Case Study 1 Watercraft Capital

115-049-1
WATERCRAFT CAPITAL S.A.

Refinancing project finance transactions1
Stefano Gatti
SDA Bocconi School of Management
Andrea Florio
SDA Bocconi School of Management

1
This case study is based on public information only. The bond prospectus for the Watercraft Capital S.A. is available at http://araomai.cat/wp-
content/uploads/2014/11/Project-Castor-Prospectus_CL-low-res-4.pdf. Please read the entire disclaimer before going through the contents.
(n° 13343)
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115-049-1
SDA Bocconi School of Management Watercraft Capital
(n°13343)
Important Disclaimer
This case was prepared by Professor Stefano Gatti (Bocconi University) and Andrea Florio (Bocconi University) as a basis for class discussion
rather than to illustrate some of the typical issues of bond refinancing of a project finance transaction or to judge the effectiveness of credit
enhancement mechanisms. This document may contain “forward-looking statements” as defined in the Private Securities Litigation Reform Act of
1995. These statements involve risks, uncertainties and other factors that could cause actual results to differ materially from those which are
anticipated. In addition, this document has been prepared for didactical purposes only: all forward looking data, figures, and projections and all
forward-looking statements included must not be considered as representative of any real situation. All valuation considerations included in this
document have been developed and reported for the sole purpose of providing students with a better understanding of refinancing schemes using
available public information only, and are not, to all extents, related to any confidential document produced to advise any of the companies
mentioned in this document. Neither the results of the analysis, nor any other conclusion that one can reach through this document, should be
considered indicative of any actual market situation, and therefore the authors decline any responsibility for improper use of the data cited in this
document. The authors do not undertake any obligation to update the forward-looking statements contained or incorporated in this document to
reflect actual results, changes in assumptions, or changes in other factors affecting said statements. The authors would like to thank Matteo Di
Castelnuovo, Caterina Miriello Miguel Vasquez Martinez and Veronica Vecchi for valuable comments on earlier drafts of the case. The
responsibility of the contents remains ours
Copyright © SDA Bocconi, Milan, Italy 2

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Stefano Gatti, Andrea Florio
Watercraft Capital S.A.

Refinancing project finance transactions
1. Introduction
An EU initiative to support project bonds, together

with the EIB, would help address the needs for
investment in large EU infrastructure projects”
J.M. Barroso, 2010 “State of the Union” speech
In the end of July 2013, Escal UGS’s shareholders organized a refinancing of the Project Castor underground gas
storage facility through a ~€1.4 billion project bond issuance in the capital markets, with maturity December 2034
(issued by the Special Purpose Vehicle Watercraft Capital S.A.).
The refinancing was set up in a very delicate moment of the project’s lifecycle (Figure 1) because, despite the
construction phase of the facilities was practically concluded, the underground gas storage system still needed the
Spanish authorities’ clearance for operations start-up (i.e. Puesta en Servicio Definitiva). Such authorization
required a series of performance tests which were expected to last until December 2013. At that date, in the case of
positive resolution of the Spanish authorities, the Project Castor would enter the national gas system’s remuneration
regime , hence generating cash-flows for their shareholders.
In a moment of uncertainty regarding Spain’s government financial strength (rating BBB-) and a widespread
economic slowdown, undertaking a refinancing of this proportions was considered a very difficult transaction.
Moreover, the market for infrastructure project finance in Europe was greatly hit by regulatory structural changes
brought by Basel III capital accord and Solvency II and banks, which used to be the main players in this market,
promptly reduced their project financing operations in the aftermath of the European sovereign debt crisis.
However, the refinancing met the eligibility requirements for the brand-new European Commission’s Europe 2020
Project Bond Initiative Pilot Phase and its Project Bond Credit Enhancement (PBCE) mechanism. Project Castor’s
refinancing would have been the first time adoption of the PBCE mechanism.
Right before the project bond issuance, the perception of institutional investors was mixed: on the one hand, many
of them refrained from investing arguing that the project was too intertwined with Spain’s economy and political
situation, thus being significantly risky. On the other hand, many were attracted by the new PBCE mechanism and
the role that the European Investment Bank (rating AAA) would play in the refinancing.

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Figure 1 – Case chronology
Performance Gas cushion

