LECTURE NOTES

ON
LAW OF PROJECT FINANCE

Month – July [14 Lectures]

LECTURE 1-4 – BASICS OF PROJECT FINANCE

LECTURE 5-10 – PARTIES TO PROJECT FINANCE

LECTURE 11-12 – PRESENTATIONS [C.A.]

LECTURE 13 – PROJECT FINANCE RISKS

LECTURE 14 – CASE STUDY 1

LECTURE 1
[09/07/2018]
 SYLLBUS DISCUSSION
 EVALUATION SCHEME
 PROJECT

LECTURE 2
[10/07/2018]

DEFINITION OF PROJECT FINANCE

1. In simple words, project finance means structured financing of a specific economic entity
SPV [Special Purpose Vehicle] also called as the project company created by sponsors
using equity or mezzanine debt and for which lenders consider cash flows as being the
primary source of loan reimbursement, whereas assets represent collateral.
2. Majority authors agree that it does not depend upon the soundness of credit worthiness of
the sponsors (ie. the parties proposing the business idea to launch the project). Approval
does not depend on the value of the assets of the sponsors who are willing to make
available as collateral. Rather, it is basically a function of the project’s ability to repay the
debt contracted and remunerate the capital invested at a rate consistent with the degree of
risk inherent in the venture concerned.
3. Steffano Gatti –
5 points in essence the distinctive features of a project finance deal –
- the debtor of the project company set up on an adhoc basis that is financially and legally
independent from the sponsors.
- Lenders have only limited recourse (or in some cases no recourse at all) to the sponsors
after the project is completed. The sponsors involvement in the deal is in infact limited in
terms of – time, amount and quality.
- Project risks are equitably allocated between the parties
 (#SPV – Refer to CA presentation by Abha Mehta and Shivani Chaturvedi)

LECTURE 3
[12/07/2018]

STAGES OF IMPLEMENTATION FOR A PROJECT

Gestation Stage
 essentially comprises of the development of the project concept, preliminary study of
the basis and feasibility of the project.
 the importance of the stage is that it provides the foundation for the project.
 The critical aspect of this stage is that of research and development of the project
concept and feasibility which culminates in the decision to develop the project.
 In this stage the project developers would seek to form a consortium of interested
developers who would participate in the development of the project.

Development Stage
 Commences from the time the decision to implement the project has been taken and the
project has evolved from the gestation stage.
 In this stage, the activities would constitute the framework for the implementation of the
project, ranging from the incorporation of the project company to financial closure.
 One of the main decisions at this stage is to determine the project development vehicle
and structure of the project implementation.
 Also involves commencement of negotiation to formulate and create lenders
consortium. The process of negotiation, finalisation and execution of the entire
documentation required for a particular project should ideally be as follows –
o Executing agreements with the Govt.
o Concluding Agreements with various Equity Participants
o Executing Agreements with various contractors.
o Executing agreements with lenders.

Construction Stage
 Involves implementation of the construction within the schedule.
 Time is a crucial factor. Any delay with directly affects costs and consequently the
financing of the project.

Operation and Maintenance Stage

Termination and Transfer stage

LECTURE 4
 [13/07/2018]

ADVANTAGES & DISADVANTAGES OF PROJECT FINANCE

(Refer: Xerox – 1 for elaboration)

LECTURE 5
[16/07/2018]

PARTIES TO PROJECT FINANCE

The various parties are –
1. Project Sponsor
2. Project Company
3. Borrowing Entity
4. Commercial Lender
5. International Agencies
6. Bilateral Agencies
7. Rating Agency
8. Supplier
9. Output Purchaser
10. Contractor
11. Operator
12. Financial Advisor
13. Technical Consultants
14. Project Finance Lawyers
15. Local Lawyers
16. Host Government
(Refer: Xerox–2 for elaboration)

LECTURE 6-10
[17/07/2018] [19/7/2018] [20/07/2018] [23/04/2018] [24/04/2018]

PARTIES TO PROJECT FINANCE vis-à-vis PROJECT STAGES

(Refer: International Project Finance – Law and Practice by John Dewar)

