Delivering power projects in the Middle East involves unique challenges, according to consultancy HKA. To find out what’s involved, Tildy Bayar spoke with Andrew Ward, Director and Jeff Badman, Partner, both based in the region.
Q: How much of what you do begins before the start of project development, and how much begins when a problem arises after work has already begun?
Andrew Ward: The answer to that really depends on where and when we are introduced to a project.
Very broadly, we support our clients to deliver large-scale infrastructure projects and programmes. HKA’s business is divided into three main functions: Advisory, Consulting and Expert, and our services are mapped to the timeline of a project.
Our advisory team supports clients across the full life cycle of a project – from the initial inception of the idea, through the development process (including fundraising), programme or delivery management and operational reviews. Our Consulting and Expert parts of the business generally operate post construction commencement, focusing on issues relating to delay, financial quantum and technical expert services.
Jeff Badman: Using this structure, we support clients across the globe to deliver complex infrastructure projects and programmes. Historically, our focus has been on disputes and claims management. However, we are increasingly seeing clients come to us earlier and earlier in the process to improve the commercial and contractual structures put in place to minimise the risk of disputes and delays.
Q: Can the financing be structured differently for similar projects, say for two combined-cycle power plants in the same region?
Numerous factors will impact the final funding structure for a project including the nature of the asset, its location, the asset owner, the service off-taker, the provision of sovereign guarantees etc.
Even for similar assets, small changes in the commercial structure can have significant impacts. Taking your example, because of the commercial structure put in place, Dubai Electricity and Water Authority (DEWA) has enjoyed huge success using a project finance structure to deliver solar power.
Similarly, Oman Power and Water Procurement Company (OPWP) has developed a very stable framework for foreign investment in financing their power stations and desalination plants. They’ve rolled out in excess of ten independent power and desalination plants on this basis.
Likewise, the use of export finance has been successful in the region and is proving popular for major capital projects. On the basis the contracts can be structured correctly, this is a powerful option for funding projects. On the other hand, Saudi Arabia is still looking at the use of capital allocation to fund key projects. In other politically less stable parts of the region, there is little appetite for third parties to provide long-term debt and government does not have the necessary budgetary resources.
Therefore, projects are struggling to raise the necessary finance to get off the ground.
Crucially, there is no single funding structure here that can be applied to projects, asset types or geographies. Instead, the economics of each project needs to be considered on its own merits to understand if it is commercially viable.
Q: Is there now more core certainty?
Jeff: The last few years have undoubtedly been an incredibly difficult period for the region as a whole. The dramatic drop in the oil price absorbed liquidity and caused the whole market to stall. The impact on the construction industry was severe, with contractors suffering from a lack of regular payments. Some contractors approached banks and traditional funders for financial support. However, this became a catch-22 or a vicious circle, as funders withdrew or limited facilities due to the turbulence in the market. A number of these contractors subsequently came to HKA to help them pursue their payments and assist them to settle their variations and claims, and recover the monies due.
Andrew: That said, I think a general perception is that some areas of the market are now beginning to unlock again. In Dubai the focus is really on Expo 2020 and the energy that this creates in the market. After a period of consolidation, the Kingdom of Saudi Arabia is beginning to re-engage. This is viewed as extremely positive as it is one of the key drivers to the success of the overall region.
Q: What was your last project and what was its most challenging aspect?
Andrew: From an advisory perspective, the most common and challenging aspect is around financing. Virtually the first question asked, either for government or for private sector projects, is how can the project be financed. The drop in oil prices really forced investors to think innovatively about funding options – particularly around the use of project financing, export credit or commercial structuring which support revenue offsets. Specifically, from a public sector or government project, we are also facing the challenge of using projects as a catalyst for wider economic development or regeneration.
Jeff: From a claims or disputes viewpoint, we continue to see projects being delivered late or delayed due to inefficient procurement practices, contractors not understanding the contractual risks that they have taken on board, or not doing sufficient due diligence on local subcontractors.
There can often also be a lack of understanding of local laws and regulations – especially with international contractors entering a local market for the first time.
We also tend to see issues around extension of time and relief from penalties or liquidated damages and claims for additional costs. We are often appointed to evaluate or prepare these claims. We try to avoid disputes arising by providing clarity and helping the parties arrive at an amicable settlement to deal with delays, additional costs and overruns.
Q: Do you work with Islamic finance and how do you integrate it with other models?
Andrew: Islamic finance is commonly used in the market either as a primary source of funds or often as a separate tranche within a blend of traditional senior debt and equity.
Q: How do you see financing for power projects in the Middle East evolving in future?
Andrew: The Middle East has an excellent reputation for using innovative project financing structures to fund power projects. As I mentioned before, DEWA in Dubai and OPWP in Oman have a strong track record in using these structures to deliver their infrastructure. I think this will only continue in the future.
Jeff: I think there will also be significant growth in financing structures for demand-side infrastructure. The demand for power is growing exponentially and this can’t be managed simply by delivering more capacity. Instead, I believe you will see substantial debt and equity investment into this area – helping us all utilize the power we consume more efficiently.
Andrew: I agree and consider this is where the next round of financing innovation will be delivered.
Historically energy costs to the consumer have been cheap across the Middle East but this is changing quickly. We are now at the point where the economics of demand-side management work across the region. The key challenge, however, is developing the appropriate commercial and contractual structures that can support energy saving or reduction models.
By getting this right, we can ensure the private sector and funders have the confidence to make the necessary investments to really transform this side of the market.