2008 Global Project Finance Yearbook

2008

Global Project Finance Yearbook

2008

Global ProjectFinance Yearbook

Published by Standard & Poor’s, a Division of The McGraw-Hill Companies, Inc. Executive offices: 1221 Avenue of the Americas, New York, NY 10020. Editorial offices:55 Water Street, New York, NY 10041. Subscriber services: (1) 212-438-7280. Copyright © 2007 by The McGraw-Hill Companies, Inc. Reproduction in whole or in partprohibited except by permission. All rights reserved. Information has been obtained by Standard & Poor‘s from sources believed to be reliable. However, because of thepossibility of human or mechanical error by our sources, Standard & Poor‘s or others, Standard & Poor‘s does not guarantee the accuracy, adequacy, or completeness ofany information and is not responsible for any errors or omissions or the result obtained from the use of such information.

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Letter To Our Readers 5

Project Finance At A Glance 6

The Top Trends

The Changing Face Of Infrastructure Finance: Beware The Acquisition Hybrid 9

The Anatomy Of Construction Risk: Lessons From A Millennium Of PPP Experience 13

Right-Way Risk Can Enhance Hedging Capabilities Of Higher-Risk U.S. Energy Companies 22

Turning Coal Into Liquid Gold: Alchemy? No, Polygeneration 26

Biomass Will Grow In Importance With Caps On CO2 32

Solar Power’s Potential Shines Brighter As Technology Advances 36

Which Power Generation Technologies Will Take The Lead In Response To Carbon Controls? 41

Canadian PPP Sector Continues To Pick Up Steam 48

Despite Risks, Global Public-Private Partnership Deals Are On The Upswing 51

U.S. Convention Center Hotel Financing And Market Cyclicality: Beyond The Conventional Wisdom 54

All U.S. Prepaid Natural Gas Transactions Are Created Equal...Or Are They? 56

Debt Not Imputed To Municipal Utilities In Structured Prepaid Natural Gas Transactions 63

U.S. Transportation’s PPP Market Continues Down A Long And Winding Road 65

Accreting Debt Obligations And The Road To Investment Grade For Infrastructure Concessions 69

The Evolving Landscape For Subordinated Debt In Project Finance 80

Criteria And Commentary

Updated Project Finance Summary Debt Rating Criteria 86

Ring-Fencing A Subsidiary 98

Credit Enhancements (Liquidity Support) In Project Finance And PPP Transactions Reviewed 103

Recovery Ratings For Project Finance Transactions 107

Standard & Poor’s Methodology For Setting The Capital Charge On Project Finance Transactions 112

Standard & Poor’s Methodology For Imputing Debt For U.S. Utilities’ Power Purchase Agreements 115

Summary Reference 119

Credit Services 165

Contacts 168

Contents

Standard & Poor’s � Global Project Finance Yearbook October 2007 3


Letter To Our Readers

Standard & Poor’s Ratings Services is pleased to present our 2008 Global Project FinanceYearbook. In it, you will find in-depth commentary about some of the latest trends in project

finance worldwide, articles outlining key rating criteria for project finance transactions, and asummary reference of all our project finance ratings. Every year Standard & Poor’s is presentedwith financings for new asset types and new financial structures that are increasingly complex and2007 was no exception. The articles in this Yearbook address the many different areas that wefocused on over the past year, including our views of the changing landscape of project financeand how we incorporate subordinated debt in the capital structure of a project finance transaction.

Even during the global credit crisis of 2007, sponsors and asset owners continued to use pro-ject finance debt at high levels to acquire assets and fund new projects. The amount of projectdebt rated in 2007 topped $20 billion for the third year in a row. In 2007, some of the high-lights include ratings on new sport stadiums being built around the world, ratings on largetransportation infrastructure projects, and ratings on a number of power assets acquired bynonstrategic investors.

We expect that 2008 will continue to build on this momentum. There are a number of exter-nal factors already in place that contribute to this expectation, including:■ The dire need for basic infrastructure in many regions around the globe;■ An increase in the use of public-private partnerships and privatizations throughout the world;■ The lofty level of electricity prices, which will likely lead to more investment in traditional

coal- and gas-fired power plants; and■ The ongoing quest for alternative sources of energy, which will lead to increased spending on

wind, solar, and ethanol facilities.As a result, bankers, borrowers, and lenders continue to turn to Standard & Poor’s independent

project finance credit research and the detailed analysis on which it rests. We hope that the 2008Global Project Finance Yearbook delivers new insights into what is becoming a progressively moreaccepted—but complex—financing technique and that you will turn to it as a reference.

The 2008 Global Project Finance Yearbook is available in hard copy by contacting TheresaHearns in New York at 212-438-7987 or at other Standard & Poor’s local offices. TheYearbook is also available on the web at http://www.projectfinance.standardandpoors.com

Arthur SimonsonManaging DirectorNew York(1) [email protected]

Michael WilkinsManaging DirectorLondon(44) [email protected]

Ian GreerManaging DirectorMelbourne(61) [email protected]

www.standardandpoors.com6

1992 1993 1994 1995 1996 1997 1998 1999 2000 20012002 2003 2004 2005 2006 20070

20406080

100120140160180(Bil. $)

Total Rated Project Debt

*As of August 2007. Data for 2005 and beyond does not include corporate developers (see table 4).© Standard & Poor’s 2007.

Chart 1

Project Finance At A Glance

AAA

AA+

AA AA-

A+ A A-BB

B+ BBB

BBB-

BB+ BB BB-

B+ B B-CC

C+ CCC

CCC- CC C D

0102030405060708090

Number Of Ratings By Year

Standard & Poor’s rated project debt

*As of August 2007. Data for 2005 and forward do not include corporate developers (see table 4).© Standard & Poor’s 2007.

2003 total ratings: 221 2004 total ratings: 277 2005 total ratings: 269

2006 total ratings: 305 2007 total ratings: 343*

Chart 5

1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007*05

101520253035404550(Bil. $)

Annual Rated Project Debt Issuance

*As of August 2007.© Standard & Poor’s 2007.

Chart 2

2001 2002 2003 2004 2005 2006 2007*(60)(45)(30)(15)

01530

(No. of ratings)

Project Rating OutlookAnd CreditWatch Distribution


Ratings with negative outlook or CreditWatch negative

Ratings with positive outlook or CreditWatch positive

Chart 4

2000 2001 2002 2003 2004 2005 2006 2007*(80)(60)(40)(20)

020406080

Project Rating Changes

*Eight months ended Aug 2007.© Standard & Poor’s 2007.

Upgrades Downgrades

Chart 3

1 2 3 4 5 60

10

20

30

40

50

60

70(No. of ratings)

Recovery Ratings Distribution*


Chart 6


Europe/Middle East/

Africa

North America Latin America/Caribbean

Asia Pacific0

1020304050607080

(Bil. $)

Regional Project Debt Issuance


2006 2007*

Chart 7

AAA

AA+

AA AA-

A+ A A-BB

B+ BBB

BBB-

BB+ BB BB-

B+ B B-CC

C+ CCC

CCC- CC C D

020406080

100120

(%)

Cumulative Percent DistributionOf S&P Rated Project Debt

Based on $ amount


2006 2007*

Chart 8

Corporate Total rated credit rating debt (mil. $)

The AES Corp. BB-/Stable/— 10,284

Edison Mission Energy BB-/Stable/— 15,196

Cogentrix Energy Inc. BB-/Stable/— 1,105

Mirant Corp. B+/Watch Neg/— 5,023

NRG Energy Inc. B+/Stable/B-2 12,564

Table 4 U.S. Corporate Power Developers

Eight monthsended

2002 2003 2004 2005 2006 Aug 2007

Upgrades 17 14 24 37 39 66

Downgrades 55 48 26 68 22 16

Total rating changes 72 62 50 105 61 82

Table 2 Project Rating Changes

Number % of Par amount % of Rating of ratings total (mil. $) total

AAA 41 12.0 11,991 7.7

AA+ 1 0.3 112 0.1

AA 2 0.6 2,933 1.9

AA- 10 2.9 8,729 5.6

A+ 1 0.3 763 0.5

A 15 4.4 8,237 5.3

A- 10 2.9 4,429 2.9

BBB+ 12 3.5 4,889 3.1

BBB 60 17.5 23,333 15.0

BBB- 82 23.9 38,916 25.0

BB+ 25 7.3 16,855 10.8

BB 20 5.8 8,206 5.3

BB- 23 6.7 13,663 8.8

B+ 12 3.5 3,470 2.2

B 12 3.5 3,724 2.4

B- 8 2.3 1,532 1.0

CCC+ 2 0.6 325 0.2

CCC 2 0.6 1,852 1.2

CCC- 0 0.0 0 0.0

CC 0 0.0 0 0.0

C 1 0.3 193 0.1

D 4 1.2 1,209 0.8

Total 343 100 155,359 100

Table 1 Rating Distribution For Project Debt

2006 2007*

Positive outlook 4 2

Negative outlook 21 16

Stable outlook 220 269

Developing outlook 1 1

CreditWatch positive 1 1

CreditWatch negative 6 16

CreditWatch developing 1 0

Not meaningful 51 38

Total ratings 305 343

Outlook/CreditWatch positive 5 3

Outlook/CreditWatch negative 27 32

*As of August 2007.

Table 3 Project Rating Outlook Distribution


Bank lenders and institutional investorshave traded favorable debt terms against

the management of credit risk during theinfrastructure finance boom of the past 18months. Now, with the cycle turning in theglobal credit markets, loosely structured andhighly leveraged acquisition loans are lookingfar less attractive. As a result, it is estimatedthat up to $34 billion of leveraged infrastruc-ture loans may be left paralyzed under cur-rent market conditions.

Cheap debt with relatively generous termshas been the order of the day among infra-structure sponsors. To meet market demand,banks have combined project finance struc-turing techniques with covenants prevalent inleveraged finance facilities—allowing spon-sors to acquire infrastructure assets at record-breaking debt multiples.

Despite the advantages for borrowers,Standard & Poor’s Ratings Services believesthat this new form of acquisition hybridposes a significant credit risk to the infra-structure sector. Many assets recently pur-chased for eye-watering acquisition multipleshave failed to boast the operating and cashflow strengths assumed typical of infrastruc-ture assets. Such risks are likely to be exacer-bated as credit markets become increasinglyvolatile and investor confidence fragile.

With $332 billion in leveraged loans cur-rently sitting on banks’ balance sheets globally,bankers are unlikely to be keen to lend toinfrastructure assets in the current climatewithout comfort that credit risks are wellmitigated. Investors and lenders alike there-fore need to examine the risks associatedwith each individual transaction and, if neces-sary seek more credit protection than is cur-rently being provided within the hybrid struc-ture to ensure that the level of debt can besupported by the underlying asset. This isparticularly pertinent as new assets are

brought under the infrastructure umbrella—with car parks, motorway service stations,and motor vehicle certificates now claimingto be strong infrastructure assets.

Breaking New Boundaries: Hunger ForInfrastructure Drives DevelopmentOver the past few years the boundaries ofinfrastructure finance have been increasinglypushed, with investors hungry for new typesof assets and financing techniques.Consequently, the lines between projectfinance and leveraged finance have becomeevermore blurred, with investors marryingtogether structuring techniques from bothfinancing classes to acquire infrastructureassets. Crucially, the high debt multiples usu-ally associated with project finance transac-tions have been adopted in conjunction withthe relatively flexible controls, hurried duediligence, and weak security packages morecommon in LBOs. As a result, increased debtmultiples are often coming at the expense ofnecessary risk mitigants.

Since 2006 a phenomenal appetite for infra-structure assets has spread worldwide (see“The Amazing Growth of GlobalInfrastructure Funds: Too Good to be True?”published on Nov. 30, 2006, on RatingsDirect).This, in turn, has fuelled a surge in the numberof acquisitions within the sector, making it asignificant area of growth for the syndicatedloan market. Landmark deals include the pur-chase of U.K.-based airport operator BAA Ltd.(BBB+/Watch Neg/—) by a consortium led byGrupo Ferrovial S.A. in February 2006 for$30.2 billion, the acquisition of the IndianaToll Road for $3.8 billion by MacquarieInfrastructure Group and Cintra Concesionesde Infraestructuras de Transporte, andGoldman Sachs’ Admiral Acquisitions consor-tium’s £2.8 billion acquisition of AssociatedBritish Ports (ABP).

Analysts:

Michael WilkinsLondon (44) 20-7176-3528

Taron WadeLondon (44) 20-7176-3661

Project Finance

The Top Trends

The Changing Face OfInfrastructure Finance: Beware The Acquisition Hybrid

The Top Trends

Fusion Of Project Finance And Leveraged FinanceAs for the financing of “greenfield” infra-structure assets, investors have turnedtoward project finance to raise funds whenacquiring mature infrastructure assets—securing high leverage multiples due to thestable cash flows and monopolistic environ-ment. They have then incorporated lever-aged finance structuring techniques insteadof carrying out an LBO of the asset aswould traditionally have been the case forthe acquisition of mature infrastructureassets (see table for the various structuringtechniques typically associated with lever-aged finance transactions and projectfinance transactions, respectively).

Of key concern for Standard & Poor’s isthat, in combining techniques, investorshave been trading favorable debt termsagainst the management of risk. Often weare seeing new infrastructure acquisitionfinancing structures employing structuralfeatures, such as short shareholder lock-inperiods, that are weaker than those of tradi-tional transactions, coupled with a veryaggressive financial structure. ABP, forexample, was purchased for £2.8 billionwith an enterprise value (EV)-to-EBITDAratio of 16.6x. Despite the asset’s strongmonopolistic position and stable cash flows,these terms are unlikely to fully mitigate riskarising from the high level of debt. Nor arethey likely to mitigate market risks such as

the increasing environmental and regulatoryhurdles limiting ABP’s ability to expandcapacity in the future.

Infrastructure—An Ever Expanding Asset Class?For the past 18 months, sponsors have alsobeen using the hybrid structure to acquireassets not traditionally considered as infra-structure. These assets do not benefit from thesignificant track record of other sectors such asports and airports and therefore may not besuitable to support high debt multiples, lackingthe necessary long-term stable cash flows or astrong monopoly position in the market.

The recent refinancing of Autobahn Tank& Rast Holding GmbH, a German motorwayservice area operator, is a clear example ofthe market opening up to new assets andfinancing acquisitions that would not previ-ously have been recognized as infrastructure-style deals. Indeed, the initial acquisition ofTank & Rast by private-equity investor TerraFirma for €1.1 billion in November 2004involved traditional leveraged finance tech-niques. The acquisition was financed using anall-senior debt facility, with a debt multiple of6x debt to EBITDA.

As little as two years later, in June 2006,Terra Firma was able to refinance the debt,obtaining greater leverage at a cheaper price.The refinancing transaction involved a €1.2billion seven-year senior loan with a cashsweep, and leverage was about 8x.Significantly thinner margins were attainedvia the refinancing—with pricing falling to arange of 125 basis points (bps) to 150 bps in2006, from a range of 212.5 bps to 262.5bps in 2004. Importantly, the arrangers of therefinancing—Royal Bank of Scotland,Barclays Capital, Société Générale, and WestLB—marketed the transaction as infrastruc-ture play, highlighting the asset’s 90% marketshare and stable, predictable cash flows.

Investors and lenders need to be aware ofthe credit risk of applying significant leverageto a new asset type. The experience of U.K.motorway service operator Welcome BreakGroup demonstrates the pitfalls of assumingthat this asset class can support significantlevels of debt. Standard & Poor’s believesthat applying infrastructure-style financingtechniques to less mature asset types could


1999 2000 2001 2002 2003 2004 2005 2006 20070

20

40

60

80

100

120

140

(Bil. )€

0

40

80

120

160

200

240

280

320

(No. of transactions)

*Transaction count takes first- and second-lien portions of a single transaction as one event and excludes any amendments.For the first half of 2007, the transaction count was 214.© Standard & Poor’s 2007.

Transaction count* (right scale)First quarter Second quarter Third quarter Fourth quarter

European Senior Loan Volume 1999–2007*

serve to undermine the sector’s reputation forstrong, long-term revenue flows if appropri-ate risk mitigants are not employed.

The Origins Of The Acquisition HybridHybrid acquisition financing structures arefairly new to the infrastructure sector, withthe South East Water deal in 2003 heraldingthe first transaction of this kind on a largescale. It was the subsequent flurry of Frenchtoll road deals in 2005 and 2006 that broughtinfrastructure acquisition transactions into themainstream—with Eiffarie’s purchase ofAutoroutes Paris-Rhin-Rhone (APRR) provid-ing a template for future transactions.

Techniques from both leveraged finance andproject finance were evident in the APRRtransaction. The €1.8 billion revolving creditfacility, for example, has a medium-term matu-rity and a weak structural package with respectto shareholder lock-in periods. Such terms aretypically associated with leveraged financetransactions. The aggressive financial structureof the APRR acquisition—due to high consoli-dated leverage and low debt service coverageratios—is, however, more akin to those seenwithin the realm of project finance. Similarly,the facility’s cash sweep, as well as the inclu-sion of future capital expenditure requirements,are also project finance techniques.

Notably, the revolving credit facility carriesan investment-grade rating, as does the recentlyrated €500 million term loan facility, reflect-ing the asset’s strong, recurring cash flow gen-eration capability. This and other credit

strengths served to offset the transaction’saggressive financial structure, significant refi-nancing risk, and weak structural package.

More Protections Necessary To MitigateRisk And Offset Poor PerformanceThe lack of security measures among hybridstructures and the diminishing level of con-trols and due diligence, if left to persist, couldnegatively affect credit quality in the sector.

For example, the extremely high leverageinvolved in Macquarie’s acquisition of theU.K. mobile phone mast owner, NationalGrid Wireless, for £2.4 billion could havebeen mitigated by a stronger structural pack-age. Significantly, this purchase—financed ata 17.5x estimated EV-to-EBITDA presyner-gies multiple—ran into difficulties during syn-dication, with banks appearing uncomfort-able with the level of risk in the transactionand its fit within the infrastructure space.

Several key assets in the sector have recentlydemonstrated the need for strong securitycovenants. Notably, Eurotunnel S.A.’s historicunderperformance prompted the third restruc-turing of its debt, with a long and bitter battlebetween shareholders and several classes ofcreditors. This eventual restructuring allowedEurotunnel’s senior debt, Tier 1A, Tier 1, andTier 2 be fully repaid in cash at 100% parincluding accrued interest, with shareholdersreceiving 13% of the new company’s equity.The lower ranking creditors were not com-pensated nearly as well, however, with someTier 3 creditors threatening lawsuits.

Poor performance at Eurotunnel, as well asat U.K.-based underground rail infrastructurefinancing companies Metronet Rail BCVFinance PLC and Metronet Rail SSL FinancePLC, has served to highlight that there aresome important exceptions to the rule thatinfrastructure represents a stable asset class.Nevertheless, for well-structured and moreconservatively leveraged transactions, such asthe refinancing notes issued in August 2007by Channel Link Enterprises Finance PLC aspart of the £2.8 billion securitization ofEurotunnel, it is still possible to achieveinvestment-grade underlying ratings. Prior tothe latest restructuring and securitization, thecompany had an unwieldy and complex debtburden of more than £6.2 billion. Anotherexample of how leveraged acquisition hybrids


The Changing Face Of Infrastructure Finance: Beware The Acquisition Hybrid

Leveraged finance Project finance

Corporate entity in Asset with stable cash flows over the long-term, competitive environment monopolistic environment

Debt capacity dictated by Debt capacity dictated by discounted cash flowsmarket-driven multiples

Medium-term maturity, lower Long-term maturity, higher leverage, amortizing leverage, bullet repayment repayment, lower margins

Standardized due diligence Detailed due diligence

Key ratio: debt to EBITDA Key ratio: loan to project life coverage

Flexible financial undertakings Fixed financing structure, monitored/ updated

Capital expenditure lines accounted for, Future expenditure (i.e., restoration of assets) but not mandatory future capital expenditure accounted for

Standardized security interest charges Ring-fencing security and “cash waterfall” controls

Leveraged Finance And Project Finance Structuring Techniques

The Top Trends

are now tapping the capital markets, despitecurrent turbulent conditions, is the recent£4.1 billion refinancing of U.K.-based ThamesWater Utilities Ltd. (BBB+/Watch Neg/—),which also launched and closed in August.

Credit Deterioration Across MarketsHeightens Risk For Infrastructure DealsDeteriorating credit quality has not beenconstrained to certain segments of the infra-structure sector alone, with credit qualitydeclining most notably across leveraged loanmarkets in general. A rise in M&A activityand leverage multiples has been evidentacross the European loan market in thebenign credit environment of the past fewyears (see chart). Contractual terms havealso been weakening elsewhere in the loanmarkets, with the introduction of “covenant-lite” LBOs further reducing lenders’ controlover borrowers’ performance. Furthermore,

Standard & Poor’s has recorded that thelevel of senior debt amortizing withinEuropean LBOs has dropped steeply, to 15%at the beginning of 2007 from 50% in 2001.With risk mitigants deteriorating in this fash-ion across the loan market in general,Standard & Poor’s does not believe that theinfrastructure asset class can withstand acontinued deterioration in underwritingquality. Hybrid acquisitions must thereforebe restricted to infrastructure assets operat-ing within monopolistic environments withstable cash flows over the long term.Moreover, high leverage should be accompa-nied by the necessary structural package andcreditor protections.

NotesAdditional data provided by ThomsonFinancial. Additional research by CarolineHyde of Moorgate Group. ■


A lthough public-private partnerships (PPP)are widely acknowledged to have a better

record of asset delivery than conventionalapproaches to public-sector procurement, amajor survey of construction risk byStandard & Poor’s Ratings Services suggeststhat their successful delivery remains depen-dent on a number of critical prerequisites. Thesurvey indicates that, absent these prerequi-sites, the construction-phase performance dif-ferential between PPPs and conventional pro-curement methods can narrow considerably.

PPPs are increasingly employed globally forthe procurement of essential public-sector infra-structure assets. Financing needs are dominatedby substantial upfront capital-expenditurerequirements for asset refurbishment, enhance-ment, extension, or new build. The attendantmultiyear construction works programs areoften the most challenging stage in any PPPproject’s life cycle. There is, however, limitedpublished empirical evidence from whichlenders can gauge the true nature, extent, andprevalence of construction risk associated withPPPs. Accordingly, late in 2006, Standard &Poor’s launched the PPP construction risk sur-vey to begin to address this.

The survey drew 161 responses frombankers, construction contractors, procuringagencies, technical and financial advisors,insurers, and project companies. Reflectingthe global nature of PPPs, survey responseswere received from market participants in 22countries. On average, respondents reportedbetween six and seven years’ experience ofPPP projects—representing an aggregateexperience base of nearly 1,000 years.

This article presents the initial surveyresults of our PPP construction-risk research.

A key output of the construction-risk sur-vey is the first version of Standard & Poor’sPPP Construction Risk Index (see “EnhancingCredit Quality Analysis: the ConstructionRisk Index” on page 18). The Index is anempirically derived template, against whichlenders and their technical advisors can mapPPP projects and their associated risk miti-gants and contractual protections, in order to

identify potential areas of residual PPP con-struction-risk exposure.

Project Characteristics And PoliticalConcerns Dominate The AgendaRisk cuts across asset classesAlthough PPPs are generally acknowledged asmore effective at asset delivery than conven-tional procurement methods, survey respon-dents indicate that exposure to constructionrisk remains highly contingent on the specificcharacteristics of a project, its contractualprovisions, and its associated transactionstructuring. Critically, market experience sug-gests that, in the absence of a number of theelements outlined below, the performance gapbetween PPPs and alternative procurementapproaches narrows considerably.

Assessments of credit quality based simplyon the “acceptability” of certain asset classes(conventionally regarded as being at the con-servative end of the credit-risk spectrum), andthe “unacceptability” of others, are not sup-ported by our findings. Indeed, market experi-ence suggests weak, if any, correlation betweeninvestor exposure to construction risk and thetype of project to be financed. Rather, respon-dents look to the particular attributes of a con-struction mandate, and the specific contexts ofworks that have previously exposed lenders toPPP construction risk. Many of these attributescut across all asset classes.

Public-sector shortcomings and political risk cited as key concernsConstruction risk typically finds expression ina departure from expectations about the out-turn cost of works, their specification, orassociated schedule. Survey respondents wereasked to identify the main reasons behindsuch departures from expectations.

Major failures by private sector partners areoften headline grabbing in this regard, and theycertainly feature in our survey responses.However, by far the most frequently reportedcause of distress affecting PPP constructionworks relates to the inexperience, lack of com-mitment, lack of engagement, bureaucracy, and

Analysts:

Robert BainLondon (44) 20-7176-3520

Jan Willem PlantagieFrankfurt (49) 69-33-999-132

The Anatomy Of ConstructionRisk: Lessons From A Millennium Of PPP Experience


The Top Trends

interference of public-sector project partici-pants; and associated scope changes andenforced delays. It is reported that “partner-ship” is not always the spirit with which thepublic sector enters these long-term, collabora-tive contracting arrangements. The surveyresponses indicate that PPP lenders should con-tinue to pay close attention to political risk.

Survey Scope And ObjectivesOur survey asked respondents to provideinformation based on their general experi-ence of PPPs, and additionally asked a seriesof more detailed questions about specific PPPprojects known to them. In this article, wefocus on general PPP experience. Our generalquestions covered three main, related areasof interest:■ What is the experience of PPP project

delivery?■ In terms of delivery, are some asset classes

more reliable than others?■ What are the main reasons behind con-

struction phase distress?Each of these questions is now considered

in turn.

Construction-Phase Delivery: PPP FindsFavor Over Conventional Procurement, But Concerns RemainSurvey respondents were asked if PPPs had abetter track record of delivery than conven-tional public-sector procurement methods.When constrained to answering either “yes”or “no”, more than 90% responded affirma-tively (see chart 1).

However, a significant number of thosesurveyed qualified their answer to this ques-tion—many stating that PPPs’ comparativesuccess depends on wider considerations.When contingent qualifications such as “itdepends...” are factored in, the results looksomewhat different (see chart 2).

PPP’s relative superiority depends on a number of factorsOne-third of respondents whose experiencesuggests that PPPs have a better track record ofdelivery qualified this assertion—stressing thatthe comparative success of PPPs depends on:■ Adequate and accurate definition of the

technical solution required;■ Adequate and accurate definition of con-

tractual obligations, responsibilities, andrisk allocation;

■ Appropriate equity commitment, perfor-mance incentives, and penalty regimes;

■ The objectives, commitment, engagement,experience, and sophistication of the publicsector partner or partners;

■ Adequate protection against politicalinterference and current position in theelection cycle;

■ The experience and capacity of the private-sector partners;

■ The quality of project management and theextent of day-to-day, hands-on projectsupervision;

■ The limitation of scope for claims andchanges, and contractual clarity regardingthe processes for accommodating changeorders and variations;

■ The implementation of policies and prac-tices to avoid extended negotiations;

■ The efficiency of existing public sector pro-curement practices; and

■ The caliber of the individuals involved.Several qualifications underscored the fact

that this question was asked in a relative con-text (Are PPPs better than conventional pro-curement?). Generally, respondents pointed toparticularly poor experience with convention-al public sector procurement practices interms of timely project delivery within budgetand to specification. In this context, PPPs arereported to perform very well.

On the other hand, some respondentsbenchmarked PPP performance against alreadyefficient international public sector procure-


No (9%)

© Standard & Poor’s 2007.

Yes (91%)

(Closed Question)

Chart 1 Do PPPs Have A Better TrackRecord of Delivery ThanConventional Methods?

ment processes, incorporating stringent perfor-mance standards and penalty regimes. In thisregard, PPPs are reported to perform less well,or to offer equivalent performance.

A general note of caution is sounded by acouple of respondents who replied that it wastoo soon to say whether PPPs offer a bettertrack record of delivery than conventionalapproaches. This reflects an important limita-tion of any PPP research—namely that PPPsare a relatively recent development. Globally,many PPP projects remain in the planning orconstruction phase. Furthermore, most ofthose postconstruction are only in their earli-est years of operations, when the assets arestill new (possibly still in their warranty orlatent defects periods) and there is limited vis-ibility of whole-life experiences and costs.

Finally, in response to this question, a num-ber of those surveyed identify—and in somecases name—individuals that have contributedto the success of PPPs; principally through theirproject management and leadership skills. Thisappears to be overlooked or commonly given alow ranking in most analyses of constructionrisk. Knowing more about key personnel, theirbackground, experience, involvement, and cer-tainty of retention, would appear to offerpotential for better understanding and contain-ing construction risk.

Are Some Asset Classes Better Than Others?Our survey asked respondents to identify thetype of PPP project most likely to encounterconstruction-related budgetary or scheduling

distress. Our expectation was that specificasset classes would be identified as more orless exposed to risks through this question.Asset-specific responses were, however, theexception. Although a number of those sur-veyed specifically mentioned IT projects, sub-surface and demolition works (especially thosewith an asbestos presence), and refurbishmentand renovation projects, most respondentsfailed to identify any correlation between assetclass and construction-risk exposure. In fact,most respondents either inferred or stated that,in their experience, there was little correlationbetween asset class and construction risk.Rather, respondents focused on the nature ofthe construction obligation itself. A number ofrecurring themes arose in the survey returns,highlighting key areas of concern. These were:■ New, untested or unproven technologies,

technical standards, and process innovation;■ Poor performance definitions that are open

to interpretation;■ Very large, complex, specialized, or highly

technical requirements with a lengthy con-struction phase;

■ Changing legislative, regulatory, and best-practice environments;

■ Aggressive scheduling with little contin-gency, often to meet politically sensitivedeadlines (for example, hosting a high-pro-file international sports event);

■ Limited or late detailed design;■ Multisite construction programs on opera-

tional sites with access constraints, espe-cially those in densely developed urbanareas with decant requirements;

■ Long, linear—rather than concentrated—con-struction sites, such as new-build tramways;

■ Weak or inexperienced contractors (espe-cially if there is limited contractor defaultprotection);

■ Heavy reliance on skilled trades or specialistsubcontractors, or specific materials withsupply chain uncertainties;

■ Limited due diligence, understanding ofground conditions or investigative works,and legacy issues related to existing assets;

■ Multiparty interfaces—especially if theserely on cooperation and goodwill;

■ Incomplete expropriation, permits,approvals, consents, or licences; and

■ Complex project phasing and subphase inter-relationships, dependencies, and constraints.


The Anatomy Of Construction Risk: Lessons From A Millennium Of PPP Experience

No (9%)

It depends (30%)

Yes (61%)

(Open Question)


Chart 2 Do PPPs Have A Better TrackRecord of Delivery ThanConventional Methods?

The Top Trends

Main Reasons For Construction Budget And Schedule ProblemsRespondents were asked to draw from theirPPP-related experience and list the main rea-sons they had encountered problems withconstruction budgets and schedules. The top10 responses are presented in chart 3.

Conflicts and disputesIt is, perhaps, unsurprising to find conflictsand disputes at the bottom of the top 10.Conflicts and disputes—particularly thoserelating to claims—have traditionally beenendemic in public sector procurement, andexperience indicates that contractors have usedthem as a major contributor to profitability.PPPs were developed specifically to design-outthe potential for claim-related cost escalationthrough refocused risk allocation, tight legalterms, and contractual clarity regardingchange orders and variations. According tomarket participants, this appears to be work-ing. The incentive for contractors to completehas replaced the incentive to claim.

Condition of existing assetsA number of PPP projects bundle new-buildobligations with operational and maintenanceresponsibilities for existing assets. Inadequatedue diligence or investigative works—oftenblamed on unrealistically tight public sectortimescales—was frequently cited by respon-

dents as the cause of defects going unidenti-fied, overestimation of the remaining life ofexisting assets, or underestimation of theirmaintenance requirements and costs.

Inexperienced or weak contractorsWeak construction contractors are mentionedby a number of our survey respondents,although they remain toward the bottom of thetop 10. Comments suggest that this is becausethe scale of most PPP projects limits participa-tion to the larger, more established firms in asector; because company capabilities and theirfinancial standing are subjected to multipartyscrutiny; and because a number of contractorshave actively sought a foothold in the PPP sec-tor and have reputational issues at stake.

Survey respondents linked contractor-relat-ed problems to:■ A focus on short-term construction prof-

its (at the expense of long-term projectcommitment),

■ Inadequate incentives (limited penalties orequity participation),

■ Optimism in terms of unfamiliar work, sec-tors, or jurisdictions,

■ Poor project and/or subcontractor management,

■ Inappropriate risk allocation, and■ Bad labor relations.

A number of those surveyed state that theyhad little insight into a contractor’s responsi-


Grantor bureaucracy/changesAggressive budget

Ground/site conditionsDelays with permits/approvals

Aggressive scheduleProblems with subcontractors

Inadequate initial designInexperienced/weak contractor

Condition of existing assetsConflicts/disputes

0 5 10 15 20 25 30

(%)

(Open Question)

As an open question, many respondents listed more than one reason. Accordingly, the number of reasons given exceeds the number of respondents. This chartshould therefore be interpreted as in the following example: Of all the reasons given for PPP construction budget/schedule problems, the “condition of existingassets” accounted for 5%.© Standard & Poor’s 2007.

Proportion of respondents answering yes

Chart 3 What Are The Main Reasons For ConstructionBudget/Schedule Problems?

bilities beyond the PPP project until externalworkflow commitments started to affect thecontractor’s performance.

Contractor replaceability was a key con-cern for many respondents, a number ofwhom sought adequate contractor defaultprotection provisions and project liquidity toenable them to replace a failing constructioncontractor at a cost premium.

Inadequate initial designOur survey responses suggest a negative cor-relation between the extent of detaileddesign work completed by financial closeand subsequent project exposure to varia-tions and cost overruns.

The amount of upfront design is reportedto vary significantly between projects, rang-ing in scope from conceptual drawings withill-defined technical specifications through todetailed final design (1:50 plans).

The survey results indicate that the poten-tial for inadequate initial design to affect thedelivery and operation of projects is exacer-bated by the life-cycle design philosophy cen-tral to PPPs—a philosophy that seeks to inte-grate design, build, and operations; ideallywith the operator or facilities-managementcontractor involved from the outset.Additional detail provided by some respon-dents suggests that inadequate design symp-tomizes the existence of a public sector thatfails to understand PPPs, or that regards con-ventional design and build contracts as suffi-cient to achieve the wider risk transfer andlong-term partnership objectives of PPPs.

Problems with subcontractorsSurvey respondents cite subcontractor issuesas more common causes for construction-phase distress than problems with the mainconstruction contractors. This is noteworthyas, in our experience, independent assess-ments of construction risk often focus on theprimary contractors and stop short of anydetailed evaluation of subcontractors andtheir subcontracts.

Subcontractor-related issues raised by sur-vey respondents include replaceability con-cerns (particularly for specialist subcontrac-tors from a limited pool of expertise, or thoseworking in highly competitive markets attract-ing premium rates); dispute potential between

the primary contractor and their subcontrac-tors, or between subcontractors; and the sheernumber of subcontractors used by some pri-mary contractors causing problems with pro-ject management and works coordination.

Aggressive schedulingTight works programming with aggressivemilestones, delivery, or long-stop dates, ishighlighted in a number of survey responsesas a key reason for construction-phase dis-tress. Respondents were wary of aggressivescheduling on projects where site access isconstrained (limited to certain times of theday or months of the year) or restricted by,for example, weather or tidal conditions—absent relief from contractual performance.Politically-driven (or sensitive) timescaleswith little contingency or “float” are a partic-ular concern among those surveyed.

Delays with permits and approvalsMore than 10% of the reasons cited byrespondents as causing construction-phaseproblems relate to delays with outstandingpermits, approvals, consents, and licenses.Several respondents warned that public-sectorreassurances at financial close that these wouldbe quickly secured should not be relied upon.

Particular circumstances reported as havingcaused delays include allocating responsibilityfor securing permits and approvals to private-sector partners and the involvement of multi-ple tiers of government or numerous statuto-ry agencies or third parties in the granting ofpermits—particularly where there is no legalor commercial incentive for those parties toact. Respondents specifically noted that theissuing of permits typically takes longer thanany desk-top study of the law in a particularjurisdiction would suggest.

Site conditionsUnforeseen ground conditions are a key reasoncited for construction delays. Some respon-dents pointed to circumstances under whichpreliminary subsurface investigations wererushed or incomplete, or where poor locationof bore holes and trial pits resulted in deficientsoil or rock sampling. Others highlighted that,as geologic investigative techniques rely onsampling, the possibility for different groundconditions to be present between exploratory



The Top Trends

points always exists. In such cases—as withunexpected archaeological or mining discover-ies—respondents were keen to emphasize thatthese risks should remain entirely with thepublic sector or should, at least, be sharedbetween the private and public sector partners.

Aggressive budgetingGiven competitive tendering, it is perhapsunsurprising that so many survey respondentsidentified aggressive budgeting as a key rea-son for construction-phase distress.Comments about insufficient liquidity,

reserves, and contingency funds; and aninability to absorb (sometimes relativelyminor) cost overruns were frequently noted inthe survey responses.

A number of respondents point to the factthat the public sector remains fixated withlowest price, and that—given affordabilitypressures—it takes a strong, sophisticated, andpolitically courageous grantor to identify andeliminate potentially winning bids that havebeen strategically underpriced. In the absenceof benchmarking against observed cost ranges,it seems that bid-evaluation criteria that con-


—Risk Assessment—

Risk Category Low risk High risk

Project preparations

Expropriation Complete Outstanding

Design Detailed Conceptual

Permits/consents Granted in full Granted in part

Investigations/site sampling Rigorous Partial

Project characteristics

Construction challenge Uncomplicated Complex/highly technical

Construction skills Standard civil engineering Specialist engineering

Construction materials Readily available Supply-chain constraints

Construction scale Small Large

Construction duration Short Long

Construction technology Proven Innovative

Construction location Greenfield Brownfield (busy/operational)

Construction site Contained Long, linear

Number of sites Single Many

Site access constraints None Many constraints/limitations

Existing asset condition Fully understood Partially/not understood

Interfaces Few/none Multiparty interfaces

Works phasing Simple/no interdependencies Many interdependencies

Construction budget Observed range/sufficient float Aggressive

Concession agreement

Technical solution Clear Unclear

Performance requirements Clear Unclear

Risk allocation Standard Unique/unclear

Schedule Sufficient float/no long stop Aggressive

Deadline None Fixed by asset-use requirements

Performance incentives Strong Weak

Variation/change procedure Clear Unclear

PPP Construction Risk Index; Version 1.0

sistently and transparently score value aboveprice could be an important contributor to thesubsequent credit quality of a PPP project.

Grantor bureaucracy and changesNearly 25% of all responses about the causesof construction-phase problems for PPP pro-jects identified public sector partners, eitherdirectly or indirectly. Many respondents wentto some length—with illustrative examples—topoint out that their comments were notrestricted to countries new to PPPs or to sover-eign counterparties with lower credit quality.

Examples of ways in which the public sec-tor had frustrated the construction of PPPprojects can be summarized under a numberof key headings:

Capability. The client does not possess theexperience, technical skills, or resources to

manage the public sector obligations associat-ed with a long-term, active partnership withprivate sector providers.

Legacy. The client tries to manage PPPs asthey have previously managed conventionaldesign and build contracts, including usingamended design and build contracts, in anadversarial, “them-and-us” environment.

Preparation. The client fails to define aclear output specification, to completeenabling works, to secure land, or to grantpermits or approvals.

Expectations. The public sector client’sexpectations of who is responsible for what,and what has to be delivered (by when) failto match the private sector’s understanding.

Process. The client fails to establish stream-lined, transparent procedures for day-to-dayliaison with its private-sector partners.



—Risk Assessment—

Risk Category Low risk High risk

Private sector

Experience Highly experienced Inexperienced

Capacity Sufficient Limited

Project management Strong Weak

Commitment Long-term focus Short-term focus

Personnel Broad skills base Reliance on key personnel

Financial standing Strong Weak

Contractor replacement Straightforward Complicated/restricted scope

Project importance (reputation) High/strategically important Low

Subcontractors Few/standard Many/specialist

Public sector

Experience Highly experienced Inexperienced

Commitment Strong Questionable

Engagement Active Hands-off

Project management Strong Weak

Supervision Active Minimal

Personnel Broad skills base Reliance on key personnel

Practices/procedures Simple/streamlined Complex/ill-defined

Political/regulatory risk

Support Broad, cross-party Limited

Elections Past Upcoming

Protestors Uncontroversial project Controversial project

Legal/regulatory framework Stable Evolving

PPP Construction Risk Index; Version 1.0 (continued)

The Top Trends

Bureaucracy is slow and resistant, and projectsare dogged by extended negotiation periodsand delays in achieving sign-off.

Oversight. Existing deficiencies in theclient’s project supervision and control proce-dures will not be cured, absent any otherchanges, simply by moving from traditionalprocurement methods to PPPs.

Change. The client pushes for scope orspecification changes, or variations, with lim-ited regard for cost or time implications, or inthe absence of contractual clarity about howsuch changes should be accommodated.

Importantly, it is clear from the surveyresults that a number of PPP problems stemfrom incomplete public sector “buy-in” to thevery concept of PPPs. Practical examplesreported included situations where:■ A political champion is promoting PPPs,

with limited support from colleagues intheir own political party;

■ A government department is promotingPPPs, with limited support from its sisterdepartments or other tiers of government;

■ A municipality is promoting PPPs, withlimited support from neighboring municipalities;

■ A political party is promoting PPPs, withlimited support (or, indeed, outright hostili-ty) from opposition parties;

■ Politicians are promoting PPPs, with limit-ed support or considerable skepticism fromcivil servants.The survey results appear to reinforce the

notion that the large scale and highly visible,essential public-service nature of most PPP pro-jects makes them easy targets for factions withexplicit or implicit political agendas that may behostile to the concept of private-sector partici-pation in public-sector infrastructure projects.

Given the long-term nature of the contrac-tual relationship, which will likely span anumber of administrations with differentdecision-makers, strong, cross-party supportand engagement; and professional, non-politi-cized client-side management were identifiedby many survey respondents as importantmitigants of political risk.

Enhancing Credit Quality Analysis: The Construction Risk IndexA key output from our first-cut PPP construc-tion risk results is the derivation of

Standard & Poor’s PPP Construction RiskIndex (version 1.0). This version is basedupon the results from our survey which, inturn, draw upon the practical experience ofmany seasoned market participants.

The Construction Risk Index presentedhere is an empirically-derived templateagainst which lenders and/or their technicaladvisors can map PPP projects and their asso-ciated risk mitigants and contractual protec-tions. This enables potential areas of residualconstruction-risk exposure to be highlightedwhen evaluating credit quality, and allows forfocused consideration of further risk preven-tion, reduction, transference, acceptance, orcontingency. Subsequent versions of the Indexwill evolve as we advance our PPP construc-tion-risk research initiative.

Our Construction Risk Index register (version1.0) is presented on pages 18 and 19. It reflectsthe risks identified by our PPP research to date.We are aware that in the structured world ofproject finance, senior creditors may be insulat-ed from a number of these “raw” risks. Thepurpose of the index is to identify constructionrisks acknowledged to have caused problems inthe past—such that the particular structuralprovisions and contractual protections associat-ed with specific transactions can then be over-laid, thereby highlighting creditors’ residualconstruction-risk exposure. It represents a con-sistent, logical, and evidence-based method foridentifying PPP construction-risk exposure. TheIndex will be extended and fine tuned as ourPPP-related research program rolls forward.

Practical application of the ConstructionRisk Index requires the evidence-based risk reg-ister to be expanded to allow for transaction-specific mitigants to be incorporated, thereforehighlighting any mismatch between the shapeand size of the risk and those of the associatedmitigant package. The steps are as follows:■ Based on the project characteristics, define a

score for each of the risk categories in theIndex using the low-risk/high-risk spectrum.

■ Identify the transaction mitigants pertain-ing to each of the risk categories.

■ Employ mismatch analysis to determinecreditors’ residual risks. This may thenbecome the focus for further analysis ornegotiation, and can be explicitly factoredinto any assessment of PPP construction-phase credit quality.


Survey MethodologyIn September 2006, Standard & Poor’s ini-tiated original, evidence-based research intothe specific construction risks associatedwith PPPs. A Web-based questionnaire wasselected as our primary survey instrument,in view of its global reach, convenience forsurvey respondents, and a successful pilotsurvey. Internal privacy and e-mail policiesrequired us to promote the research(through national and specialist press) andhave market participants register theirinterest with us by completing a shortscreening survey.

By February 2007, we had received 319expressions of interest from bankers, con-

struction contractors, financial advisors,insurers, institutional investors, procuringagencies, project companies, and technicaladvisors, all with PPP sector experience.

Response rateLinks to our Web-based survey were forward-ed to the 319 registered market participants.By late March 2007, we had received 161valid responses (a response rate of 50%). Theaverage exposure of the participants to PPPprojects was six to seven. Responses werereceived from participants in 22 countries;mainly in Europe but also representing theU.S., Canada, Latin America, Africa, and theAsia-Pacific region (mainly Australia). ■




Risk categoryRisk assessment

Mitigants Residual riskexposure

Preparations

Expropriation

Design

Permits/consents

Investigations

Complete Outstanding

Detailed Conceptual

Granted in full Granted in part

Rigorous Partial

Relief event None

95% complete Negligible

Few permitsgranted so far Significant

Further bores tobe drilled

Developing

Low risk High risk

Sample PPP Construction Risk Score Card (Pertaining To Project Preparations)Chart 4


W ith the increase in volatility in U.S. ener-gy markets in recent years, commodity

sales contracts have the potential to move inand out of the money rapidly. Asset owningcompanies, such as oil and gas explorationcompanies or electricity generators, that wantto reduce their commodity exposure can enterhedge contracts. When these hedge contractsare longer term and cover a large portion of acompany’s producing assets, Standard &Poor’s Ratings Services reasons that a company’srisk profile is reduced due to the more pre-dictable and stable cash flow.

However, the swings in the mark-to-marketvalue of these hedge contracts can be big andthe hedge counterparties can have very largeexposures to the sellers if commodity pricesmove up. To protect themselves, the hedgecounterparties require collateral to be postedby sellers for most out-of-the-money con-tracts or participate in some form of asset-based lending program. This can lead to largeand sometimes prohibitive liquidity require-ments for the hedger, often limiting theamount of hedging that a speculative-gradeplayer can execute, which in turn limits thecompany’s ability to transfer market risk toanother party.

In response to this, letter of credit (LOC)providers and some counterparties have beendeveloping innovative structures that allowan entity to provide credit support to coun-terparties for hedging activities, while absorb-ing less credit capacity and preventing a com-pany from getting into a liquidity squeezeunder a high price scenario—where the com-pany would otherwise be healthy. Since themarket value of the assets pledged to theLOC provider is growing with the exposure,the LOC provider has more comfort that itwill be kept whole if a bankruptcy of thecommodity seller were to occur during thatperiod of high commodity prices. This con-cept has been referred to as right-way risk.

How Right-Way Risk WorksIn the situation where an issuer is an ownerof commodity producing assets, such as oil

and gas properties or a generation facility,and that issuer is solely attempting to hedgethe future production and sale of those assets,the exposure the counterparty has to thisasset owner increases when the price of thecommodity increases. As such, the counter-party may require the seller to post increasingamounts of collateral as commodity pricesrise. The form of collateral required can becash, physical assets, or the posting of an LOCfrom a highly rated bank. If an LOC is theform of collateral, then the physical securityis pledged to the LOC provider as moreLOCs are posted to the counterparty.

However, because of the correlationbetween higher market prices for energy andthe value of the assets pledged as collateral,the lenders can benefit from right-way risk.Thus, even as a counterparty’s mark-to-mar-ket exposure increases, the risk may be miti-gated by a simultaneous improvement in thehedger’s ability to pay.

Right-Way Risk In Standard & Poor’s Rating AnalysisWhen Standard & Poor’s assigns corporatecredit ratings, issue-specific ratings, andrecovery ratings to a company or project, weconsider how right-way risk affects defaultand recovery risk. This is summarized below:■ An LOC obtained to support hedging

arrangements is not counted as debt for thepurposes of ratio calculations unless it isactually drawn on by the counterparty. Inmany cases the LOC cannot be drawnunless there is an issuer default. Sincedefaults are less likely in a high price envi-ronment, Standard & Poor’s projections donot assume drawn LOC facilities.

■ Commitment fees are counted as interestexpense for the purpose of ratio calculations.

■ We perform interest expense sensitivityanalyses to determine the effect on ratiosunder a condition where LOCs are posted(i.e., commodity prices have risen). It isoften the case that some capacity remainsunhedged, and the increase in costs relatedto posted LOCs is offset by the increased

Analyst:

Arthur F. SimonsonNew York (1) 212-438-2094

Right-Way Risk Can EnhanceHedging Capabilities Of Higher-Risk U.S. Energy Companies

margin earned on the unhedged capacity.■ For recovery ratings, default scenarios typi-

cally are low commodity price environ-ments. Therefore, it is assumed that anyLOCs that are available solely for hedgingpurposes are not drawn in bankruptcy.However, we also consider that a defaultcould occur under different scenarios (dis-cussed more fully below).

■ Similarly, to the extent a counterparty isgiven a first lien on assets as collateral for ahedging arrangement, this will not be viewedas disadvantaging other lenders in a bank-ruptcy scenario, as long as the lien is only inplace in high price environments and thebankruptcy scenario is one of low commodityprices. This is because the likely bankruptcyscenario would be one of low prices andthere would be no lien in place with regardto the LOC under such a scenario.

Right-Way Risk LOC Facilities Still Have Other RisksAlthough the approach is consistent acrossrated entities, the ultimate effect on the issuercredit rating and the rating on the LOC facili-ty itself may vary for different entities due tothe unique characteristics and risks of thecredit facility. The risks associated with thesetypes of facilities may be greater in some situ-ations than others. The risks include:■ Operating risk. To the extent a commodity-

producing asset fails to produce (e.g., anevent like a hurricane limits natural gasproduction or a power plant or refineryhas a catastrophic failure or chronic oper-ating problems), assets could lose valueeven in a high-priced environment. Such asituation would lead to exposure for thehedge providers and a situation whereother lenders are disadvantaged in a bank-ruptcy. This risk can be mitigated byredundancy in operating units (operationaldiversity), strong operating histories withproven technologies, insurance, etc.

■ Overhedging risk. In situations where ahedger is a large-scale trading operation,there is a risk that the company speculatesthat prices will fall and actually overhedgesits production. In such a situation, risingprices would lead to a loss for the company.Having the producer covenant not to takesuch positions tries to address this risk.

■ Imperfect hedge risk. To the extent a com-pany is hedging one commodity with anoth-er (e.g., using natural gas to hedge electricgeneration) or the hedge is exposed to basisrisk, there is a risk that the hedge could beimperfect. In such a scenario, the hedgecould be in-the-money for the counterpartywhile the producing asset is losing money.Standard & Poor’s reviews the terms andconditions of the hedge to assess the extentof this basis risk or “dirty hedge.”

Right-Way Risk In Our Rating HistoryStandard & Poor’s has rated a number ofcompanies and projects that incorporate LOCfacilities or collateral postings that areexposed to a form of right-way risk. Theseinclude refiners, exploration and productioncompanies, electricity generating companies,and single-asset power plants. Some examplesand their differing risk exposures are dis-cussed below.

Coffeyville Resources LLC (CCC+/Watch Neg/—)Coffeyville is a midsize, 100,000 barrel perday independent refiner in Coffeyville, Kan.In addition to the refinery, Coffeyville alsohas an adjacent nitrogen fertilizer plant withannual capacity of 410,000 tons of ammoniaand 655,000 tons of urea ammonium nitrate.The company was financed with a $275 mil-lion fist-lien term loan and a $275 millionsecond-lien term loan.

As a single-asset refiner, Coffeyville isexposed to variability in crack spreads.Coffeyville’s term loan B debt structurerequires the company to repay debt with50%-75% of excess cash flow. Therefore,sustained positive spreads are necessary forCoffeyville to repay its debt. As such, thecompany entered into a four-year crackspread hedge to protect against downside riskin crack spreads. Such a hedge exposes thecounterparty to Coffeyville credit risk if crackspreads increase. Therefore, Coffeyvilleobtained a $150 million LOC facility thatcan be used solely for posting collateral forthe hedge. The LOC provider has a first lienon the assets and to the extent that exposurerises above $150 million, there will be noposting, but the counterparty would get afirst lien on the assets in the amount that theexposure is above $150 million.


Right-Way Risk Can Enhance Hedging Capabilities Of Higher-Risk U.S. Energy Companies

The Top Trends

Such a structure presents an analyticalchallenge, especially for recovery, because thefirst lien exposure is not fixed. Rather, it willvary depending on economic conditions inthe refining industry. Standard & Poor’sdefault scenario assumes that crack spreadson the unhedged volumes and fertilizer priceswill revert to midcycle levels. Under this sce-nario, there is no exposure under the LOCfacility. For the first-lien loan, the hedge pro-vides excess cash flow during its term to pre-pay a certain amount of that loan.Standard & Poor’s analysis resulted in over100% recovery on the first-lien loans.

Key risks for Coffeeville’s LOC facilityinclude the operating risk associated with thesingle-asset nature of the refinery. Any sort ofchronic operating problem, large increase inoperating costs, or catastrophic failure couldexpose lenders to the LOC facility and great-ly disadvantage other lenders. Again,Standard & Poor’s views such a scenario asunlikely, but to the extent that such risksbegin to be realized, rating changes wouldlikely occur due to the change of recoverypotential across the capital structure. In addi-tion, Coffeyville’s hedge is imperfect, andthere is some basis risk. This risk is not asmeaningful as the operating risk from a right-way risk exposure, but is still a consideration.

In this case, overhedging risk is small.Coffeyville is not a large-scale trading opera-tion and does not engage in speculative posi-tions. Coffeyville has a negative covenant thatlimits the amount of exposure under com-modity agreement to 75% of actual produc-tion for a term of six years.

Texas Genco LLOC (‘BB-‘ corporate credit rating in 2004)One of the first applications of this approachwas in the rating of Texas Genco. InDecember of 2004, a consortium of privateequity firms acquired 100% of the capitalstock of Texas Genco for a total purchaseprice of $3.65 billion. Texas Genco is the sec-ond-largest generating company in ElectricReliability Council of Texas (ERCOT), with12 power plants (62 units) totaling over14,000 MW of generation capacity. Of thiscapacity, eight units totaling over 5,200 MWconsisted of base load coal, lignite, andnuclear. The funded capital structure consisted

of $1.625 billion in first-lien senior bank debt,$1.125 billion in senior unsecured high yieldnotes, and $900 million in equity contribu-tions from the sponsors. In addition, the com-pany had a total of $825 million in unfundeddebt, including a $344 million special LOCfacility to support counterparty credit require-ments under power hedging contracts.

Texas Genco earned the predominance ofits margins from its base load generatingcapacity. Therefore, it was exposed to vari-ability in these margins. Texas Genco’s bankloan structure required it to repay debt with aportion of its excess cash flow. As such, thecompany entered into a series of electricityhedges for protection against lower electricityprices. Such a hedge exposed the counterpartyto Texas Genco credit risk if electricity pricesincreased. The special LOC facility providedcollateral for these hedges. The LOC providerhad a first lien on the assets and to the extentthat exposure rose above the facility’s capacity,there would be no posting, but the counter-party would get a first lien on the assets inthe amount that the exposure was greaterthan the facility size.

A key consideration in the analysis was thepotential for a default to occur in an increas-ing price environment, with the most likelyscenario being an operational failure. BecauseTexas Genco had a diversified pool of base-load units, such a failure was substantiallyless likely than if this were a single asset suchas Coffeyville. Moreover, Texas Genco’s strat-egy was to leave enough base load capacityopen so that at least one unit would havealways been available to compensate for afailure of another unit. In addition, the com-pany’s large amount of gas-fired capacity alsoprovided a mitigant. In both cases, it wasassumed that defaults would be caused by alow electricity price environment; however, inthe single-asset case, a default caused by anoperating failure is more likely. In this situa-tion, the recovery rating could fall rapidly.

Overhedging risk was not a concern at thetime that the company was first rated. Thecompany had a defined strategy with respectto keeping some capacity open and wouldnot enter into a short position. In addition,the company did not have any covenantsrestricting entry into such positions.Imperfect hedging risk was also a small issue.


The hedges were financial in nature, butStandard & Poor’s saw very little potentialfor basis risk. However, the company did usenatural gas to hedge a portion of its generat-ing production, especially when hedgingbeyond three to four years where electricitypricing is less liquid. Although gas is highlycorrelated to electricity in ERCOT, this rela-tionship could change.

Chesapeake Energy Corp. (BB/Positive/B-1)Chesapeake Energy is an independent oil andgas exploration and production company. Asof Dec. 31, 2005, Chesapeake’s provedreserve base was 7.5 trillion cubic feet equiva-lent, 92% of which was natural gas and 65%developed. Chesapeake is the largest specula-tive-grade oil and gas company rated byStandard & Poor’s, and the company is alsoan active hedger. In addition to entering intoforward and swap contracts with members ofits bank group (who generally don’t requirecash collateral), Chesapeake hedges with otherlarge financial institutions on a bilateral basis.These institutions can demand cash collateral,but Chesapeake has negotiated caps to miti-gate the potential liquidity crunch.

Chesapeake also maintains two $500 mil-lion secured hedging facilities that allow thecompany to enter into a number of longer-dated swaps with these counterparties. Thesefacilities are structured such that the swapcounterparty has a lien on certain provenreserves owned by Chesapeake. Similar toTexas Genco and Coffeyville, as commodityprices increase, the counterparties’ exposureto Chesapeake increases, as does the size ofthe lien. However, in this case, there was noLOC facility provided—just the first lien onthe proven natural gas reserves.

When analyzing Chesapeake and its debtobligations, Standard & Poor’s does not considerthe lien provided to the hedge counterparty asdisadvantaging other creditors becauseChesapeake is likely to be more creditworthy in

periods of high natural gas prices. If Chesapeakewere to default, it would likely be in a low gasprice scenario. In such a case, the counterpartywould not be exposed and there should not beany senior claim that would disadvantage exist-ing lenders.

In examining the credit facility, it is impor-tant to periodically evaluate the value ofpledged reserves, incorporating conservativecommodity pricing, and examine cost dataand reservoir reports. This mitigates opera-tional risk. Also in this case, the collateralfacility places volume limitations onChesapeake’s hedging activity such that itcan’t get into an oversold position, thus miti-gating overhedging risk. Lastly, while imper-fect hedge risk is a consideration due to basisrisk, Chesapeake actively hedges this risk.

Outlook For Facilities With Right-Way RiskCredit facilities and collateral postings thatresult in exposure in a rising price environ-ment are useful in allowing speculative-gradecredits to continue to hedge without incurringmassive liquidity requirements and risk.Although such right-way risk facilities arebeneficial, they are not without risk. Althoughunlikely, defaults can still occur in a risingcommodity price environment. Therefore, allof these situations are not created equally.

Operating risk, overhedging risk, andimperfect hedge risk can all cause exposuresthat can make some situations more “right”than others. Given these risks, if they areproperly mitigated it is possible to structure acredit facility that can be rated higher than anissuer’s corporate credit rating and even otherfirst-lien debt ratings. If the facility is onlyavailable to provide liquidity to cover collat-eral postings for hedges, the facility itself willnot be as exposed to market risk like the restof the company. This means that theproviders of the facility may experience a losslower than other lenders, potentially evenfirst-lien lenders. ■


Right-Way Risk Can Enhance Hedging Capabilities Of Higher-Risk U.S. Energy Companies


T ransforming coal into a variety of super-clean, value-added energy products may

sound like the result of some futuristic tech-nology. But even though most people outsidethe energy business have never heard of“polygeneration,” the process of taking coaland turning it into synthetic natural gas,gasoline, diesel and jet fuel, and many otherrefined products was actually developed inGermany after World War I and has been inuse in South Africa since the 1970s.

Now, amid today’s concern about climatechange, some participants in the energydebate in the U.S. are looking at coal-to-liq-uids (CTL) and coal-to-gas (CTG) technolo-gies as potential solutions for bridging thegap between long-term environmental objec-tives and real-world economic and politicalconsiderations. Polygeneration technologyproponents say CTL and CTG could create awide variety of cleaner energy sources usingabundant domestic coal supplies as a feed-stock while still relying on existing railwayand natural gas pipeline infrastructure.Polygeneration could also decouple strategicindustries from their dependence on increas-ingly volatile imported oil.

Commercializing this technology on a largescale, however, has its challenges. Standard &Poor’s Ratings Services believes lenders will needto consider several critical items for any pro-posed debt financing of CTL and CTG projects.

Ratings ImplicationsWe don’t expect to assign credit ratings tomany CTG or CTL projects in the nearfuture, given the significant additional devel-opment that will be required to obtain regula-tory approvals, negotiate sales (or “offtake”)agreements, and improve initial cost estimates.Nonetheless, we do expect that CTG will likelybe at the forefront of polygeneration develop-ment in the U.S. because it’s a relatively morecertain technology. CTL plants with true poly-generation capability are probably still severalyears away from seeking broader access tocredit markets. Initial projects in these areaswill not likely have investment-grade charac-

teristics during construction and the initialyears of commercial operation. But after suchplants establish a reasonable commercial oper-ating record, investment-grade ratings couldbe possible if long-term, price-certain con-tracts with creditworthy counterparties (orgovernment entities) are in place.

