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Nepal Hydropower Development Project (NHDP) Approach to Risk Management and Credit Enhancement for hydropower projects in Nepal CONTRACT NUMBER: AID-367-TO-15-00003

Submitted: [February 2016]

This document was prepared for the United States Agency for International Development Nepal (USAID/Nepal) by Deloitte Consulting LLP on Contract No. AID-367-TO-15-00003. The contents are not the responsibility of USAID, and do not necessarily reflect the views of the United States Government.

Approach to Risk Management and Credit Enhancement for hydropower projects in Nepal

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Contents

EXECUTIVE SUMMARY 4

BACKGROUND 5

REVIEW OF RISK MANAGEMENT 7

Typical risks associated with hydro power development 7

CREDIT RISK MANAGEMENT OPTIONS 9

Use of Government Guarantees 9

Use of Multilateral Financing Institutions’ (MFI) Guarantee mechanism 10

CASE STUDIES 12

Regional Case Studies 12

Pakistan 14

Bhutan 14

India 15

Global Case Studies 16

KEY DISCUSSION POINTS IN CONTEXT OF NEPAL 19

ANNEXURE 20


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LIST OF ACRONYMS Acronym Definition ADB Asian Development Bank ADF African Development Fund AES AES Corporation, US AESH AES Haripur (Private) Limited AKL AES Kelanitissa Power Limited APSCL Ashuganj Power Station Company Ltd BEL Bujagali Energy Limited BPDB Bangladesh Power Development Board CEB Ceylon Electricity Board COD Commercial Operation Date CPC Ceylon Petroleum Corporation DCA Development Credit Authority (USAID) ECA Export Credit Agency EGAT Electricity Generating Authority of Thailand FDI Foreign Direct Investment GOB Government of Bangladesh GON Government of Nepal GSA Gas Supply Agreement IADB Inter-American Development Bank IBRD International Bank for Reconstruction and Development IDA International Development Association IFC International Finance Corporation IMF International Monetary Fund INR Indian National Rupee IPP Independent Power Producer KPLC Kenya Power and Light Corporation LLA Land Lease Agreement MFI Multilateral Financing Institutions’ MIGA Multilateral Investment Guarantee Agency MOE Ministry of Energy MSEB Maharashtra State Electricity Board NEA Nepal Electricity Authority NPR Nepalese Rupee OPIC Overseas Private Investment Corporation PBG Policy based Guarantee PCG Partial Credit Guarantees PDA Project Development Agreement PPA Power Purchase Agreement PPIB Private Power and Infrastructure Board PPP Public Private Partnership PRG Partial Risk Guarantees PRI Political risk insurance PTC Power Trading Corporation UETCL Uganda Electricity Transmission Company Ltd UMPP Ultra Mega Power Project


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EXECUTIVE SUMMARY 1.1 The financing requirement for hydropower sector in Nepal is huge and Government

alone cannot mobilize the required resources to fund the proposed hydropower development plan. Private investment is required to finance new infrastructure and more specifically through FDI.

1.2 Investments in any foreign country entails risks on account of political, social conditions which needs to be factored in by the private sector investors. The investors generally seek comfort in form of guarantees to mitigate certain risks. The power sector and regulatory framework in Nepal is still in nascent stage and would take some time to address the challenges faced by the investors.

1.3 As such several options can be considered to address the situation like power sector reforms including changes in the existing legislation and setting up of a regulator, institutional strengthening of Nepal Electricity Authority (to improve the financial standing and creditworthiness), , use of sovereign guarantees and use of available Multilateral Banks’ Guarantee mechanism.

1.4 The practices in the region also indicate implementation and acceptance of above methods. Various case studies has been summarised in Section 5 of this report for India, Sri Lanka, Bangladesh Bhutan and Pakistan. It also includes various global case examples.

1.5 The objectives of the Government Guarantees and Multilateral Banks Guarantee mechanism are to: (i) leverage financing in the country and support more projects; (ii) attract private sector investors and commercial banks; and (iii) enhance opportunities to share risks with other project parties. In turn, this could result in the provision of comprehensive financing solutions for numerous power projects in Nepal that are required for inclusive growth and economic development.

