INTRODUCTION TO COMMODITY AND PROJECT FINANCE Course for Masters in Finance Program at New Economic School (Moscow, Russia

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July 2007 Course Objectives and Structure In the last two decades and a half, Commodity and Project Finance have dominated the area of private finance throughout emerging markets. Historically (starting from the early 1980s), this was mainly driven by the lack of alternative cost-efficient mechanisms available to commodity producers and traders and banks to manage the project risk. Recent innovations in asset-backed finance (starting from the late 1990s) did not undermine the importance of Commodity and Project Finance, but on the contrary, enhanced their integration and contributed to the evolution of new structured finance techniques. To motivate your interest, here are some preliminary definitions of Commodity Finance and Project Finance (we will refine them in the course). Commodity Finance is a financing mechanism whereby an inventory or flow of commodities is isolated from its owner and can be used as collateral for security and repayment. Project Finance is a financing mechanism, in which the project is separated from its sponsors and funding is based on the assumption that the project will generate a sufficient surplus cash to enable debt servicing and provide return to the sponsors and other investors. Despite some notable differences between Project Finance and Commodity Finance (if they are not evident to you yet, do not worry - there will be when you finish the course), there is some trend towards convergence, as projects today are increasingly being financed on the back of hybrid asset-backed structures, taking elements of both techniques (we will see a few cases of those). Classical Commodity Finance had started with financing short-term projects, while Project Finance has always been used for long-term projects. But today this difference is no longer valid, as innovative techniques pushed tenors in Commodity Finance well into the mid-term. Methodically, the course is build with the objective of giving students a good understanding of the basic principles and techniques used in Project and Commodity Finance, as well as more sophisticated cutting-edge tools, which they are most likely to encounter in practice. There will be blocks of theory/lectures to introduce the language, but most of the course value will come from the cases, which will give an opportunity to see how these principles work (or do not work) in practice. Students are expected to actively participate in the class discussions, come prepared, make case presentations, and contribute their own experience, when relevant. The course is divided into two parts. In the first part, we will introduce the institutional set-up (physical and paper commodity markets, and their interaction with financial markets), briefly discuss the promises and pitfalls of derivatives in risk management, and examine (through cases) a variety of commodity financing structures (with focus on structured finance, which should give students a competitive edge in the job market). In the second part of the course, we will discuss the issues of project evaluation and Project Finance. Our main objective in this part of the course will be to learn the practitioners’ language, and through cases, develop an intuition for how one can effectively mitigate the risks in financing large-scale investment projects.

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and project finance with top international banks and commodity firms. the students are expected to work in groups (3 to 5 per group). but not essential. Andrey is currently pursuing PhD at Insead and advising Russian and international companies on issues of corporate financial strategy and project financing. etc. During the course. this is not a course on Risk Management and Equity Valuation (although we will briefly discuss these issues in application to commodity business. we will develop what we need in class. For each case. One of the benefits of writing the reports (in addition to practicing what you have learned) is to develop valuable skills in writing investment proposals/investment memoranda. who has more than 10 years of experience in asset-backed. which students have developed in the earlier finance classes. case presentation and class participation (10%).Target Audience The course is relevant for those working or planning to work in commodity corporations or in banking (especially in structured commodity finance. with written reports required for only 4 cases (to make the workload manageable). Further guidance on case writing will be provided. we will discuss 8 to 10 cases in detail. We will interchangeably look at the financing issues from the perspectives of the borrowers and the lenders (you will get used to the idea that one is a mirror image of the other). Pre-requisites Corporate Finance and Capital Markets are in theory pre-requisites (but I would be flexible to admit those students who have not even completed the fundamental courses). We will extend the analysis. Please note. We may have one or two guest speakers from the industry. and Anglo American (FTSE-100 mining and metals conglomerate). Assignments & Assessments The final grade will be based on 4 case write-ups (40%). structured commodity. Format and Teaching Methods The course is practice-oriented. Familiarity with topics from Options & Futures would be helpful for some topics we will be discussing. and final exam (50%). In the past. Andrey worked for Westdeutsche Landesbank. project finance. to commodity markets and apply theory to real life cases. European Bank for Reconstruction and Development. these will not be the core of this course. Page 2 of 4 . Instructor The course will be taught by Andrey Petrichtche. we may move things around a little bit. and credit and risk management). and students with specific interest in those areas are urged to register for another course). Goldman Sachs. and present at least one case in class (allocation of cases will happen in the first week of the course). to accommodate them into our schedule (you will be notified of any changes in advance). submit a written report before the class in which the case is being discussed. If this happens.

