European Infrastructure Finance Yearbook - Investing In Bonds ...

November 2007 

Infrastructure Finance Ratings 

European Infrastructure 

Finance Yearbook 2007/08

20 Canada Square 

Canary Wharf 

London E14 5LH 

www.standardandpoors.com

CONTENTS 

Introduction 

STANDARD & POOR’S EUROPEAN INFRASTRUCTURE FINANCE YEARBOOK 

CONTENTS 

2007: New Challenges And Threats, But Sector Remains Robust 3 

Michael Wilkins 

Infrastructure Commentaries 

How Infrastructure Assets Have Weathered A Decade Of Storms 4 

Lidia Polakovic, Michael Wilkins, Jonathan Manley, and Peter Kernan 

The Changing Face Of Infrastructure Finance: Beware The Acquisition Hybrid 8 

Michael Wilkins and Taron Wade 

European Utilities 12 

Credit FAQ: Assessing The Credit Implications Of EC Legislative Proposals For 13 

The Internal Energy Market 

Peter Kernan and Beatrice de Taisne 

Nuclear Power In The EU: The Sleeping Giant Is Only Gradually Waking Up 17 

Hugues de la Presle and Peter Kernan 

Volts And Jolts: What To Expect As Russia Restructures Its Power Markets 22 

Eugene Korovin and Peter Kernan 

Combating Climate Change InThe EU: Risks And Rewards For European Utilities 33 

Peter Kernan, Michael Wilkins, Mark Schindele, and Hugues de la Presle 

Summary analyses 

Electricite de France S.A. 40 

Endesa S.A. 41 

Enel SpA 42 

E.ON AG 43 

Gaz de France S.A. 44 

Iberdrola S.A. 45 

RWE AG 46 

Scottish and Southern Energy PLC 47 

Suez S.A. 48 

Vattenfall AB 49 

Transportation Infrastructure 51 

Skies Remain Clear For European Airports, Governance Increasingly Important 

Alexandre de Lestrange and Lidia Polakovic 

52 

BAA Ltd. 56 

Alexandre de Lestrange and Michael Wilkins 

Channel Link Enterprises Finance PLC 67 

Alexandre de Lestrange, Michela Bariletti, and Michael Wilkins 

NOVEMBER 2007 ■ 1

CONTENTS 

2 ■ NOVEMBER 2007 

CONTENTS CONTD. 


Copenhagen Airports A/S 85 

Deutsche Bahn AG 86 

DP World Ltd. 87 

Sanef 89 

VINCI S.A. 90 

Project Finance and Public-Private Partnerships 92 

Updated Project Finance Summary Debt Rating Criteria 

Terry A Pratt, Ian Greer, Arthur F Simonson, and Lidia Polakovic 

93 

Credit FAQ: Accreting Debt Obligations And The Road ToInvestment Grade 105 

For Infrastructure Concessions 

Paul B Calder, Kurt Forsgren, Ian Greer, and Lidia Polakovic 

Credit FAQ: The Evolving Landscape For Subordinated Debt InProject Finance 116 

Andrew Palmer, Kurt Forsgren, Terry A Pratt, Paul B Calder, Lidia Polakovic, 

and Santiago Carniado 

Credit FAQ: Recently Upgraded Nakilat Provides Case Study For Credit 122 

Analysis Of LNG Shipping Projects 

Karim Nassif, Terry A Pratt, and Michael Wilkins 

Standard & Poor’s Methodology For Setting The Capital Charge OnProject 126 

Finance Transactions 

Lidia Polakovic, Parvathy Iyer, Arthur F Simonson, Dick P Smith, and David Veno 

Sweden Moves Closer To PPP Model As Alternative Financing For 129 

Infrastructure Assets 

Lidia Polakovic, Karin Erlander, and Michael Wilkins 


Abu Dhabi National Energy Company PJSC 132 

Autoroutes Paris-Rhin-Rhone 133 

Metronet Rail BCV Finance PLC/Metronet Rail SSL Finance PLC 136 

Peterborough (Progress Health) PLC 138 

Transform Schools (North Lanarkshire) Funding PLC 142 

Ratings List 144 

Key Analytical Contacts 149 

STANDARD & POOR’S EUROPEAN INFRASTRUCTURE FINANCE YEARBOOK

INTRODUCTION 

2007: New Challenges And Threats, But Sector 

Remains Robust 

The year 2007 marks Standard & Poor’s Infrastructure Finance Ratings group’s 10th anniversary. 

I am therefore delighted to introduce this year’s European Infrastructure Finance Yearbook, in 

which we discuss the continuing evolution of the asset class and highlight the year’s key 

transactions, sectors, and trends. In addition we set out the latest developments in our ratings criteria 

and methodology. We have also taken the opportunity to look back over the decade and examine the 

phenomenal growth the asset class has experienced as well as the challenges it has faced. 

In accordance with the past few years, throughout 2007 infrastructure has remained a highly sought 

after asset class in the financial markets, continuing to attract new investors with its reputation for low 

volatility and high stability. Yet, with this sustained growth in appetite has come a simultaneous push 

on the boundaries of infrastructure finance--with investors eager to pay higher acquisition multiples and 

employ novel financing techniques to purchase infrastructure assets. Consequently, the level of credit 

risk across the sector has escalated, as debt multiples have continued to creep upward. 

In particular, Standard & Poor’s has witnessed an increasing number of infrastructure assets being 

purchased using a new form of acquisition financing in the debt markets. When acquiring both 

traditional assets, such as water and toll roads, and nontraditional assets, for example motorway service 

stations, participants are increasingly combining project finance structuring techniques with covenants 

prevalent in corporate-style leveraged finance facilities. Standard & Poor’s believes such structuring 

techniques can involve significantly more credit risk than is usual among previous infrastructure finance 

transactions, as favorable debt terms are often coming at the expense of necessary protections. 

Consequently, we have warned market participants that, as credit markets become increasingly tight-as 

has been the case in the second half of 2007--some of these more loosely structured and highly 

leveraged acquisition loans may find it hard to attract lender and investor interest. Nevertheless, we 

have also been keen to highlight that for well-structured infrastructure finance transactions funding 

traditional infrastructure assets--such as the Thames Water refinancing transaction--investor appetite 

looks set to remain, due to the assets’ strong credit quality. For this reason, such transactions are likely 

to show significant resilience in the face of the current market volatility. 

Indeed, such stability has been the case for infrastructure assets throughout the past decade, despite 

substantial market shocks. Notably, Standard & Poor’s has analyzed the project, utility, and 

transportation sectors through numerous difficult environments--such as the Asian crisis that threatened 

many credits across the region in 1997, as well as the California power crisis, Enron Corp. bankruptcy, 

Brazilian energy crisis, and events of Sept. 11, 2001, all of which placed ratings under downward 

pressure in later years. Despite such pressures, on the whole, project and infrastructure credits have 

remained robust in the longer term, and the credit trends of the past decade illustrate the strength of the 

infrastructure sector. 

Unsurprising, therefore, that the market has continued to expand--with the booming global economy 

driving demand for supporting infrastructure. Consequently, the demand for Standard & Poor’s ratings 

has similarly grown in the sector, with the number of global project finance ratings alone reaching 304 

in total at the beginning of this year, a dramatic increase from the 93 we rated in 1997. 

The articles within this year’s European Infrastructure Finance Yearbook reflect this continued 

development of the infrastructure market. We discuss the growth in project, utility, and transportation 

finance transactions in new jurisdictions--such as Russia and Eastern Europe--as well as our approach to 

rating increasingly complex structuring techniques. Importantly, Standard & Poor’s continues to closely 

follow the trends across the infrastructure sector, extending and revising our criteria to enable the 

appropriate assessment of risk originating from the new markets, new structures, and new avenues of 

infrastructure ownership. 

I therefore hope you find this 2007 European Infrastructure Finance Yearbook of considerable use 

and we look forward to receiving any feedback or questions you may have on this publication. 


Managing Director and Head of Infrastructure Finance Ratings 


INTRODUCTION 

NOVEMBER 2007 ■ 3

COMMENTARY 

Publication Date: 

Oct. 31, 2007 

Primary Credit Analysts: 

Lidia Polakovic, 

London, 

(44) 20-7176-3985 

Michael Wilkins, 

London, 

(44) 20-7176-3528 

Secondary Credit Analysts: 

Arthur F Simonson, 

New York, 

(1) 212-438-2094 

Ian Greer, 

Melbourne, 

(61) 3-9631-2032 

Peter Rigby, 

New York, 

(1) 212-438-2085 

Other Secondary Credit 

Analysts: 

Jonathan Manley, 

London, 

(44) 20-7176-3952 

Peter Kernan, 

London, 

(44) 20-7176-3618 

Paul B Calder, CFA, 

Toronto, 

(1) 416-507-2523 

HOW INFRASTRUCTURE ASSETS HAVE WEATHERED A 

DECADE OF STORMS 

Over the past decade, Standard & Poor’s 

Ratings Services has witnessed 

phenomenal growth in demand for 

infrastructure assets. A highly sought after asset 

class in the financial markets, infrastructure 

benefits from its reputation for stability and 

flexibility to respond to changing investor needs. 

The sector is evolving, with assets becoming more 

varied and the financial structures that support 

their financings increasingly sophisticated, making 

risk analysis more complex than ever. 

This year marks Standard & Poor’s 

Infrastructure Finance Ratings group’s 10th 

anniversary. It therefore seems appropriate to 

review the highs and lows of the past decade, and 

to consider how infrastructure has matured as an 

asset class. 

In 1997, infrastructure finance faced a difficult 

environment. The Asian crisis was unfolding, 

threatening many project and infrastructure 

credits rated by Standard & Poor’s across the 

region. In many cases the crisis derailed projects 

at all stages of the pipeline--from many in 

development infancy to a handful ready to close 

on their financings. Market shocks have followed. 

Notably, the California power crisis, Enron Corp. 

bankruptcy, Brazilian energy crisis, and events of 

Sept. 11, 2001, caused widespread disruption in 

the project, utility, and transportation sectors. 

Through it all, though, infrastructure assets 

have shown resilience, and the market continues 

to grow. This should surprise few. As the global 

economy has boomed, the need for supporting 

infrastructure has exploded, which has also 

resulted in a significant rise in the number of 

Standard & Poor’s ratings in the sector. Project 

Chart 1 

Breakdown Of Projects By Sector, 

December 1997 

4 ■ NOVEMBER 2007 STANDARD & POOR’S EUROPEAN INFRASTRUCTURE FINANCE YEARBOOK 

finance ratings alone rose to 304 at the beginning 

of 2007, from 93 in 1997. Project finance 

transactions have also spread globally to markets 

such as Latin America, the Middle East, and-more 

recently--Eastern Europe. New forms of 

project finance have gained popularity, with the 

U.K. public-private partnership (PPP) market 

growing in importance over the decade. This 

market continues to expand, with several 

countries developing their own PPP models-including 

Canada, Australia, and most recently 

the U.S.--as a means of delivering public sector 

services using private sector expertise. Increasingly 

more diverse assets are being presented to us as 

infrastructure (see charts 1 and 2 below), and 

infrastructure finance now includes wind and 

solar power projects, as well as more unusual 

asset types such as stadiums and car parks. 

The Infrastructure Finance Ratings team has 

followed the cycles of infrastructure finance of the 

past decade and studied their causes and effects. 

Here are some of the decisive moments in the 

development of the infrastructure asset class. 

Power Projects Hit By Falling 

Commodity Prices 

After the Asian financial crisis in 1997-1998, the 

majority of infrastructure assets enjoyed rating 

stability. This all changed in 2002, when rated 

project credit quality precipitously fell. Collapsing 

commodity prices drove many of the negative 

credit trends. Most of the project finance 

downgrades occurred in the U.S. power sector, 

affecting projects exposed to contracts with 

weakening power offtakers in particular. Notably, 

a number of rated AES Corp. projects that sold 

Chart 2 

Breakdown Of Projects By Sector, 

May 2007

ject Finance Rating Distribution: Investment Grade Versus Speculative Gr 

100% 

90% 

80% 

70% 

60% 

50% 

40% 

30% 

20% 

10% 

0% 

Investment grade Speculative grade 

1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 

© Standard & Poor's 2007.

The ever present demand for infrastructure 

assets across the globe ensures that the drivers of 

infrastructure are set to remain. As the sector 

matures, so too will the Infrastructure Finance 

team’s credit risk analysis methodology and 

analytical approach. 

Note 

Additional research by Deepti Hemnani, Archana 

Sharma, Ganesh Iyer, and Kaustubh Shrotriya, 

and by Caroline Hyde of Moorgate Group. ■ 

COMMENTARY 

STANDARD & POOR’S EUROPEAN INFRASTRUCTURE FINANCE YEARBOOK NOVEMBER 2007 ■ 7

COMMENTARY 


Sept. 7, 2007 

Primary Credit Analyst: 


London, 

(44) 20-7176-3528 

Leveraged Finance 

& Recovery: 

Taron Wade, 

London, 

(44) 20-7176-3661 

THE CHANGING FACE OF INFRASTRUCTURE FINANCE: 

BEWARE THE ACQUISITION HYBRID 

Bank lenders and institutional investors have 

traded favorable debt terms against the 

management of credit risk during the 

infrastructure finance boom of the past 18 

months. Now, with the cycle turning in the global 

credit markets, loosely structured and highly 

leveraged acquisition loans are looking far less 

attractive. As a result, it is estimated that up to 

$34 billion of leveraged infrastructure loans may 

be left paralyzed under current market conditions. 

Cheap debt with relatively generous terms has 

been the order of the day among infrastructure 

sponsors. To meet market demand, banks have 

combined project finance structuring techniques 

with covenants prevalent in leveraged 

finance facilities--allowing sponsors to acquire 

infrastructure assets at record-breaking 

debt multiples. 

Despite the advantages for borrowers, Standard 

& Poor’s Ratings Services believes that this new 

form of acquisition hybrid poses a significant 

credit risk to the infrastructure sector. Many 

assets recently purchased for eye-watering 

acquisition multiples have failed to boast the 

operating and cash flow strengths assumed typical 

of infrastructure assets. Such risks are likely to be 

exacerbated as credit markets become increasingly 

volatile and investor confidence fragile. 

With $332 billion in leveraged loans currently 

sitting on banks’ balance sheets globally, bankers 

are unlikely to be keen to lend to infrastructure 

assets in the current climate without comfort that 

credit risks are well mitigated. Investors and 

lenders alike therefore need to examine the risks 

associated with each individual transaction, and if 

necessary seek more credit protection than is 

currently being provided within the hybrid 

structure to ensure that the level of debt can be 

supported by the underlying asset. This is 

particularly pertinent as new assets are brought 

under the infrastructure umbrella--with car parks, 

motorway service stations, and motor vehicle 

certificates now claiming to be strong 

infrastructure assets. 

Breaking New Boundaries: Hunger For 

Infrastructure Drives Development 

Over the past few years the boundaries of 

infrastructure finance have been increasingly 

pushed, with investors hungry for new types of 

assets and financing techniques. Consequently, the 

lines between project finance and leveraged 

finance have become evermore blurred, with 


investors marrying together structuring techniques 

from both financing classes to acquire 

infrastructure assets. Crucially, the high debt 

multiples usually associated with project finance 

transactions have been adopted in conjunction 

with the relatively flexible controls, hurried due 

diligence, and weak security packages more 

common in LBOs. As a result, increased debt 

multiples are often coming at the expense of 

necessary risk mitigants. 

Since 2006 a phenomenal appetite for 

infrastructure assets has spread worldwide. This, 

in turn, has fuelled a surge in the number of 

acquisitions within the sector, making it a 

significant area of growth for the syndicated loan 

market. Landmark deals include the purchase of 

U.K.-based airport operator BAA Ltd. 

(BBB+/Watch Neg/NR) by a consortium led by 

Grupo Ferrovial S.A. in February 2006 for $30.2 

billion, the acquisition of the Indiana Toll Road 

for $3.8 billion by Macquarie Infrastructure 

Group and Cintra Concesiones de Infraestructuras 

de Transporte, and Goldman Sachs’ Admiral 

Acquisitions consortium’s £2.8 billion acquisition 

of Associated British Ports (ABP). 

Fusion Of Project Finance And 

Leveraged Finance 

As for the financing of “greenfield” infrastructure 

assets, investors have turned toward project 

finance to raise funds when acquiring mature 

infrastructure assets--securing high leverage 

multiples due to the stable cash flows and 

monopolistic environment. They have then 

incorporated leveraged finance structuring 

techniques instead of carrying out an LBO of the 

asset as would traditionally have been the case for 

the acquisition of mature infrastructure assets 

(see table on next page for the various structuring 

techniques typically associated with leveraged 

finance transactions and project finance 

transactions, respectively). 

Of key concern for Standard & Poor’s is that, 

in combining techniques, investors have been 

trading favorable debt terms against the 

management of risk. Often we are seeing new 

infrastructure acquisition financing structures 

employing structural features, such as short 

shareholder lock-in periods, that are weaker than 

those of traditional transactions, coupled with a 

very aggressive financial structure. ABP, for 

example, was purchased for £2.8 billion with an 

enterprise value (EV)-to-EBITDA ratio of 16.6x.

Leveraged Finance And Project Finance Structuring Techniques 

Leveraged finance Project finance 

Despite the asset’s strong monopolistic position 

and stable cash flows, these terms are unlikely to 

fully mitigate risk arising from the high level of 

debt. Nor are they likely to mitigate market risks 

such as the increasing environmental and 

regulatory hurdles limiting ABP’s ability to 

expand capacity in the future. 

Infrastructure--An Ever Expanding 

Asset Class? 

For the past 18 months, sponsors have also been 

using the hybrid structure to acquire assets not 

traditionally considered as infrastructure. These 

assets do not benefit from the significant track 

record of other sectors such as ports and airports 

and therefore may not be suitable to support high 

debt multiples, lacking the necessary long-term 

stable cash flows or a strong monopoly position 

in the market. 

The recent refinancing of Autobahn Tank & 

Rast Holding GmbH, a German motorway 

service area operator, is a clear example of the 

market opening up to new assets and financing 

acquisitions that would not previously have been 

recognized as infrastructure-style deals. Indeed, 

the initial acquisition of Tank & Rast by privateequity 

investor Terra Firma for €1.1 billion in 

November 2004 involved traditional leveraged 

finance techniques. The acquisition was financed 

using an all-senior debt facility, with a debt 

multiple of 6x debt to EBITDA. 

As little as two years later, in June 2006, Terra 

Firma was able to refinance the debt, obtaining 

greater leverage at a cheaper price. The 

refinancing transaction involved a €1.2 billion 

seven-year senior loan with a cash sweep, and 

COMMENTARY 

Corporate entity in competitive environment Asset with stable cash flows over the long-term, monopolistic 

environment 

Debt capacity dictated by market-driven multiples Debt capacity dictated by discounted cash flows 

Medium-term maturity, lower leverage, bullet repayment Long-term maturity, higher leverage, amortizing repayment, lower 

margins 

Standardized due diligence Detailed due diligence 

Key ratio: debt to EBITDA Key ratio: loan to project life coverage 

Flexible financial undertakings Fixed financing structure, monitored/ updated 

Capital expenditure lines accounted for, but not Future expenditure (i.e., restoration of assets) accounted for 

mandatory future capital expenditure 

Standardized security interest charges Ring-fencing security and "cash waterfall" controls 

leverage was about 8x. Significantly thinner 

margins were attained via the refinancing--with 

pricing falling to a range of 125 basis points (bps) 

to 150 bps in 2006, from a range of 212.5 bps to 

262.5 bps in 2004. Importantly, the arrangers of 

the refinancing--Royal Bank of Scotland, Barclays 

Capital, Société Générale, and West LB--marketed 

the transaction as infrastructure play, highlighting 

the asset’s 90% market share and stable, 

predictable cash flows. 

Investors and lenders need to be aware of the 

credit risk of applying significant leverage to a 

new asset type. The experience of U.K. motorway 

service operator Welcome Break Group 

demonstrates the pitfalls of assuming that this 

asset class can support significant levels of debt. 

Standard & Poor’s believes that applying 

infrastructure-style financing techniques to less 

mature asset types could serve to undermine the 

sector’s reputation for strong, long-term revenue 

flows if appropriate risk mitigants are 

not employed. 

The Origins Of The Acquisition Hybrid 

Hybrid acquisition financing structures are fairly 

new to the infrastructure sector, with the South 

East Water deal in 2003 heralding the first 

transaction of this kind on a large scale. It was 

the subsequent flurry of French toll road deals in 

2005 and 2006 that brought infrastructure 

acquisition transactions into the mainstream--with 

Eiffarie’s purchase of Autoroutes Paris-Rhin- 

Rhone (APRR) providing a template for 

future transactions. 

Techniques from both leveraged finance and 

project finance were evident in the APRR 


(Bil. ) 

140 

120 

100 

80 

60 

40 

20 

0 

First quarter Second quarter Third quarter 

Fourth quarter Transaction count* 

1999 2000 2001 2002 2003 2004 2005 2006 2007 

*Transaction count takes first- and second-lien portions of a single transaction as 

one event and excludes any amendments. For the first half of 2007, the transaction 

count was 214. 

© Standard & Poor's 2007. 

(No. of 

transactions) 

320 

280 

240 

200 

160 

120 

80 

40 

0

Contractual terms have also been weakening 

elsewhere in the loan markets, with the 

introduction of “covenant-lite” LBOs further 

reducing lenders’ control over borrowers’ 

performance. Furthermore, Standard &Poor’s has 

recorded that the level of senior debt amortizing 

within European LBOs has dropped steeply, to 

15% at the beginning of 2007 from 50% in 2001. 

With risk mitigants deteriorating in this fashion 

across the loan market in general, Standard & 

Poor’s does not believe that the infrastructure 

asset class can withstand a continued 

deterioration in underwriting quality. Hybrid 

acquisitions must therefore be restricted to 

infrastructure assets operating within 

monopolistic environments with stable cash flows 

over the long term. Moreover, high leverage 

should be accompanied bythe necessary 

structural package and creditor protections. 

Notes 

Additional data provided byThomson Financial. 

Additional research by Caroline Hyde of 

Moorgate Group. ■ 

COMMENTARY 


UTILITIES 

EUROPEAN UTILITIES 

Once again, while the European utility sector continues to exhibit generally strong credit 

characteristics, credit quality has come under pressure--with increased debt-financed M&A 

activity and heightened levels of regulatory risk the principal drivers of this pressure. Favorable 

operating conditions have, however, continued for many utilities--particularly among generators and 

vertically integrated power companies in the deregulated markets, where high power prices and strong 

free operating cash flows have remained a source of credit strength. 

M&A activity has continued at a high level since 2006, and has resulted inseveral downgrades--at 

E.ON, EDP, Enel, and Iberdrola for example--and a number of CreditWatch listings across the sector. 

Crucially, these negative rating actions have been catalyzed byaweakening of companies’ financial 

profiles following debt-financed acquisitions, as exemplified by Enel’s downgrade to‘A’ from ‘A+’, with 

all ratings remaining on CreditWatch with negative implications, following its acquisition of Endesa. We 

believe that the consolidation trend will continue and is likely tokeep ratings under pressure. Of the top 

20 European utilities, five companies are on CreditWatch negative as a result ofM&A activity (Enel, 

Iberdrola, Endesa, Scottish Power, and Gaz de France) and a further four companies have negative 

outlooks. 

Meanwhile, the European Commission’s ongoing scrutiny of European utilities, together with the 

recently announced legislative proposals to further liberalize the internal energy markets, has highlighted 

the regulatory and political risk many companies remain exposed to. In particular,ofthe measures 

proposed, any forced ownership unbundling of transmission grids would have the greatest impact on 

credit quality, affecting vertically integrated utilities in Germany (such as E.ON and RWE), France, 

(EDF and GDF), and Greece (Public Power Corp.). At this stage, we do not factor in any assumption 

that those companies that currently own and operate transmission networks will be forced to sell their 

networks. We believe there continues to be significant uncertainty about both the final form of any 

legislative package and whether ownership unbundling will be required, asthere is no unanimity 

between the ECand the member states about whether unbundling is necessary. 

The future direction of climate change policies adds a further layer of uncertainty and risk to the 

utility sector. Phase 2 of the EU’s Emission Trading Scheme comes into force from Jan. 1, 2008. Given 

the high level of uncertainty over future climate policy initiatives and long-term carbon pricing, this 

issue will remain asignificant challenge for generators, especially when taking long-term investment 

decisions. Nevertheless, it is clear that the outlook for both renewable and nuclear energy investment 

has improved and will continue to do sodue to the heightened global focus on environmental issues, 

while that of coal--the most CO2-intensive fuel--has weakened. The need for technological 

developments to reduce the CO2 intensity of coal will be key to the future of coal-fired generation. 

Accordingly, the articles included here provide animportant insight into the current environment 

European utilities face, as well as detailed analyses of the resulting credit issues. 

Based in London, Paris, Frankfurt, Madrid, Milan, Moscow, and Stockholm, our regional utilities 

infrastructure analysts welcome your feedback; their contact details are listed at the end of this book. 

Please do not hesitate to contact me, or any of the analysts, if you require further information. 

Peter KKernan 

Managing Director and Team Leader 

European Utilities Team 

12 ■ NOVEMBER 2007 STANDARD & POOR’S EUROPEAN INFRASTRUCTURE FINANCE YEARBOOK


Sept. 21, 2007 


Peter Kernan, 

London, 

(44) 20-7176-3618 

Beatrice de Taisne, 

London, 

(44) 20-7176-3938 

CREDIT FAQ: ASSESSING THE CREDIT IMPLICATIONS 

OF EC LEGISLATIVE PROPOSALS FOR THE INTERNAL 

ENERGY MARKET 

On Sept. 19, 2007, the European 

Commission (EC) published a package of 

legislative proposals for the internal 

energy market. One of the EC’s principal goals is 

to correct what it sees as structural failings in 

some EU electricity and gas markets. According to 

the EC, “the current rules on the separation of 

network activities from supply and production of 

energy do not ensure proper market functioning.” 

The EC recommends that this be remedied either 

through ownership unbundling, so that a single 

company could no longer own transmission and 

generation or supply activities, or by 

implementing an independent system operator 

(ISO) model that would make it possible for 

existing vertically integrated companies to retain 

network ownership, provided that the assets are 

operated completely independently from the 

generation and supply operations. 

To highlight the potential implications of the 

EC’s findings for the credit quality of European 

utilities, Standard & Poor’s Ratings Services 

addresses below some of the most frequent 

questions we have been receiving. 

Frequently Asked Questions 

What are the key potential credit stress points in 

the draft legislative package? 

The measure that could have the most marked 

effect on credit ratings would be the unbundling 

of network assets by vertically integrated utilities. 

The EC’s current proposals include unbundling as 

the default option, with the possibility for 

member states to apply for a derogation and use 

the ISO model. 

What is the next stage in the process? 

The EC’s proposal now has to go through the 

normal codecision process with the European 

Parliament and European Council, whereby both 

institutions can amend the current text in the 

course of two readings. A third reading allows for 

formal negotiations between the two institutions 

if they cannot agree. Standard & Poor’s 

understands that there are some strongly 

divergent views within and between the member 

states on the proposals, and specifically on the 

subject of ownership unbundling. As such, we 

believe that some member states and EU 

parliamentarians could work to alter or remove 


UTILITIES 

some of the proposals--specifically to take out one 

or both of the proposals for the ownership and 

operation of transmission networks. 

Which member states would be most affected? 

A number of member states, including the U.K., 

Sweden, Portugal, Italy, and Spain, have already 

implemented ownership unbundling of 

transmission networks. For these countries, a 

legal requirement to unbundle would have no 

impact on domestic energy markets. Some 

member states, however, such as France, 

Germany, and Greece do not currently require 

ownership unbundling of transmission networks. 

The domestic energy markets of these countries 

could therefore be significantly affected by any 

obligation to implement ownership unbundling. 

When would the member states have to 

implement the legislative package? 

The earliest member states would have to 

implement the unbundling and/or ISO 

requirements is likely to be around 2012 on the 

basis of a normal legislative procedure and 

assuming that the current text is the one that is 

finally adopted. The text could change during the 

course of the legislative debate, however, and 

implementation could be delayed beyond 2012, as 

it is the member states who determine the timing 

of their domestic legislative programs. 

What assumption do the ratings on affected 

companies make about the likely outcome of the 

legislative process? 

At this stage, we do not factor in any assumption 

that those companies that currently own and 

operate transmission networks will be forced to 

sell their networks or will pre-empt a potential 

legislative requirement by unilaterally deciding to 

sell their networks. We believe that there 

continues to be significant uncertainty about both 

the final form of any legislative package and 

whether ownership unbundling will be required, 

as there is no unanimity between the EC and the 

member states about whether unbundling is 

necessary. For example, there is significant 

opposition to forced ownership unbundling in 

France and Germany, two of the largest and most 

influential member states, which, if sustained, 

increases the likelihood that an alternative 

NOVEMBER 2007 ■ 13

UTILITIES 

approach to ownership unbundling--such as the 

ISO model or some other proposal--will be 

included in the final legislation. In addition, even 

if ownership unbundling were required it is 

possible that the affected companies could 

mitigate the impact on credit ratings by using any 

received proceeds to reduce debt. 

Why does the vertically integrated model support 

credit quality and credit ratings? 

From a rating perspective, the European utility 

sector has favorable credit characteristics, as 

reflected in the relatively strong credit ratings on 

many of the largest companies in the sector. One 

of the key factors underpinning this credit 

strength is that many of the rated utilities own 

monopoly transmission and/or distribution 

networks whose cash flow and earnings are 

relatively stable and low risk. These favorable 

credit characteristics provide strong support for 

debt capacity and credit ratings. Stand-alone EU 

transmission and distribution companies are 

typically rated in either the ‘AA’ or ‘A’ categories, 

depending on financial risk factors such as 

balance sheet leverage, dividend policy, and 

acquisition appetite. National Grid PLC, for 

example, is rated ‘A-’, while the smaller Danish 

national energy transmission company 

Energinet.dk SOV is rated ‘AA+’. 

On the other hand, the EU electricity generation 

and supply markets are open and competitive 

(albeit that there are significantly different levels 

of competition within different member states), 

and are therefore characterized by actual or 

potential earnings volatility. Wholesale and retail 

prices are largely determined by the market 

(although some member states continue to set 

regulated supply tariffs), and generation and 

supply businesses face price and volume volatility 

and lack revenue and earnings predictability. 

Accordingly, generation and supply businesses are 

inherently riskier from a credit perspective than 

transmission and distribution businesses. 

The vertical integration model bears lower 

credit risk than generation only and generation 

and supply models, as the ownership of a 

network business provides a relatively stable, and 

predictable, regulated earnings base, underpinning 

cash flows and borrowing capacity. The 

integration of generation with supply operations 

(providing a customer base to which power can 

be sold), and generation and supply operations 


with network operations, provides a strong 

competitive advantage for many 

market participants. 

How common is the vertically integrated model? 

The predominant business model in the EU 

electricity market is that of vertical integration, 

which combines generation and supply operations 

with distribution and/or transmission networks. 

Of the top 20 rated European utilities (see table 

on next page), 15 are vertically integrated 

companies, for which network earnings account 

for a significant share of consolidated earnings 

and represent a key credit strength. 

Of the 15 vertically integrated utilities, six own 

distribution networks only and nine own 

distribution and transmission networks, of which 

seven also operate transmission networks. The 

seven utilities that own and operate transmission 

networks are E.ON AG (A/Stable/A-1), RWE AG 

(A+/Negative/A-1), EnBW Energie Baden- 

Wuerttemberg AG (A-/Stable/A-2), and Vattenfall 

AB (A-/Stable/A-2) (who all own and operate 

regional electricity transmission networks in 

Germany), Electricite de France S.A. (EDF; AA- 

/Stable/A-1+) and Gaz de France S.A. (AA-/Watch 

Neg/A-1+) (who respectively own and operate the 

electricity and gas transmission networks in 

France), and Public Power Corp. S.A. 

(BBB+/Stable/--) (which owns and operates the 

electricity transmission network in Greece). 

Scottish Power PLC (A-/Watch Neg/A-2) and 

Scottish and Southern Energy PLC (A+/Stable/ 

A-1) own transmission networks in Scotland, but 

these networks are operated by National Grid 

PLC (A-/Stable/A-2), which provides an example 

of a functioning ISO model. 

Would ownership unbundling of transmission 

networks threaten the ratings of affected 

companies? 

Yes. Ownership unbundling would increase the 

overall risk and volatility of the consolidated 

business model. As such, if the impact of 

unbundling were not offset by--for example-either 

a reduction in overall debt and materially 

stronger forward cash flow credit protection 

measures, or the adoption of compensating 

strategic measures (such as the use of proceeds 

from unbundling to acquire other low-risk 

earnings streams), ratings would be threatened.

Would ownership unbundling automatically 

result in lower ratings? 

No. While ownership unbundling of transmission 

networks would increase consolidated business 

risk by reducing the share of earnings and cash 

flow generated from monopoly operations, and 

increasing the proportion of earnings generated 

from more volatile and competitively exposed 

generation and supply operations, this could be 

compensated for by lowering the overall leverage 

and financial risk of the group. In other words, it 

is possible that the credit impact of any 

unbundling could be negated through a 

sustainable reduction of total debt and overall 

financial risk and/or a counterbalancing change in 

strategy that would lower business risk. 

Furthermore, the lower the proportionate 

contribution of transmission networks to the 

consolidated cash flow of the group, the lower the 

overall impact of any unbundling. For example, 

Top 20 Rated European Utilities 

UTILITIES 

there was no impact on the ratings on Enel SpA 

(A/Watch Neg/A-1) when it sold down a minority 

stake in Italian power transmission grid owner 

Terna SpA (AA-/Stable/A-1+) in 2005, as Terna 

contributed only 5%-6% of Enel’s then 

consolidated operating income. The degree of 

headroom in a company’s ratings could also have 

a bearing on the impact of unbundling if, for 

instance, there is significant capacity within the 

ratings for a weakening of the consolidated 

financial and business risk profile. 

Are competitively exposed utilities always rated 

lower than network companies? 

No. For example, of the rated nonvertically 

integrated European utilities, Centrica PLC 

(A/Negative/A-1), which owns and operates 

generation and supply businesses, is rated higher 

than National Grid PLC (A-/Stable/A-2), which 

owns and operates the electricity and gas 

Company Country Business Model Transmission Corporate Credit 

Assets Rating* 

Centrica PLC U.K. Generation and supply No A/Negative/A-1 

E.ON AG Germany Vertically integrated Yes A/Stable/A-1 

EDP - Energias de Portugal, S.A. Portugal Vertically integrated No A-/Negative/A-2 

Electricite de France S.A. France Vertically integrated Yes AA-/Stable/A-1+ 

EnBW Energie Baden-Wuerttemberg AG Germany Vertically integrated Yes A-/Stable/A-2 

Endesa S.A. Spain Vertically integrated No A/Watch Neg/A-1 

Enel SpA Italy Vertically integrated No A/Watch Neg/A-1 

Fortum Oyj Finland Vertically integrated No A-/Stable/A-2 

Gaz de France S.A. France Vertically integrated Yes AA-/Watch Neg/A-1+ 

Iberdrola S.A. Spain Vertically integrated No A/Watch Neg/A-1 

National Grid PLC U.K. Transmission and Yes A-/Stable/A-2 

distribution 

Public Power Corp. S.A. Greece Vertically integrated Yes BBB+/Stable/-- 

RWE AG Germany Vertically integrated Yes A+/Negative/A-1 

Scottish and Southern Energy PLC U.K. Vertically integrated Yes A+/Stable/A-1 

Scottish Power PLC U.K. Vertically integrated Yes A-/Watch Neg/A-2 

Suez S.A. France Diversified No A-/Watch Pos/A-2 

Union Fenosa S.A. Spain Vertically integrated No BBB+/Stable/A-2 

United Utilities PLC U.K. Combination utility No A/Watch Neg/A-1 

Vattenfall AB Sweden Vertically integrated Yes A-/Stable/A-2 

Veolia Environnement S.A. 

*At Sept. 21, 2007. 

France Water No BBB+/Stable/A-2 


UTILITIES 


transmission grids in England and Wales (as well 

as some U.S. network assets). While Centrica has 

a higher level of business risk than National Grid 

because its earnings are competitively exposed 

and are more volatile, this is compensated by 

Centrica’s significantly lower leverage. Following 

National Grid’s recent acquisition of U.S.-based 

KeySpan Corp. (A-/Stable/A-2), unadjusted net 

debt will increase to approximately £19.5 billion 

by 2009, from £11.8 billion in 2007, with 

consolidated funds from operations (FFO) interest 

coverage of about 3.5x and FFO to total debt of 

about 15%. By comparison, in the 12 months to 

June 2007, Centrica’s FFO coverage of adjusted 

net debt was very strong at about 97%. 

Why would an ISO model have less of an impact 

on credit quality than unbundling? 

An ISO model in which the operational 

management and investment plans of transmission 

networks would be controlled and determined by 

parties independent of the owners has been 

presented as an alternative--and potentially less 

politically divisive--option than ownership 

unbundling. The impact of such a move on the 

ratings in the sector would in principle be 

significantly less than that of unbundling, because 

the network owners would not be forced to divest 

and would retain access to the relatively solid, 

stable, and predictable network earnings 

(compared with, for example, volatile power 

generation earnings). 

An ISO model would mean that the vertically 

integrated utilities--such as E.ON, RWE, EDF, 

EnBW, and Vattenfall--that own transmission 

networks and whose credit quality benefits from 

such ownership, would continue to own the 

network and consolidate their earnings. Rating 

risk under an ISO model would, therefore, be 

limited compared with the significant rating risk 

presented by ownership unbundling. 

The ultimate effect of such a move would 

depend, however, on factors such as whether the 

networks would continue to be fully consolidated. 

In addition, current transmission network owners 

could decide to unilaterally sell networks if an 

ISO system were introduced, thereby redeploying 

capital from what would be a passive low-risk 

investment into a fully controlled and managed 

investment such as high-risk power generation. 


What was the impact on Scottish Power and 

Scottish and Southern Energy when the operation 

of their transmission networks moved to an 

ISO model? 

None. National Grid has operated the 

transmission networks of Scottish Power and 

Scottish and Southern Energy since 2005. 

Both companies continue to consolidate their 

transmission networks, and their consolidated 

credit quality continues to benefit from the 

relatively stable earnings of the 

transmission networks. ■


(Tons of 2 

equivalent gigawatthours) 

1,000 

900 

800 

700 

600 

500 

400 

300 

200 

100 

0 

Carbon Emissions By Type Of Power Generation 

oal il Natural as ydroelectric Nuclear 

Source orld conomic ouncil, 2004. 


South frica 

(Nami ia) 

(5 ) 

Source uratom. 

ustralia 

(14 ) 

thers 

(23 ) 


The EU's Main Providers Of Uranium, 2006 

Niger 

(16 ) 

anada 

(24 ) 

ussia 

(19 )

UTILITIES 


Limited Nuclear Revival In The EU 

Nevertheless... 

Following the commissioning in September 2007 

of the Cernavoda 2 reactor in Romania, 146 

reactors are currently in operation in the EU 

providing 30% of the region’s electricity. 

Only four plants are currently being built and 

another four are planned (see table 1). This 

compares with 33 plants being currently built 

worldwide and 94 planned. A number of 

additional nuclear plants are being considered in 

other EU countries, especially the Czech Republic 

and Finland as well as Lithuania and Romania, 

but with no firm commitment so far. 

...Given Relatively Limited Political And 

Public Support So Far... 

Although the EU is generally supportive of the 

development of nuclear power, support at state 

level is more mixed. 

Recognizing the right of each member state to 

decide on its energy mix, in March 2007 the EU 

Council underlined nuclear power’s place within 

the region’s carbon-reduction strategy, and its 

contribution to addressing growing concerns 

about security of supply. However, the council 

also highlighted nuclear power’s drawbacks in 

terms of safety, decommissioning, and 

waste management. 

Within the EU, some countries are clearly 

supportive of nuclear power, especially France, 

Finland, and a number of Eastern European 

countries. In The Netherlands, the government 

Country Existing nuclear phase out legislation/policy State of debate 

Belgium A 2003 law imposes the closure of nuclear plants after 40 The "Commission Energie 2030" in its 

years of operation--with exceptions possible for security of 2006 report recommended the reversal 

supply concerns--and prohibits the building of new nuclear 

plants. Gradual phase out planned to be completed in 2030, 

with first plant closure to occur in 2015. 

of the nuclear phase out policy. 

Germany Based on the "Atomausstiegsgesetz" law, government and The German government's coalition 

nuclear operators agreed in 2001 to limit the average life agreement includes a clause stating 

of nuclear plants to 32 years based on production quotas. that there is no agreement on this 

The building of new nuclear plants is also prohibited. matter. 

Spain Policy is to phase out nuclear power but no schedule or Policy of current government is to reduce 

specific strategy set. recourse to nuclear power without 

compromising security of supply. 

Sweden The "Nuclear Power Decommissioning Act" of January 1998 No decision on phasing out of nuclear 

allows the government to decide that the right to operate a power to be taken by current 

nuclear power plant will cease to apply at some point. Such government during term in office 

a decision infers the right to compensation from the state. (2006-2010). 

Source: Standard & Poor's. 

Table 2 - Nuclear Power Phase Out Policies In Europe 


Table 1 - Nuclear Power Plants In the EU 

Nuclear reactors 

Under 

Operational construction Planned 

France 59 1 0 

Germany 17 0 0 

Spain 8 0 0 

Sweden 10 0 0 

United Kingdom 19 0 0 

Finland 4 1 0 

Bulgaria 2 0 2 

Romania 2 0 2 

Slovakia 5 2 0 

Others 20 0 0 

Total 146 4 4 

Source: World Nuclear Association, October 2007. 

signed the Borssele covenant in June 2006, under 

which the operating life of the country’s only 

nuclear power station in Borssele has been 

extended until 2033 at the latest, as long as it 

remains in the top quartile of the safest power 

stations of its kind within the EU, the U.S., and 

Canada. In its May 2007 energy white paper, the 

British government also clearly reiterated its 

support for new nuclear power stations, the costs 

of which, including for decommissioning and 

waste disposal, must, however, be entirely borne 

by the private sector.

ncreased 

(14 ) 

aintained the 

same 

(34 ) 

Eurobarometer: European And Nuclear Safety 

In your opinion, should the current level of nuclear energy as a proportion of all energy 

sources be reduced, maintained the same, or increased? 

on't know 

(13 ) 

Source uro arometer Fe ruary 2007 uropean and nuclear safety . 


educed 

(39 ) 

Neither 

(spontaneous) 

(6 ) 

The advantages 

outweigh the risks 

(33 ) 

Eurobarometer: European And Nuclear Safety 

on't know 

(8 ) 

Source uro arometer Fe ruary 2007 uropean and nuclear safety . 


When you think about nuclear power, what first comes to mind? 

The risks outweigh 

the advantages 

(53 )

UTILITIES 


• For TVO, a strong turnkey, time-certain 

supply contract with ample guarantees, 

backed by strong suppliers and security 

bonds in the construction phase, as well as 

by offtake agreements with its main 

shareholders during the operation phase. 

• For EDF, during the construction phase by 

the group’s expertise in building nuclear 

plants, its last such plant in France having 

been commissioned in 2002, and by the 

group’s leading domestic position and the 

protective French regulatory environment in 

the operation phase. 

• For the Slovakian plants by the strong 

support of the government, which owns 

34% of SE. 

From a financial perspective, both EDF and 

Enel have the financial flexibility to carry out the 

investments necessary for their new builds of, 

respectively, € 3.3 billion and $2.2 billion. TVO is 

much smaller, but the protective turnkey contract 

and the offtake arrangements with its major 

shareholders provide substantial comfort. 

That said, in August 2007 we revised to 

negative the outlooks on Estonia-based integrated 

electric utility Eesti Energia AS (A-/Negative/--) 

and Lithuania-based electricity transmission 

company Lietuvos Energija (A-/Negative/A-2) to 

reflect the risks stemming from their possible 

participation in a prospective new nuclear power 

plant at Ignalina, Lithuania. 

The Ignalina nuclear project is based on a 2006 

agreement between the governments of Lithuania, 

Estonia, Latvia, and, at a later stage, Poland. 

However, realization of the project, including 

funding, will be the responsibility of the 

participating state-owned power companies. Eesti 

Energia could participate in the nuclear project 

with a 22% stake, while Lietuvos Energija would 

have a 34% stake and would be responsible for 

the plant’s operations. The nuclear power plant 

would have maximum installed capacity of 3,400 

MW at a projected cost of up to €4 billion. 

Extension Of Existing Plants Would Be 

Credit Positive 

A number of EU nuclear operators are seeking to 

extend the operating life of their plants drawing 

on the U.S. example, where at the end of 2006, 

47 licenses extending the operating life of nuclear 

plants to 60 years had been granted and an 


additional eight were being reviewed. 

In the U.K., British Energy Group PLC (BE; 

BB+/Watch Neg/--) obtained approval in 2005 for 

a 10-year extension of its Dungeness plant. In 

2008, BE may apply to extend the lives of its 

Hinkey Point and Hunterston plants, which are 

currently scheduled to close in 2011. Extending 

the operating life of its nuclear plant beyond the 

current 40 years is also a key pillar of EDF’s 

strategy. Czech operator CEZ a.s. (A-/Stable/--), 

has also launched an upgrade program at its 

Dukovany nuclear plant, with a view to 

increasing capacity by 160 MW and extending 

operating life by up to 20 years. Although 

Swedish utilities have not applied for life 

extensions they have obtained approval for 

uprates (capacity increases), which will 

significantly boost their nuclear capacity: Uprates 

underway and planned between 2006-2011 at the 

Ringhals plant, which is operated by Vattenfall 

AB (A-/Stable/A-2), will increase its capacity by 

close to 500 MW. The group will also boost 

capacity at its other nuclear plant, Forsmarks, by 

410 MW between 2008-10. E.ON Sverige AB 

(A/Stable/A-1) is also planning a 250 MW uprate 

of its Oskarshamn-3 reactor, to increase its 

capacity to 1,450 MW. 

We view such extensions very positively as, 

while running, nuclear power plants are highly 

cash generative in light of their low variable costs 

and limited capital expenditures for maintenance. 

Such extensions also delay decommissioning 

liabilities and capital expenditures for 

capacity replacement. 

Conversely, New Nuclear Build Is 

Inherently Risky 

Building new nuclear plants is challenging given: 

• Long lead times with no offsetting revenue. 

EDF Energy PLC (A/Stable/A-1), which is 

interested in building four new nuclear 

plants in the U.K., believes that the earliest 

such a plant can be commissioned is 2017. 

•High upfront capital costs (about € 3 

billion), with the risks of delays overruns, 

especially for “first of a kind” plants. The 

TVO plant in Finland is now about two 

years late and has experienced very 

substantial cost overruns. 

Such features are specific to nuclear power 

plants, conventional power plants having much 

shorter lead times and much lower capital costs.

Conversely, conventional power plants are much 

more exposed to the vagaries of fuel prices. 

New nuclear plants also represent large 

capacity increases in one step (the new French 

and Finnish plants both have 1,600 MW 

capacity), whereas incremental capacity additions 

are better suited to deregulated markets. 

Operational Inflexibility Is A Drawback 

In A Competitive Environment 

In operation, nuclear plants’ low operating costs 

and lack of carbon emissions are key competitive 

advantages. Yet operational inflexibility partially 

offsets these benefits, with nuclear plant operators 

limited in their ability to alter output in response 

to fluctuating energy demands, which weakens 

their market position. Nuclear plants provide 

base-load power and are, therefore, price takers 

rather than price setters. This is a significant 

drawback in today’s largely unregulated 

markets, which are characterized by volatile 

demand patterns. 

The risks of investing in new nuclear 

power stations are mitigated to a degree by the 

EU’s rapidly declining capacity margin and 

the resulting substantial investments in power 

generation required to meet the growth in 

demand and planned power 

plant decommissioning. 

Moreover, only the largest EU utilities will be 

able to invest significantly in new nuclear 

capacity. These groups all have large customer 

bases as well as a diversified generation mix-except 

EDF, which has a quasi-exclusive focus on 

nuclear power but benefits from the protective 

French environment--and extensive experience in 

running nuclear plants. What is more, to mitigate 

risks they may chose to expand, especially 

abroad, through partnerships, and/or to enter into 

offtake agreements. 

The large European utilities are likely to invest 

both in their own markets--if nuclear phase-out 

agreements are revised--but also abroad. EDF and 

the German utilities have highlighted their interest 

in new nuclear builds in the U.K., while five 


UTILITIES 

groups--Electrabel, which is part of Suez S.A. 

(A-/Watch Pos/A-2), CEZ, E.ON AG (A/Stable/ 

A-1), Enel, and RWE AG (A+/Negative/A-1)--have 

placed indicative bids for an up to 49% stake in 

the Belene nuclear power plant project in 

Bulgaria. Likewise Enel, Electrabel, Iberdrola S.A. 

(A/Watch Neg/A-1), RWE, and CEZ have bid to 

participate in the construction of reactors 3 and 4 

in Romania at Cernavoda. Only EDF appears 

interested in investing in nuclear projects outside 

of Europe. It is focusing on the U.S., China, and 

South Africa. EDF recently announced an 

agreement with U.S. utility Constellation Energy 

Group Inc. (BBB+/Negative/A-2) to set up a 50/50 

joint venture to build, own, and operate European 

pressurized reactors (EPRs) in the U.S. 

In the short term, we expect investments in 

nuclear power by EU utilities to increase only 

gradually, reflecting the long lead time for new 

nuclear projects and the time needed to build up 

political and public support. Investments in 

nuclear power are therefore unlikely to 

significantly weigh on ratings. Risks may increase 

in the medium term as investments in nuclear 

power rise, though. The pace of such investments 

and the context--the degree of competitiveness of 

power markets, share of generation to be derived 

from nuclear power, life extensions of existing 

nuclear plants, level of expected wholesale and 

carbon prices, and political environment--in 

which they are carried out, will be key to our 

assessment of any rating impact. As a rule of 

thumb, we are likely to consider too strong an 

exposure to nuclear power in an open market 

as risky. 

We expect most investments in nuclear power 

to be on balance sheet, given the financial 

firepower of major European utilities, the 

difficulty of nonrecourse funding of such projects 

in light of the risks entailed, and the difficulty of 

replicating alternatives approaches such as 

TVO’s mixed-ownership structure, which 

encompasses both utilities and electro-intensive 

industrial groups. ■ 



osenergoatom 

(state nuclear 

monopoly) 

(16 ) 

Source S of ussia. 


ussia's Power Produ tion Mar et 2006 

ther producers 

(14 ) 

S 

(70 )

and its subsidiaries. The majority of the new 

gencos are still UES subsidiaries but are likely to 

be privatized in the short term. 

Some observers refer to UES’ new investment 

program as ‘GOELRO-2’ (the first GOELRO was 

the original Soviet plan in 1920 for national 

economic recovery and development). GOELRO- 

2 envisages heavy investment in new generation 

capacity, which should result in an additional 34 

gigawatts (GW)--the equivalent of 16% of the 

current national generation capacity--by 2011. 

The investment plan relies heavily on external 

equity and debt financing, and consequently 

most gencos are tapping the equity and debt 

capital markets (see map above and table 1 on 

next page). 

The reform plan stipulates that the privatization 

of all thermal generation will take place during 

2007-2008 through IPOs, secondary public 

offerings, sales of equity stakes owned by UES, 

and the allocation of the remaining stakes to UES 

shareholders at the end of UES’ restructuring, 

scheduled for mid-2008. Between December 2006 

and October 2007 generating companies WGC-3, 

WGC-4, TGC-1, TGC-8, and Mosenergo (AO) 

(BB/Stable/--; Russia national scale rating ‘ruAA’) 

completed share issues, and WGC-5 and TGC-5 

were spun off, resulting in UES’ equity interest 

Russian Energy Production 


UTILITIES 

falling below 50%. Many of the gencos remaining 

under control of UES already have a strategic 

minority investor that is looking to acquire a 

controlling stake through participation in IPOs 

and stake auctions. Strategic investors include 

major Russian industrial groups, coal and gas 

producers, and major European utilities and 

investment funds. 

The Russian government, however, is likely to 

remain the largest player in the power sector: It 

will retain all of Russia’s nuclear generation 

capacity through Rosenergoatom, most of the 

hydro generation capacity through Hydro-WGC, 

and a significant portion of thermal generation 

capacity through OAO Gazprom (BBB/Stable/--) 

and InterRAO UES (not rated). Gazprom, which 

controls Russia’s gas reserves and pipelines and is 

an important fuel supplier to the electricity 

generators, has recently underscored its 

investment ambitions in the electricity generation 

sector by acquiring major stakes in Mosenergo 

and TGK-1 and negotiating a swap of its 10.5% 

stake in UES for controlling stakes in OGK-2 and 

OGK-6. Gazprom is also playing a leading role in 

the creation of a joint venture with coal producer 

SUEK, which might receive most of Gazprom’s 

and SUEK’s generation assets. 

Standard & Poor’s views the change of the 


UTILITIES 


Table 1 - Russian Energy Producers’ Statistics 

Electricity 

production 

(full-year Capacity UES Strategic (potential) 

Installed capacity 2006) factor Fuel holding investor 

Share of 

national 

GW total (%) TWh (%) (%) 

Rosenergoatom 23.2 11 154.7 76 Nuclear 0 Russian Federation 

Hydro-WGC 21.7 10.3 74.6 39 Hydro 100 Russian Federation 

Irkutskenergo 12.9 6.1 57 50 Hydro, 0 UC RUSAL 

Coal shareholders 

TGC-3 10.5 5 64.4 70 Gas 36 Gazprom 

WGC-1 9.5 4.5 47.2 57 Gas 92 N.A. 

WGC-6 9.1 4.3 32.9 42 Gas, 

Coal 

93 Gazprom 

WGC-2 8.7 4.1 48.1 63 Gas, 

Coal 

65 Gazprom 

WGC-5 8.7 4.1 40.4 53 Gas, 

Coal 

0 Enel 

WGC-4 8.6 4.1 51 68 Gas, 

Coal 

29 E.ON 

WGC-3 8.5 4 30.6 41 Gas 37 Norilsk Nickel 

Tatenergo 7 3.3 24.9 40 Gas 0 Republic of Tatarstan 

TGC-7 6.9 3.3 27.2 45 Gas 54 Gazprom, IES 

TGC-1 

Far Eastern 

6.1 2.9 23.6 44 Gas, 

Hydro 

14 Gazprom 

Generation 

Company 

5.8 2.7 21.5 44 Coal 48 Russian Federation 

Bashkirenergo 5.1 2.4 25 56 Gas 21 N.A. 

TGC-9 4.8 2.3 20.1 48 Gas 50 IES 

TGC-5 3.8 1.8 12.5 37 Gas 0 IES 

TGC-12 3.6 1.7 19.9 63 Coal 49 Gazprom/SUEK 

Prosperity Capital 

Management 

TGC-4 3.3 1.6 13 45 Gas 47 Transnafta, CEZ, 

Korea Electric 

Power Corp 

TGC-8 3.3 1.6 15.3 53 Gas 11 IFD Kapital 

TGC-6 3.1 1.5 13.2 48 Gas 50 IES 

Novosibirskenergo 3 1.4 14.3 55 Coal 14 N.A. 

TGC-10 2.6 1.2 16.8 73 Gas, 

Coal 

82 Gazprom, E.ON 

TGC-13 2.5 1.2 10.4 48 Coal 57 Gazprom/SUEK 

InterRAO UES 2.3 1.1 N.A. N.A. Gas 60 Russian 

Federation/Rosenergoatom 

TGC-11 2 1 8.4 47.1 Gas, 

Coal 

100 Gazprom 

TGC-2 1.4 0.7 6.4 52.7 Gas 49 Prosperity Capital 

Management 

TGC-14 0.6 0.3 2.8 49.9 Coal 50 Norilsk Nickel 

GW--Gigawatts. WGC--Wholesale generation company. TGC--Territorial generation company. N.A.--Not available. Source: RAO UES of Russia, media, 

corporate filings, and Web sites. 


controlling owner as a major credit risk factor in 

2007-2008 for thermal gencos due to the impact 

on business strategy, operational profile, and 

financial policy. The level of actual or implied 

support from the new owner is another 

consideration. The credit quality of gencos may 

therefore diverge substantially, with that of some 

improving and others weakening. 

Gencos may benefit from becoming part of 

diversified, vertically integrated energy groups and 

from ownership changes, if, for example, they 

then have better and cheaper access to fuel 

supplies, as well as financial support from the 

new owners. Any new controlling owner could, 

however, pursue a more aggressive financial 

policy, including higher debt leverage and higher 

dividend payouts to raise equity returns. Creditors 

of companies whose strategic investor is a large 

customer or fuel supplier also face the risk that 

transfer pricing may eliminate any benefits of 

higher wholesale power prices following price 

deregulation, if the corporate governance at new 

generation companies is not effective enough to 

balance the inherent conflicts of interest. 

