FIIG has launched the following bonds relating to the Royal Women’s Hospital as DirectBonds:
- RWH Finance Pty Ltd fixed rate nominal bullet bond, callable in March 2017 with a legal maturity in March 2021
- RWH Finance Pty Ltd indexed annuity bond maturing in June 2033
Both bonds are available to wholesale investors in minimum parcels of $10,000.
RWH Finance Pty Ltd (‘RWH’) is the financing vehicle for Royal Women’s Health Partnership (RWHP), which entered into a public private partnership (PPP) with the Victorian government for the design, construction and long term maintenance of the Royal Women’s Hospital in Melbourne. The Royal Women’s Hospital was completed in 2008 and has been in full operation since then. We understand that the operational performance of the PPP has been robust to date.
During the operating phase of the project, RWHP will be paid agreed availability based service payments by the Victorian state government over a 25 year agreement which expires in 2033. The agreed availability payments cover operating and maintenance costs, debt servicing and a return to equity. The low volatility of the availability payment stream underpins the bonds’ investment grade credit rating.
RWH issued two equal ranking tranches of senior secured bonds at financial close in 2005 to fund construction, being $145 million of indexed annuity bonds which fully amortise over the project's term which ends in 2033 and $148 million of nominal bullet bonds. The bonds are secured against the future contracted availability payment stream from the AAA-rated Victorian State Government.
Since the bonds were issued, they have been subject to a number of downgrades and are currently rated Baa2 by Moody’s (which is the equivalent of a ‘BBB’ rating from S&P) with a negative outlook. The negative outlook is due to a combination of the high leverage and refinancing risk associated with the nominal bullet bonds, which have a call date in March 2017 and a legal maturity in 2021.
According to the rating agency, the refinancing risk comes about due to uncertainty as to whether the project cash flows will be sufficient to achieve a full refinancing of the bullet bonds under current market conditions, notwithstanding RWHP's strong business profile. The assessment of this risk takes into account:
- The current level of credit spreads versus those originally assumed at financial close
- The requirements of incoming financiers such as more stringent covenants on the refinancing debt
- Projected returns to shareholders in between the current date and scheduled maturity which could potentially be used as a source of financial support
- The strategic importance of avoiding default and the consequences of failure to achieve refinancing for the various stakeholders
As the nominal bond approaches the call date in March 2017, it is likely that Moody’s will continue ‘transitioning’ the credit rating lower, and the bond rating could fall to a sub investment grade credit rating in the absence of a refinancing plan for the project owners or an improvement in credit spreads.
While the project and its owners do have the option to not refinance the nominal bonds at 2017, the following mitigating factors are broadly supportive of the thesis that a refinancing of the nominal bonds would occur at the call date in 2017:
- The project has had a strong operating track record to date, and is expected to maintain a strong operational performance given the simple nature of operating requirements and the mature nature of the asset. PPP infrastructure assets remain in high demand for debt financiers the Australian market, given the low risk, stable nature of availability revenues provided by creditworthy government counterparty. We expect that, with an appropriate level of gearing in the structure, there will be strong appetite to continue to finance this asset in future
- In order to the reduce leverage, the project owners (BBGI, a European infrastructure fund) may be required to inject equity capital to deleverage the financing structure. BBGI owns a portfolio of infrastructure assets and would be incentivised to inject equity capital for the following reasons:
- To allow them to access continued equity returns from the project until 2033.
- To avoid a default which would carry adverse reputational consequences for the fund. In January 2015, BBGI secured a new three-year revolving corporate credit facility of £80 million which could be used as a source of liquidity to fund a capital injection.
A copy of BBGI’s 2014 annual report is available on their website
- If the nominal bonds are not refinanced at the call date in 2017, equity returns are locked up in the project and become available to pay down bond principal. In addition, if the nominal bonds are not refinanced at the call date, bondholders’ progressively take more control of the refinancing process. This creates an incentive for the project owners to refinance the bonds at the call date in 2017 and therefore continue to earn equity returns
- Since the global financial crisis, there has been a gradual improvement in credit spreads, reflecting stable market conditions as well as increasing bank appetite and competition in lending to infrastructure projects. A continued improvement in credit spreads up to 2017 would be supportive for the refinancing of the nominal bullet bonds in 2017. Likewise, if credit spreads were to deteriorate, this would place further pressure on the credit rating
- The Royal Women’s Hospital is an essential piece of infrastructure for the Victorian state government. The government would have a strong interest in ensuring the project does not default and continues to operate on a business as usual basis. While not contractually required to, the state government may also consider providing a degree of support to ensure the continuing operation of the asset should to project owners choose not to refinance the nominal bonds and / or provide support to the project
The RWH bonds have a comparatively high yield and high credit spread for what is currently investment grade credit. This high yield reflects the refinancing risk in relation to the nominal bonds, and the prospect of further downgrades by the rating agency as the call date on the nominal bond approaches. Further credit rating downgrades could occur, possibly to sub investment grade, in the absence of external financial support and/or a further decline in credit margins between now and the call date of the nominal bond in March 2017.