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MACQUARIE CAPITAL WESTCONNEX BUSINESS CASE – FINANCING STRATEGY FINAL DRAFT

July 2013 STRICTLY CONFIDENTIAL

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This document has been prepared by Macquarie Capital Advisers Limited ABN 79 123 199 548 (‘Macquarie’) for the sole purpose of discussions regarding WestConnex (‘Purpose’). It is provided on a confidential basis, and may not be reproduced in whole or in part, nor may any of its contents be disclosed to any other person, without Macquarie’s prior written consent.

This presentation is provided by Macquarie for general information purposes only, without taking into account any potential investors’ personal objectives, financial situation or needs. It should not be relied upon by the recipient in considering the merits of any particular transaction. It is not an offer to buy or sell, or a solicitation to invest in or refrain from investing in, any securities or other investment product. Nothing in this presentation constitutes investment, legal, tax, accounting or other advice. The recipient should consider its own financial situation, objectives and needs, and conduct its own independent investigation and assessment of the contents of this presentation, including obtaining investment, legal, tax, accounting and such other advice as it considers necessary or appropriate.

This presentation has been prepared on the basis of publicly available information and information made available to Macquarie. Macquarie has relied upon and assumed, without independent verification, the accuracy and completeness of all such information. It contains selected information and does not purport to be all-inclusive or to contain all of the information that may be relevant to the Purpose. The recipient acknowledges that circumstances may change and that this presentation may become outdated as a result. Macquarie is under no obligation to update or correct this presentation.

Macquarie, its related bodies corporate and other affiliates, and their respective directors, employees, consultants and agents (‘Macquarie Group’) make no representation or warranty as to the accuracy, completeness, timeliness or reliability of the contents of this presentation. To the maximum extent permitted by law, no member of the Macquarie Group accepts any liability (including, without limitation, any liability arising from fault or negligence on the part of any of them) for any loss whatsoever arising from the use of this presentation or its contents or otherwise arising in connection with it. This presentation may contain forward-looking statements, forecasts, estimates and projections (‘Forward Statements’). No independent third party has reviewed the reasonableness of any such statements or assumptions. No member of the Macquarie Group represents or warrants that such Forward Statements will be achieved or will prove to be correct. Actual future results and operations could vary materially from the Forward Statements. Similarly, no representation or warranty is made that the assumptions on which the Forward Statements are based may be reasonable. No audit, review or verification has been undertaken by the Macquarie Group or an independent third party of the assumptions, data, results, calculations and forecasts presented or referred to in the financial model contained in this presentation.

The recipient acknowledges that neither it nor Macquarie intends that Macquarie act or be responsible as a fiduciary to the recipient, its management, stockholders, creditors or any other person. Each of the recipient and Macquarie, by accepting and providing this presentation respectively, expressly disclaims any fiduciary relationship and agrees that the recipient is responsible for making its own independent judgments with respect to any transaction and any other matters regarding this presentation.

The Macquarie Group may have interests in the securities and other investment products referred to in the presentation, including being directors of, or may have or may in the future act in various roles including as underwriter, dealer, broker, lender or financial advisor to their issuers and may receive fees, brokerage or commission for acting in those capacities. A list of these roles is available on the Macquarie Group’s website at http://www.macquarie.com.au/macsec/equitiesresearch/InstitutionalHomeServlet?nav=disclosure_disc. Further, the Macquarie Group may act as a market maker or buy or sell those securities and other investment products as principal or agent and as such may affect transactions which are not consistent with this information.

None of the entities noted in this presentation are an authorised deposit-taking institutions for the purposes of the Banking Act 1959 (Commonwealth of Australia). The obligations of these entities do not represent deposits or other liabilities of Macquarie Bank Limited ABN 46 008 583 542. Macquarie Bank Limited does not guarantee or otherwise provide assurance in respect of the obligations of these entities.

© Macquarie Group 2013

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CONTENTS

EXECUTIVE SUMMARY .................................................................................................... 1

1. WESTCONNEX PROJECT OVERVIEW .................................................................. 3

2. MACQUARIE CAPITAL’S ROLE .............................................................................. 5

3. WESTCONNEX OBJECTIVES ................................................................................. 7 3.1 STATE WESTCONNEX OBJECTIVES .......................................................... 7

3.2 STATE WESTCONNEX FINANCING OBJECTIVES ..................................... 7

4. IDENTIFIED FINANCING SOURCES ...................................................................... 9

5. BUSINESS CASE FINANCING STRATEGY APPROACH .................................... 11 5.1 IDENTIFIED FINANCING STRATEGIES ..................................................... 11

5.2 INDICATIVE RISK ALLOCATION ................................................................ 12

5.3 CHALLENGES WITH PRECEDENT FINANCING STRATEGIES ............... 12

5.4 QUALITATIVE EVALUATION ....................................................................... 13

6. PRIVATE SECTOR NON-RECOURSE PROJECT FINANCING STRATEGY ....... 15

7. STAGE 1 WESTCONNEX FINANCEABILITY ........................................................ 17 7.1 STAGE 1 OVERVIEW .................................................................................. 17

7.2 PRIVATE SECTOR PROJECT FINANCING CAPACITY ............................ 17

7.3 REQUIRED FINANCING SOURCES ........................................................... 18

7.4 STAGE 1 – DOWNSIDE SENSITIVITY ANALYSIS ..................................... 20

7.5 IMPACT ON STATE CREDIT RATING ........................................................ 21

8. WESTCONNEX FINANCEABILITY ........................................................................ 23 8.1 WESTCONNEX FULL DEVELOPMENT ...................................................... 23

8.2 FINANCING APPROACH ............................................................................. 23

8.3 PRIVATE SECTOR PROJECT FINANCING CAPACITY ............................ 24

8.4 REQUIRED FINANCING SOURCES ........................................................... 25

8.5 DOWNSIDE SENSITIVITY ANALYSIS ........................................................ 30

8.6 IMPACT ON STATE CREDIT METRICS ..................................................... 30

9. RECOMMENDATION ............................................................................................. 32 9.1 REFERENCE FINANCING STRATEGY ...................................................... 32

9.2 KEY RISKS AND MITIGANTS ...................................................................... 32

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EXECUTIVE SUMMARY

The WestConnex Motorway Project (‘WestConnex’ or the ‘Project’) has been identified by Infrastructure NSW (‘INSW’) as Sydney’s next motorway priority, to be developed to address the immediate transport needs of Sydney.

WestConnex forms part of the future Sydney motorway network identified in the State Infrastructure Strategy (‘SIS’) and the NSW Long Term Transport Master Plan (December 2012).

WestConnex comprises three distinct development stages, consisting of:

Stage 1: M4 – Parramatta to City West Link

Stage 2: M5 – East Airport Link

Stage 3: M4 – City West Link to St Peter’s.

Construction of WestConnex is forecast to cost ~$11.3 billion (real costs as at June 2012) over a ten year construction period (2014–2023).

Key objectives of the WestConnex financing strategy for the NSW Government (‘State’) are:

Maximising value delivered to the State

No material impact on the State’s credit rating

Sufficient confidence in market capacity and minimising financing costs to the State

Acceptable risk allocation

Minimising contingent liabilities on the State’s balance sheet.

Macquarie has identified a range of potential financing strategies for consideration, including private sector non-recourse project financing, Public Private Partnerships (‘PPPs’) (both availability and patronage PPPs), and State financing.

The results of the evaluation completed in the Business Case indicate that a private sector non-recourse project financing strategy is best suited to optimise the delivery of all of the State’s financing objectives.

Each of the other financing strategies fails to deliver at least one of the key financing objectives:

Availability PPPs will have a significant impact on critical State credit metrics post construction completion. In addition, whilst an Availability PPP is likely to more effectively transfer construction risk to the private sector it will do so at a materially higher cost of capital

Patronage PPPs are unlikely to provide access to sufficient capital on acceptable terms to fully finance the Project

State financing will have a significant impact on critical State credit metrics.

