"- Firstly what do they mean by ‘Limited Recourse’ financingi.e. recourse to whom or what?- And why Project Finance is typically used to finance largecapital intensive infrastructure projects and if so, whatfinance option is available to less capital intensive projects?- Or else what happens if the cash flows generated from theproject are not sufficient to repay the financiers of theproject?These are serious questions that need to be answered for successfulimplementation of financing a project specifically an infrastructureproject through Project Financing.May be these questions can be answered by looking at the featuresand importance of Project Financing.i. First of all, it eliminates (or reduces) the lender’s recourse tothe sponsors, as lenders’ only recourse in project financing isto the assets of the project company.ii. Project financing also permits an off balance sheet treatmentof the debt financed by creating a new separate company to beused as the borrowing entity. This helps and protects thesponsor’s balance sheet and credit standing in the event ofproject failure.iii. It also makes the project investment a less risky proposition tothe sponsor as it maximizes the leverage of project with lowerinitial equity requirements.iv. As debt finance interest is deductible from profit before tax, itenhances shareholder equity returns thereby further reducingthe (post tax) weighted average cost of capital of the projectcompany.v. A key feature of Project Finance is the allocation of risk tovarious project parties, something that allows a sponsor toundertake a more risky project than the sponsor is willing tounderwrite independently.5 vi. Further it also allows the lenders to appraise the project on asegregated and standalone basis.While it seems pretty much beneficial to finance an infrastructureproject through Project finance, it is essential for us to have goodknowledge of its core components which defines a Project Finance: 1. Project finance is majorly non-recourse i.e. the repayment ofdebt depends on the cash flow generated by the project duringits life time.2. Future cash flow is predicted from technical, financial andmarket studies and then only decision is taken by the financerwhether or not he will be recover his money from the borrower. 3. If future cash flow doesn’t recover the full debt amount, thenonly mortgages and project company assets can be utilized torecover remaining debt.4. Other components of Project financing are Funding &repayment mechanism, Legal security and provision tohandle default/workouts, Project reporting and complianceetc.As discussed earlier, we will be trying to explain the mechanismthrough a real project-finance case; it is only advisable to have alook at a few different types of Project financing options availableto finance an infrastructure project.Basically there are 6 types of project financing that can bedistinguished either by the method of repayment or by thecharacter of the funding:1. Straight project financing where the sponsors guaranteecompletion.2. Production loans where principal repayment is linked directlyto output, often CCY/unit basis.6 3. Co-financings where different funding sources provide projectfinance under a set of documents.4. Complementary financings where the funding is accomplishedby parallel documentation.5. Non-recourse where is no further recourse on sponsors;structured as pre- completion through a turn-key constructioncontract.6. Limited recourse where recourse is limited to an amount orsubject to certain project performance criteria.After looking at the various aspects of project financing like itsimportance, its types etc. lets discuss some commonly seenmisconceptions about project financing. Project financing issubjected to a number of widely held misconceptions, some of thembeing:- Project financing is not always off-balance sheet. The effect ofproject financing is recorded on balance sheet as well as innotes. It is recorded on the balance sheet as a long-term itemand sometimes it is simply mentioned in the notesaccompanying the financial statements. The main reason ofusing off-balance sheet tool is to deconsolidate by holding 20- 50% or less equity in Special Purpose Vehicle (SPV) or projectborrowing company.- Another misconception is that project finance can be fully ondebt. But that’s not true. Project finance cannot be 100% debt.There is a possibility of 100% debt when companies have veryhigh cash flows or high sunk equity. However, excess equitycommitment from sponsor is seen as an important part of riskbeing shared. - One more misconception is that all the project financings arenon-recourse. This case is seen in very few projects becauseadditional supports are required although turn-key7 construction contracts can get most of the way of non- recourse. They will always be recourse in the event of fraud orfalse representation or warranties.Infrastructure Project Financing:Many infrastructure projects are large-scale, have long pay-backperiods, large sunk costs, and are location specific. FDI ininfrastructure often involve the engagement of considerable assetsand resources that need to be coordinated and managed acrosscountries. Infrastructure investments represent a significant sharein the overall global FDI. Least Developed countries are on the leastreceiving end of infra funds. Over the period, 2000-2013, power and energy sector has seen thehighest investments, followed by transportation sector andtelecommunication sector. (UNTT Working Group on SustainableDevelopment Financing)Infrastructure is the one thing that demarcates a nation’s economicgrowth from the other nation. In today’s global scenario, the factremains is that the least developed countries still rely on financialaids from non-traditional donors that come at a very high cost. Onthe other hand, better developing and developed nations attractinvestments from traditional transnational corporations who pumpin a huge amount of money for better future cash flow prospects.The lending rate has, in particular, increased because the banks,which are the major stakeholders in the long-term investments,have suffered from the financial crisis.Few of the financial instruments available for such long-term, highgestation period infrastructure projects are: 8 "