Objectives of Project Finance Models

Objectives of Project Finance Models
Project Finance Modelling Dec 7, 2021

1
Exercises
• Understand the Cash Process in Models

• Evaluate Risk with Models
Delay in Completion of Construction
Break-even Price and PPA Price Components
Downside Case Production and Operation Expenses
• Work with Structural Enhancements
Covenants
Debt Service Reserves
Liquidation Damages
• Perform Financial Structuring with Model
Debt Sizing and Cash Flow Waterfall
 Senior
 Subordinated
Loan Tenor
Credit Spread

2
Financial Models – Standard and Poors
• A good financial model should:

 Be relatively simple
 Focus on key cash flow drivers
 Clearly convey assumptions and conclusions
• Alternative Models
 Back of the Envelope
 Quickly run the impact of an acquisition on debt service coverage
 Sensitivity of earnings to commodity price swings
 Deterministic
 Set a number of assumptions and translate into financial ratios and cash
flow
 Stochastic
 Develop a range of possible inputs using Monte Carlo simulation. Used
where there is a good and predictable history for value drivers.

3
Model Objectives - Overview
• Valuation • Basic Objective

Decision to invest Measure whether the expected returns
 Development Stage are worth taking the risk
 On-going Models must be able to somehow
Value of project measure risk to be effective
Debt Structuring
• Contract Structuring
Contract pricing
Contract length
• Risk Assessment
Equity risk
Credit analysis
• Financial Structuring
Covenants
Gearing
Debt service reserve
Senior and subordinated debt

4
Objectives of Project Finance Modelling
• Valuation
 The basic objective of project finance is obviously to evaluate whether the
project works – whether the benefits of the project outweigh the costs of
the project. The value of a project is measured by whether the returns on
the project – the IRR – exceeds the risk adjusted cost of capital. The
question of whether the project works is evaluated using base case
assumptions.
• Structuring of the Debt Facility and Other Contracts
 The model is used to establish many terms in the various contracts that
arise in project finance. The base case debt service cover establishes
whether the gearing is appropriate; the base case can be used to set
prices such as capacity charges in the project contract and the model is
used to structure the appropriate repayment of the debt facility.
• Credit Analysis
 The model is used by lenders to the project to evaluate risks associated
with default on the loan agreement. Typical analysis involves assessing
the level at which various operating parameters cause the debt service
coverage ratio to fall below 1.0 at some point over the life of the project.

5
Objectives of Project Finance Modelling (Continued)
• Repository of Information
 In working through the engineering, contracting, financing and other
aspects of a project, the model serves as a database where important
information is stored. If a new operating parameter is required or if a new
contractual element is negotiated, the import of that new information is
gauged in the model. If something matters to the economics of the
project, it should influence the outcome of the project finance model.
• Evaluating Whether Contract Provisions Appropriately Mitigate Risk

 The model should be used to determine whether the language in various
contracts mitigates risk to parties in the way the terms in the are intended
to operate. The model can test whether covenant provisions, debt service
provisions, liquidation damage provisions and other language in fact
mitigates risk to lenders and developers. The use of project finance
models in evaluating contract language is described in the next slides.

6
Project Finance Model Objective: Testing Structural
Enhancements
• A project finance model can be used to test whether agreements protect

parties consistent with the intention of the contracts. In order to use the
project finance model in this manner, the model must be run for a downside or
a stress case scenario. In the base case:
 There is no delay in construction that causes the trigger of liquidation damages;
 There is no reduced operation cash flow to test covenants that limit distribution of
dividends;
 There is no increased price that causes a cash sweep covenant to be used;
 There are no financial problems that require withdrawal of funds from the debt
service reserve;
 The PPA or project contract remains in place with no penalties.
• The process of testing covenants involves first defining reasonable risks in a

downside case or stress case and then running the model in two cases:
 First, run the model without the structural enhancement;
 Second, run the model with structural enhancements and determine whether the
contracts in fact mitigate risk.

7
Model Objectives – Structuring of Funding and Debt
Drawdown
• In modeling the construction of the facility, various issues related to

the potential for cost over-runs and delays must be addressed:
 Who funds the construction of cost over-runs;
 Who funds interest costs if there is a delay in construction (debt, equity or

another party).
 The model should accurately reflect what happens in a cost over-run or a

delay scenario.
• Example of the Kutubu Petroleum Development – The project

construction received high gearing; some equity holders received
equity interests for agreeing to fund construction over-runs.
• Example of the Freeport Development – The banks agreed to fund

cost over-runs only up to 120% of the budgeted amounts.