UES intends to limit the strategic discretion of 

new owners by retaining minority stakes after 

privatization, shareholder agreements with new 

controlling owners, and contracts for generation 

capacity availability. Although these measures 

may reduce strategic risk, they create new 

challenges such as burdensome fines for delayed 

delivery of contracted capacity. This is likely to 

happen given the high construction risk inherent 

in all greenfield power projects and the risk that 

external funding or necessary equipment may 

be unavailable. 

After Privatization, More Consolidation? 

Increased M&A is likely to follow the gencos’ 

privatization and become an important credit risk 

factor. We expect that the new controlling owners 

will employ asset consolidation, asset swaps, 

restructuring, and divestments to align their 

holdings with their business strategies. This is 

because, first, many strategic investors have 

demonstrated an interest in acquiring more than 

one generation company, as well as assets in other 

business segments such as electricity distribution 

and supply. These may be consolidated into one 

entity within existing unbundling requirements. 

Second, the government determined the current 

configuration of gencos with the primary purpose 


UTILITIES 

of creating a fair competitive landscape, while 

business logic may favor other asset 

combinations. Third, current UES shareholders, 

who will receive proportional stakes in the gencos 

and grid companies after liquidation of the UES 

holding, are likely to attempt to swap relatively 

small holdings for larger and more influential 

stakes in successor gencos and grid companies, 

giving additional impetus to M&A. 

The credit impact of post-privatization M&A 

may be both positive and negative depending on 

the credit quality of combined entities, the 

benefits of vertical integration, the synergies 

derived from new business combination, and the 

impact of transactions on the new entity’s 

consolidated financial profile. 

Vertical integration might underpin generators’ 

business profiles 

One of the main aims of the Russian power sector 

reform is to unbundle each business segment in 

the electricity value chain--generation, 

transmission, distribution, and supply--to make 

each more competitive, gain efficiency, and 

improve the regulatory regime’s transparency. So, 

wholesale generation companies (WGCs) and 

territorial generation companies (TGCs) have only 

generation operations in the electricity supply 

chain. We believe that deregulated, unbundled 

generation has relatively high business risk 

compared with other operations in the value 

chain. This is because of the high level of capital 

intensity; the commodity nature of the industry, 

with price-based competition, high exposure to 

other commodity prices (for example, fuel), or 

fluctuation of water resources; and high levels 

of competitive risk compared with transmission 

and distribution operations, which are 

natural monopolies. 

After unbundling, we expect Russian gencos to 

focus their strategies on business risk 

diversification by vertically integrating lower-risk 

regulated businesses segments and fuel and retail 

electricity supply operations. A similar approach 

is already taking place as fuel supply companies 

look to invest in power generation to unlock the 

benefits of vertical integration of power and fuel 

production and supply. Non-government 

controlled electric utilities, such as Irkutskenergo, 

AO EiE (B+/Positive/--; Russia national scale 

rating ‘ruA’), have shown a similar strategic intent 

by acquiring coal mines (to hedge fuel price and 


UTILITIES 


supply risk) and obtaining control of municipally 

owned electricity and heat distribution networks 

(to provide a base of stable, network earnings and 

improve operations). However, the potential 

degree of diversification is limited by the legal 

prohibition of simultaneous ownership of 

“monopoly” (transmission, electricity distribution, 

and dispatching) and “competitive” 

(generation and supply) assets within one market 

price zone. The two power market zones are 

Europe and the Urals, and Siberia. This law 

prohibits the vertically integrated generation and 

distribution structures typical of European 

power utilities. 

Diversification, the potential synergies, and 

hedging opportunities should support the interest 

of gencos and their strategic minority investors to 

invest in supply companies, all of which UES 

plans to sell in 2007-2008. A combination of 

wholesale generation and supply should reduce 

overall business risk through diversification of the 

customer base and higher customer loyalty. This is 

likely to result in lower competitive pressure and 

reduced customer attrition, as well as higher 

margins in retail electricity sales. At the same 

time, on their own, electricity supply operations 

have the highest business risk in the electricity 

value chain. 

A Whole New Wholesale System 

In September 2006, Russia introduced new rules 

for its electricity market that are a big step 

toward full deregulation of wholesale power. In 

place of the old regulated pool system, where 

generators sold power at cost-based rates and 

received regulated payments for fixed capacity 

costs, the new market is based on bilateral 

regulated contracts between generators and 

wholesale customers, which initially covered 95% 

of planned generation volumes. Generators sell 

any volumes not covered by regulated contracts, 

and customers sell any surplus power from 

regulated purchases on the deregulated spot 

market. Actual supply/demand dynamics 

determine the deregulated market’s share. 

The government intends to deregulate the 

market and reduce volumes sold under regulated 

contracts. In April 2007, it approved a new 

deregulation plan that would fully evolve from 

2007 to 2010 (see chart 3). This is well ahead of 

previous plans that had a seven- to 20-year 

time frame. 


The contracts have “take-or-pay” terms (that is, 

buyers will make payments to the electricity 

wholesaler for the contract electricity volume 

regardless of their actual power demand). Since 

2008, the contracts will also have an automatic 

adjustment for passing fuel costs on to customers 

and an annual adjustment to regulated rates for 

other increasing costs through an inflationbased 

formula. 

In the new market model, a generator also 

recovers fixed costs through regulated bilateral 

contracts. The government plans to deregulate 

capacity payments in line with the spot market by 

reducing the portion of generation capacity 

covered by regulated payments. Wholesale market 

participants will have to procure capacity 

covering their peak demand, minus capacity paid 

through regulated contracts from generators 

through a market-based mechanism. The first 

auction is likely in 2007 for capacity to be 

delivered in 2008 and 2012. 

Exposure to spot price volatility will grow in line 

with market deregulation 

Seasonal, daily, and intraday power-demand 

variations make spot electricity prices highly 

volatile (see chart 4 on next page). While gencos’ 

current exposure to the spot price is limited 

because only 10% of the wholesale market has 

been opened, this exposure will increase in line 

with wholesale market deregulation and will 

reach 100% by 2011. 

Spot-price deregulation for generators in 

European Russia and in the Ural region has been 

positive to date (see chart 5 on next page). 

Chart 3 

Russian Wholesale Market 

Deregulation Schedule

( h) 

900 

800 

700 

600 

500 

400 

300 

200 

100 

ont ly A era e Spot Electr c ty r ce European u a And e ral 

verage deregulated price 

(left scale) 

Spot sales as percentage of total 

(right scale) 

verage regulated price 

(left scale) 

0 

0 

SSept. t ct. t NNov. ec. an. Fe F . ar- pr-07 07 ay- un- ul-07 l 07 ug. SSept. t 

2006 2006 2006 2006 2007 2007 07 

07 07 2007 2007 

-- u le. h-- egawatt-hour. 


( ) 

14 

12 

10 

8 

6 

4 

2 

( h) 

900 

800 

700 

600 

500 

400 

300 

200 

100 

0 

0 

Sept. S t ct. t NNov. ec. an. Fe F . ar- pr-07 07 ay- un- ul-07 l 07 ug. SSept. t 

2006 2006 2006 2006 2007 2007 07 

07 07 2007 2007 

( per tcm) 

3,000 

2,500 

2,000 

1,500 

1,000 

500 

0 

an. 1, 

2006 

verage deregulated price 

(left scale) 

Spot sales as percentage of total 

(right scale) 



uly 1, 

2006 

an. 1, 

2007 

uly 1, 

2007 

an. 1, 

2008 

uly 1, 

2008 

an. 1, 

2009 

uly 1, 

2009 

an. 1, 

2010 

-- u le. tcm--Thousand cu ic feet. Source ussian Federal Tariff Service. 


verage regulated price 

(left scale) 

( ) 

14 

12 

10 

8 

6 

4 

2 

uly 1, 

2010

UTILITIES 


pressure on market prices. However, new plants 

can’t be built quickly, so it will take some time to 

ease this capacity constraint. 

Higher profitability from increased power prices 

will underpin generators’ business profile 

As seen in Western Europe, moving from 

regulated cost-plus regimes to a deregulated spot 

electricity market typically increases generators’ 

business risk and can often dilute credit quality. 

Standard & Poor’s believes that the new path to 

deregulation might support improved credit 

quality in the sector through higher transparency 

and price growth, while capacity payments and 

hedging will smooth the impact of volatile 

spot prices. 

The deregulated market will translate rising gas 

prices into higher electricity prices, reflecting the 

costs of the least efficient (marginal) gas-fired 

generators for all market players. 

Generators using other fuels such as coal, 

nuclear, hydropower would consequently reap 

higher margins, as would more efficient 

gas-fired producers. 

We expect the higher profitability to mitigate 

increased price volatility because stronger margins 

will cushion the impact on cash flow. This will 

somewhat offset price deregulation’s negative 

impact on cash flow stability. Generation 

companies’ profitability is currently low, with an 

average 10% EBITDA margin for UES and a tiny 

1%-2% for some thermal generators. Despite 

most electricity being sold at regulated tariffs, 

relatively small changes in price or fuel costs-together 

with weak margins--result in substantial 

cash flow fluctuation. That implies high 

business risk. 

Political risk remains key to power price 

deregulation and growth 

Political risk, however, overshadows the rosy 

prospects for power generators in the new market 

deregulation plan. Customers will bear substantial 

price increases and could face soaring electricity 

bills in the next three to four years, potentially 

leading to a political backlash. In addition, most 

of the market deregulation and corresponding 

price increases are scheduled for 2009-2010. But 

this comes after the 2008 presidential elections, 

when Russia will have a new president who may 

have different views on electricity price policy and 

perhaps even on the sector’s overall strategy. 


Generators’ active hedging strategies could 

provide further cash flow stability 

After the wholesale market is fully deregulated, 

each generator’s decision on how to balance 

potentially profitable but volatile opportunities 

from spot sales in order to lock in a more certain 

level of profits will determine its spot-market 

exposure. More forward electricity sales at a fixed 

price that allows the generator to earn sufficient 

profits to support its credit quality (assuming that 

generation costs are also fixed) would imply a 

lower business risk. Generators currently can 

hedge price volatility through nonregulated 

forward contracts at a fixed price. Power 

exchanges plan to introduce other instruments, 

such as power futures, to expand hedging 

opportunities. Thus, a conservative hedging 

strategy would limit the impact of changes in spot 

prices on cash flow volatility in the coming one to 

two years. 

How capacity market contracts could help 

The proposed capacity market, a system of 

payments to generators that cover fixed costs, will 

also mitigate the impact of spot price volatility on 

cash flow stability. 

Standard & Poor’s believes that recovering 

fixed costs through the capacity market will 

underpin generation companies’ credit quality. 

Capacity payments, now accounting for about 

one-half of wholesale generation revenues, 

substantially reduce the operational ‘gearing’ (the 

level of fixed operating costs that determines the 

dependence of operating income variability on 

sales variability) of generators. These payments 

aren’t common in other European generation 

markets. The still-to-be-determined capacity 

pricing mechanism will heavily influence the level 

of market-based capacity payments and 

generators’ profitability and cash flow. The final 

mechanism expected in 2007-2008 will reduce 

this uncertainty. 

Who will benefit from market deregulation? 

The competitiveness and profitability of gencos in 

the deregulated market depend heavily on their 

marginal cost position. The main factor for 

gencos is fuel costs and for hydro generators, 

water tax charges. 

Deregulation of the electricity market will result 

in a gradual transition of the average electricity 

price from regulated tariffs that reflect costs to a

era e e ulated Electr c ty ar ff And Spot r ce n European u 

Sept 

verage regulated electricity tariff for 2007 

verage spot electricity price an.-Sept. 2007 

a a 

( per 

900 

h) 

800 

700 

600 

500 

400 

300 

200 

100 

0 



osenergoatom 

idro ( urope) 

T -1 

T -10 

-4 ( urope) 

nter S 

T -3 ( osenergo) 

-2 

T -5 

-5 

-1 

Tatenergo 

T -8 

T -7 

T -6 

Bashkirenergo 

T -9 

T -4 

-3 ( urope) 

-6 ( urope) 

T -2 

ra e e ulated Electr c ty ar ff And Spot r ce n S ber an u a an S 

( per h) 

450 

400 

350 

300 

250 

200 

150 

100 

50 

0 



verage regulated electricity tariff for 2007 

verage spot electricity price an.-Sept. 2007 

rkutskenergo 

T -13 

-4 (Si eria) 

-6 (Si eria) 

T -12 

Novosi irskenergo 

thers (Si eria) 

-3 (Si eria) 

T -11 

T -14

UTILITIES 


Table 2 - Russian Thermal Generation Companies’ IFRS Financial Statistics 

(RUR mil.) Mosenergo HydroOGK OGK-5 OGK-1 OGK-2 OGK-3 OGK-4 TGK-1 TGK-5 TGK-12 

Period 12 months 2006 12 months 2006 2006 2006 2006 2006 2006 2006 

ended ended 

June 30, June 30, 

Total 

2007 2007 

revenues 

Funds from 

operations 

67,336 24,468 26,081 30,062 25,433 23,070 26,110 21,594 11,402 19,637 

(FFO) 4,738 4,942 2,729 2,105 (28.0) 386 1,720 441 476 2,252 

Capital 

expenditures 

Cash and 

18,853 15,532 5,578 1,738 826 1,265 1,092 3,372 512 1,249 

investments 50,483 6,768 11,925 549 1,720 355 778 650 132 271 

Debt 

Common 

17,722 17,179 5,089 1,622 5,737 3,704 1,023 6,397 868 1,254 

equity 135,963 81,868 50,071 23,708 13,075 15,256 22,436 24,595 10,400 15,874 

Total capital 153,685 120,033 55,159 25,330 18,812 18,960 23,459 30,991 11,267 17,128 

Adjusted ratios 

FFO interest 

coverage (x) 

3.2 13.8 6.9 20.2 0.8 2.6 10.7 2.0 14.0 6.8 

FFO/debt (%) 

Operating 

income 

(bef. D&A) / 

26.7 28.8 53.6 129.8 (0.5) 10.4 168.1 6.9 54.9 179.6 

sales(%) 

Return on 

11.7 28.1 11.0 10.4 1.5 4.7 8.7 9.6 8.4 11.3 

capital (%) 

Debt to 

2.0 3.8 1.5 8.2 (3.5) 0.0 3.7 2.3 5.1 3.9 

capital (%) 12.0 14.0 9.0 6.0 30.0 20.0 4.0 21.0 8.0 7.0 

RUR--Ruble. D&A--Depreciation and amortization. 

(although for some companies, very weak 

cash flow results in poor cash flow protection 

measures). 

In the next three to four years, the gencos’ debt 

levels are likely to grow substantially. This is a 

result of the sector’s heavy capital-investment 

needs to replace capacity that’s reaching the end 

of its productive life, to add capacity for demand 

growth, and to maximize returns for private 

shareholders. UES expects the financing of the 

huge investment program (which UES has 

estimated to be RUR1.45 trillion over the period) 

to result in significant borrowing by gencos of up 

to RUR400 billion-RUR500 billion. 

In 2007-2008, however, equity financing can 

cover the majority of external funding needs. For 

example, UES has set an ambitious target to raise 

as much as $17 billion in equity financing. 

Gencos are therefore generally likely to rely 

more on equity financing in 2007-2008, with 


most of the debt hitting in 2009-2010. By that 

time, electricity market deregulation and likely 

price increases should have improved the gencos’ 

profitability and operating cash flow, and helped 

to mitigate increasing debt levels. 

While the proceeds from the share issues and 

sales in 2007 have been above expectations, the 

availability of equity financing that UES expects 

in 2007-2008 is subject to general capital market 

conditions, as well as investor perceptions of the 

risks involved. Those risks may be subject to 

change, and so the ability of UES and the gencos 

to meet the target is uncertain. If proceeds from 

equity sales fall below expectations, additional 

borrowing may be needed--assuming lenders are 

willing. Of course, such borrowing could weaken 

the gencos’ credit quality. If financing isn’t 

available, the investment program would need to 

be scaled back and delayed.

Investor Rating Investment Timing Cost 

E.ON AG A/Stable/A-1 60.7% in WGC-4 Oct. 2007 $5.9 bil. 

Enel SpA A/Watch Neg/A-1 29.9% in WGC-5 June 2007 $2.2 bil. 

Enel SpA A/Watch Neg/A-1 49.5% in Rusenergosbyt 

(supply company) 

2006 $105 mil. 

Fortum Oyj 

N.A.--Not available. 

A-/Stable/A-2 25.5% in TGC-1 2003-2005 N.A. 

Why Russia Is Tempting For EU 

Power Utilities 

The fast-growing Russian power sector and its 

ongoing liberalization present a particular lure for 

Western European utilities. The industry predicts 

that the sector will grow at about 5% over the 

next few years and that it will need investments of 

more than $20 billion per year over the next 15 

years to modernize power stations and 

transmission systems and to construct new 

generation capacity. 

The restructuring and liberalization process that 

Russia is now undergoing is similar to what has 

occurred in the EU over the past seven or eight 

years. European companies such as E.ON AG 

(A/Stable/A-1), Enel SpA (A/Watch Neg/A-1), and 

Fortum Oyj (A-/Stable/A-2) have therefore gained 

valuable experience domestically and in other 

Eastern European countries that they can 

potentially transfer to Russia. This includes 

managing operating and capital costs, as well as 

regulatory and network risks in liberalized 

markets. In addition, new entrants can bring 

trading and hedging expertise to mitigate the 

commodity and power-price risks that are 

characteristic of liberalized power markets. 

Leveraging these skills is one way for the 

Europeans to add value to the sector. Indeed, 

several major European utilities have already 

made large investments in Russia’s power industry 

(see table 3). 

As Russian utilities have so far been statecontrolled 

companies, could find opportunities to 

improve efficiency. Up until now, the Russian 

tariff system has often been based on cost 

recovery, so that remuneration earned on assets 

depends on a cost-plus system that allows a 

return on reported costs, leaving no great 

incentive to improve efficiency. However, smaller, 

privately owned generation utilities have been 

very successful in cutting costs. 

Table 3 - European Investments In The Russian Power Industry 


UTILITIES 

European utilities will have to guard against 

credit dilution 

Investments in the Russian power sector would 

generally dilute credit (as would most investment 

in Eastern Europe), owing to Russia’s greater 

macroeconomic, sovereign, and country risks. The 

Russian economy is less diversified and may be 

less stable over time, the political system may be 

subject to change, and the regulatory system is 

less mature, all of which creates regulatory and 

political uncertainty. These risk factors translate 

into a weaker business profile for Russian power 

utilities compared with Western European peers. 

Therefore, the average credit quality of Russian 

and Eastern European power companies is lower 

than that of EU power companies. 

The ratings on Russian utilities are below 

investment grade, in the ‘BB’ or ‘B’ category, 

because the companies are smaller, less diversified, 

and less profitable than Western European peers. 

They generate less or no free cash flow and face 

greater political, legal, and regulatory risks than 

utilities in the EU. By contrast, more than 90% of 

EU utility ratings are rated in the investmentgrade 

rating categories (‘BBB’ or higher). 

Although investments in Russia would dilute 

credit quality, we would expect EU utilities to 

manage the rating risk by proactively managing 

their exposure. Western European companies such 

as Germany’s E.ON or Italy’s Enel are large, 

diversified companies with relatively strong 

balance sheets. We don’t expect the share of 

future consolidated earnings and investment from 

Russia to represent a concentration risk. We 

expect the same to be true for smaller companies 

such as Czech Republic-based CEZ a.s. 

(A-/Stable/--) or Nordic utility Fortum, which also 

regard Russia as a target market. Other large 

acquisitions, however, such as Enel’s planned 

debt-financed purchase of Spanish power utility 

Endesa S.A. (A/Watch Neg/A-1), could lower 

ratings and debt capacity for Russian investment. 


UTILITIES 


The ultimate impact of any Russian investment on 

the credit ratings of a company depends on 

several factors. Among them are its size, whether 

it represents a majority interest that would be 

consolidated or a minority investment that would 

be accounted for using the equity method, how it 

is funded, its earnings and cash-flow visibility, 

and how much headroom is in the current ratings 

to absorb such an investment. 

Better Credit Quality Likely, But Regulatory 

Risk Remains 

Overall, the restructuring of UES and 

deregulation of the power prices may support 

improved credit quality in the sector through 

lower business risk strategies, higher transparency, 

and price growth, while capacity payments and 

hedging will smooth the impact of volatile spot 

prices. The downside is that customers will likely 

face much higher electricity bills in the next three 

to four years and political and regulatory risks 

will remain a key challenge for credit quality in 

the sector. ■ 



May 10, 2007 


Peter Kernan, 

London, 

(44) 20-7176-3618 



London, 

(44) 20-7176-3528 

Mark Schindele, 

Stockholm, 

(46) 8-440-5918 

Hugues De La Presle, 

Paris, 

(33) 1-4420-6666 

COMBATING CLIMATE CHANGE IN THE EU: RISKS 

AND REWARDS FOR EUROPEAN UTILITIES 

Climate policy is a key high-level issue for 

the EU and its member states. Indeed, the 

European Council, the EU’s main decisionmaking 

body, recently reaffirmed its commitment 

to the reduction of carbon dioxide (CO2) and 

other greenhouse gases (GHGs). It recommended 

that the Emissions Trading Scheme (ETS), which 

is the EU’s principal policy instrument for hitting 

its emissions targets, be strengthened and 

broadened in scope. As a result, the ETS--and 

other climate policy initiatives such as the drive to 

increase the share of GHG-clean renewable 

energy in the energy mix--will continue to have a 

major impact on European electricity generators 

and vertically integrated utilities that Standard & 

Poor’s Ratings Services rates. That’s because the 

burning of fossil fuels such as coal, oil, and gas to 

generate electricity accounts for a very significant 

share of EU GHG emissions (see footnote at end 

of article). The most visible effect of the ETS to 

date has been through an increase in power 

prices, as fossil fuel generators in liberalized 

(deregulated) markets now include the cost of 

CO2 emissions in their pricing decisions. We 

expect the ETS to potentially have a greater 

impact on power prices in Phase 2 of the ETS 

(2008-2012), as the cap on CO2 emissions will 

be tighter. 

Until the form of any potential successor treaty 

to the Kyoto Protocol (an agreement made under 

the UN Framework Convention on Climate 

Change that requires industrialized signatory 

nations to collectively reduce GHG emissions) 

becomes known, European utilities lack visibility 

on the scope and potential impact of global 

climate change policies beyond 2012, when Kyoto 

expires. The European Council’s decision in 

March 2007 to adopt either a 20% or 30% GHG 

reduction target by 2020, depending on the scope 

of any successor treaty to the Kyoto Protocol, 

reflects this uncertainty. Nevertheless, it is clear 

that GHG emission reduction will continue to be 

central to EU policy over the long term and that 

the operating and regulatory environment for 

electricity generators will remain influenced by 

this focus. 

In considering the effects of climate change 

policy on European utilities, we examine the 

impact of the ETS on power prices and on the 

profitability of the power generation sector. We 

discuss the challenge for generators in taking 

long-term investment decisions given the high 


UTILITIES 

level of uncertainty about future policy, the 

possible roles that renewable and nuclear energy 

will play in the generation mix, and why 

technological developments will be key to the 

future of coal-fired generation. 

High Power Prices Under The ETS: Benefits 

For Some, Rising Costs For Others 

The principal impact of EU climate change 

policies has been a continued boost in the 

profitability and cash flows--and therefore credit 

quality--of European generation companies that 

operate in countries in which wholesale and retail 

power markets and prices have been fully 

liberalized. The key instrument of these policies 

has been the ETS. 

The ETS restricts CO2 emissions and requires 

power generation and energy-intensive companies 

in what are known as the “covered sectors” 

(encompassing oil refineries; coke ovens; iron and 

steel plants; and factories making cement, glass, 

lime, brick, ceramics, and pulp and paper) to hold 

tradable allowances to match their CO2 

emissions. The covered sectors account for about 

50% of total EU GHG emissions. The ETS began 

on Jan. 1, 2005, and Phase 1 will run until Dec. 

31, 2007. Phase 2 will run from January 2008 to 

December 2012, the period over which the 

performance of the Kyoto signatory nations 

against their GHG emission reduction targets will 

be assessed. 

The impact of the ETS on the power generation 

and energy-intensive industrial sectors differs 

markedly. While both power generators and 

energy-intensive industrial power users face caps 

on CO2 emissions and have been granted free 

allowances to at least partly cover their emissions, 

it is the power generators that benefit from higher 

power prices, at the expense of electricity users. 

One of the foremost effects of the ETS has been 

to increase wholesale power prices in markets 

such as the U.K. and Germany in which fossil 

fuel-fired generation is the marginal price-setting 

plant. Electricity generators that burn fossil fuels-coal, 

lignite, gas, and oil (fossil fuel-based 

generation accounts for about 50% of EU 

generation)--include the cost of CO2 emissions in 

their cost base and pricing decisions. All other 

things being equal, the higher the price of CO2 

allowances, the greater the impact on power 

prices. EU fossil fuel power generators that emit 

CO2 receive “free” allowances, however, under 


UTILITIES 


their respective governments’ national allocation 

plans (NAPs). These plans are vetted and 

approved by the EU. Allowances for Phase 1 are 

already known, while Phase 2 allowances are 

currently being finalized. Even though a generator 

will have received free allowances to cover its 

carbon emissions, it will still price emission costs 

as if it had purchased the allowances from the 

market, leading to higher wholesale prices. For 

many generators, these higher wholesale prices 

drop directly to the bottom line as windfall 

profits, either because the allowance was never 

purchased or because the generator (nuclear and 

hydro plants, for example) does not emit 

greenhouse gases. Companies currently benefiting 

from windfall profits are those operating in the 

U.K., German, and Nordic electricity markets, 

and include E.ON AG (AA-/Watch Neg/A-1+), 

RWE AG (A+/Negative/A-1), EnBW Energie 

Baden-Wuerttemberg AG (A-/Stable/A-2), 

Vattenfall AB (A-/Stable/A-2), Scottish and 

Southern Energy PLC (A+/Stable/A-1), Scottish 

Power PLC (A-/Watch Neg/A-2), and EDF Energy 

PLC (A/Stable/A-1). 

Approved NAPs indicate a tighter market in 

Phase 2 of the ETS 

The European Commission has now decided on 

the first 20 national plans for allocating CO2 

emission allowances to energy-intensive industrial 

plants and the power sector for Phase 2 of the 

ETS (see table on next page). Seventeen of the 20 

member states were told to reduce proposed 

allowances by almost 12.5% on average, while 

allowances for the U.K., France, and Slovenia 

were approved as presented (the adjustment to 

Spain’s proposed cap was negligible). To date, the 

overall cap allowed by the EU for Phase 2 is 

about 9% lower than the cap allowed for Phase 1. 

It is likely the electricity generation companies 

will take a significant share of this tightening 

through a lower allocation of free allowances in 

Phase 2. From an equity standpoint, the electricity 

generation companies may be best positioned to 

absorb a lower level of allowances given that they 

benefit from higher CO2-induced power prices 

while industrial and residential power users bear 

the cost. 

The tightening in Phase 2 could lead to stronger 

CO2 and power prices, albeit that the precise 

impact and direction for prices depends on a large 

number of other factors such as the generation 


mix, oil and gas prices, and demand. This 

highlights the EU’s continuing commitment to 

cutting greenhouse gas emissions, and to meeting 

targets under the Kyoto Protocol. 

Windfall profits will diminish as free allowances 

go down 

Under Phase 1 of the ETS, free allowances 

covered a very significant share of generators’ 

actual and forecast CO2 emissions. Despite an 

expected reduction of free allowances granted to 

generators in Phase 2, we expect the windfall 

profits generated in liberalized energy markets-such 

as the U.K., Germany, and the Nordic 

market--to continue, albeit to a lesser extent, 

reflecting a pricing strategy based on the marginal 

cost of generation (i.e. including emissions costs). 

The windfall benefit remains controversial 

because it applies not only to nonemitting 

facilities but to all--including coal plants, which 

emit the most GHGs. Many industrial end users 

have voiced their discontent. They maintain that 

while end users suffer from the higher cost of 

electricity due to the cost of CO2 emissions, the 

electricity generators--those actually releasing 

much of the CO2--are gaining incremental profits. 

As a result, Standard & Poor’s expects that the 

level of free emission allowances granted to fossil 

fuel-fired generators may continue to go down in 

future phases of the ETS (2012 and beyond). 

These generators will therefore either have to buy 

a greater proportion of their carbon allowances in 

the market or actually reduce CO2 emissions. 

They could cut their carbon output by switching 

generation from coal-fired to less CO2-intensive 

gas-fired generation, improving the efficiency of 

their coal plants, or by using carbon capture and 

sequestration (CCS) storage technology. 

Climate Change Policies Present 

Investment Challenges 

In addition to its focus on slowing climate change, 

the EU is also trying to increase competition in 

the power sector and to reduce dependence on 

imported gas, two goals that it believes are 

compatible. EU climate change and market 

liberalization policies have to date favored gas 

and--to a much lesser extent--wind power in the 

generation mix at the expense of coal, as wind 

and gas are cleaner than coal and it takes less 

time to build a gas plant than it does to build a 

coal plant, an important factor in liberalized

Member State Annual CO2 Allowances Under The EU Emissions Trading Scheme 

markets. From a security-of-supply perspective, 

however, the resulting larger exposure to gas 

imports, particularly from Russia, raises a number 

of concerns about the EU’s import dependency. 

For European utilities, these potentially conflicting 

priorities present challenges in investment 

planning. This emphasizes the potentially 

important role that could be played by 

technologies to reduce the CO2 intensity of coal 

and by nuclear power in mitigating security-ofsupply 

risk while meeting GHG reduction targets. 

The European Council’s recent decision to 

adopt a variable 20%-30% GHG reduction target 

by 2020 reflects the still significant uncertainty 

about the form and breadth that any successor 


UTILITIES 

(Mil. tons) Cap 2005 Verified Cap allowed Additional emissions 

2005-2007 2005-2007 emissions 2008-2012 in 2008-2012* 

Austria 33.0 33.4 30.7 0.4 

Belgium 62.1 55.6¶ 58.5 5.0 

Czech Republic 97.6 82.5 86.8 N/A 

Estonia 19.0 12.6 12.7 0.3 

France 156.5 131.3 132.8 5.1 

Hungary 31.3 26.0 26.9 1.4 

Germany 499.0 474.0 453.1 11.0 

Greece 74.4 71.3 69.1 N/A 

Ireland 22.3 22.4 21.2 N/A 

Latvia 4.6 2.9 3.3 N/A 

Lithuania 12.3 6.6 8.8 0.1 

Luxembourg 3.4 2.6 2.7 N/A 

Malta 2.9 2.0 2.1 N/A 

The Netherlands 95.3 80.4 85.8 4.0 

Poland 239.1 203.1 208.5 6.3 

Slovakia 30.5 25.2 30.9 1.7 

Slovenia 8.8 8.7 8.3 N/A 

Spain 174.4 182.9 152.3 6.7§ 

Sweden 22.9 19.3 22.8 2.0 

U.K. 245.3 242.4** 246.2 9.5 

Total 1,834.7 1,685.2** 1,663.5 53.4 

*The figures indicated in this column comprise emissions from installations that come under the coverage of the scheme in 2008-2012 due to an extended 

scope applied by the member state and do not include new installations entering the scheme in sectors already covered in the first trading period. 

¶Including installations that Belgium opted to exclude temporarily from the scheme in 2005. §Additional installations and emissions of more than 6 million 

tons are already included as of 2006.**Excluding installations that the U.K. opted to exclude temporarily from the scheme in 2005 but that will be covered 

in 2008-2012 and are estimated to amount to about 30 million tons. CO2--Carbon dioxide. N/A--Not applicable. Source: DG Environment (reference: 

IP/07/613, May 4, 2007). 

treaty to the Kyoto Protocol may take (assuming 

that the successor treaty has sufficient 

international support, the EU is willing to commit 

to a 30% reduction target, if all developed 

nations agree to comparable targets). In addition, 

companies operating with GHG constraints under 

the ETS do not know what the absolute level of 

GHG caps will be beyond Phase 2, or what the 

level of free allowances at the installation or 

company level will be. Of course, if the EU were 

to adopt a 30% rather than a 20% GHG 

reduction target, the emissions cap would need to 

be tighter to support a higher emissions price and 

the higher target. Electricity generators operating 

in liberalized markets such as the U.K., Germany, 


UTILITIES 


Evolving political climate suggests long-term 

potential for increased nuclear generation 

The long-term outlook for significant nuclear 

construction is better today than it has been for 

many years. If the industry can overcome its 

unique problems of safety, decommissioning, and 

waste storage, and if political and social 

acceptance increases, a new generation of power 

plants could be built in the U.K. New build is 

currently being undertaken in France and Finland, 

with potential for new plants in the Baltic region 

and across a number of the Eastern European 

member states. The German nuclear consensus, 

which caps the lifetime of nuclear plants at 32 

years and requires them to be phased out, could 

possibly be revisited, although the policies of 

Germany’s main political parties differ sharply on 

the question of nuclear power. 

Nuclear has a competitive advantage in terms 

of CO2 emissions and security-of-supply risk 

mitigation, and longer term visibility on the price 

of CO2 and the level of allowances that will be 

provided to fossil-fuel generators, for example, 

could have a strong impact on the profitability of 

new nuclear generation. 

Clean Coal And CCS Could Allow 

Coal-Heavy Economies To Meet 

Reduction Targets 

GHG reduction targets could present mediumterm 

credit risk to companies that are heavily 

exposed to coal-fired generation such as Drax 

Power Ltd. (BBB-/Stable/--). Larger, more 

diversified companies like CEZ a.s. (A-/Stable/--), 

Vattenfall, and RWE that also generate power 

using coal face increasing risk that the relative 

economics and social acceptance of coal-fired 

generation may deteriorate. 

Although liberalization and climate change 

policies favor gas-fired over coal-fired generation, 

the latter reduces fuel supply risk and dependence 

on fuel imports from Russia, the Middle East, and 

Africa. Recognizing this and the economic and 

social dependence of several EU countries on coal, 

the European Council has urged member states 

and the Commission to work toward 

strengthening R&D and developing the necessary 

technical, economic, and regulatory frameworks 

to deploy environmentally safe CCS through new 

fossil-fuelled power plants--if possible, by 2020. 

According to the EU, “coal can continue to make 


its valuable contribution to the security of energy 

supply and the economy of both the EU and the 

world as a whole only with technologies allowing 

for drastic reduction of the carbon footprint of 

its combustion.” 

Policymakers and certain generators are 

therefore researching ways of making coal more 

efficient and environmentally friendly, primarily 

through “clean coal” technologies and CCS. RWE 

has made it clear that it will continue to build 

coal plants, but with the help of clean-coal 

technologies it will achieve CO2 reduction 

requirements. Vattenfall has similar plans. 

Cleaner coal is possible, but there are drawbacks 

The two leading clean-coal technologies are 

integrated gasification combined-cycle technology 

(IGCT) and supercritical technology. IGCT turns 

coal into gas (usually hydrogen and other byproducts) 

and then burns this gas in a traditional 

gas-fired combined-cycle unit (with some 

modification to accommodate the burning of 

hydrogen). Supercritical technology works on the 

principle that the fuel efficiency of a traditional 

steam coal plant can be raised if it operates at a 

higher temperature and pressure. Both approaches 

have drawbacks, however. Supercritical 

technology, although no more expensive than 

traditional techniques, does not reduce CO2 

emissions to anywhere near the levels of other 

fuels. And IGCT’s effectiveness comes at a cost, 

threatening the relative economics of coal 

production and reducing the incentive for 

companies to invest in new coal plants. 

CCS could enhance competitive position of coalfired 

generation, despite costs 

CCS involves capturing carbon and piping it 

underground before it reaches the atmosphere. 

The technology could significantly enhance the 

competitive position of coal-fired generation by 

alleviating its environmental impact, which would 

enable coal to maintain a role in the EU 

generation mix and would also mitigate securityof-supply 

risk. CCS has a number of 

disadvantages, however: Its use would increase 

costs, and its technical effectiveness and 

scalability is still unproven. Nevertheless, 

decarbonizing economies and industrial and 

generation processes clearly will not happen 

without cost and investment, and the EU and a

number of member states have announced their 

intention to champion CCS technical 

development. The U.K. government, for example, 

announced in March 2007 a competition to 

develop the U.K.’s first full-scale CCS 

demonstration (the details are likely to be 

announced in the U.K.’s Energy Policy White 

Paper, which could be published as early as May 

2007). And the EU has said it would like to see 

12 large-scale CCS projects operational by 2015 

CCS. It also aspires to seeing CCS capture 4.5% 

of CO2 emissions from fossil fuel power plants by 

2020, rising to 30% by 2030. 

The future of coal-fired generation will be 

significantly affected by the extent to which 

member states will subsidize or otherwise 

incentivize CCS. In the absence of such support, 

CCS development could be hindered and could 

render coal uneconomical and further weaken its 

competitive position in the generation mix. Given 

the importance of coal-fired generation to the 

EU’s goal of easing supply risk, however, we 

expect policymakers to continue examining ways 

to speed the development of clean-coal and 

CCS technologies. 

Note 

In 2004, public electricity and heat production 

accounted for 24% of EU-15 GHG emissions. 

The other main sources were road transportation 

(19%), manufacturing industries and construction 

(13%), industrial processes (8%), agriculture 

(9%), residential emissions (10%), waste (3%), 

and oil refining (3%). 

Additional writing by Anna Crowley. ■ 


UTILITIES 


UTILITIES 


Aug. 29, 2007 

Issuer Credit Rating: 

AA-/Stable/A-1+ 



Paris, 

(33) 1-4420-6666 

Secondary Credit Analyst: 


London, 

(44) 20-7176-3938 


ELECTRICITE DE FRANCE S.A. 

Rationale 

The ratings on French electricity incumbent 

Electricité de France S.A. (EDF) reflect its standalone 

creditworthiness--which would ensure an 

‘A+’ rating--and a one-notch uplift for state 

support, given the group’s primary focus on 

nuclear power generation and the entailed 

significant operational risks and 

decommissioning liabilities. 

EDF’s stand-alone credit quality reflects the 

significant contribution to earnings, especially in 

France, of regulated businesses; its leading 

position by far in the only moderately competitive 

French generation and supply market, 

underpinned by its efficient nuclear generation 

fleet; the refocusing of its international operations 

on Western Europe; and its superior free 

operating cash flow generation. These strengths 

are offset to a degree by EDF’s financial profile 

which, although improving, remains moderate 

given sizable unfunded postretirement and 

nuclear liabilities. 

EDF’s French operations (64% of 2006 

EBITDA) are split between regulated transmission 

and distribution operations (40% of French 

EBITDA), and competitive generation and supply 

operations (60%). EDF’s leading position in the 

latter is underpinned by its efficient nuclear 

plants, which accounted for 88% of its French 

electricity production in 2006. EDF’s French 

supply operations benefit only in part from higher 

wholesale power prices, however, as about twothirds 

of sales are made at much lower, regulated 

supply prices. These have been rising recently, 

albeit slowly. 

The group has refocused its international 

operations on the U.K. (9% of 2006 EBITDA), 

Germany (7%), and Italy (6.6%). EDF’s financial 

profile has improved with funds from operations 

(FFO) coverage of adjusted net debt of 22.5% in 

2006, thanks to the group’s superior free cash 


flow generation, which, excluding tax 

exceptionals of €0.5 billion, was €6.2 billion in 

2006. To a large extent this reflects the cash flow 

profile of EDF’s nuclear plants, which, while 

running, are highly cash generative given low 

variable costs and limited capital expenditure 

for maintenance. 

EDF’s financial profile remains moderate, 

though, given substantial net unfunded nuclear 

and postretirement benefit obligations of €19 

billion and €10.6 billion, respectively, in 2006. 

EDF will be increasing its dedicated assets 

covering nuclear liabilities by €12.1 billion 

between 2006 and 2010, however. 

Short-term credit factors 

The ‘A-1+’ short-term rating is supported by 

EDF’s strong liquidity and recurring free cash 

flow generation. EDF’s available cash and 

liquidity of €13.4 billion at year-end 2006--which 

includes the proceeds of the €6.35 billion capital 

increase at the end of 2005--together with a €6 

billion undrawn long-term syndicated bank 

facility maturing in 2012 at the Electricité de 

France level, more than adequately cover the 

group’s €8.7 billion of long- and short-term 

financial debt maturing in 2007. 

Outlook 

The stable outlook reflects Standard & Poor’s 

Ratings Services’ expectation that EDF will 

maintain a financial profile in line with the 

ratings, in particular FFO coverage of fully 

adjusted net debt in excess of 20% (22.5% in 

2006). EDF has the flexibility within the current 

ratings to carry out its significant €26 billion 

investment program for 2006-2008. The ratings 

also factor in EDF’s retention of significant 

regulated operations and the continued support of 

the Republic of France (AAA/Stable/A-1+). ■


Aug. 10, 2007 


A/Watch Neg/A-1 


Ana Nogales, 

Madrid, 

(34) 91-788-7206 


Peter Kernan, 

London, 

(44) 20-7176-3618 

ENDESA S.A. 

Rationale 

The ratings on Spanish utility Endesa S.A. were 

placed on CreditWatch with negative implications 

on Sept. 6, 2005, at the start of what has since 

been a very long and protracted bidding war for 

this company. 

On April 11, 2007, Italian utility Enel SpA 

(A/Watch Neg/A-1) and Spanish construction 

company Acciona S.A. (not rated) announced a 

€41.3 per share conditional all-cash joint 

takeover bid for the remaining 54% of Endesa’s 

that they do not own. This represents an offer 

value of nearly €25 billion. Enel has a 25% stake 

in Endesa, and Acciona owns 21%. The offer has 

received all regulatory approvals and is now 

subject only to shareholder approval. 

The CreditWatch status reflects the risks and 

uncertainties that surround this new bid, as well 

as those presented by Endesa’s potential future 

strategy and financial structure after the 

prospective change of ownership. Furthermore, 

Endesa’s business profile will change if the offer is 

successful, owing to the asset split agreed between 

the new bidders and German utility, E.ON AG 

(A/Stable/A-1). The agreement stipulates that 

E.ON will receive a portfolio of Endesa assets in 

Spain, Turkey, and Poland, as well as Endesa’s 

share of Endesa France and Endesa Italia, and 

assets in Spain owned by Enel (through Enel- 

Viesgo), for a total estimated value of 

€10 billion. 

The terms and conditions of the bid reflect Enel 

and Acciona’s March 26, 2007, agreement. The 

offer is conditional upon a minimum acceptance 

of 50% of the share capital and the amendment 

of some of Endesa’s bylaws, including the removal 

voting-right restrictions. Acciona will purchase 

about 4% of Endesa’s capital, and Enel will 

purchase the rest of the tendered shares; both 

companies, however, will have equal 

representation on Endesa’s board. 

One of the world’s largest electricity utilities, 

Endesa has total installed capacity of 47,385 MW 


UTILITIES 

and 22.7 million customers. It has a market share 

of about 40% of Spain’s electricity production, 

distribution, and supply. This strong domestic 

position is one of the main rating supports. 

Operations in Spain and Portugal provided about 

55% of EBITDA in 2006 and 52% in the first 

half of 2007. 


The short-term rating is ‘A-1’, reflecting Endesa’s 

acceptable liquidity. At June 30, 2007, the 

company (excluding subsidiary Enersis S.A. 

{BBB/Stable/--}) had €6.2 billion in undrawn, 

committed facilities, and about €0.3 billion in 

cash and equivalents, which together cover the 

final dividend paid against 2006 earnings on July 

2, 2007, and debt maturing over the next 

23 months. 

At the same date, Enersis had €0.5 billion in 

undrawn, committed facilities, and about €0.5 

billion in cash, together covering debt maturing at 

Enersis over the next 19 months. Endesa’s debt 

maturity schedule is manageable, and the average 

life of the debt is 5.3 years. 

According to Endesa, there are no cross-default 

clauses for the debt at Enersis or any of its 

subsidiaries, and these entities are financed on a 

nonrecourse basis. 

Endesa generated funds from operations of 

about €4.6 billion in 2006. This strong 

performance should continue, mitigating the 

financial-flexibility constraints arising from the 

utility’s large capital-expenditure plan and 

generous dividend policy. Endesa is committed to 

paying out 100% of capital gains on asset 

disposals and increasing ordinary dividends by at 

least 12% annually. This will result in the 

payment of €9.9 billion in dividends over 2005- 

2009, of which €4.4 billion has already been 

paid. A change in financial, investment, and 

dividend policies may result, however, from the 

prospective change in control. ■ 


UTILITIES 


Nov. 12, 2007 




Ana Nogales, 

Madrid, 

(34) 91-788-7206 


Peter Kernan, 

London, 

(44) 20-7176-3618 


ENEL SPA 

Rationale 

The ratings on Enel SpA remain on CreditWatch 

with negative implications, where they were 

placed on April 3, 2007, following the company’s 

€40 billion joint debt-financed takeover bid with 

Spanish construction firm Acciona S.A. for 100% 

of Spanish utility Endesa S.A. (A/Watch Neg/A-1). 

The continued CreditWatch listing reflects 

Standard & Poor’s Ratings Services’ expectations 

that Enel’s financial profile will further deteriorate 

as a result of the tender offer for Endesa. The 

offer was completed on Oct. 1, 2007, and Enel 

now owns 67% of Endesa. In connection with 

this acquisition, Enel and Acciona will sell certain 

Enel and Endesa assets in Italy, France, Poland, 

Turkey, and Spain to German utility E.ON AG 

(A/Stable/A-1) in the first half of 2008 for an 

expected €13 billion- 

€14 billion. 

We expect to resolve the CreditWatch status 

once details about Enel’s business strategy and 

capital structure are available. 

The current ratings reflect Enel’s significant 

position in the Italian power market, which is 

sustained by its vertically integrated operations. 

The acquisition of Endesa should enhance Enel’s 

business profile, through increased size and 

diversification. In addition, operating synergies 

could be material. Enel’s ability to reap the 

potential benefits, however, will depend on its 

degree of control of Endesa and the functioning 

of its partnership with Acciona. Although the 

transaction will enhance Enel’s business profile, it 

will lead to a material deterioration in the 

company’s financial position, notwithstanding the 

benefit of the asset sales to E.ON. Enel’s debtfinanced 

investment in Endesa totals about 

€28 billion (equity value). This compares with 

net reported debt of €24.8 billion at Sept. 30, 

2007, which already included the debt financing 

of a 25% Endesa stake. 


Enel’s acquisition earlier this year of about 

€1.8 billion in Russian assets and its desire to 

become an integrated energy player in the Russian 

market will also weigh negatively on the 

company’s credit quality, due to country and 

industry risks, as well as to the financial impact. 

The company’s public announcement that it has 

now almost completed its M&A activity and that 

it will focus on integrating all of its international 

assets somewhat reduces acquisition-related risks. 


Enel’s short-term rating is ‘A-1’. At Sept. 30, 

2007, the company had committed credit lines of 

€5 billion, of which €2 billion had been drawn, 

and uncommitted credit lines of €2.6 billion, of 

which €0.9 billion had been drawn. The finance 

documentation for these facilities does not include 

material covenants. In addition, Enel had a €35 

billion committed credit line to fully finance the 

Endesa acquisition, which has now been reduced 

to €23 billion after the June and September bond 

issues and the results of the Endesa tender offer. 

This credit line is split into three tranches with 

different maturities: 1) one year, subject to a termout 

option for a further 18 months, for a residual 

amount of €2.5 billion; 2) three years, for a 

residual amount of €12.3 billion; and 3) five 

years, for a residual amount of €8.2 billion. 

Consequently, short-term refinancing risk seems 

modest. Given Enel’s size and market position, 

and the successful placement of its $3.5 billion 

bond issued in the U.S., access to the capital 

markets and the ability to issue debt of an 

appropriate tenor are not credit concerns, even 

under current market conditions. Enel’s ultimate 

debt profile, in terms of maturity and 

composition, will depend upon the permanent 

financing that it arranges to replace the 

acquisition facility. ■


Aug. 28, 2007 


A/Stable/A-1 


Peter Kernan, 

London, 

(44) 20-7176-3618 


Ralf Etzelmueller, 

Frankfurt, 

(49) 69-33-999-123 

Amrit Gescher, 

London, 

(44) 20-7176-3733 

E.ON AG 

Rationale 

The ratings on Germany-based utility E.ON AG 

factor in that the company will releverage its 

balance sheet through increased organic 

investment, a share buyback, and acquisition 

expenditure. Specifically, the ratings incorporate 

the assumption that the company’s funds from 

operations (FFO) to net adjusted debt will remain 

above 20% and at levels commensurate with an 

‘A’ rating (absent any greater-than-expected 

increase in business risk that could necessitate a 

higher level of credit protection). 

E.ON’s revised medium-term strategy includes 

significant organic growth investments (a €60 

billion investment program has been budgeted 

through 2010), increased returns to shareholders 

(a €7 billion share buyback by the end of 2008), 

and more active management of the balance sheet. 

Further to E.ON’s decision to withdraw its €70 

billion bid for Endesa S.A. (A/Watch Neg/A-1) of 

Spain, E.ON has an agreement with Enel SpA 

(A/Watch Neg/A-1) and Acciona to acquire 

generation assets from Enel and Endesa mainly in 

Italy, Spain, and France for an estimated 

enterprise value of €10 billion, if Enel and 

Acciona gain control of Endesa. Large 

acquisitions also remain possible but are expected 

to be funded in line with the company’s minimum 

rating target of ‘A’ and its 3x economic net debtto-EBITDA 

target ratio (barring any material 

change in its business risk). As at Dec. 31, 2006, 

E.ON calculated that its ratio of economic net 

debt to EBITDA was 1.5x. 

Standard & Poor’s Ratings Services regards the 

company’s business risk profile, pro forma for the 

new higher investment program, as slightly 

increased compared with the Endesa acquisition 

bid, owing to the lack of acquired vertical 

integration (including distribution assets) and 

focus on riskier growth markets. 

E.ON expects its European generation capacity 

to increase by 50% to 69 gigawatts (GW) from 

46 GW by 2010, of which about 12 GW will 

come from generation assets and projects 

acquired under the agreement with Enel and 

Acciona. A materially increased earnings 

contribution from undiversified generation or 

from riskier growth markets could ultimately 

weaken E.ON’s business risk profile. That said, 

the company still clearly recognizes the benefit of 

integrated generation and supply operations and 

fairly matched position, especially in highly 


UTILITIES 

competitive markets, as well as a proactive 

generation margin hedging policy (for 2007 and 

2008, 90% and more than 60%, respectively, of 

E.ON’s economic generation has been hedged). 


The short-term rating on E.ON is ‘A-1’, reflecting 

the company’s significant cash flows, a securities 

portfolio totaling about €11 billion at Dec. 31, 

2006 (notionally available to meet future pension 

and nuclear liabilities), and significant unused 

facilities--specifically, an undrawn €10 billion 

syndicated multicurrency loan. 

E.ON’s liquidity also benefits from the group’s 

significant operating cash flow. In 2006, under 

U.S. GAAP, cash provided by operating activities 

was almost €7.2 billion, which comfortably 

financed E.ON’s 2006 capital expenditure of 

€4.1 billion, and made a significant contribution 

to the group’s €4.6 billion dividend paid in 2006. 

Although capital and investment expenditure will 

increase significantly and free cash flows before 

dividends might be negative and reach a low 

point in 2008, a significant portion of firmly 

planned capital expenditures and increased 

dividends should remain internally funded over 

2007-2009. Ongoing financial flexibility is 

supported by the largely discretionary nature of 

the planned investments as well as E.ON’s wide 

and discrete asset base, which could be reduced 

without affecting crucial core operations. 

Outlook 

The ratings factor in E.ON’s plans to significantly 

releverage its balance sheet. The stable outlook 

reflects the company’s continued strong financial 

flexibility. The ratings could conceivably improve 

in the case of a better-than-expected business 

profile, for example due to riskier investments not 

materializing (and barring other material changes 

in the company’s business environment). 

A significantly better-than-expected financial 

profile could also have a positive effect on the 

ratings. The ratings could deteriorate, for 

example, due to greater-than-expected business 

risk from German or EU-wide regulatory 

initiatives or significantly increased exposure to 

the Russian Federation or Eastern Europe. 

Neither scenario is expected to have an impact on 

the ratings in the near term, owing to E.ON’s 

clearly articulated strategy and its strong financial 

profile for the ratings. ■ 


UTILITIES 


Sept. 3, 2007 


AA-/Watch Neg/A-1+ 



Paris, 

(33) 1-4420-6666 



London, 

(44) 20-7176-3938 


GAZ DE FRANCE S.A. 

Rationale 

On Sept. 3, 2007, Standard & Poor’s Ratings 

Services said that its ‘AA-/A-1+’ ratings on French 

gas utility Gaz de France S.A. (GDF) remain on 

CreditWatch with negative implications following 

the announcement of the revised terms for the 

merger between GDF and Franco-Belgian multiutility 

Suez S.A. (A-/Watch Pos/A-2). The ratings 

were placed on CreditWatch on Feb. 27, 2006, 

following the initial merger announcement. 

The continued negative CreditWatch reflects 

that, notwithstanding changes in the terms of the 

merger, it should have a dilutive impact on GDF 

from a credit standpoint--in terms of both 

business and financial risk--given Suez’s weaker 

business mix and financial profile. This is despite 

the fact that the merger would address GDF’s 

strategic issues, especially those related to its 

plans to expand further abroad and in electricity. 

From a business risk perspective, although Suez 

is larger and more diversified than GDF, Standard 

& Poor’s views GDF’s business risk as lower, 

given the large share of earnings it derives from 

regulated French businesses. From a financial risk 

perspective, although Suez’s financial profile has 

improved, its credit ratios remain significantly 

weaker than GDF’s. 

Under the revised terms, 21 GDF shares will be 

exchanged for 22 Suez shares, with no special 

dividend being paid. Initially the terms of the 

merger were a one-for-one share exchange plus a 

€1 billion special dividend to be paid to Suez 

shareholders prior to completion. To mitigate the 

difference in the share prices of Suez and GDF, 

65% of the share capital of Suez’s environment 

arm (20% of first-half 2007 Suez EBIT) will be 


spun off to Suez’s shareholders at the time of the 

merger, with the enlarged group retaining a 35% 

stake. The environment business had reported net 

debt of €5.4 billion at the end of June 2007, 

out of Suez’s reported consolidated debt of 

€12.9 billion. 

Although the lack of a special dividend and the 

spin-off of Suez Environment--given its significant 

debt--are favorable from a financial standpoint 

compared with the initial terms, the enlarged 

group intends to offer substantial returns to its 

shareholders. From a business perspective, 

although the European water operations (39% of 

the EBIT of Suez Environment in first-half 2007) 

rank amongst Suez’s strongest businesses, they 

would have been small in the context of the 

enlarged group. 

These revised terms are a significant step 

forward but the merger still faces some hurdles, 

especially its approval by both groups’ 

shareholders; the signing of the decree allowing 

the privatization of GDF following the passing of 

the law in the French parliament; and the 

opposition of GDF’s unions. 

To resolve the CreditWatch placement we will 

focus on the enlarged group’s strategy and 

financial policy. 


The ‘A-1+’ short-term rating is supported by 

GDF’s sound liquidity, with available cash at the 

end of June 2007 of about €3 billion and an 

undrawn €3 billion committed syndicated credit 

facility, which more than cover short-term debt 

maturing in the next 12 months of €1.1 billion. 

Beyond 2007, GDF has limited debt maturities. ■


July 4, 2007 




Ana Nogales, 

Madrid, 

(34) 91-788-7206 


Peter Kernan, 

London, 

(44) 20-7176-3618 

IBERDROLA S.A. 

Rationale 

The ratings on Spanish utility Iberdrola S.A. 

remain on CreditWatch with negative implications 

following the acquisition of Scottish Power PLC 

(A-/Watch Neg/A-2) on April 23, 2007, and the 

company’s announcement on June 25, 2007, of its 

bid to acquire 100% of U.S. utility Energy East 

Corp. (BBB+/Negative/A-2). 

For a summary of Iberdrola’s CreditWatch 

history, see the section “CreditWatch History” 

toward the end of this article. 

Iberdrola will pay €3.4 billion in cash and 

assume Energy East’s debt of €3 billion. The 

transaction, subject to approval by Energy East’s 

shareholders and to receipt of all the necessary 

authorizations, is expected to close in the second 

half of 2008. Notwithstanding this, Iberdrola has 

already raised close to €3.4 billion of new equity 

to fund this transaction. 

Energy East is a holding company that owns six 

regulated utilities (mainly transmission and 

distribution) and several smaller, nonregulated 

companies in upstate New York, Connecticut, 

Maine, and Massachusetts. 

The ratings will remain on CreditWatch 

pending Standard & Poor’s meeting with 

Iberdrola in the second half of 2007 to discuss the 

group’s revised business and financial strategy and 

analyze its financial forecasts and planned 

financial structure. We will also focus on the 

group’s future risk tolerance and acquisition 

strategy. Standard & Poor’s understands that 

Iberdrola aims to maintain an ‘A’ category rating. 