As such, a private sector non-recourse project financing strategy has been assumed as the Reference Financing Strategy for the purpose of the Business Case. Under a private sector non-recourse project financing strategy:

The State retains 100 per cent equity ownership of WestConnex

Project financing is secured solely against current or future toll revenues generated by WestConnex, with no recourse to the State

Credit rating agencies have indicated a willingness to exclude this form of financing from State tax supported debt (final confirmation required)

The State’s exposure to construction risk has the potential to be mitigated through a fixed price and fixed time design and construction (‘D&C’) contract(s) with private sector contractors.

Importantly, given the flexibility of the private sector non-recourse financing strategy, there is the ability to combine this strategy with a range of alternative approaches, depending on the characteristics of the development stage(s) and market conditions. Following submission of the Business Case in July 2013, further development and additional analysis will be undertaken to determine the final strategy for the financing of each of the development stages of WestConnex. In particular there will be an assessment of whether any further refinement of the private sector non-recourse project financing is required or incorporation of alternate features would enhance the delivery of the State’s objectives.

The Business Case considers the implications of the private sector non-recourse project financing strategy for two staging scenarios:

1 Stage 1 only (M4 – Parramatta to City West Link)

2 Full development (all three development stages).

The financing strategy has been designed such that both staging scenarios deliver the State’s key financing objectives as highlighted in Table 1.


Table 1: Delivery of the State’s financing objectives

High priority financing objectives

Value delivered to the State – State retains 100% equity ownership in all stages until they can be fully valued

by the private sector

– A capital recycling strategy enables respective Governments to limit their direct contribution to the existing $1.8 billion contribution from the Restart NSW Fund and the assumed matching contribution from the Commonwealth Government


– No additional State financing required

– No impact on the State’s credit ratings anticipated

Sufficient confidence in market capacity and minimising financing cost to the State

– Private sector project financing structured with investment grade credit metrics

– Hybrid and equity products expected to resonate with a combination of superannuation funds, retail investors and infrastructure investors

– Scale of capital raisings structured to be within current market capacity expectations


– State has expressed the ability to asses and retain traffic risk until it can be fully valued by the private sector

– State has expressed the ability to manage construction procurement rather than financiers if it provides greater efficiency given cost and linkage to initial traffic levels

– Construction risk can be transferred to contractors through appropriate contractual structures if required

Minimising contingent liabilities on the State’s balance sheet

– No material contingent liabilities anticipated to impact the State’s balance sheet


1. WESTCONNEX PROJECT OVERVIEW

WestConnex has been identified by INSW as Sydney’s next motorway priority, to be developed to address the immediate transport needs of Sydney. WestConnex forms part of the future Sydney motorway network identified in the SIS and is strongly supported by the NSW Long Term Transport Master Plan (December 2012).

WestConnex will bring together a number of concepts canvassed with the community since 2004, in a way that is considered achievable and best enhances Sydney’s transport network.

WestConnex is 33 kilometres in total length, which includes capacity improvements on existing motorways as well as new sections of motorway. It aims to better link Sydney’s west with its international gateways and key places of business. WestConnex will act as a catalyst to renew and transform parts of Sydney, creating urban renewal and public transport improvement opportunities.

All stages of WestConnex will be subject to user toll charges.

WestConnex comprises three distinct development stages, consisting of:



Stage 3: M4 – City West Link to St Peter’s.

Figure 1: WestConnex

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2. MACQUARIE CAPITAL’S ROLE

Macquarie has been engaged by the State to undertake a comprehensive review and provide advice in relation to identifying the optimal financing strategy for WestConnex. Macquarie’s role included, but was not limited to, the services outlined in Table 2.

Table 2: Macquarie’s scope of services

Services Delivered

– Preparing a Financing Scoping Study, assessing various alternate funding and financing, project structuring and procurement options, taking into account the State’s fiscal constraints

– Recommending an appropriate financing strategy for WestConnex based on a comparative analysis of alternative financing strategies for WestConnex, including:

– Revenue securitisation mechanisms (eg non-recourse financing in a Government owned Special Purpose Vehicle, taking into account the staging of the various project components) or other financing strategies

– Patronage PPP including options for patronage risk sharing

– Availability PPP

– Combination of above options.

– This comparison of options needs to include analysis of relevant international precedents and alternative financing strategies

– Attending specified meetings with the Sydney Motorways Project Office (‘SMPO’) and the WestConnex Commercial and Financial Control Group, which may require Macquarie to prepare individual issues papers that will facilitate completion of the Financing Scoping Study

– Reviewing and providing input into the WestConnex Business Case, particularly sections for Funding, Financing, Project Structuring and Procurement

– Providing input into the industry consultation process (to be undertaken during early 2013)

– Other specified activities related to the production of the WestConnex Financing Scoping Study

Following approval of the WestConnex Business Case (to be submitted in July 2013), there are a number of key next steps which will require further development and additional analysis to move towards the pre-implementation and execution phases of WestConnex. This includes investigation into further financing strategies and combinations of financing strategies, which may assist the State to enhance the Reference Financing Strategy and improve the delivery of the financing objectives identified in Section 3.2, whilst facilitating delivery of the overall Project.

Continued engagement with the credit rating agencies (both Standard & Poor’s Ratings Services (‘S&P’) and Moody’s Investor Service (‘Moody’s’)) will be required to accurately assess the impact of the ultimate financing strategy on the State’s credit rating.

In its assessment and structuring of the WestConnex financing strategy to date, Macquarie has relied on data and information provided by the State and has not independently verified this information.

Senior members of INSW, NSW Treasury and the SMPO have worked closely with Macquarie throughout the engagement.


3. WESTCONNEX OBJECTIVES

3.1 State WestConnex objectives The State has identified a number of key WestConnex project objectives that are predominately aligned to the economic growth of Sydney, including relieving congestion along key transport corridors and providing opportunities for urban renewal. These objectives are not applicable in evaluating financing strategies as the benefits delivered would be assumed to be consistent across all identified financing strategies.

Table 3: State WestConnex objectives

WestConnex objectives

– Support Sydney’s long-term economic growth through improved motorway access and connections linking Sydney’s international gateways and Western Sydney and places of business across the city

– Relieve road congestion so as to improve the speed, reliability and safety of travel in the M4 and M5 corridors, including parallel arterial roads

– Cater for the diverse travel demands along these corridors that are best met by road infrastructure

– Create opportunities for urban renewal, improved liveability, and public and active transport improvements along and around Parramatta Road

– Enhance the productivity of commercial and freight generating land uses strategically located near transport infrastructure

– Fit within the financial capacity of the State and Commonwealth Governments, in partnership with the private sector

– Optimise user pays contributions to support funding in a way that is affordable and equitable

3.2 State WestConnex financing objectives Through a collaborative process Macquarie and the State have identified the State’s nine key financing objectives in relation to WestConnex. Evaluation of all identified financing has been undertaken against the high priority financing objectives (as outlined in Table 8) to determine the Reference Financing Strategy for the Business Case.

Table 4: Overview of financing objectives

Financing objectives Overview Priority

Maximise value delivered to the State

– Maximising value delivered to the State from WestConnex (eg NPV of State’s cash flows during and post construction), which is, inter alia, impacted by the relative cost of capital of the various options

– Optimisation of any potential Commonwealth Government contribution

High


– No material weakening in the State’s credit rating

– Mitigating the scale of the impact on the existing credit rating

High


– Confidence in the financing markets’ available capacity to fully finance WestConnex

– Minimising cost of overall financing strategy

– Ability to execute financing strategy within the necessary timeframes

High

Acceptable risk allocation – Minimise financing premium associated with risks mispriced by the private sector due to recent toll road precedents through the State’s willingness to retain traffic risk until the private sector is best able to value the risk/opportunity

– To the extent necessary to support the overall financing strategy, the State is prepared to consider accepting residual construction risk

– Fixed price and fixed term D&C contracts will be procured to substantially pass through construction risks to the private sector (including liquidated damages, bonding and parent company guarantees)

High


– Limiting the impact and ideally having no contingent liabilities on the State’s balance sheet

High


Financing objectives Overview Priority

Toll structure optimisation – Ability of the financing strategy to enable the optimisation of the toll structure of WestConnex and connecting motorways during and post construction

Medium

Maximising development timing flexibility

– Flexibility to deliver individual stages of WestConnex without a commitment to future stages from the State

Medium

Operational procurement control of WestConnex

– Ability of the State to control the scope/timing/flexibility around procurement measures

Medium

Reliance on non-WestConnex funding sources

– Minimising the financing strategies requirement for non-WestConnex funding sources (ie financing strategies that can deliver WestConnex without the requirement for support from existing operating assets are more desirable)

Low

In addition to the financing objectives, the State has identified the development of an Australian bond market as a potential financing objective of WestConnex. However, the development of an Australian bond market should not drive the development of appropriate financing strategies, but instead be a potential outcome. The State will promote and support the development through the use of the Australian bond market, subject to providing value for money.


