Richard Drummond, Legal adviser, office of the general counsel, Export Credits Guarantee Department, UK.
The export credit agency will provide cover either by means of insurance to the exporters or bankers or by means of a direct guarantee of payment to the bank covering a loan to an overseas borrower to finance the supply of goods and services in the event of any default in payment by the buyer or the borrower under a loan agreement. Such insurance cover or guarantees could be a combination of comprehensive cover (ie, commercial and political) or only political risk cover.
Previously export credit agencies promoted exports through subsidies that assisted those exporters who were able to obtain cover from them. Where credit agencies were involved, exporters were likely to offer more competitive business terms. The use of credit agencies was and is helpful to exporters in those markets where the political situation is more risky. Credit agencies can provide appropriate cover when commercial lenders are more reluctant to take political risks.
All countries that have official export credit agencies are now party to the "Arrangement on Guidelines for Officially Supported Export Credits". The arrangement seeks to harmonise the support credit agencies offer, and applies to officially supported export credits relating to contracts for sale of goods or services, or both, which have a repayment term of two years or more. The arrangement does not apply to export of military equipment and agricultural commodities. Special rules also apply to ships, nuclear power plants and aircraft.
The arrangement provides specific rules for project finance, which derogate from the usual Consensus Rules and essentially provide for a longer repayment term of up to 14 years, and, depending on the nature of the transaction, for repayments to be made in unequal instalments and for interest payments and principal repayments to be made less frequently than semi-annually. More flexible minimum repayments terms for project finance transactions are subject to the following conditions:
• the aggregate amount repaid in any single six-month period shall not exceed 25 per cent of the principal sum of the credit;
• the first repayment of principal shall be made no later than 24 months after the "starting point of credit" and must not be less than 2 per cent of the principal sum of the credit;
• interest must be paid no less frequently than every 12 months and the first interest payment shall be made no later than six months from the starting point of credit; and
• the weighted average life of the payment period must not exceed 7.25 years (or 5.25 years where the shorter 10-year repayment term for high-income OECD countries applies).
Some of the main export credit agencies with which the Export Credits Guarantee Department (ECGD) has done business are Compagnie Française d'Assurance pour le Commerce Extérieur, France (Coface); Euler Hermes Kreditversicherungs AG, Germany (Hermes); Istituto per i Servizi Assicurativi del Credito all'Esportazione, Italy (SACE); Office National du Ducroire, Belgium (ONDD), Exportkreditnämnden, Sweden (EKN); Atradius, Netherlands (Atradius); and Compañia Española de Seguros de Credito a la Exportación, Spain (CESCE).
The purpose of this paper is to concentrate on project financing and the relationship between ECAs, multilaterals, lenders and sponsors in a typical project financing. As a result of developing country indebtedness and substantial defaults on sovereign loans, the financial world, rather than depending on sovereign guarantees, has looked at other forms of financing. Project finance became fashionable again in the mid-1990s, when a number of the ECAs set up their own separate project finance units. Until then most projects would have been financed on the basis of buyer credit loans, often with a guarantee from the state of the borrower or an acceptable bank in the borrower's country. Exporters would have been paid in cash on shipment of their capital goods or by means of progress payments on the presentation of qualifying certificates countersigned by the buyer to the financing banks. The relevant export agency would have guaranteed that bank against the borrowers' failure to pay. From the mid-1990s many ECAs provided coverage for the financing of power projects in different parts of the world, some of these being Pagbilao and Sual in the Philippines, Shandong in China, San Pedro in the Dominican Republic and Manah Power Project in Oman. There was also considerable involvement in India for several years with fast track Power Projects such as Dabhol, Vizag Magalore and Bhadravati, where the ECAs relied on a guarantee from the government of India, but these other than Dabhol were never completed because of structural issues. In recent years there has been a switch from power projects to large oil, gas and pipeline projects, for example Qatargas, Ras Laffan, Oman LNG, Nigeria LNG and BTC Pipeline. There is also considerable involvement by ECAs in the telecoms market, and in the ECGD's case particularly with the Philippines, India and Kazakhstan.
In a typical power station financing, it would be normal for the project sponsors to establish the basic project documentation before the export credit agencies and lenders became involved. The sponsors would have to negotiate with the appropriate authorities any concession or authorisation agreement, including the terms of any power purchase agreement; and any additional state support before deciding to seek outside tenders for the supply of turbines and other power station equipment. As a result, key documents such as the power purchase agreement or energy conversion agreement could well have reached the final stage even before lenders became involved. Likewise, in an oil and gas project, the sponsors may well have negotiated the production-sharing agreement or a development fiscal agreement with the authorities long before the lenders were on board. With a typical pipeline project passing through many countries, an intergovernmental treaty between the countries concerned may be required, and then individual host government agreements with the different countries to deal with local law issues such as the licensing regime, stabilisation clauses and rights of enforcement. Setting up such a complicated project structure means that the documentation may well have been agreed up front so that when the ECAs become involved - to protect their position - they must rely on negotiating particular terms into the direct agreements and assignment of the relevant project documentation to the lenders as part of their security package.
