Lease & Project finance

• JACKSON C. SISHUMBA. MBA.BF, BSc.BF, Dip.AF. Cert IT.

• Phone:+260967-82-92-19
• Email:sishumbacj@yahoo.com
 Course Objectives
• Conceptualize Project Finance
• Know the project finance cycle
• Know the financial instruments used in project
finance
• Understand the due diligence process in
project finance
• Identify sources and uses of funds
• Identify, assess, evaluate and treat risks
 Course Objectives
• Conceptualize Project Finance
• Know the project finance cycle
• Know the financial instruments used in project
finance
• Understand the due diligence process in
project finance
• Identify sources and uses of funds
• Identify, assess, evaluate and treat risks
 Course outline
• Concepts in project finance
• Rationale for project finance
• Stakeholders
• Project finance cycle
• Due diligence process
• Project financing instruments/Options
• Project characteristics, risk Analysis/ management.
• Public private partnerships(PPP)
 What is a project
• It is important to understand what makes
something a project and how it differs from day to
day work and how it is supposed to be managed.
• A project: It is a temporary endeavour undertaken
to create a unique product, service or result.
• A project: It is a temporary organisation that is
created for the purpose of delivering one or more
business projects according to the agreed
business case.
What is a project (continuation)

• A project: An endeavour in which human

material and financial resources are organized
in a novel way to deliver a unique scope of
work of a given specification often within
constraints of cost and time to achieve
beneficial changes defined by quantitative and
qualitative objectives.’
 Characteristics of projects

• Projects have some or all of the following

characteristics:
● They have a definite start and endpoint
● Once the endpoint is reached the project is over
● They are attempting to achieve something new
Characteristics of projects

Project characteristics
Definite start & end
point
Once the end point is
reached the project is
over.
An attempt to do
something new
 “Explanations”
¨ Temporary:Connotes a definite beginning and end; not short
duration/not apply to product service or result; outcomes often outlast
project
¨ End reached when
– Project objectives achieved
– Project terminated cos objectives will/can not be met.
• Beneficial change: The purpose of a project is typically to improve
an organisation through the implementation of business change.
• Risk: A project entail a level of uncertainty and therefore carry business
risk. Project risks are unique and take three forms,Sys
 10 Golden rules of project risk
management
• The benefits of risk management in projects are
huge.
• Make risk management part of your project
• Identify risks early in your project
• Communicate the risks
• Consider both threats and opportunities
• Clarify ownership issues
• Priorities risks
• Analyze risks
 10 Golden rules of project risk
management
• Plan and implement risks responses
• Register project risks
• Track risks and associated tasks.
 “Explanations”
• Unique: projects are unique in nature meaning they don’t involve
repetitive processes. Every project undertaken is different from the last,
whereas operational activities often involve undertaking repetitive
processes.
• Timescale: project have a clear specified start and end date within which
the deliverables must be produced to meet a specified customer
expectations.
• Approved Budget: Projects are allocated a level of financial expenditure
within which the deliverables are produced, to meet a specified
customer requirement.
• Resources: At the start of a project an agreed amount of labour
equipment and material is allocated to the project.
 Project finance defined
¨ Finance Invested in a project
¨ Non-recourse: dependent on
creditworthiness of sponsors
¨ Not Collateral-based
¨ Cash-flow driven
 Project finance defined
¨ The International Project Finance Association
(IPFA) :
“The financing of long-term infrastructure,
industrial projects and public services based upon
a non-recourse or limited recourse financial
structure where project debt and equity used to
finance the project are paid back from the cash
flow generated by the project.”
 Distinct Features
¨ DEBTOR is a project company (SPV),
financially and legally independent from
sponsors;
¨ LENDERS have limited or no recourse to
sponsors after project completion
¨ PROJECT risks are allocated equitably among
all parties involved-risks allocated to contractual
parties best able to control/manage them
 KEY TERMS IN PROJECT FINANCE

• The Project
• Project Sponsor/Promoter/Developer
• Government (Concession/PPP)
• Special Purpose Vehicle (SPV)-Investment Vehicle
• Equity Provider(s)-Returns
• Lenders-Terms/Conditions & Debt Service Capacity
• Off-taker (Buyer) Contract(s)
• Supply Contract(s)
• Engineering, Procurement, Construction( EPC) Contract(s)
• Operation & Maintenance (O & M) Contract
• Insurance
• Cash Flow
• Security or Collateral Packaging
 Project Management
Perspectives
• Project management is the discipline of planning,
organizing, motivating, and controlling resources to
achieve specific goals.
• A project is a temporary endeavour designed to
produce a unique product, service or result with a
defined beginning and end (usually time-constrained,
and often constrained by funding or deliverables),
undertaken to meet unique goals and objectives,
typically to bring about beneficial change or added
value.
 Project Management
Perspectives
• The primary challenge of project management
is to achieve all of the project goals and
objectives while honouring the constraints on
scope, time, quality and cost. Projects need to
be managed to meet their objectives, which are
defined in terms of expectations of time, cost,
and quality.
 Project Management
Perspectives
• For example, Project Scope: To move the
organization’s head office to another location.
Its requirements are:
• Time: Complete by March 2017
• Quality: Minimize disruption to productivity
• Cost: Not spend more than K125,000
Project management institute
• The Project Management Institute (PMI) defines
project management in the following way:
• ‘Project management is the application of
knowledge, skills, tools and techniques to meet
project requirements
 The project cycle
Post National
Implementation Development
Evaluation Strategy

Monitoring Identification

Implementation Preparation

Approval Appraisal
 Traditional method of project
management
• The sketch of the traditional method of project
management. The model that is discussed here
forms the basis for all methods of project
management.
• The following paragraphs describe a phasing model
that has been useful in practice. It includes six phases:
• 1. Initiation phase
• 2. Definition phase
• 3. Design phase
• 4. Development phase
• 5. Implementation phase
• 6. Follow-up phase
Traditional method of project
management
 PROJECT STRUCTURE
Government
Institution

