SMART TASK-03

MODULE 3 – “REVENUE MODEL AND PROCESS FLOW

OF DIFFERENT VENTURES”

Question 1) How a new venture is assessed to qualify as project finance.

What are the factors that needed to be considered.

Answer :-

FACTORS TO BE ASSESSED TO QUALIFY AS PROJECT FINANCE

A new venture can be assessed to qualify as a project finance through the

process of “Due Diligence”.

In the project finance business, deal origination happens by the direct

relationship that relationship managers across different sectors enjoy in the
industry. Proposals are presented in the form of appraisal notes put up to
either the credit committee or a committee of senior management,
whichever is the appropriate sanctioning authority. Due diligence in project
finance involves thoroughly reviewing all proposals involved in a deal.

Due diligence in project finance is a process that consists of multiple steps

to ensure the most comprehensive analysis:

1. Assessment of promoter history and background

2. Evaluation of the company and project business model
3. Legal due diligence
4. Analysis of financial statements and structure
5. Determine major risks associated with the project
6. Analysis of tax effects
7. Credit analysis and evaluation of loan terms
8. Project valuation

While there are multiple steps when conducting due diligence in project
finance, there are four key processes that require significant evaluation.
Assessment of Promoter History and Background

An assessment of the promoters’ history is conducted to ensure the

commitment of promoters to the project. The main motive is to identify the
background and track record of the promoters sponsoring the project. The
following terms are assessed:

 Assessment of group companies – Involves in-depth study of

various companies promoted by the sponsor. Assessment of group
companies is necessary even in cases where no direct support from
companies to the project company exist. In case the group is facing a
severe financial crunch, the possibility of diversion of funds from the
project company cannot be ruled out. In such circumstances, the
lenders need to take adequate steps to ring-fence the project
revenues.
 Track record of sponsors – In case of any subsisting relationship
with the sponsor, the track record of the sponsors should be studied
in light of its relationship. The lender should identify the incidences of
default and analyze the causes for the same.
 Management profile of sponsor companies – Helps in assessing
the quality of management. Lenders are typically more comfortable
taking exposure in professionally managed companies.
 Study of shareholders agreement – Study of the shareholders
agreement should be done in order to get clarity on issues such as
voting rights of shareholders, representation on the board of
directors, veto rights (if any) of shareholders, clauses for protection of
minority interest, procedure for issuing shares of the company to the
public and the method of resolution of shareholders disputes.
 Management structure of project company – Study of
shareholders agreement helps in determining the management
structure of a project.

Evaluation of the Company and Project Business Model

An extensive evaluation of the business model assists the lenders in

assessing the financial viability of the project. Typically, a business model
is developed in consultation with financial and technical consultants. The
lenders need to undertake the following steps while accessing a business
model:

 Understanding the assumptions – major assumptions are involved

regarding revenues, operating expenses, capital expenditures and
other general assumptions like working capital and foreign exchange
 Assessment of assumptions – involves evaluating the various
assumptions and benchmarking the same with respect to the industry
estimates and various studies. Sometimes the lenders appoint an
independent business advisor to validate the assumptions made in
the business model.
 Analysis of project cost – One of the most important stages in due
diligence, as a substantial amount of capital expenditure is to be
incurred. The project cost is benchmarked to other similar projects
implemented in the industry. Also, there needs to be assurance that
appropriate contingency measures and foreign exchange fluctuation
measures have been incorporated into the estimated project cost.
 Sensitivity analysis – A business model involves many estimates
and assumptions. Some of these assumptions do not materialize in
view of changing business scenarios. Hence, it is important to
sensitize the business model to certain key parameters. The lenders
need to access financial viability of the project in light of sensitivity
analysis coupled with ratio analysis.
 Benchmarking with the industry – An analysis of the key ratios in
light of available industry benchmarks is useful in an overall
assessment of the business plan.