In the past, commercial lenders were often initially involved in negotiating a draft term sheet with the sponsors and because they were concerned about winning the mandate for the financing would often make concessions in the full knowledge that when the export credit agencies and multilaterals became involved they would rely on them to reinstate relevant provisions of the term sheet that were particularly applicable and of concern to the ECAs.
From this it would seem that the sooner the ECA and multilaterals become involved, the better. The sponsors need to realise that the project documentation must be sold as a viable and bankable package to the ECAs and multilaterals. If the appropriate concession, power purchase or production sharing agreement has reached the final negotiation stage, then it becomes far more difficult for the ECAs and multilaterals to renegotiate substantial clauses, should defects be found. Failure to rectify such defects could determine the type of risks that the export credit agencies and the multilaterals are prepared to accept.
The European ECAs, as a whole, cover against a similar mixture of commercial and political risks, and there is not much variation. Whereas Coface, Hermes, CESCE and other European ECAs provide up to 95 per cent cover to the banks, the Export Credits Guarantee Department offers up to 100 per cent comprehensive cover (ie, commercial and political risk cover) or up to 100 per cent political risk cover. In the case of political risk cover the ECGD would normally cover war, moratorium, expropriation, transfer risks and cancellation of UK licences. Depending on the nature of the project, however, additional enhanced political risk cover can be provided for breach of government undertakings, change in the law, change in taxation, concessions and non-payment by the government of the borrower's country of certain financial obligations under a government guarantee. In this latter respect, if the ECAs were to provide enhanced political risk cover then they would look to see that the project documentation contained certain mitigations in respect of such additional political risks. If cover was required for change in law or taxation or the maintaining or revocation of appropriate licences, or both, the ECAs and multilaterals would seek a memorandum of understanding or letter of comfort to ensure that the government behind the project would not interfere, and that there would be no changes of law that would affect the terms of the project or that a relevant licence would not be revoked, which would prevent the construction of the project during a specified time.
The export credit agencies should be considered for providing cover for the financing of limited recourse projects for many reasons. As mentioned above most of the ECAs now have defined project finance schemes and over many years have built up considerable experience of supporting a variety of project finance transactions. The ECAs are also highly seasoned participants in emerging markets, and they are less sensitive to political turmoil than private lenders. The ECAs have long-established relationships with key players, for example host governments, power corporations and utilities.
Because of the amounts involved in financing large projects, a significant number of sponsors often wish to see a diversified lending structure and a broader spread of risk-sharers. In return the ECAs recognise the need for flexibility when supporting project financings. The ECAs are able to cover a variety of cover options in respect of political and commercial risks pre-and post-completion. Sponsors and lenders often value the independent approach ECAs take in negotiations, often raising issues that are arguably too sensitive for the sponsors to pursue. Capital markets also recognise the potential for the diplomatic route to resolve any particularly sensitive issues. This inevitably has occurred when negotiating host government agreements' letters of undertaking.
The ECAs can consider supporting finance by arranging local currencies best suited to the project revenue steam. This may be appropriate when it's an infrastructure project that is not generating US-dollar income. ECAs can support financing available at floating or fixed interest rates.
ECAs are prepared to consider pre-payment of ECA loans at or beyond the completion stage if capital market funding is introduced at a later stage. In such cases ECAs can be said to be almost the lenders of last resort. The sponsors obtain early commitments from the ECAs, whereas bond issue may only happen much later after the project has been rated.
The ECAs will wish to take an active role in the project's due diligence review and in the negotiating of the terms of any project financing. This will often involve face-to-face discussion with lenders and sponsors. The ECAs do not sit back and react to proposals but are in the forefront of discussions, influencing and shaping the finance package, without slowing negotiations.
ECA-supported finance can act as a lever to facilitate additional commercial financing of the project as ECGD-supported loans attract zero weighting. Because the ECAs have considerable experience supporting project finance both independently and collectively, they are now used to working as a team with the lenders and can now also coordinate their activity in sharing information and lawyers, depending on the nature of the transaction.