Based on publicly available information, we 

expect any lowering of our long-term rating on 

Iberdrola upon resolution of the CreditWatch 

listing to be limited to one-to-two notches. This 

preliminary assessment does not, however, include 

the potential fiscal benefits from the amortization 

of the goodwill from the acquisition of Scottish 

Power PLC or from synergies from Scottish 

Power’s integration within Iberdrola. 


UTILITIES 

Iberdrola’s strong position as one of Spain’s two 

largest vertically integrated electricity groups 

underpins the ratings. The recently acquired 

business will increase the group’s earnings 

diversity, both geographic and operational, but 

will result in a weaker capital structure and will 

present integration challenges. At March 31, 

2007, the group’s debt and EBITDA pro-forma 

figures (including the Scottish Power acquisition) 

were €29.8 billion and €5.8 billion, respectively. 


Iberdrola’s short-term rating is ‘A-1’, underpinned 

by an acceptable liquidity position prior to the 

acquisition of Scottish Power. At end-March 

2007, available cash, short-term financial 

investments of €1.15 billion, and committed 

undrawn credit facilities of €2.2 billion, more 

than fully covered the €1.1 billion in debt 

maturing in 2007. In addition, the group 

announced on May 28, 2007, that it intends to 

carry out a partial IPO of the combined group’s 

renewable business, which could generate 

€3.3 billion-€4.5 billion. 

CreditWatch History 

The ratings on Iberdrola were placed on 

CreditWatch with negative implications on Sept. 

6, 2005, following Spanish utility Gas Natural 

SDG, S.A.’s (A+/Negative/A-1) €22.55 billion bid 

for a 100% stake in Endesa S.A. (A/Watch 

Neg/A-1) and its agreement to a subsequent sale 

of an estimated €7 billion-€9 billion in assets to 

Iberdrola. On Dec. 1, 2006, we lowered our longterm 

rating on Iberdrola to ‘A’ from ‘A+’, owing 

to the group’s offer for Scottish Power made on 

Nov. 28, 2006. The ratings on Iberdrola have 

remained on CreditWatch with negative 

implications since then, despite the withdrawal of 

Gas Natural’s bid on Feb. 1, 2007, owing to the 

expected negative financial impact of the 

acquisition of Scottish Power. ■ 


UTILITIES 


Aug. 17, 2007 


A+/Negative/A-1 


Peter Kernan, 

London, 

(44) 20-7176-3618 



London, 

(44) 20-7176-3733 


Frankfurt, 

(49) 69-33-999-123 


RWE AG 

Rationale 

The ratings on Germany-based utility RWE AG 

reflect the group’s strong competitive position in 

the German electricity market, which provides the 

majority of group earnings and has delivered 

sustained strong operating performance. The 

ratings also reflect the group’s strong financial 

profile. These strengths are partially offset by the 

weakening of RWE’s business profile following 

the sale of its regulated water operations and its 

reliance on competitively exposed generation for 

future growth. 

Competition in the German retail market 

remains moderate. Nevertheless, the introduction 

of a network regulator and tariff cuts will likely 

increase competitive pressures. Meanwhile, RWE’s 

substantially lower level of freely granted carbon 

dioxide (CO2) allowances for phase 2 of the EU 

Emissions Trading Scheme (2008-2012) will likely 

reduce generation margins. (RWE estimates that 

slightly more than 50% of its German CO2 

emissions will be covered by free allowances.) 

RWE will, however, benefit from changes in the 

German tax regime, which will result in the 

average tax rate on German profits dropping to 

31% from about 39%, from 2008. 

RWE’s balance sheet has further strengthened 

following the sale of RWE Thames Water for an 

enterprise value of £8.0 billion (sale price of £4.8 

billion plus pro forma net debt of £3.2 billion) in 

December 2006. At June 30, 2007, net debt 

(including pension provisions, and under RWE’s 

definition) was €6.8 billion. RWE plans to 

complete the sale of its U.S. water business 

through an IPO by the end of 2007, subject to 

market conditions, which will further deleverage 

the group. RWE has a general net debt cap of 

between €22 billion and €24 billion and has 

substantial headroom relative to this cap to 

increase leverage. RWE has material nuclear asset 

retirement obligations, of which Standard & 

Poor’s Ratings Services treats about €7 billion 

as debt. 

The group’s financial performance has been 

strong over the past few years, with funds from 

operations (FFO) increasing to more than €7 

billion for full-year 2006, on the back of strong 

power prices. The medium-term outlook for 

power prices continues to be favorable on the 

back of tight capacity margins and tightness in 

fuel markets--given strong global demand for 

commodities--as well as a tighter market for CO2. 


RWE’s target for 2007 is that revenue will rise 

slightly above the 2006 level of €44.2 billion and 

that EBITDA will rise by between 5% and 10% 

above the 2006 level of €7.17 billion. 

There is an ongoing debate within the EU about 

levels of competition in power markets, and a 

draft third liberalization directive is expected later 

in 2007. Among other areas, the debate has 

focused on ownership unbundling of transmission 

businesses to increase competition. Such a 

measure could adversely affect RWE’s German 

business, but Standard & Poor’s currently 

considers that it is unlikely that this change will 

be required. 


The ‘A-1’ short-term rating is underpinned by 

large and diversified cash flows (cash flows from 

operating activities were in excess of €2.5 billion 

for the six months to June 30, 2007), RWE’s 

current low level of net debt, and a benign 

maturity profile. The rating is also supported by 

substantial alternative sources of liquidity, 

including more than €12 billion of liquid 

securities held to offset on-balance-sheet nuclear 

liabilities. At Dec. 31, 2006, €5.5 billion of 

RWE’s €20.0 billion debt issuance program was 

available. RWE faces a moderate maturity peak of 

about €3.7 billion in 2007. In addition, the 

company had unused funds of €3.5 billion 

equivalent under its $5.0 billion CP program at 

Dec. 31, 2006. 

Outlook 

RWE’s financial profile is strong for the ratings. 

The negative outlook, however, reflects some 

near-term uncertainty about the direction of 

RWE’s strategy, financial and acquisitions 

policies--in part due to planned changes in senior 

management--and the manner in which RWE 

could releverage its balance sheet. 

The deterioration of RWE’s business profile as a 

result of the water disposals could negatively 

affect the ratings if the disposals are followed by 

rapid and substantial investments in riskier 

operations. To maintain the ratings, RWE needs 

to restrict itself to moderate-scale or low-risk 

acquisitions, and maintain conservative financial 

policies. The outlook could be revised to stable 

if RWE maintains its current strong 

financial profile. ■


Aug. 30, 2007 


A+/Stable/A-1 


Paul Lund, 

London, 

(44) 20-7176-3715 


Mark J Davidson, 

London, 

(44) 20-7176-6306 

SCOTTISH AND SOUTHERN ENERGY PLC 

Rationale 

The ratings on U.K.-based energy utility Scottish 

and Southern Energy PLC (SSE) and its 

subsidiaries are supported by strong, predictable 

cash flows from the group’s regulated monopoly 

electricity and gas network businesses, which will 

likely contribute 40%-45% of operating profits 

over the medium term. The group’s strong 

financial profile, low-cost generation portfolio, 

and strong cost-cutting record also support 

the ratings. 

These strengths are offset by the exposure of 

SSE’s operating profits to movements in 

wholesale-power, coal, and gas prices as well as 

the risk of customer losses in the highly 

competitive electricity and gas retail markets. An 

increase in the proportion of profits derived from 

the group’s unregulated businesses, which is likely, 

could increase business risk. 

SSE is the third-largest electricity and gas 

supplier in the U.K. in terms of customer 

numbers. In June 2007, its customer base had 

increased to about 5 million electricity and 2.9 

million gas customers, despite a period of 

significant increases in electricity and gas supply 

prices. The company remains the cheapest 

supplier of energy and was the first to reduce 

prices on March 1, 2007, lowering average 

annual electricity and gas bills by 5% and 12%, 

respectively. The group has a relatively diverse 

fuel portfolio compared with other U.K. powerstation 

operators, which provides good 

operational flexibility and risk mitigation in 

volatile markets. 

SSE’s long generating and contractual position 

in relation to its residential supply volumes 

exposes its cash flows to greater long-term price 

risk than some of its peers (although this position 

is beneficial in a high wholesale-price 

environment). Accordingly, cash flows at SSE are 

vulnerable to a downward shift in long-term gas 

and power prices, although any such trend should 

largely be offset by higher supply margins. In 

addition, the company’s diverse fuel portfolio 

allows for optimization of fuel sources. 

Standard & Poor’s Ratings Services 

proportionally consolidates the accounts of gas 

distribution networks Southern Gas Networks 

PLC (BBB/Positive/--) and Scotland Gas Networks 

PLC (BBB/Positive/--)--including £1.1 billion of 

debt at March 31, 2007--into SSE’s financial 

statements. This reflects our view that the two 

entities (together known as Scotia) represent a 


UTILITIES 

core investment for the group. Excluding Scotia, 

SSE’s financial profile remains solid. Adjusted 

EBITDA grew by more than 21% to £1.42 billion 

in the year ended March 31, 2007, from £839 

million one year earlier. Standard & Poor’s 

adjusted gross consolidated debt figure for SSE, 

excluding Scotia, was £2.66 billion at March 31, 

2007. This includes approximately £400 million 

in adjustments for operating leases, postretirement 

debt obligations, and power purchase agreements. 


The short-term rating is ‘A-1’. SSE has 

satisfactory liquidity, with a £650 million, fiveyear 

committed revolving credit facility due in 

2009 to cover maturing obligations (principally 

CP). SSE’s debt is generally long term, with only 

£40 million due to mature before March 2008. 

The group has good access to CP markets under 

a €1.5 billion program, which it has used 

only lightly. 

SSE will likely be required to raise debt and 

refinance maturing bonds to fund capital 

expenditures in 2008. The group has good access 

to capital markets, although it is a relatively 

infrequent issuer. Some financial flexibility is 

available from its dividends. SSE’s financial 

flexibility has improved, as its additional debt 

requirement should be reduced in view of 

planning issues that are expected to delay the 

Beauly-Denny transmission line (which will have 

a knock-on effect on investment in major 

renewables projects in Scotland). 

Outlook 

The stable outlook reflects the likelihood that SSE 

will maintain cash flow protection measures in 

line with our expectations. Consolidated FFO to 

interest, excluding 50% contributions from Scotia 

that Standard & Poor’s rates on a consolidated 

basis, will likely remain close to current levels of 

about 9x, with FFO to debt at about 42%. 

Acquisition activity could, however, result in 

higher-than-expected debt levels, which could put 

pressure on the ratings. Furthermore, lower-thanexpected 

gas or electricity prices, or any largescale 

customer loss, could threaten cash flow 

ratios, which could also weigh on the ratings. 

Retaining customers and energy-supply margins 

will be challenging as wholesale prices fall back 

from the peaks of 2005 and 2006. Ratings upside 

potential is very limited over the short term. ■ 


UTILITIES 


Sept. 3, 2007 


A-/Watch Pos/A-2 



Paris, 

(33) 1-4420-6666 



London, 

(44) 20-7176-3938 


SUEZ S.A. 

Rationale 


Services said that its ‘A-/A-2’ ratings on Franco- 

Belgian multi-utility Suez S.A. remain on 

CreditWatch with positive implications, following 

the announcement of the revised terms for the 

merger between Suez and French gas utility Gaz 

de France S.A. (GDF; AA-/Watch Neg/A-1+). The 

ratings were placed on CreditWatch on Feb. 27, 

2006, following the initial merger announcement. 

The continued positive CreditWatch reflects 

that, notwithstanding changes in the terms of the 

merger, it should have a beneficial impact on Suez 

from a credit standpoint--in terms of both 

business and financial risk. From a business risk 

perspective this reflects that, although Suez is the 

larger and more diversified company, Standard & 

Poor’s views GDF’s business risk as lower, given 

the large share of earnings it derives from 

regulated French businesses. Likewise, from a 

financial risk perspective, although Suez’s 

financial profile has improved significantly, GDF 

still has much stronger credit ratios. 

Under the revised terms, 21 GDF shares will be 

exchanged for 22 Suez shares, with no special 

dividend being paid. Initially the terms of the 

merger were a one-for-one share exchange plus a 

€1 billion special dividend to be paid to Suez 

shareholders prior to completion. To mitigate the 

difference in the share prices of Suez and GDF, 

65% of the share capital of Suez’s environment 

arm (20% of first-half 2007 Suez EBIT) will be 

spun off to Suez shareholders at the time of the 

merger, with the enlarged group retaining a 35% 

stake. The environment business had reported net 

debt of €5.4 billion at the end of June 2007, out 


of Suez’s reported consolidated debt of 

€12.9 billion. 

Although the lack of a special dividend and the 

spin-off of Suez Environment--given its significant 

debt--are favorable from a financial standpoint 

compared with the initial terms, the enlarged 

group intends to offer substantial returns to its 

shareholders. From a business perspective, 

although the European water operations (39% of 

the EBIT of Suez Environment in first-half 2007) 

rank amongst Suez’s strongest businesses, they 

would have been small in the context of the 

enlarged group. 

These revised terms are a significant step 

forward but the merger still faces some hurdles, 

especially its approval by both groups’ 

shareholders; the signing of the decree allowing 

the privatization of GDF following the passing of 

the law in the French parliament; and the 

opposition of GDF’s unions. 

To resolve the CreditWatch placement, we will 

focus on the enlarged group’s strategy and 

financial policy. 


Suez’s European utility activities’ recurring cash 

flow generation and strong liquidity underpin the 

‘A-2’ short-term rating. Debt maturities in the 

second half of 2007 amount to €5.1 billion 

(including €2.3 billion of CP) and represent €3.3 

billion and €3.5 billion, respectively, in 2008 and 

2009. These are covered by about €8 billion of 

available cash, excluding €1 billion of overdrafts 

in the next 12 months, while the group has €6.7 

billion of undrawn bank lines, excluding the €2.3 

billion of CP drawings. ■


June 11, 2007 


A-/Stable/A-2 


Mark Schindele, 

Stockholm, 

(46) 8-440-5918 

VATTENFALL AB 

Rationale 

The ratings on Sweden-based utility Vattenfall AB 

reflect its strong, vertically integrated position in 

the north European electricity market, competitive 

generation portfolio, significant monopoly utility 

operations, and strong cash flow generation. 

Negative rating factors include Vattenfall’s 

exposure to competition and price volatility in 

power generation, political risks related to nuclear 

and coal generation, and increasing regulatory 

pressure on monopoly network operations. 

Standard & Poor’s Ratings Services currently 

factors no direct support from Vattenfall’s 100% 

owner, the Kingdom of Sweden, into the ratings. 

Political and taxation pressures on the company 

have increased, although the Swedish 

government appears to have no plans for 

restructuring or major strategy changes. In 

addition, there is no plan to privatize Vattenfall 

in the foreseeable future. 

Vattenfall’s capital expenditure is likely to 

increase over the medium term. By 2011, the 

company plans to invest about Swedish krona 

(SEK) 134 billion, mainly in new power 

generation capacity, reinforcement of its electricity 

network, and reinvestments. 

Following the integration of its acquired 

German operations, and the acquisition of 

SEK12.6 billion (on a net basis) of Danish power 

generation assets in 2006, we expect Vattenfall to 

continue its growth strategy and to be acquisitive 

--both in its current markets and in neighboring 

European countries. The number of potential 

acquisition targets will likely be limited and any 

acquisitions will be highly contested, however. 

Vattenfall’s financial performance remains 

strong for the ratings, with funds from operations 

to adjusted debt of about 39% in 2006 (treating 

SEK8.9 billion in hybrid capital notes as 50% 

debt and 50% equity). Standard & Poor’s expects 

Vattenfall to exploit the financial headroom in the 

current ratings through debt-financed acquisitions 

or capital expenditures. In the absence of major 

acquisitions or large scale capital expenditures, 

and in view of strong wholesale power price 

developments, funds from operations to adjusted 

debt should remain at above 30% over the 

medium term. 


UTILITIES 


Vattenfall’s short-term rating is ‘A-2’. The 

company is expected to have adequate internal 

liquidity over the short term, reflecting strong 

operating cash flow protected by hedging 

arrangements, and significant access to alternative 

sources of liquidity. Although much of Vattenfall’s 

operations are in highly competitive and volatile 

markets, movements in sales prices and volumes 

are not expected to have a material negative 

impact on the company’s liquidity and financial 

performance over the short term. 

The company’s adequate liquidity position is 

supported by the following factors: 

• Cash and short-term investments at March 

31, 2007 of about SEK27.9 billion, 

compared with SEK15.9 billion in shortterm 

debt. 

• Strong free operating cash flow (about 

SEK23.4 billion for the twelve months ended 

March 31, 2007), reflecting solid 

profitability and manageable capital 

expenditure needs in the utility operations. 

• Access to unused committed credit facilities 

of SEK9.7 billion as of March 31, 2007. In 

February 2006, the company refinanced a 

€600 million revolving credit facility and at 

the same increased the amount to 

€1 billion. The new revolver matures in 

2013, and the company has good access to 

public debt markets. 

•The absence of rating triggers or onerous 

covenants in Vattenfall’s financing 

agreements. 

• Free operating cash flow is expected to 

remain at SEK5 billion-15 billion a year, 

based on sustained operating profitability. 

• Company policy is to maintain the 

equivalent of 10% of group turnover in cash 

or committed credit lines, or the equivalent 

of the next 90 days’ debt maturities, 

whichever is greater. 

Outlook 

The stable outlook reflects the increasing 

regulatory and political pressure in Vattenfall’s 

main markets, which tempers the prospect of 

continued improved credit quality from its current 


UTILITIES 


strong level. Such pressure has resulted in 

increasing shareholder demands, stricter 

regulation, and an increased focus on 

environmental and energy policy objectives for 

the company. Further adverse political or 

regulatory actions cannot be ruled out. 

The stable outlook also reflects our expectation 

that Vattenfall will continue its growth strategy, 

remain acquisitive, and increase capital 

expenditures over the medium term. This could 

weaken the financial profile from its current, 

strong, level, although we do not expect the 

company to jeopardize its objective of 

maintaining a rating in the ‘A’ category. In the 

current environment, with increased political and 

regulatory uncertainty, upside ratings potential 

is limited. ■ 


TRANSPORTATION INFRASTRUCTURE 

Standard & Poor’s rates a wide range of transportation infrastructure entities in Europe, including 

airports, rail companies, toll road concessions, and ports. Continuing the trend of recent years, 

2007 has been characterized by further M&A and privatization activity, with sponsors seeking to 

significantly increase debt leverage on the back of solid business risk profiles to fund the acquisition 

price or provide for shareholder returns. As a result, we have seen a number of ratings on stable 

investment-grade entities withdrawn, only to be replaced by much more aggressive--and likely noninvestment-grade--financial 

structures. Whether such structures are sustainable over the business cycle as 

it becomes more challenging remains to be seen. 

In recent years, acquisition has been the easiest part of the equation given the plentiful supply of 

credit and this, for the vendor, has given meaty returns. For some new owners, the second stage--the 

syndication of the acquisition debt into the secondary loan market or refinancing through the capital 

market--is proving more elusive. For example, the approximate £6.7 billion of acquisition debt 

following the acquisition of BAA PLC by Spanish infrastructure company Grupo Ferrovial S.A. remains 

outstanding 18 months after the launch of the acquisition despite the intention to undertake a capital 

markets refinancing. While the delay reflects a combination of factors, including the regulatory process 

and the complexity of the structure being developed, it will be interesting to watch the eventual 

execution and the price at which that occurs, given the changing climate of the credit markets. 

Government support is and will remain a key credit factor, particularly for the rail industry. Yet, 

government budgetary constraints caused by weak economic conditions are putting increasing pressure 

on state support for some rail entities. State support is likely to remain integral to the operation of rail 

infrastructure and services in Europe, although more privatizations in the long term cannot be ruled out 

as countries look to alternative ownership and funding structures. 

During 2007, Standard & Poor’s assigned its first ratings in the transportation sector in the Middle 

East to Dubai-based port operator DP World Ltd. As part of the company’s financing activity a rating 

was also assigned to an Islamic finance sukuk instrument. The importance of the relationship with the 

government is fundamental to ratings within these jurisdictions, given the ownership structure and the 

significant social policy role that such companies often take. 

In general, most rated companies in the sector continue to perform well on the back of economic 

growth and positive industry developments such as the ongoing growth of low-cost airlines in the 

case of airports. The sustainability of these positive market features in the long term may become a 

challenge to transportation infrastructure credits, although companies with prudent management 

strategies, solid operations, and manageable financial risk are likely to continue to meet the challenges 

that the future brings. 

Jonathan MManley 

Senior Director and Co-Team Leader 

Project Finance and Transportation Infrastructure 



Lidia PPolakovic 




Publication Date:

In addition, on March 22, 2007, the EU 

approved an aviation deal with the U.S. that will 

increase deregulation of the transatlantic airline 

market by opening up restricted routes. As a 

result, we expect air traffic between Europe and 

the U.S. to continue to increase over the next five 

years, starting in 2008. For instance, the lifting of 

previous U.K./U.S. bilateral constraints on air 

service provision between Heathrow and the U.S. 

is to be implemented at Heathrow in time for 

summer 2008. The impact is currently being 

assessed by BAA Ltd. (BBB+/Watch Neg/--) using 

latest airline thinking, but previous assessments 

suggested small net gains to London system 

airports (2.3 million passengers in total over the 

course of the next five-year regulatory periods Q5 

and Q6). The impact may be higher for hub 

airports with more slot capacity. 

Finally, 2007 traffic growth should be in line or 

slightly better than semi-annual growth for some 

airports. Traffic was very high this summer, which 

will benefit annual traffic levels: The 2006 

summer season was slightly affected by a 

temporary and limited passenger shortfall 

following the 2006 terrorist alerts in London and 

subsequent reinforcement of security measures 

across the EU. 

First-half 2007 annual traffic growth was 

healthy, but slowed down for one-half of the 

airports compared with the same period of 2006. 

Given increasing capacity constraints in most 

European airports, more limited but steady 

growth could prove easier to manage from a 

capital planning point of view. 

European Airports Traffic Growth 



A detailed analysis suggests the following main 

traffic drivers: 

• International traffic continues to grow more 

rapidly than domestic traffic, which is likely 

to remain the case. 

• Among international traffic, non-European 

(transfer) traffic has proved particularly 

dynamic. 

•Low-cost carriers continue to grow more 

rapidly than others and represent a 

constantly climbing percentage of passengers 

at some airports; the airports’ traffic 

growth is, therefore, increasingly reliant on 

the success of these carriers. 

Successful airport operators are those that are 

not yet constrained by capacity and can 

accommodate growing passenger volumes, while 

some hubs (Heathrow and Frankfurt, for 

example) are increasingly constrained. As a result 

of its spare capacity, Aeroports de Paris (ADP; 

AA-/Stable/--) recorded the highest traffic growth 

rates among major European airports in first-half 

2007, as in the three previous years, and is likely 

to benefit again from strong traffic growth in 

2007; ADP has raised its full-year 2007 passenger 

growth guidance to between 4% and 4.4%, 

versus 3.7%-4.2% previously. Traffic was actually 

up 5.2% in the first nine months of 2007. 

Continental regional and O&D airports 

continued to post the strongest growth and to 

outperform hubs, mainly as a result of expansion 

in the low-cost segment. Only U.K.-based airport 

operator Birmingham Airport Holdings Ltd. 

Growth Growth Passengers Growth Growth Growth Growth 

2007f January 2007- 2006 January 2006- January 2006- January 2005- January 2004- 

June 2007 December 2006 June 2006 December 2005 December 2004 

(%) (%) (mil.) (%) (%) (%) (%) 

Aeroporti di Roma SpA 6.0-7.0 8.4 35.1 6.7 6.6 7.3 9.2 

Aeroports de Paris 4.0-4.4 4.4 82.5 4.8 5.0 4.4 6.5 

BAA Ltd. 1.5-2.0 0.5 147.6 2.3 3.1 3.0 6.9 

Birmingham Airport Holdings Ltd. N.A. (0.5) 9.3 (2.5) 0.4 5.8 (2.3) 

Brussels Airport Co. (The) 4.0-5.0 3.5 16.7 3.3 4.4 3.5 2.9 

Copenhagen Airports A/S 4.0-6.0 2.3 20.9 4.5 6.3 5.0 7.5 

Dublin Airport Authority PLC 7.5-8.0 8.4 27.8 15.0 16.2 12.4 6.6 

FML Ltd. (East Line Group) 19.0 19.0 15.4 10.1 12.5 15.6 29.0 

Manchester Airport Group PLC (The) 5.0 2.1 28.8 3.0 3.3 3.0 5.5 

N.V. Luchthaven Schiphol 4.0 3.9 46.1 4.3 4.0 3.8 6.5 

Unique (Flughafen Zurich AG) 

f--Forecast. N.A.--Not available. 

7.0 8.1 19.2 7.6 6.0 3.7 1.3 




(BIA; A-/Stable/A-2) showed negative 0.5% 

growth in the first half of 2007: the semi-annual 

figure suggests traffic is however decreasing less 

rapidly than in full-year 2006 (2.5%). Second-half 

2007 and 2008 will be crucial to confirm whether 

this decline suggests a departure from BIA’s longterm 

growth trend. 

Improved profitability and cash flow generation 

overall but pressures mounting for some airports 

We expect most rated European airports’ EBITDA 

to improve in 2007, on the basis of more traffic, 

increases in airport charges, higher nonaeronautical 

revenues, and the implementation of 

cost-cutting measures. Reported interim accounts 

at June 30, 2007 by ADP, Brussels, Copenhagen 

or Schiphol airports support that view; only 

Aeroporti di Roma SpA (AdR; BBB/Watch Neg/ 

A-2) is showing a negative evolution. The disposal 

of ADR Handling and Italy’s 2007 budget law 

impacted AdR’s reported EBITDA, which was 

down 2.9% against the first semester of 2006. 

Without this, EBITDA would have grown by 

3.4%. 

Increased security and utilities costs could 

hamper EBITDA growth, however, particularly if 

rising costs are not offset by sufficient traffic and 

revenue growth or cost control. Brussels Airport 

reported a strong 14% EBITDA growth in its 

2007 interim accounts, illustrating management’s 

ability to cut operating costs; not all airports have 

such a track record and pressures could rise in the 

short to medium term for some of them. 

In some European regional airports (notably in 

the U.K.) aeronautical revenue is set to grow 

more slowly than passenger volume in the future, 

reflecting price incentives offered to grow traffic 

levels and the increasing proportion of low-cost 

traffic. This is due to smaller airports increasingly 

competing with more established regional hubs, 

as well as a continuing shift in market segments 

resulting in a growing reliance on low-cost traffic. 

Aeronautical yields per passenger have actually 

started to decline at Manchester Airport Group 

PLC (MAG; A/Stable/--) and the same could 

happen at BIA due to the company’s growing 

exposure to low-cost traffic and aggressive pricing 

competition. So far, decline in aeronautical 

income has been offset by the resilience of 

nonaeronautical income. That might not always 

be the case, though, and ultimately steady cash 

flow generation could be at risk. 


Most airports have benefited from increasing 

revenues and profits from their real estate-related 

businesses in the past years. Future contributions 

from that segment could shrink or prove less 

buoyant than in the past if the business and 

commercial real estate markets stabilize or decline 

after several years of sustained growth. We will 

continue monitoring airports’ strategies in real 

estate, its stability as a revenue source, and if any 

property development risks are being taken that 

we would consider as weakening the airport’s 

business risk profile. 

Governance and financial aspects paramount for 

future ratings stability 

The rating implications of overall higher 

profitability and stronger internal cash flow 

generation will depend on the use shareholders 

make of additional cash flow: The funding of 

capital spending or capital structure improvement 

will be neutral to positive from a credit 

perspective. Conversely, increasing distribution 

payout or M&A activity could put some pressure 

on the ratings. 

A clear example of that is Brussels Airport. 

Profitability and cash flow generation have been 

on the rise following the 2005 privatization, but 

we lowered the rating to ‘BBB’ from ‘BBB+’ in 

June 2007, following a significant special 

distribution of €310 million to shareholders 

(subject to meeting certain performance hurdles). 

As the company was operating under a financing 

structure limiting extraordinary dividends, 

the shareholders had to make a recapitalization to 

repay existing debt in order to make 

their distribution. 

Looking ahead, it is crucial that airports 

maintain good credit quality and access to 

external funding for their capital expenditures 

and refinancing needs. In this respect, not only do 

operational and financial performance matter 

but ownership and governance are also key 

credit factors. 

Increasingly complex structures are being put in 

place in order to extract money from the airport 

operating companies for distribution and/or 

refinancing of acquisition debt, due to a spike in 

investor interest in acquiring airports. Standard & 

Poor’s rigorously examines ownership 

arrangements and changes so as to measure the 

debt obligations that are, directly or indirectly, 

supported by an airport’s operations. In June

2007, the ‘BBB/A-2’ ratings on AdR were placed 

on CreditWatch with negative implications. The 

placement reflected the growing short-term risk to 

AdR’s credit quality posed by the--ultimately 

successful--proposal by Gemina SpA (not rated) 

to buy out Macquarie Airports’ (Map) 

(BBB/Stable/--) 45% stake in AdR. Now that 

Gemina indirectly owns a 96% stake we will 

review the new ownership structure, focusing 

particularly on the now single, dominating 

shareholder. We will also evaluate any revisions to 

AdR’s business and financial strategies. 

Governance and financial policies are 

increasingly important considering the 

releveraging that has taken place in the airport 

industry over the past few years; in most airports 

financial flexibility is weak. In addition, some 

airports need to strengthen their financial 

profiles or complete a refinancing to maintain 

current ratings. 

Regulation will remain a long-term rating driver 

One key factor to stable credit quality is to 

recoup short-term operating and long-term capital 

costs, which speaks to regulation. 2007 has 

already brought some regulatory changes and 

more are on the agenda with several regulatory 

reviews of airport charges in progress. In any 

event, the way in which the regulators allow 

airports to fund construction and remunerate 

their investments will remain an important 

rating factor. 

The Competition Commission’s report to the 

U.K. Civilian Aviation Authority (CAA), 

published Oct. 3, 2007, proposes price controls at 

BAA’s primary airport facilities at Heathrow and 

Gatwick that are not materially different from the 

CAA’s December 2006 initial proposal. The report 

itself does not compromise BAA’s ability to 

execute a proposed corporate securitization 

refinancing, including the refinancing of BAA’s 

existing bonds into an investment-grade ringfenced 

entity. However, the proposed price 

controls are likely to affect the timetable for 

doing this, and, if the initial proposals remain 

unchanged, the overall amount of debt eventually 



placed into the ring-fence structure. Firm 

proposals for the new price controls will not be 

revealed for the five-year period from April 2008- 

2013 until November 2007. 

On July 30, 2007, the Irish Commission for 

Aviation Regulation published its final decision on 

the maximum level of airport charges that may be 

set at Dublin Airport for 2006-2010. The 

commission decided not to increase the cap on 

airport charges at Dublin until 2010. The 

regulator made it clear that the financial 

sustainability of the airport (one of the regulator’s 

three main duties) can be achieved with an IG 

rating (high ‘BBB’ category), and, therefore, 

maintaining the current ‘A’ rating is not part of its 

statutory duty. However, airport passenger 

charges are likely to rise 22% between 2010 and 

2014. The price rise is aimed at helping DAA to 

pay for Terminal 2 and related projects. As the 

cost can only be recovered when the terminal is 

operational, DAA will have to borrow a 

significant amount to pay for the investment 

program. Standard & Poor’s will be reviewing 

DAA’s business plan in the next few weeks to 

assess the impact of the new debt on the rating. 

The ratings and outlook on ADP remained 

unchanged in July 2007 following the decision by 

the Conseil d’Etat (France’s highest administrative 

court) to cancel the 2006 tariff increase charged 

to carriers last year, on the grounds that the 

company did not supply adequate financial 

information to the consultative committee. The 

decision did not call into question the level of 

tariffs itself or imply repayment by ADP of the 

corresponding amounts. ADP will have to apply 

again to the consultative committee to validate 

last year’s tariff increase, as well as tariffs decided 

for 2007. Importantly, on April 25, 2007, the 

court had confirmed the validity of the five-year 

regulatory contract between ADP and the state, 

paving the way to implement annual tariff 

increases of up to 3.25% plus inflation until 

2010. On that basis, we expect ministerial 

confirmation of previously accepted 2006 and 

2007 tariff increases in the course of 2007. ■ 




Aug. 21, 2007 


BBB+/WatchNeg/NR 


Alexandre de Lestrange, 

Paris, 

(33) 1-4420-7316 



London, 

(44) 20-7176-3528 


BAA LTD. 

Major Rating Factors 

Strengths: 

■ Excellent competitive position as the 

dominant U.K. airport operator and the 

key hub in Europe 

■ Strong cash-generative business 

■ Diversification through ownership of a 

portfolio of airports assets 

■ Expected continued supportive regulatory 

environment and government policies 

Rationale 

The ratings on U.K.-based airports operator BAA 

Ltd. are supported by the company’s excellent 

business risk profile. BAA benefits from its 

ownership and operation of a portfolio of key 

U.K. airports catering for a diverse mix of 

passengers, and from supportive regulation and 

government policies. In addition, the key strategic 

position of its main asset, London Heathrow 

Airport, as a hub airport supports the company’s 

competitive position, while its capacity constraints 

are expected to ease gradually with the opening of 

Terminal 5 (T5) at Heathrow and the ongoing 

capital program. The ratings are constrained by 

BAA’s weakened financial profile, which reflects 

the company’s debt-funded capital program and 

limited financial flexibility. 

BAA was delisted following its effective 

acquisition by Airport Development and 

Investment Ltd. (ADIL) (a consortium led by 

Grupo Ferrovial S.A.) on Aug. 15, 2006. The 

company was renamed BAA Ltd. in November 

2006. Work is underway for the ultimate 

financing structure, which is expected to conclude 

toward the end of 2007. The ring-fencing 

structure to be implemented under the financing 

will be key, as--given existing debt and acquisition 

debt at ADIL--the ratings on a consolidated basis 

would be in the ‘BB’ category. 

In the first six months of fiscal 2007, BAA’s 

passenger growth slowed to 0.5%, reflecting the 

impact of the tightening of security measures and 

uncertainty over further terrorist attacks. 

Higher pension and security costs as well as a 

lower retail income per U.K. passenger limited 

profitability and cash flow growth to lower-thanexpected 

levels in the 12 months to December 

2006, with the adjusted EBITDA margin--at 

41.6%--lower than in previous fiscal years (about 

45%). Adjusted funds from operations (FFO) to 


Weaknesses: 

■ Currently highly leveraged finance structure 

■ Major capital expenditure program resulting 

in steady negative free cash flow 

■ Forecast gradual increase in leverage, which 

will reduce financial flexibility 

debt and FFO interest coverage over the same 

period, at 10.6% and 2.7x, respectively, were, 

however, similar to those at fiscal year-end March 

2006 (10.8% and 2.8x, respectively). 

The ongoing CreditWatch status reflects 

uncertainties about the ultimate financing 

structure, which is expected to allow existing 

bonds to achieve a rating that is the same or 

higher than the corporate credit rating. Although 

the transaction is taking more time than originally 

anticipated in 2006, it has been progressing 

satisfactorily so far. Standard & Poor’s Ratings 

Services expects to resolve the CreditWatch 

placement by the end of 2007. If, as currently 

expected, all rated debt migrates to a new, 

investment-grade structure, the corporate credit 

rating would be withdrawn. In the event that the 

long-term financing strategy that ADIL is 

contemplating is not implemented, the ratings on 

BAA could fall to the ‘BB’ category, based on 

consolidated debt (including ADIL’s debt). 

Liquidity 

BAA’s liquidity is good, reflecting strong cash 

flow generation. At Dec. 31, 2006, available bank 

lines and cash in hand combined was £2.135 

billion (£1.764 billion at the end of June 2007). 

BAA is a joint obligor with its 100% parent ADIL 

on a £2.25 billion facility maturing in April 2011. 

At Dec. 31, 2006, £200 million had been drawn 

on the facility. In addition, overdraft facilities of 

£25 million were available. These facilities 

comfortably cover BAA’s negative free operating 

cash flow for 2007 (mainly due to capital 

expenditure investments) and forthcoming debt 

maturities. At June 30, 2007, BAA’s short-term 

debt maturities were modest, with only one bond 

maturing in the next 12 months--the convertible 

£424 million notes due in April 2008, which are 

100% owned by ADIL.

Business Description 

BAA’s core business is the ownership and 

operation of seven U.K. airports, including its 

three designated airports: Heathrow (including 

the Heathrow Express rail link), Gatwick, and 

Stansted, which serve London and southeast 

England, and together generate about 90% of 

group revenues. The company’s other airports are 

Southampton in southern England, and Aberdeen, 

Glasgow, and Edinburgh in Scotland. 

BAA also operates and owns a majority stake in 

Naples airport in Italy, has ownership and 

operational interests in six Australian airports, 

and runs retail or management contracts at three 

airports in the U.S. In addition, the company 

owns and operates World Duty Free and property 

management business BAA Lynton, although this 

operation is up for sale. Airport-related businesses 

(excluding duty free) account for more than 70% 

of total revenues. 

The ultimate parent company of ADIL in the 

U.K. is FGP Topco Ltd., a company owned by 

Ferrovial Infraestructuras S.A. (62%), Caisse de 

dépôt et placement du Québec (28%), and Baker 

Street Investment Pte Ltd. (10%), an investment 

vehicle controlled by GIC Special Investments. 

Rating Approach 

Since the June 2006 downgrade when ADIL’s 

offer for shares and convertible bonds became 

unconditional, we’ve adopted a forward-looking 

approach to the ratings. The ratings will remain 

on CreditWatch pending final execution of ADIL’s 

proposed permanent financing strategy following 

the acquisition. The ‘BBB+’ ratings reflects our 

expectation that existing bondholders will be 

migrated to a special-purpose vehicle, allowing 

BAA’s existing debt to be rated at least at the 

current rating level. 

The ring-fencing structure should also isolate 

the future credit quality of the regulated airport 

companies backing the new financing from ADIL 

and its ultimate parents. 

Business Risk Profile: Very Strong 

Competitive Position, Solid Operations, 

Supportive Regulation, High Profitability 

Excluding industry event risk, we expect BAA’s 

business risk profile to remain stable 

and supportive. 

BAA’s excellent business profile reflects its 

strong competitive position owing to: its location; 



ownership of Europe’s main hub airport; diversity 

of airlines, destinations, and passengers; sound 

traffic growth prospects in the U.K.; and a 

supportive regulatory environment. The business 

profile is also supported by the diversification 

benefits of the company’s ownership of seven 

U.K. airports, each with different traffic 

characteristics. These strengths are only partly 

tempered by current capacity constraints at 

Heathrow and Gatwick and operational 

challenges pending the completion of the capital 

expenditure program. 

Competitive position 

BAA is the largest airport operator in Europe, 

handling about 148.0 million passengers (on a 

rolling basis) at its U.K. airports in the 12 months 

to June 2007. The company’s strong passenger 

potential derives from its large and wealthy 

catchment area and London’s position as Europe’s 

major financial center and a leading tourist 

destination. A further competitive strength is that 

all three London airports are linked to the center 

of London via high-speed rail links. BAA’s main 

hub, Heathrow, is Europe’s largest airport, with 

67.0 million passengers in the 12 months to June 

2007. Gatwick is also an important European hub 

airport, handling 34.5 million passengers in the 

same period. 

BAA’s Heathrow and Gatwick airports compete 

with Europe’s other major international hub 

airports for connecting passengers only, most 

notably Frankfurt, Amsterdam Airport Schiphol, 

and Paris Charles de Gaulle (CDG). Capacity 

constraints at Heathrow and Gatwick have 

somewhat affected their competitive positions. In 

addition, the number of destinations served by 

Heathrow and Gatwick lags behind that of CDG, 

Frankfurt, and Schiphol. BAA, however, has 

higher frequency service to major destinations, 

which is an important factor for both travelers 

and airlines because it gives a choice of 

connections. In addition, Heathrow and Gatwick 

are less exposed than their peers to competition 

for transfer passengers or to any one particular 

airline, as both constitute a smaller proportion 

of traffic. 

Despite the additional capacity to be provided 

by T5 from 2008, Heathrow’s traffic is expected 

to grow more slowly than the expected long-term 

growth average in the U.K. and for other 

European hubs. This is due to runway capacity 




constraints. Although the U.K. Aviation White 

Paper “The Future of Air Transport” (the White 

Paper), published in December 2003, proposes the 

construction of a third runway at Heathrow and 

additional terminal capacity, this is only expected 

by 2015-2020 if environmental conditions are 

met and the planning process runs smoothly. 

Aeronautical activity 

BAA is forecasting average passenger traffic 

growth for its three designated airports of 2.8% 

per year over the 2007-2018 period. This is below 

the expected natural growth rate in England of 

4.5% to 5.0%, reflecting capacity constraints at 

the London airports. Industry events, erosion of 

passenger confidence, and a weak economic 

climate, could result in lower-than-expected 

passenger growth. Our long-term scenario is 

annual passenger growth of about 2%. 

Historical trends have demonstrated the 

stability of aeronautical activity at BAA’s airports 

and the increasing resilience of passenger demand 

behavior to external shocks. This supports BAA’s 

business profile. BAA has a record of more than 

40 years of almost continual traffic growth. 

During this period, only the years following the 

first oil crisis in 1974, the 1991 Gulf War, and the 

events of Sept. 11, 2001 showed traffic decreases. 

Nevertheless, with the exception of 1991, when 

traffic decreased by 7%, the rate of passenger 

volume decline was in the low single digits and 

was short lived. 

Since the beginning of the 2003-2008 

regulatory period, traffic performance at the 

designated airports has been mixed. BAA’s 

designated airports underperformed the 

regulatory assumptions in the fiscal years ended 

March 31, 2006, and Dec. 31, 2006 (the 

company’s fiscal year-end was changed during 

2006; see “Accounting” section), and 

outperformed the U.K. Civil Aviation Authority’s 

(CAA) assumptions in 2005. Based on first-half 

traffic figures, 2007 is likely to be below the 

CAA’s assumptions. 

In the first six months of fiscal 2007, traffic at 

BAA’s regulated airports was stable compared 

with the same period of the previous year, after a 

decline of 0.6% in June 2006. Performance at 

group level was stronger, with passenger growth 

at 0.5% (below the 1.1% increase in the 12 

month rolling period to June 2007), thanks to the 


performance of Southampton and the Scottish 

airports, which saw growth of 3.2% and 3.5%, 

respectively, over the period. The recent attempted 

terrorist attack at Glasgow airport contributed to 

a fall of 2.4% in June 2007, as more than 60% of 

flights were cancelled or diverted when the airport 

was temporarily closed in the immediate 

aftermath of the incident. Less than 24 hours 

after the incident the airport was reopened and 

operating a full flight schedule. 

A diversified airline, destination, and passenger 

mix supports traffic stability at BAA’s airports. 

Customer concentration and dependence on the 

lower rated airline sector are perceived as 

weaknesses for airports in general, when 

compared with gas and water utilities. 

Nevertheless, airports with strong competitive 

positions are partially insulated from this risk, as 

the strength of routes is key for traffic stability. If 

there is sufficient demand for a particular 

destination, it is expected that a failing airline 

serving that route would be substituted. Although 

BAA’s four largest customers contribute about 

one-half of its designated airports’ passenger 

traffic (the revenue contribution is lower), 

customer concentration is not perceived as a 

credit risk, particularly at Heathrow, where 

demand for slots exceeds supply. Of the hub 

airport operators rated by Standard & Poor’s, 

BAA has the lowest exposure to its flag carrier. 

For the nine months ended December 2006, 27% 

of total passenger traffic came from British 

Airways PLC (BBB-/Stable/--) (Heathrow 41%, 

Gatwick 21%). In comparison, Air France-KLM 

represented more than 50% of passengers at 

Aeroports de Paris (AA-/Stable/--) and more than 

60% at Schiphol (N.V. Luchthaven Schiphol and 

Schiphol Nederland B.V.; AA-/Negative/--). 

Each of BAA’s larger airports caters for different 

segments of the aviation market. This 

diversification is supportive of BAA’s business 

profile because the negative effects of a downturn 

in one segment can be offset by strong 

performance in others. Heathrow is the largest 

hub in Europe, and almost all carriers are 

scheduled rather than charter, while Gatwick is 

the main U.K. charter airport, with a growing 

low-cost carrier presence. Stansted is an origin 

and destination airport and the U.K. center for 

the low-cost airline business. Stansted’s rapid 

growth rates over the past 10 years result from

the rapid expansion of low-cost carriers Ryanair 

and easyJet. The Scottish and Southampton 

airports have a mixture of carrier types. 

BAA’s traffic base is relatively diversified across 

different markets. At the three London airports, 

the major destinations are Europe and North 

America, which accounted for 70% and 13% of 

total traffic in 2006, respectively. A balanced 

breakdown of business and leisure travel between 

U.K. and overseas residents supports 

diversification of the passenger mix. 

Revenue diversity and stability 

BAA’s revenue stability is directly linked to the 

stability of traffic and a tested tariff-setting regime 

(see “Regulation and government policy”). A high 

proportion of revenues also comes from retail 

activities. The company conducts a large 

percentage of its commercial activity directly. 

About 45% of retail revenues come from the 

World Duty Free franchise, which is directly 

managed by BAA. This direct involvement is not a 

negative factor because airport retail activities, 

particularly airside, are more stable than highstreet 

retail. 

BAA recognizes revenues and costs associated 

with the World Duty Free operations, and so 

retail revenues represent about 35% of total 

revenues. This contrasts with other European 

airports, where commercial revenues, excluding 

properties, represent 20%-30% of the rated hubs’ 

revenue structure. 

Regulation and government policy: 

London airports 

In 2007, BAA will be reviewed by the U.K. 

Competition Commission (CC) in two parallel 

reviews. 

The regulatory review for the period from 

2008-2009 to 2012-2013 (Q5, or the fifth 

quinquennium) will consider BAA’s past and 

forecast future performance, assess its costs of 

capital, make recommendations on the price-cap, 

and determine whether the company, in its 

management of the three London airports, has 

acted against the public interest. 

In a separate process, a review by the Office of 

Fair Trading (OFT) will investigate the structure 

of the U.K. airport market. 



General principles. 

The framework for airport regulation in the U.K. 

is set by the Airports Act 1986, with aviation 

policy determined by the Department for 

Transport (DfT). 

Although the CAA is the primary economic 

regulator of U.K. airports, the CC has a 

mandatory role as an adviser to the CAA. The 

regulatory responsibilities of the CAA and the CC 

include a duty to encourage investment in new 

facilities at airports in time to satisfy anticipated 

passenger demand. Unlike other regulators, such 

as those in the water industry, the regulator has 

no wider responsibility to ensure that BAA attains 

a specified credit rating level. It must, however, 

ensure that the company is able to finance its 

activities. The CAA does not have the power to 

dedesignate an airport; this is held by the DfT. 

BAA benefits from strong government support 

for its business as it provides key infrastructure 

for economic growth in the U.K. Although there 

is no expectation that the government will provide 

funds to finance airport infrastructure, Standard 

& Poor’s expects that it and the economic 

regulator will continue to create conditions for 

longer term investment in the expansion of 

aviation capacity in southeast England. 

The White Paper clarified the government’s 

policies regarding airport expansion for the U.K. 

It emphasized the need for airport operators to 

invest in delivering new capacity. 

Price-cap mechanisms. 

Since 1986, the CAA has been required to set a 

five-year period price control formula fixing the 

maximum airport charges that may be levied at 

Heathrow, Gatwick, and Stansted on a standalone 

regulation basis (that is, by reference to 

each airport’s own air traffic, costs, and assets). 

The charges within the price-cap include runway 

landing, aircraft parking, and the departing 

passenger charge. 

The price-cap is set with reference to forecasts 

for traffic volumes, capital investment, operating 

costs, and operating revenues, as well as allowing 

BAA a reasonable rate of return on its 

investments. The formula follows a “single-till” 

approach, where retail and property activities 

subsidize aeronautical activities. To determine the 

price-cap, required revenues are calculated based 

on the sum of net expenditures, regulatory 




depreciation of remunerated assets, and 

required returns on the average value of 

remunerated assets. 

Although the CAA has demonstrated flexibility 

by allowing BAA to offset revenue losses caused 

by external events, such as the loss of duty free 

revenues in 1999, BAA does not benefit from 

regulatory protection in a situation of financial 

distress caused by financing decisions. 

Price control review: initial proposals. 

The formal process for setting the charges for Q5 

began in December 2005 when the CAA 

published its policy issues paper for consultation. 

BAA then rejected the CAA’s December 2006 

initial regulatory proposals as failing to 

incentivize the company to invest at its airports. 

The next stage in the process sees a review by the 

CC before the CAA sets prices in early 2008. 

The CAA has proposed that the allowed 

weighted average cost of capital (WACC) should 

be cut to 5.90%-6.20% for Heathrow and 

6.30%-6.70% for Gatwick, which would be a 

marked reduction from the 7.75% allowed in 

2003. This change could arguably prompt ADIL 

to lower its intended capital program. Such large 

movements between quinquennia may well result 

in rating volatility for BAA in the future. 

Significantly, the CAA has stated that it will not 

reconsider the level of WACC in view of the tax 

shield provided by the higher leverage ADIL 

intends to implement, or adopt a higher 

proportion of debt in the WACC calculation. This 

is a credit positive for BAA. 

The CAA has put forward indicative ranges for 

caps on airport charges at Heathrow of the retail 

price index (RPI) plus 4.0%-8.0%, compared 

with the current rate of growth in price-caps of 

RPI plus 6.5%. For Gatwick airport, the CAA has 

proposed a price-cap ranging from RPI minus 2% 

to RPI plus 2%, compared with the current rate 

of growth of RPI plus 0%. Standard & Poor’s 

does not consider that these changes will affect its 

analysis. Importantly, Heathrow will be 

authorized to continue implementing high fee 

increases. This is a credit strength, given that 

Heathrow remains the largest airport in the U.K. 

in terms of passengers, and given the significant 

capital expenditure plan underway. 

The price control proposals suggested by the 

CAA are now with the CC. Given the CC’s track 

record, we expect it to continue the supportive 

regulatory regime for investment that it delivered 


in the fourth quinquennium. 

Finally, the CAA has recommended that the 

government should consider removing the 

requirement for the CAA to set price controls at 

Stansted, and instead dedesignate the airport. In 

theory, BAA could therefore implement higher 

charges, but this may prove difficult considering 

the airport’s focus on low-cost carriers. This 

decision reflects the CAA’s acknowledgement that 

BAA currently charges below the regulator’s pricecap, 

and the view that Stansted does not have 

significant market power. The dedesignation is 

viewed as mildly positive overall, depending on 

the future competitive position of Stansted and 

how “stranded asset risk” is mitigated. We 

understand that ADIL continues to see Stansted 

airport as a core asset. 

The potential removal of Stansted from the 

regulated asset base (RAB) is unlikely to affect the 

proposed securitization of BAA, given that the 

airport only accounts for about 9% of the 

combined RAB of £11.3 billion (at March 2007). 

About £10.3 billion of regulated assets will 

remain to back the securitization financing, which 

should ensure that the transaction goes forward. 

Standard & Poor’s recognizes the importance of 

the method by which Stansted’s potential 

dedesignation will be accounted for within the 

ring-fence structure. 

Office of Fair Trading and Competition 

Commission investigation. 

The OFT launched an investigation into the U.K. 

airports sector in 2006. In December 2006, it 

reported its preliminary findings that BAA’s 

ownership of its airports, the system of economic 

regulation of airports in the U.K., and capacity 

constraints combine to prevent, restrict, or distort 

competition and referred the supply of airport 

services by BAA within the U.K. to the CC. This 

review is expected to take up to two years to 

complete. On Aug. 9, 2007, the CC released a 

statement of issues it would look at following the 

reference made to it by the OFT in March 2007. 

The CC declared it would now determine whether 

there are any features of the market that prevent, 

restrict, or distort competition, and, if so, what 

remedial action might be taken. The CC expects 

to publish for consultation in the early part of 

2008 a document setting its “emerging thinking” 

on all the key issues. It currently aims to publish 

its provisional findings around this time 

next year.

BAA has already been subject to a number of 

government sponsored studies of airports, which 

concluded previously that it would not be 

desirable to break up the airports in the southeast 

of England. The OFT referral includes the 

designated airports that are subject to an RABbased 

regulation with price-caps designed to 

offset their monopoly characteristics. We believe 

that a breakup would be negative from a rating 

perspective, as it would reduce the supportive 

portfolio diversification stemming from operating 

several airports with different airlines, traffic 

types, and capital cycles. We would expect ADIL’s 

proposed permanent financing to factor 

in any breakup of the designated airports. 

The potential rating impact would depend in 

part on the allocation of BAA’s existing debt 

postbreakup. 

Nondesignated airport regulation 

BAA’s nondesignated airports are subject either to 

much lighter economic regulation or no economic 

regulation and are therefore free to set 

airline charges directly with the customers (the 

airline users). 

Operations 

The company has strong aviation and retail 

operations, as reflected in its strong operating 

margin compared with some of its peers. External 

consultants used by the CAA for the ongoing 

regulatory review have not raised any severe 

issues in terms of operating or capital spending. 

They have, however, suggested ways to further 

improve operations. 

BAA has a good track record for capital 

projects. Phase 1 of T5, which incorporates the 

main terminal building and Satellite 1, was 

approximately 90% complete at Dec. 31, 2006. 

The project continues to make good progress and 

the development remains on budget and on 

schedule to open in March 2008. To incentivize 

further investment at Heathrow and Gatwick 

airports, the CAA is proposing that all of the £6 

billion capital expenditures incurred over the 

2003-2008 period be factored into the RAB 

and remunerated. 

Congestion and queuing times at BAA’s airports 

have been the subject of severe public discontent 

in recent months. To alleviate this, BAA is in the 

process of recruiting 1,400 extra security guards 

and opening 22 new security lanes across its seven 

U.K. airports. The company is committed to 



reducing queues to five minutes or less for 95% 

of the time. 

Capacity shortage, which is a negative rating 

factor, is being addressed. Existing planning 

approvals provide for approximate passenger 

traffic growth at Heathrow (including T5) to 90 

million (55 million capacity at the moment), 

Gatwick to about 40 million, and Stansted to 

about 25 million. 

BAA’s additional projects are to knock down 

Terminal 2 and replace it with a new terminal, 

Heathrow East. The terminal would not increase 

the capacity of the airport but would replace 

outdated buildings. Stansted Generation 2 

includes the provision of a second runway and 

terminal, with initial capacity for about 10 

million passengers per year. 

The current estimate of the net cost of the 

blight and compensation schemes for those people 

most affected by the Stansted development is up 

to £100 million. The White Paper also commits 

BAA to offering noise mitigation measures. 

Payments under the noise schemes are estimated 

at £7 million per year for the next four years and 

up to £350 million over the next 29 years for 

blight schemes. 

BAA has interests in various airports outside 

the U.K. The company also owns 50% of Airport 

Property Partnership, a property joint venture 

with Morley Fund Management that is in the 

process of being disposed as it is considered 

noncore activity. Budapest Airport was sold to a 

consortium led by Hochtief in June 2007. 

Profitability 

Airports tend to have high operating margins 

owing to growing revenues, a high proportion of 

fixed costs, and relatively low staff levels. BAA 

has demonstrated stability of earnings and cash 

flow despite adverse events. Passenger numbers, 

tariff changes, and retail activities are the main 

drivers of revenue growth. Although the 

company’s operating margins will be subject to 

pressure in the years immediately following the 

opening of its new terminal at Heathrow, BAA’s 

new owners expect profitability to eventually 

benefit from the additional capacity provided 

by T5. 

As a mechanism to encourage BAA to carry out 

its proposed investments, the CAA is considering 

maintaining the price profiling (or revenue 

advancement), which was incorporated in the 

Heathrow price review for 2003-2008. This 



BAA Ltd. amounts 


allows a proportion of the costs associated with a 

future investment (depreciation) to be recovered 

before that new investment comes into operation. 

In addition, assets are remunerated during the 

course of construction at the regulatory cost of 

capital. This mechanism has significantly reduced 

risk in the T5 investment. Although the recovery 

of 75% of incremental security costs incurred in 

the event of additional security requirements 

(subject to minimal costs) being introduced by the 

government is viewed favorably, this is lower than 

in previous regulatory reviews. 

Although historically BAA has achieved or 

beaten operating cost forecasts assumed in the 

regulatory review, the group has underperformed 

in the current regulatory period due to new legal 

security requirements, market-driven costs such as 

utilities and business rates, and White Paper 

obligations on noise and blight. In the 12 months 

--12 months to Dec. 31, 2006-- 


to December 2006, the adjusted operating margin 

before depreciation was 42.1%. In previous years, 

margins have ranged close to or above 45%. 

