When Egypt LNG’s  (ELNG) Train 2 comes onstream in 2006 it will bring total production at the site to 7.2mtpa – a figure that will make the North African country the world's seventh largest producer of liquefied  gas and, according to BG Group, will  put ‘Egypt firmly on the project finance map’, writes Aaron Woolner.

At US$880m it is the second largest project financing ever in Egypt behind the US$950m Train 1 and is backed by a combination of international and local sponsors - BG, Petronas, Gaz de France, EGPC and EGAS.

With its strategic position within reach of both the burgeoning North American and European gas market and a pro-western government which development banks like the EIB are comfortable supporting, Egypt looks well-placed to ride the wave of market interest in LNG.

And with oil reserves dwindling at a rate equalled only by the expansion of the country’s population the Egyptian government is keen to see the establishment of a world-class LNG industry that can boost the country’s economic growth.

Proof of this commitment came with direct intervention by the Egyptian prime minister and the minister for oil to assure the participants in ELNG of the depth of the government's support when the markets expressed reservations over their commitment to Train 1 financing.

With strong support from government, the developers and the banks, the Egyptian LNG industry looks set to become a lead player in the global liquefied gas industry - but the question remains whether there are any obstacles to this happening .

Financing

Repeat transactions usually present fewer problems than their elder siblings and ELNG 2 was no exception. The same sponsors used the same EPC contractor – Bechtel – to construct a facility that was in terms of output and capacity a carbon copy of first train.

But the project was not without firsts. ELNG 2’s offtake agreement to sell the project’s entire production to BG’s gas marketing arm to supply its Lake Charles receiving terminal in Louisiana was the first time an LNG project has been financed entirely on the basis of a US offtake – even Atlantic LNG saw part of its production headed to Spain.

With the both the project sponsors and the Egyptian government keen to see ELNG 2 come onstream as quickly as possible financial advisor SG CIB put together a package that was aimed at banks with knowledge of the first transaction.

‘It was very much adopting the principal that we would not change anything if we did not have to,’ says Stephen Craen, Managing Director, Project Finance Team at the French Bank. ‘We only approached those banks that were involved in the first train – this was the very nature of the deal.’

In order to speed up the process the ELNG 2 financing saw the use the innovative use of so-called pathfinder banks – Bank of Tokyo Mitsubishi, Calyon, CIB, HSBC and Standard Chartered – which agreed the terms on a collaborative basis, before going to the wider market.

Key to this approach was the knowledge that there was a strong appetite for the deal from the first train banks and also those outside the transaction and ultimately the strong demand for ELNG 2 meant that it did not go beyond the MLA stage.

‘We had expected to go to full syndication but the appetite from the MLAs was so strong that they would not have been keen to dilute their portion of the deal any further,’ says Craen.

In addition to the commercial bank tranche domestic Egyptian banks provided about a quarter of the debt financing with the EIB performing the same role as in the Train 1 financing.

The break down of the financing is as follows.

·                    A US$180m Loan Facility from four Egyptian banks, ·                    A US$700m international credit Facility.

 The international credit facility was made up of

 ·                    A US$412m International Loan Facility from 22 banks, ·                    A US$144m EIB Article 18 Loan Guarantee Facility, and                      A US$144m EIB Euromed Loan Guarantee Facility.

 The offtake agreement

Despite being the first LNG project to be financed on an entirely US-based offtake there is also the option to switch a portion to Train 2’s output to the Brindisi facility that BG is developing in Italy.

While allocating supply to a terminal that does not yet exist proved problematic for those involved in framing the agreement that fact that no assurance was given to the banks on when and how much will switch into the Italian market – and says Craen, ‘none was necessary’ – highlights the increasing maturity of the LNG sector and the resulting greater possibility of arbitrage between the US/European markets.

While avoiding the complete exposure to market risk that occurred with the Qatargas II financing, the days of long-term purchase agreements acting as a prerequisite for banks to lend to an LNG project are becoming a distant memory.

Political risk cover

Concern over the level of government support proved to be a major stumbling block in the financing of ELNG1. But the success of the first train combined with Egypt’s steady progress towards an open economy that is integrated with the international financial system has led some to voice the opinion that ELNG 2 could have been considered in the absence of EIB support.

