Cajon powers a new model
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WestLB and Citibank teamed up in late 2003 to structure US$682.4m in bank-bond debt for the greenfield, 748MW El Cajon hydropower generation project in Nayarit, Mexico. By Nicole Gelinas.
The deal closed in the spring of 2004. El Cajon was a pioneer project selected by the administration of Mexican President Fox to develop new sources of private-sector construction expertise and financing depth for the nation’s massive infrastructure needs, away from Mexico’s 10-year-old independent power project model (IPP). The El Cajon deal’s financial success in the international syndicated loan and 144A bond markets has greatly expanded Mexico’s infrastructure investment and power supply options.
WestLB won the mandate by sponsor group Constructora Internacional de Infraestructura SA (CII) to arrange financing for El Cajon nearly two years ago. But WestLB could not rely on past successes in Mexico’s IPP sector to arrange a cookie-cutter structured deal for the project. Mexican government power authority CFE had bid out the Cajon concession on an entirely new model.
Mexico had previously attracted private-sector investment the power sector by tendering out 30-year build, operate, transfer contracts to international sponsors; those sponsors in turn would arrange their own non-recourse financing based on the government’s 30-year pledge to purchase power generated at the plant. But Mexico decided to try something new on Cajon, in part because outside analysts had begun raising concerns that CFE’s massive obligations to purchase power from more than a dozen thermoelectric plants for 30 years should be viewed as concentrated on-balance-sheet debt of the sovereign government.
To attract private-sector capital without incurring that long-term liability, Mexico bid out El Cajon along a new model for generation, similar to the model the government employs for transmission line tenders. The government tendered the project through its long-term Pidiregas strategic infrastructure investment programme, a Congressionally authorised budget to tender and fund projects with private-sector partners based on shorter-term contracts than the ones that back IPPs. To date, El Cajon represents the Mexican government’s largest successful undertaking in the electricity sector under Pidiregas.
Under Pidiregas, the winning El Cajon sponsor pledged to raise money to construct the project, but would not be responsible for operations after construction completion. Rather, El Cajon’s sponsor will transfer the plant and responsibility for its operations to CFE at the end of the construction period. Rather than pay the sponsors over 30 years based on power purchases, CFE will instead pay the sponsor a lump-sum upon project completion; that lump-sum will in turn repay the construction debt in full.
CII - made up of two subsidiaries of Mexican engineering and construction giant Empresas ICA Sociedad Controladora SA - won the tender to build the plant in early 2003, with a US$750m bid and a stated completion term of 1,620 days (nearly 4.5 years). The group lined up WestLB, which arranged a quick bridge loan and committed to underwrite the longer-term project debt. Last year, the sponsors and WestLB recruited Citi to act as joint lead manager and joint bookrunner on a 144(A) placement tranche; the financiers committed to achieving an investment-grade rating for Cajon while WestLB’s bridge loan was in place, based on a tight structure around project fundamentals.
The project debt garnered its investment-grade ratings from Moody’s and S&P - Baa3 and BBB- respectively - in the late fall of 2003, paving the way for syndication and placement. The US$452.4m bullet bank facility matures in 2007, when construction on the project is slated to be complete, and was priced at 300bp over Libor. The US$230m bond tranche matures in 2008, with a 270-day extension built in for any construction completion delays.
WestLB officials note that the financing benefits from structural enhancements that include a disbursement guarantee, a retention account, a junior performance guarantee and a cost overrun letter of credit. All are designed to ensure that construction and performance risk are minimised, and that the payment from CFE upon completion or early termination will be sufficient to cover repayment. CFE must purchase the completed project from the sponsors in 2007, after making two payments to total the contract price in two installments: 60% in February, after provisional acceptance of the first unit and 40% in August, at project completion.
Moody’s assigned its own investment-grade rating to the debt to reflect CFE’s role as the purchaser of the project, as well as a clear indication of support from the Mexican Congress, adequate risk mitigation provisions during the construction period and additional structural features that provide protection to debt holders, Moody’s analyst Daniel Gates said at the time.
