The economic crisis may have temporarily clogged the project finance deal pipeline, but there is real hope for a region-wide pickup sooner rather than later, finds Rosie Cresswell
At the beginning of March, Mexico's transport and communication ministry was forced to postpone the auction of its FARAC II highway concession because only two bidders came forward, both of which failed to strum up the minimum US$2.5 billion required for the 400km toll road. The ministry is now expected to split the package into two smaller pieces, in an attempt to appeal to lenders that are shying away from committing large sums in the wake of the financial crisis. The country's federal development bank, Banobras, and national infrastructure fund, FONADIN, have also been brought in, in the hope they will provide comfort to new bidders.
While sources of project finance have not dried up altogether in Latin America, the pace of funding has significantly slowed since the onslaught of the crisis. As with FARAC II, projects across Latin America are facing delays because of a shortage of funds, while the air of caution is inciting a greater need for creativity to secure what is left.
"Everyone is waiting to see what happens," says Richard Puttré, co-chair of Jones Day's global infrastructure practice. "As with everywhere else, banks are just not lending in Latin America and credit markets are very blocked. Governments are doing everything they can to stimulate the bank market and waiting to see if it will trickle down to lending."
In Santiago, what is one day destined to be the biggest shopping centre in South America stands unfinished; the sponsors have suspended construction because of concerns over funding. Colombia's government recently announced a toll road project worth US$2.5 billion, half of which it will fund while approaching private investors to provide the rest. The question of who will provide the remaining US$1.25 billion remains unanswered.
"Financing is a real problem," says Mayer Brown LLP's Doug Doetsch. "A very large amount of what has been available over the last years has dried up."
And yet there are still some deals being done - smaller, more difficult and fewer in number, certainly. Project finance lawyers are not as busy as those seeing an upturn in direct response to the crisis, such as litigation or bankruptcy teams, but they certainly seem to have brighter hopes than other commercial law colleagues.
International firms in particular are betting on their project finance teams to provide a steady source of revenue as the world finds its feet again - with one major firm noting that while the capital markets team in New York had cut its foreign associate programme to zero, the projects team was still hiring - simply because they had the work to keep them busy.
In Brazil, Linklaters' local arm, Lefosse Advogados, is increasing its project finance team and Souza, Cescon Avedissian, Barrieu e Flesch Advogados is investing more time and resources into that area in comparison with other areas of the firm. Some lawyers are similarly upbeat in Chile; Guerrero Olivos Novoa y Errázuriz cites its project finance team as one of the two busiest areas in the firm. "We expect project finance to continue to grow in the future and we contemplate adding more lawyers to the team if we need to meet the demand for this type of financing," says practice head Roberto Guerrero, who believes project finance deals will continue during 2009, especially in energy and natural resources. Other firms across the region expect work to pick up in the upcoming months.
Bridging the gap
In times of greater liquidity, funds for project finance come from the sponsor doing the work, commercial banks and private equity infrastructure funds. Latin American highways, pipelines and energy projects have also come to fruition thanks to foreign direct investment and access to debt and equity markets, while governments and multilaterals frequently step up when the project is of particular benefit to the economy.
But the pool of funds has shrunk considerably. For now capital markets have little to offer, international commercial banks are behaving cautiously and foreign investment is dwindling.
Into the gap have stepped the multilateral financial institutions, which are propping up a substantial portion of Latin America's infrastructure projects in the short term - particularly the Inter-American Development Bank (IADB), the World Bank's International Finance Corporation (IFC) and regional lenders such as the Corporación Andina de Fomento (CAF) and the Central American Bank for Economic Integration (CABEI).
Certainly any firm on their list of regular law firms can expect a steady flow of work. "We're fortunate being on the panel for both the IADB and IFC and so we're seeing quite a boom of business, as the flight to quality is taking people to the multilateral lenders," says Clifford Chance partner David Evans in a round table on page 6.
Take the US$2.3 billion of funding secured for the Panama Canal expansion at the end of last year. That such a large project finance transaction closed at the height of market turbulence is impressive. That the funding came from a group of five multilaterals and export credit agencies (ECAs) - the IFC, IADB, CAF, the European Investment Bank and the Japan Bank for International Cooperation - says a lot about today's state of play.
Cynthia Urda Kassis, co-head of Shearman & Sterling LLP's project development and finance group and counsel to the Panama Canal Authority, notes that until last year, multilaterals' participation in Latin American project financings had been in steady decline as foreign investors became more interested in the region. "Last year saw a dramatic reversal," she says. "This did not reflect a change in investor perception, but the willingness and ability of the multilaterals and ECAs to step into the funding gap created by the major contraction in commercial bank and capital markets liquidity."
Multilaterals are less market driven and are structured to lend in this kind of environment. As Clifford Chance's Fabricio Longhin points out:"A multilateral's purpose is to provide capital when the market isn't. For the time being they are getting 10 calls a day for projects and they have to refuse some, which wouldn't normally be the case."
Such strong competition for funds from institutions with finite budgets begs the question, just how many projects can they support? As Mayer Brown's Doetsch notes: "They don't have enough funds to go round everything the private sector has pulled out of."
