MCC: Clifford Chance boasts a top-ranked Latin America practice and is handling some of the most interesting, high-profile projects in the region. What are you hearing from clients engaged in the region?
Longhin: We are getting clear signals that demand is growing for project investment opportunities. On the project finance side, we work primarily in the energy and infrastructure sectors with lenders and sponsors. We talk to investors all over the world and have seen the project bonds mantra come and go in the market, leaving a reliable dose of skepticism. But when we started hearing of renewed interest, we felt this time was different, and indeed it is.
Investors weren’t getting the returns they wanted in Europe and Asia. Either they couldn’t get the risk profile they wanted or there was a mismatch relating to the types of infrastructure projects being offered. They started looking at Latin America for these projects, and that trend has really consolidated. Along with my singular focus in the region, working on the banking, finance and capital markets side, Gianluca brings significant expertise in project bonds, for which we expect the demand to grow as the region moves toward the capital market alternative.
MCC: Let’s talk about some of the firm’s groundbreaking projects and their implications for developments in the region. Tell us about the award-winning Chaglla hydroelectric project in Peru.
Longhin: It was the first project finance in which the Brazilian Development Bank, or BNDES, participated, and it did so concurrently as the agency and the development bank. By far, BNDES finances most of Brazil’s infrastructure, but they’ve never gone out of Brazil on a true project finance basis. In addition to BNDES, the project involved the Peruvian Development Bank (COFIDE) and the Inter-American Development Bank (IDB), so there were three development banks and then five commercial banks behind the IDB. There were multiple perspectives and interests at play, and it was a real challenge to structure the deal and get around some of the issues. But it was very successful.
It was a very interesting negotiation, especially the inter-creditor agreement, which was hotly debated. In the end, we created a new platform for this type of financing in the region, and we hope it will be replicated in the next round of financings expected in the market for big projects like hydro plants in Peru.
MCC: Tell us about the Eten cold reserve power plant in Peru and your innovative work on the project bond side.
Bacchiocchi: The Eten project involved a number of key firsts. It was the first greenfield project bond in Latin America to be financed through the international capital markets. To be clear, this was a true greenfield project involving a transaction whereby, literally, the revenues of the project would be used for debt service. There was not even a shovel in the ground at the beginning.
Eten was the first international project bond in Latin America with a partial credit guarantee, in this case a 20-25 percent guarantee of the overall principal balance of the notes from the Latin American Development Bank (CAF), which led to a better credit rating for the transaction and created liquidity should it be needed. Given that complete credit guarantees are the norm, it was challenging to incorporate a partial guarantee into a structure with a multi-lateral. Also, Eten was the first project bond not only for a power plant, but for a unique type called a “cold reserve power plant.” The transaction was done through a concession process, meaning the plant actually doesn’t get paid to operate; it gets paid to stand ready to operate in response to energy demand.
BTG Pactual selected us to represent them. We got involved at the very beginning of the financing stage and saw it through to the end, from creating the term sheets to drafting all the documentations. Keep in mind this was the first deal of its size for BTG as well. We structured it as a 100 percent variable funding note bond, meaning that the proceeds were not all raised on day one. We issued variable-funding notes so that there were seven draws throughout the life of the construction, one at closing and then multiple draws down the road. This was to reduce the negative carry for the project: you’re paying the investor only the commitment fee during the funding period and only the interest after funding.
The variable funding component added interesting complexities to the overall transaction structure as well. We devised a new approach from a securities perspective and structured a 4(a)(2) Reg S transaction so we could target U.S. and international investors. And we can add to the list of firsts not only the technical challenges but also our work in helping the bank and the sponsors do a deal that was completely new to them. The model worked well for Eten, and now we’re using it for other deals.
MCC: What factors within these deals are most attractive to institutional investors?
Bacchiocchi: We are seeing that countries with a solid credit rating, for example, Chili, Mexico, Peru or Panama, are not able to print enough bonds to satisfy investor interest in the region. That creates demand for financing infrastructure projects in the capital markets where the country, as the obligor, determines the ultimate credit risk.
We’re also seeing interest in traditional project bonds that are financed by the revenues of the project itself, such as deals out of Peru, Chile, Mexico and other countries with a good credit rating. This reflects a demand for longer-dated paper, meaning tenures of 15 to 20 years, rather than the typical 10 years. Investors want that long-term exposure, which is driving down the interest rates, especially with countries like Peru, which is now triple B+ with both S&P and Fitch, and A- with Moody’s. As these countries get stronger, investor appetite is increasing, and not just for the dollar-denominated deals but also for transactions in local currencies, which are starting to develop. We’re not fully there yet, but it’s developing and looks to us like a positive sign for the region.