tests injection
Project Project Bond

Bond final instalment End of concession (if not
Construction Request for inclusion in Issuance Resolution on the inclusion extended for 10 + 10 years)
Concession award completion the remuneration system in the remuneration system
5th June 2008 July 2012 31st October 2012 July 2013 (exp.) December 2013 (exp.) December 2034 (exp.) 8th June 2038
Pre-Operation phase Operation phase
Source: Own elaboration, Prospectus of Watercraft Capital S.A.
2. 2020 Project Bond Initiative
2.1. Background
Europe 2020, the European Union’s strategy launched in 2010 to promote smart, sustainable and inclusive growth
(source: Europe 2020 in a nutshell) in Europe outlined a potential investment need of €2 trillion in the transport,
energy and information and communication technology sectors in the 2011-2020 time period. Given the economic
scenario in Europe and the escalating pressure on banks’ balance sheets for higher regulatory capital requirements
(Basel Accords) which deterred long-tenor lending, financing highly levered projects with a credit rating in the low
BBB range became increasingly difficult.
Since 2010, the European Investment Bank (EIB) and the European Commission (EC) have been engaged in an
extensive consultation exercise to develop new financing products to respond to this funding gap. In September
2010, Josè Manuel Barroso (President of the European Commission) announced the Europe 2020 Project Bond
Initiative (PBI) during his State of the Union speech. In a period of uncertainty around Europe’s economic growth,
the Initiative was tailored to provide EU support to project companies issuing bonds to finance large-scale
infrastructure projects.
In particular, the Initiative’s aim was to attract additional private sector financing by improving the credit rating of
the senior debt of project companies. It was believed that this effort would be mutually beneficial: project financing
would benefit from easier access to capital; institutional investors – such as pension funds and insurance companies
– would be able to invest in projects with an adequate credit rating which could represent a natural match for their
long-term liabilities.
In Europe (“Ad-hoc audit of the pilot phase of the Europe 2020 Project Bond Initiative, Final Report”), the value of
project financed infrastructure more than halved from over €70 billion in 2010 to approximately €34 billion in 2012
(Figure 2). This decline was due inter alia to:
(i) A decrease in government investment due to sovereign debt levels and measures for fiscal
discipline;

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(ii) Tighter prudential requirements (Basel 3, Solvency II) which reduced the attractiveness of project
loans for many institutional investors, thus contracting European credit markets in the aftermath of
the global financial crisis;
(iii) Decline in private investment sector, following the economic slowdown in Europe due to higher
unemployment and decreased consumer spending.
In the years following the crisis, and particularly for banks domiciled in euro area periphery countries, pressure on
capital requirements and allocation adversely impacted project finance business practice. Many financial
institutions had to significantly reduce their origination activity, and/or sell relevant portions of their project
finance loans in their portfolios, and/or withdraw from the project finance sector altogether in the attempt to better
match assets and liabilities and shore up their capital ratios.
Undoubtedly, there continued to be a competitive market for project finance bank debt, however the liquidity and
capacity of the market reduced significantly following the crisis. With this in mind, and mindful of the value in
mobilising additional sources of capital to facilitate infrastructure investment, European policymakers devised the
Europe 2020 Project Bond Initiative.
Figure 2 – Project Finance Infrastructure in Europe(*)
€ 80 400
€ 70 350
€ 60 300
€ 50 250
€ 40 200
€ 30 150
75. 84.
€ 20 72. 100
7% 7% 85.
€ 10 50
7%
€0 0
2009 2010 2011 2012
Deals Value (Bn)
Source: Infrastructure Journal

(*) Each bar represents the total deals value for the relative year, the pale blue portion represents the debt contribution on the capital
structure, whereas the darker blue the financing coming from sources other than debt (equity and subordinated loans). The percentages are
indicative of the debt portion.

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2.2. Project Bond Credit Enhancement (PBCE)
The cornerstone of the Project Bond Initiative (PBI) was a credit-enhancement mechanism (Project Bond Credit
Enhancement) put in place by the European Commission and the European Investment Bank which provided
eligible infrastructure projects with a credit enhancement facility. Eventually, such an instrument had the ultimate
objective to widen access to sources of finance and to minimise overall funding costs.
The mechanism of improving the credit standing of projects was based on the capacity to split the debt of the
project company entitled to manage the infrastructure project into senior and subordinated tranches. EIB provided a
subordinated form of financing to enhance the credit quality (and rating) of the senior tranches. The credit-
enhancing subordinated tranche could be provided in one of two ways:
Funded PBCE – A loan given to the project company from the outset (see Figure 3); or
Unfunded PBCE – By way of a contingent credit line which could be drawn if the cash flows
generated by the project were not sufficient to ensure Senior Bond debt service (during the
operational phase) or to cover construction costs overruns (during the pre-completion phase) (see
Figure 4).
Figure 3 – Funded PBCE
Senior Debt Investors

(Project Bonds)
Project Co
SPV
Subordinated Debt EIB/EU
Equity Sponsors
Source: An outline guide to Project Bonds Credit Enhancement and the Project Bond Initiative
Figure 4 – Unfunded PBCE
Senior Debt Investors

(Project Bonds)
Guarantee Facility EIB/EU
Project Co
SPV
Equity
Sponsors
Source: An outline guide to Project Bonds Credit Enhancement and the Project Bond Initiative

