Spain: Project Finance In Spain

A considerable number of projects have been financed through project financing techniques over the last years in Spain. However, despite the increasing number of major infrastructures projects and the increasing use of this financing tool, there is no specific legislation governing project financing transactions in Spain. Instead, there is a wide range of public law regulations that affect in one way or the other the way project finance transactions are structured. This paper briefly describes the relevant legislation in the field and the contractual structures generally used by practitioners and market participants.

A local project company with a single purpose will be formed to build, own and operate the project. Among all corporate forms available under Spanish law, the limited liability company ("sociedad de responsabilidad limitada" or "S.L.") is the preferred vehicle for project finance deals. This corporate form affords limited liability to all the shareholders whilst it is considered as a partnership for US check-the-box regulations. The limited liability company allows for the sponsors to structure the project company according to their own needs, who may insert in the By-laws the clauses and provisions that best suit their project.

Project finance transactions in Spain involve at least two participants, namely, the project sponsors and the lenders (either one bank or a syndicate of banks). Additionally, there may be other participants involved, depending on the project size. In concession agreements and B.O.T projects, the state is invariably a party to the project agreements.

In cross border transactions involving non-resident sponsors, the acquisition of shares from the project company by the non-resident sponsor must be notified to the Foreign Investment Registry for statistical purposes. Royal Decree 664/1999 of April 23 has liberalised foreign investment in Spain, with the exception of certain sectors, defined as "strategic", which still require prior government clearance. The investment in companies carrying on activities which relate to air transportation, radio and television, gambling, telecommunications and National security must be previously authorised by the competent authorities prior to investing in the project company.

Spanish exchange control laws do not have a major impact on project finance transactions. The making of loans and the creation of security by local banks is not subject to specific exchange controls requirements. However, the Central Bank of Spain must be notified in the event of one of the debt providers being a non-resident entity. This is a simple procedure which requires the filing of specific forms with the Central Bank of Spain.

Spanish exchange control laws do not prohibit the enforcement of the security taken by reason of a project and do not impede the remission abroad of the proceeds obtained from security realisations of the project assets.

The balance of the finance needed for the particular project is provided by the sponsors by way of (i) shareholders’ equity contributions in cash, (ii) subordinated debt and, (iii) "participative" loans. A "participative" loan is a hybrid of equity and debt that is accounted for as equity for purposes of compulsory dissolution rules or reduction of share capital. "Participative" loans rank junior to all other indebtedness (i.e., to the facility for the project) and senior only to shareholders. "Participative" loans may not be amortised unless the equity of the project company is increased in an equal amount. "Participative" loans are increasingly common in the Spanish experience.

A credit facility agreement between the project company and the lending syndicate will be entered to finance the construction of the project. The credit facility will usually include a drawdown period that will match the construction phase, at the end of which all drawdowns will be consolidated into a long-term loan.

The project lenders will underwrite the external debt financing required by the project company at an early stage of the development phase. Certain projects not requiring a high level of indebtedness may be funded through construction loans from the shareholders to be repaid upon the financial close. The credit facility agreement contains the financial terms and covenants customary in this kind of agreements, i.e., floating interest, events of default, covenants on severability, syndicate democracy, negative pledge, pro rata sharing, set-off, cure provisions, project accounts, etc. Moreover, the credit agreement will invariably provide for the project company to meet a certain annual debt service cover ratio during all the loan life.

The Spanish practice is to execute the credit facility agreement before a Notary Public or a Stockbroker in order to attain summary court action upon the occurrence of an event of default. Under Section 1429 of the Spanish Procedural Act, the holders of certain credits documented in public documents (i.e., documented as a public deed or in a policy attested by a stockbroker) benefit from an expeditious foreclosure proceeding that allow few defences to the debtor. Thus, the banks will demand that all the debt financing be executed before a Notary Public or a Stockbroker.

In almost every project there will be also a VAT facility arranged for the project company to finance the refund of the VAT borne by reason of the construction of the project. Under Act 37/1992 of December 28 on VAT, the turnkey contractor is required to charge VAT at 16% in all its invoices. Because the VAT borne by the project company can result in a substantial amount, the payment to the contractor is financed through a VAT facility, which is structured as a short or medium-term facility. The VAT facility will provide for the project company to repay the amounts on an automatically basis each time a VAT refund is made by the Treasury to the project company (i.e., there is no re-payment schedule although there is a final maturity date).

Over the last years there has been an accelerating global trend towards the execution of power projects in Spain. The need for power generation capacity has resulted in the explosion of power projects which has also attracted a substantial interest from foreign power developers. As a result, Spain is widely regarded as being very attractive for renewable energy projects (most wind projects) and gas-fired power projects (combined-cycle plants). As an example of the aggressive approach to power projects, the Spanish Ministry of Industry had recorded as at November 1999, 32 new applications from developers for the installation of cogeneration power plants.

A positive factor that has contributed to the development of power projects has been the approval of a new Electricity Act. Act 54/1997 of November 27 on the Electricity Sector has introduced a number of measures aimed towards liberalising the electricity sector. The Electricity Act divides electricity generators into (i) fully integrated facilities which are owned by integrated utilities and (ii) autoproducers which are essentially independent cogeneration and renewable-based producers outside the integrated utility regime. Autoproducers operate power plants with less than 50 Mw. Their rights and obligations as autoproducers are set out under article 27 of the Electricity Act and under Royal Decree 3048/1998 of December 23, on the autoproducer status.