PPP
Agreement

Private Loan
Equity Shareholding Lenders
Party Agreements

Building Operations
Subcontract Subcontract

Building Operations
Subcontractor Subcontractor
 ADVISORS
 Financial
 Technical
 Legal
 Marketing
 Environmental
 Social
 Insurance
 Others
 Role of Advisors
 Expertise
 Experience
 Network
 Credibility
 Work Load Reduction
 Blame Game / Punch Bags
 Time Management
 Project Management
 Process Management
 PROJECT ENVIRONMENT
¨ Political
¨ Economic
¨ Social
¨ Technological
¨ Legal and Regulatory
¨ Environment
 ADVANTAGES OF
PROJECTFINANCE
¨ High level of risk allocation-possible to support higher
debt-equity ratio than otherwise-hence higher equity
Internal rate of return
¨ Accounting wise, contracts between sponsors and SPVs
are essentially commercial guarantees;
¨ Collateral limited to assets of the project; does not
extend to those of sponsors which could be available, in
case further recourse were needed.
¨ SPV makes possible complete isolation of the Sponsors
from project financing, hence risk in case of failure
Introduction to project finance

• A huge body of literature is available today on the

subject of structured finance in general and project
finance in particular. The general agreement on the
definition of project finance is that its financing that
as a priority does not depend on the soundness and
creditworthiness of the sponsors, namely parties
proposing the business idea to launch the project.
• Approval of such kind of financing is basically a
function of the projects ability to generate cash flows
and pay its debt.
 ‘Project finance’
• The term is also used to refer to a non-recourse or
limited recourse financing structure in which debt,
equity and credit entrancement are combined for
the construction and operation, or refinancing of a
particular facility in a capital intensive industry.
• Non-recourse project financing-means that there is
no recourse(claim) to the project sponsor’s assets
for the debts or liabilities of an individual project.
 Limited Recourse
• Limited recourse(limited claim to assets)-
means that there are limited obligations and
responsibilities of the project sponsors.
• Corporate sponsor(organization)-invest in a
legal independently company called the special
purpose vehicle(SPV) created specifically to
undertake the project.
• Repayment of recourse and limited recourse:-
financing is from the project itself.
 Distinctive features of a project
finance deal
• The debtor: Is the project company set up on an
ad hoc basic that is financially and legally
independent of the sponsors.
• Lenders: Have limited recourse or no recourse at
all to the project sponsors.
• Project risks: Project risks are allocated equitably
among all parties involved in the transaction with
the objective of assigning risks to the contractual
counterparties able to control and manage them.
 Distinctive features of a project
finance deal
• Cash flow generated by the SPV must be
sufficient to cover up payments for operating
costs and to service the debt in terms of
capital investment and interest.
• Collateral is given by the sponsors to lenders
as security for receipts and assets tied up in
managing the project.
 Project Finance & Corporate
Finance
• A sponsor can choose to finance a new project
using any of the two alternatives.
• The new initiative is financed on a balance
sheet (corporate finance)
• The new project is incorporated into a newly
created economic entity, the SPV and financed
off the balance sheet (project finance)
 Project Finance & Corporate
Finance
FACTOR CORPORATE FINANCE PROJECT FINANCE
Guarantees for Financing Assets of Borrower Project Assets
(already in place)

Effect on Financial Reduction of financial No, or heavily reduced

Elasticity elasticity for Borrower effect on sponsors

Accounting Treatment On-balance Sheet Off-balance Sheet

Main variables Customer Relations Future Cash flows

underlying the granting Solidity of balance sheet
of financing Profitability

Degree of Leverage Depends on effect on Depends on cash flows

Utilized borrowers balance sheet generated by the
projected. Leverage
usually higher
 Alternative I
Finance Corporate

