Covanta Holding Corporation (NYSE: CVA) (the "Company" or "Covanta") announced that it has entered into a strategic partnership with the Green Investment Group Limited ("GIG"), a subsidiary of Macquarie Group Limited ("Macquarie"), to develop, fund and own Energy-from-Waste ("EfW") projects in Ireland and the UK. The partnership will be structured as a 50:50 joint venture (the "JV"), creating a platform to develop and invest in the combined project pipelines of the partners, as well as to pursue new opportunities for EfW project development or acquisitions. As the initial step in the partnership, GIG will invest in Covanta's Dublin plant through the JV, with proceeds from this transaction fully funding Covanta's anticipated equity requirements for all of the advanced projects in the JV's combined UK pipeline.
Key Transaction Highlights
Sam Zell, Chairman of the Board, Covanta said: "We believe that there is significant opportunity in international markets, and particularly in the UK, for a sophisticated energy-from-waste operator. This partnership with GIG is an optimal channel for Covanta to pursue that opportunity, and it represents a monumental shift in the Company's growth trajectory. The inclusion of the Dublinproject in this transaction highlights value in the company's assets and strategy, and serves as a catalyst for accelerating growth in a more capital-efficient manner. As a significant Covanta shareholder, I'm pleased to see the company complement its secure dividend and steady cash flow with a new path for growth and additional value creation."
JV Structure and Development Plan
Covanta and GIG will jointly develop energy-from-waste projects, with initial focus in the UK and the potential to pursue opportunities in other international markets. As development projects reach financial close and move into the construction phase, the JV will acquire the available ownership in each project, with a premium payable to the original contributing partner. The 50:50 JV will be governed and controlled jointly. Existing project-level equity partnerships will remain unchanged. Covanta will serve as the operations and maintenance ("O&M") service provider for all JV projects.
Stephen Jones, President and CEO, Covanta said: "I am very excited about this strategic arrangement with a committed partner that brings substantial in-market expertise, relationships and resources, and has a tremendous track record of sourcing, developing and executing large-scale renewable infrastructure projects. GIG and Covanta have highly complementary skills, making this a powerful partnership to execute a robust combined pipeline of opportunities. Since I joined Covanta, one of my primary goals has been to drive successful international development and meaningful growth on a consistent and repeatable basis, and this partnership brings that goal to reality."
Edward Northam, Head of GIG in Europe, added: "We are delighted to have signed a partnership agreement with Covanta, a world-leading owner and operator of waste-to-energy facilities. The projects developed under the partnership will extract energy from residual waste that would otherwise be lost to landfill, avoiding harmful methane emissions. We are also pleased to announce GIG's first investment in the Republic of Ireland. Investing in Covanta's landmark Dublinproject is the first step in realizing the potential of the partnership. As it enters its first full year of operations in 2018, the state-of-the-art facility will help ensure Ireland continues to meet its landfill diversion targets."
On December 14, Covanta completed a comprehensive refinancing of the original capital structure of the Dublin project, significantly extending maturities and reducing cost. The project companies raised (i) a new €396 million senior loan due 2032 at a rate of 3.1% and (ii) a new €50 million second lien junior loan due 2032 at a rate of 5.2%. Proceeds from this debt issuance were used to repay all existing senior and junior debt and the 13.50% convertible preferred instrument held by Blackrock. The new debt remains non-recourse to Covanta and the JV.
As the initial step in the partnership, GIG will invest in the Dublin project, acquiring 50% ownership through the JV for €136 million, subject to working capital adjustments. The purchase price implies a total enterprise value for the project, including net project debt, of approximately €700 million, or a multiple of approximately 13x the forecasted full-year Adjusted EBITDA of the project company. This valuation reflects an attractive premium to the cost of development and construction, and represents the market price for a premier world class asset. This transaction enables Covanta to recycle most of its invested capital in the Dublin project for reinvestment in the UK pipeline, while retaining a 50% equity interest and its role as O&M service provider. GIG's investment is expected to close during the first quarter of 2018, subject to customary conditions and approvals.
Brad Helgeson, Chief Financial Officer, Covanta said: "This partnership offers an elegant solution for funding attractive growth opportunities in the UK in a capital-efficient manner, while simultaneously strengthening our balance sheet and dividend for the near and long-term. The realization of value from the Dublin project fully funds the entirety of our expanded UK development pipeline, and positions us to accelerate execution on our commitment to reduce leverage and grow cash flow."