4. IDENTIFIED FINANCING SOURCES

Macquarie, in collaboration with the State, has identified a range of potential financing sources for consideration. The extensive range of financing sources delivers maximum flexibility to WestConnex, enabling further optimisation of the financing strategy as well as a better ability to navigate through different market conditions and potential constraints that may arise during the more detailed development process.

It should be noted that a number of the financing sources are only available for utilisation post construction completion.

Table 5: Identified financing sources

Financing source Overview

Pri

vate

sec

tor

fin

anci

ng

so

urc

es

Private sector non-recourse senior project financing

– Private sector non-recourse senior project financing issued post construction

– A range of benchmark project financing packages (eg Westlink M7, Interlink, ConnectEast) exist in the Australian private toll road market as well as for international governmental entities (eg Bay Area Toll Authority)

Private sector non-recourse subordinated project financing

– Private sector non-recourse subordinated project financing issued post construction

– Significant appetite from retail investors and institutions to invest in subordinated project financing, including in the infrastructure sector

Subordinated accumulating note

– Private sector subordinated financing secured against current and future cash flows from WestConnex assets

– Designed to be repaid at a fixed price or linked to equity value at a specified date, such as point of monetisation

– This is an example of a hybrid financial product that has significant potential to resonate with superannuation funds, retail investors and other market participants

– Non-recourse nature to be confirmed with credit rating agencies

Public Private Partnerships (Availability, Patronage or Hybrid)

– Private sector to design, build, operate, maintain and finance the toll road

– PPP structures may be valuable as an efficient procurement methodology which could be structured to be compatible with other financing structures

Construction project financing – Project financing secured prior to construction, potentially requiring State support

Development partner – Private sector investor(s) co-invests with the State

Go

vern

men

t fi

nan

cin

g s

ou

rces

WestConnex operating cash flow

– Toll revenue generated by WestConnex less expenses incurred

– Completion of initial stages generates operating cash flows that can be used to contribute to financing the later stages

Restart NSW Fund – Confirmed contribution from the State over the Forward Estimates (2013/14 to 2016/17), subject to its acceptance of the Business Case

– Proposed to be structured as an equity investment to enable the State to capture the value of the stages of WestConnex for reinvestment in future infrastructure

– Reference Financing Strategy assumes all returns generated by WestConnex (ie operating cash flow or Stage 1 monetisation proceeds) prior to final construction completion of are reinvested in WestConnex

New concessions of existing toll roads

– Extensions to existing concession agreements or new concessions on existing toll roads

Commonwealth Government – Funding potentially provided by the Commonwealth Government

– A number of potential structures have been identified for further consideration

– The Reference Financing Strategy assumes the Commonwealth Government contribution matches the $1.8 billion Restart NSW Fund contribution


5. BUSINESS CASE FINANCING STRATEGY APPROACH

5.1 Identified financing strategies Four financing strategies have been identified which contain a combination of the financing sources outlined in Table 5.

Table 6: Identified financing strategies for evaluation

Financing strategy Overview

Availability Public Private Partnership

– Private sector solely responsible for the design, construction, operation, maintenance and financing of WestConnex, excluding tolling operations

– State contributes regular availability payments during the operating phase of WestConnex (eg 25 years)

– Availability payments are generally subject to the private sector maintaining the asset in accordance with a regime of Key Performance Indicators, where if the quality of the service delivered falls below the required levels the availability payments are abated

– Full transfer of construction risk to the private sector, subject to detailed risk allocation in National Public Private Partnership Policy and Guidelines

– State retains all revenues and associated traffic risk

– Financial liability included as State tax supported debt from construction completion, amortised over the concession period, albeit potential for State to retain option to purchase majority of project financing at par after construction completion, which could be funded by monetisation of tolling revenues (post completion)

Patronage Public Private Partnership (with tolling support)

– Private sector solely responsible for the design, construction, operation, maintenance and financing of WestConnex, including tolling operations

– Full transfer of construction risk to the private sector, subject to detailed risk allocation in National Public Private Partnership Policy and Guidelines

– Partial transfer of traffic/revenue risk to the private sector

– Private sector entitled to pre-agreed band of toll revenue during the operating phase of WestConnex (eg 30 to 50 years)

– Private sector and State typically share gains on upside up to a cap, and risk on downside up to a collar (ie State would ensure the project received a minimum toll revenue)

– Treated as off balance sheet for the State’s credit rating metrics, except for the guarantee of minimal traffic/revenue levels (treated as tax supported debt or a contingent liability by credit rating agencies in accordance with their views on likelihood of State needing to fund minimum toll payments)

Private Sector Non-Recourse Project Financing

– State establishes an SPV to be solely responsible for the design, construction, operation, maintenance and financing of WestConnex

– State replicates private sector management of construction risk through appropriate fixed price and fixed time D&C contracts

– Private sector non-recourse project financing secured against toll revenue generated by WestConnex

– Willingness of credit rating agencies to exclude private sector project financing from tax supported debt (final confirmation required)

– State SPV retains full traffic/revenue risk, until issuance of project financing or any subsequent monetisation

– State retains flexibility to monetise its ownership of WestConnex post construction

State Financing

– State solely responsible for the design, construction, operation, maintenance and financing of WestConnex

– Construction risk has the potential to be mitigated through a fixed price and fixed time D&C contract(s) with private sector contractors

– State retains all revenues and associated traffic risk

– Full impact on the State’s balance sheet

– State retains flexibility to monetise its ownership of WestConnex post construction


In addition to the Patronage PPP (with tolling support) described above, two further variants of the Patronage PPP strategy were identified:

1. Patronage PPP (without tolling support): when the private sector is solely responsible for the design, construction, operation, maintenance and financing of WestConnex and assumes all construction and traffic risk

2. Private sector development partner: where the State partners with a private sector development partner(s) prior to construction of WestConnex (can apply to WestConnex as a single development or the individual WestConnex development stages).

Analysis for the Business Case has focused on Patronage PPP (with tolling support), as this has a greater capacity to be deliverable by the market at the scale required for WestConnex.

5.2 Indicative risk allocation The following table summarises the proposed allocation of traffic risk and construction risk for each of the four financing strategies evaluated.

Table 7: Indicative construction and traffic risk allocation

Identified financing strategies

Risk allocation

Availability PPP Patronage PPP (with tolling support)

Private sector non-recourse project financing

State finance

Construction Allocated to private sector proponent from financial close, subject to retained risks in accordance with National Public Private Partnership Policy and Guidelines

Allocated to private sector proponent from financial close, subject to retained risks in accordance with National Public Private Partnership Policy and Guidelines

Risk managed by the State but mitigated through replication of private sector procurement strategy with a fixed price and fixed time D&C contract(s) with private sector contractors

Risk retained by State but potential to be mitigated through a fixed price and fixed time D&C contract(s) with private sector contractors

Traffic/ revenue

Retained by the State Allocated to private sector proponent from financial close, subject to retained risks in accordance with National Public Private Partnership Policy and Guidelines

Retained by the State, until project financing raised and/or monetisation occurs

Retained by the State

5.3 Challenges with precedent financing strategies Precedent financing strategies used prior to the Global Financial Crisis (‘GFC’) to develop Australian toll roads are unlikely to best achieve the State’s objectives.

