Project Finance and Guarantees April 1995 Private Sector and Infrastructure Vice Presidency · Project Finance Group Guarantees Improve Terms of China's Private Borrowing The Yangzhou and Zhejiang Thermal Power Projects China suffers from a shortage of electrical The guarantee for the Yangzhou project power. The difference between peak demand marked the first use of a World Bank guarantee and supply of electricity is currently estimated in China, while the guarantee for the Zhejiang to be 10-20 percent in most areas. In addition, project, in addition to enabling China to borrow China's economy is projected to grow by at long-term funds, presented an opportunity to The Bank's guarantee takes one of least 8-9 percent annually over the next five improve the terms of the financing while two forms: partial credit or partial years. In order to meet the parallel increase in reducing guarantee coverage. The Zhejiang risk. Partial credit guarantees are electricity demand and overcome the current guarantee also incorporates a guarantee typically used for sovereign shortage, China will require about 100,000 release option for lenders, the first time such an borrowings to extend maturity. megawatts of new power-generating capacity option has been included in a World Bank Partial risk guarantees, in contrast, are typically used to attract private by the year 2000. This additional capacity will guarantee. financing to private sector projects require investment of approximately US$15-20 which would not otherwise be able billion per year, much of which is expected to The Projects to obtain financing. In these cases, come from off-shore sources. Both projects involve construction of large, the Bank backs government In 1993, China borrowed approximately coal-fired thermal power plants and expansion obligations made to a private sector project. The Hub Power Project in US$6.8 billion in world financial markets. A of related transmission networks. The projects Pakistan, which reached financial significant portion of this borrowing was raised will be implemented by the state-owned closure in December 1994, used by large Government agencies, such as the provincial utilities on Jiangsu and Zhejiang. partial risk guarantees to mobilize China International Trust and Investment Total financing is US$1.1 billion for the 1,200- US$360 million of its financing. It Company (CITIC) and Guangdong International megawatt Yangzhou project and US$1.6 billion will be the subject of a future Project Trust and Investment Company (GITIC), which for 1,800-megawatt Zhejiang project. The Finance and Guarantees issue. have access to foreign exchange. Though projects represent a major expansion in the China's sovereign debt carries an above- generating capacity of their respective investment-grade rating (BBB+/A3), it has been provinces (about 15% in Jiangsu and 27% in unable to attract long-term private debt Zhejiang). The Bank is also providing direct capital--the average maturity of its 1993 loans to each project. borrowings was only about six years. Lack of long-term financing can be an impediment to The Bank's Guarantees development because infrastructure projects Partial credit guarantees were used for both require long-term debt in order to match debt projects. The partial credit guarantee covers a service with revenues. portion of a financing against all risks. This Over the past year, World Bank contrasts with the partial risk guarantee, which guarantees enabled China to obtain long-term can cover up to the entire amount of a financing (15-year) private financing at favorable terms against specific risks. for two public sector infrastructure projects, the The guarantees were structured to extend Yangzhou and Zhejiang thermal power projects. the maturity of commercial loans and provide Project Finance and Guarantees April 1995 China with greater flexibility in accessing world and growing emerging market, in addition to the financial markets, e.g., interest rate (fixed or direct benefit derived from the guarantee itself. floating) and currency (to match procurement The lenders also have the benefit of an contracts). At the same time, the Government optional cross default provision under the World and Bank wished to minimize their exposure Bank Loan Agreement, which entitles the Bank under the guarantee. The borrowing terms and to suspend or accelerate all of its loans in the guarantee structure for each project are event of default under the commercial bank summarized in the table on the following page. loan agreement. Reciprocally, the commercial The Bank's guarantee for Yangzhou loan agreements also have cross default covers, on an accelerable basis, repayment of provisions vis-à-vis the events of default under principal outstanding from year 10.5 onward on the Bank loan agreement. a US$120 million equivalent loan, comprised of Guarantee fees for private sector projects are coverage-specific and dollar and yen tranches. This means that are set on a project-by-project lenders are taking risk on principal repayments Cost of the Guarantees basis. The fee ranges from and interest payments due prior to year 10.5. Two fees are charged for the World Bank's 0.40% to 1.0% per year and is The guarantee for Zhejiang improved on partial credit guarantee. A standby fee of applied on the guaranteed the Yangzhou structure by covering, again on 0.25% is charged on the present