Tianjin Plastics A case study in international project finance.
人民币 Brian Hider Brian Kopan Ernest Lew
October 8, 2008
Juan Villa
Cal State Fullerton, MBA Program
Background
Case set in 1996
Chinese economy is growing rapidly
Foreign capital needed for infrastructure in China
Opportunity to fund power plant project in Tianjin province
TEDA
Established in 1984
Planned area of 33 sq. km.
Divided in 3 sub-areas
Land usage restrictions by government of China
Original Land Development Financing: 100% Chinese government Goal: become a modern industrial area which is the biggest in Asia and the best in China
TEDA
In 1992, TEDA FDI increased-needed for development
New Land Development Financing: combination of China’s government & MNCs.
Wholly foreign-owned companies and joint ventures were created to develop of land
MNC’s investment in the area has lead to strong economic growth in the TEDA region.
Project Structure: The Players
Maple Energy (49% Equity) US Based company, since 1989 Subsidiary of Northern States Utility
Power plant projects in four countries Specialize in turnkey projects Tianjin Plastics (46% Equity) Government run factory Specialty is energy intensive extrusion process MOPI (5% Equity) Chinese Ministry of Power Industry Wintel Had Rmb that could not be repatriated
Project Structure: Fundamentals
Project life-4 year construction, 20 year operation
Operating costs fixed, paid in Rmb
20yr contract for free coal feedstock
Selling price of energy guaranteed (Rmb)
Profits virtually guaranteed as long as debt, equity and final profit are in Rmb
Project financed with 85% debt Forecast shows China requiring 21GW of additional power annually for a decade (150 plants of this size)
Project Finance
Definition: the raising of capital to finance an investment project where the capital providers look at the cash flows from the project as the source to: (1) Service their loans (2) Provide the return of equity (3) Provide a return on their investment
Project Finance: Characteristics
Separate legal entity
Separate from investors and MNC
Singular focus of business
Predictable cash flows from operations
Essential to securing project financing from outside partners
Finite project life
Cash flows go toward servings its capital structure (debt & equity)
Exchange Rate Outlook
Chinese Rmb is expected to weaken relative to the US$ International Fisher Effect (IFE)
Higher expected inflation in China In 2000, Bank of China starts to loosen their hold on currency
Interest Rate Parity Theory (IRP)
Higher interest rates in China vs. US (13% vs. 8%) on near and long term loans. Forecast 5% depreciation
Basic Issues Important Urgent
+Exchange Rate risk +Lack of free markets/gov’t controlled
+Two days to make recommendation
+Government restrictions on capital outflows
Immediate Issues Important Urgent
+Chinese gov’t can refuse to fulfill contract
+no hedging available
+Registered capital (equity investment) can’t leave country country
Cause/Effect Partially convertible Rmb
Lack of hedging options and forecast data
Unpredictability of project profitability
Political instability
Equity repatriation constraints
Lack of EX/IM financing help
Decision Criteria
Quantitative:
Highest likely NPV
Sensitivity to currency exposure
Must have positive NPV
Shortest payback period
Qualitative
Overall company growth strategy in TEDA
NPV and Payback Period Model 1996 +Operating Margin -Interest Expense -Taxes =Net Income +75% of Depr -Principal -Princ ipal Pmt =Project Cash Flow
Construction
2020 3% Projected Growth
17% ROI Project Restriction Maple (49%) CF in Rmb Maple/W intel Rmb Loan Net CF CF Bal Available to Repatriate Repatriate XXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXXX
+ Repatriated $'s + Maple/Wintel $ Loan Net CF = Maple $ Cash Flow
NPV @ 18% Disc
Option 1 Maple Energy invests directly with US$ Maple leaves US$ in project and can’t pull them out = lose equity investment. Debt obligations are in US$ and will be exposed to exchange rate risk. Currency Exposures:
Firm Profitability
Dollar based debt (almost 90% of debt)
Profit Magnitude Profits converted to dollars Const. Loan + Syndicate Syndicate Loans NPV Renminbi Depreciation Rate Probability 1996 NPV Weighted NPV Payback Period Weighted Payback Period
-10% 20 % 3.3
-5% 70 % 7.4
0% 5% 13.5
5% 5% 23.1
0.7 5 1
5.2 5 4
0.7 5 0
1.2 5 0
7.7 5
Option 2 Back-to-Back loans Maple Energy does US$/Rmb loan with another US firm doing business in China, Wintel
Currency Exposures:
Firm Profitability
Dollar based debt (almost 90% of debt)
Profit Magnitude
Profits converted to dollars
Back to Back Loan NPV Renminbi Depreciation Rate Probability 1996 NPV Weighted NPV Payback Period Weighted Payback Period
Wintel has generated profits in Rmb (can’t repatriate earnings) Wintel loans Rmb70.018 to Maple for 6 years Maple loans $8.415 to Wintel for 6 years Maple: instead of converting their US$ and making the equity investment IN China, Maple BORROWS the Rmb from Wintel for the equity investment Maple pays loan with Rmb from cash flows Wintel pays loan with US$
Option 3 Have power price paid by Tianjin Plastics indexed to dollar Tianjin has already contracted to purchase p urchase most of the power from the plant. This guarantees earnings would maintain their US$ value. negative ive Not allowed by MOPI due to concerns over negat impact it might have on their Rmb invested in project. Currency Exposures:
Profit Magnitude
Profits converted to dollars
Option 4 Finance majority of project in Rmb (borrow locally) Maple would borrow local Rmb. No US$ exposure since Rmb (not US$) are invested in the project. Large exchange rate risk on profit since all profits are in Rmb and must be converted to US$. Currency Exposures: Profit Magnitude
Profits converted to dollars
$101.5 M Deposit NPV NPV Renminbi Depr eciation Rate Pr obability 1996 NPV Weighted NPV Payback Period Weighted Payback Period
-10% 20% (12.8) (2.6) 11 2
-5% 7 0% (11.5) (8.0) 11 8
0% 5% (9.0) (0.4) 12 1
5% 5% (4.0) (0.2) 12 1
(11.2) 11
Selected Option Option 2: Back-to-Back loans
Maple Energy
Loan of Rmb 70.018m
(China)
(China)
Maple Energy (USA)
Wintel-China
Loan of US $8.415m
Wintel
(USA)
Selected Option 1996 NPV & Payback Period P eriod Re nminbi De pre c ia tion Ra te Const. Loan then Syndicate Loans Loa ns NPV Payback Period
Back to Back Loan L oan NPV Payback Period
$101.5 M Deposit NPV NPV Payback Period
Proba bility Const. Loan then Syndicate Loans Loa ns NPV Payback Period