While conceding that investing in the Egyptian market is no longer carries the same uncertainties as in the past Martin Brunkhorst senior loan officer at the EIB is certain that it will be active in future energy transactions in the Arab state.

‘Political risk in Egypt is declining at the moment – but not dramatically. And without the existence of a liquid market for international Egyptian debt this is a factor that is inherently difficult to quantify.

'If Egypt were issuing debt on a regular basis you would be able to judge the change in political risk via the market – but this tool is not yet available,’ says Brunkhorst.

The importance of the EIB is echoed by Chris Saunders partner at Slaughter and May which acted for the commercial banks and the EIB on both issues.

‘Their role is very much as a guardian angel for the sponsors as well as the banks,’ says Saunders.’ Any equity investor going into a country like Egypt is will feel quite lonely without the support of the EIB, or a similar institution.’

Recent years have seen a lot of very positive developments in Egypt – but balanced against this is the unwelcome spectre of terrorist actions and with elections imminent lingering doubts remain over the future direction of the country’s government.

‘In the end the market will judge – if sponsors feel that the involvement of the EIB has no added value for them then we would not have a role – but I don’t really see this happening just yet,’ says Brunkhorst.

Conclusion

The potential for the LNG industry in Egypt is huge – Idku alone has the space to house up to six Trains and both BG and Spanish Egyptian Natural Gas Company are developing projects in Damietta that will lead the country to the forefront of the international LNG industry.

Stuart Fysh, BG’s executive vice president and managing director of the Mediterranean Basin and Africa, was certainly bullish about the industry’s strong potential – he hailed ELNG 2 successful financing as ‘illustrating the international financial community’s continued confidence in the world class Egyptian LNG project and, more broadly, Egypt’s growing energy sector.’

But doubts are surfacing over the country’s long-term future due to questions over its gas reserves – or potential lack of them.  BG is currently investigating various sources of supplies for the development of Train 3 at Idku with one possibility being the UK-based company’s Gaza field, offshore the Palestinian authority.

While securing supplies for a project from the nearest neighbouring country is hardly unusual it is indicative of the doubts within the industry over the amount of gas reserves actually in Egypt– and this is before Trains 4,5,6 are considered.

‘With the decline in oil revenues, Egypt sees gas as the saviour of its economy and the banks also see Egypt as a land of opportunity – the question remains whether it has enough gas reserves to support its ambitions,’ says Saunders.

ELNG 2 may have put Egypt on the project finance map but borders can be redrawn and it remains to be seen where its final boundaries will lie. 

Project name	Egypt LNG – Train 2
Location	Idku, Egypt
Description	3.6 mtpa liquefaction train
Sponsors	BG (35.5 per cent) Petronas (35.5 per cent) EGPC (12 per cent) EGAS (12 per cent) Gaz de France (5 per cent)
Operator	BG
EPC Contractor	Bechtel
Total senior debt	US$880m
Tenor	12 years
Debt senior debt breakdown	A US$180m Loan Facility from four Egyptian banks and a US$700m international credit Facility. The international credit facility was made up of A US$412m International Loan Facility from 22 banks, A US$144m EIB Article 18 Loan Guarantee Facility, and A US$144m EIB Euromed Loan Guarantee Facility.
Senior debt pricing	Commercial banks; LIBOR + 60 basis points pre-completion +110bp to year seven +130bp to year 10, and +150bp to year 12
Debt: equity ratio	80:20
Pathfinder banks	Bank of Tokyo Mitsubishi, Calyon, CIB, HSBC and Standard Chartered
Mandated lead arranger/s	Apicorp, Arab Bank, Maybank, Banca Intensa, Bayerische Landesbank, BNP Paribas, Calyon, Dexia, Fortis, HSBC, HBB, ING, KBC, KFW, Mizuho, RBC, RBS, SanPaulo IMI, SG, Standard Chartered, West LB
Legal advisor to sponsor	Shearman & Sterling
Financial advisor to sponsor	SG CIB
Legal advisor to banks	Slaughter and May
Date of Financial Close	September, 2005