Project finance is the financing of long-term infrastructure, industrial projects and public services based upon a non-recourse or limited recourse financial structure, in which project debt and equity used to finance the project are paid back from the cash flow generated by the project. Project financing is a loan structure that relies primarily on the project's cash flow for repayment, with the project's assets, rights and interests held as secondary security or collateral. Project finance is especially attractive to the private sector because companies can fund major projects off balance sheet.
Usually, a project financing structure involves a number of equity investors, known as ‘sponsors’; a 'syndicate' of banks or other lending institutions that provide loans to the operation. They are most commonly non-recourse loans, which are secured by the project assets and paid entirely from project cash flow, rather than from the general assets or creditworthiness of the project sponsors, a decision in part supported by financial modeling
Advantages of project financing
1. Nonrecourse or Limited-Recourse Debt
A project sponsor’s financial risk is limited to the amount of its capital contribution to the borrower. This feature helps a project achieve financial independence and protects a project sponsor’s assets from the troubles of any particular project, thereby significantly minimizing a sponsor’s risk when compared to corporate finance techniques.
2. Off-Balance Sheet Treatment
As a general matter, project financing techniques may allow equity providers off-balance sheet treatment of liabilities with respect to the project, including the debt. Project sponsors should consider off-balance sheet treatment carefully, taking into account all applicable accounting rules, if off-balance sheet treatment is a critical component of the economics of the transaction to the project sponsors.
3. Generally Favorable Financing Terms
Project finance lenders evaluate a project on the merits of the individual project, including the risk allocation. As a result, the financing terms are often more favorable to a project sponsor than if the lenders were making decisions based upon the project sponsor’s credit.
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