1.6 Given the need and emphasis on promoting foreign investment in the development of its power sector, it is imperative for Government of Nepal (GON) to try out with various options which have so far not been used in Nepal for structuring power projects.

1.7 Given the great need for alternative options for credit enhancement for major power projects, MOE approached USAID to arrange an independent review of guarantee and products to manage risk management and enhance credit for hydropower projects..


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BACKGROUND 2.1 Ministry of Energy (MOE), Government of Nepal (GON) is engaged in negotiations of

Project Development Agreements (PDA) for several hydropower based Independent Power Projects (IPPs).. About 3,000 MW of export oriented projects and 1,000 MW of domestic hydro projects are under advanced stages of development. Given the huge financing requirement for hydropower sector in Nepal and also the fact that GON may not be in a position to mobilize the required resources, the projects are likely to receive funding through Foreign Direct Investment (FDI).

2.2 Any cross country investment would entail risk on account of political, social conditions which is factored by investor in the agreement they sign. The developers would like to have Guarantees provided in the contract to mitigate these risks i.e. they want the government to bear some of the risks. One of the perceived risk in Nepal is payment risk.

2.3 For the domestic oriented capacity, the off taker will be Nepal Electricity Authority (NEA), the single buyer in Nepal. NEA’s financial condition is weak and not considered creditworthy. Payment security mechanism including sovereign guarantees are solicited by private investors.

2.4 Lenders and investors are reluctant to provide capital for private sector projects without some form of guarantee cover for risks faced such as convertibility and transfer risks, expropriation, political violence (force majeure), sovereign non-payment and non-performance of government obligations, contract delays, construction delays on the part of government entities, and termination of contracts.

2.5 Assessment of dealing with investors’ request for government guarantees is important. Indiscriminate use of the government's guarantee is not justifiable as these creates huge contingent liabilities.

2.6 Several options can be used to confront the situation. However long-term solution to this problem is to improve the financial standing and creditworthiness of the utilities by early restructuring of NEA. Use of Government Guarantees and use of Multilateral Development Banks (MDBs) Guarantee mechanism are widely used in the region and globally.

2.7 Despite the ample availability of guarantee products and credit enhancement instruments from MDBs and Development Finance Institutions (DFIs), these account for only a small fraction of the total amount of development capital deployed globally to finance infrastructure projects in emerging market countries. For instance, between 2004 and 2013, DFI’s issued total lending of approximately $706 1billion to emerging markets. Of this amount, only $30 billion or roughly 4.2% were issued in the form of project guarantees.

1 Source: Guarantees for development: A review of multilateral development bank operations, December 2014


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2.8 In Nepal there is a huge need for guarantee products and credit enhancement instruments. Major infrastructure projects presently being developed by the private sector, particularly major energy sector projects, enter into long-term off-take agreements with Nepal Electricity Authority (NEA) which is a government-owned utility. In current state of affairs, NEA is not considered credit worthy by lenders to be able to honour the terms and conditions of a long term Power Purchase Agreement (PPA).

2.9 At the same time, MDBs are incentivized to promote the use of such guarantee products and credit enhancement instruments as these enable them to: (1) leverage the institution’s risk capital to fund additional projects; (2) attract private investors; and (3) provide greater risk sharing among additional parties involved in ensuring that the project achieves financial close and implementation.


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REVIEW OF RISK MANAGEMENT

Typical risks associated with hydro power development 3.1 In this section, we analyse the various risks which are applicable in a hydro power

project. Some of the risk may directly or indirectly cause to be credit risk. It is important to prioritize risk which are relevant to Nepal as well as priority from MOE (Ministry of Energy) perspective.

3.2 Risks in a hydro projects can be grouped into three broad category 1 Risks attributed to normal business operations 2 Risk due to Utilities (Off-taker in case of Nepal) 3 Political and Regulatory risk

3.3 Each of the abovementioned risks also depends upon project phase whether it is in planning, construction phase or Operation phase or termination phase.

