Abstract
Project finance is the process of financing a specific economic unit that the sponsors create, in which creditors share much of the venture’s business risk and funding is obtained strictly for the project itself. Project finance creates value by reducing the costs of funding, maintaining the sponsors financial flexibility, increasing the leverage ratios, avoiding contamination risk, reducing corporate taxes, improving risk management, and reducing the costs associated with market imperfections. However, project finance transactions are complex undertakings, they have higher costs of borrowing when compared to conventional financing and the negotiation of the financing and operating agreements is time-consuming. In addition to describing the economic motivation for the use of project finance, this paper provides details on project finance characteristics and players, presents the recent trends of the project finance market and provides some statistics in relation to project finance lending activity between 2000 and 2014. Statistical analysis shows that project finance loans arranged for U.S. borrowers have higher credit spreads and upfront fees, and have higher loan size to deal size ratios when compared with loans arranged for borrowers located in W.E. On the contrary, loans closed in the U.S. have a much shorter average maturity and are much less likely to be subject to currency risk and to be closed as term loans.
Highlights
This paper provides empirical evidence on the main contract characteristics of project finance (PF) transactions and presents a comparative analysis between loans extended to U.S borrowers with those arranged for borrowers located in W.E
Using a sample of 5,935 PF deals (10,950 PF loans) closed between 2000 and 2014, we find that PF lending increased 278.5% between 2000 ($68.7 billion) and 2014 ($259.9 billion)
Our results show that PF lending is highly industry concentrated, with commercial & industrial, utilities, and transportation industries concentrating more than 70% of the total PF syndicated debt
Summary
There are five distinctive features of a PF transaction. First, the debtor is a project company (special purpose vehicle – SPV) that is financially and legally independent from the sponsors, i.e., project companies are standalone entities. Of the numerous contracts four are important, these are: (i) construction contracts and engineering, procurement, and construction (EPC) closed on a turnkey basis; (ii) purchasing agreements to guarantee raw materials to the SPV at predefined quantities, quality, and prices; (iii) selling agreements enable the SPV to sell part or all of its output to a third party that commits to buy unconditionally at predefined prices and for a given period of time; and (iv) operation and maintenance agreements compliant with predefined service-level agreements This contractual bundle is, presented to creditors to secure debt financing, serving as the basis for negotiating the quantity and the cost of external funding. This occurs because: (i) as PF loans tend to have short-term liquidity constrains, lenders grant longer maturities to avoid increasing the projects’ probability of default; and (ii) projects go through fairly predictable risk phases that are gradually resolved, with spreads first increasing and, falling over time
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