World Bank Guarantee Products: The Basics

1. World Bank Guarantee Products: The Basics June 29-30, 2005

2. What are the guarantee products designed to do? • A risk mitigation tool: • Helps reduce fiscal burden • Catalyzes private sector finance in support of developmental objectives • Facilitates access to the international debt and capital markets on more favorable terms • Leverages Bank resources But guarantees can only help if there is credible movement towards reform (e.g. collection, losses, tariff, prospect of financial viability

3. The relevance in today’s investment climate • Increased investor risk aversion continues • Reduced number of strategic investors • Rating downgrades • Reduced availability of private PRI • Requires Government demonstration of • A track record which reduces • Uncertainty in its market structures • Uncertainty in its tariff framework • With dominant public sector presence • Honoring of policy & contractual commitments • Governance issues

4. Principal types of guarantees • Partial Risk (PRG) • Generally for private sector projects • Covers debt against specific sovereign obligations committed to project • Structured to provide minimum coverage necessary to mobilize private financing • Available in both IBRD and IDA countries • Partial Credit (PCG) • Generally for public sector projects and/or entities • Covers debt service default for specified payments • Alternative structures developed for different credits and market conditions

5. Partial Risk Guarantees • Rationale: Catalyzes private sector interest through political risk mitigation • Purpose: Supports debt financing in the form of commercial debt or shareholder loans or provides cash flow support • Guarantee coverage: Critical sovereign risks related to Government commitments under the relevant contractual agreements • Modality: Greenfield projects, Privatizations, Concessions or other PPP structures

6. Partial Risk Guarantees mitigate concerns related to government performance • A Partial Risk Guarantee (PRG) can cover lenders in case the Government does not meet its commitments Loans Project Company Commercial Lenders Government Undertakings Guarantee Indemnity Agreement Government World Bank

7. PRGs offer flexibility in the guarantee coverage that it can offer • Regulatory/ tariff framework • Changes in law, decrees, or regulations • Changes in licensing arrangements or disconnection policies • Political force majeure, including expropriation • Government agencies payments • Transferability & convertibility of foreign exchange • Frustration of Arbitration • But PRGs do not cover commercial risks.

8. Preferred guarantee modality • Early involvement of the Bank may help to enhance investor interest • Guarantee structure to be incorporated in the bid documents as an option • Bids should demonstrate value added of the Guarantee • Value added of the guarantee to be a part of the bid evaluation

9. Partial Credit Guaranteescan help in the following situations • Government or State Owned Enterprise (SOEs) access to capital markets • Mobilize government share in PPPs • Bond issues by public intermediaries, or public entities, such as SOEs • Pre-privatization support for public entities through convertible bonds

10. Partial Credit Guarantees can help financelong term public investments Philippines: Leyte-Luzon Power Project Bond Structure $100 m WB Support for Principal Bullet Repayment Additional term provided by WB Support Longest Term Available to the Philippines without WB Support 0 10 15 Pricing (250 bp* ) (250 bp* ) * Above US Treasuries

11. Partial Credit Guarantees can help finance long term public investments China Ertan Power Project Syndicated Loan Structure $150 million $50 million 0 3 6 9 12 15 WB Average financing term for Additional uncovered China without Guaranteed risk taken by WB Guarantee commercial banks Total risk assumed by commercial banks

12. Guarantees help extend maturities ... 18 16 16 15 15 15 15 14 14 12 12 10 10 10 10 10 Maturity (years) 7 7 7 7 8 6 5 5 5 5 4 3 2 1 1 2 0 0 China Jordan Colombia Pakistan Thailand Lebanon Morocco Philippines Bangladesh Cote d'Ivoire Russia/Ukraine Vietnam without Guarantee with Guarantee

13. … and at the same time reduce spreads 9% 8.5% 8% 7% 6.5% 6% 5.0% 5.0% 5% 4.5% Interest Spreads over UST 3.0% 4% 3.4% 3.0% 3.0% 3.0% 3.0% 2.9% 2.8% 3% 2.5% 2.0% 2.0% 2.0% 2.0% 2% 0.75% 1.1% 1.0% 0.6% 1% 0% China Jordan Morocco Pakistan Thailand Lebanon Colombia Philippines Cote d'Ivoire Bangladesh Vietnam without Guarantee with Guarantee

14. Each dollar of guarantee catalyzed $4 of private finance. …and have an important catalytic impact

15. Guarantee benefits to the government: Transaction Benefits • Catalyzes financing through market access, longer tenors and lower financing costs • Facilitates privatization & PPPs by enhancing investor interest • Accelerates pace of new investment for expansion of relevant services • Sustains more attractive retail tariff regimes by materially improving the financing’s debt profile • Enhances the potential “sale” value of existing assets or of the ‘business’

16. Guarantee benefits to the government:Fiscal Perspective • No additional contingent liability • Can be additional to the IMF external debt ceiling • Additional to the country lending program • Creates market confidence through Bank leverage and track record • Provides for risk sharing with the private sector • No associated costs for PRGs (guarantee fee would be payable by the investor as part of project costs) • Transitional - can be structured to fall away

17. The WB Partial Risk Guarantee usually does not increase contingent liabilities “The host government’s indemnity of the World Bank does not increase the government’s liabilities when the government is already directly obligated to the private sector on the same liabilities.” “Involving the Private Sector in Forestalling and Resolving Financial Crises – Private Project Finance Flows to Developing Countries,” IMF Board Paper SM/99/211, August 20, 1999, page 21.

18. Guarantee benefits to the private sector • Mitigates critical perceived political risks and regulatory risks • Makes privatizations financeable by facilitating direct access to financial markets • Catalyzes long term “off balance sheet” debt financing; thereby reducing the risk profile of the investment and overall capital costs

19. Pre-Conditions for Use of Guarantees • Subject to Bank appraisal • Sector reform programs acceptable to the Bank • Counter-Guarantee from the government • Required from the government

20. Guarantee Pricing and Loan Equivalency Loan-Equivalency Principle - The loss suffered by the Bank from a member country’s failure to make timely payment on a Bank-guaranteed loan obligation is equivalent to that suffered from the country’s failure to make timely payment on an equivalent loan-service obligation to the Bank. - Charges on IBRD loans and guarantees are aligned. IBRD GuaranteesLoans Front-end fee  Front-end fee Standby fee  Commitment fee Guarantee fee  Lending spread • The pricing for IDA guarantees is consistent with IDA’s service charges on credits. IDA GuaranteesCredits Standby fee  Commitment Charge Guarantee fee  Service Charge

21. IBRD/IDA PRG Fees (Charges for FY05 in basis points) IBRD PRG IDA PRG 1. Determined on a case by case basis. Exceptional projects can be charged over 50 bps of the guaranteed amount.

22. IBRD PCG Fees (Charges for FY05 in basis points) IBRD PCG 1. Fee charges net of applicable waiver.

23. Guarantee support for government reform agenda can be very flexible… • Government Priority in Agreement with the World Bank • Privatizations • Investments & PPPs • Municipal Funds and Guarantee facilities