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Credit enhancement mechanisms in project financing were not new: in the past, senior bonds used to be granted by
monoline insurers. However, monoline insurance importantly differed from PBCE:
(i) PBCE did not cover the entire amount of the bond, instead it was capped from the outset at a
maximum size for a single transaction of €200 million or 20% of the senior bond’s nominal value;
(ii) Only senior bonds’ credit rating improved: EIB’s AAA credit rating was not extended to the project;
(iii) PBCE did only target eligible projects within defined sectors.
PBCE’s use started in a Pilot Phase which was expected to run until 2016 and to targeting projects in the areas of
trans-European networks of transport (TEN-T), energy (TEN-E), and broadband / information and communication
technology (ICT). This testing phase was set to redeploy €230 million of unused EU budgetary resources: €200
million were committed to TEN-T, €10 million to TEN-E, €20 million to financing high-speed broadband projects.
The EIB estimated that providing those €230 million acting as a first loss piece could leverage financing to
infrastructure projects on a portfolio of PBCE transaction totalling over €4 billion.
The Pilot Phase was testing the core eligibility requirements for an eligible process. In addition to being projects in
the TEN-T, TEN-E and ICT sectors, eligible projects needed to feature the following:
(i) Bond-financed transaction – PBCE was available to bond-financed transactions which typically
require peculiar financial characteristics such as rating agency coverage, suitable legal
precedents/frameworks, bond trustees and funded pension plans (either public or private) which are
permitted to invest in securities other than more limited debt classes such as sovereign debt;
(ii) “Ring Fenced Assets”/Project Finance Scheme – PBI required that costs and revenues related to
eligible asset be segregated from other assets and liabilities of corporations promoting the project.
Typically, the repayment of the project bonds and PBCE facility shall be determined by the
performance of the ring fenced assets only;
(iii) “Bankability”– EIB required the project (i.e. before PBCE is taken into account) to have a robust
(“bankable”) financial structure;
(iv) Early involvement – EIB had to be involved at an early stage of transactions since credit quality is a
key aspect of bids and should therefore be considered at the evaluation stage (while there is still
competitive tension) for both procurement and commercial reasons.

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3. The Project and the Spanish Gas Market
3.1. Project Castor
3.1.1. The Project
In 2008, Escal UGS, S.L. (a special purpose vehicle controlled by ACS Servicios, Comunicaciones y Energia, S.L.
and Dundee Energy Limited), was awarded by the Spanish government the concession for a 30 years period
(extendable for 2 additional periods of 10 years) for the construction and operation of an underground off-shore
storage facility. The project was configured as a strategic reserve to assist ensuring Spain’s energy supply and
classified as Type A Urgent (the highest level of priority) by the Council of Ministers in the 2008-2016 Electricity
and Gas Sector Planning report. Given its strategic importance, Castor has been eligible as part of Europe’s Trans-
European Energy Networks (TEN-E) and, consequently, suitable for the pilot phase of the Europe 2020 Project
Bond Initiative.
The Castor Project was constructed on the depleted Amposta oil reservoir located 21 km off the highly
industrialized eastern Mediterranean coasts, near Vinaroz, Spain. This offshore geological structure was composed
of karstified cretaceous limestone covered by miocene fine grained silt stones and clay providing an estimated 1.9
billion m3 of gas storage capacity, of which approximately one-third Cushion Gas2 and two-thirds Working Gas.
Figure 5 – Project Castor Underground Gas Storage Facility
Ignazio Pérez Plant

Platforms
Pipeline (~30 Km)
Wells
Gas stock -1,750m
Source: Escal UGS
The reservoir characteristics were unique because they were expected to permit a high rate of gas deliverability of
approximately 25 million m3 per day, which represented approximately 25% of Spain´s consumption. The
reservoir’s gas autonomy was sustainable for 50 days, and as such it was intended to help balance supply and
demand of natural gas in Spain, as well as serving as a strategic reserve.
In addition to the Castor Project, there were three underground natural gas storage facilities in Spain in place (since
1991, 1994 and 2012, respectively) with a total effective withdrawal capacity of around 12.5 million m3 per day
(source: Enagas). The Castor Project was expected to contribute for the storage of a further 1.3 billion m3, and to
add an additional withdrawal capacity of 25 million m3 per day. The Project was the first of this kind on the

Cushion Gas is the volume of gas needed as a permanent inventory to maintain adequate reservoir pressures and deliverability rates throughout the
withdrawal season.


