PROJECT FINANCE – BASIC DEFINITION AND INFORMATION

What Is Project Finance?

The term features prominently in the press, more specifically with respect to infrastructure, public and private venture capital needs. The press often refers to huge projects, such as building infrastructure projects like highways, Eurotunnel, metro systems, or airports.

It is a technique that has been used to raise huge amounts of capital and promises to continue to do so, in both developed and developing countries, for the foreseeable future.

While project finance bears certain similarities to syndicated lending, there are a host of specific issues that mean that it is essentially a specialized discipline unto itself, effectively a discrete subset of syndicated lending.

Project finance is generally used to refer to a non-recourse or limited recourse financing structure in which debt, equity and credit enhancement are combined for the construction and operation, or the refinancing, of a particular facility in a capital-intensive industry.

Credit appraisals and debt terms are typically based on project cash flow forecasts as opposed to the creditworthiness of the sponsors and the actual value of the project assets. Forecasting is therefore at the heart of project financing techniques.

Project financing, together with the equity from the project sponsors, must be enough to cover all the costs related to the development of the project as well as working capital needs.

Project finance risks are therefore highly specific and it is essential that participants such as commercial bankers, investment bankers, general contractors, subcontractors, insurance companies, suppliers and customers understand these risks since they will all be participating in an interlocking structure.

These various participants have differing contractual obligations, and the resultant risk and reward varies with the function and performance of these various parties. Ideally, the debt servicing will be supported by the project cash flow dynamics as opposed to the participants, who at best provide limited coverage.