3.3. Project finance for renewable energy

“Are the economics of the project bankable?”

“What are the project risks, are these risks acceptable and if not how can they be mitigatedor allocated to acceptable third parties?”

“Is it worth the effort to try to answer the first two questions and put together an acceptabledeal structure?”

Sponsors should “Be Prepared” by understanding the major factors which drive a banker’sthinking and attitudes.

Therefore, three separate issues are drawn out which may influence a banker’s view beforehe even undertakes a detailed evaluation of a potential renewable energy project.

Sponsors need to understand the current state of the world banking markets. Projectfinance is a specialist, higher risk area of banking with large capital requirements.

Problems in the banking markets could lead to a reduction in the number of banks willing toprovide project finance. In such a case, sponsors should target their approach to thoseremaining banks which have retained the lending capacity to support the capital-intensive industries.

In addition, they should draw upon any existing relationships which they may have withbanks and seek to capitalize upon them.

Failure of sponsors to understand the fundamental approach a banker must take in terms ofhis “risk-reward” relationship:

• The lender’s recourse is limited to the project’s assets and cash flow. If it performs badlyhe may lose the principal and interest due to him (maximum downside).

• If it outperforms all expectations the lender can usually hope to do no better than toreceive his principal back plus the agreed interest payments (no upside potential).

Given such a risk-reward balance a provider of bank finance will probably be mostconcerned to limit risk. The lender will be much more concerned to establish that theproject will be able to service its debt, with a good margin of cover, under a wide range ofadverse scenarios and only indirectly interested in the IRR.

Size: The smaller the project and associated debt requirements, the more difficult it is toraise finance. The earnings potential from a $100 million project loan will usually ensure thatit takes precedence over a $10 million potential facility as they will both require broadlysimilar amounts of time to review, structure and document.