8
Model Objectives – Covenants in Loan Facility
• In writing covenants for loan facilities, the model should

evaluate whether the covenants protect lenders.
 The model should incorporate what happens to cash flow when
covenants limit the distribution of cash flow;
 The model should show what happens to cash flows when

covenants limit cash distributions from positive operating results;
 The model should be able to quantify the costs and benefits of

alternative types of covenants and criteria for the covenants.
• Example of Covenant: If the debt service coverage is below

1.2, then no distributions are allowed; the cash flow that would
be distributed is instead used to increase funding of reserve

9
Elements of Project Economics that are not in the
Project Finance Model
• For a modeler, it is tempting to assert that everything that

matters to the economics of the project is included in the
model. However it is important to understand what risks and
contract elements of the project are not included in the model:
 If you written a wonderful construction contract that protects
developers and bankers with liquation damages, if the contractor
does not have financial resources to meet the liquidation
damages, the contract could be meaningless. The financial
condition of the contractor and the necessity of bonding, letters of
credit or insurance is not quantified in the project finance model.
 If you have written a solid PPA agreement that again protects
developers and bankers, if the counterparty who buys power in the
PPA agreement cannot make payments under the contract, the
contract is again meaningless. The financial condition of the off-
taker is not measured in the project finance model nor is the
crucial issue of whether the off-taker has an incentive to get out of
the contract.

10
Structure of Project Finance Models

11
Sheet Layout – Project Model
• Contents
• Input Sheets (Assumption Book)
 Different colors
 Arranging of inputs
• Working Sheets
 Arrangements by revenues, expenses and capital expenditures
 Arrangements by capacity, demand, and cost structure
• Monthly Construction Expenditures (Source and Use of Funds)
 Conversion from Annual
 Computation of Interest During Construction
• Debt Schedule (Sources of Funds)
• Depreciation Schedule
• Financial Statements
 Source and Use of Funds
 Income Statement
 Balance Sheet
 Cash Flow -- Waterfall
• Output Sheets
 Valuation - IRR
 Debt Service Coverage Ratios

12
Modules in a Project Finance Model – How to Move from
Assumptions to Valuation
• A project finance model begins with three primary inputs:

Capital Expenditures
Revenues
Expenses
• The project finance model accepts these inputs along with tax and
finance assumptions and computes project and equity cash flow
• Modules in project finance models should include:
Assumptions
Working Analysis
Sources and Uses
Financial Statements
Cash Flow and Valuation

13
Inputs, Outputs and Simple Computation of Cash Flow
to Obtain Valuation
• Inputs to Derive Free Cash Flow
 Capital Expenditures
 Revenues
 Expenses
 Debtors and Creditors
 Tax Rates
 Plant Life
• Calculations are simple: Revenues – Expenses – Working Capital Movement, net of tax
• Inputs to Derive Equity Cash Flow
 Debt to Capital
 Interest Rates
 Debt Repayment
 Debt Service Reserves
• The basic structure of project finance models are easy to understand without being a
modelling expert
• The balance sheet must balance – by far the most effective check on calculations and
balances should be zero at the end of the project life (debt, asset balance, reserve
balance etc.)

14
Model Sheets in Project Finance Model
Debt Schedule –
Inputs – Debt Balance From
Prices, Costs, Capacity,
Drawdown Debt Balance,
Technical Parameters
Interest Expense
Outputs –
Working Sheet to Depreciation –
Free Cash Flow,
Depreciation Expense
Derive Revenues Expenses Equity Cash Flow
Plant Balance
and Working Capital Value (IRR), DSCR
Source and Annual Financials –

Income Statement, Cash Flow
Use of Funds – (CASH WATERFALL)
Draw down, IDC, Equity Issues and Balance Sheet
and Capital Expenditures

15
Model Components
Cash Flow Waterfall:
Senior debt service
Senior debt service reserve
Inputs Senior debt prepayments from covenants
Operating Junior Debt Service
- Capital Expenditures Junior debt re-payments of default
- Revenues
Dividends
- Operating Expenses
- A/R and A/P
Financial and Tax
Mechanics
- Debt Leverage Construction Sources & Uses
- Interest Rate Outputs
Income Statement
- Debt Repayment
- Tax Rate Cash Flow Statement IRR – Equity
- Tax Depreciation IRR – Project
Balance Sheet Net Present Value
Return on Investment
Equity Cash Flow Economic Profit
Debt Service Coverage
Project Free Cash Flow LLCR
Payback Period
Accounting Earnings

16
Results of Good Model Structure
• In a well programmed model:

 The economics and the key risks of the project should be
presented well and come off the page
 The model should be easy to follow where one can clearly trace
the inputs, the mechanics and the outputs of the model
 The model should be stable which means that you can play with
inputs equations in the model without fear of messing things up.
 The model should reflect the structure of the project including key
contracts; the timing of project completion; key risks and alternative
debt structure terms.

17
Valuation with Project Finance Models
Project Finance Issue Modelling Issue

1. Measure cash flow over the entire life of the
Limited Project Life asset
Commercial Operation 2. Cash flows not really known until the project
Date is in service – no history of cash flows
Cash Flow 3. Value of debt and equity driven by cash flow

4. Measure the value of different securities
Waterfall and supported by project cash flow
subordinated debt
5. No portfolio of assets to diversify risk
6. Value of debt and equity depends on
covenants, debt service reserve
Non-Recourse
7. Risk analysis depends on contracts used to
Structural allocate risk to different parties
Enhancements
Risk Allocation from

contract

18
Inputs
The most important thing in modeling has always been Garbage in
Garbage Out

19
Structure of Inputs
• One should be able to find all of the inputs in an easy

manner and see how the inputs affect the outputs – this is why
the financial statement page should not have any inputs
 All inputs should have a color convention so it is clear what
numbers can be changed and what should not.
 Separate inputs that vary by year (or month) and inputs that are
constant.
 Other sheets should have links to the input page where the
inputs are repeated on the top of the page

20
Single Input Sheet
• If Inputs are all collected on a single sheet

 Can find where to change all items (don’t have to look around for
switches and inputs)
 Easier to develop alternative scenarios with different assumptions
 Possible exceptions for interest rate and maturity payments on

debt issues
• In the real world, you develop a model with inputs in various

places and then re-structure the spreadsheet to collect the
inputs in a single sheet.