How Polygeneration WorksPolygeneration refers to using coal as the pri-mary feedstock to produce a wide range ofenergy resources that include synthetic naturalgas, methanol, diesel fuel, naptha, steam, andelectricity. These projects are also referred toas “independent fuel producers,” as opposedto “independent power producers.” For thepurposes of this article, we will discuss pri-marily the challenges and opportunities forthis technology to convert coal to either nat-ural gas or fuel liquids, such as naptha ordiesel, although a polygeneration facility canmake many other refined products.

Chart 1 illustrates the general chemicalprocesses through which coal is first gasifiedand then further altered to create a syntheticfuel. In turn, that synthetic fuel can be con-verted to electricity using integrated gasifica-tion combined-cycle (IGCC) technology,directly synthesized into pipeline-quality syn-thetic natural gas (SNG) through a methana-tion process, or further refined through addi-tional chemical reactions like the Fischer-Tropsch (FT) process to create higher value-added products such as gasoline.

To understand the financial risks and eco-nomic benefits of CTG and CTL, it’s impera-tive to understand the coal gasification andFT synthesis components of a polygenerationproject. Chart 2 provides a closer look athow the gasification, methanation, and FTprocesses interact. It’s based on technicalschematics that industry experts expect willbe used in commercial-scale CTL or CTGprojects currently under development.

The initial coal-gasification process CTG orCTL projects use is identical to the technologycurrently under development for IGCC units.Oxygen, coal, and water are combined during

Analysts:

Michael MesserNew York (1) 212-438-1618

Swami Venkataraman, CFASan Francisco (1) 415-371-5071

Turning Coal Into Liquid Gold:Alchemy? No, Polygeneration

gasification in a controlled chemical reactionto create a combination of carbon monoxideand hydrogen called crude syngas. Byproductsfrom the process include hydrogen sulfide,carbon dioxide (CO2), and slag (i.e., mineralresidue from the coal). These must beremoved from the syngas before it’s suitablefor industrial application or power generation.

The first step in the syngas cleanup processis extracting residual mercury compoundsthrough a commercially demonstrated vapor-phase process. Results at an EastmanGasification Service Co. coal-gasificationfacility suggest that this technology is effec-tive at removing upward of 94% of the gasi-fied coal’s mercury content. Next, a solvent isintroduced to the syngas that results in thephysical or chemical absorption of sulfur andCO2. Currently, three different technologiesexist for this “acid gas removal” procedure,each of which is distinguished by its choice ofchemical catalyst, operating temperature, andabsorption capability. Two primary technolo-gies (Selexol® and Rectisol®) appear to havethe widest industry acceptance as syngascleansing technologies, and each has the abilityto eliminate more than 99% of residual sul-fur and from 50% to over 90% of the carbonin the original coal feedstock. As with themercury removal, acid gas removal hasshown to be highly reliable based on operat-ing experience at a large number of petro-chemical units worldwide.

After most impurities are removed, syngasmay be processed in a methanation plant tocreate synthetic natural gas or methanol.Synthetic gas created through these techniquesis of high quality and meets purity standardsfor interstate pipelines. Alternatively, the syn-gas can be synthesized into refined chemicalsand diesel fuels using FT processes. FT synthe-sis involves subjecting the syngas to a high-pressure environment, adding a catalyst suchas iron or cobalt, and modifying the reactiontemperature to either directly produce a liquidfuel or produce an intermediate-stage waxhydrocarbon that’s further catalyzed (or“cracked”) into an end product.

What Are The Benefits Of CTG And CTL?There are three main benefits for CTG andCTL—fewer carbon emissions, more fuel diver-sity, and better energy security for the U.S.

Low carbon emissionsCTG and CTL proponents cite a number ofenvironmental, economic, and strategic bene-fits from large-scale commercialization ofthese technologies. Environmentally, the syn-gas cleaning process automatically transformsabout 50% to 70% of the coal’s total carboncontent into CO2 that’s ready for compres-sion and sequestration. To the extent thathydrogen would form the ultimate end prod-uct of a CTG plant, additional carbon cap-ture of up to 90% is possible.

Although CTL and CTG plants’ environ-mental benefits are reasonably attainablewith available technology, it’s important tonote carbon-capture benefits aren’t automatic.They depend on an additional investment incompression and sequestration infrastructurethat’s outside the scope of gasification and FTtechnologies themselves. A recentMassachusetts Institute of Technology (MIT)study suggests that without a method of com-pressing and storing a polygeneration plant’sCO2 byproducts, FT processing can actuallyincrease CO2 emissions by 150% comparedwith directly refining petroleum-based fuelproducts.(1) The MIT study further suggeststhat CO2 emissions from the gasified coalwould be up to 175% higher for SNG createdwithout carbon capture versus regular naturalgas. The higher emissions are due to the rela-tive inefficiency of gasification and FT tech-nology, which requires more coal to beprocessed and increases the absolute amountof carbon byproduct. Fortunately, because theCO2 created through gasification and FTsynthesis is a relatively pure byproduct,industry experts estimate that the incrementalcost of carbon-capture technology is almostone-third less than for the closely relatedIGCC technology.(2)

Fuel diversificationBeyond purely environmental considerations,economic interest in CTL is growing in the air-line and transportation sectors, both of whichhave suffered from increasing oil and naturalgas price volatility in recent years. Naptha,gasoline, and diesel fuel created from FTprocesses have the potential to provide trans-portation companies with a fuel source less cor-related to global oil price volatility.Furthermore, these industries may be able to


Coal Into Liquid Gold: Alchemy? No, Polygeneration

The Top Trends

better hedge their exposure to changing fuelcosts through longer term supply contracts withCTL refiners when these producers’ operationalcharacteristics become better understood.

Improved national energy securityFinally, many participants in the coal anddefense industries think CTL and CTG tech-nologies can have strategic and political bene-fits for U.S. energy security. The EnergyInformation Administration (EIA) estimatesthat net imports of liquid fuels in 2005accounted for about 60% of total domesticconsumption.(3) Furthermore, imports shouldremain at these levels through 2030, asincreasing domestic oil production isn’t likelyto significantly offset projected consumptiongrowth. Some worry that reliance on globalmarkets to meet most of U.S. energy needsexposes the economy to supply disruptionsfrom politically unstable regions. Even absentgeopolitical turmoil, some observers predictan inevitable slowdown of U.S. economicgrowth as increasing oil demand from emerg-ing economies like China, India, and Brazilcauses future commodity prices to rise.

CTL and CTG supporters suggest that theU.S. can curtail its import dependence by asmuch as 5% annually by exploiting domesticcoal reserves, which in 2006 were estimated tobe about 267 billion short tons.(4) This suggestsa 240-year domestic reserve life at 2006 con-sumption rates. The addition of coal-basedtechnologies provides a much larger array ofdomestic resources on which to base economicgrowth. Also, the location of U.S. coal

reserves—across 26 different states—woulddiversify fuel production away from the GulfCoast, with its weather-related supply interrup-tions and limited domestic refining capacity.

Key Risks For PolygenerationAlthough CTL and CTG projects are proba-bly several years and a few pilot projectsaway from finding wide acceptance in thefinancial markets, project sponsors and poten-tial lenders will need to consider a number ofrisks and credit issues in the near term whenevaluating the risk profile and commercialviability of any investment opportunities.Standard & Poor’s believes lenders shouldconsider several key items as the dialogue sur-rounding this technology continues to expand.

Technology riskIn the 1920s, German scientists pioneered theFT process that lies at the heart of the poly-generation concept to bridge the gap betweenthat country’s inability to finance petroleumimports and the need to rebuild its economyafter World War I. The Nazis later expandedFT technology to achieve energy indepen-dence during World War II, when total syn-thetic fuel production peaked at 124,000 bar-rels per day (bpd) across 25 plants.(5) Second-generation development of FT technologyoccurred in the 1970s and 1980s at Sasol, aSouth African company that has to datedeveloped the world’s only fully operationalCTL plants. Although privately owned Sasolhas not publicly disclosed any operating sta-tistics or technological specifics of its Sasol II



Coal Syngas

Ammonia Fertilizers

Methanol

Electricity (IGCC)

Synthetic Natural Gas

Hydrogen

Carbon Dioxide

Fischer-TropschProcessing

Diesel Fuel / Jet Fuel

Naphtha / Gasoline

Waxes / Lubricants

Steam / Electricity

Coal Gasification

Gasification Chemical ProcessesChart 1

and Sasol III plants, their long-term operatingperformance has been sufficiently reliable toprovide between 30% and 40% of SouthAfrica’s fuel requirements over the past 20years.(6) Likewise, the methanation processused to convert syngas into synthetic naturalgas is a commercially proven technologywidely used in the chemical industry.

As previously mentioned, EastmanGasification has successfully demonstratedthat CTG units can be reliably operated for20 years. Since 1984, Eastman’s CTG facilityhas posted an average forced outage rate ofless than 2% and has had single unit reliabili-ty of up to 90%. Even higher reliability hasbeen achieved by using redundant gasifierunits during planned and unplanned mainte-nance. Moreover, most planned CTL/CTGfacilities will use five or six small gasifiers.This results in gasifier availability of morethan 90% and is an important distinguishingfactor from IGCC, where the plants are usu-ally designed to have two large gasifiers, withresultant lower overall reliability. A solidoperating track record for the gasificationcomponents is good news for potentiallenders to these projects because the gasifiers

contribute an estimated 25% to 30% of thehard project costs of CTL and CTG facilities.

Integration riskThe relatively long history of polygeneration’scomponent processes suggests that pure tech-nology risk may be less of an issue for newprojects. Scale-up risk, however, is likely tobe a significant concern for CTL and CTGfacilities. Currently, the Sasol plants in SouthAfrica produce 80,000 barrels of diesel fuelsper day. The company’s familiarity with thetechnology and extensive experience haveenabled this level of output. In the U.S., nolocal operators or project developers havedirect experience with CTL units, so demon-stration projects under development are muchsmaller than Sasol’s units and can produceonly 5,000 to 10,000 bpd. Most projectsponsors agree that commercial-scale plantswould require 30,000 to 40,000 bpd outputto remain economical.

Sasol doesn’t make operating data for FTliquefaction reliability publicly available, andtherefore reliability represents a more signifi-cant technical risk for CTL lenders than forCTG facilities that don’t employ the FT. In




Slag Mercury

Sulfur

Steam Power

Methanol/NaturalGas Pipeline

WaxHydrocracking/

ProductUpgrading

Liquid Storage

Oxygen

Cleansyngas

Carbonmonoxide,hydrogen,

hydrogen sulfide,carbon dioxide

Fischer-TropschLiquid Synthesis

Product Recovery

LiquidFuel

Wax

Syngas Cleanup

Hydrogen

Power Block

Coal

Water

Air

CoalGasification

Air Separation Unit

Gasification, Methanation, And FT Process InteractionChart 2

The Top Trends

most project financings, integration risk istypically addressed through engineering, pro-curement, and construction (EPC) contractsthat provide cost certainty to lenders. Theseare backstopped by substantial performanceguarantees that ensure that the plant’s designachieves a minimum operating level.

Based on discussions with project developers,Standard & Poor’s believes that traditionalturnkey, EPC-style contracts will not be avail-able for CTL projects, given that FT units’operating performance isn’t well understoodoutside of Sasol. Engineering firms likeGeneral Electric and Eastman may be able toprovide performance guarantees on gasifica-tion units they supply, but these guaranteesare unlikely to apply to FT liquefaction units.And they’re likely to have liquidated damageprovisions less than the 20% to 30% of totalcontract cost that’s normally associated withinvestment-grade projects. Furthermore, FTproviders in the U.S. are smaller, more entre-preneurial companies whose balance sheetsdo not support significant performance guar-antees for their technologies. CTG units alsoappear unlikely to attract turnkey EPC con-tracts given the lack of a single vendor own-ing all available technologies.

Notably, although integration risk is one ofthe main concerns for lenders, it may be moremanageable in a CTG or CTL plant com-pared with IGCC because the productionprocess is fairly linear, with fewer feedbackloops for steam, gas, and other process ele-ments. Reliability issues in an IGCC facilityoften result from these integrations aimed atimproving process efficiency. However, thisadvantage will ultimately need to be testedunder operating conditions.

Capital cost versus commodity exposureObtaining good cost estimates for a CTG orCTL project is difficult. Project sponsors indi-cate that a polygeneration plant’s operatingcost structure will be very site-specific andcould vary considerably due to differences inplant configuration, access to coal supplies,and local infrastructure. Industry participantsStandard & Poor’s interviewed estimate thatto build a viable commercial-scale CTL facilityit would need to be able to produce 30,000 to60,000 bpd, with construction costs of about$100,000 to $120,000 per barrel (in 2007

dollars). Preliminary cost estimates are aboutone-half as much for a CTG facility with a 30billion to 50 billion cubic feet per year outputcapability. This puts the range for CTL hardcapital costs between $3 billion and $3.6 bil-lion, and from about $1.5 billion to $1.8 bil-lion for a CTG plant. Recovering these largeamounts will require lenders and equity spon-sors to have a long-term view toward the pro-ject’s success, as well as some price certaintysurrounding the plant’s output.

In general, CTL pilot plants are likely toproduce either naptha or diesel fuel as theirprimary product. Naptha is preferred due tothe significant pricing premium it commandson the open market as a higher value-addedrefined product. In addition to the marketconditions for the final end product, the com-petitiveness of a CTL refined product willdepend on prevailing oil prices, the facility’soperating and financing costs, and the periodof time that both equity and debtholdersshould reasonably expect to recover capitalcosts. Therefore, estimates concerning theprice at which CTL projects will become eco-nomical vary widely and are extremely sensi-tive to the operating and financing assump-tions specific to the project. In general, projectsponsors and academic research estimate thatCTL products are likely to become competi-tive on a production cost basis when oil pricesare around $55 to $65 per barrel, whereasCTG plants are likely to become competitivewith natural gas at prices between $6.50 and$8.00 per thousand cubic feet.

Given commodity prices’ volatility inrecent years, it’s possible that CTL and CTGprojects could become more cost-competitive,but lenders to these projects would need sig-nificant protection from downturns in thecommodity cycle over the 20- to 25-year costrecovery period that appears reasonable forthese types of investments. This suggests thatCTG or CTL projects without long-term,price-certain offtake contracts, or governmenttax incentives or price protection are likely tobe untenable, at least initially.

Regulation and government supportIt seems almost certain that a lot of govern-mental support will be required to commer-cialize CTL projects in the U.S., given thehigh capital costs involved, technology risks,


and oil price uncertainties. Standard & Poor’sbelieves that without some federal or stategovernment commitment to commercial-scalepilot projects, the financial risks related toCTL projects are simply too large for tradi-tional fixed-income investors to bear. Forexample, Sasol would have been unable tosuccessfully complete its South African facili-ties without loan guarantees and price sup-ports from the South African government.Furthermore, federal, state, and local agenciesare well situated to take many of the longer-term risks that the financial community isunable to accept. We believe this is appropri-ate given that many of the environmental andstrategic benefits (i.e., cleaner air, improvedenergy security, and increased fuel diversifica-tion to support strategic industries) are toobroad to easily assign costs and benefits tospecific groups. The Department of Defense isa much sought-after potential customer forliquid fuels from CTL projects.

CTG projects differ from CTL in twoimportant ways that somewhat lessens theformer’s reliance on government support.First, methanation technology is better under-stood than FT. Second, rather than dependingon the federal government for fixed-priceguarantees, CTG projects may be able toenter into long-term, fixed-price contractswith creditworthy utilities that would pur-chase natural gas for their gas-fired powerplants. However, state regulatory supportthat allows investor-owned utilities to pass“out-of-market” costs along to consumerswithout regulatory disallowances or extensiveprudence reviews would remain necessary forthese projects to achieve higher ratings.

Such support could take a variety of forms.However, it’s important that the supportdirectly addresses the most important issuesto potential lenders, such as ensuring a long-term offtake, contributing to price certainty,or protecting against financial losses due totechnical failure. Examples of governmentalsupport that would improve a polygenerationfacility’s credit profile are:■ Federal and local municipalities or agencies

could serve as the primary long-term offtakerfor CTL or CTG products, or agree to act asa “buyer of last resort” if market prices don’tsupport sales to private market participants.

■ Federal loan guarantees could be provided

to projects to lower capital costs forinvestors, though we expect that they’relikely to be insufficient in their currentform and would require modification.Currently, for many programs, the govern-ment guarantees only 80% of the loanamount, effectively leaving the debt ratedat the project’s intrinsic credit quality.

■ Governments could provide a minimumprice support if global commodity prices fallbelow predetermined thresholds that renderCTG or CTL products uneconomical.

■ Federal and local tax incentives couldincrease capital returns to investors andlower the cost of capital for project sponsors.Although polygeneration may appear to be

modern-day alchemy, the base technology hasbeen with us for almost 80 years, and nowmay hold the key to achieving importantadvances in lessening the effects of climatechange. The benefits that polygeneration pro-vides with respect to energy independenceand fuel diversity make future CTG and CTLprojects likely beneficiaries of both publicand private market support for environmen-tally friendly energy alternatives. Ultimately,however, risk allocation between these con-stituents will determine how much capitalmarkets can do to support these investments.

Notes(1) Massachusetts Institute of Technology.

“Coal-Based Electricity Generation,” TheFuture of Coal: Opportunities for a Carbon-Constrained World,” MassachusettesInstitute of Technology (2007).

(2) Ibid.(3) Table A.11—Liquid Fuels Supply and

Disposition—Reference Case, AnnualEnergy Outlook 2007, Energy InformationAdministration (February 2007).

(4) “Coal Reserves Information Sheet,”Energy Information Administration(November 2006):http://www.eia.doe.gov/neic/infosheets/coalreserves.html.

(5)“Fischer-Tropsch History.” CoalGasification & Fisher-Tropsch: CCTRBasic Facts File #1. Indiana Center forCoal Technology Research (July 2006).

(6) Geertsema, Arie; “CTL and SNGProduction: Issues and Opportunities,”GTC Workshop (March 14, 2007). ■




The expectation that new U.S. laws will placesome type of cap on carbon dioxide (CO2)

emissions is fueling renewed interest in biomasspower generation with energy created fromplant life, including its waste and byproducts.The last major build cycle for biomass-firedgenerating plants closely followed the enact-ment of the Public Utility Regulatory PoliciesAct of 1978. The act promoted alternativepower generation by requiring utilities to buypower from independent power producers atthe utilities’ avoided cost of electricity (theavoided cost was a proxy of what it would costthe utility to procure power). This worked wellfor biomass generators when fossil-fuel priceswere high. But after prices plunged in the 1990sthe average utility’s avoided cost became lowerthan the cost of generating power from renew-able resources, making them uncompetitive.

Biopower has always had a price-tag prob-lem because it costs about 50% more to pro-duce energy from biomass than from coal.Any policy that adds to the cost of generatingpower from coal and natural gas couldremove this obstacle. Federal and state pro-grams, such as production tax credits andrenewable portfolio standards (RPS), whichhelp developers offset some of the high pro-duction costs and ensure market demand forrenewable generation, have so far had limitedsuccess in attracting investment in biopower.This is mainly because wind power costs lessthan biopower and meets many RPS require-ments. Still, adding the estimated costs ofCO2 capture and sequestration to the cost offossil-fuel generation makes biopower a viableoption, especially where other alternatives,such as wind, are too unreliable to meet baseload demand. So, at a minimum, greenhousegas (GHG) regulation is likely to provide apricing mechanism that will promote thevalue of biomass as a CO2-neutral resource.

In fact, besides hydroelectric, biopower isalready the largest contributor of renewablegeneration, and currently accounts for about2.3% of the U.S. power supply, according tothe U.S. Energy Information Administration.The main types of existing biomass fuels are:

■ Wood and agricultural products,■ Municipal solid waste (MSW),■ Landfill gas, and■ Alcohol fuels derived from plants.

Wood accounts for 60% of all generation,with MSW contributing 30%. Power gener-ation could be accomplished through directcombustion of biomass in a dedicated plant,co-firing in a coal plant, or burning bio-mass-derived fuels such as syngas, ethanol,and biodiesel.

Direct-Fired Dedicated PlantsMost existing biomass power generationresults from direct combustion in stoker-firedor fluidized-bed boilers. These are proventechnologies that are typical in coal-burningpower plants. The boiler produces pressur-ized steam that drives a turbine to generateelectricity. Plant efficiency ranges from 20%to 25%, significantly below the 30% to 40%of coal plants. This is one contributing factorto the high cost of biopower.

Biomass fuels also have lower heating val-ues and significantly higher moisture contentthan coal. Therefore, an important factor indetermining appropriate technology is thefuel type and variability, which greatly influ-ences the boiler’s combustion process andefficiency. One positive for biomass fuels istheir low nitrogen and sulfur content. Whencombined with lower combustion tempera-tures, this results in less nitrogen oxide(NOx) and sulfur dioxide (SO2) pollution.

CostsA greenfield (i.e., built new from the groundup) wood-fired biomass plant’s estimated costof generation is about 9.1 cents per kilowatt-hour (kWh) compared with 5.8 cents for apulverized coal plant and 6.6 cents for a nat-ural gas combined-cycle (NGCC) generatorwithout carbon capture technology. However,with CO2 capture, pulverized coal andNGCC costs climb to 12 cents per kWh and9.4 cents per kWh, respectively, making bothmore expensive than biopower. Table 1 showsthe costs of operating a wood-fired plant.

Analyst:

Chinelo ChidozieNew York (1) 212-438-3076

Biomass Will Grow In ImportanceWith Caps On CO2

Generation costs aside, the other major con-cern for biopower is fuel supply reliability.Although supply appears ample, the infrastruc-ture for large-scale fuel delivery has not beentested. Most of the existing biopower facilitiesare located adjacent to their fuel supply and,in practice, any plant larger than 10 MW willprobably need a dedicated fuel supply from asustainable managed forest or farm.

Direct-fired waste-to-energy (WTE) plantsWTE power plants operate like traditionalcoal plants, except that they burn trash toproduce the steam that turns the turbines forelectricity generation. Only 7% of MSW pro-duced in the U.S. goes to WTE facilities. Thisleaves a lot of MSW that can be used forpower generation. MSW-burning plants havean advantage over other biomass-fired gener-ation because they receive tipping fees forwaste disposal in addition to revenues frompower sales. Even in the current environment,WTE generation costs about $57 per MWh(see table 2) and can compete with coal inmarkets with high tipping fees. These marketstend to be close to densely populated areasthat have limited landfill capacity and highelectricity prices.

As an alternative to landfill waste disposal,combustion reduces the volume of waste that

ends up in landfills by up to 90%. Studieshave shown that burning MSW generates 550kW per ton of MSW, about three times asmuch electricity as landfills that capture land-fill gas (190 kW per ton of MSW). WTEplants are, however, more controversial andmore difficult to get permits near large citiesthan other biopower plants. No greenfieldfacility has been built in the U.S. since 1994.

Federal agencies such as the EPA considerMSW a clean, renewable energy source, butnot all states do. The states that oppose WTEare mainly concerned about emissions, aboutburning plastics, and about contaminantscontained in the ashes. To its credit, theindustry has done a lot to reduce emissions,cutting them by about 90% from levels in thelate 1980s, but public perceptions haven’treally changed. Getting approval to site aWTE facility is still a major challenge.

When a WTE plant does get a permit, thebiggest factor affecting its economics is howfast landfill costs rise. This is because landfillcosts determine the tipping fee paid for wastedisposal in most markets, and these costs arelikely to go up with GHG regulation.Landfills are the largest source of anthro-pogenic methane emissions, a GHG with 21to 23 times the heat-trapping potential ofCO2. The EU, which is well ahead of theU.S. in regulating GHG, has mandated mem-bers to cut back on landfills by as much as60%. In the U.S., the EPA requires owners oflarge landfills to capture gas, but on averagethey capture only about 60% of methaneemissions. If Europe is any indication of whatmay happen in the U.S., regulation couldassign a cost to landfill gas not captured,which would make the economics of WTEmore compelling. By avoiding methane emis-sions, WTE plants may also be able to obtaincarbon-offset credits that could be yet anoth-er revenue source. One uncertainty is whetherthe GHG associated with the combustion ofnonbiological waste like plastics found inMSW will require offsetting; plastics make upabout 15% of MSW, and recycling ratesappear to have reached a plateau.

WTE technologyThere are two main technology options forWTE: mass burn and refuse-derived fuel(RDF). Mass burn involves burning MSW


Biomass Will Grow In Importance With Caps On CO2

Assumptions

Capacity (MW) 50

Capital cost ($/kilowatt) 2,500

Capacity factor (%) 85

Operational hours per year 7,450

Gigawatts generated per year 372

Energy penalty to capture CO2 0

Total cost of capital (%) 10

Capital cost recovery period (years) 30

Cost per megawatt-hour ($)

Capital cost 36

Fixed and variable operations and maintenance costs 28

Fuel cost 27

Cost of carbon capturing 0

Total cost with CO2 emission 91

*Fuel sourced within a 50-mile radius.

Table 1 Cost Of Wood-Fired Generation*

The Top Trends

without any preprocessing, while RDFrequires extensive preprocessing and involvessignificant sorting and handling. A typicalRDF plant will remove noncombustible itemsand then shred the remaining solid waste intosmaller pieces for burning. RDF can also bemade into pellets that can be used for co-fir-ing with other fuels, for instance in coalplants. About 80% of existing WTE facilitiesare mass-burn facilities, and new ones arelikely to deploy mass-burning due to signifi-cant cost advantages over RDF.

Co-Firing In Coal PlantsThe first phase of growth in using biomass asa fuel could come through co-firing in exist-ing coal plants. Coal plants can replace up to10% of the fuel heat with biomass withoutsacrificing boiler efficiency. This option elimi-nates the need for a dedicated biomass plantand capitalizes on the coal plant’s scale, flexi-bility, and efficiency. It’s also the least capitalintensive because capital is typically requiredonly for modifications for fuel handling, stor-age, and ash removal. The immediate benefitof co-firing is the reduction of GHG, NOx,and SO2 emissions. Several coal plants peri-odically co-fire biomass as a means of man-aging costs when emission allowance costssoar. However, the decision to co-fire requires

careful consideration of retrofitting costs,efficiency losses, possible reduced power pro-duction, and fuel costs. In general, beyond a50-mile radius, fuel transportation costs forbiomass become prohibitive. Fuel supply reliability is also an issue, evenwith co-firing, because of a typical coalplant’s size (100 MW to 1,000 MW).Substituting 10% of fuel heat with biomassrequires just as much fuel, if not more, as astandard wood-fired plant (10 MW to 50MW). The lower heating value and highermoisture content of wood significantlyincreases the volume of fuel a co-firing planthandles. The average heat content of woodwaste is about 4,500 BTU per pound, com-pared with 12,500 BTU per pound for east-ern coal. This means that in the case of asmall 100 MW pulverized coal plant thatconsumes 40 tons of coal per hour, substitut-ing 10% of fuel heat would require 12 tonsof wood per hour, or about 245 tons of woodper day assuming an 85% plant capacity fac-tor. A bigger facility would require even morebiomass fuel, and to ensure a reliable supplymay require a dedicated farm. Capital spend-ing to modify a coal plant for co-firing canrange from zero to 4 cents per kilowatt.

Co-firing with refuse-derived fuelRDF goes through an extensive process thatscreens size and shreds MSW into a moreuniform consistency suitable for co-firing in acoal plant. Co-firing could be in a pulverizedcoal boiler, stoker, or fluidized bed boiler.However, fluidized bed boilers best withstandthe corrosive nature of the fuel. ProcessingRDF isn’t cheap, at about $40 per ton ofMSW, and requires some scale (at least 1,000tons per day) to make economic sense. Thecoal plant may also require modification tohandle more fuel and ash because of thelower heating value and higher ash content ofRDF compared with coal. Control equipmentcan address emissions from co-firing, but util-ities will need strong economic incentives toconvert to co-firing because of engineeringconcerns about performance and reliability.

GasificationIn theory, this is the most efficient process toconvert biomass to energy and uses heat,pressure, and steam to convert biomass


Assumptions

Waste disposal capacity (tons/day) 1,000

Capital cost per ton ($) 150,000

MW capacity 26

Capital cost ($/kilowatt) (derived) 5,769

Capacity factor (%) 85

Operational hours/year 7,450

Cost of capital (%) 10

Capital cost recovery period (years) 30

Tipping fee ($/ton) 60

Cost of waste-to-energy per MWh ($)

Capital cost 82

Fixed and variable operating and maintenance costs 72

Fuel cost (97)

Cost of carbon capture 0

Total cost per MWh 57

Table 2 Waste-To-Energy (Mass Burn) Cost Estimate Assumptions

directly into gases composed primarily of car-bon monoxide and hydrogen. The gases arethen burned to generate electricity.Gasification faces several technological chal-lenges, but it could potentially threaten exist-ing, direct-firing technologies in the long run.

Credit ImplicationsThe credit considerations for a biomass facilitywon’t differ significantly from those of otherpower projects. If the project has securedpower-supply contracts, the credit quality ofthe power buyer will be a major considera-tion. Operating requirements under the con-tract should also be consistent with historicoperating parameters of the technologydeployed.

Projects without contracts have higher riskprofiles because cash flows are subject togreater volatility; in any case, the project’smarket competitiveness is always a factor.

Tipping fees at a WTE plant and potentialcarbon credit benefits that climate change leg-islation may award to biomass are importantfactors that will support project economics,

reduce power pricing risks, and may result inhigher credit quality. In fact, tipping fees maysometimes account for as much as two-thirdsof a WTE project’s cash flows, especially ifthe project is located in a highly populatedmetropolitan area.

We believe that direct-firing biomass tech-nologies are well proven and that technologyrisk won’t be a major credit concern. This is apositive for biomass projects, unlike other car-bon-friendly technologies such as IGCC andcoal-to-liquids. Co-firing projects without anoperating history will require a higher reservefor debt service and major maintenance dueto increased operating risks. Finally, cost offuel supply and delivery infrastructure is anissue that will need to be clearly addressed.

Overall, there’s significant potential forbiomass—an indigenous, sustainable, andrenewable fuel source—to play a larger rolein the U.S. generation resource mix in a car-bon-constrained world. As with previous bio-mass cycles, we think the next one will alsoclosely follow government policy, this time onclimate change. ■


Biomass Will Grow In Importance With Caps On CO2


Rising concerns over climate change andenergy security, increasing fossil fuel costs,

and state and federal regulatory support thatenables utilities to recover costs of new invest-ment have renewed the U.S. power industry’sinterest in fuel diversification. Solar energy isone option that’s gaining more attention,thanks to its potential to help generators meetpeak demand and reduce emissions.

According to the American Solar EnergySociety, the U.S. has enough sunshine andsurface area to provide at least 200 gigawatts(GW) of capacity. While that would still be atiny fraction of current U.S. utility generatingcapacity, it’s a lot bigger than the 0.5 GW theEnergy Information Administration (EIA)reported for 2006. The EIA further reportedthat solar power accounts for less than 1% ofrenewable energy in the U.S., which in turnrepresented less than 4% of all U.S. energyconsumption for the same year. Historically,solar has been unable to compete evenly withother renewable technologies such as wind.Low capacity utilization of 25% to 30%,high capital costs, large land requirements,geographic concentration of potential capacityin the sunny U.S. Southwest, and transmis-sion constraints have all contributed to limitedinterest in solar power.

That’s changing now, however. AStandard & Poor’s Ratings Services analysisfinds that credit elements are in place thatcould allow solar projects in the U.S. toachieve an investment-grade rating.Concentrating solar power (CSP) technologywill likely dominate future utility-scale, centralstation solar power plant construction in theU.S. The parabolic trough technology certainCSP plants use is considered a “proven tech-nology” due to its operating history. We thinkan appropriately structured power-purchaseagreement (PPA) may allow a solar projectusing this technology to achieve investment-grade ratings. Other CSP technologies arecomparatively less proven and carry moretechnology risk. Large-scale adoption of solarpower will likely depend on regulatory sup-port. However, the potential exists for a com-

bination of regulation, economies of scale, andtechnology improvements to create an environ-ment of rapid growth for solar power thatcould rival wind energy’s rise in the late 1990s.

Two Kinds Of TechnologyGrid-connected solar technology is commonlydivided into two categories: photovoltaic (PV)and CSP. In the U.S., utility-scale projects typ-ically use CSP technology, though Europe hasseen significant PV development. A hybrid ofthese two technologies, concentrating photo-voltaic, is developing more modestly.

PhotovoltaicPV technology converts sunlight to electricity,typically by using silicon-based solar cells. InEurope, PV technology is more prevalent inlarge-scale, grid-connected projects, which repre-sented more than 98% of the 645 MW ofcapacity installed in 2005. (Total overallinstalled capacity in Europe is now about1,793.5 MW).(1) In the U.S., high siliconcosts—about 40% of the total cost—haveimpeded large-scale deployment of PV technolo-gy, which is limited to comparatively smallinstallations in commercial and residential set-tings to decrease or offset purchased electricityneeds.(2) The total installed capacity for grid-connected PV in the U.S. at the end of 2005 was246 MW, and, according to the EIA, projecteddevelopment is expected to be slight.(3)(4) Off-grid PV installed capacity was 233 MW at theend of 2005. Although expensive, PV benefitsfrom regulatory support, such as California’s“Million Solar Roofs” plan approved in August2006, which is eventually expected to provide3,000 MW of additional capacity in the state.(5)Residential PV installations in California offerowners the option of “net metering,” or sellingelectricity back to the grid to reduce their electricbills. Additional examples of support include thetax credits and interest-free loans that exist inArizona and Colorado.(6)

Concentrating solar powerTo date, large commercial applications ofsolar energy have come through CSP. This

Analysts:

Justin MartinNew York (1) 212-438-5626


Lidia PolakovicLondon (44) 20-7176-3985

Solar Power’s Potential ShinesBrighter As Technology Advances

technology is further divided into the sub-cat-egories of parabolic trough, power tower, anddish-engine. All of these use mirrors to focussunlight onto a heat-transfer element (HTE)that either produces steam that powers a tur-bine (parabolic trough and power tower) ormechanical energy for a power conversionunit (dish-engine). A portion of CSP’s totalcapacity is commonly supported by fossilfuels as back-up in case solar conditions aresuboptimal. CSP may also employ thermalstorage, which allows heat generated duringpeak hours to power turbines during off-peakhours, increasing the capacity factor. Thetable below presents a summary of technolo-gies, costs, and projects; the parabolic troughand power tower cost estimates include sixhours of thermal storage technology.(7)

Technology Improvements Needed For Economic ViabilityThe data above for key factors that havelimited solar power thus far—high capitalcosts, low conversion efficiency, and lowcapacity factors—reflect proven performanceor likely development in the near future.These issues indicate areas where advancesin technology will be needed to improve

solar power economics.■ Capital costs. Solar panels make PV energy

expensive, but prices are beginning to fallas technology evolves. CSP has lower capi-tal costs than PV, but they’re still substan-tially higher than fossil-fuel technologiesand wind energy, mainly due to the highcost of mirror arrays, tracking systems, andheat-collection elements. Although weexpect capital costs to decline as demandincreases production, the dollar-per-kilo-watt ($/kW) costs are still high enough torequire regulatory support for projects tobe economically viable.

■ Fixed operating and maintenance (O&M)costs. We expect parabolic trough andpower tower technologies to exhibit signifi-cant economies of scale due to decliningmanufacturing costs in $/kW and fixedO&M costs related to running the plant.SolarPACES reports that the same numberof people is required to run a 30 MW plantas a 320 MW plant using parabolic trough,and that O&M costs for power tower tech-nology should become economically viableat a capacity of 30 MW.

■ Variable O&M. Parabolic trough andpower tower arrays use steam turbines that


Solar Power’s Potential Shines Brighter As Technology Advances

Description Parabolic trough Power tower Dish engine

Rows of linear parabolic shaped mirrors that An array of heliostats (mirrors) that track “Satellite dish” mirror arrays that track the track the sun east-to-west on a single the sun on two axes and focus its energy sun on two axes while focusing its energy axis and focus its energy on a long to a centrally located tower in the to a receiver housing a power conversion tube containing a heat-transfer element middle of the array. Molten salt as unit (PCU). The PCU’s proximity to the (HTE) channeled to a conventional HTE may facilitate thermal storage and receiver increases efficiency, but reduces steam turbine allows for higher operating temperatures the possibility of thermal storage

and increased efficiency

Installed costs ($/kW) 2,500-4,000 2,800-4,400 3,000-5,700

Fixed O&M costs 33 30 3($/kW-year)

Variable O&M costs 30 30 11($/MWh)

Cost drivers Parabolic mirrors; mirror washing and Heliostat field; tracking axes; PCU (engine); mirror array; O&M costs reflectivity monitoring; O&M salt storage; O&M for power plant comparatively low due to the mechanical for power plant simplicity of the receiver-PCU connection

Efficiency* (%) 12-14 15 23-29

Capacity factor (%) 30-43 20-43 12-30

Examples of solar plants SEGS (354 MW, California), Solar Tres (15 MW, Spain) New builds (1,700 MW, Solar One (64 MW, New builds (500 MW, California—contracted but uncommitted)Nevada—pending) California—pending)

*Recent concentrating solar cells have achieved efficiencies of over 40%. O&M—Operating and maintenance. kW—Kilowatt. MWh—Megawatt-hours. Sources—Data ranges compiledfrom solarpaces.org, PIER Renewables, Sargent & Lundy, and State of Nevada solar study.

Concentrating Solar Power Technology Comparison

The Top Trends

require a higher level of staffing than thesimpler mechanical process associated withthe dish engine arrays. However, the num-ber of individual dishes currently requiredto reach large-scale capacity numbers makecapital costs of dish engine arrays moreexpensive than the other technologies.

■ Efficiency. Efficiency of conversion of solarenergy resulting in higher HTE tempera-tures is another key to economics. If usedin tandem with thermal storage, however,higher temperatures may create a need forpressurized storage tanks, and such tanksare presently too expensive for commercialuse. Molten salt may improve efficiency bydoubling as both the HTE and thermalstorage medium, but requires close moni-toring so as to avoid freezing at night.(8)

■ Capacity factors. Boosting capacity utiliza-tion by operating in nonpeak hours, or dur-ing hours with low solar radiation, maymaterially improve solar plants’ economics.Without technology improvements thatenable this, thermal storage is the primarymeans of achieving increased capacity today,albeit at higher capital costs. In addition,hybrid facilities use gas-fired supplementarypower. The SEGS I solar power plant inCalifornia had thermal storage for up tothree hours; today, storage up to six hours iscommercially available for similar designs.The easiest ways of increasing capacity uti-lization for a given turbine size is by using alarger field array and greater thermal stor-age. However, it’s unclear if such increasescurrently lead to lower total cost of electricity,given the additional capital costs.Ultimately, regulatory and political support

will be key to solar power’s growth, initiallylowering costs and also providing economiesof scale. Some recent actions by regulatorsand governments to encourage new solar pro-jects at a time when the cost of solar power isnot economical include:■ The 30% investment tax credit provided by

the Energy Policy Act of 2005,■ The Energy Act’s production incentive of

1.5 cents per kilowatt-hour,■ The Western Governors’ Association target

of 30,000 MW of clean energy by 2015,■ California’s aggressive 33% renewable

portfolio standard (RPS) goal, and■ Nevada, New Jersey, and Colorado’s

requirement for a portion of their RPS tocome from solar power.An important question is whether an

upsurge in demand created by regulatory sup-port will create economies of scale and drivedown prices for capital equipment as it hasdone for wind costs in the past 10 to 15 years.

Credit Factors For Solar ProjectsWe anticipate that solar financings that wewill be asked to rate will predominantly havea project finance structure. Given that a largesolar financing can incorporate a portfolio ofsmaller projects, we may also give attentionto the portfolio effect created by the diversityin the solar resource profile. In any case, wewould consider in our ratings elements of ourproject finance criteria, including contractualstructure; technology, construction, and oper-ations; competitive market exposure; counter-party risk; legal structure; and financial pro-file. In project finance, we typically ratethrough the term of the debt, including theconstruction period. While any of the aboverisks may be present in a project to variousdegrees, we focus here on key issues, in noorder of priority.

Contractual structurePPAs with terms lasting until the project debtmatures are crucial because solar is unlikelyto be competitive on a merchant basis for along time to come. To date, existing andplanned output of solar plants has been con-tracted to investment-grade utilities inCalifornia and Nevada. The PPAs for thesedeals typically involve payments for bothenergy and capacity, but—unlike traditionalPPAs and like wind energy—it is the formerthat drives revenues. However, unlike wind,solar’s resource profile is well correlated withpeak load. This makes solar capacity morevaluable than wind from a resource planningperspective and raises the possibility thatsolar projects may receive meaningful capaci-ty payments. Indeed, solar projects owned byFPL Caithness Funding Corp. in Californiareceive a capacity payment from SouthernCalifornia Edison Co. (BBB+/Stable/A-2) dueto their designation by the FERC as “qualify-ing facility” projects. (A qualifying facility isa co-generator or small power producer witha right to sell its excess power output to a


public utility.) Capacity payments may varydue to cost and operational considerations.Future projects, however, may not receivesuch capacity fees.

Sun resourceCSP plants only produce energy when there’sdirect sun and therefore are much more sea-sonal than wind farms. CSP produces lessenergy in winter, while wind, and even othersolar technologies like PV, have capacity pro-files that are unaffected by seasonality. Also,while CSP needs direct sunlight, wind powerplants can still produce energy at night.

Reliable data on resource levels is critical.When analyzing solar projects, the site areaand the amount of sunlight it receives (insola-tion) will be important factors in our analy-sis. As with wind, reliable data on theamount and volatility of the power source—in CSP’s case, direct, normal insolation—isessential. CSP requires direct solar radiation;therefore our analysis will focus on historicaland forecast hours of direct sun. We willrequire wind assessments for the project siteas well. Strong winds can deposit soil on thearrays, which can reduce efficiency or incuradditional operating expenses.

Sensitivity tests for the rating will test vari-ability associated with both the solar resourceas well as winds and with conservativeassumptions regarding thermal storage and theuse of natural gas as back-up. The use of nat-ural gas may also create other issues for theelectricity buyer because it reduces the project’srenewable content and will emit CO2.

Technology, construction, and operationsWe consider parabolic trough to be a proventechnology, with several operational plantsaround the world. The SEGS projects inCalifornia, for instance, have performed ade-quately, with availabilities generally about90%, and have met their contractual obliga-tions for power generation. Moreover, giventhe seasonality of the solar resource, avail-ability is key in the summer months and isless important during the rest of the year,which provides ample downtime for routinemaintenance of the project. However, powertower and dish-engine plants are riskier froma credit perspective because they lack anoperational track record.

Likewise, construction and start-up risk isconsidered less of a risk for parabolic troughtechnology than for power tower and dish-engines. Nevertheless, as with any project, theterms of the engineering, procurement, andconstruction (EPC) contract and the designand construction firms’ experience and abilitywill be key. For example, SolarGenix is adesign and construction firm that’s leadingthe Nevada Solar One project, for which thefirm Lauren E&C has obtained the EPC con-tract. The German companies Schott andFlabeg have experience with heat collectionreceivers and parabolic mirrors, respectively,and Luz II LLOC is involved in the powertower projects that Pacific Gas & Electric Co.has announced. Given the limited installedbase of solar power, performance guaranteesfrom a creditworthy EPC contractor will bean important factor in achieving an invest-ment-grade rating.

O&M for the solar field consists primarilyof replacing HTEs that have degraded in per-formance and damaged mirrors, as well asroutine mirror washing. During a typicalyear, the Caithness facilities collectivelyreplace about 1,000 HTEs (2.4% of the total)and 2,000 mirrors (0.5%). These numbersmay be lower for the Nevada Project, whichis a more advanced technology, but there areno major credit issues that arise from O&Mmatters if the project benefits from an experi-enced operator. Operating a solar plant issimpler than running traditional fossil-fuelunits and the projects require little staffing.This is a positive for credit quality.

A Bright Credit Outlook?Ultimately, the ability of projects using provenCSP technology to achieve investment-graderatings will depend on having a PPA with acreditworthy counterparty that lasts for theterm of the debt and whose capacity pay-ments can cover debt service and O&Mexpense under conservative assumptions forenergy output. To the extent that such capaci-ty payments and debt service coverage ratios(DSCR) are relatively insensitive to plantavailability, that would further supportprospects for investment-grade ratings. For aninvestment-grade rating, we would expect theDSCRs to be robust under different scenarios,including stresses for sun hours, plant avail-


Solar Power’s Potential Shines Brighter As Technology Advances

The Top Trends

ability/performance, and O&M cost increases,assuming that construction and technologicalrisk are adequately mitigated.

Federal and local incentives, such as theinvestment tax credits and production incen-tives, can provide crucial cash flow supportand reduce the cost threshold and therefore,the cost of electricity for the PPA counterparty.A long track record of stable solar insolationwill be favorable, as it mitigates the uncertaintyof energy production and would therefore bereflected in the level of stress required in thesensitivities on energy production.

As in the case of wind, we expect to see solarprojects adding more to the diversity of theU.S. fuel portfolio as the economics and tech-nology of solar power continue to improve.

Notes(1) http://www.epia.org/03DataFigures/

DataEurope.htm.(2) “Bright Prospects,” The Economist,

March 8, 2007.(3) http://www.iea-pvps.org/isr/01.htm.(4) Energy Information Administration

Assumptions to Annual Energy Outlook 2007.

(5) http://gov.ca.gov/index.php/ press-release/3588/.

(6) http://www.dsireusa.org/library/includes/map2.cfm?CurrentPageID=1&State=CO&RE=1&EE=1.

(7) http://www.energy.gov/news/4503.htm.(8) http://www.nrel.gov/csp/troughnet/

thermal_energy_storage.html#heat. ■


The U.S. utility sector is in the midst of alarge capital-spending cycle to add capacity.

It’s unclear what type of plants will be built inthe face of impending new climate changepolicies plus growing base load capacityneeds. All that’s certain, given rising fuelprices and capital costs, is that regulators whoauthorize the building of new plants will tryto ensure the lowest overall cost to ratepayers.

Many factors will determine the choice oftechnology, be it a conventional coal-or nat-ural gas-fired plant, newer integrated gasifica-tion combined-cycle (IGCC) technology, oralternatives such as nuclear, solar, wind, geother-mal, and biomass. The obvious key quantita-tive issue for each technology is the cost ofthe electricity it will produce, but decidingwhich to choose also involves gauging vari-ous qualitative factors. A central question is:How will carbon costs alter the playing fieldfor competing technologies, and how willthose choices affect the sector’s credit quality?

As we look at the construction cycles of thepast, it’s clear that one technology has alwaysdominated—coal, nuclear, and natural gas—at various times. Each technology was popu-lar for a variety of reasons, such as the per-ception that nuclear energy was almost “toocheap to meter” or domestic gas wouldalways be inexpensive and plentiful.However, no such dominant view exists now.Rather, in the current construction cycle vari-ous directions seem possible, and each pathfavors a different technology.

Some key factors are:■ Volatile and high natural gas prices, which

have made favorites of coal plants andexisting nuclear units because of their rela-tively low and stable variable costs.

■ Rising utility bills for consumers, owing toa combination of demand growth, highercommodity fuel prices, and sharply increas-ing construction costs. This has createdsupport for energy efficiency and demand-side management programs and providesregulators the incentive to minimize powerplant construction.

■ National security advocates who cite pro-

liferation, terrorism, and safety concernssurrounding nuclear power and call formore use of coal and domestically availablerenewable resources while avoiding increas-ing dependence on imported natural gas inthe form of LNG.

■ Climate change concerns that supportrenewable energy and new nuclear unitsbut, in the short term, suggest the increaseduse of natural gas to displace coal-firedgeneration to reduce emissions.

■ State mandates requiring utilities to diversify their fuel supply to include renewable resources.Also notable in this cycle is the sharp rise

in capital costs for power plants and less-favorable engineering, procurement, and con-struction (EPC) contract terms, with manycontractors unwilling to offer fixed prices onmaterials and labor.

Conflicting Electricity Supply Needs Lead To Few CertaintiesGiven these conditions, perhaps there areonly two things that industry players knowfor sure:■ Fuel and technology diversity is a reality—

no single fuel or technology will dominate,unlike in past construction cycles. Coal,IGCC, nuclear, natural gas, wind, geother-mal, solar, and biomass are all serious pos-sibilities. While only the first four are con-tenders for base load generation, we expectindustry participants to use all these tech-nologies to varying degrees.

■ States will remain particularly sensitive tothe total cost of electricity. Given that vir-tually every trend is pointing toward higherelectricity prices, state regulators will bechallenged more than ever to manage theultimate price paid by customers. In mak-ing that judgment, regulatory bodies willlikely factor in not just current capital costsor fuel price volatility, but also longer-termuncertainties, such as carbon capture andsequestration, nuclear decommissioningand waste disposal, and the electrical grid’sreliability given the growing reliance on

Analysts:


Dimitri NikasNew York (1) 212-438-7807

Terry A. PrattNew York (1) 212-438-2080

Which Power GenerationTechnologies Will Take The Lead In Response To Carbon Controls?


The Top Trends

intermittent renewable resources, such aswind energy.

Climate Change Policy ConsiderationsClimate change appears set to emerge as anoverarching policy consideration that willaffect how utilities procure resources,although issues of cost, system reliability, fueldiversity, and other factors can be at oddswith carbon controls. With carbon legislationappearing very likely within the next fewyears, many states are viewing currentresource decisions through the lens of climatechange. The National Association ofRegulatory Utility Commissioners (NARUC)recently announced the formation of a 10-member task force to study climate changeand make recommendations for the pendingfederal legislation. Also, stricter standardsmay exist at the state level, as on the WestCoast, in the Northeast, and in other regions,where states have embraced ambitious renew-able portfolio standards (RPS) in response toclimate change.

Yet another factor increases the importanceof focusing on power generation options.Studies have shown that in a carbon-con-strained world electricity is likely to accountfor an ever-increasing share of the total energy

supplied in an economy (1). The reason: Ashift from direct fuel consumption to electricityuse provides the best route to reducing car-bon emissions because a majority of the lowor nonemitting energy technologies are asso-ciated with the power sector.

Under emissions limitation cases that pre-sent all sectors of the economy with a com-mon marginal cost for carbon dioxide (CO2),the use of electricity increases relative toother energy sources, such as gasoline anddiesel. Thus, an important outcome of cli-mate change concerns could be an increase inthe electrification of the energy supply sys-tem, coupled with a move toward cleanerpower generation technologies.

Comparing Technologies’ Cost DifferencesWe’ve undertaken a cost comparison of thedifferent technologies in a carbon-constrainedworld. Our analysis is confined to the majorcentral power station alternatives. Many energyefficiency and combined heat and power alter-natives have the potential to reduce demandor supply power at lower prices. From theperspective of this analysis, those options canbe seen as reducing the need for power plants.Below are the major assumptions that under-lie our analysis (see table 1):


Natural gas combined IGCC IGCC

Pulverized coal cycle Eastern PRB Nuclear Wind Solar Biomass

Plant capital cost ($/kW) 2,438 700 2,795 2,925 4,000 1,700 4,000 2,500

Capacity factor (%) 85.0 65.0 80.0 80.0 85.0 33.0 43.0 85.0

Heat rate (million Btu/MWh) 8,700 7,000 8,200 9,400 N.A. N.A. N.A. N.A.

Variable operations and maintenance ($/MWh) 2 2 3 3 7* 0 30 7+27*

Fixed operations and maintenance ($/kW-year) 45 20 60 60 100 25 33 160

Carbon capture assumptions

Capital cost ($/kW) 940 470 450 450 N.A. N.A. N.A. N.A.

Operating cost ($/MWh) 8 3 3 3 N.A. N.A. N.A. N.A.

Energy penalty to capture carbon dioxide (%) 25.0 13.0 15.0 15.0 N.A. N.A. N.A. N.A.

Ton/MWh carbon dioxide emitted without capture 0.87 0.37 0.82 0.94 N.A. N.A. N.A. N.A.

Ton/MWh carbon dioxide emitted with capture 0.09 0.04 0.09 0.09 N.A. N.A. N.A. N.A.

*Fuel. IGCC—Integrated gasification combined cycle. MWh—Megawatt-hour. N.A.—Not applicable. PRB—Powder River Basin.

Table 1 Technology Cost Assumptions

■ CO2 transportation ($6/ton),■ CO2 storage ($4/ton),■ Market price of gas ($7/million BTU),■ Market price of Eastern coal ($1.80/

million BTU),■ Powder River Basin (PRB) price of coal

($1.00/million BTU),■ Average cost of capital 10% (12% for

nuclear power), and■ Capital recovery period of 30 years (20

years for wind).Uncertainty over the capital costs of

nuclear and IGCC power plants, given thelack of recent construction experience, areamong the shortcomings of this cost compari-son. In addition, the cost estimates are genericand don’t factor in site-specific issues, such astransmission access and accessibility of railfacilities. Nevertheless, it’s instructive to usebest available estimates, while also consider-ing the possible variability of costs.

Cost of power without carbon captureThe scenario outlined in table 2 represents thestatus quo with no carbon controls, wherepulverized coal and natural gas dominate, nonew nuclear or IGCC plants are built, and thebuildup of renewables depends on state RPSstandards. While IGCC using PRB coalappears to have lower costs than that usingeastern coal, mainly due to lower PRB coalprices, PRB coal has a shorter operating trackrecord than eastern coal, a qualitative factornot captured in the numbers. Furthermore, wedidn’t include subsidies for any of the tech-nologies in this scenario due to the uncertain-ties concerning the federal loan guarantee pro-gram and other potential subsidies.

Comparing the cost of carbon capture and sequestrationNuclear power becomes very economical inthe second scenario compared with theabsence of carbon controls (see table 3).Exactly how much more economical thanIGCC is a key uncertainty since in neithertechnology have we seen a fixed-price EPCcontract signed in recent years. MidAmericanEnergy Holdings Co. (A-/Stable/—) recentlyannounced that it received a reasonably firmcontractual offer for an IGCC plant inWyoming that includes carbon capture. Thecost of power from the proposed IGCC facility

was between $110 and $120 per megawatt-hour (MWh). This includes higher costs toaccount for site-specific issues, such as thelocation in Wyoming and higher altitudes.

Natural gas combined cycle (NGCC) tech-nology is competitive but subject to gas pricevolatility. Wind has lower costs but suffersfrom low capacity factors and intermittentproduction. Biomass is economical, but itspotential is restricted by limited fuel availabil-ity. Solar power appears uneconomical givencurrent technology and utilities are likely tobuild facilities in only states that specificallysupport it.

The capture option versus the buy optionIt is also important to compare the cost ofcarbon capture and sequestration (CCS) perton of CO2 and allow for plants to buy car-bon credits if it were cheaper than capturingCO2 (see table 4). CCS is substantially cheap-er in IGCC units than in traditional coal andnatural gas power plants. However, even forIGCC, the cost of CCS likely exceeds $40 perton of CO2, a price substantially higher thansome of the price caps Congress is consideringand than ratepayers may accept.

If the price for carbon credits is only$10/ton, traditional coal will continue to bethe cheapest option, with coal plants simplypurchasing the credits needed to meet theiremission restrictions. The picture remains prettysimilar even with CO2 credits at $30/ton.

At the outset, in other words, CCS isn’tlikely to be economically viable, because CO2credit prices will probably be low. This is dueto relatively modest emission reductionrequirements, increased use of renewablesand energy efficiency policies, and the optionof switching fuels from coal to natural gas.

Looking further ahead, however, emissionreductions will need to be much steeper to meetclimate change targets. Unless utilities add sub-stantial amounts of nuclear capacity, coal plantswith CCS will be needed to meet these goals.Carbon credit prices will thus have to be highenough to support CCS. Technology improve-ments, which are further ahead on the learningcurve, and large-scale demand could lower thecost of carbon capture below the $40/ton thatseems to be the going rate today. The parasiticload associated with the capture process will bea key focus area for cost reduction.


Which Power Generation Technologies Will Take The Lead In Response To Carbon Controls?

The Top Trends

A Closer Look At IGCC, Nuclear, And WindGiven our projections, IGCC, nuclear, bio-mass, wind, and solar power seem to be lead-ing candidates to meet the need for electricgeneration with lower emissions. Several quali-tative, technology-specific issues will signifi-cantly affect the construction and use of theseassets and the credit quality of the companiesthat build them. (For issues regarding solarand biomass power, see “Solar Power’sPotential Shines Brighter As TechnologyAdvances” published on May 11, 2007 and“Biomass Will Grow In Importance With CapsOn CO2” published elsewhere in this book.)

IGCCCoal currently fuels about half of the power inthe U.S. and is a primary climate change con-cern because of its high level of carbon emis-sions. The global power system can’t do with-out coal, but it also can’t continue to burncoal in its current form. IGCC and CCS offera solution, but both have their drawbacks.

While the major IGCC technology suppli-ers have claimed readiness for some time nowand tout capacity factors of 85%, no EPCcontractor has yet stepped forward to offer afixed-price, turnkey contract with liquidateddamages for cost, time, and performance.IGCC has about a 25% capital cost disad-vantage as well as substantially higher con-struction and start-up risks compared withtraditional pulverized coal units. We expectthat the ability to offset at least some of theserisks, by passing them on to ratepayers orother risk intermediaries, for example, alongwith federal support in the form of loan guar-antees or tax credits will be key to launchingthe first few IGCC units. Thereafter, the oper-

ational track record of the initial units willdetermine the success of the technology. (See“IGCC: Can It Combine The Best Of Coal-Fired And Gas-Fired Generation?” publishedon RatingsDirect on June 26, 2006).

The legal framework and permittingrequirements for CCS, including who wouldbear responsibility for long-term storage ofCO2, are unclear. Lack of clarity on this issuewill be seen as a large contingent liability forutilities that manage these storage sites.Storage technology is also undeveloped forlonger-term options such as saline aquifers.Extensive use of CCS also requires a networkof CO2 pipelines leading to storage sites.This doesn’t exist currently and isn’t even fac-tored into the CCS cost estimates above. Newpipelines could add between $10 and $20/tonto the cost of CCS. For CCS to succeed, it’sessential that state and federal regulatorsencourage pipeline development.

NuclearSignificant improvements in operating perfor-mance and safety, combined with a lack ofcarbon emissions, are causing the utilityindustry to look more favorably on nuclearplants. However, no one has built a nuclearplant in more than 20 years, and the last setof plants were completed with significantdelays and cost overruns.

The U.S. Nuclear Regulatory Commission(NRC) has addressed one of the major issuescomplicating the construction of new nuclearplants, the licensing process. The NRC’sCombined Construction and OperatingLicense (COL) tries to address all siting, per-mitting, reactor design, and construction issuesin one step, including public comment before



($/MWh) Pulverized coal cycle Eastern PRB Nuclear Wind Solar Biomass

Plant capital cost 35 13 42 44 69 62 113 36

Plant fuel cost 15 50 14 9 7 — — 27

Plant operations and maintenance 8 6 12 12 13 9 39 28

Cost of power without carbon capture 58 68 68 65 89 71 151 91

IGCC—Integrated gasification combined cycle. MWh—Megawatt-hour. PRB—Powder River Basin.

Table 2 Cost Of Power Without Carbon Capture

the agency issues a COL for each plant. Thegoal is to address all of the issues that in thepast have led to interminable delays and spi-raling costs—before utilities commit significantcapital. The NRC is also promoting standard-ization of design and construction methods toensure a quicker turnaround in the COLprocess and make additional plants easier andcheaper to build. During the constructionprocess, the NRC will perform inspections(Inspections, Tests, Analyses and AcceptanceCriteria, or ITAAC) to ensure compliance withthe COL. The COL process, however, isuntried and untested, causing some skeptics towonder how effective it will be.

Even with a COL, no utility will commit toa project as large and risky as a new nuclearplant without assurance of cost recovery. Inarriving at debt rating opinions, Standard &Poor’s doesn’t expect full and unfettered recoveryof all requested costs. Rather, we look for aregulatory framework that provides for a fairopportunity to recover prudently incurredcosts, even through changing regulatory com-missions. Without such a framework, a utility’sfinancial condition may rapidly deteriorate.Regulators may attach various conditions tothe recovery and negotiate with the utility howthe recovery will occur. Until the plant goesinto service, recovery of all or a majority offinancing costs in rates, such as constructionwork in progress, would not only demonstrateregulatory support and a willingness to pro-vide support in the future but also ensure thata utility’s cash generation won’t suffer.

Construction contracts are another issue.In the past, engineering, procurement, andconstruction contracts were easy to secure.

However, with increasing raw material costs,a depleted nuclear-specialist workforce, andstrong demand for capital projects world-wide, construction costs are increasing rapid-ly. Designers and engineers are still develop-ing cost estimates for new nuclear plants. Allof this can significantly affect utilities, asthey may be unable to find EPC contractsand may have to look for other ways to insu-late themselves from construction risk andcost overruns.

The final challenge relates to decommis-sioning and spent nuclear fuel. Althoughthese may not be significant obstacles tobuilding new nuclear facilities, since they’refar in the future, they still affect new-planteconomics. The Maine Yankee nuclearplant was recently decommissioned on bud-get and on time. However, the recent expe-rience with Connecticut Yankee indicatesthat the cost of decommissioning couldapproach $1 billion in 2007 dollars. Forregulated companies, even if the decommis-sioning funds are insufficient, we can bereasonably assured that regulators willallow utilities to recover their incrementalcosts. The bigger challenge is for unregulat-ed generators, who are likely to be requiredby the NRC to allocate decommissioningfunds early in the life of the project toensure that sufficient funds will be avail-able upon license expiration. Over the longterm, spent nuclear fuel storage and han-dling will be a key issue that will determinethe amount of added nuclear capacity inthe U.S. (See “Why U.S. Utilities Are SeeingNuclear Power In A New Light” publishedon RatingsDirect on Jan. 9, 2007.)





