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Project financing: a teamwork approach to large-scale projects

Project financing: a teamwork approach to large-scale projects

Solar parks, railway lines and modernised schools: tailored project financing enables investments running into the millions. But how does this work? See below for an overview of a financing model which prices in the project’s future success as a cornerstone of the lending process while spreading the associated risk.

The energy transition, climate protection and modernisation of infrastructure pose enormous challenges. National elections are due to be held later this year in Germany, and several parties have already announced billions of euros of investments to finance future public projects.

But how is it possible to realise such huge tasks? With a tailored financing model: project financing. For instance, this model is applied for the construction of wind and solar parks which are assisting with the energy transition. It is also helping to improve the prospects for the next generation, through companies and the public sector jointly investing in schools and kindergartens via public-private partnership projects. A further area where project financing is used is capital-intensive infrastructure projects such as the modernisation of railway lines and the construction of logistics centres, financing of medical technology and major digitalisation projects. Deutsche Leasing realises these types of major projects through its subsidiary DAL Deutsche Anlagen-Leasing GmbH & Co. KG.

Realize wind farms via project financing
Modernization of railroad lines
Realize logistics centers by means of project financing

But what does project financing actually involve?

The unique characteristic of project financing is that, rather than being tied to a company, it is tied to a specific project, such as the construction of a solar park. The goal is for this to become a self-sustaining economic entity since the funded project is expected to finance itself through the revenue which it will generate further down the line. Project financing thus differs from other types of financing for companies and represents an alternative to traditional corporate financing.

Contact

DAL Deutsche Anlagen-Leasing GmbH & Co. KG
Emy-Roeder-Straße 2
55129 Mainz (Germany)

Fon: +49 6131 804-0
https://www.dal.de

Off-balance-sheet financing and major investment volumes

Project financing arrangements are often used for major projects which require a high volume of financing. The amounts invested can easily reach several million euros – or even more. Project financing arrangements will not show up in the balance sheets of the sponsors involved in the project. This means that project financing will affect the balance sheet of the project company, but not the balance sheets of the project’s stakeholders. In other words, this is an off-balance-sheet financing arrangement. In many cases, financing is agreed on a long-term basis with a repayment period of 15 years or more.

Particular characteristics: focus on cash flow and prospects of success

In project financing, the amounts invested in the project and the interest will be funded above all by the revenue generated by the project, i.e. its cash flow. This model thus entails the implicit assumption of the financed project’s future success so that it will cover the related costs. If the project achieves surplus income, this will generally initially be used in order to stabilise the project. As a next step, interest and redemption payments will be made.

What are the growth prospects of the project?

Lending and the completion risk

The emphasis is also on the future with regard to the borrower’s credit worthiness. Project financing will not only be granted on the basis of the borrower’s historical data; future issues are also relevant. What sort of return can be expected? What are the growth prospects for the project? What sort of cash flow is assumed? In short: what are the envisaged prospects of success for the project? One of the biggest risks for the lender is the non-completion of the project (completion risk). An incomplete project will be unable to fulfil its intended purposes – and to generate interest and repayment instalments by means of a positive cash flow.

Shared risk for project financing arrangements

For this reason, too, the partners involved in a project financing arrangement will shoulder the related risk. Sponsors, suppliers, operators, insurers or the project company, for instance, will thus each assume some of the risk. This minimises the risk of difficulties in one particular area jeopardising the project as a whole.

Overview of project financing+

Major investment projects

  • Project financing is particularly suitable for high-volume individual financing arrangements, e.g. in the fields of infrastructure, real estate and digitalisation

Prospects of success

  • For project financing, the prospects of success for the funded project play a major role. In particular, the expected future revenue (cash flow) should be sufficient to fund the project.

Shared risk

  • Thanks to a risk-sharing arrangement, the various partners involved will collectively shoulder the associated risk. This reduces the risk for the overall project.

Off-balance-sheet financing

  • Project financing arrangements are off-balance-sheet for the sponsors participating in the project and will thus show up in the balance sheet of the project company rather than the balance sheets of the project’s stakeholders.