/ - 3Sept# I

DISCUSSION PAPER

Financing PrivateInfrastructure

Proj ectsAmerging Trends

from IFC's Experience

Gary BondLaurence Carter

INTERNATIONALFINANCE

CORPORATION

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Recent IFC Discussion Papers

No. 1 Private Business in Developing Countries: Improved Prospects. Guy P. Pfeffermann

No. 2 Debt-Equity Swaps and Foreign Direct Investment in Latin America. Joel Bergsmanand Wayne Edisis

No. 3 Prospectsfor the Business Sector in Developing Countries. Economics Department, IFC

No. 4 Strengthjening Health Services in Developing Countries through the Private Sector.Charles C. Griffin

No. 5 T7e Development Contribution of IFC Operations. Economics Department, IFC

No. 6 Trends in Private Investnent in Thirty Developing Countries. Guy P. Pfeffernannand Andrea Madarassy

No. 7 Automotive Industry Trends and Prospectsfor Investment in Developing Countries.Yannis Karmokolias

No. 8 Exorting to Industrial Countries: Prospects for Businesses in Developing Countries.Economics Departnent, IFC

No. 9 African Entrepreneurs-Pioneers of Development. Keith Marsden

No. 10 Privatizing Telecommunications Systems: Business Opportunities in Deueloping Countries.WiUlam W. Ambrose, Paul R. Hennemeyer, and Jean-Paul Chapon

No. 11 Trends in Private Investment in Developing Countries,. 1990-91 edition. Guy P. Pfeffermannand Andrea Madarassy

No. 12 Financing Corporate Growth in the Developing World. Economics Department, IFC

No. 13 Venture Capital: Lessonsffrom the Developed Worldfor the Developing Markets. Silvia B. Sagariwith Gabriela Guidotti

No. 14 Trends in Private Investment in Devdoping Countries, 1992 edition. Guy P. Pfeffermannand Andrea Madarassy

No. 15 Private Sector Electricity in Developing Countries: Supply and Demand. Jack D. Glen

No. 16 Trends in Private Investment in Developing Countries 1993: Statisticsfor 1970-91.Guy P. Pfeffermann and Andrea Madarassy

No. 17 How Firms in Developing Countries Manage Risk Jack D. Glen

No. 18 Coping with Capitalisn The New Polish Entrepreneurs. Bohdan Wyznikiewicz, Brian Pinto,and Made; Grabowski

No. 19 Intellectual Property Protection, Foreign Direct Investment, and Technology Transfer.Edwin Mansfield

No. 20 Trends in Private Investment in Developing Countries 1994: Statisticsfor 197092. Robert Millerand Mariusz Sumlinski

No. 21 Radical Reform in the Automotive Industry: Polices in Emerging Markets. Peter O'Brienand Yannis Karnokolias

No- 22 Debt or Equity? How Firms in Developing Countries Choose. Jack Glen and Brian Pinto.

rNTERNATIONALFINANCECORPORATION

DISCUSSION PAPER NUMBER 23

Financing Private3nfrastructure Projects

Emerging Trends from lFC's Expenience

Gary BondLaurence Carter

The World BnkWashington, D.C

Copyright 01994The World Bank and

aternational Finance Corporation1818 H Street, N.W.Washington, D.C. 20433, U.SA

All rights reservedManufactured in the United States of AmericaFirst printing September 1994

The International Fmance Corporation (IFC), an afliliate of the World Bank, promotes theeconomic development of its member countries through investment in the private sector. It is theworld's largest multilateral organization providing financial assistance direcdy in the form of loanand equity to private enterprises in developing countries.

To present the results of research with the least possible delay, the typescript of this paper has notbeen prepared in accordance with the procedures appropriate to formal printed texts, and the IFCand the World Bank accept no responsibility for eorom This is a study by the staff of theEconomnics Department of the IFC, and thejudgments in it do not necessarily reflect the views ofthe Board of Directors or the governments they represent. The World Bank does not guaranteethe accuracy of the data included in this publication and accepts no responsbilty whatsoever forany consequence of their use.

The material in this publication is copyrighted. Requests for permission to reproduce portions of itshould be sent to Director, Economics Deparanent, IFC, at the address shown in the copyrightnotice above. The IFO encourages disemination of its work and will normally give permissionpromptly and, when the reproduction is for noncommercial purposes, without asking a fee.Pernssion to copy portions for classroom use is granted through the Copyright Clearance Center,27 Congress Street, Salem, Masachusetts 01970, UTSA

The complete backlist of publications from the World Bank, induding those of the IFC, is shownin the annual I dex of Pubicaons, which contains an alphabetical title list (with full orderinginformation) and indexes of subjects, authors, and countries and regions. The latest editon isavailable free of charge from the Distribution Unit, Office of the Publisher, Departnent F, TheWorld Bank, 1818 H Street, N.W., Washington, D.C. 20433, U.SA, or from Publications, TheWorld Bank, 66, avenue d'lna, 75116 Paris, France.

Gary Bond is a senior polcy analyst and Laurence Carter a policy analyst in the CorporatePlanning Department of the IFC.

ISSN: 101248069

bray of Congress Cataloging-in-Publication Data

Bond, Gary E.Fnancing private infrastructure projects: emerging trends from

IFCs eperience / [Gary Bond and laurence Carter].p. cm.- (IFCdiscussion paper ; no.23)

My 1994."ISBN 0-8213-3067-51. Infirastructure (Economics)-Developing countries-Fmance.

2. Economic development projects-Developing countries-Fmance.3. International Fmance Corporation. I. Carter, Iaurence, 1960-EL riLde m. Series: Discussionpaper(InternationalFmanceCorporation) ; no. 23.HC59.72.C3B66 1994363'.09172'4-dc2O 94-35171

CIP

Contents

PREFACE ....................... vGLOSSARY & DEFINITIONS ....................... viiEXECUTIVE SUMMARY .......................... ix

1. THE INFRASTRUCTURE REVOLUTION .Ilntroduction ..... I... .......................................................... IIFC's Role ............................................ 2Reasons for the Change ............... 2

2. IFC'S EXPFRItENCE BASE ............... 5Pattern of Appovals .................................................... 5Fnancing ' urces ............... 7Financing Structures .............. . . .................. ............... 10Project Structues and Ownership ...................................................... 10Foreign Sponsors and Technical Backup ................................................. 12IFC's Portfolio ................................................................. 13Project Completion Performance ....................................................... 13

3. MANAGING PROJECT RISKS ..................................................... 15Risk Analysis from Different Prspectves.5................................................ 15Development Phase ................................................................. 19Construction Risk ................................................................. 19Operational Risk .................................................................. 1Market Risk ...................................................................... 21Foreign Exchange Risk ........................................... 22Regulaory Risk ...................................... 23The Role of Government in Risk Management ................................. 3Summary .--- 24

4. MOBILINNG DEBT AND EQUITY FINANCE .25T-he Role of Commercial Debt .. 25New Patterns of Financing .. 26Developing Local Capital Markets .28Link Between Private Infs and Capital Markets .29

5. MANAGING ENVIRONMENTAL RISKS .. 32Environmental Risk Management .. 32Lessons from IFC's Experience .. 33

6. MANAGING PRIVATE ENTRY ............................ 35Transitional Paths .. 35Contractual Relationships 38Competiton as a Regulator. 39Benefits from Unbundling .40Privatizg Existing Assets As Well .40Finding a Middle Way, and Next Steps .41HowDFC CanAssist .41

7. CONCLUSIONS .43

ANNEX 1 Infrastructue Privatizations in Deveoping Counbies, 1988-1992ANNEX 2 IFC's Approved InfratruNure Projects 1966-June 994ANNEX 3 Capital Markets Indicators

...

Preface

The last few years be seen an unprecedented increase world-wide in private participation in infia-structure fmancmg. IFC, which has been mvolved in the financing of infiastructire projects for nearlythree decades, has played an active role in these development To date, the Corporadon has undertknthe fmancing of nearly 90 such projects in 26 developing countries, many of them in only the past fewyears. Its pipeline of new i cure projects has moreover continued to grow rapidly. This paperreviews the preliminary lessons emerging from IFC's experience with inastucure fmancing in thedeveloping world.

Infrastructue has traditionally been the preserve of the public sector, particularly in developing coun-tries, partly on account of its perceived strategic importance to the economy, and patdy because the lareinvesm costs and long gestaion periods usually assocated with such projects were thougbt to have

constituted senous dismcentives to prvate ivestors. Recent trends i privatization of major utilities andtelecoms in vanous countres have shown that this is no longer the case Private financiers have shownthemselves able to mobilize the fimds necessary to fmance infiastucture projects, and private sponsorswil-g to accept both project and country risks, prwided that the instuonal enviome has met cer-tam minimum standards and the projects have been appropiately stuctured. Governments are assistigthis process by creating new opportunities for private investors in an effort to bring more efficiency toproject construction and operation, greater competition in the supply of infrtruc services, andgreater access to inteational capital markets The development of local cital markets has also beenassisted by the move towards private participation in in.

Provision of an efficient infr e encompassing not only the avaiabilty of electricity but also ofports, transport and communications, is now widely rcoognized as indispesable to economic progress.The prinncipal questions that countries facmg rapidly growing demand for infature services revolvenot on wheter to induce greater private participation as a means of coping with this demand, but on howbest to do so. The lessons of experience, particularly on what works and what does not, can be of con-siderable help in this regard. This paper, based on IFC's transactions in the sectot attempts to providesome insights into this process, focusing particularly on the issues of risk assessment, regulatory struc-tures, and debt and equity mobilization.

IFC's experience base covers projects at four different stages, ranging from those which bave beenapproved by IFC's Board, fnanced, built and are opeating, down to those which have only recently beenapproved, but where fmancing has not been closed. Experience at all stages is evolving rapidly (particu-larly in financig structures), and there are few projects that have been opeating for any length of time,so the lessons in this paper should be taken as indicative raher than defitive. Nevertheless, IFC'spipeline of inastructe projects under preparation is continuing to increase rapidly, in terms of sizc,

v

and geographical and sectoral diversity. Over 30 infiatruct projects worth about $8 billion werebeing appraised during June 1994. This suggest that all participants in the narket are becoming moreadept at matching the requirnents of governments, sponsors fnciers and consumers to developviable private infrasture projects. The lessons that IFC has leamt from its earlier projects are beingapplied to its burgeoning pipeline.

The principal authors of the paper are Messrs. Gary Bond and Laurce Carter, of the Privat SectorStrategies Division in IFC's Corporate Planning Department. The work was co-ordinated closely withIFC's inastructur Department, and has benefited considerably from comments from staff membersthroughout the Corporation, as well as in the World BsnL The data base used in the paper reflects IFC'sopeational position up to end-June, 1994. An earlier vegsion of the paper was made available to theWorld Bank staff team working on the 1994 World Development Report Infrusruc¶e For Deweopment,as IFC's input to that exercise. A summized version of the paper was presented in December 1993 atthc "High-Level Rounwble on the Poliy Envimnentfor Foreign Diect Investmne in Infpmstruure:7he Asian Eperien e ", held in Bangkok, and organized by the Fore.gn Investment Advisory Service andthe UNDR The many useful comments made at dtat session have been incorporated.

Jemal-ud-din KassumVice President, Operations

September 1994 Itnational Finance Corporation

vi

Glossary and Definitions

BOT (build-openate-trssfer). A form of concession Mezwineinancing. A mix of fmancing instruments,usually referring to totally new projects. Typically including equity, subordinated debt, completionin a BOT, a private party (or consortium) agrees guarantees and bridge fmnncing, the balance ofto fnance, constuct, operate, and maintain a which changes as the risk profile of a projectfacility for a specified period and then transfer changes - i.e. as a project moves beyond con-the facility to a government or other public struction into operation.authority. Vanations include BOOT (build-own-operate-transfer) and BOO (build-own-operate); PPA Power purchase agreement Contacbza agree-in the later case, the contract accords the right to ment to purchase power from an IPP.construct and operate the facility, but the facilityis not transftrred back to the public sectos FY Fiscal yCUL IFC's fiscal year runs from 1 July TO

30 June.Cowession. An arrangment whereby a prva party

leases assets for service provision from a public iFC uses five categories of regions for classingauthority for an extended period and has respon- and Cans geoaphically. The Satin Amencasibility for financing specified new fixed invest- and Caribbean (LAC) and Sb- Sarn Afriasnty during he period, the asses revert to the regions are self-explanatory. Europe includes thepublic sector at epaon of the contract developing countries in Western Europe, aEI

Eatern Europe and the Former Soviet RepublicsContesbiily. The vulnerability of an acfivity to com- (excluding the Central Asian Republics), as well

petition from new entants in a market The key as Turkey and Cyprus The CentrGlAsia, Mibdlecriterion for contestability is that costs of entering Efst and North Afica region (CAMENA)a market be recoverble (eg., through a sale of extends as far east as Pakstan, while the Asiaassets). region covers the rmaimg counties in Asia,

and countries in the Pacific ocean.IPP Independent power project. Private power project

generating power for supply to the grid.

vii

Execudve Summary

The Growth of Private Infrastructure encouraged some governments to turn to privatefancing. Technological changes have also been

Private financing and mianagement of infrastructurel important: telecoms, power and transport systems arein developing cnuntries is undergoing a renaissance; being "unbundleda, generting competition in serwegovernments in many countnes are giving the private provision which has reduced unit costs and ficiliatedsector a larger role in providing infirauctue services, private entry. Developments in financial markets, andAs a provider of loans, equity, other fnancial instru- ionovations in financial products, have enabled span-ments and advisory services to privat companies in sors of private infiastructu projects to draw on adeveloping counties, the International Finance wider pool of financiers and fnancing techniquesCorpomtion (IFC) is participating in this shifi. Finally, demonsation effects are providing govern-Between its first inf financing in 1966 and ments with practical lessons on how to imvolve the pri-June 1994, IFC undertook 88 infratructure transac- vate sector in infastructure service delivery. In alltions with a total project cost of nearly S15 billion, in cases the motivation for private entry is the same: to26 countries. Much of this has occurred in the last deliver beter service to more people at reasonablefive years, and particulaly the last two. IFC has cost.fmanced projects in each of the world's major regions,including Central and Latin Amenca (Arnutia, Chile, Characteristics of IFC's InfrastructureGuatmala, El Salvador, Behze), South and East Asia(the Philippines, Korea, India, Nepal, Sri Lanka),Easterm Europe (Hungary, Poland), the Middle East Although relatively new, IFC's inftiqtructure fane-(Oman) and A7nca (Zimbabwe, Zaire). T ing exeience has widened rapidly Most approvals toreviews the prehiminary lessons emerging from IFC's date have been m power and telecoms, with some porn

acperencewith financing private r c pro-experience wihfnncn nae nrsrctr r- and pipelines, and a few railroad, water, and road pr-jects. In addition, over the past year FC has approved

The upsurge of interest in prvate fnancig of infra- sevel invesmnts in specialized infiast equitystucture has come from seval sources. In mamy funds. Regional coveage is dominated by Latincounties, governments and consumers bave become America (particularly Argentina and Chile) and Asiadisenchanted with the poor performance of the publicly (mainly in the Philippines and India so far). Howeverowned enterprises that provide infrast r services. both the sectoal and regional tends show that greaterConstaints on the taditional sources of finance for dispersion is ocurring rapidly. In June 1994 the costpublicly owned infastucture enterprises - govern- of IFC's "advanced pipeline of infas projectsments and official development agencies - have stood at aver S8 billion.

' This paper focuses a svi prided by economic b:nwv pow tecom catiaos, piped wae mup*, sewer, soiwasi colcuad dipos,pipe gA,ods,lroads, urbn r pormandaip

ix

Finance for IFC's sample of approved infrastructure achieve :heir results using standard instru-projects is capcvwt to be itiobilized from a wide range ments: carefiul risk management and allocation,of sources. In addition to IFC's 11% contribution, pri- a focus on marketing and consumer feedback,vate foreign finance accounts for 35% of the total and cost control mechanisms such as turnkey(including suppliers' credits), private domestic contracts.financiers 25%, internal cash generation 20% and offi- This better perfoimance is the product ofcial/public 9°/o. The projects have averaged a 59:41 strong incentives, which in tur derive fromdebt-equity ratio, with more debt in power projects and finacing sources, and market structure.more equity in telecoms projects. Increased private Private managers and financiers have incen-participation has occurred in several ways: expanding tives to assers allocate and mitigate risk.existing companies; assisting startup entrants; rinanc- They will shoulder risks that they can manageing special project companies (including Build- - and absorb costs if things go wrong. All theOperate-Transfer projects); and financing recently parties involved in regulting, managing andprivatized companies. Infrastructure investments financing infiastructure (goverangmnts, spn-accounted for 11% of IFC's portfolio in June 1994, up sosn, inanciers and contractors) face risks.from 4% in June 1990. n trs of new financinghese are addressed through a web of ontrac-approvals, however, they now account forjust under thes areadessed to anwebf vostrac-25% of the total. Project completion performance has tual agreements, supported by mncentives, such* ~~~~~~~~~~~~as sponsor support agreements, concessionbeen relatively good, although the number of complet- withdmwal options, insurnce, perfomaceed projects is small: on average a time over-run of bonds and buyout clauses.about 7 months and slightly below budget in dollartems. Lendersplay a key rok Contary to tradition-

al perCeptions, mobilizing debt appears to be

Emerging Trends from IFC's Experience generally more difficult than equity. There areseveral explanations: i) more debt is needed

Despite IFC's relatively recent experience with luge (there is typically twice is much debt as equityscale private involvement in infastrucure in develop. in a project); ii) the deposit base of commer-ing cownries, several trends seem to be emerging. cial banks limits the maturity of loans that they

can offer, iii) bank exposure limits to individ-1. Large amounts of private nonlfimited- ual countries, sectors or borrowers mean that

recourse rmance can be mobllized for infra- loans to large infrasr projects often needstructure projects provided that they are to be syndicated, which can be complex andstructured to meet the requirements of time-consuing;, and iv) lenders take risks butinvestors. do not share in the upside potential of equity

2. Private financing and management of infra- providers. So lenders tend to be risk averse;strucure can deliver better service perfor- they undertake stringent risk assessment, mii-mance than under public sector gation and monitoring, and seek adequatemanagement, particularly during the critical secunty arrangements. Key areas for infra-construction phase. It is still too eary to gen- structure projects include the treatment of for-eralize on the operational performance of pri. eign exchange risks, regulatory risk, and thevale infiastructure projects, but contractual pefonnan of government entities. Whereundertakings to which companies have com- requhir government pformance guaranteesmitted themselves (for exarmple, the capacit of the contractual obligations of st-ownedavailability of independent power producers) enterprises are sometimes used; however thesesuggest that signiTicant eTiiciency gainS are do not remove conmercial risks from privatebeing realized there as wel. Private managers prties.

X.