Carbon dioxide capture capital and O&M 13 9 7 7 — — — —

Carbon dioxide energy penalty 30 12 15 15 — — — —

Carbon dioxide transport and storage 19 7 12 14 — — — —

Cost of CCS per MWh 62 28 34 36 — — — —

Cost of power with CCS 120 96 102 101 89 71 151 91

IGCC—Integrated gasification combined cycle. MWh—Megawatt-hour. O&M—Operations and maintenance. PRB—Powder River Basin.

Table 3 Cost Of Carbon Capture And Sequestration (CCS)

The Top Trends

WindWind power is the fastest-growing electricgeneration sector in the U.S. Installed windcapacity grew to 11,603 MW in 2006 from9,149 MW in 2005—-a 27% increase.Several developments favor wind investments.The high price of natural gas has led utilitiesto seek fuel diversity and, in some states, RPShave supported wind energy. Wind is emis-sions free, a tremendous environmentaladvantage over traditional fossil-fuel genera-tion plants. Wind is relatively inexpensive,can support large plants (over 300 MW), andoverall is the most practical of renewabletechnologies. Developers can also build windprojects in just a few months versus years forcoal or natural gas plants.

Despite strong demand for it, though, windpower also has some disadvantages. Most ofthe U.S. population doesn’t live where it’s suf-ficiently windy, so the investment sometimesneeds to factor in costly transmission. Newmodels for cost sharing are required fortransmission projects, such as one recentlyproposed by the California IndependentSystem Operator, where each renewable pro-ject will only pay for its share of the cost of atrunk line from the resource area to the restof the grid, with the balance being shared byall transmission users. Compared with stan-dard fossil fuel units, wind power by itself isoften uneconomical. To compensate for this,a federal production tax credit (PTC) pro-vides an added incentive. The PTC is nowabout 2 cents per kilowatt-hour but escalateswith inflation. Wind projects that qualify forthe PTC earn the credit for the first 10 yearsof operation. The program is short term, withthe current one ending at the end of 2008,

when it will require Congressional approvalto keep it going. The PTC provides anywherefrom 30% to 50% of the total capital invest-ment, so if Congress’ enthusiasm for the pro-gram lessens, wind investment may die down.

Wind projects also tend to operate at only30% to 35% of capacity, a much lower ratethan for fossil fuel plants and renewables likebiomass and geothermal power. Also, becausewind is unpredictable, regions that rely onlarge wind capacity may need additional gen-eration resources to ensure reliable reservepower. These challenges usually translatedirectly into more integration costs for wind.In 2006, the Minnesota Public UtilitiesCommission reported that if in 2020 windprovided 25% of state generation capacity,integration costs would be about $4.50/MWh.While low, this number excludes additionalgeneration costs to maintain reserve margins.(See “A Look At U.S. Wind Project Risks In ATime Of Growth” published on RatingsDirecton Sept. 25, 2006.)

Potential Winners In Electric GenerationTechnology To Limit Greenhouse GasesEnergy efficiency is likely to emerge as amajor part of the solution to climate change,while IGCC, nuclear, and natural gas are thekey contenders for incremental generationneeds. More gas capacity will be built in anyscenario, but regulators may try to limitdependence on this volatile fuel. If IGCCand CSS are successfully implemented, it isnot only carbon friendly, but also a plentifuldomestic resource. Nuclear energy willreceive a shot in the arm if the waste dispos-al issue can be resolved. Biomass is econom-ically viable in a carbon-constrained world,




Cost of CCS per ton of carbon dioxide 80 86 46 41 N.A. N.A. N.A. N.A.

Total cost of power given ability to buy carbon dioxide credits

Carbon dioxide at $10/ton 67 72 76 74 89 71 151 91

Carbon dioxide at $30/ton 84 79 93 93 89 71 151 91

CCS—Carbon capture and sequestration. IGCC—Integrated gasification combined cycle. MWh—Megawatt-hour. N.A.—Not applicable. PRB—Powder River Basin.

Table 4 Cost Of CCS Per Ton Of Carbon Dioxide

especially municipal solid waste plants nearlarge metro areas. The cost drivers are clear,the ultimate outcome remains to be seen.

Note(1) Edmonds, J., T. Wilson, M. Wise, and J.

Weyant. “Electrification of the Economyand CO2 Emissions Mitigation,” Specialissue of the Journal of EnvironmentalEconomics and Policy Studies, 2006.

Sources1. “Electricity Technology in a Carbon-

Constrained Future,” Electric PowerResearch Institute, February 2007.

2. “Study of Potential MohaveAlternative/Complementary GenerationResources,” Synapse Energy Economics,February 2006.

3. World Energy Outlook 2006, InternationalEnergy Agency.

4. “Cost-Causation-Based Tariffs for WindAncillary Service Impacts,” NationalRenewable Energy Laboratory, June 2006.

5. Minnesota Wind Integration Study,Minnesota Public Utilities Commission,December 2006.

6. “A Strategy for Developing CarbonAbatement Technologies for Fossil Fuel Use,” Department of Trade andIndustry, Government of United Kingdom.

7. Rosenberg, William G., Dwight C.Alpern and Michael R. Walker,“Deploying IGCC Technology in This Decade With 3 Party CovenantFinancing: Volume I,” Kennedy Schoolof Government, Harvard University,May 2005 Revision.

8. “The Future of Coal,” MassachusettsInstitute of Technology, March 2007. ■




The Canadian public-private partnership(PPP) market has grown rapidly during the

past three years with numerous projectsreaching financial close in several provinces.Given the project pipeline in the provinces ofAlberta (AAA/Stable/A-1+), British Columbia(AAA/Stable/A-1+); Ontario (AA/Stable/A-1+);and Quebec (A+/Positive/A-1+), we expectthat PPP project financing will pick up evenmore steam in the next few years.

Early Canadian PPP projects closely matchedthe framework of the U.K.’s Private FinanceInitiative in many respects, including risk allo-cation features, but many projects recently haveimplemented contractual modifications to suitlocal market conditions, as well as meetinggovernment concession grantor objectives.During the period 2004-2006, Standard &Poor’s Ratings Services observed varied projectpayment schemes in the Canadian market,including those with a pure availability basis orpartial shadow toll regime to complement asubstantial availability payment component.Golden Ears Bridge (Golden Crossing FinanceInc.; SPUR ‘BBB’) and the Vancouver GeneralHospital and Anthony Henday Drive trans-portation projects are examples of the formerpure availability payment model, while KickingHorse Canyon, Bennett Bridge, the Sea to SkyHighway, and the Canada Line projects eachhave partial shadow toll exposure.

Looking ahead, there appears to be anappetite from sponsors, creditors, and conces-sion grantors for assets with increasing mar-ket or volume exposure. This is demonstratedby Quebec’s A-25 and A-30 road projects andBritish Columbia’s upcoming large GatewayProject. The combination of traffic volumeand multiyear design-build risk will likely rel-egate such volume risk assets to the lowinvestment-grade space if properly structured.

Focal Point Of PPP Activity Is In Four ProvincesIn the next several years, British Columbiaappears to have substantial potential for a mixof availability-based healthcare projects, includ-ing long-term care and hospital PPPs, as well as

continued growth in transportation projectsthat will see some degree of volume risk.

Given Alberta’s very robust fiscal position,the province is likely to continue to be selectivein its use of PPP asset procurement, primarilyrelated to already well-received transportationprojects (Edmonton and Calgary ring roads)and for strategic risk allocation purposes.

Ontario’s announced transaction flowunder its Alternative Finance andProcurement (AFP) model now exceeds 40projects, with the initial emphasis for AFPbeing on hospital projects and, to a lesserextent, courthouses and accommodation pro-jects. The province is procuring these AFPassets under one of two approaches: a tradi-tional long-term concession arrangement(build-finance-operate-maintain scheme, witha mixture of potential design responsibilityand varied approaches to facilities manage-ment services); or, a shorter term build-finance approach where the governmentmakes a lump sum payment following com-pletion of a hospital asset, for example.

Quebec has announced several private sectormandates for smaller developments such as theMontreal Symphony Orchestra and the rehabil-itation of Montreal’s Olympic Stadium roof.But Quebec is also pursuing major PPPs in itstransportation sector. The A-25 project and theupcoming A-30 project are two very substan-tial road projects that likely will reach financialclose in 2007 and 2008, respectively. There issome uncertainty in the area of hospital PPPs,although discussions continue on two very largehospitals linked to the teaching and researchcapacities of the Universite de Montreal andMcGill University (AA-/Stable/—), both indowntown Montreal.

Two of the Atlantic provinces, NewBrunswick (AA-/Stable/A-1+) and NovaScotia (A+/Stable/A-1+), have also been pro-ponents of the PPP model in past years, witha large road project currently ongoing inNew Brunswick, which is being done on thebasis of an availability payment scheme.

To date, the provinces, led by BritishColumbia, have launched most of the PPP

Analysts:

Paul B. Calder, CFAToronto (1) 416-507-2523

Valerie E. BlairToronto (1) 416-507-2536

Mario AngastiniotisToronto (1) 416-507-2520

Canadian PPP Sector Continues To Pick Up Steam

activity in Canada, primarily because health-care and many transportation responsibilitiesfall within provincial jurisdictions. In addi-tion, with the exception of Alberta, mostprovincial budgets do not have significantcapacity or appetite for major up-front capi-tal spending that would be funded by govern-ment borrowing. However, momentum in thesector is likely to accelerate across the coun-try with the federal government of Canada(AAA/Stable/A-1+) poised to identify somenational PPP projects.

Federal Government Sees The PPP LightThe recent federal government budget con-firmed that a PPP office will be established atthe national level, suggesting that a muchbroader array and possibly larger scale ofPPP projects could be launched in the yearsto come. Together with this new office, thefederal government has announced that itintends to create a national PPP fund ofabout C$1.25 billion to be directed toapproved projects over the next several years,contributing up to 25% of their costs.Projects that are likely to be given seriousconsideration in the near future include anew border crossing between Windsor, Ont.,and Detroit, Mich., to address the problems ofcongestion in that key transportation corridor.The government is apparently assessing thesuitability of the design-build-finance-operatemodel for this particular project. In additionto border crossings that are under federaljurisdiction, other potential candidates areports and portions of the national highwaysystem. Outside of the transportation sector,possible projects could involve federal correc-tional and defense facilities.

Funding Options And Rating TrendsThe Canadian PPP transactions that havereached financial close to date have generallyused one of four forms of debt funding:■ Widely offered debt capital market offerings;■ More narrow private placement offerings

with life insurance companies;■ Unrated term bank financing; or■ Rated bank financing, possibly supplement-

ed by a financial guaranty policy (monolinebond insurance).Sponsor preference, cost of funding differ-

entials, the length of the concession term, and

the potential equity tail, as well as the com-plexity of the design-build program haveinfluenced the choice of debt fundingapproaches by project consortiums.

Standard & Poor’s has been active in pro-viding ratings on many of these recent PPPprojects at the bid stage and at financialclose. The public ratings have ranged fromthe low- to mid-investment-grade categories.There is also the prospect for credit ratings tobe assigned to projects that have already beenfunded (with bank debt, for example) in theevent that they are refinanced as sponsorsseek to enhance their returns after construc-tion is completed. This enhancement toreturns might be achievable through a combi-nation of lower market interest rates at thetime of refinancing, tighter credit spreads(due to a perception of a lower risk premium)provided by the markets following construc-tion completion, and higher leverage at thepoint of refinancing. The project agreementsfor most endeavors will specify a 50% refi-nancing gain (with the concession grantor).

International Interests In Canada AndCanadian Investor Interests AbroadGrowth in the Canadian PPP market has ledto an influx of foreign sponsors, facilitiesmanagement providers, and constructioncompanies in the past three years. These playersare domiciled mainly in the U.K, Europe, andAustralia where the PPP model is well-known, and they have been largely responsi-ble for kick-starting the current surge inCanada’s domestic market. However, thedomestic banks and their wholly ownedinvestment banking arms have increased theirknowledge and capacity in the PPP space inan effort to compete with the foreign banksand global consulting practices, which havethus far been dominating the lending andadvisory activities for concession grantorsand sponsors. As well, financial guaranteecompanies (monoline bond insurers) havestepped up to the plate by providing opportu-nities for guaranteed or “wrapped” debtsolutions on domestic projects, contributingto a new form of debt market competitionthat didn’t exist here until 15 months ago.The financial guarantees provided by themonoline bond insurers enhance Standard &Poor’s underlying debt ratings on projects to


Canadian PPP Sector Continues

The Top Trends

‘AAA’, equivalent to the insurers’ own creditratings. In fact, the Vancouver-based GoldenCrossing Finance transaction that closed inFebruary 2006 was the first wrapped bankloan in North America. This financial guar-antee policy was allowed to be executeddespite the fact that monoline bond insurersare not yet licensed to operate in Canada.

The increasing breadth of providers is a posi-tive development. It should supply competitivetension in PPP bid situations and lead to inno-vations in project design and constructionapproaches and financing structures. However,at the same time, some hurdles are sure toremain in the Canadian market. The sheernumber of projects occurring simultaneously,together with the relative scarcity of large gen-eral contractors in Canada, could at somepoint constrain the market. Also, as the leadingconstruction companies take on additionalexposure through an increasing number of pro-jects, their balance-sheet encumbrances couldgrow alongside the credit supports, such as let-ters of credit (LOC), that they are being askedto provide to enhance the project’s financialprofiles. It is likely that contractors that havetaken on significant exposure might be pushingagainst LOC limits or other balance-sheetratios, so that less encumbering support fea-tures, such as surety instruments, might be con-sidered by construction providers in the future.

Fortunately, there’s no shortage of debt orequity funding for Canadian PPP projects. Infact, a scarcity of domestic projects exists rel-ative to the domestic equity and debt fundingcapacity dedicated for infrastructure, letalone the international funding capacity thatis interested in the same Canadian infrastruc-ture asset base. This would explain whyCanada’s large institutional investors, such asthe Canada Pension Plan Investment Board,Ontario Teachers Pension Plan Board,Ontario Municipal Employees RetirementSystem (AAA/Stable/A-1+), and Caisse deDepot et Placement du Quebec(AAA/Stable/A-1+), have all sought interna-tional infrastructure investment opportuni-ties. In addition to international diversifica-tion interests, there is simply not enoughdepth in the Canadian market to satisfy thesefunds’ dedicated asset allocation to the infra-structure space.

Successful History And Effective Risk AllocationAn important contributor to the growth inthe PPP sector in Canada has been govern-ments’ realization that partnering with theprivate sector is beneficial, especially for thefollowing reasons:■ Procuring capital assets from the private

sector results in a faster and more date-cer-tain, fixed-price approach, as compared totraditional capital asset procurementundertaken by government departments.

■ Governments can achieve some degree ofrisk transfer by allocating to the conces-sionaire key project uncertainties or chal-lenges that have not traditionally been wellmanaged by the public sector, particularlyfor large-scale capital projects. These risksinclude general design and scope changes,completion delays, and cost overruns, aswell as capital asset maintenance and esti-mating long-term life cycle costs.While PPP asset procurement is not a

panacea for all government capital, manypublic sector projects could benefit from pri-vate sector expertise. One example is theVancouver Convention Centre, which isreportedly experiencing material cost over-runs midway through construction. The coststruggles of this project highlight the value inhaving private sector parties bear the risk ofconstruction and asset completion throughfixed-price, turn-key, and date-certain con-tracts—with penalties imposed for not meet-ing these commitments.

Canadian PPP Sector Can Build On Solid Global Track RecordIn Standard & Poor’s experience, the PPP sec-tor globally has had a very good track recordin the past decade or so, distinguished by alack of defaults of rated projects and thedevelopment of an effective risk allocationframework between the concession grantorand private sector partner. Canada’s marketparticipants can continue to draw upon thisexperience, but also contribute to the grow-ing pool of innovative solutions broughtabout by the private sector for the delivery ofessential public sector assets. Contrary toexpectations even two short years ago, theCanadian PPP market is here to stay. ■


Governments around the globe have strug-gled to deliver important public infra-

structure investments as well as control costswithout reducing services. To meet growingfiscal demands, governments are increasinglyinterested in forming public-private partner-ships (PPP) to improve service levels, controlcosts, and provide the social and physicalinfrastructure required by growing popula-tions by leveraging the relative advantages ofboth public and private participants.

Standard & Poor’s Ratings Services’ defini-tion of a PPP is any medium- to long-termrelationship between the public and privatesectors, involving sharing the risks andrewards of multi-sector skills, expertise, andfinance to deliver desired policy outcomes.The U.K.’s Private Finance Initiative (PFI) is asubset of PPP that typically involves conces-sions, or franchises, of public sector assetscontracted with the private sector to providelong-term services.

Globally, Standard & Poor’s rates morethan 100 PPPs with more than 75% in the‘BBB’ rating category, and most of the remain-der in the ‘A’ category. To date, the majorityof these transactions have occurred in Europe,Australia, and Canada. The U.S. market isstill in its infancy, with only a handful of dealsin the transportation sector. However, thatcould be changing. Throughout the U.S.,many state governments in search of cashinfusions are looking into expanding PPPdeals beyond the surface transportation sectorto state lotteries and other asset classes thatgenerate stable cash flow.

In the U.K. alone, signed projects have acapital value of about $87 billion, showingthe significant growth of the asset class.“One reason that PPPs and PFIs haveevolved in Europe is the recognition thatthese many projects can be delivered fasterand more cost effectively,” said Standard &Poor’s credit analyst Kurt Forsgren. “It’s onlynow in the U.S. where there’s a growing dis-parity between resources and future invest-ment requirements and other demands onpublic resources that we’re exploring differ-

ent approaches to project delivery, operation,and ownership.”

How PPPs WorkIn a typical PPP deal, public and private sectorpartners enter into a contractual agreement.Most often, these deals involve a governmentagency contracting with a private partner torenovate, construct, operate, maintain, and/ormanage a facility or system, in whole or inpart, that provides a public service. Althoughthe government agency may retain ownershipof the public facility or system, the privatepartner generally invests its own capital todesign and develop the properties. A privatesector consortium forms a special-purposeentity (SPE) to build and maintain the asset.

The consortium usually comprises a build-ing contractor, a maintenance company, and abank lender. The SPE signs the contract withthe government and with subcontractors tobuild the facility and maintain it. For exam-ple, when an SPE finances and constructs abuilding for a hospital authority, the hospitalauthority agrees to pay for the maintenanceand use of the building for a defined period.The SPE provides housekeeping and othernon-medical services, and the hospital pro-vides medical services. At the end of the peri-od, the SPE withdraws, and all services revertto the hospital authority’s administration.

Rather than rely on a payment for maintain-ing the project, PPPs can also share in the rev-enue economic infrastructure, such as a tollroad, generates. Under this model, the SPEoperates the key services and gets its returnfrom the income derived from the toll road.Other deals can involve a big payday upfront.Such a venture, although a contractual arrange-ment, differs from typical service contracting inthat the private sector partner usually makes asubstantial cash, at-risk, equity investment inthe project, and the public sector gains access tonew revenue or service delivery capacity with-out having to pay the private sector partner.

Public purpose debt is debt used to financea project intended to be of value to the gener-al public. Such debt can include ordinary

Analysts:

Kurt ForsgrenBoston (1) 617-530-8308

Colleen WoodellNew York (1) 212-438-2118

Jonathan ManleyLondon (44) 20-7176-3952


Ian GreerMelbourne (61) 3-9631-2032

Writer:

Frank E. Benassi

Despite Risks, Global Public-Private Partnership Deals Are On The Upswing


The Top Trends

government securities, such as general obliga-tion bonds or revenue bonds, as well as qual-ified private activity bonds. For instance, astate government can use tax revenues to pro-vide capital for investment, with operationsrun jointly with the private sector or undercontract. In other types (notably PFIs), theprivate sector makes a capital investment onthe strength of a contract with government toprovide agreed services, such as running stateroads or providing social services.

More U.S. Deals On The HorizonIn the U.S., 25 states have passed statutespermitting PPP projects. Some states, includ-ing Virginia and Texas, have clearly led theway with respect to advancing implementa-tion. “Given the needs of fast-growing statesin the South and West and the appeal oflong-term asset concession leases by estab-lished network operators in the Northeastand Midwest states, more of these dealsmight be on the horizon,” said Mr. Forsgren.

According to Mr. Forsgren, this could havebeen a breakout year for U.S. transportationPPP transactions that have long been in theplanning stages. However, the PPP model isgenerating healthy discussion and debate inthe U.S., both positive and negative, at thelocal and federal levels. “It appears there willbe changes to the PPP landscape in Texaswith a potential moratorium on private tollroad development for two years that is likelyto slow the pace of private investment,” saidMr. Forsgren. “Even so, with a deep pool ofglobal infrastructure funds lining up, PPPsare now part of the dialogue for roadwayand related intermodal projects—even injurisdictions where the legal framework isstill undeveloped,” he added.

The U.K. Leads The WaySince 1992, the PPP/PFI procurement method-ology has had a successful track record in theU.K., bringing to market 700 projects with acombined capital value of about £50 billion(about $87 billion). These encompass bothsocial infrastructure, such as new hospitals andschools, as well as economic infrastructure,such as transportation projects. As a methodof procurement, PPP/PFI has demonstratedbetter performance than traditional public pro-curement with more capital projects delivered

on time and to budget. The initial area offocus has been on the issue of constructionand bringing the facilities into use.Increasingly, however, there have been growingconcerns regarding the challenges that are pre-sented by the operating phase. In particular,the issue of lifecycle risk—that is maintainingthe quality of the assets over the 25- to 35-year operating length of the concession—isstarting to become an area of concern.

Elsewhere in Europe, PPPs have made lessprogress, with the notable exception of roads.Partly, this reflects the need for a legal frame-work for PPPs to develop but also the politi-cal will behind adopting the PPP methodologyas a means of delivering social infrastructure.However, as central and local governmentsacross Europe continue to face the challengeof delivering sound budgetary performanceand new infrastructure assets, the use of thePPP in some form is likely to increase.

On The Upswing In CanadaDuring the past three years, the CanadianPPP sector has grown rapidly, with numerousprojects reaching financial close in severalprovinces. Over this same timeframe, growthin the country’s PPP market has led to aninflux of foreign sponsors, facilities manage-ment providers, and construction companies.

Thus far, the provinces have launched mostof the PPP activity in Canada, mainly becausehealth care and many transportation responsi-bilities fall within provincial jurisdictions. Inaddition, with the exception of Alberta, mostprovincial budgets don’t have a significantcapacity or appetite for major up-front capitalspending that would be funded by govern-ment borrowing. Canadian PPP dealings havegenerally one of four forms of debt funding,including widely offered debt capital marketofferings; narrow private placement offeringswith life insurance companies; unrated termbank financing; or rated bank financing, pos-sibly supplemented by a financial guarantypolicy (monoline bond insurance).

Momentum in the sector is likely to acceler-ate across the country with the federal govern-ment poised to launch some national PPP pro-jects. Canada’s recent budget confirmed that aPPP office will be established at the nationallevel, suggesting that a much broader arrayand even larger scale of PPP projects could


come on stream in the not-so-distant future.Possible federal-level endeavors include nation-al highways, port facilities, border crossings,and defense and correctional facilities.

Growing Down UnderPPP transaction flow in Australia is strong,dominated by the financier-led model pioneeredand exported by ABN AMRO. This model hasmade Macquarie Bank, Babcock & Brown,Plenary, and Transurban familiar names inNorth American PPP circles, with all four com-panies using the Australian-developed technologyto help structure their deals. While projectstructures are heavily based on financial engi-neering, the primary objective of the PPP modelis service delivery rather than engineering orfinancial outcomes, and successful projects willaddress key stakeholders’ service expectations.

After years of fiscal consolidation,Australian state governments are forecastingrising capital expenditure and debt levels,which coincide with public debate about theadequacy of state infrastructure. Given thistrend and the willingness of parties involved tolearn from the past, Standard & Poor’s expectsthat PPPs will be an integral part of the states’capital programs, and are indeed likely tothrive in Australia over the next few years.

Partnerships Have Risks And RewardsPPPs between the public and private sectorsinvolve sharing the risks and rewards ofmulti-sector skills, expertise, and finance todeliver desired policy outcomes under termsof concession agreement. “PPPs are verycomplicated deals and it’s really a questionof whether or not a government wants togive up the control and responsibility of anincome bearing asset,” said Standard &Poor’s credit analyst Colleen Woodell.“Although PPPs provide big cash infusionsup front, governments could be giving uppotential future income. There are no easyanswers, and I think a lot has to do withthe asset.”

If international experience is any guide,many projects and concessions will try tobalance acceptable credit risk and the high-est possible level of leverage to achieve thehighest possible return to investors. “In theU.S., attracting private capital to advanceroadway infrastructure will require bothpublic owners and investors to reconsiderthe standard approach of development andrisk-sharing and, in typical American fash-ion, borrow and modify what has workedelsewhere to fit the demands of a large andunique market,” said Mr. Forsgren. ■


Despite Risks, Global Public-Private Partnership Deals Are On The Upswing


The U.S. hospitality/lodging industry is cur-rently enjoying a strong market in which

occupancy levels and room rates have sur-passed their pre-Sept. 11, 2001 peaks, so it’s agood time to explore the relationship betweenthe cyclicality in the market and its effect onthe capital structure of new convention centerhotels. Short-term market conditions are affect-ing the base case measures that Standard &Poor’s Ratings Services uses in determining thecapital structure for a long-term debt financing.

One indication of the market’s currentstrength is that the average daily rate (ADR) inthe lodging industry for the first half of 2007rose to $102.95, a 5.7% increase above thesame period last year. Due to the strong growthin ADR, revenue per available room (RevPAR)is 5.5% above last year at $65.09. However,there’s been a slight slowdown in occupancygrowth. In the first two quarters of 2007, occu-pancy was 63.2%, which is 0.2% lower thanin 2006. So far this year, the market supply ofrooms has outpaced the high demand, causingthe drop in occupancy. Room supply increased1.1% while demand increased 0.9%, accordingto Smith Travel Research. (See “Lodging SectorShould See Good RevPAR Growth Into 2008,But Slowing EBITDA Growth” published onAug. 28, 2007 on RatingsDirect.)

How Is The Project Financed?Market demand is the most important factorin determining a convention center hotel pro-ject’s capitalization. The demand for the hotelis used in developing base case projectionsand forms the basis for coming up with aproper mix of debt and equity. Most of theseprojects are developed jointly through a pub-lic/private partnership. In determining theamount of equity in the project, a local gov-ernment may calculate the project’s ROE dif-ferently than a private developer. The munici-pality may accept a lower rate of return onthe hotel project than would a private devel-oper because the municipality that owns theconvention center may consider the conven-tion center hotel a necessary investment inorder to make the municipally owned con-

vention center successful. These factorswould influence the hotel owner’s willingnessand ability to contribute equity to the project.

Market Conditions Determine ForecastsA study of market conditions in the region atthe time of financing (before constructionbegins) is a starting point for Standard &Poor’s analysis of the projects. We examine themarket study completed for each project. Theanalysis heavily depends on projections forADR, RevPAR, and occupancy levels thatcome from the study. If the market study isconducted at the peak of the market, the baseRevPAR is higher than if it were completedduring a downturn in the region. In addition,most market studies assume the market contin-ues to grow or hold constant, during construc-tion, which takes an average 30 to 36 monthsto complete. The market could turn during thisperiod. A hotel whose capital structure is basedon a growing market could open during adownturn, causing it to open well below thefeasibility study projections, and giving it littlechance of catching up. Austin ConventionCenter Enterprises Inc. (ACE), which owns therated Austin Hilton convention center hotel,faced such conditions. The project financingwas completed before the market downturn in2001, and the hotel opened at the end of 2003at the bottom of the market. First-year opera-tions were 40% lower than its base case. Thisdidn’t affect the rating because we had ratedthe project assuming the project would notmeet its base case, but something lower basedon several downside scenarios.

Total Debt To “Key” Is KeyWe found a difference in the leverage levelsfor our rated projects based on the point intime the project was financed compared withthe latest market cycle. The leverage tendedto increase as the markets improved. As arough leverage ratio, we took the total pro-ject debt and divided it by number of rooms(or “keys”). ACE originally financed theAustin Hilton in 2001 in a strong marketwith a debt/key of $301,000. In a still-

Analysts:

Jodi E. HechtNew York (1) 212-438-2019

Katherine MedernachNew York (1) 212-438-1356

U.S. Convention Center HotelFinancing And Market Cyclicality:Beyond The Conventional Wisdom

rebounding market in 2005, the San AntonioConvention Center Hotel Finance Corp.’stransaction resulted in $208,000 debt/key. Asthe market strengthened and pre-September2001 peaks were being surpassed, leverageincreased. The Hilton financed by theBaltimore Hotel Corp. has a debt/key of$398,000. While these examples providesome evidence that hotel leverage increasesduring upswings in the hospitality sector,other factors, such as the strength of the mar-ket and construction costs were also biginfluences on the project leverage.

Solid Liquidity Helps In A DownturnTotal project leverage doesn’t tell the wholestory. A hotel’s growth rate will be unevenand will likely experience several downturnsduring the debt’s term. Strong liquidity willhelp to mitigate a sudden and severe down-turn (such as occurred in September 2001)and the ramp-up risk. The projects that hadhigh leverage offset some of this risk byincreasing liquidity. Baltimore Hotel Corp.’shigh level of debt is adequately supported bya $25 million guarantee from Hilton Hotels,a debt-service reserve fund in the amount ofaverage annual debt service, and a $9 millionoperating reserve, which is equal to almost10 months’ of operating expenses and debtservice. The Denver Convention Center Hotel

Authority’s 2006 refinancing resulted in$324,000 debt/key. The project has soundliquidity with $37.5 million in reserves fordebt service and operating expenses funded atclosing, which would fund more than sixmonths of operations and annual debt ser-vice. The table compares statistics for ourrated hotel projects.

Summing UpThere is some evidence that indicates a trendin which a project’s total leverage, as measuredby debt per key, increased when the projectwas financed during an upswing in the lodgingand hospitality sector. While the debt per keyis an interesting measure of the project’s lever-age, the most important factor is the demandfor the project in its market. Therefore, a hotelwith strong demand that is located in a strongmarket will be able to support a higher level ofleverage than one in a weaker market. We usethe market study in addition to other factors,including historic trends, to determine theoverall demand for the project. We run severaldownside scenarios that vary from the basecase to demonstrate the project’s ability towithstand changes in the hospitality and lodg-ing sectors. Our ratings reflect the long-termdemand for the facility and assume that invest-ment-grade projects will weather several upand down cycles. ■


U.S. Convention Center Hotel Financing And Market Cyclicality: Beyond The Conventional Wisdom

Opening Projected Market Projected DSCR Hotel project date RevPAR ($) RevPAR ($) 10-year avg. (x) Debt structure Security

Austin Convention Center Dec. 2003 114.32 65.52 1.43 $165 mil revenue bonds Hotel net revenues on Enterprises Inc. series 2006A (BBB-/Stable); a first-, second-, and

$95.17 million revenue bonds third-lien basisseries 2006B (BB/Stable); $15 mil revenue bonds series 2006C

Baltimore Hotel Corp. Aug. 2008 123.96 112.43 1.67 $247.5 mil convention center First-lien on the landhotel senior revenue series and hotel project2006A (BBB-/Stable); $54.2mil convention center subordinaterevenue series 2006B (BB/Stable)

Denver Convention Dec. 2005 97.21 69.53 1.7 $356.7 mil. senior revenue Hotel net revenues and Center Hotel Authority bonds (BBB-/Stable) fixed contributions from

the city of Denver

San Antonio Convention Center Feb. 2008 102.64 104.45 1.91 $129.93 mil. revenue Hotel net revenues, Hotel Finance Corp. empowerment zone bonds all property owned by

series 2005A (BBB-/Negative); the issuer, and city tax $78.216 mil taxable contract revenues pledgedrevenue bonds series 2005B (BBB-/Negative)

RevPar—Revenue per available room. DSCR—Debt-service coverage ratio.

Hotel Project Peer Comparisons


S ince the IRS ruled in October 2003 thatcertain municipal entities could use pro-

ceeds of tax-exempt debt to prepay for thefuture delivery of natural gas and electricpower, Standard & Poor’s Ratings Serviceshas observed a growing interest in prepaytransactions. As more deals have come tomarket, structural differences have emergedrelated to the forms of credit enhancementused to insulate bondholders from the creditrisks of the municipal participants, early ter-mination payment calculation methodology,liquidity reserves, and contract terms. Thestructural changes have improved the efficiencyof the transactions while still achieving thesame credit rating as the gas supplier.

The subtle differences between transac-tions, even in serial transactions by the sameissuer, requires that we thoroughly revieweach of the contracts and associated agree-ments to ensure that the structural changeswill not affect the credit ratings during thedeal’s lifespan. Bondholders may bear somerisk arising from the structure itself. Althoughthese risks typically do not outweigh thecredit risks of the various counterparties inperforming their obligations, bondholdersshould be aware of where even the best ofintentions can go wrong.

How Prepaid Gas Transactions Typically WorkA municipal utility or joint action agency cre-ates a special-purpose entity to issue tax-exempt bonds. Bond proceeds are sent on toa natural gas supplier to prepay for gas onbehalf of the entity itself or its members. Thegas supplier commits to deliver predeter-mined quantities of gas according to a sched-ule that may be fixed or shaped to reflect sea-sonal demand. Either way, it is importantthat the structure aligns the retail revenuesand debt-service payments. The amount andschedule of the gas is based on the forwardprices of gas and a time value of money thatis below the gas supplier’s current debt cost.Retail revenues come from reselling the gas tothe municipal participants that use the natural

gas in a local distribution system or for elec-tric generation. The municipal parties pay theissuer for the gas received at an indexed priceminus a fixed discount.

Because the transaction is created withindexed gas prices, the issuer enters into acommodity price swap agreement. The agree-ment exchanges the indexed-based revenuesfor fixed payments, which are modestly high-er than the issuer’s debt-service requirements.The surplus cash flow is accumulated in con-tingency reserves, and paid to the municipalparticipants as an annual rebate. If the trans-action includes variable-rate debt, the issuerenters into an interest-rate swap to align thefixed payment received from the commodityswap counterparty with the variable obliga-tions associated with the variable rate debt.

Key risk mitigants in a gas prepay transac-tion are the guarantee of the gas supplier’sperformance by a highly rated counterpartyand financial compensation to the municipalparticipants if the agreed-on quantity of gasis not delivered. Liquidity reserves, requiredgas remarketings to other entities in the eventof a participant default, and early terminationat par under certain circumstances protect thebondholders. These transactions are struc-tured such that bondholders are exposed pri-marily, but not solely, to the willingness andability of the gas supplier to meet its obliga-tions under the various transaction docu-ments. As a result, the ratings on these trans-actions are typically linked to the lowest-rated counterparty in the transaction which isusually the gas supplier.

Regardless of the structure’s contractualnature, each municipal participant’s economicinterest is to receive specified commodity vol-umes at an indexed price minus a fixed dis-count. The discount is generated by the posi-tive carry between the cost of the tax-exemptdebt and the higher costs of capital associatedwith a taxable gas supplier.

Approaches To Credit EnhancementPrepaid gas transactions contain variousforms of credit enhancements to eliminate the

Analysts:

Kenneth L. FarerNew York (1) 212-438-1679

Michael MesserNew York (1) 212-438-1618

All U.S. Prepaid Natural GasTransactions Are CreatedEqual...Or Are They?

credit risk associated with the municipal par-ticipants, and to make bondholders indifferentto the variability of gas prices and interestrates. The transaction’s structure is designedto shift almost all of the credit risk to the gassupplier. As such, ratings on these transactionsmainly reflect the ratings of the gas suppliersand not those of the underlying municipalparticipants. The way in which the municipalparticipants’ payment risks are mitigated inindividual transactions has changed since theinception of the gas prepayment model. Theearliest prepay transactions focused on provid-ing immediate termination at par for a singleparticipant default that the gas supplier wouldfund and a cash funded liquidity reservewould support any interim debt service. Morerecently, cash funded reserves have beendeemphasized in favor of surety-fundedreserves that allow transactions to continuedespite a participant default.

For example, as the number of participantsin transactions has increased over time, struc-tures have adapted to allow one or even sev-eral participants to default without unwind-ing the entire transaction. This is accom-plished through either a surety policy thedirectly “wraps” the payment obligation ofeach individual participant or a reserve fundthat can provide enough liquidity for a periodof time sufficient to find a replacement buyerfor the gas if one or more participants defaulton their payment obligations. In theseinstances, the transaction would only unwindif the remarketed gas is sold to entities whose“use” as defined in the tax code wouldendanger the bonds’ tax-exempt treatment.

In the preceding scenario, the surety policyis an example of direct credit enhancementthat can be used to insulate bondholders fromthe risk of a single participant, whereas areserve fund would be an example of indirect


All U.S. Prepaid Natural Gas Transactions Are Created Equal...Or Are They?

Contracted Issue gas volumes

Issuer Series Rating amount (mil. $) (bil. cubic ft.)

American Public Energy Agency 2003A&B AA+/Stable/A-1+ 306.0 83.2

American Public Energy Agency 2005A AA+/Stable/A-1+ 349.8 65.3

Central Plains Energy Project 2007A AA-/Stable/— 240.3 100.0

Central Plains Energy Project 2007B AA-/Stable/— 205.9 —

Florida Gas Utility 2006A-1,2,3,4 AA+/Stable/A-1+ 694.2 150.0

Main Street Natural Gas Inc. 2006A AA-/Stable/— 528.3 217.0

Main Street Natural Gas Inc. 2006B AA-/Stable/— 527.6 —

Main Street Natural Gas Inc. 2007A AA-(prelim)/Stable/— 300.0 129.0

Municipal Gas Authority of Mississippi — AA+/Stable/A-1+ 425.0 87.8

Clarksville Natural Gas Acquisition Corp. 2006 AA-/Stable/— 240.1 41.1

Kentucky Public Energy Authority 2006A AA+/Stable/A-1+ 1,031.0 170.4

Roseville Natural Gas Financing Authority 2007A AA-/Stable/— 197.6 46.0

Tennessee Energy Acquisition Corp 2006A AA-/Stable/A-1+ 1,994.5 510.0

Tennessee Energy Acquisition Corp 2006C AA-/Stable/— 1,060.2 262.0

Texas Municipal Gas Acquisition and Supply Corp. 2006A AA-/Stable/— 485.0 441.0

Texas Municipal Gas Acquisition and Supply Corp. 2006B AA-/Stable/— 1,851.0 —

Northern California Gas Authority No.1 Series A AA-/Stable/— 88.6 146.0

Northern California Gas Authority No.1 Series B AA-/Stable/— 668.5 —

SA Energy Acquisition Public Facility Corp. 2007 AA-(prelim)/Stable/— 730.0 146.0

Texas Municipal Gas Acquisition and Supply Corporation II 2007A & B AA-/Stable/— 1,920.0 354.0

Tennergy Corp. (The) 2007A & B AA-/Stable/— 2,600.0 570.0

Rated Gas Prepay Transactions

The Top Trends

credit enhancement provided by a structuralfeature of the transaction. The major types ofdirect and indirect credit enhancement are dis-cussed below along with our view of howthese structures can affect bondholders.

Direct Credit EnhancementCash-funded reservesThe original form of credit enhancement in gasprepay transactions was cash-funded reserves.These reserves would be drawn on if a partici-pant defaulted on paying upcoming debt ser-vice and to provide liquidity until a designatedtermination date is reached. At that time, thegas supplier repays bondholders at par for theoutstanding balance of the bonds, plus accruedinterest. In these transactions, municipal par-ticipants may invest their revenues with aguaranteed investment contract (GIC) providerthat offers a fixed yield to enhance the transac-tion’s economics. The return on investedmoney generates additional internal cash flowthat may either provide additional liquidity ormay be rebated to the participants as an addi-tional discount. Cash reserves typically containtwo or three months’ of maximum debt ser-vice. Reserve accounts are less common inrecent transactions due to the increased cost tothe issuer compared with surety bonds orinsurance policies.

Direct insurance wraps of municipal participantsSimilar to the receivables purchase agreementdiscussed below, some transactions purchasedan insurance policy that provides funds tomeet payment shortfalls from the municipalparticipants. In the Tennessee EnergyAcquisition Corp. series 2006C transaction,MBIA Insurance Corp. (AAA/Stable/—)issued a $42 million surety bond to provideliquidity if a municipal participant defaulted.The trustee is required to give the suretyprovider two days’ notice to make fundsavailable for a draw, and the surety bond issized to provide three months’ swap pay-ments at the maximum monthly volume, andoperates similar to a debt-service reserve. Therisks of a direct insurance wrap of municipalparticipants are similar to the risks of a cashfunded reserve. Specifically, these policies aretypically capped at a finite amount that couldbe breached if gas prices increase substantially

at the time of the payment default.Furthermore, the rating of the insurer couldconstrain the transaction’s rating if the insureris downgraded below the rating of the gassupplier. Finally, sometimes the terms of theinsurance policy itself can introduce risks thatmust be closely examined to ensure that thereare no circumstances in which the insurerwould not be obligated to make paymentunder the policy.

Surety policies do not typically require thesurety issuer to pay on demand. Standard &Poor’s ratings of prepay transactions that usesurety policies include a review of the suretyagreement’s written terms that should, at aminimum, contain the following concepts:■ Payment does not depend on a determina-

tion of fault or other liability,■ Timely payment of policy claims,■ The insurer’s obligation to pay ranks pari

passu with its other obligations,■ The right to amend or terminate the policy

is restricted,■ Holders of rated securities are beneficiaries

of the policy, and■ The removal of other conditions for payment.

Receivables purchase agreementsOne alternative to a cash-funded reserveaccount is a receivables purchase agreementthat eliminates the credit risk of one or moremunicipal participants, some of which may beunrated or carry ratings that are lower thanthose of other counterparties. Without someform of credit enhancement, the lower-ratedparticipants would result in an overall lowerrating on the transaction because the bond-holders rely on all counterparties within astructure to make payments to maintain debtservice. To avoid this risk, some transactionsrequire the gas supplier to purchase participantreceivables from the issuer, if the issuer doesnot have enough funds to meet its obligationsdue to a municipal participant’s paymentdefault. The gas supplier must pay the receiv-ables on any defaulted amounts on a specificday sufficient to allow the issuer to meet itsfinancial obligations and avoid a default underthe indenture’s terms. The receivables purchaseagreement effectively transfers the municipalparticipants’ credit risk to the gas supplier.

Standard & Poor’s views receivables pur-chase agreements as being a stronger form of


credit enhancement than a cash fundedreserve because it is a more flexible arrange-ment that will allow the gas supplier toassume the credit risk of some participantswhile gas is resold to other, nondefaultingmunicipal entities. This allows the transactionto continue and avoid a mandatory early ter-mination payment. Furthermore, it minimizesthe number of credit exposures in a transac-tion and focuses the structure on the gas sup-plier’s creditworthiness.

In a transaction we rated ‘AA-’ earlier thisyear, The Tennergy Corp. may sell participantreceivables to the JP Morgan Ventures EnergyCorp. (JPMVEC; not rated), the gas supplier, ifone or more participants fails to pay for its con-tracted gas volume. In addition, JPMVEC isrequired to purchase participant receivablesfrom Tennergy to provide sufficient funds tomeet Tennergy’s obligations and avoid a termi-nation event. Tennessee Energy Acquisition’sseries 2006C and Texas Municipal GasAcquisition and Supply Corp. II’s series 2007Aand 2007B transactions have similar provisions.

Indirect Credit EnhancementIn the context of a gas prepayment transac-tion, liquidity is a form of indirect creditenhancement because it allows for the timelypayment of debt service.

Prepay transactions are structured toachieve only 1x debt service coverage. Thisminimal coverage level results from theexchange of earned amounts under the naturalgas supply agreement for a fixed amount ofprincipal and interest paid by the commodityswap provider. Standard & Poor’s does notrequire additional excess cash flow for syn-thetically structured transactions such asthese, because ratings do not rely on theissuer’s cash generating capability, but ratheron the ability and willingness of each coun-terparty to meet their obligations under thetransaction contracts.

Traditionally, prepay transactions include adebt-service reserve and a working capitalreserve, which support the issuer’s ability to payinterest and principal as scheduled. The reservescan be funded with cash or take the form of asurety bond or insurance policy. Similar to otherforms of credit enhancement, these reserves pro-vide some liquidity if a municipal participantdoesn’t pay its obligations.

Debt-service reserveIn a prepay transaction, the debt-servicereserve protects the issuer against a partici-pant payment default. This reserve must besized to fund the principal and interest pay-ments between the date of an early termina-tion event and redemption. In most transac-tions, this equates to two or three months’ ofdebt service. The size of the debt service willreflect a given transaction’s specifics. Forexample, most prepayment transactions willfund three months’ of debt service becausethe structure contemplates that it would takea maximum of 90 days for a payment fault tobe identified, an early termination event to bedeclared, and an early termination paymentpaid. Those transactions that have smaller orlarger debt-service reserves typically haveshorter or longer payment cycles for the par-ticipants or provide for cure periods in whicha defaulting participant can reestablish its eli-gibility to participate in the transaction.

Transactions with large debt-service reservesinclude Main Street Natural Gas Inc. ($145million, 14% of par), Natural Gas AcquisitionCorp. of Clarksville ($27 million, 11%), andCentral Plains Energy Project ($21 million,9%). We have not seen a specific pattern relat-ed to larger or smaller debt-service reservesover time indicating the reserve’s size remainsa significant differentiating factor for thesetransactions, so long as it can provide enoughliquidity to fund debt-service payments beforean early termination payment date.

Working capital reservesA working capital reserve fund protects thecommodity swap provider if participantsdon’t pay the issuer for any delivered gas. Inthis case, the issuer could fail to meet itsobligations to the swap counterparty, becauserequired swap payments are funded from therevenues earned through participant pay-ments. The issuer’s inability to make a timelyswap payment can result in the transactionbeing terminated. Without a working capitalreserve, the issuer would not be able to paythe swap counterparty if gas prices rise abovethe swap price of gas and a participant failsto pay the issuer. In most transactions featur-ing working capital reserves, the issuer hasaccess to a debt-service reserve and, therefore,should be able to meet its next debt-service



The Top Trends

obligations, but a commodity swap termina-tion would nevertheless result in the transac-tion’s termination. Without a commodityswap, bondholders could face debt paymentshortfalls if gas prices declined relative to thenotional price of gas around which the trans-action is structured.

In some prepaid transactions, the size ofthe working capital reserve account has beencalculated based on the maximum monthlyvolumes for two or three months at a pricethat is significantly above the strike price inthe commodity swap. In other cases, the priceof gas is based on two standard deviationsabove historical maximum price levels, whichexceeded $30 per million BTU (mmBTU). Forexample, the working capital reserve in theNorthern California Gas Authority No. 1transaction was sized at $21 million, basedon the maximum three-month expected deliv-eries at a $35 per mmBTU gas price. Theworking capital reserve in the Central PlainsEnergy Project transaction was sized at about$11 million, based on the maximum three-month expected deliveries. The working capi-tal reserve represents about 3% and 4%,respectively, of par in these transactions.

In general, the size of working capitalreserves is decreasing. Smaller reserves pre-sent additional structural risks during risinggas price environments. If working capitalreserves are modestly sized and gas pricesrise substantially relative to the notionalswap price of gas, a participant default couldresult in a payment shortfall that exceeds thesize of the commodity swap reserve. In thisinstance, it is likely that the commodity swapcounterparty could end up with a paymentclaim against the issuer. As a result, in trans-actions with smaller reserves or that do notinclude working capital reserves, it is espe-cially important that any claims by the com-modity swap provider be subordinated todebt-service payments. It is also importantthat the commodity swap provider cannotfile a secured first-priority claim against thetrust estate pledged to bondholders.Therefore, Standard & Poor’s believes thattransactions with larger reserve sizes aremore insulated from these types of legalrisks, especially given the long tenor of thesetransactions and the expectation of long-term increases in gas prices.

Some transactions have been completed withno or materially smaller working capitalreserves. For example, Roseville Natural GasFinancing Authority and Natural GasAcquisition Corp. of Clarksville do not benefitfrom working capital reserves. Therefore, whengas prices are high, bondholders may be exposedto more risk if the participant defaults and thereis no offsetting credit enhancement that is inplace to make sure that obligations due to theswap provider can be satisfied. The smallerworking capital reserve sizing is generally not afactor in assigning ratings to these transactions ifStandard & Poor’s feels that the transaction’slegal structure protects bondholders from therisk of any swap counterparty exerting a claimagainst the trust estate. In transactions with asmall or nonexistent working capital reserve,Standard & Poor’s requires that any swap coun-terparty claims be subordinated and unsecuredto protect bondholders against these risks. Theselegal risks are also mitigated if there is swapreplacement language that requires the trustee tofind a new swap counterparty within a reason-able amount of time or force a mandatoryredemption of the bonds.

Transactions with relatively low workingcapital reserves are Texas Municipal GasAcquisition and Supply Corp. I ($7 million,0.3% of par), Texas Municipal GasAcquisition and Supply Corp. II ($11 million,0.6%), and Public Energy Agency ofKentucky ($3.5 million, 0.3%).

Combined reservesSeveral transactions have combined the debtservice and working capital reserves. Examplesof transactions with combined reserves areRoseville Natural Gas Financing Authority($31 million, 16% of par) and TennesseeEnergy Acquisition 2006C ($42 million, 4%).We do not differentiate the ratings on thesetransactions as long as there is enough moneyin the reserve to cover the required paymentsfrom the termination date to redemption datefor debt service and swap payments.

Other sources of liquiditySome transactions have included uniquesources of liquidity, which provide enoughcash to meet debt-service requirements duringan early termination event or ensure there aresufficient funds to redeem the outstanding


bonds. The inclusion of these reserves hasbecome less common in recent transactions.

Early termination reserveCentral Plains Energy Project has a $4.4 mil-lion early termination reserve, and TennesseeEnergy Acquisition’s $1.06 billion series2006C transaction has one with $12.7 mil-lion. The early termination reserve is avail-able to pay bondholders if an early termina-tion event is declared and debt service is duebefore the bonds’ redemption date. Thisreserve is sized at the maximum differencebetween the debt-service reserve account andthis debt-service payment owed on the bondsover a one-month period. In most transac-tions, an early termination reserve is not nec-essary as the debt-service reserve functions ina similar manner.

Subordinate debt fundingTennessee Energy Acquisition’s series 2006Atransaction included the issuance of about$130 million of unrated subordinated notes.The proceeds of the subordinated debt fundedthe costs of issuance, capitalized interest, andvarious reserve accounts. Most transactionshave not used this structure because access tosurety bonds and other forms of liquidity isreadily available and less costly to implement.

Standby bond-repurchase agreements (SBRA)Municipal Gas Authority of Mississippi andPublic Energy Agency of Kentucky are eachstructured with an SBRA. The SBRAs aresized to provide 35 days’ interest at the maxi-mum rate of 12% based on a 365-day year.These agreements provide liquidity in vari-able rate transactions as a third-party hasagreed to advance funds to the trustee tocomplete the periodic remarketing process,but do not provide any additional structuralsupport to warrant a higher rating.

Early Termination PaymentPrepay transactions include various provisionsthat could trigger an early termination eventbased on the payment and performance of thecounterparties. Over the past few years,Standard & Poor’s has rated a number ofprepay transactions, which uniquely handlethe payment obligations of the various coun-terparties. In each of these structures, the early

termination payment is sufficient to redeemthe outstanding principal plus accrued interest.

Transactions have approached various risksthat trigger an early termination in differentmanners. For example, some transactionshave more expansive early termination trig-gers that encompass a wide range of events inwhich the gas supplier will be liable for mak-ing an early termination payment. More liberalearly termination triggers may cover a changein law that results in the gas supplier’s deliv-ery or issuer’s acceptance of gas under the pre-paid contract being deemed unlawful as anevent of default, whereas other transactionsmore carefully limit the liability of gas suppli-ers to make termination payments only due toa performance default on their own part. Ingeneral, more expansively written early termi-nation triggers will give greater support tobondholders, who may rely on repayment bya highly rated counterparty even if tax lawschange or other features outside of the trans-action participants’ direct control change. Ofcourse, these triggers increase the prepaymentrisk that bondholders bear when investing inthese same securities.

In addition to the actual trigger eventsassociated with an early termination, themanner in which the actual early terminationamount is calculated will have credit implica-tions for bondholders. The different ways inwhich these payments are calculated and theireffect on credit are described in detail below.

Fixed termination paymentTransactions that require the gas supplier topay an amount based on a fixed scheduled tofund an early termination payment tend toentail the most risk for bondholders becausethese transactions often require variousreserve accounts to be fully funded to bridgeany shortfall between the specified fixed pay-ment amount owed by the gas supplier andthe actual amount that is needed to redeemthe outstanding bonds.

Transactions using this structure require allcounterparties—the gas supplier, commodityswap counterparty, interest rate swap coun-terparty, and GIC provider—to perform forthe issuer to have sufficient funds to redeemthe bonds. As such, transactions using thismethod of funding the early termination pay-ment entail greater structural risk than those



The Top Trends

with a formula-based or full-repayment struc-ture. Some transactions that use this structureare SA Energy Acquisition Public FacilityCorp., Central Plains Energy Project, andAmerican Public Energy Agency 2005.

Formula-based termination paymentOther transactions require the gas supplier topay an amount equal to the outstanding prin-cipal of the bonds plus any accrued interestminus the available reserves to fund an earlytermination payment. Through this structure,the gas supplier provides extra protection forbondholders because the early terminationamount will reflect the total required amount,irrespective of funding levels in reserveaccounts making the over all termination atpar less dependent on payments from swapcounterparties and interest earnings fromqualified investments.

In the Tennergy transaction, the gas supplier’stermination payment is equal to the outstand-ing principal plus redemption premiums,accrued interest, any termination costsincurred by the issuer related to interest rateand commodity swaps, and the present valueof the unrealized savings, minus the currentbalances of the debt service and working capi-tal funds. Under this formula-based approach,it is clear that any ancillary costs that couldarise related to a termination are explicitlyborne by the gas suppliers (including swaptermination costs) and shortfalls would notresult due to an earlier draw on either thedebt service or working capital fund that thecash waterfall had not yet replenished.

Full repayment of outstanding principal and interest by the gas supplierA recent proposed transaction requires thegas supplier to pay an amount equal to

the outstanding principal of the bondsplus any accrued interest. After the notes’redemption, the remaining balance in anyreserve funds is remitted to the gas supplier.This structure puts all of the perfor-mance and credit risk on the gas supplierand eliminates the other counterparties’credit risk.

Summing UpAlthough gas prepay transactions are struc-tured to receive the rating of the gas supplier,credit-enhancement mechanisms used toachieve the desired rating differ and presentvarying degrees of structural risk for bond-holders. Given the complexity of these trans-actions, the relative credit implications ofthese differences may not always be appar-ent, but they are nonetheless carefullyweighed in the ratings process. For every riskthat Standard & Poor’s identifies arisingfrom the structure itself, one or more offset-ting factors are present to provide reasonablecomfort that the structural risks do not ulti-mately outweigh the credit risks of the pri-mary counterparties. If this were true,assigned ratings would be much lower thaneven the ratings of the lowest-rated counter-party in the transaction.

Nonetheless, it is worth noting that notransaction is fool-proof. Gas prepaymenttransactions are structured to withstand ahigh degree of legal and credit stress, butbondholders are well advised to understandthat even the most well structured prepay-ment transaction has limitations on the typeof credit enhancement and protection itaffords. The preceding discussion providessome context for where the more subtle pres-sure points of the structure itself are likely tobe found. ■


Over the past year, Standard & Poor’sRatings Services has assigned ratings to

about $7 billion of municipal prepaid naturalgas transactions. In these structured transac-tions, joint powers authorities (JPA), acting asconduit issuers, have issued debt on behalf ofmunicipal electric and gas distribution utilitiesfor the purpose of prepaying all or a portion oftheir future gas needs, most often for a periodranging from 10 to 20 years. These financingsare accomplished by JPAs borrowing money tomake the advance payments for long-term sup-plies of natural gas. As a result of the prepay-ment, municipal utilities receive discountedprices for their gas supplies. The level of thesavings is tied to the time value of the moneyreceived by the supplier as a prepayment.

Standard & Poor’s treats suppliers of pre-paid natural gas transactions as having bor-rowed money and incurred debt when theyreceive a prepayment. Yet, we do not treatthe municipal utility gas off-takers as havingincurred debt for purposes of calculating theiradjusted debt service coverage calculations.

The principal drivers behind our analyticalconclusions are the credit-protectivecovenants provided by the supplier or itsguarantor that keep the municipal partici-pants and their bondholders whole. Pursuantto their terms, these structured transactionsterminate and the bonds are redeemed if thesupplier cannot deliver gas beyond certainthreshold periods. We view these covenantsas converting the municipal off-takers’ con-tractual obligations into contingent obliga-tions without debt-like attributes.

After a JPA makes a prepayment, themunicipal utilities that have committed totake the gas make periodic gas-procurementpayments to the JPA as the gas is delivered.The municipalities treat these payments asoperating expenses, just as they had treatedmarket or other contracted gas purchases asoperating expenses before entering into theprepayment transaction. The municipal utili-ties’ periodic payments service the JPA debt.

In a very limited number of cases, the pre-payment translates into a fixed payment per

million BTU (mmBTU) of gas at the munici-pality level and this payment mirrors debt ser-vice on the JPA debt. In most cases, however,swaps are used to provide the municipalitieswith gas prices that track prevailing marketprices and upward and downward movementsin those prices. In both the fixed price andvariable price transactions, the unit cost of thenatural gas to the municipalities is discountedto reflect the economics of the transaction. Inthose cases where the price of the natural gasis variable and tied to the market, a furtherswap is required to maintain an alignmentbetween the payments made by the municipal-ities and the amounts required to pay debtservice on the JPA obligations.

The contractual ties between municipal utili-ties that participate in a gas prepayment andthe JPA that has procured the gas might sug-gest that there are strong similarities betweenprepayment transactions and the contractualcommitments created in connection with thejoint development of generation resources bymunicipalities through JPA structures.However, we make some important distinc-tions between these two types of financingswhen evaluating the credit implications for themunicipal participants in these transactions.

While Standard & Poor’s calculates afixed-charge coverage to account for munici-pal utilities’ contractual shares of debt servicethat has funded the joint development ofpower plants, we do not adjust our fixed-charge coverage calculations to capture thecontractual obligations associated with a gasprepayment. We differentiate between thesetypes of financings due to the structural dis-tinctions as well as differences in the certaintyof the obligations presented by these types offinancings. We do, however, treat the prepay-ment as a debt obligation of the supplier. Weview the supplier as having borrowed moneyfrom the JPA and the debt obligation is essen-tially repayable in gas molecules.

When municipal utilities band together tobuild electric generation capacity to achieveeconomies of scale, they typically enter into“hell-or-high-water” contracts that obligate

Analysts:

David BodekNew York (1) 212-438-7969

Chinelo ChidozieNew York (1) 212-438-3076

Peter V. MurphyNew York (1) 212-438-2065


Debt Not Imputed To MunicipalUtilities In Structured PrepaidNatural Gas Transactions


The Top Trends

them to pay a specified percentage of debt ser-vice and operating expenses associated withtheir ownership shares in the plants. Althougheach municipal participant’s share of projectdebt service is paid to the JPA as an operatingexpense, this component of operating expenseshas debt-service-like attributes because it is anirrevocable fixed obligation that must be paiduntil the related debt has been retired. Byentering into such a contract, it is as thougheach participating municipality directlyfinanced and built the electric generating facil-ity. Moreover, the participating municipal util-ities assume shares of plant operating risksbecause the obligation to pay project debt ser-vice as an operating expense does not abate ifthe plant is not running. Therefore, we adjusteach participating municipality’s fixed chargecoverage to capture the debt-like nature ofthis portion of operating expenses. Thisadjustment is made by removing each partici-pant’s share of JPA debt service from its oper-ating expenses in the numerator of the debtservice coverage calculation equation and theaddition of the share of JPA debt service tothe equation’s denominator.

While natural gas prepay agreements sharesome attributes of a JPA power plant financ-ing, Standard & Poor’s views these obliga-tions as meaningfully distinguishable fromparticipation in a JPA for power plant financ-ing. Although a contractual obligation, foranalytical purposes a prepayment obligationthat is contingent on supplier performance isviewed as distinguishable from the debt-like,long-term irrevocable commitments associat-ed with investments in power plants.

