Botched Freeport deal to cost taxpayers €67 million

Malta's Freeport has been faced with an imminent bill of $58 million (€43 million) from UBS, after the global financial services firm pulled the plug on a currency swap transaction of €200 million the two parties entered into back in 2004.

It will probably be taxpayers' money that will have to front a total government subvention of €67 million to the Freeport - for the $58 million bill and a further $32 million that the government already guarantees on losses from the fluctuations between the dollar and the euro, accumulating since 2004.

The Malta Freeport is a government corporation that owns the land on which Malta Freeport Terminals, currently run by French-Turkish partnership CMA CGM-Yildirim, operates.

UBS's decision to terminate the swap transaction came just one month after the Freeport's new board of directors posted their 2012 financials, in which it was clear that they did not foresee the possible termination.

UBS have reportedly told Malta Freeport that due to EU demands asking banks to increase their capital reserves, they will be changing their strategic direction and no longer enter into so called "derivative transactions".

In 2004, Malta Freeport - whose annual accounts are booked in US dollars - took out a $250 million 'bullet loan' for the development of the freeport and purchase of machinery. The bullet loan meant that the Freeport had to pay 7.25% interest every year until its termination in 2028, and then pay the $250 million capital in one fell swoop in the last year.

Then public investments minister Austin Gatt had announced that the Freeport had entered into the swap transaction with UBS: under the terms, the Freeport would pay UBS €14 million every year while UBS would pay the Freeport the equivalent in dollar at $18 million, which in turn the Freeport would use to pay the interest on the bullet loan. Finally in 2028, the Freeport would pay UBS €200 million in return for $250 million, which would go towards the repayment of the original capital loaned.

By hedging against the US dollar, the Freeport was hoping it could make purported currency savings of €666,000 (Lm286,000) in annual interest payments.

But the fluctuations in the USD-euro exchange rate have been so unfavourable to the Freeport, that the corporation has since 2004 already lost $14 million on currency losses alone. The government already guarantees a total of $32 million on these interest losses.

Additionally, under the terms of the agreement between the Malta Freeport Corporation and UBS, both parties had the option to terminate this swap either in January 2014, or on January 2024 - something that UBS is now doing.

UBS have now advised Malta Freeport that following a change in strategic direction, and because of the onerous Basel 3 rules which recommend banks to hold against such derivative transactions, they will be terminating the swap - at a cost of $58 million for the Freeport.

The termination will mean that the Freeport will have to book the losses of $14 million it has accumulated since 2004 on exchange rate losses.

The government, which already pays the interest on the loan, itself guarantees an additional $32 million of these currency losses, which it will now have to pay to the Freeport. This brings the total losses on the currency rate swap to $90 million (€67 million).

An industry source who spoke to MaltaToday explained the situation for the Freeport: "The fluctuations in the dollar and euro exchange rates have been so violent that the Freeport lost $5.1 million in interest on the swap agreement in 2012, when the year before it actually made a gain of $8.4 million and another $21 million in 2010. This shows how volatile markets for foreign exchange swaps are. Now that the EU is telling banks to limit their exposure to these kinds of complex financial instruments, UBS have decided not to see the swap transaction to maturity in 2028."

The only alternative the Freeport has is to assign the swap transaction to a third party, but this must take place in agreement with UBS and might be difficult to achieve.