 There is no single project finance model that is applicable across the entire market.
Different models are applicable to each sector, and even within the same sector.
 However, the main protagonist in the origination of a project is almost always either a
host government or a private sponsor, and both will, normally, have key roles.
 Governments are key players in encouraging the development of projects to meet the core
needs of their communities within the infrastructure sector particularly in less developed
countries, 
while private sponsors are more likely to demonstrate their initiative where
there is an opportunity to utilize or exploit resources, as in, for example, the mining
sector. There are, of course, overlaps and exceptions.
 4 Stages –
Stage I – Project Origination
Stage II – Financing the Projects
Stage III – Constructing the Project
Stage IV – Operating the Project
 STAGE I – PROJECT ORIGINATION

o HOST GOVERNMENT
 The reluctance or inability of host governments to increase their borrowing, together
with emerging political will to involve the private sector (including foreign investors),
therefore underlie very visible efforts to find ways to involve private capital and
private initiative in the promotion of public interest objectives, such as the
development of infrastructure.
 Host government will have at least some of the following objectives, to involve the
private sector in project development.
 Minimizing Costs - Private participation in the development of infrastructure
and other projects can lower overall costs. For example, effectively structured
and transparent bidding procedures in respect of projects being proposed by host
governments are designed to heighten competition among private sector
sponsors and suppliers, thereby encouraging efficiency with a view to lowering
overall costs.
 Risk Transfer - Host governments will, generally, seek to transfer the risk of
infrastructure development from the public sector to the private sector. 
(1) no
liability for the project;
(2) retaining control over the project; and
(3) limiting
the government’s undertakings and retaining flexibility. It will seek to insulate
itself from responsibility for the design, construction, development, testing, and
commissioning of any project. Fundamentally, it will not wish to be liable to
any third parties for cost overruns or accidents in relation thereto.
 Demanding a safe, efficiently run project- A host government will demand
that the project be completed to the government’s specifications as quickly as
possible and seek adequate safeguards and assurances that the project will be
operated in accordance with good industry practice and in line with the public’s
interests. Terms relating to, for example, health and safety, the environment,
and employment may be set out explicitly in contractual arrangements between
a host government and private sponsors, but it is more likely that existing laws,
rules, and regulations will govern these matters.
 Attracting new capital- It is a major goal of all governments to attract new
capital investment to their territories from beyond their borders. Followed by
creation of new jobs and infrastructure related directly to the relevant project,
knock-on benefits are likely to be achieved with potential industrial
development in related sectors. For instance, the off-take product of a mining
project may be processed at a related project site in the vicinity of the mine.
Moreover, it is to be hoped that any project will result in a trickle-down effect
involving increased spending in, for example, the shops and bars of local
communities.
 Technology development and training - Host governments will expect the
development of major projects in a variety of sectors to promote the innovation,
introduction of technology
and the creation of a skilled, well-trained body of
professionals and personnel. To advance these objectives, the government may
require minimumlevels of domestic procurement and employment as conditions
of tenders, licences, and/or permits.
 Competitive advantage- will
help to generate a more reliable, efficient, and
cost effective industrial sector. Such developments may enhance a country’s
overall competitive position and promote economic growth and social
 development.

# Starting A Bidding Process

Where a host government wishes to procure the development of a project by a private
sponsor, it is likely to publish a request for proposals soliciting bids on particular terms.
Ideally, those terms will be sufficiently detailed and fixed to: (1) ease comparison of bids;
and
(2) to encouragecompetition and thereby push down prices, force bidders to compete
with transparent pricing structures.
Once a preferred bidder has been selected, there may be further bilateral negotiations
between the host government and the private sponsors to refine the relevant terms.

o ADVISORS AND CONSULTANTS

 Before the terms to be set out in a request for proposals are determined (or a
project is otherwise developed), a substantial amount of research and development
work is always required. Major international projects are typically researched and
developed as concepts long before their financing is arranged or construction
begins.
 Consultants, who should bring independent and specialist expertise to a project,
may be required to: 
(1) establish where a resource, such as a mineral deposit,
exists and whether it exists in quantities to justify its exploitation; (2) consider the
viability of exploiting a resource or developing a product or service from a cost
and other logistics perspective; (3) develop ideas to facilitate the exploitation of a
resource or the development of a product or service; (4) measure the demand for a
particular resource, product, or service; (5) evaluate the potential to finance the
relevant project and, where relevant, help 
to structure such financing; (6) advise
on the best practice in respect of project insurance and assist arrange- 
ment
thereof; and (7) provide legal advice in relation to legal aspects of each of the
matters described 
above and the project in general.