Unlike participants in jointly developedgeneration projects, municipalities that partic-ipate in natural gas prepay transactions areshielded from supplier risk and operatingrisk. To induce municipalities to participatein prepayment transactions, the municipalparticipants need assurances that the supplierwill either perform throughout the durationof the transaction or, alternatively, keep themunicipalities whole if the supplier cannotperform so that the municipal off-takers donot find themselves paying twice for quanti-ties of gas. Such assurances are provided byeither highly rated counterparties or guaran-tors of the supply obligation that covenant to

keep the participants whole if the supplierdefaults. Typically, these guarantees consist ofmechanisms that obligate the counterparty orits guarantor to tender make-whole paymentsto the municipal off-takers that cover short-term supply disruptions. In the case of longerdisruptions that exceed certain specified peri-ods of time, the counterparty or its guarantorbecomes obligated to provide the funds neces-sary for the redemption of the remaining JPAbonds issued to fund the prepayment. Thethreshold period during which a supplierdefault may continue before a bond redemp-tion is triggered is calculated with referenceto the amount of cash reserves held to coversuch contingencies. Bond redemptions mustredeem all outstanding bonds. It is the pres-ence of these covenants that have enabledStandard & Poor’s to conclude that the con-version of a portion of operating expensesinto fixed, long-term contractual obligationsdoes not warrant debt-like treatment whencalculating the adjusted financial metrics of amunicipal participant that is a party to a nat-ural gas prepayment transaction. It is for thisreason that the prepayment transactions aretypically rated to the credit quality of thecounterparty or its guarantor.

The analytical conclusion that municipali-ties’ financial metrics are not adjusted toreflect participation in a prepayment transac-tion is further supported by the frequent pres-ence of additional credit protective measures inthe prepayment transactions’ financing struc-ture. For example, these transactions common-ly include a requirement that a remarketingagent be appointed to resell any gas allotted tothe off-takers that they are incapable of usingfrom time-to-time. There is evidence fromrecent prepayment transactions that remarket-ing is readily accomplished in the very liquidnatural gas markets because the prepaid gas isattractively priced as discounted “indexminus” gas. Proceeds of any remarketing areapplied to the payment of debt service in lieuof the amounts that would have otherwisebeen derived from the municipal utilities.

Finally, each of the structured prepaymenttransactions evaluated to date has involvedthe use of a JPA as a financing vehicle toavoid the addition of debt directly to the off-takers’ balance sheets. ■


This could be a breakout year for manyU.S. transportation public-private partner-

ship (PPP) transactions long in the planningstages. Three months into 2007, progress hasalready been observed on several projects,including the Texas Department ofTransportation’s (TxDOT) selection of CintraConcesiones de Infraestructuras deTransporte’s $2.8 billion bid for the 26-mileState Highway 121 and Florida Departmentof Transportation’s (FDOT) receipt of threebids to design, build, finance, and operate thePort of Miami Tunnel. With a deep pool ofglobal infrastructure funds lining up, PPPs(also referred to as “P3s”) are now part ofthe dialogue for roadway and related inter-modal projects—even in jurisdictions wherethe legal framework is still undeveloped.

As project sponsors and other participantsare observing, however, the path to financialclose can be long and, as recent events havehighlighted, rife with obstacles. Users, thegeneral public, and elected officials areincreasingly examining the financial details ofthe concession agreements as well as thebroader public policy and political implica-tions of PPPs. This is not surprising, given therelative early stage of development in the U.S.transportation market. As highlighted in our2005 report titled “Can Public-PrivatePartnerships Advance U.S. RoadwayInfrastructure Development?” we did notexpect a single U.S. PPP model or template todevelop, leaving project sponsors, concessiongrantors, regulators, and advisors with thetask of negotiating concession agreementsand educating stakeholders on a state-by-state, project-by-project basis.

As PPP transactions become more andmore popular, questions persist: Will the PPPmodel be left standing alone as a uniquefinancing, project delivery, and operationalmodel? Or will it be led to the door of broad-er acceptance by market participants?Standard & Poor’s expects the use of PPPs toexpand, albeit slowly, both for new capacity-enhancing projects and to leverage existinginfrastructure. Though the number of com-

pleted transactions to date is small, we areobserving a variety of developments that con-tinue to shape the market. The extent towhich they evolve into trends, however,remains to be seen.

Differing Asset ValuationsProject sponsors are undertaking a variety ofasset valuation strategies when developingbids, both for existing and new projects. In theend, however, a lack of comparable assets orbenchmarks most often results in the use ofthe discounted cash flow analysis. For toll pro-jects, this approach ultimately returns to thekey value drivers: forecast demand and priceelasticity under the envisioned concessionscheme. Sponsors, lenders, and often conces-sion grantors rely on a variety of consultingfirms that employ complicated traffic modelingtechniques to forecast toll revenues. Theseforecasts, in turn, are folded into assumptionsregarding future non-operating revenues,annual maintenance, capital expenditures, andother concession company future obligations.

In terms of tolled assets, we have observedquite a range of both forecast gross revenuesand net operating income globally, even whenadjusting for several basic assumptions relat-ing to interest rates, inflation, and tollingregime. Of course, minor variances in theearly years compound over time and result indifferent asset valuations by the end of theconcession term. Some variances can beexplained with differing value of timeassumptions, future road network assump-tions, tolling strategies, and other modelinputs. Even the most sophisticated models,however, cannot capture the inherent road-way system complexities measured in vehiclemiles traveled or the preferred industry stan-dard average annual daily traffic. Still, therange of revenue projections for the sameasset can be quite disparate and, given theconfidentiality and competitiveness of theconcession process, there is not sufficienttransparency in the market to allow for a fullreview of bids and those assumptions used toderive them.

Analysts:

Matthew HobbyNew York (1) 212-438-6441


U.S. Transportation’s PPP Market Continues Down A Long And Winding Road


The Top Trends

Sponsors’ revenue forecasts provide ananalytical starting point by clearly definingthe underlying assumptions for key variablesand their interrelationships. This enables usto assess the robustness of model outputs anddevise an appropriate program of sensitivitytests to be run through the financial model toarrive at a range of revenue consistent withconservative, long-term growth rates.

Advancing Legal FrameworkWhile approximately 25 states have passedstatutes permitting some form of PPP, sever-al—including Virginia and Texas—have clearlyled the way with respect to advancing appli-cation of the model. Given the needs of fast-growing states in the South and West—suchas Georgia, Florida, Nevada, and Arizona—and the appeal of long-term asset concessionleases by established network operators in theNortheast and Midwest states—such asPennsylvania, New Jersey, and Ohio—-weexpect the evolution of the legal and contrac-tual arrangements of PPPs to continue. Eachiteration is expected to push the limits ofwhat private sponsors view as acceptable risktransfer as it relates to construction, termina-tion, long-term utility costs, noncompeteclauses, and key control or oversight provi-sions embodied in the concession agreement.Given the appeal to investors of transporta-tion infrastructure as an asset class, publicowners/operators would appear to be in astrong position to shift risk to sponsors who,in turn, look to lay off risk to construction/joint venture partners, design-build contrac-tors, operators, insurers, lenders, and otherparticipants. We expect to see additionalstates move toward adopting and approvingchanges in law allowing them to at leastconsider PPPs.

Concession terms—which started out at 99years for Chicago Skyway, 75 years for theIndiana Toll Road, 50 years on the Texas StateHighway 121 tolled concession, and 35 yearson the Port of Miami Tunnel project—are like-ly to vary by project, with shorter terms fornew greenfield projects and longer terms forexisting brownfield assets where maximumvalue extraction is the desired objective. Forexample, in 2006, the Virginia Department ofTransportation entered into a 99-year leasewith Transurban for the Pocahontas Parkway

(bonds rated ‘BB-’ with a negative outlookprior to being defeased), which was experienc-ing traffic and revenues below forecasted lev-els. Overall, we do not expect to see many 99-year leases for new projects or concession leas-es for major roadway assets.

Evolving Regulatory And Political EnvironmentAs expected, the PPP model is generatinghealthy discussion and debate in the U.S. atboth the local and federal levels. In addition,despite the prominence of international con-sortia and investors in the early PPP market,the U.S. toll and surface transportation sectorhas yet to experience the degree of concernregarding foreign control of infrastructureassets that was seen during last year’s Dubaiports controversy. However, the lack of U.S.investors or operators may contribute to thearguments of PPP opponents and delay pro-jects. In addition, the increased discussionsurrounding PPPs in the U.S. could have theeffect of slowing its application.

At the federal level, the appointment ofMary Peters to U.S. Secretary ofTransportation was a step toward advancingprivate sector participation in expandinginfrastructure. Ms. Peters is a strong propo-nent of PPPs and the former administrator ofthe Federal Highway Administration.Politically speaking, the advocacy of PPPs hasnot split down partisan lines. However, witha new majority in Congress, the chairmanshipof transportation-related oversight commit-tees has returned to long-time Democratswith a more traditional view of federal gov-ernment-financed projects. Indeed, manyhave questioned the U.S. Department ofTransportation’s (USDOT) role in advocatingPPPs. In addition, labor and commercialtransport and trucking interests, which gener-ally oppose tolling, have been advancing theirviewpoint—along with PPP proponents—tothe Congressionally authorized NationalSurface Transportation Policy and RevenueCommission, a 12-member task force explor-ing alternatives to replace or supplement thefuel tax as the principal revenue source tosupport the Highway Trust Fund. We antici-pate that PPPs will be further debated anddeveloped in advance of the next HighwayReauthorization Act in 2009.


At the local level, changes in the PPP land-scape in Texas are likely as the state legisla-ture considers a number of alternatives, rang-ing from a two-year moratorium on privateequity toll roads to requiring more legislativeoversight of TxDOT. What ultimatelybecomes law remains to be seen, but anymodifications to the process that increasetime or alter the risk-reward calculus—or,most importantly, inhibit the ability of theoperator to increase tolls consistent with theprovisions of the concession agreement—could have the effect of slowing or stoppingthe state’s long list of projects exploring PPPs.In the Northeast, Morgan Stanley & Co. hasbeen selected to assist Pennsylvania in evalu-ating options for funding its transportationneeds, including the potential lease of the172-mile Pennsylvania Turnpike. In NewJersey, Gov. Jon Corzine is considering a vari-ety of options related to leasing the NewJersey Turnpike System, the South JerseyTransportation Authority (Atlantic CityExpressway), and other state assets. FloridaGov. Charlie Crist and the state legislatureare considering legislation to expand highwaydevelopment by allowing FDOT to lease itsfacilities (excluding the Florida TurnpikeEnterprise) for up to 75 years. In Virginia,several PPP projects are slowly working theirway through the approval process. However,the concession of the existing Dulles TollRoad to a private operator was pre-empted in2006 when the Metropolitan WashingtonAirports Authority offered to assume opera-tions and use toll revenues to finance theextension of regional rail to DullesInternational Airport.

Bank Options Versus Bond OptionsThe option of using insured or uninsuredbank loans is proving to be attractive forsome project sponsors who typically pursueparallel financing alternatives during the bidphase of PPP projects. Many projects use“mini-perm” bridge loans with medium-termmaturities, little or no principal amortization,and bullet payments with refinancingassumptions to fund projects until revenuegeneration rises to meet forecasts. Mini-permloans are not intended to be permanentfinancing; they frequently employ methodssuch as cash sweeps as incentive to refinance.

These loans are generally unrated, as spon-sors and winning consortia prefer not to pub-licly disclose proprietary funding structures.Given the strong market and investor interest,we expect the bank market to remain a com-petitive option for projects sponsors.

Mix Of Funding And Financing StrategiesAs states examine projects with economicsunlikely to be fully supported by tolls, a vari-ety of funding and financing options areoften employed to advance projects. Amongthese options are partial pledges of federalgrant reimbursements; state general fund anddedicated transportation revenue; and pay-ment mechanisms to project sponsors basedon availability payments, shadow tolling, or acombination whereby project sponsors arepermitted to toll the project and bid on anavailability payment stream to the extent nec-essary. The first major U.S. transportationavailability payment project is FDOT’s Portof Miami Tunnel. TxDOT has implementedseveral pass-through or shadow toll agree-ments with local governments, and plans toenter into agreements with private projectsponsors. Missouri is also soliciting bids torehabilitate and replace and maintain approx-imately 800 bridges through a paymentmechanism based on project completion.

Project credit ratings are typically con-strained in the near term by constructionrisk and a lack of operating history.Standard & Poor’s view of availability pay-ments from unrated sources or from a stategeneral fund cannot be determined withouta full review of the security provisions, thebudgeting and appropriation process, anddiscussions with state officials regarding theaccounting of availability payments andpotential concession termination payments.Factoring in these considerations may varyby project and state, and could result in rat-ings below that of a state’s lease rating. Evenwith possible upside limitations, availability-based projects do have appeal and indeedmay be necessary to advance transportationinfrastructure investment—particularly forgreenfield projects.

Role Of TIFIA Debt In PPPsUSDOT’s credit program authorized under theTransportation Infrastructure Finance and


U.S. Transportation’s PPP Market Continues Down A Long And Winding Road

The Top Trends

Innovation Act (TIFIA) of 1998 has provided$3.2 billion in assistance to projects that meetthe “projects of national or regional signifi-cance” criteria. Most assistance has been inthe form of direct loans to projects of publicor bankruptcy-remote issuers, including a widearray of infrastructure, such as rail, roadway,bridges, intermodal centers, and ferries. WhileUSDOT intercreditor agreements can accept ajunior lien on revenues, its claim on revenuesmust spring to parity with senior-lien bond-holders in the event of a bankruptcy, insolvency,or liquidation of the project obligor.

To date, USDOT has originated one loanto a private sector project sponsor: a $140million loan for California’s State Route125/South Bay Expressway, a 12.5-mile tollroad operated by San Diego ExpresswayLimited Partnership and scheduled to openmid-2007. However, it appears that theadditional leverage that can be afforded bya TIFIA program loan may be limited bythe extent to which market lenders view aprivate concession company as more likelyto default resulting in the TIFIA lender ris-ing to parity with other senior lenders. This

view is likely to be compounded by lever-aged project financial structures and seniorlender protections regarding amortizationor cash traps that could delay or preventpayment of TIFIA debt service subordinatedin the cash flow. Standard & Poor’s willevaluate the specifics of the transaction andfinal documentation for the purposes ofdetermining the effect TIFIA loan programswill have on project leverage levels andcredit quality.

Related ArticlesFor more information on PPPs, please see thefollowing articles published on RatingsDirect:■ “Credit FAQ: How Texas Is Addressing Its

Transportation Needs With Pass-ThroughFinancing”

■ “Global Infrastructure Assets And HighlyLeveraged Concessions Raise New RatingConsiderations”

■ “Public-Private Partnerships Are GainingTraction In U.S. Transportation”

■ “Credit FAQ: Assessing The Credit QualityOf Highly Leveraged Deep-Future Toll-Road Concessions” ■


OverviewSince the groundbreaking Chicago Skywaytransaction in late 2004 (Skyway ConcessionCompany LLOC), Standard & Poor’s RatingsServices has observed rapid growth globallyin accreting debt and swap structures appliedto project finance infrastructure transactions.Infrastructure is one of the hottest asset classes,with private and public pension fund equityand various long-term debt providers signifi-cantly funding long-term concessions orinfrastructure-asset purchases.

In some transactions we have observed,accreting debt and swap structures havefacilitated significant acquisition premiums(or refinancing gains). This is becauseaccreting debt allows the partial deferral ofinterest payments to reduce debt serviceearly in the concession or provides an addi-tional non-operating source of funds to theproject in the form of payments from anaccreting swap early in a concession. Thecash flow effects of a deferral of interestpayments or the addition of swap inflows tooperating revenue results in overstated debtservice coverage ratios (DSCRs) that, inturn, allow for the tailoring of debt serviceto meet a project’s early-year cash flow defi-ciency and, in many instances, early out-flows in the form of equity distributions.Without these structural features, a highlyleveraged project’s net cash flows availableto service debt early in the concession wouldnot meet debt service obligations under atraditional amortizing or even interest-onlydebt service profile.

Simple economics of numerous global capi-tal pools pursuing a limited number of conces-sions or acquisition targets results in pre-dictably high valuation multiples, boosted byfinancial structures that front-load dividendsand returns to equity while risk for debt hold-ers lies toward the end of a concession. As aresult, metrics such as enterprise value-to-EBITDA and debt-to-EBITDA, on a currentand pro forma basis, have become increasinglyaggressive in a relatively short period whileinvestors still assume these to be investment-

grade structures. Given that business risk hasnot shifted, this could be a challengingassumption. Moreover, the acquisition multi-ples are considerably higher for many infra-structure financings than investment-gradeM&A transactions in other sectors. In thenear term, the recent shift to conservatism incredit sentiment by lenders (as demonstratedby stricter covenant requirements, tighter loanunderwriting standards, less aggressive struc-tures, etc.), together with a rise in nominalinterest rates, could curb the fairly aggressivedebt financing structures observed in manyrecent long-term infrastructure concessionsand acquisitions. In the long term, we expectinfrastructure assets to maintain their appealgiven generally solid business positions andability to leverage relatively stable cash flowsthrough long-dated concessions—permittinglong-term debt maturities.

This report follows “Credit FAQ: AssessingThe Credit Quality Of Highly LeveragedDeep-Future Toll-Road Concessions” and“Global Infrastructure Assets And HighlyLeveraged Concessions Raise New RatingConsiderations.” This article expands upontopics addressed in the previous reports andprovides analytical insight to our approach inevaluating accreting debt within projectfinance transactions.

Overall, Standard & Poor’s believes thatinfrastructure financings for long-term con-cessions capitalized with accreting debt canachieve investment-grade ratings; however,there are several key factors that will differ-entiate—in combination with the assetsunder consideration—investment-gradestructures from those exhibiting speculative-grade characteristics. In particular, at theinvestment-grade level, we place greateremphasis on distribution test multiples,potential cash lock-ups and sweeps, examin-ing the percentage of accretion relative tototal debt at transaction inception—with lit-tle-to-none for short-term concessions (forexample, 20-35 years), limits to additionalindebtedness, and emphasize the risk/rewardallocation between sponsors and lenders.

Analysts:





Santiago CarniadoMexico City (52) 55-5081-4413


Accreting Debt Obligations AndThe Road To Investment Grade For Infrastructure Concessions


The Top Trends

Frequently Asked Questions

Question 1: Does accreting debt increase the probabilityof default for an infrastructure project?Yes and no. In the early years of an accretingdebt structure, the probability of default islower compared with that of a traditionalamortizing structure, as the debt service isartificially low. However, toward the middleand end of the concession, when higheraccreted debt balances amortize or when bul-let payments are due as the risk of refinancingis introduced while performance risk can haveincreased at an even higher debt burden. Atthis point, default risk increases significantly.

Compared to an amortizing profile—all elsebeing equal, including the proportion of equitycontribution to a project—an accreting debtstructure will have weaker credit quality.Accreting debt establishes a more aggressivefinancial risk profile and defers repayment ofdebt, often well into the future. The longerthe debt repayment profile, the greater thecash flow uncertainty could lead to deteriora-tion in a project’s financial risk profile, therebyraising default risk. Moreover, accreting debtand swap structures allow significant earlyperiod dividends paid to equity sponsors(before debt repayment) as a result of theexcess cash flow produced by the accretion or“deferral” component of the debt structure.This practice and its effect on credit qualityare discussed in Question 6.

Even for infrastructure assets with strongbusiness risk profiles, the presence of accretingdebt in the capital structure would tempercredit quality. Standard & Poor’s believes thatthe more aggressive the financial structure, theless robust the business risk profile; the weakerthe legal provisions and the greater the con-tractual risk allocation to the concessionaire,the weaker the rating on a long-term conces-sion or infrastructure asset will be. In additionto accreting debt’s influence on default proba-bility, characteristics of transactions that, inthe absence of offsetting credit strengths, arelikely to experience weaker debt ratings,include the following:■ A weaker business risk profile. The impor-

tance of the project rationale and businessprofile to credit quality cannot be understat-ed and is discussed more fully in Question 4;

■ A shorter concession term and shorterequity tail;

■ Notable construction risk without commen-surate offsetting third-party credit supports orcost and schedule risk mitigation strategies;

■ Annual increases in debt service paymentsthat significantly exceed those in total pro-ject revenues;

■ Refinancing risk;■ Unhedged currency risk;■ High country risk, including political sta-

bility, currency transferability andexchange matters; and

■ Weak swap or transaction counterparties.

Question 2:Why is early return to equity (through cash distributions) a concern?Project ratings address not only the ability butalso the willingness to pay obligations in fulland on time. An equity party that had alreadyreceived a full return on an investment earlyin the concession would have reduced incen-tive in resolving issues in times of distress, aspreserving the equity return might no longerbe a consideration. As such, where an equityparty reaped a full return in the early stages ofthe concession, Standard & Poor’s wouldwant to be confident that the sponsors hadsufficiently strong incentives to ensure theproject would operate successfully throughoutthe debt’s life. In general, we consider that amore closely aligned interest of debt and equityis a project strength.

In addition, the equity participants,through their agents—management—can alsomake decisions about timing of capital expen-diture and other revenue or profit enhancingmeasures-such as toll increases, which couldbring forward returns at the expense of theproject’s viability.

Question 3:In what asset classes have you observed accreting debt structures?Accreting debt structures arise in volume-dri-ven transactions. The assumption in thesetransactions is that an increasing debt levelcan be absorbed as usage (traffic, tonnage,and containers, for example) and increases inrevenue (usage * tariff/toll increases) generatehigher net cash flows. Assets that lack thischaracteristic will unlikely see accreting debt


as a long-term funding source.The breadth of potential infrastructure

acquisition and concession interests by pri-vate equity and public pension fund sponsorshas increased with project finance structuresbecoming more aggressive and complex.Standard & Poor’s has observed a growinguniverse of potential asset classes to whichlong-term concessions might apply. Some ofthose sectors include airports, port and portterminal operators, parking facilities, tollroads and bridges, water and waste waterfacilities, lotteries, and mass transit projects.Accreting structures are not only found inproject and concession financing but in cor-porate securitizations of the aforementionedsectors as well.

Question 4:Why is the business risk profile so importantto the credit quality of infrastructuretransactions that use accreting debt?A project rating is a composite of many fac-tors. To narrow the analysis to two factors—business and financial risks—some straight-forward observations can be made. Thestronger the business risk profile, the weakerthe financial risk profile (including accretingdebt and swaps) can be to achieve a certainrating, and vice versa. To gauge the appropriatefinancial risk at investment grade, the primefocus should be on the underlying businessrisk. Accordingly, to assess whether at invest-ment grade an accreting debt structure iscommensurate, it is important to understandthe business risk first, hence the importanceof the business risk to the rating

As we view accreting debt structures tobe more aggressive, for a similar rating anaccreting transaction would need to haveother strengths to compensate for thiscredit weakness.

The strong business risk profiles and gener-ally robust cash flow streams of infrastruc-ture assets, together with strong covenantpackages, compliance with SPE bankruptcyremoteness criteria, and supportive structuralfeatures allow infrastructure projects to bemore highly leveraged and use accreting debtcompared with a corporate entity at the samerating level.

A strong business risk profile for long-termconcessions and infrastructure providers

would include a combination of the followingcharacteristics (the listing below does notimply any ranking of relative importance):■ An essential or high-demand service;■ Where user fees are involved, a high

degree of demand inelasticity with respectto rate increases;

■ Monopoly or near-monopoly characteris-tics, or, alternatively, few providers in theindustry with substantial barriers to entryand limited incentives for competitionamong these service providers;

■ A limited reliance on increases in volumegrowth rates (for example, market exposureto traffic, parking activity, tonnage, or mar-itime containers), and aggressive assumptionsof price inelasticity to rate or tariff increasesto meet base case revenue projections;

■ A favorable legal environment and regula-tory regime;

■ Limited government interference probabili-ty, either through public policy changesand/or change-in-law risk;

■ A favorable rate-setting regime, althoughwe recognize that it is rarely unfetteredand, even then, can face challenges orpolitical contention;

■ Strong bargaining power in relation to sup-pliers and customers;

■ Low, contained, or manageable ongoingcapital expenditure requirements;

■ Strong counterparty arrangements with, forexample, contractual offtaker agreementsor remittance of payments from a highlyrated public sector entity;

■ Strong historic track record of the asset. Tothis end, a project that is exposed to green-field or start-up operations with no usagehistory (for example, a complete relianceon independent consultant projections)would be considered to have a weakerbusiness risk profile; and

■ Proven technology for construction andmajor maintenance activities, as applicable.

Question 5:Do you differentiate between the forms of debt increase in an infrastructure transaction?In our credit evaluation of long-term conces-sions, we attempt to understand the economicsubstance and evolving profile of the debt struc-ture: its rise and repayments over time relative to


Accreting Debt Obligations And The Road To Investment Grade For Infrastructure Concessions

The Top Trends

the business risk profile of the project and theterm of the concession. The project debt balancecould increase based on a contractually agreed-to schedule. Alternatively, the debt balance couldvary based on required cash flows procuredfrom an alternate financing source to meet debtservice requirements and equity distribution tar-gets. Finally, the project debt could rise due to adirect contractual link to an inflation index thatincreases during the term of the debt.

Standard & Poor’s has observed severalforms of debt instruments that can cause aproject’s debt to increase early in a concessionand result in overstated traditional DSCRs.For comparative purposes, Standard & Poor’swill also calculate an adjusted DSCR assum-ing the accretion is a debt service cash flowitem (see Question 10). Types of instrumentsin which debt could rise include:■ Capital Appreciation Bonds (CABs)—

These are debt instruments where a por-tion of the interest due and payable to thecreditor is deferred and added (capitalized)to the principal balance according to anagreed debt service schedule between theborrower and lender.

■ Accreting swaps—These can be used along-side a conventional debt instrument to createthe same economic effect as CABs. As theaccreting swap counterparty is a debtprovider, we expect that the accreting swapwill be considered pari passu with senior debtobligations under the project financing docu-ments. Although there could be variations onaccreting swap use, one form uses a floating-rate (e.g. LIBOR-based) loan. In this case, theproject enters into an interest rate swap toconvert the floating rate exposure to a fixedbasis. Part of the interest obligation on theproject’s fixed-rate payment to the swapcounterparty is deferred and capitalized withthe swap principal balance to create theaccreting structure. The floating-rate pay-ments from the swap counterparty meet theproject’s floating (LIBOR) based obligationsoriginally incurred. This synthetically createsthe CAB structure described in the first bullet.

■ Accreting swap with embedded loan—Inthis instance, the swap payment from thecounterparty is a cash inflow for the pro-ject rather than an interest payment defer-ral and floating rate pass-through as notedin the second bullet.

■ Credit facilities—Ostensibly the same asthe third bullet, a credit facility can be usedto create the same economic effect as theaccreting swap (an embedded loan). Thecredit facility can provide cash flow to aproject in the early years of a concession,bridging debt service obligations that maybe higher than cash flow available. Thedraws can also provide cash flow fundingfor equity distributions early in the conces-sion. Similar to an embedded loan, thisform of financing would likely also rankpari passu with project senior debt.

■ Inflation-indexed securities—Treasury infla-tion protected securities (TIPS) in the U.S.;capital indexing bonds in Australia; indexed-linked notes in the U.K.; inflation units inMexico; and real return bonds in Canada areexamples of securities that see the principalpayment or principal balance (if it is a bulletmaturity instrument) and coupon paymentadjusted upward based on changes in aninflation index (such as the consumer priceindex). Projects with revenue streams or rateincrease mechanisms strongly linked to infla-tion benchmarks typically issue these securi-ties. The weaker the revenue link to infla-tion, the greater the potential deterioration inDSCRs due to a mismatch over timebetween cash flow available to service debtand the project’s debt service obligations.Whether the accreting swap payment is

included as income (or a credit facility is pro-vided to the project as an inflow) or a projectcompany’s debt and swap repayment sched-ule allows the partial deferral of interest pay-ments (understating debt service), the eco-nomic effect is the same. DSCRs are overstat-ed and less comparable with DSCRs in moretraditional amortizing debt structures.

While the form of the project debt increaseand its subsequent repayment profile isimportant, so too is the absolute size of thedebt increase relative to the original debtissuance at transaction inception. This is dis-cussed in Question 7.

Question 6:What are the observable effects of accreting debt on a transaction and its potential credit quality?The primary effects relate to imposing aggres-sive financial structures on the asset depen-


dent on long-term revenue growth. In particu-lar, we note the following compared with tra-ditional amortizing or many bullet structuresassociated with infrastructure financings:■ Growing debt levels. Unlike a conventional

debt refinancing for a volume risk asset(which typically occurs when constructionhas been completed and/or a usage historyis known), accreting debt or an accretingswap crystallizes the future debt burdenbefore the project economics and expectedrevenue growth are known. Unless revenueand EBITDA growth is at least equal to theproportion of debt accretion, DSCRs willnarrow and the enterprise value of the pro-ject will decline.

■ Greater reliance on growth. Accreting debtstructures cause an overstatement of DSCRsin the early years of a concession (by theamount of the interest accrual or swapinflow to the project). This allows early-year cash flow deficiency to be managed(relative to expected net revenue) whilemaintaining dividend payments. Moreover,to the extent the revenue, EBITDA, operat-ing, and capital cost and refinancingassumptions are aggressive, as the accretingdebt balance amortizes in the medium-to-long term, long-term DSCRs are at risk ofnot meeting base case projections.

■ Increased flexibility. Deferred-pay mecha-nisms and non-amortizing structures caninject flexibility into an infrastructurefinancing structure, especially under moreaggressive revenue growth assumptions orduring the project’s start-up phase.However, these deferability features intro-duce additional credit risks for seniorlenders as debt increases.

■ Allocation of risk/reward altered.Significant dividend distributions remittedas a result of the accreting structure’s defer-ral of senior debt payments effectively putsequity ahead of debt in the payment struc-ture. This is a reversal of the traditionalrole of capital structure priority and fundsflow subordination, whereby equity acts aspatient capital and a buffer for senior debtduring periods of revenue ramp-up or pro-ject cash flow weakness and is not seen asearning a notable proportion of its project-ed return ahead of senior debt.Sponsors have advocated accreting debt

structures by highlighting lengthy concessionterms of many infrastructure transactionsthat provide ample time in later years torepay higher debt, although that same oppor-tunity to earn cash flow returns later in theconcession also applies to equity distribu-tions. Nonetheless, combined with solid busi-ness positions and inflation-linked revenuesstreams, sponsors view the risk profile ofthese assets as low.

In many respects, long-term concessions canbe viewed as corporate transactions (perpetualeconomic ownership of an asset). Generally,corporate entities debt-finance and refinanceon an ongoing basis. For projects, we assumethat finite debt is issued and repaid along thedepreciating asset life. Also, the benefit ofcovenants in rating corporate type structuresis less so than for projects. While the sponsorargument of more corporate style financing ofvery long-term concessions is reasonable, therating challenge is that transaction partici-pants cannot have both the benefit of under-taking a corporate-style financing but callingit a project financing by adding structural fea-tures that have less value in a corporatefinance rating approach.

To the extent that a good portion of equityreturns in the early years of a concession isderived from excess cash flow that accretingdebt or swap structures produce, rather thanoutperformance by the project, there are clearbenefits and incentives for sponsors to pro-mote financing structures that use accretingdebt. Standard & Poor’s has observed finan-cial models for infrastructure transactions inwhich aggressive growth assumptions for rev-enue, together with the cash flow benefits ofusing accreting debt (or accreting swaps),results in the original paid-in equity capitalbeing returned to sponsors before any debtrepayment occurs. This has appeal to projectsponsors but a fundamental credit issue ishow the shift in risk to long-term lenders andthe enhanced returns to equity sponsors affectcredit quality.

Equity risk premiums (the differencebetween a project’s cost of debt and itsexpected equity return) can provide a quanti-tative proxy for the relative risk of an entity.The equity risk premiums observed foraccreting debt structures in infrastructurefinancings have been as high as 8%-12%



The Top Trends

(800-1200 basis points). This reflects onlypretax cash equity yields and excludes addi-tional equity return benefit that might beearned by sponsors through tax deductibilityof interest expense and amortization items(capital cost allowance deductions or amorti-zation of goodwill) should economic owner-ship and tax benefits be conferred to the con-cessionaire due to the concession’s lengthyterm. In contrast, regulated utilities, whichwe rate slightly higher than low investment-grade infrastructure projects with accretingdebt, see equity risk premiums above theircost of debt of 300-400 basis points.

A traditional risk-reward relationshipbetween equity and debt capital providersincludes equity capital taking more of a pro-ject’s cash flow risks (such as later-perioduncertainty) than senior creditors given the sig-nificant risk premium that the project sponsorscan earn. The expectation of higher equityreturns than fixed-rate debt should incorporatethe achievement of base case financial projec-tions and reflect higher risk incurrence bysponsors, thus providing incentive for equityto take a longer view and keep “skin-in-the-game.” As noted earlier, to the extent a largeproportion of the value is derived in the earlyyears of the concession through accretinginstruments, such incentives might be reducedand the interests of equity or sponsors andlenders are not as closely aligned.

Question 7:How does Standard & Poor’s analyze peakdebt accretion and subsequent amortizationguidelines for long-term concessions?In analyzing transaction structures for matureassets that have used accreting debt or swaps,Standard & Poor’s has set out broad princi-ples as to how far into the concession debtcan rise; when we would expect a certainproportion of the maximum accreted debtbalance to paid down; and when we wouldexpect final maturity (100% paydown of themaximum accreted debt balance). This amor-tization principle has varied depending uponthe concession’s length, the asset’s businessrisk profile, and offsetting structural featuresthat might provide support to the credit risksof debt accretion.

We are likely to view shorter term conces-sions (e.g., 20-35 year terms) with short-to-

no tail or concessions with significant con-struction risk, for example, as more specula-tive unless their debt burden and accretionproportion is considerably lower than anasset with a longer concession term, all elsebeing equal. In many cases, a short-term con-cession is not likely to exhibit the characteris-tics that allow for accreting debt and stillachieve investment grade.

We have not previously commented on themagnitude of maximum debt accretion relativeto the original debt at transaction inception.This will be a function of different asset class-es, business profiles, structural protections,and desired rating levels. Our credit analysisalso focuses on the physical and economicallyuseful life of an infrastructure asset to whichto link amortization and the final maturity ofdebt (particularly if the asset risks physical oreconomic obsolescence, substitution, orincreasing competition). For this reason, thereare no fixed standards for acceptable invest-ment-grade leverage levels, credit ratios, ordebt accretion and subsequent amortizationguidelines. We assess each credit independentlyon all these factors, although broad businessrisk profile distinctions reflect the strength ofcertain asset classes and the ability to supportrelative accreting debt burdens. For example, along-term airport concession, all else beingequal, would likely be considered to have astronger business position than a parking facil-ity concession, which is likely to have greatercompetition and substitution risks.

The table illustrates project debt accre-tion proportion and subsequent principalamortization under three different paymentprofiles. The lines in the graph do not rep-resent any specific project that Standard &Poor’s rates, but illustrates the potentiallydifferent risk profile of varying debt andmaturity structures, as well as the impactthe concession term length might have oncredit quality.■ The curve at the bottom of the table repre-

sents a traditional 25-year amortizing debtinstrument common in the U.S. publicfinance market that has a predominatelyinterest-only payment profile in the firstfew years of the concession with full amor-tization occurring thereafter. This amortiza-tion schedule may be used to produce levelannual debt service costs or, in concert


with a capitalized interest period, to man-age construction of an asset—for whichthere could be no revenue receipt untilcompletion. Such a structure might have amodest (to no) equity tail based on a short-er concession.

■ The middle curve represents a long-termconcession (a term of at least 50 years ifthere is no equity tail but up to 75 years ifthere is a 25-year tail). In this senior debtrepayment profile, debt accretes to about25% higher than the original par issuanceat or about year 20 and amortizes to zeroin the next 30 years.

■ The top curve represents a concessionthat is likely at least 75 years in term, asthe senior debt accretes to more than 2x(100%) relative to original par issuancein the first 40 years of the concessionand then amortizes rapidly in the next15-20 years.Assuming the same asset and business risk

profiles and debt-to-capital ratio at transac-tion inception, with the notable potential dif-ferences being variations in concession term,covenants, legal provisions, and debt andmaturity structure, Standard & Poor’s wouldlikely view the first curve (shaded blue) as themost conservative financial risk profile and

the third (colored gray) as the most aggres-sive. This is the case given the absence ofaccretion and the proportion of debt repay-ment early in the concession for the first sce-nario and the very high proportion of accre-tion and the back-ended nature of the repay-ment profile for the third scenario, whichwould also likely imply high dividendspayable to sponsors during the period of con-siderable accretion. Standard & Poor’s wouldnot view the third scenario as investment-grade regardless of how strong the businessrisk profile or underlying asset quality. Thesecond curve (colored black) could be invest-ment grade if it had a solid business risk pro-file, supportive covenants and legal provi-sions, and a lengthier equity tail—althoughhow close this scenario could get to the creditquality of the first one would be determinedby the relative differences of these factors.

In summary, our ratings will incorporatethe maximum accretion relative to originalpar debt issuance, the proportion of back-ended principal repayments and the shareof paid-in equity capital returned in theform of dividends referenced in Questions5 and 6 into our analysis with less aggres-sive structures generally associated withhigher rated concessions.




0.5

1.0

1.5

2.0

2.5

2005

2010

2015

2020

2025

2030

2035

2040

2045

2050

2055

2060

2065

2070

25-year amortizing debt Moderate accreting debt Significantly accreting debt

(x)

0

Debt Structure And Deferred Pay

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Question 8:How would Standard & Poor’s analyze the accretion characteristics and subsequent amortization guidelines for public infrastructure owners and debt issuers?These transactions will be evaluated on acase-by-case basis. In the U.S. public financemarket, capital appreciation bonds have beenemployed for many years, often in the start-up toll road sector. Although these structuresprovide cushion and flexibility during theinitial years of toll projects when revenuesare still growing, they in fact result in a high-er debt burden in later years. This can beproblematic for a start-up facility, especiallyduring a restructuring, if net toll revenuesfall short of projections and debt servicerequirements. All things being equal, theability of a public sector entity to assumeaccreting debt structures is comparativelybetter than for projects for several reasonsincluding the ability to pledge revenues froma variety of assets (not just a single project),the lack of a concession term, its long-terminterests as the permanent asset owner andthe lack of dividend payouts which presum-ably allows for better liquidity and capitalexpenditures that improve asset quality andenhance revenues. As such, adherence to ouramortization guidelines is not necessary forconsideration of investment-grade structures.However, on a relative basis, the financialrisk profile of a public sector debt issuerwould be viewed as more aggressive andhighly leveraged and a weaker credit com-pared to traditional amortizing debt struc-tures. Additionally, the same fundamentalcredit concerns regarding shifting long-termrisks to lenders exist, although they can bemitigated through the mechanisms discussedin this FAQ including cash sweeps and debtreduction under scenarios when revenue pro-jections fall short of forecasts.

Question 9:Do you review ratios and financing assumptions differently when reviewing accreting debt structures?No. In addition to ratios and cash flows weexamine the capital structure and liquidity aspart of the financial analysis. Our approachto the analysis of ratios and financing

assumptions places emphasis on:■ The magnitude of the accretion in the con-

cession’s early years along with the sched-ule and pace of debt repayment;

■ Distribution policy based on the accretingdebt or swap structure;

■ Capital (debt-to-total capital) and debtstructure;

■ Financing rates, including estimated creditspreads on risk-free reference rates andswap rates;

■ Refinancing risk, including market risk forrefinanced debt and any exposure tochanging interest rates and credit spreadsat refunding dates;

■ Inflation expectations and linkage to rev-enue setting ability;

■ Volume growth estimates for the assets;■ Revenue projections and assumed growth

rates—in particular, for proposed toll-oruser-rate increases and the modeled demandelasticity associated with such increases;

■ Capital expenditure obligations;■ The relationship between the growth in

annual debt service costs for the projectand the projected growth in revenue; and

■ Operating cost assumptions and forecastsynergies or savings through a long-termconcession respecting a formerly publiclymanaged asset.We believe that the private management

of a formerly publicly managed infrastruc-ture asset could present revenue optimiza-tion and cost-saving opportunities thatmight not have historically been a priorityfor a public sector body that managedoperations with rate affordability and abreak-even financial position as strategicgoals. Public infrastructure owners are cur-rently reevaluating this approach to ratesetting in the face of growing capital andmaintenance needs, in addition to other fis-cal pressures. Nevertheless, despite thefinancial incentives inherent in an entitywith equity sponsors, we consider the rea-sonableness of the financing and operatingassumptions in our analysis.

Tightly defined and higher permitted distri-bution tests (DSCR-based equity lock-ups)provide some measure of protection for divi-dend distributions to equity ahead of debt. Aspart of future accreting debt transactions,Standard & Poor’s expects more aggressive


structures will likely necessitate some form ofdebt repayment through a partial cash sweepmechanism funded from locked up equityproceeds. This provision would be linked to aperiod of time in which the permitted distrib-ution test has been invoked and locked-upcash proceeds can be redirected for debtrepayment. This provides additional incentiveto sponsors to avoid equity lock-up altogether,but particularly for a prolonged period, as itmight significantly reduce their equity returnby the amount of trapped cash that might bepermanently redirected to debt reductionthrough mandatory prepayments.

For investment-grade ratings, Standard &Poor’s also expects to see an alignmentbetween cash flows allocated to a project’sequity sponsors and its long-term lenders.Among the ratios that we will analyze to guideour approach to better balancing cash flowreturns between debt and equity is a dividendspayable to EBITDA measure that more closelyfollows the metrics observed by regulated utili-ties or other infrastructure companies.Regulated utilities have dividends payable toEBITDA ratios of 15%-25%, whereas a creditsuch as 407 International Inc. (a 99-yearCanadian toll road concession company) hasposted dividend-to-EBITDA ratios in the mid-to-high 20% range. For many of the accretingdebt concession transactions that we observe,this ratio is considerably higher because ofdebt accretion and swaps.

Standard & Poor’s is reviewing using debtstock ratios (such as debt to EBITDA) andcash distribution measures (such as annualdividend distributions relative to annual pro-ject EBITDA) to complement DSCRs, tradi-tional credit metrics, and stress testing scenar-ios. These ratios will play an increasing rolein investment-grade credit metrics for infra-structure concession projects that use accret-ing debt structures.

Question 10: If traditional DSCRs are less meaningful,how do other measures such as Loan Life Coverage Ratios (LLOCR) or Project Life Coverage Ratios (PLCR) factor into the analysis?Traditional DSCRs are of limited analyticalvalue when a financial risk profile has signifi-cant accreting debt or accreting swaps

because the cash flow effects (deferral ofinterest or non-operational inflows) to theproject early in the concession term overstatesthis ratio. To this end, we estimate the pro-ject’s cash flow-based DSCR (including theeffects of accreting debt or accreting swaps)but also calculate a DSCR profile that wouldadjust for the effects of accretion and debtcapitalization. This is of particular value inthe review of the early years of a concession,when accretion features tailor debt repaymentto revenue growth assumptions.

In calculating an alternative DSCR, weinclude in the denominator the project’s actualcash-based payment of debt and swap obliga-tions, as well as the capitalized amount thatis deferred and added to the project’s debtbalance. For certain kinds of accreting swapstructures, the adjustment removes from thenumerator swap inflows payable to the pro-ject that achieve the same effect as the inter-est payment deferral. This adjusted DSCRcalculation complements the review of thepercent rise in debt (due to accretion) thatoccurs from the original issuance to the pro-ject’s maximum peak debt balance (includingaccrued swap amounts owing).

In calculating the base case DSCRs foraccreting debt projects, we include in thenumerator operating revenue (excludinginterest income, earnings from asset sales,debt or equity proceeds, and insurance pro-ceeds) minus operating and maintenanceexpenses (including mandatory major mainte-nance reserve account deposits). The DSCRnumerator can also exclude swap paymentsto the project from the swap counterparty ifthese payments are viewed as a pass-throughto meet the project company’s obligation to adebt provider. Drawdowns on an LOC oraccreting swap proceeds that achieve thesame effect as an interest payment deferralcan be an adjustment to the DSCR numeratorgiven their primary cash flow structuringrole. In addition to traditional cash interestobligations, which deferral features willunderstate, the DSCR denominator includesany monoline bond insurance costs and swapcosts associated with synthetic debt products.

LLCRs and PLCRs are less relevant to debtratings, which assess an issuer or debt issue’sprobability of default; however, these ratiosprovide important analytical value to our



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recovery rating process, in which we assess therecovery of accrued interest and principal out-standing following an unremedied paymentdefault. In addition to being based on project-ed revenues, LLCRs and PLCRs are generallyhigher than DSCRs, which typically reflectsthe equity tail at the end of the concession(when the project debt has been retired.)

During cash flow weakness, LLCRs andPLCRs can remain well above 1x, whereasperiodic DSCRs during the same time framecould fall below 1x, requiring draws on liquidityto avoid default. A project could default on itsdebt obligations, while depending on assump-tions of capital structure, discount rate, andrevenue growth following the default for theremainder of the concession, the LLCRs andPLCRs (a proxy for recovery) could be greaterthan 1x (or greater than 100% recovery). Forprojects with manageable peak accretion and aconsiderable equity tail, such a solid recoveryscenario is quite possible.

Question 11:Can security features and structure and protective covenants offset the relativehigher risks of an accreting debt structure?Protective covenants can strengthen a trans-action’s credit profile by limiting the abilityof the project to incur more debt, acquiredilutive businesses or distribute cash when itperforms below base case expectations. Noamount of structuring or covenant protec-tion, however, can completely compensate fora weak business risk profile or overly aggres-sive financial structure.

Standard & Poor’s expects the standard struc-tural features or covenants to be considered fora project rating, particularly one that incorpo-rates accreting debt and has a more aggressivefinancial profile. Where covenants require quan-titative limits (such as DSCR-based tests), thereis no fixed rule of thumb that can be applied toachieve an investment-grade rating.

Question 12:Is the documentary and legal review for anaccreting debt or swap structure differentfrom other project finance or PPP ratings?No. The legal review across project structuresis comparable, and Standard & Poor’sexpects that transactions using accreting debtwill have a robust legal structure. Our docu-

mentation and legal review includes adetailed examination of the concession agree-ment terms, and its supporting schedules andappendices, which govern the long-term rela-tionship and risk allocation between the con-cessionaire and the concession grantor.Standard & Poor’s legal review will alsoexamine any proposed intercreditor agree-ment and the covenant package.

Certain jurisdictions benefit from morecreditor-friendly legal regimes that can con-tribute to infrastructure project rating differ-ences. Infrastructure project financings aregenerally more susceptible to local law expo-sure than other types of structured financingbecause of the physical location of the assetsand the often essential and politically sensi-tive nature of the assets. For more informa-tion, see “Jurisdiction Matters For SecuredCreditors In Insolvency” and “EmergingMarket Infrastructure: How Shifting RulesCan Stymie Private Equity.”

Question 13:Beyond the already stated effects of accretion, how does Standard & Poor’sevaluate swap transactions as part of its credit analysis?Many project sponsors employ interest rateor currency swap strategies to achieve cost-effective debt financing. These swaps are gen-erally integrated into an overall swap thatincludes accretion features.

A capital structure that includes both debtand accreting swaps will require a review ofthe relevant swap documentation and inter-creditor agreement. As an accreting swapcounterparty is allowing a portion of the pro-ject company’s interest payable under itsswap arrangement to accrue, it is acting asdebt provider, and these swap obligations willlikely be considered pari passu with otherdebt obligations. It is important to determineif there are cross default provisions on events,such as early swap termination, which couldlead to acceleration of the debt obligations.

One potential credit issue is whether or notthe transaction is swap-independent. Forexample, if the swap were to terminate, theissuer would pay or receive a payment to orfrom the swap counterparty. If the issuer didnot receive a payment due to a counterpartydefault, it might not be able to replace its


swap position at similar rates or terms, somight not be able to perform at previouslyexpected (rated) coverage levels without rateincreases or possible rating implications.

For transactions originating in the U.S.with U.S. swap counterparties, Standard &Poor’s might undertake a debt derivativeprofile (DDP) exercise. Although we con-sider many factors, the DDP scores princi-pally indicate an issuer’s potential financialloss from over-the-counter debt derivatives(swaps, caps, and collars) due to collateral-ization of a transaction or, worse, earlytermination resulting from credit or eco-nomic reasons. We integrate DDPs intorating analyses for swap-independentissuers, and they are one of many financialrating factors.

These credit issues are central to our ratinganalysis as monoline bond insurance policiesmight guarantee swap payments due from(but not due to) the issuer. As a highly ratedfinancial guaranty policy should maintainpayments to the swap counterparty (should awrapped project not be able to meet its swapand debt obligations due to poor perfor-mance), the project company should not bein default on its side of the swap. Swaprenewal, if applicable, and swap counterpar-ty credit quality remain analytical issues,even for monoline wrapped transactions. Asa result, Standard & Poor’s will examinewithin a swap transaction the level and mini-mum credit quality of collateral posting, andreplacement requirements should minimumcredit rating levels be violated by swapcounterparties.

Question 14:Given the commitments of monoline bond insurers, how is refinancing risk factored into the credit rating for an accreting debt structure?A monoline insurer that provides a guaranteepolicy for refinancings reduces the marketaccess risk and the spread risk at refinance.Even ‘AAA’ interest rates and credit spreadsvary and in the absence of a hedging strategy,the uncertain future cost of debt refundingcould narrow coverage ratios in a stress case.We evaluate the underlying credit quality of atransaction before overlaying and assessingthe incremental contribution of credit substi-tutions such as monoline wraps. Moreover,our view of refinancing risk depends in largepart on the expected cash flows of the projectat the time of refinancing.

Our starting point is to assume that refi-nancing risk within an accreting debt struc-ture is manageable in long-dated concessionswith a sufficient tail (about 10-30 years).We will examine financial models to under-stand the assumptions being made aboutrefinancing (such as the interest rateemployed) and stress tests will be used toevaluate the sensitivity of transactions toless-favorable interest rate assumptions atrefinancing points. The history, record andexpectation of local debt markets will havea different weight on emerging markets.Investment-grade structures will typicallyhave secured appropriate hedging arrange-ments in this regard. A monoline insurer’scommitment simply gives additional comfortto any refinancing risk analysis. ■




Emboldened by active competition and con-tinued demand for project and infrastructure

assets, the landscape for subordinated debtstructures in project finance transactions con-tinues to evolve. Indeed, some debt arrangersare pushing new boundaries to structure andfund ambitious greenfield and brownfield assetdevelopments or leveraged acquisitions (see“The Changing Face Of Infrastructure Finance:Beware The Acquisition Hybrid,” published onRatingsDirect on Sept. 7, 2007).Notwithstanding the recent upheaval in creditmarkets, the driving force behind debt structur-ing is usually simple: lower the after-taxweighted-average cost of capital while provid-ing flexibility to project sponsors and investorsand enhancing cash returns on equity. Theresult is most often higher leverage and addedcomplexity through a mix of senior and subor-dinated debt—more eloquently referred to as“structural optimization” by debt arrangers.

As employed in project finance for manyyears, market participants are “tranching” aproject’s liability structure into senior debt,subordinated debt, and in more recent years—depending on the window of opportunity—“payment in kind” (PIK) notes (see “LBOEquity Hybrids: Too Good To Be True,” pub-lished on RatingsDirect on Aug. 10, 2007).Importantly from a credit perspective, regard-less of the underlying project, the commontheme is increased gearing and more complexfunding and documentation structures—bothwhich have varying effects on a project’s debtratings and recovery prospects in terms of thepotential level of default and loss given default.

This FAQ will highlight the criteria issuesrelated to analyzing senior and subordinatedstructures in the context of issue ratings andrecovery analysis.

Frequently Asked Questions

Q. What is project subordinated debt?

A. In its purist and simplest form, a project’ssubordinated debt typically ranks behind a pro-ject’s senior debt in terms of priority over pre-

default cash flows and security over collateral,and in the event of insolvency behind anyenforcement proceeds, assuming there is any-thing left. In this context, project subordinateddebt is used in structures as a form of creditenhancement for senior debt that establishesthe distribution of a project’s default and recov-ery over the life of the financing structure.

Typically, the rights for project subordinateddebt are defined under a project’s structural,contractual, and legal framework. This struc-tural framework for projects should incorpo-rate a “ring-fenced” entity, a pre-default cash-flow waterfall, cash lock-up and sweep trig-gers, a debt-service reserve account, and post-default liquidation processes. Consequently,given the varying characteristics of subordi-nated debt the default and loss given defaultof any tranches of project subordinated debtmay occur at different time intervals over theterm of a transaction’s life cycle.

Q. Why is subordinated debt used in project transactions?

A. Subordination gives project finance transac-tions the ability to create one or more classes ofdebt, which can allow access to more debt oralternate investor classes. One of the mainobjectives of using subordinated debt is toimprove a project’s after-tax weighted-averagecost of capital through improving the rating onsenior debt while segregating credit risk andenhancing the return on equity. At the sametime, sponsors of a project often use subordi-nated debt for tax and accounting reasons, par-ticularly where there may be restrictions in dis-tributing cash from a special-purpose-vehiclestructure due to retained accounting losses.Subordinated debt may also be an option exploredby debt arrangers if senior-secured financingoptions have be exhausted or capped out.

Q. Can subordinated debt be treated as equi-ty for analytical purposes?

A. Often project sponsors use subordinateddebt as a substitute for equity. Depending on

Analysts:

Andrew PalmerMelbourne (61) 3-9631-2052





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The Evolving Landscape For Subordinated Debt In Project Finance

the underlying project ring-fence structure,security, contractual, and legal framework ineach jurisdiction, Standard & Poor’s mayconsider treating subordinated debt as equityfor analytical purposes on a case-by-caseanalysis. Such an analytical scenario mayoccur if a project’s debt: is deeply subordinat-ed within a strongly ring-fenced vehicle witha structural waterfall and distribution trig-gers; has no rights to call default or acceleratepayment; ranks after senior debt under pre-default and post-default cash-flow waterfalls;and matures after senior debt. Like mostfinancing structures, however, the answer willreside in the detail of a particular transactionin its relevant jurisdiction.

Q. What are some of the key types of projectsubordinated debt?

A. While there are project-specific nuances, inmost instances the type and level of subordi-nated debt has been tailored to the cash flowcharacteristics of each project. Standard &Poor’s has identified a variety of structural,contractual, and legal forms of subordinateddebt in project finance transactions:

Deeply subordinated (pre-and post-default)debt. A form of deeply subordinated debt isshareholder loans, which display many of thecharacteristics of equity, and have no rightsto call default or rights on enforcement, orcalls on the post-default recovery proceeds.This form of subordinated debt is often usedin the public-private-partnership (PPP) spaceas tax-efficient equity for sponsors.

Residual value subordinated debt. Thisdebt is structurally reliant on residual or divi-dend cash flow from another project-financedvehicle with senior-ranking debt and possiblyeven subordinated debt obligations. Theseresidual cash flows or dividends are usuallyonly available subject to certain debt lock-uptests being achieved at the underlying projectfunding vehicle. Dividends or residual flowsmay also be dependent on the ability of aproject company to distribute cash flows dueto retained accounting losses.

PIK notes. Typically, PIK notes are struc-turally subordinated to senior debt or second-ranking lien debt in a project’s pre-defaultand post-default cash flow waterfall, withcoupon payments at the discretion of the

issuer. If coupon payments under the PIKnotes are not made in the form of cash distri-butions, the coupon is usually made whole bythe issuance of PIK notes of equivalent value.Unlike true equity, PIK notes usually have amaturity date and at least some rights againstthe issuer to help ensure repayment.Standard & Poor’s will treat PIK notes asdebt in calculating credit metrics.

While it may be possible to carve up a pro-ject’s cash flows to create a subordinatedinstrument in a number of forms, there is no“free lunch,” and at some point the key con-sideration is how a subordinated debt instru-ment will or will not affect default or recov-ery of senior-ranking debt from a credit andlegal perspective.

Q. What are the key structural elements con-sidered by Standard & Poor’s?

A. In examining a project’s liability and capi-tal structure, we are often asked what themain structural and documentation consider-ations it undertakes to assess how a project’sdebt is structurally, contractually, or legallysubordinated. The objective is relatively sim-ple: if subordinated debt obligations are toprovide credit support and collateral to seniorrated debt, then subordinated debt must haveno rights that could accelerate or causedefault or increase the level of loss givendefault of any senior-ranking debt.Nevertheless, Standard & Poor’s will typicallyreview several aspects in any assessment:

The rights of subordinated debt to call adefault or cross default to senior classes ofdebt. It is not appropriate that a paymentdefault on a tranche of subordinated debtcould cause a default under the seniordebt provisions.

The rights of subordinated debt to acceler-ate payment while senior debt is outstanding.Subordinated debt should not have any rightto accelerate while senior debt is outstanding.

Senior debt rights to lock-up or sweep cashflow. Following any breach of a senior debtcash-flow lock-up trigger or cash-flow sweeptrigger, subordinated debt should not be enti-tled to any cash flow, other than what mightbe available from reserves that are specificallydedicated to the subordinated debt obliga-tions. Similar to the point above, this should



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also not give subordinated debt any rights tocall or trigger default or acceleration as aresult of a senior lock-up or sweep triggerbeing breached.

The pre-default and post-default cash flowwaterfall and transaction documentation.This is necessary to understand how subordi-nated debt is structurally and legally subordi-nated. This would include an understandingof how cash flows are distributed and sharedin a transaction’s cash flow waterfall.Typically, subordinated debt should be ser-viced after payments to operations, seniordebt interest and principal, any net hedgingsettlements, and any senior debt-servicereserves and maintenance accounts, which arethere to support the senior debt rating.Likewise, collateral security interests orclaims upon liquidation granted to subordi-nate lenders should rank after senior debt.

The maturity profile of subordinated debtshould be longer dated than senior debt, oth-erwise it is not truly subordinated.

The voting rights of debt participants. Theserights should be limited solely to senior debtparticipants; subordinated debt should have norights while senior debt is outstanding.

Nonpetition language. This needs to beconsidered to ensure that no winding-up pro-visions are allowed while senior debt is out-standing either permanently or for a specifiedperiod. Typically, the objective is to ensurethat subordinated debt has no right to chal-lenge any enforcement rights or validity in thepriority of payments of senior debt holders.

The events of default and terminationevents of any interest-rate swaps used tohedge subordinated debt. These need to beclosely examined. Although the majority ofsubordinated debt is fixed-rate debt, if vari-able subordinated debt is used and overlaidand mitigated with a interest-rate hedge, theevents of default and termination events ofthe swap would need to be limited so as notto accelerate or cross-default senior debt.

Subordinated debt rights or remedies in arestructuring, insolvency, or bankruptcy pro-ceeding. Deeply subordinated debt should nothave any such rights or remedies. For benefi-cial equity treatment, project subordinateddebt should only be able to enforce its securi-ty and creditor rights unless, and until, seniordebt has done so.

Q. What is the analytical framework for pro-ject subordinated debt?

A. Some market participants think of theanalytical assessment behind rating subordi-nated debt as one of simply solving a targetdebt-service cover ratio (DSCR) or simplynotching off the senior debt issue rating. Butour approach is more sophisticated. No twoprojects are the same from a business, industry,market, operational, structural, or legal per-spective. Certainly, it is fair to say that asenior debt issue rating provides some start-ing point for the subordinated debt rating.However, in order to make a proper assess-ment, we assess a project’s cash flows tounderstand where the credit stress points maybe relative to the payment structure under thesubordinated debt instrument and its expo-sure horizon. In assessing the ability and will-ingness of a project’s subordinated debt topay its obligations in full and on time, ouranalytical framework reviews and measures anumber of elements that influence the level ofpotential default and rating of a subordinateddebt tranche:

The underlying business and industry riskof a project. This examines the key businessand industry economic fundamentals thatinfluence the underlying volatility of a pro-ject’s operating cash flow.

A project’s financial ratios (for example,DSCR on a total debt basis [senior and sub-ordinated debt] and segregated subordinat-ed debt basis [after senior debt]). It isimportant to note that the DSCR shouldnot be viewed in isolation. This is particu-larly true when a project includes accretingdebt structures that can overstate a transac-tion’s DSCR, while also deferring seniordebt amortization (see “Accreting DebtObligations And The Road To InvestmentGrade For Infrastructure Concessions,”published on RatingsDirect on Sept. 5,2007). As a result, we closely examine allfinancial ratios, particularly revenue growthassumptions and the components of thecoverage ratios that are can be overstatedby such financing instruments.

Senior debt cash lock-up triggers, sweeptriggers, and reserve limits (for example,senior debt-service reserve and maintenancereserves). Understanding these triggers and


reserves is a critical part of the analyticalframework for subordinated debt, as suchlock-up triggers and reserves are for the pro-tection of senior lenders only, and may resultin subordinated debt being more susceptibleto default, particularly if subordinated debtdoes not have its own dedicated debt-serviceor liquidity reserve.

Sensitivity and break-even analysis oneach project is undertaken. This takes intoaccount the specific cash flow waterfallstructure and repayment terms and condi-tions of senior and subordinated debt.Sensitivity analysis helps demonstrate andhighlight potential downside thresholdsunder which subordinated debt may miss apayment of interest or principal. Stresstests, which are usually in the form ofbreak-even analysis, assist in understandingwhether a missed payment is due to anylock-up triggers or other distribution stop-pers being breached and stopping cashflowing through to subordinated debt (andany dedicated debt-service reserve runningout), or just the fact that there is notenough cash after the senior debt has beenserviced irrespective of any distribution trapor stopper. Stress sensitivities are run onrevenues, availability, prices, operatingcosts, capital expenditure, inflation, andrefinancing spreads. Typically, the level ofstress placed on subordinated debt is recon-ciled with the overall risk of the project andlikelihood of a stress scenario occurring.