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Spanish Mediterranean coasts and would increase the withdrawal capacity by 200% (source: National Energy
Commission (“CNE”) Gas and Electricity coverage report, April 2013).
3.1.2. Construction and authorization
The Castor Project consisted of two offshore platforms: a wellhead assembly capable of supporting thirteen wells,
and a processing, utilities and living platform. Those two platforms were linked to the onshore facilities by a 30
inch high pressure pipeline of 30 kilometres. The onshore facility (Ignazio Pérez plant) included compression,
processing and metering plants. Construction finished in July 2012, and required performance tests as well as the
injection of the Cushion gas started in the following months: construction was finished with minimum deviation
from the original plan, both in terms of timing and cost. Figure 6 shows the project’s construction plan (above) and
actual vs. planned construction completion (below): maximum deviation of the two never exceeded 2%.
Figure 6 – Project Castor Construction Plan vs. Actual

2009 2010 2011 2012
Wellhead Platform
Drilling
Processing Platform
Onshore Facilities
Subsea Pipeline
Facilities integration
Begin Gas Injection
100%
90%
80%
70%
Completion
60%
50%
40%
30%
20%
10%
0%
Plan Actual
Source: Own elaboration, Gaffney, Cline & Associates
In order for Escal to be entitled to the regulated economic scheme for the storage activity, the Ministry of Industry
and Energy had to grant the Administrative Start Up license for the facilities. The Administrative Start Up license
comprised two different milestones:
(i) the Administrative Provisional Start-up (“Puesta en Servicio Provisional”) which allows the injection of
the Cushion Gas (achieved July 5th 2012) and;
(ii) the Administrative Definitive Start-Up (“Puesta en Servicio Definitiva”), which requires extensive
performance tests and a definitive resolution of the Spanish authorities (expected to be obtained in
December 2013).


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After having obtained the Administrative Definitive Start-up license, the Project reaches operative completion and
will fit into the Spanish Gas System with its remuneration being paid by means of gas tariffs determined by the
Ministry of Industry and Energy, after the recommendation of the National Energy Commission (“CNE”).
3.1.3. Sponsors
At the time of construction, Escal UGS, S.L. main shareholders were ACS Servicios, Comunicaciones y Energia,
S.L. and Castor Limited Partnership (owned 73.7% by Dundee Energy Limited and 26.3% by private investors).
Dundee Energy Limited, a Canadian company listed on the Toronto Stock Exchange (“DEN”), was the initial
developer of the Project by carrying out geological and geophysical feasibility studies as well as exploratory
drilling. Subsequently, once feasibility was ascertained, Castor Limited Partnership entered into an agreement with
ACS for the development of the Project.
The ACS Servicios, Comunicaciones y Energia S.L. is a company active since 1981 in the development,
construction, maintenance and operation of energy and industrial infrastructures in various strategic sectors of the
economy. Besides the Castor Project, ACS has been particularly active in gas fields’ infrastructures in the state of
Coahuila (Mexico), expansion of regasification plant in Valencia (Spain), development of waste water reuse
treatment plant for industrial use in Altona (Australia).
Escal UGS, S.L. main shareholders agreed with Enagas, the company responsible for competition and security of
the Gas System in Spain, the following:
(i) Enagas will have to acquire half of ACS’s stake in Escal UGS, S.L. within 15 days from the Project’s
Start-up notification;
(ii) Castor Limited Partnership has a put option expiring 180 days after the Project’s Start-up, allowing it to
sell its stake in Escal UGS, S.L. to ACS and Enagas (equally split).
Accordingly, once the Project reaches its commercial operation, ACS and Enagas participation in the company may
vary between 33.33% (with Castor Limited Partnership as shareholder) or 50% equally split.

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Figure 7 – Escal UGS, S.L. Ownership Structure
Dundee Energy Private Investors ACS
Castor LP
73.7% 26.3% 66.7%
Escal UGS
33.3%
Castor LP does not exercise

the option to sell. Castor LP Enagas ACS
33.3%
Escal UGS
33.3% 33.3%
Castor LP exercises the

option to sell.
Enagas ACS
Escal UGS
50% 50%
Source: Project Cambre Underground Gas storage facility, Escal UGS.
3.2. Spanish Gas Market
3.2.1. Overview
At the time, the Spanish gas market was the sixth biggest market in Europe, after the UK, Germany, Italy, the
Netherlands and France (source: CEPSA). The natural gas industry in Spain experienced a rapid growth in the late
1990s and early 2000s, however had slowed with the recent economic downturn. At that time, demand for gas
came from non-power sector – i.e. residential and commercial heating – accounting 2/3 and power sector – i.e.
mainly electricity generation – for the remaining 1/3 (Figure 9). Since 2004-2005 the level of consumption for non
electric–power sector remained stable partly reflecting the general European situation where the sector reached a
level of maturity, changes in demands were mainly driven by the electric–power sector. Importantly, peaks in
demand from the non electric–power sector might coincide with those for electric power sector: if wind, solar and
hydro generation were low the gas market needed to be able to supply simultaneous peak demands in both the non
electric–power and the electric–power sectors.

