Would alternative approaches to the current typical capital structure of projects be favoured by institutional investors?  What constraints currently exist to adopting these approaches, and how could these be addressed? 

As above, we respond within the constraints of a structure that sees payment made for "available assets". SFT is considering a number of options that may be of interest in the review: 

a)  Decreasing gearing form the current standard of 90:10 and an increase in senior debt cover ratios would reduce the risk for senior lenders and potentially allow a stronger rating for senior finance, making it more attractive for institutional investors. However, the increased equity (or subordinated debt) tranche would be more expensive and as it would tend to be in place for the whole life of the project would significantly increase overall financing costs. 

b)  Introducing a tranche of mezzanine debt (or facility) between risk capital and senior finance would have a similar effect, at a potentially lower cost. It has been discussed by players including the European investment Bank and other respondents will be able to give more detail. 

c)  The reappearance of wrapping has received some coverage of late, and whilst the wrapper's do not have the AAA rating of pre-financial crisis, there may be a role for this quasi insurance model of credit enhancement for the entire term of the contract along with the services of information flow and controlling creditor provided by the wrapper. Given e) below, and the limited market available, the value of a wrap during the operational phase would have to be clearly tested against its cost.  

d)  Separation of construction from operational phase financing could deliver institutional investment in the operational phase and is further discussed in Q13.  

e)  As discussed in Q2c. above, the simplified contract used in NPD contracts with a clearer allocation of risks that the private sector is able to manage, and a reduced range of services should deliver a stronger rating in the operational phase. Under the NPD model, this can be combined with robust cover ratios without a substantial loss of value to the public sector, as surpluses required in the cash cascade to deliver the required cover ratios can be returned to the public sector to the extent that they are above the fixed subordinated debt coupon. Given a strong investment grade in operation, a different approach to credit enhancement during construction could be considered to properly recognise the difference in risk between these two phases and only pay the cost of the increased risk in the phase in which it exists. The Canadian approach would be to use a security package including a combination of letters of credit, performance bonding and instruments such as sub-contractor insurance from main contractor insolvency to increase the rateability of the senior finance overall. SFT is engaged in exploring this approach which may have been facilitated by the simplification of the operational phase of the contract.  

Finally, it has been suggested that investors of scale may be prepared to take a blended view of the risks of providing available assets and adopt an un-geared structure for a single blended return. SFT has yet to identify investors with the capacity to undertake the necessary origination, up-front diligence and ongoing management; and the interest to provide blended finance at a risk: reward profile that would make it attractive as compared to a geared structure but remains open to any such an approach.