Compedtion (aided by the unbundling' of 5. Infastructure financing, access to inlerna-many infrastructure services) is another impor- tional capital markets and the developmenttant driving force. Private entry is often asso- of domestic capital markets are occurring Inciated with changes in regulatory structure - parallel In seral countriea This effect issometimes to remove a regulated monopoly on most evident in countries such as Argentinastate provision. Many of IFC's infrastructure and Chile, which have sent the strongest sig-projects have been in countries without a fully nals about their commnitrnent to private infra-functioning regulatory system. Contract-based structure: by privatizing, improving therelationships (e.g. Build-Operate-Transfer, regulatoiy framework and addressingBuild-Own-Operate, concessions) allow private investors' concerns. There appears to be a linkentry without wholesale redesign of the regula- between infrastructure financing and domestictory framework. IFC's experience also sug- capital market development. Betweengests that it is possible to unbundle and allow December 1989 and December 1993 the totalprivate participants even in small, low income capitalization of stock markets in the develop-markets (lFC has financed two independent ing countries covered by IFC's Emergingpower producers in Guatemala, and one of four Markets Database increased from US$599 bncellular telecoms companies in Sri Lanka). that to $1,355 bn; infrastructure stocks increasedprivate entry often sets up pressures for firther from 3% of the total capitalization inregulatory changes, and that someimes com- December 1989 to 22% in December 1993.petition may mitigate the need for close 6. A.cessig capital markets I crucal forregulation. ln£f tructure fincing. Connmercial banks

3. Private financiers and managers can prvide fare key limits in financing infrastructure pr-rapid rponses and innovative solutions to jexts, including exposure limits to large bor-irastructure requirements. For example, a rowers and, crucially, maturity constait -barge-mounted power plant in Guatemala mt few commcial baik will lend fuids to inf-the secuity requirements of financiers and the structure projects in developing countries forurgent generation needs of the country. over 10 years. Institutional sources, which

4. The nrst private prjects are Important have long term depositors (pension funds andPrivate participation in infucWe has beenlife inswrnce companies), have a naturl matu-

concentraed in certain countries so far sug- rhi atch for ifrastructure finninsmg but aregesing that the most difficult hurdle is the inhighly risk averse. Nu nmerous innovations aretial project once the process starts, it can o ccurin i crase the share of institutiquickly gather mnomentum as the confidence investors n infras financingof all parties inceases. Provided the first pri- i) specialized infsucture fimds are beingvate project has been properly handled, it has established, some of which are staring tooften been foUowed fairly rapidly by i) odter provide a mix of equity, subordinatedprojects in the same sub-sectoir and ii) the debt, completion guarantees and bridgeopening up of other infrasuctue sub-sectors. finncing;Furthermore regulators and project fmanciers . i companies are tappgbuild on their experience such that p intenational equity markets (usingjects tend to come to fruition more quickly. merican Depositary Recipts) and inter-EFC's experiences in Argentina, Chile, the nafional bond markets. So far these havePhilippiines and India illustrate this point, been mosdy well estabhshed companies

Unbndling can tax place in seWl rms: i) bypn>dwcu such a spliting dectincity generaion. smsios and dibtion intodifferent conpans, ii) by maI*t as with the provison of cellHu, dam uasmisio interaioal long dince and local tlpone ser-vics; and by igo. Hunary bas ied rgoa concesi to povic telephoe savic d Argenta has reonal con_cossfor gas and elecicity disutio

xi

with long track records, but project com- cellular networks or new ports. This approachpanies which have completed the high- may involve relatively low political costs, asrisk construction phase are also starting many existing assets remain under state owner-to tap these markets. and ship. It is typically characterized by conouclu-

iii) as domestic capital markets are libeml- ally-based relationships (such as concessions),iii)~~ ~ as doetc.aa rather than wholesale regulatory reform:ized, opportunities are opening up forcompanies to raise finance from local ii) "approach B", which requires considerablestock and bond markets. political will, is to divest (privatize) state utili-

7. Private companies (and their financiers) treat ties, but to postpone the unbundling in order toe7nvronmental risks in infrastructure projects attract a strong response from privatelike other risks - they assess, mitigate and allo- financiers. This approach which was used incate them. ristter environental risk manage- Chile's telecoms sector, can yield a strongmentcantbe them. Berevroomnentalrisktive age- inrvestment response, and in the medium ternment can be is -urce of competitive it may set up pressumes for unbundling andadvantage. This generates incentives to ay eat up pn gaimprove environmental management which, in deregulation;parallel with changes in government regula- iii) simultaneous unbundling, deregulation andtions, are pushing many private companies to divestiture ("approach C") requires significantgo further than the minimum legal standards. political commitment and institutional capabil-In the power and water sectors another impor- ity. It has been undertaken in severl infra-tant environmental benefit of private participa- structure sub-sectors in Argentina.tion is that cost recovery encourages Each of these paths increases the number of stake-conservation, by providing incentives to UiC holders interested in private involvement in infrastruc-resources more efficiently. IFC's projects - and may set up pressures for further change.show that many private infrastructure compa- The conctual "entry" approach may initially havenies are dealing with potential enviromnental advantages for certain countries. It has relatvely lowproblems proactively. political and regulatory costs. Usually this requires

steps to demonopolize the state utility's market, allowManaging Transition the participation of private (often foreign) capital, issue

licenses or concessions, and undertake a tansparentIFC's participation in infrastructure investments has tendering process to award them.

been shaped by the transition strategies adopted bygovemments. There is no single blueprint for what hamited private entry (often based around contracts)works: it depends on political commitment (critical), has several adveantages: i) it does not necessarilystrength of opposition to change, investors' percep- require new institutional structures; ii) it allows thetions, institutional capabilities, and the domestic eco- govenment to take a pilot appth to private involvenonic and legal environment. Figure I illustates ment; and iii) it can foster competition.three ways in which private entry is occurring. The However, as witnessed in countries such asstrng point in nmany countries is a state owned utility Argentina and Chile the strongest development impactswhich operates as a monopolist and involves little reg- come from privatizing existing assets - via full divesti-ulatory complexity (top left comer). Private entry is ture or very long concessions. This allows efficiencyoccurring through: gains to accrue to much arger stocks of infrastructe

assets, and generates strong capital markets impacts.i) "approach A": deregulation and unbundling These occur both intemationally (e.g. access to bond

allows the private sector to enter parts of the markets and commercial banks) and domestically.market to provide in services. This Domestic financial market developments, such as thoseoften focuses on the construction of new seen in Chile, are important for sustaining the benefitsassets, such as independent power plants, of private infrastucture participation: ultimately there

x.

Figure 1 TransIdtonal Paths In Infrastructure Privatization

LOW Political costs of adjustment I regulatory effort HIGH

PubUcly ownedregulated monopoly c

\ ~B\

dw"Llaft A \ Unt ftd

r - _ so~~~f unbind\dvosfflureC ot \

Prat enty aUlowed

miomiclcieneyOfMAslon

Diesti\re of SOE

Compelltlv/contesable pvabtHIGH, MIn cture provison

HIGH , ,

...

are limits to how much foreign debt can be used to basis. Privatization has given firms opportunities tofinance infrastructure development. access capital markets, and has stimulated local funds

mobilization. Foreign loans are essential to most coun-

Actions Governments Can Take tries in overcoming their initial infrastructure problemsbut there are limits to the ability of countries to borrow

Governnents wishing to involve the private sector offshore. Ultimately more funds for infrastructure(further) in infrastructure financing and managemnent investment need to be mobilized domestically; govern-are turning their attention to key entry barriers. ments that recognize this are taking steps to developTable 1 shows strategies that govenmnents at three dif- their local capital markets.feient stages of private involvement are adopting: i) BOT and other limited entry arrangements havewhere there is interest in encouraging the private par- advantages, particularly as a transition between stateticipation for the first time; ii) countries which wish to ownership and ultimate privatization. An increasingbuild on their existing experience; and iii) countries number of developing countries are using BOTwhich already have involved the private sector exten- arrangements to develop initial experience with privatesively. provision of infrstructure services. From IFC's expe-

rience, BOT arrangenents offer the advantage of pro-Conclusions viding rapid increases in the supply of services without

the immediate need for redesign of the entire regulato-The main conclusion to emerge from IFC's experi- ry network.

ence to date is that despite the risks, private fimanciers Thes beneficial outcomes are not being experi-are responding to emerging opportunities and are pro- enced everywher Country risk is still a major obsta-viding large amounts of at-risk capital to invest in .

anicure ervies i deelopng ctmtres. he le to lare scale funds mobilization in many countries.invastructure services in developing countries. The Some governents remain committed to state owner-

volueH bov funds anowtbing ed onlyafrom hemarke ship of infastructure and in others vested interests areis weil above that anticipated only a few years ago and bokncmptivadtrsaetpiaeety..

new~~~~~~~~ fmnigmtosae,en Voe. bockng compealive and transparent pnvate entry.Piovative newfir nancs are -g dcirabeiitygD dexplored Institutional constaints are also a problem. The pacePrvt firm ar deosrtn teraityodlvr of reform will depend on how serious inadequacies inbetter service to more people at rasonable cost Both .reto wil infastuct hre poiion siaraements areprivate companies and govnents are assistDg this trdioainasucrepvinaeprivates Companies bandgovernmppien fmare astng this perceived to be, and how the political process of transi-process. Companies have supplied finance, and thie oishnldncpivtetrisalwdability to take risks and to implement projects effi-ciently, while governments have contributed a willing- While irnpressive, the private projects completed toness to pvatize, to experiment with new, more date are only just starting to have an impact on thecompetitive regulatory environments and to encourage backlog of umnet demands. The size of the investmentnon-guaranteed financing. IFC's contnbution has been challenge is so great that many firms and govermmentsas a facilitator, helping with business-govermnent are shifting their efforts towards "best practice" strate-negotiations and bringing fnancing plans to comple- gies. Firms are learning new rules about being in thetion, sometimes in difficult country or regulatory envi- infrastructure business, while governments are under-ronments. standing better the requirments of conmmercial

invvestors. The closer the level of understandingMany cornriesare imrovingtheir nvestmnt c,, betveen negotitng parties at the star;, the faster that

mate with the result that, m many parts of the world,perceived country risk is falling. Divestiture of state private investment can be impleented.utilities has proved to be one of the most efficient ways IFC is playing an active role in assisting thisof enabling companies to mobilize the financing need- process. In addition to its traditional role of providinged to carry out their infrastrmture plans. PrTvaized debt and equity fnancing (and more exotic products.companies have a wider range of financing alternaives such as interst rate hedges) to private infrastructurethan projects financed on a limited entry or BOT/BOO projects, the Corporation also advises govermnents on

xiv

Table 1 Government Strategies for Encouraging Private Infrastructure

Some private I Exteasive privateEncourge initial private eni7 participaion participation

Oveall Pmdent macroeconomic management, including currency convertibility, is a priority. Ainstitutional/legal fnmework is necessary to ensure contracts can be implemented.

Sectonl Demonopolize nicbe sectors, allowing Broaden tde scope of Extend private sectorentry to cellular telepbones, power private entry and participation andeneration, ports etc. Use competition. Initiate contestability to sectors where

conessions and BOOs as appropriate overhaul of regulatory regulatory issues may beto sector nd political acceptability fiamework more difficult.

Size Focus initially on small projects. Medium-sized projects Project size sbould not be aBreak large projcts into components should be financeable constraint

Sectoral Start process of removing subsidies, Assess regulatory options. Review regulatoryand preferably by announcing (and lncrease competition experience. Convert BOTsreu- adhering to) a pbased program. within and for markets; to concessions by a ingatory Allow tariffs to be automatically regulate natural that they will be r-bid.issues adjusted to reflect changes in costs monopolies Maximize competitionPrivatiz'n Consider (partial, if appropriate) Privatize a broader range Complete privatizationof SOEs privatization of most financially of SOEs process. Make tariffs filly

viable SOEs (eg telecoms) l_ ommerilForeign Remove or minimize bariers to Encourage foreign Remove rem_in'mg costraintspartcipn foreign capital nd exprtise participation in privatiz'n to foreign participationSponsors Ensure strong sp , techically Scope for greater participation by technically and

and financiaUly. Ensure that they financialy sound local sponsors, and demonstrationmake significat equity contributions effects

Financal Adjust reguliions to allow foreignes Access intmational capital Improve access to intem'lisSus to repariate dividends. Allow use of mauets. Stregthen local capital though bettor country

escrow accounts if that gives extra capital markets: public risk rating. Encourae privatcomfort to foreip investors share issues, investments rating agecies, re-inurnce

by local pension and industry, fuU use of foreigninsanc funds and local capital markets

Govern- Where realy necessary, guarantee Assume less risk as private Limit commercial presmec ofment and SOE contractual obligations, and participation increases; government. Focusrisk build in buyout provisions for private adapt reguatory governmt involvement on

sponsors. Do not subsidize finace framework on the basis of providing enablingto private or public enterprises. experience environment

restructuring and divesting their infrastructure utilities. secure financing for a project And, for most projec,IFC has advised on regultory fameworks, often in IFC's own due diligence process leads to engiering.conjunction witi the World Bank IFC also undertakes enromntal, legal or financing impme thatfornal advisory mandates from companies in member enable a project to be implemented.countries, for example to assist with restuctuing or

xv

THE INFRASTRT REVOLUTION

Introduction industry publications for the first half of 1994 reportedover 350 infrastructure projects under preparation or

The growth in IFC's participation in private infra- implementation in 39 developing countries, most ofstructure financing in recent years has occurred as a which involved private participation.result of the revolution in infrastructure management The link between infrstructure and economicIn 1980, after decades of nationalization, there were growth has long been recognized, but in the mid-I 980sfewer than 10 significant utilities remaining in private evidence emerged in several countries that infrastruc-hands in developing countries. Then, in the late I 980s ture services were not meeting demand. Urban powera few pioneering transactions involving the private sec- shortages affected businesses while people in ruraltor took place, including the privatization of Chile's a . . .telephone system and the first Build-Operate-Transfer telephone connections lengthened from months todeals in China and the Philippines. Now infrastructure telr.hone connetion lngtened fo months tois being privatized in many parts of the world. A brief yel areas suffcred fsom deteriorating access. Manyselection based on 1994 press reports includes: tele- rurlmaents realized that the traditional stacMowned

coms pnrvatizations in Hungary and tola roadi utility aproach was no longer adequate. Although cir-

Argentiatronstructing and managn a rgadian cumstances varied across countries and sectors, theArgetina reconstructing and managing a Bulgarian fshift towards greater private involvement was driven byairport; managing Malaysia's national sewerage sys- te need to prvide bett service to more people at

tem; an elevated masstransit rail sstema in Thailand-, reasonable cost. In those countries where progress hasand proposed telecoms privatization in Uganda. been rapic, hee considerations have been paramount

Large volumes of private funds are being mobilized. i) a need for greater cost efficiency in the con-In 1988 five developing countries raised $43 Im struction and operation of infrastructure ser-through pratizing telecoms and power generation vices;assets. This had risen to over $6 billion by 1992.Between 1988 and 1992 governments in 15 developing ii) a larger volume of funds needed to be mobi-countries sold $20 billion worth of assets in telecoms, lized, andpower generation, tramsmission and distribution, gas iii) mobilizing non-guaranteed finance from thedistribution, railroads, roads, ports and water utilities market required reforms to create a more(Annex 1). Infatucture accounted for a third of the attractive investment climate; in some coun-value of developing country privatizations. An tries this included privafation.October 1992 survey in Public Works Financing report-ed $16 billion worth of projects involving private Structure of the Paper The rest of this Sectionfinancing recently completed or underway in develop- briefly outlines the forces that have been drnving theing countries. By October 1993 the figure had risen to shift towards private participation in infrastrucre.$26 billion, with a firther $100 billion of projects Section 2 describes the sectoral and geographic spreadclassed as "high probability. An IFC survey of of IFC's infiastructure fnancing, as well as

1

performance to date. The rest of the paper seeks to total project cost of nearly $15 billion, in 26 countries.draw out the preliminary lessons arising from IFC's Much of this has been in the last two yearsexperience. Section 3 discusses risk assessment and (Figure 1.1).management, which explains much of the difference in The trend is continuing. IFCs "advanced" pipelineperformance between privately and publicly f-inanced of infrastructure projects increased from 14 projectsprojects. Section 4 describes the rapid evolution in with an estimated cost of S2.2 billion in July 1992 toinstruments used for mobilizing finance, and the links 36 projects costing $8.2 billion in June 1994.between infrastructure finance and capital markets.Section 5 reports on how the companies associatedwith IFC's infrastructure projects are managing envi- Reasons for the Changeronmental risks. Section 6 illustrates with examplesthe different approaches towards private entry to infra- The rmain reason for the shit towards private infra-structure taken in several of the countries with which structure is growing disenchantment with publicIFC has been involved. Finally, Section 7 draws monopoly ownership and provision of infrastructuretogether some conclusions. services. Under-irwestment by many state utilities has

rcsulted in a backlog of umnet demand for infrastruc-

IIFC's Role ture services, and in many countries this is the princi-pal constraint to growth. Power shortages have led toproduction shortfalls, higher costs (self-generation)

IFChas pae aoroletin ilatgese drc and a decline in investment Similarly limited avail-changes. The Corporaton is the late source ability and poor quality telecommunications have madeof project and corporate finance to private companies i ifcl o uiessi aydvlpn onrein developing countries (providing loans, equity, other it dpfficult for businesses i many developmig counties

fnancial instruments and advisory services) and assuch has participated in many of the private infrastruc- based econony.ture transactions completed or in the process of being Governments are responding to these inadequaciesfianced to date. Between its first transaction in 1966 by providing increased opportunities for private partici-and June 1994 IFC's Board has approved an IFC pation. There is increasing evidence that the privatefinancing role in 88 infrastructure operations with a sector generally is performing better in terms of con-

struction costs and times, operation, and provision ofservices that are consumer-oriented - although there

igure 1.1 Estimated Cost of Infrastructure are also examples of private managers perforningProiects in which IFC has Participated below expectations. The economic and legal reformns

S ma. pros undertaken recently by many governments have facili-6 tated these changes.

s ---------------------------- Second, fsca constraints on governments andexternal aid agencies have led to an increasing realiza-

4 --_-------------------------- tion that private finance is necessary to address capaci-ty shortages. Some govermnents have used

3-________________________. infiasructure privatization to improve their publicfnances. The Govermment of Argentina, for instance,

2 ------------------------- moved from a budget deficit of 10.5% of GDP to a-_ *surplus of 1.5% in 1992, due to a set of policies that

t ____________ _ _, mincluded public enterprise privatization. The extraresources that private fnanciers and management bring

O can be inmportant Chile's local telephone operator,

N:l FCO guw as:JWywne which was privatized in 1988, doubled its line capacityin a 5-year, S136 bn expansion program completed in

2

June 1993. Similarly a comnpany, which in May 1993 Fourth, innovative financing techniques and thewon a concession to provide water and sewerage ser- globalzation of francdal markets are offerng morevices to Buenos Aires, is required to undertake renova- infrastructure financing options. The volume of trans-tioris and expansions that will cost $4 bn over the actions and the range of instruments used on the inter-30-year concession. national capital markets has increased sharply in recent

Third, technological developments have reduced years. This has been driven partly by an increased sup-natural monopoly characteristics and allowed ply of funds, as venture capitalists and institutionalunbundling, private entry and competition into many investors in developed counties have sought to diversi-infrastructure services. Containerization has facilitated fy their portfolios and achieve higher returns. In addi-competition in port services, falling costs of wireless tion the large size and long payback periods oftelecoms have enabled serall operators to compete i i cture projects have demanded innovativewire-bmsased enetwor,and sindependento to compete with fmnncing techniques. Project financing (definitions inwire-based networkss, and independent power producers Bo11)hsgwnvrrail:93swte vcan construct and operate relatively small plants at unit Box 1.1) has grown very rapidly: 1993 saw the firstcosts comnparable with larger generators. Better meter- issues of revenue bonds to greenfgeld private infla-ing of power and water usage enables pricing for structure projects in developing countries (Philippinesdemand management, encouraging more efficient use. and Malaysian power projects).These technological changes are facilitating competi- Recently privatized utilities in several developingtion. Even small, low income countries are reaping the countries have tapped the international bond markets:benefits: IFC has financed independent power produc- for example, Argenta's two newly privazed tele-tion in Guatemala and NepaL and cellular telephones phone companies raised S800m in Eurobonds in 1993.in Uganda, El Salvador, Zaire, and Sri Lanka. And increangly financing is beig raised from

domestc financal markets.

Box 1.1 Project and Corporate Finance

Most of IFC's work focuses on project financig - wher the lender looks to the proects cash flaws to repaythe detg, and to the project's assets for secuity. It is also known as "stuctured financing" becaue it requesstructuring the debt and equity such that the project's cash flows are adequate to servic the debt often therisier the project's cash flows, the more equity is required.

Project sponsors (eqity holders) seek prect fiace bease it meas th project can be funded off thibalance shees Self-standing prqects, wh no guarante given by the sponsors (or government) to lendersfor the project, are known as non-recs. In practice most projects have Nited reeu financng,where sponsors commit to provide contingent financial support, aboe tbeir up-font equity commitment, togive lenders exta comfort The focus is usualy on ffie construt and startup period, whch is geeally theriskdest ime in te life of many infr projects For example, a sponsor ight undetake to fmiaecost overnTs during constructon until the project passes specfic opeatig and finmcial completion test

In some projects government agencies purchase a project's outpu diectly. Lenders therfor look to bothsponsors and the govermnent to provide credit e Thus in addition to sponsors covering tadton-al project risks such as cost ovenuns, lenders might requr a talk-or-pay contra firm the statewnedagency purchasing the project's output, or government assunc of compensation if future changes in gov-ermnent policy affect its viblity.

With corporate fiuncing, although fiance may be ostensibly providd for a project, lenders look to thecash flow and assets of the whole company to service the debt and provide secrity. Key elements includethe existence and qualhty of a company's f cil track recod, the viability of its expansio pla and coun-try conditions.

