backIn July 2015, Air Products of the US and ACWA Holding of Saudi Arabia achieved financial close of the largest project financing of an air separation unit (ASU) project anywhere in the world. The US$2 billion Jazan ASU project was one of the most important project financings of 2015 and ground breaking in a number of areas, not least because it was the first ever ASU to be financed exclusively on an Islamic finance basis.
JAZAN ECONOMIC CITY
The Jazan Economic City (JEC) is the home of the ASU project. The economic city is located on a 100 sq km site 60km northwest of Jazan city on the Red Sea coast. The industrial cities in Jubail and Yanbu have historically been the two major industrial power houses in the Kingdom of Saudi Arabia. These are world scale industrial cities which have been a magnate for domestic and international investment for many decades. With the drive towards mass employment and diversification of the economy, the government is now broadening the geographical spread of its industrial base. This has taken root in the form of Ras Al-Khair in the east (also known as the Mineral Industrial City), Waad Al-Shamal in the north close to the border with Jordan, various smaller industrial centres operated by Modon, the King Abdullah Economic City and now JEC. Of all of these, JEC is arguably the most interesting. The anchor investor is Saudi Aramco and with its multi-billion dollar investments, JEC is contributing towards the transformation of the Saudi economy.
The ASU project is a captive industrial gases plant providing feedstock to Saudi Aramcos 400,000 barrel a day oil refinery and a 4000 MW integrated gasification combined cycle power plant (IGCC). To provide an indication of the scale of the overall undertaking, the site of the refinery and IGCC covers some 16 sq km of land, seventy thousand people are expected to work on the site and the budget for the overall complex has been reported to range between US$8.5 billion and US$20 billion. This is a highly complex project, located in one of the most remote parts of the Arabian peninsula, close to the Yemen border.
The following diagram sets out a high level configuration of the complex.
UNDERSTANDING THE TECHNOLOGY
In the world of project finance, air separation unit projects are unusual. As far as the Middle East is concerned, there never previously had been a major project financing of an air separation unit. Previous project financings had been limited to the power, water, petrochemicals and metals sectors. In that regard, it was critical for the lenders to understand the project in order to allocate risk appropriately.
At the heart of the due diligence process was an understanding of the technical features of the IGCC and refinery and how they related to the ASU. The intention was to build an IGCC that was fully integrated with the refinery so as to optimize power, steam and hydrogen generation. The hydrogen, steam and electricity to be produced by the IGCC is intended to be used to support the operation of the refinery. The main feedstock to the IGCC is vacuum residue produced in the refinery plus imported high sulfur fuel oil. The objective was to gasify the two feeds to produce syngas. Once produced, the syngas is to be cooled, cleaned and forwarded to the gas turbines inside the power block to be combusted to generate power and steam.
The design feed capacity of the IGCC was expected to be about 110MBD of vacuum residue and/or heavy sulfur fuel oil with anticipated exports of approximately 2.4GW of net power to the national grid. The principle objective of the ASU was to produce gaseous oxygen (GOX) at distinct pressure levels for both the gasification unit and the IGCC sulfur recovery unit (SRU). In addition, the ASU was intended to generate gaseous nitrogen (GAN) at distinct pressure levels for the IGCC, refinery and marine terminal. Liquid oxygen (LOX) and liquid nitrogen (LIN) was also to be produced and stored to serve as a primary back-up for the ASU, and to provide additional gaseous oxygen and nitrogen for use during times of peak demand.
The ASU uses cryogenic technology. This is a process that takes large quantities of air from the atmosphere which are compressed, cooled and liquefied. The distillation process then separates the air into its major component parts. Impurities are removed, and oxygen and nitrogen are then made available to the refinery and power plant to be used as feedstock. Oxygen is used to feed the IGCC and nitrogen is used to feed both the IGCC and refinery. In a typical large scale air separation unit, there are multiple trains, not dissimilar in concept to process plants found in other industrial sectors.
The process is illustrated in the diagram below.
Reduced to its bare bones, the process can be split into two key categories. The warm end consisting of equipment required to clean and pressurize the air prior to processing; and the cold end or cold box consisting of the heat exchangers and distillation columns needed to separate the air into product streams and then purify those streams. The equipment at the cold end operate at low temperatures and are sealed in cold boxes.