21
Input Sheet Example

22
Example of Difficult Inputs to Find
Inputs in a column far away

from the sheet in a sheet that
does not have other inputs

23
Use Hyperlinks to Document Assumptions
• Given that the financial model is a database, I like to keep source

documents in the spreadsheet, if possible. Hyperlinks can be used to
trace each assumption to the original source. In the example below,
the hyperlink in the assumption page refers to documents from an
investment analyst presentation.
Result of
Hyperlink
Assumption page
with hyperlinks
• Explanation of how to insert hyperlinks is shown in the excel

background presentation.

24
Financial Statements And Working Sheets – No Inputs in
Financial Statements
Putting a Number in a Financial

Statement is an Obvious No

25
Example of Input Number in a Spreadsheet –
Percentages and Factors Should be with Inputs
The 10% Factor should be shown

explicitly in the spreadsheet

26
Corrected Sheet with Explicit Presentation of Inputs
Show the percentages in

a separate line item
II. Colocation Capex (90%)
Core Infrastructure 6,861,293 1,605,625
Civil Works/ MEP 1,347,297 -
Network/ IT 1,155,756 -
Services 297,675 -
Subtotal 9,662,021 1,605,625
Contingency Percent 10% 10%
Contingency 1,073,558 178,403
Sensitivity Factor 100% 100%
Total Capex 11,809,137 1,962,431

27
Use Excel Toolbars and Forms to Allow Sensitivity
Cases from Multiple Locations
• You allow excel to revise inputs in multiple locations using the

view toolbars forms and then using the combo box, the spinner
box or the scroll bar.
• This allows you to keep the inputs together and also to adjust the
inputs in sheets to examine the effect of the input.

28
Operating Assumptions in Model
The entire model is driven from only three basic operating inputs:
Capital expenditures
Revenues
Operating expenses
• When you get a model from someone else find these three
inputs and work backwards
• The working sheet should develop projections of these inputs
from value drivers such as price, market share, market
growth, capacity additions, capacity utilization, cost of new
capital and the cost structure.
• History should be presented along with forecasts for the value
drivers

29
Capital Expenditure Inputs
There are four inputs generally required related to capital expenditures.

These include:
1. The monetary amount of the capital expenditure without IDC
2. The capacity derived from the capital expenditure
3. The timing of the capital expenditures
4. The "soft costs" related to the capital expenditures
• The modeling of capital expenditures is generally on a monthly basis

were the draw-downs from equity and debt as well as interest during
construction is derived. For simplicity, we begin by modeling capital
expenditures on an annual basis.
• Computation of monthly draw-downs is precisely the same as the

annual computation, except that months are used instead of years.

30
Capital Expenditures, Capacity and Cost Structure
• In an economic endeavor, capital expenditures give you the

capacity to produce something. The capital expenditures can
generally be stated in terms of the maximum productive
capacity. Some examples are:
Capacity of an electric plant in MW ($/kW)
Capacity of oil or gas reserves in barrels or BTU
Capacity of a water desalination plant in M Gal
Capacity of a pipeline in maximum throughput
Capacity of a road in maximum traffic

31
Technical Parameters that Form the Basis of the Project
Cost Structure
Power plant Refinery Mine

Heat rate Product yield Ore yield
Heat content of fuel Throughput rate Production Rate
Availability Maintenance time Mining Prod
Capacity factor Utilization rate Equipment avail
Maintenance cycle Product quality
Cooling water avail Catalyst life

32
Revenue Inputs
Revenue inputs come from price and quantity.
Prices can commodity, contract-based or management

determined.
 Commodity - Oil, gas, electricity, metals, wood etc.
Contract - PPA, government tariff.
Management - Tolls, entry fees.
Volumes are derived from the capital expenditure maximum

capacity and the capacity utilization.

33
Inputs to Project Finance Model from Documents
• Work in Project Contracts • Project Finance Modeling

 Define completion date – define  Set-up the model with routines for
specific provisions that determine construction period and operation
when loan repayment begins and period where formulas differ for the
draws stop. two periods.
 Define drawdown provisions – what  Program model to accurately reflect

happens if there are construction debt and equity contributions in
over-runs; which parties provide sources and uses statement
the added funding
 Program the model to make
 Define mechanics of the debt deposits and withdrawls from the
service reserve and its use with debt service reserve
covenants
 Program aspects of the loans
 Define the timing of debt including debt repayment and debt
repayments in the debt facility and defaults
definitions of default

