The need for Guarantees to enable Funding and Project Finance (3 of 3). Financial-structuring issues are likely to arise once the commercial fundamentals and risks of the project have been reviewed. Financial structuring would normally proceed in parallel with the financial-modelling process. Since the Sponsors are the drivers for any project, the investors’ point of view must be considered carefully. Then the main elements likely to be dealt with in the negotiations between the Project Company and its lenders on the overall financing structure and terms are to be reviewed. These usually include Debt-Cover Ratios, debt: equity ratio, debt-service profile, interest rate and fees and additional lending costs. These are all inter-related, so that a change in one requirement will usually lead to a change in one or more of the others. These interrelated effects need to be considered through further ‘optimization’ of the financial model to produce the most efficient financial structure.
The Financial Model
Here are further considerations in the main building blocks of information and assumptions used for projections that are assembled to create inputs for a project’s financial model: macro-economic assumptions, project costs and funding, operating revenues and costs, and last but not least accounting and taxation assumptions. The final model outputs will confirm the viability (or otherwise) of the project from the point of view of investors and in the case of a process-plant or infrastructure project the costs to the Offtaker and or Contracting Authority, or users. Lenders use the model to carry out sensitivity calculations to ensure that their loan is not unduly at risk in downside scenarios. The final version of the model as at Financial Close is known as the ‘Base Case’. The Base Case continues to be used by the lenders and the Project Company after Financial Close.
Project-Finance Loan Documentation
Apart from the financial structuring and modelling issues discussed, the loan documentation also deals with the lenders’ additional controls and other requirements which will be imposed on the Project Company. The result is a loan agreement to which the Project Company and the lenders are parties, and ancillary security documentation. The terms are commonly set out at first in a term sheet before being negotiated in detail. Two other key topics for the Project Company’s investors arise once the project is completed and operating. This is refinancing the Project Company’s debt and sale of its equity to secondary investors.
Public-Sector Financial Support
A consideration should be the financial support to projects from Contracting Authorities or other government entities in the Host Country. Cross-border support provided by ECAs and DFIs can be an important issue. Some form of indirect public-sector financial support is found in many projects. Reviewed in detail should be direct financial support in various ways through public-sector loans, grants, debt guarantees and revenue support, as well as the use of a public-sector Project Company. A government may also set up a guarantee fund, to provide investors and lenders with more certainty that there will be funds available to meet guarantee obligations.
Export-Credit Agencies and Development-Finance Institutions
There is more cross-border support which may be available for projects, especially in developing countries. There are three main sources of such support: Export-credit agencies, which provide loans, or financial- or political-risk insurance or guarantees, for exports of capital equipment to projects outside the country concerned. ECAs also provide political-risk cover for investors—but obviously not cover for commercial risks bilateral DFIs, which provide ‘untied’ loans, or political-risk insurance or guarantees, generally for projects outside the country concerned (i.e. not linked to specific exports from the country concerned); these frequently work with their national ECAs; these may include both development agencies which also provide aid, as well as development-finance institutions or funds; the various types of support offered by the leading ECAs and bilateral DFIs. Multilateral DFIs provide support for all types of projects, mainly but not entirely in developing countries.
Recent Market Developments and Prospects for Project Finance
This final chapter reviews the direct and indirect effects of the 2008 financial crisis on the project-finance market. Although banks’ credit losses on project-finance loans were not significant after 2008, liquidity of such loans has been a major issue accentuated by the ‘Basel III’ requirements. The encouragement of non-bank lenders into the project-finance market, especially for infrastructure, has been a priority in the countries worst affected by declines in bank lending, and improving the credit risk of project-finance transactions is seen as a key part of this process. New models for project-finance structures may be relevant in a few market sectors.
Already ten years back, banks were rapidly coming back into the market and competing strongly with the non-bank lenders, and extraordinary measures to raise private finance for infrastructure projects. The major role played by commercial banks in the project-finance market may again diminish somewhat overall, especially in view of an ongoing war in Europe and decrease considerably in some markets, but it is unlikely to disappear completely.
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Banks must have a balance between the assets they hold or have in custody and the credit lines to customers. This relationship has become increasingly stringent over the past decade. After the 2008 crisis (Lehman Brothers) and American subprime mortgages, banks have many illiquid assets that do not allow them the necessary manoeuvrability to open lines of credit. For this reason, banks are looking for liquid collateral that can counterbalance the relationship between assets/loans, allowing banks the ability to operate within central bank regulations. The liquid assets that can be borrowed and provided in the format of ICC 600 URDG 758 and ISO15022 Prime Bank Guarantee or a Standby Letter of Credit.
NOTE: The content of this report is an abstract based on the 577-page book we make available to our contracted clients providing guideline to successfully structure project finance with the help of third-party collateral and Prime Bank Guarantees. It is widely read by private sector investors and lenders who intend to make project finance deals.