When Qatar approached the debt market this spring seeking pricing a hair's breadth above 2007 spreads for its 2,730MW, 100MIGD Ras Laffan C IWPP, many in the banking community expressed surprise at the pre-credit crunch pricing the project was seeking.

Hindsight suggests that Qatar got it right, however. Chaminda Jayanetti looks at a deal that gave its borrowers good terms in the current climate, and potentially provides the Middle East a new model for structuring IWPP tenders - if they have time to spare.

Background

The standard format for Middle East power projects involves developers securing fixed price EPC contracts and full (or majority) underwriting, and then submitting tariff-based bids. The tendering body generally then awards the project to the bidder offering the lowest tariff.

However, Qatar identified a flaw with this process - the bid with the best EPC terms might not always come with the most competitive financing.

Instead, the tendering bodies - Qatar Petroleum (QP) and Qatar Electricity and Water Company (QEWC) - decided to split the process into two phases. First, developers submitted purely commercial bids  with EPC contracts secured, leaving the Qataris to negotiate financing for the project independently of the developer RFP.

The strategy bore all the hallmarks of QP, which had managed its own financings in many previous oil and gas deals and had established a track record of securing tight pricing - Qatargas 4, for example, secured a US$2.8 billion commercial loan priced at Libor +30-60bp when it closed in July 2007.

Three developers submitted  bids - Suez-Mitsui, Marubeni and International Power - with Suez-Mitsui emerging as preferred bidder in early January.

As a result, equity in the SPV - called Ras Girtas Power Company - was owned:

• QEWC - 45 per cent
• QP - 15 per cent
• Suez - 20 per cent
• Mitsui - 20 per cent

Banking on a low price

With a developer now in place, financing was likely to prove a different challenge. Between the RFP launch in March 2007 and the start of 2008, the credit crunch had left banks raising margins after years of exceptionally low Middle East pricing.

But as QP and financial adviser Royal Bank of Scotland (RBS) prepared their approach  to the debt market, they were aware that they were essentially navigating a path for the market.

The last Middle East power deal to reach financial close had been the Fujairah 2 IWPP in the UAE [projects database], which secured pricing at Libor +65-110bp - negotiated before the crunch took hold. The market knew that Ras Laffan C would have to be priced higher.

Eyebrows were therefore raised when QP - leading the financing on behalf of the SPV - issued a bank tender with target pricing  just 5bp above the spread on Fujairah 2. Bankers saw it as unrealistic to ask for pre-crunch pricing when credit committees were becoming extra cautious. Many felt that Middle East power pricing started at Libor +100bp.

But QP was realistic enough to know it would not get Fujairah 2 pricing plus 5bp. Instead, given that Ras Laffan C would set the benchmark for the market, QP had simply decided to set the target as low as possible to drag banks' pricing offers downwards - not as low as Fujairah 2, but as low as the banks could go in the changed climate.

The debt was structured to give banks maximum comfort. First and foremost, QP was seeking a large take-and-hold MLA group, which removed underwriting risk. A cash sweep was also included after the end of the 15th year of the debt, to act as a refinancing incentive and give banks more confidence in lending for the specified 25-year tenor.

QP's role in the financing was central. There was no Italian procurement deal in the project, but QP's strong relationship with Italian ECA SACE enabled the two parties to agree a US$300 million untied loan. SACE financing would not have emerged if QP had not led the financing, as SACE had no established relationship with Suez.

Mitsui's equity involvement and QP's relationship with JBIC also pulled in a US$1.5 billion untied facility from the Japanese ECA under its Overseas Investment Loan programme, which lends in support of Japanese equity.

This ECA financing enabled the Qataris to fulfil another of their strategic objectives on the financing. With the total debt requirement likely to reach around US$3 billion, QP and RBS saw it as crucial not to be over-dependent on any one source of financing, in order to maintain the competitiveness of all tranches.

The ECA loans enabled QP to reduce commercial bank lending to US$1.5 billion, which it had judged to be the maximum level of commercial financing they could seek while maintaining competitive pricing.

