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									                        INFRASTRUCTURE PROJECT FINANCING:

                                                                             Naya Pyridis




     A. Definition and Players of Project Finance
        1. Definition of Project Finance
        2. Principal Players of Project Finance
     B. Financial Engineering: How to Put Together a Bankable Project
        1. Prerequisites for Obtaining Financing
           a) Evaluation of Project and Business Environment
            b) Feasibility Studies
               i)    Financial Viability
               ii) Technical Viability
               iii) Commercial Viability
            c) Legal Due Diligence: the role of legal opinions
            d) Risk Management
           e) Security Arrangements
        2. Combining and Sourcing Project Funds


     A. Project Documents
        1. Land Title Documents and Permissions
        2. Engineering, Procurement and Construction ("EPC”) Contract
        3. Supply Contract
        4. Off-take Contract
        5. Operation and Maintenance Contract
     B. Financing Documents
        1. Credit Agreement
        2. Collateral Security Documents
        3. Waterfall Provisions: Controlling the use of proceeds
        4. Intercreditor Arrangements
     C. The Transactional Unity of Project Finance Contracts and Documents
        1. Issues Relevant to all Project Contracts and Documents
        2. Issues Relevant to all Project Lenders


   A. Overview of Risks
   B. How to Manage Risks Ex Ante

       1. Contractual Arrangements
           a) Country Risk
           b) Commercial Project-Specific Risks Inherent at Various Stages of Project
               i)   Development Phase
               ii ) Construction Phase
               iii) Operation and Maintenance Phase
           c) Broader Economic Environment Risks
               i)   Currency-Related Risks
               ii) Risks Associated with Inflation and Price Volatility of Inputs
           d) Project-Specific Policy Risks
               i) Expropriation
               ii) Risks Associated with the Laws of the Host Nation
               iii) Risk of Governmental Default on Contractual Obligations and Guarantees
           e) Political Risks
          f) Force Majeure Risk
       2. Support Arrangements and Guarantees
           a) Sponsor Support Arrangements
           b) Government Support Arrangements
               i) Currency Convertibility
               ii) Concessions
           c) Third Party Support Arrangements
               i)   Arrangements with Multilateral and Governmental Agencies
               ii) Political Risk Insurance
               iii) Commercial Risk Insurance

Selected Bibliography


Historically, infrastructure projects have been undertaken by public utilities or services, run
by the state or entities with a special national mandate, and financed by taxpayers. In the
welfare state, the function of running a public utility-be it a sewer system or a telephone
communication service-was regarded as one of the services traditionally provided by the
state. However, as public services expanded, necessitating large scale funding not available
in the relatively limited domestic capital markets, the state undertook the task with the help of
public funds or international financial institutions. This is not to say that the private sector
was totally excluded from participating in operating public infrastructure services. In fact, the
notion of public utilities or services has evolved differently in different countries. In some
countries, the private sector participation in such sectors was not totally prohibited but took

the form of a regulated license, franchise, or concession. In the latter situation, private sector
investment in infrastructure was allowed upon government authorization and on the
assumption that the service provided was a public service requiring certain regulations. One
must also not forget that it was the private sector that, during the nineteenth century,
developed the world's railway, electricity, and telecommunications systems through investing
substantial amounts of money in then-granted concessions.
Deficits along with budgetary and financial constraints recently experienced by most
governments have forced both developed and developing countries to search for alternative
means to develop an ever-expanding need for infrastructure. Traditional dependencies upon
international financial institutions and other forms of public sector debt financing are,
therefore, being replaced by a greater openness to the use of direct foreign investment and
alternative methods of private financing. Hence, the relevant question to ask when
considering development of crucial infrastructure becomes: which financial and corporate
arrangements are best suited for certain projects in light of both the particularities of a given
industry, as well as the requirements of a host nation? The technique of project finance1
provides a comprehensive and effective solution to the aforementioned needs and relative
concerns for infrastructure development.
Project financing based upon non-recourse or limited-recourse lending is a mechanism for
attracting private capital that may correspond with a national policy of staged privatization or
concessionary licensing2. Project financing was first used to fund power projects in the
United States3 and the United Kingdom; thereafter, its use has grown tremendously around
the world. Economic growth in East Asia4 and Latin America5 and the privatization of many
former government monopolies and state-held enterprises has resulted in the explosion of
project finance in developing countries.6 Project finance is a method of private financing
classically structured in capital-absorbing industries, especially in the fields of energy7 (e.g.,
gas, electricity), mining, resort, transportation, or telecommunications.
In the area of public sector infrastructure development, the use of project finance can be
advantageous to both host nations and private investors. Primarily, it enables host
governments to attract private capital investment without guaranteeing payment of project
costs and without completely rearranging their economic markets through direct