¨ Alternative -Corporate Financing (on-balance

sheet)
¨ New Project incorporated into existing
corporate structure
¨ All assets/Cash-flows from existing entity,
guarantee additional credit
¨ All residual assets/cashflows can be used as
source of repayment for new/old creditors
 ALTERNATIVE II
PROJECT FINANCE
¨ Off-balance Sheet
¨ New Project incorporated-Separate Economic,
legal and Financial entity
¨ Assets/Cash-flows of SPV, completely not
available at all or available to creditor claims on a
limited recourse basis
¨ Failure of project limited to SPV
¨ Existing shareholders not affected by project
failure
Sectors where projects financing
is used
• Project financing techniques have enabled
projects to be built in markets using private
capital.
• These private finance techniques are a key
element in scaling back govt financing. Such
agendas make project financing a key method of
using private capital to achieve private ownership
of public services such as energy transportation
and other infrastructural development initiatives.
Sectors where projects financing
is used
• Energy: Project finance is used to build energy
infrastructure in industrialized countries as well
as in emerging markets.
• Oil: development of new pipelines and refineries
are also a successful story of project finance.
• Mining: Project finance is used to develop the
exploitation of natural resources such as copper
iron ore, or gold mining operations in countries
like Zambia, Chile, Ghana, and Australia.
Sectors where projects financing
is used
• Highways: New roads are often financed with project
finance techniques since they lend themselves to the cash
flow based model of payment .
• Telecommunication: The high demand for telecoms and
data transfer via the internet in developed and developing
nations countries necessitates the use of project finance
techniques to fund this infrastructure development.
• Other projects that could be financed may include:
Pulp & paper projects, manufacturing, hospitals,
schools, prisons or airports etc.
 Real Examples 1
• In 1999 BP AMOCO the largest shareholder in
A10C the 11 firm consortium formed to
develop the Caspian oilfields in Azerbaijan had
to decide the mode of financing for its share
of the $10billion second phase of the project.
For this project the SPV specifically formed
was A10C.the size of project was $10billion
dollars.
 Real Example 2
• The Eurotunnel between the UK & France.
• To finance the tunnel connecting the UK and
mainland Europe project finance was used.
Two companies were incorporated in France
and the UK specifically to build the project.
Syndicate loans involving more than 220 banks
were used to finance the project.
 ADVANTAGES OF PROJECT
FINANCE
• Non recourse/limited recourse-no or limited liability/claim to
the project sponsors.
• Off balance sheet debt treatment-the main reason for
choosing project is to isolate the risk of the project, taking it
off balance sheet so that project failure does not damage the
owner’s financial condition. This may be motivated by
genuine economic argument such as maintaining existing
financial ratios and credit rating.
• Leveraged debt-debt is advantageous for project finance
sponsors in that share issues(and equity dilution) can be
avoided.
 ADVANTAGES OF PROJECT
FINANCE
• Avoidance of restrictive covenants in other
transaction-because the project financed is separate
and distinct from other operations and project of the
sponsor existing restrictive covenants do not typically
apply to the project financing.
• Favorable tax treatment-project finance is often
driven by tax efficient considerations. Tax allowances
and tax breaks for capital investments etc. can
stimulate the adoption of project finance.
 ADVANTAGES OF PROJECT
FINANCE
• Favourable financing terms-project financing structures can enhance
the credit risk profile and therefore obtain more Favourable pricing than
that obtained purely from the project sponsors credit risk profile .
• Political risks diversified-establishing SPV for projects in specific
countries quarantines the project risks and shields the sponsor from
adverse developments.
• Risk sharing-allocating risks in a project finance structure enables the
sponsor to spread risks over all the project participants including
lenders.
• Collateral limited to project assets: No recourse project finance loans
are based on the premise that collateral comes only from the project
assets sometimes limited recourse to the assets of the project sponsor
required as a way of incentivizing the sponsor.
 DISADVANTAGES OF PROJECT
FINANCE
• Complexity of risk allocation: Project financings are complex transactions
involving many participants with diverse interests. This results in conflicts
of interest of interest on risk allocation amongst the participants and
protracted negotiations and increased costs to compensate third parties
for accepting risks.
• Increased lender risks: Since banks are not equity risk takers, this means
that the availability to enhance the credit risk to acceptable levels are
limited which resulted in higher prices. This also necessitates expensive
process of due diligence conducted by lawyers, engineers and other
specialized consultants.
• Higher interest rates and fees: Process necessitate high cost.
• Lender supervision: In order to protect themselves, lenders will want to
closely supervise the management and operations of the project.
 DISADVANTAGES OF PROJECT
FINANCE
• Lender reporting requirements' enders will require that the project
company provides steady stream of financial and technical information to
enable them to monitor the projects progress.
• Increased insurance coverage: The non recourse nature of project finance
means that risks need to be mitigated.
 Process in project Finance and
the Information Memorandum
• Project financing has the following five stages:
• Preliminary feasibility study
• Planning
• Arranging finance
• Monitoring and administering finance
• operations
 Preliminary Feasibility Study

• At this stage, the following is done:

• -Analysis of objectives
• -Review of the project plans
• -Suggesting alternatives ways to achieve
objectives.
 Planning
• Planning stage covers everything from initial
consulting and review of the preliminary
feasibility study to arranging financing.
 Arranging Finance
• This stage involves preparation of the information
memorandum. An (IM) is a selling tool of the project prepared
by the sponsors and agent bank to look for potential
financers.
• An (IM) will contain information such as:
• -A full description of the project, management plans and
policies.
• -Prepared with an extensive help of financial advisors
• -Should be appealing to lenders, meaning should show that
the project has the capacity to generate cash flows.
• You can liken the IM to the IPO document.
 Monitoring & Administering
Financing
• At this stage construction is kept on schedule and
that financers are not caught unaware.
• Prepare estimates to completion from time to time
• Monitor actual operation costs and economics of
production against the financial and production
plans.
• Tracking any unexpected occurrences.
 Operations
• Continuation of monitoring of operations,
cash flows, ratios etc.
• Cash flow analysis and calculate when project
should start repaying
• Selection of external advisors for financial & technical
purposes (lawyers, auditors, insurance, banks etc.)
 Contents of IM
• The typical IM includes:
• Disclaimer: It is important that it be clearly and prominently displayed.
• Authority Letter: Here the borrower authorizes release of the IM to the
syndicate
• Project Overview: a brief description of the proposed project the
overview include the type of project, background on the host country, the
status of development and other significant information.
• Borrower: The description of the borrower explains the form of
organization(ownership structure.)
• Project sponsors: the identity, role and involvement of the project
sponsors.
• Debt amount/uses of proceeds: how much money the project will need
and the currency in which the project will be administered.
 Contents of IM
• Sources of debt and equity-
• Collateral
• Equity terms-
• Cost overruns
• Sponsor guarantee/credit enhancement
• Debt amortization
• Commitment, drawdown and cancellation of commitments.
• Interest rates & fees
• Governing laws
• Lawyers, advisors & consultants.
 Parties to Project Financing
• Project company(borrower)-SPV legally and financially
independent of the project sponsors.
• Project sponsor
• Third party equity-These are investors who invest alongside
the sponsors. They invest purely for a return on their equity.
These investors never participate in the project apart from
sponsoring it.
• Multilateral & credit agencies: These are international or
national credit and export agencies that give banks political
risk protection by giving guarantees.(WB group. IFC),AfDB,
M.I.G.A
Parties to Project Financing
• Construction company-turnkey contract(sell
or turn over to the user.)
• Host govt
• Suppliers
• Purchasers
• Insurers.
• Other parties(local authorities, financial
advisors, lawyers, rating agencies.)
 The end

