financing of downstream projects in oil & gas sector
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TRANSCRIPT
National Conference on Project Finance Management for Energy Sector Project Finance Management for Energy Sector by UPES Dehradun
& ISPe India in 2010
Presented by Mr Girish Ghildiyal Chief Manager Finance, HPCL-Mittal Energy Ltd
FINANCING OF DOWNSTREAM PROJECTS IN OIL& GAS SECTOR
FINANCING OF DOWNSTREAM PROJECTS IN OIL& GAS SECTOR
Petroleum – Value Chain
Upstream Midstream Downstream
• Exploration & Production (E&P)
• Firms explore new hydrocarbon fields
• Discovered fields developed and petroleum produced
• Transportation of oil and natural gas
• Shipping • Pipelines• LNG Terminals
• Refinery processes crude oil to produce different products
• Petrochemical plants
• Polymers, Plastics and other products
KEY PARAMETERS FOR PROJECT EVALUATION
KEY CONSIDERATIONS- REFINING
− Location− Inland - for domestic consumption
− Proximity to demand centre− Inland Freight economics, refinery gate pricing formula ( TPP
etc.)
− Coastal –export oriented refineries/petrochemical complex − Proximity to demand centre & crude source
− Logistic − Inland refineries- crude & product pipelines, rail transport− Coastal refineries – Ports ( Capable of handling VLCC), SPM,
pipelines
− Feedstock and Product prices depend on global demand supply situation
KEY CONSIDERATIONS- REFINING
− Product Offtake − Inland refineries- Own marketing ( for OMCs/ refiners with
marketing capability) ; Tie-up / offtake agreement with marketing companies (for standalone refineries) is crucial
− Coastal refineries - Higher marketability( access to global market), hence lower offtake risk
− Complexity− Measured by Nelson Index− Allows production of value added petrochemical products− Processing of cheaper heavy crudes , light/ heavy crude
differential
− Long construction time - change in market dynamics, project costs
− Cost and Complexity of refinery is key in determining future profitability
KEY CONSIDERATIONS-PETROCHEMICALS
− Location− Proximity to demand centre − Naphtha, the major feedstock is a traded commodity and
obtained from refineries directly / imported− Proximity to other feedstock's like Gas ( c2-c3 )
− Logistic – proximity to port, roads, train ( Petrochemical products are solid/ liquid ); higher freight costs
− Product Offtake – − Lag between movement in feedstock prices and product
prices− tie-up with further downstream petrochemical units/
exporters/traders; − Market defined sale price ( vis-à-vis pricing formula for refinery
products)
KEY CONSIDERATIONS FOR FUNDING
FINANCIAL EVALUATION
Downstream projects
− Part of company (balance sheet funding)− Better pricing
− High management control
− SPV− Risk mitigation
− Other partners can provide additional expertise
Debt: Equity – − D:E of 60:40 preferred; Equity through promoter contribution/IPO/convertibles
etc.
− FDI upto 100 % in refining, 49% if along with PSU
Debt Service Coverage Ratio (DSCR) of around 1.5
GRM is analyzed as key parameter for profitability
Cost per refining capacity , complexity
Other incentives like VAT deferral, etc.