(a) Business Factor risks – The risks affecting hydropower projects during planning and construction phase includes those related to site (geological surprises, hydrology), design of the project, environmental and other permits. Financial closure is associated with Business factor risk and has become a concern for hydro projects in Nepal. The financial closure is one of the major milestone in hydro projects. Banks and lenders are reluctant to lend unless they are satisfied with land acquisitions, signing of major contracts etc. If factor contributing to other risk are taken care by the promoter, financial closure becomes an easier process. Once the construction phase is over the risk profile of the project reduces. During the operation phase risk relates to performance risk like managing cost of the project especially if it is bid out project and not a cost plus project, operating project in a commercially viable and profitable way. In case of a BOOT project where assets are to be returned to Govt, risk relates to transfer or renewal of the concession. Concessions explicitly requires transfer asset to the Govt. In such cases, there is a risk of disputes over the transfer price, for instance based on disagreements on how to measure asset quality or on which valuation rules to apply.

(b) Political and regulatory risks – These class of risks affects the sector or entire economy. Equally important are sector laws determining the profitability of an entire industry, and general laws that set the rules for the national economy as a whole. The economic performance of an infrastructure asset is closely linked to many regulations and is therefore affected by changes to them. For e.g. In Nepal investor perceives regulatory risk as a major concern in Electricity sector because of lack of independent regulator and regulation. Changes to fiscal and taxation are a special case of regulatory changes with a direct and immediate financial impact. Risks are also associated with currency transfers, convertibility and devaluation. International investors expect the liberty to convert local currency and repatriate profits to their home countries. Exchange-rate fluctuations is a potentially serious risk for investors as Nepalese Rupee (NPR) has depreciated at the rate of 3.35% over the past decade. Risks during the operation phase include risk of expropriation (nationalisation); breach of contract. In a PPP concession arrangement, the government might breach its contractual obligations on the grounds of safety, health or other public concerns. Whether these concerns are justified or not, the value of the asset would be adversely affected.


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(c) Risks related to utility –The credit risk is a major risk for an investor which relates to non-payment of the dues from off-takers. This is a major concern in the South Asian region due to poor financial health of Utilities. For the projects where the electricity is used for domestic consumption, the off-taker in Nepal is NEA. Due to huge losses in NEA Investor perceives credit risk for non-payment or default in of payment. We understand from our discussion with MOE that mitigating the credit risk is important for Nepal to boost investor confidence.

3.4 It is important that all the risk explained above is duly mitigated by the stakeholders in the projects. There are various ways and instruments available by which risk can be managed. Risks are best managed by person who have a control of the risk. For e.g. If the risk concerns expropriation by Government, then Government alone can manage the same. If the risk relates to insurance of assets then the investor should insure through a insurance company.

3.5 In the next section we analyse the options available to the stakeholders for managing the risk in a project. The mitigating options focus more on the credit risk as per our discussion with MOE as this is the major concern for negotiating the current PDA and PPA’s.


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CREDIT RISK MANAGEMENT OPTIONS 4.1 Guarantee is an inherent need of infrastructure projects, particularly those with high

execution, payment, and perceived political risks and Hydro project in Nepal is one of the kind. While the construction and operational risks can be largely backstopped through guarantees from relevant project stakeholders, sovereign entity performance impacting project execution (for example, delays in land acquisition in a PPP, environmental clearance, retrospective legal changes, etc.) revenue and related force majeure events need credit default backstops. Additionally, there are various options available for guarantees against breach of contract by sub-sovereign authorities like ADB and World Bank. A detailed comparison of various products of various Multilateral Banks are provided in the Annexure 2 and Annexure 3 to the report.

4.2 In this section, we analyse the various options available to GON which can help minimise the risk perception of the investor specially for mitigating the credit risks. Although there are several other options available like third party insurance, Export Credit agencies (ECA) etc. but these are more to do with promoter discretion. The primary option available for GON for credit risk management are use of Government Guarantee and Multilateral Financing Institutions’ (MFI) Guarantee mechanism like Partial Risk Guarantees (PRGs) and Partial Credit Guarantees (PCGs).

Use of Government Guarantees 4.3 Government Guarantee are a way to incentivize the investor. It may take as a form

under which a sovereign agrees to bear some of the downside risks of a project. It is a secondary obligation. It legally binds the Government to take on an obligation if a specified event occurs. It constitutes a contingent liability, for which there is uncertainty as to whether the Government may be required to make payments, and if so, how much and when it will be required to pay.