If multilateral funding were to dry up before the capital and financial markets get back on track, "project finance deals would be seriously affected," says Prieto & Carrizosa's Juan Fernando Gaviria in Colombia. David Gutiérrez of BLP Abogados lists a toll road project, the refinancing of the San José international airport, construction of sewage systems and a port expansion as projects that would stall in Costa Rica in such a scenario.
Yet there are other sources of funding - the local development banks are increasingly taking up some of the slack that the multilaterals can't. In Brazil, the national development bank, BNDES, is a remarkably prominent player, as are government-run institutions such as Banco do Brasil and Caixa Econômica Federal (CEF). The same applies in Mexico - as demonstrated by Banobras's anticipated role in the FARAC II concession. "As commercial banks reduce their lending activities, Mexican development banks will need to become more actively involved. We will likely see them take a leading role among bank syndicates in certain projects," says Mijares Angoitia Cortés y Fuentes SC's project finance practice head, Horacio de Uriarte.
Local commercial banks in Latin America that were comparatively less exposed to the sub-prime crisis, and which are more able to take advantage of deals their international cousins can't, are still lending in some cases. "For selective and solid infrastructure projects, local and international banks are lending money, " reports Arias Fábrega's Ricardo Arango in Panama. In Chile small to mid-size projects are being financed through syndicates of local banks, according to Guerrero Olivos's Guerrero. "Projects are relying on domestic sources because US funding is still expensive and in the case of variable rates there is no long-term hedging," adds Pedro García of fellow Chilean firm Morales & Besa. In Colombia, project finance is available for energy and highway deals.
A speedy recovery
Fortunately, the general feeling is that other funds will become available for project finance before too long. "The expectation is that the effects of the crisis in the debt markets will not last long enough for the government-controlled sources of financing to dry up," says Souza Cescon's Luis Antonio de Souza.
The expectation of a relatively quick recovery in the sector is based in part on government participation and the effect this will have on the private sector once confidence returns. There is a huge infrastructure deficit in Latin America, which the region's governments are eager to fill - betting, Marshall Plan->
Existing plans thus have been significantly ramped up - most prominently Brazil's growth acceleration plan, Programa de Aceleração do Crescimento (PAC). Launched in 2007, PAC promotes sustainable development by stimulating financing for highway repairs, energy supply and sewage systems, using tax cuts and investment plans, among others. The Brazilian government has approved PAC funding of up to US$281 billion by the end of 2010. Most of this will ideally come from state-owned companies and the private sector. "The government's decision to recalibrate PAC represents a great opportunity for the private sector in terms of the global crisis," says Machado Meyer Sendacz e Opice Advogados's Antônio Corrêa Meyer, who expects infrastructure projects to double in 2010 in comparison with 2008.
In January, Colombia announced an infrastructure fund worth US$24 billion - equivalent to 10.7 per cent of Colombia's GDP - for projects in transport, mines and energy, telecoms and utilities sectors. "Part of the government's recipe to lessen the effect of the global recession is to foster project finance deals," says Brigard & Urrutia Abogados's Carlos Fradique-Méndez. Half the funding will come from the government, with the idea that the private sector makes up the rest. Also this January, Mexico's President Calderón launched a national infrastructure programme and is working on credit enhancement mechanisms to support commercial and multilateral funding. "The programme is very ambitious and is expected to result in over US$3 billion of governmental expenditures for infrastructure projects in an attempt to combat the current economic situation through the construction of public infrastructure," says Manuel Romano of Jones Day's Mexican office.
Of course, as Manuel Galicia of Galicia y Robles in Mexico says: "It is too early to predict whether these mechanisms will work given that commercial and multilateral financing is scarce these days."
Eduardo Leite of Baker & McKenzie's Brazilian affiliate, Trench Rossi e Watanabe Advogados, however, is confident. "The massive push we have seen from governments around the world to declare big public infrastructure programmes in the aftermath of the crisis is a recipe that sings to astute private equity investors," he notes. "The asset >
Since the sub-prime crisis, stability and reliability have become far more appealing than risk. Project finance offers long-term, predictable cash flows. "These are plain vanilla deals without bells and whistles. They are structured in a way that makes them more resilient and safer," says Mayer Brown's Doetsch. Because concessions can last for 30 years in some cases, unpredictable scenarios are often built into the terms of the contracts. Sponsors generally have a track record of operating history that allows a lender a strong indication of the stability of cash flows and a prediction of how it should act in future.
New lenders, new >
Despite the sector's predictability, it is likely that both the players and the shape of project financing deals will change post-crisis. "No one expects things to go back to normal in terms of financial institutions," says Caroline Walther-Meade, a partner in Milbank Tweed Hadley & McCloy LLP's global project finance group. "There is a view there will still be institutions in this kind of financing, but who and how interested they will be is hard to tell. I don't think agencies will be the only lenders, but once things settle down there may be more players and the players we know of may change composition."
