Banking on electricity: the payoff of power-related loans

Mark T. Amoguis
Senior Researcher

ONE doesn’t tend to think about where the modern conveniences of life come from. Among the things we take for granted is the dependence on electricity in day-to-day living.

The importance of having a reliable and accessible power supply to the economy should be obvious: power outages and disruptions lead to inconvenience, businesses would incur higher costs by way of foregone revenue and reduced productivity; and investors would be hesitant to do business.

This also should not be surprising that banks are interested in lending their deposits to power projects, provided that the terms are satisfactory.

One is example is that in 2014 when Aboitiz-owned Therma Luzon, Inc. wanted to build a third 420-megawatt (MW) unit of its two-unit coal-fired power plants in Pagbilao, Quezon Province, expanding the capacity of its 735-MW facility. This was in response to the government’s call that time on the private sector to build additional capacity to help address the country’s power needs.

With initial estimates ranging from $600 million to $700 million (roughly between P26 billion and P31 billion), this project was to be financed through 70% debt and 30% equity.

To bankroll this expansion, Pagbilao Energy Corp., who will operate the additional unit, entered into an omnibus agreement on May 15, 2014 with a number of banks for a loan worth up to P33.309 billion (around $750 million) with a maturity period of 15 years. Banks involved in the deal include Bank of the Philippine Islands (BPI); BDO Unibank, Inc.; China Banking Corp.; Metropolitan Bank & Trust Co.; Philippine National Bank (PNB); Philippine Savings Bank; and Security Bank Corp.

Construction of the additional unit began in December 2014 and, after almost four years, the $976-million (approximately P51-billion) 420-MW unit 3 of Pagbilao coal-fired facility was unveiled in May 2018.

Similar projects were carried out by Maibarara Geothermal, Inc. Together with PNOC Renewables Corp. and Phinma Energy Corp. (then Trans-Asia Oil and Energy Development Corp.), they borrowed P2.40 billion from Rizal Commercial Banking Corp. (RCBC) and BPI in September 2011 to finance the 20-MW Maibarara geothermal power plant. It went online in February 2014.

The company took a P1.4-billion loan separately from RCBC to finance the 12-MW expansion of the Maibarara geothermal facility in May 2016 with the unit starting commercial operations in April 2018.

“Electricity is crucial for economic productivity and supporting power-related projects that are clean and affordable is vital for continued economic development for the country,” said Cenon C. Audencial, Jr., Executive Vice-President and head of the Philippine National Bank’s (PNB) Institutional Banking Sector.

According to Mr. Audencial, PNB has already “supported” 3,700 MW worth of power-related projects, which is equivalent to 22% of the country’s 21,000-MW installed capacity.

For Juan Carlos L. Syquia, BPI executive vice-president and head of corporate banking, banks “remain interested” in lending to “important capital investments” such as power projects as they are one of the vital infrastructure projects that facilitate economic growth.

“Since such projects involve significant amounts of capital and are subject to a broad mix of factors that determine the success of such projects, banks need to exercise extra due diligence when lending to power projects,” Mr. Syquia said.

“Banks are prepared to lend to a project where risks are manageable,” he added.

For BPI, Mr. Syquia said that they have been a strong supporter of power projects: “We have banking relationships with and significant lending exposure to all major industry players. We have been selective with smaller players with less experience in the sector,” he said.

“Our current power sector exposure is significant; it ranges between 12% to 17% of our total loan portfolio moving based on payments, drawdowns and utilization of working capital lines,” added the BPI official.

BDO Capital & Investment Corp. President Eduardo V. Francisco said that if the project is “well-structured,” then lending to power projects is not necessarily riskier compared to that of other industries.

Mr. Francisco said that BDO has a large exposure to power, but noted that “there are few new power financing in the last twelve months.”

“There is some refinancing of existing loans but very little new loans for projects as we are not seeing new power projects being built,” Mr. Francisco said.

Like any projects, however, there are risks and challenges that come with investing into power projects.

“[T]he power industry is heavily regulated, and developers of new power projects always encounter a number of challenges such as securing necessary government approvals and permits,” PNB’s Mr. Audencial said.