# APPROACHING LEGAL ISSUES IN A PROJECT FINANCE TRANSACTION

1. Project finance transactions entail lenders extending a large amount of credit to a
newly formed, thinly capitalized company whose principal assets at the time of
closing are not physical but rather merely contracts, licenses, and ambitious plans.
Hence the focus on prudent legal analysis.

2. Unless a project financing reaches financial close, there are no ‘winners’. However,
even after the finance documents are signed, the complex relationships among the
parties must be sustained through economic, political, and legal change.

3. No matter how comprehensive the legal documentation, virtually every project

encounters some form of technical or commercial problem over its life that leads to
legal difficulty.

4. Sometimes that difficulty arises because two parties have a legitimate disagreement
over the meaning or effect of a few of the words contained within the mountain of
documents governing their relationships. In other cases, issues that had not been
contemplated at the time of financial close arise with a consequent absence of
guidance in the documents as to how to resolve them.

5. Ever-shifting market standards, and the absence of agreed-form project

 documentation, contribute to the extremely varied nature of project finance
transactions. Project finance lawyers must patiently consider the technical, political,
and legal risks of each individual project in order to enable parties to reach agreement
on how contentious issues should be treated. This process requires familiarity with
varied disciplines of law, ranging from civil procedure, contracts, property, trusts,
torts, equity, and conflicts of laws, and with a range of financial instruments, such as
commercial bank loans, capital markets instruments, multilateral, and domestic
government-funded loans, guarantees from export credit agencies, and Islamic
Sharia’a-compliant instruments.

6. There are a range of threshold legal issues and tasks, common to virtually all projects,
which must be addressed if the project finance lawyer is to accomplish his or her role
effectively.

Among these are:

(1) identifying the overall legal risks associated with a project;
(2) assessing the laws and regulations of the host states and of the courts and other

institutions that implement them;
(3) addressing environmental and social considerations;
(4) choosing the governing law for the finance and project documents;
(5) drafting and negotiating complex credit agreements; and
(6) developing security packages across a range of jurisdictions.

7. OVERALL RISK ASSESSMENT:

a) Projects inevitably face risk. Most projects will not have been built or even
engineered when their financing is implemented, there will inevitably be differing
views on the likelihood and potential impact of future adverse events.
b) The ultimate assessment in any project is whether the risk profile of the deal,
taken as a whole, is ‘bankable’. It is a judgment formed by lenders, sponsors, and
their advisers every time a deal closes.
c) An essential aspect of the project finance lawyer’s role in helping the parties reach
a‘bankability’ assessment involves reviewing the project, and in particular its
under-
lying documentation, in order to identify its potential and fundamental
risks and 
to determine if, and how appropriately, those risks have been allocated
among the parties.
d) In carrying out this diligence effort, a project finance lawyer must liaise with a
myriad of advisers. The project finance lawyer will work closely with local
lawyers in a broad range of relevant jurisdictions, and is often responsible for
producing a comprehensive due diligence report that pulls together the key risk
assessment and evaluations of each adviser and highlights the potential issues
from a documentation perspective.
e) For example, power projects are often awarded to sponsors through a competitive
tendering process. They are structured to give rise to the lowest electricity tariffs
possible. The consequence is that the returns available to equity investors may be
relatively low, and ensuring that the project is funded to the maximum extent
possible through debt (being less costly than equity) and that the average maturity
of that debt is as long as possible (thereby reducing the debt service burden in any
particular year) takes on great importance. Reduced equity funding and low tariffs
combine to result in relatively low debt service coverage ratios. These projects
thus have limited ability to absorb the risk of increased costs or reduced revenues,
 and the parties will therefore focus particular attention on the risk allocation
effected through the contracts.