4.4 Normally a issuance of Government Guarantee will have the following benefits: • It reduces the perception of risk and thereby costs like financing cost • It build confidence and Government’s commitment in accelerating implementation • It helps leveraging additional sources of financing • It helps in getting asset built in a country without any upfront investment from

Government 4.5 However a Government Guarantee has its own consequences like

• Though it is a potential cost to the exchequer but becomes real cost if invoked • It is difficult to judge in a planning or a negotiating stage as to when and how much

guarantee is justified • IMF raises concerned on a country outlook with very large contingents like

Guarantees • The evaluation requires expertise, judging probability and pricing • Sometimes it hits a political obstacles by setting precedence


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4.6 GON has never issued any sovereign for any Hydro projects in Nepal be it for any political risk or any risk arising out of credit default of NEA. In respect of GON position in issuing guarantee to private investor it should ideally cover events on which it has full control like Government land acquisition, nationalisation, breach of contracts, regulation etc.

4.7 With respect to guarantee NEA payment obligations, GON can take steps for improving the financial viability of NEA through internal restructuring. Till then it can back-stop NEA for a limited period as interim arrangement. It is also to be understood that GON may decide to cap its obligations while negotiating with investor and lenders

Use of Multilateral Financing Institutions’ (MFI) Guarantee mechanism 4.8 The development, financing and implementation of large-scale hydro projects in Nepal

is a daunting task with numerous perceived risks. These risk alone cannot be mitigated by GON support. In this regard, Partial Risk Guarantees (PRGs) and Partial Credit Guarantees (PCGs) that are provided by MFI are powerful credit enhancement instruments that have significant potential benefits for the borrower/beneficiary.

4.9 These Guarantees are viewed as a key financial instrument to support the flow of private investments for development. The leveraging power is relevant in attracting private capital where investors and lenders are seeking to mitigate risk. Greater use of these guarantees will help Nepal support infrastructure investment during the ongoing financial crisis.

4.10 Primarily there are three product under the MFI guarantee – (a) Partial Risk Guarantees (PRGs) – This is the most common type of guarantee

instrument utilized for the development of private sector infrastructure projects. PRGs selectively cover private lenders against commercial debt service default risks caused by a public entity failing to honor or perform its contractual obligations to private sector projects under the terms and conditions of a Concession Agreement or PPA.

(b) Partial Credit Guarantees (PCGs) – This guarantee instrument only covers a portion of debt service defaults by insuring against non-payment by a borrower for any reason – political, commercial or otherwise – during a specific period of the financing term of debt. As such, the private borrower hopes that such an instrument will help to extend the maturity and improve the market terms of long-term debt for the project. These guarantees are ‘partial’, meaning that they do not cover the entire amount borrowed, but rather only the amount necessary to ensure that the transaction proceeds.

(c) Policy Based Guarantee (PBG) –Policy Based Guarantee supports the borrowing of the host government for fiscal support under a Policy Based Loan Framework to support sovereign mobilization of commercial financing to be used for policy or sectorial reforms. This particular guarantee instrument is less frequently used compared to more common PRG and PCG instruments.

4.11 The benefits arising out from these options are: • Reducing the risk profile of projects and thereby improving their pricing • Increasing the tenors of private sector debt facilities • Increasing access to a broader array of financiers and investors owing to good

credit rating


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• Lowering commercial bank’s solvency requirements under Basel III as a result of a backstop based on a guarantee from an MFI institution

• Providing a “financing anchor” to give sponsors/developers/banks early confidence that fundamental risks, involving government actions, can be mitigated

4.12 Despite the fact that the need for MFI guarantee products and credit enhancement instruments is great and the utilization of such instruments is essential to reach financial close in emerging market countries, guarantees face a number of perceived challenges like: • Cost of a instrument may outweigh the benefits to the project sponsor since the

guarantee fee is identical to the risk margin of an loan. In addition, the commercial bank charges an interest rate increment, and the sponsor incurs additional third party due diligence costs and processing fees from the Letter of Credit (LC) bank, all of which increase the overall cost of such a guarantee as well as extend the timeline for approval

• Processing times are sometimes overly long with an uncertain outcome that can negatively impact project implementation schedules

• PRGs may offer address certain political risk scenarios and also typically require counter guarantees, which are oftentimes difficult to obtain from the host government

• Transactions are more complex than direct loans. A sample transaction structure is provided in the annexure 1 to the report.

