It is fitting that the largest financial transaction of any kind in Asia this year is likely to be Pacific Century Cyberwork's acquisition of Hong Kong Telecom. Telecoms has leapt from being a relatively quiet industry for the financial markets to being the top source of deal flow this year. In the project financing business a clamour of telecoms-related projects are coming to market from Japan to Australia, including submarine cables, terrestrial fibre-optic networks, internet highways and satellite systems.

As activity steps up, regional sponsors are discovering that not all corners of this business are created equal. For a number of reasons, submarine cable deals have been among the most highly sought after financings by project bankers. ?Historically?, says Stephen Panizza, vice-president at ABN Amro in Singapore, ?the submarine cable business has been conducted on a tightly controlled, government-to-government basis?. While government controls have relaxed in recent years it is still the case that only a small number of substantial submarine cable projects have been or are being built. It is also still the case, therefore, that competition for users is low while market demand for cable capacity, particularly in Asia, is growing fast.

An almost unique tradition of paying up front for capacity IRUs (Indefeasible Rights of Use) still exists in the submarine cable market, even though capacity user agreements can extend 15 or more years into the future. The Barclays Capital and West LB-led Flag Pacific-1 sub-sea cable deal, for example, is following the pattern in that pre-contracts for capacity will form a significant part of the package. Terrestrial fibre-optic deals, in contrast, tend to revolve around annual repayments and feature much greater market risk. Little wonder then, that the repayment methods and therefore financing structures of submarine cable projects and land-based communications networks are totally different.

The few cable deals that have been done recently (including the Gemini deal in 1996, Southern Cross, the Flag Pacific deal and the upcoming Australia Japan Cable (AJC)) have all follow similar financing templates. But as the banking community becomes more comfortable with these deals, terms and conditions are gradually being relaxed. ?Submarine cable deals have a number of pluses. Banks have never lost money on a submarine cable deal. Market growth and revenue growth for cable projects is likely to be very substantial even if telephony costs are generally coming down, and there is not a lot of construction risk,? notes Chris Tomkin, in ANZ's Melbourne project finance department.

For these reasons, the Australia Japan Cable deal is expected to set a number of new precedents in terms of structure and pricing. In the AJC case, the trend has been helped by the very strong sponsor group behind the project and the fact that the percentage of the cost of the project covered by pre-sales is high (over 50% says one banking source), even higher than in the Southern Cross financing.

In contrast, privately owned projects that do not involve major telecoms backers will be very difficult to finance in the Southern Cross or AJC formula. One source involved in the AJC deal adds, ?that bankers will also draw a lot of comfort from the fact that the commercial ramifications for Telstra would be very severe if the company were to lose control of the pipeline because of a default on debt.?

The Australia Japan cable deal will include a debt volume of about $556.8 million that is expected to be structured in two tranches; a pre-sale A tranche in which capacity has already been pre-sold and a market risk B tranche. The syndication amount has not yet been set. Lead underwriters for the transaction are ANZ, acting as facility agent, security trustee and working capital provider, Toronto Dominion, acting as syndication bank, and West LB and IBJ. AJC's sponsors include Japan Telecom, NTT Communications, Telstra, Teleglobe, MCI WorldCom. The project will have throughput of up to 640 gigabits per second and is scheduled to begin operation next June.

A second major development in submarine cable deals, says Panizza, is that permitting risk has emerged as a key risk to be countered. ?AJC's sponsor's have worked particularly hard to make sure permitting will go smoothly,? he says. This development follows the unfortunate events surrounding the Southern Cross financing in which bank commitments were returned to the lenders before the project had drawn down on a quarter of the A$920 million debt raised.

The reason for the fiasco: Southern Cross ran up against an unexpected delay getting environmental permits. Therefore, unable to move the project forward according to the timetable set out in the financing arrangements, the sponsors, Optus, Telecom New Zealand, and WorldCom, had to unwind the financing to avoid a technical breach of the fundraising contracts. Southern Cross's sponsors have financed the project to date with a mixture of equity and bridge financing.

The joint-venture Telstra Saturn project, expected in the syndication market soon, is a quite different prospect to the cable deals. The project comprises the building of local telecoms networks in Christchurch and Auckland, linking with Telstra Saturn's existing network in Wellington to form the basis for a national telecoms network in New Zealand. Instead of a mass volume pipeline being sold wholesale to other telecoms service suppliers like the AJC deal, the residential sector is the direct customer and market risk is much higher.

The project is blessed, at least, with strong Australian sponsors, Telstra again, and Austar United communications, Australia's number one pay TV operator, Telstra having merged its New Zealand interests with the Saturn unit of Austar. The combined Telstra Saturn entity also features two internet service providers.

Telstra Saturn appointed four banks to act as lead arrangers for the financing which will be structured as a A$800 million senior secured medium-term facility, combined with equity contributions from Austar and Telstra. The lead arrangers are ABN Amro, BNP Paribas, Chase Manhattan and Toronto Dominion.

Interestingly, syndication, slated for late July or early August, is expected to attract strong demand despite the significant market risk. Pricing and fees will be significantly higher than the AJC deal, in line with market risk and the repayment profile.