JV Project Pipeline and Funding
Covanta and GIG intend to combine their respective UK development pipelines, each consisting of 3 projects, for joint development and eventual acquisition by the JV. In total, the 6 projects would provide 2 million tonnes of annual waste processing capacity, strategically located in attractive waste markets across the UK. Within the combined portfolio, 4 projects are well-advanced with planning approvals and contractual structures already in place. Details on GIG's projects are currently confidential for commercial reasons, but will be disclosed as they progress.
Pending permitting and project financing, all 4 of the advanced developments referenced above are positioned to move into construction in the next 24 months. Rookery remains the most advanced of these projects and is expected to break ground in the first half of 2018. Details on the specific timeline, costs, structure and financial contribution of each project will be provided as it reaches financial close and moves into construction.
The 4 advanced projects have a total estimated capital cost of $1.6 billion. After taking into account the expected levels of project financing and existing equity partners in the projects, total JV equity funding is estimated to be $300 to $400 million. Covanta expects that the proceeds realized from the Dublin transaction, together with the development premium anticipated to be received upon the acquisition of the Rookery project by the JV, will provide sufficient funding for the entirety of its share of the funding requirements for all 4 projects ($150 to $200 million).
Each project is expected to yield a low to mid-teens return on equity, and in addition Covanta will earn a profit as the contractual O&M service provider to each project. In total, the pipeline of advanced projects is projected to generate $40 to $50 million of annual cash flow to equity, which implies a cash multiple of 4 to 5x on invested equity.
In addition to the advanced projects described above, GIG is involved in two early stage projects that are expected to progress over the next 2-3 years. Going forward, the JV will explore and pursue additional opportunities for new project development and acquisitions in the UK and Ireland, as well as other attractive EfW markets globally, leveraging the combined capabilities of Covanta, GIG and Macquarie.
Accounting and Financial Metrics
As a 50% equity partner in the JV, Covanta expects to account for the results of the Dublin project under the equity method, with Covanta's proportional share of project net income reflected as equity in income on the income statement. The results of Covanta's wholly-owned O&M subsidiary will continue to be consolidated. The assets and liabilities of the Dublin project will be classified as held for sale as of December 31, 2017, and the project-level debt, which is already non-recourse to Covanta, will be deconsolidated upon completion of the transaction. Cash distributions to equity holders from the Dublin project will be reflected as dividends from unconsolidated investments on the statement of cash flows.
Key Non-GAAP Metrics
Covanta expects that the Adjusted EBITDA contribution from Dublin under the JV will be $30 to 35 million on an annualized basis, including the consolidated O&M results. When the Dublin project is accounted for under the equity method, Covanta's Adjusted EBITDA will reflect proportional (50%) Adjusted EBITDA of the project company.
Covanta expects that the Free Cash Flow contribution from Dublin under the JV will be $10 to $15 million on an annualized basis. When the Dublin project is accounted for under the equity method, Covanta's Free Cash Flow will reflect dividends received from the project through the JV, as well as the consolidated cash flow of the operating subsidiary. Project dividends will be paid after principal payments on project-level debt.
Initial Balance Sheet Impact
Following the contribution of the Dublin project to the JV and associated accounting changes, Covanta expects to realize a reduction in its consolidated net debt / Adjusted EBITDA ratio of approximately 1x as compared to the ratio as of September 30, 2017.
Overview of GIG and Macquarie
GIG is a specialist in green infrastructure principal investment, project delivery and the management of portfolio assets, and related services. Its track record, expertise and capability make it a global leader in green investment, dedicated to supporting the growth of the global green economy.
The business was launched initially by the UK Government in 2012 as the first institution of its type in the world. The organization was acquired by the diversified financial group Macquarie Group Limited in 2017, creating one of Europe's largest teams of dedicated green infrastructure investors, and now operates under the name Green Investment Group.
Macquarie is a diversified financial group providing clients with asset management and finance, banking, advisory and risk and capital solutions across debt, equity and commodities. Founded in 1969, Macquarie employs 13,966 people in 27 countries. At 30 September 2017, Macquarie had assets under management of £277.2 billion.
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