Brussels, 19 October 2011
A pilot for Europe 2020 Project Bond Initiative - legislative proposal adopted by the Commission
Q1: What are the primary objectives of the Initiative?
The EU Budget is a key element to support the growth agenda and to achieve the Europe 2020 policy targets. The stronger use of innovative financial instruments is needed to multiply the outreach of the EU Budget. Announced in September 2010, the importance of the Europe 2020 Project Bond Initiative in supporting investments was highlighted in the recent State of the Union Address of President Barroso1. The Initiative has two objectives: to revive project bond markets and to help the promoters of individual infrastructure projects to attract long-term private sector debt financing. The Project Bond Initiative would set up a means to reduce the risk for third party investors seeking long-term investment opportunities. It will thus act as a catalyst to re-open the debt capital market (currently largely unexploited for infrastructure investments following the financial crisis) as a significant source of financing in the infrastructure sector.
Q2: Why target infrastructure?
Over the next decade, record investments in Europe´s transport, energy, information and communication networks will be needed to underpin the Europe 2020 flagship actions. Large infrastructure projects are necessarily long term due to the long life of the physical structures involved. Even if they are financially viable in the medium to long term, they face short-term risks particularly in the construction phase and during the early years of operation, which make the analysis of the investment value challenging for most market participants. In addition, most infrastructure projects have a strong public good aspect, i.e. they have value to society at large, which is not necessarily quantifiable in monetary terms. Targeting such projects with EU funds will thus help overcome risk aversion and ensuring that for EU valuable projects are implemented.
Q3: What is the purpose of the pilot phase?
The Project Bond instrument will be fully integrated in the next Multiannual Financial Framework 2014-2020. But now is the time to implement growth-supporting policies. This is the primary aim of the pilot phase.
From a more technical angle, EU-supported project bonds aims at forming a new class of securities. A pilot phase would facilitate their market introduction.
The Commission has seen from the experience with other financial instruments, most pertinently the LGTT (Loan Guarantee instrument for TEN-Transport projects), that they often require a significant lead time prior becoming fully operational. This has been the case even when extensive prior consultation of stakeholders has taken place.
Throughout the pilot phase 2012-2013 stakeholders can familiarise themselves with the novel financing structures. Feedback received during the pilot phase can then be used to fine-tune parameters of this financial instrument
Even though the scale and scope of the pilot phase would be limited, it is expected to stimulate market behaviour towards an increased acceptance of capital market debt financing and thus lay the ground to improve the Initiative and implement it as a fully-flegdged proposal in the next multiannual financial framework under the Connecting Europe Facility (see IP/11/1200).
Q4: How would the pilot phase be implemented?
The Commission is proposing to launch a pilot phase in the period 2012-2013, still within the current Multiannual Financial Framework.
The pilot phase will be based on an amendment of the Trans-European Networks (TEN) Regulation and the Competitiveness and Innovation Framework Programme (CIP) Decision2 and will draw on the budget lines of these programmes up to a total of EUR 230 million. EUR 200 million will be re-allocated from the TEN-T budget line, specifically from LGTT and EUR 10 million from the TEN-E budget line. EUR 20 million will also be re-allocated from the CIP ICT line.
Similar to Risk Sharing Finance Facility and Loan Guarantee instrument for TEN-Transport projects, the EU budget would be used to provide capital contributions to the EIB in order to cover a portion of the risk the EIB is taking when it finances the eligible projects. While the EU budget will provide some risk cushion for the EIB to finance the underlying projects, the EIB would have to cover the remaining risk.
This means that when EU budget funds are combined with the EIB financing, a multiplier effect at this level of around 3 can be achieved. However, the EIB would credit enhance only up to 20% of the project debt. Thus, the final multiplier effect in terms of EU budget compared to the investment amount of around 15-20 can be achieved. Therefore, the total budget amount of EUR 230 million is expected to mobilise investments of up to EUR 4.6 billion.
It is clear that only a limited number of projects could be funded in the pilot phase, as the budgetary resources available are limited and the remaining time horizon for implementation would be very short. Therefore, the project selection would be made with the aim of enhancing approximately 5-10 projects, concentrating on those that are at a relatively developed stage of the bidding and financing process or require refinancing after the construction phase, in one or more of the three targeted sectors of transport, energy and broadband.
The pilot phase would be managed by the EIB.
The budget required to implement the initiative after the pilot phase will depend on the take up of the pilot phase and on the debt capital market developments in the EU in general.
Q5: Which projects would be eligible?
General project eligibility would be determined according to the relevant TEN (TEN-T and TEN-E) and CIP policy guidelines as proposed by the Commission and approved by the co-legislators. The focus is thus on TEN-transport, TEN-energy and broadband projects.
The specific projects would need to provide stable and strong cash flows in addition to being economically and technically feasible. The EIB will perform an evaluation of these factors in view of its experience with infrastructure financing.
It needs to be understood that not all infrastructure projects are necessarily suitable for financing by the bonds. Such projects may still need to be funded via grants.
As with other financial instruments for attracting private investment, it will ultimately depend on investors which of the eligible projects would receive financing under this initiative. Projects that would not attract finance under this initiative could well be funded via other means (see Q7).
Q6: Who are the relevant investors and why would they invest in the Bonds?
Institutional investors, such as pension funds, insurance companies etc, i.e. investors with long-term liability structure and regulated rating requirements for their investments. For these investors Project Bonds can represent a natural match for their long-term obligations.
Initially, these will most probably be European investors but interest from North American institutional investors and various sovereign funds can also be expected.
Besides having access to a new/reintroduced asset class providing diversification and good rating, investors, generally lacking the know-how in project finance, will also be interested in the bonds as they can rely on due diligence and monitoring expertise carried out for the projects being supported by the Initiative.
