GETTING STARTED – EVALUATING A PORT PROJECT INVESTMENT

In this first of three articles focused on port sector investments, Watson Farley & Williams LLP, details the most important initial considerations.

The ownership, acquisition and development of ports and terminals requires significant financial investment. The private sector (both existing trade operators and financial/infrastructure fund investors) is playing an increasingly important role in port projects; it is important both as a source of finance and as the provider of some, and in some cases, all of the services required for the successful operation of a port.

The Watson Farley & Williams LLP, Terminals & Ports Group, takes a look at some of the main points to consider when first evaluating a port project investment.

JOINT VENTURES
Joint ventures provide an opportunity for partners to combine their resources and expertise and share the cost of an investment, but the structure will vary according to the jurisdiction and the specific nature of the port project. If a port project investment is structured by way of a joint venture, it is common for the partners to establish a local special purpose vehicle (SPV), in which each partner is a shareholder, with the SPV as the concession holder.

DUE DILIGENCE
A key issue for any investor will be the due diligence to be undertaken to underpin their investment into a port project. There is no ‘one size fits all’ approach to due diligence but for investments which are subject to English law, the investor is subject to the principle of ‘caveat emptor’ (buyer beware).

This means that the investor should carry out an investigation of the port project to identify any adverse factors potentially affecting the project and/or the investor’s long-term investment strategy.

MATERIAL CONTRACTS
In carrying out a due diligence review in relation to a port project, there are many issues which need to be considered. Importantly, the investor should verify the existence of any material contracts which may either favourably or adversely affect the project and/or the concession holder, and which may affect the investor’s projected return from the investment.

The main contract in any port project is the concession agreement. In addition to the points highlighted below, it is essential to verify that the relevant local law requirements have been complied with in granting the concession and there is no risk that the concession could be terminated or revoked due to non-compliance with such requirements.

Other ‘material’ contracts for a port project are likely to include terminal use agreements, key customer agreements and construction/operational agreements, as well as real property leases, leases for important plant or equipment, existing joint venture agreements (if any) and, if the project is already financed, loan agreements and other finance/security documents.

The main provisions to check in a material contract include:

  • Change of control clauses: commercial agreements may
    prohibit a change of control in respect of the concession
    holder or alternatively trigger termination rights, require
    prior consents or impose other duties related to the change
    of control, such as payments or requirements for extended
    notice periods;
  • Assignment or novation clauses: verify whether the
    consent of a third party (for example, a financial institution,
    government body or shareholder) is required in order for
    any transfer to be valid;
  • Payments: confirm the tariff structure and payment terms
    under the services agreements, as well as royalty payments
    due under concessions to grantors and income streams
    under any terminal services/usage agreements; and
  • Termination: consider the duration, expiry, extension and
    events of default, as well as other termination rights, any
    compensation payments due on termination and the rights
    of the concession holder to terminate the contracts.

EXTERNAL FINANCING/BANKABILITY
It is common for funding for a port project to be sought by way of external financing through a commercial loan from a bank or development fund or subscription for bonds. The financing may already be in place at the time of investment, or it may be sought post-investment.

If the external financing is in place pre-investment, the investor will need to review the finance arrangements as part of its wider due diligence review. If external financing will be sought after the investment, any company assessing a potential port project will also need to ensure that the project is ‘bankable’ to avoid future issues when approaching financiers as often existing finance agreements cannot be renegotiated. Local law advice should be obtained in relation to any specific local security or tax issues.

Concerns that will guide a review of external financing arrangements include:

  • Certainty and control: around the key contracts, including,
    in particular, the concession agreement – for example,
    verify whether the concession agreement contains any
    rights in favour of the port authority to withdraw or condition
    any permits or licences, or for a counterparty to terminate
    the concession;
  • Clear risk allocation and protection: in the key contracts,
    including, for example, exclusivity, liquidated damages,
    termination and termination compensation;
  • Change of control/consents: if any transaction will result
    in a change of ownership (direct or indirect) of the concession
    holder, confirm whether such change will trigger a change
    of control under the concession agreement/existing finance
    arrangements. Breach of any change of control provisions
    may result in a right for the port authority to terminate and
    revoke the concession or trigger a lengthy consent process
    or require repayment of the loan;
  • Onerous financial provisions: under the terms of the
    concession which may impact the concession holder’s
    ability to service the loan, for example, if the concession
    holder is subject to significant compensation requirements
    or penalties in the event of non-performance or breach;
  • Security: the ability to take security over the concession
    holder, as well as its assets and key contracts; and
  • Payment obligations: the ability of the concession holder
    to satisfy its payment obligations and repay the loan.

REGULATORY AND TAX FACTORS
As with the other factors outlined above, regulatory and tax factors will depend on the specific port project, and local law advice should always be obtained. Timely and thorough due diligence should assist in identifying any concerns and/or issues.

Key considerations include:

  • Rights, licences and permits: ensure that the concession
    holder holds all the rights that it requires for the operation
    of the port project, including all necessary permits and
    licences;
  • Employees: check the terms of any collective bargaining
    agreement(s), employee benefit plans (including pension
    plans) and/or any requirements under local employment
    law which may affect the stability of the workplace as well
    as the profitability of the investment;
  • EU/competition: at the start of planning the project,
    conduct a full analysis of possible competition issues to
    determine (a) the possibility, availability and lawfulness of
    State Aid for investment in the port or other purposes; (b)
    whether the project structure needs to be pre-cleared
    under EU or national merger control rules; (c) whether any
    collaboration between actual or potential competitors
    would be permissible; and (d) whether any commercial
    arrangements for future use of port infrastructure or
    allocation of capacity will be regulated;
  • Procurement: verify that the relevant local law requirements
    have been complied with in granting the concession and
    there is no risk that the concession could be terminated or
    revoked;
  • Environmental: depending on the location and nature of
    the port project, analyse the local environmental laws and
    regulations and potential liabilities for the concession
    holder. The consequences of environmental liabilities can
    be very serious and if any such liabilities are identified
    during the due diligence process, appropriate indemnities
    should be included in the investment documentation; and
  • Tax: consider local corporate taxes, and any available tax
    reliefs, together with the tax impact of financing structures,
    such as local withholding taxes on cross border dividend or
    interest payments.

Christina Howard is a partner, and Hayley Arrow is a senior associate, in the corporate group; Jeremy Robinson is a partner in the regulatory, public law and competition group and Richard Stephens is a partner in the tax group at Watson Farley & Williams LLP. They are key contacts in WFW’s ports and terminals group.

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