Successful Project Financing should have following Criterias:

1. Credit risk rather than equity risk is involved

• Lenders are not in the business of taking equity risk even if compensated for equity
premium or more
•The question of whether a credit risk or an equity risk is involved usually arises in
connection with the adequacy of the underlying equity investment in the project
• Where the equity investment is not sufficient to support the proposed borrowing,
guarantees of the project debt will be necessary
• Some financiers/funds specialize in investment in mezzanine financing such subordinate
debt, etc.

2. Feasibility study and financial projection

EBITDA (revenue, cash flows) is the mother’s milk of project financing”
• Cash flows must be sufficient to; § service any debt contemplated § provide cash needs
(taxes, capex, opex, etc.) § still provide an adequate cushion for contingencies
• Cash flows projection (revenue, expenses, etc) must be justified by appropriate
independent feasibility and engineering studies by outside experts/consultants § ratio test:
Debt Service Coverage Ratio (DSCR) § sensitivity test: base case and worst case scenario
•Two tier tariff structure: a tariff mixed with fixed portion to cover fixed cost and variable
portion to cover variable cost of the project available to the earlier wastewater treatment
projects
• Government subsidy during construction phase
• Foreign exchange losses share: given portion of the additional losses realized on foreign
currency loans due to fluctuation to be assumed by the government

3. A supply of raw material, building materials, and energy and

transportation to be used by the project are available and assured
Supply sources and contracts for feed stocks or raw material to be used by a project must
be assured at a cost consistent with the financial projection. Building materials must be
available at the projected cost => bargaining power, supplier’s or buyer’s market
• Energy costs are of paramount importance because of their escalation, and the
possibilities of fluctuations in the future
•Transportation costs for moving the product/service from the project facility to the market
be assured at a cost consistent with the financial projection
• Shared inflation rate risk with concessionaire for certain BTL projects through
compensation of price changes of building materials

4. Experienced and reliable contractor/operator

• The contractor must have technical expertise to complete the project, so that it will
operate in accordance with cost and production specification
• The operator must have the financial and technical expertise to operate the project in
accordance with the cost and production specification which from the basis for the financial
feasibility of the project
• Lenders prefer a project financing in which one of the sponsors has the technical expertise
to operate the facility and has experience of operating similar facilities
4. Experienced and reliable contractor/operator

5. No new technology is involved

• The project should not involve new technology
• Lenders who rely on cash flows from a project to service debt expect the project to be
similar to other full-size working projects, with proven technology and engineering

6. A stable and friendly political environment exists; licences and permits are
available ; contracts can be enforced; legal remedies exist
What can done to alleviate administrative bottlenecks?
To what extent can a concessionaire be allowed to have “right to go” ? - level of discretion
Can documentation in foreign language be available ?

7. No risk of expropriation; country and sovereign risks are satisfactory

• Expropriation can be direct or indirect; it can be fast or creeping § form of taxes § failure
to renew licences or import or export permits § environmental restriction
• The risk of expropriation can be lessoned if the project company is owned by a number of
investors from more than a country. Prominent local investors from the host country should
be involved, if feasible
• It may, in fact, be to both the lenders’ and investors’ advantage if loans to the project are
from an international consortium of lenders
7. No risk of expropriation; country and sovereign risks are satisfactory
How can the risk of expropriation be stipulated in detail in a concession agreement so as to
provide a comfort to the private sector
8. Currency and foreign exchange risks have been addressed: inflation rate projection and
interest rate projection are realistic
• During construction lenders look to the sponsors to make up any foreign exchange losses
by providing additional funding
Can and should the public sector assume the currency losses of the private? þ Can and
should the public sector step in during the financial market turmoil
• Shared interest rate risks with concessionaires through; - compensation for the excess
changes in base interest rates through grading of risks at the time of the concession
agreement; and - shorter periods for readjusting benchmark bond yields (from 5yr. to 2yr.)
• Shared inflation rate risk with concessionaire for certain BTL projects through
compensation of price changes of building materials

9.The project as collateral

• Lenders may be willing to rely on to some extent on project facilities and properties as collateral
and security for debt repayment

9. The project as collateral

þ What is an appropriate level of the termination payment ? þ How can the public have the right to
step in ? þ How can the termination process be reasonable and justified ?

