Transportation Infrastructure: UK and European Market Overview

Transportation Infrastructure: UK and European Market Overview Contents Introduction 03 Overview of the Market 04 United Kingdom – In Depth 07

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Transportation Infrastructure | UK and European Market Overview

Introduction

We are delighted to present this overview of the transportation infrastructure market in the United Kingdom and other key European countries. The transportation sector (including roads, rail, airports, ports) has continued to be a very active one for Nabarro and our clients. Transportation networks remain at the heart of European policy through the ongoing TEN-T policy and EU support for transport deals is intended to unlock a further €315bn ($350bn) of investment. Projects are expected to continue to come to market and equity positions continue to be traded, all generating opportunities for investors. Please contact us for a more detailed discussion of opportunities in the transportation sector.

Lucy Plowright

Partner T +44 (0)20 7524 6779 [email protected]

Nabarro – A leading firm for infrastructure Nabarro LLP is an international law firm with offices in London, Brussels, Dubai, Manchester, Sheffield and Singapore. We deliver the highest quality, business focused advice to clients, clearly and concisely, no matter how complex the situation. Nabarro is an international law firm with a focus on infrastructure throughout its lifecycle. We advise on complex infrastructure projects around the globe and across a wide range of sectors, including transport, energy, healthcare, waste, water, mining, oil & gas, and telecommunications. Our clients include sponsors, investors, funders, EPC contractors, technology suppliers and procuring bodies. So we understand infrastructure projects from every angle. Our highly regarded infrastructure projects team has dealt with transactions totalling over £20bn ($29bn). Our team members have advised on many of the UK and Europe’s most significant transport projects including Crossrail, Heathrow Hub, High Speed 2 (all UK); the A7 (Germany); the A1/A6 (Netherlands); and the D4/R7 (Slovakia). We also have unrivalled experience acting for investors in UK, pan-European and global funds, including infrastructure funds. We have longstanding relationships with a network of selected firms worldwide for cross-border work. This includes the Broadlaw Group, a strategic alliance with partner firms in France, Germany, Italy and Spain creating a network of more than 1,000 lawyers based in 30 cities across Europe, Asia, the Middle East and Africa.

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Overview of the Market

United Kingdom The United Kingdom continues to rank highly for investors seeking opportunities in well-structured projects which includes transportation projects. A combination of stability, an innovative business environment and high rate of private participation make the UK the most attractive for investment opportunities.

Transport Opportunities – Europe • United Kingdom • Germany & Netherlands • Scandinavia • Central and Eastern Europe

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Transportation Infrastructure | UK and European Market Overview

The UK has been at the forefront of infrastructure project development since the early 1990s and there are some 1,250 projects in operation. This presents ongoing opportunities in the secondary market as the original equity investors look to recycle their capital to invest in new projects. However, an investor seeking to enter the UK market needs to be aware of the extremely high levels of investor interest in assets such as airports, rail and roads. This means demand for investment opportunities has outstripped supply and multiples have been driven up, with some deals reported to have been signed at a multiple of many times a project’s EBITDA. Investors are looking for debt opportunities, refinancings where projects have successfully reached completion of the construction phase and those with a good operational track record. Margins have reduced over recent years from the peak of the market and are currently at or near historic lows, in part due to liquidity in the market and competition between funding sources. This is encouraging public sector bodies and sponsors of existing projects to push for refinancing of deals, sometimes by repricing the existing debt package, or with a new group often including institutional investors, fund managers and sovereign wealth/pension funds.

Overview of the Market

Europe Across Europe, the transportation market is strong and countries across continental Europe, parts of Scandinavia, and Central and Eastern Europe (as well as accession countries such as Turkey) have a range of both primary and secondary opportunities. Investors are increasingly comfortable with construction risk and are incentivised to take more of these risks in order to obtain an enhanced level of return. Not all markets represent an equal risk profile, however; and understanding the sector, key principles and ability to benchmark across markets is key. For projects in Eurozone economies, the Euro’s problems are a very real disincentive to invest in long-dated infrastructure assets for international investors with dollar-based liabilities, even though France and Germany’s credit ratings are still high. Both countries have well-regarded, if underused, PPP programmes, and should be able to use them to spur infrastructure investment rapidly. We comment below on the key European (and emerging European) markets for transportation projects. The Netherlands One of the best established markets for PPP based transport projects; the Netherlands currently has 30 projects totalling €11.9bn ($13.3bn) in the pipeline. Existing deals such as the high speed rail and the early roads deals are starting to be refinanced. This has become a market dominated by the large domestic players and market perception is that it is rather difficult for new entrants to make their mark. At present opportunities are very competitively priced with heavy competition from domestic and international banks. Projects such as A1/A6 demonstrated that there is a keen appetite for Dutch transport projects without a need for capital markets, though there has been some innovative financing including index-linking.

