Project Finance: The Impetus to Expansion and Acquisition Funds in Capital Intensive Industries

Project Finance: The Impetus to Expansion and Acquisition Funds in Capital Intensive Industries

By JP Balestrieri

May 19, 2009

In the current market, we are faced with companies and governments requiring the expansion or renovation of their capital intensive assets in various related infrastructure market segments.  Whether expanding manufacturing facilities, implementing new infrastructure capacity or leveraging existing assets for expansion into different regions or market niches, innovative financing is often at the core of long-term projects to transform a company’s strategy.  The ability to transform and execute upon one’s corporate strategy in capital intensive industries (like energy, oil & gas, transportation, government concessions and/or heavy equipment and manufacturing) is dependent upon the access to capital required to deploy existing and new capital assets that are critical to the long term recurring cash flows of a company’s or project sponsor’s(s) operations.

Akin to the underlying transformation in corporate objectives, the challenge with the project finance strategy is that the investment is made upfront while the anticipated benefits of the initiative are realized in the much longer term.  It is imperative to identify and prequalify sources of funds that can thoroughly understand the underlying changes being implemented by the prospective borrower(s) and project sponsor(s), and to achieve a comfort with the future cash flows arising from the collateral package of project investment or captive acquisition.

Originating and arranging long term financing in the current global credit environment is a daunting task when trying to get lenders comfortable with such a complex and flexible project financing strategy.  It is critical to create financing structures that include a collateral package of assets and contractual arrangements that capture a bankable flow of cash to service the debt, operating and capital expenses of project, while providing robust returns to the sponsors/company.  It is equally important that companies or project sponsors meet their objectives of keeping such capital intensive assets off their balance sheets and that the financing structure and terms limit or preclude recourse to their corporate balance sheets.

In sum, project finance is usually based on non-recourse or limited in recourse structures to the balance sheet(s) of corporate sponsors, whereby project debt and equity (and potentially leases) used to finance the project are paid back from the cash flow generated by the project, with the project’s assets, rights and interests held as collateral. In other words, it’s an incredibly flexible and comprehensive financing solution that demands a long-term lending approach not typical in today’s credit strapped marketplace.

Many project financings require credit enhancement due to the overwhelming asset class size and capital expenditure, the heightened political or credit risk in certain emerging market countries, and/or local or regional financial institution capacity to provide debt service on such projects. This entails working closely with established local and foreign relationships in government agencies and multilateral organizations to fortify the creditworthiness of a project and related asset classes. It is critical to be closely advised on the required political risk insurance, bank guarantees, public debt and equity participation, among other vehicles to provide credit enhancement for projects.

Advisors and project sponsors should work with local, state and federal government agencies as well as multilateral agencies and development organizations to support their projects. For more information, please refer to my article on Project & Public Finance Strategies (PDF) or leave a comment here.