Similarly, the Reef Networks financing, led by ABN Amro's Australian Capital Markets Group, has been arranged to take account of a quite different repayment scheme to the ACJ project. It is the first Australian telecommunications project to be financed in the long term capital markets using structured bonds and, Panizza says, is likely to be a template for other similar projects.

The financing, which involves A$75 million of debt and equity finance, will fund the design, construction and operation of the Brisbane to Cairns fiber optic cable link. Reef is the special purpose company behind the project while Optus Networks is contracted to take the entire capacity of the Network for a term of a little over 10 years.

Principal features of the financing are the securitization of the full extent of the 10.25 year ?take or pay? contract and the incorporation of an escalation factor into the bond repayment profile to correlate with the carrier contract terms and expected usage by C&W Optus of the cable.

ABN Amro has structured and underwritten two tranches of long term, fixed escalation, fully amortizing bonds. The first tranche was drawn down on 3 March 2000 and the second tranche is scheduled to be drawn down in February 2001 (at an interest rate locked-in at financial close). Mark Dooley, director at ABN Amro, says the cost of debt servicing has been minimized during the construction phase resulting from the two tranche structure and from the bonds being interest only up until the expected completion date. The bonds are not rated but Dooley says, ?we first made sure that an identifiable secondary market existed for the sale of the bonds taking into account the debt and credit structures we have put in place?

During the operations phase, the principal and interest payments on the bonds increase at a fixed rate, similar to the Optus usage payments, which enables the project's debt servicing to closely match the expected increase in revenues generated by Optus in using the Network, says Dooley. The bonds will amortize by the conclusion of the off-take agreement with Optus. Visionstream a subsidiary of Leighton Contractors commenced construction of the cable link in March 2000. Completion is scheduled for May 2001.

The success of the Reef deal shows that, be they cable projects or fiber optic network, it is clear that banking and investor appetite for a wide range of telecommunications deals is strong. ?Banks want to take a position in the telecom's sector to expose themselves to the industry's enormous growth potential,? says Panizza.

Good news for bankers, there are a number of very significant cable deals in the proverbial pipeline. Japan Telecom, for instance, is in talks with BT on jointly installing an undersea fiber-optic cable linking Japan with the rest of Asia and the US. The data transmission network, Japan Telecom, says this is just one of several projects under discussion, will cost about ¥100 billion ($930 million).

At the same time, Global Crossing, the US telecommunications group, has formed a joint venture with Hutchison Whampoa, to link Hutchison's fixed-line fiber-optic network in Hong Kong with Global Crossing's global undersea fiber-optic cable network, in order to target telecoms and internet business in Hong Kong and mainland China.

Bankers also point out that Hong Kong's Office of Telecommunications Authority is issuing 14 cable-based external fixed telecommunication network services licenses to 13 applicants which will lead to further submarine cable projects. The applicants include: AT&T, BT, Flag Telecom Asia, Global One, MCI WorldCom, NTT. Meanwhile CLP Telecommunications, Far East Gateway and Unicom International will be issued with letters of intent to bring in new land cables to Hong Kong.

In Australiasia, Paul Bartlett, head of global syndications at Chase Manhattan in Sydney, says the volume of deals either recently closed, or soon to come to market amounts to an explosion of the region's telecoms finance market. Upcoming deals include Hutchison Telecom's A$350 million project financing (being led by WestLB and Citibank) to finance GSM roll-out in Melbourne and Sydney, Austar Entertainment's A$400 million broadband rollout in rural Australia, the financing for which is being arranged by Chase Manhattan, the A$300 million Power Tel and Williams Communications fiber optic financing, and AAPT and Telecom New Zealand's plans for a mobile phone system.

In fact, due to the large number of deals that are coming to market, Bartlett says it is essential that banks in Europe, Asia or the US come in to support Australasian telecoms deals. The recent A$1.15 billion ($680 million) financing of OneTel's GSM 1800 mobile network rollout across Australia has set a good precedent. The list of banks that have come in to the general syndication for the One Tel deal include financial institutions who have never done an Australian financial transaction, let alone an Australia telecoms deal: banks such as Abbey National, KZB Austria, IKB and Bank Austria. Other banks who came into the general syndication were Hypovereins bank, Fortis Bank, Development Bank of Singapore, Comerica, Sumitomo, Fuji and DKB.

In order to tap into this global banking pool, Bartlett says the arrangers of the Telstra Saturn deal are expected to follow the OneTel lead and invite banks to join via the internet.

The need for international finance in Australasian telecoms deals is all the more acute because Australasia's major banks, with the exception of ANZ, have still to build up or hire the sort of expertise necessary to participate in telecoms deals. Neither National Australia Bank, nor Commonwealth Bank of Australia were conspicuous in recent telecoms deals.

More roll-out of course means more competition in a once monopolistic Australian telecoms market (AAPT and Hutchison's GSM plans will make the two companies the five and sixth GSM operators in Australia).

Bartlett does not think that the sheer volume of deals done or higher competition will dent banking appetite for Australasian deals. ?There will be some banks who will say they are filling up on exposure to the Australasian telecoms niche but there are still plenty of banks out there with very little exposure,? he says. The head of global syndications also points out that several of the projects are targeting very distinct niche markets. The Power Tel deal, for example is aimed at commercial and business district users, not the general population. ?All the market players are likely to engineer success in their own particular market niches,? Bartlett says.