Thank you
 Syndicate Loans and their
Structure
• The large size of projects being financed often requires the
syndication of the financing.
• The syndicated loans, exist because often any one lender
individually does not have the balance sheet availability to
capitalization requirements to provide the entire project loan.
• The other reason is that it may wish to limit its risk exposure
in the financing or diversify its lending portfolio and avoid risk
concentration.
• The solution is to arrange a loan where there are several
lenders forwarding funds under a single loan agreement. And
such a group, of lenders is called a syndicate.
 What is a Syndicate Loan
• A syndicate loan is a loan that is provided to the
borrower by two or more banks known as
participants which is governed by a single loan
agreement.
• The loan is arranged and structured by an arranger
and managed by an agent. The arranger and the
agent may also be participants.
• Each participants provides defined percentage of the
loan and receive the same percentage of repayment.
 Categories of Lenders in a
Syndicate
• The arranger: The bank that arranges the syndication is called the
arranging bank or lead manager. The bank typically negotiates the term
sheet with the borrower as well as the credit and security documentation.
• The managers: the managing bank is typically a title meant to
distinguish the bank from mere participants.in other words, the bank may
take a large portion of the loan and syndicate it.
• The facility agent: exists for administrative details on behalf of the
syndicate. The facility bank is not responsible for the credit decisions of
the lenders in entering into the transactions. the Agent bank is responsible
is for the mechanistic aspect of the loan such as coordinating drawdowns,
repayments and communications between the parties to the finance
documentation such as serving notices and disseminating information.
 Categories of Lenders in a
Syndicate
• Technical/engineering bank: As the name implies monitors the
technical progress and performance of the project and liaise with
the project engineers and independent experts.
• Account bank: The account bank is the bank through which all
project cash flows pass and are monitored, collected and disbursed.
• Insurance bank: The insurance bank undertakes negotiations in
connection with project insurance to ensure that the lenders
position is fully covered in terms of project insurance.
• The security trustee: These exists where there are different of
lenders or other creditors interested in the security and the
coordination of their interest will call for appointments of an
independent trust company as security trustee.
 Arranging Services
• Arranging consists of the mandate from the borrower to
structure and manage the financing.
• The arranger must have the capacity to contract a large
number of banks interested in taking part in the deal.
• The sponsors select arrangers based on some of the following
factors:
• Experience
• Reputation and track record
• Flexibility
• Cost of financing.
The End

Thank You
Risks in Project Finance
 Risk
• A risk in project finance, is the probability that there
will be unexpected changes in the ability of the project to
repay costs, debt service and to shareholders.
• A successful project financing initiative is based on a careful
analysis of all the risks the project will bear during its
economic life. Such risks can arise either during the
construction phase, when the project is not yet able to
generate cash or during the operating phase.
• Risk management in project financing-involves
identification of risks, developing strategies to manage it,
choosing the hedging tool and hedge the risk.
 Risk management strategies in
project finance
• There are three strategies for managing risks in project
finance:
• Retain the risk-its done when only the firm can handle the
risk.
• Transfer the risk by allocating it to one of the key counter
parties-allocate rights and obligations from sponsors to SPV
and its counterparties on construction, suppliers, purchases,
operation and maintenance.
• Transfer the risk to professional agents whose core business is
risk management(insurance firms)
 Identifying project risk
• Project financing risks can be grouped into
three groups:
• Pre-completion phase risks
• Post-completion phase risks
• Risks common to both phases.
 Pre-completion phase
• Pre-completion phase is the phase leading up to the start of operating's involves
building the project facilities.
• This stage is characterized by a concentration of industrial risks, for the most part.
• The risks should be very carefully assessed because they emerge at the outset of
the project before the initiative actually begins to generate positive cash flows.
• Activity planning risks: project finance initiatives are carried out on the basis of
project management logic. This involves delineating the timing & resources for
various activities to arrive at project deadline. Delays in completing one activity
can have major repercussions on subsequent activities.
• Technological risks: The risk that the technologies might not be applicable to a
project.
• Construction risks: The risk can take various forms but the key aspect here is that
the project may not be completed or that construction might be delayed.(delayed
completion, completion with cost overruns,)
 Post completion phase risk
• The major risks in the post completion phase involve
the supply of inputs, the performance of the plant as
compared to project standards and the sale of the
product or service:
• Supply risks- when the SPV cannot obtain the raw
material
• Operating risk(or performance risks)-the
plant/facility cannot perform as expected
• Demand risk(or market risk)- is the risk that revenue
generated by the SPV is less than anticipated.
 Risks Common on both Phases
• The risks common to both phases include:
• Interest rate risk- unfavorable interest rate fluctuations
• Exchange rate risk
• Inflation risk
• Environment risk-the risk that the project could have a negative impact
on the surrounding environment.
• Regulatory risk-arise when permits needed to start a project are
delayed.
• Legal risk- failure to meet obligations
• Credit/consumer risk
• Political risk.
Risk Allocation in project finance

• Risk allocation in project finance refers to the

process of minimizing the potential losses in a
project deal. The figure below illustrates
methods used to minimize risks in project
financing.
• The figure in the next slide illustrates methods
used to minimize risks in project financing.
 Risk Mapping & Allocation
Pre-completion phase risk .Turnkey Contracts
.Activity planning
.Technological
.Construction

Post Completion phase risks .Put or pay agreements

.Supply risk .O & M agreements
.Operational risk .Off take agreements
.Market risk

Risks common to both

.Interest rate risk .Use of derivative contracts
.Exchange risk .Use of insurance policies
.inflation risk
.Environment risk
.Regulatory risk
.Legal risk
.credit/counterparty risk
 The Concession(B.O.T)
• The concession or B.O.T is a type of procurement strategy
utilizing project finance to fund infrastructure projects.
• BOT is a project based on granting a concession to the
concessionaire who is responsible for the construction,
financing operation and maintenance of a facility over a
period of time(period of concession) before finally
transferring to the principal a fully operational facility.
• During the concession period ,the promoter owns and
operates the facility and collects revenues in order to repay
the financing and investment costs maintains and operates
the facility and makes a margin of profit.
• This type of private sector participation in realizing public
works is often referred to as PPP(Public Private Partnership).
 Concession
• Areas where public private partnership is used
include.
• Building of roads where private entities collect tolls
• Creation of cellphone networks
• The supply of water and sewerage plants
• Other include the building of correctional facilities,
hospitals etc.
 Types of Concession Contract
• A concession agreement is a key document in this type of project financing.
• Various acronyms are used in practice for the different types of concession.
Even if the same acronyms often refer to different forms of contract.
• B.O.T(Build, Operate and Transfer):under BOT framework, the public
administration, delegates planning and realization of the project to the
private party together with operating management of the facility for a
period of time.
• During this period the private party is entitled to retain all receipts
generated by the operation but is not the owner of the structure
concerned. The facility will then be transferred to the public administration
at the end of the concession agreement without any payment being due to
the private party involved.
Types of Concessional Contracts

• B.O.O.T(Build Own Operate Transfer): BOOT

frame work differs from the BOT framework in that the private party owns
the works during the period of the concession, at the end of the
concession term the works are transferred to the public administration
and in this case a payment for them can be established.