Legal Due Diligence

Legal due diligence is usually conducted using an independent legal

counsel appointed by the lenders. Legal due diligence consists of a few
steps:

 Determining the rights and liabilities of the different participants within

the project scope
 Analyzing the schedule and implementation plan of the project
 Evaluating the appropriateness of liquidated damages if the project
fails to deliver as promised
Analysis of Financial Statements and Structure

The following aspects need to be considered when assessing the financial

structure and statements:

 Debt equity ratio – A good project would ideally have a low debt-
equity ratio which helps in reducing the cost of the debt, thereby
increasing the net cash accruals. Higher net cash accruals enable the
company to build up sufficient cash reserves for principal repayment
and provide a cushion to the lenders.
 Principal repayment schedule – The lender endeavors to match the
principal repayment schedule with the cash flow projections while
leaving sufficient cushion in the cash flow projections. One way of
safeguarding lenders’ interests is to negotiate the creation of a
sinking fund for this purpose
 Sinking fund build-up – Build-up of a sinking fund or Debt Service
Reserve Account is usually established in order to safeguard the
lenders’ interests. Such a fund entails deposit of a certain amount in a
designated reserve account which is used towards debt servicing in
the event of a shortfall in any year/quarter of the debt repayment
period.
 Trust and retention mechanism – In projects, a trust and retention
mechanism is often incorporated in order to safeguard the lenders’
interest. The mechanism entails all revenues from the company to be
routed to a designated account. The proceeds thus credited to the
account are utilized towards payment of various dues in a predefined
order of priority. Generally, the following waterfall of payments is
established: statutory payments including tax payments, operating
expenditure payments, capital expenditure payments, debt servicing,
dividends and other restricted payments.
Question 2) Explain in detail the revenue model for Solar PV Project,
Residential Building and Manufacturing Unit.

Answer :-

BUSINESS MODEL OF SOLAR ENERGY PROJECT

Solar energy power plants (both utility and rooftop scale) have seen
tremendous amount of growth in last few years. With such growth in
conjunction with the country’s ambitious target of 100 GW, the market is to
achieve new heights. However, acting as a hitch to such target (from
consumer’s perspective) may be selecting the correct investment plan (or
more commonly business model) by which a consumer can get desired
return. Additionally the prices of solar power plant have seen a huge
downshift (Figure 1) due to various (positive and negative) reasons. Such
downshift of prices has led to a round of curiosity among the investors on
the profit margins from the system. With the advancement of technology it
is now possible to have various alterations (both technical and commercial)
in a solar power plant. A business model in simple terms may be defined as
a plan which would deliver a particular product or service and earn profits in
return. With reference to solar power plant a business model is the method
by which either revenue is generated by selling the generated energy or
savings are made by consuming the generated electricity. From a
consumers and/or investors prospective it is important that he chooses the
right business model to minimize his risks and maximizes his returns. This
article aims to educate its reader on the various types of business models
he could possibly choose from.
 Figure 1: Recent trends of Utility scale solar energy price (Source: Mercom
Capital Group)
Customer owned business model
As the name suggest, self owned business model are the ones which
require the consumer to invest themselves in the solar rooftop system.
They can be further sub categorized as follows:

 Gross metering: Metering is an important aspect for financial settlement in the

solar power plant. The number of units exported to and imported from the grid
is recorded in the meter. Gross metering (from the two types of known metering
arrangement models) uses two separate meters for recording the export and
import of energy (Figure 2). While connected to the grid, the energy is fed into
the grid at a tariff known as Feed in Tariff (FiT) and the consumer buys the
energy at his normal applicable tariff. Prevalent in the areas with good grid
reliability, this model would ensure a minimum (guaranteed) amount of return to
the consumer.
 Figure 2: A typical gross metering arrangement (Source: Google images)

 Net metering: The second type of metering arrangement is known as net

metering. Indirectly promoting captive consumption of energy, "net metering
uses the net difference between the export and import of energy measured by a
bi-directional net meter (Figure 3). This type of arrangement does away with the
need of storage as the energy (when needed say at night) is imported from the
grid. Such model is suitable for few categories of consumer whose tariffs are
higher then cost of generation from solar plant. Most utility/regulators tend to
limit the size of the power plant such that the annual energy generation is less
that the customer’s demand. Prevalent in the areas with good grid reliability,
this model would generate revenue through potential savings for consumer and
sale of excess energy to the utility (in few cases). An additional advantage to
the utility is that the financial settlement is done at a tariff much lower than the
FiT. From a customers view point, he would always consume more than his
generation capacity. This means that if he has his FiT lower than the utility tariff.