34
Workings Analysis
Work through inputs and build components for the Financial Statements

35
Workings Should Clearly Describe the Value Drivers
• Capital Expenditures to Grow the Company

Investment Cost Per Unit Of Capacity
On-going maintenance capital expenditures
• Revenues
Product Prices (Price Setter or Price Taker)
Volumes produced –> Capacity x Capacity Utilization
• Operating Expenses
Resource cost -> Resource Price x Resource Use
Resource use -> Efficiency Factor x Volume
Other Fixed, Variable and Overhead Expenses

36
Example of Relation Between Value Drivers and Financial
Model Inputs

37
Conversions from Output Quantity to Input Quantity
• The most difficult part of model construction is often the

conversion of units and making sure that the currency is
correct.
• You can use the conversion program provided and I suggest

that you put all of the currency in single units - not thousands,
millions and so forth. Then you can convert to the appropriate
units of the model when you are finished.
• Use the conversion program provided on the CD

38
Quantity from Capacity and Utilization
• Production assumptions are derived from maximum capacity.

The maximum capacity must be related to a time dimension and
generally apply a capacity utilization factor. For example:
 MWh = MW x hours x Capacity Factor
 BBLs = Reserves x Ratio of withdrawals
 Aluminum Tons = Capacity x Utilization
• The most difficult part of model construction is often the

conversion of units and making sure that the currency is
correct.
• You can use the conversion program provided and I suggest
that you put all of the currency in single units - not thousands,
millions and so forth. Then you can convert to the appropriate
units of the model when you are finished.

39
Cost Workings Analysis
• Cost risks apply to labor and materials inputs, productivity, and

operating expenses (“Opex”)
• Cost risk includes the effect of inflation.
• Typical cashflows will show 7-10 key items of costs with the
remaining cost categories usually amounting to only 5-10% of
Opex
• Whether a contract exists or not, the position of the project in

terms of cost of production relative to all the other producers of
the given product is important.
• Generally, a project in the lower half or lower third of the cost

curve (sorted costs of other producers) is adequate.

40
Financial Statement Modeling: Sources and Uses

41
Separation of Construction and Operation Time Period
• Sources and Uses Statement • Income Statement and Cash

During Construction Flow Statement
• No cash distributions to equity • Distribute cash flow to equity
• Sources and uses of cash to • Dividend distribution from the

determine equity and debt cash flow statement at the end
issuance of the cash flow waterfall
• Debt drawdown and no debt • Debt repayment included in

maturities the cash flow
• Interest expense capitalized to • Interest expensed in the

construction income statement
• No revenues, expenses or • Revenues, expenses and

depreciation depreciation included

42
Modeling the Financial Structure
• Model Structure
 Sources and uses
 Debt financing
 Depreciation Schedule
 Financial statements
• Time Periods
 Construction
 Debt module
 Operating
 Financial statements
 Returns

43
Source and Use Statement
• Importance of statement in understanding the transaction –

where the money goes and where it comes from
• Time Periods – do not be afraid of monthly statements
• Interest During Construction

44
Example of Sources and Uses – In a model this is
computed on an annual or monthly basis
SOURCES OF FUNDS(1)
Principal amount of the old bonds........................... $275,000,000
Equity Contribution(2)...................................... 35,500,000
Revenues from operation of the Initial Units(3)............. 20,089,000
------------
TOTAL SOURCES OF FUNDS................................ $330,589,000
============
USES OF PROCEEDS
EPC Contract................................................ $229,065,000
Electric Interconnection Facilities......................... 1,000,000
Gas Supply Facilities....................................... 3,123,000
Spare Parts................................................. 3,649,000
Development Cost............................................ 7,000,000
Initial Working Capital..................................... 258,000
Project Management.......................................... 4,643,000
Legal & Financing........................................... 5,114,000
Net Interest During Construction(4)......................... 52,757,000
Expenses of operation of the Initial Units.................. 4,831,000
Contingencies............................................... 11,962,000
Other....................................................... 7,187,000
------------
TOTAL PROJECT COSTS................................... $330,589,000
============

45
Sources and Uses Statement During Construction
• Interest During Construction

 IDC is capitalized to construction cost -- this means that interest is not included on
the income statements, but it is included as a part of construction cost.
 Depreciation includes IDC in the base.
 IDC can be computed from the debt balance.
 Interest Income on Debt Reserves has similar computations.
• Monthly versus Annual Sources and Uses

 The Only Reason for Monthly Analysis of Construction is for Accurate
Representation of IDC, Otherwise Annual Would Be Fine:
 Monthly sources and uses of funds statement computed in exactly the same format,
but compute monthly interest
 When computing interest expense, use the annual interest rate divided by twelve
 Tabulate the monthly interest balance and replace the lines in the annual model with
the sum of the monthly interest. (You could do this with debt balances as well, but
that is not necessary.)