Patronage PPP financing strategies have suffered a significant reduction in market appetite driven by:

An increase in the acceptance and pricing of the initial traffic risk and to a lesser extent the construction risk

Concerns about the traditional consortium bidding process and in particular the limited number of parties as well as the time, cost, and complexity of such large projects.

Availability PPP financing strategies continue to provide value in fully transferring delivery risk to the private sector. However, some of the bidding considerations above are also relevant and these structures have a significant impact on the respective government’s balance sheet post construction completion.

The effect of a government funded financing strategy is similar in nature to an Availability PPP, with the balance sheet being significantly impacted.

The current environment post the GFC has encouraged an evolution in financing strategies for the development of toll roads in the Australian market. A private sector non-recourse project financing structure, which utilises private sector project financing while the State retains full equity ownership of the asset, is unique in the Australian market, yet is particularly well suited achieving the financial objectives, and has significant precedent in international markets.


5.4 Qualitative evaluation To determine the most appropriate Reference Financing Strategy an evaluation of the identified financing strategy has been undertaken against each of the high priority financing objectives.

The assessment of the respective financing strategies has been undertaken on the following basis:

A pass/fail basis, with a negative assessment signifying the strategy is not expected to satisfy the financing objectives, whereas a positive assessment demonstrates that the strategy is expected to satisfy the financing objectives

The assumption that the Reference Financing Strategy can be delivered in separate development stages if required, allowing a combination of financing strategies to be deployed to better suit the specifics of each respective development stage.

Table 8: Qualitative evaluation

High priority financing objective

Availability PPP Patronage PPP with tolling support


State finance

Maximise value delivered to the State

Increase in financing cost to the State for full transfer of construction risk to a private sector proponent

Highest cost of private sector financing reflecting premium required for transfer of partial greenfield traffic risk

Lowest cost of private sector financing

State can retain 100% of equity ownership

Lowest cost of financing

State can retain 100% of equity ownership


Large financial liability on the State’s balance sheet post construction completion

Contingent liability on balance sheet

Excluded from tax supported debt 1

100% financing classified as tax supported debt


Capacity for projects of this scale uncertain 2

Capacity for projects of this scale uncertain 2

Current market analysis and feedback indicates sufficient capacity expected

State has sufficient capacity (albeit not at AAA credit rating)


Construction risk transferred 3

State retains traffic risk

Construction risk transferred 3

Traffic risk shared with private sector, subject to a ‘cap and collar’

Construction risk has potential to be mitigated through a fixed price and fixed time D&C contracts

State retains traffic risk 4

Construction risk has potential to be mitigated through a fixed price and fixed time D&C contracts

State retains traffic risk 4


No contingent liabilities for the State

Guarantee of minimum traffic will be a contingent liability until sustainably achieved



1 Subject to final confirmation from credit rating agencies

2 Whilst Restart NSW Fund contribution could reduce market funding required for individual stages of PPP structures, it is not sufficient to ensure sufficient

market capacity for the combination of all three development stages 3 In accordance with the National Public Private Partnership Policy and Guidelines

4 Until project financing is raised and/or monetisation occurs


Evaluation of the identified financing strategies highlights the benefits that the private sector non-recourse project financing strategy delivers to the State, including:

Maximising value creation for the State as markets can fully value tolling revenues post stabilisation of traffic

Eliminating/minimising the impact on the State credit ratings, driven by the non-recourse treatment of the private sector project financing (subject to final confirmation from credit rating agencies)

Delivering confidence in market capacity for a mature WestConnex, given the market’s demonstrated ability to finance toll roads post construction

Delivering maximum flexibility to the State, with the ability to implement a range of alternative financing strategies and approaches in combination with a private sector non-recourse project financing strategy depending on the characteristics of the development stage(s) and market conditions

Providing an appropriate risk allocation, with demonstrated capability to pass construction risk to builders and reliance of the private sector solely on traffic revenues once traffic is established. In both cases the State has expressed the ability to manage and/or bridge these risks until they are efficiently assessed by the private sector.

The results of the evaluation indicate that a private sector non-recourse project financing strategy is superior in delivering the State’s financing objectives in comparison to the other identified financing strategies. As such, a private sector non-recourse project financing strategy has been assumed as the Reference Financing Strategy.

A private sector non-recourse project financing strategy delivers maximum flexibility to the State as it can be developed and implemented in parallel with other identified financing strategies, depending on future circumstances and market conditions. As an example, Stage 1 could be developed utilising a private sector non-recourse project financing strategy, whilst Stage 2 could be procured through a PPP structure. These two alternative strategies could potentially be procured and delivered in unison (subject to further detailed analysis).

The results of the preliminary evaluation do not lock-in a recommended financing strategy, but rather provide confidence that based on the information available such a strategy is expected to achieve and optimise all the key objectives of the State. As previously outlined, a finalised financing strategy will require additional analysis and confirmation of a number of key considerations. It is currently anticipated this will form part of the ongoing development of WestConnex post the submission of the Business Case.


6. PRIVATE SECTOR NON-RECOURSE PROJECT FINANCING STRATEGY

The basis of the private sector non-recourse project financing strategy involves the establishment of a WestConnex funding vehicle which is 100 per cent owned by the State. The funding vehicle would procure private sector project financing, either post construction or potentially during construction, with no recourse back to the State. The project financing would be secured solely against the current or future toll revenues generated by WestConnex.

These types of financing strategies have a long and proven history in North America, with a large number of transport and utility development transactions successfully reaching closure.

Figure 2: Private sector non-recourse project financing strategy

WestConnex Delivery Company (‘Delivery Co’) would be granted a concession by the State to build, own and operate WestConnex. Delivery Co would have an obligation to transfer WestConnex back to the State at the expiry of the concession.

Senior or subordinated private sector project financing would be procured through WestConnex Fin Co (‘Fin Co’), with the flexibility to access financing pre or post construction depending upon market conditions and providing value for money to the State. Private sector project financing would be secured solely against the revenues of Delivery Co (eg the operating cash flows generated by WestConnex). Private sector financiers will require a high degree of financial robustness consistent with comparable investment grade project financing structures to ensure sufficient protection of the senior financiers.

Any financing requirement in excess of the levels able to be procured from the private sector would need to be funded by other sources, or ultimately the State. The State has a number of existing and new financing sources from which it could access the required level of financing, without resorting to raising additional State debt. These sources include:

WestConnex operating cash flows

Restart NSW Fund

Commonwealth Government contribution

New concessions of existing toll roads

Monetisation of completed development stages of WestConnex.

WestConnex Fin CoWestConnex Delivery

Company

100% ownership

Private sector project financing

State

Future private sector equity

Equity


Macquarie has engaged with both S&P and Moody’s to gauge the likely treatment of non-recourse project financing in relation to WestConnex. Both rating agencies outlined their requirements to be satisfied in order to exclude the project financing from their calculation of tax supported debt. Once satisfied, there would be no impact on each rating agency’s key metrics used in their assessment of the State’s credit rating. To ensure private sector project financing is excluded from tax supported State debt, the rating agencies require that the project financing:

Is fully self supporting (ie no guarantees from the State)

Achieves investment grade credit metrics on a standalone basis, for the senior project financing

Not be provided by the State or NSW Treasury.

Both S&P and Moody’s have significant experience in considering rating implications for issuers and sub-sovereigns of private sector project financing strategies, with a long history of these structures in North America.

As part of its engagement, Macquarie undertook a preliminary market sounding exercise to gauge initial feedback from a selection of potential project financiers in relation to WestConnex. Macquarie sought feedback from the four largest Australian banks and a similar number of key international debt financiers.

The key feedback from the market sounding was as follows:

Strong support for toll roads with proven traffic volumes

Recognition that existing Sydney toll roads had more conservative structures than may be deliverable today, due to combination of factors including, inter alia, strong traffic growth and constraints on re-gearing imposed by concession deeds

Due diligence was required to gain necessary comfort regarding the State’s alignments of interest in performing multiple roles

Potential interest in hybrid and equity products where supported by strong existing traffic, subject to further analysis, structuring and due diligence.

