What Is Project Finance?

Project finance is the funding (financing) of long-term infrastructure, industrial projects, and public services using a non-recourse or limited recourse financial structure. The debt and equity used to finance the project are paid back from the cash flow generated by the project.

Project financing is a loan structure that relies primarily on the project’s cash flow for repayment, with the project’s assets, rights, and interests held as secondary collateral. Project finance is especially attractive to the private sector because companies can fund major projects off-balance sheet.

Understanding Project Finance

The project finance structure for a build, operate and transfer (BOT) project includes multiple key elements.

Project finance for BOT projects generally includes a special purpose vehicle (SPV). The company’s sole activity is carrying out the project by subcontracting most aspects through construction and operations contracts. Because there is no revenue stream during the construction phase of new-build projects, debt service only occurs during the operations phase.

For this reason, parties take significant risks during the construction phase. The sole revenue stream during this phase is generally under an offtake agreement or power purchase agreement. Because there is limited or no recourse to the project’s sponsors, company shareholders are typically liable up to the extent of their shareholdings. The project remains off-balance-sheet for the sponsors and for the government.

Off-Balance Sheet

Project debt is typically held in a sufficient minority subsidiary not consolidated on the balance sheet of the respective shareholders. This reduces the project’s impact on the cost of the shareholders’ existing debt and debt capacity. The shareholders are free to use their debt capacity for other investments.

To some extent, the government may use project financing to keep project debt and liabilities off-balance-sheet so they take up less fiscal space. Fiscal space is the amount of money the government may spend beyond what it is already investing in public services such as health, welfare, and education. The theory is that strong economic growth will bring the government more money through extra tax revenue from more people working and paying more taxes, allowing the government to increase spending on public services.

KEY TAKEAWAYS

  • Project finance is the funding (financing) of long-term infrastructure, industrial projects, and public services using a non-recourse or limited recourse financial structure.
  • A debtor with a non-recourse loan cannot be pursued for any additional payment beyond the seizure of the asset.
  • Project debt is typically held in a sufficient minority subsidiary not consolidated on the balance sheet of the respective shareholders (i.e., it is an off-balance sheet item.)

Non-Recourse Financing

When defaulting on a loan, recourse financing gives lenders full claim to shareholders’ assets or cash flow. In contrast, project financing provides the project company as a limited-liability SPV. The lenders’ recourse is thus limited primarily or entirely to the project’s assets, including completion and performance guarantees and bonds, in case the project company defaults.

A key issue in non-recourse financing is whether circumstances may arise in which the lenders have recourse to some or all of the shareholders’ assets. A deliberate breach on the part of the shareholders may give the lender recourse to assets.

Applicable law may restrict the extent to which shareholder liability may be limited. For example, liability for personal injury or death is typically not subject to elimination. Non-recourse debt is characterized by high capital expenditures, long loan periods and uncertain revenue streams. Underwriting these loans requires financial modeling skills and a sound knowledge of the underlying technical domain.

To preempt deficiency balances, loan-to-value (LTV) ratios are usually limited to 60% in non-recourse loans. Lenders impose higher credit standards on borrowers to minimize the chance of default. Non-recourse loans, on account of their greater risk, carry higher interest rates than recourse loans.

Recourse Versus Non-Recourse Loans

If two people are looking to purchase large assets, such as a home, and one receives a recourse loan and the other a non-recourse loan, the actions the financial institution can take against each borrower are different.

In both cases, the homes may be used as collateral, meaning they can be seized should either borrower default. To recoup costs when the borrowers default, the financial institutions can attempt to sell the homes and use the sale price to pay down the associated debt. If the properties sell for less than the amount owed, the financial institution can pursue only the debtor with the recourse loan. The debtor with the non-recourse loan cannot be pursued for any additional payment beyond the seizure of the asset.

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PROJECT FINANCING & RAISING PROJECT FINANCE

Subcontracts India provides project owners / sponsors / promoters a much needed project financing gateway to investors and financiers. We have been at the forefront of several project financing transactions across various sectors of the economy around the globe. Our project financing services are particularly beneficial to shovel ready or green shoot projects. We have the means as well as the necessary expertise to approach numerous Banks, Investment Bankers, Non Banking Finance Companies (NBFCs), Financial Institutions (FIs), Venture Capitalists (VCs), Private Equity Investors (PE), Ultra High Net Worth Individuals (UHNWIs), Family Businesses, Hedge Funds, Pension Funds, Underwriters, Insurance Providers, etc. with great speed and efficiency. We understand how these fund providers and investors work and what are their main areas  of interest. Targeting the right source is not just important but also crucial for achieving successful financial close.

Subcontracts India offers:

  1. Identification of projects with a Cash Flows Generating component and bankability potential;
  2. Support of project development to achieve bankability;
  3. Preparation and structure of transaction by leveraging our consulting, financial and legal expertise;
  4. Finding the right investor and achieving financial close;
  5. Support to the client through the project execution and construction phases.

We can be present with our services across the entire project lifecycle:

Strategy and planning: Assisting long-term planning of individual projects or a portfolio by focusing on feasibility, alignment with corporate objectives and governance procedures in order to maximize return on investment.
Financing and procurement: Raising project finance; establishing and managing the procurement process to acquire services, material or equipment to deliver the project, and prioritizing capital allocation between projects.
Project organization, execution and construction: Setting up the project for success and strengthening client capabilities to deliver on time and to budget.
Operations and maintenance: Assessing ongoing lifecycle costs and providing insights around optimizing the performance and value of assets in operation.
Asset recycling, concession maturity & decommissioning: Determining when and how to discontinue investing in an asset, and transaction advisory services for investors in infrastructure assets.

The key reasons for the underdevelopment of project financing lie in insufficient project maturity and inability to develop projects to the level necessary to achieve bankability. Access to finance is one of the main reasons that infrastructure projects are not developing faster and the key stakeholders sometimes do not see a business case for financing. Moreover, lack of know-how and competence of key stakeholders require a complex multidisciplinary approach in order to guarantee project execution.

Projects, however, are funded solely on their merits. Although we do not make claims of 100% success rate in our pursuit of project finance, with our expertise and experience, our clients enjoy a definite advantage in terms of getting their projects successfully funded. The following are extremely important for achieving successful financial closure.

Understanding Project Finance
Project finance is the financing of long-term infrastructure, industrial projects and public services based upon a non-recourse or limited recourse financial structure, in which project debt and equity used to finance the project are paid back from the cash flow generated by the project. Project financing is a loan structure that relies primarily on the project’s cash flow for repayment, with the project’s assets, rights and interests held as secondary security or collateral. Project finance is especially attractive to the private sector because companies can fund major projects off balance sheet.

Project Finance can be characterized in a variety of ways and there is no universally adopted definition but as a financing technique, a broad definition is:

“the raising of finance on a Limited Recourse basis, for the purposes of developing a large capital- intensive infrastructure project, where the borrower is a special purpose vehicle and repayment of the financing by the borrower will be dependent on the internally generated cashflows of the project”

This definition in itself raises a number of interesting questions, including:

  1. What is meant by ‘Limited Recourse’ financing – recourse to whom or what?
  2. Why is Project Finance typically used to finance large capital intensive infrastructure projects?
  3. Why is the borrower a special purpose vehicle (SPV) under a project financing?
  4. What happens if the internally generated cashflows of the project are not sufficient to repay the financiers of the project?