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Figure 8 – Spanish Gas System (LHS) and Regional breakdown of Gas demand (RHS)
Source (LHS): Enagas: http://www.enagas.es/enagas/es/Gestion_Tecnica_Sistema/Infraestructuras_del_Sistema/PlanificacionObligatoria

Source (RHS): Dundee Energy: http://dundee-energy.com/Spain/Economic-Context/index.php
Enagas S.A., by virtue of Royal Decree-Law 6/2009, of 30 April, was the sole transmission system operator for the
primary gas transmission network, and the only entity authorized to build, operate, maintain LNG (Liquified
Natural gas) regasification facilities, and to transport and provide basic natural gas storage.
At the beginning of 2013, Enagas gas pipeline network (Figure 8, LHS) was 10,076 km long, composed of pipes
designed with maximum operating pressures between 72 and 80 bar. It also owned regasification facilities in
Barcelona, Huelva, Cartagena and El Musel, the international connections of Badajoz and Tuy (Portugal), Larrau
and Irun (France), Tarifa (Maghreb gas pipeline) and Almeria (Medgaz pipeline) and the underground storage
facilities of Gaviota, Serrablo and Yela.
As far as gas-demand was concerned, the geographical breakdown (Figure 8, RHS) was concentrated in 3 macro
areas: in the North, Cataluña (19%), Basque country (7%) and Castilla y León (7%); in the Center, Valencia
(15%), Madrid (12%); in the South, Andalucía (13%). Given its strategic positioning, Project Castor would been
able to promptly serve ~40% of the national demand.
Domestic production was marginal (1.742 GWh or 0.45% of Spanish gas demand in 2011) and came from three gas
fields close to depletion; the remaining was imported from 13 different countries (Figure 10). Diversification in gas
supplies, in addition to the development of gas storage facilities, contributed to the security of supply in the Gas
System because it acted as a hedge against a possible disruption of the gas supply from any one source due to
problems in infrastructure, geopolitical issues or other reasons. With this regard, once Project Castor achieves its
estimated available delivery rate of 25 million m3 per day, it would represent a strategic storage for industrial and
domestic customers, potentially able to compensate for a future supply shortfall for as long as 50 days. In
particular, the Project's anticipated working gas storage capacity of 1.3 billion m3 is intended to provide a strategic
reserve, available to meet seasonal and peak demands typically happening in the coldest months of the year.

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Figure 9 – Demand for natural gas in Spain (GWh)
500
450
400
350
300
250
200
150
100
50
0
2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
Power Generation Domestic & Industrial Consumption
Source: Spanish Energy Regulator’s National Report to the European Commission 2012
Figure 10 – Imported Gas in Spain (2011)
Peru Other Spain

Trinidad & Tobago Egypt
5% 3% 0%
7% 7% Algeria
38%
Norway
8%
Qatar
13%
Nigeria
19%
Source: Comision Nacional de Energia (CNE)
The Spanish Gas System was liberalized, enabling all end users to choose which natural gas supplier to use. Access
to the transmission grid was regulated and managed in a way that is intended to achieve transparency and avoid
discrimination in order to allow shippers to compete freely. The hydrocarbons law in 1998 had been the beginning
of the liberalization of the gas supply market in Spain. Since 1998 several players had entered the market, which in
2007 counted approximately 20 supply companies. Since the liberalization in 2008, natural gas in Spain could only
be provided through authorized companies, which paid tolls to the gas system for the use of the transmission
network: there existed a special regulated universal access segment that caps the maximum price of gas supply to
customers with annual consumption below 5MWh.


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The Spanish Gas System received natural gas from foreign producers either as LNG or through the international
high pressure pipeline. Transmission companies, which were authorized for the construction, operation and
maintenance of gas transportation facilities transported the gas either through primary network (high pressure >
60bar) or secondary networks (pressure < 60bar). In the case of LNG, regasification plants converted it into gas
before introducing into the System: each plant had two cryogenic storage tanks that were used both for operational
reasons and to modulate possible differences of supply and demand. In addition, there existed specific storage
facilities such as depleted oil reservoirs and gas fields, acquifers or salt cavern formations: these facilities were
crucial to compensate for interruptions in supply or seasonal peaks. The storage of gas also served as a safety stock
in cases of unforeseen interruption in the supply chain.
Distribution companies were responsible for the installation of final connection points and distributed gas through
medium and low pressure pipelines (< 16bar). Supply companies acquired gas in order to sell it to final customers
(or other supply companies) at freely agreed terms; they were required to maintain at least the equivalent of 20 days
of consumption as safety reserve. Consumers have the right to choose their suppliers (Figure 11).
Figure 11 – Spain Gas Market System
Regulated Activities Non-Regulated Activities
Transport Distribution Natural Gas Natural Gas Sale

Incorporation
Regasification Distribution Marketers Marketers
Storage Direct Market

Consumers
Transport Transporters
(for own
consumption)
Source: Prospectus Watercraft Capital, page 98
As principal transmission company, Enagas S.A. had been entrusted as Technical Manager of the Spanish gas
system by R.D. – Law 6/2000 and carried out the operation and technical management of the network, ensuring the
security of the system and the coordination of the infrastructure.
In the Spanish Gas System transportation, regasification, storage and distribution were regulated activities: in
particular, the construction, modification, operation and closure of natural gas distribution facilities was subject to
prior administrative authorization. Distribution companies were, likewise, subject to facilitate a non-discriminatory
third party access to their services. Supply of natural gas, conversely, was carried out under a free competition
regime, pursuant to that established in the Hydrocarbons Law. Supply may only be carried out by companies which
possess the corresponding prior administrative authorization and which must have their business activity dedicated
to gas supply, not being able to carry out any regasification, storage or distribution.

