The Greater London Authority became the first local authority to issue a bond for 17 years this week, when it issued a £600m bond to raise funds for Crossrail.
The bond developed with Lloyds Bank Corporate Markets could knock up to £65m off the costs of long-term borrowing according to the GLA.
The GLA turned to the bond market when the government’s Public Works Loan Board made borrowing more expensive – GLA had previously raised £800m in this way.
Raising project finance through bonds was the hot topic at Building’s first Infrastructure Forum. Without bonds the bankers said only a fraction of privately funded infrastructure projects would be built.
The problem is the risk associated with big construction projects – both in delivery and cost-overruns. Credit agencies such as Finch and Moody won’t give infrastructure projects good enough ratings to satisfy long-term institutional investors such as pension funds and insurers.
Up until 2008 the issue was partly resolved by monoline insurers, which had AAA ratings, and guaranteed the risk on big infrastructure projects thus making project bonds attractive to institutional investors.
But they crashed out during the credit crunch after they were exposed to bad debts and lost their AAA status. No longer were they able to ‘wrap’ risky infrastructure projects in investor-grade cotton wool.
Right now nobody is guaranteeing project risk, and nobody monitors the bondholders stake in the project (a critical role of the monolines).
This means that unless you have access to sovereign funds your motorways, football stadiums and solar farms just aren’t going to get built.
Shortage of long-term finance was blamed for the parking of the £3.5bn Mersey tidal scheme. Peel Holdings put the scheme on hold because they could not find any long-term investors even though the eventual returns would more than have paid for the costs of the project.
The problem is global. The forum's chair CA/LA’s Norman Anderson said governments were arguing with investors over who took on project risk the world over.
With the World Cup and Olympics looming, the impasse is particularly worrying in Brazil. When a forum delegate suggested disasters and sporting events were the big drivers for his firm, Anderson suggested he should combine the two and move to Brazil. Anderson said that the Brazilian authorities were a year behind schedule on Olympic venues, and were nowhere near resolving who would pay for construction.
There are some potential solutions to the issue of who who takes on risk. A new fund created by Hadrian’s Wall Capital will provide a guarantee of around 10% of a project’s value. This means that if there is a default on a bond – ie investors can’t be paid from revenue generated from the project – then the creditors would be paid from the Hadrian’ Wall fund first.
This immediately downgrades the risk of the project, boosts the project rating and makes the project viable for investors.
There is a similar initiative in Europe, where the EU is looking to create a project finance bond. Credit rating agencies have already given their nod of approval, but it's called the Europe 2020 Project Bond initiative so it won’t be around for a while yet.
The great hope among bankers and deal brokers is that the Green Investment Bank will introduce a similar financial product to leverage investment in UK infrastructure. Government is talking to the Treasury about this right now.
Though Bonds aren't always straightforward. Aviva, the insurer provding the debt fund for the Hadrian's Wall project bond, is refusing to pay Hackney Empire £1.1m after contractor STC went into administration. Clearly there will be a lot more Treasury fine combing of small print before GIB bonds have a chance to kickstart the next boom in infrastructure.