Capability of marketing partner to offtake products
Chart of Regional Refining Margins
Regional refining marginsUS dollars per barrel
BP Statistical Review of World Energy - 2009
LENDER CONSIDERATIONS
Sponsors experience and capability to bear market risk and cost overruns
Demonstrating marketing arrangement
Demonstrating market demand cost competitiveness of the products
Statutory and Regulatory approvals esp. w.r.t. land and environmental clearances
Credit strength and experience of project sponsors
Sponsor support undertakings
Creation and enforceability of security
Governance structures, information reporting and transparency
Project technology and experience/capability of executing contractors
Project operator’s technical expertise and credit strength
Product marketing arrangements and credit strength of offtaker
Price risk and hedging arrangements
Reliable transportation arrangement for feedstock and products
Financing is available for well structured projects oil & gas sector
Quality and credit strength of project participants is important
FUNDING OPTIONS
RUPEE FUNDING
Domestic currency
Easy availability in adequate volumes− Available even at initial stages of construction/planning
Flexibility in disbursements, covenants
Long tenor Financing available for well structured projects
Quality and credit strength of project participants is important
Pricing linked to PLR of lead bank, sub-PLR loans possible
Do not require compliance to equator principles
Allow flexibility in cancellation of loan without penalty− Refinancing through ECB/ ECA of undrawn portion
− Refinancing through internal accruals
EXTERNAL BORROWING (ECB)
Governed by regulations of FEMA, RBI
− Upto USD 500 mn p.a. can be raised under automatic route for meeting capital expenditure ; permission for additional amounts
− Ceiling on all in cost is LIBOR + 500 bps
Revenues in USD, most capital imports in USD; hence natural hedge for currency
Lower all-in pricing ( due to saving of hedging cost) for refineries
Interest rates linked to LIBOR
− Lower interest rates compared to rupee loans
− Option to convert to fixed rate through derivatives
Tenors of upto 12 years also available
Not as flexible as domestic lenders regarding covenants, prepayment
In case of SPV funding , ECB available only when project is nearing completion
Factors deciding pricing
− Sovereign rating
− Withholding tax
ECA Finance – Essentials
Most OECD countries have a government sponsored Export Credit Agency (“ECA”) to support their export of capital goods
ECAs provide insurance cover/guarantees to lending banks to mitigate both political and commercial risk entailed in export transactions
Commercial banks structure cost-effective financing packages against ECA cover
OECD Consensus guidelines dictate inter alia that ECAs may provide cover:
− For up to 85% of the value of the eligible goods / services being exported from the country concerned; and
− Local costs may be financed up to a value of 15% of the export content
ECAs charge a premium for providing cover
Fixed rate financing is available (Commercial Interest Reference Rate)
Some ECAs provide direct lending
EXPORT CREDIT AGENCY ( ECA)
Government sponsored Export Credit Agency (ECA)- support the export of capital goods and services
Funding amount is function of the actual sourcing from the country of the ECA, hence country specific
ECA financing is largely insulated from market volatility compared to ECB
Interest rate options – Both fixed and floating rate options available with most ECAs
Withholding Tax exemption in most cases
Credit enhancement
− ECAs extend guarantees representing a sovereign risk against which commercial banks structure financing packages. Guarantees are provided in return for the payment of a premium charge
− commercial banks can bundle funding from multiple ECA’s , where sourcing of equipment is from multiple countries
ECA’s funding visi-a-vis ECB
− Lower interest rates
− amount not a constraint
− longer tenors
− Tedious process for availing loan ( ~ 6-12 months)
− High upfront payment, hence pre-payment not a good option
EXPORT CREDIT AGENCY ( ECA)
Japan
United States
France
United Kingdom Italy
Canada
Germany Denmark
KEXIM/KEIC
ChinaPremium
Commercial
Contract
Borrower
Exporter ECAs
Lender
Drawings for Contract Payment
Principal Repayment & Interest
Guarantee / Support Agreement
Goods & Services
Loan Agreement
Application Documentation
DEBT FUNDING OPTIONS- COMPARISON
Instrument/Feature RTL* ECB ECA
Availability Normal High Credit Rating Cos.
Country Specific
Tenor (years) 10-14 5-7 8-12
Interest Rate Basis PLR LIBOR LIBOR
Hedging Cost - High High
Commitment Fee Nominal High High
Flexibility in Drawdown High Low Low
Typical Tie-up time 3-6 months 3-6 months 6 -12 months
OTHER SOURCES
Notes/ Bonds − Domestic & Foreign currency
− Various options like Zero coupon, deferred coupon, convertibles etc
− Usually available at advanced stages of construction for SPV
Project company IPO ( eg. Reliance Petroleum)
OIDB (Oil Industry Development Board) funding− Interest rates linked to G-Secs
− Tenors of upto 10 years at low interest rates
− Disbursement mechanism governed by
− OIDB loans to non-Navratna Oil Companies and Joint Ventures Companies, interest rates on case to case basis
RISK MITIGATION
Type of Risk Risk Allocated to Mitigation Metric
Management Risk
- Operating Risk
- Withdrawal
Sponsor
Sponsor
Experience/O&M contractor
ND Undertakings
Pre-completion Risks
- Land Availability
- Time Overrun
- Cost Overrun
- Funding
Project Co/Govt.