4.13 Investor perceives a high risk while investing in Nepal. High risk would entail a high

return expectation. Both the Government guarantee and MFI guarantee instruments can help reduce the project risk and hence the cost of the project. This will help more foreign investment in to the country.


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CASE STUDIES 5.1 This section analyses in brief the practices followed in various countries especially in

the South Asia region.

Regional Case Studies 5.2 The regional case study includes examples from Pakistan, Bangladesh, Sri Lanka,

Bhutan and India. Bangladesh

5.3 Bangladesh normally provides for Government guarantee under the PPA for any payment default on behalf of BPDB (Bangladesh Power Development Board). For e.g. very recently under the cross border agreement signed between BPDB and PTC (Power Trading Corporation) for power trade of 250 MW where GoB (Government of Bangladesh) guaranteed and promised to pay PTC (seller) in case BPDB fails its payment obligation. The GoB Guarantee is a continuing security and extend to cover the balance due to the Company at any time from BPDB

5.4 The Government guarantee on behalf of BPDB was also provided in the Implementation Agreement for all the Coal project which was bid out by GOB

5.5 Bangladesh also tried out combination of Government guarantee and PRG in the Haripur Power Project and combination of Government guarantee in 1998 and MIGA in Ashuganj Power Station Company Ltd. (APSCL) in 2013. Haripur Power Project (360 MW gas-fired combined cycle power plant)

5.6 Under the Government’s Private Sector Power Generation Policy initiated in 1996, AES was selected to implement the Haripur IPP. International Development Association (IDA) provided Partial Risk Guarantee (PRG) for the US$180 million Haripur Power Project. BPDB purchase the entire output of the build-own operate (BOO) plant under a 22-year Power Purchase Agreement (PPA). Gas supplied to the Project under a Gas Supply Agreement (GSA) for the term of the PPA by the Titas Gas Transmission and Distribution Company (Titas), a state-owned enterprise and a subsidiary of Petrobangla (the national oil and gas company) through a 1.3 km natural gas pipeline.

5.7 The Project-related risks such as construction, operation, and certain natural force majeure risks was borne by the sponsor and the lenders. Sovereign or political risks are assumed by the Government of Bangladesh (GOB) and its agencies and are backstopped by the IDA Guarantee. Under this Implementation Agreement, the Government guarantees the payment obligations of BPDB under the PPA, the obligations of Titas under the Gas Supply Agreement, and of the Ministry of Industries under the Land Lease Agreement. It assures AESH of all fiscal incentives and other benefits, provided in the Private Sector Power Generation Policy of Bangladesh, and the free convertibility and transferability of foreign exchange, through Bangladesh Bank, required to meet the company’s foreign currency remittances.


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5.8 The IDA PRG will provide coverage to commercial lenders for loan default by AESH on scheduled debt service payments, resulting from the Government’s failure to meet its payment obligations under the IA and the Government Guarantee in support of the PPA, GSA, and LLA. Obligations covered include both periodic payments and termination amounts.

5.9 The IDA PRG and Government Guarantee was crucial in mobilizing private sector financing from the international debt market for Haripur. This was the first time that such long term international financing was made available for Bangladesh. The successful financial closure of Haripur through the structure serve as an important milestone in establishing a track record for facilitating financial capital flows to the country. Ashuganj Power Station Company Ltd. (APSCL), Bangladesh

5.10 On December 28, 2012, MIGA issued a guarantee of $221.4 million to Hong Kong Shanghai Banking Corporation (HSBC) of the United Kingdom to cover its non-shareholder loan to Ashuganj Power Station Company Ltd. (APSCL) in Bangladesh. HSBC coordinated and arranged a $406 million financing package to APSCL for the project. On March 8, 2013, MIGA issued additional coverage of $30 million covering a swap arrangement to hedge against long-term interest rate risk. MIGA’s guarantees are for a period of up to 13.5 years against the risk of non-honoring of sovereign financial obligations. The Ministry of Finance of Bangladesh has provided an unconditional sovereign guarantee covering payment obligations of APSCL under the debt financing and the swap. Sri Lanka

5.11 Government of Sri Lanka (GoSL) provided for Government Guarantee during its power sector restructuring days in early 2000. GoSL in the Kelanitissa Power Project tried out with combination of Government Guarantee and PRG.

