Project Finance

Project Finance
 Definition: Method of:
 raising long-term financing
 for major projects based on
 lending against the future cash flow
 generated by the project alone.
 Traditionally:
◼ In Developed Countries:
 Public sector (large scale) projects are usually
financed by public sector debt.
 Private sector projects are financed by large
companies raising corporate loans.
◼ In Developing Countries:
 Projects are financed by govt. borrowing from
international banking market, WB, etc.
 Project Finance - History

 Public finance techniques first developed in 1930s by

Texas (USA) oilfields.
 Finance for Independent Power Produces (IPPs) for
electricity sector and public infrastructure developed in
UK in 1990s
 Finance for mobile telephone networks developed in late
1990s.
 Project Finance Features
The following are the common features of project
finance transactions.
1. Capital-intensive. Project financings tend to be:
◼ For large-scale projects
◼ that require a great deal of debt and equity capital, from
hundreds of millions to billions of dollars.
◼ Infrastructure projects tend to fill this category.
◼ A World Bank study found that the average size of
project financed infrastructure projects in developing
countries was $440 million.
 Project Finance Features
2. Highly leveraged. These transactions tend to be highly
leveraged with debt accounting for usually 65% to 80% of
capital.
3. Long term. The tenor for project financings can easily
reach 15 to 20 years.
4. Independent entity with a fixed life. Project financings
frequently rely
◼ On a newly established legal entity, known as the
project company,
◼ which has the sole purpose of executing the project and
which has a finite life “so it cannot outlive its original
purpose.”
◼ In many cases the clearly defined conclusion of the
project is the transfer of the project assets.
 Project Finance Features
5. Non-recourse or limited recourse financing.
◼ The project company is the borrower. Since these newly
formed entities do not have their own credit or operating
histories, lenders focus on the specific project’s cash flows.
That is, “the financing is not primarily dependent on the credit
support of the sponsors or the value of the physical assets
involved.”
◼ Therefore, the lenders will be concerned with the feasibility of
the project and its sensitivity to the impact of potentially
adverse factors. Lenders must work with engineers to
determine the technical and economic feasibility of the project.
◼ From the project sponsor’s perspective, the advantage of
project finance is that it represents a source of off-balance
sheet financing.
 Project Finance Features
6. Controlled dividend policy. To support a borrower:
◼ without a credit history
◼ in a highly-leveraged project with significant debt service
obligations, lenders demand:
 receiving cash flows from the project as they are generated.
 The project has a strictly controlled dividend policy
 There are exceptions because the dividends are
subordinated to the loan payments. The project’s income
goes to servicing the debt, covering operating expenses
and generating a return on the investors’ equity. This
arrangement is usually contractually binding.
◼ Thus, the reinvestment decision is removed from
management’s hands.
Project Finance Transactions Features
7. Many participants. These transactions frequently demand
the participation of numerous international participants. It
is not rare to find over ten parties playing major roles in
implementing the project.

8. Allocated risk. This allocation is achieved and codified in

the contractual arrangements between the project company
and the other participants. The goal of this process is to
match risks and corresponding returns to the parties most
capable of successfully managing them. For example, fixed-
price, turnkey contracts for construction which typically
include severe penalties for delays put the construction risk
on the contractor instead on the project company or
lenders.
Project Finance Transactions Features
9. Costly. Raising capital through project finance is
generally more costly than through typical corporate
finance avenues.
◼ The greater need for information, monitoring and
contractual agreements increases the transaction
costs.
◼ Margins for project financings also often include
premiums for country and political risks since so
many of the projects are in relatively high risk
countries. Or the cost of political risk insurance is
factored into overall costs.
 Comparison - Corporate and Project
Finance
Dimension Corporate Finance Project Finance
Financing vehicle Multipurpose Single purpose
organization entity
Type of capital Permanent - an Finite - time
indefinite time horizon matches
horizon for equity life of project

Dividend policy Corporate Fixed dividend

and reinvestment management policy immediate
decisions makes decisions payout; no
autonomous from reinvestment
investors and allowed
creditors
Capital investment Opaque (unclear) Transparent to
decisions to creditors creditors
 Comparison - Corporate and Project
Finance
Dimension Corporate Finance Project Finance
Financial structure Easily duplicated, Highly tailored
common form transactions that
cannot be duplicated
Transaction costs Low costs due to Relatively higher
for financing competition from costs due to
providers, routinized documentation and
mechanisms. longer gestation
period
Size of financing Flexible Might require bigger
loan volume to cover
high transaction cost
Basis for credit Financial health of Technical and
evaluation corporate entity; focus economic feasibility;
on balance sheet and focus on cash flow
cash flow and contractual
arrangements
 Comparison - Corporate and Project
Finance
Dimension Corporate Finance Project Finance
Cost of capital Relatively low Relatively high
Benefits & Disadvantages of Project Finance

 Benefits:
1. Risk limitation (SPV)
2. Enhanced credit
3. Off-balance sheet financing
4. Third party due diligence
5. Technology transfers

 Disadvantages:
1. Delays in achieving financial close (raising finance)
2. Greater oversight by lenders
3. Complex and lengthy documentation
 Terminology

 Build-Operate-Transfer (BOT):
◼ Host govt. grants right to private sector party to own and
operate a project for a determined length of time, often
up to 30 years.
◼ Private party develops, builds, operates and manages the
proiect for the duration.
◼ At the end of the contract term, the project is transferred
to the host govt.
 Build-Own-Operate (BOO)
◼ There is no transfer of the project at the end of the
concession period.
 Variations of BOT and BOO
◼ Build-and-Transfer (BT)
◼ Supply-Operate-Transfer (SOT)
◼ Build-Lease-Transfer (BLT)
 Terminology
 Full Recourse Financing:
◼ Sponsors are responsible for the repayment of the
project debt throughout the loan term.
 Non-Recourse Financing:
◼ Sponsor is not required to deliver any support to the
project other than deliver equity.
 Limited Recourse Financing:
◼ Added support to lender. Lender has access to
sponsors’ legal security to fulfill project’s debt
obligations. Support is specific to contingent equity,
performance bond drawn for a specific risk, etc.
 Phases of Project Development

 Development
◼ Project conceived
◼ Contracts signed
◼ Equity and project finance put in place – “Financial Close”
 Construction
◼ PF is draw-down
◼ Project is built
 Operation
◼ Project operates commercially
◼ Produces cash flow to debt service and return on equity
 Major Participants