Germany A very active market for roads projects since the early days of “F” (tolled) and “A” model roads. The structure over recent years has been availability based and this is expected to remain the case. A refining of the market is now underway led by Finance Minister Schäuble and Transport & Digital Infrastructure Minister Alexander Dobrindt. The new Federal Transport Infrastructure Plan (BVWP 2030) identified 1,000 projects totalling €264.5bn ($296bn) of investment, to be procured before 2030. A “new generation” programme of PPP road projects was announced in 2015 with 10 projects of €14bn ($15.9bn) of investment. The German market is one with a dominant domestic field of contractors, investors and banks; therefore, ensuring local participation in the project delivery chain should be high on any new entrants’ priority list. Projects are competitively tendered and nowadays often involve a “twin tracked” financing competition prior to bid, in which traditional bank debt and capital markets players are asked to submit their best price and hold it for a significant period post-bid. This has been challenging for some investors however it has been proven with market-leading deals such as the A7 Hamburg Nord project that it is possible to structure the deal to make this work for the bond market. EIB have been an active supporter of German projects including through senior debt provision and credit enhancement for bond issuances.

The Impact of EIB The European Investment Bank has over many years had an enormous impact in its core strategic sectors of transportation and energy. The underpinning of its transport infrastructure drive is the TEN-T (Trans-European NetworkTransport) initiative. The influence of EIB continues, whether as a senior debt provider, bond investor, or subordinated credit enhancement provider. It is the largest debt provider in the UK market and the second largest in Germany according to InfraDeals. Transportation Infrastructure | UK and European Market Overview

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Overview of the Market

Scandinavia Projects such as the Danish-German fixed link at Fehrman, a massive construction project, demonstrate that Scandinavia knows how to deliver major infrastructure. The question is whether this will in future be done on a basis which fully involves private sector finance on a long term basis. Finland has procured a number of transport projects on a privately financed basis over recent years including three roads deals. The latest of these, E18 Hamina-Vaalimaa segment, is part of the strategic transport network between Russia and Europe. With a capex of around €370m ($414.6m), this project was funded by a combination of European Investment Bank, Nordic Investment Bank and Finnish commercial bank Pohjola. Sweden and Norway have both historically chosen not to pursue private finance solutions for their infrastructure needs, this seems to be changing with both legislatures considering new measures to implement PPP-style projects. These will focus on roads infrastructure in the first instance. Existing projects including earlier roads deals may present opportunities for secondary trades in due course. The pension funds and institutional / fund managers across Scandinavia have been pressing for greater involvement of the private sector and we await to see how this will develop, with legislative approvals for the first three Norwegian road PPPs commencing from early 2017. Central and Eastern Europe One of the largest greenfield PPPs of recent years, the €1bn ($1.2bn) D4/R7 project was hotly competed by many of the leading project sponsors from Europe. The project is to provide on a design, build, finance and operate basis, the southern section of the Bratislava ringroad and linked R7 expressway. There is also to be a flagship new bridge over the Danube. The project was awarded in spring 2016 to a consortium of Cintra, Macquarie and PORR. Projects have been awarded in Poland around the strategic A2 corridor and Hungary (the M6) with others in the pipeline. There has been some refinancing activity for example the R1 in Slovak Republic which successfully closed a bond refinancing in 2013. In all, CEE is rising up the list for many investors who are seeking enhanced yield.