3

Learning from other countries' eperlecne has it was feasible to introduce competition into distnbu-been iportant. Many of the pathbreaidng actions tion as well as generation. Particular countries haveoccuned in developed countries: the 1978 US Public led the w ay: Chile and Argentina in Latin America;Utilities Regulatory Policy Act stard the independent Malaysia and the Philippines in south-east Asia;power producer industry by requiring utilities to pur- Hungary in Easter Europe; Sri Lanka, India andchase power from anyone willing to supply it at low Pakistan in south Asia; and Ghana and Uganda incost; the 1984 break up of AT&T showed that Africa. Private participation has spread across infra-unbundling telecoms services made them more con- structre sub-sectors, from telecoms and power genera-petitive; the privatizations of the telecoms companies tion, to ports, pipelines, roads, and more recently toin the UK and Japan in the mid-I 980s set the stage for water, railways and energy transmission andutility privaizations; and the unbundling and privatiza- distribution.tion of the UK electricity industry in 1991 showed that

4

IFC'S ECE BASE

Although mosdy new, IFC's infrastructure financing approvals, 21 repeat' operations with the same compa-experience has widened rapidly. IFC's Board has ny and four currencyrmterest rate hedges. Sixty sevenapproved fiacing for projects imvolving power gener- different companies in 26 countries are covered. Notation, transmission and distribution; telecoms; rail- all the approvals have made it into IFC's portfolio:roads; ports; pipelines; roads; water supply and waste some approvals have yet to disburse, and a few projectsmanagement; and infrastructure fimds (Annex 2 gives have been dropped after approval, usually because thea full list). In addition, IFCs fimancing pipeline (as of sponsors decided to use alternative sources of finance.the end of June 1994) included mass transit and airport The patters and conclusions drwn from tis data

projects. The study draws on experience from 88 are tentative. Although numbers are increasing rapidly,apprved trasactions, icludig new nvestment thiere are still relatively few projects, they are concen-

_________________________________ trated in particular sectors and countries, and manyTable 2.1 Infrastruture Project Approvals, have been undertaken only recently.1966 - June 1994

Pattem of ApproalseY No. Pmojct EFC gross IFC nct Between IFC's first infrastructure tansaction in

1966-87 7 517 31 78 1966 and June 1994, 78 investment projects were1988 2 409 56 56 approved, with a total project cost if $14.61 billion1989 6 704 149 109 (Table 2.1). IFC approved $1.58 billion of its own1990 4 1,279 179 129 fimds, and mobilized a fther $1.12 bilhion diretly1991 6 1,103 204 152 via participations and syndications - the "IFC gross'1992 a 1384 251 103 column shows fmancing provided by IFC and commer-

1993 15 3,699 667 355 cial banks (and some other fmancial insitutions) lend-1994 30 5,512 1,143 594 ing under IFC's umbrella2 . For every dollar invested byTotal 78 14,607 2,730 1,575 IFC a further $8.30 was provided by others: above the

Avatge 187 35 20 average for all IFC's projects, which in recent years hasAVrc7: 35 2 averaged about 6 to 1. About 90% of approvals have

Nbt: In 1994 pric, tolal project size wa 516.0 bn, taken place since FY90 (IFC's financial year runs fromIFC's gross iuvestment 52.9 bn and net 51.7 bn. 1 July to 30 June), with a sharp accel.sation evident

since FY92. Project sizes ranged from over a billiondollars down to several projects under $10m, with an

'"Repeat's an subsequent transactions undertaken with the same project company.2 The term _umrela" has no legal significan Banks may be encouRaged to lend to a prject by IFC's presence, because of its good

;cord of being repaid in pracice, but they recerve no guamtee fiom IFC of any kind

5

Box 2.1 Infrastructore Funds in Which IFC has Participated

Initial IFCApproa size of commit-date Name of fund fund ment Finance Focus

6/1993 Scudder Latin America Trust for $75m S25m Equiy Power; Latin America and__ndependent Powe Canbbean

3/1994 Asia Infastructue Fund $250m S50m Equity Power, telecoms,transport; Asia

4/1994 Global Power Investnent $450m $S50m Equity & Power; worldCompany mezzanine

411994 Central European Telecoms Fund $42m S14m Equity Telecoms; Cental Eumpe

average of $187m. This is larger than most of IFC's Figure 2.1 IFC's Projects Harve Been Mostly inprojects: the $20m that IFC averages on its own Lau. America and Asia...account in each infrasdtcture project is about 50%above its corporate-wide average. EEump OM)

During FY94 an important new trend has developed,which is reflected in [FC's appwvals. IFC has helpedto form several specalized infiastucue fimds to pro-vide equity, and increasingly is providing 'mezzaninerfinance (subordinated debt, guarantees, bridge fmanc-ing etc), to private infaswcu projects (Box 2.1).

IFC involvement in fnancing inas projectsbefore the late 1980s was constained by lack of oppor-tunities, since most utilities in developing countries L Am" (43%)4X)

were nationalized during the 1950s-1970s. However Sin. EC.

prvatzation and regulatory reform in a few countries _ _____ _____,enabled IFC's participation to rise rapidly in the early1990s. IFC's pattern of appovals has reflected this F-gEr 2.2 ...And in Power and Telecomsopening up of ivestment opportmities, with a concen-tration so far in Latin America and Asia, and telecomsand power (Figure 2.1 and Figure 2.2). However morerecent approvals and IFC's pipeline show wider diversi-ty (Table 2.2).

Four countries account for much of the value ofIFC's approvals to date: the Philippines, India,Argetina and Chile. They present an interesting con-trast. Chile, and more recently Argentina, have under-taken far-reaching privafization and regulatory reformprogams. IFC has responded by fiancing a wide POW r(Z8 range of infiastcre projects in Argentima, and teloe- (3

coms and power investments in Chile. In the scam: IFC.

6

Table 2.2 IFC Infrastructure Project Costs by Sub-Sector and Region, 1966 - June 1994

Total Projmect costs, Sm, cuet pricesNo. Cost Sm FY66-90 FY91 FY92 FY93 FY94

Total 701 ___3 2,909 1,103 1,3I4 3,499 3,465Sub4sctorPowdr 28 5,706 789 1,009 548 1,742 1,618Telecoms 21 4,861 1,955 89 350 1,586 880Ports 9 2 75 S - 109 34Pipelines 6 1,09 90 - 432 - 571Railroads 3 11 - - 55 62 -

Water 2 362 - - 362Roads 1 313 - - 313' - -

Regiona1tin America 38 5,980 1,260 157 688 2,407 1,469

Asia 20 4,947 1,582 927 548 1,005 886Europe 7 1,007 68 - 82 - 857Sub-Sah. Africa 3 102 - 19 67 - 16CAMENA2 2 323 - - - 88 236

Source: IFC.Now. This table, and those following, excludes IFC investuents in infrastucue funds.

[11 Exempted from the totals, as IFC did not provide finance directly, but underwrote a bond issue.t21 Central Asia, Middle East and North Africa.

Philippines and India a few private utilities sunrived, Finan Sourcesalbeit in heavily regulated environments, and by theearly 1990s IFC had fmnanced most of the major cor- Successful fnancing of private infrastrucurepanies. However, in the last few years the Philippines, involves matching the nsk-retun requirements of dif-and very recently India, have opened up their power ferent sources of finance (Box 2.2) with project char-sectors to independent producers; IFC has fimanced acteristics, through careful structuring. [FC's sampleseveral BOT schemes in the Philippines and in May of private ifrastructure projects shows that finance is1994 approved its first private power project in India - being mobilized from many sources, including privatewhich was soon followed by two further approvals. foreign lenders and investors, suppliers' credits, private

IFC's sub-sectoral experience is dominated by power local lenders and investors, intemal cash generation,and telecoms projects, with some ports and pipelines, and some lending from EXIM banks and mulilateraland a few railroad, water and roads ivestments. P banks (see Figure 2.3 and Table 2.3). IFC itselfprojects account for nearly half of approvals to date; accounted for 11% of the S12.4 bllione of fmancing.mainly in generation, although there are a few trans- Private foreign sources provided a quarter of themission and distnbution projects. The telecoms pr- fmancing; adding in suppliers' credits raises this tojects comprise cellular opeations in various countries, 35%. Some suppliers' credits were financed by exporta few largc investments in privatized wire-based opera- credit agencies, who-_ role in infas e fimancingtors and some regional concessions to provide local has undergone an important shift with the provision inservices. This innovative approach towards network 1993 of $523m in the first financing by the Japan andexpansion is being pioneered in Eastern Europe.

3The S12.4 bn figure excludes IFC investments in infras_uctre fimds (unime Table 2.1), because the funds cannot easily be catgoizedin tms of region and proect fiacial stuctr

7

Box 2.2 Financing Instruments, Sources and Risk-Return ProfilesEquity Long term capital provided in the form of shares, signifying part ownership of the company. Equityholders receive dividends and capital gains (or losses), based on net profits. Equity holders take risks (divi-dends are not paid if the company makes losses), but in return share in profits.

Internally generated cash Profits which are reinvested in a project. In a financial plan reinvested profits aretreated as equity, although they are not as certain as the equity available at the project's start.

Subordinated debt (also known as quasi-equity or mezzanine finance). Unsecured finance that is senior toequity capital, butjunior to senior debt. Subordinated debt contains a schedule for payment of interest andprincipal, but may also allow participation in the upside potential of an equity position.

Commerial Bank Project Debt Funds lent to a project company, secuitized by the project's underlyingassets. Unlike fnance provided by governments or multilateral bards, there are no government guarantees torepay loans made by IFC or commercial banks to private infs projects. Lenders seek i) projectedcash flows that can fmance debt repayment with a safely margtin ii) enough of an equity stake from sponsorsto demonstrate commitment; iii) recourse to sponsors in the event of specified problems, such as cost over-runs.

Debt fom EXIM Banks In the past EXIM banks asked host governments to counter-guarantee some risks,such as e pon However some are starting to provide debt on a non-guaranteed basis.

Bonds Financial secunties, usually issued by larger firms with a public listing, to borrow long term finance.Bonds are purchased by long term institutional investors, such as pension funds. They are risk averse, andwill generally only provide funds to blue chip companies, preferring those with a credit ating.

Revenue bonds are secured against a project's cash flow and assets rather than those of an established com-pany. Purchasers require a high level of confidence in the project (eg strong sponsors, contractual arnge-ments and country envirnment) and this is still a new market in developing countries.

US EXIM banks without direct governmc1t guarantees important source of financing - and are able to gener-(to a Philippines power project). ate it. Semi-official sources accounted for 9% of the

A quarter of the financing originated from private financing. Both extemal official agencies such aslocal sources. This is partly because many of IFCs IBRD, ADB and CDC, and domestic publicly ownedolder projects were in countries where domestic finan- institutions, provided finance.cial markets were already quite developed, such as The financial structure of several IFC projectsIndia and the Phiiippmes. In addition some recent pro- illustrate how balances have been struck between thejects bavc been underaken in countries where domes- security requirements of lenders and the financialtic fnancial markets have developed rapidly (e.g. needs of sponsors. An expansion program for aChile, Argentina). large telecoms company had a 57:43 debt-equity

Nearly a fifth of financing was expected to come mtiQ The debt was mised from an IFC senior loan,from internal cash generation. Virtually all of this was together with a syndicated loan organized by IFCin expansion projects, where it accounted for 26% of (where commercial banks lend to the prject underthe total project cost Although there are signfinaut IFC's umbrella), a small subordinated loan to coversub-sectoral differences (telecoms projects have higher contingencies and a bond offering in the local marketself~-fncmng raftos), thuis suggests tiat prtvate mfra- Equity consisted of future internal cash generation, ansucture managers view internal cash generation as an American Depositary Receipt issue and sponsor funds.

A greenfield power project had 73% debt, which was

*Fancing smce at Xe time of IFC Board appovaL

8

Figure 23 Main Sources of Finance Figure 2.4 Country Origin of Private Equity InIFC Projects

Priv. torlgn _B25% Equity ind.

Country reiumted eunuip

USA 51%Hong Kong 17%Spain 8%France 6%Canada 5%

Suppl'r Malaysia 4%cred. ~~~~~~~~~Britain 2%

10% i f

Belgium 2%OfficioUpublic al cash ~~Others [11 5%

Ofalblic " . l - Internal cash Total 100%

IFC 11% Amount Sm S1,191m

Total: $12.36 billion Source: IFC. Fancing plans ofSource: I FC. p gjfta Board approval.ource.___________________________________ _ .Nobre.: 1. Japan, Sweden, Sinppore,

raised fr.m international commercial banks, and 27% Italy, Finland, Norwy, Switzerland.equity, from the main sponsor, passive private irnvestors

and IFC. A project to operate and rehabilitate a rail- Where is the foreign equity conning from? US-way concession had a debt-equity ratio of 41:59, with based multinational companies have provided over halfloans from IFC and syndicated banks, while the equity (the total of $1,191m shown in includes future allocat-was drawn from sponsors, IFC anI cash generation. ed intemal cash generation). Again, the limited size of

Table 2.3 Aggregate Financial Structure of IFC's Infrastructure Projects, 1966 - June 1994

Sm, curnmt pnoesD_t QuasiequitY Equt Total

IFC A 1.083 IFC C 160 IFC 160 IFC owaaccount 1,403 11.4%IFC B 1,128 IFC D 9 IFC synd'npaxt'n 1,13 9.2%1RD 347 MRD 34 2.8%Other multilal 567 Oher muldlaterl 6 Other mukltrl 101 Othr muliaer 6 SASand biatel l] and bilatral [11 and bilaterl [13 and biaterl [1]Domestic public 102 Domestic public 2 Domestic public 19 Domcstic public 123 1.0%Priate forign 1,217 Private forein 98 Private reign 653 Private foreg 1,96 15.9%Private local 1,824 Privae local 236 Private local 1,114 Psivate local 3,17 25.7%Supplie credits 1.216 Suppi' credis 1.21 9.8%

unlcah 2,320 lbn 2,32s 18.8%

Total 7,483 S10 4,367 12,30% of tow 61% 4% 35%

Source: IFC: Fimancing plans from ?0 infasucturc investment prjc as presnted in to Bord repors.om.: [1] Includes KfW, ADB, CDC, DEG. OPIC, EBRD and Export Creft Agencie (except in two cae wher

Exim loans were classified as private foregn, becus government countez.guanaee wee not required).

9

Table 2.5 Summary Financial Structures 1966 - June 1994 (Unweighted by Project Size)

Unweighted averageNo. o IFC IFC own

Sector projects Debt Equity Lcl [1] Foreign Pnivatesynd/part account Public

All projects 7C 59% 41% 40% 60% 58% 12% 21% 9%By sub-sector: 121Power 28 68% 32% 39% 61% S6% 11% 20% 13%Telecoms 21 50% 50% 36% 64% 61% 11% 18% 10%

By reion: [2}

LAC 38 56% 44% 41% 59% 56% 18% 23% 3%

Asia 20 68% 32% 42% 58% 63% 4% 17% 16%

Greenmield or expanion:Greenfield 30 59% 41% 33% 67% 56% 12% 22% 10%

Expansion 40 59% 41% 47% 53% 60% 11% 21% 8%

Sourc IFC.Notw [11 All suppliers' credits assumd to be foreign. lIntelly generated cash split according to equity.

[21 Splits with under 10 observations excluded: ports, pipelines, nilroads, roads, water, Europe,Afica, CAMENA.

IFC's portfolio should be noted in interpreting these ii) there is a higher proportion of debt indata. The single largest equity placement in an IFC power projects than telecoms (Figure 2.4).project was for a Philippines power project, sourced The difference lies mainly in internal cash gen-from Hong Kong. In other projects, companies based eration. Many power projects are greenfieldin Spain, Malaysia and Singapore have also provided BOTsWBOOs, without any internal cash genera-equity. These partners reflect both historical ties (e.g. tion in the fmancing plan, whereas telecomsSpanish links with Latin America), and the increasing- projects often use reinvested profits to helply global approach to investment opportunities being fmance expansion;taken by large companies, either as sponsors or minori- iii) foreign fim..ng exceeds local financing inty participants. Thus a Singaporean company is a af sub-sectors and regions. Although there ismajor shareholder in a Sri Lankan cellular project and sample bias (by defmition all of IFCs projectsa Malaysian company has invested as a minority par- have some foreign fancing), there seems toticipant in an Argentinean gas distribution company. be a need for foreign fiancing particularly

during the early stages of a shift to privateFinancing Structures involvement in infrastructure; and

Table 2.5 shows indicators of the fmancial structure iv) foreign funds have been more important inof projects at the time of IFC's Board approval, broken greenfidd projects than in expansions.down by sub-sector, region and greenfield/expansionstatus. The figures need cautious interpretation owing Project Structures and Ownershipto the small sample size, but some paterns emerge:

i) the average debt:eqmity ratio was 59:41, but IFC has supported private participation in infiastruc-

this conceals a wide dispersion of debtequity ture by fiancing:ratios between individual projects;

10

i) large, well-establilhed private companmles, Figure 2.4 Debt: Equity Ratios: Allmainly in India and the Philippines. Many of Infrastructure, Pwer and TelcomsIFC's older projects took this form;

ii) small, but newly-established private compa- % of total project oostnies operating in niche markets that did not 100 .*Equityexist before, either because of technological so . E_Debtdevelopments (e.g. cellular telephone) orbecause state-owned companies previously had ..a statutory monopoly (e.g. some port projects); 40 .. , . ,

iii) spechl project companies that have been set 21tup by existing companies to provide infrastruc- O _' :-.'-UP ~~~~~0-ture services: a port in Argentina, an electricity All lnfr projects Power Telcomstransmission line in Peru and a gas pipeline in Source: IFC.Colombia;

iv) greenfield projects structured on a Build-dw -Operate-Transfer (BOT) or Build-Own- project to be implemented worldwide - theOperate-T(BOO)ebasis.Power pla-Ownts first was another Hopewell project in China;Operate (BOO) basis. Power plants, portsand a wastewater treatment plant have been - the first BOT project to be approved in Latinfinanced under these structures; and America was a 25 MW hydroelectric project

vs) companies which bave taken aver prhatzed in Belize costing $59m. Construction startedassets, either via divestiture, or under a con- in Jub 1992;cession where the state retains ultimate owner- - the Philippines 700 MW Hopewell Pagbilaoship. Examples include telephone operators in power plant approved in 1993 was a doubleChile and Hungary, and several Argentinean landmark: i) its size sent an important signal toutilities: gas and electricity distribution, two investors, despite difficult country conditions,ilroads and the Buenos Aires water supply and many other projects have since been fnal-

system. ized; and ii) it was the first time that EXIM

In only four of IFC's projects has there been a sig- banks provided loans without governmentnificant government ownership although in two cases guarantees for a developing country power(main telephone operator and a cellular company in project;Hungary) the state was in the process of reducing its - the Philippines Northern Mindanao project,share when the investments were made. A consisting of fast-track construction of twoZimbabwean pipeline project is structured as a 50:50 diesel-fired base load plants, was one of theventre between a foreign partner and the stae-owned first to mobilize local capital;national oil company, and the Colombian stateowned - in March 1993 IFC financed a $92m project inoil company has a 40% share in a company that oper- Guatemala, onsisting of 20 barge-moutedates a gas pipeline (although the Colombian govern- diesel generators. A second project, a hydroment has announced it wlU reduce its shareholding). pin, was approved in 1994;

BOTs, BOOs and other concessions have been used - a Chilean project will sell power under severalwidely (Table 2.6 illustrates different sectors and struc- long term contas to vanous users, includingtures), particularly in the power sector. a private electricity transmission and distribu-

- the S41m Hopewell Navotas peak load plant in tioi compny;the Philippines was completed in March 1991

and has effectively been used as a base-load two of the first private power generation proand has effectively been used as a base-load jects in India vwere approved in mid-1994.plant since. This was the second BOT power

11

Table 2.6 Examples of Project Structures: BOTs, BOOs and Concesslons

FY PruJed & COutY Sector and deuriptn StwucturperId1989 Hopewla Navotu, Philippina 200 MW gu tuibine peak load plIt BOT: 12 year1991 Acocagna, Chil 73 MW hydro baw lod plant BOO: various long lenn contrat1993 sBalm Electric Co., Nelisz 25 MW hydro bue load plant BOT: 40 yean1993 GOTM, Mexico Liquid .omg. terminal at port Concesion: 12 years1993 Hopewell Pgbilao, Philippines 700 MW coal-fired ba load plant BOT: 25 years1993 Northern Mindunao, Philippinu 103 MW diesl-fued ban load plat BOT: 10 and 12 year1993 Puexto Quetzal, Guatmala 110 MW diescl-fired barn bld plant BOO: 15 year purchae agreement1993 Karachi Port Terminal, Pakistan Container terminal at Karachi port BOTlconcearion: 20 year.1993 FEPSA and Nuevo Centra, ManaSement of two rilway snctions Concesion: 30 years

Argentina1994 Terquimca, Venezuela Pozt lquid and bulk storage Concsion: 20 yea1994 Transconor, Argentina Gs ditribution Concession: 35 year1994 Edenor, Argentina Elctricity distribution Concession: 15 years

1994 CTAPV, Mcxico Wastcwate treatment BOT: 15 yeas1994 Aguas Argentina, ArgentLna Waer and sewge Congession: 30 year

1994 Fabrigas, Guatemal Power gaeetion BOO: 1S year purchase ageement

Source: IFC.

Both are mobilizing significant amounts of Table 2.7 Foreign Technical Partners in Somelocal finance; IFC Infrastructure Projects

- IFC has helped to finance the investment planof Edenor, which won a concession to distrib- Project, count Tehnical partneute electricity in northem Buenos Aires; and basedin:

- the $126m Hinal hydropower project in Nepal R Argentina usis the first private power investment in the Geas distibution, APginpina Fandcountry. Under the project it is also anticipat- Gas d treatmen, Mexico UKed that the Norwegian Agency for Port, Mxico Japan/USADevelopment Cooperation will make its first Petroleum pipeline, Zinbabwe UKloan and guarantee of export credit without a Power generation, Belize USAgovernment counter-guarantee. Cellular network, El Salvador USA

Cellular network, Sri LTnka Singpore

Foreign Sponsors and Technical Backup Power generation, Guatemala USASourc IFC.