1. Government
2. Project sponsors / owners
3. Project company
4. Contractor
5. Customer
6. Commercial banks
7. Advisors
 Major Participants
 Government. Role of Govt. is often most influential. It
might include:
◼ approval of the project,
◼ responsibility for operating and environmental
licenses,
◼ tax holidays policies,
◼ Inputs supply guarantees,
◼ industry regulations or policies, etc.
 Major Participants
 Project sponsors or owners.
◼ Generally project owners with an equity stake.
◼ A single company or a consortium may be the sponsors.
◼ Typical sponsors include:
 foreign multinationals,
 local companies,
 contractors,
 operators,
 suppliers etc.
◼ The project sponsors usually do not put their corporate
balance sheets directly at risk in these often high-risk projects.
◼ The World Bank estimates that the equity stake of sponsors is
typically about 30 percent of project costs.
 Major Participants
 Project company.
◼ The project company is a single-purpose entity created
for the purpose of executing the project.
◼ It is controlled by project sponsors, and is at the center
of the project for making contractual arrangements with
operators, contractors, suppliers and customers.
◼ Typically, the only source of income for the project
company is the tariff from the project. The amount of the
tariff is generally extensively detailed in the off-take
agreement. This agreement is the project company’s
sole means of servicing its debt.
 Major Participants
 Contractor.
◼ The contractor is responsible for constructing the
project to the technical specifications outlined in the
contract with the project company.
◼ These primary contractors will then sub-contract with
local firms for certain components of the construction.
◼ Contractors can also own stakes in projects. For
example, Asea Brown Boveri “created a fund, ABB
Funding Partners, to purchase stakes in projects where
ABB is a contractor.
 Major Participants
 Operator. Operators are responsible for maintaining the
quality of the project’s assets and operating the plants at
maximum efficiency. It is common for operators to also hold
an equity stake in a project. Depending on the technological
sophistication required to run the project, the operator might
be a multinational, a local company or a joint-venture.
 Supplier. The supplier provides the critical input to the
project. It can be a sponsor also. For a power plant, the
supplier would be the fuel supplier. In the case of a mine,
the supplier might be the government through a mining
concession
 Major Participants
 Customer. The goal for the project company is to engage
customers who are willing to sign long-term, offtake
agreements.
 Commercial banks. They are a primary source of funds for
project financings. Banks often form syndicates (A syndicate
is a venture capital fund created to make a single investment).
It is important for raising large amounts of capital required.
Commercial banks are not generally very comfortable with
taking long term project finance risk; they prefer financing
projects through the construction period. In addition, a project
might be better served by having commercial banks finance the
construction phase because banks have expertise in loan
monitoring on a monthly basis.
 Major Participants
 Investment Banks: A syndicate of banks might be
chosen from as wide a range of countries to discourage the
host government from taking action to expropriate or
otherwise interfere with the project.
 Role of Investment Banks

 Role:
1. Investment bank arranges and underwrites financing
but does not normally provide the financing itself.
2. Investment banks do due diligence on behalf of
investors in bonds. Bonds investors rely on
investment banks and rating agencies to do this
work.
3. Investment bank assists in structuring the project
finance.
4. Investment bank makes presentation to the credit
rating agencies for assignment of credit ratings.
 Role of Banks

 Role:
5. Documentation in conjunction with the bank’s lawyers.
6. Establish liaison between Sponsor’s Engineering department
and lender’s engineer
7. Financial modeling; jointly done between sponsor and
Financial Advisor, and Lead Manager.
8. Insurance company in liaison with insurance advisor
9. Market review by the bank about the product
10. Preparation of Information Memorandum
 Role of Banks

 Role:
11i. Syndication - A syndicate is a temporary professional
/financial services group formed to handle a large transaction that
would be hard for the entities involved to handle individually.
Syndication allows companies to pool their resources and share
risks. Under syndication there is a lead bank or syndicate agent
who looks after all the issues. Under Consortium all the banks
acts as a supervisor . Consortium is within a country's boundary
whereas under syndication institutions from different countries
pool there resources to provide for the required amount.
Project Finance
 Role of Banks As Agent

 Agency Operation:
◼ Once the financing documentation is signed, the LM acts as
“Agent” for the banks syndicate.
◼ Agent bank performs the following tasks
i. Collect funds from the syndicate when funds drawings are made
ii. Pass the funds on to the project company (PC)
iii. Hold project security on behalf of the lenders
iv. Calculate interest and principal payments
v. Receive payments from the Project Company and pass these on
to the lenders’ banks
vi. Gather information about progress of the project, and distribute it
to the individual banks.
vii. Monitor PC’s compliance with the financing requirements
viii.Arrange meetings and site visits
ix. Organize meetings of the syndicate banks if some amendments
are needed.
 Lead Manager (LM)

 Lead Manager – Scope of Work:

◼ When more than one banks are involved to underwrite
financing, one bank becomes LM.
◼ It will underwrite (guarantee) the debts and place it in the
market
◼ Fee is mostly based on successful conclusion of
financing
◼ There can be a small retainer
◼ Claims are made for out of pocket expenses
 Letter of Intent (LOI)

 Letter of Intent (LOI)

◼ Confirms bank’s basic interest in getting involved in the
project
◼ Provided by the bank to sponsors early in the project
development phase.
◼ Usually 1-2 pages long
◼ It is not a commitment
 Mandate Letter
 Mandate Letter
◼ Signed between the sponsors and the lead manager.

◼ Expresses bank’s intention to underwrite the required

debt, subject to :
 Due diligence,
 Credit clearance, and
 Agreement on detailed terms.
 Role of Banks – Term Sheet

 Terms Sheet and Underwriting:

◼ It is a basis for requesting financing bids from potential
investors
◼ It is structure for financing
◼ Prepared in summary form
◼ Final Term Sheet provides basis for LMs to complete their
credit proposals, and obtain their internal approvals
◼ LMs, after getting approval, “underwrite” the debt by signing the
Agreed Term Sheet
◼ Signing of Term Sheet is no more than moral obligation, and is
subject to Due Diligence.
◼ Banks normally withdraw from underwriting if there is a major
change of circumstances in the project.
 Climax Industries
Basic Term Sheet
Example

PROPOSED TERMS FOR CONVERTIBLE PROMISSORY NOTE

FINANCING
The following is a summary of the basic terms and conditions of
a proposed Convertible Promissory Note Financing of New
Company, a Pakistani corporation (the “Company”). This term
sheet is for discussion purposes only and is not binding on
Company or the Investors.
 Climax Industries
Basic Term Sheet
Example

 Financing Amount: Up to Rs. 70 Million principal

amount of promissory notes (Notes).
 Closings: The Company may close the sale of the
Notes with one or more purchasers of the Notes
acceptable to the Company and the Purchasers
(the “Investors”).
 Definitive Agreement: The Notes will be issued
pursuant to an agreement prepared by the
Company’s legal counsel and will contain
warranties of the Company and the Investors (the
“Note Purchase Agreement”).
 Climax Industries
Basic Term Sheet
Example

 Principal & Interest Payment: Principal and unpaid

accrued interest on the Notes will be due and
payable every 3rd month from the date of the Note
Purchase Agreement.

 Interest: Simple interest will accrue on an annual

basis at the rate of 8% per annum based on a 365
day year.
 Climax Industries
Basic Term Sheet
Example

 Conversion to Equity:
◼ Voluntary Conversion at the Maturity Date.
 On the Maturity Date, the Note Holders may elect to
convert the Notes into shares of the Company at a
conversion price equal to Rs. 20 per share.
 Any election to convert the Notes will be made in
writing and delivered to the Company at least five
days prior to the Maturity Date.
 Information Memorandum
 Information Memorandum:

◼ LMs prepare a package of information to facilitate

syndication process. It is also called “Information Sheet.”
◼ FIM provides the following information:
i. Summary review of the project
ii. Project company, its ownership, organization, and
management
iii. Financial and other information on sponsors and other
major project parties.
iv. Market situation for commercial based project
v. Technical description of the construction and operation
of the project
 Final Information Memorandum
 Information Memorandum (FIM):
vi. Summary of project contracts
vii. Project cost and financing plans
viii. Risk analysis
ix. Financial analysis, including financial model
x. Term sheet for financing

 Formal presentations are made to prospective participant

banks through “Road Shows.”
 Sample
Information Memorandum
Climax Industries, Inc.