Figure 3: A typical net metering arrangement (Source: Google images)

 Let’s say a consumer’s consumption is 150 units (tariff of 10 Rs/kWh) and the
generation is 100 units (with FiT of 6 Rs/kWh). By using gross metering one
would pay the utility 900 Rs while by using net metering he would pay only 500
Rs. This means that a customer who is (almost always) consuming more than
his generation, he would always tend to pay more in gross metering if his FiT is
less than his tariff while compared to net metering where he would be paying
for the net import of energy.

Figure 4: Cost benefit analysis of gross and net metering

 Captive consumption (off grid route): Off grid captive consumption (Figure 5)
kind of power plants are set up where the consumer has almost poor or no
access to the grid. Such plants are set up with an intention to either consume or
store all the energy generated by the plant. This plant can replace the old age
Diesel Generator (DG) which could reduce both the cost and pollution however
it would require a storage source (battery) to be integrated with it for continuous
supply of energy. The only limitation of such system is that they (and the
storage) are designed to supply energy only for particular number of days.
Hence if there is no sun for a stretch, it may result in intermittent supply of
energy.
 Figure 5: Flow of energy in captive consumption (Source: Google images)

Third party owned business model

 Solar leasing: Leasing has been one of the most important tools for offsetting
risk. In solar leasing (primarily followed in USA) the rooftop owner leases a
rooftop system from a company. The rooftop owner pays a pre agreed rent for
such system while using the energy generated from the rooftop system. This
would reduce his dependence on grid and reduce his overall energy usage
cost. An added advantage is that both the company and the end customer are
free to choose different party once the lease period is over. Both the parties
here get a fixed amount of savings over the same asset.
 Solar Power Purchase Agreement (PPA) or Renewable Energy Service
Company (RESCO) model: The most commonly known model in solar industry
is the Solar PPA or RESCO model. In this model, the developer constructs the
power plant and sells the generated energy to the end consumer. The end
consumer simply pays for the energy usage without worrying about the
technical and financial aspects of the plant as per the PPA. Such model is
prevalent in government bodies where their rooftop can be utilized to generate
solar energy. The developer on the other hand, does not have to land
acquisition based problems but directly install the solar system.

Community shared business model

While the first two types of business model have dominated the market,
community shared business model have been emerging in small urban
centers and rural areas. Here the generated energy (from various sources)
is utilized by the entire community as per their energy needs. They can be
connected to the grid or completely disconnected from the grid based on
grid availability. The customer themselves or third party investor coupled
with subsidy from the state and/or central government is generally used to
set up such communities. The energy mix from various power plants can
be used by all the consumers. Such community may be connected to the
grid and hence could utilize the grid power when power deficit. Such plant
may also be off grid mandating the usage of storage technology. A
variation to such model is also possible when instead of centralized
generation each house has a distributed generation. In such cases few
houses, if have increased power requirement can obtain excess energy
from other houses which has low power demand. The house supplying
power can be paid for this extra energy while maintaining the balance in the
grid. Such innovative and disruptive business models are in place and
more variations of such models may be added in near future. Additionally
they would enable rural electrification along with improved quality of power
at a cheaper cost (when compared to the primitive methods of generation).

Figure 6: Micro-gird (on left) and a Mini-grid (on right)

Question 3) What should be the additional points that needed to be
included in a financial model, if the financing bank is from abroad and the
debt is in US$ but revenue is in INR.

