Bonds offer more flexibility in funding regional infrastructure projects

Sean Kennedy

THE sky is the limit in terms of pay-offs to the person who can come up with a convincing bond-financed project, according to Clive Ransome and Ian Baxter of Linklaters & Paines.

'The rewards available to the architect of the ideal project-related security are virtually unlimited,' they wrote in an article published in a capital markets newsletter, Capital A$ia.

They said the trend towards using bonds in funding infrastructure projects was growing in Asia. 'Bonds have many advantages over traditional commercial bank lending. Bonds may, in a project context, be issued for a longer term than commercial debt,' the report said.

'This has the enormous advantage of reducing early-year demands on the revenue stream as the repayment of debt is staggered.

'Early-year tariffs for a power station or toll road can therefore be reduced with a consequent benefit to the consumer [and, in the case of competitive bids, for the bond-financed bidder].

'It may also allow the development of projects which would otherwise be [impossible to finance] if the only source of debt were to be shorter-term bank borrowings.' The report said documentation for bonds was traditionally less heavily negotiated than bank loans, and lead times and negotiation costs could be cut, compared with those involved in project financing.

Some disadvantages include the typically large numbers of investors in bonds, making a meeting to discuss a problem with a particular project logistically difficult. One solution suggested was to deem unexercised voting rights to have been cast with majority lenders.

'This has been the solution adopted in some of the Malaysian independent power projects where bond funding has been combined with commercial bank debt,' said the report.

The need for a meeting of bondholders can be a disadvantage to the issuer and, where assets are being dissipated, to the bondholders. 'Bondholders can act as a clog in this process,' the report said.

If the debt involved a commercial debt tranche, bondholders might, in effect, be harnessed to the commercial debt lenders in cases where there was a failure to respond. 'In other words, decision-making powers might be vested - as a last resort - in the banks,' the report said.

But a more practical solution in some circumstances would be the use of domestic or international bank guarantees or letters of credit to secure bond issues, at least during the higher-risk construction phase.

'This has the advantage of securing the long-term [and, in the right economic circumstances, fixed-rate] funding that is desirable in many projects, while allowing construction-phase project risk to be taken by commercial banks which can then manage the credit as they see fit,' the report said. It cited the bond issue for the Macau international airport as an example.

While commercial bank lenders traditionally insist on much greater due diligence than the average purchase of a Eurobond, project finance style sophistication could be increasingly found in the capital markets.

'The advance of infrastructure plays such as TelecomAsia, and the spin-off of Hopewell's Consolidated Electric Power Asia, can only enhance the development of the market,' the report said.

' . . . placements have worked in the Philippines and seem poised to succeed in selected high-quality projects in Indonesia and China.

'Long experience in independent power financing through bond issues has resulted in the existence of a considerable pool of sophisticated potential bond-buyers in the US.'