Longhin: To put things in context, infrastructure, as an asset type, is well-known and has been for years, especially to the big U.S.- based investors. U.S. infrastructure was typically financed through the municipal bond market, and, more recently, access to muni bonds and tax efficient structures got investors thinking about other types of sectors and assets. Suddenly, they realized that investing in infrastructure enables them to match long-term liabilities with the long-term cash flows that these projects are generating. So we saw this phenomenon of U.S. investors started to develop their own infrastructure market outside the muni bonds, with public-private partnerships deals emerging. At the same time, Latin America became interesting because it offered similar types of deals and better yields versus traditional European or U.S. assets. Countries like Chile have a better rating than Spain, Italy and Portugal, and many European countries are rated the same or lower than many Latin America countries.
MCC: Where is the market heading?
Longhin: Very interesting markets are developing these days, and Colombia is clearly one of them because there’s so much to do. The country has been long delayed in terms of infrastructure, not only because of the guerrilla situation but for a number of other internal reasons. The government now recognizes that Colombia doesn’t have the infrastructure to compete, so there is a very strong push to solve that.
Colombia will be at the forefront of energy and infrastructure developments in the next few years. While there are differing opinions as to the specifics, the broad expectation is that investment in the energy and infrastructure will be significant. And even without the energy reform, Mexico will be a big player; with the energy reforms being implemented, it may become the player.
Peru will consolidate its position as a prime jurisdiction for these types of transactions. The system is very well oiled, and they’re comfortable with private sector financing. With much still to be done, I expect that trend to continue. Also, in the interest of lowering the historically very high prices, all Central American countries are extremely active on the energy development side. I currently see them acting as a block in developing renewable projects and other energy-generation sources. Finally, Chile is also a well-consolidated jurisdiction. While we don’t expect many deals there, the five or six in the pipeline will be easily financed.
Bacchiocchi: Panama is another interesting country, and we’re anticipating significant projects there. Panama’s concept is similar to Peru’s, meaning it involves government payment rights used to finance infrastructure projects. We also expect that these projects will start to be financed through the international market.
Longhin: And let me make a more general point in saying that many Latin American economies, such as Venezuela, Ecuador and Argentina, do not operate on a free-market basis, so they are not always considered potential markets for these types of transactions. The truth, however, is that we’re very active in those jurisdictions, only with different structures of financing than the familiar capital markets or bank financing. For example, we just closed the two largest hydro projects in Argentina in many years, involving $4.5 billion financing, which notably is being provided by the China Development Bank. We also financed a $2 billion hydro plant in Ecuador, also financed by the Chinese. So if you put aside different economic and political perspectives, it remains the case that these countries need infrastructure and are finding ways to finance it.
MCC: Clearly, you’ve been doing innovative work in the region. In closing, tell us why Clifford Chance is prepared to meet the challenges of an increasingly globalized Latin American market.
Longhin: Our global presence is a key strength. Clifford Chance subscribes to a model of collaboration that not only extends through our attorneys across a wide network of offices, but also – and significantly – embraces the firm’s philosophy in adopting a lockstep compensation policy. Operating from a “common wallet” means that it doesn’t matter whether the work is done in Spain, Italy, Germany, the U.S. or Brazil. We care only about offering our clients the best team possible, whether that involves partners or associates, and irrespective of their locations. For instance, we often assemble mixed teams in serving Spanish sponsors of Latin American deals, with participating attorneys from New York, D.C. and Madrid. One or another partner will take the lead depending in the issues within the transaction, and these clients are very happy with an approach that gives them full access to the firm no matter what.
With respect to Latin America and the future, let me just say that we are among only a few firms with five partners dedicated exclusively to the region, and our project finance capabilities in the energy and infrastructure sectors are unrivaled. In addition to legal skills and impressive experience in structuring and completing some of the most innovative projects out there, we strive for cultural fluency, meaning that some of our people were educated in Latin America and, therefore, bring a valuable understanding of local jurisdictions. Consistent with the firm’s global philosophy, our team comprises lawyers from Mexico, Costa Rica, Columbia, Peru and other LatAm countries and delivers a unique perspective in terms of client service.
Published March 31, 2015.