PRIVATE EQUITY FUNDING ADVISORY
While riding on a high-speed train through India, Europe, or Taiwan, a passenger may see massive wind turbines scattered throughout the countryside. Marveled by the landscape, the passenger may take a snapshot on her phone camera and send it to her family. Without realizing it, the passenger is likely to have benefitted from infrastructure projects that have been financed by a mechanism called “project finance.” The high-speed rail, the wind turbine, and the telecommunication towers are all large and complex infrastructure undertakings. Sometimes such projects are made possible by traditional financial methods; increasingly, however, infrastructure projects are financed by a mechanism that engages a multitude of participants including multilateral organizations, governments, regional banks, and private entities. In project finance, participants negotiate amongst themselves to spread risks associated with an undertaking, thereby increasing the chances for success in developing vital infrastructure projects for that country and its population.
Project finance is the preferred financing mechanism for large infrastructure projects that are essential for developing countries, emerging economies, and developed countries alike. This FAQ will define project finance and compare it to corporate finance, present project finance participants, and discuss the financing mechanism. It will also address the advantages and risks associated with project finance and provide insight into the future of project finance.
What is Project Finance?
At its core, project finance is a method of financing where the lender accepts future revenues from a project as a guarantee on a loan. In contrast, traditional method of financing is where the borrower promises to transfer to the lender a physical or economic entity (collateral) in the case of default. In practice, most projects are financed by a combination of both traditional methods as well as by guarantee-backed loans. While the name suggests that project finance refers to raising capital by any means to pay for any project, the term refers to a narrow but increasingly more prevalent method of financing capital- and risk-intensive projects across a broad array of industries.