Discussions with debt financiers did not identify any fatal flaws in the implementation of a private sector non-recourse financing strategy in Australia.

Further engagement with the market, both debt and equity financiers, is required to fully explore all financing options and potential capacity.


7. STAGE 1 WESTCONNEX FINANCEABILITY

7.1 Stage 1 overview WestConnex Stage 1 (‘Stage 1’) has been identified by the State as the highest short term priority within WestConnex. Stage 1 ranked highest against the evaluation factors for each development stage, as outlined in the SMPO Procurement Report.

Some of the key differentiating factors include:

The design of Stage 1 is currently more advanced than the other development stages, due to the limitations in alternative alignment and connection options

Constructability of Stage 1 rated highly due to well located portals (eg in Homebush and at City West Link) for connections to the existing road system

Traffic volume forecasts are strongest for Stage 1, which will deliver the maximum level of private sector finance

Stage 1 can be packaged into contract sizes that can be readily met by the construction industry, based on initial feedback from the market.

Table 9: Stage 1 overview 5

Project

Construction costs

(real June 2012) ($bn)

Nominal costs ($bn) Construction period

Operational commencement

M4 Widening (M4W) 0.4 0.5 January 2014–March 2017 April 2017

M4: Homebush to City West Link (M4E-1)

3.0 3.7 April 2014–December 2018 January 2019

SMPO program costs 6 0.02 0.02 July 2013–December 2018 N/A

Total 3.5 4.2

7.2 Private sector project financing capacity Stage 1 has indicative capacity to support up to ~$2.0 billion of project financing, during the construction period (ie at FY 2019), based solely on the forecast revenue provided by SMPO for the M4W (ie the project financing will be fully supported by proven traffic).

Project financing capacity is determined by the Interest Coverage Ratios (‘ICRs’) that can be supported by the existing operating cash flows of WestConnex. Market feedback received by Macquarie highlighted that debt financiers’ expectations were that the ICRs generated by WestConnex would be consistent with investment grade credit metrics.

Current Sydney toll road concessions typically deliver ICRs in the range of 2.0x to 2.5x for senior project financing which is consistent with investment grade credit metrics. However, financiers acknowledged in the market sounding that recent project financings in the broader infrastructure market in the range 1.7x to 2.0x have either achieved investment grade ratings or seen to be consistent with investment grade (where not rated).

As such, a slightly wider ICR range of 1.7x to 2.5x (on proven traffic) for senior project financing has been used to determine the capacity for Stage 1.

A range of 1.3x to 1.5x has been used to determine the volume of total project financing, includes both senior and subordinated project financing, available for Stage 1. This range reflects the precedent global projects that use project financing in a similar context to WestConnex.

It is anticipated that the market would be generally comfortable financing Stage 1 towards the lower end of the coverage ratio range given some of fundamental strengths of Stage 1, including:

5 Note: numbers may not add up to due to rounding

6 SMPO costs are not assumed after construction


Existing and historical traffic data on the M4 Motorway, both tolled and untolled

Significant connectivity created with the rest of existing road network

Forecast strong traffic growth post construction completion

Increase in capacity along the M4 Motorway corridor.

Figure 3: Project financing capacity range based on forecast proven traffic ($bn)

7.3 Required financing sources Delivery of Stage 1 is achievable with full access to both Government financing sources, and a modest level of private sector non-recourse project financing. The total volume of private sector non-recourse project financing required to deliver Stage 1 is considerably lower than the total amount of project financing able to be supported by the Stage 1 operating cash flows, as demonstrated in Section 7.2.

Table 10: Required construction financing sources 7

Financing source Volume ($bn)Proportion of

total financing Timing

Restart NSW Fund 1.8 43% FY 2014–FY 2019

Commonwealth Government 1.8 43% FY 2014–FY 2019

Operating cash flows 0.4 10% FY 2017–FY 2019

Private sector non-recourse project financing 0.2 5% FY 2019

Total 4.2 100%

The financing sources available are more than sufficient to fund the ~$4.2 billion in construction costs, ~$0.02 billion of SMPO program costs and ~$0.01 billion of financing costs prior to December 2018.

Private sector non-recourse project financing support is not required until the December 2018 quarter, by which stage operating cash flows of ~$200 million pa are generated by Stage 1. The combined Government contributions provide ~85 per cent of the total financing required for the development of Stage 1.


-

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

FY 2017 FY 2018 FY 2019 FY 2020 FY 2021 FY 2022 FY 2023 FY 2024 FY 2025

Low project financing capacity range High project financing capacity range

M4E-1 operational commencement


Figure 4: Construction financing sources and uses ($bn)

7.3.1 Restart NSW Fund contribution

The State has committed to providing $1.8 billion over the Forward Estimates (2013/14 to 2016/17), to be funded from the Restart NSW Fund (subject to its acceptance of the Business Case). This contribution is proposed to be structured as an equity investment to enable the State to capture the value of the development stages of WestConnex for reinvestment in future infrastructure.

The funding will be used in advance of any private sector non-recourse project financing and will be made available from FY 2014 onwards.

7.3.2 Commonwealth Government contribution

For the purpose of the Business Case, it has been assumed the Commonwealth Government contributes $1.8 billion to the funding of the Project so that size and timing of contribution matches the State contribution (as outlined in Section 7.3.1). The Commonwealth Government contribution is assumed to be available from FY 2014 onwards.

The Commonwealth Government contribution is assumed to be provided without a financial return or impacting on the GST forecast to be received by the State.

The level and structure of the Commonwealth Government contribution will be finalised in conjunction with the Commonwealth Government.

7.3.3 Operating cash flow

Operating cash flow generated by Stage 1 will be first used to service any private sector non-recourse project financing, and then used to fund construction costs.

7.3.4 Private sector non-recourse project financing

All private sector non-recourse project financing required for the delivery of Stage 1 will be secured against proven traffic, providing the most efficient and cost competitive project financing.

As highlighted in Section 7.2, Stage 1 has the capacity to support significantly higher levels of private sector project financing than currently required to deliver Stage 1. As such, the ICRs produced are very strong.

7.3.5 Summary of sources and uses

A summary of the annual construction financing uses and sources is detailed in Table 11, clarifying the level and timing of the private sector non-resource project financing requirements.

(2.0)

(1.5)

(1.0)

(0.5)

-

0.5

1.0

1.5

2.0

FY 2014 FY 2015 FY 2016 FY 2017 FY 2018 FY 2019

Government contributions Operating cash flows

Private sector non-recourse project financing Construction costs

SMPO costs Private sector non-recourse project financing costs

Sources

Uses


Table 11: Construction financing sources and uses summary ($bn)8

FY14 FY15 FY16 FY17 FY18 FY19 Total

Sources ($bn)

Restart NSW Fund contribution 0.04 0.2 0.3 0.3 0.7 0.3 1.8


0.04 0.2 0.3 0.3 0.7 0.3 1.8

Operating cash flow – – – 0.1 0.2 0.1 0.4


– – – – – 0.2 0.2

Total 0.1 0.4 0.6 0.7 1.6 0.9 4.2

Uses ($bn)

M4 Widening (M4W) (0.01) (0.1) (0.3) (0.1) – – (0.5)

M4: Homebush to City West Link (M4E-1)

(0.1) (0.3) (0.4) (0.5) (1.6) (0.9) (3.7)

SMPO program costs (0.003) (0.004) (0.004) (0.004) (0.004) (0.002) (0.02)

Private sector non-recourse project financing costs

– – – – – (0.01) (0.01)

Total (0.1) (0.4) (0.6) (0.7) (1.6) (0.9) (4.2)

7.4 Stage 1 – downside sensitivity analysis Downside sensitivity analysis has been undertaken to demonstrate the impact of potential adverse changes in a range of assumptions on the private sector non-recourse project financing. Downside sensitivities scenarios analysed include:

D&C costs: + 10 per cent

Forecast traffic volumes: - 10 per cent

Operating costs (including maintenance): + 10 per cent

Private sector project financing margin: + 50 basis points

Base rates: + 50 basis points.