Despite the initial scepticism over the pricing target from certain quarters, banks took a great deal of comfort from the take-and-hold structure at a time when large underwritings were becoming increasingly difficult to syndicate.

Ultimately, the bank group was formed  with the following term loan pricing on a 25-year tenor:

• construction - Libor +105bp
• years 1-8 post-COD - Libor +100bp
• years 9-13 - Libor +115bp
• years 14-18 - Libor +135bp
• years 19-25 - Libor +160bp

The margins were very beneficial to the sponsor - among the tightest post-crunch margins seen anywhere in the global power sector, and expected to be lower than the margins on this year's winning bids on Middle East power deals.

Moreover, the cash sweep - and the refinancing it is likely to give rise to - means that pricing is unlikely to reach Libor +160bp. The margin is in reality likely to stop at Libor +135bp - not much higher than the starting price on Middle East IWPPs tendered by the traditional route.

The US$1.5 billion tranche allowed QP to stop at 20 MLAs - a larger commercial facility, and QP would have had to accept less competitive MLA bids in order to fill out a larger bank group, increasing margins.

One final source of financing emerged before financial close - a dollar-denominated Islamic tranche provided by Qatar Investment Bank and the Islamic Development Bank.

An Islamic tranche was not strictly required, but the two banks were keen to come on board, and were able to match the commercial pricing - enabling a further small reduction in the size of the JBIC and commercial tranches.

The financing

When the deal reached financial close  - prior to CPs that were formally met on 2 September - the financing comprised a number of tranches worth a combined US$3.24 billion, plus US$550 million in equity.

The project has an 84:16 debt-equity, with the equity portion incorporating pre-completion cash flows that are not included in the US$550 million up-front equity figure.

The debt is structured as follows:

• commercial 'tranche one' term loan: US$1.079bn
• commercial 'tranche two': US$233m
• JBIC untied direct loan: US$1.375bn
• SACE untied guarantee facility: US$300m
• Islamic ijara loan: US$250m
• cost overrun standby facility: US$79m
• working capital facility: QAR 85m (US$23m)

However, the standby and working capital facilities do not count towards the total project cost or debt-equity ratio.

Tranche one and the Islamic loan have a 25.25-year tenor, while the SACE and JBIC facilities each have a 25-year tenor. Project completion is expected in March 2011, with first repayment due in December 2011.

The working capital facility has a five-year tenor, but will be extended or replaced down the line.

Tranche one has been arranged by 20 take-and-hold MLAs, which will each provide  the following debt:

• Export Development Canada (EDC) - US$106m
• Bank of Tokyo-Mitsubishi - US$71m
• Banco Santander - US$53m
• BBVA - US$53m
• BNP Paribas - US$53m
• CIC - US$53m
• Depfa - US$53m
• Dexia - US$53m
• Fortis - US$53m
• HSBC - US$53m
• KBC - US$53m
• KfW - US$53m
• Qatar National Bank - US$53m
• RBS - US$53m
• Société Générale - US$53m
• Standard Chartered Bank - US$53m
• SMBC - US$53m
• Arab Bank Plc - US$35m
• APICORP - US$35m
• Sumitomo Trust and Banking - US$35m

These 20 MLAs are also financing tranche two and the cost overrun standby facility. Each MLA is taking the same proportion of the tranche two and standby debt as it has on tranche one.

Tranche one is priced:

• construction - Libor +105bp
• years 1-8 post-COD - Libor +100bp
• years 9-13 - Libor +115bp
• years 14-18 - Libor +135bp
• years 19-25 - Libor +160bp

There is a balloon such that if the debt has not been refinanced by the end of the 15th year after drawdown, the lenders will take a cash sweep of all project revenue from years 16-25.

MLA fees are set at 110bp.

Tranche two finances a portion of the project costs, but will be repaid not from the offtake revenue but from the proceeds of the transfer of the transmission connection to Kahramaa. Full repayment is expected before the back-stop date of December 2012

MLA fees on tranche two are 75bp, with pricing set at a flat rate of Libor +90bp.

