Project Finance Explained

Project finance refers to the financing technique used for large or complex corporate projects, Project finance is often a complex structure and mix of capital deployed for projects such as mining, energy and other natural resource related projects, from oil & gas pipelines and refineries to electric-generating facilities and hydro-electric projects. Increasingly, project financing is emerging as the preferred alternative to conventional methods of financing infrastructure and other large-scale projects worldwide.

Understanding the rationale for project financing is half the battle, how to prepare the financial plan, assessing the risks, project and financial modelling and the raising of funds. Project financing requires unique expertise in order to identify requirements such as contractual arrangements that support project financing, host government criteria and legislation, public/private infrastructure partnerships, public/private finance structures; credit requirements of potential lenders, and how to determine the project's borrowing capacity; how to prepare cash flow projections and use them to measure expected rates of return and of course in depth analysis and project feasibility.

Project finance is best described as finance for a particular project, such as a mining project, oil & gas pipeline, power station or renewable energy project which is repaid from the cash-flow of that project. Project finance is different from traditional forms of finance because the financier principally looks to the assets and revenue of the project in order to secure and service the loan and, increasingly situations that offer off-take potential. As opposed to a traditional borrowing method the financier usually has little or no recourse to the non-project assets of the borrower or the sponsors of the project. In this situation, the credit risk associated with the borrower is not as important as in ordinary loan transactions.

In a non recourse or limited recourse project financing scenario, the risks for a financier are considerable as the loan can only be repaid when the project is operational and is ultimately dependant on its success, hence why financiers, and their advisers, go to great lengths to ensure that the risks associated with the project are reduced or mitigated.