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Transportation Infrastructure | UK and European Market Overview

Turkey There has been an increasing amount of interest in Turkey from international investors, with the overall scale of investment running into billions of dollars. Turkey has had a roads PPP programme for well over a decade but interest in the sector has increased in recent years. Meridiam has already been heavily involved in the region in the healthcare sector and is the company behind the 1,550 bed Adana Integrated Healthcare Campus, the first PPP to reach financial close in Turkey. However Meridiam’s remit also includes transport. There have been a number of projects in recent years, including the 5.4km long Eurasia tunnel which reached financial close in December 2012 having been awarded to a TurkishKorean JV in 2009 and the $6.5bn Gebze-Izmir motorway project which broke ground in 2010. However the procurement of transport infrastructure projects has picked up in recent months following national elections in November 2015. A recent project includes the Bosphorus tunnel, a new multi-billion euro sea tunnel under Istanbul’s Bosporus strait that includes a railway connection. It was reported earlier this year that preparatory works have already begun and, whilst the capex is yet to be announced, it has been suggested that it will be much larger than the $1.2bn Eurasia tunnel. The Northern Marmara motorway Build-Operate-Transfer project, a $2.5bn project split between two separate concessions, was bid on in May 2016 with developers Cenzig and Limak winning the eastern side of the project and joint venture Kolyin-Kalyon winning the European stretch. All four companies have been involved in the recent €6bn New Istanbul Airport project which reached financial close last year. A tender was also put out late last year for a new €350m regional airport in Cukurovia.

United Kingdom – In Depth

Roads, Bridges and Tunnels Historically the UK has delivered many of its roads and related infrastructure through the Private Finance Initiative (PFI). This included mega-projects such as the London Orbital M25 upgrade which reached financial close in 2009 with a capex of £1.4bn ($2.3bn), the M6 toll road (1991) and significant bridge projects such as the £450m ($650m) Mersey Gateway which reached financial close in 2014. These projects are well progressed and have been in some cases in operation for an extended period. In many cases these projects are ready for the current investors to recycle their capital into new developments. Banks which took control of the M6 toll road in 2013 are now looking to dispose of the asset, with teasers issued to potential investors in April 2016. The UK PFI programme has also delivered a number of highways maintenance projects such as Birmingham, Hounslow (a London borough), Sheffield and Isle of Wight. These are all operational. The UK Government has recently re-confirmed its commitment to delivering a step-change in investment in the UK’s strategic road network. Its delivery strategy involves:

The roads sector in the UK is developed through “Road Investment Strategies” (“RIS”) which each cover a five year period. The scale of RIS1 and RIS2 is considerable. RIS1 is well underway and covers 112 projects which should begin by 1 April 2020. RIS2 includes 15 schemes identified for further strategic study. These include the Northern Trans-Pennine Route, Manchester North-West Quadrant, Trans-pennine Tunnel, A1 East of England, Oxford to Cambridge Expressway and the M25 (London Orbital) South-West Quadrant. If even a fraction of these schemes reach completion, it will be a significant capital programme and will only be affordable through private finance. In London, and somewhat closer in timeline, new infrastructure is planned to address the mismatch between the city’s projected increase in population and the age of the infrastructure network. This includes the £750m ($1bn) Silvertown tunnel in east London, a twin-bore road tunnel which is the first road crossing of the Thames since 1980. Further river crossings are proposed with a total capex of just over £1bn ($1.4bn).

• £15.2bn ($21.9bn) committed to Highways England to spend during 2015 to 2021, with annual funding on road enhancements tripling to £3bn ($4.3bn) year-on-year during that period – amounting to the biggest investment in our road networks since the 1970s. Focus will be on both asset renewal and maintenance, with more than 100 major road schemes planned by 2021; • £5bn ($7.2bn) to be injected into local authority budgets to allow improvements in local roads, including the £250m ($360m) pothole action fund; • the introduction of “smart motorways”, using technology to increase traffic flow and decrease congestion – a £650m ($938m) project on the M4 having already been identified as part of this initiative; and • up to £2.5bn ($3.6bn) to be invested in strategic motorway connections such as the A14 and A1 (North).

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United Kingdom – In Depth

Rail

Airports

The UK is currently undergoing the largest rail modernisation programme in over 100 years. This ambitious programme will see:

The UK has the third largest aviation network in the world after the USA and China and the Government is committed to expanding airport capacity further. Additional regional routes are backed by £7m ($10m) from the Regional Air Connectivity Fund in Carlisle, Dundee, Derry, Newquay, Norwich, Oxford and Southampton. Investment programmes at Manchester (£1bn/$1.4bn), and Heathrow and Gatwick (£4bn/$5.8bn) are currently underway.