The downside sensitivity analysis has been approached from the perspective that only the private sector non-recourse project financing is impacted under the scenario, assuming no change in the level of State or Commonwealth Government financing provided.

It should be noted, the downside sensitivity analysis does not take into consideration the private sector’s ability or capacity to provide the additional project financing required under the downside sensitivity scenarios.

Table 12: Downside sensitivity analysis 9

Total private sector project

financing ($bn) Delta ($bn)

Reference Financing Strategy 0.2

D&C costs +10% 0.7 0.5

Traffic volume -10% 0.3 0.0

O&M costs +10% 0.2 0.0

Private sector project financing margin +50bps 0.2 0.0

Base rates +50bps 0.2 0.0

It should be noted that total private sector project financing requirement for each downside sensitivity case is well within the total financing capacity of Stage 1, highlighting the robust nature of Stage 1. 8 Note: numbers may not add up to due to rounding



7.5 Impact on State credit rating Implementation of a private sector non-recourse project financing strategy for the development of Stage 1 is not anticipated to have a detrimental impact on the State’s balance sheet as all sources of financing utilised are expected to be excluded from tax supported debt:

Restart NSW Fund contribution: treated as an equity investment, capable of achieving a capital return, assumed not to affect the State’s credit metrics as it is not funded by State debt

Commonwealth Government contribution: assumed to be treated as a grant from the Commonwealth with no obligation for WestConnex or State to repay

Operating cash flow: incremental cash flow not available in the absence of WestConnex

Private sector non-recourse project financing: excluded from State tax supported debt as highlighted in Section 6.


8. WESTCONNEX FINANCEABILITY

8.1 WestConnex full development WestConnex is one of the largest integrated infrastructure projects developed in Australia and as a result will require one of the largest financing across the multiple stages. Total real construction costs (as at June 2012) are ~$11.3 billion with nominal costs of ~$14.9 billion. In addition, SMPO program costs of ~$0.1 billion are expected over the entire construction period.

Table 13: WestConnex overview10

Project

Construction costs

(real June 2012) ($bn)

Construction costs nominal

($bn) Construction period Operational commencement


3.5 4.2 January 2014–December 2018 January 2019


3.7 4.7 July 2015–June 2020 July 2020

Stage 3: M4 – City West Link to St Peters

4.2 6.0 January 2018–June 2023 July 2023

SMPO program costs 11

0.1 0.1 July 2013–June 2023 N/A

Total 11.4 15.0

8.2 Financing approach WestConnex consists of five individual projects that naturally align into three development stages. This is primarily due to natural ‘break points’ where WestConnex can be cost effectively and efficiently connected back into the surrounding road system.

This approach to development also delivers significant advantageous from a financing perspective. The financing capacity is effectively increased on a rolling basis as development progresses, with private sector project financing maximised based on the increasing availability of toll revenues.

The staged approach also provides an opportunity to recycle the monetisation proceeds delivered through the monetisation of equity in Stage 1 in FY 2020.

10

Note: numbers may not add up to due to rounding 11

SMPO costs are not assumed after construction


Figure 5: Staged financing approach

8.3 Private sector project financing capacity WestConnex has indicative capacity to support up to ~$5.3 billion of project financing, during the construction period (i.e. at FY 2023), based solely on the forecast revenue provided by SMPO for the M4W (ie the project financing will be fully supported by proven traffic).

Project financing capacity is determined by the Interest Coverage Ratios (‘ICRs’) that can be supported by the existing operating cash flows of WestConnex. Market feedback received by Macquarie highlighted that debt financiers’ expectations were that the ICRs generated by WestConnex would be consistent with investment grade credit metrics.

Current Sydney toll road concessions typically deliver ICRs in the range of 2.0x to 2.5x for senior project financing which is consistent with investment grade credit metrics. However, financiers acknowledged in the market sounding that recent project financings in the broader infrastructure market in the range 1.7x to 2.0x have either achieved investment grade ratings or seen to be consistent with investment grade (where not rated).

As such, a slightly wider ICR range of 1.7x to 2.5x (on proven traffic) for senior project financing has been used to determine the capacity for WestConnex.

A range of 1.3x to 1.5x has been used to determine the volume of total project financing, includes both senior and subordinated project financing, available for WestConnex. This range reflects the precedent global projects that use project financing in a similar context to WestConnex.

The increase in capacity in FY 2021 reflects the commencement of operations in Stage 2.

The assumed monetisation of Stage 1 has not been reflected in Figure 6, which would have the effect of reducing the total project financing capacity post December 2019.

– State retains 100 per cent equity ownership in Stage 2 & Stage 3

– Financing sources – Government contributions – New M5 West concession – Private sector project

f inancing – Stage 1 monetisation

proceeds– Subordinated accumulating

note

– State fully develops Stage 1 and commences development of Stage 2 & Stage 3

– State monetises 100 per cent of equity ownership in Stage 1 in December 2019

– State recycles proceeds to fund Stage 2 and Stage 3

– Financing sources – Government contributions – Private sector project f inancing

Stages 2 & 3Stage 1

WestConnex development


Figure 6: Project financing capacity – based on forecast proven traffic ($bn)

8.4 Required financing sources Delivery of WestConnex requires a broad range of financing sources. The total volume of private sector non-recourse project financing required to deliver WestConnex utilises the maximum capacity of project financing that is achievable based on the operating cash flows forecasts provided by SMPO.

Table 14: Required construction financing sources12

Financing source Volume ($bn)Proportion of

total financing Timing

Restart NSW Fund 1.8 12% FY 2014–FY 2018

Commonwealth Government 1.8 12% FY 2014–FY 2018

WestConnex operating cash flows 1.0 6% FY 2017–FY 2023

New concessions of existing toll roads 1.7 11% FY 2019


4.8 31% FY 2018–FY 2023

Stage 1 monetisation net proceeds 3.3 21% FY 2020

Subordinated accumulating note 1.0 6% FY 2023

Interest revenue 0.3 2% FY 2018–FY 2023

Total 15.6 100%

The ~$15.6 billion of financing available is sufficient to fund the ~$14.9 billion in out turn costs, ~$0.1 billion of SMPO costs and the ~$0.6 billion of financing costs prior to June 2023.

It is important to note that in the current case, no further State (or Commonwealth Government) financing is required to deliver WestConnex, based on the financial forecasts generated by SMPO for the Business Case and current market conditions. All required private sector financing can be delivered through either proven financing markets (eg project financing based on proven toll revenues) at market based leverage multiples or potential hybrid products that are expected to be able to structured in a manner that will resonate with investors.

12

Note: numbers may not add up to due to rounding

-

1.00

2.00

3.00

4.00

5.00

6.00

7.00

FY 2017 FY 2018 FY 2019 FY 2020 FY 2021 FY 2022 FY 2023 FY 2024 FY 2025

Low project financing capacity range High project financing capacity range

M4E-1 operational commencement

Stage 2 operational commencement

Stage 3 operational commencement


Figure 7: Construction financing sources and uses ($bn)

8.4.1 Restart NSW Fund contribution

The State has committed to providing $1.8 billion over the Forward Estimates (2013/14 to 2016/17), to be funded from the Restart NSW Fund (subject to its acceptance of the Business Case). This contribution is proposed to be structured as an equity investment to enable the State to capture the value of the development stages of WestConnex for reinvestment in future infrastructure.

The funding will be used in advance of any private sector non-recourse project financing and will be made available from FY 2014 onwards.

8.4.2 Commonwealth Government contribution

For the purpose of the Business Case, it has been assumed the Commonwealth Government contributes $1.8 billion to the funding of the Project so that size and timing of contribution matches the State contribution (as outlined in Section 8.4.1). The Commonwealth Government contribution is assumed to be available from FY 2014 onwards.

The Commonwealth Government contribution is assumed to be provided without a financial return or impacting on the GST forecast to be received by the State.

The level and structure of the Commonwealth Government contribution will be finalised in conjunction with the Commonwealth Government.

8.4.3 Operating cash flow

Operating cash flow that is generated by Stage 1 and Stage 2 will be first used to service any private sector non-recourse project financing costs, and then used to fund construction costs.