which we will discuss in class.” (1999).” Woodhead Publishing Ltd. Chew. • John Macnamara (2001). “The Revolution in Corporate Finance. which will nicely complement our discussions in class.g. The Risk Management section has a collection of not too technical papers on the use and misuse of derivatives. This is a good introduction into structured commodity finance: instruments and terminology. Yescombe (2002). and any good book is likely to be out-ofdate even before it is published. Remember that the area is developing fast. with some classical examples (read them at leisure).Recommended Reading Unfortunately. • “Project Finance in Developing Countries. Commodity Markets columns in FT and The Wall Street Journal). For the first part of the course: • Ephraim Clark (2001). “International Commodity Trading: Physical and Derivative Markets. Stern and Donald H. Below is a list of recommended reading. there is no single textbook ideally suited for this course. IFC. book on commodity markets. who want to keep abreast of what is happening in the market today. This is a good introduction into commodity markets terminology. “Structured Trade and Commodity Finance: What Can Go Wrong and How to Avoid It. students.” Blackwell Publishing. which is advisable to read before the course. “Structured Commodity Finance: Techniques and Applications for Successful Financing Arrangements. This book gives practitioner’s guidance on some of the financing structures. are encouraged to read the business press regularly (e. • Emmanuelle Moors (2003). and quite recent. Therefore. Page 3 of 4 . “Commodities and Commodity Derivatives: Modelling and Pricing for Agriculturals. with some reference to IFC projects (we will see some of the IFC projects in our case studies).” Wiley.” Euromoney. Metals and Energy. • Hélyette Geman (2005). • Joel M. “Principles of Project Finance. This book is a very basic introduction into project finance.” John Wiley & Sons. Lecture notes will be distributed for each class (which will be sort of “dry residual”). This is a very good. Jr (2003)..” Yescombe Consulting This is a good reference book written by an expert (it has much more technical details than we will be able to cover in 4 classes). which I would strongly recommend to each of you who works in this area to have in your library as a reference. For the second part of the course: • E.

Fundamentals of commodity price risk management. Developing project financing plan. I. Case 4(b)* . trade finance. Structural credit enhancement. Case 2(a) . Project Finance structures.Gazprom Securitization (ABN-AMRO. Case 3* . securitization). Commodity Markets and Finance 2. Hybrid forms. Case 2(b) .. Page 4 of 4 .g. market structure (physical and paper markets). Introduction to commodity derivatives. 7. Project evaluation in commodity business (“sterilized” exercises in project cash flow modelling and real option valuation). margin accounts. Case 4(a)* . inventory finance.Petrozuata (HBS). Role of export credit agencies. market instruments.Financing the Mozal Project (HBS). Classical commodity finance (e. Case 5(b) .. Role of IFIs. Risk analysis in Project Finance. options & exotics. Hedging with commodity futures. Introduction to structured commodity finance (e.g. Case 6* .e.QatarGas Project (Thompson). 4. When there are two cases assigned for any session. ML. Course overview. 5. Case 5(a) .Risk Management at Apache (HBS).Project Dragon (Anglo American). Introduction to commodity markets: commodity exchanges. Managing political risk in Project Finance. Project Evaluation and Project Finance (with application to commodities) 4. contracts. 6. Case 1(a)* .American Barrick (HBS). MS). seasonal working capital finance). counter-trade.Summary of Course Schedule Note: Cases marked with a (*) require a written write-up/report.Turkmen Oil (EBRD). you may chose between those two). V. Case 1(b)* .Russian Gold Pre-Production Financing (EBRD). 3. Risk sharing and credit enhancement. you are expected to write only one report (i. even though for class discussion you are expected to prepare both.Oceania Pipeline Financing (Thompson).

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