46
Draw downs in Source and Use Statement
• The manner in which draw downs occur from debt and equity can have large
effects on the equity IRR of a project. The model should be able to test different
draw down schedules.
• Operating income and interest income can be incorporated in the source and use
statement.
• Negative arbitrage can be important in the source and use statement from a
higher borrowing rate than a funding rate.
Financing During Construction
120%
100% 0% 0%
80%
60%
84%
91%
100% 100% 98%
40%
Debt Financing
20% Equity Financing
16%
9%
0% 2%
1968 1969 1970 1971 1972
Year

47
Debt Schedule

48
Debt Sheet
• The debt module to model includes the total of all debt derived
from the sources and uses statement.
• Each debt issue should show at minimum the beginning debt

balance, debt draws, debt repayments, interest expense and
ending debt balance.
 Use a separate module and put interest expense and debt
repayments etc. in the financials
 Reflect the actual repayment structure and the quarterly or semi-

annual repayments.
 Include interest expense in the income statement from the debt

module - make sure that EBT subtracts interest expense.

49
Debt Service Reserves
• Debt service reserves should be modeled in a similar manner

to debt issues:
 Show beginning balance, inflows to debt service reserve (from
sources and uses), with drawl from debt service reserve (when
debt matures) and ending balance
 Model should be flexible enough to show withdrawls from debt

service reserve when the cash flow is negative and inflows to
debt service reserve when the debt service reserve is not topped
off.
 Modeling of the debt service reserve can become complex.

50
Example of Debt Amortization Schedule
• PRINCIPAL PAYMENT PERCENTAGE SCHEDULED AGGREGATE SCHEDULED

• DATES PRINCIPAL PRINCIPAL
• AMORTIZATION PAYMENT
• ----------------- ---------------------- -------------------
• July 2, 2001 1.272781% $ 4,302,000
• July 2, 2002 5.768047% $ 19,496,000
• July 2, 2003 5.615680% $ 18,981,000
• July 2, 2004 5.096746% $ 17,227,000
• July 2, 2005 3.944675% $ 13,333,000
• July 2, 2006 4.248225% $ 14,359,000
• July 2, 2007 4.005030% $ 13,537,000
• July 2, 2008 4.994083% $ 16,880,000
• July 2, 2009 5.966568% $ 20,167,000
• July 2, 2010 7.034911% $ 23,778,000
• July 2, 2011 7.820710% $ 26,434,000
• July 2, 2012 7.249704% $ 24,504,000
• July 2, 2013 10.280473% $ 34,748,000
• July 2, 2014 11.054438% $ 37,364,000
• July 2, 2015 10.281361% $ 34,751,000
• July 2, 2016 1.816272% $ 6,139,000
• July 2, 2017 0.887574% $ 3,000,000
• July 2, 2018 0.887574% $ 3,000,000
• July 2, 2019 0.887574% $ 3,000,000
• July 2, 2020 0.887574% $ 3,000,000
• ----------- ------------
• 100.000000% $338,000,000

51
Example of Amortization Schedule
• PRINCIPAL AMOUNT PRINCIPAL AMOUNT PRINCIPAL AMOUNT
• PAYABLE ON PAYABLE ON PAYABLE ON
• PRINCIPAL PAYMENT SERIES A-1 SENIOR SERIES B-1 SENIOR SERIES C-1 SENIOR
• DATES SECURED BONDS SECURED BONDS SECURED BONDS
• ----------------- ----------------- ----------------- -----------------
• <S> <C> <C> <C>
• December 15, 2000............................ $ 50,000,000 $ 0 $ 0
• June 15, 2001.............................. 45,000,000 0 0
• December 15, 2001............................ 45,000,000 0 0
• June 15, 2002.............................. 53,500,000 0 0
• December 15, 2002............................ 53,500,000 0 0
• June 15, 2003.............................. 17,500,000 0 0
• December 15, 2003............................ 17,500,000 0 0
• June 15, 2004.............................. 19,000,000 0 0
• December 15, 2004............................ 19,000,000 0 0
• June 15, 2005.............................. 0 0
• December 15, 2005............................ 0 0
• June 15, 2006.............................. 0 0
• December 15, 2006............................ 0 0
• June 15, 2007.............................. 16,500,000 0
• December 15, 2007............................ 16,500,000 0
• June 15, 2008.............................. 17,000,000 0
• December 15, 2008............................ 17,000,000 0
• June 15, 2009.............................. 19,000,000 0
• December 15, 2009............................ 19,000,000 0
• June 15, 2010.............................. 2,000,000 0
• December 15, 2010............................ 2,000,000 0
• June 15, 2011.............................. 2,000,000 0
• December 15, 2011............................ 2,000,000 0
• June 15, 2012.............................. 2,000,000 0
• December 15, 2012............................ 2,000,000 0
• June 15, 2013.............................. 2,500,000 0
• December 15, 2013............................ 2,500,000 0
• June 15, 2014.............................. 2,500,000 0
• December 15, 2014............................ 2,500,000 0
• June 15, 2015.............................. 3,000,000 0
• December 15, 2015............................ 3,000,000
• June 15, 2016.............................. 3,000,000
• December 15, 2016............................ 3,000,000
• June 15, 2017.............................. 3,500,000
• December 15, 2017............................ 3,500,000
• June 15, 2018.............................. 15,500,000
• December 15, 2018............................ 15,500,000
• June 15, 2019.............................. 17,000,000
• December 15, 2019............................ 17,000,000
• June 15, 2020.............................. 18,500,000
• December 15, 2020............................ 18,500,000
• June 15, 2021.............................. 20,000,000
• December 15, 2021............................ 20,000,000
• June 15, 2022.............................. 22,000,000
• December 15, 2022............................ 22,000,000
• June 15, 2023.............................. 23,000,000
• December 15, 2023............................ 23,000,000
• June 15, 2024.............................. 26,000,000
• December 15, 2024............................ 26,000,000
• ------------ ------------ ------------
• TOTAL.............................. $320,000,000 $130,000,000 $300