Gates did note that El Cajon “faces a relatively higher degree of construction and execution risk than previous CFE Pidiregas build-transfer projects” (smaller deals in the transmission sector). But those risks are mitigated by several factors:
- CFE and implicit government support.
- Construction risk controls.
- Performance guarantee.
- A tight financing structure.
- Well-defined project payment conditions.
- Adequate liquidity.
- Capitalised interest.
In addition, lenders note that the sponsor is highly experienced, having built 23 hydro projects for CFE in the past. The plant will also feature proven technology; CFE has already certified the quality and the reliability of the turbines to be deployed. The equipment is the same in use at the Aguamilpa plant.
Based on the careful structure and the high ratings, WestLB was able to garner eight commitments to the deal during the bank syndication period. The bank awarded lead arranger titles to Grupo Santander Central Hispano, HSBC, NordLB, BBVA Bancomer and Depfa Investment Bank; co-arrangers and managing agents were GE Capital Corp, UFJ Bank Ltd and Caterpillar Credit. Participating banks committed between US$25m and US$100m each.
On the bond side, joint bookrunners Citi and WestLB placed US$230m to round out financing this spring, with a coupon of 6.50% priced at 349bp over Libor. The capital-markets issuance was the first major bond to be placed for a project in Mexico since 1998. The breakthrough financing should allow Mexico to attract more investment to its power sector without explicitly privatising any aspect of the national energy industry, which is forbidden under the Constitution.
This flexibility will be helpful to Fox, as he is mired in a budgetary dispute over his proposed reforms to power and energy sectors that is unlikely to be solved before his term is up in 2006. Despite the budgetary impasse, Mexico must add 25,000MW of generation capacity over the next decade, as power consumption is expected to rise an average 5.6% a year until 2012.
Indeed, a few months after Cajon closed, CFE hit the road to pitch three new power generation projects under similar lump-sum schemes, under which winning bidders with raise financing and turn the project over to CFE at completion. CFE will recognise monthly progress, but won’t pay for contract work until provisional and final acceptance.
- CFE’s first project to follow Cajon will be the 900MW La Parota hydroelectric project, to be located on the Papagayo River in the municipality of Acapulco, Guerrero state, eastern Mexico. CFE hopes to take provisional acceptance of the completed plant by January 2011.
- The second project is the greenfield 648MW Pacifico coal-fired plant, to be located near an existing CFE coal-fired facility in Petalco, Guerrero state, Mexico. The provisional acceptance date for this project is slated for February 2009.
- The third project is the 101.4MW Venta II wind project, to be built in La Venta Village, Oaxaca state, southern Mexico. Scheduled start-up is July 2006.
On these three projects, CFE will provide the site, facilitate permitting between the contractor and other government agencies, and assume political, geographical and, for hydropower facilities, hydrological risks. Winning bidders must put up a 10% performance guarantee via a letter of credit; and a 5-10% quality guarantee via a bond, letter of credit or cash in escrow. Final acceptance occurs 1-2 years after provisional project acceptance. Cajon also represents a successful early effort by Mexico to diversify its power away from the more than 20 new thermoelectric plants the nation has built under traditional IPPs; Mexico is now suffering a shortage of natural gas for industrial use and must import some gas for its new thermo power projects from the southwestern US at high cost. Bankers who structured Cajon note that the project is “central to CFE’s strategy to reduce dependence on natural gas.” But private-sector sponsors would be unlikely to take on hydrological risk over a 30-year period; thus, the shorter-term public-works contracts can allow Mexico to diversify without relying on the private sector to take on that risk over a 30-year period.
Mexico has determined that CFE’s commitments to make the lump-sum payments to power builders will rank pari passu to the agency’s US$5.4bn in explicit debt; CFE is itself rated BBB-. While project financiers must take on the risk that CFE won’t meet its obligations, that risk is easier to assess over two years than it is over the 30-year PPP contract term backing the thermoelectric IPPs.