8. ASSESSING THE HOST COUNTRY

Among the legal issues arising under the domestic law of the host state that need tobe
assessed are:
(1) corporate governance;
(2) industrial regulation;
(3) environmental, land use, and
other permitting; (4) taxation;
(5) customs and immigration law;
(6) reliability of local
laws and courts/changes in law.
a. Corporate governance
If a project company is organized under local law, which is frequently a
requirement of host governments, the investors and lenders will need to assess the
governance flexibility afforded to them by that law. Of key relevance to investors is to
ensure that the ability of the company to distribute profits to shareholders is not
unduly constrained by corporate law and local accounting practices. Among the other
issues to be considered are whether shareholders benefit from limitations on their
individual liability for the obligations of the project company, whether the rights of
minority shareholders will be respected, and whether agreed voting, share transfer
restrictions, or pre-emption rights, and the like, set out in an agreement among the
shareholders will be given effect under local law. It will also be important to the
investors that their appointed directors retain the right to direct the company and its
management on key issues. This is of particular concern where international investors
are in joint venture with local investors or an entity affiliated with the host
government. 


b. Industrial regulation
For most projects, the analysis of the regulatory environment encompasses
two inquiries: (i) what rights are granted to, and what obligations are imposed on, the
project company; and (ii) what risk is there that the regulatory regime will change
over time to the detriment of the project company or its investors and lenders. Where
the regulatory regime is established as a matter of statutory law, project finance
lawyers must review the relevant legislation and regulations carefully, in
close
consultation with local lawyers. Where those laws are comprehensive and
clear,
certainty as to the scope of the regulatory regime can be achieved, but there will
remain the risk that the regime may evolve over time; it is an accepted prerogative of
sovereign states to change their domestic laws.
In circumstances where there is an absence of regulation of general application, or
where there is significant uncertainty as to the stability of the regulatory regime,
it
may be appropriate for the host state to enter into direct undertakings with the
project company and, in some cases, its principal investors, to set out specific investor
protections. The scope of these will vary significantly depending on the extent of
investor and lender concern as to the reliability of the host state’s investment regime.

c. Permitting
The construction and operation of a project generally requires the project
company to secure a broad range of permits and consents. The subject matter of these
range from environmental and social considerations, to land use, to health and safety.
The analysis of the risk arising from the need to secure permits turns, in the first
instance, on identifying the consents that will be required and ensuring that they have
been issued or will be issued in the ordinary course without undue expense, delay, or
 conditionality. The risk of permit revocation is also important, as well as a
determination as to whether a secured lender, or its transferee, would be entitled to the
benefit of the permits. In many instances, the granting authority will wish to retain
discretion to assess the identity and competence of the transferee.

d. Taxation
Virtually all projects are subject to some form of taxation, and the tax regime
will generally have a significant impact on the project’s economics. Most sponsors
assess their return on investment on an after-tax basis, and thus consider clarity and
certainty of the tax regime to be a key consideration.

e. Customs and immigration law

Whenever goods or individuals cross a border, they become subject to the
laws of both the country they are leaving and the country they are entering. For
projects, the concern is generally focused on the ability of the project to import into
the host state key goods and equipment and to employ qualified expatriate managers,
engineers, and labour.

f. Reliability of local law and courts

Countries with well-developed laws and an established and independent
judiciary are often more attractive jurisdictions for investment than countries with
little clar- ity as to their laws or certainty as to their application.
Legal certainty will be of concern to all parties, but lenders will focus
particular concern on whether local law recognizes the rights of secured creditors
and whether their claims will be respected were the project company to become
insolvent. Not all countries have express insolvency regimes, and the ones that do
vary significantly as to the rights and preferences that they afford to secured
lenders.

