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Rail - Eurotunnel's fate hangs in the balance as the troubled Channel Tunnel operator opens talks with its banks over its huge debt mountain. Andrew Bolton reports.

Eurotunnel's chequered history as builder and operator of the Channel Tunnel reached another crunch point as NCEI went to press. Its chairman and chief executive Jacques Gounon was working on a plan to achieve the impossible - keep his shareholders happy while doing a deal with Eurotunnel's banks which are owed $11bn.

Without a deal, Eurotunnel will almost certainly fold after going into administration at the end of the year.

But even if a deal is struck, shareholders will have to face the fact that they will never recoup the whole of their investment in the Channel Tunnel.

At issue is whether Eurotunnel will agree to the banks' wish to swap its debts for new shares in the company. Eurotunnel shareholders are vehemently against such a move. They argue that this 'debt for equity' swap will dilute the value of the shares they bought when Eurotunnel floated on the London and Paris stock markets in the 1990s. Electing Gounon as their chairman and chief executive at last month's annual general meeting was a clear message of their viewpoint.

Some 67% of Eurotunnel shareholders are private investors who put their faith in the company, paying over $14 for shares whose value has now fallen below $0.36. In return they got the power to hire and fire the company's board, travel concessions and the possibility of earning a dividend.

Now, despite some tough talking from Gounon the banks are calling the tune. 'We will fight to avoid any dilution, ' he told the AGM. But shareholders will soon have to accept that he is fighting a losing battle.

Even Gounon agrees that Eurotunnel is unlikely ever to pay off its debt before the end of its 50 year concession.

Eurotunnel's problem is that the Channel Tunnel's operating profit is swallowed up by interest payments. Last year turnover amounted to $1bn, while operating profits were $307M.

But interest charges of $536M more than wiped these out, to leave an underlying loss of $228M, and made no inroad into repaying debt.

An analysis of the business presented to shareholders at last month's AGM showed that the Channel Tunnel would operate profitably if it had no debt. It also showed that the Tunnel is unlikely to produce the step change in profitability needed to restore the company's fortunes.

The underlying stability of the Eurotunnel business might help Gounon a little in his talks with the banks. Cost cutting measures and a restructured pricing mechanism are also expected to help, adding $112M to profits next year.

But Gounon is in a tight corner, not least because Eurotunnel's underlying profitability is something of an illusion. Next year, protection against revenue shortfalls built into the Channel Tunnel operating concession lapse.

Track access charges earned from Eurostar trains are currently protected as Eurotunnel is guaranteed a minimum sum per train. This guarantee falls away next year and is expected to knock $121M off Eurotunnel's $1bn turnover.

Another $49M a year is expected to be added to interest payments because an arrangement allowing Eurotunnel to convert unpaid interest payments into shares also comes to an end.

Gounon claims Eurotunnel could survive if its banks were to write off two thirds of the debt and argues that this is preferable to a debt for equity swap.

But sources close to the banks say this is unlikely to win favour and with the banks calling the shots they can take over the Channel Tunnel if they are unsatisfied with its financial position.

And anyway, they say, Eurotunnel would then have to spend the rest of its operating concession paying off the remaining $3.6bn or so of debt with little to pay dividends, leaving the shareholders in the same position as they are already.

Instead, the banks want to convert all of the debt into shares because even though this will push down the share price, it will allow Eurotunnel to operate profitably, giving some hope of a dividend payment.

In rofit, it is possible then that the banks will recoup some of the money they are owed, and any consequent increase in share price which would come with financial stability.

In the end, no one is expected to emerge from the debt negotiations as a real winner. The banks are unlikely to see all their money repaid, let alone the interest, even if debt is swapped for shares. And the shareholders are almost certain to lose out should the banks will force them to accept a debt for equity swap.

Regardless of Eurotunnel's fate, however, prospects for cross-Channel travellers are assured. The banks need to keep the tunnel open so that it can generate some profit and therefore return, albeit meagre, on the money they have lent. If nothing else these revenues will sweeten the pill for those with money invested in the project.

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