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Infrastructure Fund: Refinancing risks and the potential effect on IRR
Case studies

Infrastructure Fund: Refinancing risks and the potential effect on IRR

Background
  • Our client was purchasing an asset with a long dated, 35 years fixed revenue stream
  • As is typical for this type of project the debt funding is sourced for the construction period (in this case 10 years) and then converts to the investment term
  • To match the term of the interest rate exposure to that of the revenue stream, the debt is hedged via a 35 year interest rate swap
  • The financial sponsor intended to refinance at the 10 year point, likely into a 25 year fixed rate bond issue (GOC+Corporate Spread)
Our Approach
  • Evaluation of timing slippage on the refinancing, and repercussions for the targeted IRR
  • Detailed pricing analysis of the basis risk between swap spreads (which impacts the termination cost of the swap) versus the financing costs linked to a corporate bond spread
  • Risk of swap spreads moving down relative to corporate spreads and jeopardising refinancing assumptions feeding into a reduction in assumed IRR at the time of the initial financing
  • Ensure the swap rates (mid-rate and credit spreads) are managed appropriately
Benefits
  • Our client obtained “at-market” swap executions and minimized swap credit spreads, therefore reducing the potential termination cost that may arise at the 10 year refinance point
  • Our client is now able to manage the effect a potential movement in swap spreads could have on IRR at the time of refinancing
  • Our client’s IRR assumptions were fully supported by the market analysis we carried out and the risk evaluation appraisal of the refinancing point
 

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