Foreign sponsors are often important, particularly ingreenfield projects. Out of the 30 greenfield projectsfinanced by IFC, foreign sponsors held controlling orsignificant equity stakes in 22 of the companies. either equity holders or participants in O&M agree-Foreign companies bring expertise as wel as funds, ments (Table 2.7 gives examples).particularly for technologically complex or lage pmo The main exceptions among IFC's projects to thisjects. All of IFC's cellular projects include a foreign patem have been: i) the older established private com-iaruer (often holding a controlling stake) and most of panies, such as the regional Indian power companies,the BOT/BOO projects involve foreign partners as and two Philippines utilities; ii) projects where a

12

group of domestic comnanies pooled Tabk 2.8 VC'. Iofrasuture Nbrthflo 1990 - 1994resources to set up a serice for themselves(Colombian gas distribution, Peruviantrnsnission line, Argentinean port); and J_ IM J IM J 1994iii) projects in countries where the regulato- Summwy iudlcators

lnfiastucbur portfolio Sm 197 S3S 893ry framework has strengthened and domes As X of totl IFC potfolio 4.2% 8.3% 11.3%tic financial markets have developed rapidly No. of idir. comp.io 8 20 35(e.g. a Chilean independent power project). By w b *n

Power 92 287 583IFC's Portfolio T d ciO84 197 224

Por 10 13 14The volume of infrastructure projects in Pipelina 12 28 36

IFC's held portfolio' has increased sharply: RPiubods 0 0 26from 8 companies and Sl97m in June 1990 Roads 0 10 10to 35 companies and $893m in June 1994 By 214m sm(Table 2.8). Infrastructure's share rose 1 323 30more slowly, because IFC's total portfolio hia 177 323 430was also expanding rapidly, but still nearly Africe 0 23 20trebled between 1990 and 1994 to reach CAMENA 0 0 01 1.3%. The share will continue to rise: in Four key amns SmFY94 23% of the dollar amount of IFCs Philippines India,new apprvals were in infas .Argan Chile 181 430 696

The infrastructure portfolio is presently Sowe: IFC.biased towards loans, reflecting limitedequity opportunities in earlier years,although this is changing rapidly.Currenty, equity and quasi-equity accountsfor over 30% of IFC's new infrastructure the projects are still bing constucted. Prelimiaryfmnc ings - indicating the significant involvement t results from 31 projects for which some figures areIFC has in projects beyond the prvsion of loan availaie suggests that costs have come in under bud-fiui5iice get, while thre has been some slippage on implemen-

Power projects account for about 60% of IFC's tation schedules (Table 2.9). Some of the cost savingsinfrastucture portfolio, with telecoms making up were due to reductions in project scope. The timeanother quarter. The Philippines and India account for overruns were calculated on the basis of the expectedvirtually all of the Asia exposure, while the Latin completion date at the time of IFC Board approval; inAmerican portfolio is more evenly distributed. IFC's some cases delays resulted from problems in closinglargest Latin American exposure is in Chile, followed finaing, rather than physical implementation.by Argentina, with other projects in Belize, Bolia, How do privately and publicly financed projectsColombia, Costa Rica, Guatemala and Mexico. compare? There are no conclusive answers available at

this stage, but IFC's figures sugest, very tentatively,Project Completion Performance that pria ficiers do manage at least the cosruc-

tion phase of their projects more efficiently ta thoseHave the projects met their budgets and implemen- that are publicly financed. Figures from severl hun-

tation schediles? The evidence so far is extrmely tm- dred infastructe projects financed by the Worldtative, and based on a very small sample as many of Banks (used as a proxy for publicly fmanced projecs)

'Thr hedd porfiio compnses disbursed and cmmted isbued fbnds, less repsyments ady made.'AuugRenew of Ewhwio Rewfu -992 (peto Evaluion Deamnt Woxd Bak) Ame Ta 1.14.

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over 1974-1991 indicate that the projects suffered time Table 2.9 Schedule and Cost Indicators of IFCoverruns averging SO0o-7 0%, and cost overruns of10%-20% in dollar terms. These cannot be compared IStructre Projectsdirectly to IFC's small and new sample of projects formany reasons apart from the difference in size and Number of project 31geographic spread of the sample: the World Bank's Eat, project paeio (mouths) 27.6projects are typically larger, more capital intensive, Time overruan (months) 7.1more complex, they last longer, often include institu- Budget outn (%tional components that are completed long after the overfunder original estimate) -5%physical project, lifetime performance is more impor- Souc: IFC.tant than construction efficiency, and World Bank pro-jects may not be an accurate proxy for publiclyfinanced projects as a whole.

Neverthless, without drawing firm conclusions atthis stage about the relative lifetime performance ofprivately and publicly fmanced projects, it does seemfrom IFC's current experience that strong incentives tomanage risks contribute towards the construction effi-ciency of privately financed projects. This is discussedin the next section.

14

MANAGIN JECT RISKS

Infrastructure projects differ from many other types What part can governments play in facilitatingof private sector investments in developing countries. private financing and risk taking?Many have long lives, are large, immobile, generateonly local currency revenues, buy from or sell to gov- Risk Analysis from Differenternment agencies directly, are vulnerable to regulatory Pchanges, and have politically sensitive tariffs. Private Perspectivesfinanciers are understandably cautious, yet they have Successfl analysis, allocation and mitigation ofresponded vigorously when presented with appropriate risks is the central feature of private infrastructueopportunities. Clearly, many of the risks privateinvestors confront are considered manageable. This financing. Each ofmthe parties involved in regulating,section addresses three questions, using examples from fnnigadmngn rvt nrsrcue(osection adesshequtosu3.1) faces nsks. These are addressed through a web ofIFC's projects: interlocking contractual agreements, supported by

What role does risk analysis and management incentives. The incentives are backed by insurance,play in financing private infrastructure? performance bonds, concession withdrawal options,

Are private financiers willing to bear risks, and if sponsor support agreements and buyout clauses.so, what kdnd? Incentives matter. A concessionaire failing to meet

investment targets set by the government may lose its

Box 3.1 Pgrties Involved in Private Infrastructure Financing

Sponsors (owners) provide equity and are the driving force behind a project. Passive investors, such asIFC, may also take equity positions.

Contractors consuct or operate a project company's assets, and sometimes form part of the sponsor group.

Government Govemment involvement ranges from public-private partnerships, where govmmments partici-pate directr, to private-private deals, where govemment acts as a reglator. Preparing a project involes dea-ing with different governmental agencies, coerng the reuatory fiamework, nmental pe , landimports and access to foreign exchange.

Customers Infrasucture services may bepurchased by a single custm (e.g. power supplied by an inde-pendent power producer to an electricity utility) or by many users (eg. a toll road).

F}_aciers Banks and other finncal institutions that lend money to the project Investors may also povde"passive' equity.

Falttors Assessing a project and desiging a legal and fiancial structure to suit all pardes requimes finn-cial analysts, lawyers and engineers IFC provides all of these services.

15

performance bond first, followed by the concession There are three stages to considering risk. Firsl, thealtogether. A project company subject to penalties if severity of each risk needs to be assessed. From theits power station is completed late will build in larger sponsor's perspective: what is the government's macro-penalties for non-performance of its sub-contracting economic record? What has happened with similarconstruction company. A bank will require sponsors to projects? From the govermnent's perspective: is thecover cost overnms before it provides a loan. The sponsor technically and financially strong? Is it politi-rtionale is simple: profitability is quickly affected by cally feasible to allow the concessionaire to reducepoor performance. A 12 month delay on a project employment in an enterprise? Lenders ask both sets ofexpected to yield a 15% rate of return over 10 years questions: given that they lend from a leveraged capitalcould lower that rate by a fifth'. base but do not share higher than expected profits, they

have the strongest incentive to assess risks thoroughly.Fiagureem3.1s showsrt complxctionterlocingepeentrc Second, the party that is in the best position to man-tual agreements for construction of an independent

power project (IPP). Several "second tier' arrange- age each risk is identified. For example, the projectments give extra comfort: the government has guaran- sponsor is best able to manage commercial risks,teed the performance of its electricity utility, which is whereas the govermnent has control over regulatorypurchasing the output; the sponsor has guaranteed risk. Finally, each risk is allocated, priced or miti-plant completion within a certain date and time, and gated between the parties, via contractual agreements.payments are being miade into an escrow account, to Risks do not disappear, but are borne by the parties

pzyments~~~~~~~~~~bs able ton mada mt them.w ccut,tgive the lenders extra comfort regarding debt service. best able to manage them.

Infrastrucftie projects face many risks, some specif- .Ideally the confidence of prospective pr*;.ateinvestors can be built up via a long period of macro-

incrato sub-serictrs, otheriskt rounries, ancluds otherseconomic stability, along with regulatory and structuralgen,eral. A generic risk profile includes:reforms. But most countries cannot afford to wait.

Commercial risks IFC's experience shows that private investors are will-ing to invest in countries where there may have been a

i) project-specific risks: developing and con- recent history of instabiliy, providing that risks aresaucting the project, operating and maintain- allocated appropriately.

ing the assets, and finding the market-, Table 3.1 shows how lenders assess and mitigateii) broader economic environment risks, includ- risks associated with infrastuctr projects. Because

ing interest rte changes, inflation, currency the unusual feature about infrastructure projects isrisk and international price movements of raw addressing risks posed by government actions (lookingmaterial and energy inputs; and for strong sponsors to mitigate construction and opera-

tional risk is common to all projects, for example),Non-commercial or policy isks these are considered in more detail below, using IFC's

iii) project-specific policy risks such as expropri- project examples.ation, changes in the regulatory regime, and Three stages, with different risk profiles and financ-the failure of the government or its public ing requirements, are typical:enterprises to meet contractual obligations; and

i) development phase: very high risk, so usuallyiv) political risk includes events such as war or only equity capital is used;

civil disturbance. ii) construction and startup phase: high risk,

The relative importance of each depends on the and requiring large volumes of finance.nature of the project itself, the (perceived) volatility of Mixture of equity, subordinated debt, seniorthe broader economic and political environment, and debt and guarantees used; andthe priorities of financiers.

' A Slm prnject irirred in year 1, with S200,000 revenues in each of the following 10 years and no salvage value, yields an intenal rateof return of 15.1/. A one year delay, but extending the project to an elventh year, lowers the return to 12%.

16

Figure 3.1 GovContractual Structure of a

BOT Project (Construction Phase)

PerformanceGuarantse

/ | ~~~~~~~~ ~ ~~~Project / ~~~~~~~~~~~Agreement /\

{ Escrow A Excess\ Agent jl Cash ProJect C ty Sponsor

Flow \ Gant

Servi AgreementSorviu \ | ~~~~~~~~~Construction Cntractor\\ _ | ~~~~~~~~Agreement \ c-prcwe

- > ~~~~~~~~~~~~~~~~conftrd) /

Lenders

Table 3.1 Assessing and Covering Risks: From the Lender's Perspective

Type of Risk I Who controls Ahsessing/covering/mitigatingCommercial: project specificProject concept and Sponsor Independent cost review; review similar projects (espec. incosts country); use tested technology; contracts for construction,

operation, supply and, if possible, project's marketProject's supplies Supplier Supply contract (e.g. coal to power station), sometimes "supply

or pay' basis; govt guarantee of SOE supplier performanceMarket (multiple None Independent surveys to verify demand forecasts; agreements tousers: toll road) provide access to market (e.g. concessions to supply telecom

services); competitors/substitutesMarket (single Purchaser Take or pay contract; revolving letter of credit from purchaser topurchaser: power) provide advance payment cushionSponsor Sponsors Substantive equity commitments; lead sponsor strength; creditcommitment and review; technical strength; knowledge of country conditions;strength commitments to cover cost overruns and meet operating criteriaContractor or Sponsor or Technical/geographic experience and performance; financialopemor contractor strength; contractual arrangements (penalties, bonuses,

transparency, arms length from sponsors); insurancearrangements (e.g. business interIuption)

Commercial: economic environmentCurrency/interest Varies, but Hedging; sponsor guarantees to cover cost-overruns duringrisk partly host construction; use some local financing; govt agreement to link

govt project tariff to debt service costs if devaluation affects bothInflation Varies, partly If regulated, govt agreement to link tariffs for project's output to

host govt an inflation index, if appropriateNon-comnnerciah project specificRegulatory |Host govt Detailed concession agreement, specifying conditions;Expropriation Host govt Previous record; concession terms; include local sponsors and

perhaps foreign investors from different countries; insuranceObligations of SOEs SOE/govt Contracts; govt guarantee of SOE performance;Non-commercial: non-project speciricCountry risk (e.g. Host govt Country exposure limits; govt guarantee of exchange availability;forex not available) project revenues paid directly into an offshore escrow accountPolitical (e.g. war) Govt/no party Insurance; buy out clausesLegal risk Host govt International arbitation; use neutral country contrctual lawForce majeure No party Insurance (e.g. for earthquake, fire)

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Box 3.2 El Salvador Cellular LicenseIn El Salvador ANTEL, the state-owned wireline operator, is also the regulatory authority. In 1991 ANTELissued a tender for the country's first cellular license. The winner was to be judged on compliance with tech-nical standards, extent of coverage, experience and financial strength. Four consortia made offers and alicense was awarded in September 1991 to a joint-venture company with control held by the foreign share-holder/technical partner.

The national license is exclusive for the first 5 years, valid for 15 years and extendable in 5-year blocks, pro-vided the holder is complying with the license requirements. The licensee is free to adjust tariffs as long asthey remain in line with intemational levels. The winning company (which IFC has financed) started opera-tions in 1993 and expects to reach 6,000 subscribers within three years; the backlog of demand for wire-based service means that this target may be achieved earlier.

iii) operational phase: lower risks. Refinancing between a new investor's initial perception of risk andwith bonds may be possible. the reality of how rapidly approvals are implemented.

Famniliarity with the regulatory framework is one rea-

Development Phase son why repeat investments by established operatorsare sometimes observed in a particular country.

A prospective sponsor assesses the project's scope, Another development risk is that a sponsor will bethe selection process, and the likelihood of securing awarded a concession but will not be able to mobilizefinancing. Permit requirements need to be evahiated, finance. A sponsor who has no infrastructure trackpreliminary cost estimates prepared and, after record. or a limited financial base, or has gained a con-approvals have been obtained, a financing agreement tract on uncompetitive grounds may find it difficult tomust be signed, with appropriate securities. The main mobilize project financing. Lenders may be wary ofrisk is in having a project proposal rejected by a gov- financing a high cost project that could be subject toeinment agency or financiers. Opaque selection proce- renegotiation later, or the project may go ahead withdures, unclear concession proposals or arbitrary higher financing charges. For sponsors with 'umitedclearance processes can all result in potential sponsors financial capabilities, the main risk is finding suitableeither not bidding, investing less effort in bids, or equity partners.building in a premium to reflect the probability ofdelay. Transparent selection procedures can increase Construction Riskthe number of potential bidders, lead to better docu-mentation in bid proposals and reduce risk premiums Companies hedge construction risk by: i) using

in cost estimates (Box 3.2). fixed-price, certain-date turnkey construction contracts

IFC's experience shows that regulatory authorities and building in provisions for liquidated damages ifcan adapt relatively quickly to the requirements for pri- the contractor fails to perform (and bonuses for bettervate entry. In the Philippines the first private power than expected performance); ii) taking out businessprojects negotiated in the late 1980s suffered some start up and other standard insurances; iii) building inapproval delays, but subsequent projects were dealt a contingency to cover for variations; and iv) buildingwith more efficiently. Thus in the early stages inexpe- in excess capacity, to allow for some technical failurerience within the implementing agencies can contribute to reach the required capacity. Table 3.2 shows ato the risks and delays facing investors, but with an generic risk analysis chart, viewed from the projectappropriate framework the risks should fall over time. company's perspective.

However, while the regulatory authorities may gain Lenders will not assume completion risk, so the bur-implementation experience, new investors still have to den is put on the project company, its sponsors, con-learn the rules from scratch. There may be a lag tractors, equipment suppliers and insurers. Typically

19

Tabk. ;.2 Risk Analysis Chart for a BOT Project: From Project Company's Perspective

|Project company exposure andPossible event lWho controls 1protection methodsPre-Completion RisksChange orders Sponsortbanks Somewhat exposedDamage caused by Force majeure Insurance for litnited eventsexcepted' risks

Delays due to:a) extension of time

i) project company fault Sponsor Exposedii) force majeure event No one Partly exposed

iii) delayed site possession Sponsor/Purchaser Exposed/Buyout provisionsiv) change orders Sponsorlbanks Substantially exposedv) delayed permits No one/Sponsor/Contractor Exposed/Buyout provisions

b) suspension of works Indeterminate Exposed

c) contractor fault Contractor Contractor liquidated damages(certain % of contract price)

d) inefficient implementation Sponsor ExposedDamage Accidental InsuranceAbandonment or prolonged Sponsor Non-abandonment provision.delay or failure to complete Foreclosure on assets. Sue for

damages. Project company paysliquidated damages up to a limit.

Post-completion risksForce majeure- due to government Government Buy-out mechanism- non-govt insurable No party (earthquake) Insurance- non-govt non-insurable No party (war) Subject to negotiationChange in circumnstancesa) change in laws Govermnent Buyout provisionsb) change in approvals etc Government agencies Purchaser contracted to pay if

capacity is availablec) Purchaser failure to make Purchaser, and indirectly, Government guarantee oftimely payments govemment purchaser's performanceTechnical defects Manufacturer, contractor, Liquidated damages and

sponsor performance guarantees

Operations Sponsor/contractor Exposedlcontractor damagesMaintenance Sponsorlcontractor Exposedlcontractor damages

20

the project company stipulates a completion date in the payments for performance; iii) business interruptionproject agreement, complete with penalties and insurance. In a water supply project financed by IFCbonuses. It negotiates a similar, but tighter contract the concession requires the lead sponsor to maintain awith a construction company, with liquidated damages minimum ownership share. in order to ensure that itsprvisions and bonuses. In a power project recently technical skills are always available to the concession-approved by IFC the turnkey contractor will provide aire.the project company with i) a cost guarantee; ii) aschedule guarantee; iii) a heat rate guarantee; iv) a Market Riskreliability guarantee of availability; v) a net outputguarantee; vi) an environmental emission guarantee; A fourth category of risk is the market, which isvii) an overall performance bond; and viii) a corpo important where consumers can choose alternative ser-rate guarantee of its parent company. Lenders may vices, as with toll roads, railways and sometimes. portsalso require sponsors to guarantee to fund cost over- and telecoms. Occasionally governments absorb someruns. Sometimes a third line of defence may be of the risk, either explicitly or by default. In a Mexicoemployed, via a standby credit facility. If there are toll road that IFC helped finance the governmentspecial risks with the parties, lenders might insist on agency awarding the toll concession 'guaranteed' aother measures, such as requiring the contractor to minimum level of traffic; if this was not achieved thenshare in tne overrun guarantees, particularly if the the concessionaire was allowed to extend the life of thesponsor's credit cannot be fully relied upon. concession. After a series of weather-related adverse

These types of measures seem to have worked well events in the first two years an Argentinean railroadin prctice on IFC's projects. Although one power pror concessionaire asked the government to waive its con-ject was delayed by six months due to transit damage cession payments and to allow the required investmnentto the generators, insurance covered the damages and program to be deferred for two years. However, exceptloss of business (although it took almost two years to as descnbed below, the project company bears marketsettle the claim, requiring the project sponsors to pay risk. It is difficult to hedge against mar.,et risk -in the meantime). although cellular companies can adjust the rate at

whuch they add new capacity. Two reactions to adverseOperational Risk market trends have been seen in IFC's projects:Operational Risk rescheduling debt, and scaling back capacity.

Fuel availability and costs are important opera- The exception is where there is a single buyer of thetional risks in power generation projects. Fuel costs project's output, as with many IPPs, and some pipelineare often passed on to the purchaser, although the tariff projects. Here market risk is taken by the purchaser.regimes in operation allocate these risks differently. The Power Purchase Agreement (PPA), which is theThe Philippines National Power Corporation has key contract in an IPP, is usually structured in twosigned contracts which pay independent power produc- parts: i) a fixed capacity fee is paid if the plant meetsers only for energy conversion and supplies fuel to designated availability requirements, and which coversthem at no cost. Another method is for the project to debt service payments and an equity return; and ii) anarrange purchase and then to pass on the cost directly; energy fee, which is related to actual power deliveries.this has been used in Guatemala (where the suppliers Inasmuch as the sponsors share in the market riskare private companies) and in some Indian projects through the energy fee they are really sharing in the(where some suppliers are state-owned companies). upside potential: higher energy purchases mean larger

Technical risks are borne by the project company profits. However in more sophisticated and privatizedwhich undertakes to operate and maintain the plant to regulatory envwonents IPPs take more maket rsk.certain standards. These risks are typically hedged via In an IFC Chilean BOO power project the company isi) performance guarantees firom supplier companies; ii) developing the project without having a single-pur-sub-contracting a specialist compay to undertake chaser PPA; instead it has signed several long termoperation and maintenane, with bonus and penalty contracts with different (private) purchasers.

21

With a single purchaser, market risk becomes pay- or in pmjects where charges could be levied direct!y inment risk. Companies can hedge against this by ask- hard currency.

ing for guarantees of the contactual performance of How can the foreign exchange equivalent value of astate-owned enterprises (SOEs) as has been done in project's revenue stream be maintained -especiallyIFC projects in several countries, including India, when infrastructure tariffs are subject to political influ-Nepal and the lnilippines. A government guarantee of ence? The methods used to deal with foreign exchangethe contractual obligations of an SOE is not the same risk in IFC-financed infrastructure projects include:as a government guarantee that a loan will be repaid(Box 3.3)'. But even this may not completely remove i) building into the concession a commitment topayment risk if the government has financial problems link the project's tariff to the US dollar, butitself. For example, one cellular telephone project has making payment in local currency. This wasachieved expected build-out rates, but profitability has done in a Guatemalan power BOO, for exam-been lower than anticipated due to a problem with col- ple. Argentina's government has gone further:lecting debts due from government telephone users. much of its privatized infrastructure is regulat-

ed by tariffs which are set in US$ and billed in

Foreign Exchange Risk Argentine pesos, with adjustments allowedsemi-annually to reflect changes in the USProducer Price Index. This leaves the project's

eign foanciers iec esting in developing countries. lenders vulnerable to convertibility risk (as iseign fnancirs invstingin deelopin counries,the case with most of IFC's traditional non-Most infrastructure projects generate local currency infrase investmns s has nunrevenues (apart from some telecoms and ports pro- nrsrcueivsret) ohsbe sdirevenues (part from ome relecos and ~ ~_ountries where foreign financiers have beenjects). This raises two issues: i) will the project have wilnto bert risk;access to foreign exchange to cover debt service and willing to bear that risk;equity payments; and ii) will the foreign-exchange ii) similarly, the government may permit a givenequivalent of the project's tariffs be adjusted for deval- return on an asset base that explicitly includesuation and thus enable foreign debts and equity to be the cost of foreign debt service. This was usedserviced. Most of IFC's infraricture projects have to regulate the private power utilities in India,been undertaken in countries where private investors and for a pipeline in Zimbabwe;judged that convertibility was likely to be maintained -

Box 3.3 Guaranteeing Contractual Performance Versus Loan RepaymentsIn some BOT power projects the host government has been asked to guarantee that the conwmctual obligationsof its power utility will be honored. When a government guarantees the payment obligations of one of itsutilities, it undertakes to recompense the BOT contractor for power that is supplied or made available. If thecontractor fails to honor its commitment, no payments from the govenment utility will be owing. The pay-ments guarantee does not affect the sponsors' responsibility to complete the project on time and within bud-get, and to operte the facility to specified levels of performa;nce.