10.Satisfactory appraisals
Independent appraisals of project assets must be available

How can the costs be justified ?

11.Adequate insurance coverage

•An adequate insurance program must be available both during construction and operation of the
project

What is the proper coverage

12.Force majeure risk

•Transaction documents in a project financing should include clauses which specify the events that
excuse performance and the legal consequences of each event

How can this risk be covered or mitigated ? þ Which party shall be responsible for the costs ?

13 Non-Recourse

The typical project financing involves a loan to enable the sponsor to construct a project where
the loan is completely “non-recourse” to the sponsor, i.e., the sponsor has no obligation to
make payments on the project loan if revenues generated by the project are insufficient to
cover the principal and interest payments on the loan. In order to minimize the risks associated
with a non-recourse loan, a lender typically will require indirect credit supports in the form of
guarantees, warranties and other covenants from the sponsor, its affiliates and other third
parties involved with the project.

14 Off-Balance-Sheet Treatment

Depending upon the structure of a project financing, the project sponsor may not be required
to report any of the project debt on its balance sheet because such debt is non-recourse or of
limited recourse to the sponsor. Off-balance-sheet treatment can have the added practical
benefit of helping the sponsor comply with covenants and restrictions relating to borrowing
funds contained in other indentures and credit agreements to which the sponsor is a party.

15 Maximize Leverage

In a project financing, the sponsor typically seeks to finance the costs of development and
construction of the project on a highly leveraged basis. Frequently, such costs are financed
using 80 to 100 percent debt. High leverage in a non-recourse project financing permits a
sponsor to put less in funds at risk, permits a sponsor to finance the project without diluting
its equity investment in the project and, in certain circumstances, also may permit reductions
in the cost of capital by substituting lower-cost, tax-deductible interest for higher-cost, taxable
returns on equity.

16 Maximize Tax Benefits

Project financing should be structured to maximize tax benefits and to assure that all available
tax benefits are used by the sponsor or transferred, to the extent permissible, to another party
through a partnership, lease or other vehicle.

17.Cost over Run Risk :

project costs are uncertain and funding allocations may not necessarily match
the costs required, each project is inherently subject to a cost overrun risk
(COR). In this paper, a model is proposed in which project cost is treated as a
factor with a probability density function. The decision maker then allocates
the total funding to the projects while minimizing a weighted sum of mean and
variance of the COR of the project portfolio. Some properties of project COR
are derived and interpreted. Optimal funding allocation, in relationship to
factors such as various project sizes and riskiness, project interdependency,
and the decision maker’s risk preference, is analyzed. The proposed funding
allocation model can be integrated with project selection decision-making and
provides a basis for more effective project control.

18. Currency and foreign exchange risk

Hard currency loans can create a currency risk if revenues are in local
currency. For example, a power plant in Pakistan may be financed in dollars,
but if electricity tariffs are in rupees, this creates an asset-liability currency
mismatch. If the rupee depreciates against the dollar by 10 per cent, revenues
remain unchanged but the liabilities are now 10 per cent higher. One of the
key challenges in project finance in emerging and frontier markets is to
determine who should assume this currency risk.

19. Environmental Risk:

A significant element of risk identification occurs during this time. Due diligence is typically
conducted in order to define environmental site conditions. Lenders or other project finance
partners may become concerned about pre-existing conditions and their effect on successful
project delivery. In addition, environmental or public interest groups may protest larger
proposed projects where they identify a risk to human health and natural resources.
Contractual due diligence and risk allocation metrics are assessed and confirmed.

20. Inflation Risk :

Project finance investments are highly exposed to inflation risk, especially if they are financed by
foreign debt and located in developing countries with volatile currencies. In Public Private
Partnerships, inflation risk may be mostly born by the private counterpart and its backing lenders,
and it represents a zero sum game with compensating winners and losers, up to a force majeure
earth-quaking threshold. In its uneven impact, inflation may consequentially remix corporate
governance equilibriums among different stakeholders