Year 2008

 October 2008

IPPs and project risk

The Finance Lawyer

By WIROT POONSUWAN

It has been more than a decade since Thailand successfully launched its independent power producer (IPP) programme, which has built up a new industry that has helped create a high surplus in electricity reserves. Setting a model for Asia, the country attracts large numbers of investors worldwide every time it announces the opening of a new round of IPP bidding.

Project financing for IPPs remains appealing to commercial banks, while infrastructure financing is largely carried out by the government itself, backstopped by international co-operation and development lending agencies.

Financeability and risks: To be bankable and raise finance, IPP projects - unlike government infrastructure projects - cannot bear unusual risks unacceptable to the international and local banking community.

While there is no right or wrong risk-allocation between parties with high stakes in a project, there is a general perception of what is "typical" and what is not.

Banks will look at a project's risk matrix, illustrating risks distributed among: the project company; the power purchaser; the Thai government as the host; the sponsors or shareholders; the EPC contractor who carries out the engineering, procurement and construction; the fuel supplier; the lenders themselves; the insurers; and the O&M operator in charge of operation and maintenance after commissioning when the project starts its commercial operation.

All the project agreements will be looked at as a structure to ascertain the level of risk the lenders can accept: the power purchase agreement, the EPC contract, the fuel supply agreement, the insurance programmes, the shareholders' agreement, the government support agreement and the operating and maintenance agreement.

However much banks dislike to see the project company burdened with risks, the fact is that, after all fair and just allocation, the project company will end up taking the highest amount of risk. One or two of these risks are quite pronounced for Thailand, arising from its people's heightened awareness of their rights and the environment surrounding them, a repercussion of the country's development and the interconnected world.

Location risk: This type of risk is very real in an emerging nation such as Thailand and could affect the economic as well as physical viability of the project. At the very least, it could lead to such other major risks as safety risk, delay in completion, and non-completion of the project.

If the project happens to be located in the wrong area, no matter how clean the technology is, widespread protests from the communities in the area can grow by the day based on environmental concern that the presence of a power plant will alter the people's surroundings, ruin their agriculture-based livelihood and worsen their quality of life.

The optimum position for the project company requires massive community development programmes with high budgets and vast human resources in place long before the project is launched. These will persuade people with tangible social and income-earning projects that truly benefit communities - the ultimate long-term goal being to integrate the power plant and the company's employees into those communities, subject to the plant's safe distance from residential and agricultural areas.

There is an encouraging trend in the excellent models run by the government in some regions of the country, which can be emulated. A government support agreement in site selection and co-operation would be ideal, but has yet to materialise.

Power purchase agreement: The PPA is the epicentre of why the project exists. The great health and strength of the Thai power purchaser inherently mitigates the credit risk - one that lenders from the world's major financial centres have enthusiastically accepted for decades.

Practically, the last thing the project company and lenders will worry about is a default in payment by the power purchaser - this perception is well-supported by facts and figures, and the purchaser's dominant presence is there for all to see and be dazzled by at its headquarters.

The credit risk of the power purchaser, a crucial post-commissioning risk, is better by far than the international standard. Normal Thai elements of risk - such as foreign exchange risk and the sharing of risks between the project company and the power purchaser - will offer no surprise to sponsors and banks' credit committees.

Wirot Poonsuwan is a former chairman and managing partner of Clifford Chance Wirot as well as a former partner of Baker & McKenzie in Bangkok. He now has his own firm, Poon & Poon, Attorneys at Law. He can be reached at wirotp@poonandpoon.com

By Bangkok Post

October 21, 2008

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