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3.2.2. The remuneration system
Under the Spanish Gas System, underground gas storage remuneration system was based on a regulatory
framework which linked remuneration to actual investment with a view to eliminating volume and counterparty
risk. In fact, the remunerations paid annually by the System equal the incomes collected through fees and tariffs:
each year, according to National Energy Commission’s (CNE) evaluation, a ministerial order determined the
remuneration for regulated activities. All payments between the participants were cleared by a settlement system
which mitigates counterparty risk: in case of a participant default, the settlement system covered the counterparty’s
loss by mean of higher regulated tariffs the following year .
Remuneration regime included three components: repayment of capital, return on investment and payment for
operating and maintenance expenses.
Repayment of capital was made through annual payments over the useful life of the asset (10 years for the facilities
and 20 for the cushion gas) amounting to yearly depreciation of the net investment asset value recognized by CNE
after final authorization, adjusted by a fixed revision rate of 2.5%. Once the useful life of the assets ended, the “cost
of extension of useful life” payment continued for the remaining period of the concession at a rate which was half
of the one paid in the last year of the useful life. Under previous authorization, a remuneration regime which
provided early cash flow may be set up for the period between concession granting and start-up of the facility.
Return on investment was based on the net investment multiplied by a remuneration rate (i.e. Spanish government’s
10Y Bond + 3.5%) set for the full useful life of the facility: similarly to repayment capital, after the end of the
useful life the rate halved for the remaining period of the concession.
Payment for operating and maintenance comprised both a fixed and a variable component and was designed to
cover actual operating and maintenance costs.
The three components were subject to periodical revision (every 4 years) by CNE under the provision of Article 9
of Order ITC/3995/2006 which stipulated that, if applicable, an update of the compensation could be contemplated
for the next period. Those reviews of compensation were designed to ensure that the owners of the facilities
received a nominal after-tax internal rate of return (IRR), for a useful life of 50 years after the commissioning of
the facility of at least 300 basis points over their reference average cost of financing (WACC), which was
calculated by the CNE. This return would be guaranteed even if the concession expires less than 50 years after the
commissioning of the facility, provided that Escal UGS applied for any appropriate extensions and the expiry
occurred for reasons not attributable to it.

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4. Project Bond Issuance
4.1. Watercraft Capital S.A.
The ~ €1.4bn refinancing project bond issued by Watercraft Capital (Figure 13 shows the sources and uses of funds
for the transaction) consisted of a Senior Secured Note with maturity December 2034. The Note key terms are
summarized in figure 12.
Figure 12 – Project Bond Key Terms
Issuer Watercraft Capital S.A.

Form Senior Secured Note
Size € 1.434 Bn (One tranche)
Leverage D/E = 4.36
Indicative Issue date End July 2013
Maturity Dec 2034
Principal Payment dates June, December from 2014
Interest Payment dates December from 2013
Coupon 5.756% (fixed)
DSCR 1.3x
DSRA 6 months
Minimum rating BBB/Baa2
EIB PBCE Min { €200 Mil ; 20% debt outstanding }
Source: Own elaboration, S&PCORRECT: Postsale Report:Watercraft Capital S.A.
The proceeds of the issuance were going to be used to repay the outstanding debt related to the initial financing,
prefund some of the expenses to be incurred until the project start-up and build up a Debt Service Reserve Account
(DSRA) for future senior debt servicing. Santander Global Banking & Markets would act as Global Coordinator,
whereas Bankia S.A., Caixa Bank S.A., Crédit Agricole Corporate and Investment Bank, Natixis, Société Générale,
and BNP Paribas would act as joint bookrunners.
Figure 13 – Watercraft Capital S.A., Sources & Uses
Sources € Mil % Uses € Mil %

Shareholders’ Equity 218 12% Total asset 1,503 85%
Provisional Remuneration 111 6% Transaction costs 48 3%
Estimated hedging cancelation 145 8%
Bond Issuance 1,434 82% Cash available (partial DSRA funding) 67 4%
Total 1,763 100% Total 1,763 100%
Source: Own elaboration, S&PCORRECT: Postsale Report:Watercraft Capital S.A. (Uses) and Project Cambre Underground Gas storage
facility, Escal UGS (Sources).

