risk management
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risk management Presentation Transcript

  • 1.
  • 2. It’s All About Risk!
    The key to project financing is the reallocation of any risk away from the lenders to the project.
  • 3. Definition of Project Completion
    Principle Categories of Risk: Pre-Completionand Post-Completion
    Physical Completion
    Project is physically complete according to technical design criteria.
    Mechanical Completion
    Project can sustain production at a specified capacity for a certain period of time.
    Financial Completion (financial sustainability)
    Project can produce under a certain unit cost for a certain period of time & meets certain financial ratios (current ratio, Debt/Equity, Debt Service Capacity ratios)
  • 4. Management and Alleviation of RisksPrinciple Categories of Risk: Pre-Completionand Post-Completion
    A:Pre-Completion Risks:
    Some Examples of
    Ways to Reduce or Shift Risk
    Types of Risks Away from Financial Institution
    Participant Risks
    -Sponsor commitment to project- Reduce Magnitude of investment?
    -Require Lower Debt/Equity ratio
    -Finance investment through
    equity thenby debt
    Financially weak sponsor - Attain Third party credit support for weak sponsor (e.g.,Letter of Credit)
    - Cross default to other sponsors
    Construction/Design defects - Experienced Contractor
    - Turn key construction contract
  • 5. Management and Alleviation of Risks
    A:Pre-Completion Risks (cont’d):
    Some Examples of
    Ways to Reduce or Shift Risk
    Types of Risks Away from Financial Institution
    Process failure - Process / Equipment warranties
    Completion Risks
    Cost overruns - Pre-Agreed overrun funding
    - Fixed (real) Price Contract
    Project not completed - Completion Guarantee
    - Tests: Mechanical/Financial for completion
    Project does not attain - Assumption of Debt by Sponsors if mechanical efficiency not completed satisfactorily
  • 6. Regulatory Risks
    Regulatory is the risk of not obtaining all approvals required to build (e.g. export licences)
    and operate (e.g. orbital slots assignment and frequency coordination, landing rights) the
    system.
  • 7. B. Post-Completion Risks
    Some Examples of
    Ways to Reduce or Shift Risk
    Types of Risks Away from Financial Institution
    Natural Resource/Raw Material
    Availability of raw materials - Independent reserve certification
    - Example: Mining Projects: reserves twice planned mining volume
    - Firm supply contracts
    - Ready spot market
    Production/Operating Risks
    Operating difficulty leads to - Proven technology
    insufficient cash flow - Experienced Operator/ Management Team
    - Performance warranties on equipments
    - Insurance to guarantee minimum cash
  • 8. B. Post-Completion Risks
    Some Examples of
    Ways to Reduce or Shift Risk
    Types of Risks Away from Financial Institution
    Market Risk
    Volume -cannot sell entire output- Long term contract with creditworthy buyers :take-or-pay; take-if-
    delivered; take-and-pay
    Price - cannot sell output at profit- Minimum volume/floor price provisions - Price escalation provisions
    Force Majeure Risks
    Strikes, floods, earthquakes, etc.- Insurance
    - Debt service reserve fund
  • 9. Some Examples of
    Ways to Reduce or Shift Risk
    Types of Risks Away from Financial Institution
    Political Risk
    Covers range of issues from - Host govt. political risk assurances nationalization/expropriation, - Assumption of debtchanges in tax and other laws, - Official insurance: OPIC, COFACE, EXIM
    currency inconvertibility, etc. - Private insurance: AIG, LLOYDS
    - Offshore Escrow Accounts - Multilateral or Bilateral involvement
    Abandonment Risk
    Sponsors walk away from project - Abandonment test in agreement for
    banks to run project closure based on historical and projected costs and revenues
    Other Risks: Not really project risks but may include:
    Syndication risk - Secure strong lead financial institution
    Currency risk - Currency swaps / hedges
    Interest rate exposure - Interest rate swaps
    Rigid debt service - Built-in flexibility in debt service
    obligations
    Hair trigger defaults
  • 10. Currency risk Currency risks include the risks that: (a) a depreciation in loan currencies may increase the costs of construction where significant construction items are sourced offshore; or (b) a depreciation in the revenue currencies may cause a cash-flow problem in the operating phase.
  • 11. Project Financing and Political Risk MitigationThe Singular Case of the Chad-Cameroon Pipeline
  • 12. Chad-Cameroon Pipelines: Project Background
    Oil first discovered in southern Chad by Conoco early in 1970’s
    Initial consortium: Conoco, Exxon, Shell, Chevron
    Additional discoveries brought reserves to ~1 billion barrels
    Chad’s unique risk profile
    Landlocked country: oil must be pipelined to Atlantic coast for export
    Best route: through Cameroon – ranked 148/177 on poverty, 99/99 on corruption – potential for pipeline to be held “hostage”
    Chad: 30 year civil war after independence; ruled by Gen. Indris Deby since 1990; unstable borders; $300 per capita income; 173/177 poverty
    Oil companies declined to develop Chad’s reserves
    Conoco withdrew in favor of Exxon; Chevron sold to Elf-Acquitaine
  • 13. Key to Unlocking Chad’s Reserves – Risk MitigationProject Finance one of few Available Tools
    Project Finance can mitigate location/political risk in 3 ways:
    Stake Reduction: limiting project sponsor’s capital at risk
    Requires financing to be “non-recourse” to sponsor
    Also strengthens sponsor’s ability to resist host government pressure
    Deterrence: disrupting financing involves consequences that deter
    host government disruptive actions
    Financing to include lenders which host governments don’t want to offend
    3. Terms Clarification: project finance process forces host government
    to clarify/document commitments
    Ties commitments to NY/UK law and/or offshore arbitration
    Private firms want deterrence to avoid unilateral contract revision
  • 14. First Test: Esso Production Malaysia(EPMI)1978
    Concept: Cash flow allocated for debt service could be impacted by government changes in tax rates
    Bank loan repayment at risk if government raises rates
    Consortium: Top three international PF banks in lead
    Citibank, JP Morgan, Chase
    Followed by top 3 Malaysian commercial banks
    Result: Inconclusive
    Malaysia raised rates, banks responded with mild protests
    Exxon repaid loans; Malaysia did not raise rates again
    Result left Exxon disinclined to use PF for upstream risk mitigation
  • 15. Special Risks in Chad-Cameroon led Oil Company Consortium to reconsider using PF
    Chad’s acute revenue needs for poverty/security; lack of rule of law
    Cameroon’s potential to hold pipeline hostage once built, demanding higher transit fees, equity participations
    Nothing about EPMI suggested PF by itself would deter such events
    Consortium’s new concept: combine PF & World Bank deterrence
    WB’s status: “concessionary” lender, ties to IMF as ‘lender of last resort’
    Track record where few if any countries failed to repay WB loans
    Plan to combine WB participation with strategic ECA/MLA lenders
    US Ex-Im, CoFACE, European Investment Bank (EIB)