Multilaterals are likely to maintain their prominent position, although their role should shift from major provider of funds to a more supportive, confidence-boosting position. "Multilateral institutions would probably bail out projects that eventually fall in financial distress," predicts Alberto Rebaza Torres of Rebaza, Alcazar & De Las Casas Abogados Financieros in Peru.
A continued shortage of liquidity among international capital markets and commercial banks could prioritise Latin American lenders. "Local and regional players were often not able to compete with the international lenders on price and tenor in the past. For at least the next year, this may be the new reality," says Shearman & Sterling's Urda Kassis.
There is also more room for local institutional investors - private pension funds and insurance companies have cash and are interested in infrastructure projects. "They are eager to invest in new projects. The Peruvian government has taken notice of this opportunity and is setting up a trust fund to finance and guarantee infrastructure projects for pension funds and insurance companies to contribute to," says Rebaza Alcazar's Rebaza. "The availability of funds in the pension fund sector and other institutional investors should encourage project finance-related initiatives," says Brigard & Urrutia's Fradique-Méndez in Colombia.
Bruchou, Fernández Madero & Lombardi's Jaime Fernández Madero predicts greater government participation for infrastructure in Argentina. The firm was the deal counsel for the US$300 million loan by Argentina's pension funds administrator ANSES to Empresa Provincial de Energía de Córdoba, which is considered a precedent for future Argentine project financing in the wake of the country's pension fund nationalisation.
Crucially, if local lenders have a more prominent role on the deals, then so too do their local counsel. International firms are still likely to be brought in, but in a more advisory role than as traditional lead counsel; the power shift may be a subtle one, but it contains the seeds of the longer-term development of the legal profession in the region. From a local firm's perspective the increased involvement of national banks is very good news, says Eduardo Lima of Lefosse Advogados, Linklaters' Brazilian affiliate. "When only local lenders are on board, you have a purely domestic deal - the financial and project documentation are both under Brazilian law." Lima expects local project finance lawyers will respond by offering increasingly sophisticated legal services.
Equally, as the profile of the lenders changes, so deals become more complex - not least as the number of and type of players in a single transaction is expected to increase. In the past, one or two banks would finance an entire project, even the larger deals, and syndicate it out to others. But in the short term at least, banks are only willing to provide far smaller sums, leading to club lending that allows risk and funding obligations to be spread among a larger group of players. For example, 12 different financial institutions backed Chile's US$1.1 billion GNL Quintero liquid natural gas project.
The downside of club lending, however, at least from the client's perspective, is that it is timelier, costlier and the number of participants involved introduces more complex negotiations. As government institutions play a heavier role, the different concerns of those coming from the public and private sectors need to be incorporated and balanced. The wider net which needs to be thrown for funding can mean deals are negotiated between parties speaking multiple languages, in polar opposite time zones.
More importantly, risk-averse lenders demand more conservative deal structures, with rock-solid guarantees built in. In Brazil, Souza, Cescon Avedissian, Barrieu e Flesch Advogados has already noticed a reduced appetite for construction risks. "Lenders in the projects market are looking for full support from sponsors or bank guarantees to guarantee completion of the projects, and seem less keen to accept performance bonds from insurance companies," says Luis de Souza.
Philippi Yrarrázaval Pulido & Brunner's Andrés Sanfuentes witnesses a similar scenario in Chile: "The sponsor will be required to support the project and offer more flexibility to creditors in the interest rates provisions under the credit facilities." Guerrero Olivos' Guerrero, also in Chile, suspects terms will include market flex - room for price adjustments in a volatile market - as a complement to material adverse changes clauses, which protect underwriters from unforeseen changes in the financial environment.
Banks are calling for safer terms and shorter lending times. In the UK, PricewaterhouseCoopers recently surveyed 20 banks and found a considerable number of those only willing to lend for seven or eight years - falling well below the 20 to 30 year timescale of some projects.
Of course, while everyone involved would prefer a fast-paced deal pipeline facing none of these problems, each of these issues in the sector is throwing the role of the lawyer ever more under the spotlight. Being the lawyer able to guide your client through this maze of problems brings genuine satisfaction. "The progressively contracting credit markets in 2008 spawned several creative solution-oriented techniques for closing large-scale project financings," says Shearman & Sterling's Urda Kassis. "Latin American projects in 2009 will likely be structured with more moderate leverage and conservative terms than seen in the last several years."
The Organisation for Economic
Co-operation and Development (OECD) estimates more than US$7.5 trillion is needed for basic infrastructure in Latin America by 2030. This, matched with related government programmes, clearly indicates plenty of projects are on the horizon - promising steady returns for investors once they are ready. As Puttré puts it, project finance deals are stable, not sexy. But in the near future at least, it is exactly this stability that will hold the most allure.
Coming through the pipeline
A look at the deals across the region which did get financing last year, and the firms that helped close them
"International recommendations" are made by leading project finance lawyers about firms they regularly work with in the region, not all of whom are quoted in this article. All figures quoted below are provided by the law firms in question. Click on the image below to enlarge it.           
(Latin Lawyer 05.06.2009)
(Notícia na Íntegra)