52
Income Statement, Cash Flow Statement and Balance Sheet

53
Income Statement and Cash Flow Statement After
Construction
• Income Statement and Cash Flow Statement

Compute cash flow for dividends
• Complicated Part is Between Operating Cash Flow and Dividends

Cash Flow to Senior Debt
Use of cash flow
 Pre-payments from covenants
 Payment of debt service reserve
 Defaults
Cash Flow to Junior Tranches

Funding of Debt Service Reserves
• Debt Repayment in Cash Flow

 Time Periods -- for accuracy of interest expense
 Incorporation of Re-payment Structure
 Flexibility to model defaults, pre-payments, reserves

54
Income Statement
• Compute profit or loss from revenues and expenses:

 EBITDA is Revenues less Expenses
 EBIT is EBITDA less Depreciation and Amortization
 EBT is EBIT less net Interest
 Net income is EBT less taxes.
• Notes
 May compute net operating loss carry forward
 Net interest should include interest income earned on reserves

55
Cash Flow Mechanics
• Separate Statement into normal components

 Operating
 Net income plus depreciation less working capital movements less gain on
asset sale
 Investing
 Capital expenditures (including IDC), on-going capital expenditures and
proceeds from asset sale
 Financing
 Bottom line is dividend distributions. Include financing inflows, debt re-
payments and flows from reserves.
• Cash flow before financing (similar to free cash flow) is the number
that must be financed.
• Compute cash flow statement for construction period and the
operating period.

56
Model Components and Project Contracts
• Sources and Uses Statement

EPC Contract
Construction Loan
• Income Statement
PPA Contract
Concession Agreement
Supply Agreement
• Cash Flow Statement

Cash Flow Waterfall
Permanent Debt Agreement
Debt Service Reserves
Covenants

57
Model Outputs

58
Structure of Outputs
• Outputs should generally come from the financial statements

and should not affect any of the calculations (you should be
able to delete the outputs page without any impact on the
model)
• Outputs for comparative graphs can be saved in a separate

sheet -- you can develop a macro using a paste as value
method to compare scenarios
• Put macro buttons, spinner boxes, combo boxes and scroll

bars on the summary page.
• Output Rule: You should be able to delete

cells in the output sheet and summary sheet
without affecting any of the previous sheets.
59
Output Example – Project Finance
Try to summarize key inputs

and key outputs on a single
page and make the numbers
jump out at you

60
Example of Summary Page with Graph
Payback Discounted
NPV (AED M) IRR (%)
(Yrs) Payback (Yrs)
Year 0 1 2 3 4 5
5.5 23.1% 3.6 7.0
Summary Financial Data
Free Cash Flow (12,609,137) 136,584 2,912,624 5,438,598 6,766,992 8,354,138
Equity Cash Flow - (1,576,593) 1,199,446 3,725,420 5,053,814 6,640,960
Net Income (800,000) (256,994) 399,928 2,986,744 4,379,630 6,035,138 Financing and Valuation Assumptions
Cash Flow Growth in Perpetuity 0%
Colocation utilization Discount factor 12%
Base Case 35% 50% 70% 80% 90% Book Value Multiple 1.00
Low Case 30% 30% 30% 40% 40% Debt Financing Assumptions
High Case 35% 70% 90% 90% 90% Debt Percent 100%
Case Applied 35% 50% 70% 80% 90% Repayment Period (Maturity) 10
Managed Service Utilization Per 1
Base Case 5% 10% 15% 20% 30% Effective Interest Rate 6.00%
Low Case 5% 5% 5% 10% 10% Cost Parameters
High Case 5% 15% 20% 30% 40% Hardware Percent 60%
Case Applied 5% 10% 15% 20% 30% Network Costs 1,000,000
Prices Base Sensitivity Applied Rental Rate 50
Colocation 20,000 100% 20,000 Additional Staff 300,000
Managed Service 200,000 100% 200,000
Payback Period 3.6 Discounted Payback 7.0 Project IRR

23.1% NPV 5.5
15,000,000
When the inputs are change, the graph changes
13,272,065
and the title of the graph changes. This is an 10,000,000

5,438,598
6,766,992
effective way to present results. 5,000,000 2,912,624

136,584
-
0 1 2 3 4 5
-5,000,000
-10,000,000
-12,609,137
-15,000,000
Payback Period 3.6 Discounted Payback 7.0 Project IRR

23.1% NPV 5.5
15,000,000
61
10,000,000
Complexities

62
Complexities
• Debt Defaults
• Cash Flow Waterfall
• Net Operating Loss
• Terminal Value
• Vintage Depreciation and On-going Capital Expenditures