Contractual performce guarantees differ from the guarantees of loan repayments that governments provideto official develonpent agencies (but which IFC, by its Articles of Agreement, cannot accept). A loan repay-ment guarantee has to be met regardless of whether the borrowed funds create value added, and governmentshave sometimes found themselves repaying loans that generated litde economic payoff. Unlike performanceguarantees, government guarantees of loan repayments can alter the incentives strucre of a transaction, par-ticularly those that depend on capital being supplied at-risk.

In a small number of IFCs projects part of the loan financing has come from an official development agenc, which requires a guaanteefor repayment of its loam The vast majority of loan fmnancings made to IFCs projects (including IFC's portion) are on an at-risk basis, withno repayment guarantees

22

iii) in the Philippines, power purchase agreements projects, NPC is obliged to buy the company's assetshave been partly denominated in US dollars, according to a pre-specified formula, under certain cir-and in some cases the state utility pays fees cumstances. However if a government alters the regu-directly into an offshore dollar account, there- latory framework such that existing privately financedby assuming convertibility risk. This has been infrastructure projects become unviable, the economybacked by a government guarantee of the state may suffer costs larger than those borne by a singleutility's performance; project's financiers. For example, potential future pri-

iv) companies that earn foreign exchange directly, vate investorq may choose to locate in other countries.

such as port or telecoms companies, cancharge customers in US dollars, when taking The Role of Government in Riskon foreign currency financing (used by a ManagementVenezuelan port that IFC financed);

v) large companies (or smaller companies with The contractual and financial instruments the pri-strong sponsors) operating in major currencies vate sector uses to manage risks need a defined, func-may be able to hedge currency mis-matches; tioning and enforceable legal system, which is anand important role for the govemment. Several options for

defining the legal framework of contractual relation-vi) where foreign investors felt sufficiently confi- ships exist

dent in the macroeconomic management of aneconomy, they were prepared to take currency - where domestic legal systems have well-settledrisk. A Mexican toll road project collects rev- corporate and conunercial laws, it is usual forenues in local currency which are pegged only the basic contractual agreements associatedto the local rate of inflation. with infrastructure projects to be subject to

local law. In some cases it is agreed that dis-There is no single answer. the choice depends on the putas on contrcas pr ree atbi-

project, the country, the financial sUcture and the per- tated in the same country, burt it is alsocentions of the lenders. possile for them to be arbitrated in a neutral

jurisdiction, typically using an internationallyRegulatory Risk recognized set of rles such as those laid down

by the International Chamber of Commerce.Two kinds of regulatory risk frequently occur in This has the advantage for both lenders and the

infrastructure projects: host country of reducing the uncertainty and

i) tariff adjustments not being permitted or made transaction costs involved in the lender need-on time (in the face of inflation, or deaua- ing to fmd out about all of the nuances oftion, for example). Companies can hedge domestic law and the efficiency of the judicialagainst this risk by building in automatic system -for lenders with large diversified port-adjustments to contracts, but ultimately com- folios this can be a significant issue; andplying with these obligations lies with the gov- - where the laws of the domestic legal systememnment, or its SOEs; and are evolving and have not been tested in com-

ii) regulatory changes. For instance, possible mercial disputes, sponsors and lenders mightchanges in environmental regulations concern seek to have the key contracts denominatedmany infrastructure companies and their according to the legal fiamework of a mutuallylenders. acceptable third party country.

Ultimately there is limited scope for companies In most cases the financing agreements under(and, by extensi n, financiers) to avoid these risks, which international financiers provide funds are gov-except to build in buy-out mechanisms under certain erned by generally recognized commercial laws (suchextreme circumstances. In the Philippine BOT as US or UK laws).

23

Macroeconomic stability and financial sector lib- demonstrate a particularly strong commitment to i1isti-eralization can generate a virtuous circle of increased tuting an environment conducive to private participa-demand for financial products and an increased supply tion (macroeconomic stabilization, divestiture of largeand reduced cost of finance for infras.ructure (e.g. utilities, regulatory reform, tariff reform), the privateChiile, Mexico and Argentina). Financial products rele- response is likely to be strong. Half of IFC's FY94vant to infrastructure finance include derivative mar- infrastructure transactions were undertaken in Latinkets for hedging interest or currency risk, rating America and the Caribbean. IFC's experience in sever-agencies, a bond market, insurance services and credit al other countries shows that a project-by-projectenhancement services (where an insurance agency approach can also generate private investment and theassumes a financial obligation in return for a fee). political support to undertake more far-reachingGovernment can help develop the institutional mecha- reforms.nisms required for these markets. Furthermore. priva- IFCs experience suggests that, especially when con-tizing state-owned financial institutions which provide sidering the first prjects to be offered for privateinfrastructure finance makes it more likely that risk financing, goverments should avoid projects which

assessment will be carried out with due diligence, might be inherently risky. For exanple, projects which

Project-specific risks, over which the government are very large, or use relatively untried technology, orhas most control, include regulatory changes, or SOE involve difficult environmental issues will be more dif-performance. Government can address these risks ficult to finance than others. It may be better to leavethrough regulatory reforn, or on a project-specific them until private participation has been demonstratedbasis. Regulatory reforms and wholesale divestiture in other, easier-to-finance projects. Equally, conces-can reduce the likelihood of future regulatory changes sions that are awarded on the basis of transparent com-by widening the base of stakeholders interested in pri- petitive processes, and to project companies withvate competitive infrastructure provision (Chile and technically and financially strong sponsors, are moreArgentina). Alternatively government can encourage likely to be successfil.private participation through contractual arrangementsand, if necessary, guarantee the contractual perfor- Summarymance of its SOEs. Private participants are left facingsome regulatory risks and the country risk premium Returning to the questions posed at the start of thischarged by lenders may be higher - but initial private section, IFC's experience suggests that good risk man-investment can proceed. agement4 while time consuming and complex, is the

There is no simple answer to how far a government principal source of success in private infrastructurneeds to go to address risks (over which it has the most projects. The evidence strongly suggests that privatecontrol) that may prevent projects from being privately financiers are willing to provide significant amounts offinanced. In general, a government may need to pro- at-risk capital, and will bear project-specific commer-vide more risk mitigation measures for the first cial risks. In more stable country enviromnents private"demonstrator" projects. In the first privately financed financiers may also bear some non-specific commer-Nepalese power project the government guaranteed the cial risks, such as currency risk. Governments play ancontractual performance of its utility, and in two Indian important part in facilitating private financing, by pro-projects the government has guaranteed that the state viding an environment conducive to private contractualelectricity boards will meet their contractual obliga- activity and enough of a regulatory fiamework to per-tions. mit private entry and, where appropriate, in addressing

project-specific non-commercial risks, such as the per-Expenence in several Latin American countries haosne fsae-we ntrrss

shown that if governments undertake actions which

24

MOBILIZING DEBT EQUITY FINANCE

Billions of dollars of at-risk finance have been suc- funds and li.e assurance companies, provide a bettercessfully raised in recent years for infrastructure pro- maturity match for infrastructure financing - but arejects in developing countries - but more is needed. highly risk averse.IFC is participating in several new initiatives to meet Lende face many of the same risks as equitygrowing demand for debt and equity finance, resulting investors, but without the upside potential that attracts

in increased mobilization from both local and foreign equity. They may compensate for these risks by adjust-sources. This section discusses some financing inno- ing their margins but there are limits to how far loan

vations, remaining obstacles and links between infTa- pricing can be pushed. More often, lenders seek tostructure financing and capital market development. reduce a project's risks by negotiating the inimum

conditions under which tney will participate. Many ofThe Role of Commercial Debt the agreements associated with project financings are

risk control devices imposed by lenders. In most pro-During the last few years, for a variety of reasons, jects it is the lenders who have the strongest say in how

equity has become relatively more easily available for the financing is to be structured, how support agree-many projects in developing countries. Debt, which meots from sponsors, government agencies and othertypically accounts for over two-thirds of financing in a contracting parties are specified, and how security pro-greenfield project, has become the key constraint - visions covering claims on assets are set out.both in tenns of volume and (particularly for infra- W the security requirements of lenders may addstructure projects) maturity. There are several explana- to the time and complexity of arranging fmance, thetions. First, there are only 30 to 40 banks worldwide onthe tim pose canging much thethat have traditionally played a project financing role, risk controls they impose can provide a much higheralthough this is growing. Each bank has exposure lim- probability of project success. In IFC's experence,its to individual clients, sectors and countries and since these benefits are evident in projects that are not over-a single bank can rrely meet all of the loan require- leveraged, in realistic sponsor support agreements, inments of a large project, debt finance typically minimum cost overn and in the requirement forinvolves a syndication of lenders - which can be time- specified performance standards upon project comple-consuming and complex. tion. These measures of project success are character-

istic of limited recourse project fmancing whereConmnercial banks are also constrained by the time- lenders (and sponsors) have their own capital at risk,

profile of their deposits. They simply cannot prudently where returns are linked to perfornance and wherelend large volumes of long term debt: the longest inter- legally-binding contractual undertkings provide clearnational conmmercial bank loans are typically 7-12 incentives. IFC's experience ndicates that it is theyears. In contrast, many infrastrucure projects require combination of risk finance and performance-lnkedfinancing of over 10 years maturity if the tariffs to ser- contracts that determines the success of privatevice the debt are not to be prohibitive. Institutional infrastructure projects. Capital supplied without risksources with long term depositors, such as pension

25

(i.e. government guaranteed) and/or without binding Funds Over the past two years several new invest-incentives has not had a similar record of success. ment funds have been created to mobilize funds from

One obvious consequence of the demanding require- investors in the world's major financial centers formentklenders is that some projects can not onlending and cquity investment in developing country

eentsil fians . i . .c s nfrastructurc projects. The Scudder L>-tin Americanber easna counttyrisk maybinationmuch fofa projnct g Trust for Independent Powcr, formed in Junc 1993 withsor and country risk may be too much for a financing th asitneo F,wstefrtseilzdfnarrangement to be reached. If the problem lies with the assistancc of IFC, was the first specialized fundthe sponsor (inexperienced or undercapitalized) it is up designed to mobilize risk capital for investments in pri-

to the government to cxclude that sponsor from the list vate power in developing countries. Four leadof eligible candidates. A sponsor without the confi- investors have committed a total of $1 00m to the Fund

dence of financiers should not stand in the way of a and further finance is being mobilized from interna-good project. If the project itself is the problem, the tional institutional investors on a private placementsponsor (and possibly the government) will need to basis. The fund will generally invcst in equityredesign it. Many project-related problems arise (although subordinated de'jt may also be included) andbecause of government-imposed controls or where a is targeting independent power producers in Latin

America and the Caribbean; the first investments weregovernment agency is a contracting party. Closing made in early 1994. IFC is also supporting a Centralfinancing on these projects can sometimes depend on ..lthe willingness of governments to remove the obstacles European el unt wich isectetomolto a technically and commercially acceptable deal. . $80-$0oro in equity financing rtm institutional

Finally, if country risk is the problem, lenders may be inrcoms projects in central and easteln Europe. On awilling to proceed provided certain protections are in cornsrprojctsminecetral andrastrn Europe.naplace, such as a foreign currency escrow account or a larger scale, the Asian Infrastructure Fund is being

^ ^ .. ~~~~~~~~established as a $500rn closed end fund (with IFC par-guarantee of foreign exchange access. ticipation) that will invest primarily as an equity partic-

ipant in private infrastructure projects in developingNew Patterns of Financing Asian countries. The Fund intends to mobilize funds

on a private placement basis from institutional andThe limitations faced by banks in lending to projects stratgic investors in Asia, Europe and USA. Finally,

in developing con.,:r-es have stimulated the develop- the large Global Power Fund is aiming to providement of alternative financing arrangements to meet the "mezzanine" financing to power projects in IFC-mem-large demand for infrastructure financing. ber developing countries (Box 4. 1).

Box 4.1 Global Power Fund: Innovative -Financing and New PlayersIn April 1994 IFC approved a $50m equity commitment to the Global Power Fund. Two other foundingshareholders each comunitted $200m. Depending on market conditions, the eventual goal of the Fund is toincrease its capitalization to $2.5 billion, by raising finance over several stages: i) equity from "strategic"investors (eg power utilities); ii) equity from institutional investors; and iii) with a good track record, theFund will consider a public equity issues, and raising debt:

The Fund provides a mix of financing, including equity, subordinated debt, completion guarantees and bridgefinancing to cover the (riskier) construction period for power projects; once a project is operating the "mezza-nine" share can be reduced by re-financing with more long term debt.

One rationale for IFC's participation is to encourage new sources of fmance - institutional investors - todevelop experience with the sector. The investment possibilities are large. Assuming an average participationby the Fund of 10%He in each project financing, it could ultimately support total power investment of up to $25billion - assuming the project sponsors can raise the balance of financing in each case.

26

Box 4.2 Accessing Intematlonal and Domesdc Financial Markets: Chilean Telecoms

Shortly after privatization, Chile's local telephone company CTC embarked on an investnent program,using innovative financing methods. In 1990 CTC undertook the first Latin American equity issue in intema-tional capital markets since the 1960s, raising S92in through American Depositay Receipts on the New YorkStock Exchange. By January 1994 seven other Chilean firms had issued ADRs; of the $2.7bn invested inChile in 1993, S826m came from the purchase of Chilean stock abroad. In April 1993 CTC became the firstChilean company to issue convertible bonds abroad; the S200rn issue of 10-year bonds was over-subscribed.IFC provided CTC with a senior loan, a subordinated loan, an underwriting commitment on the ADR issue, asyndicated loan and an interest rate hedging facility, all over a 30-month period starting in mid-1990.

Chile's capital markets have developed rapidly, partly assisted by CTC gaining access to international capi-tal markets, the extra liquidity conferred by its privatization and pension reform. The capitalization of theSantiago stock exchange increased nearly fivefold in US dollar terms between December 1989 and December1993, and infrastructure stocks rose from 30"V of its capitalization to 65% over the same period. In January1994 Congress passed a law allowing pension funds (which were privatized in 1981) to extend their invest-ments to nearly 300 of Santiago's listed companies, up from a handful of blue chip shares. New instuments -mortgage-backed securities, convertible bonds and revenue bonds - are also to be intmduced It is envisagedthat institutional investors could provide up to 40%o of the S500m of financing needed for private infrastruc-ture projects planned over the next two years.

All participants in infrastructure projects could ben- allows "qualified institutional buyers" to buy restrictedefit from the involvement of such infrastructure funds. securities (not necessarily ADRs) without SEC regis-By offering a mix of sectoraVregional expertise, a tration, thereby providing foreign companies withpooling of project risks and higher liquidity they access to the US capital market A 144A offering doesenable risk-averse institutions (e.g. pension funds) to not require the detailed financial information necessaryinvest long term capital in infrastructure projects. for a public offering, and after three years of beingSuch institutions would not normally provide finance traded under 144A the securities can be freely tradedon a project-by-project basis. They provide high lever- in the US by the public. IFC has underwritten interna-age (Box 4.1 again). And they may reduce the tansac- tional equity placements for a Chilean telephone com-tion costs of fmancial structuring by developing pany (Box 42) and an Indian power utility.standardized due diligence procedures and docuTnents. CFor example, the Central European Telecoms hvd is omakets ar alsobs tapin teorgtional bondconsidering simultaneous investments in several local mauked . In O er 1993 Tom argentinalaunched a S500y seven year bond, placig it mailytelephone operators in Hungary. -with US and Asian investors. In 1992 IFC co-managed

Intemational equity placements Larger private a $207m international bond issue for the Mexico City-utilities are starting to access equity markets directly. Toluca Toll Road. This was the first time a privateSeveral companies have used American Depositary Mexican toll road project had been financed in theReceipts (ADRs) to tap the US equity market ADRs intermational capital markets. Proceeds of the 10-yearenable foreign companies to issue equity on the US maturity bonds helped finance an extension of the toilmarket without complex settlement and transfer mech- road concession in the post-construction phase.anisms. They are issued by a US Depositary Bank and Several further issues of Mexican toll road bonds havethe underlying shares of the company are held by a been made since.Custodian Bank in the home counthy, for the Some large multnationals based i developed coun-Depositary Bank. ADRs can be traded in the US on a tries are expanding their fnancial iiorecogized national exchange or placed privately wit by issuing securities on US and European markets andinsfitutional investors under SECq Rule 144A. This i4inestng the funds in selected funds and projects in

27

developing countries. Secuities issued by these coon- of equity in several countries (including Thailand andpanics are baclkd by the group's total operations, and Argentina) and have played an important role in raisinghence their placement is made easier than if they were the capitaliation of their emerging markets.for developing country projects alone. Second, institutional investors such as insurance

The increased willingness of investors in industrial- companies and pension funds make private equityized countries to hold developing country securities is placements with ndn idudl project companla. Thisalso creating other intermediation opportunities. type of equity participation is more colmmon withBonds have certain advantages which offset the con- greenfield projects that are financed on a limitedstraints faced by comnercial banks and which create recourse basis. The capital markets payoff emergesthe potental for complementary bank-bond financing. from the experience that institutional investors acquireOne innovation which is being examined is the provi- through becomning more active investors in real sectorsion of debt finance by banks during the early, more projects (in many countries, insurance and pensionrisky years of a project (including construction), fol- fimds have mainly bought governent securities).lowed by refinancing with longer term, securitized Pension and insurance finns in Chile, Malaysia and thedebt once the project is completed. This means that Philippines are now becoming active investors tbroughthe limited maturity of bank debt does not constrain their involvement in infirastucture projects.prect fmancing: bond markets cope more easily withmaturities often years and more. The swap mto bonds A r k be deb financ and poidbor other securities after project completion also enables cal mmersia and del t banks. Thesecommercial bank funds to be recycled into new pro- nsii c anb development blnks. Thesejects more quickly; a given stock of commercial bank insytoneca Ms projects haelcl currenycredit may threfore have a broader catalytic impact in fointly requrM ects he oe locurrencymoe countries. Banks would continue to play their ccan contribute to the overall debt package. In manycritical hands-on role during project preparation, wh countres, local banks have limited expeence with

sicurieqzatiponormadeasirncte post-cmption plc providing structred project fmancing debt, and partic-if aequae peforancearragemets rc i plae. patmng in a larg deal can enhance their risk appraisal

Using bank-bond debt mixes to lower the risk profile . . .of countries or projects could enable them to overcome capabilities. Between May and July 1994 IFC

a major obstacle D rapproved fmancing for three of the furst private powerapmaorjbstcl to. more raid ds mobilzationfor projects in India. The fmancing plans indicate a total

infrastructure oro . cost of about S1.5 billion, of which a third is to be

raised from domestc financial institutions.Developing Local Capital Markets A fourth avenue for developing local capital markets

is where infrastructure companies obtain debt finaceFrom IFC's experience, the volume of fiunds mised lclysudbnsBn susaemr

from local fnial markets is still small (apart from thcough localmessused bonds. Bond issues are morein certain markets, such as India), but it is growing. common from established companies (such as thosePhilippine banks ae lending to local power projects, eaig in telecoms) because bond purchases tend toMexican banks are lendig to a wastewater treatment be risk averse. Hawever, examples of prcompletionplant and in Gabon, local investors fnanced part of a bond fnancing are startng to emerge in Chile andmajor minerals transport project. In IFC's more recent Malaysia.projects, a priority objective has been to increase the Each of these four types of capital market impactproportion of local funding, to stimulate capital mar- can be beneficial in terms of a country's broader fundskets development There are four channels through mobilization capability, but the strongest impacts occurwhich local fiancing capabilities are being developed. when project fmancig is taken to the local market;Frs companies already engaged in providing infra- either in the form of an equity lising or a domesticsuctre services may issue equity on the local stock bond issue. Permanent private ownership of facilitiesuumarket Telecoms companies have been active issuers tends to be more conducive to a market offering than

28

Table 4.1 Accessing Private Capital lntermatdonally and Domestically: Argentina, 1989 - 1993