EPC Contractor
EPC Contractor
Sponsor
Notification/Sale Deeds/Lease
Fixed time, Fixed Price contracts
Equity & Debt Agreements
Post-completion Risks
- Feedstock Supply
- Feedstock Tpt.
- Environmental
- Plant Availability
- Evacuation
Feed Supplier/Project Co.
Supplier/Transporter
Project Co.
O&M contractor
Project Co./Off-taker
LD Provisions/Alternate sources
LD Provisions
Requisite Approvals
Penalties
LD Provisions
RISK MITIGATION
Type of Risk Party Mitigation Metric
Market Risks
-Off-take
- Payment.
Project Co./Off-taker
Off-taker/Guarantor
Suitable agreements
Credit Enhancement
Technology
- Availability
- Facility Design & Performance
- Damage
EPC Contractor
EPC Contractor
Project Co.
Continuing Support
Guarantee, Warranty
Insurance
Financial
- Interest Rate
- Inflation
- Fx Fluctuation
Project Co.
Project Co.
Project Co.
Continuing Support
Guarantee, Warranty
Insurance
Force Majeure Project Co. Insurances
Back to back clauses of Agreements
Project Financing
What is PEF?
Project Finance is financing to an existing company or a newly formed entity wherein lenders are satisfied with:
− the cash flow projections as the primary source of repayment, and
− the specific project assets (fixed assets, contracts) providing collateral for the loan
A successful project financing is viewed:
− by the client, as a financing structured with limited recourse to the sponsors and,
− By the lenders, as having sufficient credit support through the financing structure and/or sponsors’ undertakings.
Project finance transactions could include major expansions of existing facilities or refinancing of existing term loans.
Supply risk Market risk
Availability, sourcing and transportation strategy/
flexibility Waterflow risk
Demand/ supply situation Guaranteed offtake Price, demand, taxes
Independent review
Market demand Project cost
Environmental issues
Construction risk Technical risk
Infrastructure & Utilities
EPC/ Project Management approach Contractor (top tier) LD (delays/ cost)
Guaranteed operational parameters
Technology vendor, use of proven technology Proven design
Train/ unit configuration Adaptibility to local
conditions
Access Roads Logistics (port,
evacuation) Water (Environmental
impact) Land (Social impact)
Project Risks
Pre-completion Post-completion
Equity commitment/ adequacy of internal
accruals Shortfall in raising up
Debt Cost overrun support Debt-service due to
delay in startup
Stabilisation of project parameters
Plant Management
Financing & Syndication
Robust Capital structure Liquidity and credit
appetite Shareholding and
management control
Sponsor support
Project Financing
Typical Covenants
Financial Covenants
• Debt Service Cover Ratio (DSCR)
• Loan Life Cover Ratio (LLCR)
• Maximum Debt/ Equity
• Debt to EBITDA
• Asset Cover Ratio
• Completion tests (for release of completion guarantees)
Other Covenants
• Draw-Stop provisions
• Restrictions on sale of sponsor equity without prior approval of lenders
• No modification of key contracts
• Non-disposal of assets
• Restrictions on nature of investments
• Restrictions on additional debt
• All environmental approvals to be kept current
• Material Adverse Change
• Reporting requirements
Typical Sponsor Obligations
Part funding of sponsor equity, prior to debt being drawn down; subsequently, pro-rate drawdown of debt and equity
Cost overruns to be financed through either
− Sponsor guarantees, or
− Standby Letter of Credit
− Standby sponsor equity + standby senior debt
EPC wraps, in the event that this is not adequately covered through the EPC contract (levels of Liquidated Damages)
Subordination of any sponsor debt, until senior project debt has been repaid
Dividend restrictions
− Dividends to be paid on a pre-agreed basis, subject to, inter alia
− Fully funded DSRA
− No covenant default
− No default on debt service
THANK YOU