PFI Japanese Project Finance Roundtable 2015: Part 2

Rod Morrison: And as an international firm, it’s obviously highly beneficial that you’re based here in Tokyo. Do you have any competitors as an international firm?

Alexander Borisoff: That’s a softball (laughter). We do. I think the way that we operate; it’s really on an integrated basis. I spent 12 years in the US offices in New York. We work very collaboratively across our offices, wherever the project is taking place. I think it is important in this market to have a very strong presence.

Since I arrived here a few years ago we’ve more than doubled the size of our team that’s focused uniquely on projects and this industry. And a lot of the benefit of that is being available in real time really to support the companies here. It’s such a big part of what it is that we do. Here in Tokyo we’ve got in a smaller space more of the major participants in this market than anywhere else in the world, and so it makes sense to have a team here that can support that.

Rod Morrison: Moving on to our first theme of the afternoon, which concerns the Japanese banks. We’ve already heard quite a lot actually already about the way that the market is evolving and looking at new markets away from the mega projects to more interesting, challenging projects.

What are the ambitions of the Japanese banks and their global project finance market sector and what strategies are being fulfilled to pursue those ambitions?

Koichiro Oshima: This will be probably similar for all the Japanese megabanks, but one thing, the domestic market is not growing. That’s obvious. So we have to look to the international side for growth. And when you look at the international side, where capital is needed, money is needed; areas would be energy and infrastructure.

That’s the kind of observation we knew this six or seven years ago and already started expanding overseas. And in those areas, project finance was one of the major products we could provide. That’s one of the reasons we’ve been growing project finance. And our approach basically is to serve our clients, so wherever our clients are, whether they are Japanese or non-Japanese, we try to provide service there.

And we try to be product-agnostic, although we are a project finance group. If it’s in the Americas where there are multiple choices between bank loans, project bonds or private placements, we try to be able to provide all those services and leave it to the choice of the client. That’s one thing we’re trying to do. That’s our approach to the market.

Rod Morrison: Do you find it easier where you have large deposit-taking capabilities to lend into the project market?

Koichiro Oshima: Project finance requires long-term debt and it’s large-scale. Our largest deposit basin is in Japanese yen, so even though we do have a very large subsidiary in the US, our funding base has to come from the Japanese deposit market. We try in all those markets to be able to fund ourselves in local currencies. And that’s still one of the challenges.

Rod Morrison: Moving on to Fukumura-san. Obviously you’re not in a bank but you mentioned some challenges for banks that you might be presenting them with in terms of new markets, merchant markets, that sort of thing.

Toshi Fukumura: For Japanese sponsors, we are looking for growth and looking for the place to make a next-generation investment. And, as I mentioned earlier, we have to shift our attention to the new markets, emerging markets, for the PPA-backed conventional IPP projects.

But sometimes we see projects that provide only local currency, not hard currency; projects in Africa, in Latin America. Whenever we work on a project, one of our strengths is we have a great relationship with Japanese institutions, lenders. They always give us great support in terms of conditions and pricing. But I don’t know, sometimes when a project is financed in local currency we can’t rely on Japanese financing, so we have to work with foreign banks and we sometimes lose our competitiveness.

So I am very curious to know Japanese lenders’ views on the lending for project financing in local currency, especially in those emerging markets.

Koichiro Oshima: It’s truly a good comment, question. The Japanese banks have always been strong in the energy sector where our projects could be financed in US dollars or hard currencies. Once it comes to local projects, especially when the revenue is local currency, and especially in infrastructure or sometimes in power, it’s always a struggle how to finance those.

What BTMU has been doing is two things. First, working with local banks to get a funding source, a long-term funding source in that region. And two, we have ended up acquiring local banks. And as you know, BTMU acquired a stake in Bank of Ayudhya, which is the fifth largest bank in Thailand, and Thailand obviously is a very large IPP market. In Vietnam, we have a stake in a very large local bank. We’re trying to use those alliances to be able to support our clients.

Rajeev Kannan: Let me add to that. Local currency financing is definitely one of the key themes we are focused on. We do recognise that beyond the traditional G3 or G3 currencies we have to look at other currencies. What SMBC has done is we have tried to establish long-term funders in different markets where they can provide long-term funding. For example, in Indonesia we established Indonesia Infrastructure Finance, IIF, jointly with the Ministry of Finance of Indonesia, IFC, and ADB.

More recently we worked with IFC and FDN in Colombia, and again this entity has been established to provide local currency financing in the country of Colombia.

Another example is we worked with Temasek to set up Clifford Capital, which is based out of Singapore, to support funding globally. It benefits from a long-term guarantee from the Ministry of Finance of Singapore.