Answer :-

ROLE OF FORIEGN INVESTMENT IN FINANCING A PROJECT IN INDIA

The government has fully liberalised investments in the infrastructure

sector and allows FDI via the automatic route (that is, 100%, with the
exception of the telecommunications sector where government approval is
required for FDI beyond 49%).
Further, to encourage private participation in the development of
infrastructural facilities, the Government of India has implemented the
viability gap funding (VGF) scheme, which reduces the capital costs and
makes the project more viable and attractive for all stakeholders.
Additionally, other tax incentives available to all infrastructure related
projects, whether domestic or through FDIs, include profit-linked incentives,
such as a ten-year tax holiday on infrastructure undertakings (though the
ten-year tax holiday incentive is not available for enterprises which start the
development or operation and maintenance of the infrastructure facility on
or after the 1 April 2017). However, government has introduced deduction
in respect of any capital expenditure for projects that commence on or after
1 April 2017. Further, certain state governments have provided tax
incentives including:
 Electricity duty exemptions.
 Rebates in tariffs for electricity, water or gas.
 Subsidies on clean manufacturing technology, pollution control and so
on.
Further, the Securities and Exchange Board of India has allowed foreign
portfolio investors (FPIs) to invest in units of real estate investment trusts,
infrastructure investment trusts, category III alternative investment funds.
FPIs can also invest in unlisted debt securities of companies engaged in
the infrastructure sector.

India is a signatory to bilateral investment promotion and protection

agreements (BIPA) and also provides special incentives to specific
projects, which include investment protection and tax incentives. For
example, the India-Singapore Comprehensive Economic Co-operation
 Agreement (CECA) provides for exemption on import duties for investment
in infrastructure sector.
India is also a signatory to numerous:
 Free trade agreements.
 Comprehensive economic partnership agreements.
 Comprehensive economic co-operation agreements.
 Preferential trade agreements (which aim to protect foreign investments
in projects in India).
These treaties and agreements protect foreign investors even in the event
of foreclosure of the project, subject to the guidelines of the Reserve Bank
of India and other industry related authorities.
India has also entered into multiple double taxation avoidance treaties
(DTAT) with various nations that aim to provide tax relaxations to investors.
However, this has recently seen a radical shift, where the DTAT with
certain countries were amended, subject to the grandfathering clause that
protects investments prior to a cut-off date, to shift to source based taxation
of capital gains arising from alienation of shares, instead of residence
based taxation.

Returns on foreign investments in India are repatriable (net of applicable

taxes) except in the following cases where the:
 Foreign investment has been in certain specific sectors that have a
minimum lock-in period, such as defence.
 The investment made by non-resident Indians into specific non-
repatriable schemes.
 Dividend payments are permitted through a designated authorised dealer
bank (AD Bank), subject to payment of the dividend distribution tax.
The payment of principal, interest or premiums on loans or debt securities
held by parties in other jurisdictions must be carried out through an AD
Bank, and in accordance with the provisions of the Reserve Bank of India's
external commercial borrowings guidelines (such as compliance with
minimum average maturity period). No additional taxes or fees are
applicable other than those applicable to domestic investors. The AD Bank
may impose agency fees, commitment charges and structuring fees for
remittance but such charges are not statutory.

Under the current Reserve Bank of India (RBI) regulations, a person

resident in India is permitted, subject to a prior approval from RBI, to open,
hold and maintain a foreign currency account with an authorised dealer
bank for certain specified purposes as recognised by the RBI.
Additionally, an Indian company or a body corporate registered or
incorporated in India is also permitted to open, hold and maintain a foreign
currency account with a bank outside India for the purpose of normal
business operations in the name of its office (trading or non-trading) or its
branch set up outside India or its representative stationed outside India.
The opening of such accounts is also subject to the terms and conditions of
the current RBI regulations.
Dividends payable to the foreign parent, who is the beneficial owner, is not
restricted by the Reserve Bank of India. The remittance of these dividends
must be undertaken through an authorised dealer bank (AD Bank). The
domestic company is liable to pay dividend distribution tax on the dividend
payable.
Shareholders' loans are permitted to be remitted to the foreign shareholder
through an AD Bank, subject to compliance with the minimum maturity
period provided by the external commercial borrowings guidelines and may
be subject to certain taxes as under law (such as withholding tax, among
others).

All imports into India must conform to India's current foreign trade policy.
Under current foreign trade policy, certain "special chemicals, organisms,
materials, equipment and technologies" (SCOMET) items have been either
specifically prohibited (such as nuclear materials) or have been permitted
to be imported, provided the importer has obtained a specific licence from
the relevant authority.
For restricted items, banks must obtain the exchange control copy of the
import licence issued by the office of the Directorate General of Foreign
Trade from the importer and supporting documents showing all conditions
of the licence have been satisfied.