Operating income in 2006 was affected by 

reorganization costs, bid advisory costs, staffrelated 

costs due to the change in ownership, and 

costs incurred to ensure that T5 becomes 

operational in March 2008. An increase in 

pension contributions put further pressure on 

operating costs. 

Financial Risk Profile: High Leverage 

Reflects Capital Returns, Expected 

Releveraging After Takeover, And Weak 

Credit Metrics 

BAA’s weakened financial profile reflects the 

company’s debt-funded capital program and 

limited financial flexibility. 

Table 1 - Reconciliation Of BAA Ltd. Estimated Amounts With Standard & Poor's Adjusted Amounts (Mil. £)* 

Operating Operating Operating Cash flow Cash flow 

Shareholders' income income income Interest from from Capital 

Debt equity (before D&A) (before D&A) (after D&A) expense operations operations expenditure 

Reported 6,392.0 6,339.0 972.0 972.0 702.0 159.0 558.0 558.0 1,106.0 

Standard & Poor's adjustments 

Operating leases 

Postretirement 

895.9 -- 72.0 53.8 53.8 53.8 18.2 18.2 16.9 

benefit obligations 

Additional items 

162.0 -- 4.0 4.0 4.0 -- (4.9) (4.9) -- 

included in debt 192.0 -- -- -- -- -- -- -- -- 

Capitalized interest 

Share-based 

-- -- -- -- -- 137.0 -- -- -- 

compensation expense 

Reclassification of 

nonoperating income 

-- -- -- 5.0 -- -- -- -- -- 

(expenses) 

Reclassification of 

working-capital 

-- -- -- -- 29.0 -- -- -- -- 

cash flow changes -- -- -- -- -- -- -- 48.0 -- 

Minority interest -- 10.0 -- -- -- -- -- -- -- 

Other -- -- 31.0 31.0 (40.0) 50.0 192.0 191.0 399.0 

Total adjustments 1,249.9 10.0 107.0 93.8 46.8 240.8 205.3 252.3 415.9 

Standard & Poor's adjusted amounts 

Operating 

Cash 

flow Funds 

income Interest from from Capital 

Debt Equity (before D&A) EBITDA EBIT expense operations operations expenditures 

Adjusted 7,641.9 6,349.0 1,079.0 1,065.8 748.8 399.8 763.3 810.3 1,521.9 

*Please note that two reported amounts (operating income before D&A and cash flow from operations) are used to derive more than one Standard & Poor's-adjusted amount (operating income before 

D&A and EBITDA, and cash flow from operations and funds from operations, respectively). Consequently, the first section in some tables may feature duplicate descriptions and amounts.

Accounting 

BAA changed its reporting date to Dec. 31 

(previously March 31) to align with Grupo 

Ferrovial S.A., its ultimate majority shareholder. 

Auditors issued an unqualified audit report for 

the last fiscal period. 

The consolidated financial statements for BAA 

Ltd. (formerly BAA PLC) are prepared in 

accordance with IFRS and under the historical 

cost convention, with the exception of investment 

properties, available-for-sale assets, derivative 

financial instruments, and financial liabilities that 

qualify as hedged items under a fair value hedge 

accounting system. 

During the course of 2006, BAA changed its 

accounting treatment for joint venture entities to 

proportionately consolidate the financial 

performance for the reporting period and the 

financial position at Dec. 31, 2006 (previously 

joint venture entities were equity accounted). 

This change in policy has no impact on net profit 

or reserves. 

The financial information presented in this 

report is based on the segregation of the fourth 

quarter of the fiscal year ended March 2006 from 

the financial report for the nine months to 

December 2006, and reflects the balance sheet at 

December 2006. Comparability with the fiscal 

year ended March 2006 must be considered in 

view of the three-month crossover. 

The main adjustments to the company’s 

reported debt figures concern leases, 

postretirement obligations (£192 million), and 

contingent liabilities. 

BAA has changed the disclosure of its lease 

obligations under IFRS. Comparing the previous 

2004/2005 accounts with the 2005/2006 

accounts, the amounts payable in 2005/2006 did 

not correlate to the previous disclosure or the 

actual charge in the accounts. The accounts for 

the year to December 2006 (with restated figures 

at March 2006) show a large lease liability. For 

comparison purposes, the adjustment of future 

lease obligations for the net present value at 6% 

has also been made for the years ended March 

2005 and March 2006. 

Our adjustments to operating income (before 

D&A) and EBITDA (see table 1 on previous 

page) reflect three key components: the operating 

income contribution for three months (£216 

million) less the gain on investments (£206 



million) plus the derivatives losses (£21 million) 

recognized in operating income. The adjustments 

to EBIT reflect the same items along with three 

months of depreciation (£81 million) and interest 

income (£10 million). The adjustments to interest 

expense, cash flow from operations, funds from 

operations, and capital expenditure relate entirely 

to the three-month pro forma adjustment. 

Corporate governance/Risk tolerance/ 

Financial policies 

ADIL’s strategy and intention is to migrate 

existing bondholders into an investment-grade 

ring-fenced entity backed by BAA’s three 

designated airports. BAA’s other airports in the 

U.K. (Southampton, Aberdeen, Glasgow, and 

Edinburgh) will remain outside of the ringfence 

and are expected to be financed on a standalone 

basis. 

We expect the future ring-fenced structure 

financing to be supported by: 

• A strong overall covenant package; 

•Limitations on additional debt and business 

activities, such as a rating confirmation 

requirement for acquisitions above certain 

thresholds (the latter creating certainty that 

the revenue profile will not change); 

• Restrictions on upstream distributions 

outside the ring-fence; 

•Likely achievable fixed and floating charges 

on the assets of the three designated 

airports; and 

•The stability provided by BAA’s designated 

airports business. 

BAA’s main financial policy objectives are: 

• To maintain a minimum of 70% of existing 

debt on fixed rates. 

• To use foreign currency forward contracts to 

hedge capital expenditure in foreign 

currency once a project is certain to go 

ahead. At December 2006, there were no 

significant unmatched exposures. 

• To ensure that the company is not exposed 

to excessive refinancing risk in any one year. 

In addition: 

•Covenants are standardized wherever 

possible and are monitored on an ongoing 

basis. BAA continues to comply with all 

borrowing obligations and financial 

covenants. 




The treasury function is not permitted to 

speculate in financial instruments. An interim 

dividend of £165 million was proposed for the 

year ended March 31, 2006, and was paid during 

the nine-month period to Dec. 31, 2006. Further, 

an interim dividend of £78 million was paid to 

ADIL out of postacquisition profits on Nov. 11, 

2006. Also, BAA made a £114 million loan to 

ADIL in 2006. 

Cash flow adequacy 

The high operating margins and the relatively 

stable and predictable cash flows produced by 

BAA’s diversified airports are a significant 

credit strength. 

The £9 billion-plus 2007-2018 investment 

program for the three southeast England airports 


will continue to drive BAA’s financial risk profile 

for the next 10 years. Standard & Poor’s expects 

free cash flow generation to be negative during 

this period. From a credit perspective, the ability 

to recover the cost of investment in the course of 

construction is positive as it allows BAA to collect 

revenues associated with long-term projects before 

completion, boosting operating cash flow and, 

therefore, reducing the impact of the long-term 

investment plan on the company’s financial 

profile. BAA has publicly stated that investments 

contemplated in the White Paper will only be 

made if future regulatory determinations are 

supportive, and if there are appropriate levels of 

demand to support the investment without 

putting the group’s financial robustness at risk. 

Adjusted FFO coverage of interest and debt in 

--12 months to Dec. 31, 2006-- --Fiscal year ended Dec. 31, 2006-- 

BAA Ltd.¶ N.V. Luchthaven Schiphol Aeroports de Paris 

Rating as of Aug. 13, 2007 BBB+/Watch Neg/NR AA-/Negative/-- AA-/Stable/-- 

(Mil. mixed currency) GBP EUR EUR 

Revenues 2,564.0 1,036.7 2,076.8 

EBITDA 1,065.8 440.4 665.1 

Net income from continuing operations 463.0 526.9 152.1 

Funds from operations (FFO) 810.3 348.6 537.7 

Cash flow from operations 763.3 359.3 464.0 

Capital expenditures 1,521.9 241.4 712.5 

Free operating cash flow (758.6) 117.9 (248.5) 

Discretionary cash flow (1,001.6) 62.5 (311.7) 

Cash and investments 93.0 257.1 509.2 

Debt 7,641.9 1,075.0 2,682.1 

Common equity 6,339.0 2,702.8 2,794.6 

Adjusted ratios 

EBITDA/sales (%) 41.6 42.5 32.0 

Operating income/sales (%) 42.1 42.8 32.0 

EBIT interest coverage (x) 1.9 5.1 3.7 

EBITDA interest coverage (x) 2.7 7.3 5.6 

Return on capital (%) 5.0 8.5 8.2 

FFO/debt (%) 10.6 32.4 20.0 

Cash flow from operations/debt (%) 10.0 33.4 17.3 

Free operating cash flow/debt (%) (9.9) 11.0 (9.3) 

Debt/EBITDA (x) 7.2 2.4 4.0 

Debt/total capital (%) 54.6 28.3 49.0 

Ratios before adjustments for postretirement obligations 

Table 2 - BAA Ltd. Peer Comparison* 

Operating income/sales (before D&A) (%) 41.9 42.9 30.8 

EBIT interest coverage (x) 1.9 5.3 4.0 

FFO/debt (%) 10.9 33.8 22.3 

Debt/EBITDA (x) 7.0 2.3 3.8 

Debt/total capital (%) 54.1 27.6 46.5 

*Fully adjusted (including postretirement obligations). ¶Excess cash and investments netted against debt.

the 12 months to December 2006 at 10.6% and 

2.7x were quite similar to those at fiscal year-end 

March 2006 (10.8% and 2.8x, respectively). 

The debt-financed acquisition of BAA by ADIL 

and expected refinancing will have a significant 

impact on cash flow adequacy measures. 

Although financial ratios are likely to be weak, 

they should be interpreted in light of BAA’s 

relatively low business risk and the transaction’s 

structural features. We would expect BAA to fund 

its future capital investment program in respect of 

the designated airports through further debt 

issuance from the ring-fenced designated airports, 

limiting the future cost of debt. 

Capital structure/Asset protection 

Leverage is forecast to increase as ongoing capital 

expenditure will be debt-financed. Future ratings 

will be constrained by an anticipated aggressive 

capital structure, moderate debt protection 

measures, and the ongoing need to raise debt to 

finance capital expenditures. 

At Dec. 31, 2006, gross unadjusted debt was 

£6.4 billion, as at March 31, 2006. Adjusted debt 

to capitalization in the 12 months to December 

2006 increased to 54.6%, from 53.3% at 

March 2006. 

Table 3 - BAA Ltd. Financial Summary 



BAA’s debt structure was adequate at Dec. 31, 

2006, with 80% of debt maturing in more than 

five years. Of the debt portfolio, 86% was at 

fixed interest rates. 

During the nine months to Dec. 31, 2006, 

ADIL acquired BAA’s outstanding convertible 

bonds (£424 million 2.94% and £425 million 

2.625%). Unless previously redeemed or 

converted, BAA will redeem the bonds at par on 

April 4, 2008, and Aug. 19, 2009, respectively. 

At year-end 2006, secured debt was marginal at 

£234 million, out of gross unadjusted debt of 

£6.4 billion. Structural subordination for 

unsecured lenders is therefore minimal. 

BAA’s long-term bonds benefit from upstream 

guarantees from Heathrow, Gatwick, and 

Stansted. Those due in 2016, 2021, 2028, and 

2031 also carry interest coverage and gearing 

covenants, but do not contain negative pledge 

clauses. Under the terms of the ADIL senior and 

junior finance documents, BAA Ltd., as an 

obligor, jointly and severally guarantees the 

ADIL senior and subordinated facilities. The 

maximum value of this guarantee is limited by the 

threshold at which the financial and other 

covenants contained in the existing bonds would 

be breached. 

--12 months to Dec. 31-- --Fiscal year ended March 31-- 

(Mil. £) 2006 2006 2005 2004 2003 

Rating history A/Watch Neg/A-1 A/Watch Neg/A-1 A+/Stable/A-1+ A+/Stable/A-1+ AA-/Negative/A-1+ 

Revenues 2,564.0 2,313.0 2,115.0 1,970.0 1,909.0 

Net income from continuing operations 463.0 531.0 672.0 377.0 374.0 

Funds from operations (FFO) 810.3 738.3 732.4 680.0 636.5 

Capital expenditures 1,521.9 1,502.2 2,288.9 1,314.6 719.6 

Free operating cash flow (758.6) (805.9) (1,597.5) (680.5) (96.1) 

Discretionary cash flow (1,001.6) (1,036.9) (1,811.5) (886.5) (294.1) 

Cash and investments 93.0 83.5 83.5 890.0 1,156.0 

Debt 7,641.9 6,842.7 4,381.7 3,983.9 3,506.1 

Common equity 6,339.0 5,982.0 5,623.0 5,018.0 4,575.0 

Total capital 13,990.9 12,834.7 10,013.7 9,009.9 8,089.1 

EBIT interest coverage (x) 1.9 2.3 3.7 3.2 3.2 

EBITDA interest coverage (x) 2.7 3.0 4.7 4.1 4.0 

FFO interest coverage (x) 2.7 2.8 3.3 3.9 3.9 

FFO/debt (%) 10.6 10.8 16.7 17.1 18.2 

Discretionary cash flow/debt (%) (13.1) (15.2) (41.3) (22.3) (8.4) 

Net cash flow/capital expenditure (%) 37.3 33.8 22.6 36.1 60.9 

Debt/total capital (%) 54.6 53.3 43.8 44.2 43.3 

Return on common equity (%) 7.5 9.2 12.6 7.9 8.0 

Common dividend payout ratio (unadjusted) (%) 16.8 45.8 33.8 56.2 54.0 




The 2012, 2013, 2014, 2018, and 2023, and 

convertible bonds contain a negative pledge 

clause, meaning that, as long as these bonds 

remain outstanding, the issuer will not permit its 

assets to be pledged in favor of any new bonds 

with a tenor of less than 20 years, unless the 

bonds are secured equally. Limited protection is 

also derived from a put option, under which bond 

investors can sell the bonds back to BAA if 

airport operations cease to be the company’s 

major business and if this results in the long-term 

corporate credit rating falling below ‘BBB-’. 

The £1 billion revolving credit facility was 

cancelled on Aug. 21, 2006. BAA is a joint 

obligor with its 100% parent ADIL on a £2.25 

billion facility maturing in April 2011. At Dec. 

31, 2006, £200 million had been drawn on 

the facility. ■ 



Sept. 19, 2007 



Paris, 

(33) 1-4420-7316 

Michela Bariletti, 

London, 

(44) 20-7176-3804 



London, 

(44) 20-7176-3528 

CHANNEL LINK ENTERPRISES FINANCE PLC 

Transaction Summary 

Standard & Poor’s Ratings Services assigned 

credit ratings to the secured index-linked, secured 

floating-rate and secured fixed-rate notes issued 

by Channel Link Enterprises Finance PLC, a 

public limited liability company incorporated in 

England and Wales. 

At closing, the original lenders transferred the 

original loan and the rights attached to it to 

Channel Link Enterprises Finance PLC. 

The ‘AAA’ ratings on the class G notes reflect 

the unconditional guarantee provided by AMBAC 

Assurance U.K. Ltd. (AMBAC) for the class G1 

and G4 notes, FGIC UK Ltd. (FGIC) for the class 

G2 and G5 notes, and Financial Security 

Assurance (U.K.) Ltd. (FSA) for the class G3 and 

G6 notes. The underlying rating assigned to the 

class G1, G2, G3, and G4 notes is ‘BBB’. In 

addition, the rating assigned to the class A notes 

is ‘BBB’. 

The ‘BBB’ ratings reflect, among other things: 

• For the first time, the senior-loan leverage 

resulting in sustainable debt levels for the 

company under steady operations; 

• Forecasted cash flow generation, which 

should provide some cushion for slowdowns 

limited in magnitude and in time; 

• The concession to operate the tunnel, which 

runs for another 80 years until 2086; 

• Strong operating margins: the EBITDA 

margin for Eurotunnel has consistently been 

over 50% since 1999; and 

• Limited capital expenditure requirements 

resulting in positive free cash flow. 

On the issue date, the issuer also issued 

floating-rate liquidity notes to fund the liquidity 

Transaction Key Features 

Transaction Summary 



reserve accounts. The payment to the liquidity 

reserve accounts in case of funds withdrawn, and 

the interest and principal on the liquidity notes, 

rank senior to the class G and class A notes. The 

rating assigned to the sterling and euro liquidity 

notes is ‘A-’. The higher ratings assigned to the 

liquidity notes reflect, among other things, their 

seniority in the waterfall and their better 

recovery potential. 

Notable Features 

To rate the notes, Standard & Poor’s applied a 

mixed approach combining corporate/concession 

financing to reflect the borrower’s characteristics 

(Eurotunnel Group, an infrastructure provider 

operating under a concession) and structured 

analysis (reflecting the repackaging of the 

borrower’s loan). 

The analysis does not rely on looking through a 

post-insolvency scenario, as the underlying ‘BBB’ 

rating on the notes is below Standard & Poor’s 

estimate of the borrower’s business risk, the latter 

classified as satisfactory to strong (BBB+/A-). As 

such, this is not a standard corporate 

securitization cash flow transaction. In standard 

cash flow corporate securitizations, where the 

rating on the notes is typically above the business 

risk of the underlying entity, noteholders normally 

rely on enforcement of security (such as step-in 

rights and the appointment of a receiver) to take 

control over the company in the event of 

insolvency, and repay the rated debt. 

For Channel Link Enterprises Finance PLC, 

Standard & Poor’s analysis does not rely on the 

post-insolvency enforcement of the security. 

There is no right to appoint a receiver in France 

as there is in the U.K. As regards step-in rights, 

Closing date Aug. 20, 2007 

Collateral A permanent facility to the Channel Tunnel Group Ltd. (sterling tranches) and France 

Manche S.A. (euro tranches). The U.K. security includes first-fixed and first-floating 

charges over freehold and leasehold properties, charges and assignment over the principal 

project agreement and insurances, charges over bank accounts and intellectual properties, 

and a first-floating charge over all present and future assets. In France, security includes 

security over debt, pledges over bank accounts, trademarks, other intellectual property, 

and over shares in the Eurotunnel group members in France. 

Countries of origination U.K. and France 

Sterling floating-rate liquidity notes 

(Mil. £) 175 

Euro floating-rate liquidity notes 

(Mil. € ) 160 




Class Rating* Amount Interest** Legal final 

(mil.) maturity 

G1¶ AAA§, (SPUR BBB) £300 Formula that accounts for relevant 

index-linked UKTi and interest rate 

of 3.487% 

June 30, 2042 


index-linked UKTi and 3.487% 

June 30, 2042 


index-linked UKTi and 3.487% 

June 30, 2042 

G4 AAA§, (SPUR BBB) € 73 Formula that accounts for relevant 

index-linked OATi and 3.377% 

June 30, 2041 



June 30, 2041 



June 30, 2041 

A1 BBB £400 6.341% June 30, 2046 

A2 BBB € 645 5.892% June 30, 204 

A3 BBB £350 Six-month LIBOR plus 1.25% June 30, 2050 

A4 BBB € 953 Six-month EURIBOR plus 1.25% June 30, 2050 

Sterling liquidity notes A- £175 Six-month LIBOR plus 0.60% Dec. 30, 2050 

Euro liquidity notes A- € 160 Six-month EURIBOR plus 0.60% Dec. 30, 2050 

R NR 

*Standard & Poor’s ratings address timely interest and ultimate principal on the notes. 

¶The margin is 3.47% until June 30, 2009 and 2.887% thereafter. 

§The ‘AAA’ ratings are supported by the unconditional guarantee provided by AMBAC Assurance U.K. Ltd. for the class G1 and G4 notes, FGIC UK Ltd. for the 

class G2 and G5 notes, and Financial Security Assurance (U.K.) Ltd. for the class G3 and G6 notes. 

**Subject to a step-up fee from July 30, 2012 for the class A3 and A4 notes. As part of Standard & Poor’s analysis, the step-up fee was modeled as being 

fully subordinated to the payments on all the classes of notes and not rated. 

NR--Not rated. 

Standard & Poor’s notes that, although there are 

arguments to sustain the view that the lenders’ 

right of substitution under the concession should 

remain enforceable in the insolvency of the 

borrower, this has never been tested and therefore 

is not a determinant of the rating. Hence, the 

rating approach is closer to a concession or 

corporate financing than a traditional 

securitization. 

The rating approach is also reflected in the 

transaction’s leverage. Compared with traditional 

corporate securitization transactions, the leverage 

is high given Eurotunnel’s business risk, and the 

legal and structure features. Conversely, other 

infrastructure operators can bear similar 

leverages; for instance, Autoroutes Paris-Rhin- 

Rhone’s (APRR) facility is rated ‘BBB-’ with a 

maximum consolidated leverage of about 11.2x 

(in 2006) and minimum DSCR of 1.31x (in 

2012). APRR is the third-largest toll road 

operator in Europe, with a network of 2,205 

kilometers in service, and is under concession 

until 2032. 

Ratings Detail 


In the project finance market, transactions with 

higher leverages have reached investment grade. 

For instance, 407 International Inc. (a toll road in 

Canada) had total debt/EBITDA of about 12.7x 

at the end of 2006, including subordinated debt. 

The senior rating is ‘A’, while the rating is ‘BBB’ 

for subordinated debt. The subordinated debt was 

stripped of most of its covenants (no pledge of 

shares) and the rating resides mostly on strong 

coverage, and solid performance and demand 

characteristics. Total DSCR (including notional 

amortization of principal) is estimated to be 1.4x 

in 2009 and 2010. Debt amortizes in 2039 for a 

99-year concession. 

Supporting Ratings 

Institution/role Ratings 

Deutsche Bank AG as issuer bank account 

provider and hedging provider 

AA/Stable/A-1+ 

Goldman Sachs Group Inc. as hedging provider AA-/Stable/A-1+ 

AMBAC Assurance U.K. Ltd. AAA/Stable/-- 

FGIC UK Ltd. AAA/Stable/-- 

Financial Security Assurance (U.K.) Ltd. AAA/Stable/--

Strengths, Concerns, And Mitigating Factors 



Strengths: 

■ The business risk profile is considered “Satisfactory To Strong” (equating to a high ‘BBB’ to low 

‘A’ category) based on long concession, high profitability, and strong free cash flow generation. 

■ The management has a proven track record, with the successful implementation of significant 

cost reductions and revenue-enhancing strategy based on market segmentation. 

■ Eurotunnel has the exclusive concession to operate the only fixed transportation link between 

the U.K. and France, which runs for another 80 years until 2086. 

■ Strong operating margins: EBITDA margin for Eurotunnel has consistently been over 50% 

since 1999. 

■ There are limited capital expenditure requirements resulting in positive free cash flow. 

Concerns: 

■ The transaction is highly leveraged. The £2.9 billion of novated debt represents about 10.5x 

2007 forecast EBITDA, increasing to £3.0 billion or 11x forecast EBITDA in 2013 due to 

debt accretion. 

■ The amortization holiday may enable distribution to shareholders in the initial years, subject 

to a dividend lock-up trigger. 

■ The transaction has a back-ended amortization profile with final maturity in 2050. 

■ There is uncertainty regarding future competitive position over the medium to long term, due 

to unpredictable behavior of competing transport modes between the U.K. and France. 

■ There is exposure to demand risk from core shuttle services and, to some extent, railway 

services, although the latter benefit from some government backing through guaranteed access 

charges. 

■ As there is no currency hedge, there might be a mismatch between funds available in 

euro/sterling and the amount paid in the respective currency. 

■ The ratings do not rely on enforcement of security, as the survivability of the issuer’s right of 

substitution post-insolvency, and the practical implementation of this right, have never 

been tested. 

Mitigating factors: 

■ The transaction’s high leverage is sustainable and should be considered in view of Eurotunnel’s 

long concession and strong business position, and of a mortgage-style amortization profile to 

alleviate refinance risk. 

■ The total senior debt will fully amortize by 2050, two years ahead of the RUC term. 

■ A payment test based on the synthetic debt-service coverage restricts distributions. 

■ The substitution right, coupled with the security package (which includes the right for the 

security trustee to appoint an administrative receiver in England), and provisions ensuring that 

the issuer retains a blocking stake in creditors’ committees, should put the issuer in a favorable 

position in restructuring negotiations. 

■ The debt breakdown between British pound sterling- and euro-denominated loans aims to 

replicate the revenue breakdown from the U.K. (in British pounds sterling) and from the 

continent (in euros). 




Transaction Background 

In November 2006, Eurotunnel’s junior- and 

senior-secured bank debt holders and trade 

creditors approved a restructuring proposal to 

reduce the company’s debt from £6.20 billion to 

£2.84 billion. The plan was put forward under 

the French “procédure de sauvegarde” granted on 

Aug. 2, 2006, by the Paris commercial court, to 

Eurotunnel and 17 related entities. This was 

followed by the approval of bondholders on Dec. 

14, 2006, the approval of the Paris commercial 

court in January 2007, and a successful share 

exchange in May 2007. 

Standard & Poor’s considers the proposed new 

financial structure as offering a credible base for 

future operations and a sustainable leverage. 

The Concession Agreement 

The Concession Agreement (CA) was signed on 

March 14, 1986 by the states and the 

concessionaires, under the Treaty of Canterbury. 

The CA expires in 2086. Initially entered into for 

a period of 55 years, the CA was extended by 10 

years and then 34 years in 1994 and 1999. 

Under the terms of the CA, the concessionaires 

have the right and the obligation, jointly and 

severally, to design, finance, construct, and 

operate Eurotunnel (the “Fixed Link”), and to do 

so at their own risk, without any government 

funds or state guarantees. 

Transaction Participants 


Tariffs and commercial policy 

The concessionaires are free to set their tariffs. 

However, they must not discriminate between 

users, notably with regard to their nationality or 

direction of travel. 

Penalties 

Any failure by the concessionaires to perform 

their obligations under the CA entitles the states 

to impose penalties after a grace period. 

Early termination of the CA and compensation 

Each of the states may terminate the CA in the 

event of a fault committed by the concessionaires 

if, within six months, the concessionaires have 

not remedied the relevant breach, and subject to 

giving prior notice to the lenders of their right of 

substitution. The CA defines a fault as a breach 

of a particularly serious nature of the 

concessionaires’ obligations under the CA, or 

ceasing to operate the Fixed Link. 

Each of the states may terminate the concession 

for reasons of national defense. In this case, the 

concessionaires may claim a compensation 

governed by the law of the relevant state. Each 

party to the CA may request the arbitration 

tribunal, established under the Treaty of 

Canterbury, to declare the termination of the CA 

in exceptional circumstances, such as war, 

invasion, nuclear explosion, or natural disaster. In 

Transaction Participants 

Borrowers The Channel Tunnel Group Ltd. (sterling tranches) and France Manche S.A. 

(euro tranches) 

Original lenders Deutsche Bank AG and Goldman Sachs International Bank 

Lead managers Deutsche Bank AG and Goldman Sachs International 

Substituted entities Sub CLEF Ltd. (the English substituted entity) and Sub CLEF S.A.S. 

(the French substituted entity) 

Issuer cash manager and issuer account provider The London branch of Deutsche Bank AG 

Security agent, note trustee, and issuer security trustee Deutsche Trustee Co. Ltd. 

Facility agent The London branch of Deutsche Bank AG 

Security trustee Deutsche Trustee Co. Ltd. 

Principal paying agent and agent bank The London branch of Deutsche Bank AG 

Borrowers’ hedge counterparties The London branch of Deutsche Bank AG and Goldman Sachs International 

Total return swap counterparties Deutsche Bank AG, London Branch and Goldman Sachs International 

Total return swap custodian Deutsche Bank Aktiengesellschaft 

Issuer corporate services provider Wilmington Trust SP Services (London) Ltd. 

Monoline providers AMBAC Assurance U.K. Ltd., FGIC UK Ltd. and Financial Security 

Assurance (U.K.) Ltd.

such cases, in principle, no compensation is owed 

to the concessionaires. However, the states may 

pay the concessionaires an amount representing 

the financial benefits, if any, that they may derive 

from the termination. 

Any termination of the CA by the states, other 

than in a situation described above, gives the 

concessionaires the right to payment of 

compensation. This compensation is for the entire 

direct and certain loss actually suffered by the 

concessionaires and attributable to the states, 

within reasonably estimated limits at the date of 

the termination, including damage suffered and 

operating losses. 

Substitution 

Article 32 of the CA provides the lenders with 

step-in or substitution rights to allow the transfer 

of the concession and the assets required to 

operate the concession to two entities owned by 

the issuer. Step-in rights are triggered by certain 

predefined events including a payment default 

under the loan, an insolvency-related event 

regarding the concessionaires, or if it appears 

from an objective test that the estimated final 

maturity date for repayment of lenders will be 

materially extended. 

The U.K. and French governments, through a 

series of government letters, have confirmed that 

the issuer is a “lender” for the purpose of 

substitution, and that the rights to operate the 

fixed link will be transferred to one French and 

one English substitution entity. 

This right of substitution would in any case be 

subject to French and U.K. government 

confirmation that the substituted entities have 

the technical and financial capabilities to 

undertake substitution--a process that can take up 

to two months. 

In addition, under the provisions of intercreditor 

arrangements, the issuer (and hence the 

noteholders) always maintains at least 51% of the 

vote in any creditors’ committee, allowing the 

creditors to retain control of any future 

insolvency/restructuring process. This ensures the 

ability to effect its step-in rights. 

Transaction Characteristics 

The debt restructuring details 

The proposed Eurotunnel refinancing plan is 

structured around the existing concessionaires 

entering into a new long-term senior loan of 



£2.84 billion, and the incorporation and 

formation of a new French holding company 

which, through an exchange tender offer, holds at 

least 93% of the current Eurotunnel group. The 

proceeds from the debt restructuring, as approved 

by the safeguard procedure, were used to repay 

Eurotunnel’s senior debt, Tier 1A, Tier 1, and Tier 

2 in cash at 100% of par including accrued 

interests (£892 million); to finance a cash 

payment to the holders of Tier 3 junior debt 

facilities; and to pay certain fees, costs and 

expenses related to the debt restructuring, 

including any interest accrued on existing 

Eurotunnel facilities. 

A subsidiary of Groupe Eurotunnel S.A. issued 

£1,275 million of notes redeemable in Groupe 

Eurotunnel S.A.’s shares (NRS) that were offered 

to the Tier 3 debt holders in exchange for their 

existing £1.78 billion of lendings, and to the 

bondholders in exchange for their part of the 

debt. NRS were issued in addition to a cash 

element paid to both parties. NRS convert into up 

to 87% of the common equity over three years; 

they are structurally and contractually 

subordinated to the senior debt. The dilution may 

be lessened, however, by the exercise of warrants 

issued to existing shareholders and bondholders, 

and the company’s ability, depending on its future 

operating performance, to repurchase the hybrid 

notes at a premium through proceeds from rights 

issues, or through the issuance of an additional 

Chart 1 

Channel Link Enterprises Finance PLC 

Debt Restructure Summary 


Termination events under the swap agreements 

are limited to failure to pay, an event of default 

and acceleration of the notes, insolvency, illegality, 

and tax events. 

There is no foreign-currency hedge, as the debt 

breakdown between British pound sterling- and 

euro-denominated loans aims to replicate the 

revenue breakdown from the U.K. (in British 

pounds sterling) and from the continent (in 

euros). This creates foreign-currency risk if the 

revenue breakdown diverges from the loans’ 

currency split. 

Borrower call option agreement 

The issuer entered into a borrower call option 

agreement with the borrower hedge 

counterparties. Under this agreement, the issuer 

has an option to purchase a defaulting receivable 

for sums due but unpaid by the borrowers under 

their hedge agreements. The purpose is to allow 

the issuer to keep the borrower hedges current 

and therefore to avoid a termination of the 

borrowers’ swaps. 

The working capital facility 

There is a provision for a € 75 million working 

capital facility. The working capital facility ranks 

pari passu to the securitized loan. 

Additional debt 

Obligors under the permanent facility, including 

the borrowers and Eurotunnel Group, can incur 

additional secured indebtedness from a third 

party in connection with certain defined 

circumstances, including: (a) any refinancing of all 

or part of the existing facility; (b) a working 

capital facility up to € 75 million; and (c) any tap 

issues or new issues, subject to compliance with 

rating and financial tests. The obligors can also 

incur unsecured financial indebtedness subject to 

certain caps, rating, and/or financial testing. 

The intercreditor agreement limits the obligors’ 

ability to incur new secured or unsecured 

indebtedness. If the principal amount outstanding 

under the permanent facility is lower than 51% of 

the aggregate principal amount of all financial 

indebtedness of the group, no member of the 

group can incur any additional debt unless the 

facility agent, on behalf of the lenders under the 

term loan agreement, is granted rights to control 

51% of the vote. 



Tranche Amount Legal maturity 

Inflation-linked loans 

A1 £750.0 2042 

A2 € 367.0 2041 

Fixed-rate loans 

Table 1 - Description Of The Structure 

Of The Facility 

B1 £400.0 2046 

B2 € 367.0 2041 

Floating-rate loans 

C1 £350.0 2050 

C2 € 953.0 2050 

Loan Characteristics 

Table 1 summarizes the structure of the facility 

and details the different tranches. The tranches 

are all pari passu obligations of the borrowers. 

Interest on the loan 

The rate of interest on the loan is the aggregate of 

the following rate: 

• From the issue date of the notes, a cash 

margin of 1.39%; 

• A rate equal to 2.097% for tranche A1; 

• A rate equal to 2.587% for tranche A2; 

• A rate equal to 5.241% for tranche B1; 

• A rate equal to 4.792% for tranche B2; 

• A rate equal to six-month LIBOR plus 2% 

from June 20, 2012 for tranche C1; 

• A rate equal to six-month EURIBOR plus 

2% from June 20, 2012 for tranche C2; and 

• Mandatory cost. 

Redemption profile 

The loans are payable according to a schedule, 

and payments start as follows: 

• Tranches A1 and A2 are paid in installments 

starting on June 20, 2018, and ending on 

June 20, 2042 and June 20, 2041 

respectively; 

• Tranches B1 and B2 are paid in installments 

starting on June 20, 2013, and ending on 

June 20, 2046 and June 20, 2041 

respectively; and 

• Tranches C1 and C2 are paid in installments 

starting on June 20, 2046 and June 20, 2041 

respectively, and ending on June 20, 2050. 


ack rolling last-twelve-month basis is at 

least 1.25x; and 

• Certain prepayments, capitalization, or 

waiver do not give rise to a tax liability. 

Synthetic DSCR is defined as the ratio of net 

cash flow (NCF) to the higher of debt service and 

synthetic debt service. NCF is defined as EBITDA, 

minus capital expenditures and working capital 

change, plus any interest revenue received. 

Synthetic debt service is defined as net finance 

charges other than the step-up amount, the 

synthetic amortization schedule of the loan, and 

any actual amortization profile of any debt 

obligation other than the loan. Synthetic 

amortization profile is modeled as if the loan was 

paid down as an annuity. 

Business Profile 

Business description 

Eurotunnel operates the Channel Tunnel between 

the U.K. (Folkestone) and France (Calais; see the 

system map in chart 5) under a concession 

granted by the U.K. and French governments until 

2086. The Dover-Calais/Dunkerque corridor (the 

“short straits”) is the shortest and most widely 

used of all cross-channel routes. 

Eurotunnel offers a service that it operates itself 

between Calais and Folkestone, and which 

Chart 5 

The Eurotunnel System 



competes directly with ferry operators in the 

transport of passengers, cars, coaches, and trucks 

in specially designed railway carriages 

(Eurotunnel’s own shuttle services generated 56% 

of € 830 million turnover in 2006). 

It also offers an infrastructure facilitating a 

direct rail link for the Eurostar trains and freight 

trains; 50% of tunnel capacity is made available 

to the British Railways Board (BRB; a U.K. 

government agency) and Société Nationale des 

Chemins de Fer Français (SNCF; the French stateowned 

railway operator). Railway revenues 

represented 42% of turnover in 2006. 

The tunnel is directly linked to the British and 

French motorway and railway networks. All rail 

traffic in the tunnel is controlled from railway 

control centers on the French and British 

terminals. 

The system comprises three tunnels. Two of the 

tunnels are single-track rail tunnels, which in 

normal service are used by trains traveling in one 

direction only. The third tunnel provides a safe 

means of emergency evacuation and access for 

maintenance of the tunnel. There are also four 

crossing points between the rail tunnels, so that 

when maintenance work is being done on a 

section of one tunnel, trains can switch to 

the other. 




Profitability: large portion of operating costs 

fixed in nature 

Standard & Poor’s forecasts the EBITDA margin 

to remain high and above 50% in the coming 

years. The yield management strategy, through 

higher load factors and efficient pricing policy, is 

expected to keep the operating margin high, with 

more revenue and yield stability than in the past. 

In addition, the DARE plan has resulted in a 

lower break-even level, meaning the company is 

in a better position to withstand any future 

economic downturn or increased competition. 

As summarized in table 2, the combined effects of 

higher revenues (up 4.7%) and well-controlled 

operating expenses (up 3.8%) led to an 11.9% 

increase in EBITDA, to €490 million in 2006. The 

EBITDA margin reached a record 59% of 

revenues in 2006, up from 55% in 2005 and 53% 

in 2004. 

On the operating expenses side, the main 

increases in energy costs (up 25%), maintenance 

costs (up 6%), and local taxes (up 7%), were 

partially offset by reductions in the cost of 

consumables (down 11%), in consultants’ fees 

(down 10%), and in employee benefit expenses 

(down 15%). 

Total revenues for Eurotunnel during the first 

half of 2007 reached £252 million, 8% down 

from the previous comparable period. Excluding 

the effect of the loss of the MUC, revenues have 

Table 2 - Eurotunnel Financial Summary 


increased by 7% on trucks, Eurostar and car 

traffic growth; operating costs have decreased 2% 

and EBITDA at 56% of revenues rose 15%. If 

this trend is maintained for the year, 2007 

revenues will exceed forecasts, resulting in higherthan-expected 

DSCR. The second half of the year 

will however include a proportion of the £88 

million restructuring costs. 

Outlook by revenue segment 

Truck shuttles. 

The growth rates in Eurotunnel volume until 

2009 are expected to be in line with GDP, 

reflecting the company’s yield focus. In the longer 

term (post-2009), Standard & Poor’s estimates 

that Eurotunnel’s market share will stabilize, 

growing by an average rate of approximately 1% 

to 2% per year. 

The company’s truck shuttle strategy is to give 

priority and cheaper prices to regular customers, 

who in return agree to forecast daily volumes. 

This policy, together with the regained control of 

distribution channels, has enabled Eurotunnel to 

match capacity with demand. As a result, load 

factors on the truck shuttle services have 

increased to 71% in 2006 from 59% in 2004; 

and revenue increased by 7% in 2006 over 2005, 

due to the increase in average prices. The first half 

of 2007 maintains strong momentum, with 

volumes up 9%, and overall shuttle revenues up 

(Mil. € ) 2006/2005 2005/2004 

Income statement (Mil. € ) Dec. 31, Dec. 31 Dec. 31, Change Change 

2006 2005 2004 

Exchange rate (€ /£) 1.462 1.465 1.466 

Revenue 830 793 789 37 4 

Operating expenses 219 211 213 7 (2) 

Employee benefit expenses 122 143 154 (22) (11) 

Operating income 490 438 421 51 17 

Depreciation 164 208 228 (45) (19) 

Current operating income 326 230 193 96 37 

Impairment of property, plant and equipment 2,490 475 (2,490) 2,016 

Other operating income (expenses) 7 (41) (68) 48 28 

Operating profit (loss) 333 (2,301) (350) 2,634 (1,951) 

Income from cash and cash equivalents 5 8 8 (2) 0 

Cost of servicing debt (gross) 492 497 501 (5) (3) 

Net cost of financing and debt service (487) (490) (493) 3 3 

Other financial income (charges) (50) (18) 6 (32) (24) 

Income tax expense 0 0 0 0 0 

Profit (loss) for the year (204) (2,808) (836) 2,604 (1,972)

8%, on the previous comparable period. 

Further downside risk cannot be excluded, 

however, and overall yields may come under 

significant pressure as ferry companies 

aggressively and increasingly compete for 

market share. 

The new approach has also yielded better 

visibility in terms of traffic forecasting, as some 

major customers have entered into multi-year 

contracts with Eurotunnel. These contracts enable 

customers to lock in their requirements in terms 

of number of crossings, and enable Eurotunnel to 

fine-tune its capacity planning. Further 

refinements of this approach are planned 

for 2007. 

Car shuttles. 

Standard & Poor’s considers that this segment 

will be relatively stable in the future. 

Eurotunnel’s share of the passenger car market 

on the short straits link has reduced to 43.5% in 

2006 from 45.5% in 2004. This was largely due 

to SpeedFerries’ entry into the market in May 

2005, to the gradual increase in Norfolkline’s 

passenger capacity in 2005 and 2006, and to the 

impact of Eurotunnel’s new commercial strategy. 

The new Eurotunnel strategy implemented 

during 2005 has focused on improving yields 

through dynamic ticket pricing after taking into 

account the load factor and time of arrival, 

changing the customer mix in favor of the nondaytrip 

passengers versus the daytrip passengers, 

and implementing a 34% reduction in capacity, 

with less availability for daytrip passengers. 

With this strategy, Eurotunnel has been able to 

increase the load factor on its passenger shuttles 

to 62.5% in 2006 from 45.1% in 2004, and car 

revenues by 10% (due to the 11% increase in the 

average yield). The first half of 2007 maintains 

strong momentum, with volumes up 8% on the 

previous comparable period. 

Coach shuttles. 

The coach market, which has declined by around 

4% per year between 1998 and 2006, is expected 

to remain a marginal contributor to revenues. The 

continuing decline is due to factors such as the 

loss of duty-free, and increased competition from 

airlines for leisure and price-sensitive non-leisure 

trips. Further decline cannot be excluded in this 

price-sensitive market. 

Eurotunnel’s share of the passenger coach 



market on the short straits link has risen to 

38.9% in 2006 from 33.5% in 2004. 

Coach revenues were down 11%, mainly due to 

lower volumes, which decreased by 13% in 2006 

and returned to a level comparable to that of 

2004. Average yields increased by a modest 2%. 

Volumes decreased by another 2% in the first half 

of 2007 on the previous comparable period. 

Railways. 

Railway revenues (including MUC payments) 

increased by 2% to €350 million in 2006. 

Excluding the MUC, the underlying increase in 

railway revenues was 7% in 2006, due in part to 

the 5% increase in Eurostar passenger traffic 

traveling through the tunnel. 

In 2007, railway revenues are not protected by 

the MUC, and are forecasted to fall by 

approximately 25% (the actual figure was 27% in 

the first half of 2007). 

Passenger rail (Eurostar). 

Standard & Poor’s expects Eurostar’s long-term 

growth to be in line with GDP, with a market 

share stabilized a couple of years after CTRL2 

(Channel Tunnel Rail Link-2). 

Eurostar has shown impressive passenger 

growth since 1997 except between 2000 and 

2003, primarily due to low-cost airlines drawing 

passengers to other destinations. The company 

has however fallen short of expected volumes, 

which were overly optimistic. Further material 

growth is not expected before November 2007, 

when Eurostar’s competitive position should 

benefit from the second phase of the U.K. highspeed 

link CTRL2 (reducing inter-capital journey 

time by an additional 20 minutes, and the 

opening of two additional stations, increasing the 

catchment area). Thereafter, extension of 

Eurostar’s rail links to Amsterdam could 

potentially add some volume. 

Growth in Eurostar traffic, which had been 

restrained by the July 2005 terrorist attacks in 

London, resumed in 2006. Paris to London 

passenger numbers were up by 4.2% in 2006, at 

5.66 million (and by 4.8% over the first six 

months of 2007, at 3.90 million). In 2006, 

Eurostar had 70.2% of the Paris to London 

passenger market. On the Brussels to London 

passenger market, the 2006 figures were 2.2 

million (up 8.5%) and 71.7% respectively. 

Eurostar, whose first-half sales were up 13.6% on 




the previous year, announced that it will increase 

the number of weekday trains it runs between 

Paris and London in February 2008, to 17 from 

15. This is positive for Eurotunnel. 

Rail freight. 

Stability of freight revenues in the short-tomedium 

term is a best-case scenario, while a 

further reduction is a more likely outcome. 

Future revenues are uncertain after the end of 

the subsidy to EWS in 2006, while the service has 

relied on state subsidy since services commenced 

in 1996. Also, the impact of the purchase of EWS 

by Deutsche Bahn AG (AA/Negative/A-1+) from 

BRB remains to be seen. 

Eurotunnel considers a possible upside, 

however. Eurotunnel intends to revive use of the 

tunnel by revising the fee structure for rail freight, 

making it cheaper for freight trains to run at 

night, while charging more at the busiest periods 

such as Friday evenings and Monday mornings. 

The move could be related to Eurotunnel’s 

intention to directly operate some cross-channel 

rail freight services (it has an operating license 

with its Europorte2 subsidiary). The group has 

purchased locomotives in the first half of 2007 

and has also ordered some additional locomotives 

to Bombardier to be used in the development of 

its rail freight activity. 

Rail freight services have tended to fare less 

well than other Eurotunnel markets. Perhaps the 

most important episode was the severe disruption 

associated with asylum seekers using trains to 

attempt to travel to the U.K. in 2001. This has led 

to freight users pulling out in favor of other 

transport alternatives, and the market has never 

really recovered. 

The volume of goods transported by freight 

trains declined by 1% compared with 2005, to 

1.57 million tons, after a 16% decline in 2005. In 

1998, 3 million tons of freight moved through the 

tunnel, which is designed to carry a maximum of 

10 million tons. In the first half of 2007, traffic 

volumes were 14% down on the previous 

comparable period. 

Competition 

Eurotunnel is the operator of an essential 

infrastructure, but its revenue streams are not as 

predictable as for toll road network, airport, or 

port operators, which benefit from the 


monopolistic nature of their industries. 

The future strategy of competitors (such as 

ferry companies and airlines) remains difficult to 

predict, meaning GDP or market growth does not 

always materialize in volume or revenue growth. 

Since 1996 (1997 for Eurostar services), truck and 

rail passenger volumes have increased, whereas 

car, coach, and rail freight volumes have tended 

to fall. 

The primary competition risks in the passenger 

market are low-cost and flag airlines and, to a 

lesser extent, ferry operators. The shuttle service 

enjoys a competitive advantage in terms of speed, 

frequency of departures, and reliability, which is 

reflected in its premium pricing. A significant 

competition risk stems from the ferry operators 

P&O, SeaFrance, Norfolkline, and SpeedFerries. 

Standard & Poor’s considers the impact on 

Eurotunnel’s truck shuttle revenues to be limited 

as a result of the successful segmentation strategy; 

the expected impact on car and coach shuttle 

revenues could be higher, and was factored in the 

base case. Eurotunnel estimates that its share of 

the accompanied truck market on the short straits 

corridor decreased to 36.2% in 2006 from 39.5% 

in 2005, reflecting its new strategy. 

Finally, freight trains compete directly with 

road transport and maritime transport on 

container ships. Intense competition in the crosschannel 

freight market between road haulage 

companies has recently put downward pressure 

on freight rates, making it more difficult for the 

railways to compete. The goods transported by 

freight trains are mainly heavy, lower-yielding 

items for which speed of delivery is not generally 

a primary consideration. 

Capital expenditure and maintenance 

Scheduled weekly maintenance of the tunnel is 

organized and structured to minimize disruption 

to commercial operations and optimize capacity 

during peak periods. 

The second cycle of rail replacement began in 

2005, and will continue until 2008 without 

disrupting commercial services. Under current 

rolling stock maintenance programs, essential 

maintenance and safety inspections are carried 

out on average every 21 days for the locomotives, 

freight shuttles, and passenger shuttles. The largescale 

maintenance program that began in 2003 is 

accelerating considerably in 2007, to restore and

enhance the reliability of equipment that is now 

approaching one-third or one-half of its overall 

useful service life. 

At present, the tunnel’s capacity does not 

constrain the development of the different types 

of traffic. In the medium or long term, capacity 

could be improved by restricting access to slow 

freight trains at peak times, and by scheduling 

trains so that they run in batteries. 

Medium-term capital expenditures are expected 

to remain at about £30 million to £40 million per 

year, and are related to maintenance and upgrade 

programs. An increase in the existing shuttle fleet 

does not form part of Eurotunnel’s current 

strategy. Eurotunnel aims to take electric power 

for the entire tunnel from the French national 

grid, which distributes lower-priced energy than 

the British grid; this requires limited investment to 

help better control unhedged electricity costs. 

At the end of July 2006, Eurotunnel and the 

railways entered into an agreement, bringing an 

end to a dispute that began in 2001 over the 

calculation of the railways’ contribution to the 

tunnel’s operating costs. This confirmed the 

decisions made for the financial years before 

2004, set out the agreement for 2005, and set the 

contributions on a fixed-payment basis for the 

Table 3 - Interest By Class Of Notes 

Notes Interest 

Class G1* Formula that accounts for relevant 


of 3.487% 



of 3.487% 



of 3.487% 

Class G4 Formula that accounts for relevant 

index-linked OATi and interest rate 

of 3.377% 



of 3.377% 



of 3.377% 

Class A1 6.341% 

Class A2 6.341% 

Class A3 Six-month LIBOR plus 1.25% 

Class A4 Six-month EURIBOR plus 1.25% 

*The margin is 3.470% until June 30, 2009 and 2.887% thereafter. 



financial years 2006 to 2014 inclusive. A 

consultation process was also established to 

determine the railway operators’ contributions to 

the renewal, and the related replacement costs. 

Insurance coverage 

Eurotunnel’s insurance program primarily 

comprises policies covering material 

damage/business interruption (including terrorism 

risk) and third-party liability. The material 

damage/business interruption policy covers for an 

amount corresponding to the “maximum possible 

loss”. The indemnification period for business 

interruption is 24 months from the start of 

the interruption. 

The most notable incident was a major fire in 

1996, which interrupted the business for several 

months, but was covered by the insurance. 

The Railways Usage Contract (RUC) 

The railways’ use of the tunnel is governed by the 

RUC, which runs until 2052. Under this 

agreement, the railways must pay Eurotunnel a 

fixed annual charge, and variable charges 

determined by reference to the number of 

passengers traveling on Eurostar and the freight 

tonnage passing through the tunnel. The variable 

charges are determined according to a toll 

formula that takes into account inflation to a 

certain extent and makes adjustments when 

specified volume thresholds are exceeded. Any 

change to the RUC requires the lenders’ approval. 

Until the end of November 2006, the railways 

had to make additional monthly payments to 

bring Eurotunnel’s annual revenue up to the 

guaranteed minimum usage charge (MUC). 

In 2006, Eurotunnel received a total of 

€350 million in payments: €255 million in 

variable charges, fixed annual charges, and 

contributions to operating costs, and €95 million 

relating to the MUC. 

Note Terms And Conditions 

Interest 

Interest is paid semiannually on payment dates 

falling on June 28 and Dec. 28 of each year. 

However, the note interest accrual dates are the 

relevant loan interest payment dates, being June 

20 and Dec. 20 of each year. The eight-day 

difference between the payment dates under the 

loans and the payment dates under the notes was 




included to allow the issuer to make a drawdown 

under the liquidity notes in the event of a 

shortfall, and to enable the trustee to serve a 

notice of demand under the financial guarantees 

in the event of a payment default under the loans. 

The interest paid by each class of notes is 

summarized in table 3 on the previous page. 

Redemption Profile 

If the issuer receives any unscheduled prepayment 

amount from the borrowers, it prepays the debt 

outstanding on a pari passu basis with the 

following priority: 

• Any amounts due and payable on the X 

certificates; 

• Any principal redemption amounts on the 

prepayment due on the corresponding 

tranches of the notes; and 

• Any make-whole prepayment to the 

corresponding tranche of notes. 

On a mandatory prepayment, the issuer prepays 

the notes pro rata, except where the prepayment 

relates to refinancing of all or any tranche of the 

permanent facility, in which case the proceeds are 

applied by the issuer to redeem the corresponding 

tranches of notes pro rata. 

Each class of notes can be paid in whole or in 

part, subject to certain prepayment penalties, and 

in a minimum amount of £5.0 million or 

€ 7.5 million. 

On a substitution event of the existing 

concessionaires and the acceleration of the 

permanent facility, the issuer sweeps cash received 

to redeem the notes, unless it can invest in 

eligible investments that replicate the payment on 

the notes. 

Early redemption and the authorized investment 

(AI) Option 

Under condition 10(h), the monolines hold an 

option that can be exercised upon a full or partial 

prepayment of the tranche A loan (that 

corresponds to class G notes at the issuer level) in 

case the proceeds from prepayment of the loan 

are not sufficient to pay the relevant note 

redemption amount plus the net present value of 

the financial guarantee fee, provided no loan 

event of default has occurred. This option allows 

the monoline to invest the amount prepaid (which 

normally would have been applied in redemption 

of the tranche G notes) in a defeasance account to 

be invested in authorized investments. Such 


investments need to produce amounts at least 

equal to amounts payable in respect of the notes 

(including the guarantee fee) on each scheduled 

payment date in respect of this principal amount 

and in respect of the relevant proportion of the 

tranche A loan prepaid. 

Practically, if the monolines exercise this option, 

they have to make sure that a defeasance account 

is opened with the issuer bank account provider 

in the name of the issuer--one for each class of G 

notes that would have been prepaid if the option 

were not exercised. In addition, a custodian is 

appointed with regard to defeasance accounts to 

hold the monoline authorized investments on the 

issuer’s behalf. 

The cash standing on these accounts together 

with the proceeds generated by the monoline 

authorized investments is taken into account in 

the waterfall for the payment of interest and 

principal of the relevant class G notes. This is 

because the loan has been prepaid and therefore 

no further interest or principal is paid by the 

borrower on that portion of the loan. 

If the tranche A1 or A2 loan has been prepaid 

in full and the authorized investment (AI) option 

has been exercised by the monolines, the trustee 

notifies the tranche G noteholders. Once the 

noteholders have been notified, within 30 days, 

they can ask to redeem the tranche G notes 

that they hold to the extent that the notes 

would have been redeemed had the prepayment 

not been the subject of the AI option. The amount 

received by the relevant tranche G noteholder 

follows the payment of amounts due to the 

relevant monoline. 

Issuers’ pre-enforcement priority of payments 

Before enforcement, the issuer applies the 

available funds plus any liquidity drawings, save 

that (i) if the monoline has exercised the AI 

option, any AI receipts generated from a certain 

defeasance account are used only to pay the 

relevant monoline or the relevant class G 

noteholder for which that account has been 

opened, and (ii) if the noteholders have 

exercised their AI option, the amounts received in 

the relevant defeasance account are used only to 

repay the relevant monoline, in the 

following order: 

• Senior expenses related to the transaction, 

including trustee fees, rating services fees, 

and corporate servicer fees, total return

swap custodian, plus any moneys to be paid 

into the issuer’s expenses reserve accounts 

and any amounts to be credited to the 

liquidity accounts up to the required 

liquidity amount; 

• Any interests due on the liquidity notes; 

• Any principal due on the liquidity notes; 

• Any amount due to the TRS counterparties; 

• Any amount due to the borrower hedge 

counterparties; 

• Pro rata and pari passu, according to the 

respective amounts; 

• Any interest due or accrued, any principal, 

any amount in excess of the par amount 

(always excluding step-up fees) on the 

tranche A notes, and any counterparty fixedrate 

note payment under the margin basis 

swap. All such amounts are applied pro rata 

and pari passu to all tranche A notes, but 

within each tranche applied according to the 

following order: 

♦ Interest due and accrued; 

♦ Principal due; and 

♦ The amount in excess of the par amount 

upon early redemption and any 

counterparty fixed-rate note payment 

under the margin basis swap. 

• For each class G note depending on the 

monoline, the aggregate of: (i) guarantee fees 

and other amounts then due to the relevant 

monoline, taking into account any AI receipt 

for that amount; (ii) all amounts of interest 

due or taking into account any AI receipt for 

that amount; (iii) any principal taking into 

account any AI receipt for that amount; and 

(iv) any amounts in excess of the indexed 

par amount payable on early redemption 

due and payable on the relevant tranche G 

notes, taking into account any AI receipt for 

that amount. This amount is applied 

pro rata and pari passu for the relevant 

tranche G notes, but in the following order 

of priority: 

♦ Guarantee fees and other amounts due to 

the relevant monoline; 

♦ Interest due and accrued on the relevant 

tranche G note; 

♦ Any amounts to be reimbursed to the 

relevant monoline with regard to any 

interest paid under the guarantee; 

♦ Scheduled principal due on the relevant 

tranche G note; 





scheduled principal paid under the 

guarantee; 



unscheduled principal paid under the 

guarantee; 

♦ Any amount of unscheduled principal 

due to the relevant tranche G notes; and 

♦ Any amount in excess of the par amount 

upon early redemption on the relevant 

tranche G note. 