Measure |1989 19O 19911 1992 1993Access to international capitd:IstiuUtioJal Invest,r score (O = wont, I0 = bes) [1] 19.0 18.3 20.2 26.2 32.6Se ndary debt: % of fac value na 20% 38% 48% 69%Net foreign direct investment Smt 1,028 1,836 2,439 4,179 4,500Bonds/loans maised on intent'l capital mares Sm 0 0 725 1,529 5,811Dmestic cibtl markt developneknt:Stock market capitdization Sm 4,225 3,268 18,509 18,633 43,967liquidity: tumover as % of capitizion 45% 26% 26% 84% 33%Infrastuctwre stocks as % of total capitalization 0% 0% 24% 49% 51%

source: Institutional Investor. Fnuncial lows and the Developing Counries, World Bank. Emerging MarkctDaabase, IFC.Aotes: [1] Twice a year Instiakonal Investor polls 75-100 intemational banks to grade countries on a cale of0 to 100, with 100 representing the least chance of deiuk. The response are weighted to give ore unpostnc toresponses from banks with greater worldwide exposume and more sophisicated country analysis systems.

emporary arrangements licke BOT. Hence the pattern strategy. Several countries are now assessing theirof pnvate entry that a country chooses for its infiastruc- infras capital markets and privatization strate-ture activities can to some extent determine the capital gies within an integrated fiameworkmarkets benefits dtat it receives. In addition, the stateof a country's capital markets may affect fmancing Link Between Private Infrastructure andstategies. For instance, bond issues can somefimes be Capital Marketsmade pre-construction, but not on the local market ifthe legal and regulatory famnework which governs capi- Fmancing private aces to Inter-tal market transactions is weak or if the domestic secu- national capital markets and the development ofrities market is small. Differences in the capabilities of domestc capital markets often occur in paralel.local bond markets explain why Malaysia was able to Argentina provides a good example (Table 4.1), butfinance a power project through a domestic bond issue o countries which have involved the private sectorwhereas a Philippines power project required an inter- in i r show similar trends. Annex 3 showsnational bond offering. Countries that promote the . . . .growth of their capital markets will find it easier to t .finance infrastructure investments. Aggregate indicat;r.s also point in the same direc-

Reliance on offshore financing remains necessary for tion. Annex 3 shows several tables comparing develop-ing countries which have involved the private sector in

many countries that have difficulty mobilizing the large nr t with those that have not. The "privatevolumes of debt and equity finance needed for infra- ifiasuctue countries are a comaebination of twostructure projects. Many economies have abundant liq- groups:uidity, but do not convert savings efficiently intoinvestible funds. Crowding out caused by excessive i) the 16 developing counties recorded by thegovernment borrowing exacerbates this problem. World Bank as having at least one infrasHowever, there are limits to the capacity of any econo- privatization during the period 1988-1992; andmSy to access fimds from abroad, particularly debt ii) the 21 developing countries in which IFC hadBalance of payments constaints mean that for most carried out int operations as ofcountries a sustained tnfrastructure program will have December 1-993.to be accompanied by a domestic funds mobilization

29

Coutry credit ratngs Twice a year Institutional $31.6 bn in 1988 to S76.1 bn in 1993. However, theInvestor polls 75-100 international banks to assess "private infrastructure" countries increased their bor-country risk, using a scale of 0 to 100. The overall rat- rowings more rapidly - by 30%/o pa, compared to aning fell from 39.0 in September 1990 to 36.1 in increase of 11% pa for all other developing countries.September 1993. Over the same period the average Between June 1991 and December 1993, the "privateratings for the 23 "private infrastructure" countries infrastructure" countries' secondary debt priceincreased by 3A points, versus an average fall of 0.8 increased from an (unweighted) average of 47 cents topoints for the 88 other countries with scores in both 74 cents, compared with a smaller increase for otheryears. Annex 3 also shows that foreign direct Invest- countries from 30 cents to 41 cents.meont (FDI) increased by 23% pa between 1989 and Domestic capital markets Figure 4.1 shows1993 for all developing countries. "Private infrastruc- i) how the total capitaliztion of capital maarkets inture" countries recorded FDI growth of 26% pa, while develoDing countries increased from $599 bn in

other~ ~ ~ ~ ~ ~ ~~~dveom coountnes mcrase incrome of9 21 inpaother countries had increases of 21%/e p. December 1989 to $1,399 bn in December 1993 and

Borrowing on international capital markets ii) that the share of infiastructure stocks rose from 3%Overall, developing countries increased their interna- of IFC's Global Index in 1989 to 22% in Decembertional capital market borrowings by 19% pa, from 1993.

30

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MANAGING E NTAL RISKS

Private infrastucture prvision is giving rise to new projects with any environmental risk and ignoringapproaches to environmental management Risks to environrnental impacts altogether. Both companies andthe natr environment can result in risks to compa- financiers therefore have strong incentives to minimizenies and their financiers. Priate companies and their exposure to these risks by assessing them, andfnanciers thus have financial incentives to assess envi- then finding appropriate means to reduce them.romental risk to distinguish acceptable from unac- Reduced environmental risks for companies andceptable outcomes, and to manage and mitigate those fianciers mean correspondingly lower risks of damagerisk Environmental risk mitigation can give compa- to the natural environment.nes and their fianciers competitive advantage, and Environental risk management has four compo-lowers the risks of damage to the natural enviromnment nents, all of which are used by IFC. A company

review assesses existing environmental liabilities, andE ironmental Risk Management the system for managing future risks. A project

review assesses risk by screening environmental dataInfiastructure projects can affect the environment from the company, followed by enviroumental analysis

thugh: to prevent or mitigate adverse inpects. The screening

* major hazards such as fire or explosion;

violation of envronmental regulations such as Box 5.1 Environmental Risks to Companiesemission standards; and Their Finandm

- site contamination; and Potential losses to companies:

- special concerns such as resetdement, affectmng civil and crminal liabilitythe indigenous population, etc. * plant closure, downtime for reofitting

These impacts may jeopardize the viability of a pro- * rejection or delay of contracts and permitsject, and therefore expose companies and their * increased cost of capitalfinanciers to risks (Box 5.1). For example, if a private Fmancial instittions therefore face risks:power comy installs equipment that does not meet a * cre r de p or wte-ffs ofcounty's emission standards, it faces the risk of i) a loanscivil suit; ii) inrring retofitting downtime costs; iii) lonsbaving its permit revoked, and not being awarded positon rk devaluaton of company's securitiesfuture pennits. The company's financiers may have a * liquidity risk: loss of market value in liquidationbad loan, with collateral worth much less than original- of collaterally estiated. * legal risk: civfl and crminal liability through

These risks are systematic; they cannot be diversi- ecise of contolfied away. Infrastructure financiers need to find a * funding ris reduced access to capital frommiddle way between the two extremes of rejecfing all inional madrets

32

Box 52 Addressing Environmental Concerns: Pangue Hydroelectric ProjectDuring the appWaisal of tie Pangue hydroelectric project in Chile concerns emerged over the project's

impact on indigenous communities, the need for improved ecological knowledge in the region and the pro-ject's potential effects on river flows, fish habitats and other water users. After detnnining the volume ofwater that would need to be released to sustain fish habitats, the project was redesigned to meet the require-ments of power generation, fish habitats and other water users.

Addressing the impact of the project on indigenous communities and the local ecology required a moreinnovative approach. At IFC's initiative, the Pehuen Foundation was established to fund specific activities forthe three communities of indigenous peoples in the project area. The Foundation is funded through a chargeon the project's revenues. This approach was preferred to alternatives such as lump sum transfers becausefunds are available as long as the project operates and it tagets the collective needs of the people most direct-ly affected. Also at IFC's initiative, an Ecological Station has been established to rehabilitate the constructionsite and study the ecology of the project area. Support for the research center is coming fiom the project andother intemational research centers.

pmcess determnines what level of environmental analy- more closely reflect economic costs, leading to largesis is required: a full or partial environmental assess- efficiency savings. In an Argentinean water concessionment, a major hazard assessment or an environmental the operator expect to halve water distribution lossesaudit. Box 5.2 describes how environmental concerns of 40-45% within a few years. The S400m 1992-1995were addressed in a Chilean hydroelectric project investment program of an Argentinean electricity distri-

Legal instruments are also used to i) prevent the bution company, is expected to reduce energy losses

emancial institution fom assuming risk rtannitted from 30% to 15% over three years, which will reducefinancial. .nttto fro assmin puskse tfbuc letnisnbuaouttediathrough the company and ii) using insurance to transfer its purchases of bulk electricity by about 6%, equiva-risk to third parties. Finally, annual reviews are used to lent to about 1.5 m savon barrel of fuel of r used m itsmonitor the environmental status of all investments.

two million barrels of fuel oil per annumn.

Lessons from IFC's Experience Another lesson is that private-government contrac-tual arrangements provide a mechanism for buld-

All projects in which IFC participates are subjected ing in explicit environmental stndards, andto environmental appraisal and clearance as a condition incentives for implementing and monitoring them.of approval. While the clearance requirements vary In the Philippines, energy conversion agreementsdepending on the type of project, the nature of its signed between private power developers and the NPCimpacts and the regulatory provisions of the country incorporate a schedule detailing the information to bee-oncemed, the standards by which IFC evaluates the included in the envinental impact assessment study,-mject are the enviromnental guidelines of the World warranties which bind the developer to construct, oper-Rank Group. In some countries the experience of deal- ate and maintain the facility 'in accordance with inter--izg with Bank Group environmental requirements has nationally accepted eniyromnental standards adopted inrovided a model for upgrading local standards and the Philippines", and general conditions precedent'eveloping instittional capabilities. which refer explcity to an "Environmental

CompUance Certificate for the Power Station". TheSeveral beneficial environmental impacts have been presence of explicit environmental warranties in the

bserved from IFC's projects. Private entry is often contract provides increased scope for ensurngssociated with tariff reform, so prices of services compliance.'

'Part of the Philippine stategy is to replace older. more poluting power stations in the stae sector with cleaner power fiom the prvatextor. Past weaknesses in secunng environmental compliane firm state power authoribes ae lIkely to be overcome because of the ilkei-ood that private entry will be accompanied by an improvement in the implemenaton and erfornent of environmental standards.

33

Box 53 Explicit Contractual Relationships: Wastewater Treatment in Mexico

In late 1993 E;C approved financing for one of the first private wastewater tutment plants in Mexico. The BrO projectinvolves construction and operation of a plant to treat 750 Utes/second of municipal sewage in a Mexican seaside msortPuerto Vallarta lhe existing municipal wastewater treaument plant is overloaded and additional capacity is required tomeet expected growth in the region. The contract between the municipal water authority and the operator, which is a lead-ing international wastewater company, states that the operator's responsibilities are to:

- finance and construct the plant, and transfer it to the municipal authority after 15 years; and

- treat sewage within a specified volume range to produce effluent of specified quality or better, with penalties if the stan-dards ale not achieved.

On its part, th municipal water authority's responsibilities are to:

- pay the operator i) a minimum sum irrespective of the sewage flow actualy delivered; and ii) a fee based on the vol-ume of sewage teted;

- supply effluent that meets agreed criteria; and

- deliver the sewage to the operator and discharge it after treatment.

Ihe project is expected to make a substantial contnrbution to improving the environment in Plerto VaUarta by providing ahigh level of treatment to the municipal wastewater before it is discharged.

A wastewater treatment contract in Mexico financed A better understanding of what is at stake in envi-by IFC contains explicit contatual obligations for ronmental clearances is emerging as country and com-both the operator and the supplying utility (Box 5.3). pany experience increases. Many countries areAs before (when the local municipality treated waste- upgrading their environmental standards, clearancewater), govermnent inspectors periodically check that procedures and enforcement efforts. At the same timethe relevant national and local regulations are being governments are recognizing that companies (and theirenforced. However, the contract gives financial incen- fnanciers) need an indication of the iabilities thattives for both the private operator and the municipal might be imposed via changing environmental stan-water authority to monitor standards continuously, dards before they will make large investments.

because they determine payments made under the Governments are becoming more aware of the costscontract. and benefits of environmental protection. Some pollu-

Private infrastructure sponsors are increasingly rec- tion control technologies are expensive: installing sul-ognizing that developing active environmental protec- fide-reducing scrubbers on coal-fired power plants cantion programs confers competitive advantage. The increase project costs by up to 20%. Additional costs1992 concession to build the first private port in can, however, be minimized through an effective corn-Colombia clearly specifies environmental require- petition policy thz: encourages the use of only cost-ments, reflecting concerns about the area. The conces- effective technology in addition to efficient plantsion prohibits the facility rrom handling operation. An efficiently nm power plant that meetspetrochemicals, coal, bulk agricultural or industrial environmental standards may be able to produce powerchemicals, and raw materiavi - and excludes the for the same cost as an inefficiently run plant with nofuelling or discharge of water for docked vessels (these pollution controls.activities are carried out at other ports). The conces- .addition, private frm with intemational opera-sionaire and the government's renewable resource pro- tions are also demonstating the advantages of adopt-tection organization have developed enviromnental ing a "best practice" strtegy in terms of health, safetyprotection programs for the construction and operation and pollution management Firms with intemationalof the port, as well as a nearby area that has been des-

a special habitat. ~~~expenence are m many cases worldng to standard;swhich exceed those required under the enviromnentalcomnpliances specified in concession agreements.

34

MANAGIN ATE ENTRY

The question for many govenunents now is not so Furthermore, each of these groups is likely to bemuch whether to involve the private sector in infra- better organized and have more political influence thanstructure provision, but how to manage the transition to the broader community who ultimately stand to gainprivate involvement so that it delivers as many benefits from more efficient service provision.as possible. But dergulating and managing private There may also be technical difficulties. Most civilentry can be politicaly and technically difficult. servants have little experience in dealing with risk-tak-Government dilemmias include: ing entrmpreneurs. Attempts to over-regulate private

- how to implement changes in the face of polit- entry can reduce the equity that sponsors are preparedical opposition from important groups; to provide. Govermnents may not be ready to provide

.. how toangethtantnrosbsdie the politically independent (and sometimes highly- how to manage the tlaisition from subsidizedin u service prices to cost-related tar- technical) regulation that privafized infructure

ifs that enable a rapid expansion program to might require.be financed; and

- how to gain access to external technology and Transitional Pathsmaagmet,withouLt engendering overridinig IFC's experience provides examples of ways in

apposition to "foreign control of politically which governments have addressed these difficult

sensitive assets and services questions. There is no single blueprint for what works;

The political problem associated with infrastructure the route depends on political commitment (critical),privaization is that, despite potentially large benefits strength of opposition to change, institutional capabili-for the population as a whole, there may be short term ties, investors' perceptions, and the domestic economiclosers, including: and legal environment. Furthermore, different infra-

i) existing consumers receiving subsidies, if pri- stucture sub-sectors may be addressed in differentvate entry is accompanied by tariff reform; ways in the same country.

i) employees of state-owned enterprises who my Figure 6.1 illustrates three ways in which privatebe made redundant if they are privatzed and entry is occurring. The starting point in many coun-

tries is a state owned utility which operates as aiii) existing private producers who may currently monopolist and involves little regulatory complexity

benefit from lack of competition in their (top left corner). Private entry may occur through:sector.

'Unbunding can take pce in seveml forms: i) byprvduction. cg, spliting leticity genaton, anission, and distribution inmo dif-* re- companies; ii) by mw*ae, as with the provision of ceflular data t_smission, international, long distance and local telephone services;

ad by rgion. Hungary has issued rgonal concessions to provide local tdephone services, and Argentina has regonal concessions fbr gs-_I electricity distribution

35

Figure 6.1 Transitional Paths in Infrastructure Privatizatlon

LOW Political costs of adjustmnent I regulatory effort HIGH

Publicly ownedregulated monopoly

UnbunMp A - \ Unbundfing andderegula6ian A \ jpriaftaizon

g ~~~ > ~~No ubund, d,ve,rwstur only

Prvate entry allowed

EconomicEfficiency

OfProvision

\ ~~~~~~D_efre

Diveste of SOE

UlnbundlinglCo\pe dbemonopolepraten

HIGH _

36

Box 6.1 Divestture, Rapid Growth and Deregulation in Chilean TelecomsIn January 1988 the Chilean governmnt sold nearly 50%M0 of its telephone comnpany, CTC, to a strtgicinvestor, after an intemational tender. CTC embked on a five-year expansion progmm to double its numberof lines. CTC's 1989-93 Si.36 bn investment progrm was completed six months early and 6% under bud-get. Line capacity doubled, with 787,000 additional lines installed - the 23% pa growth rate was one of thehighest in the world. Efficiency also improved. The number of employees per 1,000 lines fell from 13.7 in1989, to 6.2 by June 1993, due mainly to doubling the network without significant changes in staff numbers.

crc, which dominated the local telecoms market, was privatized as a whole: market strcture was notchanged at the time. Another company operated long distance and international services. Since pradzaton,howeer, the market has evolved considerably. In April 1993 Chile's Anti-Monopoiy Commission ruled thatlong distance companies could enter the local network business. At the same time CTC was given pennissionto enter the long distance and international markes.

i) "approach A": deregulation and "unbundling"'allows the private sector to enter parts of the Box 62 Strong Response to Newmarket to provide infrasture services. This Sectoral Policy in Paitaoften focuses on the construction of newassets, such as independent power plants, cel- Paosrn as new policy framewo- r for privatelular networks or new ports. This approach power was introduced in early 1994, and has led

to numeros poer gnrtion invesn promay involve relatvely low political costs, as sals fro interational anc domestic investorsmany exsting assets remain under state owner- Based partly on conaton of IFCs expari-ship. It is typically characterized by contrac- . . .

. ~~~~~ence with private poe in other developingtOIIIy-based relationsbips (such astuully-bsed relaionships(such ascountries, te Pakistan regulations specifir aconcessions), rather than wholesale regulatoryconesthPaiangainspcfyaconessions), rater hanwhoesae ~ maximnum rate of 6.5 US cents per kilowitt hour

at which utilities will purchase privately-gena-ii) "approach B", which requires considerable ed electricity. Over the life of the project an

political will is to divest state utilities, but to average tariff of 5.9 US cents per kwh wll apply.postpone the unbundling in order to attract a By August 1994, the Gowrnmnt had issued 55strong response from private fmnanciers. This letters of inerest for a geneaon capacity ofapproach which was used in Chile's telecoms 11,700 megwatts of new capacity. In addiin,sector, can yield a strong investment response, legislation has been passed to party priateand in the mnedium term it may set up pres- the sat-owned Water and Power Developmentsures for unbundling and deregulation Authority and plans have been drawn up to sell(Box 6.1); two large thermal power plants and a distnrition

ui) simultaneous unbundling, deregulation and system in the Punjab. As a result of these initia-diestiture ("approach C'" requires significant tives, IFC is now considering several fnancingpolitical comnmitment and institutional capabil- prpoisals from prospective sposors of idepen-ity. It has been undertaken in several infra- dent power projects.structure sub-sectors in Argentina.

The uentry approach may initially have advantages reform, issue licenses or concessions, and undertake acertain countries. It has relatively low political and transparent tendering process to award them. Theulatory costs. Usually this requires steps to demo- announcement of a credible set of sectoral reform poli-,olize the state utilit's market, allow the participa- cies can elicit a strong private sector responsei of foreign capitaL make a commitment to tariff (Box 6.2).

37

Be 63 AddreIng Regulatory Issues Through Contracts:The Pbilippines ExperienceIn July 1987 the govenmnent ended the generating nonopoly of the state owned National Power Corporation(NPq, by allowing private companies to construct and operate power plants. Yet a private response was notassured. At that time the only successful precedent for a BOT power plant was in China, a joint ventureinvolving Hopewell Holdings of Hong Kong, but under arrangements not transferable to the Philippines.Secondly, access to private finance had been difficult since the start of the country's external debt problems in1983. Finally, the regulatory guidelines which determined the contractual obligations of NPC and privatepower producers were untested, and govermnent agencies were not experienced in dealing with private infra-structue project sponsors.

Despite these problems, progress was achieved quickly. In 1988 a BOT contract was signed for Hopewell toconstruct and operate a power plant, Navotas 1. The project embodied several features that facilitated itsspeedy implementation. It was small: the $41m prject could be financed far more easily than a large baseload plant, although even this size presented fimancing problems at the time because of country risk. It usedlow cost, proven technology and had a lead sponsor with a strong fmancial base and proven record of pmjectimplementation. The key to success however, was a power purchase agreement (PPA) that satisfied NPC'speak-load power requirements while providing a balance of risk and reward to enable financing.

The Philippine Goverment has built on its early experience with private entry into infastructure and in 1994intoduced new laws to broaden the scope of participation beyond power generation, and to provide morediversified prvate owership arrangements.

Contractual Relationships Box 6.4 Private Entry andRegulatory Reform in Mexico's

Contracts have enabled infrastructure projects to be Portsfianced in many of the countries that IFC has workedin, before comprehensive price or regulatory reform has In 1992 the Mexican government removed thetaken place. Although contract negotiations can be government monopoly on the import of petro-complex, they have advantages: i) they do not necessar- chemicals and edible oils, and allowed the privateily require new institutional structures; ii) they allow sector to provide port services to third parties.the govermnent to take a "pilot' apprach to private These changes created opporunities for privateinvolvement; and iii) there is competition at the bid- sector port operators In 1993 IFC providedding stage, providing it is tansparent. The Philippines financing to enable a port operator to expand itsillustrates how progress can be achieved in difficult cir- liquids storage trminal.cumstances, with over 3,000 MW of private generating Bulding on this experience, the goverment iscapacity contracted since the first pioneerng transac- g the grund for further privatzation oftion in 1988 (Box 6.3). Some of the new private gener- the port sector It is defiing, through new lawsation capacity has been "fast-track", to address and specific concession contracts, requirementsbrownouts of over 8 hours a day that the country was td ensure access to port facilities at reasonablesuffering in the early 1990s, at an estimated economnic prices. There wil be at least one public trminalcost of over $1 billion annually. By mid-1994 in eac.h port and concessions wil be tenderedbrownouts had virtually disappeared. coipettively

IFC's experience suggests that small, relively unde- mula changes have been implemented iveloped markets need not be a barrier to prvate entry. Colombia, and in lat 1993 EC apprved fmanc-IFC has fianced independent power producers inGuatemala (two), NepaL Belize and Costa Rica, and mg for the frst ew prvately finnced port incellular operations in Zaire, Uganda, Costa Rica and El the eountr.

