For a PPP project with a capital cost of over €300 million to reach financial close in three months is a good achievement. For a relatively immature market like Finland, it seems exceptional. The entire procurement process of the E18 Koskenkylä-Kotka highway lasted only one year and seven months, including competitive dialogue, and this despite turmoil on the financial markets which flared up at more or less the same time as the preferred bidder was picked.

Background and Procurement

The E18 project was only the third road PPP in Finland, and the second to be procured on an availability basis. The first had been the E75 Järvenpää -Lahti, which closed in 1996 and which was remunerated on a shadow toll basis. However, after the successful close of the availability-based E18 Muurla-Lohja PPP in 2005, the Finnish Transport Agency, Liikennevirasto, decided to follow the same model again.

The project’s structure will be familiar to European project finance players in terms of security, payment mechanism and risk allocation (with one exception – see below). Tuomas Määttä, analyst at Inspira Oy, who were appointed financial advisers to the authority in early 2010, comments that a “plain vanilla project” was used to overcome uncertainty in the markets after the 2008 financial crisis and attract investors: “Having a standard PPP deal was our intention.”

As well as a proven model, the authority is thought to have been seeking to a model that would guarantee the project’s delivery on time. The E18 runs from Northern Ireland to the St Petersburg in Russia – the designation is a European, not a Finnish one – and is a Trans-European Transport Network project. Upgrading the Finnish section of the road motorway standard along its length by 2018 is a political priority.

Another factor is understood to have been constraints on the capital budget and the desire to spread the cost over the length of a concession contract. Tuomas Määttä notes: “The FTA has a good experience of what has taken place in previous projects. That was one of the reasons they decided to go down the PPP route.”

When the contract notice appeared in the Official Journal of the European Union in May 2010, a concession range of 15 to 25 years was advertised, but as procurement wore on this was revised down to the minimum. Why only 15 years? Part of the reason seems to have been the aforementioned budgetary constraints: Finnish projects operate with rigidly defined budgets which, once set, cannot be re-opened.

No more than €650 million could be paid out to the sponsors over the life of the concession, so every cost plus a reasonable rate of return over the concession life had to fit within that envelope.

Another motive for the short length was likely the government’s preference for public sector operation of the road network. The E75 PPP is nearing the end of its 20-year concession and the authority is expected not to re-tender a concession when it is transferred back to the public sector.

Four teams expressed interest in the project and in October 2010, Liikennevirasto announced that all four had been prequalified. They were:

•    Meridiam/Destia/YIT
•    Vinci
•    Strabag/Graniittirakennus
•    Lemminkainen

Vinci and Lemminkainen did not survive the competitive dialogue process: both withdrew from the contest before the first round of bids went in in May 2011. The remaining two were invited to submit second round bids in mid-August for a preferred bidder announcement in September. However, when the bids came in, the gap between the financial scores of Strabag/Graniittirakennus and Meridiam/Destia/YIT was so wide that the authority felt able to move swiftly to award the project to the latter. They had bid an upfront cost of €332 million, including financing costs.

Financing

The authority had set a highly optimistic timeline of closing the project by the autumn. This was for two main reasons: the weather and the weather. As Thilo Rose, senior investment manager at Meridiam, says: “Everyone was pulling together to meet the timetable. They wanted the road to open in 2014 and because of the climate you can only open a road in certain months of the year. It has to be by October, otherwise it gets too cold and dark. There was a real push on all parties involved to meet the timetable.”

The Finnish winter, which sees the ground freeze under dry snow, is conducive neither to starting construction on a road nor opening it, thus the timeline required construction to start (in 2011) and finish (in 2014) before winter set in. Meanwhile, a new arrival had come to the consortium: the Ilmarinen Mutual Pension Insurance Company, which agreed to take a 19.9 per cent stake in the SPV.

The previous E18 PPP had closed with three commercial banks alongside the NIB and EIB, but that was before the crisis hit. Banks who expressed an early interest in the latest project seemed to lose their appetite for it, possibly due to Finland’s peripheral status in the European PPP market, and so the NIB and EIB were set to play a major role.
Kim Krokfors, senior manager at the NIB, remarks: “We were prepared to look at our ticket size to get another commercial bank involved, because we are a complementary financing institution, but… financial markets were quite difficult. 15-year financing proved quite challenging.”

The sponsors had chosen Finland’s Pohjola Bank from a funding competition and managed to hold them to their terms all the way from preferred bidder to financial close, during which time Pohjola acted as agent.  “Picking Pohjola early on and agreeing their terms was probably very helpful to achieving financial close in three months,” Thilo Rose says. The bank was strategically committed to the project and had a strong relationship with Destia and YIT.

Having only three banks in the deal may have simplified the documentation process, but as multilaterals the NIB and EIB had stringent environmental and creditworthiness requirements. They were also not crisis-proof. In late 2011 the swap market was fluctuating violently and so was the EIB’s refinancing cost, meaning that its debt pricing was changing on an almost day by day basis. Inspira’s Kimmo Lehto remembers this vividly: “The swap rates were changing quite heavily during the last few months. We were very closely monitoring the swap rates, how they developed.”

An unusual provision of the financing was the authority’s willingness to provide a guarantee for an inflation bridge facility, taking on inflation risk during the construction phase that in other PPPs would be met by the sponsors. This €40 million facility was to be provided by Pohjola, to be drawn as needed and repaid by the FTA in two tranches on completion. The reason for this may be the aforementioned budgetary rigidity and the risk that the sponsor would otherwise have to have a higher contingency budget than the funding envelope would allow.

Thilo Rose comments: “It’s actually quite helpful for the public sector to take some more risk than you see in other jurisdictions. The FTA was happy to help the private sector by taking some risk. Therefore we created the inflation bridge facility… that can only be drawn on the inflation part of the capex.”

“We were very pressed on time – all the three months we were very busy,” Kim Krokfors recalls. “There weren’t any major issues. If there had been any major problems in the service agreement or documentation we couldn’t have managed it in three months.”

Nonetheless, all parties agree that there was strong cooperation on all sides and the transaction moved quickly. “I think it was the greatest achievement of the deal, that we managed to get it to close in a little more than three months, in an environment where the liquidity crisis hit and the banking market was in turmoil”, Thilo Rose says. Financing and the concession contract were signed on 7 December 2011.

Conclusion

Despite only having three road PPP deals under its belt – and a fourth rail project, the Kokkola-Ylivieska PPP, having been abandoned last year – Finland’s transport PPP market already looks in good shape. The latest E18 project proceeded very smoothly and the authority was able to pick a financially competitive bid despite two bidders unexpectedly dropping out of the contest. From their point of view, it bodes well for the completion of the E18 in Finland, due in 2018. The government is thought to be looking at a further PPP to do this, and fresh from his work on Koskenkylä-Kotka, Thilo Rose says Meridiam is keen: “We certainly want to bid for the next deals that come up in Finland”.

The one remaining question, which may have to wait until the market for project finance debt reshapes itself, is whether commercial lenders can have a majority role in Finland’s PPP sector.

Project at a glance