Assessing the level and type of creditenhancement supporting subordinated debt.Such credit enhancement can take the form ofequity, and project cash flows available aftersenior debt-service and liquidity reserves, usu-ally in the form of dedicated debt-servicereserves for the benefit of subordinated debt.If a subordinated debt instrument does nothave its own debt-service reserve, it is likelyto be more susceptible to default understressed scenarios.

Ability for senior debt to raise additionaldebt or offer security ahead of subordinateddebt. Most projects allow limited other finan-cial indebtedness to be raised and securitygranted to enhance the rating of senior debt.However, if this right is too broad, it mayaffect the level of subordination, which maychange over time.

Q. What will influence the probability ofdefault on subordinated debt?

A. Apart from a project’s underlying operat-ing and business fundamentals, which will bethe major influence on the performance of aproject, the probability of default of a pro-ject’s subordinated debt will be influencedtypically by:■ The contractual and legal structure of a

project, which usually incorporates a pre-default cash flow waterfall, cash lock-upand sweep triggers, a timeframe beforecash is released from lock-up, and debt-ser-vice reserve accounts for senior debt; and

■ The terms and conditions of the underlyingsubordinated debt and any dedicated liq-uidity or debt-service reserve allocated forsubordinated debt.Accordingly, key subordinated debt rating

considerations include: how likely a projectwill go into distribution or equity lock-up;how long it will remain there; what happensto the trapped cash once in lock-up; andwhat type of credit or liquidity support (suchas reserves) exist to lower default probability.If a distribution-trap mechanism does not lastfor an indefinite period, it could be arguedthat the resumption of debt-service paymentson subordinated debt—depending on the pro-ject, scenario, and subordinated liquidityreserves—is likely to be certain. The analyti-cal challenge is determining the duration ofany under performance. We typically runstress scenarios for each project to analyzehow long it would take for a rated tranche ofsubordinated debt to default under varyingscenarios. Nonetheless, any significant deteri-oration in the performance of a project islikely to magnify the level of potential defaulton any subordinated debt.

Q. What will affect the recovery of subordi-nated debt?

A. If a project suffers from poor performanceand there is a missed payment of interest orprincipal on a project’s subordinated debt, amajor determinant on the recovery prospectsof subordinated debt is whether senior debthas also defaulted. If senior debt has notdefaulted, it would prevent any recoveryaction of subordinated debt until senior debt



The Top Trends

is repaid or defaults. If this was to occur,there may be limited or zero recovery for sub-ordinated debt.

Should senior debt default or be repaid,factors that would influence the recoveryprospects of subordinated debt include:■ The nature of the default;■ The type of security, collateral, and any

first-loss protection;■ The type of security enforcement scenario

(liquidation versus selling the project as agoing concern);

■ Senior debt’s ability to influence the recov-ery for its benefit;

■ Macroeconomic conditions and its impacton the value of any collateral;

■ The level of any break costs under a hedg-ing or derivative instrument;

■ The insolvency or bankruptcy regime in ajurisdiction or country;

■ Third-party costs, such as legal and insol-vency-related costs;

■ The time it takes to emerge from default;■ The length and value of a project’s cash-

flow tail after the repayment of seniordebt; and

■ Any other equal-ranking obligations.As each of these factors can vary consider-

ably from market to market across the globe,so too will the level of recovery for each pro-ject’s subordinated debt. Consequently, eachproject needs to be examined on a case-by-case basis.

Q. Why can subordinated debt issues berated one or more notches below the seniordebt rating?

A. As each project’s business profile is unique,so too is its financial, contractual, and legalstructures. Depending on the unique featuresof each project, our ratings on project subor-dinated debt issues have on average ranged upto three notches below the senior debt rating.However, there have been exceptions in bothdirections, depending on the project and spe-cific structural elements, covenants, and secu-rity features. Some credit features that haveled to subordinated debt being rated morethan one notch below senior debt (and hencemore equity-like treatment) have included:■ Severe cash-flow encumbrances on subordi-

nated debt servicing due to senior debt dis-

tribution lock-ups, the timeframe beforecash is released from lock-up, and debt-ser-vice reserve maintenance;

■ No rights or remedies in the event of adefault affecting senior debt;

■ No cross-acceleration or cross-defaultmechanisms; and

■ Low DSCRs and stress buffers.Conversely, some credit features that have

led to subordinated debt being rated closer tothe senior debt rating have included:■ Contingent support from sponsors to miti-

gate cash-flow encumbrances on subordi-nated debt servicing;

■ Lower probability of reaching equity lock-up, which could occur in a project due tosimple services to be delivered, a benignpayment mechanism, strong and/or highlyrated service providers to whom cost andrevenue deduction risk is passed, and con-siderable third-party support;

■ Subordinated debt liquidity support in theform of a dedicated debt-service reserve (upto six months), the ability to capitalize ordefer interest, PIK notes, and contingentthird-party support;

■ Sharing of collateral security enforcementrights with senior lenders; and

■ Strong DSCRs and stress buffers.There are also examples of subordinate debt

being rated on par with senior lien obligations.These have occurred in situations where thesenior lien debt amounts are very small in rela-tion to the subordinate lien, when a senior lienmay be closed, or when the project operateswith significant financial margins.

(For examples of our ratings and relatedresearch on project subordinated debt issues,see the following issuers on RatingsDirect:407 International Inc., Express Pipeline L.P.,Reliance Rail Finance Pty Ltd., San JoaquinHills Transportation Corridor Agency, andAlameda Corridor Transportation Authority.)

Q. Where to from here for subordinateddebt structures?

A. As active competition for project and infra-structure asset continues to move prices higher,market participants will continue to exploresubordinated debt funding options and prod-uct structures to increase leverage to meet thisstrong demand. So long as the economic cycle


continues, market participants will continue topush boundaries in debt structuring; however,market participants should remember thatdebt structuring is not a way to obtain fundsat no risk and that project fundamentals ratherthan financial engineering are the key toinvestment-grade structures.

So where to go from here? Given the long-term nature of project and infrastructureassets, and the competitive nature of debtarrangers and the risk appetite of investorsfor long-term assets, the landscape for projectsubordinated debt will continue to evolve.

Standard & Poor’s expects to see variationsin subordinated debt products for project andinfrastructure transactions.

While cash flows from projects willcontinue to be carved up to create subor-dinated debt instruments, at the end ofthe day there is no “free lunch”, and thekey credit consideration will remain—what will cause a rated tranche of subor-dinated debt to default and how will aparticular subordinated debt instrumentaffect the default or recovery of anysenior-ranking debt? ■




The world of project finance has continuedto grow since Standard & Poor’s Ratings

Services published its last comprehensive ratingcriteria. Project financing has become increas-ingly sophisticated and often riskier, with awider investor base attracting new financestructures and investors across the globe. Wehave closely followed these developments overthe years, extending and revising our criteriafrom time to time to enable appropriate assess-ment of project-finance risk originating fromnew markets, new structures, and new avenuesof ownership. Factoring different market cir-cumstances into our analysis remains challeng-ing, but global consistency of our criteria andapproach has been our prime objective inresponding to these new market developments.The combined magnitude of these criteria addi-tions and changes is not great; it is, rather,more of a rearrangement that better reflectscurrent practice and changes to associated cri-teria, such as recovery aspects.

Additionally, we want to note that we haverevised certain aspects of our internal analyti-cal framework for rating projects, and stressthat although we have adopted one signifi-cant change—eliminating our scoringapproach—no ratings will be affected. Weintroduced scoring six years ago to facilitatethe compare-and-contrast of key project risksacross the spectrum of rated projects. Thescores, and the criteria on which they werebased, represented only guidelines. Scoreswere never meant to be additive, but never-theless, many readers understood them assuch. Because the scoring caused confusionamong some users of our criteria, we decidedto remove those suggested scores and focusmore on other analytical tools to comparerisk across projects. In response to the chang-ing world of project finance and the blurringof boundaries from pure project-financetransactions to hybrid structures, our analysis

has been expanded and now incorporatessome corporate analytical practice, to look ata combination of cash-flow measures, capitalstructure, and liquidity management.

We also have reincorporated our assess-ment of force majeure risk into our analysisof a project’s contractual foundation andtechnical risk, rather than addressing these asa separate risk category.

The overall criteria framework has notbeen changed, however, and still provides avery effective framework for analyzing andunderstanding the risk dynamics of a pro-ject transaction.

Recent TrendsAs project finance continues to adjust to theincreasingly diverse needs of project sponsors,their lenders, and investors, in many cases theanalysis of risk continues to grow in complexity.Despite this growing variety of project-financeapplication and location, the continuing mar-ket desire for non-recourse funding solutionssuggests that project finance will remain arobust means of raising infrastructure capital.More aggressive financial structures some-times blur the boundaries of non-recoursefinance both in reality and perception. Also,the greater exposure to market risk has forcedmany sponsors to seek greater flexibility inproject structures to manage cash, take onadditional debt, and enter new businesseswith few restrictions—which makes some pro-jects look more like corporates.

Projects continue to evolve from their tra-ditional basis of long-term contracted rev-enue, and now involve a greater exposure toa number of risks. Initial project finance pri-marily was focused on power markets thathad strong contractual bases; but these days,more projects are exposed to the risks ofvolatile commodity markets or traffic vol-ume exposure, among other types. Strong

Analysts:





Project Finance


Updated Project Finance Summary Debt Rating Criteria

global demand for construction and com-modities has increased construction risk,even for simple projects.

Fewer projects have been able to secure themore creditor-friendly fixed-price, turnkey,date-certain construction contracts that betterprotect lenders from construction and com-pletion risk. Term B loan structures—“mini-perms,” with minimal amortizations andrisky bullet maturities—have establishedthemselves firmly in the project world, butthese capital plans have now been joined bymore complex first- and second-lien struc-tures, and more debt within holding companystructures, particularly for payment-in-kindinstruments that we view essentially as debt.

Many long-term concession projects aremaximizing leverage by employing accretingdebt structures that enable sponsors torecoup quick equity returns—sometimesbefore any debt has been repaid—but thatcan greatly increase lenders’ exposure todefault risk in the later years (see “CreditFAQ: Accreting Debt Obligations and theRoad to Investment Grade for InfrastructureConcession,” published to RatingsDirect onSept. 5, 2007). Private equity has madestrong inroads to project lending and owner-ship—either directly or through managedinfrastructure funds. The trend away fromownership by experienced sponsors raisesnew concerns about ownership and long-termoperational performance. Positively, the usageof project finance is growing in part thanksto these new structures. In particular, financ-ing of public-private partnerships (PPPs) hasgrown significantly over the years, with PPPsoften considered to be a lower-risk invest-ment due to the involvement of a publicauthority or government entity.

Another observation is the increase ofinsured project finance transactions. Monolineinsurance companies providing guarantees fortimely-and-full debt servicing in cases of pro-jects being unable to do so has opened differ-ent investment opportunities for the financialmarkets. However, we closely monitor andanalyze the underlying risk of these projects todetermine the underlying credit quality, as apart of the insured rating exercise.

Finally, the emergence of the Middle Eastmarkets as one of the largest global markets ofproject finance has challenges of its own.

Driven by low default track records and stronggovernment support or sponsorship, these pro-jects have created a class of their own in termsof investors’ perception of risk allocation.Middle East project finance is an area thatremains under criteria development while weaim to adequately weigh up the hard facts,such as risk structure and allocation, termsand conditions of project financings in theregion, and stated support from governments.

General ApproachFor lenders and other investors, systematicidentification, comparison, and contrasting ofproject risk can be a daunting task, particu-larly because of the new complexity presentedto investors. To assess project-finance risk,Standard & Poor’s continues to use a frame-work based on the traditional approach thatgrew out of rating U.S. independent powerprojects but which has been adapted to covera growing range of other projects globally,such as more complex transportationschemes, stadiums and arenas, hotels andhospitals, renewable energies, and large oiland gas projects.

Our approach begins with the view that aproject is a collection of contracts and agree-ments among various parties, includinglenders, which collectively serves two primaryfunctions. The first is to create an entity thatwill act on behalf of its sponsors to bringtogether several unique factors of productionor activity to generate cash flow from thesale/provision of a product or service. Thesecond is to provide lenders with the securityof payment of interest and principal from theoperating entity. Standard & Poor’s analyticframework focuses on the risks of construc-tion and operation of the project, the pro-ject’s long-term competitive position, its legalcharacterization, and its financial perfor-mance—in short, all the factors that canaffect the project’s ability to earn cash andrepay lenders.

“Project Finance” DefinedA project-finance transaction is a crossbetween a structured, asset-backed financingand a corporate financing. A project-financetransaction typically is characterized as non-recourse financing of a single asset or portfo-lio of assets where the lenders can look only




to those specific assets to generate the cashflow needed to service its fixed obligations,chief of which are interest payments andrepayment of principal. Lenders’ security andcollateral is usually solely the project’s con-tracts and physical assets. Lenders typicallydo not have recourse to the project’s owner,and often, through the project’s legal struc-ture, project lenders are shielded from a pro-ject owner’s financial troubles.

Project finance transactions typically arecomprised of a group of agreements and con-tracts between lenders, project sponsors, andother interested parties who combine to createa form of business organization that will issuea finite amount of debt on inception, and willoperate in a focused line of business over afinite period. There are many risks that needto be analyzed when rating a project financetransaction; however, the chief focus withinStandard & Poor’s rating process is the deter-mination of the project’s stability of projectedcash flow in relation to the projected cashneeds of the project. This criteria articleaddresses the areas on which we focus whenconducting analysis, and how this translatesinto a rating on a project finance transactionas a whole. For each focus area, we gauge therelative importance for the project being ratedand the impact that focus area could have onthe project’s overall cash flow volatility. Theprocess is very systematic, but is tailored toeach project rating.

The ratingStandard & Poor’s project debt ratingsaddress default probability—or, put different-ly, the level of certainty with which lenderscan expect to receive timely and full paymentof principal and interest according to theterms of the financing documents. Unlike cor-porate debt, project finance debt is usuallythe only debt in the capital structure, andtypically amortizes to a schedule based on theproject’s useful life. Importantly, also unlikeour corporate ratings, which reflect risk overthree to five years, our project debt ratingsare assigned to reflect the risk through thedebt’s tenor. If refinancing risk is present, weincorporate into the rating the ability of theproject to repay the debt at maturity solelyfrom the project sources. Our project ratingsoften factor in construction risk, which in

many cases can be higher than the risk pre-sented by expected operations once the pro-ject is completed. In some cases, the construc-tion risk is mitigated by other features, whichenables the debt rating to reflect our expecta-tions of long-term post-construction perfor-mance. Otherwise, we will rate to the con-struction risk, but note the potential for rat-ings to rise once construction is complete.

Another important addition to our project-debt ratings is the recovery rating conceptthat Standard & Poor’s began to assign tosecured debt in late 2003. The recovery rat-ing estimates the range of principal thatlenders can expect to receive following adefault of the project. Our recovery scale isdefined in the table. We define the likelydefault scenario, and then assess recoveryusing various techniques, such as discountedcash-flow analysis or EBITDA multiples. Or,we will examine the terms and conditions ofproject assets, such as contracts and conces-sion agreements, for example, to estimate theexpected recovery. The added importance ofthe recovery rating is that recovery can affectthe ratings on certain classes of project debtwhen more than one class of debt is present.

Framework for Project Finance CriteriaThorough assessment of project cash flowsrequires systematic analysis of five principalfactors:■ Project-level risk,■ Transactional structure,■ Sovereign risk,■ Business and legal institutional develop-

ment risk, and■ Credit enhancements.

Project-Level RisksProject-level risk, or the risks inherent to aproject’s business and within its operatingindustry, will determine how well a projectcan sustain ongoing commercial operationsthroughout the term of the rated debt and, asa consequence, how well the project will beable to service its obligations (financial andoperational) on time and in full.

Specifically, we look at a project’s:■ Contractual foundation. Operational and

financing contracts—such as offtake agree-ments, concessions, construction arrange-ments, hedge agreements, loan contracts,


guarantees—that, along with the physicalplant, serve as the basis of the enterprise.

■ Technology, construction, and operations.Does it have a competitive, proven technol-ogy, can construction be performed on timeand on budget, and can it operate in amanner defined under the base case?

■ Resource availability. Capacity to incorpo-rate “input” resources, such as wind ornatural gas.

■ Competitive-market exposure.Competitive position against the marketin which it will operate.

■ Counterparty risk. Risk from relying onsuppliers, construction companies, conces-sion grantors, and customers.

■ Financial performance. Risks that mayaffect forecast results, and cash flow vari-ability under likely stress scenarios.

Contractual foundationWe analyze a project’s contractual composi-tion to see how well the project is protectedfrom market and operating conditions, howwell the various contracted obligationsaddress the project’s operating-risk character-istics, and how the contractual nexus mea-sures up against other project contracts.

The structure of the project should protectstakeholders’ interests through contracts thatencourage the parties to complete project con-struction satisfactorily and to operate the pro-ject competently in line with the requirementsof the various contracts. The project’s struc-ture also should give stakeholders a right to aportion of the project’s cash flow so that theycan service debt, and should provide for the

releasing of cash in the form of equity distrib-utions (dividends or other forms of sharehold-er payments) in appropriate circumstances.Moreover, higher-rated projects generally givelenders the assurance that project manage-ment will align their interests with lenders’interests; project management should havelimited discretion in changing the project’sbusiness or financing activities. Finally, higher-rated projects usually distinguish themselvesfrom lower-rated projects by agreeing to givelenders a first-perfected security interest (orfixed charge, depending on the legal jurisdic-tion) in all of the project’s assets, contracts,permits, licenses, accounts, and other collater-al; in this way the project can either be dis-posed of in its entirety should the need arise,or the lenders can step in to effectively replacethe project’s management and operation so asto generate cash for debt servicing.

As infrastructure assets have becomeincreasingly popular for concessions, not onlyis the analysis of the strengths and weaknessesof the concession critical, but also the ratio-nale for the concession becomes an essentialelement of our analysis. Contract analysisfocuses on the terms and conditions of eachagreement. The analysis also considers theadequacy and strength of each contract in thecontext of a project’s technology, counterpar-ty credit risk, and the market, among otherproject characteristics.

Commercial agreements vs. collateralagreements. Project-contract analysis fallsinto two broad categories: commercial agree-ments and collateral arrangements.

Commercial project contracts analysis isconducted on contracts governing revenueand expenses, such as:■ Power purchase agreements,■ Gas and coal supply contracts,■ Steam sales agreements,■ Liquefied natural gas sales agreements,■ Concession agreements,■ Airport landing-fee agreements,■ Founding business agreement, and■ Any other agreements necessary for the

operations of the project.Collateral agreements typically require

analysis of a project’s ownership along withfinancial and legal structures, such as:■ Credit facilities or loan agreement;■ Indenture;



Recovery rating Recovery description Recovery expectations*

1+ Highest expectation, full recovery 100%¶

1 Very high recovery 90%-100%

2 Substantial recovery 70%-90%

3 Meaningful recovery 50%-70%

4 Average recovery 30%-50%

5 Modest recovery 10%-30%

6 Negligible recovery 0%-10%

*Recovery of principal plus accrued but unpaid interest at the time of default. ¶Very high confidence of fullrecovery resulting from significant overcollateralization or strong structural features.

S&P Recovery Scale


■ Equity-contribution agreement;■ Mortgage, deed of trust, or similar instru-

ment that grants lenders a first-mortgagelien on real estate and plant;

■ Security agreement or a similar instrumentthat grants lenders a first-mortgage lien onvarious types of personal property;

■ Assignments to lenders of project assets,accounts, and contracts;

■ Project-completion guarantees;■ Depositary agreements, which define how

the project cash is handled;■ Shareholder agreements;■ Collateral and inter-creditor agreements;

and■ Liquidity-support agreements, such as let-

ters of credit (LOC), surety bonds, and tar-geted insurance policies.An important objective of our contractual

assessment is the understanding of a project’sfull risk exposure to potential force majeurerisks, and how the project has mitigated suchrisk. Project financings rely on asset andcounterparty performance, but force majeureevents can excuse performance by partieswhen they are confronted with unanticipatedevents outside their control. A careful analy-sis of force majeure events is critical in a pro-ject financing because such events, if notproperly recompensed, can severely disruptthe careful allocation of risk on which thefinancing depends. Floods and earthquakes,civil disturbances, strikes, or changes of lawcan disrupt a project’s operations and devas-tate its cash flow. In addition, catastrophicmechanical failure due to human error ormaterial failure can be a form of forcemajeure that may excuse a project from itscontractual obligations. Despite excusing aproject from its supply obligations, the forcemajeure event may still lead to a defaultdepending on the severity of the mishap.

Technology, construction, and operationsIn part, a project’s rating rests on the depend-ability of a project’s design, construction, andoperation; if a project fails to achieve comple-tion or to perform as designed, many con-tractual and other legal remedies may fail tokeep lenders economically whole.

The technical risk assessment falls into twocategories: construction and operations.

Construction risk relates to:

■ Engineering and design,■ Site plans and permits,■ Construction, and■ Testing and commissioning.

Operations risk relates to:■ Operations and maintenance (O&M) strat-

egy and capability;■ Expansion if any contemplated;■ Historical operating record, if any.

Project lenders frequently may not adequatelyevaluate a project’s technical risk when makingan investment decision but instead may rely onthe reputation of the construction contractor orthe project sponsor as a proxy for technicalrisk, particularly when lending to unratedtransactions. The record suggests that suchconfidence may be misplaced. Standard &Poor’s experience with technology, construc-tion, and operations risk on more than 300project-finance ratings indicates that technicalrisk is pervasive during the pre-and post-con-struction phases, while the possibility of spon-sors coming to the aid of a troubled project isuncertain. Thus, we place considerable impor-tance on a project’s technical evaluation.

We rely on several assessments to completeour technical analysis. One key element is areputable independent expert’s (IE) projectevaluation. We examine the IE’s report to see ifit has the proper scope to reach fundamentalconclusions about the project’s technology,construction plan, and expected operatingresults, and then we determine whether theseconclusions support the sponsor’s and EPCcontractor’s technical expectations. We supple-ment our review of the IE’s report with meet-ings with the IE and visits to the site to inspectthe project and hold discussions with the pro-ject’s management and construction contractoror manager. Without an IE review, Standard &Poor’s will most likely assign a speculative-grade debt rating to the project, regardless ofwhether the project is in the pre- or post-con-struction phase. Finally, we will assess the pro-ject’s technical risk using the experience gainedfrom examining similar projects.

Another key assessment relates to the potentialcredit effect of a major equipment failure thatcould materially reduce cash flow. This analysisgoes hand-in-hand with the contractual implica-tions of force majuere events, described above,and counterparty risk, described below. If thepotential credit risk from such an event is not


mitigated, then a project’s rating would be nega-tively affected. Mitigation could be in the form ofbusiness-interruption insurance, cash reserves,and property casualty insurance. The level of mit-igation largely depends on the project type—some types of projects, such as pipelines and tollroads—are exposed to low outage risks and thuscould achieve favorable ratings with only modestrisk mitigation. In contrast, a mechanically com-plex, site-concentrated project—such as a refineryor biomass plant—can be highly exposed tomajor-equipment-failure risk, and could requirerobust features to deal with potential outagesthat could take months to repair.

Resource availabilityAll projects require feedstock to produce out-put, and we undertake a detailed assessmentof a project’s ability to obtain sufficient lev-els. For many projects, the input-supply risklargely hinges on the creditworthiness of thecounterparty that is obligated to provide thefeedstock, which is discussed below underCounterparty Exposure. Other types of pro-jects, however, such as wind and geothermalpower, rely on the type of natural resourcesof which few third parties are willing to guar-antee production. In these cases, we requirean understanding of the availability of thenatural resource throughout the debt tenor.We use various tools to reach our conclu-sions, but most important will be the analysisand conclusions of a reputable IE or marketconsultant on the resource sufficiencythroughout the debt tenor. In many cases,such as wind, where the assessment can behighly complex, we may require two surveysto get sufficient comfort. Just as with IE tech-nical reports, a project striving for invest-ment-grade and high speculative-grade ratingswill require a strong resource-assessmentreport. However, given the potential foruncertainty in many resource assessments,stronger ratings are likely to require eithermore than one IE resource assessment, geo-graphic diversity, or robust liquidity featuresto meet debt-repayment obligations if theresource does not perform as expected.

Competitive-market exposureA project’s competitive position within itspeer group is a principal credit determinant,even if the project has contractually based

cash flow. Analysis of the competitive marketposition focuses on the following factors:■ Industry fundamentals,■ Commodity price risk,■ Supply and cost risk,■ Regulatory risk,■ Outlook for demand,■ Foreign exchange exposure,■ The project’s source of competitive

advantage, and■ Potential for new entrants or disruptive

technologies.Given that many projects produce a com-

modity such as electricity, ore, oil or gas, orsome form of transport, low-cost productionrelative to the market characterizes manyinvestment-grade ratings. High costs relativeto an average market price in the absence ofmitigating circumstances will almost alwaysplace lenders at risk; but competitive positionis only one element of market risk. Thedemand for a project’s output can changeover time (seasonality or commodity cycles),and sometimes dramatically, resulting in lowclearing prices. The reasons for demandchange are many, and usually hard to predict.Any of the following can make a projectmore or less competitive:■ New products,■ Changing customer priorities,■ Cheaper substitutes,■ Technological change, and■ Global economic and trade developments.

Experience has shown, however, that offtakecontracts providing stable revenues or thatlimit costs, or both, may not be enough to miti-gate adverse market situations. As an example,independent power producers in California hadto restructure parts of fixed-price offtake agree-ments when the utilities there came undersevere financial pressure in 2000 and 2001.Hence, market risk can potentially take ongreater importance than the legal profile of,and security underlying, a project. Conversely,if a project provides a strategic input that hasfew, if any, substitutes, there will be strongereconomic incentives for the purchaser to main-tain a viable relationship with the project.

Counterparty exposureThe strength of a project financing rests on theproject’s ability to generate stable cash flow aswell as on its general contractual framework,




but much of a project’s strength comes fromcontractual participation of outside parties inthe establishment and operation of the projectstructure. This participation raises questionsabout the strength and reliability of such par-ticipants. The traditional counterparties toprojects have included raw-material suppliers,principal offtake purchasers, and EPC contrac-tors. Even a sponsor becomes a source ofcounterparty risk if it provides the equity dur-ing construction or after the project hasexhausted its debt funding.

Other important counterparties to a projectcan include:■ Providers of LOCs and surety bonds,■ Parties to interest rate and currency swaps,■ Buyers and sellers of hedging agreements

and other derivative products,■ Marketing agents,■ Political risk guarantors, and■ Government entities.

Because projects have taken on increasinglycomplex structures, a counterparty’s failurecan put a project’s viability at risk.

Standard & Poor’s generally will not rate aproject higher than the lowest rated entity (e.g.,the offtaker) that is crucial to project perfor-mance, unless that entity may be easilyreplaced, notwithstanding its insolvency or fail-ure to perform. Moreover, the transaction rat-ing may also be constrained by a project spon-sor’s rating if the project is in a jurisdiction inwhich the sponsor’s insolvency may lead to theinsolvency of the project, particularly if thesponsor is the sole owner of the project.

During construction, often the project debtrating could be higher than the credit qualityof the builder by credit enhancement andwhere there is an alternate builder available(see “Credit Enhancements (LiquiditySupport) In Project Finance And PPPTransactions Reviewed,” published toRatingsDirect on March 30, 2007).

Financial performanceStandard & Poor’s analysis of a project’s finan-cial strength focuses on three main attributes:■ The ability of the project to generate suffi-

cient cash on a consistent basis to pay itsdebt service obligations in full and on time,

■ The capital structure and in particular debtpaydown structure, and

■ Liquidity.

Projects must withstand numerous financialthreats to their ability to generate revenuessufficient to cover operating and maintenanceexpenses, maintenance expenditures, taxes,insurance, and annual fixed charges of princi-pal and interest, among other expenses. Inaddition, nonrecurring items must be plannedfor. Furthermore, some projects may alsohave to deal with external risk, such as inter-est rate and foreign-currency volatility, infla-tion risk, liquidity risk, and funding risk. Wefactor into our credit evaluation the project’splan to mitigate the potential effects on cashflow that could be caused by these externalrisks should they arise.

Standard & Poor’s relies on debt-servicecoverage ratios (DSCR) as the primary quan-titative measure of a project’s financial creditstrength. The DSCR is the cash-basis ratio ofcash flow available for debt service (CFADS)to interest and mandatory principal obliga-tions. CFADS is calculated strictly by takingcash revenues from operations only and sub-tracting cash operating expenses, cash taxesneeded to maintain ongoing operations, andcash major maintenance costs, but not inter-est. As an operating cash-flow number,CFADS excludes any cash balances that aproject could draw on to service debt, such asthe debt-service reserve fund or maintenancereserve fund. To the extent that a project hastax obligations, such as host-country incometax, withholding taxes on dividends, andinterest paid overseas, etc., Standard &Poor’s treats these taxes as ongoing expensesneeded to keep a project operating (see “TaxEffects on Debt Service Coverage Ratios,”published to RatingsDirect on July 27, 2000).

In our analysis, we examine the financialperformance of the project under base-caseand numerous stress scenarios. We select ourstress scenarios on a project-by-project basis,given that each project faces different risks.We avoid establishing minimum DSCRs fordifferent rating levels because once again,every project has different economic andstructural features. However, we do requirethat investment-grade projects have strongDSCRs—well above 1x—under typical mar-ket conditions that we think are probable, toreflect the single-asset nature of the business.Strong projects must show very stable finan-cial performance under a wide range of stress


scenarios. We also note that DSCRs for pro-jects with amortizing debt may not be directlycomparable to DSCRs for a project usingcapital structures that involve a small annualmandatory principal repayment—usuallyaround 1%—coupled with a cash-flow sweepto further reduce principal balances.

Capital structure. Standard & Poor’s consid-ers a project’s capital structure as part of anyrating analysis. A project usually combineshigh leverage with a limited asset life, so theproject’s ability to repay large amounts of debtwithin the asset lifetime is a key analyticalconsideration and one of the primary differ-ences between rating a project and a typicalcorporate entity. The same holds true for pro-jects that derive their value from a concession,such as a toll road, without which the “project”has no value; these concession-derived projectfinancings likely have very long asset lives thatextend well beyond the concession term, butnevertheless the project needs to repay debtbefore the concession expiration. Projects thatrely on cash balances to fund final paymentsdemonstrate weaker creditworthiness.

Refinancing risk associated with bulletmaturities typical of corporate or publicfinancings are becoming more common inproject-finance tranactions. Examples includeTerm Loan B structures, in which debt isrepaid through minimal mandatory amortiza-tions—usually 1% per year—coupled with adebt repayment from a portion of distrib-utable cash flow. While these structures cer-tainly reduce default risk due to lowermandatory principal repayments, they almostalways involve a planned refinancing ataround seven-to-eight years. In these types ofarrangements, our credit analysis determinesif the project can refinance debt outstandingat maturity such that it fully amortizes withinthe remaining asset life on reasonable terms.

The finite useful life of projects also intro-duces credit risk from an operational stand-point. Given its depreciating characteristics,an aging project may find it more difficult tomeet a fixed obligation near the end of itsuseful life. Thus, for projects in which theuseful life is difficult to determine, thosestructured with a declining debt burden overtime are more likely to achieve higher creditratings than projects those that do not.

Many projects with high leverage seek cap-

ital structures that involve second-lien debt,subordinated debt, and payment-in-kindobligations. These structures and instrumentsare used to tap different investor markets andbuffer the senior-most debt from default risk.These other classes of debt are issued eitherat the operating project or at the holdingcompany that wholly owns the project.Although such structures can be helpful forsenior debt, it obviously is to the detriment ofthe credit quality of the subordinated debtbecause in most cases this debt class is inferi-or to senior lenders’ rights to cash flow untilsenior debt is fully repaid, or to collateral inthe event of a bankruptcy.

When looking at the creditworthiness ofsubordinate debt, the DSCR calculation is notCAFDS to subordinate debt interest and prin-cipal, but is, rather, total cash available withinthe entire project—after payments of allexpenses and reserve filling—divided by bothsenior and subordinate debt service. Such aformula more accurately measures the subordi-nated payment risk. This differs from thenotching applied in corporate ratings, and theactual rating might be lower than the coverageratio implies, depending on the level of struc-tural lock-up and separation of senior debt.

Another analytical approach for multiple-debt-type structures is to examine the perfor-mance of the project with all of the debt on aconsolidated basis, and then determine therisk exposure for the different classes of debtbased on structural features of the deal andprovisions within the financing documents.To the extent that senior debt is advantaged,lesser obligations are penalized.

Liquidity. Liquidity is a key part of any analy-sis, because lenders rely on a single asset for debtrepayment, and all assets types have unexpectedproblems with unforeseen consequences thatmust be dealt with from time to time.

Liquidity that projects typically have included:■ A debt-service reserve account, to help

meet debt obligations if the project cannotgenerate cash flow due to an unexpectedand temporary event. This reserve is typi-cally sized at six months of annual debtservice, although amounts can be higher asa result of specific project attributes (e.g,strong seasonality to cash flow, annualdebt payments, etc.) The reserve should becash or an on-demand cash instrument.




However, if the reserve is funded with anLOC, we will factor in the potential for theadditional debt burden that would occur ifthe reserve is tapped to help meet debtobligations. A maintenance reserve accountis expected for projects in which capitalexpenditures are expected to be lumpy orwhere there is some concern about thetechnology being employed. Almost allinvestment-grade projects have such areserve. We do not establish a minimumfunding level for these reserves, but gaugethe need based on the findings of the IE’stechnical evaluation and our experience.

■ Look-forward-and-back distribution andlock-up tests to preserve surplus but lower-than-expected cash flows. For investment-grade consideration, a project structure willtypically have a minimum of 12 monthslook forward and look back. The DSCRhurdle that should allow distribution isproject dependent. The test ensures cash isretained to meet the project’s liquidityneeds in times of stress.

Transactional StructureStandard & Poor’s performs detailed assess-ment of the project’s structural features todetermine how they support the project’sability to perform and pay obligations asexpected. Key items include assessing if theproject is structured to be a single-purposeentity (SPE), how cash flow is managed, andhow the insolvency of entities connected tothe project (sponsors, affiliates thereof, sup-pliers, etc.), who are unrated or are ratedlowly, could affect project cash flow.

Special-purpose entitiesProjects generally repay debt with a specificrevenue stream from a single asset, and sincefor projects we rate to debt maturity, we needto have confidence that the project will nottake on other activities or obligations that arenot defined when the rating is assigned.When projects are duly structured as andremain SPEs, we can have more confidence inproject performance throughout the debttenor. If such limitations are absent, wewould tend to rate a project more like acorporation, which would typically assumehigher credit risk. Standard & Poor’s definesa project finance SPE as a limited-purpose

operating entity whose business purposes areconfined to:■ Owning the project assets;■ Entering into the project documents (e.g.,

construction, operating, supply, input andoutput contracts, etc.);

■ Entering into the financing documents(e.g., the bonds; indenture; deeds of mort-gage; and security, guarantee, intercreditor,common terms, depositary, and collateralagreements, etc.); and

■ Operating the defined project business.The thrust of this single-purpose restriction is

that the rating on the debt obligations repre-sents, in part, an assessment of the creditworthi-ness of specific business activities and reducespotential external influences on the project.

One requirement of a project finance SPEis that it is restricted from issuing any subse-quent debt that is rated lower than its exist-ing debt. The exceptions are where the poten-tial new debt was factored into the initial rat-ing, debt is subordinated in payment, andsecurity to the existing debt does not consti-tute a claim on the project. A second require-ment is that the project should not be permit-ted to merge or consolidate with any entityrated lower than the rating on the projectdebt. A third requirement is that the project(as well as the issuer, if different) continues inexistence for as long as the rated debtremains outstanding. The final requirement isthat the SPE have an anti-filing mechanism inplace to hinder an insolvent parent frombringing the project into bankruptcy. In theU.S., this can be achieved by the independent-director mechanism, whereby the SPE pro-vides in its charter documents a specificationthat a voluntary bankruptcy filing by the SPErequires the consenting vote of the designatedindependent member of the board of direc-tors (the board generally owing its fiduciaryduty to the equity shareholder[s]). The inde-pendent director’s fiduciary duty, which isalso to the lenders, would be to vote againstthe filing. In other jurisdictions, the sameresult is achieved by the “golden share”structure, in which the project issues a specialclass of shares to some independent entity(such as the bond trustee), whose vote isrequired for a voluntary filing.

The anti-filing mechanism is not designedto allow an insolvent project to continue


operating when it should otherwise be seek-ing bankruptcy protection. In certain jurisdic-tions, anti-filing covenants have been enforce-able, in which case such a covenant (and anenforceability opinion with no bankruptcyqualification) would suffice. In the U.K. andAustralia, where a first “fixed and floating”charge may be granted to the collateraltrustee as security for the bonds, the collater-al trustee can appoint a receiver to forecloseon and liquidate the collateral without a stayor moratorium, notwithstanding the insolvencyof the project debt issuer. In such circum-stances, the requirement for an independentdirector may be waived.

The SPE criteria will apply to the project(and to the issuer if a bifurcated structure isconsidered), and is designed to ensure thatthe project remains non-recourse in bothdirections: by accepting the project’s debtobligations, investors agree that they will notlook to the credit of the sponsors, but onlyto project revenues and collateral for reim-bursement; investors, on the other hand,should not be concerned about the creditquality of other entities (whose risk profilewas not factored into the rating) affectingproject cash flows.

Where the project acts as operator, theanalysis will look to the ability of the projectto undertake the activities on a stand-alonebasis, and any links to external parties.

Cash managementNearly all project structures employ an inde-pendent trustee to control all cash flow theproject generates, based on detailed projectdocuments that define precisely how cash isto be managed. This arrangement helps pre-vent cash from leaking out of the projectprior to the payment of operating expenses,major maintenance, taxes, and debt obliga-tions. In those cases where there is notrustee, the creditworthiness of the projectwill be linked directly to the cash manager,which is usually the sponsor. Projects seek-ing investment-grade ratings will have cash-management structures that prevent any dis-tributions to sponsors—including tax pay-ments—unless all expenses are fully paid,reserves are full, and debt-service coveragerations looking back and forward for a suf-ficient period are adequate.

Sovereign RiskA sovereign government can pose a numberof risks to a project. For example, it couldrestrict the project’s ability to meet its debtobligations by way of currency restrictions; itcould interfere with project operations; and,in extreme cases, even nationalize the project.As a general rule, the rating on a project issuewill be no higher than the local-currency rat-ing of the project in its host country. Forcross-border or foreign-currency-denominateddebt, the foreign-currency rating of the coun-try in which the project is located is the keydeterminant, although in some instances debtmay be rated up to transfer and convertibility(T&C) assessments of the countryStandard & Poor’s has established. A T&Cassessment is the rating associated with theprobability of the sovereign restricting accessto foreign exchange needed for servicing debtobligations. For most countries, Standard &Poor’s analysis concludes that this risk is lessthan the risk of sovereign default on foreign-currency obligations; thus, most T&C assess-ments exceed the sovereign foreign-currencyrating. A non-sovereign project can be ratedas high as the T&C assessment if its stress-tested operating and financial characteristicssupport the higher rating.

A sovereign rating indicates a sovereigngovernment’s willingness and ability to ser-vice its own obligations on time and in full.The sovereign foreign-currency rating acts asa constraint because the project’s ability toacquire the hard currency needed to serviceits foreign-currency debt may be affected byacts or policies of the government. For exam-ple, in times of economic or political stress,or both, the government may intervene in thesettlement process by impeding commercialconversion or transfer mechanisms, or byimplementing exchange controls. In somerare instances, a project rating may exceedthe sovereign foreign-currency rating if: theproject has foreign ownership that is key toits operations; the project can earn hard cur-rency by exporting a commodity with mini-mal domestic demand, or other risk-mitigat-ing structures exist.

For cross-border deals, however, otherforms of government risk could result in pro-ject ratings below the T&C rating. A govern-ment could interfere with a project by




restricting access to production inputs, revis-ing royalty and tax regimes, limiting access toexport facilities, and other means (see“Ratings Above The Sovereign: ForeignCurrency Rating Criteria Update,” publishedto Rating Direct on Nov. 3, 2005).

Business And Legal Institutional Development RiskEven though a project’s sponsors and its legaland financial advisors may have structured aproject to protect against readily foreseeablecontingencies, risks from certain country-spe-cific factors may unavoidably place lenders atconcomitant risk. Specifically, risk related tothe business and legal institutions needed toenable the project to operate as intended is animportant factor. Experience suggests that insome emerging markets, vital business andlegal institutions may not exist or may existonly in nascent form. Standard & Poor’s sov-ereign foreign-currency ratings do not neces-sarily measure this institutional risk or coun-try risk, and so equating country risk with asovereign’s credit rating may understate theactual risk the project may face (See“Investigating Country Risk And ItsRelationship To Sovereign Ratings In LatinAmerica,” published to RatingsDirect onApril 4, 2007).

In some cases, institutional risk may pre-vent a project’s rating from reaching the hostcountry’s foreign-currency rating, despite theproject’s other strengths. That many infra-structure projects do not directly generateforeign-currency earnings and may not beindividually important for the host’s economymay further underscore the risk.

In certain emerging markets, the conceptsof property rights and commercial law may beat odds with investors’ experience. In particu-lar, the notion of contract-supported debt isoften a novel one. There may, for example, belittle or no legal basis for the effective assign-ment of power-purchase agreements to lendersas collateral, let alone the pledge of a physicalplant. Even if lenders can obtain a pledge, itcould be difficult for them to exercise theircollateral rights in any event. Overall, it is notunusual for legal systems in developing coun-tries to fail to provide the rights and remediesthat a project or its creditors typically requirefor the enforcement of their interests.

Credit EnhancementSome third parties offer various credit-enhancement products designed to mitigateproject-level, sovereign, and currency risks,among other types. Multilateral agencies,such as the Multilateral InvestmentGuarantee Agency, the International FinanceCorp., and the Overseas Private InvestmentCorp. to name a few, offer various insuranceprograms to cover both political and com-mercial risks. Project sponsors can themselvesprovide some type of support in mitigation ofsome risks—a commitment that tends to con-vert a non-recourse financing into a limited-recourse financing.

Unlike financial guarantees provided bymonoline insurers, enhancement packagesprovided by multilateral agencies and othersare generally targeted guarantees and notcomprehensive for reasons of cost or becausesuch providers are not chartered to providecomprehensive coverage. These enhancementpackages cover only specified risks and maynot pay a claim until after the project sustainsa loss. Since they are not guarantees of fulland timely payment on the bonds or notes,we need to evaluate these packages to see ifthey may enhance ultimate post-defaultrecovery but not prevent a default. Once aproject defaults, delays and litigation intrinsicin the claims process may result in lenderswaiting years before receiving a payment.

Therefore, our estimation of the timelinessassociated with the credit-enhancement mecha-nism is critical in the rating evaluation. ForStandard & Poor’s to give credit value to insur-ers, the insurer must have a demonstrated his-tory of paying claims on a timely basis.Standard & Poor’s financial enhancement rat-ing for insurers addresses this issue in the caseof private insurers (see “Credit Enhancements(Liquidity Support) In Project Finance And PPPTransactions Reviewed,” published toRatingsDirect on March 30, 2007).

Outlook for Project FinanceProject finance remains a robust vehicle forfunding all types of infrastructure across theglobe, and its creative financing structurescontinue to attract different classes of bothissuers and investors. Project finance continuesto be a chosen financing technique due to astrong global push to add all types of energy


and transportation infrastructure, and tobuild new or more public-oriented assets,such as stadiums, arenas, hospitals, andschools, just to name a few.

In the Middle East, the continuingdevelopment of mega-sized, government-drivenenergy and real-estate projects is likely tocontinue for years to come. Related invest-ment in shipping to deliver energy from theregion is also enormous.

In the U.S., project finance transactions inthe power sector, both for acquisitions butalso for new gas-and coal-fired plants and ahost of renewable energies, remain veryrobust. Additionally, development activity ofnew nuclear power plants, some of which arelikely to be undertaken on a project financebasis, is being studied. The U.S. market isalso noteworthy for large investments in nat-ural gas prepay deals.

In Europe, project investment in rail andair transportation remains sound, and privatefinance initiative investment in the U.K. con-tinues to be robust. Its cousin, public-privatepartnerships lending for transportation andsocial infrastructure investments in Australiaand Canada, has also strengthened.

These favorable trends offset less-favorabledevelopments in other parts of the world,such as in Latin America, where policies insome countries (Venezuela, for example),

have led to nationalization of some projectassets and an unfavorable market for furtherproject funding.

Investor attention to project risk is impor-tant, especially in light of the relatively easylending covenants and asset valuations seenin a number of project transactions inrecent years.

Standard & Poor’s expects that projectsponsors and their advisors will continue todevelop new project structures and techniquesto mitigate the growing list of risks and financ-ing challenges. As investors and sponsorsreturn to emerging markets, particularly asinfrastructure investment needs increase, pro-ject debt will remain a key source of long-termfinancings. Moreover, as the march towardprivatization and deregulation continues inmarkets, non-recourse debt will likely continueto help fund these changes. Standard & Poor’sframework of project risk analysis anticipatesthe problems of analyzing these new opportu-nities, in both capital-debt and bank-loan mar-kets. The framework draws on Standard &Poor’s experience in developed and emergingmarkets and in many sectors of the economy.Hence, the framework is broad enough toaddress the risks in most sectors that expect touse project finance debt, and to provideinvestors with a basis with which to compareand contrast project risk. ■




The evolution of structured finance tech-niques, and their adaptation by corporate

credit structures, has expanded the methodsby which the credit quality of a subsidiarymight be rated higher than the credit qualityof the consolidated entity. These methods,colloquially referred to as “ring-fencing,” aredescribed here.

Standard & Poor’s Ratings Services takesthe general position that the rating of an oth-erwise financially healthy, wholly owned sub-sidiary is constrained by the rating of its weak-er parent. The basis for this position is that aweak parent has both the ability and theincentive to siphon assets out of its financiallyhealthy subsidiary and to burden it with liabil-ities during times of financial stress. The weakparent might also have an economic incentiveto filing the subsidiary into bankruptcy—if theparent itself were forced into bankruptcy—regardless of the subsidiary’s “stand-alone”strength. Experience suggests that insolventcorporations will often jointly file with theirsubsidiaries—even those subsidiaries not them-selves experiencing financial difficulty.

Before arriving at the rating of any particu-lar subsidiary, Standard & Poor’s assesses thecredit quality of the consolidated entity ofwhich the subsidiary is a part. No rating, perse, is assigned to the consolidated entity;rather, the credit-quality assessment is a proforma measure of the consolidated entity’sgeneral ability to meet its obligations. (See“Consolidated Ratings Methodology” sidebar.)

Issuers and their advisors typically offertwo particular devices to justify a ratings sep-aration between the parent/group and thesubsidiary: the protective covenant and thenonconsolidation opinion. The problem withthese devices is that by themselves they donot go far enough in effectively insulating or“ring-fencing” the subsidiary from its parent.

The protective covenant is designed torestrict the shifting of assets and liabilitiesbetween parent and subsidiary. The covenantaccomplishes this either by outright prohibi-tion of asset transfers and dividend declara-tions or by subjecting such transfers and dec-

larations to stringent tests. The parent mayalso offer a so-called “nonpetition” covenant,by which it undertakes not to file the sub-sidiary into bankruptcy.

Covenants are generally given little weightin the analysis of whether a subsidiary mightbe rated higher than its parent. Courts willrarely compel an entity to comply with orperform the terms of a covenant. They preferinstead to limit remedies to provable mone-tary damages in the event of breach ofcovenant and consequential loss. If a compa-ny breaches its financial covenants and there-after goes into bankruptcy, any proven result-ing damages would have to be recoveredfrom the company’s bankruptcy estate, mostlikely at a relatively low priority. It is, more-over, difficult to draft covenants that willcover every conceivable eventuality.Standard & Poor’s assumes that managementwill, in keeping with its responsibilities toshareholders, attempt to devise ways todefeat covenants that are burdensome.

“Nonpetition” covenants are also problem-atic in that they are unenforceable as a matterof public policy. Although it views nonpeti-tion covenants as an indication (at least, atthe time given) of the parent’s disinclinationto filing a subsidiary into bankruptcy,Standard & Poor’s measures the likelihood ofthe performance of any covenant (such as theobligation to pay timely debt service) by thelevel of the covenantor’s own rating level.Standard & Poor’s views compliance withnonpetition covenants as being, ultimately,more a question of willingness than of ability.

The second device is the offer of a “non-consolidation” opinion by the parent.Nonconsolidation opinions are common instructured finance. The doctrine of substan-tive consolidation allows creditors of a bank-rupt company to ignore the principles of the“corporate separateness” of parent and sub-sidiary if:■ The creditors can persuade the court that

the parent was using the subsidiary to shel-ter the parent’s assets; or

■ The affairs of the parent and the subsidiary

Analysts:

James Penrose, Esq.New York (1) 212-438-6604


Ronald M. BaroneNew York (1) 212-438-7662

Richard W. Cortright, Jr.New York (1) 212-438-7665

Ring-Fencing A Subsidiary

were so intertwined as to make the twoentities essentially indistinguishable.In appropriate circumstances, the court will

“consolidate” the assets of the subsidiarywith those of the bankrupt parent, thusallowing the parent’s creditors access to theassets of the subsidiary. A nonconsolidationopinion addresses the degree of likelihoodthat a court will grant substantive consolida-tion based on the observance by parent andsubsidiary of certain “separateness factors.”Aside from the fact that they are fact-specific,limited in scope, and highly qualified, non-consolidation opinions specifically do notaddress the likelihood of simultaneous bank-ruptcies of the parent and the subsidiary atthe instigation of the parent. Even when acovenant package accompanies a nonconsoli-dation opinion, therefore, the potential still

exists for a parent to act to the detriment ofits subsidiary’s creditors. Exceptions to theweak-parent/strong-subsidiary linkage havebeen made based on particular factual cir-cumstances, such as transactions involvingindependent finance subsidiaries and regulat-ed entities. Even in such instances, however,there typically remains some linkage. Thislinkage usually constrains the rating of anotherwise advantaged subsidiary to one fullrating category (three “notches”) above thecredit quality of the consolidated entity. Incases where a regulated utility is the sub-sidiary, the three-notch, regulatory-based dif-ferential will not often be achieved, since it isonly considered when the subsidiary is locat-ed in an actively regulated jurisdiction likeOregon, California, or Virginia. Similarexamples of ratings that take serious regula-



Before arriving at the rating of any particular subsidiary, Standard & Poor’s analyzes the credit quality ofeach of the subsidiary’s parents and affiliates in arriving at a view of the credit quality of the consolidat-

ed entity. No actual rating is assigned; rather, the credit-quality assessment is a pro forma measure of theconsolidated entity’s general ability to meet its obligations. The consolidated approach is prompted by thefact that corporate managements are presumed to allocate assets to achieve the best results for the share-holders of the overall corporation. For rating purposes, that a company actually moves cash around the orga-nization may be less important than its having the ability and economic incentive to do so.

Economic incentive is the most important factor on which to base judgments about the degree of linkagethat exists between a parent and subsidiary. Business managers have a primary obligation to serve the inter-est of their shareholders, and Standard & Poor’s generally assumes that they will act accordingly. If thismeans infusing cash into a unit that management may once have termed a “stand-alone” subsidiary, or find-ing a way around covenants to get cash out of a “protected” subsidiary, then management can—on thebasis of prior experience and economic incentive—be expected to follow these courses of action.Covenants, support agreements, management assertions, and legal opinions are of secondary importancecompared with economic incentive.

Four consequences may result from the facts surrounding a particular parent/subsidiary relationship. Ifthe subsidiary were sufficiently insulated from its parent, and would otherwise merit a higher rating were ita “stand-alone” entity, then the subsidiary’s senior debt would be rated higher than that of the consolidatedentity. Second, if the insulation were insufficient or the subsidiary’s stand-alone rating were not sufficientlyhigh, its credit quality could be considered equal to that of the consolidated entity’s, if the subsidiary were ofstrategic importance to the parent. On the other hand, the credit of the subsidiary may be rated lower thanthat of the consolidated entity if the subsidiary is a noncore entity, whose parent has no presumptive or“moral” obligation to support it. Fourth, as a result of the “seesaw” effect, if the subsidiary’s credit qualityis rated higher than the parent’s because of the effectiveness of the subsidiary’s insulation, the higher ratingof a subsidiary’s credit may have negative consequences for the rating of the parent’s credit.

A holding company’s debt is also notched down because it is structurally subordinated to the subsidiary’sdebt. This notching reflects not only the inferior recovery prospects for the holding company’s debt in theevent of a bankruptcy, but also the fact that the subsidiary’s creditors will rank prior to the interests of theholding company.

Consolidated Ratings Methodology


tory oversight into account can be found inAustralia and the U. K.

The evolution of structured finance tech-niques, and their adaptation by corporatecredit structures, has expanded the methodsby which the credit quality of a subsidiarymight be rated higher than the credit qualityof the consolidated entity. Of course, corpo-rate affiliation can never be totally ignored,even where the parent has adopted a numberof these structuring techniques. When busi-ness dependencies exist between subsidiaryand parent, such techniques may not berespected by the courts. These methods, col-loquially referred to as “ring-fencing,” arecropping up in a variety of financing situa-tions, including:■ Acquisition financing (the incurring of debt

by a newly formed entity for the purposeof acquiring an existing entity);

■ Monetizing a subsidiary’s dividend distrib-utions (the formation by a low-rated parentof an intermediary subsidiary, interposedbetween the parent and its operating sub-sidiaries, for the purpose of borrowingfunds, the debt service on such loans beingderived from dividend streams receivedfrom the operating subsidiaries); and

■ Corporate spinoffs (the formation by a sin-gle, low-rated parent of a new subsidiary,which then incurs debt for the purpose ofacquiring a relatively profitable line ofbusiness, or assets, from the parent).

Exceptions To The RuleDepending on the “stand-alone” strength ofthe subsidiary, a package of enhancements(including structural features, covenants, and apledge of collateral) may be effective to raisethe rating of the subsidiary a full rating cate-gory over the credit quality of the consolidatedentity. (See “A Ratings Enhancement Package”sidebar.) If the subsidiary has multiple owners,one or more of which is capable of defendingthe subsidiary from the acts of a financiallystressed or insolvent parent, an even wider rat-ing differential may be merited. The basis forthe rating differential is that the package maybe viewed as reducing the means—as well asthe incentive—of the parent to shift assetsfrom and liabilities to the subsidiary, or to fileit into bankruptcy. (The operational nature ofthe subsidiary’s business distinguishes this

approach from true securitizations in whichdifferentials of three or more ratings categoriescan be achieved. Securitizations of statisticallypredictable pools of accounts receivable are, inthe view of Standard & Poor’s, fundamentallydifferent from the business and financial issuescharacteristic of operating entities.)

StructureAs noted above, parent/subsidiary linkage isprompted, in part, by two concerns:■ That a healthy subsidiary’s assets may be

consolidated with those of its insolventparent; and

■ That the parent will have the ability tocause the subsidiary to file itself into bank-ruptcy, despite the fact that the subsidiaryis not itself experiencing financial difficulty.Ensuring that the subsidiary is a limited-purpose operating entity, somewhat similarto the “special purpose entity” (SPE) foundin a securitization, may mitigate this bank-ruptcy risk.While the SPE is, strictly speaking, a crea-

ture of securitization, its operating assetanalogues are found in the limited-purposeoperating entities employed in industrial-based or project-financed transactions. Inthe context of a “ring-fenced” transaction,Standard & Poor’s expects that such limited-purpose entity will:■ Be “single-purpose”;■ Incur no additional debt (beyond that sized

into the rating and necessary for routinebusiness purposes, such as trade debt andordinary working-capital facilities toprestated levels);

■ Not merge or consolidate with a lower-rated entity;

■ Not dissolve; and■ Have an “independent director.”

In the context of a “ring-fenced” transac-tion, the operative feature is the indepen-dent director.

Absent any stipulation to the contrary, acompany’s directors have a fiduciary duty toits shareholders. The fiduciary duties of thesubsidiary’s directors are understood toinclude the execution of the parent’s instruc-tions, including an order to file the subsidiaryinto bankruptcy voluntarily. (A financiallyhealthy subsidiary should not properly beinvoluntarily filed by the parent, since the


subsidiary would be able to pay its debts asthey become due.)

To ensure that this duty is fulfilled properly,the charter documents of the SPE require theaffirmative vote of the independent director, anindividual with no tie or relationship to theparent, as a prerequisite to the SPE’s voluntari-ly filing itself into bankruptcy. The charter doc-uments of the SPE require the independentdirector to take into account the interests of thecreditors of the subsidiary (including the hold-ers of the rated debt), in addition to the inter-ests of the shareholding parent, when decidingto file. The creditors of the subsidiary wouldalmost certainly be prejudiced by such a filing.

As is the case in true securitizations, theSPE is most effective when paired with a non-consolidation opinion. The combination ofthe SPE structure and the nonconsolidationopinion may provide some comfort that theparent and its potentially more highly ratedsubsidiary are adequately distanced fromeach other, thus justifying the existence of arating differential between the credit qualityof the subsidiary and the credit quality of theconsolidated entity. Nevertheless, structuralseparation alone may simply elevate formover substance when the subsidiary has sig-nificant operating and business dependencieson the parent (and vice versa). Consequently,the advantages of structural separation maybe lost if such dependencies exist.

An additional structural protection is theuse by the subsidiary of a “lockbox” mecha-nism, whereby accounts receivable owed to

the subsidiary are deposited by its customersdirectly into a bank account controlled by,and in the name of, the security trustee or col-lateral agent for the rated debt. The trustee oragent then allocates the cash according to adistribution mechanism designed to:■ Pay the costs of the subsidiary’s operations;■ Settle administrative expenses; and■ Pay debt service while segregating cash from

the direction and control of, and potentialinterference by, the lower-rated parent.

CovenantsTogether with structural (or regulatory) andcollateral provisions, a tightly draftedcovenant package is important in preservingthe financial well-being and autonomy of thesubsidiary. These covenants may include (butare not limited to):■ Dividend tests;■ Negative pledges;■ Nonpetition covenants;■ Prohibitions against creating new entities;

and■ Restrictions on asset transfer and intercom-

pany advances.In structures where the subsidiary has affil-

iates, covenants prohibiting any intercorpo-rate dealings whatsoever (even when subjectto “arm’s-length” tests) may be desirablebecause of the potential for abuse.

CollateralIf the debt is fully secured by a pledge of allor substantially all of the assets of the sub-



I n appropriate circumstances, a ratings enhancement package may be sufficient to notch the rating ofthe subsidiary above the credit quality of the consolidated entity. Such a package of enhancements

should include:■ Structure (SPE, or special-purpose entity; “limited-purpose operating entity”; collateral-agent control

of cash);■ Covenants; and■ Pledging of collateral.

However, the extent of such differential will rarely approach that found in a true securitization (in whichdifferentials of three or more ratings categories can be achieved) because of the operational nature of thesubsidiary’s business.

Multiple ownership of the subsidiary may, in appropriate circumstances, allow the rating of the subsidiaryto be raised above the rating of either parent to the level of the subsidiary’s “stand-alone” rating.

A Ratings Enhancement Package


sidiary, the parent, in principle, has less free-dom to deal with the assets of the subsidiaryand, therefore, a reduced incentive to file thesubsidiary into bankruptcy. The security usu-ally takes the form of a subsidiary’s generalpledge of its assets to the collateral agent orsecurity trustee, and a parent’s pledge of itsownership interest, e.g., membership (LLC),partnership, (LP) or share (corporation inter-est) in the subsidiary as security for payment.

In support of the pledge, Standard &Poor’s will request that the parent and thesubsidiary provide evidence of the pledge,including, for example, in the case of realproperty, title insurance showing the interestof the collateral agent or security trustee anda legal opinion (addressed to Standard &Poor’s) stating that the collateral agent orsecurity trustee has a first perfected securityinterest in all other collateral in which a secu-rity interest can be perfected, either by pos-session or filing, or at common law. If thesubsidiary is unwilling or unable to pledge itsassets, reduced credit may be given for theparent’s pledge of its ownership interest inthe subsidiary.

Regulatory supervisionTransactions involving electric, water, naturalgas, and telephone utilities may be subject toregulatory supervision. In the context of theweak-parent/strong-subsidiary linkage, theutility usually represents the strong sub-sidiary. Regulatory approval, influence, ormandate may well have a positive effect oncredit quality. The effect of regulation is feltminimally when the subsidiary must secureregulatory approval to sell debt or dividendcash to the parent. Depending on particularcircumstances, the rating differential createdby such regulatory environment may be com-pounded by a package of structure,covenants, and collateral.

Multiple ownershipIn circumstances where the subsidiary is con-trolled by at least two parents, or is the sub-

ject of a joint venture, the insolvency or finan-cial difficulty of a particular venturer is lesslikely to have consequences for the creditquality of the subsidiary. The measure of con-trol that a particular parent can exercise isusually related to the size of its ownershipinterest and the extent of its legal rights in thesubsidiary. For this reason, the percentage ofownership is significant, but the identity andnature of any other owner is equally impor-tant in assessing its capabilities for effectivelyblocking an attempt by a co-owner to file thesubsidiary. In general, where two or more par-ents are motivated and able to prevent eachother from harming the credit quality of thesubsidiary, the rating of the credit quality ofthe subsidiary may be higher than that of anyparent’s, if justified on a “stand-alone” basis.Moreover, the subsidiary may depend moreheavily on one particular parent, in whichcase the subsidiary’s rating may be affected bythe dependency.