These initiatives do help in providing our clients with access to local currency financing on a very long-term basis because just having local currency without long term is not that beneficial for project financing. We realised we needed to work with specialist financial institutions in certain markets.

We have set up a global ECA platform, so we can work with export credit agencies in many different countries. That is beneficial. Globally, we have about 50 people focused on ECA financing and they have relationships with about 40 different ECAs. Some of these ECAs can provide local currency solutions. That is sort of the second area where we are trying to help our clients.

The third area is trying to create new sources of capital. For example, we have established Islamic finance credentials in a couple of markets. Shortly there is the World Islamic Finance Conference in Tokyo. And we are hosting something jointly with an entity called ICIEC, which is a kind of an ECA for the Islamic world. That, again, creates a new source of funding for regional or local markets.

Fumio Inagawa: Let me add one thing. We are talking with our partner bank. For example, we cannot provide local currency financing to the project; however, we can take the risk of the project. So we have been discussing with one bank to share the risk with us. We are taking the share of the project, so they can rely on our risk-taking and they provide a local currency. I hope we will pursue this type of arrangement in the near future.

Rod Morrison: Can you say which country that’s in?

Fumio Inagawa: That’s the southern part of…

Rod Morrison: Africa? One quick question, Rajeev. On the Colombia initiative, will that facilitate SMBC financing, or is that you’re helping others to finance?

Rajeev Kannan: Well, FDN was established by the Ministry of Finance of Colombia a few years back, but basically it was a kind of entity that was not doing much. But then IFC and the Ministry of Finance of Colombia decided to revive it because Colombia has established the so-called 4G programme, where they are looking at a lot of PPPs, airports for example, roads, ports, etc.

So we decided that that entity would probably be the best one to provide long-term local currency financing because it has access to support from IFC, access to support from us. And also, I didn’t mention, but CAF, which is a Latin American multilateral, is a partner in this entity.

So collectively we believed that this entity could provide very long-term local currency financing. It is led by a very dynamic CEO called Clemente Del Valle. It has already created quite a few waves in that market.

And Colombia, again, we don’t at the moment see as much interest from our Japanese clients. But given the demand for infrastructure in that market, we think there will be some needs or there will be some appetite by the Japanese clients in the near future.

Kohei Toyoda: Local currency financing, especially to an infrastructure project, is a very important task for JBIC and a difficult task to overcome because the infrastructure projects usually need long-term financing. Long-term local currency financing is very difficult.

We may issue bonds but due to the limitation of the liquidity, due to the limitation of the size of the market itself, we will not be able to raise a big amount from the local market. That means if we provide financing, let’s say for 15 years, in the local currency to raise funds for let’s say five years, we face a refinancing risk. So it’s a very difficult question, how to solve this refinancing risk.

One answer is, as Inagawa-san said, collaboration with local banks. We may provide some guarantee and a local bank provides local currency finance. That kind of collaboration may be possible. But I’m sure if that kind of collaboration creates a quantitaveness that many Japanese sponsors expect, especially to JBIC, that’s a big hurdle.

We issued local currency bonds in the past. But due to the size limitation and the refinance risk that money was used for a corporate asset, corporate finance. We need to have a two-step jump, the size and tenor, and the risk of prepayment from the project.

At this moment we do not have a clear answer to solve that question. Maybe it is a mixture of such an initiative may give some answer to the question. Sorry, it’s not clear but we are trying to deal with this issue.

Rod Morrison: Moving to Inagawa-san, in terms of Mizuho’s ambitions.

Fumio Inagawa: When I received the invitation from PFI to take part today they were asking us how hungry we are. We are still quite hungry to do the project finance business. And of course the funding, the capital is the limit, so we have to select a certain project.

However, for Mizuho, project finance is quite important, the financial project to solve our clients’ problems. We have been committed in this area for a long time. We started back in the 1970s and we developed, created, the trustee borrowing, the scheme in Indonesia.

We have to go to the new markets, such as Africa. We need some new kind of scheme or products suitable to such markets. At the moment we are in consideration, or in discussion internally, so it’s not the time to disclose in front of all of you. But in the near future I’d like to introduce some new products suitable to your requirements.

Masahiro Morimoto: It’s a broad question. LNG is a rather sophisticated business area and the structure itself is very solid. For the time being a creditworthy offtaker offtakes a long-term contract and then we can secure the ample security in favour of the lenders.

