LNG projects are among the largest and most challenging energy projects, requiring billions of dollars – and in some cases tens of billions of dollars – of investment. Few companies can afford to finance such projects from their balance sheets. So it has become a common practice to use non-recourse or limited-recourse project financing.
In this interview, Ko Ooshima, Head of Project Finance at The Bank of Tokyo Mitsubishi UFJ, explains how such deals are put together and focuses specifically on project financing for the various export projects under way in Canada.
Gastech News: As a leading lender in the project finance market, can you briefly outline how project finance works?
Ko Ooshima: Project finance is the long-term financing of infrastructure and industrial projects based upon the projected cash flows of the project, rather than the creditworthiness of the respective companies.
Usually, a project financing structure involves a number of equity investors, known as sponsors, as well as a group of banks or other lending institutions. The debt is typically secured by the entire project assets, including the revenue-generating contracts. Project lenders are given a lien on all of these assets and are able to assume control of a project should the project company face bankruptcy. Project finance is especially attractive to investors seeking stakes in large projects that prefer an off-balance sheet treatment of the debt financing.
On the other hand, project finance also entails certain disadvantages. For example, it requires broad risk analysis and evaluation. Also it comes with complexity due to lengthy documentation and requires qualified people for performing the complicated procedures of project finance.
Gastech News: What are the main factors that need to be considered in making a deal work for lenders and borrowers?
Ko Ooshima: Project financing entails a formidable set of risks. It is the role of the project finance advisor, the project sponsor and other participants to structure the financing in such a manner to mitigate these risks. Here, I’d like to discuss the major risks and mitigants associated with project finance – namely, sponsor risk, construction risk, and off-take risk.
Sponsor risk mainly comprises the sponsors’ equity contribution capacity, along with the sponsors’ capability of carrying out the project. To assess this risk, we evaluate the sponsors from a qualitative and quantitative standpoint; whether they possess the capacity to contribute equity, along with track records in managing similar projects.
Clearly, the cost of construction will be fundamental to the financial viability of the project as the financial assumptions and ratios are largely dependent on the assumed cost. So lenders will require some sort of mechanism to manage the risk if the project company’s cost of completion increases. Lenders also need some mitigation to cover delayed completion, along with poor performance post-completion.
Risk associated with off-takers, or certainty of revenue stream, is another key issue. In the context of expected revenue of the project, future forecasts of demand, cost and regulation will be extremely important. Further, the project participants must ensure that the project has received all necessary approvals from state and local governments, and that the government will not change its policy towards the project's operation in a way that may inhibit the project development, production plans, or the revenue stream.
With all these risks in mind, the lenders will want to ensure that the revenue stream is protected and the project company does not default on its loan. Lenders will require a number of restrictions and mechanisms, such as limitations on what the project company can do or cannot do, or the ability to step into management of the project company in the event that the project is not performing as expected, and taking security over the entire project assets.
Further, it is common for the lenders to set trigger events, which allow lenders to obtain additional rights and powers in the event of their occurrence. For instance, the most common triggers are debt service coverage ratio, loan life coverage ratio or debt-equity ratios.
Gastech News: Focusing specifically on Canada, what can we expect in terms of project financing for the various projects that are under way there?
Ko Ooshima: Canadian LNG projects are well positioned to compete for a share of the lucrative LNG markets, specifically Asia, including Japan, South Korea, China and other East Asian countries, due to lower shipping costs, benefitting from the proximity to Asia, and secure and stable government policies, along with an efficient regulatory system, and the vast natural gas reserves.
However, while expectations are very high for the Canadian LNG projects, there are inevitable challenges along the way. Assessing and managing environmental and social risks in project financing is always a challenge, especially for green-field LNG projects. Also, we may want to look at what happened over in Australia, and put that into local context and decide what lessons can be taken from there. For example, we need to keep a close eye on labour shortage and inflation, which may result in cost over-runs. Cost competitiveness among the increasingly crowded LNG market is another focal point. The significant capital requirement for pipelines, liquefaction facilities and development of the upstream gas fields is a factor when considering that these projects will have to compete with brown-field projects in the US, along with Australian projects which are closer to the said Asian markets.
Gastech News: What distinguishes The Bank of Tokyo Mitsubishi UFJ from your competitors when it comes to providing project financing for LNG facilities?
Ko Ooshima: BTMU, or MUFG as we are recognised in the international market, is the market leader in the project finance space. In 2013, MUFG was ranked number one in the global category of Project Finance MLAs by the Project Finance International magazine. We were defending the top position as the global leader with 108 transactions valued at $11.4 billion. The vast spread of regions and sectors represented by these transactions shows our strength as a global leader in the market.
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