In our October 2022 article, we provided an overview of the LTESA framework, outlining the tender process and key process dates. In late January, AEMO Services shortlisted the 16 bidders who must now submit “financial bids” by 10 February 2023. Uniquely, “financial bids” comprise not just of a bidder’s proposed financial metrics, but also their proposed departures to the Government provided key project documents: the Project Development Agreement (PDA) and the Long-Term Energy Service Agreement.
There will be the usual desire by the Government to minimise the number of departures submitted by a bidder, with the usual warning that significant departures will “impact the competitiveness of a bidder’s bid”. However, on the bidder’s side, there will be the process of needing to ensure that the risk allocation proposed by the project documents is appropriate, not just from a bidder/equity perspective, but also for those bidders raising external debt finance on day one, or in the future, to ensure that the debt financiers also agree that the risk allocation, to be bid back by a bidder to Government, is appropriate or “bankable”. Such debt financiers usually have a much lower risk appetite than equity sponsors, especially for first of its kind products such as the LTESAs.
This article discusses not all, but, in the authors’ view, the Top 10 bankability considerations debt financiers (and equity sponsors) should pay attention to.
The counterparty
Key for any material project contract is the identity and credit worthiness of the contract’s counterparty. In this case, the Scheme Financial Vehicle Pty Ltd (SFV) will be the project document counterparty. The SFV will be administered by Equity Trustees Limited, a private body appointed by AEMO Services as the NSW Electricity Infrastructure Roadmap’s Financial Trustee. Importantly from a bankability perspective, the SFV has recently been assigned an AA3-stable credit rating by Moody’s – an investment grade rating. Debt financiers may also require the counterparty to have a S&P and/or Fitch rating
In addition to a strong credit rating, debt financiers will require comfort as to how the SFV will be administered, including how key decisions will be made. Given the complexity of the east coast national electricity market, and the challenges caused by Australia’s federal system of Government, we expect this to be a key area.
Finally, it will be interesting to understand whether the SFV will receive a guarantee under the (still relatively new) Government Sector Financing Act (NSW) 2018 (GSF Act), which, in the past, has been heavily relied on by debt financiers for Government sponsored projects. Related to this, it’s likely that various GSF Act approvals will be required, with such approval times often being quite lengthy, again, especially for first of its kind projects.
Tripartite deed
Pleasingly, the Government has provided a template tripartite deed to be entered into between the SFV, the bidder and the debt financiers. This document essentially provides the SFV’s consent to the bidder providing security over its rights under the LTESA project documents in favour of the debt financiers, fetter certain SFV default and termination rights and, similarly, fetter the debt financier’s enforcement sale rights.
However, the proposed template document is very short-form and, like most project financings, we expect bidders and their debt financiers to pay close attention to a number of “standard” tripartite issues such as:
- priority – it is not explicitly clear in all the project documents that if there is any inconsistency between the project documents and the tripartite deed, whether the tripartite deed prevails;
- cure periods – whether the debt cure periods proposed by the Government are sufficient (arguably the answer for this is unique to each project) and how certain defaults can be cured, or in fact deemed to be cured;
- enforcement sale restrictions – whether it is appropriate for the debt financiers in an enforcement sale situation, even one that may have been caused in whole, or in part, by Government action/inaction, to be subject to the same sale/novation restrictions as imposed on the bidder by the Government under the project documents; and
- amendments – whether the relevant project documents can be materially amended by the bidder and the Government without debt financier consent – an issue which has been historically problematic, especially for Governments on many large infrastructure projects over the years.
In addition, we expect the tripartite deed to be the appropriate document to house a number of LTESA/project specific issues including:
- notice – whether the debt financiers will receive direct notice from Government of key issues occurring under the LTESA, particularly given the variety of obligations imposed by the Government on the bidder;
- option exercise – whether the debt financiers have a right to direct a bidder to exercise a LTESA option; and
- reserving – whether the debt financiers will require the bidder to reserve cash against any LTESA option proceeds received from the Government so that the bidder will have the ability to honour its obligation to repay such receipts once the threshold electricity price is exceeded.