• Step-up amounts on the class A3 and class 

A4 notes; 

• Additional amounts including withholding 

tax gross-up; 

• Any subordinated amounts to the hedge 

counterparties; and 

• The amount in the issuer’s transaction 

account to the holder of the class R 

certificates, once all the amounts on the 

notes listed above have been paid in full. 

The issuer’s post-enforcement waterfall is the 

same as the issuer’s pre-enforcement priority of 

payments, except for additional payments to the 

trustee on enforcement. 

Notes’ events of default 

The issuer’s events of default are limited to: 

• Nonpayment under the notes; 

• Failure to comply with the transaction 

documents; 

• Misrepresentation; and 

• Insolvency. 

Controlling creditors 

The controlling creditors are the monolines for as 

long as the wrapped tranches G1, G2, G3, and 

G4 are outstanding, or any payment due to the 

monolines is still outstanding. Once the tranche G 

notes have been redeemed in full and no further 

payments are due to the monolines, the tranche 

A1 and A2 notes become the controlling creditors. 

When the tranche A1 and A2 notes have been 

fully redeemed, the control passes to the tranche 

A3 and A4 noteholders. Once all the tranche G 

and A notes are redeemed, the trustee acts on 

behalf of the liquidity noteholders. 




Credit And Cash Flow Evaluation 

Standard & Poor’s analysis focused on a stressed 

business plan and EBITDA levels from the 

management’s base case. The company’s case that 

was used for the debt restructuring was 

elaborated in 2005 on reasonable assumptions. 

Standard & Poor’s implemented a 20% haircut 

to the net present value (NPV) of the company’s 

net cash flow (NCF) (equivalent to 23% of the 

sum of revenues) on the life of the transaction. In 

this case, the business grows on average by a 

nominal 2.2% per year. Bearing in mind that 

Eurotunnel’s management case is already 

operating at a fairly low level, Standard & Poor’s 

estimates that the level of stress implemented is 

commensurate with a ‘BBB’ rating. 

Eurotunnel’s significant tax loss carry-forward 

allows all the pre-tax cash flow to be used for 

NCF DSCR (scheduled) 


debt service in the first 10 years or so. 

NCF is used for the DSCR calculation. At the 

borrower level, under the management base case, 

the minimal scheduled NCF DSCR is at 1.48x 

(first year); it then improves, reflecting the 

expected volumes and cash flow growth. Under 

Standard & Poor’s stressed case, the ratio reaches 

a minimum of 1.36x in year six when principal 

amortization kicks off. This is a low but 

acceptable ratio for a concession with 

volume risk. That is above the 1.1x event of 

default covenant. 

The results from the cash flow analysis are 

shown in table 4. 

As a result of Standard & Poor’s cash flow 

analysis, £2.9 million (or 10.5x forecast EBITDA) 

is considered commensurate with a ‘BBB’ rating. 

Given the hybrid nature of the business, the 

Table 4 - Cash Flow Analysis Compared Outcomes Under Management And Standard & Poor’s Cases 

June 30, June 30, June 30, June 30, June 30, June 30, June 30, June 30, June 30, June 30, 

2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 

Management 

case (x) 

Standard & Poor’s 

1.48 1.54 1.62 1.67 1.75 1.59 1.63 1.73 1.90 2.05 

case (x) 1.47 1.44 1.46 1.49 1.53 1.36 1.40 1.44 1.48 1.53 

Debt/(EBITDA-essential capex) 

Management 

case (x) 


12.53 12.11 11.54 11.18 10.72 10.28 10.01 9.41 8.52 7.89 

case (x) 12.64 12.90 12.81 12.53 12.27 11.95 11.58 11.22 10.87 10.52 

Synthetic DSCR (NCF/(Higher of actual and synthetic DS)) 

Management 

case (x) 


1.33 1.37 1.45 1.50 1.56 1.59 1.63 1.73 1.90 2.05 

case (x) 

NCF ICR 

Management 

1.31 1.29 1.30 1.33 1.36 1.36 1.40 1.44 1.48 1.53 

case (x) 


1.48 1.54 1.62 1.67 1.75 1.82 1.88 2.01 2.23 2.42 

case (x) 

(FFO + interest)/interest 

Management 

1.47 1.44 1.46 1.49 1.53 1.56 1.62 1.68 1.74 1.80 

case (x) 


1.75 1.80 1.92 1.99 2.00 2.07 2.17 2.28 2.42 2.58 

case (x) 

FFO/Net debt 

Management 

1.72 1.70 1.68 1.70 1.72 1.76 1.82 1.88 1.95 2.02 

case (%) 


9.2 9.4 10.0 10.4 10.4 10.8 11.3 11.9 12.5 13.3 

case (%) 9.1 8.9 8.8 8.9 9.0 9.2 9.5 9.8 10.1 10.4

length of the concession, and its bi-national 

economics, it is impossible to find a suitable peer 

to Eurotunnel. 

Accounting Issues 

Since December 2005, Eurotunnel Group’s 

financial statements have been prepared in 

accordance with IFRS. 

Going concern 

The auditors and Commissaires aux Comptes 

have reported on the 2006 accounts. Their report 

contained matters of emphasis relating to going 

concern, the valuation of property, plant, and 

equipment, the consequences of the 

implementation of the safeguard plan on 

the accounts, and the nonapproval of the 

2005 accounts. 

Treatment of the accounts on a going concern 

basis depends on the full implementation of the 

safeguard plan, which seems increasingly likely 

now that the exchange tender offer has been 

successful, with 93% of the share capital finally 

tendered. Going concern involved, notably, the 

drawing of the term loan (this has now been 

successfully implemented), and the failure of any 

legal action aimed at blocking the safeguard plan 

(all recourses seem to have been rejected). If all of 

the elements of the safeguard plan are not put into 

place, Eurotunnel’s ability to trade as a going 

concern would not be assured. The accounts 

would be subject to certain adjustments, whose 

amounts cannot be measured at present. The 

adjustments would relate to the impairment of 

assets to their net realizable value, the recognition 

of liabilities, and the classification of noncurrent 

assets and liabilities as current assets and 

liabilities. The asset value on liquidation has been 

estimated at £890 million by the valuer/auctioneer 

appointed by the safeguard procedure. 

Impairment of property, plant, and equipment 

Since 2003, the group has applied IAS 36 

methodology, which requires the net book value 

of assets to be compared with discounted future 

operating cash flows. The application of this 

standard at Dec. 31, 2005 gave rise to a value in 

use £1.75 billion lower than the net book value of 

the assets, and led to an impairment charge for 

this amount in the 2005 accounts. Impairment 

charges for £1.3 billion and £395.0 million were 

already made in the 2003 and 2004 accounts. 



The recognition of impairment charges at Dec 

31, 2005 caused Eurotunnel’s main companies to 

have negative total equity. Under the safeguard 

plan, these companies’ equity was reconstituted 

through debt capitalization after the tender offer. 

In 2006, Eurotunnel did not make any 

impairment charge. The depreciation charge 

decreased by 21% in 2006 following the 

impairment charge in 2005. 

Recovery Rating Analysis 

Standard & Poor’s assigned a recovery rating of 

‘2’ to the €2.84 billion senior secured loans. This 

indicates Standard & Poor’s expectation of 

substantial (70% to 90%) recovery of principal in 

the event of a payment default. 

Approach 

For the loan recovery estimate, Standard & Poor’s 

combined an NPV approach (akin to project 

finance transactions) with a debt multiple 

approach (as for corporates), reflecting the hybrid 

nature of Eurotunnel. 

Standard & Poor’s used an enterprise valuation 

based on going concern because it considers that 

greater value will remain in the business if it is 

reorganized rather than liquidated. 

Based on the live example of Eurotunnel’s debt 

negotiations and financial restructuring between 

2005 and 2007, Standard & Poor’s assumes that 

an event of default at the borrower level would be 

followed by a successful negotiation with the 

creditors, leading to a consensual debt 

restructuring instead of a substitution. The new 

debt structure is becoming much simpler, favoring 

a consensual restructuring. 

Payment default scenario 

Standard & Poor’s simulated payment default 

assumes a severe traffic shock in 2013, leading to 

a borrower’s default at the time of the first 

principal payment that year. 

In 2013, the borrower’s total debt service will 

be about £182 million; NCF needs to fall to £200 

million for an event of default on the term loan. 

Assuming £15 million of saving could be made on 

capital and operating expenditures, the event of 

default requires EBITDA to fall to approximately 

£225 million (a 20% fall under Standard & Poor’s 

scenario, which is already stressing the 

management’s case). 

Following the event of default at the borrower’s 




level, Standard & Poor’s assumes the issuer would 

have to draw entirely on its debt-service reserve 

facility to meet its obligations on the notes. 

Estimated recovery 

Under the NPV approach, Standard & Poor’s 

assumes EBITDA to remain constant at £230 

million per year in real terms (assuming an annual 

2% inflation) from 2015 until 2050 (with capex 

and WC assumptions unchanged). The LLCR 

(loan life cover ratio) at year 2015 is at about 

0.9x, calculated with a discount rate of 8%. 

Standard & Poor’s focused more on LLCR than 

on CLCR (concession life cover ratio); although 

the concession matures in 2086 and there will be 

cash flows beyond 2050, the visibility of cash 

flows more than 40 years from now is limited 

(especially as the RUC ends in 2052). In addition, 

with regard to the period between 2052 and 

2086, the concessionaires will be obliged to pay 

to the states a total annual sum, including all 

corporate taxes of any kind, equal to 59% of all 

pre-tax profits. 

Under the debt multiple approach, Standard & 

Poor’s has estimated the recovery prospects 

based on: 

• A similar distressed EBITDA base of about 

£230 million; and 

• Average valuation multiples of 8x to 10x, 

representing a haircut with the current 

restructuring (10.5x to 11x), and more in 

line with some other infrastructure deals. 

This would result in a recovery ranging from 

about 60% to 74%. ■ 



July 23, 2007 


BBB+/Stable/-- 


Maria Lemos, CFA, 

London, 

(44) 20-7176-3749 



Paris, 

(33) 1-4420-7316 

COPENHAGEN AIRPORTS A/S 

Rationale 

The rating on Copenhagen Airports A/S (CPH) is 

supported by the airport’s strong competitive 

position as a natural hub for Scandinavian 

countries. The rating also reflects CPH’s efficient 

aviation and strong commercial operations, the 

adequate regulatory environment, strong cash 

flow generation, and sound financial flexibility. 

Offsetting these strengths are CPH’s relatively 

large proportion of transfer traffic and high 

customer concentration. The rating is also 

constrained by the company’s weakened financial 

profile following Macquarie Airports (MAp)’s 

(BBB/Stable/--) acquisition of a controlling stake in 

CPH in December 2005 through financing vehicle 

Macquarie Airports Copenhagen Holdings ApS 

(MACH; BBB+/Stable/--). As a result of this 

partial acquisition we consolidate MACH’s debt 

with CPH’s own Danish krone (DKK) 2.0 billion 

debt (about €269 million), given the level of 

MACH’s control and ownership. The acquisition 

debt is nonrecourse to CPH, however, leaving 

CPH’s pre-existing debt structure unaffected. 

Copenhagen Airport handled 20.9 million 

passengers in 2006. In the first half of 2007, 

traffic increased by 2.3% year on year on the back 

of increased flight frequencies and new routes. 

CPH enjoys a strong competitive position, 

supported by its main carrier Scandinavian 

Airlines (SAS), which uses the airport as its 

regional hub. Nevertheless, CPH’s proportion of 

transfer traffic has been declining since 2003, 

albeit remaining high at about 30%, which 

Standard & Poor’s Ratings Services considers a 

weakness. Moreover, the company derives about 

half of its passenger volume from SAS and runs 

the risk of losing part of its transfer traffic if SAS 

ceases to operate. 

CPH achieved an EBITDA margin of 54.1% in 

2006--which is high compared with peers--owing 

to its efficient operations, strong cost manage- 



ment, and successful commercial operations, 

which rank among the best in Europe. 

At June 30 2007, gross debt at MACH and 

CPH combined declined to DKK7.1 billion, from 

DKK8.9 billion at Dec. 31, 2006, as proceeds 

from a special dividend distribution from CPH’s 

associated company Newcastle International 

Airport Ltd. and from the sale of CPH’s Chinese 

and part of its Mexican operations were used for 

debt repayment. At end-December 2006, funds 

from operations (FFO) to average total debt and 

FFO interest coverage were 12.6% and 3.2x, 

respectively, and free cash flow generation was 

DKK494.7 million, according to Standard & 

Poor’s calculations. 

Liquidity 

CPH has strong liquidity. At June 30, 2007, the 

company had about DKK1.0 billion in unused 

committed bank lines and DKK225.4 million in 

cash. Debt maturing within the next five years is 

not a concern, because maturities are manageable 

and we expect CPH to remain cash flow positive 

after dividend distributions. Liquidity is further 

supported by a modest and flexible capital 

expenditure program. 

Outlook 

The stable outlook reflects our expectation that 

CPH will maintain its strong competitive position 

and focus on growth of internal cash flow 

generation. Free cash flow generation is expected 

to continue, but is unlikely to result in significant 

early debt repayments given our expectation that 

the company will use the cash for dividend 

payments and capital spending. Any capital return 

to shareholders will limit rating upside. 

Major industry events causing a consistent 

passenger volume decline or a significant 

deterioration in SAS’ operations could pressure the 

rating, as could a further increase in leverage. ■ 




Sept. 19, 2007 


AA/Negative/A-1+ 



Frankfurt, 

(49) 69-33-999-123 


Eve Greb, 

Frankfurt, 

(49) 69-33-999-124 


London, 

(44) 20-7176-3733 


DEUTSCHE BAHN AG 

Rationale 

The ratings on Germany-based integrated railway 

and logistics company Deutsche Bahn AG (DB 

AG) reflect the company’s strong business risk 

profile derived from its dominant position and 

strategic importance in the German transport 

sector, as well as the close relationship with, and 

support from, its current 100% owner, the 

Federal Republic of Germany (AAA/Stable/A-1+). 

DB AG’s strengths are offset by an intermediate 

financial risk profile and uncertainties related to 

the expected privatization of up to 49% of the 

company’s capital. 

Standard & Poor’s Ratings Services applies a 

top-down rating approach for governmentsupported 

companies, which notches down from 

the sovereign rating, as the credit standing is 

linked to that of the government. The ratings on 

DB AG, which are two notches lower than those 

on Germany, reflect the absence of direct state 

guarantees for outstanding debt and that 

timeliness of financial support for the company is 

not explicitly guaranteed. Nevertheless, the state 

has demonstrated its support for DB AG through 

the full backing of its acquisitions and 

investments in recent years, significant direct 

grants for network investments, and indirect 

payments through the regional states for services 

provided by DB AG and its subsidiaries. Ministry 

officials have also repeatedly given clear 

statements to Standard & Poor’s that the state 

will continue to support DB AG in its current 

form and ensure that it maintains a sustainable 

credit profile. 

DB AG continues to provide essential railway 

services within Germany, but its acquisitions, 

mainly in the logistics sector, have transformed 

the company into a worldwide integrated mobility 

and logistics firm that in 2006 derived about 50% 

of its revenues from non-railway services. State 

support is therefore a key consideration for the 

‘AA’ rating, as Standard & Poor’s assesses the 

business risk profile of the logistics industry as 

weaker than that of the railway business, and DB 

AG’s current stand-alone financial risk profile is 

not in line with an ‘AA’ rating. 

DB AG’s first-half 2007 results were in line 

with Standard & Poor’s expectations and boosted 

by a strong performance across all business areas. 

DB AG’s financial debt decreased by about 

€600 million to €18.9 billion compared with the 

end of December 2006 and its EBIT improved by 


about €400 million to €1.35 billion. Standard & 

Poor’s expects that DB AG’s key debt and interest 

coverage ratios will improve further in 2007. 

Moreover, we expect that the company will 

continue to reduce leverage and improve its 

financial risk profile over the medium term. 


DB AG’s liquidity remains strong, owing mainly 

to its easy access to capital markets and a 

comfortable cash position of €992 million at the 

end of June 2007. In our view, DB AG should be 

able to refinance upcoming maturities owing to its 

very good access to the capital markets. In 

addition, the company has sound liquidity 

through committed bank facilities. 

Outlook 

The negative outlook reflects our concerns and 

questions related to the expected partial 

privatization that was approved by the German 

government on July 24, 2007. Areas of 

uncertainty are DB AG’s ability to continue 

reducing leverage under a partial privatization, 

whether it could come under pressure to make 

dividend payments that are currently not part 

of its financial forecasts, and whether it 

would potentially adopt a more aggressive 

acquisition strategy. 

We will need to assess whether similar 

government support will and can be provided for 

the privatized entity. The service and financing 

agreement currently being negotiated would 

suggest consistent levels of financial commitment 

for extended time periods. We would also need to 

assess the company structure post privatization. 

An important factor will also be how much of the 

privatization proceeds will be used to improve the 

company’s balance sheet. 

After a minority privatization, we expect to 

switch to a bottom-up rating approach, most 

likely still factoring in state support, but reflecting 

reduced government ownership in the business. 

We would also adopt this approach if DB AG 

made additional large acquisitions in the 

meantime, similar to those of logistics companies 

BAX Global and Stinnes AG, which would 

further expose DB AG to logistics activities. The 

latter could have negative rating implications, as 

the business risk would increase because strategic 

rail and infrastructure services would become 

less relevant. ■


June 13, 2007 


A+/Stable/A-1 



London, 

(44) 20-7176-3952 


Florian De Chaisemartin, 

London, 

(44) 20-7176-3760 

DP WORLD LTD. 

Rationale 

The ratings on Dubai-based port operator DP 

World Ltd. principally reflect Standard & Poor’s 

Ratings Services’ expectation of sovereign support 

based on the company’s indirect ownership by the 

government of Dubai and its pivotal role in 

diversifying the emirate’s revenues away from oil 

and fostering international expansion. DP World 

is a major international port operator and 

its key activities in Dubai benefit from a strong 

hub position. DP World also has geographic 

diversification after recent large international 

acquisitions. 

Like other port operators, DP World is exposed 

to the global economy and developing 

international trade streams, particularly to and 

from China and India. The company is also likely 

to face heightened port competition for 

transshipment along with increasing consolidation 

in the shipping industry. 

Given DP World’s national importance, 

Standard & Poor’s has factored implicit sovereign 

support into the rating; there are, however, no 

formal guarantees. State support for DP World is 

demonstrated by: the emirate’s 100% ownership 

through its Dubai World holding company; the 

emirate’s direct influence over the company 

through Dubai World’s representation on DP 

World’s board, including the position of 

chairman; the company’s strategic importance as a 

conduit for diversifying the economy of the 

emirate away from oil; and the previous tangible 

financial, operational, and extraordinary support 

for the company’s activities. The company’s standalone 

rating is solid investment grade within the 

‘BBB’ rating category. 

DP World benefits from a strong position in the 

global ports sector, where barriers to entry are 

high. The company has a highly diversified 

revenue base in terms of location and cargo, 

significant sector experience, and a good 

operating track record. DP World is not an 

integrated business, however, in that it is not, at 

present, a landlord. Within this context the 

emirate has demonstrated its support of DP 

World by awarding the company a 99-year lease 

for the Jebel Ali port facility located in Dubai-against 

an industry norm of 20-50 years--while 

making significant infrastructure investments in 

the hinterland surrounding the port. Reflecting 

the importance of the company to the emirate, 

Standard & Poor’s expects a significant 



proportion of the company’s EBITDA to continue 

to be generated at the Jebel Ali and Port Rashid 

facilities in the medium term. 

Port activity is either as a transshipment hub or 

for the import and export of goods for a region 

or hinterland. The more a port relies on 

transshipment, the more it is exposed to world 

trade development. The port sector, like shipping, 

is experiencing very brisk business due to the 

current positive economic climate and, especially, 

China’s and India’s growth. Clearly, DP World’s 

ports--like other ports--would be negatively 

affected in the event of a global economic 

downturn or changes in trade patterns and/or 

volumes. A potential industry downturn could be 

exacerbated by increasing bargaining power, due 

to size, mounting concentration of container 

shipping companies, and intensifying competition 

between ports for transshipment cargo. 

Furthermore, the company faces the potential 

geopolitical risk of the location of its main port 

asset--Jebel Ali--in the Gulf region. 

DP World’s recent, sizable acquisitions include 

Peninsular & Oriental Steam Navigation Co. 

(P&O) and CSX World Terminals. The company 

has consequently faced the challenge of 

integrating these assets while maintaining existing 

performance and deriving expected returns from 

the new acquisitions. Furthermore, although the 

company may have some degree of flexibility over 

its future capital expenditure program, it needs to 

maintain its competitive position against other 

operators by investing in new technology and 

undertaking new projects, such as the recently 

announced £1.5 billion investment in the complex 

London Gateway Port facility. 

The company has a relatively aggressive 

financial profile. Debt leverage is likely to 

increase, primarily as a result of the debt 

financing of capital expenditures. At the same 

time, cash flow cover ratios are relatively low, 

leaving limited room for underperformance in 

executing future capital investment. There may be 

flexibility to postpone or cancel planned capital 

expenditures, however, should the need arise. 

Liquidity 

At Dec. 31, 2006, DP World benefited from more 

than $2.2 billion in back-up liquidity, primarily 

through free cash of $1.7 billion. The company’s 

future primary liquidity will, however, be 

provided via credit facilities of $0.5 billion. In 




addition, DP World will likely be able to call on 

Dubai World to provide liquidity, as has occurred 

previously to fund acquisitions. 

Outlook 

The stable outlook assumes that DP World will 

continue to benefit from its close strategic 

relationship with, and ownership by, the 

government of Dubai. Any indication that the 

government’s support for the company has 

weakened would result in a change in the rating 

although, of itself, the sale of a minority stake 

in the company would be unlikely to affect 

the ratings. 

The outlook also assumes that the company 

will successfully execute its business plan and 

fulfill its financial forecasts, in 

the light of any global economic downturn, 

increased competition, and successful execution of 

the capital expenditure program, including 

acquisitions. ■ 



June 7, 2007 


A/Negative/A-1 



Paris, 

(33) 1-4420-7316 



London, 

(44) 20-7176-3985 

SANEF 

Rationale 

The ratings on Sanef are equalized with those on 

Abertis Infraestructuras S.A. (A/Negative/--). 

Following its privatization, Sanef is controlled by 

Abertis through 52.6%-owned Holding 

d’Infrastructures de Transport S.A.S. (HIT; 

A/Negative/--), the intermediary vehicle that 

acquired Sanef. 

The rating on Abertis reflects the company’s 

excellent business profile, with strong and stable 

cash flow generation derived largely from its tollroad 

concession business, a supportive regulatory 

framework both in Spain and France, and fairly 

manageable future capital-expenditure needs. 

These strengths are offset by Abertis’ weakened 

financial profile and lack of dividend flexibility, as 

well as its appetite for additional acquisitions, 

which could further impair its business and 

financial profile. It is important to note that 

without this support, HIT and Sanef’s underlying 

credit quality would be significantly weaker. On a 

combined, stand-alone basis, HIT and Sanef 

would have very low investment-grade ratings. If 

Abertis’ continued acquisitive strategy 

significantly reduces Sanef’s contribution to 

Abertis’ consolidated financial profile, HIT and 

Sanef could be rated one notch below Abertis. 

The ratings on Sanef reflect its strong market 

position as the third-largest interconnected tollroad 

network across key economic and tourist 

corridors in France, supportive concession 

agreements, high profitability, and increasing 

positive free cash flow generation. These strengths 

are offset by Sanef’s exposure to traffic risk, a 

weakened financial profile following its 

acquisition by HIT--particularly when HIT’s debt 

is factored in--and aggressive dividend payout to 

HIT limiting debt burden curtailment and 

exposing lenders to substantial refinancing risk. 

In the financial year ended Dec. 31, 2006, 

Sanef’s consolidated EBITDA amounted to €809 

million, up 8.6% on 2005. EBITDA essentially 

derived from toll revenues, which grew 6% in 

2006, and should continue to represent 90% or 

more of revenues over the medium term. The 

unadjusted EBITDA margin increased to 66%. 

Consolidated HIT and Sanef net debt peaked at 

about €6.8 billion (excluding Sanef’s debt 

revaluation following acquisition), in line with 

expectations, at year-end 2006. With a 



consolidated net-debt-to-EBITDA ratio of 8.7x, 

the companies were still comfortably complying 

with the consolidated covenants at HIT’s level 

(maximum ratio of 10.5x) at year-end 2006. 

Based on the consolidated covenants at the HIT 

level, leverage is expected to decrease to 6.5x at 

year-end 2012. Sanef’s group net debt at 5.2x 

EBITDA at year-end 2006 is still well below the 

threshold of 7.0x set by Caisse Nationale des 

Autoroutes (AAA/Stable/--). 

Liquidity 

Sanef’s liquidity is satisfactory, owing to steady 

cash flow generation stemming from the tollroad 

business. 

Financing needs for 2007 include some €469 

million of debt maturing until Dec. 31, 2007, and 

a forecast €176 million dividend payment to HIT 

based on 100% payout of 2006 net income. 

These were partially covered by available cash 

and marketable securities of €223 million at yearend 

2006 and expected positive free operating 

cash flow (defined as funds from operations 

{FFO} plus working capital change, minus capital 

expenditures) of about €280 million in 2007, 

making debt refinancing necessary. 

Outlook 

The negative outlook mirrors that on Abertis and 

reflects mainly our concern that Abertis is now 

pursuing a more aggressive acquisition strategy 

following the purchase of a 32% stake in Eutelsat 

Communication S.A. (BB+/Stable/B), the holding 

company of Eutelsat S.A. 

We expect Abertis to be able to meet the target 

ratios we indicated on June 1, 2006: FFO to gross 

debt of about 13%-15% and FFO interest 

coverage of about 3.5x-4x. We expect Abertis to 

approach the lower end of these ranges over the 

next two years, and to make continued 

improvements toward the higher end of the 

ranges thereafter. 

Abertis does not have headroom for further 

debt-financed acquisitions at the current rating 

level. A stronger-than-originally-expected financial 

performance could lead to a revision of the 

outlook to stable on Abertis, and therefore on 

Sanef and HIT. ■ 




June 11, 2007 


BBB+/Negative/A-2 



Paris, 

(33) 1-4420-7316 



Paris, 

(33) 1-4420-6666 


VINCI S.A. 

Rationale 

The ratings on VINCI S.A. reflect its strong 

market positions in a wide variety of concession 

and construction activities, and the considerable 

contribution from its stable and profitable 

concession businesses--59% of pro forma 

operating profit from ordinary activities in 2006. 

These strengths are mitigated by the capitalintensive 

nature of the concessions business, high 

leverage, the cyclical and relatively lower margin 

nature of construction activities, and VINCI’s 

acquisitive strategy. 

At the beginning of 2007, VINCI increased its 

stake in Cofiroute, and is to do so in Soletanche 

(subject to approval by antitrust authorities). It 

acquired Nukem Ltd. and recently announced 

that it had agreed the acquisition of 41% of 

Entrepose Contracting and will file a takeover bid 

covering the remaining Entrepose Contracting 

shares within the next few days. Standard & 

Poor’s Ratings Services will monitor the impact of 

VINCI’s flow of acquisitions on the group’s 

business and financial risk profiles. The current 

ratings do not provide flexibility for any new 

large debt-financed acquisitions. 

Overall, we view the recent acquisitions as 

positive for VINCI’s business, even though they 

have increased leverage and pay-off for the 

Cofiroute stake will only come when Cofiroute 

completes its large construction program in 2008. 

Given that VINCI had ownership in or 

commercial involvement with these entities prior 

to the transactions, acquisition risk is limited. 

Nukem Ltd. and Entrepose Contracting will 

complement VINCI’s presence in value-added and 

specialty businesses, while broadening geographic 

coverage in rapidly growing markets. 

The share buyback of 12 million of VINCI 

shares announced in September 2006 (to the tune 

of more than €1 billion) has been factored into 

the ratings. However, our concerns on how 

VINCI intends to finance further buybacks and 

over its appetite for further external growth 

contribute to the negative outlook on the group. 

VINCI has, however, announced to investors that 

it will be less active on the share buyback front if 

interesting external growth opportunities arise. 

Acquisitions have delayed the improvement of 

the group’s financial profile and VINCI’s credit 

ratios will weaken slightly in 2007 versus 2006, 

despite an expected strong operating performance. 

However, we still expect the company to achieve 


a financial profile commensurate with the ‘BBB+’ 

rating, strengthening funds from operations (FFO) 

to net debt and FFO to net interest to about 20% 

and 5.0x by 2010, respectively, from 15% and 

about 4.5x in 2007. At year-end 2006 and on a 

pro forma basis, adjusted FFO to net debt was 

about 16%, and adjusted FFO to net interest 

close to 5.0x. 


The ‘A-2’ short-term rating reflects VINCI’s good 

liquidity, which stems from the group’s cashgenerative 

toll road and construction businesses. 

Liquidity was supported by about € 5.5 billion of 

cash and marketable securities at March 31 2007. 

VINCI also had € 5.7 billion fully available under 

five- to seven-year revolving credit facilities (out 

of which € 3.9 billion is not subject to financial 

covenants) maturing between 2011 and 2013. 

This figure includes ASF’s and Cofiroute’s 

facilities. In addition, VINCI’s liquidity benefits 

from a CP program--of which about € 1 billion 

was used at March 31, 2007--and positive free 

cash flow generation. 

A downgrade or negative CreditWatch 

placement of the ratings on VINCI following a 

winding up or dissolution of the company would 

allow bondholders to demand early redemption of 

the € 1 billion bonds maturing 2009, and in 

this case refinancing would be required. A normal 

acquisition would not trigger early redemption, 

however. 

Early redemption of the € 1 billion bonds could 

also be required if VINCI is placed on 

CreditWatch negative following the transfer of a 

principal subsidiary’s undertakings and assets. 

Principal subsidiary refers to a 51%-owned (85% 

for Cofiroute) subsidiary accounting for more 

than 1% of total sales, where the group has a 

board majority. We do not, however, expect any 

transfer of assets that would lead to early 

redemption of the bonds. 

VINCI’s € 500 million hybrid issued in 

February 2006 does not include a change of 

control clause. 

Outlook 

The negative outlook reflects our concerns that 

debt-financed acquisitions and share buybacks 

further to those we have already factored into the 

ratings could weaken VINCI’s financial profile 

and delay the achievement of target ratios.

To sustain a ‘BBB+’ rating, VINCI’s strong 

business risk profile requires continuing support 

from its solid and mature concessions businesses, 

which provide about two-thirds of EBITDA. 

The ratings will be lowered if the financial 

profile deteriorates or the target ratios are not 

met by 2010. Beyond what we have already 

factored into the rating in terms of acquisitions, 

share buybacks, public private partnership (PPP) 

investments, and dividends, there is very little 

headroom for a weakening in the financial profile. 

We have not assumed a further increase in 

VINCI’s ownership of Cofiroute. 

The outlook could revert to stable if it becomes 

clear that the company will achieve its target 

ratios by 2010, meeting our strategy expectations. 

The improvement of VINCI’s credit metrics is 

predicated on improved cash flow generation, 

rather than debt reduction. ■ 




PROJECT FINANCE/PUBLIC-PRIVATE PARTNERSHIPS 


PROJECT FINANCE AND PUBLIC-PRIVATE PARTNERSHIPS 

Our project finance ratings, including those for public-private partnerships (PPPs), remain 

relatively stable. Notwithstanding this, 2007 has continued to present credit challenges to the 

sector. 

The £1.6 billion debt-financed Metronet London Underground PPP projects, for example, entered PPP 

administration as the capital cost and progress of undertaking the upgrade works outstripped 

expectations. While the resolution of this situation is yet to unravel, the £2.8 billion launch of the 

Channel Link Enterprises transaction marked the rebirth of the Eurotunnel project--albeit following a 

significant reduction in debt. 

Our coverage of projects and PPPs continues to grow, particularly in the U.K. PPP sector for schools 

and hospitals, in road projects throughout Europe, and natural resource projects in the Middle East. 

Furthermore, increased activity has been noted in the project finance CLO market--where banks seek to 

transfer credit risk on existing project finance loans--as effective ways of recycling capital are sought. 

Although only one such transaction launched in 2007 (Smart PFI 2007), many wait in the wings until 

stability returns to the credit markets. 

During 2007, Standard & Poor’s updated its criteria for analyzing project finance transactions. While 

the overall framework for evaluation remains the same, our criteria has evolved to reflect the pace of 

change presented by the project finance market. Globally Standard & Poor’s has identified increasing 

risks and complexity in project structures, including accreting swaps, the introduction of facilities 

instead of reserves to support liquidity, and the removal of “debt-free” tails. All of these areas, and 

others, have been considered by the global analytical teams in the past year and, no doubt, 2008 and 

beyond will continue to present new challenges. 

As the infrastructure market has, at least until recent months, remained very much the focus of 

attention, so has the application of project finance techniques to corporate acquisition structures. The 

sponsors’ aim has been to isolate the acquired structure from their ownership. This has often proven to 

be a challenge and, in effect, a hybrid market has evolved that reflects the characteristics of corporate 

finance but with some of the structural protection of project finance. Although there are benefits from 

certain protections, it has proven elusive for many airport and port assets, for example, to fully mitigate 

the highly aggressive financial risk. 

We expect ratings to remain stable overall, as projects and PPPs are likely to continue to be structured 

to ensure relative operating stability. Nevertheless, counterparty risk such as the insolvency of 

contractors, inadequate estimates of future costs, and increasing construction costs in the Middle East 

present challenging credit factors that we will continue to monitor. 

Jonathan MManley 




Lidia PPolakovic 


Project Finance and Transportation Infrastructure


Sept. 18, 2007 


Terry A Pratt, 

New York, 

(1) 212-438-2080 

Ian Greer, 

Melbourne, 

(61) 3-9631-2032 


New York, 

(1) 212-438-2094 



London, 

(44) 20-7176-3985 

UPDATED PROJECT FINANCE SUMMARY DEBT 

RATING CRITERIA 

The world of project finance has continued 

to grow since Standard & Poor’s published 

its last comprehensive rating criteria. 

Project financing has become increasingly 

sophisticated and often riskier, with a wider 

investor base attracting new finance structures 

and investors across the globe. We have closely 

followed these developments over the years, 

extending and revising our criteria from time to 

time to enable appropriate assessment of projectfinance 

risk originating from new markets, new 

structures, and new avenues of ownership. 

Factoring different market circumstances into our 

analysis remains challenging, but global 

consistency of our criteria and approach has been 

our prime objective in responding to these new 

market developments. The combined magnitude 

of these criteria additions and changes is not 

great; it is, rather, more of a rearrangement that 

better reflects current practice and changes to 

associated criteria, such as recovery aspects. 

Additionally, we want to note that we have 

revised certain aspects of our internal analytical 

framework for rating projects, and stress that 

although we have adopted one significant change 

--eliminating our scoring approach--no ratings 

will be affected. We introduced scoring six years 

ago to facilitate the compare-and-contrast of key 

project risks across the spectrum of rated projects. 

The scores, and the criteria on which they were 

based, represented only guidelines. Scores were 

never meant to be additive, but nevertheless, 

many readers understood them as such. Because 

the scoring caused confusion among some users of 

our criteria, we decided to remove those suggested 

scores and focus more on other analytical tools to 

compare risk across projects. In response to the 

changing world of project finance and the 

blurring of boundaries from pure project-finance 

transactions to hybrid structures, our analysis has 

been expanded and now incorporates some 

corporate analytical practice, to look at a 

combination of cash-flow measures, capital 

structure, and liquidity management. 

We also have reincorporated our assessment of 

force majeure risk into our analysis of a project’s 

contractual foundation and technical risk, rather 

than addressing these as a separate risk category. 

The overall criteria framework has not been 

changed, however, and still provides a very 

effective framework for analyzing and 

understanding the risk dynamics of a 

project transaction. 



Recent Trends 

As project finance continues to adjust to the 

increasingly diverse needs of project sponsors, 

their lenders, and investors, in many cases the 

analysis of risk continues to grow in complexity. 

Despite this growing variety of project-finance 

application and location, the continuing market 

desire for nonrecourse funding solutions suggests 

that project finance will remain a robust means of 

raising infrastructure capital. More aggressive 

financial structures sometimes blur the boundaries 

of nonrecourse finance both in reality and 

perception. Also, the greater exposure to market 

risk has forced many sponsors to seek greater 

flexibility in project structures to manage cash, 

take on additional debt, and enter new businesses 

with few restrictions--which makes some projects 

look more like corporates. 

Projects continue to evolve from their 

traditional basis of long-term contracted revenue, 

and now involve a greater exposure to a number 

of risks. Initial project finance primarily was 

focused on power markets that had strong 

contractual bases; but these days, more projects 

are exposed to the risks of volatile commodity 

markets or traffic volume exposure, among other 

types. Strong global demand for construction and 

commodities has increased construction risk, even 

for simple projects. 

Fewer projects have been able to secure the 

more creditor-friendly fixed-price, turnkey, datecertain 

construction contracts that better protect 

lenders from construction and completion risk. 

Term B loan structures--“mini-perms”, with 

minimal amortizations and risky bullet maturities 

--have established themselves firmly in the project 

world, but these capital plans have now been 

joined by more complex first- and second-lien 

structures, and more debt within holdingcompany 

structures, particularly for payment-inkind 

instruments that we view essentially as debt. 

Many long-term concession projects are 

maximizing leverage by employing accreting debt 

structures that enable sponsors to recoup quick 

equity returns--sometimes before any debt has 

been repaid--but that can greatly increase lenders’ 

exposure to default risk in the later years (see 

“Credit FAQ: Accreting Debt Obligations And 

The Road To Investment Grade For Infrastructure 

Concessions” on page 105). Private equity has 

made strong inroads to project lending and 

ownership--either directly or through managed 

infrastructure funds. The trend away from 




ownership by experienced sponsors raises new 

concerns about ownership and long-term 

operational performance. Positively, the usage of 

project finance is growing in part thanks to these 

new structures. In particular, financing of publicprivate 

partnerships (PPPs) has grown 

significantly over the years, with PPPs often 

considered to be a lower-risk investment due to 

the involvement of a public authority or 

government entity. 

Another observation is the increase of insured 

project finance transactions. Monoline insurance 

companies providing guarantees for timely-andfull 

debt servicing in cases of projects being 

unable to do so has opened different investment 

opportunities for the financial markets. 

However, we closely monitor and analyze the 

underlying risk of these projects to determine the 

underlying credit quality, as a part of the insured 

rating exercise. 

Finally, the emergence of the Middle East 

markets as one of the largest global markets of 

project finance has challenges of its own. Driven 

by low default track records and strong 

government support or sponsorship, these projects 

have created a class of their own in terms of 

investors’ perception of risk allocation. Middle 

East project finance is an area that remains under 

criteria development while we aim to adequately 

weigh up the hard facts, such as risk structure and 

allocation, terms and conditions of project 

financings in the region, and stated support 

from governments. 

General Approach 

For lenders and other investors, systematic 

identification, comparison, and contrasting of 

project risk can be a daunting task, particularly 

because of the new complexity presented to 

investors. To assess project-finance risk, Standard 

& Poor’s continues to use a framework based on 

the traditional approach that grew out of rating 

U.S. independent power projects but which has 

been adapted to cover a growing range of other 

projects globally, such as more complex 

transportation schemes, stadiums and arenas, 

hotels and hospitals, and renewable energies. 

Our approach begins with the view that a 

project is a collection of contracts and agreements 

among various parties, including lenders, which 

collectively serves two primary functions. The 


first is to create an entity that will act on behalf 

of its sponsors to bring together several unique 

factors of production or activity to generate cash 

flow from the sale/provision of a product or 

service. The second is to provide lenders with the 

security of payment of interest and principal from 

the operating entity. Standard & Poor’s analytic 

framework focuses on the risks of construction 

and operation of the project, the project’s longterm 

competitive position, its legal 

characterization, and its financial performance--in 

short, all the factors that can affect the project’s 

ability to earn cash and repay lenders. 

“Project Finance“ Defined 

A project-finance transaction is a cross between a 

structured, asset-backed financing and a corporate 

financing. A project-finance transaction typically 

is characterized as nonrecourse financing of a 

single asset or portfolio of assets where the 

lenders can look only to those specific assets to 

generate the cash flow needed to service its fixed 

obligations, chief of which are interest payments 

and repayment of principal. Lenders’ security and 

collateral is usually solely the project’s contracts 

and physical assets. Lenders typically do not have 

recourse to the project’s owner, and often, 

through the project’s legal structure, project 

lenders are shielded from a project owner’s 

financial troubles. 

Project-finance transactions typically are 

comprised of a group of agreements and contracts 

between lenders, project sponsors, and other 

interested parties who combine to create a form 

of business organization that will issue a finite 

amount of debt on inception, and will operate in 

a focused line of business over a finite period. 

There are many risks that need to be analyzed 

when rating a project-finance transaction; 

however the chief focus within Standard & Poor’s 

rating process is the determination of the project’s 

stability of projected cash flow in relation to the 

projected cash needs of the project. This criteria 

article addresses the areas on which we focus 

when conducting analysis, and how this translates 

into a rating on a project-finance transaction as a 

whole. For each focus area, we gauge the relative 

importance for the project being rated and the 

impact that focus area could have on the project’s 

overall cash-flow volatility. The process is very 

systematic, but is tailored to each project rating.

The rating 

Standard & Poor’s project debt ratings address 

default probability--or, put differently, the level of 

certainty with which lenders can expect to receive 

timely and full payment of principal and interest 

according to the terms of the financing 

documents. Unlike corporate debt, project-finance 

debt is usually the only debt in the capital 

structure, and typically amortizes to a schedule 

based on the project’s useful life. Importantly, also 

unlike our corporate ratings, which reflect risk 

over three-to-five years, our project debt ratings 

are assigned to reflect the risk through the debt‘s 

tenor. If refinancing risk is present, we 

incorporate into the rating the ability of the 

project to repay the debt at maturity solely from 

the project sources. Our project ratings often 

factor in construction risk, which in many cases 

can be higher than the risk presented by expected 

operations once the project is completed. In some 

cases, the construction risk is mitigated by other 

features, which enables the debt rating to reflect 

our expectations of long-term post-construction 

performance. Otherwise, we will rate to the 

construction risk, but note the potential for 

ratings to rise once construction is complete. 

Another important addition to our projectdebt 

ratings is the recovery rating concept that 

Standard & Poor’s began to assign to secured 

debt in late 2003. The recovery rating estimates 

the range of principal that lenders can expect to 

receive following a default of the project. Our 

recovery scale is defined in table 1. We define the 

likely default scenario, and then assess recovery 

using various techniques, such as discounted cashflow 

analysis or EBITDA multiples. Or, we will 

examine the terms and conditions of project 

assets, such as contracts and concession 

Table 1 - Standard & Poor’s Recovery Scale 

Recovery Recovery Recovery 

rating description expectations* 

1+ Highest expectation, 

full recovery 

100%¶ 

1 Very high recovery 90%-100% 

2 Substantial recovery 70%-90% 

3 Meaningful recovery 50%-70% 

4 Average recovery 30%-50% 

5 Modest recovery 10%-30% 

6 Negligible recovery 0%-10% 

*Recovery of principal plus accrued but unpaid interest at the time of 

default. ¶Very high confidence of full recovery resulting from significant 

overcollateralization or strong structural features. 



agreements, for example, to estimate the expected 

recovery. The added importance of the recovery 

rating is that recovery can affect the ratings on 

certain classes of project debt when more than 

one class of debt is present. 

Framework for Project Finance Criteria 

Thorough assessment of project cash flows 

requires systematic analysis of five principle 

factors: 

• Project-level risk 

• Transactional structure 

• Sovereign risk 

• Business and legal institutional 

development risk 

• Credit enhancements 

Project-Level Risks 

Project-level risk, or the risks inherent to a 

project’s business and within its operating 

industry, will determine how well a project can 

sustain ongoing commercial operations 

throughout the term of the rated debt and, as a 

consequence, how well the project will be able to 

service its obligations (financial and operational) 

on time and in full. 

Specifically, we look at a project’s: 

• Contractual foundation. Operational and 

financing contracts--such as offtake 

agreements, concessions, construction 

arrangements, hedge agreements, loan 

contracts, guarantees--that, along with the 

physical plant, serve as the basis of the 

enterprise. 

• Technology, construction, and operations. 

Does it have a competitive, proven 

technology, can construction be performed 

on time and on budget, and can it operate in 

a manner defined under the base case? 

• Resource availability. Capacity to 

incorporate “input” resources, such as wind 

or natural gas. 

• Competitive-market exposure. Competitive 

position against the market in which it 

will operate. 

• Counterparty risk. Risk from relying on 

suppliers, construction companies, 

concession grantors, and customers. 

• Financial performance. Risks that may affect 

forecast results, and cash-flow variability 

under likely stress scenarios. 




Contractual foundation 

We analyze a project’s contractual composition to 

see how well the project is protected from market 

and operating conditions, how well the various 

contracted obligations address the project’s 

operating-risk characteristics, and how the 

contractual nexus measures up against other 

project contracts. 

The structure of the project should protect 

stakeholders’ interests through contracts that 

encourage the parties to complete projectconstruction 

satisfactorily and to operate the 

project competently in line with the requirements 

of the various contracts. The project’s structure 

also should give stakeholders a right to a portion 

of the project’s cash flow so that they can service 

debt, and should provide for the releasing of cash 

in the form of equity distributions (dividends or 

other forms of shareholder payments) in 

appropriate circumstances. Moreover, higher-rated 

projects generally give lenders the assurance that 

project management will align their interests with 

lenders’ interests; project management should 

have limited discretion in changing the project’s 

business or financing activities. Finally, higherrated 

projects usually distinguish themselves from 

lower-rated projects by agreeing to give lenders a 

first-perfected security interest (or fixed charge, 

depending on the legal jurisdiction) in all of the 

project’s assets, contracts, permits, licenses, 

accounts, and other collateral; in this way the 

project can either be disposed of in its entirety 

should the need arise, or the lenders can step in to 

effectively replace the project’s management and 

operation so as to generate cash for debt 

servicing. 

As infrastructure assets have become 

increasingly popular for concessions, not only is 

the analysis of the strengths and weaknesses of 

the concession critical but, also the rationale for 

the concession becomes an essential element of 

our analysis. Contract analysis focuses on the 

terms and conditions of each agreement. The 

analysis also considers the adequacy and strength 

of each contract in the context of a project’s 

technology, counterparty credit risk, and the 

market, among other project characteristics. 

Commercial versus collateral agreements. 

Project-contract analysis falls into two broad 

categories: commercial agreements and collateral 

arrangements. 


Commercial project contracts analysis is 

conducted on contracts governing revenue and 

expenses, such as: 

• Power purchase agreements; 

• Gas and coal supply contracts; 

• Steam sales agreements; 

• Liquefied natural gas sales agreements; 

• Concession agreements; 

• Airport landing-fee agreements; 

• Founding business agreement; and 

• Any other agreements necessary for the 

operations of the project. 

Collateral agreements typically require analysis 

of a project’s ownership along with financial and 

legal structures, such as: 

• Credit facilities or loan agreement; 

• Indenture; 

• Equity-contribution agreement; 

• Mortgage, deed of trust, or similar 

instrument that grants lenders a firstmortgage 

lien on real estate and plant; 

• Security agreement or a similar instrument 

that grants lenders a first-mortgage lien on 

various types of personal property; 

• Assignments to lenders of project assets, 

accounts, and contracts; 

• Project-completion guarantees; 

• Depositary agreements, which define how 

the project cash is handled; 

• Shareholder agreements; 

• Collateral and inter-creditor agreements; and 

• Liquidity-support agreements, such as letters 

of credit (LOCs), surety bonds, and targeted 

insurance policies. 

An important objective of our contractual 

assessment is the understanding of a project’s full 

risk exposure to potential force majeure risks, and 

how the project has mitigated such risk. Project 

financings rely on asset and counterparty 

performance, but force majeure events can excuse 

performance by parties when they are confronted 

with unanticipated events outside their control. 

A careful analysis of force majeure events is 

critical in a project financing because such events, 

if not properly recompensed, can severely disrupt 

the careful allocation of risk on which the 

financing depends. Floods and earthquakes, civil 

disturbances, strikes, or changes of law can 

disrupt a project’s operations and devastate its 

cash flow. In addition, catastrophic mechanical

failure due to human error or material failure can 

be a form of force majeure that may excuse a 

project from its contractual obligations. Despite 

excusing a project from its supply obligations, the 

force majeure event may still lead to a default 

depending on the severity of the mishap. 

Technology, construction, and operations 

In part, a project’s rating rests on the 

dependability of a project’s design, construction, 

and operation; if a project fails to achieve 

completion or to perform as designed, many 

contractual and other legal remedies may fail to 

keep lenders economically whole. 

The technical risk assessment falls into two 

categories: construction and operations. 

Construction risk relates to: 

■Engineering and design 

■Site plans and permits 

■Construction 

■Testing and commissioning 

Operations risk relates to: 

■Operations and maintenance (O&M) 

strategy and capability 

■Expansion if any contemplated 

■Historical operating record, if any 

Project lenders frequently may not adequately 

evaluate a project’s technical risk when making an 

investment decision but instead may rely on the 

reputation of the construction contractor or the 

project sponsor as a proxy for technical risk, 

particularly when lending to unrated transactions. 

The record suggests that such confidence may be 

misplaced. Standard & Poor’s experience with 

technology, construction, and operations risk on 

more than 300 project-finance ratings indicates 

that technical risk is pervasive during the pre- and 

post-construction phases, while the possibility of 

sponsors coming to the aid of a troubled project 

is uncertain. Thus, we place considerable 

importance on a project’s technical evaluation. 

We rely on several assessments to complete our 

technical analysis. One key element is a reputable 

independent expert’s (IE) project evaluation. We 

examine the IE’s report to see if it has the proper 

scope to reach fundamental conclusions about the 

project’s technology, construction plan, and 

expected operating results, and then we determine 

whether these conclusions support the sponsor’s 



and EPC contractor’s technical expectations. We 

supplement our review of the IE’s report with 

meetings with the IE and visits to the site to 

inspect the project and hold discussions with the 

project’s management and construction contractor 

or manager. Without an IE review, Standard & 

Poor’s will most likely assign a speculative-grade 

debt rating to the project, regardless of whether 

the project is in the pre- or post-construction 

phase. Finally, we will assess the project’s 

technical risk using the experience gained from 

examining similar projects. 

Another key assessment relates to the potential 

credit effect of a major equipment failure that 

could materially reduce cash flow. This analysis 

goes hand-in-hand with the contractual 

implications of force majeure events, described 

above, and counterparty risk, described below. If 

the potential credit risk from such an event is not 

mitigated, then a project’s rating would be 

negatively affected. Mitigation could be in the 

form of business-interruption insurance, cash 

reserves, and property casualty insurance. The 

level of mitigation largely depends on the project 

type--some types of projects, such as pipelines and 

toll roads--are exposed to low outage risks and 

thus could achieve favorable ratings with only 

modest risk mitigation. In contrast, a 

mechanically complex, site-concentrated project-such 

as a refinery or bio-mass plant--can be 

highly exposed to major-equipment-failure risk, 

and could require robust features to deal 

with potential outages that could take months 

to repair. 

Resource availability 

All projects require feedstock to produce output, 

and we undertake a detailed assessment of a 

project’s ability to obtain sufficient levels. For 

many projects, the input-supply risk largely hinges 

on the creditworthiness of the counterparty that is 

obligated to provide the feedstock, which is 

discussed below under Counterparty Exposure. 

Other types of projects, however, such as wind 

and geothermal power, rely on the type of natural 

resources of which few third parties are willing to 

guarantee production. In these cases, we require 

an understanding of the availability of the natural 

resource throughout the debt tenor. We use 

various tools to reach our conclusions, but most 

important will be the analysis and conclusions of 

a reputable IE or market consultant on the 




resource sufficiency throughout the debt tenor. In 

many cases, such as wind, where the assessment 

can be highly complex, we may require two 

surveys to get sufficient comfort. Just as with IE 

technical reports, a project striving for 

investment-grade and high speculative-grade 

ratings will require a strong resource-assessment 

report. However, given the potential for 

uncertainty in many resource assessments, 

stronger ratings are likely to require either more 

than one IE resource assessment, geographic 

diversity, or robust liquidity features to meet debtrepayment 

obligations if the resource does not 

perform as expected. 

Competitive market exposure 

A project’s competitive position within its peer 

group is a principal credit determinant, even if the 

project has contractually-based cash flow. 

Analysis of the competitive market position 

focuses on the following factors: 

• Industry fundamentals 

• Commodity price risk 

• Supply and cost risk 

• Regulatory risk 

• Outlook for demand 

• Foreign exchange exposure 

• The project‘s source of competitive 

advantage 

• Potential for new entrants or disruptive 

technologies 

Given that many projects produce a commodity 

such as electricity, ore, oil or gas, or some form of 

transport, low-cost production relative to the 

market characterizes many investment-grade 

ratings. High costs relative to an average market 

price in the absence of mitigating circumstances 

will almost always place lenders at risk; but 

competitive position is only one element of 

market risk. The demand for a project’s output 

can change over time (seasonality or commodity 

cycles), and sometimes dramatically, resulting in 

low clearing prices. The reasons for demand 

change are many, and usually hard to predict. 

Any of the following can make a project more or 

less competitive: 

• New products 

• Changing customer priorities 

• Cheaper substitutes 

• Technological change 

• Global economic and trade developments 


Experience has shown, however, that offtake 

contracts providing stable revenues or that limit 

costs, or both, may not be enough to mitigate 

adverse market situations. As an example, 

independent power producers in California had to 

restructure parts of fixed-price offtake agreements 

when the utilities there came under severe 

financial pressure in 2000 and 2001. Hence, 

market risk can potentially take on greater 

importance than the legal profile of, and security 

underlying, a project. Conversely, if a project 

provides a strategic input that has few, if any, 

substitutes, there will be stronger economic 

incentives for the purchaser to maintain a viable 

relationship with the project. 

Counterparty exposure 

The strength of a project financing rests on the 

project’s ability to generate stable cash flow as 

well as on its general contractual framework, but 

much of a project’s strength comes from 

contractual participation of outside parties in the 

establishment and operation of the project 

structure. This participation raises questions 

about the strength and reliability of such 

participants. The traditional counterparties to 

projects have included raw-material suppliers, 

principal offtake purchasers, and EPC 

contractors. Even a sponsor becomes a source of 

counterparty risk if it provides the equity during 

construction or after the project has exhausted its 

debt funding. 

Other important counterparties to a project can 

include: 

• Providers of LOCs and surety bonds; 

• Parties to interest rate and currency swaps; 

• Buyers and sellers of hedging agreements 

and other derivative products; 

• Marketing agents; 

• Political risk guarantors; and 

• Government entities. 

Because projects have taken on increasingly 

complex structures, a counterparty’s failure can 

put a project’s viability at risk. 

Standard & Poor’s generally will not rate a 

project higher than the lowest rated entity (e.g., 

the offtaker) that is crucial to project 

performance, unless that entity may be easily 

replaced, notwithstanding its insolvency or failure 

to perform. Moreover, the transaction rating may

also be constrained by a project sponsor’s rating if 

the project is in a jurisdiction in which the 

sponsor’s insolvency may lead to the insolvency of 

the project, particularly if the sponsor is the sole 

owner of the project. 

During construction, often the project debt 

rating could be higher than the credit quality of 

the builder by credit enhancement and where 

there is an alternate builder available (see “Credit 

Enhancements (Liquidity Support) In Project 

Finance And PPP Transactions Reviewed,” 

published on RatingsDirect on March 30, 2007). 

Financial performance 

Standard & Poor’s analysis of a project’s financial 

strength focuses on three main attributes: 

• The ability of the project to generate 

sufficient cash on a consistent basis to pay 

its debt service obligations in full and on 

time; 

• The capital structure and in particular debt 

paydown structure; and 

• Liquidity. 

Projects must withstand numerous financial 

threats to their ability to generate revenues 

sufficient to cover operating and maintenance 

expenses, maintenance expenditures, taxes, 

insurance, and annual fixed charges of principal 

and interest, among other expenses. In addition, 

nonrecurring items must be planned for. 

Furthermore, some projects may also have to deal 

with external risk, such as interest rate and 

foreign currency volatility, inflation risk, liquidity 

risk, and funding risk. We factor into our credit 

evaluation the project’s plan to mitigate the 

potential effects on cash flow that could be 

caused by these external risks should they arise. 

