Professional Documents
Culture Documents
Project Financing
of Infrastructure Project
1
PROJECT FINANCE
2
Origins and Development of
Project Finance
• Project financing had its origins in the energy industry in
industrialized countries (oil & gas production loans).
• Later extended to infrastructure, transportation, mining,
utilities and large industrial projects.
• Scope further expanded to include all kinds of
infrastructure projects.
• Today even medium-scale projects (US $5 million) can
use project finance
3
Development of Project Finance
1994 1996 1997
• Number of Project
Finance Transactions 50 400 380
in emerging markets
• 41% of emerging markets project finance flows between
1994 and 1998 went to Asia.
4
Why Project Financing?
• Project Owners’ Perspective
– Size and cost of projects
– Risk minimization
– Preservation of borrowing capacity
and credit rating
– May be only way that enough funds
can be raised
5
Private Public Partnerships in
Infrastructure
• A major new user of project financing techniques
• Infrastructure traditionally financed and managed by
governments
• Demand for infrastructure has been growing faster than
available government funding particularly in emerging
economies.
• Recent trend has been to involve the private sector in the
supply and provision of these services
• There has to be a clear benefit for both the public and the
private partners
6
Main Characteristics of Suitable
Investments for Projects Financing
7
Main Characteristics of Project Finance (Summary)
8
The Basic Elements of a Project Financing
Lenders
Loan Debt
Raw funds repayment Purchase
materials contract(s)
• Financial Analysis
• Economic Analysis
• Risk Analysis
10
It’s All About Risk!
The key to project financing is
the reallocation of any risk away
from the lenders to the project.
11
Definition of Project Completion
• Principle Categories of Risk: Pre-Completion and Post-
Completion
• Physical Completion
– Project is physically complete according to technical
design criteria.
• Mechanical Completion
– Project can sustain production at a specified capacity for
a certain period of time.
• Financial Completion (financial sustainability)
– Project can produce under a certain unit cost for a certain
period of time & meets certain financial ratios (current
ratio, Debt/Equity, Debt Service Capacity ratios)
12
Management and Alleviation of Risks
Principle Categories of Risk: Pre-Completion and Post-Completion
A:Pre-Completion Risks:
Some Examples of
Ways to Reduce or Shift Risk
Types of Risks Away from Financial Institution
•Participant Risks
-Sponsor commitment to project - Reduce Magnitude of investment?
-Require Lower Debt/Equity ratio
-Finance investment through equity
then by debt
14
B. Post-Completion Risks
Some Examples of
Ways to Reduce or Shift Risk
Types of Risks Away from Financial Institution
15
B. Post-Completion Risks
Some Examples of
Ways to Reduce or Shift Risk
Types of Risks Away from Financial Institution
• Market Risk
–Volume -cannot sell entire output - Long term contract with creditworthy
buyers :take-or-pay; take-if-delivered; take-and-pay
–Price - cannot sell output at profit - Minimum volume/floor price provisions
- Price escalation provisions
• Force Majeure Risks
–Strikes, floods, earthquakes, etc. - Insurance
- Debt service reserve fund
16
Some Examples of
Ways to Reduce or Shift Risk
Types of Risks Away from Financial Institution
• Political Risk
–Covers range of issues from - Host govt. political risk assurances
nationalization/expropriation, - Assumption of debt
changes in tax and other laws, - Official insurance: OPIC, COFACE, EXIM
currency inconvertibility, etc. - Private insurance: AIG, LLOYDS
- Offshore Escrow Accounts
- Multilateral or Bilateral involvement
• Abandonment Risk
–Sponsors walk away from project - Abandonment test in agreement for
banks to run project closure based on historical and
projected costs and revenues
• Other Risks: Not really project risks but may include:
–Syndication risk - Secure strong lead financial institution
–Currency risk - Currency swaps / hedges
–Interest rate exposure - Interest rate swaps
–Rigid debt service - Built-in flexibility in debt service
obligations
–Hair trigger defaults
17
The Need for Contracts
Project financing arrangements invariably involve strong
contractual relationships among multiple parties.
Project financing can only work for those projects that can
establish such relationships and maintain them at an
acceptable cost.
To arrange a project financing, there must be a genuine
“community of interest” among the parties involved in the
project.
In must be in each party’s best interest for the project
financing to succeed.
Only then will all parties do everything they can to make sure
that it does succeed.
18