Prepared by: HCC Business Advisors, Lahore

 This Memorandum is confidential, private, and its
distribution is restricted. It may not be
reproduced, or copied in any form without the
written authorization of HCC Business Advisors.
HCC Business Advisors have not made any
independent investigation, verification or audit of
any of the information contained in this
Memorandum. HCC Business Advisors give no
warranties regarding the accuracy or
completeness of the information contained herein.
 Information Memorandum- Example

 This Confidential Information Memorandum has been

prepared by HCC Business Advisors in order to
familiarize prospective buyers with the business and
operations of Climax Industries, Inc. (the “Company”).
The information contained herein is confidential. The
Company is primarily engaged in the business of
Sporting goods manufacturing.
 Information Memorandum- Example

 Summary review of the project:

◼ The project will be manufacturing athletic shoes
exclusively for export to North America, Malaysia,
Indonesia, Russian and China.
◼ It will be located in Sialkot.
◼ Sponsor of the project has extensive relevant
experience, and has been exporting this item as a
shareholder of another company.
◼ Skilled personnel are easily available in this area.
◼ The project will produce 500,000 shoes per year with
10% growth every year for the five years.
 Information Memorandum- Example

 Project Company, its ownership, organization, and

management:
◼ The Company is organized under the laws of Pakistan.
◼ It is structured as a Corporation.
◼ It has put together a team of competent professional to
manage the operation.
◼ The Company has engaged HCC Business Advisors, and
they are authorized to find lenders to finance 70% of the
project cost.
 Information Memorandum-Example
 Market situation for the project: The sporting goods industry is
expected to grow @ 3.4% over 2018-2022. The major drivers of the
sporting goods industry are:
◼ Growth in disposable income,
◼ Governments promoting sports activities and encouraging
sports participation,
◼ Rising number of health-conscious people.

 Asia and Rest of the World are experiencing growth in disposable

income and improving standard of living, such as India and China,
resulting in higher demand for sporting goods.
 Forecast of global sporting goods industry through 2020 includes
items such as Athletic Footwear, Sports Equipment, etc. North
America, Europe and Asia Pacific will also see this growth.
 Consequently, the company will get many opportunities to market it
sports products that include athletic shoes
 Information Memorandum- Example

 Technical description of the construction and

operation of the project:
◼ The detailed feasibility of the project has been
prepared by expert of international reputation, and
they are satisfied with its technical viability.
◼ For operation, a team of management, technical and
financial experts has been put together to ensure
efficient operation.
 Information Memorandum- Example

 Summary of project contracts:

The Company has already signed the following
contracts: with the following:
◼ Suppliers of the raw material,
◼ WAPDA for electricity connection
◼ Sui Northern Gas for gas connection.
◼ Transport company for transpiration of its
raw material as well as shipment of finished
goods.
◼ Construction constructor
◼ Memorandum of Understanding with
equipment supplier
 Information Memorandum -
Example
 Project Cost
 Project Financing Plan
 Projected Income Statement of the Project
 Repayment of interest and principal amounts of the Project
 Information Memorandum- Example

 Risk analysis:
◼ Construction Completion Risks:
 A highly experienced contractor will do
construction of the factory.
 He has credible track record of completing
projects on time.
 He is financially sound, has competent team, and
owns the required equipment.
 Information Memorandum - Example

 Risk analysis:
◼ Marketing risks:
 The Company has already signed sales agreements
with 5 companies in Malaysia and Indonesia.
 They will buy approximately 40% of the total athletic
shoes manufactured by the project.
 Meetings are in progress with potential buyers in
North America and prospects look positive.
◼ Financing Risks:
 The sponsor has held meetings with the Lead
Manager, Contractor and a few institutional investors
(State Life Insurance Company, EOBI, etc), and they
seem interested in investing in the project.
 Information Memorandum- Example

 For addition information contact:

◼ Saleem Akhtar, Chartered Accountant,
HCC Business Advisors Group
Canal Bank, Lahore
 Advisors - Financial

 Financial Advisors – Scope of Work:

1. Assist in preparation of financial plan and model

2. Advising a most favorable financial structure
3. Advising on sources of debt, and financing terms
4. Assist in negotiation of financing documentation
 Sources of Finance
 Sponsors or Developers –
◼ Equity. Long-term capital provided in exchange for
shares, ownership of the company. Equity holders take
risks (dividends are not paid if the company makes
losses), but in return share in profits.
◼ Lenders prefer sponsors having:
 Relevant experience
 Reasonable amount of equity invested in the project
 Interested in long-term success of the project
 Financial capacity if the project runs into financial difficulty
 53

Sources of Finance

 Equity investment funds from Private infrastructure funds:

These are another source of equity capital for project
financings.
◼ These funds raise capital from a limited number of large
institutional investors.
◼ Their advisory teams screen a large number of infrastructure
projects for potential investment opportunities.
◼ They typically take minority stakes in the infrastructure
projects in which they invest.
 54

Sources of Finance

 Equity investment funds from Private infrastructure funds:

Examples of these funds include:
◼ AIG Asian Infrastructure Fund: It invests in infrastructure,
telecommunications, power, transportation, and water
companies. Prefers to invests in Asian companies,
excluding Japan.
◼ Global Power Partners. (Investment Bankers to the global
Renewable Energy, Clean Technology and Environmental
Services Industries
◼ Scudder Latin America Infrastructure Fund etc.
 55

Sources of Finance

 Capital markets. Major investment banks , through the private

placement market, raise capital from institutional investors.
Capital markets are considered as the instrument of choice for
financing such transactions.
◼ Advantages:
 Can cheaper and quicker than arranging with a bank loan.
 Credit agreement is often less restrictive than that in a
bank loan.
 These financings might be for longer periods than
commercial bank lending;
 Can access wider pool of available capital and investors
such as pension funds.
 56

Sources of Finance

 Capital markets.
◼ The disadvantages of capital market financings include:
 the necessity of preparing a more extensive
disclosure document;
 capital market investors are less likely to assume
construction risk;
 different types of investors - not a club of banks;
unlike bank debt,
 57

Sources of Finance

 Multilateral agencies. Multilateral Institution (bank) is an

institution:
 created by a group of countries, that provides
financing and professional advising for the purpose
of development.
 have large memberships of developed donor countries
and developing borrower countries.
 finance projects in the form of long-term loans at market
rates, below market rates, and through grants.
 often act as lenders or co-financers for infrastructure
projects in developing countries. The additional benefit
they bring to projects is further assurance to lenders that
the local government and state companies will not
interfere detrimentally with the project.
 58

Sources of Finance

 Multilateral agencies include:

 The World Bank;
 Asian Development Bank;
 Islamic Development Bank ;
 European Investment Bank;
 Inter-American Development Bank ;
 European Bank for Reconstruction and Development
 Source of Finance

 Bilateral Institution and loans: Bilateral loans are funds

provided to a borrower by one lender. Bilateral loans are
agreements between one lender and one borrower, the lender risk
is higher. Some of the International Bilateral Institutions include:
◼ Agence Française de Développement (AFD)
◼ UK’s Department for International Development (DFID)
◼ German Development Bank (KfW)
◼ Japan International Cooperation Agency (JICA)
◼ USAID
 Source of Finance

 Export Credit Agency (ECA). Infrastructure projects in

developing countries often require imported equipment from
the developed countries. Contractors approach Export Credit
Agencies (ECAs) to support these projects.
 Generally, the ECA will provide:
◼ loan guarantee or
◼ funding to projects for an amount that does not exceed the
value of exports that the project will generate for the ECA’s
home country.
◼ ECA participation has increased rapidly. Recently ,
ECA involvement in project finance has risen from
practically zero to an estimated $10 billion a year.
 Bilateral Institutions

 Important ECAs:
◼ US Export Import Bank (Eximbank)
◼ Export Credit Guarantee Department of UK (ECGD)
◼ Japanese Bank for International Collaboration (JBIC)
◼ COFACE (France)
◼ KfW (Germany)
◼ Overseas Private Investment Corporation (OPIC), U.S.A.
◼ Commonwealth Development Corporation (CDC), UK
 Sample Structure
Sponsors / Arranging Bank
Shareholders

SINGLE PURPOSE
PROJECT COMPANY
Equipment Syndicate
Supplier Offtake (e.g, Banks
power purchase)
Agreement
Contractor
Other Project Participants:
Multilaterals and ECA’s
Fuel
Legal Counsels
suppliers Purchaser
Technical Consultants

Operator
Project Finance
 Project Development Process – Ceding
(Granting) Authority (Govt.)

 Defining the project

 Bidding Process - Stages:
1. Prequalification of Bidders
2. Request For Proposals from Bidders
3. Proposals - Types:
 Solicited Proposals
 Unsolicited Proposals
 Limited International Bidding
 National Competitive Bidding
 Project Development Process – Ceding
Authority (continuation)

 Bidding Process
1. Non-conforming Bids - rejected
2. Bid Evaluation
3. Communication with Bidders
4. Bid Group Team Changes
5. Bonding requirement
6. Compensation for Cancellation of Bid
 Issuance of Letter of Intent (LOI)
 Project Development Process – For Sponsor

1. Conducting technical feasibility

2. Determination of Project’s finance-ability
3. Selection of Country – suitable for investment or not!!
4. Taking the right local partner
5. Estimating time it will take to negotiate the project with various
parties
6. Setting up a Project Vehicle Company (PVC)
 Project Agreements

1. Implementation Agreement
2. EPC (Engineering, Procurement& Construction)
Contract
3. Operation and Maintenance Agreement
4. Input Supply Agreement
5. Off-take Agreement
6. Site Purchase or Lease Agreement
 Implementation Agreement (IA)

 Implementation Agreement is commonly found in

developing countries
 It is a contract between a Project Company and host govt.
 It provides support against political and financial
uncertainties in the host country.
 Lenders require it.
Implementation Agreement (IA) - continuation

 The following is provided in an IA:

◼ Fiscal incentives
 Exemption from income tax for specified period
 Tax exemption on importation of plant and
equipment prior to COD
 Exemption from stamp duty and registration fees
for legal documents
 Exemption from sales tax
◼ Guarantee of availability and transferability of
foreign exchange
◼ Assurance that project will not be confiscated
◼ Assistance in accelerating project implementation
◼ Acceptance of responsibility for political force
majeure
 Implementation Agreement (Sample)

 Sector: Energy

 Name of Agreement: Model Implementation

Agreement between
GoP and Reliable Power
Ltd.

 Type of Agreement: Implementation

Agreement
 Country: Pakistan

 Year of Agreement: 2017

 Prepared by: Tariq & Liaqat Law

Associates
 Implementation Agreement (Sample)

 Purpose:
◼ Agreement sets out terms on which Government to
provide incentives and assistance to the prospective
Project Company awarded the project to design,
construct and operate the energy facility and sell
energy to the state owned Utility.
 Implementation Agreement (IA)

 IA is commonly found in developing countries

 It is a contract between a PC and host govt.
 Provides support against political and financial
uncertainties in the host country.
 Lenders require it.
Implementation Agreement (IA) - continuation

 The following is provided in an IA:

◼ Fiscal incentives
 Exemption from income tax for specified period
 Tax exemption on importation of plant and
equipment prior to COD
 Exemption from stamp duty and registration fees
for legal documents
 Exemption from sales tax
◼ Guarantee of availability and transferability of
foreign exchange
◼ Assurance that project will not be confiscated
◼ Assistance in accelerating project implementation
◼ Acceptance of responsibility for political force
majeure
 Implementation Agreement (Sample)

Main Features:
(i) Project Company granted exclusive right to
develop the Project and sell energy to the
Utility.

(ii) Project Company to transfer Plant at the end of

the 20 years in fair operational condition.

(iii) Terms and duration of the Power Purchase

Agreement (PPA) are agreed
(iv) All obligations of Utility company (offteker)
have been performed under PPA.
(iv) Financial Closing to occur within 12 months of
the Effective Date.
 Implementation Agreement (Sample)

Main Features (continutation):

(v) Project company to deliver a Security Deposit to

Government.
(vi) Failure to achieve Financial Closing gives
Government right to terminate the Agreement. .
(vii) If failure to achieve Financial Closing is not due to
force majeure or non-fulfillment of Government of its
obligations, Security Deposit to be forfeited.
 Implementation Agreement (Sample)

 Government obligations:
(i) Ensure Governmental Approvals granted in a timely
manner, and are renewed;
(ii No Governmental Approval is revoked without Cause;
(iii) Make all reasonable efforts to expedite
consideration of Application for Governmental
Approvals;
(iv) Ensure Critical Consents are granted prior to date
scheduled for Financial Closing;
 Implementation Agreement (Sample)

 Government obligations (continutation):

(v) Procure guarantee by the Ministry prior to Financial
Closing in respect of payment and performance
obligations of Utility and Government.
(vi) Ensure no expropriation occurs of project assets;
(vii) Not interfere in construction, operation,
maintenance of Project in a manner that is adverse
to the Project.
 Implementation Agreement (Sample)

 Project Company Undertakings:

(i) To make and diligently pursue applications for
Governmental Approvals.
(ii) Design build, finance, insure, own operate
Project in accordance with applicable laws and
PPA and this Agreement.
(iii) Comply with laws regarding environmental
protection, health and safety.
(iv) Project Company to open bank accounts in
host country.
 Implementation Agreement (Sample)

 Project Company Undertakings (continuation):

(v) To make and diligently pursue applications for
Providing comprehensive warranties.
(vi) No assignment of assets other than to Lenders.
(vii) Change of control of Project Company requires
prior consent of the Government.
Implementation Agreement (Sample)

 Insurance:
◼ Well-drafted and clear. In the case of Total Loss
Lenders with right of election to have proceeds
applied to repair or replacement or not.