According to a September 2018 PowerPoint presentation of Senator Sherwin T. Gatchalian, who is chairman of the Senate energy committee, applying for a power plant project would require 359 signatures from 74 regulatory agencies and attached bureaus that involve 20 different laws and requiring 43 different contracts, certifications, endorsements, and licenses.

CONSIDERATIONS
Business groups have been calling for the construction of power plants to ensure ample supply of electricity in the long-term. However, the delay in the approval of power supply agreements (PSA), which is a bilateral agreement between a power generation company and a distribution utility for the purchase of power, has been hampering these efforts.

A PSA is typically a critical milestone for power projects as these are signed before construction of a power plant starts to reassure banks that the plant will have ready buyers for its output.

To recall, the Supreme Court (SC) ruled out in May this year that all PSAs submitted by distribution utilities to the Energy Regulatory Commission (ERC) on or after June 30, 2015 must undergo what is called a competitive selection process (CSP).

CSP requires contracts between power generation companies and distribution utilities to be subjected to price challengers in a bid to lower electricity cost.

“Considering the SC ruling on [the CSP], the Bank is focusing on the compliance of power plants with the CSP requirements… Compliance with regulatory requirements ensures that the PSA entered by the power plant and offtaker are valid and subsisting throughout the life of the loan and will be a source of stable revenue stream for servicing debt obligations,” PNB’s Mr. Audencial said.

Mr. Audencial added that PNB refrains from granting loans to “merchant plants,” that is, those without a PSA and power plants with high exposure in the Wholesale Electricity Spot Market due to “volatility of revenues.”

The lenders said that they also take in a number of considerations before deciding on whether to lend to power projects.

“BDO supports good projects with good offtake contracts, experienced and reputable sponsors, and proven track record of the technology being used,” BDO’s Mr. Francisco said.

Another consideration, according to bankers, is ensuring that borrowing companies are able to secure ready buyers for their electricity once it goes operational.

“The big hurdle of power generating companies now is the ability to get offtake contracts,” BDO’s Mr. Francisco said.

“The ability of large customers to choose who to buy power from, the backlog in the ERC, and the government’s review of even previously approved power purchase agreements (PPAs) have also made it challenging for power generating companies,” he added.

BPI’s Mr. Syquia was of the same assessment: “The industry best practice is to require an offtake agreement – a critical success factor — as a condition precedent to drawdown.”

“In cases where we agree to take on market risk, we size the loan based on financial projections that use spot prices as tariff and/or we require other credit enhancements such as a guaranty from the sponsor,” he said.

Other considerations, according to bankers, include the project proponents’ capability to fund the equity portion of the projects as well as their expertise in managing the power plants after completion.

“The reputability (track record) of projects sponsors cannot be under-emphasized,” BPI’s Mr. Syquia said.

As for PNB’s Mr. Audencial, other “deciding factors” include ERC approvals, the National Grid Corp. of the PhilippinesGrid Impact study as well as enhancements such as feed-in-tariff eligibility for renewable energy projects and “take or pay” provisions in PSAs.

WORTH IT?
In Luzon alone, there are 19 private company-initiated power projects expected to start their commercial operations between this year and 2023, according to Energy department data. These facilities are expected to have a combined committed capacity of 4,774.8 MW.

Despite the challenges and risks that come with lending to power projects, lenders recognize that there are still payoffs to these ventures.

“Although lending margins for such loans have declined significantly from the 1990s (when the power sector began to open up to private sector participation), we believe that our returns are fair,” Mr. Syquia said.

“BPI would like to continue to play a role in nation building and we will continue to pursue financing such projects — a reliable stable power sector is an imperative for continued economic growth. We look forward to an evolving sector where there will be increased focus on sustainable energy. While the technology and regulations will change, the basic tenets for evaluating project finance (i.e., cash-flow-based analysis) will remain the same,” he added.

Mr. Audencial shared this view: “PNB will have a continued presence in funding big ticket/priority power projects to support economic growth and nation building.”

[Note: All interviews were conducted via e-mail in August 2019.]