Standard & Poor’s relies on debt-service 

coverage ratios (DSCRs) as the primary 

quantitative measure of a project’s financial credit 

strength. The DSCR is the cash-basis ratio of cash 

flow available for debt service (CFADS) to interest 

and mandatory principal obligations. CFADS is 

calculated strictly by taking cash revenues from 

operations only and subtracting cash operating 

expenses, cash taxes needed to maintain ongoing 

operations, and cash major maintenance costs, 

but not interest. As an operating cash-flow 

number, CFADS excludes any cash balances that a 

project could draw on to service debt, such as the 

debt-service reserve fund or maintenance reserve 



fund. To the extent that a project has tax 

obligations, such as host-country income tax, 

withholding taxes on dividends, and interest paid 

overseas, etc., Standard & Poor’s treats these 

taxes as ongoing expenses needed to keep a 

project operating (see “Tax Effects on Debt 

Service Coverage Ratios,” published on 

RatingsDirect on July 27, 2000). 

In our analysis, we examine the financial 

performance of the project under base-case and 

numerous stress scenarios. We select our stress 

scenarios on a project-by-project basis, given that 

each project faces different risks. We avoid 

establishing minimum DSCRs for different rating 

levels because once again, every project has 

different economic and structural features. 

However, we do require that investment-grade 

projects have strong DSCRs--well above 1.0x-under 

typical market conditions that we think are 

probable, to reflect the single-asset nature of the 

business. Strong projects must show very stable 

financial performance under a wide range of 

stress scenarios. We also note that DSCRs for 

project with amortizing debt may not be 

directly comparable to DSCRs for a project using 

capital structures that involve a small annual 

mandatory principal repayment--usually around 

1%--coupled with a cash-flow sweep to further 

reduce principal balances. 

Capital structure. 

Standard & Poor’s considers a project’s capital 

structure as part of any rating analysis. A project 

usually combines high leverage with a limited 

asset life, so the project’s ability to repay large 

amounts of debt within the asset lifetime is a key 

analytical consideration and one of the primary 

differences between rating a project and a typical 

corporate entity. The same holds true for projects 

that derive their value from a concession, such as 

a toll road, without which the ‘project’ has no 

value; these concession-derived project financings 

likely have very long asset lives that extend well 

beyond the concession term, but nevertheless 

the project needs to repay debt before the 

concession expiration. Projects that rely on cash 

balances to fund final payments demonstrate 

weaker creditworthiness. 

Refinancing risk associated with bullet 

maturities typical of corporate or public 

financings are becoming more common in projectfinance 

transactions. Examples include Term Loan 




B structures, in which debt is repaid through 

minimal mandatory amortizations--usually 1% 

per year--coupled with a debt repayment from a 

portion of distributable cash flow. While these 

structures certainly reduce default risk due to 

lower mandatory principal repayments, they 

almost always involve a planned refinancing at 

around seven-to-eight years. In these types of 

arrangements, our credit analysis determines if the 

project can refinance debt outstanding at maturity 

such that it fully amortizes within the remaining 

asset life on reasonable terms. 

The finite useful life of projects also introduces 

credit risk from an operational standpoint. Given 

its depreciating characteristics, an aging project 

may find it more difficult to meet a fixed 

obligation near the end of its useful life. Thus, for 

projects in which the useful life is difficult to 

determine, those structured with a declining debt 

burden over time are more likely to achieve 

higher credit ratings than projects those that 

do not. 

Many projects with high leverage seek capital 

structures that involve second-lien debt, 

subordinated debt, and payment-in-kind 

obligations. These structures and instruments are 

used to tap different investor markets and buffer 

the senior-most debt from default risk. These 

other classes of debt are issued either at the 

operating project or at the holding company that 

wholly owns the project. Although such structures 

can be helpful for senior debt, it obviously is to 

the detriment of the credit quality of the 

subordinated debt because in most cases this debt 

class is inferior to senior lenders’ rights to cash 

flow until senior debt is fully repaid, or to 

collateral in the event of a bankruptcy. 

When looking at the creditworthiness of 

subordinate debt, the DSCR calculation is not 

CFADS to subordinate debt interest and principal, 

but is, rather, total cash available within the entire 

project--after payments of all expenses and 

reserve filling--divided by both senior and 

subordinate debt service. Such a formula more 

accurately measures the subordinated payment 

risk. This differs from the notching applied in 

corporate ratings, and the actual rating might be 

lower than the coverage ratio implies, depending 

on the level of structural lock-up and separation 

of senior debt. 


Another analytical approach for multiple-debttype 

structures is to examine the performance of 

the project with all of the debt on a consolidated 

basis, and then determine the risk exposure for 

the different classes of debt based on structural 

features of the deal and provisions within 

the financing documents. To the extent that senior 

debt is advantaged, lesser obligations 

are penalized. 

Liquidity. 

Liquidity is a key part of any analysis, because 

lenders rely on a single asset for debt repayment, 

and all assets types have unexpected problems 

with unforeseen consequences that must be dealt 

with from time to time. 

Liquidity that projects typically have included: 

• A debt-service reserve account, to help meet 

debt obligations if the project cannot 

generate cash flow due to an unexpected 

and temporary event. This reserve is 

typically sized at six months of annual debt 

service, although amounts can be higher as a 

result of specific project attributes (e.g., 

strong seasonality to cash flow, annual debt 

payments, etc.) The reserve should be cash 

or an on-demand cash instrument. However, 

if the reserve is funded with an LOC, we 

will factor in the potential for the additional 

debt burden that would occur if the reserve 

is tapped to help meet debt obligations. A 

maintenance reserve account is expected for 

projects in which capital expenditures are 

expected to be lumpy or where there is some 

concern about the technology being 

employed. Almost all investment-grade 

projects have such a reserve. We do not 

establish minimum funding level for these 

reserves, but gauge the need based on the 

findings of the IE’s technical evaluation and 

our experience. 

• Look-forward-and-back distribution and 

lock-up tests to preserve surplus but lower 

than expected cash flows. For investmentgrade 

consideration, a project structure will 

typically have a minimum of 12 months 

look forward and look back. The DSCR 

hurdle that should allow distribution is 

project dependent. The test ensures cash is 

retained to meet the projects liquidity needs 

in times of stress.

Transactional Structure 

Standard & Poor’s performs detailed assessment 

of the project’s structural features to determine 

how they support the project’s ability to perform 

and pay obligations as expected. Key items 

include assessing if the project is structured to be 

a single-purpose entity (SPE), how cash flow is 

managed, and how the insolvency of entities 

connected to the project (sponsors, affiliates 

thereof, suppliers, etc.), who are unrated or are 

rated lowly, could affect project cash flow. 

Special-purpose entities (SPEs) 

Projects generally repay debt with a specific 

revenue stream from a single asset, and since for 

projects we rate to debt maturity, we need to have 

confidence that the project will not take on other 

activities or obligations that are not defined when 

the rating is assigned. When projects are duly 

structured as and remain SPEs, we can have more 

confidence in project performance throughout the 

debt tenor. If such limitations are absent, we 

would tend to rate a project more like a 

corporation, which would typically assume higher 

credit risk. Standard & Poor’s defines a projectfinance 

SPE as a limited-purpose operating entity 

whose business purposes are confined to: 

• Owning the project assets; 

• Entering into the project documents (e.g., 

construction, operating, supply, input and 

output contracts, etc.); 

• Entering into the financing documents (e.g., 

the bonds; indenture; deeds of mortgage; 

and security, guarantee, intercreditor, 

common terms, depositary, and collateral 

agreements, etc.); and 

• Operating the defined project business. 

The thrust of this single-purpose restriction is 

that the rating on the debt obligations represents, 

in part, an assessment of the creditworthiness of 

specific business activities and reduces potential 

external influences on the project. 

One requirement of a project-finance SPE is 

that it is restricted from issuing any subsequent 

debt that is rated lower than its existing debt. The 

exceptions are where the potential new debt was 

factored into the initial rating, debt is 

subordinated in payment, and security to the 

existing debt does not constitute a claim on the 

project. A second requirement is that the project 

should not be permitted to merge or consolidate 



with any entity rated lower than the rating on the 

project debt. A third requirement is that the 

project (as well as the issuer, if different) 

continues in existence for as long as the rated 

debt remains outstanding. The final requirement 

is that the SPE have an anti-filing mechanism in 

place to hinder an insolvent parent from bringing 

the project into bankruptcy. In the U.S., this can 

be achieved by the independent-director 

mechanism, whereby the SPE provides in its 

charter documents a specification that a voluntary 

bankruptcy filing by the SPE requires the 

consenting vote of the designated independent 

member of the board of directors (the board 

generally owing its fiduciary duty to the equity 

shareholder[s]). The independent director’s 

fiduciary duty, which is also to the lenders, would 

be to vote against the filing. In other jurisdictions, 

the same result is achieved by the “golden share” 

structure, in which the project issues a special 

class of shares to some independent entity (such 

as the bond trustee), whose vote is required for a 

voluntary filing. 

The anti-filing mechanism is not designed to 

allow an insolvent project to continue operating 

when it should otherwise be seeking bankruptcy 

protection. In certain jurisdictions, anti-filing 

covenants have been enforceable, in which case 

such a covenant (and an enforceability opinion 

with no bankruptcy qualification) would suffice. 

In the U.K. and Australia, where a first “fixed 

and floating” charge may be granted to the 

collateral trustee as security for the bonds, the 

collateral trustee can appoint a receiver to 

foreclose on and liquidate the collateral without a 

stay or moratorium, notwithstanding the 

insolvency of the project debt issuer. In such 

circumstances, the requirement for an 

independent director may be waived. 

The SPE criteria will apply to the project (and 

to the issuer if a bifurcated structure is 

considered), and is designed to ensure that the 

project remains nonrecourse in both directions: by 

accepting the project’s debt obligations, investors 

agree that they will not look to the credit of the 

sponsors, but only to project revenues and 

collateral for reimbursement; investors, on the 

other hand, should not be concerned about the 

credit quality of other entities (whose risk profile 

was not factored into the rating) affecting project 

cash flows. 

Where the project acts as operator, the analysis 




will look to the ability of the project to undertake 

the activities on a stand-alone basis, and any links 

to external parties. 

Cash management 

Nearly all project structures employ an 

independent trustee to control all cash flow the 

project generates, based on detailed project 

documents that define precisely how cash is to be 

managed. This arrangement helps prevent cash 

from leaking out of the project prior to the 

payment of operating expenses, major 

maintenance, taxes, and debt obligations. In those 

cases where there is no trustee, the 

creditworthiness of the project will be linked 

directly to the cash manager, which is usually the 

sponsor. Projects seeking investment-grade ratings 

will have cash-management structures that 

prevent any distributions to sponsors--including 

tax payments--unless all expenses are fully paid, 

reserves are full, and debt-service coverage rations 

looking back and forward for a sufficient period 

are adequate. 

Sovereign Risk 

A sovereign government can pose a number of 

risks to a project. For example, it could restrict 

the project’s ability to meet its debt obligations by 

way of currency restrictions; it could interfere 

with project operations; and, in extreme cases, 

even nationalize the project. As a general rule, the 

rating on a project issue will be no higher than 

the local-currency rating of the project in its host 

country. For cross-border or foreign currencydenominated 

debt, the foreign currency rating of 

the country in which the project is located is the 

key determinant, although in some instances debt 

may be rated up to transfer and convertibility 

(T&C) assessments of the country Standard & 

Poor’s has established. A T&C assessment is the 

rating associated with the probability of the 

sovereign restricting access to foreign exchange 

needed for servicing debt obligations. For most 

countries, Standard & Poor’s analysis concludes 

that this risk is less than the risk of sovereign 

default on foreign currency obligations; thus, 

most T&C assessments exceed the sovereign 

foreign currency rating. A non-sovereign project 

can be rated as high as the T&C assessment if its 

stress-tested operating and financial 

characteristics support the higher rating. 

A sovereign rating indicates a sovereign 


government’s willingness and ability to service its 

own obligations on time and in full. The 

sovereign foreign currency rating acts as a 

constraint because the project’s ability to acquire 

the hard currency needed to service its foreign 

currency debt may be affected by acts or policies 

of the government. For example, in times of 

economic or political stress, or both, the 

government may intervene in the settlement 

process by impeding commercial conversion or 

transfer mechanisms, or by implementing 

exchange controls. In some rare instances, a 

project rating may exceed the sovereign foreign 

currency rating if: the project has foreign 

ownership that is key to its operations; the project 

can earn hard currency by exporting a commodity 

with minimal domestic demand, or other riskmitigating 

structures exist. 

For cross-border deals, however, other forms of 

government risk could result in project ratings 

below the T&C rating. A government could 

interfere with a project by restricting access to 

production inputs, revising royalty and tax 

regimes, limiting access to export facilities, and 

other means (see “Ratings Above The Sovereign: 

Foreign Currency Rating Criteria Update,” 

published on RatingsDirect on Nov. 3, 2005). 

Business and Legal Institutional 

Development Risk 

Even though a project’s sponsors and its legal and 

financial advisors may have structured a project 

to protect against readily-foreseeable 

contingencies, risks from certain country-specific 

factors may unavoidably place lenders at 

concomitant risk. Specifically, risk related to the 

business and legal institutions needed to enable 

the project to operate as intended is an important 

factor. Experience suggests that in some emerging 

markets, vital business and legal institutions may 

not exist or may exist only in nascent form. 

Standard & Poor’s sovereign foreign currency 

ratings do not necessarily measure this 

institutional risk or country risk, and so equating 

country risk with a sovereign’s credit rating may 

understate the actual risk the project may face 

(see “Investigating Country Risk And Its 

Relationship To Sovereign Ratings In Latin 

America,” published on April 4, 2007). 

In some cases, institutional risk may prevent a 

project’s rating from reaching the host country’s 

foreign currency rating, despite the project’s other

strengths. That many infrastructure projects do 

not directly generate foreign currency earnings 

and may not be individually important for the 

host’s economy may further underscore the risk. 

In certain emerging markets, the concepts of 

property rights and commercial law may be at 

odds with investors’ experience. In particular, the 

notion of contract-supported debt is often a novel 

one. There may, for example, be little or no legal 

basis for the effective assignment of powerpurchase 

agreements to lenders as collateral, let 

alone the pledge of a physical plant. Even if 

lenders can obtain a pledge, it could be difficult 

for them to exercise their collateral rights in any 

event. Overall, it is not unusual for legal systems 

in developing countries to fail to provide the 

rights and remedies that a project or its creditors 

typically require for the enforcement of 

their interests. 

Credit Enhancement 

Some third parties offer various creditenhancement 

products designed to mitigate 

project-level, sovereign, and currency risks, 

among other types. Multilateral agencies, such as 

the Multilateral Investment Guarantee Agency, the 

International Finance Corporation, and the 

Overseas Private Investment Corp. to name a few, 

offer various insurance programs to cover both 

political and commercial risks. Project sponsors 

can themselves provide some type of support in 

mitigation of some risks--a commitment that 

tends to convert a nonrecourse financing into a 

limited-recourse financing. 

Unlike financial guarantees provided by 

monoline insurers, enhancement packages 

provided by multilateral agencies and others are 

generally targeted guarantees and not 

comprehensive for reasons of cost or because such 

providers are not chartered to provide 

comprehensive coverage. These enhancement 

packages cover only specified risks and may not 

pay a claim until after the project sustains a loss. 

Since they are not guarantees of full and timely 

payment on the bonds or notes, S&P needs to 

evaluate these packages to see if they may 

enhance ultimate post-default recovery but not 

prevent a default. Once a project defaults, delays 

and litigation intrinsic in the claims process may 

result in lenders waiting years before receiving 

a payment. 

Therefore, our estimation of the timeliness 



associated with the credit-enhancement 

mechanism is critical in the rating evaluation. For 

Standard & Poor’s to give credit value to insurers, 

the insurer must have a demonstrated history of 

paying claims on a timely basis. Standard & 

Poor’s financial enhancement rating (FER) 

for insurers addresses this issue in the case of 

private insurers. 

Outlook For Project Finance 

Project finance remains a robust vehicle for 

funding all types of infrastructure across the 

globe, and its creative financing structures 

continue to attract different classes of both issuers 

and investors. Project finance continues to be a 

chosen financing technique due to a strong global 

push to add all types of energy and transportation 

infrastructure, and to build new or more publicoriented 

assets, such as stadiums, arenas, 

hospitals, and schools, just to name a few. 

In the Middle East, the continuing development 

of mega-sized, government-driven energy and 

real-estate projects is likely to continue for years 

to come. Related investment in shipping to deliver 

energy projects from the region is also enormous. 

In the U.S., project-finance transactions in the 

power sector, both for acquisitions but also for 

new gas- and coal-fired plants and a host of 

renewable energies, remain very robust. 

Additionally, development activity of new nuclear 

power plants, some of which are likely to be 

undertaken on a project-finance basis, is being 

studied. The U.S. market is also noteworthy for 

large investments in natural-gas prepay deals. 

In Europe, project investment in rail and air 

transportation remains sound, and private-finance 

initiative investment in the U.K. continues to be 

robust. Its cousin, public-private partnerships 

lending for transportation and social 

infrastructure investments in Australia and 

Canada, has also strengthened. 

These favorable trends offset less-favorable 

developments in other parts of the world, such as 

in Latin America, where policies in some 

countries (Venezuela, for example), have led to 

nationalization of some project assets and an 

unfavorable market for further project funding. 

Investor attention to project risk is important, 

especially in light of the relatively easy lending 

covenants and asset valuations seen in a number 

of project transactions in recent years. 

Standard & Poor’s expects that project sponsors 




and their advisors will continue to develop new 

project structures and techniques to mitigate the 

growing list of risks and financing challenges. As 

investors and sponsors return to emerging 

markets, particularly as infrastructure investment 

needs increase, project debt will remain a key 

source of long-term financings. Moreover, as the 

march toward privatization and deregulation 

continues in markets, nonrecourse debt will likely 

continue to help fund these changes. Standard & 

Poor’s framework of project risk analysis 

anticipates the problems of analyzing these new 

opportunities, in both capital-debt and bank-loan 

markets. The framework draws on Standard & 

Poor’s experience in developed and emerging 

markets and in many sectors of the economy. 

Hence, the framework is broad enough to address 

the risks in most sectors that expect to use 

project-finance debt, and to provide investors 

with a basis with which to compare and contrast 

project risk. ■ 



Sept. 5, 2007 



Toronto, 

(1) 416-507-2523 


Kurt Forsgren, 

Boston, 

(1) 617-530-8308 

Ian Greer, 

Melbourne, 

(61) 3-9631-2032 


London, 

(44) 20-7176-3985 

Additional Contact: 

Santiago Carniado, 

Mexico City, 

(52) 55-5081-4413 

Overview 

Since the groundbreaking Chicago Skyway 

transaction in late 2004 (Skyway Concession 

Company LLC), Standard & Poor’s Ratings 

Services has observed rapid growth globally in 

accreting debt and swap structures applied to 

project finance infrastructure transactions. 

Infrastructure is one of the hottest asset classes, 

with private and public pension fund equity and 

various long-term debt providers significantly 

funding long-term concessions or infrastructureasset 

purchases. 

In some transactions we have observed, 

accreting debt and swap structures have facilitated 

significant acquisition premiums (or refinancing 

gains). This is because accreting debt allows the 

partial deferral of interest payments to reduce 

debt service early in the concession or provides an 

additional non-operating source of funds to the 

project in the form of payments from an accreting 

swap early in a concession. The cash flow effects 

of a deferral of interest payments or the addition 

of swap inflows to operating revenue results in 

overstated debt service coverage ratios (DSCRs) 

that, in turn, allow for the tailoring of debt 

service to meet a project’s early-year cash flow 

deficiency and, in many instances, early outflows 

in the form of equity distributions. Without these 

structural features, a highly leveraged project’s net 

cash flows available to service debt early in the 

concession would not meet debt service 

obligations under a traditional amortizing or 

even interest-only debt service profile. 

Simple economics of numerous global capital 

pools pursuing a limited number of concessions or 

acquisition targets results in predictably high 

valuation multiples, boosted by financial 

structures that front-load dividends and returns to 

equity while risk for debt holders lies toward the 

end of a concession. As a result, metrics such as 

enterprise value-to-EBITDA and debt-to-EBITDA, 

on a current and pro forma basis, have become 

increasingly aggressive in a relatively short period 

while investors still assume these to be investment 

grade structures. Given that business risk has not 

shifted, this could be a challenging assumption. 

Moreover, the acquisition multiples are 

considerably higher for many infrastructure 

financings than investment-grade M&A 

transactions in other sectors. In the near term, the 



CREDIT FAQ: ACCRETING DEBT OBLIGATIONS AND 

THE ROAD TO INVESTMENT GRADE FOR 

INFRASTRUCTURE CONCESSIONS 

recent shift to conservatism in credit sentiment by 

lenders (as demonstrated by stricter covenant 

requirements, tighter loan underwriting standards, 

less aggressive structures etc.), together with a rise 

in nominal interest rates, could curb the fairly 

aggressive debt financing structures observed in 

many recent long-term infrastructure concessions 

and acquisitions. In the long term, we expect 

infrastructure assets to maintain their appeal 

given generally solid business positions and ability 

to leverage relatively stable cash flows through 

long-dated concessions--permitting long-term 

debt maturities. 

This report follows “Credit FAQ: Assessing The 

Credit Quality Of Highly Leveraged Deep-Future 

Toll-Road Concessions” and “Global 

Infrastructure Assets And Highly Leveraged 

Concessions Raise New Rating Considerations.” 

This article expands upon topics addressed in the 

previous reports and provides analytical insight to 

our approach in evaluating accreting debt within 

project finance transactions. 

Overall, Standard & Poor’s believes that 

infrastructure financings for long-term 

concessions capitalized with accreting debt can 

achieve investment-grade ratings; however, there 

are several key factors that will differentiate--in 

combination with the assets under consideration-investment-grade 

structures from those exhibiting 

speculative-grade characteristics. In particular, at 

the investment-grade level, we place greater 

emphasis on distribution test multiples, potential 

cash lock-ups and sweeps, examining the 

percentage of accretion relative to total debt at 

transaction inception--with little-to-none for 

short-term concessions (for example, 20-35 

years), limits to additional indebtedness, and 

emphasize the risk/reward allocation between 

sponsors and lenders. 

Question 1: Does accreting debt increase 

the probability of default for an infrastructure 

project? 

Yes and no. In the early years of an accreting debt 

structure, the probability of default is lower 

compared with that of a traditional amortizing 

structure, as the debt service is artificially low. 

However, towards the middle and end of the 

concession, when higher accreted debt balances 

amortize or when bullet payments are due as the 




risk of refinancing is introduced while 

performance risk can have increased at an even 

higher debt burden. At this point, default risk 

increases significantly. 

Compared to an amortizing profile--all else 

being equal, including the proportion of equity 

contribution to a project--an accreting debt 

structure will have weaker credit quality. 

Accreting debt establishes a more aggressive 

financial risk profile and defers repayment of 

debt, often well into the future. The longer the 

debt repayment profile, the greater the cash flow 

uncertainty could lead to deterioration in a 

project’s financial risk profile, thereby raising 

default risk. Moreover, accreting debt and swap 

structures allow significant early period dividends 

paid to equity sponsors (before debt repayment) 

as a result of the excess cash flow produced by 

the accretion or “deferral” component of the debt 

structure. This practice and its effect on credit 

quality are discussed in Question 6. 

Even for infrastructure assets with strong 

business risk profiles, the presence of accreting 

debt in the capital structure would temper credit 

quality. Standard & Poor’s believes that the more 

aggressive the financial structure, the less robust 

the business risk profile; the weaker the legal 

provisions and the greater the contractual risk 

allocation to the concessionaire, the weaker the 

rating on a long-term concession or infrastructure 

asset will be. In addition to accreting debt’s 

influence on default probability, characteristics of 

transactions that, in the absence of offsetting 

credit strengths, are likely to experience weaker 

debt ratings, include the following: 

• A weaker business risk profile. The 

importance of the project rationale and 

business profile to credit quality cannot be 

understated and is discussed more fully in 

Question 4; 

• A shorter concession term and shorter 

equity tail; 

• Notable construction risk without 

commensurate offsetting third-party credit 

supports or cost and schedule risk mitigation 

strategies; 

• Annual increases in debt service payments 

that significantly exceed those in total 

project revenues; 

• Refinancing risk; 

• Unhedged currency risk; 


• High country risk, including political 

stability, currency transferability and 

exchange matters; and, 

• Weak swap or transaction counterparties. 

Question 2: Why is early return to equity 

(through cash distributions) a concern? 

Project ratings address not only the ability but 

also the willingness to pay obligations in full and 

on time. An equity party that had already 

received a full return on an investment early in 

the concession would have reduced incentive in 

resolving issues in times of distress, as preserving 

the equity return might no longer be a 

consideration. As such, where an equity party 

reaped a full return in the early stages of the 

concession, Standard & Poor’s would want to be 

confident that the sponsors had sufficiently strong 

incentives to ensure the project would operate 

successfully throughout the debt’s life. In general, 

we consider that a more closely aligned interest of 

debt and equity is a project strength. 

In addition, the equity participants, through 

their agents--management--can also make 

decisions about timing of capital expenditure and 

other revenue or profit enhancing measures- such 

as toll increases, which could bring forward 

returns at the expense of the project’s viability. 

Question 3: In what asset classes have you 

observed accreting debt structures? 

Accreting debt structures arise in volume-driven 

transactions. The assumption in these transactions 

is that an increasing debt level can be absorbed as 

usage (traffic, tonnage, and containers, for 

example) and increases in revenue (tariff/toll 

increases) generate higher net cash flows. Assets 

that lack this characteristic will unlikely see 

accreting debt as a long-term funding source. 

The breadth of potential infrastructure 

acquisition and concession interests by private 

equity and public pension fund sponsors has 

increased with project finance structures 

becoming more aggressive and complex. Standard 

& Poor’s has observed a growing universe of 

potential asset classes to which long-term 

concessions might apply. Some of those sectors 

include airports, port and port terminal operators, 

parking facilities, toll roads and bridges, water 

and waste water facilities, lotteries and mass 

transit projects. Accreting structures are not only

found in project and concession financing but in 

corporate securitizations of the aforementioned 

sectors as well. 

Question 4: Why is the business risk profile so 

important to the credit quality of infrastructure 

transactions that use accreting debt? 

A project rating is a composite of many factors. 

To narrow the analysis to two factors--business 

and financial risks--some straightforward 

observations can be made. The stronger the 

business risk profile, the weaker the financial risk 

profile (including accreting debt and swaps) can 

be to achieve a certain rating, and vice versa. To 

gauge the appropriate financial risk at investmentgrade, 

the prime focus should be on the 

underlying business risk. Accordingly, to assess 

whether at investment-grade an accreting debt 

structure is commensurate, it is important to 

understand the business risk first, hence the 

importance of the business risk to the rating. 

As we view accreting debt structures to be more 

aggressive, for a similar rating an accreting 

transaction would need to have other strengths to 

compensate for this credit weakness. 

The strong business risk profiles and generally 

robust cash flow streams of infrastructure assets, 

together with strong covenant packages, 

compliance with SPE bankruptcy remoteness 

criteria, and supportive structural features allow 

infrastructure projects to be more highly 

leveraged and use accreting debt compared with a 

corporate entity at the same rating level. 

A strong business risk profile for long-term 

concessions and infrastructure providers would 

include a combination of the following 

characteristics (the listing below does not imply 

any ranking of relative importance): 

• An essential or high-demand service; 

• Where user fees are involved, a high degree 

of demand inelasticity with respect to rate 

increases; 

• Monopoly or near-monopoly characteristics, 

or, alternatively, few providers in the 

industry with substantial barriers to entry 

and limited incentives for competition 

among these service providers; 

• A limited reliance on increases in volume 

growth rates (for example, market exposure 

to traffic, parking activity, tonnage, or 

maritime containers), and aggressive 



assumptions of price inelasticity to rate or 

tariff increases to meet base case revenue 

projections; 

• A favorable legal environment and 

regulatory regime; 

• Limited government interference probability, 

either through public policy changes and/or 

change-in-law risk; 

• A favorable rate-setting regime, although we 

recognize that it is rarely unfettered and, 

even then, can face challenges or political 

contention; 

• Strong bargaining power in relation to 

suppliers and customers; 

• Low, contained, or manageable ongoing 

capital expenditure requirements; 

• Strong counterparty arrangements with, for 

example, contractual offtaker agreements or 

remittance of payments from a highly rated 

public sector entity; 

• Strong historic track record of the asset. To 

this end, a project that is exposed to 

greenfield or start-up operations with no 

usage history (for example, a complete 

reliance on independent consultant 

projections) would be considered to have a 

weaker business risk profile; and 

• Proven technology for construction and 

major maintenance activities, as applicable. 

Question 5: Do you differentiate between 

the forms of debt increase in an infrastructure 

transaction? 

In our credit evaluation of long-term concessions, 

we attempt to understand the economic substance 

and evolving profile of the debt structure: its rise 

and repayments over time relative to the business 

risk profile of the project and the term of the 

concession. The project debt balance could 

increase based on a contractually agreed to 

schedule. Alternatively, the debt balance could 

vary based on required cash flows procured from 

an alternate financing source to meet debt service 

requirements and equity distribution targets. 

Finally, the project debt could rise due to a direct 

contractual link to an inflation index that 

increases during the term of the debt. 

Standard & Poor’s has observed several forms 

of debt instruments that can cause a project’s debt 

to increase early in a concession and result in 

overstated traditional DSCRs. For comparative 




purposes, Standard & Poor’s will also calculate an 

adjusted DSCR assuming the accretion is a debt 

service cash flow item (see Question 10). Types of 

instruments in which debt could rise include: 

• Capital Appreciation Bonds (CABs)--These 

are debt instruments where a portion of the 

interest due and payable to the creditor is 

deferred and added (capitalized) to the 

principal balance according to an agreed 

debt service schedule between the borrower 

and lender. 

• Accreting swaps--These can be used 

alongside a conventional debt instrument to 

create the same economic effect as CABs. As 

the accreting swap counterparty is a debt 

provider, we expect that the accreting swap 

will be considered pari passu with senior 

debt obligations under the project financing 

documents. Although there could be 

variations on accreting swap use, one form 

uses a floating-rate (e.g. LIBOR-based) loan. 

In this case, the project enters into an 

interest rate swap to convert the floating 

rate exposure to a fixed basis. Part of the 

interest obligation on the project’s fixed-rate 

payment to the swap counterparty is 

deferred and capitalized with the swap 

principal balance to create the accreting 

structure. The floating-rate payments from 

the swap counterparty meet the project’s 

floating (LIBOR) based obligations 

originally incurred. This synthetically 

creates the CAB structure described in the 

first bullet. 

• Accreting swap with embedded loan--In this 

instance, the swap payment from the 

counterparty is a cash inflow for the project 

rather than an interest payment deferral and 

floating rate pass-through as noted in the 

second bullet. 

• Credit facilities--Ostensibly the same as the 

third bullet, a credit facility can be used to 

create the same economic effect as the 

accreting swap (an embedded loan). The 

credit facility can provide cash flow to a 

project in the early years of a concession, 

bridging debt service obligations that may be 

higher than cash flow available. The draws 

can also provide cash flow funding for 

equity distributions early in the concession. 

Similar to an embedded loan, this form of 

financing would likely also rank pari passu 


with project senior debt. 

• Inflation-indexed securities--Treasury 

inflation protected securities (TIPS) in the 

U.S.; capital indexing bonds in Australia; 

indexed linked notes in the U.K.; inflation 

units in Mexico; and real return bonds in 

Canada are examples of securities that see 

the principal payment or principal balance 

(if it is a bullet maturity instrument) and 

coupon payment adjusted upward based on 

changes in an inflation index (such as the 

consumer price index). Projects with revenue 

streams or rate increase mechanisms 

strongly linked to inflation benchmarks 

typically issue these securities. The weaker 

the revenue link to inflation, the greater the 

potential deterioration in DSCRs due to a 

mismatch over time between cash flow 

available to service debt and the project’s 

debt service obligations. 

Whether the accreting swap payment is 

included as income (or a credit facility is provided 

to the project as an inflow) or a project 

company’s debt and swap repayment schedule 

allows the partial deferral of interest payments 

(understating debt service), the economic effect is 

the same. DSCRs are overstated and less 

comparable with DSCRs in more traditional 

amortizing debt structures. 

While the form of the project debt increase and 

its subsequent repayment profile is important, so 

too is the absolute size of the debt increase 

relative to the original debt issuance at 

transaction inception. This is discussed in 

Question 7. 

Question 6: What are the observable effects of 

accreting debt on a transaction and its potential 

credit quality? 

The primary effects relate to imposing aggressive 

financial structures on the asset dependent on 

long-term revenue growth. In particular, we note 

the following compared with traditional 

amortizing or many bullet structures associated 

with infrastructure financings: 

• Growing debt levels. Unlike a conventional 

debt refinancing for a volume risk asset 

(which typically occurs when construction 

has been completed and/or a usage history is 

known), accreting debt or an accreting swap 

crystallizes the future debt burden before the

project economics and expected revenue 

growth are known. Unless revenue and 

EBITDA growth is at least equal to the 

proportion of debt accretion, DSCRs will 

narrow and the enterprise value of the 

project will decline. 

• Greater reliance on growth. Accreting debt 

structures cause an overstatement of DSCRs 

in the early years of a concession (by the 

amount of the interest accrual or swap 

inflow to the project). This allows early-year 

cash flow deficiency to be managed (relative 

to expected net revenue) while maintaining 

dividend payments. Moreover, to the extent 

the revenue, EBITDA, operating, and capital 

cost and refinancing assumptions are 

aggressive, as the accreting debt balance 

amortizes in the medium-to-long term, longterm 

DSCRs are at risk of not meeting base 

case projections. 

• Increased flexibility. Deferred-pay 

mechanisms and non-amortizing structures 

can inject flexibility into an infrastructure 

financing structure, especially under more 

aggressive revenue growth assumptions or 

during the project’s start-up phase. 

However, these deferability features 

introduce additional credit risks for senior 

lenders as debt increases. 

• Allocation of risk/reward altered. Significant 

dividend distributions remitted as a result of 

the accreting structure’s deferral of senior 

debt payments effectively puts equity ahead 

of debt in the payment structure. This is a 

reversal of the traditional role of capital 

structure priority and funds flow 

subordination, whereby equity acts as 

patient capital and a buffer for senior debt 

during periods of revenue ramp-up or 

project cash flow weakness and is not seen 

as earning a notable proportion of its 

projected return ahead of senior debt. 

Sponsors have advocated accreting debt 

structures by highlighting lengthy concession 

terms of many infrastructure transactions that 

provide ample time in later years to repay higher 

debt, although that same opportunity to earn cash 

flow returns later in the concession also applies to 

equity distributions. Nonetheless, combined with 

solid business positions and inflation-linked 

revenues streams, sponsors view the risk profile of 



these assets as low. 

In many respects, long-term concessions can be 

viewed as corporate transactions (perpetual 

economic ownership of an asset). Generally, 

corporate entities debt-finance and refinance on 

an ongoing basis. For projects, we assume that 

finite debt is issued and repaid along the 

depreciating asset life. Also, the benefit of 

covenants in rating corporate type structures is 

less so than for projects. While the sponsor 

argument of more corporate style financing of 

very long-term concessions is reasonable, the 

rating challenge is that transaction participants 

cannot have both the benefit of undertaking a 

corporate-style financing but calling it a project 

financing by adding structural features that have 

less value in a corporate finance rating approach. 

To the extent that a good portion of equity 

returns in the early years of a concession is 

derived from excess cash flow that accreting debt 

or swap structures produce, rather than 

outperformance by the project, there are clear 

benefits and incentives for sponsors to promote 

financing structures that use accreting debt. 

Standard & Poor’s has observed financial models 

for infrastructure transactions in which aggressive 

growth assumptions for revenue, together with 

the cash flow benefits of using accreting debt (or 

accreting swaps), results in the original paid-in 

equity capital being returned to sponsors before 

any debt repayment occurs. This has appeal to 

project sponsors but a fundamental credit issue is 

how the shift in risk to long-term lenders and 

the enhanced returns to equity sponsors affect 

credit quality. 

Equity risk premiums (the difference between a 

project’s cost of debt and its expected equity 

return) can provide a quantitative proxy for the 

relative risk of an entity. The equity risk 

premiums observed for accreting debt structures 

in infrastructure financings have been as high as 

8%-12% (800-1,200 basis points). This reflects 

only pretax cash equity yields and excludes 

additional equity return benefit that might be 

earned by sponsors through tax deductibility of 

interest expense and amortization items (capital 

cost allowance deductions or amortization of 

goodwill) should economic ownership and tax 

benefits be conferred to the concessionaire due to 

the concession’s lengthy term. In contrast, 

regulated utilities, which we rate slightly higher 

than low investment-grade infrastructure projects 




with accreting debt, see equity risk premiums 

above their cost of debt of 300-400 basis points. 

A traditional risk-reward relationship between 

equity and debt capital providers includes equity 

capital taking more of a project’s cash flow risks 

(such as later-period uncertainty) than senior 

creditors given the significant risk premium that 

the project sponsors can earn. The expectation of 

higher equity returns than fixed-rate debt should 

incorporate the achievement of base case financial 

projections and reflect higher risk incurrence by 

sponsors, thus providing incentive for equity to 

take a longer view and keep “skin-in-the-game.” 

As noted earlier, to the extent a large proportion 

of the value is derived in the early years of the 

concession through accreting instruments, such 

incentives might be reduced and the interests 

of equity or sponsors and lenders are not as 

closely aligned. 

Question 7: How do we analyze peak debt 

accretion and subsequent amortization guidelines 

for long-term concessions? 

In analyzing transaction structures for mature 

assets that have used accreting debt or swaps, 

Standard & Poor’s has set out broad principles as 

to how far into the concession debt can rise; when 

we would expect a certain proportion of the 

maximum accreted debt balance to paid down; 

and when we would expect final maturity (100% 

paydown of the maximum accreted debt balance). 

This amortization principle has varied depending 

upon the concession’s length, the asset’s business 

risk profile, and offsetting structural features 

that might provide support to the credit risks of 

debt accretion. 

We are likely to view shorter term concessions 

(e.g. 20-35 year terms) with short-to-no tail or 

concessions with significant construction risk, for 

example, as more speculative unless their debt 

burden and accretion proportion is considerably 

lower than an asset with a longer concession 

term, all else being equal. In many cases, a shortterm 

concession is not likely to exhibit the 

characteristics that allow for accreting debt and 

still achieve investment grade. 

We have not previously commented on the 

magnitude of maximum debt accretion relative to 

the original debt at transaction inception. This 

will be a function of different asset classes, 

business profiles, structural protections, and 


desired rating levels. Our credit analysis also 

focuses on the physical and economically useful 

life of an infrastructure asset to which to link 

amortization and the final maturity of debt 

(particularly if the asset risks physical or 

economic obsolescence, substitution, or increasing 

competition). For this reason, there are no fixed 

standards for acceptable investment-grade 

leverage levels, credit ratios, or debt accretion and 

subsequent amortization guidelines. We assess 

each credit independently on all these factors, 

although broad business risk profile distinctions 

reflect the strength of certain asset classes and the 

ability to support relative accreting debt burdens. 

For example, a long-term airport concession, all 

else being equal, would likely be considered to 

have a stronger business position than a parking 

facility concession, which is likely to have greater 

competition and substitution risks. 

(x) 

2.5 

2.0 

1.5 

1.0 

0.5 

0 

2005 

2010 

2015 

© Standard & Poor’s 2007. 

2020 

Debt Structure And 

Deferred Pay 

25-year amortizing debt Moderate accreting debt Significantly accreting debt 

2025 

2030 

2035 

Principal Outstanding 

The chart above illustrates project debt accretion 

proportion and subsequent principal amortization 

under three different payment profiles. The lines 

in the graph do not represent any specific project 

that Standard & Poor’s rates, but illustrates the 

potentially different risk profile of varying 

debt and maturity structures, as well as the 

impact the concession term length might have 

on credit quality. 

• The curve at the bottom of the table 

represents a traditional 25-year amortizing 

debt instrument common in the U.S. public 

2040 

2045 

2050 

2055 

2060 

2065 

2070

finance market that has a predominately 

interest-only payment profile in the first few 

years of the concession with full 

amortization occurring thereafter. This 

amortization schedule may be used to 

produce level annual debt service costs or, in 

concert with a capitalized interest period, to 

manage construction of an asset--for which 

there could be no revenue receipt until 

completion. Such a structure might have a 

modest (to no) equity tail based on a shorter 

concession. 

• The middle curve represents a long-term 

concession (a term of at least 50 years if 

there is no equity tail but up to 75 years if 

there is a 25-year tail). In this senior debt 

repayment profile, debt accretes to about 

25% higher than the original par issuance at 

or about year 20 and amortizes to zero in 

the next 30 years. 

• The top curve represents a concession that is 

likely at least 75 years in term, as the senior 

debt accretes to more than 2x (100%) 

relative to original par issuance in the first 

40 years of the concession and then 

amortizes rapidly in the next 15-20 years. 

Assuming the same asset and business risk 

profiles and debt-to-capital ratio at transaction 

inception, with the notable potential differences 

being variations in concession term, covenants, 

legal provisions, and debt and maturity structure, 

Standard & Poor’s would likely view the first 

curve (colored light green) as the most 

conservative financial risk profile and the third 

(red) as the most aggressive. This is the case given 

the absence of accretion and the proportion of 

debt repayment early in the concession for the 

first scenario and the very high proportion of 

accretion and the back-ended nature of the 

repayment profile for the third scenario, which 

would also likely imply high dividends payable to 

sponsors during the period of considerable 

accretion. Standard & Poor’s would not view the 

third scenario as investment-grade regardless of 

how strong the business risk profile or underlying 

asset quality. The second curve (dark green) could 

be investment grade if it had a solid business risk 

profile, supportive covenants and legal provisions, 

and a lengthier equity tail--although how close 

this scenario could get to the credit quality of the 



first one would be determined by the relative 

differences of these factors. 

In summary, our ratings will incorporate the 

maximum accretion relative to original par debt 

issuance, the proportion of back-ended principal 

repayments and the share of paid-in equity capital 

returned in the form of dividends referenced in 

Questions 5 and 6 into our analysis with less 

aggressive structures generally associated with 

higher rated concessions. 

Question 8: How would Standard & Poor’s 

analyze the accretion characteristics and 

subsequent amortization guidelines for public 

infrastructure owners and debt issuers? 

These transactions will be evaluated on a case-bycase 

basis. In the U.S. public finance market, 

capital appreciation bonds have been employed 

for many years, often in the start-up toll road 

sector. Although these structures provide cushion 

and flexibility during the initial years of toll 

projects when revenues are still growing, they in 

fact result in a higher debt burden in later years. 

This can be problematic for a start-up facility, 

especially during a restructuring, if net toll 

revenues fall short of projections and debt service 

requirements. All things being equal, the ability of 

a public sector entity to assume accreting debt 

structures is comparatively better than for 

projects for several reasons including the ability to 

pledge revenues from a variety of assets (not just 

a single project), the lack of a concession term, its 

long-term interests as the permanent asset owner 

and the lack of dividend payouts which 

presumably allows for better liquidity and capital 

expenditures that improve asset quality and 

enhance revenues. As such, adherence to our 

amortization guidelines is not necessary for 

consideration of investment grade structures. 

However, on a relative basis, the financial risk 

profile of a public sector debt issuer would be 

viewed as more aggressive and highly leveraged 

and a weaker credit compared to traditional 

amortizing debt structures. Additionally, the same 

fundamental credit concerns regarding shifting 

long-term risks to lenders exist, although they can 

be mitigated through the mechanisms discussed in 

this FAQ including cash sweeps and debt 

reduction under scenarios when revenue 

projections fall short of forecasts. 




Question 9: Do you review ratios and financing 

assumptions differently when reviewing accreting 

debt structures? 

No. In addition to ratios and cash flows we 

examine the capital structure and liquidity as part 

of the financial analysis. Our approach to the 

analysis of ratios and financing assumptions 

places emphasis on: 

• The magnitude of the accretion in the 

concession’s early years along with the 

schedule and pace of debt repayment; 

• Distribution policy based on the accreting 

debt or swap structure; 

• Capital (debt-to-total capital) and 

debt structure; 

• Financing rates, including estimated credit 

spreads on risk-free reference rates and 

swap rates; 

• Refinancing risk, including market risk for 

refinanced debt and any exposure to 

changing interest rates and credit spreads at 

refunding dates; 

• Inflation expectations and linkage to 

revenue setting ability; 

• Volume growth estimates for the assets; 

• Revenue projections and assumed growth 

rates--in particular, for proposed toll- or 

user-rate increases and the modeled demand 

elasticity associated with such increases; 

• Capital expenditure obligations; 

• The relationship between the growth in 

annual debt service costs for the project and 

the projected growth in revenue; and 

• Operating cost assumptions and forecast 

synergies or savings through a long-term 

concession respecting a formerly publicly 

managed asset. 

We believe that the private management of a 

formerly publicly managed infrastructure asset 

could present revenue optimization and costsaving 

opportunities that might not have 

historically been a priority for a public sector 

body that managed operations with rate 

affordability and a break-even financial position 

as strategic goals. Public infrastructure owners are 

currently reevaluating this approach to rate 

setting in the face of growing capital and 

maintenance needs, in addition to other fiscal 

pressures. Nevertheless, despite the financial 


incentives inherent in an entity with equity 

sponsors, we consider the reasonableness of 

the financing and operating assumptions in 

our analysis. 

Tightly defined and higher permitted 

distribution tests (DSCR based equity lock-ups) 

provide some measure of protection for dividend 

distributions to equity ahead of debt. As part of 

future accreting debt transactions, Standard & 

Poor’s expects more aggressive structures will 

likely necessitate some form of debt repayment 

through a partial cash sweep mechanism funded 

from locked up equity proceeds. This provision 

would be linked to a period of time in which the 

permitted distribution test has been invoked and 

locked-up cash proceeds can be redirected for 

debt repayment. This provides additional 

incentive to sponsors to avoid equity lock-up all 

altogether, but particularly for a prolonged 

period, as it might significantly reduce their equity 

return by the amount of trapped cash that might 

be permanently redirected to debt reduction 

through mandatory prepayments. 

For investment-grade ratings, Standard & 

Poor’s also expects to see an alignment between 

cash flows allocated to a project’s equity sponsors 

and its long-term lenders. Among the ratios that 

we will analyze to guide our approach to better 

balancing cash flow returns between debt and 

equity is a dividends payable to EBITDA measure 

that more closely follows the metrics observed by 

regulated utilities or other infrastructure 

companies. Regulated utilities have dividends 

payable to EBITDA ratios of 15%-25%, whereas 

a credit such as 407 International Inc. (a 99-year 

Canadian toll road concession company) has 

posted dividend-to-EBITDA ratios in the mid-tohigh 

20% range. For many of the accreting debt 

concession transactions that we observe, this ratio 

is considerably higher because of debt accretion 

and swaps. 

Standard & Poor’s is reviewing using debt stock 

ratios (such as debt to EBITDA) and cash 

distribution measures (such as annual dividend 

distributions relative to annual project EBITDA) 

to complement DSCRs, traditional credit metrics, 

and stress testing scenarios. These ratios will play 

an increasing role in investment-grade credit 

metrics for infrastructure concession projects that 

use accreting debt structures.

Question 10: If traditional DSCRs are less 

meaningful, how do other measures such as Loan 

Life Coverage Ratios (LLCR) or Project Life 

Coverage Ratios (PLCR) factor into the analysis? 

Traditional DSCRs are of limited analytical value 

when a financial risk profile has significant 

accreting debt or accreting swaps because the cash 

flow effects (deferral of interest or nonoperational 

inflows) to the project early in the 

concession term overstates this ratio. To this end, 

we estimate the project’s cash flow based DSCR 

(including the effects of accreting debt or 

accreting swaps) but also calculate a DSCR 

profile that would adjust for the effects of 

accretion and debt capitalization. This is of 

particular value in the review of the early years of 

a concession, when accretion features tailor debt 

repayment to revenue growth assumptions. 

In calculating an alternative DSCR, we include 

in the denominator the project’s actual cash-based 

payment of debt and swap obligations, as well as 

the capitalized amount that is deferred and added 

to the project’s debt balance. For certain kinds of 

accreting swap structures, the adjustment removes 

from the numerator swap inflows payable to the 

project that achieve the same effect as the interest 

payment deferral. This adjusted DSCR calculation 

complements the review of the percent rise in debt 

(due to accretion) that occurs from the original 

issuance to the project’s maximum peak debt 

balance (including accrued swap amounts owing). 

In calculating the base case DSCRs for accreting 

debt projects, we include in the numerator 

operating revenue (excluding interest income, 

earnings from asset sales, debt or equity proceeds, 

and insurance proceeds) minus operating and 

maintenance expenses (including mandatory 

major maintenance reserve account deposits). The 

DSCR numerator can also exclude swap 

payments to the project from the swap 

counterparty if these payments are viewed as a 

pass-through to meet the project company’s 

obligation to a debt provider. Drawdowns on an 

LOC or accreting swap proceeds that achieve the 

same effect as an interest payment deferral can be 

an adjustment to the DSCR numerator given their 

primary cash flow structuring role. In addition to 

traditional cash interest obligations, which 

deferral features will understate, the DSCR 



denominator includes any monoline bond 

insurance costs and swap costs associated with 

synthetic debt products. 

LLCRs and PLCRs are less relevant to debt 

ratings, which assess an issuer or debt issue’s 

probability of default; however, these ratios 

provide important analytical value to our 

recovery rating process, in which we assess the 

recovery of accrued interest and principal 

outstanding following an unremedied payment 

default. In addition to being based on projected 

revenues, LLCRs and PLCRs are generally higher 

than DSCRs, which typically reflects the equity 

tail at the end of the concession (when the project 

debt has been retired.) 

During cash flow weakness, LLCRs and PLCRs 

can remain well above 1.0x, whereas periodic 

DSCRs during the same time frame could fall 

below 1.0x, requiring draws on liquidity to avoid 

default. A project could default on its debt 

obligations, while depending on assumptions of 

capital structure, discount rate, and revenue 

growth following the default for the remainder of 

the concession, the LLCRs and PLCRs (a proxy 

for recovery) could be greater than 1.0x (or 

greater than 100% recovery). For projects with 

manageable peak accretion and a considerable 

equity tail, such a solid recovery scenario is 

quite possible. 

Question 11: Can security features and structure 

and protective covenants offset the relative higher 

risks of an accreting debt structure? 

Protective covenants can strengthen a 

transaction’s credit profile by limiting the ability 

of the project to incur more debt, acquire dilutive 

businesses or distribute cash when it performs 

below base case expectations. No amount of 

structuring or covenant protection, however, can 

completely compensate for a weak business risk 

profile or overly aggressive financial structure. 

Standard & Poor’s expects the standard 

structural features or covenants to be considered 

for a project rating, particularly one that 

incorporates accreting debt and has a more 

aggressive financial profile. Where covenants 

require quantitative limits (such as DSCR based 

tests), there is no fixed rule of thumb that can be 

applied to achieve an investment grade rating. 




Question 12: Is the documentary and legal 

review for an accreting debt or swap structure 

different from other project finance or 

PPP ratings? 

No. The legal review across project structures is 

comparable, and Standard & Poor’s expects that 

transactions using accreting debt will have a 

robust legal structure. Our documentation and 

legal review includes a detailed examination of 

the concession agreement terms, and its 

supporting schedules and appendices, which 

govern the long-term relationship and risk 

allocation between the concessionaire and 

the concession grantor. Standard & Poor’s 

legal review will also examine any proposed 

intercreditor agreement and the 

covenant package. 

Certain jurisdictions benefit from more creditorfriendly 

legal regimes that can contribute to 

infrastructure project rating differences. 

Infrastructure project financings are generally 

more susceptible to local law exposure than other 

types of structured financing because of the 

physical location of the assets and the often 

essential and politically sensitive nature of the 

assets. For more information, see “Jurisdiction 

Matters For Secured Creditors In Insolvency” and 

“Emerging Market Infrastructure: How Shifting 

Rules Can Stymie Private Equity.” 

Question 13: Beyond the already stated effects of 

accretion, how does Standard & Poor’s evaluate 

swap transactions as part of its credit analysis? 

Many project sponsors employ interest rate or 

currency swap strategies to achieve cost-effective 

debt financing. These swaps are generally 

integrated into an overall swap that includes 

accretion features. 

A capital structure that includes both debt and 

accreting swaps will require a review of the 

relevant swap documentation and inter-creditor 

agreement. As an accreting swap counterparty is 

allowing a portion of the project company’s 

interest payable under its swap arrangement to 

accrue, it is acting as debt provider, and these 

swap obligations will likely be considered pari 

passu with other debt obligations. It is important 

to determine if there are cross default provisions 

on events, such as early swap termination, which 

could lead to acceleration of the debt obligations. 

One potential credit issue is whether or not the 


transaction is swap-independent. For example, if 

the swap were to terminate, the issuer would pay 

or receive a payment to or from the swap 

counterparty. If the issuer did not receive a 

payment due to a counterparty default, it might 

not be able to replace its swap position at similar 

rates or terms, so might not be able to 

perform at previously expected (rated) coverage 

levels without rate increases or possible 

rating implications. 

For transactions originating in the U.S. with 

U.S. swap counterparties, Standard & Poor’s 

might undertake a debt derivative profile (DDP) 

exercise. Although we consider many factors, the 

DDP scores principally indicate an issuer’s 

potential financial loss from over-the-counter debt 

derivatives (swaps, caps, and collars) due to 

collateralization of a transaction or, worse, early 

termination resulting from credit or economic 

reasons. We integrate DDPs into rating analyses 

for swap-independent issuers, and they are one of 

many financial rating factors. 

These credit issues are central to our rating 

analysis as monoline bond insurance policies 

might guarantee swap payments due from (but 

not due to) the issuer. As a highly rated financial 

guaranty policy should maintain payments to the 

swap counterparty (should a wrapped project not 

be able to meet its swap and debt obligations due 

to poor performance), the project company 

should not be in default on its side of the swap. 

Swap renewal, if applicable, and swap 

counterparty credit quality remain analytical 

issues, even for monoline wrapped transactions. 

As a result, Standard & Poor’s will examine 

within a swap transaction the level and minimum 

credit quality of collateral posting, and 

replacement requirements should minimum credit 

rating levels be violated by swap counterparties. 

Question 14: Given the commitments of 

monoline bond insurers, how is refinancing risk 

factored into the credit rating for an accreting 

debt structure? 

A monoline insurer that provides a guarantee 

policy for refinancings reduces the market access 

risk and the spread risk at refinance. Even ‘AAA’ 

interest rates and credit spreads vary and in the 

absence of a hedging strategy, the uncertain future 

cost of debt refunding could narrow coverage 

ratios in a stress case. We evaluate the underlying

credit quality of a transaction before overlaying 

and assessing the incremental contribution of 

credit substitutions such as monoline wraps. 

Moreover, our view of refinancing risk depends in 

large part on the expected cash flows of the 

project at the time of refinancing. 

Our starting point is to assume that refinancing 

risk within an accreting debt structure is 

manageable in long-dated concessions with a 

sufficient tail (about 10-30 years). We will 

examine financial models to understand the 

assumptions being made about refinancing (such 

as the interest rate employed) and stress tests will 

be used to evaluate the sensitivity of transactions 

to less-favorable interest rate assumptions at 

refinancing points. The history, record and 

expectation of local debt markets will have a 

different weight on emerging markets. 

Investment-grade structures will typically have 

secured appropriate hedging arrangements in this 

regard. A monoline insurer’s commitment simply 

gives additional comfort to any refinancing 

risk analysis. ■ 






Sept. 19, 2007 


Andrew Palmer, 

Melbourne, 

(61) 3-9631-2052 

Kurt Forsgren, 

Boston, 

(1) 617-530-8308 


New York, 

(1) 212-438-2080 



Toronto, 

(1) 416-507-2523 


London, 

(44) 20-7176-3985 

Santiago Carniado, 

Mexico City, 

(52) 55-5081-4413 


CREDIT FAQ: THE EVOLVING LANDSCAPE FOR 

SUBORDINATED DEBT IN PROJECT FINANCE 

Emboldened by active competition and 

continued demand for project and 

infrastructure assets, the landscape for 

subordinated debt structures in project finance 

transactions continues to evolve. Indeed, some 

debt arrangers are pushing new boundaries to 

structure and fund ambitious greenfield and 

brownfield asset developments or leveraged 

acquisitions (see “The Changing Face Of 

Infrastructure Finance: Beware The Acquisition 

Hybrid” on page 8). Notwithstanding the recent 

upheaval in credit markets, the driving force 

behind debt structuring is usually simple: lower 

the after-tax weighted-average cost of capital 

while providing flexibility to project sponsors and 

investors and enhancing cash returns on equity. 

The result is most often higher leverage and 

added complexity through a mix of senior and 

subordinated debt--more eloquently referred to as 

“structural optimization” by debt arrangers. 

As employed in project finance for many years, 

market participants are “tranching” a project’s 

liability structure into senior debt, subordinated 

debt, and in more recent years--depending on the 

window of opportunity--“payment in kind” (PIK) 

notes (see “LBO Equity Hybrids: Too Good To Be 

True” published on RatingsDirect on Aug. 10, 

2007). Importantly from a credit perspective, 

regardless of the underlying project, the common 

theme is increased gearing and more complex 

funding and documentation structures--both 

which have varying effects on a project’s debt 

ratings and recovery prospects in terms of the 

potential level of default and loss given default. 

