Project financing relies on the cash flows generated by projects to repay debt. It allows for highly leveraged structures with up to 80% of capital from debt financing. This limits shareholder liability beyond initial investments. Project financing has enabled large energy projects in risky locations through special purpose vehicles and by carrying weaker joint venture partners. It creates value by providing necessary cash flows while mitigating political and completion risks through contracts. However, projects can also experience performance issues, disputes, and constraints on cash flows impacting share prices if returns are not sufficient to repay lenders.

1. Published: UoL - 23 April 2016
Project Financing Thoughts
Introduction
Project finances have unique characteristics, and its funding can be in the form of debt or equity
or a combination, and the structure relies on the cash flow in projects for repayment based on”
assets, rights, and interest held by secondary “security” holders. That is a form of raising debt
financing long-term for major projects (Yescombe, 2002). Another significant upside of project
financing in larger energy projects is that it supports an “off-balance sheet non-recourse” or a
limited financing recourse structure that will not affect shareholder liability beyond its initial
shareholding (Simkins and Simkins, 2013).
The value created by using project financing
Project funding supports even the strongest companies to create value, and different financing
vehicles are used. Moreover, such large project transactions tend to be highly leveraged with a
structure accounting for 65% up to as much as 80% of capital under normal circumstances
(Comer, 1996). Meanwhile, larger projects that are highly leveraged; the value could be to the
source for a joint venture with weaker partners that could also create value for energy projects
that face acute political risks. Such project financing has enabled large energy projects to
operate in diverse locations such as Nigeria, Qatar, Papua New Guinea and Azerbaijan
(Simkins and Simkins, 2013).
A simplified finance structure for projects for the build operate, and transfer (BOT) projects
could have elements employing a “special purpose vehicle (SPV)” with a definite life and

2. especially for companies without prior business records. Its sole activity of the SPV is to
execute the project and where one typically subcontracts most aspects through an EPCI contract
and operations contracts (i.e. offshore field developments). Thus, new build projects do not
have a revenue stream under a “construction phase” so paying its debt is only possible after the
construction is onstream and parties take great risks during that period (Delmon, 2015).
However, project financing has created value in situations where an energy project is
experiencing over financing that is a situation where a partner, usually a weak one, requiring
to be carried by a stronger company. The more dominant company funds its share of the
expenses of the project and the expenditure of the weaker partner. Thus, the weaker partner
operates on a loan and directs that the cash flows from its project share go to repaying the loan.
Large energy firms also get value from project financing in dealing with political risks. Projects
investment ensures that a firm’s competitive strategy is strengthened. Further, project financing
helps energy firms mitigate risks that impact large projects. Also, appropriately planned
financing facilitates more efficient project execution and overcomes the risk of a company
becoming constrained regarding its opportunity. Project financing provides a project with the
requisite cash flow to ensure they execute project activities efficiently and pursue the
opportunities appropriately (Simkins and Simkins, 2013).
The benefit of project financing can be summed as a limited investment in regards to equity,
increased returns, risks sharing, handling accounting, preserve business borrowing capacity,
long-term financing access, benefits from taxes, and mitigation of political risks (Yescombe,
2002).
The large-scale financing impact on projects, the share price and cash flow on
organization’s
Large and leveraged projects like an oil installation with its infrastructure require significant
up-front investments that only create revenue to cover its costs, long-term. Therefore, the “time
profile” in debt financing matching the cash flows in projects implies that project term loans
normally have longer maturity period than other “syndicated loans” (Sorge, 2004).
In project financing, an organization's share price is affected. Project financing impacts the
initial cash flow, operating cash flow and terminal year cash flows in a firm. With the example
of South Africa’s energy projects, finance is provided on the basis of a finance debt with fixed
terms. The lenders are not liable to any loss’s firm may incur. Such companies are forced first
to pay the lenders using the first revenues the organization makes.
Consequently, project sponsors and equity investors only get returns depending on the
generation of returns by the firm. Failure to make good returns means the company pays the
lenders and is left without any cash to pay investors and for operations. The investors bear all
the risks though they also stand to generate high returns (Baker, 2015). The financing may
increase the share price of some firms and also reduce those of other. The financing extent may
increase the share price due to increase in a firm’s value up to a certain point. Beyond the point,
the value of the firm decreases leading to drop in the share price of the enterprise.
When recommending a finance method for projects, multiple factors have to be analyzed and
some key elements for justifying the choice of methods is shown in figure 1:

3. Gupta and Sravat (1998) have shown that financing of large projects has both risks and benefits.
The funding introduces necessary cash to the projects which increase the cash flows and the
share price. Such projects may be experiencing under-investment. However, there are also
many cases of performance issues and concession disagreements which cause firms to suffer.
Moreover, such firms experience losses leading to constraints in cash flows and dropping off
the share price and causing disputes. Other typical risk factors can be summed as; revenue,
input costs in supply, quantity, resource, timing, technically issues, demand, completion, the
operational, contract mismatch, political impact, a force majeure, sponsors support, i.e. the
need for more resources (Yescombe, 2002).
Conclusion
One can conclude that in project financing, it is expected that the project sponsors support the
project operations until certain tests, completion, operational, implementation and financial
soundness is met. If the project is appropriately financed, the sponsor needs to assure their
‘general credit’ beyond the required completion undertaking. Meaning that after the project is
in operation, all purchases and revenue created should be guaranteed upon a long term contract
(Yescombe, 2002).
References
Baker, L. (2015) The evolving role of finance in South Africa’s renewable energy
Sector, Geoforum, 64, pp.146-156.
Comer, B. (1996) Project Finance Teaching Note – 3 FNCE 208/731, The Wharton School
[Online]. Available from: http://finance.wharton.upenn.edu/~bodnarg/ml/projfinance.pdf
(Accessed: 23 April 2016).
Delmon, J. (2015) Private Sector Investment in Infrastructure, Project Finance, PPP Project
and risk, (2nd Ed.), Kluwer Law International [Online]. Available from:
http://ppp.worldbank.org/public-private-partnership/financing/project-finance-
concepts#_ftnref1 (Accessed: 22 April 2016).
Gupta, J. & Sravat, A. (1998) Development and project financing of private power projects
In developing countries: a case study of India, International Journal of Project Management,
16(2), pp.99-105.

4. Oskooei, M. (2015) Project financing methods, Alcatel Onetouch EMEA, pp. 1 – 40
[Online]. Available from: http://www.slideshare.net/MahmoodOskooei/project-financing-
methods (Accessed: 23 April 2016).
Simkins, B. & Simkins, R. (2013) Energy finance and economics, Hoboken, New Jersey:
Wiley.
Sorge, M. (2004) ‘The nature of credit risk in project finance,’ BIS Quarterly Review, pp. 91
– 101.
Yescombe, E., R. (2002) Principles of Project Finance, Yescombe Consulting, Ltd.