ConclusionIn the U. S., there are a number of more orless traditional ways in which the credit qual-ity of a subsidiary might be rated higher thanthe credit quality of its parent entity. In com-mon-law jurisdictions such as the UnitedKingdom and Australia, there may be greaterpotential for differentiation. In all cases, the“package” of distancing mechanisms thatserves as the basis for the rating differentia-tion should be an extensive one. Nevertheless,ratings benefits accruing to the subsidiarythrough the methods described above maycome at a price: To the extent that the credit-quality rating of the subsidiary is elevatedabove the credit quality of the consolidatedentity, the rating of the consolidated entitymay be reduced. Finally, it cannot be overem-phasized that the differentials achieved bytrue securitization will seldom be possible ina corporate transaction because of “single-asset” or enterprise risk, regardless of thestructural and other features incorporatedinto the transaction. ■


C redit enhancements are provided in pro-jects to deliver timely and certain liquidity

support for project-critical cash flows andactivities. To help mitigate construction risks,new forms of credit enhancements haveemerged—from liquidity support during con-struction or operations, to contributions ofdebt and equity. This article reviews the tradi-tional support mechanisms used in projectfinance and public-private partnership (PPP)transactions, and explores the principlesunder which new alternate support mecha-nisms may be recognized as acceptable formsof credit enhancement.

The Limitations Of Liquidated DamagesA project may, from time to time, need cashto cover the expense of replacing an insolventor failing construction or operating companyto cover the cash costs of delays or cost over-runs. Although liquidated damages (LD) pro-vide an important incentive in a constructioncontract, LDs often do not provide a timelycash equivalent that is certain in amount. Thecash equivalent is required to ensure that theproject generates sufficient cash to fulfill itsdebt-service obligations and leave creditorpositions unaffected by any underperfor-mance in construction. LDs have a history ofbeing disputed. Consequently, without someform of immediate accessible liquidity, LDscannot be relied upon by issuers of projectfinance debt for the timely payment of princi-pal and interest if an unplanned event occursduring construction.

Other Forms Of Liquidity Support Increasingly ExploredTraditionally, letters of credit (LOC) havebeen the main instrument used by issuers toprovide payment certainty in such adversecircumstances. However, alternate approachesto credit enhancement and liquidity supportare increasingly being explored. Naturally,there has been an ongoing effort to reducethe cost of financing in structuring projects—for example, through delaying the contribu-tion of cash (equity and debt), through con-

tributions or progressive draw-downs, andmore recently by using cheaper alternativeforms of credit support than LOC.

Another driver of alternative forms of creditenhancement and liquidity has been a desireto improve the overall construction packageto mitigate the fact that the builder may berated lower than the target project rating. Anadequate third-party construction liquiditypackage can mitigate the potentially con-straining factor of weak construction coun-terparty risk. Unlike many traditional pro-jects, most PPPs typically enjoy a well-advanced design and often the availability ofalternate contractors who have the ability tocomplete construction, thus possibly prevent-ing default. Ultimately, the size of construc-tion credit enhancement will be a function ofthe underlying construction complexity, anyspecific construction risks, contract structure,and the availability of alternative contractorsand liquidity to support the delays and costsincurred through replacing a contractor.

It is timely, therefore, to reviewStandard & Poor’s Ratings Services’approach to credit enhancement for projectfinance and PPP transactions.

Standard & Poor’s has long taken the posi-tion that an unconditional and irrevocable LOCthat is payable on demand (legally and practi-cally) and issued by an appropriately rated bankcan be treated as timely credit support for trans-actions rated at or below the rating of the LOCprovider. Consequently, the LOC has becomethe benchmark against which other forms ofcredit enhancement are measured.

To match the LOC benchmark for assign-ing rating benefit, other forms of creditenhancement/liquidity instruments must:■ Have unambiguous terms and conditions

that obligate the provider to pay promptly,without limitation, a certain sum of moneyif a particular circumstance occurs;

■ Be granted in a legal environment that hasa demonstrable history of enforcing instru-ments of its type; and

■ Be granted by a provider that has a demon-strated willingness and ability to pay in

Analysts:


Andrew RobinsonMelbourne (61) 3-9631-2171

Jonathan ManleyLondon (44) 20-7176-3952

Credit Enhancements (LiquiditySupport) In Project Finance AndPPP Transactions Reviewed



accordance with the instrument’s terms. It isimportant that the provider demonstrates awillingness to make timely, rather than even-tual, payment. Consequently, Standard &Poor’s expects the provider to be an appro-priately rated liquidity provider—a bank oran insurance company—that complies withStandard & Poor’s Financial EnhancementRating (FER) ratings and has the capacity topay without delay.

Instrument Should Provide A Certain Cash Equivalent When NeededStandard & Poor’s uses a principle-basedapproach to evaluate the certainty and timeli-ness characteristics of each proposed creditenhancement instrument, and considers that,at a minimum, they should contain the fol-lowing concepts:■ The instrument should contain explicit and

unambiguous undertakings consistent withirrevocable and unconditional direct andprimary financial obligations of promptand full payment;

■ The terms and conditions of the instru-ment should permit a draw at the project’s discretion;

■ The governing law of the instrumentshould be in a jurisdiction where speedyenforcement is available, and the juris-diction should be willing to speedilyenforce payment;

■ The instrument provider should waive alldefenses to payment;

■ The instrument provider should waive itsright to amend the instrument without pay-ing it out fully, and must not be able to ter-minate the instrument;

■ The instrument should specify that, asappropriate, the project or the holders ofrated securities are beneficiaries of theinstrument; and

■ The funds drawn can be used to rectify theexpected problem.As part of the evaluation, Standard &

Poor’s will analyze the following:■ “Events of default” and “remedies” provi-

sions of the construction contract forwhich the credit enhancement is written;

■ Payment in contractor insolvency;■ Proof of loss and proof of liability;■ Expiration of the instrument; and■ Mechanics of enforcement.

In practice, there have been instances ofLOCs becoming subject to injunction ordelayed through other legal action.Standard & Poor’s rating analysis shouldconclude that the “pay first, appeal later”regime on which liquidity support is premisedis not undermined by some other provision.

Adjudication bonds are increasingly usedas a credit-enhancement feature in U.K. PPPand private finance initiative (PFI) projects.These bonds are often provided to supportthe obligations of contractors who are unrat-ed and unlikely to be investment grade.Although the precise terms and conditions ofthese bonds vary instrument by instrument,the key credit concern is the lack of timelypayment. While supported by legislation, thetime lag in payment—which is largely a resultof the need to prove a valid claim—couldextend beyond the expected 28-day timeframe by anything up to three months, evenin a non-adversarial scenario. This time lagprevents the use of adjudication bonds asadequate financial enhancement if no short-term liquidity is available. However, somebonds have been structured to provide an“on-demand” element of support that fast-tracks the adjudication payment in certaincircumstances, such as contractor insolvency,while retaining the full adjudication processfor the remainder of the bond.

Clearly, if Standard & Poor’s judges thatthe requirement for cash can easily be accom-modated within the time frame for adjudica-tion, then an adjudication bond may be recog-nized as valuable credit support.Unfortunately, even in the U.K., where there issome limited history to support adjudicationbonds as liquidity instruments, Standard &Poor’s view is that, to date, such history isinsufficient to give the degree of certaintyrequired for its rating analysis at the invest-ment-grade level without other mitigating fea-tures that reduce the risk, such as having aninvestment-grade contractor. Outside theU.K., the lack of specific legislation and a his-tory of enforcement mean such instrumentswill have limited value in ratings analysis.

Early Australian PPP projects benefitedfrom an LOC covering 100% of construction,thus linking the construction risk to that ofthe LOC provider. In some later deals, however,this was replaced by a “limited use” LOC.


Typically, because of the limited circumstancesor use for which they are available, these lim-ited use LOC are generally not given muchweight as credit enhancement for rating pur-poses. A new limited use instrument hasrecently emerged that is drawn to “top up”any shortfall between the termination payoutby the State and outstanding debt. This limit-ed use LOC enhances recovery during con-struction, but doesn’t prevent default risk. Italso expires upon completion of construction,and as such provides no support to recoveryor default risk during operations.

Liquidity Provider Should Be Appropriately Rated And Be Able And Willing To Provide LiquidityThe provider of liquidity should be a bank,usually with a minimum rating above the pro-ject rating. If the counterparty is downgraded,it either has to be replaced with a suitablyrated counterparty, find a suitably rated guar-antor, or post collateral in a market-standardmanner. Depending on the structure, highercounterparty ratings may be required due tothe potential for decreased liquidity if thecounterparty needs to be replaced. The applic-able counterparty-rating threshold should bedefined in the bond documents as the mini-mum rating for an eligible provider, withappropriate trigger mechanisms for replace-ment, collateralization, or termination.

Insurance companies, unlike banks, are gener-ally not liquidity providers, but may be accept-able if they comply with a Standard & Poor’sFER, which was created to address investors’concerns about an insurer’s willingness andcapacity to pay on a timely basis. Standard &Poor’s believes that surety policies provided byinsurers may offer an adequate alternative toLOCs, provided the issuer of the surety policyhas clearly indicated its willingness to pay policyclaims on a timely basis, and where the suretyprovider’s rating is sufficient to support the rat-ing on the transaction. Standard & Poor’s crite-ria for an FER require written acknowledgementfrom the insurer’s management that it has dis-closed all information material to the insurancecommitment and that it will, as a matter of poli-cy, honor claims on a pay-first timely basis with-out regard to potential defenses. The purpose ofthe two-part review is to have the credit-enhancement insurance policy state clearly that it

will operate in a similar way to a financial guar-anty while having management certify that as abusiness matter it will pay policy claims or faceratings consequences.

Issuers of credit enhancements also needthe capacity to pay on demand. If the LOCbank or surety provider is a foreign-domi-ciled entity, it should make ancillaryarrangements between the provider and anappropriately rated domestic liquidityprovider to provide sufficient liquidity tosupport timely payment of the guaranteedobligations in full and without deductionson account of tax. Even in cases where thereis a domestic funding base, if the project isrequired to lodge its demand in a placeremoved from the location of the project,this may burden the payment mechanismwith additional delays and undermine thetimely nature of the support.

Letters Of Credit Are Still Best For Some EnhancementsLOCs are used in project finance transac-tions to support the obligation of a sponsorto infuse capital into the project during theconstruction phase instead of at financialclosing. At the same time, LOCs may beused as a substitute for funding project-reserve accounts, such as a debt-servicereserve fund. It is not currently envisagedthat surety or adjudication bonds are ade-quate substitutes for LOC in these applica-tions. While banks and insurers with an FERmay be acceptable liquidity providers, pen-sion funds or corporates do not have a trackrecord of paying now and disputing later. Assuch, pension funds and corporates are notconsidered suitable alternative providers,notwithstanding their credit quality.

In rated transactions, if the rating relies onan LOC or demand instrument, Standard &Poor’s requests a certificate or representationthat there are no provisions in the construc-tion contract that would allow for the grantof a temporary restraining order or injunctionin respect of a draw under the LOC. Suretyproviders, by contrast, often require bothproof of liability and evidence of loss, and itis from such proof requirements that muchlitigation stems. This is why performancesureties have not been traditionally fullyaccepted as a form of liquidity.


Credit Enhancements (Liquidity Support) In Project Finance And PPP Transactions Reviewed


Contractor-Supplied Support Is Still A Credit PositiveThe payment and performance obligationsfor an unrated builder may be supported by aguarantee running from a rated parent. Asneither the parent nor the unrated construc-tion company subsidiary typically providesliquidity, and as construction companies havea history of arguing first and paying later,even a highly rated parent may not be consid-ered an adequate source of liquidity.

Retention of a disputed amount of LDs cango some way to providing liquidity, but canlead to an acrimonious relationship rather thana co-operative one and, as they are funded pro-

gressively, may not be sufficient to compensatethe project for the early insolvency of thebuilder. LDs can also put pressure on a builderand, hence, accelerate a potential insolvency.

Contractor-provided sureties and LOCs areseen as better than project-supplied instru-ments. As construction companies reduce theextent of their credit support, transactionstructures are forced to look for support else-where to mitigate construction risk. Althoughalternative credit support protects transactioncash flow, if these mechanisms are drawnupon, it will increase the debt of the issuerand lead to predictable creditconsequences. ■


This article describes Standard & Poor’sRatings Services methodology for assigning

recovery ratings to project-finance loans. Issue-specific recovery ratings are increasingly impor-tant for project lenders and borrowers as theyhelp quantify a project’s loss-given-default(LGD), which is an important component incalculating bank capital requirements (for banklenders), market liquidity, and loan pricing.

In late 2004, Standard & Poor’s publishedcriteria describing its recovery rating methodol-ogy for secured corporate debt. Those criteriadescribed how recovery ratings use a new scaleranging from ‘1+’ (reflecting the highest expec-tation of recovery of principal) through to ‘5’(reflecting negligible recovery of principal).

Recovery ratings do not blend default riskand recovery given default, as conventionalissue ratings do. Rather, they express only anopinion of an issue’s recovery prospects. Eachrating category corresponds to a specificrange of recovery values (see table 1).

Corporate recovery ratings were an exten-sion of earlier criteria that allowed for “notch-ing up” of ratings on certain debt obligations.These criteria stated that if a particular obliga-tion had reasonable prospects for full recovery,given a default, it could be rated above thecorporate credit rating on the borrower. Inmany cases, higher recovery ratings are war-ranted through a legally effective pledge of col-lateral security that secures the borrowing.

A project finance transaction generally pro-vides lenders with full security. Project financ-ing focuses on a special purpose entity (SPE)whose capital structure is created for the pur-pose of acquiring, financing, and operatingthe project facility. All of the assets of theSPE, as well as its ownership interests, arepledged to lenders. The SPE has a single busi-ness purpose, is limited in the amount of debtthat it can issue, and has various otherrestrictions imposed on it as a condition of itsborrowing. In return, lenders agree to looksolely to the project cash flows and assets insatisfaction of their debt. These facts makeproject financing eminently suitable forrecovery analysis with the proviso that the

pledge mechanism is subject to creditors’rights laws (that is, bankruptcy regimes).These regimes vary from country to countrywith some being “creditor friendly” and oth-ers being “debtor friendly,” while some arevirtually nonexistent. Well-secured projectdebt that is subject to the U.S. BankruptcyCode generally receives a higher rating thanwould an unsecured loan. On the other hand,no consideration is given for security in manycountries such as China, where propertyrights and their enforcement are in a nascentstate, which makes the bankruptcy processvirtually unpredictable.

Project Finance Recovery Rating MethodologyAssigning a recovery rating to a project loanconsists of analyzing the project’s default riskand, secondly, analyzing whether cash fromthe project—postdefault, whether derivedfrom operations or from an asset sale—is suf-ficient to repay lenders’ principal. The likeli-hood of default, of course, is irrelevant to arecovery analysis. It is not beyond the realmof possibility for a low probability of defaultto coexist with a weak recovery in default.Nevertheless, the circumstances of a potentialdefault are germane to the recovery outcome.Thus, comprehending the default scenario ispart of every analysis.

As part of its rating process, Standard &Poor’s also analyzes the project’s legal struc-ture and the collateral pledged to secure theproject loans. The recovery risk profile isestablished by assessing the project collateraland subjecting the collateral values to stressanalysis under different postdefault scenarios.High collateral coverage levels can increaseconfidence that pledged assets will cover thesecured debt, even under adverse conditions(although greater levels of collateral obviouslydo not entitle a creditor to any more than theamount of the claim).

Default scenariosThe analysis of recovery prospects for securedproject debt—which underpins the assign-

Analysts:

Anne-Charlotte PedersenLondon (44) 20-7176-3554

James PenroseNew York (1) 212-438-6604

Peter RigbyNew York (1) 212-438-2085



Michael WilkinsLondon (44) 20-7176-3528


Recovery Ratings For Project Finance Transactions



ment of both conventional issue ratings andrecovery ratings—focuses exclusively on theeconomic value of the project in the postde-fault scenario. The current value of the pro-ject—even if stressed for various economicand technical operating contingencies—is notrelevant. The only meaningful stress scenariois the one consistent with the default. This istrue whatever method is used to appraise theproject’s value, be it discounted cash flow ofthe enterprise or some other approach.

For recovery ratings for corporate loans,comprehending the default scenario is perhapsthe most challenging aspect of LGD analysis.For rated projects, however, predicting thecause of default is sometimes easier. Projectsfail, or suffer downgrades, for various rea-sons. They can nevertheless be grouped undervarious headings: vulnerability to counterpar-ty credit downgrades, sovereign risk, technicalrisk, competitive exposure, exposure to weakparents or sponsors, and poor financial per-formance. In the great majority of cases, thesefactors exacerbate the fundamental problem:an overly-ambitious borrowing program thatso burdens the project that it has little roomto maneuver around a structural dependencyor other weakness. In rare cases (and in only afew low-rated projects), the default issue lieswith a fundamental misjudgement about theeconomic or technical (or both) viability ofthe project. In the first instance, a financialrestructuring will often restore the project toviability. In the latter, the inability of the pro-ject ever to meet its obligations not only pre-cludes any meaningful recovery, but may alsoexpose the lender to clean-up or remediate

costs where the equity in the project has longsince vanished.

Availability of collateralIt is the nature of project financing to haveall project collateral pledged as security forthe project loan. From the earliest days ofproject and infrastructure finance ratings,Standard & Poor’s has insisted that ratedproject financings—regardless of the ratingon the project—(or in the case of a multi-tranched debt structure for senior debt) havea first-priority lien on all project assets:receivables, inventory, trademarks, patents,plants, property, equipment, and a pledge bythe project SPE’s owners of the SPE’s sub-sidiary stock. In effect, project lenders havethe entire enterprise as collateral, includingeverything needed to ensure operations con-tinue as smoothly as possible in case lenderstake possession. Furthermore, Standard &Poor’s assumption is that the whole is usuallyworth more than the sum of its parts, as longas the business enterprise continues as agoing concern. That quality in and of itselftends to support, all else being equal, strongrecoveries because it greatly facilitates a cred-itor’s ability to take over operations withminimal, if any, disruption to revenues.Indeed, a project’s financing documentationtypically anticipates the potential situation inwhich lenders take control of a project, there-by eliminating much of the enterprise valuedestruction that often accompanies a corpo-rate bankruptcy due to a multitude of com-peting claims. That one class (or perhaps twoor three at most) of secured-lender exits helpsensure that lenders’ interests will be alignedwith each other, which should facilitate aproject restructuring—which is another factorthat should help preserve enterprise value.

In theory, project creditors might find it dif-ficult to foreclose and seize the collateral, asthey are likely to be thwarted by a bankruptcyfiling by the project SPE. In the U.S., at least, abankruptcy filing imposes a stay on a credi-tor’s right to the collateral during what is oftena long and tortuous reorganization process.Moreover, the U.S. bankruptcy judge often haswide discretion (although seldom exercised) tosubstitute collateral. Indeed, project bankrupt-cies never result in liquidation: the SPE is usu-ally reorganized. The decision of whether to


Recovery rating Recovery description Recovery expectations*

1+ Highest expectation, full recovery 100%¶

1 Very high recovery 90%-100%

2 Substantial recovery 70%-90%

3 Meaningful recovery 50%-70%

4 Average recovery 30%-50%

5 Modest recovery 10%-30%

6 Negligible recovery 0%-10%

*Recovery of principal plus accrued but unpaid interest at the time of default. ¶Very high confidence of fullrecovery resulting from significant overcollateralization or strong structural features.

Table 1 S&P Recovery Scale

reorganize is influenced by a myriad of factors,including the legal system, industry trends,perceived long-term viability of the business,and regulatory or political considerations. Theform the reorganization takes, including theresolution of creditors’ claims, is the result of anegotiated process worked out before or afteran actual bankruptcy filing.

Theoretical bankruptcy filing proceedingnotwithstanding, in practice, Standard &Poor’s has observed that when a project-financed enterprise faces an insolvency situa-tion, the sponsors frequently turn the projectover to the lenders, especially when theenterprise is not a viable going concern. Inthe U.S. many banks currently own manyfailed merchant power plants that fell intoinsolvency as a result of the collapse of themerchant power market. A similar situationexists in the U.K., where merchant plantsand others—most markedly the largest coalfired power plant in Europe, Drax—are alsoowned by its financiers.

Valuation MethodologiesAs noted above, Standard & Poor’s considerswhether default is likely because of factorsunrelated to the business position of the pro-ject or a fundamental deterioration in theunderlying project viability. Thus, if projectbasics are sound but a default occurred nev-ertheless for other reasons, a restructuring ofthe project’s capital structure, renegotiationof certain contracts, the replacement of non-performing transaction parties, or other solu-tion might allow the project to return to prof-itability. If the project basics are sound, andthe project SPE is capable of performing, a“project value analysis” (similar to an “enter-prise value analysis” for a corporate loan) isperformed. On the other hand, when the pro-ject’s viability is seriously at issue, a “liquida-tion analysis” might be a more appropriatemethod of determining the value of the assetsconstituting the collateral. Again, any valuemight potentially be qualified by clean up orremediation expenses to be borne by lendersunder relevant lender-liability laws. The twoapproaches are described below.

Project value analysisWhere project value analysis is appropriatebecause of the continuing viability of the pro-

ject, a discounted cash flow (DCF) approach isemployed. The DCF approach is based on afinancial model incorporating historical operat-ing data and forecast cash flow over a discreteperiod that lasts until the originally scheduledfinal maturity date. The cash flows during adiscrete period will be stressed to reflect themost likely default scenario. The adjusted cashflows are discounted back to the present valueat the point of default using a discount ratethat reflects our assessment of the risk of theenterprise, to arrive at a project value.

One of the advantages of assessing pro-ject-finance recovery values using the DCFapproach, compared with calculating recov-eries for corporate entities, is that most pro-jects produce a single commodity or provideone primary service—such as electricity ortransport along a toll road. Typically amore easily observable demand and priceexists for the product and its inputs asopposed to a company that may manufac-ture hundreds, if not thousands, of productsacross multiple sites. Moreover, it is verylikely that the project will never cease oper-ations, which would eliminate the need tomake assumptions about how and when theenterprise will resume operations and atwhat cost. Indeed, if a project has a long-term contract, that contract might very welllikely survive the bankruptcy or defaultprocess intact. Although projects by theirnature have finite lives and the recovery isbased on the level of rated debt, the valueof the cash flows may extend beyond theterm of the debt, particularly in the case ofbullet maturities.

Liquidation approachThe liquidation approach is applied whenthe project is not considered to be a goingconcern or where the transaction is onlypartially secured. Value assumptions arebased on the concept of an orderly liquida-tion of assets under a forced sale. Importantconsiderations include the type and amountof collateral, whether its value is objectivelyverifiable and likely to hold up during vari-ous postdefault scenarios, and any legalissues related to perfecting and enforcing thesecurity interest. The analytical startingpoint is the assets’ current value. For pro-jects this may be difficult to establish.




Corporate borrowers often have peers, butprojects tend to be unique and might lackany reference to establish a market value.Clearly any objective valuation of the pro-ject assets will support a more accurate esti-mate of a project recovery under a liquida-tion approach. For example, a project mighthave little future enterprise value but may belocated on valuable real estate, which—ifavailable for alternative usage—supportsrecovery. The assets’ potential to retainvalue over time is critical. Collateral is,therefore, judged according to volatility, liq-uidity, and its special-purpose nature.

The Recovery RatingIn arriving at its collateral valuation,Standard & Poor’s determines the project’s“ultimate recovery” of principal assumingthat the bankruptcy or administration processfully plays out. We do not determine ultimaterecovery on the basis of, for example, what adefaulted loan might sell for at a fire sale ordistressed loan price. This approach is differ-ent from that applied to some collateralizeddebt obligation (CDO) structures, where thefocus may be on liquidation values shortlyafter default—generally “distressed market”prices that are often lower than the ultimaterecovery. Standard & Poor’s ultimate recov-ery calculation, therefore, is the net amountafter deduction of administration and relateddirect costs of bankruptcy, or restructuring

and workout costs (which can significant),costs of resolution of any contingent liabili-ties, and any prior-ranking claims (for exam-ple: taxes, environmental claims, and statelaw liens).

It should also be noted that Standard &Poor’s uses the nominal value of recovery,rather than a discounted value, at the time ofdefault. We consider it appropriate to usenominal recovery rates because the selectionof a discount rate and the assumption of atime to recovery are subjective considerationsbest applied by individual investors. Ofcourse, these nominal recovery rates can dif-fer widely across the globe.

Project capitalization and structural factorsRecovery ratings take into account variousother factors, such as structural features ofthe transaction and the applicable insolvencylaws applying to the project. For example, asound security structure in a creditor friendlyenvironment might indicate a higher proba-bility of successful recovery.

Project capitalization. A project’s capitalstructure is a factor in the recovery rating.Project loans have traditionally not beentranched because of a project’s “single-asset”risk. Tranching, however, may be relevant incertain circumstances and is increasinglybecoming a feature of project financing.

Lower-priority tranches generally benefit thehigher tranches as they protect them byabsorbing certain potential losses. The relativeposition of the tranche within the capital struc-ture and amount of prior claims are also fac-tored in when calculating a project’s recoveryrating. In evaluating a tranched debt structure,Standard & Poor’s assumes that any debt-service reserve accounts are not available.

In evaluating a project’s capital structure,Standard & Poor’s considers:■ Equity contributions;■ Junior debt and other subordination;■ Contingent equity;■ Whether the composition of the stakehold-

er group makes it likely that the businesswill be restructured;

■ Debt-service schedule;■ Intercreditor agreement terms, especially

the rights of senior lenders in relation tosubordinated debt providers;

■ Payment blockage mechanisms;


The(Ranking*) U.K. France Germany Italy Spain Netherlands

Ability to access assets within a corporate group 4 1 4 1 2 4

Ability to take and retain security over all or most assets within a corporate group 4 2 3 3 2 4

Ability to commence and/or retain control over the insolvency process 3¶ 1 3 2 2 4

Ability to enforce security and achieve realizations within a reasonable timescale 3¶ 2 3 2 2 4

Overall ranking on creditors’ rights 4 2 3 2 2 4

*Where 4 is strong and 1 is weak. ¶Rankings are preliminary, pending further evaluation of the effects of theEnterprise Act 2002.

Table 2 Assessment Criteria For Ranking European Insolvency Regimes

■ Acceleration rights; and■ The voting majority required to initiate

enforcement proceedings.Any obligations under hedges and swaps

are also considered.Project security. In evaluating the sufficien-

cy of project collateral, Standard & Poor’salso considers the completeness of the securitypackage, enforceability of guarantees, and thelocation of the collateral. This latter factor isimportant as projects in creditor-friendly juris-dictions are assumed, all other things beingequal, to have greater ability to enforce andrealize security on a timely basis. If the opera-tions of a company are widely dispersed orare located predominantly in debtor-unfriend-ly jurisdictions, the analysis might change.

Jurisdictional considerations. Access to col-lateral and the timing of its realization largelydepends on how the relevant legal regimeresolves bankruptcies. Creditor rights varygreatly, depending on the country. Standard &Poor’s has published reports on the security

and insolvency regimes of the U.K., France,and Germany, and plans to publish furtherreports on Spain, Italy, and The Netherlandslater this year. The U.S. bankruptcy regime,with its emphasis on reorganization, has alsoreceived considerable coverage.

In creditor-friendly jurisdictions such as theU.K. and Germany, lenders can usually exer-cise their rights to attach and liquidate collat-eral before there is a significant deteriorationin value. Conversely, in countries like Franceand Italy, bankruptcy courts can prevent cred-itors from taking any action to enforce theirrights to collateral during the legal process,exposing them to greater risks. Furthermore,other considerations such as the extent towhich the courts set aside security providedduring “hardening” or “preference” periods;the strength of the rights and protectionsavailable to secured creditors when exercisingtheir security rights during insolvency or amoratorium; or control of proceedings mightalso affect the analysis. ■




In recent years, project debt issuers world-wide have increasingly been using financial

guarantee insurance provided by monolineinsurers, also referred to as monoline wraps.A key element in the process of the monolinewrap is the capital charge Standard & Poor’sassigns. This capital charge is important fordetermining the capital adequacy of, and ulti-mately the rating on, the monoline insurers.This article aims to make transparent the wayStandard & Poor’s determines each project’scapital charge and supersedes the capitalcharges listed in our Global Bond Insurancecriteria book, which are no longer valid forproject finance transactions.

A monoline wrap provides an “uncondi-tional and irrevocable” financial guaranteefrom the insurer to pay all or a certain por-tion of a project’s scheduled principal andinterest on time and in full to debt providersif the project is unable to do so. The projectdebt guaranteed by the monoline is assigneda higher rating than the project’s underlyingrating. This higher rating is equalized withthe financial strength rating on the monoline.The underlying project debt rating, whichStandard & Poor’s assigns to each wrappedproject, is generally lower, reflecting the pro-ject’s real underlying business and financialrisks. As a result of providing the guarantee,monolines are exposed to the underlying riskof the project. This determines their portfoliorisk and the charge to capital.

Each project finance transaction is unique,both in terms of risks and structural features,and so is the capital charge. Consequently,Standard & Poor’s uses the same methodolo-gy for every monoline insured project to cal-culate the applicable capital charge.

Capital charges have been assigned byStandard & Poor’s since the mid 1980s buthave been adjusted over time to reflect creditconditions and market trends.

Defining The Capital ChargeCapital charge is the theoretical loss based ona worst-case economic environment, i.e., aneconomic depression case. The capital charge

is expressed as a product of:■ Likelihood of default by the issuer (i.e.,

default risk or frequency); and■ Severity of default measured in terms of

loss in asset value recovery.

The default risk is equivalent toStandard & Poor’s default probability at agiven rating. It does not vary between differ-ent projects that have been assigned the samerating. The severity factor is transaction spe-cific, however, because each project has aunique combination of asset-related risks andcontractual, financing, and legal issues.Consequently, the capital charge varies acrossasset classes and primarily reflects differencesin the recovery potential.

Once the two factors have been deter-mined, the capital charge for issues is a per-centage of par value.

Standard & Poor’s applies the same capitalcharge across an entire rating category. Issuesrated ‘A’, ‘A+’, and ‘A-’, for example, havethe same capital charge. Once a capitalcharge has been assigned, Standard & Poor’sreviews it regularly as part of its surveillance.

Furthermore, the same capital charge isused for all the insurers involved in that pro-ject, irrespective of which insurer provides thewrap. This is because the transaction defaultfrequency and severity measure reflect theproject risks and are independent of the insur-ance company that insures the project debt.

The process of estimating capital chargescan be complex and involve reasoning andmodeling. Empirical data on new asset classesor new financing types, for example, is notalways available or useful. Estimating loss-given default can also be complex in coun-tries where the creditor regime has not beentested or the enforcement of security is com-plex and lengthy.

The fundamental approach to calculatingthe capital charge for project debt is generallythe same as that adopted for corporates.

Analysts:



Dick P. SmithNew York (1) 212-438-2095

David VenoNew York (1) 212-438-2108

Parvathy IyerMelbourne (61) 3-9631-2034

Standard & Poor’s MethodologyFor Setting The Capital Charge On Project Finance Transactions

Capital charge = Default frequency X lossunder a worst-case default

Nevertheless, the financing and structuralaspects of a project can demand subjectivejudgment of recovery potential, and thereforethe capital charge. Even so, similar transac-tions under a similar creditor regime areoften likely to provide a good benchmark fora new transaction.

PrerequisitesAssigning an underlying rating to the projectis a required step toward enabling the calcu-lation of the capital charge. The underlyingrating is determined in the same way as anunwrapped project debt rating and is basedon the same criteria. The underlying rating isdetermined irrespective of whether the mono-line guarantee applies to all the project debtor only a portion of it.

Standard & Poor’s relies only on in-housedeterminations of default frequency andrecovery estimates. Ratings and recovery val-ues estimated by other rating agencies or pro-fessional bodies are not used as referencepoints for assigning the capital charge. The in-house data enable Standard & Poor’s to main-tain consistency across various jurisdictions,transactions, and operating environments.

Calculating The Capital ChargeDefault frequencyThe default frequency for a given rating isdetermined using Standard & Poor’s corpo-rate default study. The default study identifiesthe highest historical default rates across vari-ous sectors by rating category over a periodof years. The leading global economies, theU.S. and Europe, have not, over the past 15years, represented a worst-case depression-like scenario, and so the default rates aregrossed up to what Standard & Poor’sbelieves to be worst-case levels. Through sim-ulations of such scenarios across various sec-

tors, Standard & Poor’s calculates worst-casedefault frequency for long-term risks acrossthe rating categories (see table).

Loss-given defaultLoss-given default is unique for each project,for the reasons given above in “Defining TheCapital Charge.” It can differ between twoassets in the same sector and jurisdiction.There can also be different degrees of confi-dence regarding recovery. Subjective judgmentsare critical for deciding how to stress collateralvalues in hypothetical post-default scenarios,but market trends can supplement theoreticalestimates. For the purposes of assigning a capi-tal charge, Standard & Poor’s currentlyassumes a maximum recovery of 90%.

Example. This example gives an illustra-tion of how the capital charge on a projectrated ‘A’ is determined. The steps are: todetermine the ‘A’ underlying rating on theproject; read the default frequency from thetable above; estimate the loss-given default;and finally determine the capital charge.■ The project’s underlying rating is ‘A’.■ The default frequency for the ‘A’ rating cat-

egory is 7.1%.■ The estimated asset recovery value is 60%.■ The loss-given default is 40% (100%

minus 60%).■ The capital charge is 7.1% multiplied by

40%: 2.84% of par value.

Cross-border issuanceProjects located in one country often raisedebt in another market. Such situations giverise to sovereign-related risks that could affectthe ability and willingness of the entity to ser-vice its foreign currency debt. In the past, weadjusted capital charges to reflect these risks.Effective this year, however, our methodologyfor calculating capital charges for projectcross-border issuance has been revised.

Based on evidence that sovereigns underpolitical and economic stress are less oftenrestricting nonsovereign entities’ access to theforeign exchange needed for debt service,cross-border transactions (even without struc-tural sovereign risk mitigation features) canbe rated above the sovereign foreign currencyrating, up to the “Transfer and ConvertibilityRisk Assessment” for the relevant sovereignjurisdiction. Project ratings incorporate all


Standard & Poor’s Methodology For Setting The Capital Charge On Project Finance Transactions

Worst-case Rating category default frequency (%)

AA 5.9

A 7.1

BBB 14.8

BB 55.4

Worst-Case Default Frequency


transfer and convertibility risk and other rele-vant country risks. Furthermore, many cross-border project finance transactions containsignificant additional structural mitigants fordirect sovereign interference risk, which makean additional “sovereign risk” adjustment tothe capital charge unnecessary.

Our new methodology for setting the capi-tal charge for cross-border project financetransactions is therefore based on the defaultrate associated with the transaction’s foreigncurrency rating and severity of loss-givendefault. The latter will continue to be ananalytical assessment based on the uniquecharacteristics of each individual transactionanalyzed by Standard & Poor’s.

Surveillance Of The Capital ChargeThe capital charge is dynamic and all projectsthat have a monoline wrap have been sur-veilled since 2005. This surveillance enablesan adjustment to the capital charge if theunderlying project’s default risk or recoveryprospects improve or worsen.

The Capital Charge And New RatingsProject debt issuers and monoline insurers areencouraged to begin dialogue withStandard & Poor’s at an early stage in theproject-financing process to help avoid any

surprises later on. Early dialogue is particu-larly important because most projects arerated at the lower end of the rating scale,where the capital charge is substantially high-er and can affect the premium payable to themonoline. Borderline differences in ratingoutcome can have a substantial impact on theapplicable capital charge.

Standard & Poor’s is often asked by mono-line insurers to give indicative capital charges,sometimes even before the rating process is ini-tiated. We provide this indication based onestimated default risk and recovery levels.Only once the rating (default risk) has beenassigned to a project and the recovery ratedetermined is the final capital charge calculat-ed. The final capital charge can therefore differfrom the indicative one, as the latter is basedon estimates and on very limited information.

NoteRelated criteria, including the Global BondInsurance criteria book, are available to sub-scribers of RatingsDirect, the real-time Web-based source for Standard & Poor’s creditratings, research, and risk analysis, atwww.ratingsdirect.com. Criteria can also be found on our public Web site at www.standardandpoors.com. ■



For many years, Standard & Poor’s RatingsServices has viewed power supply agree-

ments (PPA) in the U.S. utility sector as creat-ing fixed, debt-like financial obligations thatrepresent substitutes for debt-financed capitalinvestments in generation capacity. In a sense, autility that has entered into a PPA has contractedwith a supplier to make the financial invest-ment on its behalf. Consequently, PPA fixedobligations, in the form of capacity payments,merit inclusion in a utility’s financial metrics asthough they are part of a utility’s permanentcapital structure and are incorporated in ourassessment of a utility’s creditworthiness.

We adjust utilities’ financial metrics, incor-porating PPA fixed obligations, so that wecan compare companies that finance andbuild generation capacity and those that pur-chase capacity to satisfy customer needs. Theanalytical goal of our financial adjustmentsfor PPAs is to reflect fixed obligations in away that depicts the credit exposure that isadded by PPAs. That said, PPAs also benefitutilities that enter into contracts with suppliersbecause PPAs will typically shift various risksto the suppliers, such as construction risk andmost of the operating risk. PPAs can also pro-vide utilities with asset diversity that mightnot have been achievable through self-build.The principal risk borne by a utility thatrelies on PPAs is the recovery of the financialobligation in rates.

The Mechanics Of PPA Debt ImputationA starting point for calculating the debt to beimputed for PPA-related fixed obligations canbe found among the “commitments and con-tingencies” in the notes to a utility’s financialstatements. We calculate a net present value(NPV) of the stream of the outstanding con-tracts’ capacity payments reported in thefinancial statements as the foundation of ourfinancial adjustments.

The notes to the financial statements enu-merate capacity payments for the five yearssucceeding the annual report and a “there-after” period. While we have access to pro-prietary forecasts that show the detail under-

lying the costs that are amalgamated beyondthe five-year horizon, others, for purposes ofcalculating an NPV, can divide the amountreported as “thereafter” by the average of thecapacity payments in the preceding five yearsto derive an approximate tenor of theamounts combined as the sum of the obliga-tions beyond the fifth year.

In calculating debt equivalents, we alsoinclude new contracts that will commenceduring the forecast period. Such contractsaren’t reflected in the notes to the financialstatements, but relevant information regard-ing these contracts are provided to us on aconfidential basis. If a contract has been exe-cuted but the energy will not flow until somelater period, we won’t impute debt for thatcontract until the year that energy deliveriesbegin under the contract if the contract repre-sents incremental capacity. However, to theextent that the contract will simply replace anexpiring contract, we will impute debt asthough the future contract is a continuationof the existing contract.

We calculate the NPV of capacity paymentsusing a discount rate equivalent to the com-pany’s average cost of debt, net of securitiza-tion debt. Once we arrive at the NPV, weapply a risk factor, as is discussed below, toreflect the benefits of regulatory or legislativecost recovery mechanisms.

Balance-sheet debt is increased by the risk-factor-adjusted NPV of the stream of capacitypayments. We derive an adjusted debt-to-cap-italization ratio by adding the adjusted NPVto both the numerator and the denominatorof that ratio.

We calculate an implied interest expensefor the imputed debt by multiplying thesame utility average cost of debt used as thediscount rate in the NPV calculation by theamount of imputed debt. The adjusted FFO-to-interest expense ratio is calculated byadding the implied interest expense to boththe numerator and denominator of theequation. We also add implied depreciationto the equation’s numerator. We calculatethe adjusted FFO-to-total-debt ratio by

Analysts:

David BodekNew York (1) 212-438-7969

Richard W. Cortright, Jr.New York (1) 212-438-7665

Solomon B. SamsonNew York (1) 212-438-7653


John W. WhitlockNew York (1) 212-438-7678

Standard & Poor’s MethodologyFor Imputing Debt For U.S.Utilities’ Power Purchase Agreements


adding imputed debt to the equation’sdenominator and an implied depreciationexpense to its numerator.

Our adjusted cash flow credit metricsinclude a depreciation expense adjustment toFFO. This adjustment represents a vehicle forcapturing the ownership-like attributes of thecontracted asset and tempers the effects ofimputation on the cash flow ratios. We derivethe depreciation expense adjustment by multi-plying the relevant year’s capacity paymentobligation by the risk factor and then subtract-ing the implied PPA-related interest expensefor that year from the product of the risk fac-tor times the scheduled capacity payment.

Risk FactorsThe NPVs that Standard & Poor’s calculatesto adjust reported financial metrics to capturePPA capacity payments are multiplied by riskfactors. These risk factors typically rangebetween 0% to 50%, but can be as high as100%. Risk factors are inversely related tothe strength and availability of regulatory orlegislative vehicles for the recovery of thecapacity costs associated with power supplyarrangements. The strongest recovery mecha-nisms translate into the smallest risk factors.A 100% risk factor would signify that all riskrelated to contractual obligations rests on thecompany with no mitigating regulatory orlegislative support.

For example, an unregulated energy com-pany that has entered into a tolling arrange-ment with a third-party supplier would beassigned a 100% risk factor. Conversely, a0% risk factor indicates that the burden ofthe contractual payments rests solely withratepayers. This type of arrangement isfrequently found among regulated utilitiesthat act as conduits for the delivery of athird party’s electricity and essentially deliverpower, collect charges, and remit revenues tothe suppliers. These utilities have typicallybeen directed to sell all their generationassets, are barred from developing new gener-ation assets, and the power supplied to theircustomers is sourced through a state auctionor third parties, leaving the utilities to act asintermediaries between retail customers andthe electricity suppliers.

Intermediate degrees of recovery risk arepresented by a number of regulatory and

legislative mechanisms. For example, someregulators use a utility’s rate case to establishbase rates that provide for the recovery of thefixed costs created by PPAs. Although we seethis type of mechanism as generally supportiveof credit quality, the fact remains that theutility will need to litigate the right to recovercosts and the prudence of PPA capacity pay-ments in successive rate cases to ensureongoing recovery of its fixed costs. For sucha PPA, we employ a 50% risk factor. In caseswhere a regulator has established a powercost adjustment mechanism that recovers allprudent PPA costs, we employ a risk factor of25% because the recovery hurdle is lowerthan it is for a utility that must litigate timeand again its right to recover costs.

We recognize that there are certain jurisdic-tions that have true-up mechanisms that aremore favorable and frequent than the reviewof base rates, but still don’t amount to purepass-through mechanisms. Some of thesemechanisms are triggered when certain finan-cial thresholds are met or after prescribedperiods of time have passed. In theseinstances, in calculating adjusted ratios, wewill employ a risk factor between the revised25% risk factors for utilities with power costadjustment mechanisms and 50%.

Finally, we view legislatively created costrecovery mechanisms as longer lasting andmore resilient to change than regulatory costrecovery vehicles. Consequently, such mecha-nisms lead to risk factors between 0% and15%, depending on the legislative provisionsfor cost recovery and the supply functionborne by the utility. Legislative guarantees ofcomplete and timely recovery of costs areparticularly important to achieving the lowestrisk factors.

Illustration Of The PPA Adjustment MethodologyThe calculations of the debt equivalents,implied interest expense, depreciationexpense, and adjusted financial metrics, usingrisk factors, are illustrated in the table on thenext page.

Short-Term ContractsStandard & Poor’s has abandoned its histori-cal practice of not imputing debt for contractswith terms of three years or less. However, we



Standard & Poor’s Methodology For Imputing Debt For U.S. Utilities’ Power Purchase Agreements

understand that there are some utilities thatuse short-term PPAs of approximately oneyear or less as gap fillers pending the con-struction of new capacity. To the extent thatsuch short-term supply arrangements repre-sent a nominal percentage of demand andserve the purposes described above, we willneither impute debt for such contracts norprovide evergreen treatment to such contracts.

Evergreen TreatmentThe NPV of the fixed obligations associatedwith a portfolio of short-term or intermedi-ate-term contracts can lead to distortions in autility’s financial profile relative to the NPVof the fixed obligations of a utility with aportfolio of PPAs that is made up of longer-term commitments. Where there is the poten-

tial for such distortions, rating committeeswill consider evergreen treatment of existingPPA obligations as a scenario for inclusion inthe rating analysis. Evergreen treatmentextends the tenor of short-and intermediate-term contracts to reflect the long-term obliga-tion of electric utilities to meet their cus-tomers’ demand for electricity.

While we have concluded that there is alimited pool of utilities whose portfolios ofexisting and projected PPAs don’t meaning-fully correspond to long-term load servingobligations, we will nevertheless apply ever-green treatment in those cases where theportfolio of existing and projected PPAs isinconsistent with long-term load-servingobligations. A blanket application of ever-green treatment is not warranted.

($000s) Assumption Year 1 Year 2 Year 3 Year 4 Year 5 Thereafter

Cash from operations 2,000,000

Funds from operations 1,500,000

Interest expense 444,000

Directly issued debt

Short-term debt 600,000

Long-term due within one year 300,000

Long-term debt 6,500,000

Shareholder’s Equity 6,000,000

Fixed capacity commitments 600,000 600,000 600,000 600,000 600,000 600,000 4,200,000*

NPV of fixed capacity commitments

Using a 6.0% discount rate 5,030,306

Application of an assumed 25% risk factor 1,257,577

Implied interest expense¶ 75,455

Implied depreciation expense 74,545

Unadjusted ratios

FFO to interest (x) 4.4

FFO to total Debt (%) 20.0

Debt to capitalization (%) 55.0

Ratios adjusted for debt imputation

FFO to interest (x)§ 4.0

FFO to total debt (%)** 18.0

Debt to capitalization (%)¶¶ 59.0

*Thereafter approximate years: 7. ¶The current year’s implied interest is subtracted from the product of the risk factor multiplied by the cur-rent year’s capacity payment. §Adds implied interest to the numerator and denominator and adds implied depreciation to FFO. **Addsimplied depreciation expense to FFO and implied debt to reported debt. ¶¶Adds implied debt to both the numerator and the denominator.FFO—Funds from operations. NPV—Net present value.

Example Of Power-Purchase Agreement Adjustment



To provide evergreen treatment, Standard &Poor’s starts by looking at the tenor of out-standing PPAs. Others can look to the “com-mitments and contingencies” in the notes to autility’s financial statements to derive anapproximate tenor of the contracts. If we con-clude that the duration of PPAs is short relativeto our targeted tenor, we would then addcapacity payments until the targeted tenor isachieved. Based on our analysis of several com-panies, we have determined that the evergreenextension of the tenor of existing contracts andanticipated contracts should extend contractsto a common length of about 12 years.

The price for the capacity that we addwill be derived from new peaker entryeconomics. We use empirical data toestablish the cost of developing new peak-ing capacity and reflect regional differ-ences in our analysis. The cost of newcapacity is translated into a dollars perkilowatt-year figure using a weightedaverage cost of capital for the utility and aproxy capital recovery period.

Analytical Treatment Of Contracts With All-In Energy PricesThe pricing for some PPA contracts is statedas a single, all-in energy price. Standard &Poor’s considers an implied capacity pricethat funds the recovery of the supplier’s capi-tal investment to be subsumed within the all-in energy price. Consequently, we use a proxycapacity charge, stated in $/kW, to calculatean implied capacity payment associated withthe PPA. The $/kW figure is multiplied by thenumber of kilowatts under contract. In casesof resources such as wind power that exhibitvery low capacity factors, we will adjust thekilowatts under contract to reflect the antici-pated capacity factor that the resource isexpected to achieve.

We derive the proxy cost of capacity usingempirical data evidencing the cost of devel-oping new peaking capacity. We will reflectregional differences in our analysis. The costof new capacity is translated into a $/kW fig-ure using a weighted average cost of capitaland a proxy capital recovery period. Thisnumber will be updated from time to time toreflect prevailing costs for the developmentand financing of the marginal unit, a com-bustion turbine.

Transmission ArrangementsIn recent years, some utilities have enteredinto long-term transmission contracts in lieuof building generation. In some cases, thesecontracts provide access to specific powerplants, while other transmission arrangementsprovide access to competitive wholesale elec-tricity markets. We have concluded that thesetypes of transmission arrangements representextensions of the power plants to which theyare connected or the markets that they serve.Irrespective of whether these transmissionlines are integral to the delivery of powerfrom a specific plant or are conduits towholesale markets, we view these arrange-ments as exhibiting very strong parallels toPPAs as a substitute for investment in powerplants. Consequently, we will impute debt forthe fixed costs associated with long-termtransmission contracts.

PPAs Treated As LeasesSeveral utilities have reported that theiraccountants dictate that certain PPAs need tobe treated as leases for accounting purposesdue to the tenor of the PPA or the residualvalue of the asset upon the PPA’s expiration.We have consistently taken the position thatcompanies should identify those capacitycharges that are subject to operating leasetreatment in the financial statements so thatwe can accord PPA treatment to those obliga-tions, in lieu of lease treatment. That is, PPAsthat receive operating lease treatment foraccounting purposes won’t be subject to a100% risk factor for analytical purposes asthough they were leases. Rather, the NPV ofthe stream of capacity payments associatedwith these PPAs will be reduced by the riskfactor that is applied to the utility’s other PPAcommitments. PPAs that are treated as capitalleases for accounting purposes will notreceive PPA treatment because capital leasetreatment indicates that the plant under con-tract economically “belongs” to the utility.

Evaluating The Effect Of PPAsThough history is on the side of full cost recov-ery, PPAs nevertheless add financial obligationsthat heighten financial risk. Yet, we apply riskfactors that reduce debt imputation to recog-nize that utilities that rely on PPAs transfer sig-nificant risks to ratepayers and suppliers. ■


Summary ReferenceAbengoa Bioenergy of Nebraska LLCSector: Oil and gas

Location: Nebraska, U.S.

Debt amount: $90 mil sr secd term bank lndue 2013

Rating/Outlook: B-/Watch Pos

Description: Abengoa has built and is operat-ing a new 88 million gallon per year dry-millethanol plant located in Ravenna, Neb. Theproject faced long delays in construction, andachieved substantial completion six monthsbehind schedule.

The AES Corp.Sector: Power

Location: Virginia, U.S.

Issuer Credit Rating: BB-/Stable/—

Description: AES’s assets are diversifiedacross 25 countries in North America, LatinAmerica, Europe, Africa, the Middle East,and Asia. The company owns its projectsindirectly through individual project sub-sidiaries. The company invests in variouslines of business, included competitive supply,contract generation, and integrated utilities.

AES Dominicana Energia Finance S.A.Sector: Power

Location: Dominican Republic

Debt amount: $160 mil 11% sr nts due Dec 2015

Rating/Outlook: B-/Stable

Description: AES Dominicana is a special-pur-pose financing entity that issued the bonds andon-lent the funds through an intermediatebank to AES Andres B.V., which in turn usedthe funds to repay a loan facility and for othercorporate purposes. AES Dominicana managestwo of The AES Corp.’s wholly owned gener-ating facilities, Andres and DPP, representing540 MW of electric generating capacity.

AES Eastern Energy L.P.Sector: Power

Location: New York, U.S.

Debt amount: $550 mil pass thru certificatesser 1999

$75 mil car rate revolv credit fac bank ln dueJan 2008

Rating/Outlook: BB+/Stable

Description: AES Eastern Energy owns andoperates four merchant coal-fired generatingplants, representing 1,268 MW of electricgenerating capacity. The AES Corp. owns100% of the project.

AES Ironwood LLCSector: Power

Location: Pennsylvania, U.S.

Debt amount: $308.5 mil 8.857% sr secdbonds due Nov 2025

Rating/Outlook: B+/Stable

Description: AES Ironwood is a 705 MWcombined-cycle, natural gas-fired generatingstation. The project sells capacity and energyto Williams Power Co. Inc., a subsidiary ofThe Williams Companies Inc., under a 20-year power purchase agreement. These tollsare currently in the process of being sold toBear Stearns Energy.

AES Red Oak LLCSector: Power

Location: New Jersey, U.S.

Debt amount: $224 mil 8.54% sr secd bondsdue Nov 2019

$160 mil 9.2% sr secd bonds due Nov 2029


Description: AES Red Oak is an 830 MWcombined-cycle, natural gas-fired generatingstation that sells power to the Williams PowerCompany Inc. under a 20-year power purchaseagreement. These tolls are currently in theprocess of being sold to Bear Stearns Energy.

Summary Reference

Ajman Sewerage (Private) Co. Ltd.Sector: Other

Location: United Arab Emirates

Debt amount: $100 mil sr secd bank ln due Jan2026 (Guarantor: Ambac Assurance UK Ltd.)

Rating/Outlook: AAA, BBB(SPUR)/Stable

Description: The Ajman Sewerage project isbuilding a sewerage system and seweragetreatment plant for the emirate of Ajman inthe United Arab Emirates. The project is abuild-operate-transfer scheme to produceclean water, which will be used for irrigation.Ajman is a small emirate located to the eastof Dubai.

Alinta Co-Generation (Pinjarra) Pty. Ltd.Sector: Power

Location: Australia

Debt amount: A$118 mil project financebank ln due June 2015 (Guarantor: AlintaElectricity Trading Pty. Ltd.)

A$118 mil project finance bank ln due June2015 (Guarantor: Alinta Electricity TradingPty. Ltd.)

Rating/Outlook: BBB/Watch Neg

Description: The funds were used to build a140 MW cogeneration unit at Alcoa ofAustralia’s Pinjarra alumina refinery. Alcoa ofAustralia uses all the steam output in itsrefinery, and Alinta sells the electricity directto contestable customers in the WesternAustralian market.

Alliance Pipeline L.P.Sector: Pipelines

Location: Canada

Debt amount: C$300 mil 7.23 sr notes dueJune 2015

C$300 mil 5.546% sr notes due Dec 2023

C$350 mil 7.217% sr secd notes due Dec2025

C$400 mil 6.76% sr notes due Dec 2025

C$450 mil 7.181% sr notes ser A dueDec 2025

Rating/Outlook: BBB+/Stable

Description: Owned by Fort Chicago EnergyPartners L.P. and Enbridge Income Fund,Alliance L.P. owns the Canadian portion of a1,875-mile natural gas pipeline project, withassociated laterals, which extend from theWestern Canada Sedimentary Basin in north-eastern British Columbia and northwesternAlberta to the Chicago Market Hub. The sys-tem delivers 1.325 billion cubic feet (bcf) ofnatural gas per day on a firm basis, withadditional authorized overrun service vol-umes of about 20%.

Alliance Pipeline Limited PartnershipSector: Pipelines

Location: U.S.

Debt amount: US$200 mil 7.877% notes dueDec 2025

US$300 mil 4.591% sr secd notes due Dec 2025

US$300 mil 7.77% sr notes due June 2015

US$350 mil 6.996% notes due Dec 2019

Rating/Outlook: BBB+/Stable

Description: Owned by Fort Chicago EnergyPartners L.P. and Enbridge Inc, AlliancePipeline Limited Partnership owns the U.S.portion of a 1,875-mile natural gas pipelineproject, with associated laterals, whichextend from the Western CanadaSedimentary Basin in northeastern BritishColumbia and northwestern Alberta to theChicago Market Hub. The system delivers1.325 bcf of natural gas per day on a firmbasis, with additional authorized overrun ser-vice volumes of about 20%.


Alpha Schools (Highland) Project PLCSector: Other

Location: U.K.

Debt amount: £60 mil fxd rate sr secd EIBbank ln due 2035 (Guarantor: AmbacAssurance UK Ltd.)

£81.8 mil fxd rate gtd sr secd bnds (plus £17mil variation bnds) due Jan 2036 (Guarantor:Ambac Assurance UK Ltd.)


Description: The funds are being used tofinance the design and construction of newschool facilities for the Highland Council inScotland. The project company, AlphaSchools, is responsible for building and pro-viding the maintenance for certain noneduca-tional support services to the 11 new schoolsunder a 31-year project agreement.

Alte Liebe 1 Ltd.Sector: Power

Location: Germany

Debt amount: €102 mil 4.7% bnds due Dec2025 (Bond insurance provider: AmbacAssurance UK Ltd.)

Rating/Outlook: AAA, BBB-(SPUR)/Stable

Description: Alte Liebe is a special-purposevehicle that raised funds for the Alte Liebewind power transaction that consists of eightwind farms with a capacity of 142 MW.

Ashmore Energy InternationalSector: Power-Developer

Location: Latin America, Europe, Asia

Debt amount: $105 mil synthetic revolvingcredit fac bank ln due March 2012 (Co-issuer: AEI Finance Holding LLC)

$1 bil first lien term loan bank ln due March2014 (Co-issuer: AEI Finance Holding LLC

$395 mil first lien revov redit fac bank lndue March 2012 (Co-issuer: AEI FinanceHolding LLC)


Description: Ashmore Energy International (AEI)has ownership interests in and managerial respon-sibilities for 19 energy assets in 14 countries. AEI’sinvestment companies serve about 8 million cus-tomers through about 37,000 kilometers (km) ofgas and liquids pipelines, about 120,000 km ofelectric transmission and distribution lines, andabout 1,900 MW of generating capacity.

Aspire Defence Finance PLCSector: Other

Location: U.K.

Debt amount: £884.075 mil bnds ser B dueMarch 2040 (Guarantor: MBIA UKInsurance Ltd.)

£884.075 mil nts ser A due March 2040(Guarantor: Ambac Assurance UK Ltd.)

Rating/Outlook: AAA (prelim), BBB-(SPUR)/Stable

Description: The funds will be used by AspireDefence Ltd. to design, build, finance, andoperate new living and working accommoda-tion for the U.K. Ministry of Defence, andprovide support and estate-management ser-vices under a 35-year project agreement.


Summary Reference

Astoria Generating Co. Acquisitions LLCSector: Power


Debt amount: $430 mi first lien term loan Bbank ln

$100 mil first lien working capital fac bank ln

Rating/Outlook: BB-/Stable

Debt amount: $300 mil second lien term loanC bank ln

Rating/Outlook: B/Stable

Description: Astoria Gen owns three separatesites with generating assets: Astoria, a 1,230MW natural gas/fuel oil-fired plant inAstoria, Queens, N.Y. and the Gowanus andNarrows sites (818 MW), two barge-mount-ed facilities using combustion turbines forpeaking capacity in Brooklyn, N.Y.

Austin Convention Center Enterprises Inc.Sector: Other

Location: Texas, U.S.

Debt amount: $165 mil conv ctr hotel 1st tierrev bnds ser 2006A due Jan 2034; $95.17 milconv ctr hotel 2nd-tier rev rfdg bonds ser2006B due Jan 2034 (obligor: AustinConvention Center Enterprises Inc.)

Rating/Outlook: AAA insured, BBB-(SPUR)/Stable; BB/Stable

Description: Proceeds of the bonds were usedto build an 800-room convention centerheadquarters hotel in Austin, Texas, whichopened in Dec 2003. The hotel is owned byACE, a nonprofit public facilities corporationcreated and organized by the City of Austin.It is managed by Hilton Hotels Corp. and isoperating under the Hilton name.

Autoban - Concessionaria do SistemaAnhanguera BandeirantesSector: Transport

Location: Brazil

Debt amount: BRL510 mil deb ser 3 due 2104

Rating/Outlook: brAA/Stable

Description: Autoban is a 316.76 kilometer roadsystem located in the key state of Sao Paulo,Brazil. It is one of the most important road sys-tems in Brazil and one of its busiest transporta-tion corridors, linking the state’s exportingagribusinesses to the main road that connects tothe port in Santos. It is the main corridor fortransporting industrial products from surround-ing areas to other states in the country. The roadaverages about 300,000 vehicles per day.

Autolink Concessionaires (M6) PLCSector: Transport

Location: U.K.

Debt amount: £124.8 mil 8.39% sr bnds serA1 due June 2022 (Guarantor: FinancialSecurity Assurance (U.K.) Ltd.)

Rating/Outlook: AAA, BBB+(SPUR)/Stable

Description: Autolink, which is owned byAutolink Holdings (M6) Ltd., owns andoperates the M6 motorway project. Autolinkused the bond proceeds to fund the construc-tion and upgrade of the A74 highway insouth Scotland to “motorway” (M6) stan-dard, under a 30-year design, build, finance,and operate concession. Having completed itshighway construction obligations in 1999,Autolink now focuses on the operation andmaintenance of the 90 km road.

Autopista Monterrey-CadereytaSector: Transport

Location: Mexico

Debt amount: MxP2.25 bil 5.7% mid-termnts due Dec 2029 (Guarantor: MBIAInsurance Corp.)

Rating/Outlook: AAA/Stable, mxAAA/Stable

Description: Autopista Monterrey-Cadereyta,a 30-kilometer long toll road in the State ofNuevo Leon, connects the cities of Monterreyand Cadereyta. The road was built with aninvestment of MxP60 million and startedoperations in 1988. It has two main tollplazas (Guadalupe and Cadereyta) and threecollection booths per transit direction.


Autopista Cardel-VeracruzSector: Transport

Location: Mexico

Debt amount: MxP$700 million 7.95% certof part ser VCZ03U due Nov 2014

Rating/Outlook: mxAAA/Stable

Description: Autopista Cardel-Veracruz is atoll road that connects the Gulf of Mexico’smajor port, Veracruz, to the city of Cardel.The toll road has two toll plazas: la Antigua(27 km segment with four lanes) and SanJulian (8 km section).

