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Project Financing

Building Infrastructure

Key Idea
Projects with different risks
are likely to possess differing debt
capacities with each project,
therefore necessitating a separate
financial structure.

Core Concepts
Projects with

different risks
are likely to possess

differing debt capacities


with each project, so need

separate financial structure

Key Attributes of Project Financing


Risks hedged to maximum possible extent
Projects debt capacity fully utilized
Financial obligations tailored to match
projects cash flows
Lenders have limited recourse

Overview
Criteria for success
Historical perspective
Overview of structured financing
Obligations

match projects cash flows


Participants exit sequentially

Criteria for Success

Size doesnt matter


Project financing works in many activities
Community of interest is crucial
Infrastructure is crucial

Distribution by Size
8

$1 billion or more
$500-999 million

20

$400-500 million

11
24

$300-400 million

47

$200-300 million

34

$150-200 million
$100-150 million

71

$80-100 million

41

$60-80 million

50
95

$40-60 million

Median size: $40 million


111

$20-40 million
under $20 million

284
0

50

100

150

200

250

300

Activities:
Project Financings Announced Jan. 1, 1981 through Dec. 31, 1995
Project Financings Announced Jan. 1, 1981 through Dec. 31, 1995
60

50
Oil & Gas Development
Cogeneration Power

40

Real Estate Development


Plant Construction

30

Renewable Fuels Power


R&D Partnerships
Mining

20

Independent Power
Miscellaneous

10

0
Project
Financings

Electric Power Production


100%

80%

60%

Smaller Corp
Fortune 500 Corp
Independent

40%

Solar

Geothermal

Hydro

0%

Cogeneration

20%

Communities of Interest
Cogeneration power production
example: Seadrift Plant
Host site

greater the productivity & less waste


backup power

Utility company

higher employment activity in its region


greater planning flexibility

Simplified resolution of financial distress

Communities of Interest
Communities of interest in manufacturing
example: BevPak
Economies of scale
Full utilization of capacity
Independence

from specific brands

Reduced liability exposure

Communities of Interest
Mining, oil and gas
example: Hibernia Field
Pooled risks
Growth opportunities

New deposits
Transmission
Refining

Stimulates regional economy

Communities of Interest
Research and Development
example: NaTec, Ltd. (Partnership of CRS
Sirrine & Industrial Resources, Inc.)
Pooled expertise
Reduced free-rider problem
Costs

shared among beneficiaries

More opportunities can be pursued

Nurturing the Community of Interest


The community of interest must be
adequately reflected in contracts
Participants must have reasonable
expectation that there will be continuity in
honoring government commitments

Nurturing the Community of Interest


Adequate supporting infrastructure must be
already in place
Or

provided within the community of interest

Nurturing the Community of Interest


Governments must be willing to allow
significant positive expected net present
value
necessary

to attract private sector participants

Stable Contracting Environment is Crucial


Expeditious enforcement of contracts
Continuity of government participation
as

new officials replace old ones


as power bases shift

Environment reasonably free of political


risks

Geodesic Networks
Project financing
involves network of
participants

Community of interest
Often global

Non-hierarchical,
web-like structure
No central node
Long history

Historical Examples
11th Century English mine
Medieval trading networks
Construction contractors in ancient Rome

Future Possibilities
Renewable Fuels Power
Geothermal
Ocean Thermal Layers
By-product

is fresh water

Tidal
Hydrogen Conversion

The Physical Value Chain From a Global Perspective:

Support Activities:
Technology Development
Human Resources
Development

Service
Distribution&
Marketing
Fabrication
Refining
Basic Extraction

Physical
Physical
Realm
Realm
Value
Value Added
Added at
at
Each
Each Step
Step

Virtual Value Chain & Information Operations


GATHER AND APPLY IN THE PHYSICAL REALM
STORE AND TRANSFORM IN THE INFORMATION REALM

APPLY
PRESENT
DISTRIBUTE
SYNTHESIZE
SELECT
ORGANIZE

Infosphere

GATHER

Background:
Structured Financing

Structured Financing:
Obligations Match Cash Flows
Debt capacity fully utilized

Loans staggered to match project timetable


Lines of credit provide debt support prior to full establishment of
project cash flows
Limited partners provide majority of equity
General partner provides small portion of equity

During early years, debt service consumes most of the


expected cash flow

Level of expected cash flow determines capacity for intermediateterm loans

Derivatives used to stabilize cash-flow match

Structured Financing:
Cash Flow Distribution
Early years:

Most of cash flows go to debt service


Little to limited partners
Small or none to general partner

Middle years (after debt substantially reduced):

Specified percentage to limited partners


Remainder to general partner

Late years (after debt paid & L.P.s receive specified


return):

Small or none to L.P.s


Most to G.P.

3rd Hurdle

2nd Hurdle

1st Hurdle

Amount

Who gets paid?


General
Partner

Limited
Partners
Lenders

Total Project Cash Flows

Political Risk
Expropriation
take

property outright
revise agreements

Blocked Funds

Exchange Risk
Lagged adjustments for inflation
Unrealistic official rates
Limits on removal of capital

Issues in Analyzing Foreign


Investments
Parent vs. Project Cash Flows
tax

regulations
exchange controls

Three-Stage Approach
subsidiarys

standpoint
parent company standpoint
add indirect benefits & costs

Southport Minerals, Inc.


Case Study

Questions

Is infrastructure provided?
Is there a viable community of interests?
How thoroughly are risks covered?
Is there profit potential for Southport
Minerals?

Which Approach?
Approach 1. Discount at Southport Minerals cost of
capital, ignoring the financial arrangements (zero
NPV)
Approach 2. Discount at a premium above Southport
Minerals cost of capital, ignoring the financial
arrangements (negative NPV)
Approach 3. Discount at Southport Indonesias cost of
capital, considering the financial arrangements
(expected NPV $58 million)
Approach 4. Discount dividends paid versus equity
invested at SIs cost of capital (expected NPV $10
million)

Outcome
Balance Sheet 1972-1987
Debt

Net Worth

$140

$ millions

$120
$100
$80
$60
$40
$20

1986

Debt
1987

1984

1985

1982

year

1983

1972
1973
1974
1975
1976
1977
1978
1979
1980
1981

$0

Outcome
Profit & Dividends 1972-1987
Profit

Dividend

$60

$40
$30
$20
$10

year

1987

1986

1985

1984

1983

1981

1982

1980

1979

1978

1976

1977

1975

1974

1973

$0
-$10

1972

$ millions

$50

Through the 1990s


1988: Freeport Copper & Gold (FCX) taken
public on the NYSE
1989: new project financing arranged for
Erstberg East deposit
1992, 1993, 1996, 2000: significant new
deposits of copper and gold discovered

Indonesia Today

The world's largest archipelago, Indonesia achieved independence from the


Netherlands in 1949
Current issues include:

Alleviating widespread poverty


Implementing IMF-mandated reforms of the banking sector
Effecting a transition to a popularly-elected government after four decades of
authoritarianism
Addressing charges of cronyism and corruption
Holding the military and police accountable for human rights violations
Resolving growing separatist pressures in Papua New Guinea

On 30 August 1999 a provincial referendum for independence was


overwhelmingly approved by the people of Timor

Concurrence followed by Indonesia's national legislature, and the name East Timor
was provisionally adopted
On 20 May 2002, East Timor was internationally recognized as an independent
state.

Visit Website
http://www.fcx.com/