• Network Rail spend more than £38m ($54.8m) over a five-year period, with more than £15bn ($21.6bn) on enhancements. Around £1.8bn ($2.6bn) will be raised through non-core asset property sales including depots, coupled with increases in Network Rail’s borrowing limits; • a £1.2bn ($1.7bn) boost to rail services through Northern and TransPennine Express franchises. 500 new carriages will allow room for 40,000 more passengers and 2,000 extra services a week; • £55.7bn ($80bn) invested in HS2, the new high-speed network linking eight of Britain’s 10 largest cities; • Crossrail in service by 2018; • Thameslink transforming north-south travel through London; • Intercity Express Programme, providing £5.7bn ($8.2bn) to grow and improve some of the busiest intercity routes; and • the Rail Delivery Group delivering more than 3,700 carriages over the next four years, valued at £9.3bn ($13.4bn). The UK Government published a plan for the future shaping and financing of Network Rail in March 2016. A number of the recommendations involve investment into new railway lines, particularly in the North of England, as well as exploring alternative ways of financing these projects. The following seven key recommendations were made in the report: • Place the needs of passengers and freight shippers at the heart of rail infrastructure management; • Focus on the customer through deeper route devolution, supported by independent regulation; • Create a route for the North; • Clarify the government’s role in the railway and Network Rail; • Plan the railway based on customer, passenger and freight needs; • Explore new ways of paying for growth in passengers and freight on the railway; and • Develop industry-wide plans to develop skills and improve diversity. 8

Transportation Infrastructure | UK and European Market Overview

The UK’s Airports Commission recently assessed the options for airport expansion in London, noting that it is crucial for the UK’s long term prosperity. Its report, published in July 2015, considered three options: a westerly extension to the northern runway at Heathrow Airport; a new runway at Gatwick Airport; or a new northwest runway at Heathrow Airport. The report concluded that a new northwest runway at Heathrow Airport would be the most beneficial in terms of meeting economic, social and environmental needs, however this would need to be coupled with a significant package of measures to address the environmental and community impacts that the expansion would bring. These include a ban on night flights, a legal commitment on air quality and a suite of noise mitigation measures. The final decision on the expansion options has not yet been made and it is likely that a decision will not be made until after the EU referendum in June 2016. There are also £300m ($432m) expansion plans at London City Airport. These were initially refused by the previous Mayor of London on the grounds of increase in noise levels however the recently elected London mayor has withdrawn the objections. However the project still requires planning permission and the plans are currently with the Planning Inspector who will send a report to the Government who will then decide whether to approve the expansion. In addition to airport expansion plans, the UK Government announced its plans to sell its 49pc stake in National Air Traffic Services (NATS) late last year. NATS oversees air traffic control at 14 UK airports. It first announced that it would sell its stake in 2012, but later decided it was in the best interests of the taxpayer for the Government to retain it. However the Government now plans to sell its stake as part of its plan to raise £5bn ($7.6bn) from asset sales. The remaining 42% of NATS is owned by a group of airlines and the Heathrow Airport Holdings Trust.

United Kingdom – In Depth

Ports There are around 120 commercial ports in the UK. Traditionally exclusively governmental, PPPs are increasingly being used to manage port operations more effectively. Currently, 15 of the 20 largest UK ports are private sector operations and just 10% of all ports are run by local authorities. Recent deals include the regeneration of Liverpool’s historic docks, a £5.5bn ($7.9bn) 30 year project which is being led by The Peel Group. There are various models for port management however the “Landlord Port Model” is the most prevalent. In this model the public sector takes responsibility for planning, acts as a regulatory body and owns the port-related land and basic infrastructure. The private port operator provides and maintains its own superstructure and purchasers and installs its own equipment, as well as being responsible for terminal operations. Additional infrastructure (such as refineries, tank terminals and chemical plants) is leased to the private operating company.

Financing issues in transport projects • Mixed sources of financing • “Twin track” financing competition up to bid submission • Length of procurement timeline • Counterparty – central or local government? • Bond specific considerations --Impact of credit enhancement product --Intercreditor arrangements --Validity period for binding financing commitments --Exclusivity • Impact on contractor support package • Financial close commitment and risk

As ports are public authorities, there are procurement restraints and state aid issues using PPPs for port management however there are current proposals to exempt port investment from state aid to make investment easier under EU rules.

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