 Force Majeure:
◼ FM events divided into Political FM Events and
Other FM Events. Political FM Events are
extensive. Affected Party not liable for failure
or delay, and time limits and deadlines shall be
extended.
 Implementation Agreement (Sample)

 Termination of Agreement:
◼ (i) In the event of termination of Agreement,
Project Company has right to enter agreements
to sell to any persons on reasonable terms and
conditions.
◼ (ii) Liability – No liability other than for loss
for breach of this Agreement.
 Implementation Agreement (Sample)

 Dispute resolution:
◼ Resolution in good faith by parties.
◼ Technical Disputes to go to expert
determination (to be binding and final).
◼ Other disputes, or where expert fails to make a
determination, to Arbitration to a single
arbitrator.
 Engineering, Procurement and Construction
Contractor
(EPC Contractor)

 Three types of contracts exist in construction:

◼ Engineering
◼ Procurement
◼ Construction
 EPC contractor covers all the three phases, also
called “Turnkey Project.”
 EPC contractor accepts responsibility; for:
◼ A fully operational facility
◼ Agreed specifications
◼ By a certain date
◼ At a fixed price
 EPC Contractor

 A Turnkey project is typically 15-20% more

expensive
 It is the most important element in PF because:
◼ It is the largest single component of the capital
cost
◼ Quality of the design and construction of plant
will impact plant operation throughout its life.
◼ Completion of construction and commissioning
by a specific date, being fundamental condition,
is more feasible through a turnkey project.
◼ Lenders prefer a project with one-stop
responsibility for completing the project.
 EPC Contractor - continuation

 Features:
◼ Scope of contract – design with technical
specification, and performance criteria for the project.
◼ Commencement of Work: Begins after the financial
close. The PC issues “Notice to Proceed.”
◼ Owner’s Risk: The PC is responsible for:
 Making project site available
 Ensuring access to the site
 Obtaining construction and other permits
 Providing access to utilities needed for construction
 Providing fuel and other material for testing the
plant
 Ensuring third party contract are carried out
 EPC Contractor - continuation

 Features:
◼ Contract Price, Payments, and Variations:
Payments of the contract price are made in
stages.
 Initial deposit is made to EPC contractor
 Payments made against pre-agreed
milestones
 Lenders may make payments directly to the
EPC contractors
 EPC contractor cannot change the
arrangements of obtaining equipment or
services.
 EPC Contractor - continuation

 Features:
◼ Contract Price, Payments, and Variations:
 Payments of the contract price are made in
stages.
 EPC contract price is fixed.
 Exception are:
◼ PC changes design or performance
standards
◼ Change in law require additional cost
 EPC Contractor - continuation

 Features:
◼ Construction Supervision: An outside firm
is often employed as Owner’s Engineer to:
 Negotiate with EPC contractor
 Supervisor the EPC contractor
 Act as independent checker to certify that
the various stages of the works have been
properly completed
 Certify claims of payment
 EPC Contractor - continuation

 Features:
◼ Completion: Project completion is in several
stages:
 Mechanical completion: When the project is
ready for start up and testing.
 Initial acceptance (Commercial Operation Date,
known as COD): When the project meets the basic
requirements of EPC contract and is handed over
to the PC for operation.
 Financial acceptance: Resolution of “punch
list.” Lender is involved in it.
 EPC Contractor - continuation

 Features:
◼ Force Majeure:
◼ Liquidated damages (LDs):
 LD’s are fixed amounts agreed by both sides
to cover PC’s financial losses
◼ resulting from late completion, or
◼ project’s failure to perform.
 LDs are not intended as penalties but a fair
compensation for the losses suffered.
◼ Types of LDs:
 Delay LDs
 Performance LDs
 EPC Contractor - continuation

 Features:
◼ Suspension and Termination:
 Contractor can terminate contract and obtain
compensation if PC:
◼ Fails to pay due amounts
◼ Fails in any other fundamental way
◼ Security: EPC contractor provides PC
various types of security:
 Retention money
 Performance bond
 EPC Contractor - continuation

 Features:
◼ Dispute Resolution:
 An arbitration procedure is adopted in EPC
contract because court action could cause
delays. EPC keeps working even in the
presence of a dispute.
Project Finance
 Offtake Agreement (continuation)
 Provisions of Offtake Agreement:
◼ Capacity Charges
◼ Energy Price
◼ Other Charges
◼ Tariff indexation & Tariff adjustment
◼ Invoicing and payment procedure
◼ Dispute resolution mechanism
 Offtake Agreement - Variations

 Take-or-pay Agreement:
◼ The purchaser must take (purchase) the product or make
a payment to the Project Company. Purchaser is
obligated to pay even if he does not purchase the
product.
 Take-and-pay Agreement
◼ The offtaker only pays for the product taken.
 Offtake Agreement –
Force Majeure

 Force Majeure:
◼ Force Majeure event is something that affects ability
of one party to fulfill its contract,
◼ but which is not its fault,
◼ and could not have been foreseen by that party.
◼ Force Majeure event can be:
 Natural force majeure – acts of God
(earthquake)
 Political force majeure- martial law imposition
 Unforeseen ground conditions during
construction
 Delay in obtaining permits
 Embargo / blockage
 Strike at supplier’s plant.
 Offtake Agreement –
Force Majeure (continuation)

 Results of Force Majeure:

◼ A party subject to force majeure should not be penalized
for non performance
◼ If Force Majeur makes it permanently impossible to
perform, the contract is cancelled.
 Offtake Agreement –
Termination (continuation)

 Termination before Contract Expiry: It can take place before

its normal terms because of “Event of Default.” Event of
default may include:
◼ Project completion does not take place by an agreed
date.
◼ Failure to make project available for operation for
prolonged period.
◼ Operating performance cannot meet the minimum
required specifications.
◼ Nonpayment of penalties
◼ Bankruptcies of the PC
◼ Failure to adhere to other obligations agreed to
 Sample – Offtake Agreement
CONTRACT FOR THE SUPPLY OF CEMENT

Contract between Altaf Cement Ltd. (supplier) and Sky

Plaza Ltd (end user) for the supply of cement to 123
Main Gulberg Road, Lahore.

 Sky Plaza is the private limited company whose

registered office is at 15 Gulberg Road, Lahore,
hereinafter referred to as “ End User”

 Altaf Cement Ltd. , is a private limited company

whose registered office is at 65-Attock Road,
Islamabad, referred to as Supplier.
 Sample – Offtake Agreement

 Contract
 1.1. The supplier agrees to supply to the end user
and the end user agrees to purchase from the
supplier cement according to the specifications for
the period, at the price, and on the terms and
conditions set out below.
 1.2. For the purpose of maintaining control over
the necessary quality, the end user agrees neither
to purchase nor use cement from any other source
or supplier except where the supplier is unable to
provide deliveries or meet specification
requirements.
 Sample – Offtake Agreement

Cement specification
 2.1. Moisture content. The target moisture content
on a wet basis shall be 85% by weight, but in any
event shall not exceed 88%.