Table 15: Operating cash flow during construction

Operating cash flow $bn

Stage 1: M4 – Parramatta to City West Link 0.4

Stage 2: M5 – East Airport Link 0.6

Total 1.0

(4.0)

(3.0)

(2.0)

(1.0)

-

1.0

2.0

3.0

4.0

FY 2014 FY 2015 FY 2016 FY 2017 FY 2018 FY 2019 FY 2020 FY 2021 FY 2022 FY 2023

Government contributions Operating cash flowsNew concession of existing toll road Private sector non-recourse project financingStage 1 monetisation Subordinated accumulating noteConstruction costs Private sector non-recourse project financing costsSMPO costs

Uses

Sources


8.4.4 New concessions of existing toll roads

For the purpose of the Business Case, ~$1.7 billion of financing has been assumed to be generated through the sale of a new concession on the existing M5 West from 2026 to 2060. The sale is assumed to be completed in June 2018.

Valuation of the new concession is based on forecast traffic volumes and revenues provided by SMPO. Cash flows are discounted in line with comparable brownfield toll road projects under current market conditions.

8.4.5 Private sector non-recourse project financing

All private sector non-recourse project financing required for the delivery of WestConnex will be secured against proven traffic, providing the most efficient and cost competitive private sector non-recourse project financing.

Table 16: Private sector non-recourse project financing


Senior project financing ($bn)

Subordinated project financing

($bn) Total ($bn)

Stage 1: M4 – Parramatta to City West Link 2.0 0.8 2.8

Stage 2: M5 – East Airport Link 2.0 – 2.0

Total 4.0 0.8 4.8

Only a maximum of $2.8 billion (secured against Stage 1) of project financing is outstanding at any point in time. Project financing against Stage 2 is procured post the monetisation of Stage 1.

It is expected that market capacity will be sufficient to efficiently and competitively source these amounts as they are required.

ICRs generated by WestConnex are consistent with investment grade ratings for the project financing. ICRs generated by the respective development stages from initial drawdown to FY 2024 are as follows:

Stage 1: Senior project financing minimum ICR of 1.8x, and average of 2.3x

Stage 1: Total project financing13 minimum ICR of 1.3x, and average of 2.1x

Stage 2 and Stage 3: Senior project financing minimum ICR of 1.7x, and average of 2.6x

The following chart shows the private sector non-recourse debt ICRs over the construction period for WestConnex. It can be seen that ICRs are robust during Stage 1 construction. The Stage 1 ICRs are further optimised at the point of monetisation for Stage 1 through a regearing. For Stage 2 and Stage 3, the amount of senior debt raised produces ICRs consistent with an investment grade credit rating.

Figure 7: ICR for senior and total project financing

13

Includes both senior and subordinated project financing

1.00x1.10x1.20x1.30x1.40x1.50x1.60x1.70x1.80x1.90x2.00x2.10x2.20x2.30x2.40x2.50x

Stage 1 senior project financing ICR Stage 1 total project financing ICR

Stage 1 total project financing ICR post monetisation Stage 2 & 3 senior project financing ICR

Stage 1 only ICR post monetisation


8.4.6 Stage 1 monetisation proceeds

Stage 1 is assumed to be monetised in December 2019, approximately twelve months post final development completion. Based on precedent transactions, the financial markets ascribe full value to toll roads at least 12 to twenty-four months post construction completion. This timeframe provides the ability for traffic volumes to stabilise and financial markets to more accurately forecast traffic volumes. Given the strong historical performance of the M4 Motorway, 12 months following construction completion has been assumed as a sufficient timeframe for the stabilisation of traffic volumes.

The monetisation of Stage 1 delivers ~$4.1 billion in gross proceeds, from which ~$3.3 billion is invested in the development of Stage 2 and Stage 3. These proceeds provide financing from FY 2020 to FY 2023, removing the need for additional private sector non-recourse project financing or further Government contributions over this period.

Table 17: Stage 1 monetisation proceeds 14

Use of proceeds $bn

Gross monetisation proceeds 4.1

Transaction costs (0.1)

Repayment of private sector non-recourse subordinated project financing (0.8)

Total 3.3

Private sector non-recourse subordinated project financing is assumed to be fully repaid at the time of monetisation. A prepayment penalty, consistent with market precedent, has been assumed for early repayment, consistent with current market requirements.

8.4.7 Subordinated Accumulating Note

In FY 2023, WestConnex’s ability to secure either senior or subordinated private sector non-recourse project financing is limited by the toll revenues generated by Stage 2 (as Stage 1 has been monetised, the State no longer has rights to the Stage 1 toll revenues). However, future growth in traffic revenues represents a pool of potential financing that can be captured.

As such, a hybrid financing instrument is proposed to provide the necessary financing to complete the development of WestConnex. The proposed Subordinated Accumulating Note is an example of a hybrid instrument that can be tailored to WestConnex’s requirements and is anticipated to appeal to a range investors active in Australian infrastructure market as well as potentially retail investors. It would provide a level of running yield with a larger return on redemption (expected to be linked to the value and timing of monetisation)

There is currently a large appetite for hybrid instruments in Australia with in excess of $11 billion of retail hybrid instruments raised by a variety of financial and corporate issues over the last twelve months in Australia, with growing interest from institutional and professional investors.

The majority of the hybrid issuances in the Australian market have been undertaken by financial institutions. General feedback received by Macquarie in this market is that investors are seeking to diversify away from financials and would be very receptive to an infrastructure related hybrid product.

The key terms of the proposed Subordinated Accumulating Note are consistent with the current market expectations for hybrid products of this nature.

Table 18: Subordinated Accumulating Note indicative terms

Term Indicative Subordinated Accumulating Note requirement

Market capacity – Currently expected to be ~$1.0 billion to ~$1.5 billion, however potential to expand the capacity by targeting marketing and demonstration of potential deal flow

– The Subordinated Accumulating Note would be sized so that senior debt plus the Subordinated Accumulating Note is no greater than 50% of the expected monetisation value of WestConnex and would not be expected to be raised any earlier than 18 months before a potential monetisation, giving investors comfort on value and monetisation timing

All in return – 400–500 basis points over agreed reference rate at point of issue, some of which may be partially dependent on level traffic/revenue/value generated by the project

Coupon payments – Targeting a minimum cash yield of around 5% per annum

14



Term Indicative Subordinated Accumulating Note requirement

Conversion rights – Likely to include an option to convert to ordinary equity at point of monetisation, according to an agreed conversion factor

Repayment rights – Limited, although likely to have option after defined point in time (eg 5 years) to require conversion into ordinary equity if not redeemed, according to an agreed conversion factor

The final terms of the hybrid product will be dependent on a range of factors including market conditions at the time of issue, the requirements of WestConnex and the detailed risk allocation sought by the State.

The Subordinated Accumulating Note is utilised in the final year of construction to minimise the construction risk and greenfield traffic risk investors would price into the product. Including the Subordinated Accumulating Note, Stage 2 and Stage 3 support a total of ~$3.0 billion of private sector project financing at construction completion of Stage 3.

Table 19: Private sector non-recourse project financing 15


Senior project financing ($bn)

Subordinated project financing

($bn)

Subordinated Accumulating

Note ($bn)Total ($bn)

Stage 1: M4 – Parramatta to City West Link 2.0 0.8 – 2.8

Stage 2: M5 – East Airport Link 2.0 – 1.0 2.9

Total 4.0 0.8 1.0 5.8

8.4.8 Summary of sources and uses

A summary of the annual construction financing sources and uses is detailed in Table 19, clarifying the volume and timing of the private sector non-resource project financing requirements.

