Friday, November 10, 2017 4:18PM/Brickstone Partners
We continue our article on funding sources
below. Read the Part 1 of our article HERE.
With any major project come the inherent risk
factors associated with accidents on site, additional construction cost,
completion delays and future cash flow. It is vital that bankers or sponsors
reduce these risks or share them out with others through the correct
guarantees, insurance and bonds. Several types of bond are available to ensure
completion or performance under a construction contract and these can be used
to provide some extra assurance to the project lender. The most common bonds
Retention bonds; and
The owner of a project is the most obvious
guarantor of a project financing transaction. However, subsidiaries established
to run a project are often undercapitalized and have no established track
record, leading to poor credit rating. Project lenders will therefore require
guarantee from a creditworthy source, often involving the parent company. In
most cases, this type of debt guarantee will appear as a liability on the
consolidated balance sheet of the owner or sponsor. However, there are other
forms of direct and indirect undertaking which, if structure correctly, could
be treated by sponsor as off-balance-sheet liabilities.
Sponsor may or may not be interested in owning a
facility which is needed to provide it with a product or service. Figure 1
illustrates the process which will result in the sponsor owing the completed
facility. Figure 2 illustrate the mechanism that the sponsor must establish if
it does not wish to own the completed project but is prepared to act as a guarantor.
The arrangement illustrated in figure 1&2 are both direct guarantees
Third party direct guarantees:
One objective of project financing is to ensure
that no single part carries the financial burden or risk with the project. This
can be achieved by combining different types of guarantee or undertaking from
various parties in the form of bankable credit. Guarantees enable sponsors to
transfer the financial risk of a project to a third party. This mechanism
allows off-balance-sheet financing to take place, without which some project
would not be possible.
Third party guarantors must benefit from the
transaction in other to make their involvement worthwhile. Any guarantor is
thus, to some extent, a project sponsor. The advantage of third party
guarantees is that the owner or sponsors (non-guarantor) are able to keep their
liabilities off balances sheet. It is possible to categorize third party
guarantors into the following group:
The loan/lease obligations of the project
company are guaranteed by a third party who does not wish to own or control the
project company. Based on this guarantee, the project company is able to enter
into a loan or lease agreement with the lender or leasing company. The
relationships involve are illustrated in figure 3.
Third party indirect guarantees:
Third party indirect guarantees can take the
form of “take or pay contract” or “throughput contracts”, and can be used to
ensure a steady flow of fund once a project has been completed. These may
include a supplier setting a fixed price for raw material over a predefined
period, or the user of the project’s output agreeing to take a set quantity of
goods at a fixed price. These types of arrangement are often sufficient to
assure lenders of the project’s viability. A trustee (usually a bank) should
act as an intermediary and, by controlling the flow of money, provide
additional assurance to the lender.
A take-or-pay contract is an administer
organizing transactions amongst companies and their suppliers. With this sort
of agreement, the company either takes the item from the supplier or pays the
supplier a punishment. Figure 4 represents an ordinary take-or-pay contract.
A throughput contract is usually an agreement
between the owners of a transportation or processing facility and the potential
users of that facility,(e.g. an oil pipeline), whereby the users agree
periodically to pay a set amount in return for the processing or transportation
of a product. The users should provide an agreed minimum quantity for each
period and have to pay even if the contracted quantity is not provided. Throughput
contract signed prior to construction can act as guarantees to future income
and thus help to raise the funds required to finance the project.
Figure 5 illustrates an arrangement for a
typical throughput agreement. This agreement has been used to secure a loan
which will be used to build a processing plant. A construction contract is
formed between the processing company and the contractor. In this example,
there are two sponsors who have throughput contracts with the processing
company. The processing company enters into a loan and lease agreement whereby
due under the throughput contract is assigned to a security trustee, who uses
these to service the debt, any excess cash being paid to the processing
company. The throughput contract signed by company A and company B must be
disclosed in the companies’ consolidated balance sheet.
As an example the British Airport Authority
(BAA) recent funding policy has been to finance major British construction
project by using the debt instrument in preference to equity. However, equity
issues are favored when international project are being considered. To fund its
operation, the company has to make use of both short-term and long-term
finance. For example, long-term loans at a fixed rate are used to build new
runways or terminal building, but fixed-rate, medium-term loans are often used
for smaller projects. It is the responsibility of BBA’s treasurer to negotiate
with the capital market and obtain a debt that is best for the company in
general. This will involve assessing the cost of the debt in both financial and
tax terms, and determine the associated risk and possible remedies. BAA’s
corporate philosophy has been to give considerable autonomy to its
subsidiaries. However, it does have a central treasure in order to:
Control and implement
the group’s strategy;
Reduce overall finance
Ensure that assets are
Ensure a good
distribution of fund through the regional offices; and
borrowing terms with the banks.
Over the years, BAA’s has selected the following
financial instruments which it consider best suit the company’s requirement.
The funding of project is not restricted to these sources, and new approaches
are the considered so long as they are beneficial to the company.
Short -term finance: are wellsprings of finance that are accessible for some organizations
that experience regular income variances, or that generally require a little,
fast advance to cover costs that will be reimbursed in anticipated income in
less than a year.
Medium-Term finance: are wellsprings of finance accessible for the mid-term of between 3 – 5
years commonly used to finance an extension of a business or to buy expansive
settled resources. It is generally the bigger measures of acquiring or the
utilization of the assets that separates medium wellsprings of finance from
here and now, in spite of the fact that some of the fleeting choices are
accessible for the mid-term
Long term finance: is a type of financing that is accommodated a time of over a year. Long
term financing administrations are given to those business substances that face
a deficiency of capital. There are different long term wellsprings of finance.
It is not the same as here and now financing which is typically used to give
cash that must be paid back inside a year. The period might be shorter than one
Unsecured loan: is a loan that is issued and bolstered just by the borrower’s
reliability, as opposed to by insurance. An unsecured loan is one that is
gotten without the utilization of property as insurance for the loan, and it is
likewise called a mark loan or an individual loan. Borrowers by and large
should have high FICO assessments to be endorsed for certain unsecured loans.
Eurobonds: are bonds denominated in a currency different from the currency of the
countries in which they are issued and sold.
Learn how to package your project for
investors. Download the Guide HERE