocas 450MW
? Noreste I-IV 900MW
? Norte I-V 900MW
? La Laguna 500MW
With several other additions and repowerings also destined to include private sector involvement.
The Fox administration's proposals will cause several sleepless nights towards the end of the year. Few, however, will place any bets on any slowdown in the pace of development. Amongst all the worries about the sufficiency of associated infrastructure and concerns about the CFE's bid process, the rate of economic growth in the country is the bare fact driving the current development activity. Even an alteration in the CFE's rate structure, which would end the system of effective cross subsidy by industry of the residential user, would only serve to make the self-supply projects more attractive. Expect, however, to see private insurers, new debt sources and untested sponsors hurry to pad out the market.
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