• BOO(Build, Own, Operate): The boo framework has

characteristics in common with the other two. The private party owns the
works but ownership is not transferred at the end of the concession
agreement .Therefore the residual value of the project is exploited entirely
by the private sector.
 Other types
• FBOOT (finance, build, own-operate transfer)
• BOL (build, operate, lease)
• DBOM (design, build operate maintain)
• BRT (build, rent transfer)
• ROT (rehabilitate, operate, transfer)
• DBFO (design, build, finance, operate)
 Structure of the BOT Project
• The country that first launched a systematic
program of such projects was UK, where PPP
formed part of what was known as the private
finance initiative(PFI)
 structure
Principal
Off
Supply take users
suppliers contract contact
Concession
agreement

Loan Operatio
Lenders operato
Agreem ns
r
ent contarct

S/H
Investors promoter Constr constrac
agreeme
nt action tor
c
 PPP in Zambia
• In Zambia the public-private partnership Act was enacted on 26th
August,2009.soon after the enactment, the ministry of finance and
National planning advertised for request prequalification for the border
posts and the contracts will entail a design, build, finance, operate and
transfer model.
• From that initiative, the Kasumbalesa border post was built.
• Zambia has also invited prequalification bids for the design and
improvement of existing roads and the building of toll plazas on a BOT
basis.
• The Zambian Govt is also planning to construct the 600 MW Kafue Gorge
Lower hydropower station under the Bot model, and has approached the
IMF for a loan to part finance projects.
 Advantages of BOT to the
grantor(principal)
• BOT offers a form off balance sheet financing
• Frees up funds for other activities
• Transfer risks of construction finance and
operation of the project to the promoter
• A way of attracting FDI and technology.
 Project Cash Flows
• Cash flows represents the money coming
in or money going out of the investment
project. Money going out of the project
represents cash outflows while money
coming into the project represents cash
inflows, the difference being project net
cash flows.
 Sources of cash in a project
OPERATIONS SALES OF ASSETS REFINANCING
Decrease in working capital Sale of fixed assets Increase in debt
Net profit Increase in equity
 Uses of Cash
• Increase in working capital
• Purchase of fixed assets
• Repayments of debt
• Redemption of equity
• Net loss from operations
Why analyze cash flows(forecast)

• Operation cash flow-cash received or spent as

a result of a projects business activities.
• Investment cash flows-cash received from
sale of long term assets or spent on capital
expenditure.
• Financial cash flows-cash received from the
issue of equity or debt or paid out as
dividends, loans + interest.
Why analyze cash flows(forecast)

• Coming up with estimates on cash flows, project loss

and the balance sheet along with a series of ratios
based on the same forecasts is vital for valuing the
ability of the project to generate enough cash to
cover the debt service and pay its sponsor dividends
that are in line with expected returns.
• It is also important if the project company wants to
bid on a public concession or BOT scheme.
 Factors to consider when
calculating cash flows
• Timing of the investment: The length of the plant
construction period impacts financial costs especially interest
and commitment fees so it is important to state the start and
end date of project.
• Initial investment costs: initial costs are normally specified in
the construction contract. Initial costs should also include cost
of purchasing the land, owner costs and development cost.
• VAT: During construction, the project company will incur
investment costs subject to VAT(VAT on raw materials
acquired from suppliers) offsetting the SPV’s VAT credit with
VAT debts during the operating phase
 Factors to consider when
calculating cash flows
• Public grants (In PPP initiative): public grants represents a key source of
financing for building and operating facilities that serve the needs of the
public. Testing grants: when grant is paid out at the end of the
construction period, provisions are made for bridge financing. Bridge
financing is a method of financing used to maintain liquidity while waiting
for an anticipated reasonable inflow of cash. Milestone grant: funds
received on the basis of the milestone achieved.
• Analysis of the sales contracts, the supply contracts and operating
expenses:
• Trend in working capital: Factors to consider will include for example the
average collection period and the average payment model.
• Taxes: all taxes associated with the project should be considered and the a
project manager should always look for ways of reducing the fiscal burden.
• Macroeconomic variables: GDP, inflation rate, interest rate,
unemployment rate and their relation to demand and supply of goods and
service
 The business and financing plan
for the project
• A business plan is a picture or model of what a business will
be like. Business plans contain information like (product,
employees, markets, technology, facilities, capital, revenue
and profitability).
• Financing plan: is a distinctive part of a business plan and
contains a detailed presentation of (borrowing capacity,
sources of funds for the project, cost analysis for each source
of funds, WACC analysis, discounted cash flow analysis,
presentation of financial forecast (IS,BS,SCFs))
 Importance of Business and
Financing Plan
• To get help from others, especially fund providers (banks,
equity investors).
• To convince the sponsors, banks and other
creditworthiness parties that the project will be a
successful one.
• Provide a guide for running operations once the project is
started.
• Incidental benefits: pulls the participants and
management team together and forces owners/managers
to fully understand the task ahead of them.
 Business plan outline
• Contents
• Mission statement
• Market analysis(background, the customers, product
description, competitive analysis, pricing)
• Operations(sources of inputs/costs, process equipment)
• Management/staffing(organizational structure)
• Financial projections(current statements, projected
statements application for funds)
• Contingent planning
• Appendices.
Financial Modeling of a Project
• Financial modeling is the task of building an abstract
representation(a model) of a financial decision making situation.
• Main steps in financial modelling include:
• Macroeconomic variables
• Project costs and funding structure
• Calculating operational revenues and costs
• Analyzing the borrowing capacity of a project
• Capacity to cover debt service
• Taxation and accounting
• Calculating WACC
• Calculating NPV and IRR for the project
 The project borrowing capacity and its
ability to service debt
• A project’s borrowing capacity is a term used to refer to how
much money a back can lend to the project given a certain
amount of its cash flows. There are two hypothesis regarding
the projects borrowing capacity.
• Hypothesis A: full drawdown of capital in the moment of full
completion. Under this hypothesis, the amount the bank will
lend to a project entity should equal a fraction of the PV of
the available cash flows. a X D =PV. Where a-is the largest
cash flow coverage ratio(the cash flow ratio indicates the
ability to make interest and principal payment as they become
due). D-the maximum loan amount, PV present value of
future cash flows.
 Example
• Given PV of cash flows as K1,488,691 and cash
flow ratio of 1.5,find the amount of money a
bank should lend to a project entity.
• axD=PV.. 1.5xD=1,488,691=D 1,488,691/1.5=
992,461
• Meaning the debt capacity of the project is
K992,461 based on an estimated cash flow of
1,488,691.
•• Hypothesis
  B:the revenues and operating expenses do not
begin for M years.
• Under this hypothesis, the amount the bank will lend to a
project entity should equal a fraction of the present value of
available cash flow beginning with the year M. the present
value of the project future cash flows should equal
present value of the D drawn in the initial moment.
• A = PV
 Interest Coverage Ration
• This is the ratio used to determine how easily a project
company can pay interest on outstanding debt. The interest
coverage ratio is calculated by diving a company’s earnings
before interest and taxes(EBIT) of one period by the
company’s interest expenses of the same period.
• ICR = EBIT/Interest expenses.
• The lower the ratio, the more the company is burdened by
debt expense. When a company’s interest coverage ratio is 1.5
or lower, its ability to meet expense may be questionable. An
interest cover below 1 indicates that the company is not
generating enough revenues to satisfy interest expenses.
 Fixed Charge Coverage Ratio
• This is the ratio that indicates a projects ability
to satisfy fixed financing expenses such as
interest and leases. It is calculated as follows:
• FCCR = EBIT+ Fixed Charge(before tax)/fixed
charge(before tax)+ interest
 Debt Service Coverage Ratio
• This is the ratio that shows how much cash is available for
debt servicing to interest, principal and lease payments.