This FAQ will highlight the criteria issues 

related to analyzing senior and subordinated 

structures in the context of issue ratings and 

recovery analysis. 


What is project subordinated debt? 

In its purist and simplest form, a project’s 

subordinated debt typically ranks behind a 

project’s senior debt in terms of priority over predefault 

cash flows and security over collateral, 

and in the event of insolvency behind any 

enforcement proceeds, assuming there is anything 

left. In this context, project subordinated debt is 

used in structures as a form of credit 

enhancement for senior debt that establishes the 

distribution of a project’s default and recovery 

over the life of the financing structure. 


Typically, the rights for project subordinated 

debt are defined under a project’s structural, 

contractual, and legal framework. This structural 

framework for projects should incorporate a 

“ring-fenced” entity, a pre-default cash-flow 

waterfall, cash lock-up and sweep triggers, a debtservice 

reserve account, and post-default 

liquidation processes. Consequently, given the 

varying characteristics of subordinated debt the 

default and loss given default of any tranches of 

project subordinated debt may occur at different 

time intervals over the term of a transaction’s 

life cycle. 

Why is subordinated debt used in 

project transactions? 

Subordination gives project finance transactions 

the ability to create one or more classes of debt, 

which can allow access to more debt or alternate 

investor classes. One of the main objectives of 

using subordinated debt is to improve a project’s 

after-tax weighted-average cost of capital through 

improving the rating on senior debt while 

segregating credit risk and enhancing the return 

on equity. At the same time, sponsors of a project 

often use subordinated debt for tax and 

accounting reasons, particularly where there may 

be restrictions in distributing cash from a specialpurpose-vehicle 

structure due to retained 

accounting losses. Subordinated debt may also be 

an option explored by debt arrangers if seniorsecured 

financing options have be exhausted or 

capped out. 

Can subordinated debt be treated as equity for 

analytical purposes? 

Often project sponsors use subordinated debt as a 

substitute for equity. Depending on the underlying 

project ring-fence structure, security, contractual, 

and legal framework in each jurisdiction, 

Standard & Poor’s may consider treating 

subordinated debt as equity for analytical 

purposes on a case-by-case analysis. Such an 

analytical scenario may occur if a project’s debt: is 

deeply subordinated within a strongly ring-fenced 

vehicle with a structural waterfall and distribution 

triggers; has no rights to call default or accelerate 

payment; ranks after senior debt under predefault 

and post-default cash-flow waterfalls; and 

matures after senior debt. Like most financing 

structures, however, the answer will reside in the 

detail of a particular transaction in its relevant 

jurisdiction.

What are some of the key types of project 

subordinated debt? 

While there are project-specific nuances, in most 

instances the type and level of subordinated debt 

has been tailored to the cash-flow characteristics 

of each project. Standard & Poor’s has identified 

a variety of structural, contractual, and legal 

forms of subordinated debt in project finance 

transactions: 

Deeply subordinated (pre- and post-default) debt. 

A form of deeply subordinated debt is shareholder 

loans, which display many of the characteristics 

of equity, and have no rights to call default or 

rights on enforcement, or calls on the post-default 

recovery proceeds. This form of subordinated 

debt is often used in the public-privatepartnership 

(PPP) space as tax-efficient equity 

for sponsors. 

Residual value subordinated debt. 

This debt is structurally reliant on residual or 

dividend cash flow from another project-financed 

vehicle with senior-ranking debt and possibly even 

subordinated debt obligations. These residual cash 

flows or dividends are usually only available 

subject to certain debt lock-up tests being 

achieved at the underlying project funding vehicle. 

Dividends or residual flows may also be 

dependent on the ability of a project company to 

distribute cash flows due to retained 

accounting losses. 

PIK notes. 

Typically, PIK notes are structurally subordinated 

to senior debt or second-ranking lien debt in a 

project’s pre-default and post-default cash-flow 

waterfall, with coupon payments at the discretion 

of the issuer. If coupon payments under the PIK 

notes are not made in the form of cash 

distributions, the coupon is usually made whole 

by the issuance of PIK notes of equivalent value. 

Unlike true equity, PIK notes usually have a 

maturity date and at least some rights against the 

issuer to help ensure repayment. Standard & 

Poor’s will treat PIK notes as debt in calculating 

credit metrics. 

While it may be possible to carve-up a project’s 

cash flows to create a subordinated instrument in 

a number of forms, there is no “free lunch”, and 

at some point the key consideration is how a 

subordinated debt instrument will or will not 



affect default or recovery of senior-ranking debt 

from a credit and legal perspective. 

What are the key structural elements considered 

by Standard & Poor’s? 

In examining a project’s liability and capital 

structure, we are often asked what the main 

structural and documentation considerations it 

undertakes to assess how a project’s debt is 

structurally, contractually, or legally subordinated. 

The objective is relatively simple: if subordinated 

debt obligations are to provide credit support and 

collateral to senior rated debt, then subordinated 

debt must have no rights that could accelerate or 

cause default or increase the level of loss given 

default of any senior-ranking debt. Nevertheless, 

Standard & Poor’s will typically review several 

aspects in any assessment: 

The rights of subordinated debt to call a default 

or cross default to senior classes of debt. 

It is not appropriate that a payment default on a 

tranche of subordinated debt could cause a 

default under the senior debt provisions. 

The rights of subordinated debt to accelerate 

payment while senior debt is outstanding. 

Subordinated debt should not have any right to 

accelerate while senior debt is outstanding. 

Senior debt rights to lock-up or sweep cash flow. 

Following any breach of a senior debt cash-flow 

lock-up trigger or cash-flow sweep trigger, 

subordinated debt should not be entitled to any 

cash flow, other than what might be available 

from reserves that are specifically dedicated to the 

subordinated debt obligations. Similar to the 

point above, this should also not give 

subordinated debt any rights to call or trigger 

default or acceleration as a result of a senior lockup 

or sweep trigger being breached. 

The pre-default and post-default cash-flow 

waterfall and transaction documentation. 

This is necessary to understand how subordinated 

debt is structurally and legally subordinated. This 

would include an understanding of how cash 

flows are distributed and shared in a transaction’s 

cash-flow waterfall. Typically, subordinated debt 

should be serviced after payments to operations, 

senior debt interest and principal, any net hedging 

settlements, and any senior debt-service reserves 




and maintenance accounts, which are there to 

support the senior debt rating. Likewise, collateral 

security interests or claims upon liquidation 

granted to subordinate lenders should rank after 

senior debt. 

The maturity profile of subordinated debt 

should be longer dated than senior debt, 

otherwise it is not truly subordinated. 

The voting rights of debt participants. 

These rights should be limited solely to senior 

debt participants; subordinated debt should have 

no rights while senior debt is outstanding. 

Nonpetition language. 

This needs to be considered to ensure that no 

winding-up provisions are allowed while senior 

debt is outstanding either permanently or for a 

specified period. Typically, the objective is to 

ensure that subordinated debt has no right to 

challenge any enforcement rights or validity in the 

priority of payments of senior debt holders. 

The events of default and termination events 

of any interest-rate swaps used to hedge 

subordinated debt. 

These need to be closely examined. Although the 

majority of subordinated debt is fixed-rate debt, if 

variable subordinated debt is used and overlaid 

and mitigated with a interest-rate hedge, the 

events of default and termination events of the 

swap would need to be limited so as not to 

accelerate or cross-default senior debt. 

Subordinated debt rights or remedies in a 

restructuring, insolvency, or 

bankruptcy proceeding. 

Deeply subordinated debt should not have any 

such rights or remedies. For beneficial equity 

treatment, project subordinated debt should only 

be able to enforce its security and creditor rights 

unless, and until, senior debt has done so. 

What is the analytical framework for project 


Some market participants think of the analytical 

assessment behind rating subordinated debt as 

one of simply solving a target debt-service cover 

ratio (DSCR) or simply notching off the senior 

debt issue rating. But our approach is more 

sophisticated. No two projects are the same from 


a business, industry, market, operational, 

structural, or legal perspective. Certainly, it is fair 

to say that a senior debt issue rating provides 

some starting point for the subordinated debt 

rating. However, in order to make a proper 

assessment, we assess a project’s cash flows to 

understand where the credit stress points may be 

relative to the payment structure under the 

subordinated debt instrument and its exposure 

horizon. In assessing the ability and willingness of 

a project’s subordinated debt to pay its 

obligations in full and on time, our analytical 

framework reviews and measures a number of 

elements that influence the level of potential 

default and rating of a subordinated debt tranche: 

The underlying business and industry risk of 

a project. 

This examines the key business and industry 

economic fundamentals that influence the 

underlying volatility of a project’s operating cash 

flow. 

A project’s financial ratios (for example, DSCR 

on a total debt basis {senior and subordinated 

debt} and segregated subordinated debt basis after 

{senior debt}). It is important to note that the 

DSCR should not be viewed in isolation. This is 

particularly true when a project includes accreting 

debt structures that can overstate a transaction’s 

DSCR, while also deferring senior debt 

amortization. (see “Accreting Debt Obligations 

And The Road To Investment Grade For 

Infrastructure Concessions” on page 105). As a 

result, we closely examine all financial ratios, 

particularly revenue growth assumptions and the 

components of the coverage ratios that are can be 

overstated by such financing instruments. 

Senior debt cash lock-up triggers, sweep triggers, 

and reserve limits (for example, senior debtservice 

reserve and maintenance reserves). 

Understanding these triggers and reserves is a 

critical part of the analytical framework for 

subordinated debt, as such lock-up triggers and 

reserves are for the protection of senior lenders 

only, and may result in subordinated debt being 

more susceptible to default, particularly if 

subordinated debt does not have its own 

dedicated debt-service or liquidity reserve.

Sensitivity and break-even analysis on each 

project is undertaken. 

This takes into account the specific cash-flow 

waterfall structure and repayment terms and 

conditions of senior and subordinated debt. 

Sensitivity analysis helps demonstrate and 

highlight potential downside thresholds under 

which subordinated debt may miss a payment of 

interest or principal. Stress tests, which are 

usually in the form of break-even analysis, assist 

in understanding whether a missed payment is 

due to any lock-up triggers or other distribution 

stoppers being breached and stopping cash 

flowing through to subordinated debt (and any 

dedicated debt-service reserve running out), or 

just the fact that there is not enough cash after 

the senior debt has been serviced irrespective of 

any distribution trap or stopper. Stress sensitivities 

are run on revenues, availability, prices, operating 

costs, capital expenditure, inflation, and 

refinancing spreads. Typically, the level of stress 

placed on subordinated debt is reconciled with the 

overall risk of the project and likelihood of a 

stress scenario occurring. 

Assessing the level and type of credit 

enhancement supporting subordinated debt. 

Such credit enhancement can take the form of 

equity, and project cash flows available after 

senior debt-service and liquidity reserves, usually 

in the form of dedicated debt-service reserves for 

the benefit of subordinated debt. If a 

subordinated debt instrument does not have its 

own debt-service reserve, it is likely to be more 

susceptible to default under stressed scenarios. 

Ability for senior debt to raise additional debt or 

offer security ahead of subordinated debt. 

Most projects allow limited other financial 

indebtedness to be raised and security granted to 

enhance the rating of senior debt. However, if this 

right is too broad, it may affect the level of 

subordination, which may change over time. 

What will influence the probability of default on 


Apart from a project’s underlying operating and 

business fundamentals, which will be the major 

influence on the performance of a project, the 

probability of default of a project’s subordinated 

debt will be influenced typically by: 



• The contractual and legal structure of a 

project, which usually incorporates a predefault 

cash-flow waterfall, cash lock-up 

and sweep triggers, a timeframe before cash 

is released from lock-up, and debt-service 

reserve accounts for senior debt; and 

• The terms and conditions of the underlying 

subordinated debt and any dedicated 

liquidity or debt-service reserve allocated for 

subordinated debt. 

Accordingly, key subordinated debt rating 

considerations include: how likely a project will 

go into distribution or equity lock-up; how long it 

will remain there; what happens to the trapped 

cash once in lock-up; and what type of credit or 

liquidity support (such as reserves) exist to lower 

default probability. If a distribution-trap 

mechanism does not last for an indefinite period, 

it could be argued that the resumption of debtservice 

payments on subordinated debt-depending 

on the project, scenario, and 

subordinated liquidity reserves--is likely to be 

certain. The analytical challenge is determining 

the duration of any under performance. We 

typically run stress scenarios for each project to 

analyze how long it would take for a rated 

tranche of subordinated debt to default under 

varying scenarios. Nonetheless, any significant 

deterioration in the performance of a project is 

likely to magnify the level of potential default on 

any subordinated debt. 

What will affect the recovery of 


If a project suffers from poor performance and 

there is a missed payment of interest or principal 

on a project’s subordinated debt, a major 

determinant on the recovery prospects of 

subordinated debt is whether senior debt has also 

defaulted. If senior debt has not defaulted, it 

would prevent any recovery action of 

subordinated debt until senior debt is repaid or 

defaults. If this was to occur, there may be limited 

or zero recovery for subordinated debt. 

Should senior debt default or be repaid, factors 

that would influence the recovery prospects of 

subordinated debt include: 

• The nature of the default; 

• The type of security, collateral, and any 

first-loss protection; 




• The type of security enforcement scenario 

(liquidation versus selling the project as a 

going concern); 

• Senior debt’s ability to influence the 

recovery for its benefit; 

• Macroeconomic conditions and its impact 

on the value of any collateral; 

• The level of any break costs under a hedging 

or derivative instrument; 

• The insolvency or bankruptcy regime in a 

jurisdiction or country; 

• Third-party costs, such as legal and 

insolvency-related costs; 

• The time it takes to emerge from default; 

• The length and value of a project’s cashflow 

tail after the repayment of senior debt; 

• Any other equal-ranking obligations. 

As each of these factors can vary considerably 

from market to market across the globe, so too 

will the level of recovery for each project’s 

subordinated debt. Consequently, each project 

needs to be examined on a case-by-case basis. 

Why can subordinated debt issues be rated one 

or more notches below the senior debt rating? 

As each project’s business profile is unique, so too 

is its financial, contractual, and legal structures. 

Depending on the unique features of each project, 

our ratings on project subordinated debt issues 

have on average ranged up to three notches below 

the senior debt rating. However, there have been 

exceptions in both directions, depending on the 

project and specific structural elements, 

covenants, and security features. Some credit 

features that have led to subordinated debt being 

rated more than one notch below senior debt (and 

hence more equity-like treatment) have included: 

• Severe cash-flow encumbrances on 

subordinated debt servicing due to senior 

debt distribution lock-ups, the timeframe 

before cash is released from lock-up, and 

debt-service reserve maintenance; 

• No rights or remedies in the event of a 

default affecting senior debt; 

• No cross-acceleration or cross-default 

mechanisms; and 

• Low debt-service coverage ratios and 

stress buffers. 


Conversely, some credit features that have led 

to subordinated debt being rated closer to the 

senior debt rating have included: 

• Contingent support from sponsors to 

mitigate cash-flow encumbrances on 

subordinated debt servicing; 

• Lower probability of reaching equity lockup, 

which could occur in a project due to 

simple services to be delivered, a benign 

payment mechanism, strong and/or highly 

rated service providers to whom cost and 

revenue deduction risk is passed, and 

considerable third-party support; 

• Subordinated debt liquidity support in the 

form of a dedicated debt-service reserve (up 

to six months), the ability to capitalize or 

defer interest, PIK notes, and contingent 

third-party support; 

• Sharing of collateral security enforcement 

rights with senior lenders; and 

• Strong debt-service cover ratios and 

stress buffers. 

There are also examples of subordinate debt 

being rated on par with senior lien obligations. 

These have occurred in situations where the 

senior lien debt amounts are very small in relation 

to the subordinate lien, when a senior lien may be 

closed, or when the project operates with 

significant financial margins. (For examples of 

our ratings and related research on project 

subordinated debt issues, see the following issuers 

on RatingsDirect: 407 International Inc., Express 

Pipeline L.P., Reliance Rail Finance Pty Ltd., San 

Joaquin Hills Transportation Corridor Agency, 

and Alameda Corridor Transportation Authority.) 

Where to from here for subordinated 

debt structures? 

As active competition for project and 

infrastructure asset continues to move prices 

higher, market participants will continue to 

explore subordinated debt funding options and 

product structures to increase leverage to meet 

this strong demand. So long as the economic cycle 

continues, market participants will continue to 

push boundaries in debt structuring; however, 

market participants should remember that debt 

structuring is not a way to obtain funds at no risk

and that project fundamentals rather than 

financial engineering are the key to investmentgrade 

structures. 

So where to from here? Given the long-term 

nature of project and infrastructure assets, and 

the competitive nature of debt arrangers and the 

risk appetite of investors for long-term assets, the 

landscape for project subordinated debt will 

continue to evolve. Standard & Poor’s expects to 

see variations in subordinated debt products for 

project and infrastructure transactions. 

While cash flows from projects will continue to 

be carved up to create subordinated debt 

instruments, at the end of the day there is no 

“free lunch”, and the key credit consideration will 

remain--what will cause a rated tranche of 

subordinated debt to default and how will a 

particular subordinated debt instrument affect the 

default or recovery of any senior-ranking debt? ■ 






April 13, 2007 


Karim Nassif, 

London, 

(44) 20-7176-3677 


New York, 

(1) 212-438-2080 



London, 

(44) 20-7176-3528 


CREDIT FAQ: RECENTLY UPGRADED NAKILAT 

PROVIDES CASE STUDY FOR CREDIT ANALYSIS OF 

LNG SHIPPING PROJECTS 

Our first-ever public rating on a liquefied 

natural gas (LNG) shipping entity was 

recently raised when Qatar-based Nakilat 

Inc. was upgraded to ‘A+’ with a stable outlook. 

The rating on Nakilat, a wholly owned subsidiary 

of Qatar Gas Transport Co. Ltd. (QGTC), was 

raised following the upgrade of the State of Qatar 

(AA-/Stable/A-1+). This reflected our continued 

expectation of strong potential extraordinary 

sovereign support for Nakilat in an event of 

stress. Since then, Standard & Poor’s Ratings 

Services has received several questions concerning 

our rating analysis of LNG shipping financings. 

Currently Nakilat is the only publicly rated LNG 

shipping entity and so, understandably, it 

represents the best case study of our rating 

approach. This article attempts to answer the 

most frequently asked questions we have been 

receiving concerning Nakilat and our general 

credit analysis of LNG shipping financings. 

Further information can also be read in the article 

titled “Global LNG Shipping Projects May Be On 

Course For Investment Grade,” published on 

March 6, 2006, on RatingsDirect. 


What are the major factors that underpin 

Standard & Poor’s approach to rating LNG 

ship financings? 

Generally our approach is to consider LNG 

shipping as an integral part of the complete LNG 

supply chain, which starts from natural gas 

development and production from the gas field, 

moves through liquefaction of the natural gas, 

and ends with regasification at the import 

terminals and then sale to the end markets. The 

two key elements that underpin our approach are 

counterparty risk and the legal structure 

(including construction and charter agreements). 

Counterparty risk. 

One of the key elements determining the rating 

for LNG ships is related to counterparty risk, 

specifically to the upstream project producing the 

LNG. In most, if not all, cases the project is the 

source of payments to the shipper. If the project 

fails, the alternative use for the LNG ships is still 

limited given the absence of a large LNG spot 

market. As a result, the credit quality of the 

underlying LNG project usually provides one of 

the key constraints for the rating of the LNG ship 


financing. The upstream project is often also the 

charterer under the charter agreement. If there is 

an alternative charterer other than the project 

company the credit quality of the alternative 

charterer would also be important, because it 

provides a measure of the certainty and reliability 

with which cash flows will be earned by the vessel 

owners under the charter agreement for the 

purposes of repaying debt. 

There is also a counterparty risk inherent in the 

construction of ships. The credit quality, 

experience, transaction support through thirdparty 

liquidity, and reputation of the shipbuilder 

are also essential elements, therefore, in the 

overall analysis of an LNG shipping project. 

Legal structure (including construction and 

charter agreements). 

The second key element in our analysis is the risk 

to lenders that arises based on the charterparty 

contract and construction contracts. For an 

investment-grade rating we would expect the 

charterparty contract to last through the debt 

tenor and guarantee availability-based fixed 

payments with inbuilt escalation clauses to cover 

growing operating and material costs. For 

construction contracts we would expect fixedprice, 

date-certain arrangements with established 

shipbuilders coupled with shipbuilder-completion 

guarantees. 

Most LNG ship financings we have reviewed 

have been structured as projects and have used 

special purpose entities (SPEs). There are specific 

contracts and documentation for single ships, 

although often several ships are operated as a 

group. In effect, the financings have involved a 

portfolio of ships with the contractual nature 

being determined on a ship-by-ship basis. For the 

single ships we look to our project finance criteria 

in analyzing underlying risks given the single-asset 

nature of the SPEs and the contractual structure. 

In many cases, however, there is a holding 

company sitting on top of the SPE that ultimately 

owns multiple ships, albeit through an SPE 

structure. The review of the holding company as 

part of a portfolio review might, therefore, 

require more of a corporate analysis. Ultimately, a 

portfolio of LNG ships is often presented as a 

hybrid structure featuring both project and 

corporate features. Our rating analysis, therefore, 

has to take into account these unique features.

What approach did you take when 

analyzing Nakilat? 

We regard Nakilat as more of a corporate entity 

than a typical project financing, due to the strong 

corporate features inherent in the transaction. 

Ultimately our ratings on Nakilat reflect the 

mainly corporate nature of the entity. Although 

some features of its lending package are 

structured like a corporate, however, its cash flow 

arises from asset-specific features. We, therefore, 

also analyzed some aspects of the transaction as if 

it were a project. 

We also consider Nakilat to be a governmentrelated 

entity. Our conclusion of this government 

link is supported by the importance of Nakilat’s 

LNG ships to Qatar’s economy and the state’s 

strategic plans to maintain its leading position as 

the world’s No. 1 LNG exporter. The overall 

capital investment by the Qatari state and its 

partners in the LNG sector (upstream, midstream, 

and downstream) is expected to total just over 

$65 billion by 2010. 

Qatar and QGCT plan to use the Nakilat LNG 

ships on some of the major LNG projects in 

Qatar. These include Ras Laffan Liquefied 

Natural Gas Co. Ltd. (3) (senior secured debt 

A/Stable), Qatar Liquefied Gas Co. Ltd. 

(QatarGas) 2, QatarGas 3, and QatarGas 4. The 

government is involved directly through its 

ownership of Qatar Petroleum (AA-/Stable/--), 

which is a majority owner of the LNG projects. 

Therefore, the ratings on Nakilat are linked to the 

credit quality of the Qatari state (currently rated 

AA-/Stable/A-1+). 

Nakilat’s financial profile is weak for the 

ratings but its business profile and strategy are 

very strong. Given the company’s important role 

in the Qatari LNG sector, which is a strategic 

sector for the nation’s GDP growth, we expect 

that as long as the government stands behind its 

LNG and gas monetization strategy, it will 

support Nakilat. 

The one-notch differential between the 

corporate credit rating on Nakilat and the 

sovereign rating on Qatar reflects the absence of 

explicit financial state support in the form of a 

guarantee or equivalent, despite implicit state 

support for the entity. 



What impact did the Qatari sovereign upgrade 

have on the Nakilat ratings? 

Following the upgrade of Qatar we raised our 

corporate credit rating on Nakilat to ‘A+’ with a 

stable outlook. The subordinated debt was also 

raised, to ‘A’. The senior secured debt rating was 

affirmed at ‘A+’. 

The one-notch increase in the corporate credit 

rating reflected the one-notch increase in the 

rating on Qatar and our top down approach for 

Nakilat as a government-related entity. The 

corporate credit rating continues to reflect our 

unchanged expectation of potential strong 

extraordinary sovereign support for Nakilat in an 

event of stress. The senior secured debt rating 

(previously one notch above the corporate credit 

rating) remained unchanged because, although the 

available security package and debt structures 

have not changed, the higher corporate rating on 

Nakilat now means that the added value of the 

security package relative to the rating is reduced. 

Similar sovereign support for the subordinated 

debt is expected as for the senior debt, and for 

that reason a one-notch differential between 

the corporate and subordinated debt ratings 

was maintained. 

How does the sovereign rating influence the 

ratings on LNG ship projects? 

In the case of Nakilat, the importance of LNG for 

Qatar and the implicit support provided by the 

state through the involvement of Qatar Petroleum 

along the supply chain supports our conclusion 

that Nakilat is a government-related entity. In a 

sense Nakilat is a unique entity given the state of 

Qatar’s LNG strategy. In other instances where 

state support is not deemed as significant, a 

project might not receive the same benefits of 

state support as Nakilat and the focus will 

therefore be more on that project’s own strengths 

and weaknesses. As noted above, the 

creditworthiness of the LNG shipping deal would 

be affected by the credit profile of the underlying 

LNG supply project. For a project to obtain 

rating uplift toward a sovereign rating, the 

strategic rationale for the country’s LNG sector 

must be very strong--that is, material to that 

country’s government. In other words, the 




government’s financial position would be 

materially harmed if the shipping entity were to 

default. Government ownership of a shipping 

company and direct financial support mechanisms 

are also ways to link the rating on a shipping 

project more closely to that of the sovereign. 

As with project finance analysis, sovereign and 

institutional risks are assessed as well as 

credit enhancements. 

Could LNG ships have a rating above the 

underlying project rating? 

Typically the creditworthiness of the underlying 

LNG supply project will constrain the rating of 

the shipping deal. The two are inextricably linked 

in the value chain because the ships rely on the 

project to produce the LNG and the project is 

paying the charter fees. It might be possible, 

however, for the LNG shipping project to achieve 

a rating above that on the supply project if some 

delinkage is achieved from the underlying supply 

project. In this situation, we require comfort that 

the ships could earn sufficiently robust cash flow 

without the supply project, through either 

redeployment by obtaining long-term contracts or 

through the spot market. In this case, our charterhire 

price assumptions would be very conservative 

given the likely long-term nature of the debt. This 

situation might be more realistic in the long term 

than in the short-to-medium term, assuming that 

in the long term a deeper spot market develops. 

The current high amount of ships contracted for 

LNG projects, the lack of a deep LNG spot 

market, and the expectation that older-generation 

LNG ships might also be available for the spot 

market once their charter agreements end, all 

render unlikely the potential redeployment of the 

vessels at rates commensurate with servicing of 

debt under severely stressed scenarios. 

What recovery potential would you ascribe to 

LNG ships? 

Although we have not issued any public recovery 

ratings on LNG ship projects and continue to 

refine appropriate recovery scenarios, our analysis 

of recovery potential for LNG ship financings is 

likely to include an assessment of the 

redeployment of LNG vessels after a project 

default in a similar way to the process described 

above under a delinking approach. Given the 


absence of any material sale and purchase market 

for LNG vessels, we would not typically ascribe 

much value to an enterprise value approach (such 

as using EBITDA multiples or net present values) 

when calculating our recovery ratings. Rather, we 

would likely focus our recovery analysis on the 

ability of the vessels to continue to service debt 

under low charter-hire rate assumptions, which 

could reflect historical lows witnessed in the spot 

market or long-term charter market or future 

lows anticipated in either market as appropriate. 

Do you view LNG ship projects with more than 

one vessel as less risky than single-ship deals? 

All else being constant, the greater the number of 

ships involved for a given financial profile, the 

greater the potential for higher ratings. Adding 

diversity can reduce operational risk as well as 

exposure to force majeure risk by having a safety 

cushion consisting of a residual operating fleet in 

the event that specific problems occur with some 

of the vessels. Although the LNG shipping 

industry has a very favorable performance record, 

the risk remains that some vessels might have 

their payment streams affected due to technical 

problems, political risk, or environmental 

conditions. The technical risk issue is present 

because LNG ships are becoming much larger to 

improve economies of scale and are employing 

reconfigured drive systems. 

If we were to hypothetically compare a 

standard single-ship project serving the same 

underlying LNG project (with all other risks 

remaining constant) with a multiple-ship project 

serving the same underlying LNG project, the 

chances are that rating would not be necessarily 

enhanced by having more ships. There would 

likely be more financial cushion at the same 

rating category for the LNG ship project with a 

higher number of vessels. The reason is that under 

the two different scenarios the credit quality of 

the same underlying LNG project continues to 

provide a constraint on the rating on the LNG 

shipping projects. Nevertheless, there could be 

examples where a ship project, because of its 

particular risk features, benefits by virtue of being 

structured with a large number of vessels, and 

therefore manages to achieve a rating above that 

of the underlying LNG project rating.

What leverage levels and debt service coverage 

ratios are required to ensure an investment-grade 

rating for LNG shipping projects? 

There are simply no magic numbers for debt 

service coverage ratios or leverage levels that 

would guarantee an investment-grade rating. 

Ultimately the financial risk that a project or 

entity can absorb is derived from the underlying 

project risks, structure of financing, liquidity, and 

other factors. As a starting point, the financial 

ratios are a result of the underlying risk analysis. 

One typical element of LNG ship financing is a 

refinance risk that is often incurred, despite 

contracts backing the transaction far beyond the 

anticipated refinancing or initial maturity date. 

Although we consider this a weakness, it can, 

nevertheless, be somewhat mitigated through a 

refinancing strategy as well as incentives to start 

looking early at refinancing (such as margin or 

coupon step-ups and cash sweeps). The most 

important mitigating factor is, however, the sale 

and purchase agreements that will support the 

transaction far beyond the refinancing date and 

provide comfort to the financial markets that the 

entity will generate sufficient cash to repay the 

new debt. ■ 






Sept. 12, 2007 



London, 

(44) 20-7176-3985 

Parvathy Iyer, 

Melbourne, 

(61) 3-9631-2034 



New York, 

(1) 212-438-2094 

Dick P Smith, 

New York, 

(1) 212-438-2095 

David Veno, 

New York, 

(1) 212-438-2108 


STANDARD & POOR’S METHODOLOGY FOR SETTING THE 

CAPITAL CHARGE ON PROJECT FINANCE TRANSACTIONS 

In recent years, project debt issuers worldwide 

have increasingly been using financial 

guarantee insurance provided by monoline 

insurers, also referred to as monoline wraps. A 

key element in the process of the monoline wrap 

is the capital charge Standard & Poor’s assigns. 

This capital charge is important for determining 

the capital adequacy of, and ultimately the rating 

on, the monoline insurers. This article aims to 

make transparent the way Standard & Poor’s 

determines each project’s capital charge and 

supersedes the capital charges listed in our Global 

Bond Insurance criteria book, which are no longer 

valid for project finance transactions. 

A monoline wrap provides an “unconditional 

and irrevocable” financial guarantee from the 

insurer to pay all or a certain portion of a 

project’s scheduled principal and interest on time 

and in full to debt providers if the project is 

unable to do so. The project debt guaranteed by 

the monoline is assigned a higher rating than the 

project’s underlying rating. This higher rating is 

equalized with the financial strength rating on the 

monoline. The underlying project debt rating, 

which Standard & Poor’s assigns to each wrapped 

project, is generally lower, reflecting the project’s 

real underlying business and financial risks. As a 

result of providing the guarantee, monolines are 

exposed to the underlying risk of the project. 

This determines their portfolio risk and the charge 

to capital. 

Each project finance transaction is unique, both 

in terms of risks and structural features, and so is 

the capital charge. Consequently, Standard & 

Poor’s uses the same methodology for every 

monoline insured project to calculate the 

applicable capital charge. 

Capital charges have been assigned by Standard 

& Poor’s since the mid 1980s but have been 

adjusted over time to reflect credit conditions and 

market trends. 

Defining The Capital Charge 

Capital charge is the theoretical loss based on a 

worst-case economic environment, i.e. an 

economic depression case. The capital charge is 

expressed as a product of: 

• Likelihood of default by the issuer (i.e. 

default risk or frequency); and 

• Severity of default measured in terms of loss 

in asset value recovery. 


The default risk is equivalent to Standard & 

Poor’s default probability at a given rating. It does 

not vary between different projects that have been 

assigned the same rating. The severity factor is 

transaction specific, however, because each project 

has a unique combination of asset-related risks 

and contractual, financing, and legal issues. 

Consequently, the capital charge varies across 

asset classes and primarily reflects differences in 

the recovery potential. 

Once the two factors have been determined, 

the capital charge for issues is a percentage of 

par value. 

Standard & Poor’s applies the same capital 

charge across an entire rating category. Issues 

rated ‘A’, ‘A+’, and ‘A-’, for example, have the 

same capital charge. Once a capital charge has 

been assigned, Standard & Poor’s reviews it 

regularly as part of its surveillance. 

Furthermore, the same capital charge is used for 

all the insurers involved in that project, 

irrespective of which insurer provides the wrap. 

This is because the transaction default frequency 

and severity measure reflect the project risks and 

are independent of the insurance company that 

insures the project debt. 

The process of estimating capital charges can be 

complex and involve reasoning and modeling. 

Empirical data on new asset classes or new 

financing types, for example, is not always 

available or useful. Estimating loss-given default 

can also be complex in countries where the 

creditor regime has not been tested or the 

enforcement of security is complex and lengthy. 

The fundamental approach to calculating the 

capital charge for project debt is generally the 

same as that adopted for corporates. 

Nevertheless, the financing and structural aspects 

of a project can demand subjective judgment of 

recovery potential, and therefore the capital 

charge. Even so, similar transactions under a 

similar creditor regime are often likely to provide 

a good benchmark for a new transaction. 

Prerequisites 

Assigning an underlying rating to the project is a 

required step toward enabling the calculation of 

the capital charge. The underlying rating is 

determined in the same way as an unwrapped 

project debt rating and is based on the same 

criteria. The underlying rating is determined

irrespective of whether the monoline guarantee 

applies to all the project debt or only a portion 

of it. 

Standard & Poor’s relies only on in-house 

determinations of default frequency and recovery 

estimates. Ratings and recovery values estimated 

by other rating agencies or professional bodies are 

not used as reference points for assigning the 

capital charge. The in-house data enable 

Standard & Poor’s to maintain consistency 

across various jurisdictions, transactions, and 

operating environments. 

Calculating The Capital Charge 

Default frequency 

The default frequency for a given rating is 

determined using Standard & Poor’s corporate 

default study. The default study identifies the 

highest historical default rates across various 

sectors by rating category over a period of years. 

The leading global economies, the U.S. and 

Europe, have not, over the past 15 years, 

represented a worst-case depression-like scenario, 

and so the default rates are grossed up to what 

Standard & Poor’s believes to be worst-case 

levels. Through simulations of such scenarios 

across various sectors, Standard & Poor’s 

calculates worst-case default frequency for longterm 

risks across the rating categories (see table). 

Worst-Case Default Frequency 

Rating category Worst-case default frequency (%) 

AA 5.9 

A 7.1 

BBB 14.8 

BB 55.4 

Loss-given default 

Loss-given default is unique for each project, for 

the reasons given in “Defining The Capital 

Charge”. It can differ between two assets in the 

same sector and jurisdiction. There can also be 

different degrees of confidence regarding recovery. 

Subjective judgments are critical for deciding how 

to stress collateral values in hypothetical postdefault 

scenarios, but market trends can 

supplement theoretical estimates. For the purposes 

of assigning a capital charge, Standard & Poor’s 

currently assumes a maximum recovery of 90%. 



Example. 

This example gives an illustration of how the 

capital charge on a project rated ‘A’ is determined. 

The steps are: to determine the ‘A’ underlying 

rating on the project; read the default frequency 

from the table above; estimate the loss-given 

default; and finally determine the 

capital charge. 

• The project’s underlying rating is ‘A’. 

• The default frequency for the ‘A’ rating 

category is 7.1%. 

• The estimated asset recovery value is 60%. 

• The loss-given default is 40% (100% 

minus 60%). 

• The capital charge is 7.1% multiplied by 

40%: 2.84% of par value. 

Cross-border issuance 

Projects located in one country often raise debt in 

another market. Such situations give rise to 

sovereign-related risks that could affect the ability 

and willingness of the entity to service its foreign 

currency debt. In the past, we adjusted capital 

charges to reflect these risks. Effective this year, 

however, our methodology for calculating capital 

charges for project cross-border issuance has 

been revised. 

Based on evidence that sovereigns under 

political and economic stress are less often 

restricting nonsovereign entities’ access to the 

foreign exchange needed for debt service, crossborder 

transactions (even without structural 

sovereign risk mitigation features) can be rated 

above the sovereign foreign currency rating, up to 

the “Transfer and Convertibility Risk 

Assessment” for the relevant sovereign 

jurisdiction. Project ratings incorporate all 

transfer and convertibility risk and other relevant 

country risks. Furthermore, many cross-border 

project finance transactions contain significant 

additional structural mitigants for direct sovereign 

interference risk, which make an additional 

“sovereign risk” adjustment to the capital 

charge unnecessary. 

Our new methodology for setting the capital 

charge for cross-border project finance 

transactions is therefore based on the default rate 

associated with the transaction’s foreign currency 

rating and severity of loss-given default. The latter 

will continue to be an analytical assessment based 

on the unique characteristics of each individual 

transaction analyzed by Standard & Poor’s. 




Surveillance Of The Capital Charge 

The capital charge is dynamic and all projects 

that have a monoline wrap have been surveilled 

since 2005. This surveillance enables an 

adjustment to the capital charge if the underlying 

project’s default risk or recovery prospects 

improve or worsen. 

The Capital Charge And New Ratings 

Project debt issuers and monoline insurers are 

encouraged to begin dialogue with Standard & 

Poor’s at an early stage in the project-financing 

process to help avoid any surprises later on. Early 

dialogue is particularly important because most 

projects are rated at the lower end of the rating 

scale, where the capital charge is substantially 

higher and can affect the premium payable to the 

monoline. Borderline differences in rating 

outcome can have a substantial impact on the 

applicable capital charge. 

Standard & Poor’s is often asked by monoline 

insurers to give indicative capital charges, 

sometimes even before the rating process is 

initiated. We provide this indication based on 

estimated default risk and recovery levels. Only 

once the rating (default risk) has been assigned to 

a project and the recovery rate determined is the 

final capital charge calculated. The final capital 

charge can therefore differ from the indicative 

one, as the latter is based on estimates and on 

very limited information. ■ 



Nov. 2, 2007 



London, 

(44) 20-7176-3985 


Karin Erlander, 

London, 

(44) 20-7176-3584 


London, 

(44) 20-7176-3528 

SWEDEN MOVES CLOSER TO PPP MODEL AS ALTERNATIVE 

FINANCING FOR INFRASTRUCTURE ASSETS 

Sweden is making significant steps in 

developing a model for public-private 

partnerships (PPPs) to provide an alternative 

means of financing public infrastructure. On June 

18, 2007, a joint working group commissioned by 

the Swedish government--made up of the public 

rail authority (Banverket), the public road 

authority (Vägverket), and the Swedish National 

Road and Transport Research Institute (VTI)-published 

a proposal for a Swedish PPP model 

and identified a number of potential future 

PPP projects. 

Recently, the country’s public road and railway 

authorities announced the deferral of a substantial 

number of state-funded investments. A solution 

involving PPP financing could minimize future 

delays in necessary infrastructure developments. 

For private investors, the existence of a project 

pipeline detailing projects in terms of both 

number and size is important, given the relatively 

high costs associated with PPP bidding. It is also 

important for the public sector, to keep 

transaction costs low. 

For now, however, it is not clear if the PPP 

model will be selected and used on a larger scale, 

and, if so, how long implementation will take. 

Large Investment Needed, But Grants Might 

Not Suffice 

Currently, transportation infrastructure 

investments are funded mainly through the state 

budget on a year-by-year basis. State budget 

grants for road investments for the 2006-2009 

period total about Swedish krona (SEK) 70 billion 

(SEK17 billion-SEK18 billion per year), while 

earmarked spending on rail for the period comes 

to about SEK52 billion (SEK11 billion-SEK14 

billion per year) (see table 1). 

While the need for investment in infrastructure, 

Table 1 - Major Rail Projects In State Budget 

Project Investment (bil. SEK) Details 

Malmö city tunnel 9.5 (4.6 used) Financed by the government, the municipality of 

Malmö, the county council of Skåne, and EU 

contributions 

Hallandsåsen railroad tunnel 7.5 N.A. 

Citybanan line in Stockholm 13.7 (1.0 used) SEK4 billion to be financed by Stockholm 

municipality and Stockholm county council 

Botniabanan railroad in northern Sweden 

SEK--Swedish krona. N.A.--Not available. 

13.2 (9.5 used) N.A. 



mainly roads and rail, is evident in certain regions 

to develop economic growth, in other areas 

investment is needed to alleviate congestion. In 

these cases, the approval of projects via the 

budget on a year-by-year basis could prove too 

slow to meet increasing demand. In addition, 

budgeted state contributions for the infrastructure 

sector have remained largely unchanged, failing to 

reflect cost increases. Recently, both the 

Vägverket and the Banverket announced 

significant investment reductions due to 

insufficient funding. As an example, total 

Vägverket investment grants for 2007 amount to 

SEK42.5 billion, unchanged from 2004, while 

construction costs have increased by 16% since 

2004. Consequently, the Vägverket has had to cut 

spending on projects by a similar amount. 

Although investments can be delayed on a shortterm 

basis, the Vägverket is concerned about the 

long-term effects on road quality and safety if this 

situation continues. The rail sector faces a similar 

situation, with capacity shortages in major cities 

and traffic disruptions. If investment spending 

remains unchanged, investments in infrastructure 

are likely to slow further. 

The current system, in certain cases, allows 

public authorities with access to budget funds to 

finance major projects by taking loans from the 

national debt office. Total debt issued by the 

national debt office to the Vägverket and the 

Banverket stood at SEK32.4 billion at year-end 

2006. In some cases the government (Kingdom of 

Sweden; AAA/Stable/A-1+) has guaranteed private 

debt, as in the case of the Öresund bridge 

between Sweden and Denmark. In rare cases, 

infrastructure investments are financed by charges 

paid by the user (for example the train link 

between Stockholm and Arlanda airport and the 

Svinesund bridge between Sweden and Norway). 




Public And Private Support For Change 

The active search by the Swedish government 

together with public entities and private parties 

for a new model to finance public infrastructure 

marks a change from the past. Infrastructure 

Minister Åsa Torstensson has said that the 

government is looking at alternative financing for 

infrastructure investments, with the intention of 

finding ways to achieve PPP solutions. 

The minister considers that there is a direct 

connection between new jobs, welfare, and 

efficient infrastructure. 

If the government and parliament approve a 

broad domestic PPP initiative, a concessional 

framework will have to be developed. A 

standardized PPP regime with similarities to 

existing regimes in Europe and elsewhere could 

attract more potential bidders. Concessions must 

be designed to provide optimum value, not only 

financially but also in terms of other targets. 

Environmental issues have recently become 

increasingly important in Sweden, as in many 

other countries. Setting the right goals and 

requirements from the start is key due to the longterm 

commitments involved. 

These considerations have been addressed 

by the findings of the joint working group, 

which propose a Swedish PPP model and 

potential projects. 

Working Group Scrutinizes PPP Alternative 

The findings center on the profitability of projects 

both from a social and economic perspective, 

transparency of state funding, procurement 

competition to ensure efficiency and lower costs, 

and a system that allows for program evaluation. 

Innovation to introduce more efficient solutions, 

flexibility, and the potential to start projects at 

short notice were also identified as key features of 

a future PPP program. 

The key findings are: 

• Quality, safety, and environment. The 

investment should be of good quality, open 

to traffic, fulfill safety requirements, and 

ensure that environmental regulation is met. 

• Effective risk allocation. The project 

company should carry construction, 

operational, and lifecycle risks. The state 

should be left with risks associated with the 

use of the asset (for example traffic volume 

risk) as well as those risks that could be 


better managed by the state (such as 

acquisition of land, permit processes, 

pollution, and archeological finds). In the 

longer term, the working group believes 

more appropriate risk allocation measures 

should be developed. 

• Financing. This should be a combination of 

a project’s own capital and borrowing to 

ensure that the sponsors’ incentives are in 

line with the aim of the project and that 

they remain committed. 

• Public financing as a last resort. If the 

agreements between companies and 

local/regional authorities fall short, the 

project should ultimately be financed by 

the state. 

• A long-term pipeline. PPP projects should be 

selected in line with long-term plans in order 

to control the expansion of infrastructure. 

Importantly, the working group believes it 

would be reasonable for the Swedish 

parliament and government to ultimately 

decide on the projects to be tendered, as 

long as taxes continue to finance the asset. 

• Comparison with public finance. The 

working group believes that a rule should be 

established to enable the government to 

directly compare the cost of a project, to 

ascertain whether it should be financed via a 

PPP contract or purely via public funds. 

• Drilling down. The PPP model should be 

applicable to smaller projects in the future, 

once the fixed costs of the bidding process 

are decreased. 

Essential Criteria Identified To Facilitate 

Project Selection 

In the same report, the working group identified 

projects it believed suitable for PPP financing. It 

achieved this by first establishing the criteria a 

project must fulfill: 

• Investment volume: The amount invested 

should be between SEK1 billion and SEK3 

billion. 

• Planning stage: The design plans should be 

final and must be legally approved. 

• Profitability: The project’s profitability 

should measure “nettonuvärdeskvot” (NNK; 

a ratio that calculates society’s benefit from 

a project) of at least 0.5x. 

• Competition: The project should attract

oth national and international interest. 

• Holistic approach: The project must take 

due regard of lifecycle costs. 

• Duration of the contract: Approximately 25 

years should be permitted, with no 

reconstruction in the near future. 

• Final financing: This should be through 

cofinancing. Alternatively, user fees could 

finance all or part of the investment. 

Pipeline Of Potential PPP Projects 

The working group identified four projects it 

believed to fulfill all key criteria (see table 2). 

The working group subsequently identified 

projects that could be suitable for PPP, but that 

do not currently fulfill all essential criteria 

(see table 3). 

Similarly, the working group identified railroad 

projects that should be continually evaluated as to 

their suitability for PPP financing. These are: 

Railroad East (Ostlänken); Railroad Norrbotten 

(Norrbotniabanan); a railroad between Mölnlycke 

and Rävlanda/Bollebygd; a railroad between 

Malmö, Staffanstorp, and Dalby 

(Simrishamnsbanan); and combination terminals 

and connections to harbors. ■ 



Table 2 - Prospective Projects That Meet All Criteria For PPP Financing 

Length (kilometers) Investment (mil. SEK) NNK* (x) 

Riksväg 50 road between Mjölby and Motala 28 1,330 1.4 

E22 motorway between Hurva and Kristianstad 41 (57) 1,100 (1,360) 0.7 

E4 Sundsvall South motorway 22 2,500 0.9 

Länsväg 259 Södertörn road 9 1,300 0.7 

*NNK (nettonuvärdeskvot) measures profitability and needs to be at least 0.5x. SEK--Swedish krona. 

Table 3 - Prospective Projects That Meet Some Criteria For PPP Financing 

Length (kilometers) Investment (mil. SEK) NNK* (x) 

E22 motorway between Kristianstad and Karlshamn 53 1,430 0.5 

E22 motorway between Karlshamn and Jämjö 69 (74) 1,840 0.0 

E22 Söderköping motorway 17 700 0.7-1.9 

E6/45 new connection to river 1.5 2,500 2.2 

E20 motorway between Alingsås and Vårgårda 25 1,550 0.5 

E4 motorway between Hjulsta and Häggvik 7 4,500 0.2 

E4 motorway between Södertälje and Hallunda 15 3,300 N.A. 

E12 Umeå motorway (Umepaketet) 28 1,100 0.0-2.1 

*NNK (nettonuvärdeskvot) measures profitability and needs to be at least 0.5x. SEK--Swedish krona. N.A.--Not available. 




Sept. 28, 2007 


AA-/Stable/A-1+ 



London, 

(44) 20-7176-3952 


Karim Nassif, 

London, 

(44) 20-7176-3677 

Luc Marchand, 

London, 

(44) 20-7176-7111 


London, 

(44) 20-7176-3985 


ABU DHABI NATIONAL ENERGY COMPANY PJSC 

Rationale 


Services affirmed its ‘AA-‘ long-term and ‘A-1+’ 

short-term corporate credit ratings on Abu Dhabi 

National Energy Company PJSC (TAQA) 

following TAQA’s announcement of its intention, 

subject to various regulatory and administrative 

approvals, to acquire Canada-based PrimeWest 

Energy Trust for approximately C$5 billion, 

funded primarily by debt. 

The affirmation reflects our expectation of 

ongoing implicit sovereign support for TAQA 

given the company’s importance to the Emirate of 

Abu Dhabi (AA/Stable/A-1+) and its status as a 

government-related entity (GRE). The ratings 

continue to be based on a “top-down” rating 

approach, which takes the sovereign rating as the 

starting point of the analysis, reflecting the 

company’s position as a key entity in Abu Dhabi’s 

economy and its importance as a national vehicle 

for global investment and public policy. 

Following the PrimeWest acquisition, up to onehalf 

of the company’s forecast EBITDA will likely 

be generated outside of the United Arab Emirates 

(UAE). This is consistent with the company’s 

originally stated investment policy to undertake 

international infrastructure investments. Our 

opinion remains that, in a financial stress 

scenario, unlike the company’s UAE-based assets 

that are, for example, critical to the provision of 

water and power to the Emirate, non-UAE 

activities may not receive the same level and 

timeliness of sovereign financial support. 

In respect of this specific acquisition, however, 

Standard & Poor’s has analyzed the extent and 

timing of support that could be forthcoming in 

the event of a stress scenario. In this case, we 

understand that it is the Emirate’s intention to 

treat these non-UAE assets in the same manner as 

those in the UAE. In addition, the Emirate’s 

review of all acquisitions (including that proposed 

for PrimeWest) and the proposed corporate 

structure of the acquisition within the overall 

TAQA group of companies further substantiate 

the sovereign’s likely support for these assets. No 

explicit guarantee has been provided, however. 

Including the PrimeWest acquisition, TAQA has 

committed nearly $10 billion in the acquisition of 

various energy-related assets outside the UAE in 

the past 12 months. The acquisitions have been 

broadly consistent with the investment framework 

originally set out by management, although both 

the pace of the acquisitions and the level of 


investment in Canadian assets have been greater 

than originally planned. We estimate that the 

investments acquired to date are likely to be of 

low investment-grade/high speculative-grade 

credit quality on a stand-alone basis. A key 

challenge for TAQA remains the successful 

integration and realization of anticipated returns 

from these various acquisitions. As a result of this 

debt-financed investment activity, TAQA’s 

financial profile is very aggressive, characterized 

by high leverage and relatively low interest 

coverage levels. Standard & Poor’s will 

increasingly focus on the credit quality of the 

underlying investment portfolio and the strength 

of the relationship with the sovereign as critical 

elements driving the ratings. Investment in weaker 

credit quality assets, for example, increases the 

likelihood that sovereign financial support will be 

called on. Standard & Poor’s will meet with 

management and Emirate representatives in the 

next month to discuss the future investment 

strategy and the potential parameters and method 

by which sovereign support can be given to 

the company. 

Liquidity 

TAQA’s liquidity derives from its above-average 

UAE dirham 6.239 billion ($1.7 billion; as at June 

30, 2007, prior to the execution of recent 

acquisitions) cash balance invested in various 

short-term deposits. The company also has an 

established $1 billion revolving credit facility 

from a domestic bank. 

Outlook 

The stable outlook reflects Standard & Poor’s 

expectation that there will be no major changes in 

the implicit government support to the company 

as a GRE. This implies that the state will support 

TAQA in the event of financial distress should 

existing or future investments not perform in line 

with expectations. The outlook also assumes that 

the company will execute its business plan 

successfully and meet its financial forecasts. 

The rating would be raised, or the outlook 

revised to positive, if there is a similar change in 

the rating or outlook on the sovereign, or in the 

case of enhanced sovereign support. The rating 

would be lowered, or the outlook revised to 

negative, if there is any weakening of sovereign 

support for the company or if the underlying 

consolidated credit quality of the investment 

portfolio reduces. ■


June 13, 2007 

Issue Credit Rating: 

Senior secured debt 

BBB-; BBB-/Stable 


Karim Nassif, 

London, 

(44) 20-7176-3677 



Paris, 

(33) 1-4420-7316 

AUTOROUTES PARIS-RHIN-RHONE 

Rationale 

The senior unsecured debt rating on the French 

toll road operator Autoroutes Paris-Rhin-Rhone’s 

(APRR) seven-year, €1.8 billion, revolving credit 

facility maturing in 2013 is ‘BBB-’. The outlook is 

stable. As of May 25, 2007, the facility had a 

utilization of €0.8 billion. At the same date, total 

debt was €6.4 billion. 

Since its privatization in 2006, APRR is 

81.48% owned by Eiffarie (not rated), a 

consortium controlled by Eiffage and Macquarie 

Autoroutes de France (MAF). The remaining 

shares are publicly held. Total debt at Eiffarie as 

at May 25, 2007, is €3.9 billion. The APRR 

group includes both APRR and Eiffarie, which, 

because Eiffarie is an 81.48% shareholder, leads 

us to consolidate the debt of Eiffarie into APRR. 

We have fully consolidated Eiffarie’s debt and 

related interest expenses with those of APRR 

because we treat the two entities as one group for 

default analysis purposes. Eiffarie’s debt is 

nonrecourse to APRR. 

APRR is the third-largest toll-road operator in 

Europe, with a network of 2,215 kilometers (km; 

1,370 miles) in service and 2,279 km under 

concession until 2032. APRR group’s highway 

concession network is well located across central 

and eastern France, representing the major axes 

between the two wealthiest French regions, Ile-de- 

France (AAA/Stable/A-1+) and Rhône-Alpes, and 

the two largest French cities of Paris 

(AAA/Stable/--) and Lyon, as well as links to 

Benelux and Germany. APRR’s subsidiary AREA 

has the major road network connection to the 

Alps, related ski resorts, and Geneva, Switzerland. 

The network therefore comprises key economic 

and tourist corridors to southern France. No 

major new competing roads or transport links 

are expected. 

The revolving credit facility is sized to support 

about two years of capital expenditures, debt 

repayments to Caisse Nationale des Autoroutes 

(CNA; AAA/Stable/--), and working capital at 

APRR following its acquisition by Eiffarie. 

The ‘BBB-’ rating reflects the following risks: 

• APRR has an aggressive financial structure, 

with low debt service coverage levels and 

high consolidated leverage, taking into 

account total debt at APRR and Eiffarie. 

Standard & Poor’s Ratings Services’ base 

case assumes traffic growth of 1.75% over 

the life of the concession, with consolidated 



minimum debt service coverage at 1.31x. 

This minimum occurs in 2012, based on an 

assumed refinancing of the Eiffarie debt in 

2011, and an assumed amortization profile 

post refinancing. Prior to the forecast 

refinancing, the minimum coverage ratio is 

1.42x. Although this is low compared with 

other rated highways projects with traffic 

risk, the maturity and large scale of APRR’s 

road network mitigate this. 

• The structure contains considerable 

refinancing risk, as significant debt amounts 

are due from CNA by 2018. We understand 

that APRR is currently looking at ways to 

refinance CNA obligations due in late 2007 

and beyond. APRR also has large capital 

expenditure requirements, and the Eiffarie 

acquisition facility has little amortization 

until it needs to be refinanced. Although the 

revolving credit facility, the strong cash flow 

generating ability over the life of the 

concession, and an increasing cash sweep in 

the acquisition facility mitigate refinancing 

risk, it remains higher than that of 

comparable investment-grade transactions. 

• Although Standard & Poor’s takes a 

concession financing approach to APRR, we 

regard the overall structural package, with 

regard to shareholder lock-in periods, as 

weaker than those of comparable 

investment-grade concessions. The 

privatization process resulted in lock-in 

requirements for Macquarie and Eiffage of 

two and 10 years, respectively. Given the 

importance of retaining two balanced 

shareholders in the structure, the absence of 

further structural mitigants to prevent the 

emergence of a dominant shareholder 

remains a key structural weakness. 

• Traffic growth was weak in 2006, but has 

shown recovery in the first quarter of 2007. 

Traffic growth reported for 2006 at 1.3% 

was below what we considered to be a 

conservative assumption of 1.75% traffic 

growth under our base case. Nevertheless, 

although traffic growth has been low and is 

not expected to improve substantially over 

the short term, revenues have met budgeted 

targets and are expected to continue to do 

so going forward. 

• Although about 95% of all debt at Eiffarie 

and APRR is hedged, the structure remains 




sensitive to interest rate increases. This is a 

key consideration, given the existing 

refinancing risk. 

The following strengths offset these risks at the 

‘BBB-’ level: 

• APRR benefits from strong and recurring 

cash flow generation, stemming largely from 

a mature and very large toll road network. 

APRR’s concessions are regulated by 

supportive agreements, including 

management contracts that guarantee a 

minimum, inflation-linked toll rate increase 

for each five-year period. 

• APRR benefits from the combined 

experience of Macquarie Bank Ltd. 