For the time being we have no special request to the lenders. But as you know, due to the decrease in the crude oil price, the LNG price is decreasing accordingly and we are receiving very strong pressure for flexibility from the buyers. There may be, not in the short term but in the midterm, a change in the SPA style; it will be more flexible. That would be harder for our lenders in LNG financing.

Rod Morrison: Moving away from a tolling structure to a price-taking structure?

Masahiro Morimoto: Yes, a tolling structure. Or, in fact, we are having a lot more chances to be a so-called equity-lifting project. Then, we at Mitsubishi, as a project promoter, offtake the LNG, and we, as one of the sponsors, are authorised to sell our LNG cargo to a buyer as the seller.

It means we have the flexibility to handle our own cargo, so it’s completely separated from the project itself. It’s a dependent project, not a project, but it’s an offtaking project, equity-lifting project. It’s a challenge for us. Even for the sponsor, it’s still a challenge for us, and it will be a challenge for the lenders accordingly.

Rod Morrison: It’s really banked on your credit?

Masahiro Morimoto: Yes.

Hiroki Shibata: When we analyse project finance transactions globally, as a global team, we usually confirm who the lender banks are. When we analyse the Japanese corporates Japanese banks are involved in, in particular JBIC and Japanese megabanks, we think that – even though we can’t clearly uplift our ratings or credit perspective – JBIC involvement usually means more funding amounts are expected and lower funding costs are expected.

And in the case of refinance risks in the future, JBIC may be able to negotiate with the capital markets or other lender banks. In the case of stress, they usually will be able to negotiate with local or host countries so that a project may be able to restructure successfully.

In addition, Japanese megabanks, as I mentioned, will continue to be aggressive. This means lower funding costs. That may be one of the key factors for project finance. So we think Japanese megabanks and JBIC are expected to be key players in the world.

Rod Morrison: Yamamoto-san, again, you’re not a bank. Do you have any comments?

Takahide Yamamoto: Over the last years, the size of an EPC is bigger and bigger, and the required debt has become larger. So we would like to participate with a lot of banks in one project, but since the Lehman shock, the capacity of commercial banks has shrunk and the amount per one project is very limited. The number of commercial banks is limited.

This situation continued until one or two years ago but now that is recovered. And in such circumstances, it is very important to involve the ECA. But the size of the debt is so huge, one issue is not enough, so we have to utilise a lot of multi-ECAs. That is our challenge because we have to chop our contracts into each tied procurement and manage all the ECA financing tranches by ourselves. That is a very difficult task for us.

And each ECA has different rules for the eligibility on the third country contents or local contents. So I hope in the future the documentation will be simplified (laughter) and unified.

Rod Morrison: Ask the lawyer…

Takahide Yamamoto: Actually, I tried to simplify for a refinery project in South-East Asia, especially for the European ECAs. But they were not so interested to make one unified document, so we have to work on the documentation for the lending.

Rod Morrison: Alex?

Alexander Borisoff: Oh, that’s not fair. A couple of things. I think first, to your original question about finding ways to deal with the needs for different currency support, certainly that leads into the question generally about flexibility in finding new ways to deploy capital and make sure that, at least in the bank’s case, they can respond to the needs of their clients regardless of where they are and what they’re doing.

Certainly, we’re seeing a lot of different tools being implemented, whether it’s multicurrency loans being made with the support of direct subsidiaries in different countries; whether it’s deploying funds through investment funds that are being set up in different countries either with local currency or with foreign currencies, or even things like direct equity investment in the projects that are being supported, certainly from the ECA side. Inagawa-san had mentioned the example of a fund they had set up to get involved with some of the projects and be able to support them in new and innovative ways.

To Yamamoto-san’s point, it’s certainly a big challenge right now because when you’re looking at these very, very capital-intensive projects, the complexity of finding a way to source all the capital needs requires an innovative and flexible approach.

Sometimes that means looking to different countries, looking to different suppliers and looking to different ECAs or banks from other countries and really making the effort to co-ordinate and reconcile all the differing policy requirements and needs and complexities that go along with that. That’s one of the big challenges.

One of the things we’ve touched on here, in terms of looking forward and what are other opportunities for sourcing capital, is the domestic banks here in Japan. There’s been a big push to get them more active and we’re seeing more participation from them, not necessarily in lead roles on these financings, but more and more you’re starting to see some of the more regional banks or smaller banks here in the market looking for ways to put capital to use, to find a way to get reasonable and new sources of revenue based on those investments. You’ll be seeing more of that activity going on in the coming years.

Rod Morrison: Thanks, Alex. We’ll talk about secondary banks in a minute but I just want to ask a quick question to our three bankers on the panel. Yamamoto-san referred to it in his comments about how bank liquidity has rushed back and is back to the bad old pre-Lehman days.