 2.2. The cement bag size shall be of standard size.

 Sample – Offtake Agreement

 Duration of contract
 3.1. This contract is for a period of 5 years, and will
commence on May 1, 2017 and end on April 30, 2022, (with a
formal review after the first six months of the contract). Any
adjustments need to be agreed jointly between the end user
and supplier. If the supplier or end user cannot agree or meet
adjustments, each party should be able to terminate after 3
months if it wishes to.
 3.2. This contract may be extended by agreement of both
parties not less than three months before the end of the
original contract period.
 3.3. In the event of either party failing to meet their
contractual obligations under this agreement the other party
has the right to terminate the contract at three months
notice.
 Sample – Offtake Agreement

 Quantity
 4.1. The minimum off-take during the defined
contract period will be 5,000 bags per month.
The end user is required to purchase cement
tariff specified in clause 5.1

 Price
 5.1. The price for cements bags will be Rs. 1,000
per bag delivered to the end user.
 5.2. The price of cement bags will be changed
yearly in accordance with the inflation rate.
 Sample – Offtake Agreement
 6. Delivery of Cement
 6.1. Cement bags will be delivered to the end user
at his warehouse.
 6.2. On the dispatch of any consignment, the
supplier shall send a Delivery Note and a Quality
Declaration to the end user by electronic mail. A
paper copy of the Delivery Note shall be provided
to the end user at the site(s) with the delivery of
each consignment.
 6.3. Responsibility for checking levels of cement
stocks and informing the supplier of the need for a
cement delivery rests with the supplier/end user.
 6.4. Unless otherwise agreed in advance with the
buyer, deliveries shall be made between the hours
of 4 – 6 p.m.
 Sample – Offtake Agreement
 6. Delivery of Cement
 6.5 If a delivery cannot be made within the hours specified, and
the whole or part of the delivery is not possible due to
obstructions on the end user’s site that are beyond the control
of the supplier, the supplier will be entitled to compensation to
cover the cost of transport and payment of an additional
surcharge of 5%.

 6.6 Upon delivery of cement to the end user, visual checks shall
be made by the end user to ensure conformity to the agreed
specification.

 6.7 If visual checks reveal that the cement does not conform to
the agreed specification the end user reserves the right to
reject the load in full.

 6.8 Upon transfer of ownership of the cement to the end user,

the end user becomes responsible for ensuring that the cement
is maintained within appropriate environmental parameters
 Sample – Offtake Agreement

 7. Sampling
 7.1. The end user may at any time send
representative samples of cement for evaluation,
analysis, testing and approval. All samples must
meet the specification. Such tests are to be at the
end user’s expense.
 Sample – Offtake Agreement

 8. Terms of payment
 8.1. The supplier will invoice the end user on a
monthly basis on the 5th day of each month
based upon the agreed tariff.
 8.2. Terms are monthly payment from date of
invoice.
 8.3. In the event that any payments are overdue
the supplier has the right to refuse to make
further supplies until all outstanding overdue
invoices have been settled.
 8.4. Interest shall be payable on amounts
overdue @ 1% per month.
 Sample – Offtake Agreement

 9. In the event of a dispute

 9.1. In the event of a dispute over delivery,
quality or other issues, both parties will seek
resolution by Dispute will be brought to the
notice in writing.
 9.2. Where a resolution has been agreed after
one or more meetings, this shall be
communicated in writing and noted by both
parties.
 9.3. Where a resolution cannot be agreed after
several attempts, the parties will attempt to
settle it an arbitration committee.
 Sample – Offtake Agreement
 10. Force Majeure
 10.1. A party shall not be in breach of this agreement if delay
or non-performance of any obligations under this agreement
arises from acts and beyond its reasonable control (Force
Majeure Event), including (a) Acts of God; (b) War/war
threat. (e) Compliance with any law; (f) fire, explosion; (h)
extreme adverse weather conditions; (i) Collapse of building
structures, failure of plant machinery, (j) any labour dispute.

 10.2. Any party that is subject to a Force Majeure Event shall

not be in breach of this agreement provided that: (a) it
promptly notifies the other parties in writing, and (b) it has
used all reasonable endeavours to mitigate the effect of the
Force Majeure

 10.3. If the Force Majeure Event prevails for a continuous

period of more than six months, any party may terminate this
agreement by giving 14 days' written notice to all the other
parties.
 Sample – Offtake Agreement

 11. Third party rights

 A person who is not a party to this agreement shall not
have any rights under or in connection with it.

 12. Governing law and jurisdiction

 12.1. This agreement and any dispute or claim arising
out of or in connection with it or its subject matter shall
be governed by the Pakistani laws.

 12.2. The parties irrevocably agree that the courts of

Pakistan shall have exclusive jurisdiction to settle any
dispute or claim that arises out of or in connection with
this agreement or its subject matter.
 Sample – Offtake Agreement

 Agreed this March 17, 2016

 Name……………… Position ………………………
 Sky Plaza <END USER>)

 Name……………… Position……………………….
 Altaf Cement Ltd. <SUPPLIER> )
 Operation & Maintenance Agreement (O & M
Agreement)
 O & M Agreement is awarded to a company that has expertise in
operating the relevangt plant.
 O & M agreement:
It ensures that:
◼ the project’s O & M costs stay within the budget
◼ Project operates as projected.
◼ Even if one of the sponsors operate the project, a separate O &
M agreement is necessary.
 Services under the contract:
◼ Planning: O & M contractor provides input in the design
of the project on operational issues.
◼ Mobilization: O & M contractor to take over the project
from the EPC (Engineering, Procurement and
Construction) contractor and move into operation
when the project has reached end of construction.
Operation and Maintenance Agreement (O &
M Agreement) - continuation

 Services under the contract:

◼ Operation: Responsibilities include:
 Securing operating permits
 Operating the project to industry standards
 Ordering and handling input supplies (raw
material etc.)
 Maintaining spares
 Keeping operating costs within budget
 Maintaining safety and health standards
 Scheduling and carrying out routine
inspections and maintenance
Operation and Maintenance Agreement (O &
M Agreement) - continuation

❑ Fee Basis: Fees may be:

◼ Fixed, or
◼ “cost plus” or
◼ A profit margin.
Fixed fees are normally indexed.
 Incentives and Penalties: The contractor is usually:
◼ paid a bonus if project operates at better than
agreed levels, and
◼ may suffer penalties, if below agreed levels.
 Finance Documents
 Steps:
◼ Sponsor approaches lenders when project
agreements are nearing completion.
◼ Copies of these agreements are delivered to the
lenders
◼ If lenders consider the sponsor creditworthy,
they do due diligence about project’s viability.
◼ Lenders make formal commitment, if due
diligence results are positive.
◼ Sponsor pays due diligence costs
 Finance Documents – Common Term Sheet
(CTS)