AES Kelanitissa Power Project (AKL) 5.12 The project was a 163-megawatt (MW) auto diesel-fired combined cycle gas turbine

power plant. AKL is a joint venture between AES Corporation and Hayleys Limited, a diversified Sri Lankan conglomerate established under a build-own-operate-transfer arrangement with the Government of Sri Lanka. Under that arrangement, the plant would be transferred to the government at the end of a 20-year concession period.

5.13 AKL agreed to build, own, operate, and transfer the power plant in accordance with an implementation agreement with the government and a power purchase agreement (PPA) with CEB. CEB was to purchase the capacity and energy output of the plant under the 20-year PPA. Ceylon Petroleum Corporation (CPC) was to guarantee the availability of fuel for the project under a fuel supply agreement. The government agreed to guarantee the payment obligations of CEB under the PPA and the supply obligations of CPC under the fuel supply agreement in accordance with the implementation agreement.

5.14 ADB approved a direct loan of $26.0 million with a tenor of 12 years including a grace period of 3 years from ADB’s ordinary capital resources and a $52.0 million partial risk guarantee (PRG). The Government of Sri Lanka agreed to indemnify and reimburse ADB for $31.0 million. Australia and New Zealand Banking Group cofinanced the project with a loan of $52.0 million.


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Pakistan 5.15 Government of Pakistan (GoP) also provides for sovereign guarantees and the Private

Power and Infrastructure Board (PPIB) facilitates on the issuance. PPIB was created in 1994 as "One Window Facilitator" to promote private sector participation in the power sector of Pakistan. PPIB facilitates investors in establishing private power projects and related infrastructure, executes Implementation Agreement (IA) with Project Sponsors and issues sovereign guarantees on behalf of Government of Pakistan. The model IA and PPA floated by PPIB also provides for sovereign guarantees.

5.16 MIGA is quite widely used in Pakistan GoP. The table referred below provides the details2:

Project Guarantee holder Instruments Investor country

147 MW RoR Star Hydro Project

Korea Water Resources Corporation (K-water) acting on behalf of itself and other sponsors

MIGA ($ 148.5 million)

Korea

102 MW RoR Gulpur Hydro Power

DAELIM Industrial Co. Ltd.; Korea South-East Power Co. Ltd; Lotte Engineering and Construction Co. Ltd.

MIGA ($82.7 million)

Korea

115 MW Saba Power Company Limited

Cogen Technologies Saba Power, LP MIGA ($22.0 million)

United States

151 MW gas Fauji Kabirwala Power Co. Ltd

El Paso Energy International Company MIGA ($16.1 million)

United States

126 MW Tapal Energy Limited

Wartsila Power Development, Inc MIGA ($ 2 million)

United States

Bhutan 5.17 Bhutan Power sector is supported by Government of India through grant, equity and

debt. 90% of the power produced is exported to India mainly through PTC. The PPA’s are signed on a commercial basis and there has been no issuance of Sovereign Guarantees, mainly because of good financial standing of PTC. The Payment Mechanism includes Payment security in the form of irrevocable Letter of Credit (1 year validity), to be renewed every year. The responsibility of procurer is to manage the replenishment and bear cost of LC.

2 Source: World Bank Website


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India 5.18 In India the Government guarantee is not used widely for supporting the PPA

obligations. Back in 1995, in case of Dabhol project in Maharashtra, under the PPA, MSEB was obligated to pay Dabhol minimum of $220 million a year for 20 years whether it needs the power produced or not. The contract was counter-guaranteed by both the state and Central governments. The agreement guaranteed the company a steady income for the life of the PPA, regardless of demand.