Project Delay – Sunset Dates and Milestones
With rising material costs and labour shortages now common place in the Australian construction market, it is likely that LTESA projects will face some form of delay throughout the development and construction phase of the project. For various reasons (including the impending retirement of many coal-fired power stations), the Government tightly regulates, and potentially will penalise, material project construction delay. Delays under the PDA, whether they relate to a Milestone, or the various Sunset Dates, can (if not cured) lead to the termination of the project documents.
Given the current market conditions, it is likely that bidders and their debt financiers will need to provide themselves with significant leeway and flexibility when agreeing to these longstop dates and cure periods.
force majeure regime
The project documents contain relatively standard force majeure clauses, excusing the bidder from any liability not within its reasonable control or that could not have been avoided through reasonable care, compliance and industry practices. Such clauses are effectively for a certain period of time following which, if the event is not satisfactorily resolved, a termination event occurs.
Bankability wise, we expect, given recent climatic conditions, the challenges referred to above facing the construction industry and the increasing number of events outside of a project’s control (especially during the vital construction and commissioning phases) that bidders will place close attention to the definition of (and exclusions from) a “Project Force Majeure Event”, the duration of the relief period, the termination process and payments and what, if any, insurance is available to reduce such exposure.
Change in law
Under the LTESA (but not the PDA), a change in law (including tax law) requires the Government and the bidder to use their best endeavours to mitigate the effect of the change in law and agree on an appropriate outcome. This may include documenting an arrangement to deal with such event and the Government accepting 50% of any resulting cost increase.
We expect such an “agreement to agree” to be problematic from a bankability perspective as lenders generally prefer that a bidder does not absorb change in law risk – particularly if the Government is responsible for the change in the law or if the change in law is particularly discriminatory to the project.
Social Licence Commitments (SLCs)
Not uncommonly for Government supported projects, the project documents require bidders to perform their SLCs, which include preparing and adhering to Community Engagement Plans and Industry and Aboriginal Participation Plans. Failure to comply with such commitments would result in a default and (if not cured) a termination event
It is likely that similar, and additional requirements will be imposed on a project through the planning approval process, and bidders should consider this when framing their commitments through the tender process.
Bidders (and their debt financiers) are becoming increasingly accustomed to complying with such commitments but will need to ensure that they are comfortable with their substance and, if applicable, whether there is any overlap or inconsistency between such obligations and related obligations if a bidder chooses to use any of the forms of “green” finance now available in the market.
Interaction with Commercial Offtake Agreements (COAs)
LTESAs have been cleverly designed as a tool to operate alongside COAs so as to allow a project which otherwise could not raise appropriate finance because it does not have a COA, to raise finance.
However, looking forward, it will be important to think about what happens when a project is in a sufficient state of development to attract COAs. As currently structured, it appears that the LTESA is designed to operate in parallel to these COAs. However, the reality is that bidders will face two sets of “offtake” obligations – one to the SFV (even when the LTESA option has not been exercised) and one to the offtaker. As we anticipate the LTESA contractual obligations will be more onerous on the bidder than the COA obligations, bidders may seek to include a voluntary termination clause in the LTESA project documents. We expect the Government to be comfortable with this, provided that the project has “repaid” any LTESA payments it has received, as that would allow the Government to recycle its capital to other projects.
Notional vs Actual output
If exercised, LTESA options will settle against notional (not actual) project output, therefore placing volume risk on the bidder. We expect this to be a key focus for bidders and their debt financiers as project output variability is caused by events both within and outside of a bidder’s control and can have significant project cashflow implications.
Government termination rights and payments
As expected, the Government has a broad suite of termination rights together with the bidder being required to pay to the Government a material termination payment in many circumstances. Bidders and their debt financiers will need to ensure that such termination rights are not hair trigger (including having appropriate cure periods and cure methods) and that the bidder is able to afford such termination payments (which the Government appears to require security for), which may be payable even if the project is still viable and performing.
Liability caps
There is a stark contrast between the liability caps proposed to apply to the Government and those applied to the bidder. We expect bidders will seek to remedy this imbalance and pay close attention to the exclusions from such caps particularly for bidders (and their debt financiers) which are funds and have restrictive investment mandates.