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Presented By:

Prateek Daglia 15

Harish Daryani 17

Anagha Deshpande 18Varun Doshi 19

Nishith Gandhi 21

Sourav Guha Roy 24

Australia Japan Cable: Structuring

the company

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Presentation Flowy Potential Problems

y Structural Attributes

y Why structure matters?

y

Governance Framework

y Organizational Structure

y Ownership and Capital Structure

y Organizational Design

y Management Compensation

y Conclusion

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Potential problems for capital providers

y Prioritization of the problemsy Market Risk

y Demand Risk Volatility in Capacity demand (Unused Capacity or Excess

Demand)

y Price Volatility 25% decline in prices every year

y Mitigation strategy

y Pre sales capacity contracts

y Collapsed Ring Configuration (Lowering of costs)

y Hedging Strategy (Forward contracts)

y Technological Risk Introduction of newer technologies

y Mitigation Strategy

y Co-opetition

y Quick launch and up gradation of existing technology

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Other Significant Risks

y Sovereign Risk Country wide relationships may get hampered

y Operational Risk

y Cable failures due to shipping, dredging and fishing activities

y Landing Stations Permission from govt. to build new stations


y High Expertise Level

y Shared Ownership with companies having stations

y Environmental Risk Environmental concerns may lead to delay in project


y Prior submission of Environmental Impact Report to respective governments

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Structural Attributes

y Organizational Structure Special Purpose Vehicle

Legally independent

y Capital Structure

Debt to capitalization ratio

y Ownership Structure

Number of owners

Share allocations

y

Board Structure Composition

Size

y Contractual Structure

Contracts with suppliers of inputs and buyers of output

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Why structure matters ? (1)Agency Conflicts

Problem Solution

Conflicts between ownership and

management

Projects having large, tangible assets with

high free cash flows are susceptible tomismanagement

1. Capital Structure - Reduces free cash

flow through high debt service.

2. Ownership Structure - Concentrated

ownership for critical monitoring.3. Extensive contracting - Cash-flow

waterfall. Capex., maintenance

expenditures, debt service, shareholder

distributions agreed in advance.

4. Board structure - Mainly comprise of

directors from sponsoring firms, gives

them the ability to hire and fire senior

managers and approve important operating

decisions.

5. Governance system - For project assets

rather than traditional systems designed to

manage portfolio of assets.

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Why structure matters ? (2)Agency Conflicts Contd

Problem Solution


management (Contd)

6. Separate legal incorporation -

Reduces the cost of monitoring. Instead of

monitoring cash flow from numerous assets

the capital providers monitor relatively

simple cash flow streams from single asset.


related parties (opportunistic

behavior

)Related parties include suppliers, buyers ,

governments.

1. Joint ownership structures and long

term contracts - To reduce opportunistic

behavior by suppliers of critical inputs orbuyers of primary outputs. Eg: Partnering

with sponsors who owned landing stations

was important in AJCs case to mitigate

hold-up by landing station owners.

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Problem Solution


related parties (Contd)

2. Separate legal incorporation -

Expropriation and other forms of sovereign

interference would be highly visible to the

outside world.

3. Capital Structure - High leveragediscourages expropriation. Even small acts

of creeping expropriation will cause highly

leveraged project company to default. In

corporate finance expropriation can occur

without default because multiple corporate

assets and cash flows cross-collateralize eachdebt obligation.

4. Financial Structure (multi-lateral

lenders) - Having international lenders like

IFC, World Bank who lend to project

companies and not corporations act as a

deterrent against expropriation.

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Problem Solution

Conflicts between debt holders and

equity holders

Related to distribution and re-investment of

cash flow , and restructuring during

distress

1. Capital Structure - Sponsors benefit

from high leverage as it reduces managerial

discretion over cash flow

Note: High leverage may lead to

underinvestment problem but with very few

growth options available in such projects

problem of underinvestment due to

leverage is negligible.

2. Extensive contracting - Lenders impose

stringent contractual provisions to protect

their investments. Opportunities for risk

shifting do not exist as cash flow waterfall

restricts investment decisions.

3. Financial structure - Few classes of debt

is employed as compared to corporate

finance which is easier to restructure.

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Why structure matters ? (5)Underinvestment problem

Problem Solution

Leverage-induced underinvestment

(Debt overhang problem)

Leveraged sponsoring firm has trouble in

financing attractive investment

opportunities

1. Non recourse debt - Eliminates

recourse back to the sponsoring firm and

preserves corporate debt capacity. Helps

leveraged sponsors avoid the opportunity

cost of underinvestment.

Underinvestment due to distress

costs (Risk management motivation)

Failing project can cause an otherwise

healthy firm to fail (Risk contamination).

Managers may not invest in risky positive

NPV projects financed through corporate

debt due to increased distress costs

(Underinvestment problem)

1. Separately incorporated project

company and nonrecourse debt -

Reduces risk contamination. Sponsors are

able to share project risks with other

related parties.