 Steps:
◼ Subsequent to due diligence, lenders negotiate with
sponsors a Common Term Sheet (CTS).
◼ CTS sets forth the basic terms and conditions of the
loans to be offered by various lenders.
◼ CTS provides for a certain period (normally 3 months) for
preparation and execution of the finance documents,
incorporating the contents of the CTS.
 Finance Documents
 Common Term Agreement (CTA): It contains terms and
conditions pertaining to “Disbursements and Repayments.”
 Drawdown: Projects are disbursed in various amounts at
various times during construction period. Lenders and PV
agree to a “drawdown mechanism” that requires
fulfillment of condition precedent (CP) structure.
 Repayments:
◼ Generally Interest during construction (IDC) is
capitalized.
◼ The PC may negotiate addition grace period after
project is commissioned.
◼ Repayments are usually made in semi-annual
installments
 Finance Documents

 Common Terms Agreement: It contains terms and

conditions pertaining to:
◼ Fees and Expenses: PV may be subject to paying
the following:
 Fees and expenses prior to first disbursement:
These fees are due to lenders and advisors.
 Fees payable throughout loan life:
◼ Commitment fee
◼ Monitoring fee
 Finance Documents
◼ Increased Costs: CTA will require the PV to pay increased costs
resulting from any law, treaty,etc. For example:
 Tax gross-up clause:
◼ If any tax amount is deducted from amounts paid to the
lenders, PC has to pay such additional amount to ensure
lender gets full payment.
◼ If lender gets tax refund, it has to be refunded to the PC.
 Market disruption clause:
◼ The PC remains obligated to pay additional costs that
lenders may incur as a result of money market disruption.
It happens if the lender is unable to obtain deposits in the
money market sufficient to maintain the loan, and does so
by paying additional costs.
 Finance Documents
 Break funding clause: It refers to the prepayment or
loan cancellation penalty
◼ Voluntary prepayments:
 Lenders do not like it because:
◼ Lenders want return from loans
◼ If loans are match-funded, lenders may not have
alternative option immediately available.
 PC may be allowed to prepay:
◼ At project completion stage after paying
administrative fees to the lenders
◼ If lender gives notice to the PC of any increase in
costs.
 Finance Documents
 Conditions Precedents (CPs): (A Condition is a fact that
must exist (or not exist) before another substantive provision
of a contract takes effect.) These are a checklist of documents
the lenders require as the basis for their disbursements.
◼ CPs to First Disbursement:
 Documentary CPs:
▪ Land lease agreement
▪ IA agreement
▪ EPC contract
▪ Offtake agreement
▪ Resource supply agreement
▪ Common Terms Agreement (CTA)
▪ Equity support agreement
 Finance Documents
◼ CPs to First Disbursement:
◼ Security documents:
▪ Take – or – pay agreement
▪ Pledge of shares
▪ Mortgage over the project site and all other
immovable assets
▪ Hypothecation (Hypothecation is used for creating
charge against the security of movable assets, but
here the possession of the security remains with the
borrower itself) of all movable assets of the
project.
◼ Legal opinion on the validity; and enforceability of
all project and finance documents
Project Finance
 Finance Documents – Coditions
Precedents
■ CPs to First Disbursement:
□ Non- Documentary CPs:
■ Requirement for sponsors to invest minimum
percentage of their equity commitment.
■ Payment of all fees and expenses due to the
lenders and their advisors.
■ Or, Agreement can be reached that these
fees will be paid out of the first
disbursement.
 Finance Documents – Condition
Precedents

■ CPs to Subsequent Disbursements:

□ Request for disbursement
□ Effectiveness of warranties on each
disbursement
□ No default
□ No material (significant) adverse change.
 Finance Documents - Covenants

□ Covnants are undertaking by the PC:

■ A covenant is a promise by a party to a contract to do
something or not to do something.
□ Positive Covenants:
■ Maintain its corporate existence,
■ Maintain the management structure as agreed between PC
and the lenders
■ Make all required filings
■ Construct, operate and maintain the project in accordance
with the project contract, law, and good industry practices
■ Obtain and maintain insurance
■ Supply financials
 Finance Documents - Covenants

□ Positive Covenants:
■ Supply periodic progress report on construction in
relation to milestones
■ Invest equity in agreed order
■ Achieve agreed debt:equity ratio
■ Provide budgets in advance
■ Ensure COD is achieved on agreed date
■ Apply all revenues in accordance with e cash flow
projections.
■ Notify the lender of any significant interruption in the
project operation.
 Finance Documents - Covenants
□ Negative Covenants (Do not do):
■ Undertake any business other than the project
■ Amend its constitutional documents
■ Merge with another company
■ Agree to any change in the project contracts
■ Use its cash balances to make any investment
■ Incur any additional debt
■ Incur any capital expenditure not agreed to by the
lenders
■ Incur operating costs not provided for in the agreed
budget
■ Sell, lease, or transfer any of its assets
■ Change its auditors or financial year.
 Project Risks, and Mitigation
(continuation)

□ Types of Risks:
■ Site acquisition – clear title before lender lends
■ Permits – construction permits, operating permits.
■ EPC contractor related risks:
□ Competence –
■ pre-qualification process helps,
■ relevant experience, and
■ in the specific country;
■ good working relationship with subcontractors, etc.
□ EPC contractor as a sponsor –
■ obvious conflict of interest;
■ arm’s length relationship with the PC required;
■ sponsors not involved should negotiate the contract;
■ EPC contractor should not be on the board of directors.
 Project Risks, and Mitigation
(continuation)

□ Types of Risks:
■ EPC contractor related risks:
□ Subcontracts the work –
■ control of the project weakens
□ Creditworthiness of the EPC contractor:
■ risks of nonpayment of LDs, warranty claims, etc.,
▪ can be mitigated by bank guarantees;
■ EPC contractor should be big in relation to the project
 Project Risks, and Mitigation
(continuation)

□ Risks of Construction Costs Overruns:

□ EPC contract costs: EPC contract costs are
fixed price; but are never 100% fixed price.
EPC contractor can make claims under:
■ Changes in project schedule
■ Site conditions – that require extra efforts
■ Insurance Premiums: Extra insurance cost
if the project is delayed
■ Change in law
■ Changes in contract specifications
 Project Risks, and Mitigation
(continuation)

□ Financial Risks: Include

■ Inflation:
□ Construction Phase:
■ Most of the costs in this phase are fixed.
□ Operation Phase:
■ If PC has long-term agreement on tariff under which
revenues are received, risk is reduced.
 Project Risks, and Mitigation
(continuation)

□ Financial Risks: Include

■ Inflation:
□ Interest Rates:
□ PC has no risk, if project financed with fixed rate loans.
□ Banks usually provide loans on floating rates.
□ Interest rates risks can be mitigated by:
■ Interest Rate Swaps: Under it one party exchanges
floating interest payment obligations with fixed rate.
Difference between the fixed rate and the floating rate is
paid by either swap provider.
 Project Risks, and Mitigation
(continuation)
Example

6 Months Interest Refix Period

Months-> 1 2 3 4 5 6
Principal Amt. 1,000 1,000 1,000 1,000 1,000 1,000
Variable interest 4% 5% 6% 7% 8% 9%
rate agreed by PC
Swap fixed rate 6% 6% 6% 6% 6% 6%
Interest on variable $20 $25 $30 $35 $40 $45
rates – 6 months
Interest on fixed $30 $30 $30 $30 $30 $30
swap rate
Plus (minus) PC (10) (5) 00 5 10 15

