Issuer: Fifa
Size: $260 million event risk bond
Arranger: CSFB
Date: September 30 2003
When - or should that be if - the 2006 World Cup kicks off in Germany, the world will be watching. The total television audience for the last tournament, staged in Japan and Korea in 2002, was a staggering 33 billion people, with around 2 billion tuning into the final at some point. The World Cup is arguably both the biggest sporting event and the biggest broadcasting event on the planet. So if it doesn't happen, it's not just the TV-viewing multitudes that are going to be disappointed.
Event risk is a big concern for world football's governing body, Fifa (Fédération Internationale de Football Association). It incurs a large chunk of the huge costs of staging a World Cup in the four-year interval between tournaments. So its two direct sources of revenue - sponsorship rights and TV rights - are largely pre-paid. If the games aren't played in full sponsors and broadcasters will want their money back.
Terrorism forces rethink
Until September 11 2001, the insurance markets could cover even such mammoth event risk. But soon after the terrorist attacks on New York, AXA announced it was terminating its insurance coverage of the 2002 World Cup. Although Fifa managed to get replacement cover from National Indemnity Company, higher post-9/11 premiums and the limited capacity of the insurance markets to cover event risk forced it to look for an alternative.
The result was the $260 million World Cup cancellation bond. Launched on the last day of September, it comprised four tranches with an expected maturity of three years. The largest tranche - $210 million of the total issued - priced at 150 basis points over Libor. The bond is rated A3 by Moody's.
Structured by sole lead manager and sole bookrunner CSFB, the bond is a real first.
Fifa has transferred event risk to the capital markets. It includes the risk of man-made catastrophes as well as natural disasters, although it does exclude some events, including world war or a boycott by players. Importantly, it does not exclude terrorism risk.
CSFB instructed international law firm Freshfields Bruckhaus Deringer. "We started with a blank sheet of paper - literally - to draft the contract and allocate the risk," says Freshfields lead partner David Trott. "For this bond, we used some CDO technology, and the contract is based on ISDA's swap architecture. But we really started with almost nothing."
Existing catastrophe bond technology cannot contribute much, because cat bonds use a predetermined level of disruption to determine whether a catastrophe has actually happened. For example, an earthquake must measure above a certain point on the Richter scale.
With the World Cup, Fifa's executive committee - and it only - retains the right to cancel the tournament. "It's their tournament, they are the governing body, and nobody can take that right away from them," says Trott.
The World Cup cancellation bond works like this. The investors pay their money on day one. That money is put into a bank account and set aside for three years. If the World Cup final is played, the bondholders get repaid in full. In the meantime, Fifa will have paid interest on the bonds.
However, if the tournament is cancelled, Fifa doesn't instantly get its hands on the cash in the bank account. It has to postpone the games for 12 months or relocate them.
"That's a key point in the analysis and one reason why this isn't as speculative an investment as people might think," says Trott. "Fifa can't try and claim the cash in the account until August 31 2007." After all, it only takes six stadiums to host a World Cup, and historically major sporting events have often gone ahead even when disaster strikes. The Munich Olympics is one example. And there are certain reasons that Fifa cannot use to cancel the event - for example if it cannot provide the necessary stadiums.
Risk Management Solutions examined the threat of terrorism and natural disasters. This was one of the first examples of terrorism risk being quantified for investment purposes.
If the World Cup is cancelled, a three-member determination committee will arbitrate between Fifa and the bondholders. One member would be appointed by Fifa, one by the bond trustees, and the Swiss Court of Arbitration would appoint one neutral member.
Steering clear of insurance
Although the bondholders get a reward for taking on risk, a key legal issue is the distinction between transferring risk to the capital markets and paying for insurance.
"Because Fifa is headquartered in Zurich, we got an informal view of whether this amounted to insurance from the Swiss regulator and backed it up with an opinion from a Swiss law firm," says Trott. "But if you tested the Swiss view in a non-Swiss court, there might well be public policy concerns that would override it."
Taking its lead from CSFB, which told the firm where it was going to approach potential investors, Freshfields had to check that under local law the underlying contract did not amount to insurance, and that buying the bonds didn't constitute reinsurance. The most important jurisdictions were Jersey, where the issuing SPV is located, and the US, Germany, France, Portugal, Bermuda, and Hong Kong, where the notes were most heavily marketed.
The irony is that, alongside funds that specialize in alternative risk transfer products, the biggest buyers of the World Cup cancellation bond are understood to have been insurance companies. It's attractive to them because, as with cat bonds, they can use the proceeds to match liabilities. It is built around event risk which insurers understand. But that begs the question: why not insure it?