By way of example, the main risks involved in a given power project are the following:

The Spanish government has utilised the concession in the context of BOT projects as a means of developing basic infrastructures (highways, bridges, tunnels, etc). Concession agreements are governed by Act 13/1995 of May 18 on Government Contracts. Act 13/1995 lays down the regime applicable to concessions of public works and sets out public procurement rules to apply for concessions.

The Spanish model as to financing of major infrastructures projects has not yet been clearly defined. Whilst there is a broad movement towards transferring the financial risk to private sector participants by way of concession finance models (using different payment and financing techniques such as the German model), it is however true that some of the major infrastructures projects undertaken over the last years were financed with public expenditure.

The Spanish practice is to arrange the debt financing on a non-recourse basis, i.e., the security is exclusively taken over the project assets. All the security is taken by the members of the lending syndicate who are a party to all the security arrangements. This is due to the fact that under Spanish law there is no equivalent to the concept of the security agent holding the security on behalf of all the lenders. It is however true, that the credit facility agreements will include inter-creditor arrangements whereby one of the banks will assume the position of agent or fronting bank before the project company for purposes of calculating the interest rate, distributing the payments among all participating banks and controlling the project accounts.

The most common types of security interest taken on project finance deals are pledges and mortgages. The English floating charge is not available. Mortgages are required where the security is to be taken over real property, as opposed to pledges, that are taken over movable assets (e.g., shares, accounts receivables, cash and bank balances and insurance policies can be pledged). Movable mortgages and possessory pledges are also possible but infrequent in project finance transactions.

Whilst real estate mortgages must be registered for perfection of the security, pledges are unregistered. Mortgages over real property are governed by the Mortgage Act of 8 February 1946. In order to be perfected, the real estate mortgage must be executed as a public deed before a Notary Public and must be subsequently registered with the Land Register. Real estate mortgages are routinely practised and enforceable before the Courts. Foreclosure of a mortgage, whether over real estate or movable property, must be by means of judicial proceedings.

Pledges must be executed before a Notary Public or a Stockbroker for the security to be effective as against third parties. Pledges over the project company’ shares and over the project and the proceeds account are also customary taken as part of the security package. With regard to the enforcement of the pledge, Section 1872 of the Spanish Civil Code sets out an expeditious out-of-court foreclosure proceeding conducted before a Notary Public by which the assets pledged are sold at public auction to the best bidder. Pledges over the project accounts are enforced through the set-off mechanism.

In certain projects in which it is envisaged that the forecasted cash flows will substantially exceed the debt service, it is increasingly common for the project company to grant an irrevocable power of attorney enabling the project lenders to constitute, at their discretion, the security agreed. In such cases, the project lenders will only make use of the irrevocable power of attorney to constitute the security in the event that the project does not perform as expected.

Additionally, the project company will assign the benefit of all the project agreements (i.e., proceeds from the sale of the project product, liquidated damages) by way of security. For the assignment of the project contracts to be effective as against third parties, it must be attested by a Notary Public or a Stockbroker. The proceeds obtained through the sale of the project product will be paid into an external account controlled by the project lenders which will be blocked upon an event of default.

Granting security in Spain has a substantial cost to the project company. In addition to notarial fees, both movable and real estate mortgages (as well as possessory pledges and movable mortgages) are subject to payment of stamp tax. The rate of stamp tax is 0.5% over the taxable base, which must include the principal secured by the security, interest, default interest and court costs. There are no duties payable on a pledge.

Mortgages and pledges are first ranking security that allow the lenders to foreclose the project assets separately and with preference over any third party, even in the case of insolvency of the project company (bankruptcy or suspension of payments), as provided under the Commercial Code and the Mortgage Act. The beneficiary of a pledge or a mortgage has the right to foreclose the assets pledged independently from the bankruptcy proceedings, and to obtain payment of its credit during such foreclosure. If the amount recovered in the foreclosure of a pledge is not sufficient to cover the whole amount outstanding, then the beneficiary of a pledge or of a mortgage becomes an unsecured creditor in the insolvency for the remainder. However, if the amount obtained is higher than the amount owing, then the beneficiary of the pledge or the mortgage must reimburse the excess to the insolvent estate. The bankruptcy estate also has the option of paying the secured obligation in full to avoid the foreclosure of the pledge.

Save for pledges and mortgages, the rest of the security that may be created in favour of the project lenders cannot be separately foreclosed in the event of insolvency of the project company.

The project agreements usually contain detailed procedures for resolution of disputes. In projects with no governmental intervention, the Spanish practice is to submit the disputes arising from certain project agreements (i.e., shareholders agreement, the construction or the equipment supply) agreements to arbitration. Court action in such cases is less advisable than arbitration in Spain since it is generally much lengthier.

On the other hand, the financial agreements are submitted to court jurisdiction to the extent that the amounts owing by the project company may be claimed by the lenders through a summary court proceeding. Where the state is a party, the controversies must be mandatorily resolved before the Courts.

Alternative dispute resolutions methods are not commonly practised.