63
Periodic Cash Flow Modeling
• Monthly versus Annual Periodic Modeling

 Need to model with years on a vertical rather than a horizontal
basis because you run out of room.
 Use look-up tables to find inputs from annual workings analysis

and monthly construction etc.
 Adds accuracy where

 Debt service is quarterly etc.
 Scrapping occurs at specific points

64
Cash Flow Waterfall
• Waterfall Issues
 Defaults and subsequent repayments of defaults before
dividend distributions
 Model different priorities of debt
 Model cash flow trap mechanisms
 Evaluate Pre-payments from covenant violations
 Compute Debt service reserve injections and withdrawls
 Accumulation of debt service reserve after construction period

65
Modelling Defaults on Debt
• Modelling defaults on debt is important in credit analysis.

Through modelling defaults, the probability of default and the
loss given default can be evaluated through break-even
analysis and through Monte Carlo simulation.
• The following process shows how to model defaults:
 Set up the debt balance to incorporate defaults and re-payment
of defaults
 The default comes from an if statement in the cash flow
statement
 The re-payment of default is the previous year default amount.
This means the model attempts to fully repay the default in the
year immediately following the default. If there is no cash flow
to repay the default, the default increases by the amount of the
default.

66
Modelling Defaults on Debt - Procedure
• The following illustrates the modelling process for defaults.

 Note how the default comes from the cash flow statement
 The if statement in the cash flow statement
 The repayment of default from the prior default

67
Maximum Default
• When modelling the defaults on debt, it is possible that the

cash flow is less than the total debt service.
• In this case, the default is only the debt service that was not
covered, not the negative of the cash flow.
• Therefore, the default formula should be:

If(cash<0,min(-cash,debt service),0)
Notes:
 Cash is cash flow to tranche
 Debt service includes the repayment of defaults

68
Analysis with Defaults
• Once defaults are modeled, one can evaluate the IRR earned
on debt instruments and the amount of debt outstanding.
 The amount of debt outstanding is the loss given default.
 The IRR allows you to compute a probability distribution for the

loan facility

69
Computing Cash Flow for the Waterfall
• To model priorities in a cash flow waterfall the first step is setting up a

the cash flow statement in a model that reflects the actual ordering of
cash flow:
 Begin with the cash flow after capital expenditures and after all new
financing and acquisitions
 Add back interest expense that was deducted because the interest will
be accounted for on an issue by issue basis
 Add the beginning balance of cash. Even though it seems odd to add
the cash balances, these cash balances are available to pay off debt.
 The sum of these items gives the cash flow for the waterfall as
illustrated below.
 Cash Flow After Capital Expenditures
 Add: New Debt Issues
 Add: New Equity Issues
 Cash Flow before waterfall adjustments
 Add: Total Interest Expense
 Add: Beginning Cash Balance
 Cash Flow for Waterfall

70
Cash Flow Priorities
• Once the cash flow for the waterfall is computed, you can compute the defaults
on senior and junior debt.
• Subtract scheduled interest payments and maturities from the cash flow for
waterfall
• Also subtract attempts to re-pay earlier defaults
• The difference is cash flow after senior debt that determines default – defaults
are the driven by an if statement driven by whether there is negative cash flow.
• Any defaults are added to cash flow to determine the cash flow to junior debt
This step of the waterfall is illustrated below:
 Cash Flow for Waterfall
 Less: Scheduled Repayment
 Less: Interest on Senior
 Less: Repayment of earlier defaults
 Cash Flow after Senior Debt
 Add: Default on Senior Debt
 Cash Flow to Junior Debt
 Less: Scheduled Repayment
 Less: Interest on Junior
 Less: Repayment of earlier default

71
Cash Flow Traps and Dividends
• After junior debt is evaluated, traps on cash and distributions can be

evaluated.
• You must subtract the cash balance that was added at the beginning
of the waterfall
• Cash Traps can be evaluated at this point that prevent excess cash
going dividends before debt is paid
This step of the waterfall is illustrated below:
 Cash Flow after Junior Debt
 Add: Default on Junior Debt
 Less: Cash Balance Added Above
 Net Cash Flow
 Switch for Trapping Cash
 Less: Cash Trapped
 Add: Cash Withdrawn from Account
 Dividend Distributions

72
Free Cash Flow Adjustments in Project Finance Models
• Free cash flow should be the same whether or not IDC was
computed:
 Use direct capital expenditures rather than capital expenditures
with IDC
 Make adjustments for the tax effect of IDC depreciation. The tax
shield from IDC depreciation should not be part of free cash flow
and it should be removed.

73
Depreciation Expense
• Compute straight line depreciation expense
• Multiply the accumulated plant balance from the balance sheet by the depreciation
rate
• More complex depreciation modeling – vintage, accelerated, deferred taxes,

multiple categories will be covered later
• Models may have separate pages for capital expenditure and depreciation
analysis

74
Net Operating Loss
• Net operating loss should be part of a reasonable model.
• If earnings before tax is less than zero and a simple if statement is

used, future years do not get credit for the earlier negative taxable
income. Therefore, not including NOL will tend to understate value.
• To model the Net Operating Loss:

First compute taxes without the NOL which allows negative taxes
Create a cork-screw that keeps track of the beginning balance and the
additions and subtractions to the NOL
The additions occur when there are negative taxes
The subtractions occur when there is positive tax and a balance in the
beginning NOL
The taxes paid are the taxes without NOL plus the inputs to the NOL
minus the withdrawls from the NOL.