value of the amount. However, to maintain its an accelerable basis, repayment of principal maximum guaranteed exposure during the uniform pricing policy, the Bank returns to the government any outstanding from year 11 onward on a US$150 noncallable period. (The present value is guarantee fee exceeding 0.25%, million equivalent loan, also structured in two calculated using the Bank's long-term thereby making the net cost to the tranches as in Yangzhou. In addition to borrowing cost in the currency/ies of the government 0.25% stretching the uncovered term of the loan, the guaranteed financing.) A guarantee fee, in this pricing on the Zhejiang loan was improved, case 0.25%, is charged on the guaranteed resulting in a lower borrowing coast to China. amount during the callable period. The guarantee structure of each project, including Benefits of the Guarantees the Bank's exposure, is depicted in the The Bank's guarantees offer China several diagrams on the following page. benefits: These fees, which are paid by the · Maturity--the 15-year maturity for both borrower (in this case, the Government of financings is significantly longer than that China), can be paid either on an installment available to China without use of the Bank's (periodically) or up-front (lump sum) basis. For guarantee (about six years at the time of the the Yangzhou project, fees were paid up-front, Yangzhou transaction). while for the Zhejiang project, fees will be paid · Cost--the financing cost is very competitive in installments. (see summary table) A guarantee release option is included in · Flexibility--China was able to target the the Zhejiang guarantee, giving lenders the specific market, currencies and interest option to cancel the guarantee in exchange for rates which best fit project needs. additional loan interest. This option is designed · Leverage--for the Yangzhou project, the to encourage lenders to re-examine China's guarantee helped China raise US$120 credit to take advantage of the higher spread million equivalent while utilizing Bank and cancel the guarantee on a voluntary basis. exposure amounting to only 22% of this The financial cost to China of the borrowing amount (US$26 million equivalent, present would remain unchanged. value basis); for the Zhejiang project, the guarantee is helping China raise US$150m Lending Program Treatment equivalent while utilizing Bank exposure of Partial credit guarantees are counted in a 20% of this amount (US$30 million, present country's lending program at the present value value basis). of the maximum exposure. The Yangzhou Additionally, the guarantee offers several project, for example, has nominal exposure of advantages to lenders. The guarantee provides US$57 million, or US$26 million in present private lenders an opportunity to participate in a value terms, since the guarantee is not callable World Bank-appraised project in an important until year 10.5 of the loan (see diagram below). Project Finance and Guarantees April 1995 This leverages the lending program by US$94, and Zhejiang guarantees, please contact or by a ratio of 3.6:1. The Zhejiang project has Mr. Kyoichi Shimazaki (tel. 202-473-4835), or a leverage ratio of 4:1. Ms. Tomoko Matsukawa (tel. 202-473-1225) For more information on the Yangzhou, Guarantee Structures Yangzhou Thermal Power Zhejiang Thermal Power Project Average term for Average term for US$120 China without US$150 China without million World Bank million World Bank Additional uncovered Additional uncovered risk assumed by risk assumed by commercial banks commercial banks 59 64 World Bank World Bank Guarantee Guarantee 26 30 Present value of Present value of max exposure max exposure 0 2 6 10.5 15 years 0 2 6 11 15 years Total uncovered risk assumed by Total uncovered risk assumed by commercial banks commercial banks China: Summary of World Bank-Guaranteed Financings Yangzhou Zhejiang Financial Closure May 1994 March 1995 (expected) Financing Mobilized Under US$120m equivalent in two loans: US$150m equivalent in two loans: Guarantee · US$90m syndicated Eurodollar loan · US$100m syndicated Eurodollar loan from commercial banks from commercial banks · US$30m equivalent Japanese yen loan · US$50m equivalent Japanese yen loan from from insurance companies insurance companies Borrower People's Republic of China People's Republic of China Beneficiary Jiangsu Provincial Electric Power Co. Zhejiang Provincial Electric Power Co. Maturity/Grace 15/5 years 15/5 years Interest Spread US$ Loan: LIBOR + 0.4% US$ Loan: LIBOR + 0.345% J¥ Loan: Fixed at 0.3% over the Japanese Long- J¥ Loan: Fixed at 0.05% over the Japanese Long- Term Prime Lending Rate (LTPR) for the first Term Prime Lending Rate (LTPR) for the first ten ten years, re-fixed at LTPLR flat for remaining 5 years, capped at 5.15%, re-fixed at LTPLR flat for years. remaining 5 years. Guarantee Coverage Accelerable guarantee covering principal Accelerable guarantee covering principal outstanding over years 10.5 ­ 15. outstanding over years 11 ­ 15. World Bank Exposure Under US$59m (48% of total loan) US$64m (43% of total loan) Guarantee Lender's Guarantee Release None After year 5 Option World Bank Lending to Project US$350m US$400m To obtain a copy of the brochure, The World Bank Guarantee: Catalyst for Private Capital Flows, please call (202) 458-0834. Please direct editorial comments to Andres Londono, tel. (202) 473-2326.