38

Salvador. And private entry through contract-based Experience has been good so far: the plant wasrelationships may set up pressures to reform the regu- completed on time and within budget, and has beenlatory environment more fully (Box 6.4 describes operating to the required levels of availability. ThereMexico's port reforms). have been no payment or convertibility problems.

IFC's experiencc with financing a private powcr Further private participation has followed quickly. Inplant in Guatemala illustrates how transactions can be January 1994 the state-owned power utility signed ainnovatively structured to meet the requirements of 15-year PPA with a local company to supply powerexternal financiers. A 1991 drought proved too much from a SI7m hydro gencrator. IFC is assisting withfor the country's mix of large hydro generators backed financing.up by old thermal plants: there were 40 days of black-outs and load shedding. The government decided to Competition as a Regulatorinvolve the private scctor in generation, and to liberal-ize tariffs. In early 1992 the main distribution company Not all private entry depends on contracts.signed a 15-year power purchase agreement (PPA) with Sometimes demonopolizing a service formerly provid-a large US-based company. Just a year later the first ed bv a state-owned operator (to permit private entry)power was being generated. The project consists of 20 may be all that is required to secure private participa-5.5 MW generators mounted on a floating barge, to tion - without any increase in regulatory oversight. Atoperate as base-load plant. This innovative solution least one of the following competitive pressures ismet the security concerns of the lenders (the plant nearly always associated with private infrastructurecould be towed away in an emergency), as well as the provision:country's need for a rapid solution.

Box 6.5 Unbundling Hungary's TelecomsHtmgarian telecoms services have been unbundled into: i) cellular, ii) regional concessions to provide localtelecoms services; and iii) the main telecoms operator, Hungarian Telecoms Corporation (HTC), is responsiblefor the remaining regional areas, long distance and international markets. EFC has fimnanced companies in eachmarket.

In 1992 IFC financed a cellular company which had been awarded an exclusive concession in 1990 to developa nationwide analogue cellular network. By December 1993 the company had 40,000 customefs, 10,000 moredtan originally envisaged. The venture's progress encouraged the government to open up the sector to compe-tition, and in late 1993 two 15-year licenses were awarded to install nationwide digital cellular systems, aftercompetitive bidding.

In 1994 the govermnent awarded concessions to provide local telecoms services in 23 regions. HTC providesinterconnection services, but the licensee is responsible for developing services within each area. Thisapprjach allows rapid entry of capital, technology and management, and allows Hungarian firns to participatein telecoms development In one region, Papa, the concessionaire expects to increse telephone penetationfiom 4% to 14% within five years. IFC is financing some concessionaires directly, and has invested in anequity fimd targeting the sector.

In December 1993, after an international tender, the govement sold 30% stake of HTC to a foreign-led con-sortium for $875m. This was the first privatization of a main telecoms operator in Eastern Europe and thelargest single foreign sale made in Hungary. HTC's 25-year concession is exclusive for the first 8 years, withspecified growth and quality targets. IFC subscribed to $30m of preference shares in HTC prior to privatiza-tion, which enabled HTC to continue its development program and improve its capital structe before privati-zation, and lent credibility to the privzation process. IFC also assisted with defming the regulatory regime.

39

i) bidding for the market (contestability): for a with S 1,000 for a connection and 35 cents/minute inconcession; El Salvador, where there was a single operator. The

ii. yardstick competition, such as, for example, tariff reductions have led to a rapid expansion in mar-two telephone concessions providing services ket size; by early 1994 there were nearly 10,000 cellu-

lar subsciibers: 50% above that estimated a yearin different regions. Consumers (and regula- earlier. Other parts of the market have been liberal-tors) can observe differences in scrvice stan ized: there are 5 paging companies, 3 companies oper-dards between providers; ate data communication systems and the main telecoms

iii) substitute competition: such as competition operator has been corporatized.from road hauliers for a rail concession; and

iv) direct competition between suppliers. Benefits from UnbundlingCompetition can reduce the need for regulation,

keepcost to onsuers ownand s fesibl eve inGovernments can also reap benefits for consumerssmall,osts relati consunersdeve d maks feasibe son by by "unbundling" sectors. Unbundling often strength-small, retinvestmen indeaelopd Lankacellar shompnby ens competitive pressures, and facilitates private entry

dFcec ies. into parts of . market. It may also enable more rapidBusiness surveys in Sri Lanka showed that deficiencies capacity expansion than might be possible otherwise,in telecoms services were a serious obstacle to private

secto devlopmnt. [ resonse the overmentas several entrants can draw on different sources ofsecto devlopmnt. I resonse the ovcnnentcapital and managernent at the sarne time. Hungary

embarked on a program to liberalize the sector. In cptladmngmn ttesm ie ugr1989athedona Telecommuction Aubemlithoriy lnsed. t has unbundled its telecoms sector (Box 6.5) and hasl1989 the Telecommninucations Authority licensed the satdt otesm iheetiiyfirst cellular operation, which was a joint venture started to do the same with electricity.between foreign and local investors. In February 1992it granted a second license to a new company, which Privatizing Existing Assets As Wellwas majority owned by Singapore Telecom. IFCinvested in this operator, partly to stimulate competi- in addition to the limited entry approach, govern-tion. A third license was awarded in 1993 to a joint ments can achieve larger efficiency benefits by priva-venture between the domestic telephone company and tizing existing assets. Even where it is practical toa foreign telecoms company. have only a single local supplier, such as in water dis-

tribution, large benefits from private participation canThe effects of this compDetition have been dranmatic. e aledInMy93AusAgetas()ws

Sri Lanka's cellular tariffs are among the lowest in the awared a 30year coce s trovide wAte adworl. InJanury 194 aconnctio cos $10 andawqarded a 30-year concession to provide water andworld. In January 1994 a connection cost $100 and sewerage services for 6m consumers in Greater Buenos

Aires. AA assumed control of the operations of the

Box 6.6 Capacity and Environmental Benefits from the Buenos Aires WaterConcessionOver 30 years Aguas Argentina expects to invest $4 bn to rehabilitate and extend the Buenos Aires water andsewerage system. IFC is providing some of the fmancing for the 1993-1995 investment prgram. The previ-ous state owned operator had invested little since the early 1970s, so the network was dilapidated upontakeover. Much of the imvestment will focus on expanding sewerage services to new areas, and istalling pri-mary and secondary treatment.

Significant e ental benefits are expected. First, the contract provides a strong incentive for AA to man-age water resources effectively, as the company's profitability partly depends on reducing waste. System lossesare expected to be cut sharply. Second, the coacession's requirement to extend sewerage services to most ofthe area's consumers (and tbat all sewage be subjected to primary and secondary teatment before discharge)by the end of the period, will lead to a significant impovemmt in the quality of disarged effluent.

40

ner stateoned operator afer competitive bidding the shares are sold later they may fetch a bettern four international consortia. The concession price if performance has improved); andiires AA to operate within a clearly defined indus- - some govemments have restrcted a conces--tructure (a regulatory authority and tariff adjust- sion's exclusivity period, in order to combineit rules) and achieve specific opeating targets. the benefits of rapid capacity increases in theuding serving an increasing percentage of the pop-

'-ion and meeting water quality goals. AA won theshrtemwhthtratonwctyltr* io admetngwte uaiy ols Aote(used in the telecoms privatizations in Mexico,

cession on the basis of a proposed 27% reduction .-he existing tariff. An innovative bidding mecha-n offered the concession without payment in return Govemments wishing to involve the private sectorcommitments to major capital investments (further) in infrastructure financing and managementx 6.6). need to concentrate on addressing key entry barriers.

Table 6.1 gives examples of strategies that govern-Privatization of existing assets can also make ametathredfrntsgsofpiteecr

-h stongc staemcntabou govmments comit- ments at three different stages of private sector:h stronger statement about government's commit- inovmtmghcnsdrinvolvement might consider.

it to reform, and thus evoke more of a responsen private investors. Argentina's dramatic turn-md is the most well known example, but se eral How IFC Can Assist-r Latin American countries have seen a similarnomenon. Privatization of large enterprises such as IFC does more than provide debt and equity financ-

*=' ties is perceived as an (almost) irrevocable step by ing (and other products, such as interest rate hedges) to-stors, it often adds liquidity to domestic stock mar- private infrastructure projects. The Corporation advis-- and it creates private companies that can access es governments on restructuring and divesting theiriestic and international capital markets more infrastructure utilities - recent examples in the powerctively. sector include work for the governments of Trinidad

and Tobago, Peru and Colombia. IFC has advised onregulatory frameworks (e.g. telecoms in Hungary),

iding a Middle Way, and Next Steps often in conjunction with the World Bank. IFC alsoundertakes formal advisory mandates from companies

Govemrnments have addressed concerns such as those in member countries, for example to assist with- d at the start of this section by a wide variety of restructuring or secure financing for a project. And,-hods, including: for most projects, IFC's own due diligence process

- financing redundancy packages for employees leads to engineering, envirommental, legal or financingof privatized companies (used in some of suggestions that make the project more easily finance-Argentina's privatizations, for example); able. For example, recent work in the Indian power

-reserving some shares for sale to employees, sector has focused on ensuring that the Power Purchaseusually-at a discount to the market price; Agreements met the requirements of international

financiers; IFC then participated in financing several- requiring a concessiun winner to undertake a projects.

specified investment program within the first The Corporation offers prospctiv private

few years. This ensures that waiing lists fall fimanciers several sources of confidence-building com-quickly. fort, both through the quality of its project appraisal

- stipulating specified quality and coverage tar- and the informal leverage that it exerts as a member ofgets, and holding a performance bond in the World Bank Group. It is thus in a good position toreserve, to be forfeited if the concessionaire tilt the balance in countries where governments wantfails to meet the standards; private participation. and are trying to persuade private

retaining some ownership, both to maintain financiers to enter.some influence and to maximize revenue (if

41

Table 6.1 Government Strategies for Encouraging Private Sector Participation

Some private Extensive privateEncourage initial private entry particpation participation

Oveag Prodent macroeconomic mangement, including currency convertibility, is a priority. Ainstitutional/legal framework is necessary to ensure contmcts can be implemented.

Setoral Demonopolize niche sectors, allowing Broaden the scope of Extend privat sectorentry to ceiular telephones, power private entry and participation andgeneration, ports etc. Use competition. Initiate contestability to sectors whereconcessions and BOOs as appropriate overhaul of regulatory regulatory issues may beto sector and political acceptbility fiamework more difficult.

Size Focus initially on small projects. Medium-sized projects Project size should not be aBreak large projects into components should be financeable constraint

Sectoral Start process of removing subsidies, Assess regulatory options. Review regulatoryand preferably by anouncing (and Increase competition experience. Convert BOTsrvgul- adbering to) a phased program. within and for markets; to concessions by announcingatory Allow tariffs to be automatically regulate natural that they will be re-bid.issues adjusted to reflect changes in costs monopolies Maximize competition

Privatiz'n Consider (partial, if appropriate) Privatize a broader range Complete privatizationof SOEs privatization of most financially of SOEs prcess. Make tariffs fully

viable SOEs (eg telecoms) coLvinercial

Foreign Remove or minimize bariers to Encouage foreign Remove remaining consraintspartiap'n foreign capital and expertise participation in privatez'n to foreign participation

Spovsors Ensure strong sponsors, technically Scope for greater participation by technically andand financially. Ensure that they financially sound local sponsors, and demonstrationmake significant equity contributions effects

Fmnancial Adjust regulations to allow foreigners Access international capital Improve access to intern'lissues to repatiate dividends. Allow use of markets. Strengthen local capitad tbrough better country

escrow accounts if that gives extra capital markets: public risk rating. Encourage privatecomfort to foreign investors share issues, investments rating agencies, re-insurance

by local pension and industry, full use of foreigninsurance fimds and local capital markets

Govern- lWhere really necessary, guarantee Assume less risk as private Limit commenrcial presence ofment and SOE contractual obligations, and participation increases; government. Focusrisk build in buyout provisions for private adapt regulatory govemment involvement on

sponsors. Do not subsidize finance framework on the basis of providing enablingto private or .public enterprises. experience environment

42

CONC|SIONS

The main conclusion to emerge from IFC's experi- tically; governments that recognize this are taking steps- nce to date is that despite the risks, private financiers to develop their local capital markets.-re providing large amounts of at-risk capital to invest Debt appears to be more of a constraint than equity.n infrastructure services in developing countries. The As far as infiastructure financing is concerned, con-.olume of funds now being mobilized from the market straints may be tightest on commercial bank debt -s well above that anticipated only a few years ago and where there are limits on exposu and maturity.nnovativc new financing methods are being explored.'rivat. f a r Accessing institutional investors through the capital

tmarkets (where there are fewer constramnts on maurty:ctter service to more people at reasonable cost. Both or exposure) is therefore particuly importantirivate companies and governments are assisting this infifastructo fracingirocess. Companies have supplied finance, and the-bility to take risks and to implement projects effi- BOT and other limited entry arrangements haveiently, while governments have contributed a willing- advantages, particularly as a transition between stateiess to privatize. to experiment with new, more ownership and ultimate privatization. An increasingompetitive regulatory environments and to encourage number of developing countries are using BOT,on-guaranteed financing. IFC's contribution has been arrangements to develop initial experience with prive-s a facilitator, helping with business-govrnment provision of infrastructure services. From IFC's expe-egotiations and bringing financing plans to comple- rience, BOT arrangements offer the advantage of pro-ion, sometimes in a difficult country or regulatory viding rapid increases in the supply of services withoutnvironment. the need for redesign of the entire regulatory network.

Many countries are improving their investment cli- Environmental concerns are not an insurmountablenate with the result that, in many parts of the world, bamier to private investment. Companies are learningPerceived country risk is falling. Divestitue of state to manage enrvironmental risks in the same way asitilities has proved to be the most efficient way of other business risks, and foreign fiwms are bringing thenabling companies to mobilize the financing needed lessons of experience of environmental management ina carry out their infrastructure plans. Privatized com- their home countries to projects in developing coun-lanies have a much wider range of fimancing alterna- tries. Private ownership that encourages better costives than projects financed on a limited entry or recovery is also having an impact on energy conserva-lOT/BOO basis. Privatization has given fims oppor- tion by consumers.unities to access capital markets, and has stimulated These beneficial outcomes are not being experi-zcal funds mobilization. Foreign loans are essential to enced everywhere. Country risk is still a major obsta-nost countries in overcoming their initial infrastructre : c to lage scale funds mobilization in many countries.iroblems but there are limits to the ability of countries Some governments remain committed to stte owner-a borrow offshore. Ultimately more fimds for infra- ship of infasu and in others vested interts are

-tructure investment will have to be mobilized domes- blocking competitive and otanspavent private entry.

43

Institutional constraints are also a problem. The pace standing better the requirements of commercialof reform will depend on how serious inadequacies in investors. The closer the level of understandingtraditional infrastructure provision arrangements are between negotiating parties at the start, the faster thatperceived to be, and how the political process of transi- private investment can be implemented.tion is handled once private entry is allowed. IFC, along with the World Bank and thc Foreign

While impressive, the private projects completed to Investment Advisory Service, is assisting with the dis-date are only just starting to have an impact on the semination of *best practice" information to companiesbacklog of unmet demands. The size of the investment and governments in developing countries. This paperchallenge is so great that many firms and governments is part of IFC's ongoing efforts to share its still limitedare shifting their efforts towards "best practice" strate- though rapidly expanding body of evidence with agies. Firms are learning new rules about being in the wider audience.infrastructure business, while governments are under-

44

1988 1989 19 991 1992 Total 1988-1992

Value No. of Value No. of Value No. o Value No. of Value No. of Value No. oInfrastucture sub-sector Sm countica Sm countries Sm countria Sm countries Sm countrie Sm countria

Toecommunications 32S 4 212 2 4,036 7 5,743 9 1,504 4 11,821 14

Power genertion 106 1 2,100 1 20 2 248 2 1,689 3 4,164 9

Power distribution 98 1 1,037 2 1,135 2

Gas distribution 1,906 2 1,906 2

Railoads 110 1 217 1 327 1

Road infrasuctu 250 1 250 1

Posts 7 2 7 2

Water _ 17S 2 17S 2

TOal 431 5 2,312 3 4,307 8 6,200 10 6,3S 9 19,715 1S

closely rited privatizutions:.rLin 367 2 42 1 775 4 168 5 1,461 7 2,813 14- shipping 135 1 1 1 136 2* road trnsport I 1 12 2 13 3

Taoal deidbping country 2,587 S,188 8,618 22,049 23,187 61,629 25pr1vadzato.is I__ _ _ _ I__ _ _ _ _ _ _ _ I _ _ _

Source: Datbase from PFSader, "Privatizations and Foreign Investmcnt in the Developing World, 1988-1992', World Bank.Notes: Countries undertaking infratructure privatizations:

1988: Power-Mexico; Telecoms-Bdez., Chile, Jamaica, Turkey; Airlines-Argentina; Mexico.1989: Power-S.Kores; Telecoms-Chile, lanaica; Airlines-Chile.1990: Power-Malaysia, Turkey; Teleooms-Bcliz, Chile, Jamaica, Malaysia, Mexico, Poland, Argentina; Road inf-Argcntina; Airlincs-Argentina, Brazil,Mexico, Paksan.1991: Power generation-Chile, Hungary; Power distribution-Philippines; RAilds-Argentina; Tdelcoms-Argentina, Barbados, Belize, Hungry, Jamaica,Mexico, Peru, Philippinae, Venezuela; Airline-Hondurms, Hungry, Panama, Turkey, Venezuela; Shipping-Malaysia; Road trnsport-Togo.19: Power genation-Argentina, Belize, Malysia, Poland; Power disribution-Argentina, hilippines; Gas distribution-Arentina, Turkey; Telecoms-Argentina,Estonia, Malaysia, Tu*qy; Railroads-Argentins; Ports-Pakistan, Columbia; Water-Argentina, Malaysia; Ailines-Czechoslovakia, Hungary, Malysia, Mexico,Panana, Philippine, Thailand; Shipping-Sri Lanka; Road trnsport-China, Peru.

ANNEX 2 OVERVIEW OF IFC'S INFRASTRUCTURE TRANSACTIONS, 1966 - JUNE 1994

Sa" n: d Eud No. of appra eograpical c eCDTA. GENERAL Electric power generation, Agriculture, housing, health, 88, including: Argentina (15), Belize, Bolivia,COVERAGE transmission and distribution; some education, mining 21 repeat operalions Chile (10), Colombia (5), Costa

energy distribution; ports; infrastructure. Shipping, (ie in the same Rica (2), El Salvador, Guatemalatelecommunications; railways; roads; airlines and road transport. company); (2), Hungary (4), Jamaica, Korea,water supply and distribution; waste Manufacturing projects (eg 4 swaps/hedges India (I 1), Mexico (5), Nepal,management and disposal; nass electrical equipment, rolling I feasibility study. Oman, Pakistan, Peru,transit; airports. stock). Projects where Philippines (11), Poland, Russia, Sri

infrastructure is not accessible Lanka (2), Turkey, Uganda,to third parties. Venezuela, Zaire, Zimbabwe

B. SUB-SECTORAL COVERAGEElectric power Generation (24 approvals); Projects involving the 31, with 7 repeats, I Philippines, Peru, India, Turkey,

transmission (4); distribution (3) nnufacture of electrical feasibility study and I Chile, Belize, Guetemala,equipment currency swap Argentina, Oman, Nepal, Costa Rica

Other energy Gas pipelines (6); petroleum (1) Projects involving the 7, with 3 repeats and Colombia, Zimbabwe, Argentinadistribution mining/extraction of oil or gas 2 simultaneously in

the same companyPorts Projects to build handling facilities Shipping projects 12, of which 3 were Korea, Argentina, Philippines,

and construct storage subsequently dropped. Chile, Bolivia, Mexico, Pakistan,2 repeats Venezuela, Colombia

Telocommunications System expansion (11); cellular (I1); Manufacture of telecoms 25, with 6 repeats. Philippines, Chile, Zaire, Mexico,satellite-based data transmission (1); equipment Two in one company Hungary, Costa Rica, Jamaica, Sriregional (2) simultaneously. Also Lanka, Argentina, El Salvador,

3 derivatives Uganda, Poland, RussiaRailways Management (concession) of network Rolling stock 3, with 1 repeat ArgentinaRoads Toll road, bridge const./mgmt Road transport I MexicoWater Wastewater treatement, water supply 2 Mexico, ArgentinaFinancial Leasing (3); specialist infrastructure 7 India, Latin America, Asia, Global,

funds (4) _ Eastem Europe

Source: IPC records.Nota: [11 Approved by the Board. Includes investments, options and projects which were approved but were later dropped or cancelled.