115-049-1
(n°13343)
The transaction was going to be structured as depicted in Figure 14. Watercraft Capital S.A. (a Special Purpose
vehicle established in Luxembourg) would issue bonds to investors and on-lend proceeds of bond issue to Escal
UGS, S.L. In this way, Watercraft Capital S.A.‘s primary asset is its rights under on-loan. Consequently,
Watercraft Capital S.A. repayment of principal and interests to its debt-holders would be made through the cash
flows generated by the underground gas storage facility.
The EIB was going to assume two different type of positions in the transaction:
(i) It would enhance the credit standing of Watercraft Capital by extending a Senior Letter of Credit
amounting 5% of outstanding Senior Bonds and the PBCE’s guarantee, which consisted of a second-lien
secured Letter of Credit amounting to the minimum of €200 mil. and 20% of bonds outstanding;
(ii) It would invest €300 mil. in the issued bonds.
Figure 14 –Watercraft Capital S.A.
€ 1.1 bn
On-loan Notes
Escal UGS, S.L. Watercraft Capital S.A. Investors
(Project Co, Spain) (Issuer, Luxembourg)
EIB
€ 1.4 bn € 1.4 bn
€ 300 mil.
Senior LoC, amount: PBCE: Second-lien secured LoC, amount:

5% of Senior Bonds min {€200 mil.; 20% bonds outstanding}
EIB
Source: Own elaboration, S&PCORRECT: Postsale Report:Watercraft Capital S.A.
In particular, the EIB support was expected to improve the credit rating by at least one notch over the BBB- Spain’s
country rating. Furthermore, the guarantee facility would:
(i) Ensure sufficient and timely cash to cover capital expenditures until project start-up date (final acceptance
of the asset by the authority) after all other forms of liquidity support or credit enhancement in the
transaction structure have been depleted;
(ii) Guarantee timely debt service during operations at times when operating cash flows were not sufficient to
cover debt service;
(iii) Make a mandatory partial redemption of senior debt during operations with a full one-time use of the
PBCE available if and when the senior DSCR was expected to be below 1.05x in the next debt service
payment date after using all available liquidity in the project, including the DSRA and the senior letter of
credit amounting to 5% of the outstanding bond granted at issuance;
(iv) Ensure timely debt service either before or after the project start-up due to technical events of default
triggering acceleration of the bonds and until termination payments are received by the guarantor.
Once drawn, the repayment of the PBCE's interests and principal would be made after senior debt service and after
refilling the debt service reserve account and paying any outstanding amounts under the letter of credit sized at 5%
of the outstanding bonds. If the amounts received by EIB on any scheduled payment date are insufficient to pay

115-049-1
(n°13343)
PBCE interest and/or principal, the shortfall will be added to the principal amount of the PBCE with accruing
interest.
4.2. Cash waterfall
The cash-flow waterfall was set up similarly to other examples of this type of project (source: Standard & Poors
and Watercraft Capital S.A.’s prospectus), in the following manner:
(i) Fees payable to the security trustees;
(ii) Fees and expenses incurred relating to paying agents, cash administrator and account bank;
(iii) Ongoing operating expenses, maintenance and replacement investment (other than those funded by a
Maintenance Reserve Account, MRA3), payment of taxes and levies and, in general, any expenses
necessary for Watercraft Capital S.A. current business;
(iv) Payments under Senior tranche of the on-loan agreement necessary to pay interest and fees on the bonds
(both on a scheduled and accelerated basis);
(v) Payments under Senior tranche of the on-loan agreement necessary to pay principal amounts outstanding
on the bonds (both on a scheduled and accelerated basis);
(vi) Funding/Usage of the MRA;
(vii) Funding/Usage of the DSRA;
(viii) Payments in respect of the PBCE 100% subordinated cash-sweep, to be applied in the following order:
a. Payments of fees, and accrued but unpaid interest on principal amounts, owing to the EIB
following a demand being made under the PBCE Letter of Credit;
b. Payments of principal amounts (representing capitalised interest) owing to the EIB following
a demand being made under the PBCE Letter of Credit; and
c. Payments of the remaining principal amounts owing to the EIB following a demand being
made under the PBCE Letter of Credit;
(ix) Payments to the Lock-Up account, whereupon amounts will be released and transferred to the Shareholder
Distribution Account if all Distribution Lock-Up Conditions have then been satisfied distribution
accounts.

3
For the purpose of the refinancing transaction, Escal UGS established a MRA. The account was to be financed from project start-up and
subsequently annually funded based on the amount received by Escal UGS under the final compensation scheme as remuneration for extraordinary
multiannual operating and maintenance costs.