Autopistas de ChihuahuaSector: Transport

Location: Mexico

Debt amount: MxP1.4 bil 7.5% med-term ntsser CHIHCB02U due Nov 2012

MxP1.1 bil 7.5% ser CHIHCB02-2U med-term nts due Nov 2012

MxP2.5 bil sr unsecd med-term note progNov 2002

Rating/Outlook: mxAA+/Stable

Description: Autopistas de Chihuahua is apool of toll roads that is 510 km long andconsists of 224 km of Chihuahua’s federalconcessions and 285.5 km of state toll roads.

Autopista del Maipo SociedadConcesionaria S.A.Sector: Transport

Location: Chile

Debt amount: US$421 mil 7.373% due June2022 (Bond insurance provider: MBIAInsurance Corp.)

Rating/Outlook: AAA/Stable

Description: Cintra Chile, a subsidiary ofCintra Spain, operates Autopista del Maipo,a 192 km toll road that is part of the currentRuta 5. The concession runs from the city ofSantiago north to the city of Talca.

Autovia del Camino S.A.Sector: Transport

Location: Spain

Debt amount: €135 mil sr secd commercialbank ln due 2030 (Bond insurance provider:XL Capital Assurance (U.K.) Ltd.)

€175 mil sr secd EIB bank ln due 2029 (Bondinsurance provider: XL Capital Assurance(U.K.) Ltd.)

Rating/Outlook: AAA(prelim),BBB(SPUR)/Stable

Debt amount: €175 mil sr secd EIB amortiz-ing bank ln due 2027 (Guarantor: XL CapitalAssurance (U.K.) Ltd.)

Rating/Outlook: AAA

Description: The Navarre regional govern-ment granted a 30-year concession to Autoviadel Camino to design, build, and operateunder a shadow toll regime a 70km roadlinking the cities of Pamplona and Logrono.The proceeds of the bonds were used to fundthe road’s construction.

Aventine Renewable Energy Holdings Inc.Sector: Oil and gas

Location: Illinois, U.S.

Debt amount: $160 mil fltg rt sr secd nts dueDec 2011


Debt amount: $300 mil 10% sr unsecd ntsdue April 2014


Description: Aventine has three facilities thataccount for its nameplate production: a dry-mill facility in Aurora, Neb. with a totalcapacity of 50 million gallons per year(mmgpy), a wet-mill facility in Pekin, Ill. witha 100 mmgpy of ethanol, and the recentlycompleted dry-mill facility, also in Pekin,with 57 mmgpy capacity. Funds will be usedfor the expansion of 226 mmgpy capacity attwo locations of 113 mmgpy each. Oneexpansion will be at the Aurora, Neb. siteand the other at Mt. Vernon, Ind.


Summary Reference

Baesa-Energetica Barra Grande S.A.Sector: Power

Location: Brazil

Debt amount: BRL180 mil deb ser 1 and 2due June 2016 (Guarantors: ALCOAAluminio S.A., CPFL Energia S.A., andCamargo Correa Group)

Rating/Outlook: brAA/CW Negative

Description: Hidrelétrica Barra Grande is ahydropower plant on the Pelotas River inBrazil’s southern region along the border ofthe states of Rio Grande do Sul and SantaCatarina. The plant has an installed capacityof 690 MW, and it started operations in Dec2005. In 2001, the federal government,through the electric sector regulatory bodyAgência Nacional de Energia Elétrica, grantedto Baesa the 35-year concession right to buildand operate the Hidrelétrica Barra Grandeproject (up to Aug 2036), after which Baesashould return the assets to the federal govern-ment or ask for a concession extension foranother 35 years.

Baltimore Hotel Corp.Sector: Other

Location: Maryland, U.S.

Debt amount: $247.5 mil conv ctr hotel revbnds sr ser 2006A due Sept 2012-2028,2030, 2032, 2036 (Bond insurance provider:XL Capital Assurance)

Rating/Outlook: AAA insured, BBB-(SPUR)/Stable

Debt amount: $53.44 mil sub rev bnds(Baltimore Hotel Corp.) ser 2006-B due Sept2016, 2039

Rating/Outlook: AAA, BBB-/Stable

Description: The series 2006 bonds are beingused to build a 756-room Hilton hotel indowntown Baltimore’s inner harbor area,overlooking the Camden Yards baseball parkand connected to the Baltimore ConventionCenter by a pedestrian bridge. The hotel willalso include a 567-space parking garage. Thehotel is expected to open in Aug 2008.

BBI (DBCT) Finance Pty. Ltd.Sector: Other

Location: Australia

Debt amount: A$295 mil bank ln due Oct 2011

A$200 mil fltg rate bnds due Dec 2022 (Bondinsurance provider: FGIC UK Ltd.)

A$350 mil fltg rate nts due Sept 2016 (Bondinsurance provider: XL Capital Assurance Inc.)




Description: The transaction provides financefor the Dalrymple Bay Coal Terminal, a well-established facility that is a critical and strate-gic part of the export-coal supply chain inQueensland’s Bowen Basin Region. The ter-minal is currently undergoing the first phaseof a three-phase expansion program thatwill ultimately take capacity from 60 to 80million metric tons per year.


Bicent Power LLCSector: Power

Location: Maryland, U.S.

Debt amount: $120 mil sr secd 1st lien LOCbank ln due 2014

$30 mil sr secd 1st lien revolv bank ln due 2014

$330 mil sr secd 1st lien term bank ln due 2014


Debt amount: $130 mil sr secd 2nd lien termbank ln due 2014


Description: Bicent Power is a special-pur-pose, bankruptcy-remote operating companyformed to acquire independent power pro-ducer Centennial Power Inc. and power plantoperations and construction firm, ColoradoEnergy Management LLC (CEM). CentennialPower owns a power generation portfolioconsisting of one coal facility (120 MW), onewind project (67 MW), and four gas-firedprojects (416 MW) at five sites in Montana,California, Colorado, and Georgia. Lafayette,Col.-based CEM is a contract operations andconstruction company with operation andmaintenance contracts with all four ofCentennial Power’s wholly owned thermalprojects as well as with two other projectsowned by third parties.

Bina-Istra d.d.Sector: Transport

Location: Croatia

Debt amount: €210 mil 8% callable bondsdue Dec 2022

Rating/Outlook: BBB-/Stable

Description: Bina-Istra is the concession com-pany that financed, designed, built and oper-ates Phase 1B of the Istrian MotorwayProject, a 145 km tolled motorway on theIstrian Peninsula in the Republic of Croatia.Phase 1B consists of three subphases, the firsttwo of which were opened to traffic in June2005. The third subphase was opened to traf-fic in Dec 2006. Bina-Istra has a concessionagreement that expires in 2027.

Blue Water Bridge AuthoritySector: Transport

Location: Ontario, Canada

Debt amount: C$110 mil 6.41% amort revbonds ser 2002-1 due July 2027

Rating/Outlook: AA-/Stable

Description: The Blue Water Bridge Authorityis a federal nonguaranteed Crown corpora-tion established in 1964 under the authorityof the Blue Water Bridge Authority Act tooperate and maintain the Canadian portionof the two-span Blue Water Bridge linkingSarnia, Ont., to Port Huron, Mich.

Borger Energy Associates L.P.Sector: Power


Debt amount: $117 mil 1st mortgage bondsdue 2022

Rating/Outlook: B+/Positive

Description: Borger is a 230 MW gas-firedcogeneration qualifying facility project thatsells energy and capacity to SouthwesternPublic Service Co., a subsidiary of XcelEnergy Inc., under a 25-year power purchaseagreement.

Boston Generating LLCSector: Power

Location: Massachusetts, U.S.

Debt amount: $370 mil sr 1st priority secdterm bank ln

$30 mil sr 1st priority secd LOC fac bank ln

$70 mil 1st priority secd synthetic workingcapital bank ln

$30 mil sr 1st priority secd synthetic debt service reserved fac bank ln


Description: Boston Gen owns three operat-ing subsidiaries: Mystic Station, a 573 MWtwo-unit, dual-fired, power generating facilityin Everett, Mass.; Mystic Development LLCwith two 801 MW natural gas-fired com-bined-cycle facilities adjacent to the MysticStation; and Fore River Development LLC,an 801 MW natural gas-fired combined-cycleplant in North Weymouth, Mass.


Summary Reference

Broadcast Australia Finance Pty. Ltd.Sector: Other

Location: Australia

Debt amount: A$190 mil bank ln due Jan 2011

Rating/Outlook: BBB/Stable

Debt amount: A$450 mil fltg rate med-termnts due July 2019 (Bond Insurance Provider:Ambac Assurance Corp.)

$A250 mil fltg rate med-term nts due July2009 (Bond Insurance Provider: AmbacAssurance Corp.)

A$150 mil fltg rate med-term nts due July2012 (Bond Insurance Provider: AmbacAssurance Corp.)


Description: Broadcast Australia is Australia’slargest independent terrestrial broadcasttransmission service provider. The companyowns key radio and television transmissioninfrastructure covering 99% of Australia’spopulation and provides fully managed trans-mission services for the government-ownedbroadcasters ABC and SBS nationally.

Brooklyn Navy Yard CogenerationPartners L.P.Sector: Power


Debt amount: $100 mil 7.42% taxable debtsecd bonds due Dec 2020

Rating/Outlook: BBB-/Negative

Description: Brooklyn Navy YardCogeneration is a 286 MW natural gas-firedcogeneration facility in Brooklyn, N.Y. thatsells electricity and steam to ConsolidatedEdison Co. of New York Inc. The projectrepresents an important power and steamgenerating resource and contributes about13% of Con Ed’s annual steam requirementsand 6% of the utility’s electricity.

California Petroleum Transport Corp.Sector: Transport

Location: California, U.S.

Debt amount: $117.9 mil 8.52% first pfdmortgage notes due April 2015

Rating/Outlook: A-/Stable

Description: Three Suezmax oil vessels,owned indirectly by Frontline Ltd., operateunder long-term charter to Chevron for 20years. A fourth, single-hulled vessel previous-ly chartered with Chevron is now charteredby a Frontline subsidiary for two years end-ing in April 2008.

Calpine Construction Finance Co. L.P.Sector: Power


Debt amount: $415 mil fltg rate 2nd prior srsecd notes due Aug 2011

$385 mil 1st prior secd instl term loan bankloan due 2009

Rating/Outlook: CCC+/Stable

Description: Calpine Construction Finance, asubsidiary of Calpine Corp., owns seven geo-graphically diverse merchant natural gascombined-cycle generating plants with acapacity of 3,937 MW.


Calpine Generating Co. LLCSector: Power


Debt amount: $600 mil fltg rate 1st prioritysecd term loan B bank ln due 2009

$235 mil fltg rate 1st priority secd nts dueApril 2009

$100 mil fltg rate 2nd priority secd term loanB bank ln due 2010

$640 mil fltg rt 2nd priority secd nts dueApril 2009

$150 mil 11.5% 3rd priority secd nts dueApril 2011

$680 mil fltg rate 3rd priority secd nts dueApril 2011

Rating/Outlook: D/Watch Neg

Description: Calpine Corp. subsidiary,Calpine Generating (CalGen), owns andoperates a geographically diverse portfolio of14 gas–fired power plants operating in sixdifferent energy markets. CalGen owns andcontrols 9,820 MW of nominal capacity, ofwhich 8,837 MW is base load and 983 MWis peaking capacity. CalGen owns 100% ofall of the plant assets. With the completion ofthe Pastoria facility on May 5, 2005, all 14facilities have reached commercial operation.

Capital Hospitals (Issuer) PLC-BartsSector: Other

Location: U.K.

Debt amount: £250 mil EIB index-linked srsecd gtd bank ln due March 2041(Guarantor: Ambac Assurance UK Ltd.,Financial Security Assurance (U.K.) Ltd.)

£1.03 bil sr secd gtd bnds due Sept 2046(Guarantor: Ambac Assurance UK Ltd.,Financial Security Assurance (U.K.) Ltd.)


Description: The funds will be used tofinance the design, construction, refurbish-ment, and operation of two inner Londonhospital sites, the Royal London Hospitaland St. Bartholomew’s Hospital. The hospi-tals have a total of 990 beds and both willremain operational throughout construction.

Carbon County Industrial DevelopmentAuthority (Panther Creek Partners)Sector: Power


Debt amount: $165 mil 6.7% tax-exemptresource recovery revenue refunding bondsser 2000 due May 2012


Description: Panther Creek is an 86 MWanthracite waste coal-fired power-producingqualifying facility that sells power toMetropolitan Edison Co. under a 20-yearfixed-price, must-take purchase-power agree-ment. Constellation Energy Group and ElPaso Corp. equally own the project.

Carretera Viaducto La Venta-Punta DiamanteSector: Transport

Location: Mexico

Debt amount: MxP215 million

Rating/Outlook: mxAA/Stable

Description: The toll road, located in Guerrerostate, is 21 km long with four lanes (two eachway). It has two toll plazas and four bridges. Ithas been operating since Feb 1993.

Carreteras de Cuota PueblaSector: Transport

Location: Mexico

Debt amount: MxP520 million 6.4% debtcertificates ser ATLIXCB 04U due 2019(MxP275 mil guarantee by Banobras)


Description: The Atlixcayotl toll road runs for18 km between Atlixco and Puebla City in theState of Puebla. The toll road has two lanes ineach direction and only one toll plaza nearPuebla City. It has five booths, two in eachdirection plus one bidirectional booth.


Summary Reference

Carreteras Ecatepec-Piramides yArmeria-ManzanilloSector: Transport

Location: Mexico

Debt amount: MxP1.94 bil 4.95% med-termnts ser ARMEC03U due May 2015(Guarantor: MBIA Insurance Corp.)

Rating/Outlook: AAA, BBB-(SPUR), mxAAA /Stable

Description: The Armeria-Manzanillo tollroad is a 47 km highway in the State ofColima, and the Ecatepec-Piramides toll roadis a 22.2 km highway located on MexicoCity’s northeast border.

Catalyst Healthcare (Manchester) Financing PLCSector: Other

Location: U.K.

Debt amount: £175 mil EIB sr secd bank lndue Sept 2037 (Bond insurance provider:Ambac Assurance UK Ltd.)

£218.05 mil var rate due Sept 2040 (Bondinsurance provider: Ambac Assurance UK Ltd.)

Rating/Outlook: AAA, BBB(SPUR)/Negative

Description: The debt is being used to financethe design and construction of new and refur-bished facilities for the U.K.-based CentralManchester and Manchester Children’sUniversity Hospitals National Health ServiceTrust. The project company, CatalystHealthcare (Manchester) Ltd., has responsibilityfor providing maintenance and certain nonclini-cal services under a 38-year project agreement,including a 4.5-year construction program.

Catalyst Healthcare (Romford)Financing PLCSector: Other

Location: U.K.

Debt amount: £100 mil EIB bank ln due Sept2034 (Guarantor: Financial SecurityAssurance (UK) Ltd.)

£128.4 mil 2.984% bnds due Sept 2038(Guarantor: Financial Security Assurance(U.K.) Ltd.)


Description: Catalyst is a project that isdesigning, building, and financing a new 859-bed acute care hospital in the London bor-ough of Havering. Construction was complet-ed in Oct 2006. Catalyst provides nonclinicalservices to the hospital and supplies, trans-fers, and maintains medical equipment serviceunder a 36-year project agreement.

CE Casecnan Energy and Water Co. Inc.Sector: Power

Location: Philippines

US$171.5 mil 11.95% sr secd notes ser B dueNov 2010


Description: CE Casecnan Energy and Water,which is 85%-owned by MidAmericanEnergy Holdings Co., is a combination waterand 150 MW hydroelectric power project onthe island of Luzon in the Philippines. Theproject sells power and water to the state-owned National Irrigation Administration.

Cedar Brakes I LLCSector: Power


Debt amount: $270.6 mil 8.5% (exchangeoffer) sr secd bnds due Feb 2014


Description: The project obtains electricityfrom El Paso Merchant Energy L.P. (EPM)under power-purchase agreements and thensells electric energy and capacity to PublicService Electric & Gas Co. under a long-termpower purchase agreement. El Paso Corp.unconditionally guarantees EPM’s obligationsunder the mirror power-purchase agreementbetween EPM and Cedar Brakes I.


Cedar Brakes II LLCSector: Power


Debt amount: $362.2 mil 9.875% (exchangeoffer) sr secd bnds due Sept 2013


Description: See Cedar Brakes I LLC.

CE Generation LLCSector: Power

Location: Delaware, U.S.

Debt amount: $400 mil 7.416% bonds dueDec 2018


Description: The CE Generation project portfolioconsists of 13 gas-fired and geothermal powerprojects with a total capacity of about 817 MW.Southern California Edison Co. purchases mostof the power. MidAmerican Energy HoldingsCo. and TransAlta Corp are equal owners.

Centragas-Transportadora de Gas de la Region Central de EnronDevelopment & Cia. S.C.A.Sector: Pipelines

Location: Colombia

Debt amount: US$172 mil 10.65% sr secdnotes due 2010


Description: Centragas operates a 578 kmnatural gas pipeline that runs from Ballena toBarrancabermeja, Colombia, and is a special-purpose entity of Arctas Capital and ParagonAssets that owns and operates a natural gaspipeline that it will eventually transfer toTransportadora de Gas del Interior S.A. E.S.P..

Central Nottinghamshire Hospitals PLCSector: Other

Location: U.K.

Debt amount: £351.9 mil 1.8768% index-linked gtd secd bnd issue due Sept 2042(Guarantor: Financial Security Assurance(U.K.) Ltd.)


Description: The funds will be used to financethe design, construction, and maintenance ofhospital facilities at three sites for the SherwoodForest Hospitals NHS Trust and MansfieldDistrict Primary Care Trust, under a 37.4-yearprivate finance initiative concession agreement.

Central Valley Financing AuthoritySector: Power


Debt amount: $101.125 mil (Carson Ice-Generation project) bonds ser 1998 due July2020 (Bond insurance provider: MBIAInsurance Corp.)


Description: The 57 MW gas-fired combinedcycle plant and a 42 MW gas-fired simple-cycle peaking plant project sell power toSacramento Municipal Utility District under atolling arrangement.


Summary Reference

Channel Link Enterprises Finance PLCSector: Transport

Location: U.K./France

Debt amount: £750 mil secd floating-rate ntsdue June 2042

€367 mil secd floating-rate nts due June 2041


Debt amount: £400 mil 6.34% secd nts dueJune 2046

€645 mil 5.89% secd nts due June 2041

£525 mil index-linked secd nts due 2050€1.113 bil index-linked secd nts due 2050

Description: This transaction representsEurotunnel S.A.’s refinancing plan. The refi-nancing reduces Eurotunnel’s debt outstand-ing to £2.84 billion from £6.20 billion.Eurotunnel operates the Channel Tunnelbetween the U.K. and France under a conces-sion granted by the U.K. and French govern-ments until 2086. Eurotunnel’s main activitiesconsist of running its own shuttle servicesand renting out 50% of the tunnel’s capacityto railway operators.

Choctaw Generation L.P.Sector: Power

Location: Mississippi, U.S.

Debt amount: $236 mil 9.5% pass-thru ser Bdue June 2023

$95 mil 8.368% pass-thru ser A due June 2023


Description: This 440 MW coal-fired plantsells power to the Tennessee Valley Authoritynetwork under a long-term power purchaseand operating agreement. Tractebel PowerInc. owns 100% of Choctaw.

Coffeyville Resources LLCSector: Oil and gas

Location: Kansas, U.S.

Debt amount: $775 mil term B bank ln dueDec 2013

$150 mil LOC facility bank ln due July 2010

$150 mil revolving facility bank ln due Dec 2012

Rating/Outlook: B-/Watch Neg

Description: Coffeyville Resources LLC is amidsize, 100,000 barrel per day independentrefiner in Coffeyville, Kan. In addition to therefinery, Coffeyville has an adjacent nitrogenfertilizer plant with a current annual capacityof 410,000 tons of ammonia and 655,000tons of urea ammonium nitrate.

Cogentrix Energy Inc.Sector: Power

Location: North Carolina, U.S.

Issuer Credit Rating: BB-/Stable

Debt amount: $355 mil 8.75% sr nts due Oct2008 (Guarantor: Goldman, Sachs & Co.)

Rating/Outlook: A+/Stable/—

Debt amount: $50 mil revolv credit fac bankln due 2010

$700 mil term B bank ln due 2012


Description: Cogentrix owns and operates 21electric generating facilities, located mostlythroughout the U.S., with one asset in theDominican Republic. Cogentrix’s net ownershipin these plants totals 4,000 MW. All of the cashflow from these projects is 100% contractual.


Coleto Creek Power L.P.Sector: Power


Debt amount: $735 mil 7-year 1st lien termfac bank ln due 2013

$60 mil working capital revolv credit facbank ln due 2011

$170 mil synthetic LOC fac bank ln due 2013


Description: Coleto Creek Power used the loans’proceeds to purchase the 632 MW coal-firedColeto Creek plant in the Electric ReliabilityCouncil of Texas region from Coleto Creek WLEL.P. The plant will be Coleto Power’s sole asset.

Colowyo Coal Funding Corp.Sector: Mining

Location: Wyoming, U.S.

Debt amount: $192.8 mil coal contract recbonds due Nov 2016

Rating/Outlook: BB/Negative

Description: The Colowyo transaction securi-tizes the coal production payments generatedfrom three coal sales contracts between theColowyo coal mine in Colorado and six elec-tric utility coal purchasers: Tri-StateGeneration & Transmission Assoc., SaltRiver Project Agricultural Improvement andPower District, PacifiCorp, Platte RiverPower Authority, Public Service Co. ofColorado, and the city of Colorado Springs.The contract with Colorado Springs expiredat the end of 2004.

Colver Power Project (PennsylvaniaEconomic Development Authority)Sector: Power


Debt amount: $169 mil sr resource recoverybonds ser 2005F due 2018 (Bond insuranceprovider: Ambac Assurance Corp.)


Description: Colver is a 111 MW generationfacility that uses bituminous coal waste asfuel in a pyroflow circulating fluidized-bedboiler. The project sells power to a subsidiaryof FirstEnergy Corp.

Compania de Desarrollo Aeropuerto ElDorado S.A. (CODAD)Sector: Transport

Location: Colombia

Debt amount: US$116 mil 10.19% notes dueMay 2011


Description: CODAD won a concession con-tract from the Republic of Colombia’sAEROCIVIL, the operator of Colombian air-ports, to build and maintain a second run-way, which opened in June 1998, at the ElDorado airport in Bogotá through 2015.

Concesionaria Zonalta S.A. de C.V.Sector: Transport

Location: Mexico

Debt amount: MxP1.6 bil cert of debt due2032

Rating/Outlook: mxAA/Stable

Description: The Santa Ana–Altar toll road isa 73 km highway with four lanes (two eachway) and one tollbooth, located in the Stateof Sonora. The toll road is part of a largersystem that crosses the state from the centerto the western part of the state connectingSonora with the state of Baja California.

Confederated Tribes of the WarmSprings ReservationSector: Power

Location: Oregon, U.S.

Debt amount: $50 mil hydroelec adj rate revbonds (taxable auc rate secs) ser 2003 dueFeb 2033


Description: The Confederated Tribes of theWarm Springs Reservation of Oregonacquired a 33% share (about 143 MW) of thePelton-Round Butte project through theissuance of 30-year amortizing debt in Oct2003. Portland General Electric owns 66.67%of the project and has a 50-year agreement tobuy 100% of the project’s output.


Summary Reference

Conproca S.A. de C.V.Sector: Oil and gas

Location: Mexico

Debt amount: US$370.3 mil 12% sr secdbonds due June 2010


Description: Conproca is a Mexican special-purpose entity integrated by Siemens AG andSK Engineering & Construction Co. Ltd. thatentered into a contract with the Mexicanstate-owned oil company, PEMEX, to devel-op, finance, and oversee the construction ofthe Cadereyta refinery.

Consort Healthcare (Birmingham)Funding PLCSector: Other

Location: U.K.

Debt amount: £25 mil sr secd EIB fxd ratevariation fac bank ln due 2039 (Guarantor:Financial Guaranty Insurance Co.)

£225 mil sr secd EIB index-linked bank lndue 2039 (Guarantor: Financial GuarantyInsurance Co.)

£400 mil index-linked bnds due 2044(Guarantor: FGIC UK Ltd.)


Description: The proceeds of the bonds andloan will be used to finance the design, con-struction, refurbishment, and operation ofvarious health care facilities for the UniversityHospital Birmingham Foundation Trust andBirmingham and Solihull Mental Health Trustunder a project agreement with a term of 40years and two months, under a U.K. govern-ment private finance initiative program.

Consort Healthcare (Mid Yorkshire)Funding PLCSector: Other

Location: U.K.

Debt amount: £150 mil sr secd index-linkedEIRD bank ln due June 2040 (Guarantor:Financial Guaranty Insurance Co.)

£221.2 mil 2.055% index-linked gtd srsecd bnds due June 2041 (Guarantor:FGIC UK Ltd.)


Description: The proceeds of the bonds willbe on-lent to Consort Healthcare (MidYorkshire) Ltd. (ProjectCo.) to be used infinancing the design, construction, refurbish-ment, and operation of two U.K. NationalHealth Service health care facilities,Pinderfields General Hospital and PontefractGeneral Infirmary, for The Mid YorkshireHospitals NHS Trust under a 35-year projectagreement as part of a U.K. government pri-vate-finance initiative program.

Constructora Internacional deInfraestructura (CIISA)Sector: Power

Location: Mexico

Debt amount: US$452.4 mil syndicated bankfacility due 2007

US$230 mil bonds due May 2008


Description: The CIISA project contemplatesthe construction of a hydroelectric generationfacility with 750 MW capacity. Constructionstarted April 2003 and as of Jan. 15, 2007,construction works reached about 94% com-pletion. Comision Federal de Electricidad willpurchase the power when the project achievescommercial operation.


Cordova Funding Corp.Sector: Power


Debt amount: $225 mil sr secd bnds ser A due2019 (Guarantor: Cordova Energy Co. LLC)

Rating/Outlook: BB/Stable

Description: Cordova Funding is the fundingvehicle that issued the rated debt and subse-quently loaned the proceeds to its affiliate,Cordova Energy Company LLC, which iswholly owned by MidAmerican EnergyHoldings Co. Cordova completed the 537MW natural gas-fired, combined-cycle powerplant in Rock Island County, Ill., in June 2001.

Corredor Sur (ICA Panama)Sector: Transport

Location: Panama

Debt amount: $150 mil bnds due 2025


Description: Corredor Sur is a 19.8 km urbantoll road that connects Panama City’s down-town area with Tocumen InternationalAirport. In 1995, the Panamanian govern-ment awarded ICA Panama a 30-year conces-sion to build, maintain, and operate the tollroad. ICA Panama’s parent company isICATECH Corp., which is in turn whollyowned by Empresas ICA S.A. de C.V., thelargest engineering and construction companyin Mexico, with significant experience inbuilding, operating, and managing infrastruc-ture facilities.

CountyRoute (A130) PLCSector: Transport

Location: U.K.

Debt amount: £88 mil sr secd bank ln due 2024


Debt amount: £5.5 mil sub secd mezzaninebank ln due 2024


Description: CountyRoute is a special-pur-pose, bankruptcy-remote entity indirectlywholly owned by Laing Investments Ltd. InOct 1999, Essex County Council awardedCountyRoute a 30-year concession to design,build, finance, and operate the 15 km A130shadow toll road. Construction has beencompleted successfully and the A130 wasopened in two sections in 2002-2003.

Covanta Energy Corp.Sector: Power


Debt amount: $650 mil term fac bank ln due2014 (Guarantor: Covanta Holding Corp.)

$320 mil funded letters of credit bank ln due2014 (Guarantor: Covanta Holding Corp.)

$300 mil revolving credit fac bank ln due2013 (Guarantor: Covanta Holding Corp.)


Description: Covanta is the largest U.S. oper-ator of waste-to-energy facilities processingabout 10 million tons per year of waste andfocusing on government-sponsored projectsunder long-term contracts. Covanta also hassmall independent power producers andwater businesses and an international busi-ness made up of projects in China, thePhilippines, Bangladesh, India, Italy, andCosta Rica.


Summary Reference

Covanta Holding Corp.Sector: Power


Debt amount: $325 mil 1% sr deb convert-ible due Feb 2027


Description: See Covana Energy Corp.

Coventry & Rugby Hospital Co. PLC (CRM)Sector: Other

Location: U.K.

Debt amount: £407.2 mil var rate bonds dueJune 2040 (Guarantor: MBIA Assurance S.A.)


Description: CRM, which is owned bySkanska BOT U.K. Ltd. (25%) and InnisfreeNominees Ltd. (75%), will design, construct,equip, and maintain a 1,212-bed acute hospi-tal, a 130-bed mental health unit, and a clini-cal sciences building on the Walsgrave site ofUniversity Hospitals Coventry andWarwickshire National Health Service Trustand Coventry Primary Care Trust, inCoventry, U.K. After completion in 2007,CRH will provide facilities management ser-vices and lifecycle replacement for 35 years.

CRC Breeze Finance S.A. (Breeze Two Transaction)Sector: Power

Location: Germany, France

Debt amount: €300 mil 5.29% Class Aamortizing nts due May 2026


Debt amount: €50 mil 6.11% Class B sub ntsdue May 2026


Description: Breeze Finance used the proceedsto make a loan to Breeze Two Energy GmbH& Co. and Eoliennes Sûroit SNC. Breeze Twoand Eoliennes Sûroit were formed to acquire,build, own, and operate a portfolio of 39 windfarms with a nameplate capacity of 303.8 MWin Germany (Breeze Two) and 27.05 MWcapacity in France (Eoliennes Sûroit).

Crockett Cogeneration, a CaliforniaLimited PartnershipSector: Power


Debt amount: $295 mil 5.869% sr secd ntsdue March 2025


Description: Crockett is a 240 MW naturalgas-fired cogeneration qualifying facility thatsells power to Pacific Gas and Electric Co.under the terms of a power-purchase agree-ment that expires in 2026 and steam underthe terms of a sales agreement that alsoexpires in 2026.

Darwin Cove Convention Centre Pty. Ltd.Sector: Other

Location: Australia

Debt amount: A$45.56 mil amortizing nomi-nal annuity bnds due Jan 2033

A$45.56 mil amortizing CPI linked bnds dueJan 2033


Description: Darwin Cove Convention CentrePty. Ltd.’s (DCCC) senior secured annuitybonds were purchased by RembrandtAustralia Trust 2007-1, repackaged, and on-sold as ‘AAA’ rated notes with the benefit ofa credit wrap provided by FinancialGuarantee Insurance Co. (AAA/Stable/—).DCCC has the concession to design, build,and operate a convention centre in Darwinfor the Northern Territory of Australia.Almost all project revenue comes from astrong counterparty in the Northern Territorygovernment. Honeywell Ltd. will providefacilities management services, backed by a$10 million parent guarantee. Constructionrisk is fully wrapped by ABN AMRO.


DBNGP Finance Co. Pty Ltd.Sector: Pipeline

Location: Australia

Debt amount: A$25 mil working capital facdue Oct 2006

Au$380 mil trance A syndicated fac dueOct 2007

Au$350 mil capital expenditures fac dueOct 2007

Au$500 mil trance B syndicated fac due Oct 2009


Description: The Dampier-to-BunburyNatural Gas Pipeline (DBNGP) is WesternAustralia’s key gas-transmission pipeline, con-necting the extensive gas fields located off-shore in the North West Shelf with the popu-lation centers and industry in the southwest ofthe state. DBNGP is 1,530 km long and con-sists of 10 compressor stations, 12 laterals,and a maximum average T1 capacity of about550 terrajoules per day. DBNGP Trust has100% ownership and guarantees the seniorsecured debt of DBNGP Finance Co. Pty Ltd.

Deer Park Refining L.P.Sector: Oil and gas


Debt amount: $400 mil 6.47% sr notes dueDec 2008

Rating/Outlook: A/Stable

Description: Shell Oil Co. and PMINorteamerica S.A. de C.V., a subsidiary ofPetroleos Mexicanos, formed Deer ParkRefining L.P. to own, operate, and upgradethe fuel refinery portion of Shell Oil’s 1,600-acre integrated refinery and petrochemicalfacility in Deer Park, Texas. The refinery’scrude processing capacity is 340,000 barrelsper day (bpd), and its coking capacity is88,000 bpd.

Delek & Avner, Yam Thethys Ltd.Sector: Oil and gas

Location: Israel

Debt amount: $275 mil nts due Aug 2013


Description: The Israel-incorporated issuer’ssole purpose is to issue the notes and lend theproceeds to three entities: Delek Drilling,Delek Investments, and Avner Oil (collective-ly the Delek Sponsors). The Delek Sponsorsare all directly or indirectly held by the IsraeliDelek Group Ltd. Along with a subsidiary ofU.S.-based exploration and production com-pany Noble Energy, Noble EnergyMediterranean Ltd., the joint venture ownsand operates a gas production facility off thecoast of Israel.

Denver Convention Center Hotel AuthoritySector: Other

Location: Colorado, U.S.

Debt amount: $356.7 mil convention ctr hotelsr rev rfdg bnds ser 2006A due Dec 2035

Rating/Outlook: AAA insured, BBB-(SPUR/Stable

Description: The project is a 1,100-roomheadquarter hotel adjacent to the ColoradoConvention Center located in downtownDenver, Colo. The hotel opened in Jan 2006.The full-service hotel has 75,000 square feetof meeting space but serves as the primaryconvention center hotel.

Discovery Education PLCSector: Other

Location: Scotland

Debt amount: £103.8 mil 1.948% index-linked bnds incl £17 mil variation bnds dueMarch 2037 (Guarantor: Ambac AssuranceU.K. Ltd.)


Description: Discovery Education PLC willuse bond proceeds to fund the construction ofsix primary schools and two secondaryschools on eight sites in the city of Dundee, inScotland, under a 30-year private finance ini-tiative agreement made with the Council onFeb. 19, 2007. Discovery Education will alsoprovide specified hard and soft facilities man-agement services at each of the schools.


Summary Reference

DTE Energy Center LLCSector: Power

Location: Michigan, U.S.

Debt amount: $244 mil 7.458% sr secdbonds due 2024

Rating/Outlook: BBB/Watch Neg

Description: Bond proceeds were used tofinance the purchase of a portfolio of utilityassets from an affiliate of DaimlerChryslerAG. Concurrent with the purchase, the pro-ject entered into eight substantially similarutility services agreements with an affiliate ofDaimlerChrysler, Utility Assets LLC, underwhich it provides utility support services atcertain of DaimlerChrysler’s North Americanmanufacturing facilities.

East Coast Power LLCSector: Power


Debt amount: $193.5 mil 6.737% sr secdnotes due March 2008

$248 mil 7.536% sr secd notes due June 2017

$184 mil 7.066% sr secd notes due March 2012


Description: East Coast Power owns interestsin two gas-fired, combined-cycle cogenerationfacilities in Linden, N.J. with aggregatecapacity of 940 MW. The plant provides upto 645 MW to Consolidated Edison under adispatchable power sales agreement.

Ecovias - Concessionaria Ecovias do Imigrantes S.A.Sector: Transport

Location: Brazil

Debt amount: BRL425 mil deb ser 3 due 2014

Rating/Outlook: brAA-/Stable

Description: Ecovias is a 176.8 km road sys-tem in the key state of São Paulo. It is one ofthe most important road systems in Braziland one of the busiest commercial and touristtransportation corridors, linking the mainindustrial areas in the São PauloMetropolitan Region to the largest port inLatin America, Santos. An average 30 millionvehicles use the road annually.

Edison Mission EnergySector: Power


Issuer Credit Rating: BB-/Stable

Description: Edison Mission Energy in anindirect, wholly owned subsidiary of EdisonInternational. The company is an indepen-dent power producer with an ownership orleasehold interest in 20 operations powerplants, of which the company’s share ofcapacity was 9,407 MW as of May 2006.

Edison Mission Energy Funding Corp. (Big 4)Sector: Power


Debt amount: $190 mil 7.33% bonds ser Bdue Sept 2008


Description: Edison Mission Energy Fundingis a funding vehicle that monetized the divi-dends from four gas-fired, cogeneration pro-jects with a total capacity of 1,210 MW.Through the guarantors, Edison MissionEnergy owns about 50% of the total capacity,or about 601 MW net.

Education Support (Enfield) Ltd. (ESL)Sector: Other

Location: U.K.

Debt amount: £17.86 mil fltg rate sr secdbank ln due Sept 2024


Description: In March 1999, ESL entered intoa 26.5-year project agreement with theLondon Borough of Enfield to design andbuild a secondary school with 1,290 studentplaces and provide support services oncecompleted. Construction was completed inAug 2000, after which ESL began to providefacilities management services.


Elwood Energy LLCSector: Power


Debt amount: $402 mil 8.159% sr secd bndsdue July 2026


Description: Elwood, a 1,409 MW merchantpeaking power plant, sells power into theReliability First Network, part of PJM, and isfully contracted through 2012 and partiallythrough 2017. Elwood is owned by indirectsubsidiaries of Dominion Resources Inc. (50%),J-Power North America Holdings Co. Ltd.(49.9%), and Peoples Energy Corp. (0.1%).

Entegra TC LLCSector: Power

Location: Florida, U.S.

Debt Amount: $30 mil 2nd lien sr secd revolvbank ln due 2012

$450 mil 2nd lien sr secd term bank ln due2014

Rating: B+/Stable

Description: Entegra owns two primary sub-sidiaries (Gila River Power L.P. and UnionPower Partners L.P.), which own generationassets and guarantee the loans. Gila River is a2,146 MW combined-cycle gas-turbine(CCGT) plant located at Gila Bend inMaricopa County, Ariz., that dispatches inthe Arizona-New Mexico-South Nevada sub-region of the Western ElectricityCoordinating Council. Union is a 2,152 MWCCGT plant near El Dorado, Ark, that dis-patches in the Entergy subregion of theSoutheastern Electric Reliability Council.

ESI Tractebel Acquisition Corp.Sector: Power

Location: New Jersey/Massachusetts, U.S.

Debt amount: $194 mil 7.99% sr secd bndsdue Dec 2011


Description: ESI Tractebel is a project portfo-lio consisting of two cogeneration projects,Northeast Energy Associates (NEA) inMassachusetts generating 290 MW, and NorthJersey Energy Associates (NJEA) in N.J gener-ating 275 MW. NEA sells electricity under fivepower-purchase agreements to Boston EdisonCo., Commonwealth Electric Co., and NewEngland Power Co. NJEA sells electricityunder a single power purchase agreement toJersey Central Power & Light Co. The projectis 50%-owned by ESI Northeast EnergyAcquisition Funding, a subsidiary of FPLGroup, and 50% by Tractebel Power Inc.

ESI Tractebel Funding Corp.Sector: Power

Location: New Jersey/Massachusetts, U.S.

Debt amount: $201 mil 9.32% sr secd ntsdue 2007

$100 mil 9.77% sr secd nts due 2010


Description: See ESI Tractebel AcquisitionCorp.

Excel Paralubes Funding Corp.Sector: Oil and gas

Location: Louisiana, U.S.

Debt amount: $187 mil 7.125% sr notes dueNov 2011

$250 mil 7.43% bonds due 2015


Description: Excel Paralubes is a 22,200 bar-rels per day lube base oil facility located adja-cent to ConocoPhillips’ Lake Charles, La.,refinery. Excel Paralubes is owned by 50%general partners ConocoPhillips and FHRLubricants LLC, which is an indirect whollyowned subsidiary of Koch Industries LLC.


Summary Reference

Exchequer Partnership PLC (No.1)Sector: Other

Location: U.K.

Debt amount: £127.79 mil 3.582% index-linked bnds due Dec 2035 (Bond insuranceprovider: Ambac Assurance UK Ltd.)

Rating/Outlook: AAA

Description: Under a U.K. government privatefinance initiative, the bond proceeds fromExchequer Partnership No.1 have been usedto successfully complete the refurbishment ofabout 50% of the Grade II listed governmentoffices in Great George Street (GOGGS) in2002. The refurbished part of the building isnow occupied by Her Majesty’s Treasury(HMT) civil servants. Since July 2002, thePartnership has been providing services—including cleaning, catering, and security—toHMT. The remaining 50% of GOGGS hasbeen refurbished by another project companyunder the private finance initiative, ExchequerPartnership (No.2).

Exchequer Partnership PLC (No.2)Sector: Other

Location: U.K.

Debt amount: £166 mil 5.396% bnds dueJuly 2036 (Bond insurance provider:Financial Security Assurance (U.K.) Ltd.)

Rating/Outlook: AAA, BBB+(SPUR)/Stable

Description: See Exchequer Partnership PLC(No.1).

Express Pipeline L.P.Sector: Pipelines

Location: U.S. and Canada

Debt amount: US$150 mil 6.47% sr secd ntsdue Dec 2011 (Guarantor: Platte Pipe LineCo., Sponsor: TransCanada Pipelines Ltd.)


Debt amount: US$250 mil 7.39% sub secdnts due Dec 2017 (Guarantor: Platte Pipe LineCo., Sponsor: TransCanada PipeLines Ltd.)


Description: Express Pipeline is a 1,717-mile,batch-mode, crude-oil pipeline system runsfrom Hardisty, Alta., to Casper, Wyo., on theExpress pipeline system, and then fromCasper, Wyo., to Wood River, Ill., on therefurbished Platte pipeline system. A consor-tium of Kinder Morgan Inc.’s subsidiaryTerasen Inc., Borealis InfrastructureManagement Inc., acting on behalf ofOntario Municipal Employees RetirementSystem, and Ontario Teachers’ Pension Planequally hold one-third interest in the project.

Fideicomiso PetacalcoSector: Power

Location: Mexico

Debt amount: US$308.9 mil 10.16% sr secdnotes due Dec 2009


Description: Petacalco is dual-fuel station thatgenerates power from coal and fuel oil. Theterminal of Lazaro Cardenas Industrial Portprovides coal unloading, storage, mixing, anddelivery services (through a conveyor system)to Comision Federal de Electricidad’s 2,100MW base load Petacalco power station.

FirstLight Hydro Generating Co.Sector: Power

Location: Connecticut, U.S.

Debt amount: $320 mil sr secd bnds ser Bdue Oct 2026


Description: See FirstLight Power Resources Inc.


FirstLight Power Recources Inc.Sector: Power

Location: Connecticut, U.S.

Debt amount: $70 mil 1st lien revolv creditfac bank ln due Nov 2011

$550 mil 1st lient term bank ln due Nov 2013

$65 mil letter of credit fac bank ln dueNov 2013


Debt amount: $170 mil 2nd lien term bank lndue May 2014


Description: FirstLight Power is a whollyowned subsidiary of FirstLight PowerResources Holdings Inc., which, in turn, isowned by Energy Capital Partners I LP.FirstLight Power owns several subsidiaries:FirstLight Hydro Generating Co, FirstLightPower Resources Services LLC, FirstLightPower Resources Management LLC, and MtTom Generating Co LLC (Mt. Tom).FirstLight Hydro and Mt. Tom will own thegeneration assets. FirstLight Hydro will owna portfolio of almost 1,300 MW of genera-tion assets and firm capacity in Connecticutand Massachusetts. These assets consist oftwo pumped storage facilities (1,109 MW),11 conventional hydro stations (166 MW),and a gas turbine peaking unit (21 MW). Mt.Tom will own a coal-fired steam electric facil-ity (146 MW) in western Massachusetts.

FMG Finance Pty Ltd.Sector: Other

Location: Australia

Debt amount: $320 mil 10% nts due Sept2013 (Guarantors: Fortescue Metals GroupLtd., Pilbara Infrastructure Pty. Ltd. (The),Pilbara Mining Alliance Pty. Ltd.)

$1.08 bil 10.625% nts due Sept 2016(Guarantors: Fortescue Metals Group Ltd.,Pilbara Infrastructure Pty. Ltd. (The), PilbaraMining Alliance Pty. Ltd.)

$250 mil fltg rate nts due Sept 2011(Guarantors: Fortescue Metals Group Ltd.,Pilbara Infrastructure Pty. Ltd. (The), PilbaraMining Alliance Pty. Ltd.)

€315 mil 9.75% sr secd nts due Sept 2013(Guarantors: Fortescue Metals Group Ltd.,Pilbara Infrastructure Pty. Ltd. (The), PilbaraMining Alliance Pty. Ltd.)

Rating/Outlook: BB-/Watch Neg

Description: Note proceeds are being used tofund construction of a greenfield iron oreoperation and associated infrastructure,including rail and port facilities in the Pilbararegion of Western Australia. The projectdevelopment involves the construction andoperation of two iron ore mines (CloudBreak and Christmas Creek), producing aninitial targeted 45 million tonnes per year,and construction and operation of rail andport facilities to transport and load the ironore for shipment to customers in Asia.


Summary Reference

FPL Energy American Wind LLC(American Wind)Sector: Power

Location: U.S.

Debt amount: $380 mil sr secd notes dueJune 2023


Description: Seven wind power projects locat-ed in six states make up this project portfolio.Each project sells power to investment-gradeofftakers under long-term contracts that pro-vide revenues for energy production only.American Wind is indirectly owned by FPLEnergy LLC, which is indirectly owned byFPL Group Inc.

FPL Energy Caithness Funding Corp.Sector: Power




Description: Two 80 MW net solar electricity-generating stations located in the MojaveDesert, Calif., sell power under standard offerno. 2 power purchase agreements withSouthern California Edison Co. Indirect,wholly owned subsidiaries of FPL Energy LLCand Caithness Energy LLC own the project.

FPL Energy National Wind LLCSector: Power

Location: U.S.

Debt amount: $365 mil 5.608% sr secd bndsdue March 2024


Description: National Wind is a portfolio ofnine wind projects totaling 533.6 MW thatoperate at eight U.S. locations. NationalWind is indirectly owned by FPL EnergyLLC, which is indirectly owned by FPLGroup Inc.

FPL Energy National Wind Portfolio LLCSector: Power

Location: U.S.



Description: See FPL Energy National WindLLC, which distributes cash to FPL EnergyNational Wind Portfolio.

FPL Energy Wind Funding LLCSector: Power

Location: U.S.

Debt amount: $125 mil 6.876% sr secdbonds due June 2017


Description: See FPL Energy AmericanWind, which distributes cash to FPL EnergyWind Funding.

FPL Virginia Funding Corp. (Doswell)Sector: Power


Debt amount: $435 mil 7.52% bonds dueJune 2019


Description: Doswell is a 708 MW four-unit,gas-fired, combined-cycle power and 171MW peaking unit complex that sells powerand energy under a long-term power pur-chase agreement to Virginia Electric & PowerCo. The project is 100% owned by FPLEnergy LLC, a wholly owned subsidiary ofFPL Group Inc.

Gilroy Energy Center LLCSector: Power


Debt amount: $301.658 mil 4% sr secd ntsdue Aug 2011 (Bond insurance provider:Ambac Assurance Corp.)


Description: Gilroy Energy owns and oper-ates nine peaking power projects that cameon line between Jan 2002 and May 2003.Gilroy Energy consists of 11 LM6000 gasturbines in different locations with a totalcapacity of 525 MW.


Golden Crossing Finance Inc.Sector: Transport

Location: Canada

Debt amount: C$928.4 mil sr secd bank lndue March 2041 (Bond insurance providers:Ambac Assurance Corp.; XL CapitalAssurance Inc.)

Rating/Outlook: AAA, BBB(SPUR)

Description: Golden Crossing Group will usenet debt proceeds alongside the equity contri-bution to finance its design-build-finance-operate obligations to the Greater VancouverTransportation Authority or TransLink forthe Golden Ears Bridge (GEB) project. TheGEB will connect the Township of Langleyand the City of Surrey to the District ofMaple Ridge and the District of PittMeadows, and the facility is planned toinclude about 13 km of new and upgradedroads and structures.

Golden State Petroleum Transport Corp.Sector: Other (deep sea foreign transportationof freight)

Location: Global

Debt amount: US$127.1 mil 8.04% first pfdmtg notes due Feb 2019


Description: Golden State owns and operatestwo very large crude carriers that ChevronTransport Corp. charters under 18-year char-ters. Each 300,000 dead-weight-ton double-hulled tanker can carry 2 million barrels ofcrude oil. Frontline Ltd., a publicly listedBermuda company, owns and manages theGolden State vessel-owning companies.

Green Country Energy LLCSector: Power

Location: Oklahoma, U.S.

Debt amount: $319 mil 7.21% sr secd notesdue 2024


Description: Green Country is a 810 MW,natural gas-fired, combined-cycle plant locat-ed in Jenks, Okla. that sells power to ExelonCorp. under a long-term dependable capacityconversion services agreement. GreenCountry is in the process of being sold to J.Power USA Generation L.P., a joint venturebetween John Hancock Life Insurance Co.and J-Power USA Investment Co., Ltd.

GWF Energy LLCSector: Power


Debt amount: $226 mil 6.1% sr secd notesdue Dec 2011


Description: GWF operates and maintainsthree peaking power plants in California,which have six units generating a total of 362MW. GWF sells capacity and energy to theCalifornia Dept. of Water Resources under amaster power purchase agreement. PSEGGlobal LLC, a wholly owned subsidiary ofPSEG Energy Holdings Inc., owns 76% ofthe membership interests in the project, andHarbinger Independent Power Fund II LLCowns 24%.


Summary Reference

Healthcare Support (Newcastle)Finance PLCSector: Other

Location: U.K.

Debt amount: £115 mil sr secd EIB bank lndue March 2038 (Bond insurance provider:XL Capital Assurance (U.K.) Ltd.)

£197.82 mil 2.187% sr secd bnds due Sept2041 (Bond insurance provider: XL CapitalAssurance (U.K.) Ltd.)


Description: The funds are being used tofinance the design and construction of newfacilities for the U.K.-based Newcastle UponTyne Hospitals National Health ServiceTrust. The project company, HealthcareSupport (Newcastle) Ltd., will also providemaintenance and certain nonclinical servicesunder a 38-year project agreement.

Healthcare Support (North Staffs)Finance PLCSector: Other

Location: U.K.

Debt amount: £154.59 mil sr secd indexlinked EIB bank ln due March 2039(Guarantor: MBIA U.K.Insurance Ltd.)

£190.2 mil 2.067% index-linked gtd (incl£33 mil variation bnds) sr secd bnds due Feb2043 (Guarantor: MBIA U.K. Insurance Ltd.)


Description: Healthcare Support (North Staffs)Ltd. will use the proceeds of the bonds andloan to finance the design, construction, andoperation of health care facilities for theUniversity Hospital of North StaffordshireNHS Trust and the Stoke on Trent PrimaryCare Trust under a project agreement with aterm of 37 years and three months, under aU.K. government private finance initiative pro-gram. The project entails the design, develop-ment, and financing of a hub and spokeward—resulting in an additional 540 beds,making a total of 1,000 bed facilities—and adiagnostic treatment center at the existing CityGeneral site. It also involves the constructionof a 160-bed medical facility at Haywoodthrough the construction of new facilities.

Health Management (Carlisle) PLCSector: Other

Location: U.K.

Debt amount: £75.8 mil 7.181% notes dueSept 2027 (Bond insurance provider: MBIAAssurance S.A.)


Description: Health Management Carlisle(HMC) is a 474-bed district general hospitalbuilt for Carlisle Hospitals National HealthService Trust under the U.K. government’s pri-vate finance initiative. Under a 45-year projectagreement, HMC will provide maintenanceand certain nonclinical facilities managementservices to Carlisle Trust. AMEC PLC andBuilding & Property Ltd. own HMC.

Highway 407 International Inc.Sector: Transport

Location: Ontario, Canada

Corporate credit rating: A/Stable/—

Debt amount: C$4.127 bil sr secd debt


Debt amount: C$779.5 mil sub debt


Description: 407 International is the soleshareholder, operator, and manager of the407 express toll route, which is owned by aconsortium that consists of the Canadian sub-sidiary of Cintra Concesiones deInfraestructuras de Transporte (co-owned byGrupo Ferrovial and MacquarieInfrastructure Group) and SNC-Lavalin Inc.The project is an all-electronic, open-accesstoll highway that extends 108 km east-westand is located just north of Toronto.


Highway Management (City) Finance PLCSector: Transport

Location: U.K.

Debt amount: £61.4 mil sr secd EIB bank lndue 2034 (Guarantor: Financial SecurityAssurance (U.K.) Ltd.)

£61.7 mil 1.609% bnds due Feb 2036(Guarantor: Financial Security Assurance(U.K.) Ltd.)


Description: The funds are financing thedesign, construction, operation, and mainte-nance of four complementary highwayimprovement schemes to the west of Belfast,in Northern Ireland. Together, these schemesrepresent Roads Service DBFO Package 1, thefirst of two DBFO highway initiatives to beadvanced in the province by Roads Service,an executive agency of the Northern IrelandDepartment for Regional Development.

Homer City Funding LLCSector: Power


Debt amount: $300 mil 8.137% sr secdbonds due Oct 2019

$575 mil 8.734% sr secd bonds due Oct 2026


Description: Homer City is a funding vehiclefor the 1,884 MW, coal-fired Homer Cityplant, which is leased from a unit of GeneralElectric Co. Edison Mission Energy indirectlyowns Homer City.

Hong Kong Link 2004 Ltd.Sector: Transport

Location: Hong Kong

Debt amount: HK$790 mil 4.28% tranche Cnts due May 2011

HK$800 mil 3.6% tranche B nts due May 2009HK$3.08 bil var rate Class A2 nts due May 2016

Rating/Outlook: AA/Positive

Description: The government raised HK$6billion by securitizing the future net revenuefrom its existing tolled facilities over a maxi-mum period of 12 years. These six tolledfacilities are vital to Hong Kong’s transportnetwork. Except for the Lantau Link, all ofthem have more than 10 years of operatinghistory and have shown a stable traffic pat-tern over the past few years.

Hovensa LLCSector: Oil and gas

Location: St. Croix, Virgin Islands

Debt amount: $400 mil revolv bank ln due2011 and obligor on $356 million bondsissued by U.S. Virgin Islands and the VirginIslands Public Finance Authority


Description: Hovensa is a crude oil refinerythat is 50% owned by a wholly owned sub-sidiary of Amerada Hess Corp. and 50% bya wholly owned subsidiary of Petroleos deVenezuela S.A.


Summary Reference

Indiantown Cogeneration FundingCorp./Indiantown Cogen L.P.Sector: Power


Debt amount: $505 mil taxable (IndiantownCogeneration Project) 1st mtg bnd due Dec 2020

Rating/Outlook: BB+/Watch Neg

Description: The project, which is 100%owned by Indiantown Cogeneration L.P., is a330 MW, pulverized coal-fired cogenerationfacility located in Martin County, Fla. FloridaPower & Light Co. purchases the powerunder a long-term power purchase agreement.

Independence County HydroelectricSector: Power

Location: Arkansas, U.S.

Debt amount: $29.3 mil power rev bnds due2028 (Guarantor: ACA Financial GuarantyCorp.)

Rating/Outlook: A, BB+(SPUR)/Stable

Description: Independence CountyHydroelectic is an 11.1 MW hydroelectricproject consisting of three run-of-river hydro-electric power generation facilities, to beinstalled in existing lock and dam structureson the White River. The project has a must-take power purchase agreement with the Cityof Clarksville, Ark. for 32 years.Independence County has used the proceedsof the bond offering to build the facility,which is under construction.

InspirED Education (South Lankshire) PLCSector: Other

Location: U.K.

Debt amount: £352.25 mil 2.0854% index-linked bnds due Sept 2038 (Guarantor: XLCapital Assurance (U.K.) Ltd.)


Description: The funds are being used todesign, build, finance, and operate a range offacilities to support the South LanarkshireSecondary Schools project, under a U.K. gov-ernment private-finance initiative. The scopeof the project consists of 17 project facilities,encompassing 19 secondary schools in theLanarkshire region of Scotland (two of whichare refurbishment projects only). The projectwill operate under a 33-year concession, end-ing Aug. 31, 2039. The construction periodhas three phases, which are scheduled forcompletion in the second halves of 2007,2008, and 2009, respectively.

Integrated Accommodation Services PLCSector: Other

Location: U.K.

Debt amount: £406.9 mil 6.48% secd bondsdue March 2029 (Bond insurance provider:Financial Security Assurance (U.K.) Ltd.)

Rating/Outlook: AAA, A(SPUR)/Stable

Description: Under the private finance initia-tive, this project financed the design and con-struction of the new government communica-tions headquarters accommodation facilitiesfor the U.K. Secretary of State for the Foreignand Commonwealth Office. IntegratedAccommodation Services will also providecertain facilities management and mainte-nance services under a 30-year project agree-ment. The facility has been operational sinceOct 2003.


International Power PLCSector: Power

Location: U.K.

Issuer Credit Rating: BB-/Positive/—

Description: International Power has genera-tion assets in five geographical areas, Europe,North America, Asia, Australia, and theMiddle East, consisting mainly of hydro,coal, and gas-fired generation. In addition,the company retains interests in heat capacity,desalination, and a gas pipeline.

Itá Energética S.A.Sector: Power

Location: Brazil

Debt amount: BrR168 mil debs

Rating/Outlook: brA/Stable

Description: Itá is an independent power pro-ducer that, jointly with Tractebel EnergiaS.A., has the concession until 2030 to exploitthe Itá Hydroelectric plant with a nominalcapacity of 1,450 MW. Itá’s sponsors,Tractebel (48.75% stake), CompanhiaSiderúrgica Nacional (48.75%), and Cia deCimento Itambé (2.50%), are also the powerofftakers of its energy output until the end ofconcession.

Itapebi Geração de Energia S.A.Sector: Power

Location: Bahia, Brazil

Debt amount: BrR242.9 mil deb due 2017

Rating/Outlook: brAA-/Stable

Description: Itapebi is a 450MW hydroelec-tric power plant, located in the south of thestate of Bahia. In 1999, the company granteda 35-year concession to build and operate thepower plant. It has a 14-year power purchaseagreement) with sister company Coelba forits total assured energy of 1,721 GWh.

Juniper Generation LLCSector: Power


Debt amount: $206 mil 5.04% sr secd ntsdue Dec 2014


Description: Juniper Generation is a holdingcompany that owns interests in a portfolio of10 cogeneration facilities with a combinedcapacity of 661 MW. Nine of the projects sellpower to Pacific Gas & Electric Co., and onesells power to Southern California Edison Co.

Kern River Funding Corp.Sector: Pipelines


Debt amount: $830 mil 4.9% sr secd notesdue April 2018

$486 mil 6.676% sr notes due July 2016

Rating/Outlook: A-/Watch Neg

Description: Kern River is the funding vehiclefor Kern River Gas Transmission Co., thegeneral partnership that owns and operates a1,678-mile, interstate natural-gas pipelinefrom Opal, Wyo., to Bakersfield, Calif.


Summary Reference

KGen LLCSector: Power

Location: Georgia, U.S.

Debt amount: $200 mil term B bank ln due 2014

$120 mil synthetic loc fac bank ln due 2014

$80 mil revolv cred fac bank ln due 2012


Description: KGen generates cash flowthrough ownership of five natural gas-firedpower plants totaling 3,030 MW in thesoutheastern U.S.

Kincaid Generating LLCSector: Power

Location: Chicago, U.S.

Debt amount: $265 mil 7.33% sr secd bondsdue June 2020


Description: Kincaid is a 1,108 MW coal-fired plant that is owned by DominionEnergy Inc., a wholly owned subsidiary ofDominion Resources Inc., and DominionKincaid Inc., a wholly owned subsidiary ofDominion Energy. Exelon Corp. purchasescapacity and associated electric energy fromthe facility under a power purchase agree-ment with an original term of 15 years begin-ning Feb 1998. After the 15 years, Kincaidwill convert to a merchant power plant.

Kiowa Power Partners LLCSector: Power



$361 mil 4.811% sr secd bnds due Dec 2013


Description: Kiowa used the bond proceedsto provide long-term financing for its 1,220MW, combined-cycle, gas-fired power plant.The project sells capacity and energy underan 18-year electricity manufacturing agree-ment with Coral Power LLC.

La Paloma Generating Co. LLCSector: Power


Debt amount: $40 mil 1st lien synthetic LCfac bank ln

$65 mil 1st lien sr secd working cap fac bank ln

$244 mil 1st lien term B bank ln due 2012

$21 mil delayed draw 1st lien term B bank lndue 2012

Rating/Outlook: BB-/Negative

Debt amount: $155 mil 2nd lien term C bankln due 2013

Rating/Outlook: B-/Negative

Description: La Paloma Generating usedabout $583 million of loan proceeds andthird-party equity infusions to acquire a1,022 MW combined-cycle, natural gas-firedpower plant near McKittrick, Calif. The planthas been in service since March 2003. Theproject’s owner, Complete Energy HoldingsLLC, announced that it sold its interest in theproject to a wholly-owned subsidiary ofKGen Power Corp. in June 2007.

Lane Cove Tunnel Finance Co.Sector: Transport

Location: Australia

Debt amount: A$1.14 bil gtd secured bondsdue 2013–2028 (Bond insurance provider:MBIA Insurance Corp.)


Description: This project consists of the con-struction, operation, and maintenance of theLane Cove Tunnel project and associatedroad works in Sydney under an approxi-mately 33-year project deed with the Roadsand Traffic Authority of the New SouthWales government.


