Principles of Project Finance

This chapter covers the procedures for raising project finance from private-

sector lenders, in particular commercial banks (cf. §5.1) and bond investors

(cf. §5.2), with a comparison between the two (cf. §5.3).

The financing and additional credit support that can be obtained from public-

sector sources, in particular export credit agencies (such as U.S. EximBank) and

multilateral development banks (such as the World Bank) are discussed in Chap-

ter 11.

The nature and roles of the various external advisers used by lenders are also

considered (cf. §5.4).

§5.1 COMMERCIAL BANKS

Most commercial banks in the project finance field have specialist depart-

ments that work on putting project finance deals together. There are three main

approaches to organizing such departments:

Project finance department. The longest standing approach is to have a de-

partment purely specializing in project finance transactions. Larger depart-

ments are divided into industry teams, covering sectors such as energy, in-

frastructure, and telecommunications. Concentrating all the project finance

expertise in one department ensures an efficient use of resources and good

cross-fertilization, using experience of project finance for different indus-

tries; however, it may not offer clients the best range of services.

Structured finance department. As mentioned in §2.4, the divisions between

project finance and other types of structured finance are becoming increas-

Chapter 5

Working with Lenders

49

ingly blurred, and therefore project finance often forms part of a larger struc-

tured finance operation. Again there may be a division into industry teams.

This approach may offer a more sophisticated range of products, but there is

some danger that project finance may not fit easily into the operation if other

business is based on a much shorter time horizon.

Industry-based departments. Another approach is to combine all financing

for a particular industry sector (e.g., electricity, oil and gas, or infrastructure)

in one department; if this industry makes regular use of project finance, proj-

ect finance experts form part of the team. This provides one-stop services

to the bank’s clients in that particular industry, but obviously may dimin-

ish cross-fertilization between project finance experience and different

industries.

In the end good communication and cooperation within the bank are probably

more important than the formal organization.

In general, the project finance personnel in these departments have banking or

finance backgrounds, although some banks employ in-house engineers and other

specialists, including people with relevant industry experience. Even though most

of the personnel are not experts in construction, engineering, or other nonfinancial

disciplines, by working on a variety of transactions over time they develop expe-

rience and expertise in various industries and the technical and practical issues

that can affect the viability of a project; however, banks also rely extensively on

specialized external advisers (cf. §5.4).

Project finance is a time-consuming process for banks and uses well-qualified

and therefore expensive staff; some past market leaders have withdrawn from the

business because the bank has come to the decision that a better return on capi-

tal can be obtained from other types of structured finance or from concentrating

on retail banking. Nonetheless as Table 3.2 illustrates, most major international

banks remain active in the market.

Projects need to be of a reasonable minimum size to provide banks with enough

revenue to make the time spent on them worthwhile. Arranging debt for a project

much under, say, $25 million, is unlikely to be economic (unless it is part of a pro-

duction line of very similar projects for which the same template can be used), and

most major banks would prefer to work on projects of, say, $100 million or more.

§5.1.1 A

DVISERS AND

L

EAD

M

ANAGERS

There are two different financial roles in the project-development process:

financial adviser and lead manager.

The financial adviser. Unless the sponsors are experienced in project devel-

opment, problems are highly likely to be caused by negotiation (or even sig-

nature) of Project Contract arrangements that are later found to be unac-

50 Chapter 5 Working with Lenders