2. Capital structure -Sponsors are exposed

to losses only as large as their equity

commitments (which are a small fraction of

total project cost due to high leverage)

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Governance Framework

y Constitution

y Shareholder agreement

y Board Charter

yAppointment of Board

y Appointment of Chief and Senior Executives

y Remuneration for Board and Senior Executives

y Organizational Design

y Leadership and Management Structurey Policies

y Project Management

y SPV Exit

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Shareholder Agreement

y Scope and objective of the AJC

y Capital Structure

y Ownership Structure

y Management and Board of Directorsy Broad Principles for deriving Fair Market Value of Equity

Shares

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Australia Japan Cable

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Capital StructureTotal Capital required: $567 million

y Debt : 85% ($482 million)

y Equity : 15% ($ 85 million)

Securities for the lenders:

Pre sales contract : 59% of the total capitalMarket Sales : 26 % of the total capital

Reason for high leverage

y Agency Cost motivation: Discourage costly agency conflicts among participants

y Forces project managers to disgorge free cash flow

y Discourages expropriation

y Lowers reported profitability

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Debt-to-Total Capitalization Ratios:

Project Companies vs. Corporations

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Criteria Telstra Japan

Telecom

Teleglo

be

AT&T NTT MCI

World

Com

Country Australia Japan Canada United

States

Japan United

States

LandingStation

on AJC

Route

Y(2) Y(1) N Y(2) Y(3) N

Debt

rating

AA+ AA BBB+ AA- AA+ A-

Ownership Structure(1)

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Ownership Structure(2)

Strategic Partners/Sponsors

y Telstra: 40% of the total

equity(Lead sponsor)

y AT&T:30%y Japan Telecom:20%

y Teleglobe:10%

40

30

20

10

Telstra

AT&T

Japan Telecom

Teleglobe

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Board Structure(Size of 9)*y Telstra - 2 directors

y AT&T - 1 director

y Japan telecom - 1 director

y

Teleglobe - 1 directory Lending Institution - 1 director

y Independent Directors - 3

*The research conducted by Benjamin Esty shows that the median size of board of project companies of the similarproject size is 9.

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Comparative study of size ofBoard of

Directors

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Organization Design

Board ofDirectors

ChiefExecutiveOfficer

Head ofAdministration

Executive Manager

ChiefFinancialOfficer

Finance Manager

Technical Services

Executive Manager

Operations

Executive Manager

RegionalOperations

Manager

Australia

RegionalOperations

Manager

Japan

RegionalOperations

Manager

Guam

Head of Sales andMarketing

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Roles and Responsibilities (1)

Role Responsibility

Board of Directors Approving pricing decisions

Capacity expansion

Selection of senior management

Chief Executive Officer Project execution

Head of Administration Corporate governance

Human resources

Chief Financial Officer Coordinating with bankers

Financial dealing

Finance Manager Production of financial and managementreports

Liaising with external auditors

Managing accounts payable and receivable

and general ledger

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Roles and Responsibilities (2)

Role ResponsibilityTechnical Services Executive Manager Specifying, procuring and testing network

aspects

Product development of transmission

capabilities

Operations Executive Manager Risk Management

Service Assurance

Contact with Landing parties and

Equipment vendors

Regional Operations Manager Maintenance in respective area

Head of Sales and Marketing Sales and marketing strategy

Product management, development and

pricing

Brand direction, media and sponsorships

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Compensation

y Chief executive & Project managers

Flat pay-for-performance compensation schemes.

yBase salary

yPerformance bonus equal to a relatively small fraction(0-50%) of the executives base salary

y Reason

yNo high growth opportunities

yInvolved with operational decision making rather than

strategic

yPrevent agency conflicts

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Advantages of Take out finance

y Advantage To lender

y Helps banks in their asset liability management

y The financing of infrastructure is long term in nature against

their short-term resources

y Advantage to Borrower

y Get finance for long term as required for a project

y Need not go and search for re-financer

y

Advantage to taking over institutiony Economic and social development

y Faster Infrastructure creation

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What happened in reality

AJC Ltd(Bermuda)

AJC

Australia

AJC Japan AJC Guam

39.9

1515

10.1

1010

Telstra

MCI WorldCom

Teleglobe

Concert Global Networks Ltd.

Japan Telecom

NTT

Ownershi in AJC Ltd. %)

Concert Global Networks Ltd Incorporated in Bermuda, owned by AT&T and British Telecom (50%

each)

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ConclusionFrom the companys perspective

y Structuring the project finance is a time consuming andcostly affair.

y The advantages such as high leverage, risk separation andsingle purpose motivate the company to go for it.

From the lenders perspective

y The only security for the lenders is the cash flows along with

the project specific assets so they try to mitigate through thecontractual agreements and look at the credibility of thesponsors.

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Thank You

ajc_part 2

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