Adjust your expectations

In early November, Turkey bagged a long-coveted totem of international recognition: one of the major ratings agencies – Fitch Ratings – anointed the country investment grade material, becoming the first of the three major ratings agencies to do so.

“Fitch believes that the Turkish economy is on track to return to a sustainable growth rate, having narrowed the current account deficit and lowered inflation after overheating in 2011. The upgrade to investment grade reflects a combination of an easing in near-term macro-financial risks as the economy heads for a soft landing,” Fitch wrote in a statement.

There’s no point in underestimating the significance of this event: even though many investors and analysts already treated Turkey as quasi-investment grade material, Fitch’s official recognition will open the door to greater inflows of foreign capital.

If Standard & Poor’s (S&P) and Moody’s eventually follow suit, Turkey will be immediately included in benchmark investment grade bond indexes, paving the way for further capital inflows.

So Fitch’s upgrade is, needless to say, good news for all investors – including those interested in infrastructure. But that doesn’t mean international investors deciding to take the plunge into the Turkish infrastructure market will have it easy.


The allure of Turkey as an investment destination is easily quantifiable, especially for European investors. Turkey grew by 7.5 percent last year and is set to grow by 4 percent this year. In comparison, growth across the 27-member European Union (EU) is expected to flatline in 2012.

Turkey has a population of close to 75 million people, 50 percent of which are under 30 years old, with a growth rate of 1.01 percent per annum. While far more populous at 503 million people, the EU’s population is practically not growing, with an estimated increase of 0.21 percent projected for this year.

Public debt as a percentage of gross domestic product (GDP) stands at 42 percent in Turkey. Germany, with its aura of financial strength, has a debt-to-GDP ratio that is almost double Turkey’s at 80.5 percent.

Not everything is perfect, of course. Turkey’s inflation, at 10 percent, is still high and its current account deficit, at 10 percent of GDP, can also be considered relatively steep. But most of the country’s economic fundamentals are of the variety that many European nations would kill for.

This macro picture translates well when you drill down into particular infrastructure sectors.

Take the healthcare sector, for example, which the Turkish government is trying to modernise and expand via a public-private partnership (PPP) programme targeting the development of 37,100 new beds spread across 36 projects with a pre-feasibility cost of $5 billion. Turkey counts 29.9 beds per 10,000 people, while the EU offers 52.9 beds for the same number of inhabitants.

Or the motorways sector, which has seen numerous greenfield projects and where the government is entering the final stages of privatising some 2,000 kilometres of roads, including Istanbul’s Bosphorous and Fatih Sultan Mehmet bridges, for between $5 billion and $6 billion. Turkey’s motorisation rate stands at about 142 vehicles per 1,000 people compared with the EU average of 529 vehicles.

The message sent by these statistics is a strong one: here is a country with an infrastructure programme targeting sectors where there is an actual demand, plenty of growth potential and a visible upside. And to top it all off, it’s right on the cusp of bona fide investment grade status.


Still, there are problems with Turkey’s infrastructure programme, especially from a foreign investor perspective.

“My analysis of the Turkish PPP market is that Turkey has so far been able to rely on the domestic market – both for contractors and lenders – to fulfil its ambitions,” begins Hogan Lovells’ Andrew Briggs, a London-based partner for the law firm’s infrastructure project and public finance division.

“As a result, aspects of the risk allocation around topics like contract certainty or force majeure have fallen short of international standards. Some of the healthcare deals, for example, in their current form, would have a hard time being acceptable to international lenders,” Briggs adds.

A fellow lawyer, who asked to remain anonymous, agrees, pointing out that while Turkey’s healthcare programme has followed the lead of the UK’s Private Finance Initiative (PFI), Turkish contracts tend to diverge when it comes to things like insurance and cost-sharing provisions.

Then there are the issues that tend to beset maiden PPP programmes, such as lawsuits. At the time of writing, the healthcare programme’s biggest threat is not contractual tweaking, it’s the lawsuit originated by the Turkish Medical Association that has led to a Council of State injunction stopping two healthcare projects and effectively paralysing the rest of the programme.

This means the two hospital contracts which had already reached commercial close – the $315 million Kayseri City Hospital and the $987 million Etlik City Hospital, in Ankara – are unlikely to reach financial close before the legal challenge is resolved. The legal source pointed out the government is committed to the hospital programme and there is a draft law already in circulation aimed at addressing the issues raised in the injunction.

Turkey’s famed motorway privatisation package is another good example of the hand-wringing required in the Turkish market. While the package’s assets – toll roads with a long traffic history and proven resilience to other crises – are attractive to investors, the privatisation process suffered significant delays earlier this year, when bidders, lenders and the government squared off over some $800 million of required greenfield works.

Sources indicate the greenfield portion of the package has been significantly scaled back, giving one of the three consortia currently shortlisted a good chance of reaching financial close on the deal later this year or early next year.

When you combine these difficulties with the larger problem of the retrenchment in European bank lending, an unequivocal picture emerges: Turkish PPPs are having a hard time reaching financial close.

This applies to recent projects such as the Gebze-Izmir highway and Istanbul’s third Bosporus bridge, as well as deals that have been in the market for longer, like Istanbul’s Eurasia Tunnel project, a highway for light vehicles beneath the Bosphorus Strait.

This is forcing the Turkish government to come up with creative solutions such as granting VAT exemptions to companies involved in these projects as well as providing guarantees.


Difficulties aside, Turkey has much to offer in the PPP arena. According to a presentation from Türker Yöndem, a partner at the Yalti Yöndem law firm, there is a $65 billion pipeline of both greenfield and brownfield PPP projects to look forward to over the coming years.

But the size of Turkey’s infrastructure requirements only serves to highlight its most pressing challenge: how to attract the international funds it so badly needs at a time when foreign banks are ever more risk-averse and unwilling to lend long term?

“There is no shortage of appetite and pipeline when it comes to Turkey,” argues Hogan Lovells’ Briggs. “But the government needs to address some of the outstanding issues [for international investors]. To me, there is recognition within the Turkish market that Turkey needs the international community. The real issue for 2013 will be at what speed the government implements the necessary reforms,” he concludes.