ALGERIA SIGNS ITS FIRST-EVER PROJECT FINANCE DEAL

UNCLAS SECTION 01 OF 02 ALGIERS 001328

SIPDIS

SENSITIVE

E.O. 12958: N/A
TAGS: ECON EINV SENV AG OPIC
SUBJECT: ALGERIA SIGNS ITS FIRST-EVER PROJECT FINANCE DEAL
TO EXPAND DESALINATION CAPACITY

REF: ALGIERS 1164

SUMMARY
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1. (U) Hamma desalination plant negotiators signed contracts
June 25 committing to a loan for the first reverse-osmosis
desalination plant in Algeria, one of the largest such
plants in the world. OPIC is loaning up to $200 million for
the plant, which is expected to be completed in 2007, 24
months from the anticipated start of construction. Hamma
will provide 200,000 cubic meters per day of drinking water
to the greater Algiers area to mitigate the effects of
periodic, debilitating water shortages. The primary
negotiators were G.E. Ionics, Algerian Energy Company (AEC),
the project company Hamma Water Desalination, Sonatrach,
Algerienne des Eaux, and OPIC. Energy Minister Khelil,
Water Minister Sellal, and Finance Minister Medelci, whose
ministries shaped the project, also attended the ceremony.

ALGERIA'S FIRST PROJECT FINANCE DEAL
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2. (U) Hamma desalination plant project partners signed
contracts June 25 committing to a loan for the first reverse-
osmosis desalination plant in Algeria, for which OPIC is
loaning up to $200 million. The plant, which will be
completed in 2007, 24 months from the anticipated start of
construction, will produce 200,000 cubic meters per day of
potable water for the greater Algiers region. The contract
signing represents a significant milestone in Algeria's
ability to negotiate complex project financing agreements
and is a positive development following the launch of a five-
year, $55 billion infrastructure spending plan. The Hamma
negotiations were completed 9 months after formal
discussions began September 2004 in Algiers between the
project partners (G.E. Ionics, Algerian Energy Company
(AEC),the project company Hamma Water Desalination,
Sonatrach, Algerienne des Eaux, and OPIC). According to
OPIC, this deal took less time than anticipated, considering
that many large project finance deals take up to two years
to complete. Despite difficulty negotiating and structuring
to meet OPIC's need for exchange rate fluctuation
protection, the final arrangements conformed to
international project financing standards. The model for
the Hamma deal could be replicated for Algeria's future
desalination and other infrastructure projects.

CONCERNS ABOUT GOA DECISION
TO FORGO FUTURE LOANS
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3. (SBU) Project participants and other potential foreign
investors remain concerned about Energy Minister Khelil's
recent announcement, reiterated in his speech at the Hamma
signing ceremony, that Algeria would henceforth seek local
financing through state-owned banks for future desalination
projects, of which eleven are planned (reftel). (Note: The
decision was actually President Bouteflika's, and was
motivated by excess liquidity in the Algerian banking system
due to high energy prices and a significant increase in
energy revenues. End Note.) Algeria is eager to stem the
growth of its foreign debt and put the country's excess
liquidity to work, including an estimated $10 billion plus
in stationary capital in state-owned banks. Several
analysts believe that without the involvement of a
heavyweight international lending institution, the risk
profile of such projects will substantially change,
discouraging foreign debt investors and project partners
from participating. With this in mind, Ambassador, in his
public remarks at the signing ceremony, pointedly noted that
one of the benefits of OPIC participation was that it would
increase the confidence levels of other potential investors
and partners to participate in such projects.

TOO MUCH STATE INVOLVEMENT
INCREASES POLITICAL RISK
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4. (SBU) In a private meeting with Khelil following the
ceremony, OPIC Structured Finance Director Nancy Rivera
expressed OPIC's concerns about the GOA's shift in financing
strategy. Rivera said that foreign debt investors and
project partners will hesitate to participate in projects
where the state is the primary lender because state
involvement at the lender level -- particularly when there
is already state involvement at the shareholder and offtaker
levels -- significantly increases the political risk. Some
investors have already indicated to OPIC that state-owned
bank financing would deter them from investing. Rivera also
expressed concern that the equity arrangements for future
deals (51% foreign, 49% local, i.e. state) constituted a
material change from the 70%/30% ratio of Hamma. This
change is significant because, at the 51% level, foreign
investors would be unable to have shareholder control over
the project company, which would also increase the foreign
investor's risk.

THE MARKET WILL DECIDE
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5. (SBU) Khelil acknowledged Rivera's concerns, but argued
that, in the big picture, it should not matter whether the
project loans were from a public source or a private one.
Algeria would be bearing all the financial risk, not the
foreign investors. Besides, he said, Algeria had plenty of
money to fund projects and wanted to stem its debt growth
and reduce its over-liquidity problems. From this
perspective, local financing was an attractive alternative.
Khelil suggested that an OPIC guaranty for the state bank's
project loan could resolve some of the investors' concerns.
Khelil said the market, in the end, would decide if the
GOA's local financing approach was the right choice.


6. This message was cleared by OPIC Structured Finance
Director Nancy Rivera.

ERDMAN