Libramiento de MatehualaSector: Transport

Location: Mexico

Debt amount: MxP550 mil 5% med-term ntsdue Dec 2032 (Guarantor: XL CapitalAssurance Inc.)

Rating/Outlook: AAA, mxAAA/Stable

Description: Matehuala’s bypass is located inthe main freight transportation corridor ofMexico in the State of San Luis Potosi. The14.2 km bypass is part of the San LuisPotosi-Saltillo highway. Construction of thebypass began in Oct 2003 and was opened inNov 2004.

Libramiento Plan del RioSector: Transport

Location: Mexico

Debt amount: MxP320 mil 7% sr debt cer-tificates due 2020


Debt amount: MxP180 mil 10% sub debtcertificates due 2030

Rating/Outlook: mxBBB/Stable

Description: Plan del Rio bypass is located inthe State of Veracruz. It is 12.97 km long andconnects the Gulf of Mexico’s major port(Veracruz) with the city of Xalapa. Thisbypass concludes the four-lane toll road fromthe port to the city. It opened in June 2004.

Lombard Public Facilities Corp.Sector: Other


Debt amount: $54 mil conference ctr & hotelfirst tier rev bnds ser 2005A-2 due Jan 2036(Bond insurance provider: ACA FinancialGuaranty Corp.)

Rating/Outlook: A insured, BB-(SPUR)/Stable

Description: The village of Lombard, Ill. builta hotel and conference center on a 6.7-acreportion of Yorktown Mall. The hotel openedin Aug 2007. Westin Management Co. man-ages the 500-room hotel. Hark Lombard LLCwill manage the 63,500 square-foot confer-ence center.

Longview Power LLCSector: Power

Location: West Virginia, U.S.

Debt amount: $300 mil term B bank ln due2014

$350 mil delayed draw bank ln due 2014

$100 mil synthetic L/C bank ln due 2014

$100 mil revolv bank ln due 2013

$250 mil construction fac (w/ term conver-sion) bank ln due 2014


Description: Longview will build a single-unit695 MW (net) supercritical, pulverized coal-fired electric generating facility inMonongalia County, W.Va. The project issponsored by GenPower Holdings L.P., ajoint venture that is 10% owned byGenPower LLC, a power project developer,and 90% owned by First Reserve Fund XIL.P., a $7.8 billion private equity fund spon-sored by First Reserve Corp..

LoyVic Pty Ltd. (Loy Yang B)Sector: Power

Location: Australia

Debt amount: A$490 mil bank ln due 2012

A$617 mil bank ln due 2017


Description: IPM Australia Ltd. and LoyVicPty. Ltd. are the financing and trading vehi-cles for the Loy Yang B power station pro-ject, domiciled in Victoria, Australia. Theproject is a 2x500 MW brown coal-firedthermal power plant in the Latrobe Valley,about 160 km southeast of Melbourne.


Summary Reference

LS Power Acquisition Co. I LLCSector: Power

Location: Minnesota/Wisconsin, U.S.

Debt amount: $150 mil 1st lin revolvingcredit fac bank ln due 2013

$165 mil 1st lien LOC bank ln due 2014

$700 mil 1st lien term bank ln due 2014

Rating/Outlook: BB-(prelim)/Stable

Debt amount: $300 mil 2nd lien term bank lndue 2014

Rating/Outlook: B(prelim)/Stable

Description: The proposed $1.315 billiondebt issuance will be used to finance LSPower Equity Partners LLC’s acquisition ofsix gas-fired power-generation facilities thatMirant Corp. (B+/Watch Neg/—) previouslyowned and operated. The asset sale followsMirant’s announced intention to focus on itscore markets in the Mid-Atlantic andNortheast regions and in California. Theassets represent 3,736 MW of capacity, ofwhich 52% are combined-cycle intermediateload facilities and the remaining 48% simple-cycle peaking assets.

LS Power Funding Corp.Sector: Power

Location: Minnesota/Wisconsin, U.S.

Debt amount: $226.449 mil 8.08% bonds serA due Dec 2016

$105.551 mil 7.19% bonds ser A due June2010


Description: Owned by LSP-Cottage GroveL.P. and LSP-Whitewater L.P., the two 245MW gas-fired cogeneration plants sell elec-tricity to Northern States Power Co. andWisconsin Electric Power Co. under long-term contracts.

LSP Batesville Funding Corp./LSPEnergy L.P.Sector: Power

Location: Mississippi, U.S.

Debt amount: $150 mil 7.164% sr secdbonds ser A due Jan 2014

$176 mil 8.16% sr secd bonds ser B dueJuly 2025


Description: Previously owned by CompleteEnergy, the 850 MW gas-fired power plant isbeing sold to KGen LLC. The plant sells elec-tricity to SMEPA and J. Aron under twolong-term contracts.

M6 Duna Autopalya KoncessiosZartkoruen Mukodo EszvenytarsasagSector: Transport

Location: Hungary

Debt amount: €200 mil sr secd EIB bank lndue 2024 (Guarantor: Financial SecurityAssurance (U.K.) Ltd.)

€212 mil fltg rate gtd send nts due March2025 (Guarantor: Financial SecurityAssurance (U.K.) Ltd.)


Description: Hungary’s government granted a22-year concession to M6 Duna to design,finance, build, operate, and maintain the sec-ond section of the M6 motorway. The 58 kmsection stretches from Erdi-teto toDunajvaros, at which point it intersects withthe planned M8 motorway.


MACH Gen LLCSector: Power


Debt amount: $580 mil 1st lien term B bankln due 2014

$60 mil 1st lien synthetic LC fac bank ln due 2013

$100 mil 1st lien working capital fac bank lndue 2014


Description: MACH Gen owns a 3,600 MWportfolio of four gas-fired combined-cyclepower plants in New York, Michigan,Arizona, and Massachusetts. MACH Genwas formed by the lenders in the wake ofNational Energy Group’s 2002 bankruptcy.

Maritimes & Northeast Pipeline LLCSector: Pipelines

Location: U.S.

Debt amount: $240 mil 7.7% bonds dueNov 2019

Rating/Outlook: A-/Watch Neg

Description: Owned by affiliates of DukeEnergy Corp., Exxon Mobil Corp., and EmeraInc., Maritimes & Northeast Pipeline LLC andMaritimes & Northeast Pipeline L.P. are theowners of the U.S. and Canadian portions,respectively, of a $1.2 billion pipeline thattransports 530 million cubic feet per day ofnatural gas from the Sable Island area to mar-kets in Atlantic Canada and the northeasternU.S. Maritimes & Northeast Pipeline LLC con-sists of a 330-mile extension from Baileyville,Maine to various points in Massachusetts.

Maritimes & Northeast Pipeline L.P.Sector: Pipelines

Location: Canada

Debt amount: C$260 mil 6.9% notes dueNov 2019


Description: See Maritimes & NortheastPipeline LLC above. Maritimes & NortheastPipeline L.P. consists of a 670-mile pipeline thatextends from Goldboro, Nova Scotia to theU.S.-Canadian border near Baileyville, Maine.

Massachusetts Development Finance Agency (SEMASS)Sector: Power

Location: Massachusetts, U.S.

Debt amount: $118 mil resource recoveryrevenue bonds ser 2001B due Jan 2009


Description: Majority owned by a subsidiaryof American Ref-Fuel Co. LLC, the SEMASSfacility processes 1.1 million tons of wasteand sells in excess of 600,000 megawatt-hours of electricity per year toCommonwealth Electric Co.


Summary Reference

Max Two Ltd. (Breeze One Transaction)Sector: Power

Location: Germany, Portugal

Debt amount: €100 mil 5.7% (Breeze One)amort bnds due Sept 2024


Description: Max Two is a special-purposevehicle that raised funds for the Breeze Onewind power financing transaction. Max Twohas no operating assets and its shares areowned by Max Two Trust, a charitable trust.Debt proceeds were used to provide seniorloans to a number of wind parks in Germanyand Portugal and, through an escrow accountproviding about €5.7 million ($7.4 million)of collateralized subordinated debt, variouswind parks or finance repowering measures.

Metronet Rail SSL Finance PLC andMetronet Rail BCV Finance PLCSector: Transport

Location: U.K.

Debt amount: £515 mil fixed/index-linkedbonds due March 2032 (Guarantors: AmbacAssurance UK Ltd. and Financial SecurityAssurance (U.K.) Ltd.)

Rating/Outlook: AAA, BB+(SPUR)/Negative

Debt amount: £810 mil bank loan due 2030

Rating/Outlook: BBB/Negative

Description: The two entities are part of theMetronet consortium responsible for theoperation, maintenance, and upgrade of theBakerloo, Central, and Victoria lines, as wellas the District, Circle, Metropolitan,Hammersmith & City, and East LondonUnderground lines under a long-term pri-vate/public partnership agreement.

Metropolitan Biosolids Management LLCSector: Other


Debt amount: $53.4 mil tax-exempt rev bndsdue 2023


Description: Metropolitan Biosolids is a spe-cial-purpose entity formed to build an inside-the-fence facility that processes wastewatersludge generated by the Metropolitan WaterReclamation District of Greater Chicago. Thefatalities in June 2007 of two constructionworkers have further delayed the project.

MGTI Finance Co. Ltd.Sector: Other

Location: Indonesia

Debt amount: $145 mil 8.375% nts due Sept2010 (Guarantors: MGTI Global Finance B.V.;Mitra Global Telekomunikasi Indonesia (P.T.))

$20 mil 9% nts due Jan 2011(Guarantors:MGTI Global Finance B.V.; Mitra GlobalTelekomunikasi Indonesia (P.T.))

$105 mil 7% nts due 2007(Guarantors:MGTI Global Finance B.V.; Mitra GlobalTelekomunikasi Indonesia (P.T.))


Description: MGTI has a fixed-line telecomnetwork in the Central Java area (known asKSO IV) and has assigned all of its exclusiveoperating rights to state-owned PTTelekomunikasi Indonesia Tbk.(BB+/Stable/—), under an amended jointoperating agreement that expires Dec. 31,2010. Telkom, in turn, has agreed to makefixed U.S. dollar monthly payments to MGTIat a predetermined rate and schedule.


Midwest Generation LLCSector: Power


Debt amount: $500 mil revolv bank ln due 2012

$813.5 mil 8.56% pass thru cert lse oblig serB due Jan 2016 (Guarantor: Edison MissionEnergy)

$333.5 mil 8.3% pass thru cert lse oblig serA due July 2009 (Guarantor: Edison MissionEnergy)


Description: Indirectly wholly owned byEdison Mission Energy, Midwest Generationowns or leases 9,218 MW of baseload, mid-merit, and peaking capacity in the Mid-American Interconnected Network region.

Mirant Corp.Sector: Power


Issuer Credit Rating: B+/Watch Neg/—

Description: Mirant has interests in 10,301MW of electric generation capacity in theU.S. The company recently sold all interna-tional operations.

Monterrey Power S.A. de C.V.Sector: Power

Location: Mexico

Debt amount: $235.2 mil 9.625% sr secdbonds due Nov 2009


Description: Owned by ABB Energy Venturesand Nissho Iwai Corp., Monterrey Power is aspecial-purpose entity that has entered into atrust agreement to build a dual-fired (naturalgas and diesel) plant in exchange for pay-ments from the Comision Federal deElectricidad.

MPC Funding Ltd.Sector: Infrastructure

Location: Australia

Debt amount: A$50.5 mil var rate CPIindexed annuity bnds due Dec 2025 (Bondinsurance provider: Financial SecurityAssurance Inc.)

A$141.1 mil var rate CPI indexed annuitybnds due Dec 2033 (Bond insuranceprovider: Financial Security Assurance Inc.)

A$152.4 mil var rate nominal indexed annu-ity bnds due Dec 2033 (Bond insuranceprovider: Financial Security Assurance Inc.)


Description: The project involves the design,construction, and financing of a new 5,000-seat Melbourne convention center, associatedworks, and ongoing facilities management forthe state of Victoria under a 25-year conces-sion. Completion is expected by the end ofDec 2008. Upon commercial acceptance ofthe works, the project will also be responsiblefor maintaining an adjoining existing (andoperating) exhibition center and its 1,050 car-park spaces.

NewHospitals (St. Helens andKnowsley) Finance PLCSector: Other

Location: U.K.

Debt amount: £149.2 mil index-linked srsecd EIB bank ln due June 2038 (Bond insur-ance provider: Financial Security Assurance(U.K.) Ltd.)

£178.3 mil index-linked bnds due Feb 2047(Bond insurance provider: Financial SecurityAssurance (U.K.) Ltd.)


Description: The funds are being used tofinance the design, construction, and mainte-nance of hospital facilities at two sites for theSt. Helens and Knowsley Hospital Trust,under a 41.23-year private-finance initiativeconcession agreement.


Summary Reference

Northeast Biofuels LLCSector: Oil and gas


Debt amount: $140 mil sr secd 1st lien termB lank ln due 2013


Description: Northeast Biofuels is building anethanol facility in Fulton, N.Y., with a name-plate capacity of 100 million gallons per year(mmgpy), which is expected to ramp up to114 mmgpy within two years of operations.The project is in Riverview Business Park, onthe site of a former brewery, and will use cer-tain existing structures, infrastructure, andtanks. Construction is scheduled to be com-pleted by Dec. 31, 2007.

Northampton Generation Co. L.P.(Pennsylvania Economic Development Authority)Sector: Power


Debt amount: $25 mil 7.88% sr taxable convser 1994 B due Jan 2007

$153 mil tax exempt ser 1994 A Jan 2019

Rating/Outlook: B+/Negative

Description: Northampton is a 112 MWwaste coal-fired generation facility that sellsits entire electric output to MetropolitanEdison Co. under a 25-year, must-takepower-purchase agreement.

NRG Energy Inc.Sector: Power

Location: Minnesota, U.S.

Issuer Credit Rating: B+/Stable/B-2

Description: NRG Energy owns and operatesU.S. merchant power generating facilities,thermal production and resource recoveryfacilities, and various international indepen-dent power producers.

NRG Peaker Finance Co. LLCSector: Power

Location: Louisiana/Illinois, U.S.

Debt amount: $325 mil fltg rate sr secdbonds ser A due June 2019 (Bond InsuranceProvider: XL Capital Assurance Inc.)


Description: NRG Peaker Finance is a whollyowned subsidiary of NRG Energy Inc. andwas formed to offer bonds for a portfolio offive peaker power plants totaling 1,319 MW.

NSG Holdings LLCSector: Power


Debt amount: $32.5 mil sr secd synthetic L/Cbank ln due June 2014

$286 mil sr secd term bank ln due June 2014

$514 mil 7.75% sr secd nts due Dec 2025(Co-issuer: NSG Holdings Inc.)

Rating: BB(prelim)/Stable

Description: NSGH is a wholly owned sub-sidiary of Northern Star Generation LLC thatowns or has beneficial interest in 12 electricgeneration facilities having a combinedcapacity of about 2,100 MW (gross) or about1,451 MW (net). The facilities are located infive states, 10 of the assets are qualifyingfacilities, and two operate as exempt whole-sale generators. All of the assets currentlyhave power-purchase agreements or tollingagreements over the life of the debt from2007–2025.

Octagon Healthcare Funding Corp.Sector: Healthcare

Location: U.K.

Debt amount: £341.23 mil 5.333% bondsdue Dec 2035 (Bond insurance provider:Financial Security Assurance (U.K.) Ltd.)


Description: This entity’s debt is being usedto fund the construction of the Norfolk andNorwich University Hospital.


Oleoducto Central S.A. (OCENSA)Sector: Pipelines

Location: Colombia

Debt amount: $650 mil 9.66% sr debttranche A credit fac bank ln


Description: OCENSA is a capital stock com-pany formed to acquire, develop, own, andoperate the 840 km Oleoducto Centralpipeline, which transports crude oil from theCupiagua and Cusiana oil fields in Colombia’sLlanos Basin to the port of Covenas.

Oleoducto de Crudos PesadosSector: Pipelines

Location: Ecuador

Debt amount: $900 mil bank ln due July2016


Description: The project is an integrated,blended stream, heavy crude oil pipeline sys-tem to transport crude oil about 500 kmfrom production areas running from theAmazonas Oil Terminal in the Oriente Basinof eastern Ecuador to the export facilities onthe Pacific coast near Esmeraldas.

Orange Cogen Funding Corp.Sector: Power


Debt amount: $110 mil 8.175% sr secdbonds due March 2022


Description: Orange Cogen is a 103 MW gas-fired cogeneration facility owned by indirectsubsidiaries of El Paso Corp. and AmericanElectric Power Co. Inc.

Paiton Energy Funding B.V.Sector: Power

Location: Indonesia

Debt amount: $180 mil 9.34% bnds due Feb2014 (Guarantor: Paiton Energy Co. (P.T.))


Description: This 2x615 MW coal-firedplant, composed of units seven and eight ofthe Paiton power-generating complex, sellselectricity to PT Perusahaan Listrik Negaraunder a long-term contract.

Peterborough (Progress Health) PLCSector: Healthcare

Location: U.K.

Debt amount: £7.52 gtd swap fac due Sept2042 (Guarantor: FGIC UK Tld.; SwapGuarantor: ABN AMRO Bank N.V.)

£14.5 mil gtd liq fac due Sept 2042(Guarantor: FGIC UK LTD.)

£7.25 mil gtd change in law fac due March2037 (Guarantor: FGIC UK Ltd.)

£442.8 mil (incl £50 mil var bnds) fixed rategtd bnds due Oct 2042 (Guarantor: FGICUK Ltd.)

Rating/Outlook: AAA(prelim), BBB-(SPUR)/Stable

Description: The project will use bond pro-ceeds to implement the Greater PeterboroughHealth Investment Plan, which involves a sig-nificant development of the existing EdithCavell Hospital site on the outskirts ofPeterborough, and a smaller development onthe existing Peterborough District Hospital incentral Peterborough. All existing buildings onboth sites will be demolished and replaced witha 612-bed acute facility, a 102-bed mentalhealth unit, and a new integrated care center.

Petropower Energía LimitadaSector: Power

Location: Chile

Debt amount: $122.2 mil 7.36% trust certsdue 2014


Description: Petropower is a delayed coker,hydrotreater, and net 59 MW cogenerationfacility that burns green coke, a byproduct of itshost refinery, Petrox S.A. Refineria de Petroleo.


Summary Reference

Petrozuata Finance Inc.Sector: Oil and gas

Location: Venezuela

Debt amount: $75 mil 8.37% bonds ser Cdue Oct 2022 (Guarantor: Petrolera Zuata,Petrozuata C.A.)

$287.2 mil 7.63% bonds ser A due April 2009(Guarantor: Petrolera Zuata, Petrozuata C.A.)

$625 mil 8.22% bonds ser B due April 2017(Guarantor: Petrolera Zuata, Petrozuata C.A.)

Rating/Outlook: B/Watch Neg

Description: Petrozuata produces heavy crudeoil from Venezuela’s Orinoco Belt, processes itat an upgrader to produce synthetic crude, andthen sells it either to Petroleos de Venezuelaand to ConocoPhillips or into the market.

Phoenix Downtown Hotel Corp.Sector: Lodging

Location: Arizona, U.S.

Debt amount: $156.71 5% sr bnds ser2005A due July 2040


Description: The Phoenix Downtown HotelCorp. is using bond proceeds to build a 1,000-room hotel in downtown Phoenix, Ariz. Thehotel will be operated under a Sheraton flagand is scheduled to open in 2008.

Phoenix Park Funding Ltd./PhoenixPark Gas Processors Ltd.Sector: Oil and gas

Location: Trinidad & Tobago

Debt amount: $110 mil 7.26% sr bonds dueApril 2013

$38.7 mil sr secd notes due 2017, $185 mil srsecd notes due 2020


Description: Phoenix Park processes and sellsnatural gas liquids, propane, butane, and nat-ural gasoline from native natural gas streams.

Pine Prairie Energy Center LLCSector: Oil and gas

Location: Louisiana, U.S.

Debt amount: $270 mil term loan B bank lndue 2013

$50 mil revolving credit fac bank ln due 2011


Description: Proceeds from the loan are beingused to build and develop a three-cavern,high-deliverability salt-dome natural gas stor-age facility in Evangeline Parish, La. The pro-ject will have access to seven major pipelineswith eight interconnections serving theMidwestern, Northeastern, Mid-Atlantic, andSoutheastern markets through a proposedheader system.

Plum Point Energy Associates LLCSector: Power

Location: Arkansas, U.S.

Debt amount: $700 mil fltg rate sr secd termbank ln (Bond Insurance Provider: AmbacAssurance Corp.)

$17 mil secd working capital bank ln (BondInsurance Provider: Ambac Assurance Corp.)

$102 mil secd loc bank ln (Bond InsuranceProvider: Ambac Assurance Corp.)


Description: Plum Point is building the PlumPoint Energy Station, a 665 MW coal-fired,base load electrical generating facility withadvanced emissions controls that will be inOsceola, Ark., about 30 miles north ofMemphis, Tenn. The facility will dispatchinto the Entergy subregion of the SoutheastElectric Reliability Council region.

Power Contract Financing LLCSector: Power


Debt amount: $802 mil sr secd notes


Description: Power Contract Financing wasformed to monetize a long-term contractunder which Calpine Energy Services sellselectricity to the California Dept. of WaterResources.


Power Receivable Finance LLCSector: Power


Debt amount: $432.45 mil 6.29% sr secdnotes due Jan 2012


Debt amount: $22.2 mil 10.75% sub notesdue Feb 2012


Description: Power Receivable Finance, awholly owned subsidiary of The GoldmanSachs Group Inc., uses proceeds from its notesto refinance a long-term contract between theCalifornia Dept of Water Resources andAllegheny Trading Finance Co.

PPL Montana LLCSector: Power

Location: Montana, U.S.

Debt amount: $338 mil 8.903% trust certpass-thru due July 2020


Description: PPL Montana is a package of1,157 MW coal- and hydro-generating powerplants in Montana, which are wholly ownedby PPL Corp., and sells power under a long-term contract to Northwestern Corp.

Premier Transmission Financing PLCSector: Pipelines

Location: U.K.

Debt amount: £107 mil 5.2022% nts dueMarch 2030 (Guarantor: Financial GuarantyInsurance Co.)

Rating/Outlook: AAA, A(SPUR)/Stable

Description: The note proceeds were used toacquire Premier Transmission Ltd. from itsprevious ultimate 50% owners, KeySpanEnergy Development Corp. and BG EnergyHoldings Ltd., to repay PremierTransmission’s existing debt obligations, andprefund the various cash reserves. PremierTransmission owns and operates theScotland-Northern Ireland Pipeline.

Promotora y Administradora deCarreteras S.A. de C.V.Sector: Transport

Location: Mexico

Debt amount: MxP4.2 bil sr secd bnds dueFeb 2028 (Guarantor: MBIA Insurance Corp.)

Rating/Outlook: AAA, mxAAA,BBB+(SPUR)/Stable

Debt amount: MxP1.47 bil sub debt certs dueFeb 2030

Rating/Outlook: mxA+/Stable

Description: The Mexico-Toluca toll road is a19-km highway between Mexico City andToluca, in the state of Mexico.

Proyectos de Energia S.A. de C.V.Sector: Power

Location: Mexico

Debt amount: $100 mil 9.75% sr secd notesdue July 2013


Description: Proyectos de Energia is a special-purpose vehicle created to fund the construc-tion of 13 electrical energy substations, with atotal capacity of 1,213 megavolt amps that aredelivered to Comision Federal de Electricidad.

Queens Ballpark Co. (Mets Stadium)Sector: Other


Debt amount: $58.39 mil installment pur-chase bnds ser 2006 sue Jan 2046

$7.125 mil lease rev bnds ser 2006 due Jan2046 (insured by AMBAC)

$547.5 mil PILOT rev bnds ser 2006 dueJan 2046


Description: The bond proceeds will be usedto build a new baseball stadium for the NewYork Mets, a Major League Baseball team, inQueens, N.Y. The new stadium will be builton a site owned by New York City and leasedto NYCIDA, adjacent to Shea Stadium. Itwill replace the existing Shea Stadium, whichwas built in 1964. The new stadium will bealmost 25% smaller than Shea Stadium witha capacity of about 45,000, compared withShea Stadium’s approximately 57,000. Thenew stadium will have significantly moreseats with high-end amenities.


Summary Reference

Quezon Power (Philippines) Ltd. Co.Sector: Power

Location: Philippines

Debt amount: $215 mil 8.86% bnds ser 1997due June 2017

Rating/Outlook: B-/Negative

Description: Quezon Power is a 470 MW baseload, pulverized coal-fired power plant and31-km transmission line that sells to ManilaElectric Co. under a long-term contract.

Ras Laffan Liquefied Natural Gas Co. Ltd.Sector: Natural gas liquids

Location: Qatar

Debt amount: $800 mil 8.29% bnds dueMarch 2014

$609 mil 3.437% bnds due Sept 2009


Description: Ras Laffan, which is owned pri-marily by Qatar Petroleum and Exxon MobilCorp, is a two-train liquefied natural gas(LNG) plant that has a potential (mtpy)capacity of 6.6 million metric tons per yearand sells to Korea Gas Corp. under its solelong-term contract.

Ras Laffan Liquefied Natural Gas Co.Ltd. (II) and Ras Laffan Liquefied Natural Gas Co. Ltd. (3)Sector: Natural gas liquids

Location: Qatar

Debt amount: $850 mil 5.838% sr secd bndsser B due Sept 2027 (Guarantor: Ras LaffanLiquefied Natural Gas Co. Ltd. (II))

$1.4 bil 5.298% sr secd bnds ser A due Sept2020 (Guarantor: Ras Laffan LiquefiedNatural Gas Co. Ltd. (3))

$1.55 bil ser C and ser D bnds due Sept 2027(Guarantor: Ras Laffan Liquefied NaturalGas Co. Ltd. (II))


Description: RasGas II and RasGas 3 plan tosource about 1.9 trillion cubic feet per year ofnatural gas from Qatar’s North Field and useit to produce about 30 million mtpy of LNG,62.4 million barrels of condensate, and 2.1mtpy of liquefied petroleum gas. At this size,RasGas II and RasGas 3 jointly will be theworld’s largest LNG producers, with about12% of the global LNG market by 2010,according to the sponsors. By mid-2007,RasGas II will consist of three fully opera-tional trains producing a total of 14.1 mtpyof LNG, and, by the end of 2009, RasGas 3will consist of two fully operational LNGtrains producing a total of 15.6 mtpy.

Redbank Project Pty. Ltd.Sector: Power

Location: Australia

Debt amount: A$200.3 mil 6.8% bank ln dueJune 2023

A$61.2 mil 6.8% bank ln due June 2018


Description: Redbank is a special-purposeentity that owns and operates a 132 MWwaste coal-fired electric power plant in theState of New South Wales. The plant has a30-year hedge agreement to April 2031 and afuel supply agreement with the adjacentWarkworth mine to July 2031.


Reliance Rail Finance Pty Ltd.Sector: Transport

Location: Australia

Debt amount: A$178.5 mil bank ln due Dec2018 (Bond Insurance Provider: XL CapitalAssurance Inc.)

A$178.5 mil bank ln due Dec 2018 (BondInsurance Provider: FGIC UK Ltd.)

A$160 mil fltg rate nts ser 9 due Sept 2020(Bond Insurance Provider: XL CapitalAssurance Inc.)

A$160 mil fltg rate nts ser 10 due Sept 2020(Bond Insurance Provider:FGIC UK Ltd.)

A$190 mil fltg rate nts due Sept 2018 (BondInsurance Provider: XL Capital Assurance Inc.)

A$190 mil fltg rate nts ser 8 due Sept 2018(Bond Insurance Provider: FGIC UK Ltd.)


A$200 mil fltg rate nts sre 5 due Sept 2017(Bond Insurance Provider: FGIC UK Ltd.)

A$200 mil fltg rate nts ser 3 due Sept 2016(Bond Insurance Provider: FGIC UK Ltd.)


A$150 mil var rate CPI nts ser 1 due Dec 2035(Bond Insurance Provider: FGIC UK Ltd.)

A$150 mil var rate CPI nts ser 2 due Dec2035 (Bond Insurance Provider: XL CapitalAssurance Inc.)

Rating/Outlook: AAA, A-(SPUR)/Stable

Description: Reliance Rail has the concessionto design, build, deliver, and maintain 78commuter trains (comprising eight carriagesper train) for the public rail service in New

South Wales. Included in the delivery is thedesign and construction of a maintenancefacility and train simulators for driver train-ing. Revenue is earned based on train avail-ability over the trains’ 30-year operating life.Delivery of the trains into service is expectedto commence in April 2010 and provisionallyceases 30 years after delivery of the 69thtrain set. The final train set is expected to bedelivered in Sept 2013.

Reliant Energy Mid-Atlantic PowerHoldings LLCSector: Power


Debt amount: $210 mil 8.554% certs pass-thru ser A due July 2020

$421 mil 9.237% certs pass-thru ser B dueJuly 2017

$220 mil 9.681% certs pass-thru ser C dueJuly 2026

Rating/Outlook: B+/Positive

Description: Reliant provides electricity andenergy services to more than 1.9 million retailcustomers in Texas, serves commercial andindustrial customers in the PJM Interconnectionregion, and provides electricity to wholesalecustomers in a number of U.S. regions througha portfolio of about 16,000 MW.

Riverside Energy Center LLC/RockyMountain Energy CenterSector: Power

Location: Wisconsin, Colorado, U.S.

Debt amount: $368.5 mil sr secd bank lndue 2011

$264.9 mil sr secd bank ln due 2011


Description: A 617 MW natural gas-fired, com-bined-cycle electric generating plant that sells toWisconsin Power & Light Co. and MadisonGas & Electric Co. under long-term contracts.

RMPA Service PLCSector: Other

Location: U.K.

Debt amount: £680 mil 5.337% due Sept2038 (Guarantor: Ambac Assurance UK Ltd.)


Description: The bond proceeds are beingused to finance the construction of a newMinistry of Defence garrison near the townof Colchester in England. The project willalso provide certain facility management ser-vices for the new garrison. The total conces-sion period is 35 years.


Summary Reference

Road Management Consolidated PLCSector: Transport

Location: U.K.

Debt amount: £165 mil 9.18% secd bondsdue June 2021 (Guarantor: AmbacAssurance Corp.)


Description: The bond proceeds were used topartially fund the construction of two U.K.design, build, finance, and operate shadowtoll roads: the A1(M) between Alconbury andPeterborough; and the A419/A417 betweenSwindon and Gloucester. Construction workson both roads were completed in 1998.

Rowville Transmission FacilitySector: Power

Location: Australia

Debt amount: A$28 mil bnds due Dec 2028(Guarantor: MBIA Insurance Corp.)

Rating/Outlook: AAA, A(SPUR)/ Stable

Description: Rowville is a special-purposeentity that owns, operates, and maintains twovital 500 kilovolt and 220 kilovolt step-downtransformer and associated switchyard inLatrobe Valley, Victoria. The assets’ operatingrisk is passed through entirely to an operatorthat has a strong credit quality.

Sabine Pass LNG L.P.Sector: Oil and gas


Debt amount: $1.482 bil 7.5% sr nts dueNov. 2016

$550 mil 7.25% sr secd nts due Nov. 2013


Description: Sabine Pass’s only asset is its100% ownership of the 4 billion cubic feet(bcf)/day Sabine Pass LNG regasification ter-minal that is currently under construction.The proceeds were used to refinance the exist-ing unrated project credit facility at SabinePass; refinance the $600 million term loan Bat Cheniere LNG Holdings LLC, which owns100% of the equity of Sabine Pass; to fundthe remaining construction costs for the termi-nal, and to fund a debt-service reserve.

Sacramento Cogeneration AuthoritySector: Power


Debt amount: $86.135 mil bonds ser 1998due 2021


Debt amount: $182.9 mil cogen proj rev(Procter & Gamble Project) bnds ser 1995due July 2021 (Bond insurance provider:MBIA Insurance Corp.)


Description: The project is a 120 MW com-bined cycle cogeneration facility that sellscapacity and energy to the SacramentoMunicipal Utility District.

Sacramento Municipal Utility District Financing AuthoritySector: Power


Debt amount: $245.105 mil proj rev bnds ser2006 due July 2030 (Bond insuranceprovider: MBIA Insurance Corp.)

$55.27 mil 5.125% proj rev bnds ser 2006due July 2029 (Bond insurance provider:MBIA Insurance Corp.)


Description: The project is a new 495 MWgas-fired combined-cycle plant that begancommercial operation Feb 2006. The projectis a joint powers authority formed bySacramento Municipal Utility District(SMUD) and the Modesto Irrigation Districtunder California law. The power purchaseagreement with SMUD is structured as atolling contract, with SMUD obligated toprovide natural gas to the project and assumefuel price risk, in addition to paying all oper-ating costs as long as the plant meets theagreement’s performance standards.


Sacramento Power AuthoritySector: Power


Debt amount: $122.96 mil 3.75% cogen projrev rfdg bnds ser 2005 due July 2022 (Bondinsurance provider: Ambac Assurance Corp.)


Description: Sacramento Power is a 160 MWgas-fired combined-cycle cogeneration facilityfor which the Sacramento Municipal UtilityDistrict is the sole offtaker.

Salton Sea Funding Corp.Sector: Power


Debt amount: $285 mil 7.475% sr secdbonds ser F due Nov 2018

$65 mil 8.3% sr secd bonds ser E dueMay 2011

$109.25 mil 7.84% sr secd bonds pass-thruser C due May 2010


Description: Salton Sea is a project-fundingvehicle, owned by MidAmerican EnergyHoldings Co., that financed the purchase andconstruction of 10 geothermal power projectswith a total capacity of 327 MW. The projectsells most of its power to Southern CaliforniaEdison Co.

San Antonio Convention Center Hotel Finance Corp.Sector: Other


Debt amount: $129.93 mil rev bnds ser2005A due July 2039 (Bond insuranceprovider: Ambac Assurance Corp.)

Rating/Outlook: AAA, BBB-(SPUR),Negative

Description: Combined with $77 million inequity contributions, the proceeds of thebonds are being used to build a 1,000-roomconvention center headquarters hotel in SanAntonio, Texas. The project has implementeda revised construction schedule and increasedthe workforce to meet its scheduled openingin Feb 2008.

Selkirk Cogen Funding Corp.Sector: Power


Debt amount: $227 mil 8.98% 1st mortgagebonds due June 2012

$165 mil 8.65% 1st mortgage bonds dueDec 2007


Description: Selkirk is a 345 MW cogenera-tion project consisting of two electrically sep-arate, but thermally integrated, gas-fired gen-erating units that provide energy under long-term contracts with Niagara-Mohawk PowerCorp. and Consolidated Edison Co. of NewYork Inc.

Services Support (Manchester) Ltd.Sector: Other

Location: U.K.

Debt amount: £100 mil sr secd bank ln due 2029


Description: The company is responsible fordesigning, building, financing, and operatingof 16 police stations under a public financeinitiative project agreement until March 2030with the Greater Manchester Police Authority.

Sithe/Independence Funding Corp.Sector: Power


Debt amount: $408.6 mil 9% sr secd bondsdue Dec 2013 (Guarantor:Sithe/Independence Power Partners L.P.)


Description: A 1,000 MW combined-cycle,natural gas-fired cogeneration plant that sellscapacity to Consolidated Edison Co. of NewYork Inc. and Dynegy Inc.


Summary Reference

Sociedad Concesionaria Autopista Central S.A.Sector: Transport

Location: Chile

Debt amount: $250 mil 6.223% bonds dueDec 2026 (Bond insurance provider: MBIAInsurance Corp.)

$268.2 mil 5.3% (UF13 mil Chilean inflationprotected units) bonds due Dec 2026 (Bondinsurance provider: MBIA Insurance Corp.)


Description: The consortium of Dragados,Skanska, Sade, Belfi, and Brotec was awardedthe concession for the North-South (SistemaNorte Sur) urban toll road system in Santiago,Chile in Aug 2000. The consortium operatesnow as Autopista Central. The total length ofthe concession highway is 60.13 km.

Sociedad Concesionaria Costanera Norte S.A.Sector: Transport

Location: Chile

Debt amount: UF1.9 mil (Chilean inflationprotected units) 5% nts ser A1/A2 due June2016 (Bond insurance provider: AmbacAssurance Corp.)

UF7.6 mil 5.5% nts ser B1/B2 due Dec 2024(Bond insurance provider: Ambac AssuranceCorp.)


Description: The consortium of Impregilo Spa(Italy), Fe Grande (Chile), and Tecsa (Chile)was awarded the concession for CostaneraNorte in Nov 1999. In Dec 2005, Italian tollroad operators Autostrade SpA(A/Negative/A-1) and SIAS SpA reached anagreement with the original shareholders toacquire 100% of the shares in Costanera.The project consists of a 30.4-km six-laneurban toll highway on the north side of theMapocho River, which runs from east to westthrough Santiago, Chile. The total length ofthe concession highway is 42.3 km.

Sociedad Concesionaria VespucioNorte Express S.A. (AVN)Sector: Transport

Location: Chile

Debt amount: US$432 mil nts due June 2028(Guarantor: MBIA Insurance Corp.)


Description: AVN (the toll-road operatingcompany of the consortium of Grupo ACS,Hochtief, and Cofides) was awarded the con-cession for the Sistema Américo Vespucio Nor-Poniente urban toll road system in Santiago,Chile, in 2002. AVN provides 29 km of high-speed urban motorways, 29 km of serviceroads, and seven grade-separated junctions.

Societe Marseillaise Du Tunnel Prado-Carenage (SMPTC)Sector: France

Location: Transport

Debt amount: €65.34 mil sr secd bank ln due2020 (Insurance provider: CIFG Europe)

€14.5 mil sr secd out bank ln due 2009(Insurance provider: CIFG Europe)

Rating/Outlook: AAA

Description: SMTPC owns and operates a2.5-km tunnel in Marseilles under a 32-yearcontract ending in 2025. The tunnel wasopened in 1993.

Southern Power Co.Sector: Power

Location: U.S.

Debt amount: $200 mil 6.375% sr unsecd ntsser E due November 2036

$525 mil 4.875% sr unsecd nts ser C due 2015

$575 mil 6.35% sr unsecd nts due July 2012

$400 mil credit facility due July 2011

Issuer credit rating: BBB+/Stable/A-2

Description: Southern Power is the unregulat-ed, wholly owned subsidiary of Southern Co.that owns or has interests in 7,371 MW ofelectric generation capacity in operation andconstruction.


Sutton Bridge Financing Ltd.Sector: Power

Location: U.K.

Debt amount: $150 mil 7.97% gtd secdbonds due June 2022 (Guarantor: SuttonBridge Power)

£195 mil 8.625% gtd secd bonds due June2022 (Guarantor: Sutton Bridge Power)


Description: The 790 MW combined-cyclegas turbine power plant, which includes twoGeneral Electric gas turbines, sells powerunder a long-term tolling agreement withEDF Energy PLC (A/Stable/A-1) and is ulti-mately owned by EDF Energy PLC.

Talca-Chillan Sociedad Concesionaria(TACHI)Sector: Transport

Location: Chile

Debt amount: ChP5.65 mil 3.04% (approx$170 mil) deb ser B due 2019 (Guarantor:MBIA Insurance Corp.)

Rating/Outlook: AAA, BBB(SPUR)

Description: TACHI holds a concession tobuild, operate, renovate, improve, andexpand a 194-km toll road that is part of thecurrent Ruta 5. The concession starts northof Talca and runs southward to Rucapequén,which is located to the south of Chillán.

Tenaska Alabama II Partners LLCSector: Power

Location: Alabama, U.S.

Debt amount: $410.5 mil 6.125% sr secdbonds due March 2023


Description: Tenaska Alabama is a 885 MWcombined-cycle generation facility that sellspower to Coral Power LLC under a 20-yearenergy conversion agreement.

Tenaska Alabama Partners L.P.Sector: Power

Location: Alabama, U.S.

Debt amount: $361 mil 7% sr secd bnds dueJune 2021


Description: TAP is a Delaware limited partner-ship that owns the 844 MW Tenaska LindsayHill Generating Station, a combined-cycle, nat-ural gas- and oil-fired power plant in AutaugaCounty near Billingsley, Ala. The plant begancommercial operations in May 2002 and sellsfuel-conversion services under a 25-year tollingagreement with Williams Power. WilliamsPower has announced an agreement to sell thistoll, along with other power assets, to BearEnergy L.P., an unrated subsidiary of the BearStearns Cos. Inc. (A+/Stable/A-1).

Tenaska Gateway Partners Ltd.Sector: Power




Description: Gateway is a Texas limited part-nership that owns an 845 MW (nominal)combined-cycle gas power plant located inRusk County, Texas and related project con-tracts. The project sells capacity and energyunder a 22.5-year tolling agreement withCoral Power LLC and Coral Energy HoldingL.P. that expires in Jan 2024.

Tenaska Georgia Partners L.P.Sector: Power


Debt amount: $275 mil sr secd bonds dueFeb 2030


Description: Tenaska Georgia is a 942 MWgas-fired, simple-cycle peaking facility located40 miles from Atlanta, Ga. The project consistsof six gas-fired turbines and electric generatorsthat were completed in two phases. The pro-ject’s first phase began commercial operation inJune 2001, and the second phase came on linein June 2002. The project generates capacityand energy revenue under the terms of a 29-year tolling agreement with Exelon GenerationCo. LLC (BBB+/Watch Neg/A-2).


Summary Reference

Tenaska Oklahoma I L.P.Sector: Power


Debt amount: $73.5 mil 6.528% sr secd ntsdue Dec 2014


Description: Tenaska Oklahoma I L.P. is theholding company of Kiowa Power PartnersLLC. Kiowa sells capacity and energy underan 18-year electricity manufacturing agree-ment with Coral Power LLC, a subsidiary ofCoral Energy Holding L.P.

Tenaska Virginia Partners L.P.Sector: Power


Debt amount: $483.5 mil 6.119% sr secdbonds due March 2024


Description: Tenaska Virginia is an 885 MWcombined-cycle, gas- and oil-fired plant,owned by Tenaska Inc., that sells capacityand energy under a 20-year energy conver-sion agreement with Coral Power LLC.

Tenaska Washington Partners L.P.Sector: Power

Location: Washington, U.S.

Debt amount: $189 mil 6.79% 1st mortbonds due 2011


Description: Tenaska Washington’s Ferndalecogeneration project is a 270 MW facility nearFerndale, Wash., which sells power exclusivelyto Puget Sound Energy Inc. (BBB-/Stable/A-3)under a purchase-power agreement whose pri-mary term expires Dec. 31, 2011.

TermoEmcali Funding Corp.Sector: Power

Location: Colombia

Debt amount: $153.7 mil sr secd nts dueDec 2019

Rating/Outlook: CCC+/Stable

Description: TermoEmcali is a 234 MW com-bined-cycle, natural gas-fired power genera-tion facility that sells capacity and energy toEmpresas Municipales de Cali under a long-term contract.

Thermal North America Inc.Sector: Other

Location: Massachusetts

Debt amount: $305 mil term bank ln due2008

$30 mil synthetic letter of credit bank ln due 2008

$35 mil revolv bank ln due 2008

Rating/Outlook: BB/Watch Pos

Description: TNA owns a portfolio of assetsthat provide district heating and cooling ser-vices. Veolia Energy, a wholly owned sub-sidiary of Veolia Environment S.A., announcedits intention to acquire TNA in June 2007.TNA has the largest district heating and cool-ing portfolio of companies in the U.S.

The Hospital Co. (QAH Portsmouth)Sector: Other

Location: U.K.

Debt amount: £262.04 mil credit guaranteefac govt ln due 2039 (Guarantor: FinancialSecurity Assurance (U.K.) Ltd.)

Rating/Outlook: AAA(prelim),BBB(SPUR)/Stable

Description: The funds will be used to financethe design and construction of new and refur-bished facilities for the Portsmouth HospitalsNHS Trust to provide an advanced hospitalfacility to Portsmouth, Fareham and Gosport,and East Hampshire, in southern England.


Transform Schools (North Lanarkshire) Funding PLCSector: Other

Location: U.K.

Debt amount: £87.8 mil 2.343% (plus £15mil variation bnds) index-linked gtd bnds due2036 (Bond insurance provider: XL CapitalAssurance (U.K.) Ltd.)

£70 mil sr secd EIB bank ln due 2034 (Bondinsurance provider: XL Capital Assurance(U.K.) Ltd.)


Description: The funds are being used byTransform Schools to finance the design andconstruction of new schools facilities for theCouncil of North Lanarkshire, in Scotland,under a 32-year project agreement, whichexpires on March 31, 2037.

TransGas de Occidente S.A.Sector: Pipelines

Location: Colombia

Debt amount: $240 mil 9.79% notes dueNov 2010


Description: TransGas was formed to build,operate, and maintain a 3,440-km, 20-inchdiameter natural gas pipeline running fromMariquita, in central Colombia, to Cali, inthe southwest of the country. The pipelinehas the design capacity of about 234 millioncubic feet per day without compression.

Transurban Finance Co. (CityLink)Sector: Transport

Location: Australia

Debt amount: A$300 mil fltg rate creditwrapped med-term nts due Nov 2017 (Bondinsurance provider: MBIA Insurance Corp.)

A$300 mil fltg rate credit wrapped med-termnts due Nov 2015 (Bond insurance provider:MBIA Insurance Corp.)

A$360 mil fltg rate nts due Aug 2009 (Bondinsurance provider: MBIA Insurance Corp.)


Debt amount: A$255 mil tranche A revolvcash advance bank ln due June 2008

A$195 mil tranche B revolv cash advancebank ln due June 2010

A$150 mil fltg rate revolv cash advance bankln due March 2008

$300 mil deferred interest nts due 2016

A$300 mil med-term nts ser 10 due Sept 2011

$38.94 mil 5.17% Tranche B fixed rate ntsser 2004-1 due 2016

$250 mil private placement nts due 2015

$108.56 5.47 mil Tranche C fixed rate ntsder 2004-1 due 2019

$100 mil 5.02% Tranche A fixed rate nts ser2004-1 due 2014

A$72 mil fltg rate Tranche D nts ser 2004-1due 2019

A$150 mil 4.97% fixed rate nts ser 1 dueDec 2009

A$1.8 bil sr secd med-term note program

Rating/Outlook: A-/Negative

Description: Transurban Finance Co. is thefinancing vehicle for the Transurban Group.Transurban fully owns and operates theCityLink toll road concession in Melbourne.After it took over Sydney Roads Group inApril 2007, Transurban controls or has aninterest in most of Sydney’s toll road conces-sions including the Hills Motorway, EasternDistributor, M4 and M5 Motorways, and a47.5% equity share in WestLink.


Summary Reference

Trigen Atlantic Station LLCSector: Other


Debt amount: $13.6 mil tax-exempt sr rev bnd

$4.5 mil taxable sr rev bnd


Description: Trigen Atlantic Station is a special-purpose entity formed to finance, build, own,and operate the district cooling project. TNAacquired Atlantic Station from Maxon HoldingsLLC in March 2007. The district cooling sys-tem, which is currently under construction, con-sists of three 2,500-ton chiller trains and therelated piping system. The chilled water will besold to subdevelopers within the AtlanticStation development under a separate 20-yearservice agreement.

Tube Lines (Finance) PLC.Sector: Transport

Location: U.K.

Debt amount: £285 mil sr secd EIB A bank lndue 2031 (Guarantor: Ambac AssuranceCorp., Guarantor: Ambac Assurance UK Ltd.)

£15 mil sr secd EIB B bank ln due 2031(Guarantor: Ambac Assurance Corp.,Guarantor: Ambac Assurance UK Ltd.)


Debt amount: £1.15 bil 5.54% sr secd A-1nts due March 2031

Rating/Outlook: AA/Stable

Debt amount: £76.75 mil 7.4547% sr secd Bnts due March 2031


Debt amount: £134.2 mil 8.6801% sub C ntsdue March 2010


Debt amount: £21.59 million 11.1776% subD nts due March 2010


Description: Tube Lines (Holdings) Ltd. ownsthis finance company, which raised the debtto support the holding company’s service con-tract with London Underground Ltd., whichowns and operates the London undergroundrail system. Under a 30-year public-privatepartnership Tube Lines will manage the infra-

structure of three London Underground lines:Jubilee, Northern, and Piccadilly.

Utility Contract Funding LLCSector: Power


Debt amount: $829 mil sr secd bonds dueOct 2016


Description: The project monetizes the long-term agreement between El Paso Corp.’sEagle Point Cogeneration Partnership andPublic Service Electric & Gas Co.

VeraSun Energy Corp.Sector: Oil and gas

Location: South Dakota, U.S.

Debt amount: $210 mil 9.975% sr nts dueDec 2012


Debt amount: $450 mil sr unsecd nts dueJune 2017


Description: VeraSun Energy Corp. ownsnine current and prospective ethanol facilitieswith a total capacity of 1 billion gallons peryear expected to come on line by the end of2008. The 2007 acquisition of ASAlliancesBiofuels’ three ethanol plants of 110 mmpgyeach gives Verasun 670 mmpgy of capacityfollowing the recent completion of its CharlesCity, Iowa facility.


ViaOeste - Concessionaria de Rodoviasdo Oeste de Sao Paulo S.A.Sector: Transport

Location: Brazil

Debt amount: BrR650 mil deb ser 3 due 2015

Rating/Outlook: brA+/Stable

Description: The ViaOeste system consists ofthree main roads: Rodovia PresidenteCastello Branco (SP 280), Raposo Tavares(SP 270), and Senador José Ermírio deMoraes (SP 075), operating over 161.78 kmin the key state of São Paulo. Every yeararound 45 million vehicles use this system.

West Coast Train Finance PLCSector: Railroads

Location: U.K.

Debt amount: £480 mil 6% asset-backed ntsdue March 2015 (Lessee: Angel Leasing Co.Ltd.)


Description: West Coast Train Finance hasa secured loan agreement with AngelLeasing Co. Ltd., the purchaser of theadvanced tilting train used on Virgin RailGroup’s rail franchise.

Windsor Financing LLCSector: Power


Debt amount: $268.5 mil 5.881% sr secdbnds due July 2017

Rating/Outlook: BBB-/Watch Neg

Debt amount: $52 mil 6.937% sub secd ntsdue Jan 2016

Rating/Outlook: BB/Watch Neg

Description: Windsor is a single-purpose entitycreated to refinance three Cogentrix EnergyInc. (BB-/Stable/—) power plants (at two sites)subsequent to the restructuring of their power-purchase agreements and power purchaseoperating agreements with Virginia ElectricPower Co. The two sites are in Richmond, Va.and Rocky Mount, N.C. The Richmond sitehas two plants, Richmond I and Richmond II,and Rocky Mount has one facility.

Windsor Petroleum Transport Corp.Sector: Transport

Location: Delaware, U.S.

Debt amount: $111.7 mil serial secd nts due2010 (Guarantor: BP PLC)

Rating: AA+/Stable

Debt amount: $239.1 mil 7.84% term secdnts due Jan 2021


Description: Windsor Petroleum Transportfunded the construction of four very largecrude oil carriers, each of which is a 300,000dead-weight-ton, double-hulled tanker andoperates under a long-term charter contractwith BP Shipping.


Summary Reference

Wolf Hollow I L.P.Sector: Power


Debt amount: $156 mil 1st lien sr secd termbank ln due June 2012

$104 mil 1st lien sr secd synthetic LC facbank ln due June 2012

$30 mil 1st lien sr secd working capital bankln due Dec 2010

Rating/Outlook: BB-/Negative

Debt amount: $110 mil 2nd lien sr send termbank ln due Dec 2012

Rating/Outlook: B/Negative

Description: Wolf Hollow will use the loanproceeds to fund a portion of the acquisitionof the Wolf Hollow power plant, a 720 MW,combined cycle, gas-fired power plant locatedin Granbury, Texas, fund certain reserveaccounts, and pay transaction fees. The facili-ty dispatches into the north subregion ofElectric Reliability Council of Texas. Theplant has been in service since Aug 2003.

Yankee Stadium L.P.Sector: Other


Debt amount: $25 mil rental rev bnds series2006 (insured by MBIA)

$930 mil pilot rev bnds ser 2006 dueMarch 2046


Description: The proceeds of the bonds willbe used to build a new baseball stadium forthe New York Yankees, a Major LeagueBaseball team, in the Bronx, N.Y. The sta-dium will be built in the adjacentMacomb’s Dam and John Mullaly Parks,next to and north of the existing stadium.It will have a capacity in excess of 50,000plus about 2,000 standing-room spots for atotal capacity of between 52,000 and53,000, slightly smaller than the existingstadium of 57,400. It will replace the exist-ing stadium that was built in 1923 and ren-ovated in the 1970s. ■



Project Finance

Credit Services

Standard & Poor’s Ratings Services offersflexible, customized services for all partici-

pants in utility, project, and concessionfinancings. These services provide an impres-sive range of valuable benefits, includingreduced borrowing costs, improved liquidity,easier loan syndication, and enhanced busi-ness and financial insights.

RatingsRatings on specific debt instruments or loans arethe most commonly requested service offered byStandard & Poor’s. Recognized and respectedworldwide, Standard & Poor’s ratings giveissuers-even those in little-understood or uncer-tain markets-a convenient, reliable way todemonstrate credit quality to a global audienceof lenders, investors, and other interested parties.

Standard & Poor’s rates debt instrumentssuch as bonds, syndicated loans, and agencyloans in a variety of public and private mar-kets, including the 144a, Euro, and Samuraimarkets. Ratings are developed through a col-laborative process involving a careful reviewof both quantitative and qualitative businessand financial factors, including competitivesituation, ownership, revenue and cash flowprojections, and legal and security structures.

Unlike some organizations, Standard &Poor’s typically determines and publishes rat-ings only with an issuer’s consent and cooper-ation. This practice ensures that our analystshave ready access to the relevant public andproprietary information they need to reach aninformed decision.

Entity Credit RatingsAn entity credit rating (ECR) provides thecapital markets with a general evaluation ofan issuer’s overall credit quality, independentof any specific debt issue. By offering a clear,well-regarded assessment of an issuer’s funda-mental credit standing, an ECR can provide

valuable leverage in many types of transac-tions, including loans, leases, letters of credit,and counter party agreements. In addition, anECR helps a company’s management under-stand how its credit standing affects its strate-gic and financial options. Just as important,an ECR can create instant identification foran issuer, particularly if the issuer is not cur-rently engaged in the public capital markets,while establishing a relationship withStandard & Poor’s well in advance of anyfinancing transaction.

Credit EstimatesA credit estimate is a confidential indicationof the likely entity credit rating on anunrated company.

Our traditional letter-grade ratings (‘A+’, ‘A’,‘A-’, etc.) are well known in the market. Therating is based on input from CreditModel andan abbreviated methodology that draws onanalytical expertise and industry knowledge ofthe Standard & Poor’s analyst(s) specializingin the industry in which the company oper-ates. These estimates do not involve directcontact with the company or the in-depthinsight into competitive, financial, or strategicissues that such contact allows. The creditestimate is confidential, with the agreementstating that the information is not to be usedby or distributed to anyone but the customer.

Private Credit AnalysisPrivate credit analysis is a preliminary indica-tor of creditworthiness expressed in a broadrating category. It is not a formal rating.

Determined through a review of summaryinformation, a private credit analysis providesan evaluation of the general strengths andweaknesses of a company or a proposedfinancing structure. In many situations, it canserve as a first step toward a fully developedStandard & Poor’s rating.

Project & Infrastructure FinanceCustomized Services


Project Finance

For example, a private credit analysis canplay a valuable screening role for govern-ments evaluating concession bids from differ-ent consortia. During the bid stage, the analy-sis offers valuable early insight into the finan-cial viability of a proposed project. Likewise,governments, utilities, or project sponsors canuse this service to evaluate the creditworthi-ness of contractors hired to undertake large-scale infrastructure development projects.

Consortia bidding for concessions can alsobenefit from a Standard & Poor’s privatecredit analysis. For example, private creditanalysis can demonstrate a consortium’s abili-ty to optimize its debt-financing plans througha bank, agency, or the capital markets.

Standard & Poor’s Underlying Ratings Standard & Poor’s Underlying Ratings(SPURs) demonstrate an issue’s credit qualityon a stand-alone basis, independent of any andall guarantees such as those provided by bondinsurance and multilateral or governmentalagencies. SPURs have become an essential partof a growing number of transactions becausebanks and institutional lenders generallyrequire an underlying evaluation before pur-chasing debt backed by a guarantee.

A SPUR can provide issuers with the lever-age they need to negotiate more favorableterms with the guarantor than might other-wise be possible. Moreover, a SPUR offersinsight that can play an important role indeciding whether to obtain a financial guaran-tee. In fact, a strong SPUR might be enoughto demonstrate that not obtaining a financialguarantee is actually the most cost-effectivefinancing strategy for a particular issue.

SPURs are determined through the samecomprehensive analytical review as traditionalStandard & Poor’s ratings and may be pub-lished or kept confidential at an issuer’s discre-tion. If published, they are accompanied by apresale credit report and ongoing surveillancereports that can facilitate loan syndication orenhance liquidity in the secondary market.

Rating Evaluation ServiceStandard & Poor’s Rating Evaluation Serviceprovides a formal determination of the crediteffect of business, strategic, or funding initia-tives under consideration by governments ororganizations. It is a superior alternative to

“best-guess” estimates of the credit implica-tions of potential business ventures.

Undertaken by the same analytical teamand rating committee that would assign rat-ings to an issuer’s existing or proposed debtissues, rating outcomes determined throughthe Rating Evaluation Service can play avaluable role in internal strategic and finan-cial planning. In addition, the RatingEvaluation Service provides issuers with aconsistent, well-respected way to demonstratethe potential credit ramifications of impor-tant business or financial decisions toinvestors, lenders, counterparties, and otherkey audiences.

Bond And Loan Pool RatingsStandard & Poor’s can provide ratings foropen-ended or closed pools of collateralizedbonds or loans. Whatever a portfolio’s com-position, Standard & Poor’s analysis beginswith a thorough review of each componentand includes an evaluation of the extent ofover-collateralization and other structuredsupports for the debt.

A Standard & Poor’s portfolio reviewcan serve as a central component of annualdue diligence or as an ad hoc analysis todetermine the entire risk profile of a spe-cific portfolio. In addition, reviews canplay an important role in the valuation offinancial assets prior to purchase, sale, or securitization.

Peer Analysis ReportsA peer analysis report (PAR) provides anentity with an in-depth quantitative andqualitative analysis of how it compares toits peer group across major credit-sensitiveanalytical categories comprising Standard &Poor’s rating methodology. The analysis isconducted by Standard & Poor’s analysts,who are experts in a given industry or sec-tor, by comparing an entity’s position andperformance across business and financialrisk categories that are material to credit-worthiness. The service is valuable to acompany or entity in benchmarking itscompetitive strengths and weakness, and inunderstanding the factors driving its ratingsand credit risk profile. The peer group isselected by the rated entity, not byStandard & Poor’s.


Learn More About What We Can Do For YouIf you are considering sponsoring, managing,or financing investments anywhere in theworld, one of the most important first stepsyou can take is to contact Standard & Poor’s.

Whether you need formal ratings or pre-liminary assessments of particular organiza-tions, financing structures, or strategic alter-natives, you can count on Standard & Poor’sfor an informed, objective perspective thatcan significantly enhance your evaluation ofpotential opportunities.

However you work with Standard & Poor’s,you will find that Standard & Poor’s analysis

encompasses a unique mix of quantitative andqualitative factors. You will also discover thatStandard & Poor’s places a high priority oncollaboration in all phases of a financing, andthat Standard & Poor’s maintains a welcometransparency throughout the rating and analyt-ical processes. In fact, Standard & Poor’s“open door” policy remains the foundation ofour leading reputation for thoroughness,impartiality, and consistency.

Once you speak with Standard & Poor’s,you will understand why no organization pro-vides more insight into more types of financ-ings worldwide than Standard & Poor’s. ■

Project & Infrastructure Finance Customized Services


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ArgentinaMarta CastelliDirector(54) [email protected]

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DubaiJan Willem PlantagieManaging Director(49) [email protected]

Hong KongJudy Kwok-CheungAssociate Director(852) [email protected]

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Hiroki ShibataAssociate(81) [email protected]

For more than 140 years, Standard & Poor’s has played a leading role in providing independent analysis and research. Whether it’s a credit rating for a new debt issue or anevaluation of a strategic initiative’s impact on your existing credit rating, we offer a range ofanalytical services that can help you manage your decision making with confidence.

I just presented a key strategic proposal to the Board involving billions of dollars

and my company’s future. They asked a lot of tough questions. And I had the right answers.

Thanks to Standard & Poor’s Ratings ServicesI am confident I know how the deal would affect our credit rating and cost of capital.

New York • Terrence Streicher 1.212.438.7196 www.standardandpoors.com

Analytic services provided by Standard & Poor’s Ratings Services (“Ratings Services”) are the result of separate activities designed to preserve the independence and objectivity ofratings opinions. Credit ratings issued by Ratings Services are solely statements of opinion and not statements of fact or recommendations to purchase, hold, or sell any securities ormake any other investment decisions. Accordingly, any user of credit ratings issued by Ratings Services should not rely on any such ratings or other opinion issued by Ratings Servicesin making any investment decision. Ratings are based on information received by Ratings Services. Other divisions of Standard & Poor’s may have information that is not availableto Ratings Services. Standard & Poor’s has established policies and procedures to maintain the confidentiality of non-public information received during the ratings process.

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2008 Global Project Finance Yearbook

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