Table 20: Construction financing sources and uses summary 16

FY14 FY15 FY16 FY17 FY18 FY19 FY20 FY21 FY22 FY23 Total

Sources ($bn)

Restart NSW Fund contribution

0.1 0.2 0.3 0.4 0.8 – – – – – 1.8


0.1 0.2 0.3 0.4 0.8 – – – – – 1.8

Operating cash flows – – – 0.1 0.2 0.1 0.1 0.2 0.2 0.2 1.0

New M5 West concession

– – – – – 1.6 0.1 – – – 1.7


– – – – 1.3 0.9 0.6 – 1.6 0.3 4.8

Stage 1 monetisation proceeds

– – – – – – 1.5 1.6 0.1 0.1 3.3

Subordinated accumulating note

– – – – – – – – – 1.0 1.0

Interest revenue – – – – 0.01 0.06 0.13 0.06 0.01 0.02 0.3

Total ($bn) 0.1 0.4 0.7 1.0 3.1 2.6 2.5 1.8 1.9 1.6 15.6

Uses ($bn)

Stage 1 (0.1) (0.4) (0.6) (0.7) (1.6) (0.9) – – – – (4.2)

Stage 2 – – (0.03) (0.3) (1.4) (1.2) (1.8) – – – (4.7)

Stage 3 – – – – (0.05) (0.4) (0.6) (1.8) (1.8) (1.4) (6.0)

SMPO costs (0.01) (0.01) (0.01) (0.01) (0.01) (0.01) (0.01) (0.01) (0.01) (0.01) (0.1)

15

Note: numbers may not add up to due to rounding 16



FY14 FY15 FY16 FY17 FY18 FY19 FY20 FY21 FY22 FY23 Total

Private sector non-recourse project financing costs

– – – – (0.1) (0.1) – – (0.1) (0.2) (0.6)

Total (0.1) (0.4) (0.7) (1.0) (3.1) (2.6) (2.5) (1.8) (1.9) (1.6) (15.6)

8.5 Downside sensitivity analysis Downside sensitivity analysis has been undertaken to demonstrate the financial strength of the Reference Financing Strategy, with the ability to deliver WestConnex under severe downside scenarios. Downside sensitivities scenarios analysed include:

D&C costs: + 10 per cent

Forecast traffic volumes: - 10 per cent

Operating costs (including maintenance): + 10 per cent

Private sector project financing margin: + 50 basis points

Base rates: + 50 basis points.

The downside sensitivity analysis has been approached from the perspective that only the private sector non-resource project financing is impacted under the scenario, with no change in the level of State or Commonwealth Government financing provided.

It should be noted, the sensitivity analysis does not take into consideration the private sector’s ability or capacity to provide any additional project financing required under the downside sensitivity scenarios. Further, any credit rating impacts caused by the incremental financing requirements under the downside sensitivities have not been considered.

Table 21: Downside sensitivity analysis

Total private sector

non-recourse debt

($bn)17

Additional financing

compared to Base

Case ($bn)

Reference Financing Case 4.8 -

D&C costs +10% 4.8 1.9

Traffic volume -10% 4.2 1.2

O&M costs +10% 4.7 0.1

Interest rates +50bps 4.5 0.3

Stage 1 monetisation equity IRR + 50bps 4.8 0.3

New M5 West concession valuation WACC +50bps 4.8 0.1

The sensitivity analysis results above demonstrate the relatively robust nature of the WestConnex development.

As is typical with projects of this nature, the two sensitivities with the biggest impact on the financing requirement are D&C costs + 10% and traffic volume - 10%. This analysis has not:

Identified the likelihood of these downside sensitivities occurring; nor

Sought to identify the source of this additional financing, merely highlight the extent to which additional financing is required.

8.6 Impact on State credit metrics Based on the feedback received from the respective rating agencies the Reference Financing Strategy is anticipated to have no impact on the State’s credit rating prior to June 2025. All sources of financing utilised are expected to be excluded from tax supported debt:

Restart NSW Fund contribution: treated as an equity investment, capable of achieving a capital return, assumed not to affect credit metrics as it is not funded by State debt

17

Senior and subordinated debt only, excluding any Subordinated Accumulating Notes


Commonwealth Government contribution: assumed to be treated as a grant from the Commonwealth with no obligation for WestConnex or State to repay

Operating cash flow and interest revenue: incremental revenue not available in the absence of WestConnex

New concessions of existing toll roads: proceeds raised are not tax supported debt as there is no obligation to repay these funds

Private sector non-recourse project financing: excluded from State tax supported debt as set out in Section 6

Stage 1 monetisation proceeds: recycled by WestConnex, assumed not to affect credit metrics given no obligation to repay.

It should be noted that the achievement of investment grade credit metrics is important for the rating agencies’ view of the project’s strength and self-sufficiency. These will be driven predominately by the traffic forecasts. Qualitative factors, such as the State’s record of not supporting externally financed infrastructure projects in distress (eg Cross City Tunnel, Lane Cove Tunnel), will also be taken into account.


9. RECOMMENDATION

9.1 Reference Financing Strategy A private sector non-recourse project financing strategy is recommended as the Reference Financing Strategy for the Business Case. This structure has been selected on the basis it delivers all five key financing objectives required by the State, whereas all other identified financing structures fail to deliver at least one of the key financing objectives.

Table 22: Reference Financing Strategy’s delivery of the State’s financing objectives

High priority financing objectives

Value delivered to the State – State retains 100% equity ownership in all stages until they can be fully valued

by the private sector

– A capital recycling strategy enables respective Governments to limit their direct contribution to the existing $1.8 billion contribution from the Restart NSW Fund and the assumed matching contribution from the Commonwealth Government


– No additional State financing required

– No impact on the State’s credit ratings anticipated


– Private sector project financing structured with investment grade credit metrics

– Hybrid and equity products expected to resonate with a combination of superannuation funds, retail investors and infrastructure investors

– Scale of capital raisings structured to be within current market capacity expectations


– State has expressed the ability to asses and retain traffic risk until it can be fully valued by the private sector

– State has expressed the ability to manage construction procurement rather than financiers if it provides greater efficiency given cost and linkage to initial traffic levels

– Construction risk can be transferred to contractors through appropriate contractual structures if required


– No material contingent liabilities anticipated to impact the State’s balance sheet

In addition to delivering the State’s financing objectives the Reference Financing Strategy also provides the State with maximum flexibly. The implementation of the Reference Financing Strategy does not prevent the State from utilising a range of alternative financing strategies and approaches in combination, depending on the characteristics of the development stage(s) and market conditions.

Further analysis, testing and market consultation regarding the Reference Financing Strategy will be conducted post the finalisation of the Business Case in July 2013. This additional analysis will be conducted as the State moves towards the pre-implementation and execution phases of WestConnex.

9.2 Key risks and mitigants The Reference Financing Strategy exposes the State to an acceptable level of construction and traffic risk. This change in risk profile, compared with traditional infrastructure procurement structures, requires the State to develop appropriate mitigation strategies and internal review structures to ensure the risks are properly managed and monitored.

The Reference Financing Strategy provides the State with significant precedents for risk mitigation strategies. Based on Macquarie’s experience in comparable infrastructure developments, risk mitigation strategies have been developed and will be implemented as part of the execution of the Reference Financing Strategy to ensure the State is not inappropriately exposed to any risk.


Table 23: Identified risks and mitigation strategies

Key risks Mitigants

Traffic/demand risk – Staged introduction of traffic (and project financing) in a brownfield corridor provides best mitigation

– Financiers will require additional independent traffic forecasts beyond State’s forecasts

– Well communicated rationale for introduction of tolling on new and existing motorways

Market risk – Seek to raise private sector non-recourse project financing prior to requirement to maintain liquidity

– Diversifying financing sources

– Flexibility to access capital markets post construction

Construction risk – Source D&C contracts that substantially pass through construction risk to the private sector

– Seek strong D&C security packages

– Provide comfort to financiers that project financing will be serviced under delay scenarios

– Dedicated SPV management capability to drive contractors delivery and act in best of interests of capital providers

Interest rate risk – Recommend hedged position until 3 to 5 years post toll commencement

– Consideration to be given to longer term hedging requirements

Credit rating risk – WestConnex SPV to demonstrate self sufficiency through investment grade metrics

– Legally structured to allow no recourse to the State

– State to demonstrate no political willingness to support the private sector non-recourse project financing

State equity ownership of WestConnex

– Demonstration of State’s incentive to deliver WestConnex

– Stated intention to undertake monetisation process post construction to recycle capital

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