THE COMMERCIAL STRUCTURE AND BANKABILITY
The key objective for Saudi Aramco was to outsource the construction and operation of the ASU to the private sector. This was achieved by means of adopting a build own operate (BOO) structure, whereby a group of private sector developers form a special purpose vehicle (ASUCo) that raises finance for the construction of the project and takes responsibility for construction activities, in accordance with an agreed timeline and specification, and the operation and maintenance of the project. The real challenge was to structure the project in such a way that the objectives of Saudi Aramco would be met, the investment would be attractive to private sector developers and the deal would be bankable for the domestic, regional and international financiers lending into the project.
This was achieved through an off-take agreement called the Nitrogen and Oxygen Supply Agreement (NOSA). Knowing that the success of the project was entirely dependent on the willingness of the banks to lend, Saudi Aramco took the decision to structure the NOSA in a way that bore significant similarities to a power purchase agreement (PPA), even though the sectors and technologies could not have been more different. This decision ultimately paid off as the familiarity with the PPA structure and the adoption of a risk allocation broadly typical of a PPA provided the lenders with the comfort that they needed to ensure that the major risks such as payment delays, termination and force majeure would be dealt with in a conventional and familiar way in the context of international project finance principles.
KEY ASU ISSUES
Although there were many similarities with an independent power project, there were some substantial differences. For example, the project company is required to provide net dependable capacity (NDC). This is conceptually similar to a power plant, although NDC in an industrial gases project is measured in tons per day. The ASU plant, therefore, must be capable of providing contracted capacity and deliver products at contracted capacity rates with an availability of not less than a certain percentage threshold. The products that the plant must be capable of providing must conform to a certain specification and pressure. An inability to deliver to specification or pressure would amount to an availability failure, even if the relevant quantity of product is capable of being delivered. Although the requirement to deliver according to specification is not a novel concept in the project finance world, the idea of a pressure requirement is not always seen. If Saudi Aramco draws more product than the plant is able to supply, the plant will continue to supply product, but at a declining pressure. This declining pressure will eventually lead to the IGCC tripping with serious consequences to the IGCC and refinery.
Because the ASU plant provides feedstock to the refinery and IGCC, the success of the refinery and IGCC is completely dependent on the performance of the ASU plant. Availability was therefore a major issue for the project and the key objective was to ensure that there were sufficient contractual mechanisms to guarantee that availability remains high. This was achieved in a number of different ways including creating the following disincentives for low availability:Risk
Penalty
Pressure Drops
If Saudi Aramco draws product from the ASU plant within the contracted capacity and ASUCo is not able to supply such product, there will be a drop in pressure (a Pressure Drop). This will contractually trigger a Pressure Drop penalty on ASUCo.
Back Up Inventories
To ensure ASUCos ability to make available the contracted capacity of each type of product, ASUCo must provide certain levels of dedicated back-up inventory. A failure to do so will trigger a penalty.
Minimum Replenishment Rate
If the back-up inventories are not replenished in accordance with a given rate, a penalty will be payable.
Consistent Availability Shortfalls
An availability shortfall can be triggered in one of many ways, for example, a Pressure Drop, product that does not conform to the relevant specification and shortfall quantities. Where these failures repeatedly occur, a termination right is triggered. The objective is not to terminate the NOSA, but create a disincentive for poor performance.
Conclusion
Being a first of its kind, there was significant complexity involved in negotiating the risk allocation. However, now that the deal has closed, the expectation is that it will serve as a precedent for future project financings of industrial gases projects in Saudi Arabia and the wider Middle East.
The question is whether the envelope will be pushed out further in the near future and the transaction used as a precedent not just for greenfield projects, but also brownfield projects. There are many industrial gases projects that have been procured on balance sheet through an EPC contract and that are currently operating. Conceptually, there are no fundamental reasons why these projects cannot be acquired by the private sector under a concession where the private sector finances any improvement or expansion works and provides industrial gases at a lower price. It is yet to be seen whether there is appetite in the market for this. However, with the current drive throughout the Middle East for economic reform and energy efficiency, such deals may begin to come to market in the not too distant future.