75
NOL Example
• The following example illustrates modelling of an NOL

To model the NOL use the following:
 An if statement the adds to the NOL when the taxes before NOL
are positive
 An if statement together with a minimum statement to withdraw

from the NOL balance.

76
Expiration of NOL
• Generally, the NOL expires after a period of years (in the US

this is a 6 year period).
• To model expiration of the NOL, all you have to do is add

another line in the NOL corkscrew:
Add a line for reductions due to loss of NOL
Use the offset command to model expirations – the offset

command with a negative parameter for the column can look back
The formula only applies after the period of the NOL

 For example in the case of the US, this would be only after year 6
in the model unless you have data on existing NOL’s and how they
arose.

77
Expiration of NOL
• The following example illustrates programming of the NOL

with expiration after a certain length of time.
• The two examples shows how expiration of the NOL can

reduce its benefit if there is volatility in earnings:

78
Model Layout

79
Open Model
• Check the
logic of
returns and
debt costs.
Project IRR
should be
above after-
tax debt
cost.

80
Reviewing an Actual Model - Inputs
• Inputs have
different
colour. The
inputs
should be
arranged
logically.

81
Reviewing Model - Workings
• Workings
separate
revenues,
expenses
and capital
expenditures.
Questions:
Capital
expenditure
detail,
explanation
of financing
and debt
service
reserve
accounts.

82
Debt Schedule – Note How Semi-Annual Debt Re-
payments are Incorporated
• The debt
repayments
are modelled
as period A
and period B
payments.
Note the cork
screw for debt
analysis.
Check the
closing
balance.

83
Sources and Uses - Monthly
• Begin with uses

– EPC and
Financing costs
that include
IDC and other
financing costs.
Sources are
debt and
equity.
Difference
between
sources and
uses go into
cash account.

84
Financial Statements during Operation
• The next
sheets include
the income
statement,
cash flow
statement and
the balance
sheet during
the operation
of the plant.

85
Compute DSCR and LLCR
• The DSCR is
computed
with and
without the
amounts in
the debt
service
account.
Note the
minimum
debt service
account can
be below 1.0

86

Objectives of Project Finance Models

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Objectives of Project Finance Models

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Objectives of Project Finance Models

Project Finance Modelling Dec 7, 2021

• Understand the Cash Process in Models

Project Finance Modelling Dec 7, 2021

• A good financial model should:

Project Finance Modelling Dec 7, 2021

• Valuation • Basic Objective

Project Finance Modelling Dec 7, 2021

Project Finance Modelling Dec 7, 2021

• Evaluating Whether Contract Provisions Appropriately Mitigate Risk

Project Finance Modelling Dec 7, 2021

• A project finance model can be used to test whether agreements protect

• The process of testing covenants involves first defining reasonable risks in a

Project Finance Modelling Dec 7, 2021

• In modeling the construction of the facility, various issues related to

 Who funds interest costs if there is a delay in construction (debt, equity or

 The model should accurately reflect what happens in a cost over-run or a

• Example of the Kutubu Petroleum Development – The project

• Example of the Freeport Development – The banks agreed to fund

Project Finance Modelling Dec 7, 2021

• In writing covenants for loan facilities, the model should

 The model should show what happens to cash flows when

 The model should be able to quantify the costs and benefits of

• Example of Covenant: If the debt service coverage is below

Project Finance Modelling Dec 7, 2021

• For a modeler, it is tempting to assert that everything that

Project Finance Modelling Dec 7, 2021

Project Finance Modelling Dec 7, 2021

Project Finance Modelling Dec 7, 2021

• A project finance model begins with three primary inputs:

Project Finance Modelling Dec 7, 2021

Project Finance Modelling Dec 7, 2021

Source and Annual Financials –

Project Finance Modelling Dec 7, 2021

Project Finance Modelling Dec 7, 2021

• In a well programmed model:

Project Finance Modelling Dec 7, 2021

Project Finance Issue Modelling Issue

Cash Flow 3. Value of debt and equity driven by cash flow

Risk Allocation from

Project Finance Modelling Dec 7, 2021

Project Finance Modelling Dec 7, 2021

• One should be able to find all of the inputs in an easy

Project Finance Modelling Dec 7, 2021

• If Inputs are all collected on a single sheet

 Easier to develop alternative scenarios with different assumptions

 Possible exceptions for interest rate and maturity payments on

• In the real world, you develop a model with inputs in various

Project Finance Modelling Dec 7, 2021

Project Finance Modelling Dec 7, 2021

Inputs in a column far away

Project Finance Modelling Dec 7, 2021

• Given that the financial model is a database, I like to keep source

• Explanation of how to insert hyperlinks is shown in the excel

Project Finance Modelling Dec 7, 2021

Putting a Number in a Financial

Project Finance Modelling Dec 7, 2021

The 10% Factor should be shown

Project Finance Modelling Dec 7, 2021

Show the percentages in

Project Finance Modelling Dec 7, 2021

• You allow excel to revise inputs in multiple locations using the