Swap company 10 5 00 (5) (10) (15)

position
 Project Risks, and Mitigation
(continuation)

□ Environmental Risks:
■ EPC contractor has to meet environmental standards;
□ there are risks from changes in law relating to
environmental aspects;
□ environmental impact report is usually a requirement to
reduce lenders concern.
□ Operation Risks: Key operation risks are:
■ New technology – concerns about long-term risks new
technology could involve.
■ Project availability for maintanence: Scheduled maintenance
may take longer than expected
■ Poor management can cause operating losses. O & M contractor
can lessen this risk.
 Project Risks, and Mitigation
(continuation)

□ Political Risks: They fall into three categories:

■ Investment Risks:
□ Expropriation of the project by the State: that is
without payment;
■ IA is the mitigant.
□ Political Violence:
■ Mitigation can be through insurance and IA.
□ Changes in employment, health and safety rules.
■ Mitigation can be that IA disallows passing
such laws, but it is rare
 Project Risks, and Mitigation
(continuation)

■ Change in Law: It can affect the project in many

ways:
□ Imposition of new environment requirements
□ Imposition or removal of price controls of PC’s
products
□ Changes in taxes and duties rates
Project Finance
 What is Corporate Credit Rating?

 Before you decide whether to invest into a debt

security of a company or foreign country, you must
determine whether the potential entity will be able
to meet its obligations.
 A Ratings Company provides independent,
objective assessments of the credit worthiness of
companies and countries.
 A Credit Ratings Company helps investors decide
how risky it is to invest money in a certain country
and/or security.
 Credit Rating

 Credit rating is a rating given to a particular

entity based on:
◼ the soundness provided in the financial statements of an
entity in terms of its past borrowing and lending.
 These ratings are published by various credit
rating agencies like:
◼ Standard & Poor's,
◼ Moody's Investors,
◼ Fitch, etc.
 The Raters
 Three top agencies deal in credit ratings:
◼ Moody's Investors Service
 Moody's Investors Service provides international
financial research on bonds issued by commercial
and government entities.
◼ Standard Poor's (S&P's)
 It is an American financial services company.
 It publishes financial research and analysis on stocks
and bonds.
 It issues credit ratings for the debt of companies, and
public borrowers such as governments and
governmental entities.
 The Raters
 Three top agencies deal in credit ratings:
◼ Fitch Ratings.
 Fitch Ratings is headquartered in:
 New York, and
 London.
◼ Fitch Ratings is the smallest of the "big three
 Standard & Poor’s Rating System

 Standard & Poor's use a system of letter sliding from the best
rating "AAA" to "D.“

◼ AAA : best quality borrowers, reliable and stable

without a foreseeable risk to future payments of
interest and principal
◼ AA : very strong borrowers; a bit higher risk than AAA
◼ A : upper medium grade; economic situation can affect
finance
◼ BBB : medium grade borrowers, which are satisfactory
at the moment
◼ BB : lower medium grade borrowers, more prone to
changes in the economy, somewhat speculative
◼ B : low grade, financial situation varies noticeably,
speculative
◼ CCC : poor quality, currently vulnerable and may
default
◼ NR: Not rated
 Moody’s

 Moody's ratings follows a different system

◼ Aaa: Obligations rated Aaa are judged to be of the
highest quality, with the "smallest degree of risk"
◼ Aa: Obligations rated Aa are judged to be of high quality
and are subject to very low credit risk, but "their
susceptibility to long-term risks appears somewhat
greater".
◼ A: Obligations rated A are considered upper-medium
grade and are subject to low credit risk, but that have
elements "present that suggest a weakness to impairment
over the long term".
 Moody’s

 Moody's ratings follows a different system

◼ Baa are subject to moderate credit risk. They are
considered medium-grade and as such "protective
elements may be lacking or may be characteristically
unreliable".
◼ Ba: Obligations rated Ba are judged to have "questionable
credit quality."
◼ B: Obligations rated B are considered speculative and are
subject to high credit risk, and have "generally poor
credit quality."
◼ Caa: Obligations rated Caa are judged to be of poor
standing and are subject to very high credit risk, and
have "extremely poor credit quality. Such banks may be
in default..."
◼ Ca: Obligations rated Ca are highly speculative and are
"usually in default on their deposit obligations".
◼ C: Obligations rated C are the lowest rated class of bonds
and are typically in default, and "potential recovery
values are low"
 Sovereign credit rating

 A sovereign credit rating signifies a country's

overall ability to provide a secure investment
environment. It is the first thing investors will look
at when deciding whether to invest money abroad.
This rating reflects factors such as:
◼ a country's economic status,
◼ levels of public and private investment flows,
◼ foreign direct investment,
◼ foreign currency reserves,
◼ political stability, etc.
 Pakistan Credit Rating Agency (PACRA)
 Based on a joint venture agreement in 1994, between
International Finance Corporation (IFC) , Fitch Ratings ,
and Lahore Stock Exchange, PACRA was created as
Pakistan’s first credit rating agency.
 PACRA fast gained a recognition for integrity of its
opinion. During the initial years, PACRA relied heavily
upon its technical partner, Fitch.
 Agreement with Fitch terminated after 2002.
 Today, PACRA is recognized as a national rating agency
by the Securities and Exchange Commission of Pakistan
and State Bank of Pakistan.
 In 2010, PACRA started providing technical collaboration
to National Credit Ratings in Bangladesh.
 PACRA Corporate Rating Methodology
 PACRA assesses credit quality by using:
◼ Qualitative Analysis and
◼ Quantitative Analysis.
 Qualitative Analysis:
◼ Industry Risk:
 PACRA determines a company’s rating within the context
of each company’s industry–
◼ whether industry is very competitive,
◼ is moving up or on decline,
◼ is it cyclical,
◼ New developments in the industry, etc.
◼ Operating Environment: Risks or opportunities resulting from
social, demographic, etc. changes. (islamic banking, cola drinks,
increased dieting culture, etc.)
 PACRA Corporate Rating Methodology
 Qualitative:
◼ Market Position:
 Company’s ability to withstand competitive pressure
 Share in the market
 Product dominance
 Ability to influence price
◼ Management:
 Management track record in promoting efficiency and
maintaining strong market position, etc.
 Risk tolerance
 Funding policies
 Mix of debt and equity
◼ Accounting:
 Proper maintenance of accounting records
 Accounting records correctly reflect company’s financial
performance.
 PACRA Corporate Rate Methodology

 Quantitative Factors:

◼ Cash Flow Focus – emphasis on cash flow

◼ Earnings and Cash Flow:
 Availability of funds to repay debt without external
funding is given special consideration.
◼ Financial Flexibility:
 Commitment to maintaining debt within a certain range
allows a company to deal with unexpected events.
◼ Risk Evaluation:
 Companies implementing a project of significant size is
evaluated in terms of risks associated with that project.
PACRA Corporate Rate Methodology

 Quantitative Factors:

◼ Earning Measures:
 EBIT
 Ratios – debt/equity, Debt and interest coverage ratios;
Gross margins, Return of equity, etc.