9. ENVIRONMENTAL AND SOCIAL CONSIDERATIONS

a. The construction and operation of a project invariably have environmental and
social impacts on the locality of the project. Managing these impacts may help
assure the long-term acceptance of the project by affected parties.
b. Lenders will generally require, at a minimum, to comply with all environmental
and social laws and regulations binding on it. They will also likely requirethe
development of, and compliance with, an agreed environmental and social risk
management plan.
c. This is both to insulate the project company, and the lenders, from legal risk, but
also to preserve the lenders’ reputation as responsible parties.Even in the absence
of environmental legislation in a particular jurisdiction, national or multinational
credit institutions financing a project may require compliance with World Bank or
similar standards.

10. GOVERNING LAW CONSIDERATIONS

a. Contracts are often quite clear in describing the terms of a transaction, but the
manner in which contracts will be interpreted or enforced may differ significantly
from those terms. The relevant considerations involve an analysis of:
(i) the choice of law to govern the contracts; (ii) the enforceability of contracts under that
law; and (iii) the choice of forum for disputes arising from the transaction, including whether
judgments or awards from that forum will be enforced in each relevant jurisdiction.

b. Choice of law
The knowledge that the transaction is governed by the law of a familiar jurisdiction
can be a source of significant comfort to investors and lenders. Choice of law questions
inevitably arise in the context of negotiating finance documents and frequently involve an
election between English law and New York law.

c. Enforceability
Not all contracts are enforceable in accordance with their terms. There may be
mandatory provisions of law that override the terms of the contract. Many countries have
civil or similar codes whose provisions will apply to a contract not- withstanding its
terms. Legal uncertainty may be pronounced when the country in which the project is
located has no tradition of reported case law (making it more difficult to establish how the
rules are applied by the domestic courts in practice) or where domestic law prohibits
fundamental aspects of the transaction (for instance, Sharia’a principles preventing the
enforcement of interest payments).

d. Forum
The selection of a forum for any disputes heard in connection with the project has
important implications such as:(1) Will the forum be neutral in its decision-making?(2)
What law will the chosen forum apply and will the outcome differ as a result? (3) Which
evidential or procedural rules will apply in the forum?(4) Will judgments or awards be
enforced in the home jurisdiction of the borrower or the other project parties?
One important factor, when considering the choice of forum, is whether the dispute
should be litigated or arbitrated. There are advantages to using the courts, particularly in
jurisdictions such as England and New York, where long histories of case law precedent,
established procedural laws, and unbiased judicial oversight provide comfort for sponsors
and lenders that their claims will be duly upheld. In many jurisdictions, courts can compel
parties to disclose facts or documents and may be able to order interim relief, such as an
injunction.
Further, as arbitration is a product of contract, only parties that have consented to
arbitration through the contract can be compelled to proceed in that forum. Litigation may
thus be necessary in a multi-party dispute in order to join an interested party that is not
party to the original contract. On the other hand, the speed and privacy of an arbitral
process is a benefit, and a specially designated arbitrator may be better equipped to
address complex technical issues than a more generalist judge. The parties may view an
arbitral forum in a neutral foreign venue as providing certainty of an efficient and
reasonable result. Moreover, an arbitral award may, in some cases, be more likely to be
recognized and enforced in the relevant party’s home jurisdiction without review on the
merits than a foreign court judgment.

 STAGE II – FINANCING THE PROJECTS

o Through the origination phase of a project, financing costs are typically for the account of
the project originator, whether such originator is a private sponsor or
host government.
The costs involved can be substantial.
o The substantial costs involved with originating a project (whether such project is
developed successfully, aborted or lost to another bidder) are most easily absorbed by a
powerful private sponsor and/or a wealthy host government with other revenue streams.
o Where host governments retain the ability to raise taxes, well-established private sponsors
are likely to have equity interests in multiple projects and can use the revenues from one
project to assist the development of further projects.
o In fact, certain private sponsors opt to finance their projects fully (right through to the
operational phase) by way of balance sheet financing. The main advantage of such
corporate financing over project financing is that the borrowing is not tied to a particular
project. This provides the sponsors with greater flexibility to take what- ever action in
respect of a specific project it considers to be best in the context of its overall business.
o In contrast, project finance lenders are, typically, granted security over a particular project
and the success of that project is therefore fundamental to their risk analysis.