Andrew Griffiths from Lesotho Highlands Consultants spoke to Suzanne Moxon about the complex financing strategy which has been implemented for the Lesotho Highlands water project

One of the world’s largest civil engineering projects now under way, the £2B Lesotho Highlands water project (LHWP), will generate 72MW of hydroelectricity and transfer water from new reservoirs in Lesotho to South Africa. This is a major project in engineering terms, but complex financial structures are also at the heart of the scheme.

As Andrew Griffiths, project manager for Lesotho Highlands Consultants explains, arranging financing for the five-phase scheme was ‘an intricate process’ from the outset. In 1986, when South Africa and Lesotho signed a treaty to pave the way for the project, South Africa was a political outcast. But, Griffiths says, although it was recognised that raising financing was going to be difficult, the project authorities were always confident that it would be achieved.

To ensure that the benefits of LHWP would be well managed, the government of Lesotho invited the World Bank to be involved. The Bank would not only give the project credibility in the eyes of potential international financiers and contractors, but it would also give guidance on tendering and contract award procedures. Indeed the Bank played an active part in setting up the financing strategy for LHWP and also funded financial advisors.

One of the principle features of LHWP’s financing strategy was that full financing of the project was arranged before construction started. This was seen as a necessity to reassure potential lenders that phase 1A of the project would not be abandoned due to a lack of funding in the future. ‘However,’ Griffiths adds, ‘to my knowledge there were no worries on the part of the project authorities that the scheme would be abandoned.’ The World Bank’s commitment of US$110M, as well as its equal status with other lending banks in the trust security structure, further demonstrated the project’s viability to potential lenders.

Key considerations of the financing strategy for LHWP included maximising foreign finance for foreign currency commitments. In the Treaty between Lesotho and South Africa, South Africa is responsible for the costs of the parts of LHWP related to the transfer and delivery of water to South Africa. This comprises Katse dam, the transfer and delivery tunnels and their associated engineering, infrastructure and administration. Griffiths explains that when the financing was set South Africa, and the entire Common Monetary Area (South Africa, Swaziland and Lesotho), were faced with foreign exchange shortages that had led to a unilateral debt standstill.

‘This was why it was necessary to maximise foreign finance to ensure that the region’s balance of payments was not adversely affected,’ Griffiths said. ‘In fact the strategy went beyond just matching foreign costs with foreign finance, and encouraged increased foreign finance for local costs in order to assist the foreign currency reserves position.’ A wide range of agencies have provided finance for the scheme. Major players included the World Bank, the UK’s Commonwealth Development Corporation and the Development Bank of South Africa. For construction contracts which cover the Katse dam, transfer tunnel and the south delivery tunnel foreign financing was obtained through export credit facilities and commercial loans from: Dresdner and KfW/Hermes of Germany; Hill Samuel/ecgd of the UK; BNP/COFACE of France; and Credit Lyonnais/Sace of Italy. For the hydro power station, funding was provided though a European Union grant, a European Investment Bank loan, Swedish companies BITS and Svenska, the French government, BNP and the Overseas Development Administration of the UK.

Financing is closely monitored. Every six months a complete appraisal of the financing plan is carried out to ensure that the project remains fully funded at all times. To achieve this a report of the expected cash flow for completion of every LHWP contract is provided, giving details of the variances that have occurred as well as funding provisions for future contingencies and escalation. For the major construction and consulting engineering contracts this report is provided by the responsible consulting engineer. These reports are then consolidated in the financing plan to obtain long term financing costs until the debts are repaid, and the overall position is compared with the finance available.

On reflection, Griffiths believes that although the financing structure of LHWP is extremely complex it has worked ‘pretty well’, and he is keen to point out that payments to the contractors have been made on time. The systems have been in place for a number of years and it is now more a matter of making sure they are working effectively. ‘Of course there are glitches now and then,’ he said, ‘particularly if it becomes necessary to deal with a situation that has not been foreseen or catered for within the administration and control systems. However, these have been overcome with some careful thought, planning and co-operation.’