INFRASTRUCTURE PROJECTS APPROVED BY IFC TO JUNE 30,1994

US$m, current prices

Approval Project lFCFY Company Comary Sector Date Size Gross IFC Net1966 Mealco I Philippines Power: trnsmission 18 Aug 1966 94.0 12.0 12.0

1970 PLDT I Philippines Telecoms: expansion 9 Sep 1969 180.0 4.5 4.5

1977 Promigas I Colombia Pipeline: gas 23 Nov 1976 55.0 15.0 15.0

1981 Coneohua Peru Power: distribution 26 May 1981 18.0 4.5 4.5

1981 Taihan Bulk Korea Port: terminal 2 Sep 1980 27.5 9.0 6.0Terminal _

1986 PLDT nH Philippines Telecoms: expansion 23 Jun 1986 120.0 30.0 30.0

1987 Terminal 6: I Argentina Port: storage 15 Jan 1987 22.0 5.5 5.5

1988 PLDT HI Philippines Telecoms: expansion 17 Dec 1987 95.8 24.0 24.0

1988 Meraco II Philippines Power. distribution 9 Jun 1988 313.2 32.0 32.0

1989 ICTSI' [LPhilippines Port:~ containe terminal 15 Mar 1989 55.0 9.051 S.9

1989 Abmedabd Elec. India Power: generation 11 Apr 1989 83.3 20.0 20.0

1989 PLDT IV Philippines Telecoms: expansion 31 May 1989 454.8 70.0 30.0

1989 Terminal 6: II Argentina Port: storage 1 Jun 1989 10.9 3.0 3.0

1989 Promigas H Colombia Pipdine: gas 22 Jun 1989 34.7 10.0 10.0

1989 Hopewell Navotas Phiuippines Power. generation 22 Jun 1989 41.0 11.1 11.1

1989 Tata Electric I India Power. trnsmission 26 Jun 1989 79.7 34.5 34.5

1990 crc I Chile Telecoms: expansion 14 Jun 1990 n/a 22.1 22.1

1990 CTC I Chile Telecoms: expansion 14 Jun 1990 1,104.4 130.0 80.0

1990 Puerto Ventanss Chile Port: expnsion 26 JUn 1990 46.0 22.0 10.0

1990 Calcutta Electric I India Power transmission 28 Jun 1990 92.2 20.0 20.0

1990 Terminal 6: m Argentina Port: storage 28 Jun 1990 13.2 4.0 4.0

1990 Kepez Elektrk Turkey Power: generation 28 Jun 1990 67.6 25.0 25.0

1990 Puerto Coronel1 Chile Port: construction 28 Jun 1990 39.7 8.0 8.0

1990 Infimtucture India Leasing 28 Jun 1990 84.1 17.0 17.0Leasing H __ .___.

1991 lTata Electric 11 India Power: transmission & 20 Jul 1990 273.7 60.0 60.01 generaion _____

1991 Aconcagua I Chile Power: genertion 20 Dec 1990 82.0 36.5 19.51991 Central Aguirre Bolivia Pori storage 28 Dec 1990 4.9 2.5 2.5

1991 Telecel Zaire Telecoms: cellular 1 Miy 1991 19.4 6.0 6.0

1991 Cedetel Mexico Telecom: celluar 30 May 1991 70.0 32.5 15.0

1991 lBombay Suburb Ind.a Power: generation 13 Jun 1991 653.3 68.0 50.0

1992 Petrzim zimbabwe IPipeline: oil products 25 Jul 1991 66.7 33.0 16.71992 jcrc II Chile Tdecom: expansion 14 Nov 19911 n/a 163.0 nix

47

Approva I PNojet ffCIFY CP"> I COU" ISector Date siZe Grow EFC Net

||1992 Promigas Di m |Co loh4 gas ______ 51.2 30.0 15.0

19 WeSie 1Hunazy Teecom: cellular 31 Mar 1992 82.0 | 15.0 15.0

1992 Millicom Costa Rica ITelecoms: cellular 9 Apr 1992 9.6 6.0 3.5

1I92 FEPSA I |Argentina Railway: mngment 9 Apr 1992 54.8 29.0 13.0

1992 Toluca Toi Road Mexico Road 14 May 1992 312.7 13.8 10.0

19 Jamaica Telecoms JJamaica Telecomns: cuncy swap 20 May 1992 34.5' 12.1 12.1

1992 Cidcutta Electrc_J India Power genertion 23 Jun 1992 547.7 60.0 30.0

1993 Aconcagua U Chile Power: geneation 28 Aug 1992 _ia 2.1 2.1

1993 Nuevo Centrl Argentina Railway: mangement 10 Nov 1992 61.0 28.0 13.0

1993 Infrastuct ure Indu Leasig 8 Dec 1992 33.6 3.7 3.7LaIng II

1993 IPsngue IChie IPower geneation 17 Dec 1992 465.0 124.9 74.9

1993 Telecom Golfo Mexico Telecoms: cellular 22 Dec 1992 45.0 30.0 9.0

1993 L anka Celular I Sn lanka Telecoms: cellular 22 Dec 1992 13.62 1.36 1.36i - 4 FS v5 1992 52.4 17.66 6.3

199 __________1993 CrC M ~~~~~~~~~~~~~~~~~~~~~~~~Chile Telecommunications 2 e-~*s.J 1993 Belie Electric Co. Belize Power: generation 30 Dec 1992 59.4 26.0 15.0

1993 GOTM Mexico Port: liquid storage 30 Dec 1992 21.0 12.0 6.0

1993 IHopewell Pgbilao JPhilippines IPower generation 7 Jan 1993 888.0 110.0 |?0.0|

1993 1Nortehn Mindinao Philippines Power. geneaion 15 Jan 1993 103.0 38.5 19.5

F 1993 |FEPSA II Argentina Railway: management 4 Feb 1993 6.0 6.0 2.0

1993 Puerto Quetzal Guatemaa Power. generaion 23 Mar 1993 92.0 71.0 20.01993 YacyIec [A ntina 1Power: transmission I u 3 134.7 65.0 20.0

~ 1993 Scudder Fund Latin lEquity fund for pnivate 3 Jun 1993 200.0 25.0 25.0ISudr Fund Aerica lpower pnjects in LAC _ I_-

1993 ITelefonica I Argzfia ITelecoms expansion | 22 Jun 1993 11,475.0 |_150.0 _[60.0

I 1993 1Kazachi Continer IPst IjPort: expansion 30 Jun 1993 87.5 13.5 13.5

1994 Telemovil El Salvador Telecos: cdelulr 6 Jul 1993 7.14 4.4 1.9

1993 Terquimca Venezuela Port: expansion 7 Jul 1993 13.5 12.3 4.3

1994 Tucunun Argentina Power. generon 7 Jul 1993 1.5 0.3 0.3

1994 Trmnsconor Argentina Pipeline: gas 20 Jul 1993 510.0 I105.0 25.0

1994 lGasinvest lArgentina IPipeline: gas 20 Jul 1993 20.0 | 20.0 20.0

1994 Edenor Argentina Pow: distribution 5 Aug 1993 402.4 165.0 45.0

1994 Pronigas IV Colombia Pipeline: gas 30 Sep 1993 40.8 20.0 5.0

1994 Hung Telecom Hungary Telecorm expansion 2 Nov 1993 341.1 30.0 30.0

1994 Papatel Huna iTdeoomn regional 22 Nov 1993 14.4 3.8 3.8

1994 |EI Bosque Port Colombia Por 23 Dec 1993 20.0 6.0 6.0

48

Approa , oj: .ct . ...FY Compaty Counr Soc4or Dte - Site . : Net

1994 Biwater Mexico Wastewater treatment 30 Dec 1993 33.2 7.0 7.0

1994 Hidrozarcas Costa Rica Power generation 6 Jan 1994 15.0 10.5 4.4

1994 Lanka Cellular II Sri LAnka Telecons: cellular (rights 27 Jan 1994 S.6 0.7 0.7____ issue) .

1994 Tata Electric IV India Power (GDR issue) 7 Feb 1994 26.6 8.0 -

1994 Asia Infistructur Asia Power (regional fund) 24 Mar 1994 504.5 33.7 33.7Fund

1994 Pangue n Chile Power generation 29 Mar 1994 SU.0 50.0 -

(increase in loAn)1994 Aguas Argentina Argentin Water & sewerage 6 Apr 1994 329.0 122.0 45.0

1994 Global Power Fund World Mezzaine finance for 14 Apr 1994 1010.0 51.1 51.1power project

1994 Edenor n Argentin Power distrib (increase) 14 Apr 1994 8.0 8.0 -

1994 Centrl European Europe Telecoms (regional fund) 27 Apr 1994 100.0 20.0 20.0Tdecoms

1994 Fabrigas Guatemala Power genetion 18 May 1994 8.6 3.5 3.5

1994 GVK Power India Power generation 31 May 1994 290.7 118.3 48.3

1994 N.Mindanao Philippines Power geneation 8 Jun 1994 23.4 0.5 0.5________(currency swap)

1994 UMana Power Oman Power geneation 10 Jun 1994 204.5 76.0 19.0

1994 Clovergem Celtel Uganda Telecoms: celular 23 Jun 1994 16.0 5.6 5.61994 Westel 900 Hungary Telecoms: cellular 28 Jun 1994 160.0 39.0 39.0

1994 Infrastructue India L|Asing 28 Jun 1994 80.0 25.0 25.0Leasing m

1994 Neyveli Power india Power genertion 28 Jun 1994 450.0 198.0 48.0

1994 Khimti Khola Nepal Power genwation 28 JUn 1994 125.7 36.0 31.0

1994 Sprint Polska Poland Telewms: regional 28 Jun 1994 165.0 78.0 33.0

1994 Russian Tdecom Russia Telecoms: celiUar 30 Jun 1994 40.0 7.5 7.5

Notes Excludes: shipping, ranufuctring and projects where the infrscturc is not acoessble to third parties.'Project approved but later cancelled.2 lncluding guarantees.3 Made up of $67m expansion and S14.1m restucturing.'Maximum currency swap.

49

ANNEX 3 CAPITAL MARKETS INDICATORS

Table A3.M Countries Included in 'Private Infrastructure" Group (see Section 4)

No. of IFC operations Privatization duringCountry IFC Operation? by Dec 1993 1918-1992?

Argentina Yes 13 Yes

Barbados No Yes

Belize Yes I Yes

Bolivia Yes I No

Chile Yes 9 Yes

Colombia Yes 5 Yes

Costa Rica Yes I No

El Salvador Yes I No

Estonia No _ Yes

*;uatemala Yes 1 No

=I aungary | Yes| 3 Yes

Jamaica T Yes I1 Yes

lCorea | Yes _ I Yes

Inodia < Yes| 7 No

Malaysia No k Yes

Mexico | Yes| 5 Yes

Paldstan | Yes I No

zeru i Yes 1 Yes

Philippines Yes 10 Yes

Pbland No Yes

Sri Ilanka Yes I No

Turkey Yes 1 Yes

Venezuela Yes I Yes

Zaire Yes I No

Zimbabwe Yes 1 No

Sources: IFC. Privatization data taken from Privaizations and Foreign Invesonem in dte DevelopingWorld, 1988-1992 by F.Sader, World Bank.

50

Table A3.2 Summary Country Indicators, 1989 - 1993

ChileMessure IV89 19901 19911 1992 1993Acass to Interationa Capita:

Insftwiuonal Invesor country ranking (O = wos, 100 =bes) [1) 33.6 37.8 41.1 45.9 S1.SSeomndary debt: % of fce value na 74% 90% 91% 94%Net foreign direct investment Sm 184 249 563 737 850Bonds/loans raised on intemat'l capitai markets Sm 0 285 0 35C 775Domestic Capital Market Indicators:Skok market capitalization Sm 9,587 13,545 27,984 29,644 44,622Liquidity: tunover as % of capitalization 9% 9% 6 % 7% 7 %Infastructure socks as % oftot capiiation [2] 30% 35% 49% 51% 59%

MalaysiaMessre I 189 1990 1991 1992 1993Aca= to Interational Capita:Institutional Invstor country randing (O = worst, 100= I Ibest) t1] 57.41 60.51 62.01 62.91 64.8Secondary debt:- % of face value not applicableNet foreign direct investmt Sm 1,6681 2,3331 4,0731 4,1181 4.350Bonds/loans raised on intenat1 capital markets Sm 541j 7301 4121 1,2711 1,612Domestic Capital Market Indicators:Stock muket capitalization Sm 39,842 48,611 58,627 94,004 220,328Liq"udity: turnover as % of capitalization 17% 22% 18% 23% 94%cifiastructure stocks as % of total cailization 121 11% 12% 26% 30X 31%

PhiippinesMeasure 19891 l990l 991 L992 1993Acum to International Capita:Insntuiional1 nvewtor county rang (O = worst, 100=best) [1] 25.2 25.9 24.5 25.2 28.0Secondary debtk %of fiLce value na 37% 51% X 7x 81%Net foreign direct invesment Sm 563 530| 544 228 400Bonds/loans raised on intemat'l capital markets Sm 0 715 0 0 1,250

Domestic Capibd Maret Indicators:Stock market capitalization Sm 11,965 5,9271 10,197 13,7941 40,3_7Liquidity: turnover as % of capitization 20% 21% 15% 23%I 25%Infrastrucueestocksas %oftotalcapitlination [21 j21% 11%1 21% 22%j 38%

Source: Financial Flows and the Developing Countie, World Bank. Emerging Market Database. IFC.NOsZ:- [1l Twice a year Insksioaklz nvesforpoUs 75-100 international banks to gmde countries ona scale of 0 to 100,wilh 0 representingthe least chnecofdefult. The responses arewighted to givemoreimpoanceto response fiom bankwith grater wordwide exposure and more sophisticated country analysis systems.

121 From IFCs emerging marke dtbase subset of stocs.

51

Table A33 Institutional Investor Country Credit Rankings, Sept 199O - Sept 1993

(Scoring from 0 to 100, with 100 epresenting least chance of default)

Sept 90 Mar91 Sept 91 bMr 92 Sept 92 Mar93 Sept 93 Sept93rating rating rating rating rating rating rating rafin

Argentina 18.3 19.4 20.2 23.6 26.2 30.5 32.6 14.3Chile 37.8 39.3 41.1 44.1 45.9 48.9 51.5 13.7Mexico 35.0 38.0 38.7 41.0 42.6 45.2 45.6 10.6Poland 20.2 21.6 24.5 25.6 24.7 26.9 28.6 8.4Colombia 33.7 35.3 36.6 38.4 37.2 38.8 40.4 6.7Costa Rica 21.1 21.5 22.5 23.4 23.8 24.8 26.8 5.7Bolivia 13.2 14.0 15.0 17.2 17.0 18.1 18.7 5.5Venezuela 32.2 36.0 37.2 39.9 39.0 38.6 37.6 5.4El Salvador 10.9 10.7 11.0 11.8 11.7 15.2 15.3 4.4Malaysia 60.5 61.5 62.0 62.6 62.9 63.9 64.8 4.3Peru 11.1 12.3 12.2 14.3 13.3 13.9 15.0 3.9Turkey 41.4 42.8 42.7 43.7 43.9 45.3 45.1 3.7Sri Lanka 23.3 22.0 21.9 23.4 24.1 25.5 25.5 2.2Philippines 25.9 24.8 24.5 25.7 25.2 27.1 28.0 2.1Jamaica 19.8 19.0 20.6 19.8 20.0 21.9 21.9 2.1Guatemala 16.9 16.2 17.5 17.5 16.8 18.8 18.1 1.2Hungary 43.6 41.1 40.9 41.7 42.3 44.3 44.8 1.2S.Korea 68.7 68.6 68.1 68.4 67.6 68.6 68.9 0.2

Zimbabwe 29.1 28.2 28.7 28.3 26.i 27.7 26.9 -2.2Pakistan 30.0 28.7 27.0 28.0 27.7 28.9 27.7 -2.3Zaire 10.1 9.5 10.1 9.2 9.1 8.8 7.7 -2.4Bbados 38.3 38.2 38.2 37.4 36.4 35.8 35.2 -3.1India 46.2 44.4 38.4 37.6 37.5 38.6 38.4 -7.823 countries Sept 1990 to Sept 1993 change: 23 private infrastr'e countries 3.4

Sept 1990 to Sept 1993 change: 88 other countries (0.8)Sept 1990 to Sept 1993 change: all 111 countries 0.0

Source: Instituional Investor.

52

Table A3A Foreign Direct Investment to Countries with Private Infrastructure

USS milion-- Growth

Country 1988 1989 1990 1991 1992 1993 p pa. 89-93Argentina 1,147 1,028 1,836 2,439 4,179 4,500 45%Barbados 12 8 11 7 14 1S 16%Belize 14 19 17 13 18 19 0%Bolivia (10) (24) 27 52 93 150 n/aChile 141 184 249 563 737 850 47%Colombia 203 576 500 457 790 850 10%Costa Rica 122 101 163 178 220 250 25%El Salvador 17 13 2 25 12 15 4%Estonia 0 0 0 0 58 70 n/aGuatemala 330 76 48 91 94 110 10%Hungary 0 0 0 1,462 1,479 1,250 n/aIndia 91 252 162 141 151 160 -11%lamaica (12) 57 138 127 87 100 15%Korea 871 758 715 1,116 550 750 0%Malaysia 719 1,668 2,333 4,073 4,118 4,350 27%Mexico 2,594 3,037 2,632 4,762 5,366 6,900 23%Pakistan 186 210 244 257 275 350 14%Peru 26 59 41 (7) 127 200 36%Philippines 936 563 530 544 228 400 -8%Poland 15 11 89 291 678 750 187%Sri Lanka 46 20 43 68 123 135 62%Turkeyr 354 663 684 810 844 1,000 11%Venezueila 89 213 451 1,916 629 750 37%Zaire (4) (6) (12) 15 1 1 n/aZimbabwe (18) (10) (12) 3 4 5 n/Private infr. countries 7,868 9,475 10,890 19,403 20,875 23,930 26%Other countries 13,221 15,227 15,455 17,481 26,397 32,353 21%AU dev'ping countries 21,089 24,702 26,345 36,884 47,272 56,283 23%

Source: World Bank.

53

Table A3.5 Bonds and Loans Raised on International Capital Marketsby Developing Countries, 1988 - 1993

USS million

' 892 88-93 grlnfr? 198 1989 1990 1991 1992 1993 % pa

Algeria no 795 397 61Angola no 5 115 325 12Argentina yes 14 725 1,529 6,473Brazil no 5,200 100 1,230 3,010 6,419Bulgaria no 194 580Cameroon no 100Chite yes 151 285 350 775China no 3,846 1,761 1,514 2,595 4,043 6,756Colombia yes 1,000 1,641 200 621Egypt no 500Hungary yes 1,016 1,709 987 1,378 1,446 5,071India yes 2,432 2,047 1,242 226 201 475Indonesia no 1,008 2,701 5,462 5,639 2,641 3,726Jamaica yes 30Jordan no 165Korea yes 1,533 1,322 3,982 6,437 5,204 7,719Malaysia yes 1,133 541 730 512 1,271 1,612Mexico yes 310 2,350 5,568 3,374 9,752Morocco no 130 6 52 60Panama no 238Peru yesPhilippines yes 715 1,250Poland yes 163 5 9aiand no 1,021 1,059 1,465 1,842 2,718 5,551

Turkey yes 3,187 3,013 2,498 2,280 4,580 5,763Venezuela yes 828 1,595 581 1,035 2,930Other countries no 7,914 7,341 8,809 10,670 8,595 11,203All countries 31,622 25,429 31,901 39,979 40,391 76,108 19%- private infr. ountries 11,344 10,746 14,38 17,942 18,9 42,441 30%- other countries 20,278 14,683 17,57 22,037 21,392 33,667 11%

Sourwc: World Bank.

54

Table A3.6 Secondary Market Debt Prices (% of face value)

38-921Infr?' 1990 Q4 1991 Q2 1991 Q4 1992 Q2 1992 Q4 1993 Q2 1993 Q4

Albania no 5Algeria no 80 84 91 87 91 100 64Angola no 25 20 24 22 18 18Argentina yes 20 27 38 50 48 53 66Bolivia yes 11 11 12 16 16Brazil no 25 34 31 33 30 39 46Bulgaria no 15 20 17 13 21 42Cameroon no 15 10 12 14 15Chile yes 74 88 90 89 91 93 94Congo no 7 4 5 6 8 9Costa Rica yes 47 51 59 60 68 80Cote d'Ivoire no 7 9 9 5 8 18Ecuador no 22 24 30 28 32 51Egypt no 43 45 46 47 45 46 46Honduras no 20 27 31 35 31 31Hungary yes 85 73 65Jamaica yes 70 76 74 71 79 76Jordan no 22 30 34 35 35 52Mexico yes 46 56 62 65 65 73 82Morocco no 48 47 46 47 67 80Nicaragua no 4 8 9 7 10 10Panama -no 13 21 32 29 32 56Peru yes 4 7 13 15 19 32 69Philippines yes 37 50 51 59 57 68 81Poland yes 29 23 23 25 32 50Senegal no 42 43 37 38Uruguay no 57 59 75 70 75 72 80

-Venezuela yes 50 62 68 63 57 68 71Unweighted average: alloountries 37 39 40 40 45 51EIfr counties average 47 50 51 51 58 74Other countries average 30 32 33 32 36 41

'ource: Financial Flows, World Bank.

55

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