• DSCR = EBITDA + RENTALS/INTEREST +

RENTALS/(PRINCIPAL/1-TAX RATE)
• EBITDA earning before interest tax, depreciation and
amortization. The bigger the figure the better or the more
there is cash available for debt serving. A DSCR of less than
one would mean negative cash flow. DSCR of 0.95 would
mean that there is only enough operating income to cover
95% of annual debt repayments.
 Venture Capital
• Venture capital is money provided by an outside investor to finance a new,
growing or troubled business. Venture capital funds(VCFs) are essentially
collective investment schemes whereby investors place their investment
capital with other investors into a fund with the aim of achieving greater
impact and security than could be realized individually. VCFs seek to
provide finance to enable business to start-up, expand or restructure
through the use of equity and quasi-equity instruments such as
preference shares convertible debentures, shareholders loans ect,that
reflects the risk and reward relationship in investing in such businesses.
• The venture capitalist provides the funding knowing that there’s a
significant risk associated with the company’s future profits and cash flow.
Capital is invested in exchange for an equity stake in the business rather
than given as a loan, and the investor hopes the investment will yield a
better than average return.
• Venture capital is an important source of funding for start-up and other companies
that have a limited operating history and don’t have access to capital market.
• A venture capital firm VC typically looks for new and small businesses with a
perceived long term growth potential that will result in a large pay out for
investors.A venture capitalist is not necessarily just one wealthy financier.Most VCs
are limited partnerships that have a fund of pooled investment capital with which to
invest in a number of companies.They vary in size from firms that manage just a few
million dollars worth of investment to much larger VCs that may have billion of
dollars invested in companies all over the world.in an case,the VC aims to use its
business knowledge,experience and expertise to fund and nurture companies that
will yield a substantial return on the VC’s investments, generally within three to
seven years.
• Not all VC investment pay off.The failure rate can be quite high and in fact anywhere
from 20% to 90% of portifolio companies may fail to return on the VC’s
investment.onthe other had if a VC does well,a fund can offer returns of 300% to
1000%
• In addition to a portion of the equity, a venture capitalist
expects to have a say in how its portfolio company operates.
Ideally, the venture capitalist fosters growth at the company
through its involvement in the managerial, strategic and
planning decisions.to do this, the VC relies on the expertise of
its general partners who may be former CEO’s, bankers or
experts in a particular industry.in most cases one or more
general partners of the VC take board of directors positions at
the portfolio company. They may also help recruit key
executives to the portfolio company.
 The funding process
• Step1:business plan submission: a
description of the opportunity and
market size, résumés of
management team, a review of the
competitive landscape and solution;
detailed financial projections and
capitalization table
 Introductory
conversation/meeting
• Step2: Introductory conversation/meeting
• If a project has the potential to fit with the
venture capitalist investment preferences, the
project sponsors can be contacted in order to
discuss the business in more depth. After this
meeting, this meeting ,the venture capitalists
will determine whether or not to move
forward to the due diligence stage of the
process
 Due Diligence
• step3: Due Diligence
• The due diligence phase will vary depending
upon the nature of the project proposal. The
process may last from 3 weeks to 3 months.
• DD is an investigation or audit of a potential
investment/project to confirm all material facts
in regards to an undertaking. Such as reviewing
all financial records plus anything else deemed
material to the project
 Term sheet and funding
• Step3:Term sheet and funding
• If the due diligence phase is satisfactory, the
venture capitalists will offer a term sheet. This is a
non binding documents that spells out the basic
terms and conditions of the investments
agreement. The term sheet is generally negotiable
and must be agreed upon by all parties, after which
there is completion of legal documents and legal
due diligence before funds are made available.
 Types of funding
• The following are the types of capital available to the project:
• Seed capital: if a project is just starting out and has no product they
would be seeking seed capital. Few ventures capitalists fund at this stage
and the amount invested would probably be small. Investment capital may
be used to create a sample product fund market research or cover
administrative set-up cost.
• Start-up capital: At this stage, the project would have a sample product
available with at least one principal working fulltime. Funding at this stage
is also rare.it tends to cover recruitment of other key management,
additional marketing research and finalizing of the product or service for
introduction to the market place.
 Type of funding
• Early stage capital: two to three years into the venture, the project has
gotten off the ground, a management team is in place and sales are
increasing. At this stage, venture capital funding could help increase
sales to break even point, improve productivity or increase efficiency.
• Expansion capital. The project is well established and sponsors are
looking to a venture capital to help take the business to the next level of
growth. Funding at this stage may help enter new markets or increase
marketing efforts.
• Late stage capital. At this stage, the project has achieved impressive
sales and revenue and has a second level of management in place. The
project may be looking for funds to increase capacity, ramp up marketing
or increase working capital.
What do Venture Capitalists Look
For?
• Venture capitals look for business that have the potential to grow
quickly to a significant size, yielding a significant return on the venture
capitalists investment in a relatively short period of time.
• VC are not just interested in start-ups. There's no single determinant
for a successful portfolio company, but a venture capitalist tends to
focus on the following factors:
• Commercially viable: does a company have a product or service that
can be reproduced efficiently to generate revenues?
• Identifiable market: is there a clearly defined market for the
company’s product or service? Does the company products or services
meet an identifiable need in that industry? Does the company have a
reasonable plan to meet the identified need in an efficient revenue
generating manner?
What do Venture Capitalists Look
for?
• Strong management: Does the company’s leadership inspire
confidence? Do they have a vision, expertise and the ability to
propel a business to a significant level.
• Sustainable competitive advantage: has the company hit up
to an idea that’s truly unique to the industry, one that has
significant barriers to entry that will inhibit others from
encroaching upon its market? Has the company considered
economic and technological changes that may affect the
business model? Who are the company's potential
competitors and what are those companies strength and
weakness?
Venture Capital Exit Strategy
• The exit strategy is the venture capitalist way of cashing out on its
investment in a portfolio company. A venture capitals often hopes to sell
its equity in a portfolio company in three to seven years, ideally through
an initial public offering(IPO).the company becomes liquid through the
sale of its stock to the public and the VC sells its stock to reap its returns.
While an IPO may be the most visible and glamorous form of exit, its not
the most common.
• Most companies are sold through a merger or acquisition event before an
IPO can occur. If the portfolio company is bought out or merges with
another company, the VC receives stock or cash from the event.
• Another alternative may be the reorganization of a portfolio company’s
debt and equity mixture, called a recapitalization. The VC exchange its
equity for cash, the manager team gains equity incentives and the
company is positioned for future.
POLITICAL RISKS AND INSURANCE
IN PROJECT FINANCE
• Political risk is the probability that a project is likely to incur
unanticipated loses as a result of actions of a foreign
government or its citizens. Here foreign government is host
country to project.
• Political risks takes various forms. The following is a generally
accepted classification:
• Investment risk:-this relates to limitations on the convertibility
or transfer of currency abroad, host government expropriation
of a plant without paying indemnity nationalization of a plant,
or break out of war revolt civil war.
• Change in law risk:-these are risks that include any modification
in legislation that can hinder project operations.
POLITICAL RISKS AND INSURANCE
IN PROJECT FINANCE
• Quasi political risks:-this category encompasses a wide range
of different circumstances e.g. Disputes and interpretation
regarding contracts already in place that emerge from a
political regulatory or commercial background.
• Covering political risk:
• Political risk is hedged using the following methods:
• Government support agreement: This is an agreement drawn
up with the government of the host country stating that the
government will create a Favourable environment for the
sponsors and the SPV.
 Covering Political Risk

• Some of the provisions include:

1. To provide guarantees on key contracts e.g. off take
contracts.
2. To create conditions that would serve to prevent possible
currency crisis from adversely affecting convertibility of the
debt service and the repatriation of dividends.
3. To facilitate the operational capacity of the SPV from a fiscal
stand point through tax relief or exemptions.
4. To create Favourable institutional conditions e.g. Importation
procedures exempt from customers.
 Insurance Markets
• Political risk insurance is available to cover
various events such as:
 Confiscation, expropriation
 Forced abandonment
 Transfer risks
 Civil war, acts of terrorism etc.
Political risks insurance is available from private companies as well
as government sources. The coverage and amounts of private
insurance available vary from time to time. The rates are generally
high and the amounts of insurance coverage available are limited.
 Examples of Insurance Provided
by Govt Agencies
• Inconvertibility coverage's:
• This is designed to assure that earnings capital, principal and interest and other
eligible remittances continue to be transferable under exchange regulations and
practices in effect at the time the insurance was issued. The insurance also
protects against adverse discriminatory exchange rates but is not designed to
protect against devaluation of the foreign currency.
• Expropriation insurance:
• Insurance contracts define the insurable event of expropriation action to include
not only classic nationalization of a project, but also a variety of situations which
constitute creeping expropriation.an action taken, authorized, ratified or
condoned by the project host country govt is considered to be expropriatory if it
has a specified impact on either the properties or operations of the project.
Compensation is based on the original amount of the issued investment adjusted
for retained earnings and interest. The coverage does not permit an equity
investor both to retain his ownership interest and to be compensated.
 Examples of Insurance Provided
by Govt Agencies
• War, revolution and insurrection insurance:
compensation is provided under war revolution and insurrection
coverage(war) for less due to actions occurring within the projects
host country. There is no requirements that there be a formal
declaration of war. coverage extends to losses from actions taken to
hinder, combat or defend against hostile action during war,
revolution or insurrection. No coverage is provided against civil
strife of a lesser degree than revolution or insurrection. The basic
measure of competition is the original cost of the covered
equipment. Compensation is limited to the insured’s proportionate
interest in the asset of the foreign enterprise.
 Examples of Insurance Provided
by Govt Agencies
• Coverage for contractor’s energy project’s(mineral
and energy projects)
• Insurance coverage is available for bid, performance
and advance payments guarantees posted
construction and service contractors and exporters. It
offers highly flexible and innovative coverage for
investments in mineral exploration and development.
Terms are tailored to the special needs of the
investors in the these kinds of projects.
 Agencies and Private Insurance
Companies
• MIGA:-The multilateral investment guarantee Agency (MIGA)
was created in 1988 as a member of the world bank group to
promote foreign direct investments(FDI) to emerging economies
to improve people’s lives and reduce poverty.
• OPIC:-Oversees private investments corporation an agency of
the united states government.
• EXIM BANK USA:- export-import bank of USA.
• African development bank: AfDB which began operations in
1963 is a major source of public financing in Africa. The member
countries include 51 African states and 25 other countries, most
of which are industrialized nations.
 Commercial Insurers
• Lloyds of London
• American international under writers
• Unistat assurance
• Citicorp international trade indemnity INC
 LEASES
• LEASES: A lease is a contractual arrangement/agreement whereby the
owner of the asset(the lessor) grants to another party(the lessee) the
exclusive right to use the asset in return for the payment of rent. Most of
us are familiar with leases of apartments, cars and mining equipments.For
corporate finance purposes, there is a similar obligation to make periodic
lease payments, usually monthly or quarterly.
• Typically these payments are in advance, which simply means they are
paid at the beginning of the period.
• The lease may be cancellable or non cancellable. When cancellable, there
sometimes is a penalty. An Operating lease for office space for example is
relatively short term in length and is cancellable with proper notice. The
term of this type of lease is shorter than the asset’s economic life. In other
words the lessor does not recover its investment during the first lease
period. Examples of operating leases:
 Finance lease
• In contrast to an operating lease, a finance lease is longer term in nature
and is non-concellable. The lessee is obligated to make lease payment
