Tianjin Plastics/ Maple Energy – China Project Joint Venture

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Amount(million)

Currency

Rate

Drawdown

Equipment vendor

$22

Dollar

9%

At the beginning of Y4

Tianjin Plastics

$7.59

Renminbi

14%

Guarantees

Maple

$8.085

Dollar

9%

Guarantees

At the beginning of Y1

West Coast U.S. Bank

$55

Dollar

9%

Equally at Y2 and Y3

MOPI

$0.825

Renminbi

14%

From the above table, we can see that total construction financing of $93.5 million was provided through a combination of loans from the equipment vendors ($22.0 million), Tianjin Plastics ($7.59 million), Maple Energy ($8.085 million) and a bridge loan from a West Coast U.S. bank ($55.0 million). This diversified debt structure finance the debt in U.S. dollar and Renminbi at the same time. This strategy helps this project more convenient to operate. But the debt from West Coast U.S. Bank is more than 50% of all debt. And the debt is bride loan. More bridge loan, more interest rate. There is a modification that can enhance the structure. This project should finance more debt in U.S. dollar because of the less interest. And it should decrease the debt from West Coast U.S. Bank, because the West Coast U.S. Bank provide the bridge loan, which has a higher interest rate.

Consider the big amount of money they would lend, participating banks would play an important role in the project. For those banks, their risks would be adequately covered and they would earn a sufficient return. The West Coast U.S. bank would provide a $55.0 million bridge loan, which is a short term loan with high interest rate (9.0%) as a part of construction financing. Out of that, the bank required completion guarantees from both Tianjin Plastics and Maple Energy. The post-completion financing of $117.4 million was arranged through a club syndication consisting of three banks which had experience with project financing in China, and by the Bank of China. The Bank of China loan was provided at a fixed rate of 13% for 12 years. Repayments of loan principal on the Bank of China loan and on the club syndication loan were to be made in equal annual installments.

Why those foreign bank were interested in funding this project? Actually all three foreign banks had an indirect interest in the project: Maple was a good customer of the West Coast bank; a number of the vendors to the project were Japanese; and the Canadian bank was actively pursuing business in the PRC.

Before funding the project, one of the most critical problem was currency controls in China. The renminbi was not currently freely convertible, so that any cash flows for either profit repatriation or debt-service repatriation would have to go through a government approval process. Requests for hard currency exchange and the opening of foreign exchange accounts must be submitted to the State Administration of Exchange Control (SAEC). Even with a reduction in actual restrictions in recent years, foreign investors in China must still obtain SEAC approval to buy or sell foreign currencies, as well as submit documentation evidence for each individual transaction.

Although it was not always successful, Chinese government made effort to ensure the stability of Rmb. The Chinese government continued to control the amount of renminbi converted to hard currency with an iron fist in an attempt to manage the currency’s value and the external impacts on the domestic financial economy through volatile exchange rates or imported inflation. It was reasonable since the domestic market and financial economy was vulnerable during this period. They would easy to affected by foreign market and economy without such kind of control. But for the parties that were involved in the project, the risk would increase since the government only allowed the profit to be repatriated. So it would be more different to take back investments.

A partially convertible currency posed special problems for the financing plan of Tianjin plastic project. Pat thought about to make a deal with Wintel, another western company by a back-to-back loan. However, even governmental approval would be obtained for the conversion, the currency risk for such an extended period of time was unacceptable. The reason was lack of financial derivatives to hedge renminbi cash flows. All risk management derivative products relied upon access to money and capital market instruments in the subject currency, and those financial markets simply did not yet exist in China or in Chinese renminbi anywhere. Pat also thought about another solution, financing the majority of the project in renminbi locally. This would simply match the local currency inflows with local currency outflows insulating the majority of the firm’s cash flows from currency risk. However, the renminbi loan from the Bank of China would require 100% dollar-denominated collateral: the lenders for the Tianjin power plant project would put up a $101.5 million deposit with the bank. This plan would be a rather expensive alternative. It was hard to find an available method both sufficient in terms of risk and cost.

After considering the currency exposure, we examine the barriers in China to the foreign investors. One of the reasons why Maple has the limitations on the return on investment is the barriers of the Chinese government. The Chinese government was attempting to limit the return on investment (ROI) on projects of this type to 12%. After most power plant developers like Maple balked at such low rates of return, the Chinese government revised the target ROI to between 15% and 17% if the plant demonstrated outstanding efficiency. And then, the Chinese government refused to guarantee fulfillment