Tuesday, 18 June 2019

Road tested

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  • Motorists use PLUS Expressways along Sungai Buloh outside Kuala Lumpur.

Malaysia’s buoyant project bond market offers a template for other Asian countries even as its now-mature market becomes less dependent on government guarantees and faces saturation.

Malaysia has developed a thriving project bond market since the Asian financial crisis of the late 1990s. Although it has successfully managed to tap a deep pool of onshore liquidity through the provision of guarantees for key infrastructure, there are concerns that the market is saturated and the government’s contingent liabilities are too high.

Project finance bonds have always had a tantalising air of the perfect financing solution about them and yet, with the exception – at least in Asia – of Malaysia, they have never taken off.

For a long time, the hope has been that Asia’s deep pool of institutional liquidity will jump at the chance to step into the region’s gaping infrastructure gap, while facing the prospect of long-term capital gains if rates and credit spreads go the right way. It has yet to happen, but Malaysia may be able to show infrastructure-hungry Asian countries the blueprint to do that.

An advantage of the project-bond market in Malaysia has been its fit with the requirements of Sharia finance: there is a ready pool of assets that can be leased or sold for a notional profit in order to meet Islamic finance strictures.

Professionals in the field regard standard non-recourse loan project financing as the neatest solution as drawdown can be tailored to meet cash flow requirements during the construction period, whereas, with bond funding, mismatch is the order of the day. Also, issuers face the opportunity cost of sitting on hefty funds, which must be invested at skimpy interest rates before being applied to project costs in the period after a fixed-rate bond is issued.

Despite these drawbacks, Malaysia recognised in the early 1990s that there was an onshore audience for project finance debt carrying a government guarantee.

“The project bond market has been successfully built up over the past two decades and has been seen as crucial to Malaysia’s long-term economic and social development. The government has provided guarantees for selected infrastructure development projects during the construction period on the understanding that a lot of these projects would not be sufficiently highly rated on a standalone basis to get placed with investors. An example would be the KLIA Berhad Government Guaranteed Sukuk to part finance the construction of KLIA International Airport in 2003. Recent example would be the Government Guaranteed Sukuk for DanaInfra Nasional Berhad to finance the construction of Mass Rapid Transit (MRT) Project in Kuala Lumpur city since 2012 with the longest issuance tenor of up to 30 years,” said Seohan Soo, head of debt capital markets at AmInvest in Kuala Lumpur.

Credit enhancement has been the driver of project finance bonds in the US and Europe, with monoline insurance companies providing guarantees to projects. Issuance was seen prior to the global financial crisis in those Western markets, but dried up after 2008 on the evaporation of confidence in less-than-straightforward credit propositions.

An advantage of the project-bond market in Malaysia has been its fit with the requirements of Sharia finance: there is a ready pool of assets that can be leased or sold for a notional profit in order to meet Islamic finance strictures.

Conventional bond issuance has sat neatly alongside Islamic finance in the Malaysian project bond arena and there have been some barnstorming efforts.

In 2013, the Malaysian Government opened up the 30-year point on its ringgit yield curve with a M$2.5bn (US$776m) conventional deal. Funds were to be allocated to Prime Minister Najib Razak’s US$444bn economic development programme and the hope was that the ultra-long tenor would open up to the Malaysian issuer base, following the government’s lead.

That deal was an auspicious follow-on from the mega PLUS financing from 2012, which funded toll-road construction and set the template for Malaysian PF bonds: a government guarantee allows a minimum Double A local credit rating, thanks to predictable cash flows, and the paper is placed with domestic pension funds.

“Many of the project bonds have emerged in asset-based Islamic format and this will continue to be the backbone of the Malaysian project-bond market. Looking ahead, there are concerns that, perhaps, the government has loaded up a critical mass of contingent liabilities. So, it’s not surprising that the government is exploring alternatives to the guarantee route,” said Soo.

The travails of government-owned economic development fund 1MDB have muddied the Malaysian project-finance market, and there is a need to restore confidence in the sector.

1MDB has been the focus of criticism from former Malaysian Prime Minister Mahathir Mohammed, who alleges mismanagement at the company, which sits on a M$42bn (US$11.4bn) debt pile. The company has had to seek the assistance of Abu Dhabi’s International Petroleum (IPIC) to help roll over its debt and, for the time being at least, is shut out of public debt capital markets both onshore and offshore. IPIC provided US$1bn of cash to help rollover a syndicated loan in late June and is purchasing some undisclosed 1MDB assets for US$3.5bn.

In late June, in what might well represent a fresh start for the PF bond market in the country, Malaysian power giant Tenaga Nasional stepped into what was to have been a 1MDB-sponsored power project – the 2,000-megawatt Jimah East Power plant, a coal-fired power station – via a proposed Islamic project bond.

If the proposed jumbo sukuk deal, which might run to M$9bn (US$2.4bn) and is yet to be mandated, is successful, it will underscore the underlying appetite among Malaysian investors for infrastructure paper, as well as the viability of standalone debt with a well known sponsor and lacking a government guarantee.

“The fact that bonds issued to back the Kuala Lumpur International Airport, which were priced over 20 years ago, have been redeemed is a huge boost to underlying market sentiment. To that end, the government will be looking at indirect project support rather than a full guarantee to help reduce its contingent liabilities and establish a viable infrastructure funding model via the bond markets,” said a Kuala-Lumpur-based DCM head.

Looking ahead, the Malaysian project-bond market will hold its breath for a likely offering to fund the construction of the proposed Kuala Lumpur-Singapore high-speed rail link. Chinese and Japanese banks are said to be keen to invest in the project, which may emerge as a joint venture between the governments of Malaysia and Singapore. A lease-payment structure in jumbo sukuk format is rumoured to be the shape of any PF deal that funds the project.

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