5.19 However after the introduction of Mega Power policy, 1995, which pushed for IPP’s in generation sector, PTC would purchase power from the identified private projects and sell it to State Electricity Board. As power would be sold to the States, the concurrence of the concerned State Governments would be taken. Security to the PTC would be provided by means of a Letter of Credit and recourse to the State's share of Central Plan Allocations.

5.20 Very recently with the Ultra Mega Power Projects (UMPP), Model PPA developed to include Escrow mechanism and following payment security mechanism have been executed:

(a) PPA Finalized with Successful Bidder/Generator (b) Selection & Appointment of Default Escrow Agent & the Subsidiary Escrow (Procurer

Banks) Agents (c) Signing of the Default Escrow Agreement between Procurer, Seller, Default Escrow

Agent & Procurer Banks (d) 45 days prior to Scheduled/Revised COD, first charge to be created on Incremental

receivables by Procurer (e) 30 days prior to COD, Establishment of Letter of Credit as per PPA & Default Escrow

agreement


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Global Case Studies 5.21 Under the global case study we try to analyse how globally Government guarantee

along with MFI guarantee has been used. Uganda Bujagali project

5.22 In the context of the Uganda Bujagali 250MW Hydropower plant project, both the Government Guarantee and IDA PRG was utilised. PRG guaranteed US$115 million debt of commercial lenders against debt service payment defaults resulting from the Government’s failure to meet its payment obligations as stipulated under the project’s Implementation Agreement and the Government Guarantee.

5.23 The Government Guaranteed for the Uganda Electricity Transmission Company under the PPA and PRG covered lenders arising from the following categories of events:

• Political force majeure events;

• Changes in law and events making the project contractual agreements unenforceable or void

• Government imposed restrictions on the ability of BEL to be paid or to receive foreign currency or transfer funds abroad; and

• Failure by the Government to fulfill its payment obligations relating to Uganda’s utility’s (UETCL) purchase of power and termination payments due by UETCL.

5.24 The structure was instrumental in catalyzing long term commercial debt in Uganda, and reduced risk for commercial debt without increasing government liability. The following Figure3 illustrates the full financial and contractual structure of the Bujagali project, including the PRG structure for commercial debt coverage:

Figure 1: Structure of the Bujagali Hydropower Project

3 Source: World Bank Information Booklet for the Government of Nepal, 2013


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Kenya Private power project

5.25 In Kenya, PRG was considered for the GoN hydropower PPP/IPP LC was used to backstop a liquidity facility issued by a commercial bank to the project company. Government was not required to directly issue a Guarantee under the PPA.

5.26 World Bank supported the development of a series of thermal power generation IPPs. The series of four IPPs with a total project costs of US$ 623 million, benefited from a World Bank PRG support of up to US$166 million, backstopping a Letter of Credit facility. The LC could be triggered for certain payment defaults by the majority GoK owned Kenya Power & Lighting Company (KPLC) to the project companies under the Power Purchase Agreements and coverage was provided for: • 3 months of capacity and energy payments; and • 2 months of fuel payments

5.27 In addition the LC coverage was provided on a rolling basis. The following Figure 24

illustrates the financial and contractual structure for this PRG backstop facility used in Kenya:

Figure 2: Structure of a Program of PRGs to Support Private Power in Kenya

4 Source: World Bank Information Booklet for the Government of Nepal, 2013


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San Roque Multipurpose Philippines 345 MW, 2003 5.28 US$1.19 billion San Roque multipurpose project in Philippines failed to be financed in

the public sector, and was then successfully implemented as PPP. This is one of few examples of a “Split Ownership,” where the project is geographically divided into public and private parts although both were implemented under a single contract by the private partner. The dam ($610 million) was financed in the public sector using a bilateral soft loan (65 percent) and domestic funds. The utility payment obligations were backed by Sovereign Guarantees Nam Theun 2, Laos, 1075 MW, 2009

