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Last week the European Commission and the European Investment Bank (EIB) signed a Cooperation Agreement establishing the Loan Guarantee Instrument for trans-European transport network projects (LGTT).
This new instrument is expected to facilitate greater participation of the private sector in the financing of transport infrastructure of European significance, especially for investments in projects where there is a high level of revenue risk in the early operational period of a project.
The LGTT, which forms part of the Trans-European Transport Network (TEN) program and the EIB's Action for Growth initiative, will partially cover this risk and thereby significantly improve the financial viability of investments. The capital contribution of â‚¬1 billion (â‚¬500 million each from the Commission and the EIB) is intended to support up to â‚¬20b. of total capital investment.
How does the LGTT work? The LGTT is an EIB guarantee, the risk capital for which is jointly provided by EIB and the European Commission, in favor of commercial banks which will provide stand-by liquidity facility ("SBF") in addition to the usual project finance funding instruments. In accordance with the European Commission's report, the SBF can be drawn by the project company in case of unexpected reduction of traffic income of the project during the initial ramp-up period of operation in order to assure service of its senior credit facilities.
It is hoped that the SBF, funded by commercial banks, will benefit from a guarantee from the EIB and could be available for draw down in the initial ramp-up period only after construction of the project is completed. All repayments to be made on the outstanding amounts of the SBF (on a cash sweep basis) are in principle subordinated to the senior loans underpinned by it, subject to specific needs of a given financial structure.
In accordance with the EC's publication, if at the end of the availability period there are still amounts outstanding under the SBF (interest, interest accrued and principal), the LGTT guarantee can be called upon by the SBF providers. The EIB would pay out the SBF providers and then become subordinated creditor to the project. Once EIB is creditor to the project, amounts due under the LGTT will still rank junior to the debt service of the senior credit facility and would be repaid either on a cash sweep basis based on the post senior debt service available cash (default solution) or on a fixed reimbursement profile of the LGTT debt.
The Loan Guarantee Instrument
The investment required to complete and modernize the Trans-European Network is reported to exceed the capabilities of public funding. For the period 2007-2013 alone, the investment needs for TEN projects is expected to come to some â‚¬300 billion. A significant financial gap in public sector resources is anticipated and it will only be overcome by mobilizing private investment in large infrastructure projects. The LGTT - an EIB guarantee for subordinated debt in the form of a stand-by liquidity facility to be provided by commercial banks - counters this problem by providing security for the initial traffic revenue risk over the first 5-7 years of a project's operation. The LGTT assists the projects in coping with the initial risk while relying on the long-term perspective of the project being financially viable.
The design of LGTT, by improving the ability of borrower to service senior debt, is intended to enhance the overall credit quality and thereby encourages a reduction of risk margins applied to senior loans to the project. These savings are supposed to surpass the cost to the borrower of the guarantee, resulting in added financial value for the project. The incorporation of LGTT, by rendering private sector investment into a project more attractive and therefore less costly, will thus provide benefits to the society as a whole.
The European Commission reported that the LGTT will complement two other financial instruments of the European Commission tailored for TEN projects and aimed at increasing the participation of private capital. The Risk Capital Facility offers risk capital to investment funds focused on providing equity for TEN projects, whereas availability payment schemes can benefit from a construction cost based grant during the operational, post-construction phase of the project.
Which transportation projects can benefit from the LGTT? Projects, or part of a project, of common interest in the field of transport in the framework of decision number 1692/96/EC compliant with Community laws and for which financial viability is based in whole or in part, on revenues, tolls or other user-charges based income. The stand-by liquidity facility guaranteed by the LGTT should not exceed 10 percent of the total amount of the senior debt. The amount of the guarantee is subject to a maximum ceiling of â‚¬200m. per project pursuant to the EIB Structured Finance Facility rules ("SFF"). The SFF is said to be the EIB's main facility for increased risk taking, established in order to support projects of European importance including large-scale infrastructure schemes.
What risks does the EIB take under the LGTT scheme? Under the LGTT, the EIB has proclaimed it will accept exposure to higher financial risks than under its normal lending activities. Effectively, if the EIB guarantee is called upon by the stand-by liquidity facility providers at the end of the availability period, the EIB would reimburse the SBF providers and become a subordinated lender to the project, however it would come ahead of any payment to the equity providers and related financings. Once the EIB has become a creditor to the project, amounts due under the LGTT will also rank junior to the debt service of the senior credit facility. The EIB, by taking such subordinated risk through the LGTT guarantee, hopes to help the project to handle the revenue risk of the early years of operation while maintaining the long-term perspective needed to ensure the project's financially stability.
The author is the head of the International Department at Joseph Shem-Tov Law Firm
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