(A/Stable/A-1) and Eiffage in the financing, 

construction, and operation of toll roads 

worldwide, although this is Macquarie’s first 

major investment in French toll roads. 

• APRR has a strong track record in toll road 

operation. The project is resilient to a 

number of downside scenarios, at the same 

time as being able to service debt at both 

APRR and Eiffarie. A zero traffic growth 

scenario results in a minimum debt service 

coverage ratio of 1.06x. 

• APRR is the third-largest toll-road operator 

in Europe, with a network of 2,215 km in 

service out of 2,279 km under concession 

until 2032, after Italy-based Atlantia SpA 

(A/Negative/A-1) and French peer 

Autoroutes du Sud de la France S.A. (ASF; 

BBB+/Negative/A-2). APRR’s 2006 turnover 

and EBITDA were €1.67 billion and €1.07 

billion, respectively, up 6.3% and 9.7% on 

2005 and in line with expectations. 

As at Dec. 31, 2006, APRR complied with 

the financial covenants set by the state as part of 

the privatization. 

The APRR network has shown moderate, but 

below budget, traffic growth of 1.3% overall for 

the 12 months to end-December 2006 compared 

with the same period of the previous year. This 

remains weaker relative to APRR’s peers ASF and 

Cofiroute (BBB+/Negative/A-2), but similar to 

traffic growth reported by French toll road 

operator Sanef (A/Negative/A-1) for the period. 

Poor weather conditions in the first quarter of the 

year and a heat wave in July that affected light 

vehicle traffic were responsible for lower-than- 


expected traffic growth, somewhat offset by an 

upturn in the French economy and completion of 

repair work at the Epine and Fréjus tunnels. 

Overall revenues grew by 6.3% in 2006 year on 

year, exceeding budgeted targets by about €24 

million. Improvement in total revenues reflected 

the contractual increase of rates in October 2005 

and 2006, as well as a rebound in heavy traffic 

volumes and reduced discount rates for heavy 

vehicle subscribers. EBITDA margins improved by 

2% in 2006 compared with the previous year. We 

expect EBITDA margins to continue improving by 

1% per year over the short term based on similar 

traffic growth and continued implementation of 

cost controls and operational efficiency. 

Traffic growth for the first quarter of 2007 was 

3.5% above that of the same period the previous 

year due to better weather and macroeconomic 

conditions. 

Outlook 

The stable outlook reflects our expectation of 

continued stable, recurring cash flows from the 

road network under the concession agreements. 

The ratings could be lowered if one of the key 

sponsors gains a dominant position in the 

structure (in which case the ring-fencing would no 

longer hold), traffic falls consistently below our 

base case assumptions, or if the refinancing does 

not proceed as assumed in the base case. Upgrade 

potential is limited. Eiffage is subject to a takeover 

bid by its major shareholder Sacyr, a Spanish 

construction company, but we do not expect any 

change of ownership to affect the structure and 

working of the APRR group. 

Concession Financing Factors 

The structure implemented following privatization 

led us to adopt a concession financing approach 

to APRR, rather than the previous corporate 

approach. 

This was due to: 

• Compliance with Standard & Poor’s criteria 

for special-purpose entities at the level of the 

Eiffage and Macquarie consortium, which 

owns the majority of APRR after 

privatization; 

• Restrictions on individual sponsor control in 

APRR, owing to Eiffage and Macquarie’s 

roughly equal shareholder ownership; 

• Commitment of the two shareholders to 

maintaining their equity interests in the

consortium for at least two years (Eiffage 

has committed for 10 years); and 

• The sponsors’ commitment to ensuring the 

single business focus of APRR. 

The key supporting factor for our concession 

financing approach is that the sponsors’ respective 

control of Eiffarie and APRR is roughly balanced. 

If this were to change--for example through one 

sponsor selling its equity interest to the other, 

leading to majority ownership by a single 

sponsor--we would likely review our rating 

approach to the structure. ■ 






Sept. 10, 2007 


Senior secured bank loan 

BB+/Watch Neg; 

senior secured debt AAA, 

BB+(SPUR)/Watch Neg 



London, 

(44) 20-7176-3952 


Beata Sperling-Tyler, 

London, 

(44) 20-7176-3687 

Liesl Saldanha, 

London, 

(44) 20-7176-3571 


METRONET RAIL BCV FINANCE PLC/ 

METRONET RAIL SSL FINANCE PLC 

Rationale 


Services kept its ‘BB+’ long-term and underlying 

debt ratings on the £1.620 billion combined 

senior secured bank loans and debt issued by 

U.K.-based underground rail infrastructure 

financing companies Metronet Rail BCV Finance 

PLC and Metronet Rail SSL Finance PLC 

(Metronet BCV and Metronet SSL; the Metronet 

companies) on CreditWatch with negative 

implications, where they were placed on May 22, 

2007. This follows the agreement of bilateral 

standstill arrangements between Transport for 

London (TfL; AA/Stable/--) and the funders to the 

Metronet companies. A public-private partnership 

(PPP) administration order was granted over 

Metronet Rail BCV Ltd. and Metronet Rail SSL 

Ltd. (the Infracos) on July 18, 2007. 

At the same time, Standard & Poor’s affirmed 

its ‘AAA’ insured rating on the £165 million 

index-linked bonds and £350 million fixed-rate 

bonds outstanding at Metronet BCV, reflecting 

the unconditional and irrevocable guarantee of 

payment of interest and principal by Financial 

Security Assurance (U.K.) Ltd. (FSA; AAA/ 

Stable/--) and Ambac Assurance U.K. Ltd. 

(Ambac; AAA/Stable/--), respectively. In addition, 

Standard & Poor’s affirmed its ‘AAA’ insured 

rating on the £165 million index-linked bonds 

and £350 million fixed-rate bonds outstanding at 

Metronet SSL, reflecting the unconditional and 

irrevocable guarantee of payment of interest and 

principal by Ambac and FSA, respectively. 

As at Sept. 10, 2007, Metronet BCV had £515 

million bonds and a combined £433 million bank 

debt outstanding. At the same date, Metronet SSL 

had £515 million bonds and £194 million bank 

debt outstanding. 

The CreditWatch status continues to reflect the 

risks and uncertainties regarding both the PPP 

administration process and the ultimate 

restructuring of the Infracos to deliver their 

responsibilities under their respective service 

contracts. The PPP administration process is 

untested and the outcome is therefore uncertain. 

On Sept. 4, 2007 a standstill agreement was 

entered into between TfL and the funders to the 

Metronet companies (representing both the bond 

and bank debtholders) that will run until January 

2008. Under the terms of this agreement, TfL will 

provide funding to the Metronet companies to 

enable them to fund the combined £46.4 million 


debt service payment due on Sept. 15, 2007, and 

associated financing costs including swap 

payments. In return, the funders will not take any 

enforcement action to seek, for example, 

accelerated payment of the debt outstanding. 

Standard & Poor’s expects that there will be 

ongoing negotiations between TfL, London 

Underground Ltd. (LUL), the PPP administrators, 

and the senior lenders in relation to the future of 

the PPP service contracts. On Aug. 24, 2007, TfL 

lodged an expression of interest to the PPP 

administrators to take over the PPP contracts and 

assets of the Metronet companies. We believe that 

the most likely long-term outcome is that a 

restructuring of the contracts will occur that gives 

a new Infraco revised PPP service contract 

responsibilities. The restructured contract will be 

based on a new prioritization of service 

requirements, reflecting the revised level of 

ongoing infrastructure service charge (ISC) to be 

paid to the Infracos. The support and role of the 

various parties to the PPP service contract, 

including the Statutory Arbiter, TfL, LUL, and the 

U.K. Department of Transport (DoT) will remain 

critical to the analysis. 

Standard & Poor’s will resolve the CreditWatch 

as the PPP administration process and the 

contract restructuring proposal develops and the 

likely outcome becomes clear. The long-term and 

underlying debt ratings would be lowered if there 

was a significant downturn in the Infracos’ 

operating performance or it became clear that 

existing senior debtholders would not be kept 

whole in any new Infraco structure. In particular, 

we will focus on the ongoing performance of the 

Infracos during the PPP administration as 

significant performance-related deductions from 

the ISC may result in a deterioration in credit 

quality. In addition, we will monitor the ongoing 

process of negotiations between the relevant 

parties including TfL and DoT to understand the 

potential ownership and capital structure of any 

new Infraco that will assume the PPP service 

contract responsibilities. 

Standard & Poor’s will also review the likely 

treatment of senior debtholders within any new 

capital structure to ensure that they receive full 

and timely payment of debt service obligations 

and that any restructuring proposal does not 

result in a loss of value to the debtholders. Should 

a proposal be brought forward that would result 

in a loss of value, the long-term and underlying

debt ratings would likely be lowered. If the 

proposal was subsequently implemented, the longterm 

and underlying debt ratings would likely be 

lowered to ‘D’. 

Although the Infracos are in administration, we 

have maintained the ‘BB+’ ratings on debt issued 

by the Metronet companies, reflecting the 

structural protections within the PPP service 

contract that are likely to benefit debtholders. For 

example, as an insolvency event has occurred for 

the Infracos, the funders ultimately have the 

ability to exercise a put option, requiring TfL to 

pay a put option price--that is, at least 95% of 

the outstanding debt at each company. It is 

therefore unlikely that the funders will accept any 

proposed restructuring that would result in them 

receiving less than the amount they would receive 

through the exercise of the put option. There is 

no track record of implementing any of these 

arrangements, however, including determining the 

value of the put option, or enforcing these 

obligations. Although they provide significant 

comfort at the rating level, the protections may be 

subject to challenge and delay. 

If, as part of the PPP service contract 

restructuring process, the various debt obligations 

of the Metronet companies are assumed by TfL-prior 

to a final restructuring solution being 

implemented--the long-term and underlying debt 

ratings could be raised. ■ 






June 20, 2007 


AAA (insured); 

BBB-(SPUR)/Stable 

(preliminary) 


James Hoskins, 

London, 

(44) 20-7176-3393 



London, 

(44) 20-7176-3985 

Hugo Foxwood, 

London, 

(44) 20-7176-3781 


PETERBOROUGH (PROGRESS HEALTH) PLC 

Rationale 

On June 20, 2007, Standard & Poor’s Ratings 

Services assigned its preliminary ‘AAA’ long-term 

insured debt rating to the proposed £442.8 

million (including £50.0 million variation bonds) 

fixed rate guaranteed bonds due October 2042, to 

be issued by U.K.-based health funding special 

purpose vehicle Peterborough (Progress Health) 

PLC (ProjectCo). The preliminary rating 

reflects the unconditional and irrevocable 

payment guarantee of scheduled interest and 

principal provided by FGIC UK Ltd. (FGIC; 

AAA/Stable/--). 

At the same time, Standard & Poor’s assigned 

its preliminary ‘AAA’ long-term insured debt 

rating on the liquidity facility, change-in-law 

facility (CiLF), and swap facility provided by 

ABN AMRO Bank N.V. (AA-/Watch Pos/A-1+). 

The preliminary rating reflects the unconditional 

and irrevocable payment guarantee of scheduled 

interest and principal provided by FGIC. 

The preliminary underlying long-term ratings 

on the proposed debt are all ‘BBB-’ with a stable 

outlook. The debt and all the facilities have also 

been assigned preliminary recovery ratings of ‘2’, 

reflecting expectations of substantial (70%-90%) 

recovery of principal in the event of a default. 

Final ratings will depend on receipt and 

satisfactory review of all final transaction 

documentation, including legal opinions. 

Accordingly, the preliminary ratings should not be 

construed as evidence of final ratings. If Standard 

& Poor’s does not receive final documentation 

within a reasonable timeframe, or if final 

documentation departs from materials reviewed, 

Standard & Poor’s reserves the right to withdraw 

or revise its ratings. 

The proposed debt will finance the design, 

construction, and operation of three new 

buildings on two sites for three separate National 

Health Service (NHS) Trusts as part of the 

Greater Peterborough Health Investment Plan: 

• A new mental health unit will be built on 

the existing Edith Cavell Hospital site for 

Cambridge and Peterborough Mental Health 

Partnership NHS Trust (the MHU Trust). 

• A new acute hospital will be built on the 

existing Edith Cavell Hospital site for the 

Peterborough and Stamford Hospitals NHS 

Foundation Trust (the Acute Trust). 

• A new integrated care center will be built on 

the existing Peterborough District Hospital 


site for the Greater Peterborough Primary 

Care Partnership Trust, which is acting 

through the Peterborough Primary Care 

Trust (the ICC Trust). 

All three Trusts are acting jointly, but not 

severally, via a project agreement (PA) with a term 

of 35 years and four months under a U.K. 

government private finance initiative (PFI) 

program. The Acute Trust has full termination 

rights over the project, as it will provide about 

86% of the unitary payments, while the two 

smaller Trusts only have termination rights over 

the part they are responsible for. 

The preliminary ‘BBB-’ underlying senior debt 

and facilities ratings take into account the 

following project risks: 

• The project is exposed to the counterparty 

risk of unrated Australia-based construction 

group Multiplex Ltd. and a number of its 

U.K.-based subsidiaries--also unrated--as 

shareholder, design, and construction 

contractor, and hard facilities management 

(FM) services providers. Although this 

integrated approach to project delivery 

might have advantages such as enhanced 

coordination, there is no diversification of 

counterparty risk. 

• This is the first health construction project 

undertaken by Multiplex Ltd. in the U.K. 

Although the company has experience in 

complex construction projects worldwide, its 

experience in health construction is limited 

to a small number of relatively low-value 

projects in Australia. In line with standard 

industry practice, the works will be fully 

subcontracted in packages. Multiplex may, 

however, be subject to fallout from the 

difficulties it encountered during the 

construction of Wembley Stadium in terms 

of availability and pricing of suitable 

subcontractors. All fixed price appointments 

required before financial close have now 

been made, however, and the technical 

adviser, Faithful & Gould, considers them 

satisfactory. The size of the largest phase of 

construction (£280 million) may limit the 

number of contractors able to take over 

should Multiplex Construction (UK) Ltd. 

be replaced. 

• This is also the first hard FM contract 

Multiplex Facilities Management UK Ltd.

(Multiplex FM) has signed in the U.K. 

Multiplex FM has some health experience 

but on a smaller scale and with shorter 

contracts. It provides FM services to several 

hospitals in Australia totaling 2,100 beds-this 

PFI project alone provides 780 beds. 

The Australian contracts have an average 

duration of 10 years, significantly lower 

than for this project. The technical adviser 

has reviewed Multiplex FM’s processes and 

procedures and considers them satisfactory. 

• Unlike most rated PFI projects to date, the 

project makes use of a liquidity facility and 

CiLF instead of cash reserve accounts. The 

facilities have minimal drawstops and 

should provide relatively timely liquidity to 

the project if required. 

• The project is highly leveraged (94%) and 

the structure is quite aggressive with no tail. 

In lieu of a tail, a cash reserve is built up by 

the start of the last year of the concession, 

assuming sufficient cash is available. 

• ProjectCo is exposed to increased labor costs 

beyond those budgeted for, and for which it 

cannot claim relief from the Trusts through 

the market testing process. 

• The project is exposed to the uncertainty of 

more than 35 years of capital-replacement 

costs. 

• The contractor is dependent on key 

personnel. Given its lack of experience in the 

U.K., Multiplex Construction (UK) has had 

to recruit a new construction team 

specifically for this project. As this 

experience is vested within individuals, 

rather than the organization, Multiplex 

could be exposed if it failed to retain the 

services of these personnel, as it would need 

to recruit externally, and therefore may not 

be able to rapidly transfer staff internally if 

necessary. 

The following strengths mitigate these risks at 

the preliminary ‘BBB-’ rating level: 

• Construction risk is partially mitigated by an 

18% (£60 million) LOC provided by ABN 

AMRO, which would be sufficient to fund 

construction delays of 12 months and 

replacement cost premiums of about 

15% or more through the whole 

construction period. 



• An LOC equivalent to about 20% of the 

annual hard FM fee and a cash reserve 

equivalent to about 20% of the annual hard 

FM fee (replaceable by an additional LOC 

for the same amount) by the planned 

commencement of full services provides 

third-party liquidity support for the hard 

FM services. This liquidity can only be 

removed once Multiplex FM has met 

specific performance and financial targets 

consistently over a three-year period. 

• There are alternative hard FM providers 

capable of undertaking the services if 

Multiplex FM is replaced. 

• A 24-month longstop date is included for 

the acute facility. This is significantly longer 

than for similar hospital projects (usually 

12-18 months). The building contract 

longstop is 12 months, which gives 

ProjectCo a minimum 12 months to appoint 

a replacement contractor if necessary. 

• The Trusts have invested significant 

resources in assessing the design and 

working with Multiplex to develop and 

verify the details. In particular, all 1:50 scale 

drawings have been signed off by clinical 

user groups before financial close. 

• The construction works, although large, are 

relatively simple, with limited decanting and 

phasing requirements. A large part of the 

Acute and MHU hospital works are on a 

greenfield site next to the existing hospital. 

• Capital-replacement risk is partially 

mitigated by a three-year, forward-looking 

lifecycle reserve, and a 12-year guarantee 

from the construction contractor for latent 

defects. Sensitivity testing also indicates that 

ProjectCo could withstand significant 

increases in lifecycle costs before 

encountering financial distress. 

• Multiplex’s construction liability is limited 

only on termination to 55% of the 

construction contract sum. Termination 

liability steps down to 40% on completion 

of the Acute facility and to 20% six years 

after practical completion. In addition, the 

liquidated damages cap is sized to enable 

damages to be paid until the PA longstop 

date of 24 months from programmed 

completion. This is 60% of the expected 

construction period. 




The liquidity facility is revolving and pari passu 

with the senior debt in all respects. The facility is 

fully committed, and valid requests must be 

honored by the lender unless there is a liquidity 

facility event of default outstanding. The facility 

events of default are limited to the following: 

• Nonpayment of principal and interest on an 

outstanding liquidity loan. 

• Each liquidity loan has a term of six months 

only. If the loan is not repaid within the 

term, a new request for an additional 

liquidity loan may be made by ProjectCo. 

The lenders must make a new liquidity loan 

available to repay the previous loan and 

meet any additional liquidity shortfalls so 

long as the maximum commitment of the 

facility is not exceeded. 

• ProjectCo insolvency. 

• It becoming illegal for ProjectCo to make or 

receive payments under the liquidity facility. 

• If the bonds are accelerated or the bonds are 

made immediately due and payable under 

the terms of the collateral deed by the 

controlling creditor. 

The facility may be drawn to service senior 

liabilities, including liquidity facility payments. 

With written permission from the controlling 

creditor, however, it may also be used to fund 

specified operating costs as defined by the 

accounts agreement. This applies only to 

operational costs that are senior to senior debt 

liabilities in the operational cash waterfall. The 

liquidity facility may not be used to fund 

increases in capital costs. The distribution 

covenant will be triggered if any liquidity loans 

are outstanding. 

The facility is available from the start of the 

concession until replaced by the earlier of an 

equivalent cash debt service reserve account, or 

the end of the concession. Under the base case, a 

cash reserve is to be built up toward the end of 

the concession to replace the liquidity facility. 

During this period, a full six-month debt service 

reserve is available at all times, which will be 

based on a part cash/part liquidity facility reserve. 

Standard & Poor’s project finance ratings 

approach does not address the potential for 

changes in law within its ratings methodology. 

The U.K. PFI standard form contract specifically 

addresses the allocation of risk in relation to 

potential future changes in law. In this project, the 


standard risk allocation for change in law 

is adopted. 

The Trusts will assume the risk of 

discriminatory and NHS-specific changes in law 

in terms of compensation and extensions to 

construction completion dates. 

ProjectCo has shared general change-in-law risk 

up to a maximum liability of 3.13% of the capital 

cost of the project during the operational period. 

During the construction period, general changein-law 

risk has been passed in full to the 

construction contractor. Change in law in relation 

to medical equipment services is treated separately 

from this regime and is fully borne by the relevant 

technology contractor. 

This project has a facility available to meet 

possible change-in-law requirements during the 

operational period of the concession. The changein-law 

facility is pari passu to the senior debt and 

the facility is available from the start of the 

concession until the time of the mandatory 

drawdown--scheduled to occur toward the end of 

the concession--of any undrawn proceeds, which 

are deposited in the change-in-law account. Any 

drawings used to fund valid changes in law before 

the mandatory drawdown are interest only until 

then and the facility is subsequently repaid under 

a predetermined schedule. 

With prior written permission from the 

controlling creditor, the facility may also be used 

to fund operational or finance costs. If it is used 

in this manner, any drawings must be repaid in 

full (principal and interest) under a cash sweep, 

and the distribution covenant will be triggered 

until full repayment of the facility has been made. 

The swap facility is provided under a standard 

form ISDA master agreement with a projectspecific 

schedule. Standard & Poor’s has reviewed 

the details of this agreement and confirmed that it 

complies with the criteria. 

Recovery analysis 

The senior secured debt and the facilities have 

each been assigned preliminary recovery ratings of 

‘2’, indicating Standard & Poor’s expectation of 

substantial recovery of principal (70%-90%) in 

the event of a payment default. To date, however, 

there has been limited experience regarding 

default or loss in this sector. 

The senior debt facilities benefit from a strong 

security package, covenants, and contractual 

features for compensation on termination that are

standard in U.K. PFI transactions. The creditorfriendly 

U.K. insolvency framework gives secured 

creditors of PFI transactions with step-in rights 

who have floating charges the ability to appoint 

an administrative receiver to enforce security and 

thereby control the insolvency process. 

Additional features supporting substantial 

recovery include the relative clarity of the 

termination regime (although this remains largely 

untested), the expectation of timely repayment by 

the Trusts according to defined procedures and 

dates, and the robust credit quality of the Trusts 

as payers of termination sums. Exposure to a 

Trust credit default following termination is, 

therefore, minimal. 

The PA stipulates the mechanism for 

determining how ProjectCo (and its lenders) will 

be compensated for various events leading to 

termination. In the event of a Trust default, force 

majeure, or a voluntary termination, 

compensation will fully cover senior debt service, 

i.e. 100% recovery will be possible. As the Trusts’ 

responsibility is joint but not several, however, the 

PA only terminates for Trust default if the Acute 

Trust (representing 86% of the unitary payment) 

defaults. If one of the two smaller Trusts defaults, 

full compensation is payable to ProjectCo in 

standard terms but the PA does not terminate. 

The medical equipment services agreement does 

not have any partial termination provisions. 

A ProjectCo event of default arising from issues 

like insolvency, prohibited change of control, 

construction delay beyond the longstop date (24 

months after the scheduled completion of the 

Acute hospital), material breach of obligations, or 

accumulation of excessive penalty points, 

however, can trigger a termination where the 

repayment of debt is not guaranteed by the Trust. 

These scenarios have therefore been considered in 

order to arrive at potential recovery rates. 



Senior lenders have step-in rights to resolve a 

ProjectCo event of default. If termination occurs, 

compensation is based on a market retendering 

process (if a liquid market exists) or a net-presentvalue 

calculation, less certain expenses. 

Recovery rates for the project should improve 

as time passes because debt will be paid down 

and reserves built up. The recovery analysis 

assumes a relatively unfavorable scenario where a 

severe delay occurs in the initial years of 

construction, with a substantial increase in costs 

following contractor replacement. Scenarios that 

reduce the unitary payment by various amounts 

have also been considered, reflecting ProjectCo’s 

inability to achieve its original operating 

performance. The liquidity available to the project 

through reserves (such as the guaranteed 

investment contract) and cash is factored into the 

analysis. The recovery scenarios also assume that 

both the liquidity facility and the CiLF are fully 

drawn at default. 

Outlook 

The stable outlook on the preliminary underlying 

ratings reflects Standard & Poor’s expectation 

that construction will proceed in line with the 

planned program and budget. This expectation is 

based on the contractor’s ability and the 

professional team it has assembled, the favorable 

opinion of the technical adviser on the proposals, 

and the significant third-party construction 

support provided. The rating could be lowered if 

there were substantial delays in construction-increasing 

concerns about the contractor’s ability 

to deliver and maintain the hospitals--and/or 

substantially higher-than-expected cost increases. 

An upgrade in the short to medium term 

is unlikely. ■ 




Oct. 11, 2007 


Senior secured debt 

AAA, BBB-(SPUR)/Stable 


James Hoskins, 

London, 

(44) 20-7176-3393 


Jose R Abos, 

Madrid, 

(34) 91-389-6951 


TRANSFORM SCHOOLS (NORTH LANARKSHIRE) 

FUNDING PLC 

Rationale 

The £88.7 million index-linked senior secured 

bonds due 2036 and the £70 million European 

Investment Bank (EIB; AAA/Stable/A-1+) loans 

due 2034 issued by U.K.-based special purpose 

vehicle Transform Schools (North Lanarkshire) 

Funding PLC (Issuer) have a ‘AAA’ insured rating 

and a ‘BBB-’ Standard & Poor’s underlying rating 

(SPUR). The outlook on the SPUR is stable. In 

addition, the underlying rating on the bonds has a 

recovery rating of ‘2’, indicating Standard & 

Poor’s expectation of substantial recovery of 

principal (70%–90%) in the absence of a 

guarantee in the event of a debt default. 

The insured rating reflects the unconditional 

and irrevocable payment guarantee of scheduled 

interest and principal provided by XL Capital 

Assurance (U.K.) Ltd. (AAA/Stable/--). The 

underlying ‘BBB-’ rating represents a composite of 

credit factors, outlined below. 

The funds have been onlent by the Issuer to 

Transform Schools (North Lanarkshire) Ltd. 

(ProjectCo), and are being used to finance the 

design and construction of 17 new facilities for 24 

schools for North Lanarkshire Council in 

Scotland. Following the completion of 

construction, ProjectCo, via its subcontractor 

Haden Building Management Ltd. (HBML), will 

provide hard and limited soft facilities 

maintenance services, including building 

maintenance, lifecycle, security, energy 

management, cleaning and janitorial services to 

the schools for the remainder of the 32-year 

project agreement, which expires in 2037. 

Construction commenced in October 2004 

under an advanced works agreement and 

continued under the private finance initiative 

(PFI) contract upon financial close in April 2005. 

Final completion is due to occur in October 2008 

and works are being undertaken by an 

unincorporated joint venture between Balfour 

Beatty Construction Ltd. and Balfour Kilpatrick 

Ltd. (construction joint venture; CJV), both of 

which are subsidiaries of Balfour Beatty PLC (not 

rated). Construction works are currently 

proceeding reasonably well, with 11 facilities 

successfully completed, two facilities due to be 

completed in October 2007, two in November 

2007, and the final two schools in October 2008. 

The ‘BBB-’ underlying rating reflects the 

following credit risks: 

• Although the completion of this multisite 

project should be within the capabilities of 


the contractor Balfour Beatty PLC to deliver 

successfully, it is being run concurrently 

with a number of other Scottish education 

PFI portfolio projects. The ability to procure 

sub-contractors to carry out key 

construction activities in a reasonably 

constrained labor market will be crucial, 

therefore, in ensuring construction delivery 

in line with the contractually agreed 

timetable. Furthermore, Balfour Beatty itself 

is undertaking a number of significant PFI 

projects at this time so its ability to manage 

this project alongside others will be 

challenging, although achievable given 

the company’s significant experience in 

the sector. 

• One school facility, St. Ignatius and Wishaw 

Academy Primary, which was handed over 

in August 2007, was found to be about 136 

square meters smaller than required by the 

output specification immediately prior to 

handover. In addition, one school is 

currently in delay by around 12 weeks due 

to poor ground conditions. ProjectCo is 

being protected from the financial impact of 

these two issues by CJV. At Wishaw, CJV is 

currently implementing the additional works 

required to bring the floor area of the school 

up to standard at its own expense. 

• The project relies on about £23 million of 

revenue earned through phased construction 

to provide funding for further construction 

activities. Any delays to the attainment of 

these revenues could reduce the funding 

available for construction. 

• The third-party financial support and 

liquidity during the construction phase is 

relatively low, although adequate. 

Construction risk is partially financially 

mitigated through an adjudication bond 

from Banco Bilbao Vizcaya Argentaria S.A. 

(AA-/Positive/A-1+). 

• ProjectCo is exposed to the uncertainty, in 

terms of budgeting and timing, of more than 

32 years of capital-replacement risk. This 

risk is partially mitigated by: a three-year 

forward-looking reserve; a 12-year limit on 

the construction joint-venture liabilities for 

serious latent defects; and the relatively 

simple nature of schools projects. 

• The financial structure is aggressive, as is 

typical for the PFI sector. Senior debt to 

total funds is 90% (excluding construction

evenue), and base-case senior debt-service 

coverage levels are a minimum of 1.19x and 

average 1.21x, which is low but in line with 

most recently rated PFI projects in the U.K. 

In addition, forward and historical 

distribution lock-up levels are slightly lower 

than recent transactions at 1.125x. 

The financial model, however, performs 

satisfactorily under a range of 

stress scenarios. 

These risks are mitigated at this rating level by 

the following credit strengths: 

• The project receives an availability-based 

revenue stream, with no volume or market 

exposure, no reliance on third-party 

revenues, and a relatively benign payment 

mechanism. 

• The experience and capability of Balfour 

Beatty and its subsidiaries in their capacities 

as sponsor, constructor, and facilities 

maintenance (FM) provider. 

• All individual schools will be 100% newbuild, 

with construction on largely vacant 

sites within the existing school sites. 

Furthermore, the project is likely to benefit 

from the portfolio effect of construction on 

various sites. 

• The FM service requirements are relatively 

simple and, therefore, are likely to be within 

the capabilities of the FM provider. In 

addition, benchmarking and market testing 

provides an adequate pass-through of 

operational risks from ProjectCo. 

• With the exception of the two schools 

mentioned above, progress on the 

construction is adequate to date, with a total 

of eight sites (accounting for 11 schools) 

completed so far, with works having 

commenced on all tranche-2 schools as 

anticipated. A number of minor grantorfunded 

variations have been executed and 

relations between parties continue to be 

positive. Construction remains on schedule 

for final completion and handover in 

October 2008. 



Recovery analysis 

The secured bonds and EIB loan have been 

assigned a recovery rating of ‘2’. This indicates 

Standard & Poor’s expectation of substantial 

recovery of principal (70%-90%) in the absence 

of a guarantee in the event of a debt default. To 

date, however, there has been limited experience 

regarding default or loss in this sector. 

This recovery rating reflects the strong security 

package, covenants, and contractual features for 

compensation on termination that are inherent in 

U.K. public-private partnership (PPP) 

transactions. A key feature supporting this 

assessment is the creditor-friendly U.K. insolvency 

framework. Secured creditors of PPP transactions 

with step-in rights that have floating charges have 

additional advantages, because they are one of the 

categories of creditors that can appoint an 

administrative receiver to enforce security and 

thereby control the insolvency process. 

Additional features supporting Standard & 

Poor’s expectation of substantial recovery include 

the relative clarity of the termination regime 

(although this is largely untested), the expectation 

of timely repayment according to defined 

procedures and dates by the procuring authority, 

and the robust credit quality of the procuring 

authority as payor of termination sums. Exposure 

to authority credit default following termination 

is, therefore, minimal. 

Outlook 

The stable outlook reflects our expectation that 

the necessary rectification works at St. Ignatius 

and Wishaw Academy Primary will be completed 

to the satisfaction of ProjectCo and in a timely 

manner. If further significant delays are 

encountered or the rectification works are not 

adequately completed the outlook may be revised 

to negative or the rating lowered. There is 

currently limited scope for an upgrade. ■ 


RATINGS LIST 

RATINGS LIST 

Utilities 

Standard & Poor's Infrastructure Finance Ratings 

Name Issuer credit rating* Country 

Acea SpA A/Stable/A-1 Italy 

Acquedotto Pugliese SpA BBB/Negative/A-3 Italy 

AEM SpA BBB/Watch Pos/A-2 Italy 

Anglian Water Services Financing PLC Guaranteed debt AAA; senior secured debt A-; subordinated debt BBB U.K. 

Artesian Finance PLC Senior secured debt AAA U.K. 

ASM Brescia SpA A+/Watch Neg/A-1 Italy 

Bord Gais Eireann A/Stable/A-1 Ireland 

BOT Elektrownia Turow S.A. B/Positive/-- Poland 

British Energy Group PLC BB+/Watch Neg/-- U.K. 

CE Electric U.K. Funding Co. BBB-/Positive/A-3 U.K. 

Centrica PLC A/Negative/A-1 U.K. 

CEZ a.s. A-/Stable/-- Czech Republic 

C.N. Transelectrica S.A. BB+/Positive/-- Romania 

Delta N.V. A-/Negative/-- The Netherlands 

DONG Energy A/S BBB+/Positive/A-2 Denmark 

Drax Power Ltd. BBB-/Stable/-- U.K. 

Dwr Cymru (Financing) Ltd. Secured bank loan A-; senior secured guaranteed AAA; senior secured A-; 

subordinated BBB 

U.K. 

E.ON AG A/Stable/A-1 Germany 

E.ON Sverige AB A/Stable/A-1 Sweden 

E.ON U.K. PLC A-/Stable/A-2 U.K. 

Edison SpA BBB+/Positive/A-2 Italy 

EDP - Energias de Portugal, S.A. A-/Negative/A-2 Portugal 

Eesti Energia AS A-/Negative/-- Estonia 

Electricite de France S.A. AA-/Stable/A-1+ France 

EDF Energy PLC A/Stable/A-1 U.K. 

RTE EDF Transport S.A. AA-/Stable/A-1+ France 

Elia System Operator S.A./N.V. A-/Stable/A-2 Belgium 

Enagas S.A. AA-/Stable/A-1+ Spain 

EnBW Energie Baden-Wuerttemberg AG A-/Stable/A-2 Germany 

Endesa S.A. A/Watch Neg/A-1 Spain 

ENECO Holding N.V. A/Negative/A-1 The Netherlands 

Enel SpA A/Watch Neg/A-1 Italy 

Enemalta Corp. BBB+/Stable/-- Malta 

Energie AG Oberoesterreich A+/Negative/-- Austria 

Energie Steiermark AG A/Positive/-- Austria 

Energinet.dk SOV AA+/Stable/A-1+ Denmark 

ESKOM Holdings Ltd. Foreign currency BBB+/Stable/-- South Africa 

Essent N.V. A+/Negative/A-1 The Netherlands 

EVN AG A/Stable/-- Austria 

EWE AG A/Negative/-- Germany 

Federal Grid Co. of the Unified Energy System BB+/Watch Pos/-- Russia 

Fingrid Oyj A+/Stable/A-1 Finland 

Fortum Oyj A-/Stable/A-2 Finland 

Gas Natural SDG, S.A. A+/Negative/A-1 Spain 

Gaz de France S.A. AA-/Watch Neg/A-1+ France 

Hera SpA A/Stable/A-1 Italy 

Hrvatska Elektroprivreda d.d. BBB/Stable/-- Croatia 

Iberdrola S.A. A/Watch Neg/A-1 Spain 

Irkutskenergo, AO EiE 

*At Nov. 8, 2007. All ratings are issuer credit ratings unless otherwise stated. 

B+/Positive/-- Russia 



Utilities 



Israel Electric Corp. Ltd. BBB+/Negative/-- Israel 

Kazakhstan Electricity Grid Operating Co. (JSC) BB+/Stable/-- Kazakhstan 

KazTransGas BB/Stable/-- Kazakhstan 

KazTransOil BB+/Positive/-- Kazakhstan 

KELAG AG A+/Negative/-- Austria 

Kelda Group PLC A-/Stable/A-2 U.K. 

Landsvirkjun Foreign currency A+/Negative/A-1 Iceland 

Lietuvos Energija A-/Negative/A-2 Lithuania 

Lunds Energikoncernen AB (publ) BBB+/Stable/A-2 Sweden 

Mosenergo (AO) BB/Stable/-- Russia 

N.V. Nederlandse Gasunie AA+/Stable/A-1+ The Netherlands 

N.V. NUON A+/Negative/A-1 The Netherlands 

National Central Cooling Co. PJSC BBB-/Stable/-- United Arab Emirates 

National Grid PLC A-/Stable/A-2 U.K. 

Natsionalna Elektricheska Kompania EAD BB/Developing/-- Bulgaria 

Northern Gas Networks Holdings Ltd. BBB+/Stable/-- U.K. 

Northumbrian Water Ltd. BBB+/Stable/-- U.K. 

Polish Oil and Gas Co. BBB+/Stable/-- Poland 

Public Power Corp. S.A. BBB+/Stable/-- Greece 

Rand Water Foreign currency BBB+/Stable/-- South Africa 

RAO UES of Russia BB/Watch Pos/-- Russia 

Red Electrica de Espana S.A. AA-/Stable/A-1+ Spain 

RWE AG A+/Negative/A-1 Germany 

Saudi Electric Co. AA-/Stable/-- Saudi Arabia 

S.C. Hidroelectrica S.A. BB/Positive/-- Romania 

Scotland Gas Networks PLC BBB/Positive/-- U.K. 

Southern Gas Networks PLC BBB/Positive/-- U.K. 

Scottish and Southern Energy PLC A+/Stable/A-1 U.K. 

Scottish Power PLC A-/Watch Neg/A-2 U.K. 

Severn Trent PLC A/Stable/A-1 U.K. 

Sociedad General de Aguas de Barcelona S.A. A/Stable/A-1 Spain 

South East Water (Finance) Ltd. Senior secured guaranteed AAA; senior secured BBB U.K. 

South Staffordshire PLC A-/Watch Neg/A-2 U.K. 

Southern Water Services Ltd. Bank loan A- U.K. 

S.N.T.G.N. Transgaz S.A. Medias BB+/Positive/-- Romania 

Statkraft AS BBB+/Stable/A-2 Norway 

Statnett SF AA/Stable/A-1+ Norway 

Suez S.A. A-/Watch Pos/A-2 France 

Sutton and East Surrey Water PLC BBB+/Stable/-- U.K. 

Tekniska Verken i Linkoeping AB A-/Stable/A-2 Sweden 

Terna SpA AA-/Stable/A-1+ Italy 

Thames Water Utilities Ltd. BBB+/Watch Neg/-- U.K. 

Union Fenosa S.A. BBB+/Stable/A-2 Spain 

United Utilities PLC A/Watch Neg/A-1 U.K. 

Vattenfall AB A-/Stable/A-2 Sweden 

Veolia Environnement S.A. BBB+/Stable/A-2 France 

Vodokanal St. Petersburg BB+/Positive/B Russia 

Three Valleys Water PLC 

Verbundgesellschaft (Oesterreichische 

A-/Stable/-- U.K. 

Elektrizitaetswirtschafts Aktiengesellschaft) A/Stable/-- Austria 

Wasser und Gas Westfalen GmbH BBB+/Stable/-- Germany 

Wessex Water Services Ltd. BBB+/Stable/-- U.K. 

Western Power Distribution Holdings Ltd. 


BBB-/Stable/A-3 U.K. 


RATINGS LIST 


RATINGS LIST 

Transportation Infrastructure 


Abertis Infraestructuras S.A. A/Negative/-- Spain 

Aeroporti di Roma SpA BBB/Watch Neg/A-2 Italy 

Aeroports de Paris AA-/Stable/-- France 

Angel Trains Ltd. A/Negative/A-2 U.K. 

Atlantia SpA A/Negative/A-1 Italy 

BAA Ltd. BBB+/Watch Neg/NR U.K. 

Birmingham Airport Holdings Ltd. A-/Stable/A-2 U.K. 

BRISA Auto-Estradas de Portugal S.A. A/Watch Neg/A-1 Portugal 

Brussels International Airport Co. BBB/Stable/-- Belgium 

Caisse Nationale des Autoroutes AAA/Stable/-- France 

CFR Marfa S.A. B-/Watch Neg/-- Romania 

CFR S.A. BB/Negative/-- Romania 

Cofiroute BBB+/Negative/A-2 France 

Copenhagen Airports A/S BBB+/Stable/-- Denmark 

Deutsche Bahn AG AA/Negative/A-1+ Germany 

DFS Deutsche Flugsicherung GmbH AAA/Negative/A-1+ Germany 

DP World Ltd. A+/Stable/A-1 Dubai 

Dublin Airport Authority PLC A/Negative/A-1 Ireland 

Fjellinjen AS AA/Stable/-- Norway 

Hutchison Ports (U.K.) Ltd. A-/Stable/A-2 U.K. 

INFRABEL AA+/Stable/A-1+ Belgium 

Kazakhstan Temir Zholy BB+/Stable/-- Kazakhstan 

Macquarie Airports Copenhagen Holdings ApS BBB+/Stable/-- Denmark 

Macquarie Motorways Group Ltd. BBB/Stable/-- U.K. 

Manchester Airport Group PLC (The) A/Stable/-- U.K. 

N.V. Luchthaven Schiphol AA-/Negative/-- The Netherlands 

NATS (En-Route) PLC A/Stable/-- U.K. 

Network Rail Infrastructure Finance PLC Senior secured debt AAA U.K. 

Network Rail MTN Finance PLC Senior secured debt AAA U.K. 

Norges Statsbaner AS AA/Stable/A-1+ Norway 

NS Groep N.V. AA/Stable/-- The Netherlands 

Oresundsbro Konsortiet Senior unsecured debt AAA Denmark 

Rede Ferroviaria Nacional REFER, E.P. A/Stable/-- Portugal 

Reseau Ferre de France AAA/Stable/A-1+ France 

Russian Railways (JSC) BBB+/Stable/-- Russia 

Societe Nationale des Chemins de Fer Belges Holding AA+/Stable/A-1+ Belgium 

Societe Nationale des Chemins de Fer Francais AAA/Stable/A-1+ France 

Transnet Ltd. Foreign currency BBB+/Stable/-- South Africa 

Unique (Flughafen Zurich AG) BBB+/Stable/-- Switzerland 

VINCI S.A. BBB+/Negative/A-2 France 

West Coast Train Finance PLC Senior secured debt A/Stable U.K. 





Project Finance 


Name Issue credit rating* Country 


RATINGS LIST 

Abu Dhabi National Energy Company PJSC (TAQA) AA-/Stable/A-1+ (issuer credit rating) United Arab Emirates 

Ajman Sewerage (Private) Co. Ltd. AAA (insured); BBB (SPUR)/Stable United Arab Emirates 

Alpha Schools (Highland) Project PLC AAA (insured); BBB (SPUR)/Stable U.K. 

Alte Liebe 1 Ltd. AAA (insured); BBB- (SPUR)/Stable Channel Islands 

Aspire Defence Finance PLC AAA (insured); BBB- (SPUR)/Stable U.K. 

Autolink Concessionaires (M6) PLC AAA (insured); BBB+ (SPUR)/Stable U.K. 

Autoroutes Paris-Rhin-Rhone Senior unsecured bank loan, term loan BBB-/Stable; 

senior unsecured MTN BBB 

France 

Autovia del Camino S.A. AAA (insured); BBB (SPUR)/Stable Spain 

Bina-Istra, d.d. Senior secured debt BBB-/Stable Croatia 

Breeze Finance S.A. Senior secured debt AAA (insured), BBB (SPUR)/Stable; 

subordinated debt BB-/Stable (preliminary) 

Luxembourg 

Capital Hospitals (Issuer) PLC AAA (insured); BBB- (SPUR)/Stable U.K. 

Catalyst Healthcare (Manchester) Financing PLC AAA (insured); BBB (SPUR)/Negative U.K. 

Catalyst Healthcare (Romford) Financing PLC AAA (insured); BBB (SPUR)/Stable U.K. 

Central Nottinghamshire Hospitals PLC AAA (insured); BBB (SPUR)/Stable U.K. 

Consort Healthcare (Birmingham) Funding PLC AAA (insured); BBB- (SPUR)/Stable U.K. 

Consort Healthcare (Mid Yorkshire) Funding PLC AAA (insured); BBB- (SPUR)/Stable (preliminary) U.K. 

Consort Healthcare (Salford) PLC AAA (insured); BBB (SPUR)/Stable (preliminary) U.K. 

Consort Healthcare (Tameside) PLC AAA (insured); BBB (SPUR)/Stable (preliminary) U.K. 

CountyRoute (A130) PLC Senior secured debt BBB/Stable; subordinated debt BB/Stable U.K. 

Coventry & Rugby Hospital Co. PLC (The) AAA (insured); BBB (SPUR)/Stable U.K. 

CRC Breeze Finance S.A. Senior secured debt BBB/Stable; subordinated debt BB+/Stable Luxembourg 

CTRL Section 1 Finance Class A1 and A2 debt AAA U.K. 

Delek & Avner - Yam Tethys Ltd. Senior secured debt BBB-/Stable Israel 

DirectRoute (Limerick) Finance Ltd. AAA (insured); BBB- (SPUR)/Stable (preliminary) Ireland 

Discovery Education PLC AAA (insured); BBB- (SPUR)/Stable U.K. 

Education Support Enfield Ltd. Senior secured bank loan A/Stable U.K. 

Exchequer Partnership (no. 1) PLC Senior secured debt AAA (insured) U.K. 

Exchequer Partnership (no. 2) PLC AAA (insured); BBB+ (SPUR)/Stable U.K. 

Fixed-Link Finance B.V. G1 and G2 notes: AAA; junior subordinated class C notes: 

C/Negative; senior secured class A notes and subordinated 

class B notes: AAA/Stable 

The Netherlands 

Health Management (Carlisle) PLC Senior secured debt AAA (insured) U.K. 

Healthcare Support (Newcastle) Finance PLC AAA (insured); BBB- (SPUR)/Stable U.K. 

Healthcare Support (North Staffs) Finance PLC AAA (insured); BBB- (SPUR)/Stable (preliminary) U.K. 

Highway Management (City) Finance PLC AAA (insured); BBB (SPUR)/Stable U.K. 

Hospital Co. (Swindon & Marlborough) Ltd. (The) AAA (insured); BBB+ (SPUR)/Stable Channel Islands 

InspirED Education (South Lanarkshire) PLC AAA (insured); BBB- (SPUR)/Watch Neg U.K. 

Integrated Accommodation Services PLC AAA (insured); A (SPUR)/Stable U.K. 

International Power PLC BB-/Stable/-- (issuer credit rating) U.K. 

M6 Duna Autopalya Koncessios Zartkoruen Mukodo Eszvenytarsasag Senior secured bank loan and debt AAA Hungary 

Max Two Ltd. Senior secured debt BBB-/Negative Channel Islands 

Metronet Rail BCV Finance PLC and Metronet Rail SSL Finance PLC Senior secured bank loan BB+/Watch Neg; senior secured 

debt AAA, BB+(SPUR)/Watch Neg 

U.K. 

Nakilat Inc. A+/Stable/-- (issuer credit rating) Marshall Islands 

NewHospitals (St. Helens and Knowsley) Finance PLC AAA (insured); BBB (SPUR)/Stable U.K. 

Octagon Healthcare Funding PLC AAA (insured); BBB (SPUR)/Stable U.K. 

Peterborough (Progress Health) PLC AAA (insured); BBB- (SPUR)/Stable (preliminary) U.K. 

Premier Transmission Financing PLC AAA (insured); A (SPUR)/Stable U.K. 

Ras Laffan Liquefied Natural Gas Co. 

*At Nov. 9, 2007. All ratings are issue ratings unless otherwise stated. 

AAA (insured); A/Stable Qatar 


RATINGS LIST 

Project Finance 

Name Issue credit rating* Country 

Ras Laffan Liquefied Natural Gas Co. Ltd. (II) and 

Ras Laffan Liquefied Natural Gas Co. Ltd. (3) 

Senior secured debt A/Stable Qatar 

RMPA Services PLC AAA (insured); BBB- (SPUR)/Positive U.K. 

Road Management Consolidated PLC AAA (insured); BBB (SPUR)/Stable U.K. 

Services Support (Manchester) Ltd. Senior secured bank loan BBB/Stable U.K. 

Société Marseillaise du Tunnel Prado-Carénage (SMTPC) Senior secured bank loan AAA (insured) France 

Sutton Bridge Financing Ltd. Senior secured debt BBB-/Stable U.K. 

TAQA North Ltd. Senior unsecured debt AA- United Arab Emirates 

THPA Finance Ltd. Class A2 debt A; class B debt BBB; class B debt BB U.K. 

Transform Schools (North Lanarkshire) Funding PLC AAA (insured); BBB- (SPUR)/Stable U.K. 

Tube Lines (Finance) PLC Senior secured bank loan AAA/Stable (insured); senior secured 

B notes BBB/Stable; senior secured A-1 notes AA/Stable; 

subordinated C notes BBB-/Stable; subordinated D notes BB/Stable 

U.K. 

Walsall Hospital Co. PLC (The) 

*At Nov. 9, 2007. All ratings are issue ratings unless otherwise stated. 

AAA (insured); BBB- (SPUR)/Stable (preliminary) U.K. 




KEY ANALYTICAL CONTACTS 

London 


Managing Director 

Head of Infrastructure Finance Ratings 

(44) 20-7176-3528 

mike_wilkins@standardandpoors.com 

Peter Kernan 

Managing Director and Team Leader 

European Utilities 

(44) 20-7176-3618 

peter_kernan@standardandpoors.com 

Jonathan Manley 



(44) 20-7176-3952 

jonathan_manley@standardandpoors.com 

Lidia Polakovic 



(44) 20-7176-3985 

lidia_polakovic@standardandpoors.com 

Paul Lund 

Director and Team Leader 

Corporate Securitization 

(44) 20-7176-3715 

paul_lund@standardandpoors.com 

Elif Acar 

Director 

(44) 20-7176-3612 

elif_acar@standardandpoors.com 

Vincent Allilaire 

Director 

(44) 20-7176-3628 

vincent_allilaire@standardandpoors.com 

Mark Davidson 

Director 

(44) 20-7176-6306 

mark_j_davidson@standardandpoors.com 

Maria Lemos 

Director 

(44) 20-7176-3749 

maria_lemos@standardandpoors.com 


Karim Nassif 

Associate Director 

(44) 20-7176-3677 

karim_nassif@standardandpoors.com 

Olli Rouhiainen 


(44) 20-7176-3769 

olli_rouhiainen@standardandpoors.com 

Beata Sperling-Tyler 


(44) 20-7176-3687 

beata_sperling-tyler@standardandpoors.com 

Beatrice de Taisne 

Associate 

(44) 20-7176-3938 

beatrice_detaisne@standardandpoors.com 

Karin Erlander 

Associate 

(44) 20-7176-3584 

karin_erlander@standardandpoors.com 

Amrit Gescher 

Associate 

(44) 20-7176-3733 

amrit_gescher@standardandpoors.com 

James Hoskins 

Associate 

(44) 20-7176-3393 

james_hoskins@standardandpoors.com 

Tania Tsoneva 

Ratings Specialist 

(44) 20-7176-3489 

tania_tsoneva@standardandpoors.com 

CONTACTS 

Florian de Chaisemartin 

Ratings Analyst 

(44) 20-7176-3760 

florian_dechaisemartin@standardandpoors.com 

Terence Smiyan 

Research Assistant 

(44) 20-7176-3800 

terence_smiyan@standardandpoors.com 


CONTACTS 

KEY ANALYTICAL CONTACTS 

Frankfurt 

Ralf Etzelmueller 


(49) 69-33-999-123 

ralf_etzelmueller@standardandpoors.com 

Timon Binder 

Ratings Specialist 

(49) 69-33-999-139 

timon_binder@standardandpoors.com 

Ekaterina Lebedeva 

Senior Research Assistant 

(49) 69-33-999-134 

ekaterina_lebedeva@standardandpoors.com 

Madrid 

Ana Nogales 

Director 

(34) 91-788-7206 

ana_nogales@standardandpoors.com 

Jose Ramon Abos 


(34) 91-389-6962 

jose_abos@standardandpoors.com 

Paris 

Hugues de la Presle 

Director 

(33) 1-4420-6666 

hugues_delapresle@standardandpoors.com 

Alexandre de Lestrange 

Director 

(33) 1-4420-7316 

alexandre_delestrange@standardandpoors.com 

Stockholm 

Mark Schindele 

Associate 

(46) 8-440-5918 

mark_schindele@standardandpoors.com 


Milan 

Monica Mariani 

Director 

(39) 02-72-111-207 

monica_mariani@standardandpoors.com 

Moscow 

Eugene Korovin 


(7) 495-783-4090 

eugene_korovin@standardandpoors.com 

Group E-mail Address 

InfrastructureEurope@standardandpoors.com

STANDARD & POOR’S RATINGS SERVICES 

STANDARD & POOR’S 

President 

Deven Sharmaa 

Executive Vice President 

Vickie A. Tillman 

STANDARD & POOR’S CREDIT MARKET SERVICES 

Executive Managing Directors 

Paul Coughlin, William J. Cox, Lawrence P. Neal, Barbara B. Ridpath, Joanne W. Rose, Thomas G. Schiller, Vladimir Y. Stadnyk 

Executive Managing Director, Chief Credit Officer Clifford M. Griep 

General Counsel Petrina R. Dawson 

CREDIT INFORMATION SERVICES 

Senior Vice President, Publisher Grace Schalkwyk 

Vice Presidents Diane Eisenstat, Product Management; Bob Arnold, Global Editorial 

Regional Management Marc Anthonisen, Japan & Korea; 

Paul Whitmore, Europe; Rory Manchee, Asia-Pacific 

EDITORIAL 

Managing Editor (Europe): Chris Fordyce 

Editor (London): Anna Crowley 

Design (London): Annemie Bekker at IKON 

Subscription Information 

Hong Kong (852) 2533-3535, London (44) 20-7176-7176, Melbourne (61) 3-9631-2000, 

New York (1) 212-438-7280, Singapore (65) 6239-6316, Tokyo (81) 3-3593-8700 

Web Site www.standardandpoors.com 

Published by Standard & Poor's, a Division of The McGraw-Hill Companies, Inc. Executive offices: 1221 Avenue of the Americas, 

New York, NY 10020. Editorial offices: 55 Water Street, New York, NY 10041. Subscriber services: (1) 212-438-7280. Copyright 

2007 by The McGraw-Hill Companies, Inc. Reproduction in whole or in part prohibited except by permission. All rights reserved. 

Information has been obtained by Standard & Poor's from sources believed to be reliable. However, because of the possibility of 

human or mechanical error by our sources, Standard & Poor's or others, Standard & Poor's does not guarantee the accuracy, adequacy, 

or completeness of any information and is not responsible for any errors or omissions or the result obtained from the use of such 

information. Ratings are statements of opinion, not statements of fact or recommendations to buy, hold, or sell any securities. 

Standard & Poor's uses billing and contact data collected from subscribers for billing and order fulfillment purposes, and occasionally 

to inform subscribers about products or services from Standard & Poor's, our parent, The McGraw-Hill Companies, and reputable 

third parties that may be of interest to them. All subscriber billing and contact data collected is stored in a secure database in the U.S. 

and access is limited to authorized persons. If you would prefer not to have your information used as outlined in this notice, if you 

wish to review your information for accuracy, or for more information on our privacy practices, please call us at (1) 212-438-7280 or 

write us at: privacy@standardandpoors.com. For more information about The McGraw-Hill Companies Privacy Policy please visit 

www.mcgraw-hill.com/privacy.html. 

Analytic services provided by Standard & Poor's Ratings Services ("Ratings Services") are the result of separate activities designed to 

preserve the independence and objectivity of ratings opinions. Ratings are statements of opinion, not statements of fact or recommendations 

to buy, hold, or sell any securities. Ratings are based on information received by Ratings Services. Other divisions of Standard 

& Poor's may have information that is not available to Ratings Services. Standard & Poor's has established policies and procedures to 

maintain the confidentiality of non-public information received during the ratings process. 

Ratings Services receives compensation for its ratings. Such compensation is normally paid either by the issuers of such securities or by 

the underwriters participating in the distribution thereof. The fees generally vary from US$2,000 to over US$1,500,000. While 

Standard & Poor's reserves the right to disseminate the rating, it receives no payment for doing so, except for subscriptions to its publications. 

Permissions: To reprint, translate, or quote Standard & Poor's publications, contact: Client Services, 55 Water Street, New York, NY 

10041; (1) 212-438-9823; or by e-mail to: research_request@standardandpoors.com.

ARGENTINA 

AUSTRALIA 

BRAZIL 

CANADA 

CHINA 

DENMARK 

DUBAI 

FRANCE 

GERMANY 

HONG KONG 

INDIA 

ITALY 

JAPAN 

KOREA 

MEXICO 

RUSSIA 

SINGAPORE 

SOUTH AFRICA 

SPAIN 

SWEDEN 

TAIWAN 

UNITED KINGDOM 

UNITED STATES 

AFFILIATES 

Chile 

Indonesia 

Israel 

Malaysia 

www.standardandpoors.com 

Analytic Services provided by Standard & Poor's Ratings Services are the result of separate activities designed to preserve the independence and objectivity of 

ratings opinions. Ratings are statements of opinion, not statements of fact or recommendations to buy, hold, or sell any securities. Standard & Poor's has established 

policies and procedures to maintain the confidentiality of non-public information received during the ratings process. 

IFR1107

European Infrastructure Finance Yearbook - Investing In Bonds ...

You also want an ePaper? Increase the reach of your titles

Delete template?

Save as template?