What are the two typical risk areas?
1) Entity Risks (Sponsor, Contractor, Host Government)
2) Transaction Risks (FX, Inflation, Liquidity, Pricing, Country, Legal, Environment, Force Majeure)
What are typical risks in developing countries and emerging markets?
technical, environmental, economic and political risk
What is meant by “project delivery methods” regarding risks?
risk mitigation
Entity Risks: Sponsor: Objectives
- limiting further development costs
- minimizing transaction costs
- recovering development stage expenses
- long term: CF generation potential
Entity Risks: Contractor: Objectives
- is concerned with difficulty of predicting events that could adversly impact the parameters of the project and avoiding them
- concerned with the underlying financing documents, including whether the sponsor has arranged sufficient financing to pay the contractor for work performed
Entity Risks: Host Government: Objectives
Short term: political benefits and attracting other developers to a country
Long term: improve economic prosperity and perhaps political stability
- H.G. usually takes part of the project risks
What are (in general) typical risk sectors?
- FX and Interest Rate
- Inflation, Liquidity and product pricing
- country/ political risk
- Legal Risks
- Environmental Risk
- Opposition
- Force Majeure
- Functional- &Operational Risk
- Completion Risk
- Supply Risk
- Financing Risk
- Technological Risk
What are the three time frames PF risks can be divided in in which the elements of credit exposure assume different characteristics?
1) Engineering and construction phase
2) Start-up phase
3) Operations phase
How is the Engineering and Construction Phase characterized and what are typical risks?
1) Risk is highest; no CFs are generated; length can vary from several month to several years
2) Siting and permitting (political risk), completion risk, building materials, cost overruns
What are characteristics of the Start-up Phase?
- may last for period of many month
- banks to be satisfied
- phase is especially significant if the loan becomes “non-recourse” once the project has been completed
- potential conflict of interest
What are typical risks during the operational phase?
- raw material/ supply risk
- off-take and sales risk
- technology/ obsolescence risk (technological failure)
Mitigating construction and completion risk
- Turnkey contract
- fixed price lump sum contract
- cost overruns
- completion guarantee
- Liquidated damages in construction contracts
Mitigating operational risks
- take- or pay contract
- take- and pay contract
Mitigating Financial risks
- Futures
- Forwards
- Options
- Swaps
What are the two other types of risk mitigation (can be applied to different types of risks)?
- Guarantees (Limited, unlimited, indirect, etc.)
- Insurance
Why are project finance transaction particularly vulnerable to force majeure risks?
- complexity of transactions
- numerous participants in project
- physical nature of construction activity
- associated technical and performance risks
- impact of geographic distance and transport of raw materials