The cost overrun standby facility has MLA fees set at 115bp. Pricing is slightly higher than for tranche one:

• construction - Libor +115bp
• years 1-8 post-COD - Libor +110bp
• years 9-13 - Libor +130bp
• years 14-18 - Libor +140bp
• years 19-25 - Libor +165bp

The Islamic ijara loan is equally split between two MLAs:

• Islamic Development Bank - US$125m
• Qatar Islamic Bank - US$125m

The Islamic tranche is an ijara facility, comprising both a fixed and variable element. The variable element - in essence, the 'interest' - is paid throughout the term of the loan, including during construction. The fixed element - repayment of the basic US$250 million loan - only kicks in post-COD and six months' grace.

Pricing is the same as for tranche one. This tranche is expected to be syndicated.

The SACE facility has five MLAs:

• Bank of Tokyo-Mitsubishi
• BBVA
• Depfa
• HSBC
• KfW

Pricing is set at a flat rate of Libor +40bp. MLA fees are 40bp.

The working capital facility is the only non-dollar tranche in the debt financing. Qatar National Bank is sole MLA on this Qatari riyal-denominated loan. Pricing is set at a flat rate of QCBRR +30bp - QCBRR is the Qatar Central Bank Repo Rate. MLA fees on this tranche are 30bp.

Mitsui is the EPC contractor. The project has a 28-year PWPA with Kahramaa (Qatar General Electricity and Water Corporation), which will buy the offtake and then sell it on.

Advisers on the project are:

• Latham & Watkins - legal adviser to sponsor SPV
• King & Spalding - legal adviser to Suez-Mitsui within the SPV
• RBS - financial adviser to sponsors
• Kema - technical adviser to sponsors
• Skadden Arps - legal adviser to lenders except JBIC
• Ashurst - legal adviser to JBIC
• HSBC - financial adviser to Kahramaa
• Shearman & Sterling - legal adviser to QP and QEWC on EPC and supply agreement matters

Subcontractors are:

• Mitsubishi Heavy Industries (power plant contractor)
• Sidem (desalination plant contractor)
• Hyundai Heavy Industries (remaining work)

A new model for Middle East power financing?

This summer's round of Middle East IPP and IWPP bidding followed the traditional route, with bidders asked to secure both EPC contracts and underwriting. Pricing on all these deals is expected to be higher than for Ras Laffan C.

Is it time for tendering bodies to opt for the Ras Laffan C approach?

There are clear benefits - a tendering body, usually a wealthy state-owned entity in the Middle East sector, has more relationships with banks and ECAs, allowing it to pull in more sources of financing.

Additionally, there simply are not enough banks in the market for each bidder in a development tender to line up 20 take-and-hold MLAs. If developers are left to secure financing, an underwriting model is inevitable, with the associated syndication risk and market flex.

However, if the two-stage Ras Laffan C model saves money, it costs time. The project RFP was issued in March 2007, but the deal only reached financial close in August 2008 - with eight months between the selection of a preferred equity bidder and financial close.

Moreover, Ras Laffan C was not affected by the tight EPC market to the same extent as current deals such as Saudi Arabia's Ras Al Zour IWPP. A lengthy financing process would have to factored on top of the year-long RFP stage now common as developers grapple to secure fixed-price EPC contracts.

With Middle East states keen to bring a succession of projects to financial close as soon as possible to meet rocketing power demand, a separate financing stage might require more time than governments and state utilities feel they can afford.

But the lesson of Ras Laffan C is clear - countries that cannot afford the time for a separate financing stage will have to pay out in higher pricing.

Conclusion

Ras Laffan C set the benchmark for post-crunch pricing in the Middle East power sector - but the fact it was financed via a different process to other regional deals could ultimately make its low pricing relatively unique, as underwritten deals grapple with syndication risk and flexed pricing.

Project developers in other Middle Eastern countries may look enviously at the terms secured by QP - but the breathless pace at which projects are being lined up may mean Ras Laffan C's long-play financing approach is not to everyone's liking.

The project at a glance