5.29 The Nam Theun 2 is one of the largest private financings of any hydro project. The total cost of $1.45 billion was financed through a complex mix of commercial loans backed by guarantees, private equity, and aid. The Lao Government holds 25 percent of the equity, for which the necessary funding was supplied through international donors. About $500 million of debt was raised from on the basis of guarantees from the World Bank and other Thai Banks. Because of creditworthiness of the EGAT as PPA off-taker there was no Guarantee from Thai Government. As evident from the case studies represented above, there is no standard way of structuring projects and guarantees. It depends on how the host government decides while negotiating with investor and lenders based on country priority. Nepal represents early lifecycle of power sector reforms. Nepal has to rely on private investment in development of generation projects. However due of limited public funding, lack of regulatory establishment, high risk perception from investor, GON should use alternative ways of attracting foreign and private investment.


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KEY DISCUSSION POINTS IN CONTEXT OF NEPAL 6.1 GON have embarked upon a major program to develop the country’s hydro potential.

However, much of the investment and financing is sought and expected from foreign and private sources – whether it be GON borrowing from multilaterals and/or bilateral financiers, or private investors and non-sovereign financiers.

6.2 Nepal is still in nascent stage of electricity sector reforms. It is also facing several risk like political risk, policy risk, lack of electricity regulatory framework, lack of appropriate regulatory body, Environmental, Social and Land issues, financing risk, NEA’s creditworthiness and risk coverage etc.

6.3 In such a scenario Investors would like the government to bear significant risks. This is also an economically beneficial principle. Without inadequate investments in power generation, long hours of power cuts are prevalent in the country. Consumers in Nepal are thus dependent on liquid fired small generators for both commercial and residential use. Nepal currently imports 7.6 million barrels of crude oil.

6.4 While considering specific utility risk GON can address through a combination of Sovereign Guarantee and also through including Escrow, LC clauses in PPA; Strengthening regulator/arbitration mechanism and taking action on NEA restructuring

6.5 Considering the current scenario in Nepal and the various structuring options used by other countries, the following two options or combination of both can be utilised by GON in in the future hydro power projects:

(a) Nepal Government guarantees – This will boost investments and reduce financing cost. Although it can set precedence and political obstacle but a suitable structuring can be done to overcome the current crisis

(b) Multilateral Guarantee mechanism- These guarantee mechanism can be used as it provides long term solution to a sector. Although it can be costly at times but helps in leveraging more finance and resource in the country.

6.6 GON need to evaluate which risk it can address all risk and provide guarantee for. By using a combination of Government Guarantee and Multilateral bank products much needed investment will be attracted in Nepal. Assessment of right mitigating options is important to boost Investment without Government taking too much burden. Unless de risking is not done in the current scenario there can be larger opportunity loss later.


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ANNEXURE Annexure 1: Typical PRGs transaction structure

Source: Guarantee Products, Africa Development Bank Presentation, April 2015


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Annexure 2: Comparison of Bank Group Guarantee Programs to Similar Programs at Other MDBs and DFIs

Program Elements

AfDB & ADF

World Bank (IDA & IBRD) IFC MIGA IADB OPIC USAID

DCA

Products Offered PRG, PCG PRG, PCG PCG PRI PRG, PCG for non-sovereign deals PRI PCG

Eligible Transactions Debt only Debt only Debt only Debt and

equity Debt only Debt and equity Debt only

Percent Covered <100% 100% <100% 99% debt 90% equity 100%

90% for PRI 100% for loans and leases from IFIs to

unrelated third parties

50%

Maximum Ceiling Can vary

depending on the project $500m $100m $220m

exposure Lesser of:

PCG- 25% or $200m

PRG – 50% or $150m

$250m $100m exposure

Pricing and Fees 60 bps (AfDB) 75 bps (ADF) 75 bps Market based

Market based Market based

28-60 bps Lower rates may be available for

small businesses

Market based

Guarantee Tenor

25 years AfDB) 40 years (ADF) 20 years 10 years 10-20 years 25 years 20 years 20 years


22

Annexure 3: Comparison of the Types of Risks Covered by Bank Group PRGs to Those from Other MDBs and DFIs

nepal hydropower development project (nhdp)pdf.usaid.gov/pdf_docs/pa00svc9.pdfapproach to risk...

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