The Elazig hospital project in Eastern Anatolia will be funded through Turkey’s first-ever greenfield infrastructure project bond, with the EBRD and the World Bank’s Multilateral Investment Guarantee Agency (MIGA) collaborating to develop an innovative credit-enhancement mechanism that boosts investor confidence.
As part of this scheme, the AAA-rated EBRD has pledged to provide €89mn in interim liquidity to mitigate the risks of construction and operation. This unfunded liquidity facility, together with MIGA political-risk insurance, has allowed Moody’s to assign a rating of Baa2, which is two notches above the current rating of Turkey. This, in turn, enabled participation by a larger pool of investors.
While maintaining its negative outlook for Turkey in its recent assessment - citing concerns over its “large external funding needs” – Moody’s nevertheless reaffirmed the country’s Baa3 sovereign debt rating. According to the agency’s statement, the grade “reflects the country’s economic resilience and strong fiscal metrics, which have been maintained through the long electoral cycle.”
PPPs and healthcare
In recent years Turkey has weathered multiple political and economic storms to establish itself as one of the most resilient and stable emerging markets in the world. While the state traditionally maintained a strong presence in the country’s economy and remains heavily involved in local development initiatives, the lessons of the 2001 economic crisis taught the government to seek a balance between private and public participation, particularly when it comes to financing.
One of the most important developments in this respect has been the growing reliance on structured financing and Public-Private-Partnerships, best exemplified by the momentous US$12bn Healthcare Transformation Programme (HTP).
Initiated back in 2003 with the support of World Bank, it promised to revitalise the country’s ailing health system through the construction of 60 new hospitals with over 23,000 beds across the country in the following decade. Sourcing the funds and tying participants up on 20-30 year tenors was a key challenge, particularly in a banking sector-reliant culture.
The government tackled these issues head on, pushing forward with privatisation and passing a series of important legislative measures throughout the decade: for example, amending Article 15 of the Privatization Law in 2006, a move that finally opened up public services to the private sector.
“The privatization process, which was led by government in the previous decade, created a new source of investment in the country. Build-operate-transfer (BOT) and PPP models have helped finance mega projects of recent years,” said Enver Erkan, an economist at Kapital FX.
Specifically for the healthcare sector, the milestone was 2013, when a new law easing regulation on PPPs in healthcare was passed through parliament.
“Turkey has been one of the biggest success stories in the global PPP picture, especially the hospitals project initiated in 2013,” added Erkan. “With its fiscal space limited and poor infrastructure putting a strain on public finance, this model provides the necessary flexibility whereby the government organises and supervises investments, while the private sector executes the projects.”
The new model that was negotiated between the Health Ministry, banks and potential investors, allows for healthcare services will be completely provided by the public, as before; the financing, construction and operation of the hospitals is undertaken by the private sector.
The PPP scheme helps to bypass the tax collection, borrowing and construction red tape, thus speeding up the development of urgently required infrastructure entities. But it has its downsides. The complex financial structures that include private investors’ costs, public risk premium guarantees and government and private sector profit rates, makes these projects costlier than comparable ones.
Often, that cost is passed on to consumers. That is why the toll on Yavuz Sultan Selim Bridge is higher than other bridges in the Bosphorus.
Another reason for excessive charges is foreign capital participation. While bypassing big international lenders such as IMF or World Bank, inviting direct foreign investment can be an effective short-term solution but the costs can build up over time. To minimise this, the Turkish government needs to attract more local investors and focus on optimised, profit-guarantee projects.
Nevertheless, for long-term megaprojects with 20, 49 or even 99 year tenors, PPPs are for now the best bet, Erkan concluded.
“Compared to cutting spending, raising taxes or borrowing, the PPP system seems much more favourable way of drawing investment,” noted the analyst. “It is part of the project financing trend that we expect to be on the rise in the coming years.”
Project finance opportunities
The success of the HTP programme and PPP schemes in particular also boosted the popularity of project finance in Turkey in general, making them bright spots during global, and local, economic downturns.
According to Banks Association of Turkey (TBB) data, project financing loans provided by banks rose to TLY223bn at the end of June 2016, a 20% rise year-on-year. A total of 52% of that was provided to the energy sector, with 12% and 13% going respectively into real estate and infrastructure, with the latter including development of roads, bridges, highways, ports and airports.
“In the last couple of years, there has been significant progress in terms of project finance thanks to some large investments,” said Hakan Eryılmaz, CEO of Ziraat Portföy investment management firm. “For example, the third airport, Osmangazi and Yavuz Sultan Selim bridges among others. Consortiums consisting of local and foreign banks financed these investments with the largest lending packages amounts in Turkish history.”
Other observers go on to list projects like the Eurasia Tunnel, Gebze-Izmir highway and multiple renewable energy ventures, pointing out that such financing structures are considered long-term investments that are expected to generate significant cash flows for years to come.
The effectiveness and fast completion rates of these projects, as well as steady returns on investment, certainly contribute to raising the country’s international profile and improving the investment climate.
“Turkey is the 17th largest economy in the world with an optimal annual growth rate of around 4-5%, it has a diversified economy with much potential in sectors like energy, automotive, construction and textile industries, mining and petrochemical products. It is strategically placed between Europe and the Middle East and as a strong stable democracy, particularly in contrast to some of its neighbours, Turkey is an attractive destination for international investors,” Erkan commented.
Crucially, the government appears to understand the necessity of providing the right environment for investors and the need to increase the country’s presence on international debt markets.
Recent legislative efforts that culminated in the establishment of new specialized courts that will deal with financial and information technology cases, as well as plans to regulate the notary and patent systems in compliance with EU standards, are examples of some of the positive strides made in this regard.
Another major upcoming change is the pension auto-enrolment scheme that has been passed into law, which, if successful, will enable Turkey to trim the current account deficit and perhaps even bring the ambition of a sovereign wealth fund one step closer. There are other tools that could draw in investors, particularly from the GCC region.
“In the last decade, one of the fastest growing sectors in Turkish economy has been participation banking. It helped to create alternative structures and opportunities for project financing, such as the sukuk, which can help draw in capital from the Gulf States,” Eryılmaz pointed out.
With growing support from international FIs such as the World Bank, the IFC (which holds a portfolio of US$4.3bn in Turkish assets) and The European Bank for Reconstruction and Development (EBRD), which allocated over US$1.7bn to Turkish institutions this year alone, Turkey hopes to raise the credit profile of its infrastructure projects so as to tap the bond markets further.
A debut US$450mn infrastructure bond issuance by the operator of Mersin International airport on 2013 spurred hopes that bonds could play a larger role in refinancing Turkish infrastructure assets in the future.
As the recent downturn has demonstrated, macroeconomic factors are a threat to the financing of current and future projects in Turkey. Price volatility and the rising cost of financing will continue to be a drag on growth unless the government succeeds in completing structural reforms that diminish dependence on short-term external finance and restore a more stable political environment.