The ECAs can keep pace with the lenders but also recognise the ability of capital markets to move quickly in certain situations, especially after most of the project's due diligence review has been completed. Where transactions are complex, ECAs may be included to provide cover, but this should not cause delays. Any delays in negotiation normally arise from unattractive propositions, poorly constructed deals and slowness in providing adequate information. If the ECAs are provided with adequate information at the beginning of the due diligence process this can help speed up matters and allow the ECAs to be able to evaluate a project sooner.
The ECAs now cooperate extensively, building on the strengths of each to meet the huge demands for future long-term financing. To the extent that ECAs have entered into various multi-sourcing agreements, this can reduce the need for separate loans in certain cases. The ECAs' investment insurance for political risk can be a relatively simple and quick means of obtaining cover for an untied loan or equity contribution for a project financing.
For the ECAs and multilaterals to obtain the appropriate approvals from their credit committees or boards, a full due diligence review of the project is necessary, and before the ECAs can agree to provide cover for any commercial and political risks a full appraisal of the project must be carried out, allowing consultants, independent of the sponsors, to confirm the validity of the sponsors' assumptions, which normally would be included in their preliminary or final information memorandum. Invariably, the ECAs will be looking to appoint a financial consultant to advise them on the project cash flows, the banking case and advice on the bankability of the project. Other consultants such as the reserves consultant would advise on the capacity of the reserves for the sponsors and project company to be able to fulfil their obligations in an oil and gas project or the technical consultant would advise on the capacity to take up the power supply by companies and individual customers and whether there is sufficient take up to make a power project bankable for the ECAs, multilaterals and lenders. The ECAs will particularly require the appointment of environmental consultants to carry out due diligence reviews to ensure that World Bank Guidelines, EU directives and local law requirements are being observed, particularly in respect of oil and gas, pipeline and power projects. Furthermore, rights of way, deforestation of land, the flora and fauna, resettlement action plans, and, in respect of oil and gas projects, suitable oil spill response plans will need to be considered. The lenders' advisers will check out the sponsors' advisers output and confirm whether the figures, assumptions and facts make the project viable to finance and to cover. In recent years, because large projects tend to involve a number of ECAs and multilaterals, there has been a move to share advisers to try and avoid unnecessary costs. Lenders have also shared in the reports to the consultants to mitigate the costs. The ECGD and the other ECAs are happy to share consultants' findings with commercial banks and multilaterals. The ECAs or multilaterals will only reserve their position to appoint their own individuals where there are conflicts or a separate duty of care relationship is required with particular consultants.
APPROACHING THE ECGD AND OTHER ECAS
Usually, the initial approach starts off with a roadshow where the sponsors and financial advisers will explain the nature of the project to the ECAs, discussing the merits of the project; details of the financing plan; the nature of the economics; the project documentation involved such as fuel supply, water supply and transportation facilities in power projects or production-share agreements, development fiscal agreements, host agreements and inter-governmental treaties for oil and gas and pipeline projects. This is followed by a formal application by the nominated lender or lead bank, usually after the contract has been awarded to a supplier in the relevant ECA country.
In the UK, on receipt of such information and provided that the ECGD is happy with the feasibility, robustness and viability of the project, and the soundness of the participants, and that there is an adequate political, legal and regulatory environment, and a financing structure allowing for all contingencies, then the ECGD should be able to provide a letter of intent providing the terms of support and terms of how such documentation will be negotiated.
SHARING THE RISKS: ECGD COMFORT ZONE AND COMMERCIAL RISK
Total capital costs breakdown
Equity - Normally not less than 25 %
Export credit agencies - Normally less than 60%
Of which ECGD - Normally less than 40%
Other lenders - Normally more than 15%
For the ECGD there is a minimum requirement of £20 million for it to consider a project financing cost-effective.
For the ECGD and other ECAs to proceed with their due diligence review, they would particularly like:
• a description of the project giving its location and proximity to essential supplies and infrastructure;
• a description of the sponsors, shareholders and any host government involvement;
• details of the overall cost and the proposed financing plan explaining the full capital costs of the project and how the capital costs are broken down between the various lenders, ECAs, equity holders and other financiers;
• a full list of agreements envisaged and their status; and
• what support is requested from the ECGD and other ECAs.
Some of the key issues considered before the ECGD and other ECAs could agree to provide cover would be:
• risk of government interference;
• availability or vulnerability of commodities or service for the duration of the credit;
• security of revenue stream;
• sufficient amounts dedicated; and
• legal risks and range of laws involved.
In addition the ECGD has built up its own business principles unit to take care of environmental and social issues. The unit has adopted principles to guide business practices and policies on matters such as human rights, sustainable development, sustainable debt, business integrity and transparency. All applications for cover are now screened for project impact in terms of environment, and social and human rights.