In effect, loan structures are "coming back to basics," the director of infrastructure financing for a Mexico City-based bank told BNamericas.

"It got to the point where sponsors were in the driver's seat doing highly leveraged structures that were probably not good for the project per se and loosening a lot of the covenants that are there not only to protect the bank but also to protect the project itself, to make sure it runs, that it has the money," the director said.

"We're getting to the point where... it's the sponsor and the bank trying to make the project work."

More financial covenants likely will be worked into deals now on, the director said, adding he expects to begin seeing more amortizing structures than the short-term "mini-perm" loans favored in the past.

"It might be prudent to start looking at structures that amortize more, meaning they would require larger tenures, which is the usual struggle. Who wants to go into something very long? Everyone would prefer to be in something short. But, again, the mindset has to change to the point where people are looking at the health of the project rather than just making a deal, making a buck," the source said.

Loan spreads also are going up as a result of scarce liquidity and inter-bank financing costs. However, spreads in Mexico have not yet shot up for infrastructure development as they have in other parts of the world, the director added.

SANTANDER EXAMPLE

Nikolaus Schultze, director of project finance for First Climate Group, said tapping into carbon cash flows will become even more important for the feasibility of projects than it has been in the past.

Spanish bank Santander, for its part, has rolled out a new model that could help companies do just that. Rather than signing a forward contract to purchase carbon credits upon delivery, the bank is paying for them up front to provide the project developer with capital to finance the project, Santander asset and capital structuring VP Justin Bryon said.

The agreement signed with the promoter establishes a schedule to deliver specific quantities of carbon credits. If for whatever reason the promoter is unable to provide some or all credits, it must reimburse Santander for the portion of the payment made by the bank.

"The difference from other contracts is that we're not asking the promoter to pay us market price for the carbon so that we can go and buy in the market and get our 100,000t. That, we feel, is too risky for the promoter. What we ask is that you reimburse us for the advance, plus a small adjustment for the costs of the working capital. The effect on us is we don't lose money, but we don't make money and we focus on the tonnes you have provided us," Bryon said.

The framework alters the relationship between firms purchasing carbon credits and the emerging market project developers, with the latter shouldering almost all the risk.

"We can't do this with everyone, particularly in today's financial environment. We have to have a solvent and creditworthy counterpart at both ends, but what we do is make sure that when using this structure our payment is sufficient to finance the project," Bryon said.

For the moment, Santander has transactions in Brazil and Mexico, and is looking at a couple of possibilities in Chile.

Though it seems like corporate lending from a distance, Bryon says the devil is in the details.

"It's quite complex when you drill down into it. Maybe that's the reason banks aren't doing it: they just feel that plain vanilla lending is more straightforward and if a project promoter needs US$5mn then they should just loan them US$5mn against their balance sheet. What I'm saying is that is not what companies are looking for. That's going back to where we were at the beginning of asymmetric risk sharing where the promoter has to bear all the risk," Byron said.

"What that means in today's recession economy and financial crisis is the promoter will just say it's not worth it and shelve the project."

Schultze, meanwhile, said First Climate is taking a similar approach.

"As project sponsors are cash-strapped, they're looking any direction to find monetized cash flows. So certainly if you could monetize future carbon cash flows and pay them upfront on the basis of the net present value of future cash flows, it's an area we would be looking into," Schultze said.

MOST ATTRACTIVE PROJECTS

In this current tightened credit market, banks will require stronger guarantees from sponsors of Latin American projects than in the past, Schultze said.

Guarantees will thus become a "very key issue" in helping projects overcome barriers and reach financial closure, Schultze added.

Aside from banks seeking long-term power purchase agreements (PPAs) - well-established proven methods of guaranteeing revenue for Mexican generation projects - they will also be looking at the quality of the offtakers.

"If you tell me a retail network is going to be my offtaker for a non-open season wind project or a mini-hydro project, well, I know those guys will be struggling because retail is coming down," the infrastructure financing director said.

The renewable projects most likely to move ahead in Mexico are those that require investment ofUS$40mn-100mn, assuming the project has the right sponsors and plan, the director added.

"Below US$40mn, you might as well not project finance it because the structure is too costly. Above US$40mn and below US$100mn, you can probably do a two-bank or three-bank deal, live with it over the long-term and bet the construction period is going to be rather lengthy, so the crisis will pretty much go away," he said.

An executive overseeing energy projects for a Mexico City-based bank likewise said that developers may be best served by seeking financing in the market rather than with banks, whether through a bond issue or other means.

The resources could be used to finance construction over two or three years, at which point the company could seek refinancing from the banks, the executive said.

Government-sponsored wind plants, favored by President Felipe Calderón, are most likely to advance in the short term, the executive said.

Meanwhile Santander is eyeing "carbon-heavy projects," such as Mexican landfill or industrial gas projects that need to sell carbon credits to be profitable, Bryon said.

And for "carbon-light" projects, monetization of carbon cash flow also plays an important role as companies seek project finance, Bryon said.

The amount a company can leverage has been reduced by the crisis. Equity investment by companies is going up to some 30% from 20% previously as the proportion of debt decreases.

Bryon's group is working with Santander's project finance division and monetizing the carbon: rather than having 30% equity, in reality it is 20% with a 10% contingent liability.

"That contingent liability has a lower cost of capital, a lower strain on the balance sheet and so implies de facto a higher return for the investor. Therefore it's more likely the project will go ahead," Bryon said.

Worth noting is that, in general, Latin American renewable projects may have a global advantage as most carbon credits come from Asia, thus creating a concentration risk.

"If you can successfully develop a project in Brazil or Mexico or Chile, or any other country that's not China or north India, you can sell that with a premium. There is a demand for those projects and that's basically where we've been focusing our efforts," Bryon said.

Meanwhile, the medium and long-term scarcity of carbon credits, as Europe and Japan have difficulty meeting demand and the US presumably begins buying CERs, bodes well for renewable projects that manage to start up and begin generating CERs. Many companies have not yet declared their renewable projects frozen so the shortfall will only increase.

"The people that have projects from the promoter perspective have a rosy future, particularly if they can reduce their risk," Bryon said.

Editor's note: this is the second installment of a BNamericas series addressing how the credit crunch is affecting financing for renewables in investment. The third and final installment will take a look at the prospects for financing going forward.


Source: www.bnamericas.com