115-049-1
(n°13343)
5. Risk factors and investment evaluation
When approaching this transaction for the first time, fixed income investors were left evaluating the risks linked to
the transactions. In particular, the following points appeared the most delicate.
Jurisdictional risk – Spain is a relatively friendly jurisdiction for secured creditors with established and
defined bankruptcy and insolvency laws. However, regulatory landscape changed importantly in the past
few years, negatively affecting the credit quality of existing concessionaries or projects benefiting from
regulated revenues. The uncertainty about future political stance in this subject poses some question marks
on investing in such a transaction.
Country risk – Financial advisors assessed Escal UGS, S.L. as being “highly” exposed to domestic
country risk. The assessment was based on the utility sector's "high" sensitivity to country risk and Escal's
asset and revenue full exposure to Spain.
Counterparties risk – Escal’s revenue counterparty is the Spanish gas system which recovers the full cost
of the system by means of tolls and charges determined by the granting authority and collected by system
players from their customers: gas marketers and direct consumers. This implies that, ultimately, the
revenue counterparties are the most creditworthy companies in the system.
Operations and maintenance risk – The same joint venture that undertook the construction also operates
the project's facilities under a joint and several agreement until 2038, beyond the final maturity of the
bond. Once fully operational, the underground gas storage facility should require ordinary maintenance
and supervision but no significant CAPEX is expected to occur during the concession period.
Furthermore, according to the remuneration scheme, Escal is protected from operating under-performance
(i.e. effective gas withdrawals lower than expected) for reasons other than substantial mismanagement or
violations.
Macroeconomic risk – Rising fiscal constraints and weak economic outlook represent an important issue
for Europe and Spain in particular. This environment further worsen the Country risk and Jurisdictional
risk above: a tough economic scenario for Spain would probably lead to a less favourable remuneration
regime for underground gas storage facilities.
Final authorization – Despite construction phase terminated in July 2012 without any significant time
delay nor budget breaking, the project is not operative yet. Final authorization is required for the project to
enter the remuneration scheme, but it will be obtained only after a positive resolution of the Spanish
authorities based on performance tests results. Additionally, only at that stage the government will
determine the investment cost on which the asset-based remuneration depends. Advisors assured that both
final authorization and investment cost recognition should be obtained on time and without any particular
surprise.
Business interruption (Force Majeure) – Regulation protects the project in case of a force majeure event,
Escal would be entitled to receive the fixed component of the remuneration (i.e. financial remuneration
and fixed O&M costs) thus servicing its debt.

Case Study 1 Watercraft Capital

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115-049-1

WATERCRAFT CAPITAL S.A.

Copyright © SDA Bocconi, Milan, Italy 2

Stefano Gatti, Andrea Florio

Watercraft Capital S.A.

An EU initiative to support project bonds, together

Copyright © SDA Bocconi, Milan, Italy 3

Figure 1 – Case chronology

Performance Gas cushion

Project Project Bond

Pre-Operation phase Operation phase

Source: Own elaboration, Prospectus of Watercraft Capital S.A.

2. 2020 Project Bond Initiative

Copyright © SDA Bocconi, Milan, Italy 4

Figure 2 – Project Finance Infrastructure in Europe(*)

Source: Infrastructure Journal

Copyright © SDA Bocconi, Milan, Italy 5

2.2. Project Bond Credit Enhancement (PBCE)

Figure 3 – Funded PBCE

Senior Debt Investors

Figure 4 – Unfunded PBCE

Senior Debt Investors

Copyright © SDA Bocconi, Milan, Italy 6

Copyright © SDA Bocconi, Milan, Italy 7

3. The Project and the Spanish Gas Market

3.1. Project Castor

3.1.1. The Project

Figure 5 – Project Castor Underground Gas Storage Facility

Ignazio Pérez Plant

Gas stock -1,750m

Source: Escal UGS

Copyright © SDA Bocconi, Milan, Italy 8

3.1.2. Construction and authorization

Figure 6 – Project Castor Construction Plan vs. Actual

Source: Own elaboration, Gaffney, Cline & Associates

Copyright © SDA Bocconi, Milan, Italy 9

Copyright © SDA Bocconi, Milan, Italy 10

Figure 7 – Escal UGS, S.L. Ownership Structure

Dundee Energy Private Investors ACS

Castor LP does not exercise

Castor LP exercises the

Source: Project Cambre Underground Gas storage facility, Escal UGS.

3.2. Spanish Gas Market

Copyright © SDA Bocconi, Milan, Italy 11

Source (LHS): Enagas: http://www.enagas.es/enagas/es/Gestion_Tecnica_Sistema/Infraestructuras_del_Sistema/PlanificacionObligatoria

Copyright © SDA Bocconi, Milan, Italy 12

Figure 9 – Demand for natural gas in Spain (GWh)

Power Generation Domestic & Industrial Consumption

Figure 10 – Imported Gas in Spain (2011)

Peru Other Spain

Source: Comision Nacional de Energia (CNE)

Copyright © SDA Bocconi, Milan, Italy 13

Figure 11 – Spain Gas Market System

Regulated Activities Non-Regulated Activities

Transport Distribution Natural Gas Natural Gas Sale

Regasification Distribution Marketers Marketers

Storage Direct Market

Source: Prospectus Watercraft Capital, page 98

Copyright © SDA Bocconi, Milan, Italy 14

3.2.2. The remuneration system

Copyright © SDA Bocconi, Milan, Italy 15

4. Project Bond Issuance

4.1. Watercraft Capital S.A.

Figure 12 – Project Bond Key Terms