until the lease’s expiration, with approaches the useful life of the asset.
Finally, the lease contract typically specifies some kind of option of the
lessee at expiration.it may involve renewal, where the lessee has the right
to renew the lease for another lease period, either at the same rent or at a
different, usually lower, rent. The option be to purchase the asset at
expiration. For the reasons, the purchase price must not be significantly
lower than fair market value. If the lessee doesn’t exercise its option, the
lessor takes possession of the asset and is entitled to any residual value
associated with it .As we will see, the determination of the cost of lease
financing to the lessee and return to the lessor, depends importantly on
the residual value assumption. This is particularly true for operatining
leases.
 Type of leases
• Virtually all lease financing arrangement fall
into one of the main types of lease financing:
a sale and leaseback arrangement, the direct
acquition of an asset under a lease and
leveraged leasing. Before analyzing lease
financing or its basic valuation implications, let
us look at the three categories.
 Sale and Leaseback
• Under a sale and leaseback arrangement, a firm sells an asset to another
party and this party leases it back to the firm.
• Usually, the asset is sold at approximately its market value. The firm
receives the sales price in cash and the economics use of the asset during
the basic lease period.in turn, it contracts to make periodic lease
payments and gives up title to the asset. As a result the lessor realized any
residual value would the asset might have at the end of the lease period,
whereas before. This value would have been realized by the firm. The firm
may realize an income tax advantage if the asset involves a building on
owned land. Whereas land is not depreciable if owned outright, lease
payments are tax deductible.so the firm indirectly is able to amortize the
value of the land. Lessors engaged in a sale and leaseback arrangement
include insurance companies, other institutional investor, finance
companies and independent leasing companies.
 Direct leasing
• Under direct leasing a company acquires the use of
an asset it did not own previously. A firm may lease
an asset from the manufacturer. IBM leases
computers, Xerox leases copiers. Indeed capital
goods are available today on a lease financing
basis.A wide variety of direct leasing arrangements
meet various needs of firms.the major types of
lessors are manufacturers,finance companies,banks
independent leasing companies etc.
 Leveraged Leasing
• This is a special form of leasing sometimes is
used in financing assets requiring large capital
outlays.it is known as leveraged leasing.in
contrast to the two parties involved in the
forms of leasing previously described there
are three parties involved in leverage leasing,
lessee, the lessor, the lender.
Accounting and tax treatment of leases
• Leases were once not disclosed and were attractive
to some as off balance sheet financing. This is no
longer the case. FAS’s in most countries require
capitalization on the balance sheet of certain types of
leases.
• In essence, this statement says that if the lessee
acquires essentially all of the economic benefits and
risks of the leased property, then the value of the
asset along with the corresponding lease liability
must be shown on the balance sheet.
 CAPITAL AND OPERATING LEASES
• Leases that conform in principle to this definition are called
capital leases(finance lease).more specifically, a lease is
regarded as a capital lease if it meets any one of the following
conditions:
• The lease transfers title to the asset to the lessee by the end
of the lease period.
• The lease contains an option to purchase the asset at a
bargain price
• The lease period is equal to, or greater than 75% of the
estimated economic life of the asset.
• At the beginning of the lease, the present value of the
minimum lease payments equal or exceeds 90% of the fair
value of the leased property to the lessor
 Calculation of lease payment
• A lease payment is made of three parts: a
depreciation fee, a finance fee and sales tax-all
added together we will look at the first two
parts of the formula below sales tax is covered
a little later.
• Leaese payment =dep.fee*finance fee*sales
tax
• The depreciation fee portion of the payment is simply pays the leasing
company for the loss in value of its property(car)
• It is calculated as follows:

• Depreciation fee=(Net cap Cost-residual value)/term

• Net cap cost is gross cap cost(selling price you
negotiate with the dealer) plus any add on
dealer fees and taxes that will not be paid up-
up front in cash
 SOURCES
1. Gatti, S (2008) Project Finance in Theory and Practice,
Elsevier Inc. London.
2. Project Management Institute Inc., (2008) A Guide to the
Project Management Body of Knowledge (PMBOK), Fourth
Edition, Project Management Institute Inc. Pennsylvania
3. Andrew F. Introduction to Project Finance, butterworth-
Heinemann,Great Britain.
 The End

Thank you