Project financing for real estate – Compare bank offers
The term "project financing" describes a very specific loan variant. This is not about financing the Hornbach "garden fence" project.
Project financing reaches into the seven-figure range or higher. The project itself is usually based on the cooperation of several participants.
The most important thing in a nutshell:
- Project financing differs significantly from classic corporate financing. They usually take effect for very large volumes of seven figures or more.
- The borrower is usually a special project company, which is established by the parties involved.
- Financing is provided by a consortium of banks, and often also by subsidies from public institutions and development banks.
- There are three ways to implement project financing, "cash flow related", "balance sheet neutral" and with risk sharing.
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Project financing – the definition
In contrast to a classical company loan, a project financing is financed by itself, from the generated cash flow. Suppose a company is financing a new production facility on top of the existing five. The cost of the loan is paid out of the total revenue of the company, not out of the individual production output of the new machine. In this case, we are not talking about project financing, but about a classic working capital loan.
Typical examples of project financing are
- Power plants
- On a smaller scale also property development measures.
Project financing is often multinational, as companies from different countries are usually involved in the implementation of a large project.
Project financing also comes into play when, for example, the political situation in the country in question does not permit conventional financing. Further reasons for project financing can be a too thin capital cover of the involved parties or no really convincing balance sheets.
Legal construct of project financing
Usually, the parties involved establish a project company in advance, which acts both legally and economically autonomously. Management is in the hands of an operating company that is to be established.
The equity capital comes from "sponsors", i.e. institutional financiers. Borrowing is done by the project company.
In the area of property development, the whole thing turns out to be a bit smaller. But often enough you can find on the building site posters the inscription "realized by XY Projektgesellschaft". The circumstance of real estate financing indicates that the liability issue also plays a role in this branch of industry. With the appropriate constellation of the company consortium, the project company remains in the end as the only liable link in the chain.
The features of project financing
Project financing is not uniformly structured. The project company has several options for implementation.
Cash flow related lending
The project financing is serviced exclusively from the cash flow. The difference between the project's income and expenses must be sufficient to cover interest and repayments. Borrowing becomes exciting in that the time before the plant to be built begins production must be financed as well. If the project is assumed to be a dam, a number of years will pass before revenues can be generated and the loans repaid. The production plant financed by a working capital loan can start to pay for itself from the first day after installation.
Project financing usually has to do without collateral for the bank. In summary, the bank has no security, the project generates only costs in the first years, no income – not an ideal condition for granting a loan. In this case, the solution for the lenders lies in entry clauses in the contractual framework. They can, among other things, provide that they can participate in the management of the project. In addition, there is the option to enter into ongoing contracts and to take over the controlling of the project company.
Off balance sheet financing
Behind this term hides a financing model, which concerns the sponsors, i.e. the investors. "Off balance" translates as "balance sheet neutral. Investors do not normally have to consolidate their balance sheets. The result is that the project financing raised only appears in the books of the project company. This has the advantage that the creditworthiness of the investors is not attacked and also the balance sheet ratios do not deteriorate (see construction industry). The investors are only liable for the assets and equity of the project company.
On the other hand, however, the internal contracts between the project company and investors may contain some criteria that also put investors under obligation:
- Obligation to make additional contributions if the equity cover of the project company becomes too thin.
- Issuance of guarantees
In the risk sharing financing model, liability runs deep. It is not just limited to the project company and its investors. It involves all the parties involved in the project. These include, among others
- The project company itself
The issue of insurance comes into play especially when the project is multinational in scope. In this case, transport and export insurances are in the first place. If it is a project with public funding, the public authorities are also involved through guarantees or national institutions such as the World Bank or the European Investment Bank. It becomes clear at this point that many project financings are indeed of a larger caliber than a working capital loan.
The composition of funds
Project financing is not granted by the house bank. It requires in most cases a consortium of banks led by a syndicate leader. Due to the cash flow to repay the loans, which does not start until later, project financing often has terms of 15 years or more. In addition to traditional bank loans, for really large projects, borrowed funds are also raised through the issuance of bonds.
When the first surpluses flow, they are initially used to keep the completed project alive beyond the start-up phase. Only then are the financiers, i.e. banks, served first. Distributions for equity investors rank at the bottom of the list of beneficiaries.