The Anatomy of a Project Finance Transaction

Anatomy of a project finance transaction

When it comes to project finance transactions, no two projects are the same. A project financing is one where the revenues produced by a project are used to repay lenders who have made loans to build the project. There are many moving parts that need to be brought together. This article outlines the core elements that define a project finance transaction

Offtake/Sales Agreement

The central document of a project financing is the offtake or sales agreement. This is an agreement whereby the project owner agrees to sell the use of his project to a buyer. For example, a power station will sell its electricity to an established electricity supplier, a bridge will use toll revenues to repay indebtedness, or an airport will use landing fees to repay its loan. This is the key document for project bankability.

Concession Agreement

Very often, projects need to be built on public land. This means the grant of a concession from a host government, so the project can use the land for its life. There are a number of different types of concession which provide different ways for the project to operate, and detail what happens at the end of the concession. 

The concession must last for at least the same time as the project loans. It will also define the way in which the project will be managed. A typical structure is the BOT structure, meaning that the project sponsor will ‘Build Operate Transfer,’ as well as the BOOT structure meaning ‘Build, Own, Operate Transfer.’ In all of these scenarios, at the end of the concession period, the project sponsor must transfer ownership of the asset to the host government.

Talking of governments, the other key element here is the need to obtain the right permits and authorisations for the project to be legal in the host country. This will require a local law firm to be hired to identify the relevant permits. It will be a provision of the concession that the government agrees not to revoke or adversely amend the permits during the life of the loan.

Political risk mitigation is another key reason for a concession or project agreement with a host government. Project lenders will want to be sure that the host government does not exercise its sovereign rights to make and repeal legislation. This means that a concession agreement will include undertakings from a host government not to expropriate or nationalise the project before the end of the concession period and, if it does so, agrees by contract to pay compensation.

Environmental Impact Assessment

Many lenders require a favourable EIA, as they don’t want to be accused of financing projects that pollute the local environment, require the resettlement of indigenous people, or the destruction of natural habitats and livelihoods.

Financial Model

This can be hugely complex and run to thousands of Excel cells! It is a model of all the assumptions, and is used to predict project revenues and test their strength in a range of different economic scenarios. Lenders will need to see and understand this document as part of making their proposal to their credit committee.

EPC Contract

The Engineering, Procurement and Construction contract is another key element. Lenders will want to know that the company building the project knows how to do it and has done it before. This contract will contain provisions that deal with cost overruns – the worst nightmare of a project lender. As an example, having committed 75% of the loan it is then discovered that they need to commit another 50% to cover cost overruns. This reduces the overall profitability of the project and consequently the lender’s return.


Many projects are financed through a Special Purpose Vehicle, often established in a tax-friendly jurisdiction. The SPV allows the project to be ringfenced from a liquidator in any liquidation of the project owner. It also allows multiple shareholders to become involved. 

Many large projects costing hundreds of millions are done in collaboration with others, such as an oilfield development where a group of oil companies collaborate. The project SPV is a convenient method of establishing and regulating this collaboration. 

There will need to be a shareholders agreement for the project SPV. This can be a sensitive document to negotiate given the different interests of the parties involved. This agreement will also cover how the shareholders will fund their equity stakes.

Credit Agreement

The loan agreement signed between the lender(s) and the project SPV can be long and complex. It is customary for this agreement to contain heavy reporting requirements on the project’s progress, which can often be linked to the achievement of construction milestones to allow for further drawdown of loan proceeds. There are also obligations to establish debt service reserve accounts for short term cash flow shortfalls, and the calculation of debt service coverage ratios which, if not met, can lead to defaults on the loan.

Security document

Lenders will want to take security over the project and its revenue stream until they are repaid. There are a range of security interests that are available to lenders. These include security in and over the shares of any project SPV, any cash in the SPV’s bank account, security over the physical assets of the project itself, and security over the concession (so if they need to enforce it, they will still have the right to carry on the project and security over the offtake agreements receivables). If the project is overseas, local counsel will be required to advise on taking and perfecting security.

Direct Agreements

Where there is significant government interest in a project, such as a power station supplying a country’s needs, part of the security package may involve the signature of a direct agreement with the host government. This provides a direct contractual link between the lenders and the host government that sets out what happens if a project encounters financial difficulties during its lifetime and a liquidator/administrator needs to be appointed by the lenders. Thereby, it removes the potential for uncertainty involved in the liquidation/administration process, especially in less developed jurisdictions or different legal systems.

Lender’s Engineer

For a big infrastructure project, the lenders will often appoint an international engineering firm to advise them on the technical and engineering progress of the project as it is built. The project sponsor will work closely with the lender’s engineer, who will advise the lenders on technical matters connected with the ongoing construction process.

O and M Contract

The Operating and Maintenance agreement is another key bankability element. It is one thing for lenders to be satisfied that the project builder knows what they are doing, but quite another that there is someone who knows how to operate the project. If the project is not correctly operated and/or maintained, this can lead to the project not functioning properly or at all, And, if it is not functioning, it is not producing revenues to repay the leaders.


All of these different strands to pull together is one of the reasons why major projects can take a while to reach financial close. The involvement of host governments will usually slow the process further, especially where said government has little experience of how major infrastructure is customarily financed. The project finance lawyer therefore not only needs to be a skilled draftsman, juggler, and project manager, but also a diplomat to get the best out of host governments – who can sometimes be suspicious of the motives of project sponsors.

Setfords has the relevant team, expertise and know how to advise you on your project. Please do not hesitate to call Andrew Naylor for an informal discussion if you have any questions.

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