In terms of your competition, how aggressive do you find the loan market in terms of conditions and pricing with the European and the North American banks now fully back?

Koichiro Oshima: Yes (laughter). Very competitive in domestic Japan, and very competitive across the board – whether it’s in the US or EMEA. I did research internally and we’re looking at the returns of the projects we closed in 2013 and 2014, and obviously there was a downtrend there.

Rod Morrison: Is that impacting your appetite for project finance?

Koichiro Oshima: I don’t think so because the price competition is not just in project finance but it’s in all the loan products across the board. Compared with some of the other products, project finance is viewed as profitable.

Rajeev Kannan: It’s true that the competition has come back quite strongly in the last three years. When I compare, as Oshima-san mentioned, deals that we closed three years back with today, there is definitely a margin squeeze. But at the same time the key is that we are hopefully going to see an expansion of the market, which would mean that there should be more deal flow. I don’t see that this year but I think in the next few years there should be more deal flow coming, particularly in relation to the power sector or infrastructure sector.

What we obviously notice is the European banks, which had focused on limiting use of their balance sheet, have changed their strategy and they are keen to come back into the market providing longer tenors and competitive pricing.

But at the same time, we believe the market is big enough, and I think for three of the megabanks to be here today hopefully we can collaborate, but not compete always.

Fumio Inagawa: I don’t think that’s good news for the sponsors…

Rod Morrison: Rajeev, are you seeing credit terms, credit conditions being lessened on some of the projects? Is that a concern?

Rajeev Kannan: Well, the credit terms, particularly in terms of tenors, are getting stretched more because one of the things that we want to contribute to our clients is for the sponsors to compete and win their tenders when they have a tender process. This would sometimes mean that we have to support longer tenors, and in that sense even entities like JBIC are considering different tenors, for example or different structures.

We are seeing some changes but the fundamental core terms of PF transactions, I don’t think that’s going away. We try to stick to those anyway.

Fumio Inagawa: We are in a very strong competitive situation right now. That’s good news for the sponsors, but history says – this is my view – that as long as the project finance is limited recourse or no-recourse financing, we have a bottom line we cannot go over. For example, there are, as you said, terms and conditions. Of course, price is competitive, but the terms and conditions, particularly the coverage ratio or the tenor, we have some limit to accept.

So maybe, this is one of the most competitive times, but maybe in the near future, I’m not sure how soon, the market will change; otherwise, we cannot continue to support the project.

Rod Morrison: Moving on to Japanese funders. Alex mentioned the activities of secondary banks and our three lead banks here are encouraging secondary banks into the market. You’ve also got Japan institutional funds, domestic savings, whether they’ll be recycled into projects overseas. And the ongoing role of institutions such as JBIC and NEXI. So Oshima-san, maybe if you’d like to talk about alternative sources of finance for project finance…

Koichiro Oshima: Let me talk about one deal we closed in the domestic market. Last year we closed a transaction, a solar PV transaction, approximately US$1bn in size in yen. This was for the domestic market and we have 28 Japanese institutions participating in this project finance. This was pure project finance, non-recourse. So what I can say is there are banks that are willing to participate in the structures.

And once you go overseas there are issues like certain banks cannot really deal with English-written documents. Then there’s the issue of currency. But even if you go into that space, we’re starting to realise that a number of regional banks, large regional banks, and central governmental banking institutions, trust banks, have very strong interest in providing money to projects overseas.

It’s a very good thing because it does support, especially in a bid situation. It could be you can always choose the lowest capital provider to win a project. It’s been one of the sources of the Japanese sponsors going overseas. And I think that trend will continue.

Rod Morrison: Just for the record, what was the project you closed last year, can you say the name?

Koichiro Oshima: This was the Setouchi PV solar transaction.

Rod Morrison: Moving on to Fukumura-san. Are you seeing in your projects overseas alternative sources of finance coming through?

Toshi Fukumura: From Japan, not yet, but we are always ready to take them to the project outside Japan. In the US, or overseas markets, we are competing against pension funds, and we have seen lots of financial institution players on the lending side in Canada.

Life insurance companies are one of the biggest competitors for Japanese lenders, so clearly there are spaces or markets there for the Japanese financial institutions. Obviously, on the equity side, they are a bit more behind because they have to take some additional risks compared with the lending.

I think infrastructure investment is a good opportunity for Japanese insurance companies, pension organisations, to consider for their investment. We are always ready to take them or invite them to invest together in our projects overseas. So if there are any participants from those organisations, perhaps I can have a side party discussion after this conference.