Q7: Will the Initiative complement or replace existing sources of financing?
The Initiative will not replace the existing sources of project financing through bank loans or public sector grant programmes but rather complement these as a further means of closing the infrastructure financing gap. The aim is to expand the investor base for private debt funding of projects from loan providers to bond investors.
Q8: Will project bonds replace grants?
No. Project bonds will provide an alternative to bank loans for projects that have characteristics allowing them to be financed by the private sector. Even such projects will likely need grants for feasibility studies, impact assessments etc. Projects with low or no revenue that are nonetheless of great public interest will continue to need grants in all stages of their life. Thus, grants will continue to play an important role and could potentially even be combined with project bonds if a project can be appropriately structured.
Q9: What are the differences between the Europe 2020 Project Bonds and the so called Eurobonds?
The aim of the Europe 2020 Project Bond Initiative is to enhance the credit standing of private entities that need to raise private funds for the infrastructure projects they promote. This is fundamentally different from the idea of the so-called “Eurobonds", i.e. the joint issuance of bonds to provide general funding for Member States' government spending.
Thus, neither the Commission nor the Member States will issue bonds under the Europe 2020 Project Bond Initiative.
Q10: Who would provide the financial resources for the Initiative? When could it start?
As explained in Q4, the funding of the pilot phase will be provided by existing budget lines under the current Financial Framework (2007-2013).
The Initiative would be based on established risk sharing mechanisms between the Commission and the European Investment Bank (EIB).
It is important to stress that the EU budget contributions would be strictly capped and do not create contingent liabilities. In general, all the co-fincanced instruments which are based on risk-sharing, such as the existing Risk Sharing Finance Facility (RSFF) and the Loan Guarantee instrument for TEN-Transport projects (LGTT), involve allocations to programmes which are capped to the amount of the budget commitment. Indeed, none of these instruments pose a risk to the budget beyond the amounts initially committed under those budget lines. In addition, and unlike for grants, there will eventually be a reflow of funds from fees charged to the beneficiary that can bere-used for new projects or other purposes.
Q11: What is the role of the EC and the EIB? Will EIB’s expertise be used in project appraisal?
The EC will define the project eligibility framework and seek greater synergies between available EU grants and the use of specialised financial instruments.
The EIB Group is the natural partner for the Commission for the implementation of innovative financial instruments using the risk sharing concept (for example: Loan Guarantee instrument for TEN-T (LGTT) or Risk Sharing Finance Facility (RSFF) as well as other EIB/EIF based schemes). As the EU Treaty based Bank with the mission to support EU policies, it has a unique long-standing experience in the financing of infrastructure projects. Its share capital is held by the 27 member states, its role is long term financing in support of EU policy objectives and it reports to all relevant European Institutions; it is politically accountable to the European Parliament and subject to the control of the Court of Auditors where it is responsible for spending EU Budgetary resources. Therefore, it is natural that this pilot phase of the Initiative builds on the experience of EIB for structuring the implementation and early marketing and risk management.
Management of the Initiative within the eligibility framework agreed with the Commission would lie primarily with the EIB. Once a project is selected as eligible, the EIB would appraise the project, carry out the due diligence and financial analysis in the structuring phase, price the guarantee or loan and subsequently monitor the project.
Q12: Why do we need public money to enhance the credit rating of these Bonds? Are there not private providers of similar services?
Prior to the financial crisis, specialist insurers called monoliners, used to provide insurance for financial products, thus raising their rating. However, due to losses on subprime-related guarantees the monoliners have largely exited the financial insurance market generally. Following market and regulatory developments, it is unlikely that this business will revive in this form.
In contrast to this, the proposed mechanisms of the Initiative will:
i) be limited in amount from the outset
ii) not target an up-lift of the project rating to AAA (A-AA range aimed at)
iii) be based on EIB’s capacity to deliver subordinated loans, not necessarily its rating
iv) only target core business of EIB, i.e. well known infrastructure financings
v) only support robust projects with all the necessary structuring elements in place
vi) benefit from EIB’s proven due diligence, valuation and pricing methodologies with a strong track record
Q13: How does this Initiative fit in the ongoing preparation of post-2013 policy proposals?
The Initiative will widen the current toolbox of available innovative financial instruments under the current financial framework (2007-2013), as there has not been yet an instrument targeting bond financing.
A Commission communication on financial instruments for the post 2013 period has been published in parallel to this Initiative: "A framework for the next generation of innovative financial instruments – the EU equity and debt platforms" – COM(2011)662. It reviews the lessons of the current generation of financial instruments and develops the organisational prerequisites for the next.
Ultimately, the Financial Regulation and the delegated act replacing the Implementing Rules will set out the overall principles for these instruments. But with their number increasing, "platforms" will define a set of internal rules or technical standards to implement these tools most efficiently.
Q14: What are the next steps of the proposal?
The next step is the adoption of the pilot phase of the Initiative by the European Parliament and the Council. At the same time and once agreed by its governing bodies, the EIB would start preparing a pipeline of eligible projects to be supported by the Initiative when it becomes operational.
Europe 2020 Project Bond Initiative website:
Consultation Phase of the Europe 2020 Project Bond Initiative:
Conference on the Europe 2020 Project Bond Initiative (April 2011)
TEN-T Networks: http://ec.europa.eu/transport/infrastructure/index_en.htm
TEN-E Networks: http://ec.europa.eu/energy/infrastructure/tent_e/ten_e_en.htm
Regulation 680/2007 of the European Parliament and of the Council of 20 June 2007 laying down general rules for the granting of Community financial aid in the field of the trans-European transport and energy networks and Decision 1639/2006/EC of the European Parliament and of the Council of 24 October 2006 establishing a Competitiveness and Innovation Framework Programme (2007 to 2013), respectively.