 See generally Peter K. Nevitt & Frank Fabozzi, PROJECT FINANCE 6th ed., 1995; Ronald F. Sullivan, FINANCING
TRANSACTIONAL PROJECTS 1993; John O. Sullivan, “Chadbourne and Park LLP: Project Financing” in 784
Practicing Law Institute/ Commercial Law & Practice Course Handbook Series 1999, p. 61; see also Catherine
Pedamon, “How is Convergence Best Achieved in International Project Finance?", 24 Fordham International Law
Journal April 2001, pp. 1272-1318.
 See Samuel Kern Alexander, “Current Issues in Multinational Financing”, 88 American Society of International
Law Proceedings 1995, p. 26 and pp. 30-33; see also Christopher Sozzi, “Project Finance and Facilitating
Telecommunications Infrastructure Development in Newly-Industrializing Countries”, 12 Santa Clara Computer
and High Technology Law Journal August 1996, pp. 445-446.
    See Alexander ibid at 20.
    See Patrick D. Harder, “Infrastructure Privatization in South Asia”, 15 APR Construction Law 1995, p. 34.
 See A. Martin Erim, E. Terry Jaramillo, M.D. Johnson, M.G. Monroy, M. E. Rubio and O. P. Yandle, “Financing
Sources for Trade and Investment in Latin America”, 13 American University International Law Review 1998, pp.
    See Alexander supra note 2 at 21.
  See generally Robert Thorton Smith, “Submission and Evaluation of Proposals for Private Power Generation
Projects in Developing Countries”, in Practicing Law Institute/ Commercial Law & Practice Course Handbook
Series 1995: Project Financing from Domestic to International: Building Infrastructure Projects in Developing
Markets 1995; John J. Beardsworth, Jr., “Negotiating Power Purchase Agreements: Fundamentals for Risk
Allocation and Dispute Resolution”, in Practicing Law Institute/ Commercial Law & Practice Course Handbook
Series 1995: Project Financing from Domestic to International: Building Infrastructure Projects in Developing
Markets 1995.

privatization. Lenders may be more willing to lend on such a “project-specific” basis in
situations where a developing country would present an otherwise unfavorable credit risk
due to political unrest or other non-economic factors. Project financing methods provide
private investors with an alternative to internal, or equity, financing. Additional objectives in
pursuing project finance usually include:
    (i) elimination of, or limitation on, the recourse nature of the financing of a project,
    (ii) off-balance-sheet treatment of debt financing,
    (iii) leverage of debt to avoid dilution of existing equity,
    (iv) avoidance of restrictive covenants in other debt or equity arrangements that would
         otherwise preclude project development, and
    (v) arrangement of attractive debt financing and credit enhancement, available to the
        project itself, but which is unavailable to the project sponsor as a direct loan.
Such project financings may also afford foreign private investors with the opportunity to
directly participate in an otherwise inaccessible and unpredictable market.
Furthermore, project finance provides a method by which developing countries can proceed
with infrastructure development programs at a time of limited financial resources. It
constitutes a viable and effective means of financing infrastructure in developing countries,
particularly in the power, oil, and gas sectors, for the following reasons:
    a) governments in host nations are more reluctant to spend public money on large,
       capital-intensive projects due to the volatility of commodity prices and accordingly, their
       revenues; instead, they have started to explore private means of financing these
    b) there is a trend towards engaging in joint ventures for large infrastructure projects,
       especially in emerging market countries, and project finance is well-suited for financing
       joint ventures,
    c) project finance enables project sponsors to allocate and transfer various project risks to
       other parties, thus decreasing the sponsors' overall risk exposure,
    d) such limited recourse financing allows cash-strapped private sponsors to take
       advantage of off-balance-sheet financing and tax incentives.
Thus, project finance remains a sought-after financing tool for host governments that are
seeking private finance and for project sponsors who wish to minimize their potential
liabilities in developing countries and emerging markets. This can be a great boon to a
developing country in that such projects (in addition to providing infrastructure needed for
development) can be a catalyst for additional foreign and domestic investment; can help to
develop ancillary industries; and can help to develop the private sector and, indeed, the free
While the varieties of infrastructure project financing are diverse, two popular arrangements
are most frequently utilized by developing countries and emerging markets8: the Build-
Operate-Transfer (BOT) 9 and the Build-Own-Operate (BOO) models10. Project financing

 Laura A. Malinasky, “Rebuilding with Broken Tools: BOT Law in Vietnam”, 14 Berkeley Journal of International
Law 1996, pp. 441-445; see also William Stelwagon, “Financing Private Energy Projects in the Third World”, 37
Catholic Lawyer 1996, pp. 45-46.
  David A. Levy, “BOT and Public Procurement: A Conceptual Framework”, 7 Indiana International and
Comparative Law Revue 95, pp. 102-110; see also Thomas P. Hanley Jr., “The BOT Circular: An Evaluation of
the New Regulatory Framework Governing Privately-Financed Infrastructure Projects in the Peoples’ Republic of
China”, 5 Stanford Journal of Law, Business and Finance Spring 1999, pp. 70-75; Sozzi supra note 2 at 454-462.

under the BOT model is used for new construction projects where a sponsoring foreign
investor or consortium of lenders and/or investors supervises the construction and
operations of a project facility for a determinate duration, and subsequently transfers
ownership and control of the project back to the host government at some future date. By
contrast, under the BOO method, a sponsor or sponsoring consortium controls the
construction and operation of the particular project as owners, without a subsequent transfer
of project assets to a host government. Primary rationales for a host government not to insist
upon subsequent reversion of ownership would be the lack of political pressure to own or
control the facilities, or true commitment to total private sector development and unilateral
liberalization of industry. One should always have in mind that the extent to which non-
recourse and limited-recourse project financing techniques can be employed in infrastructure
development depends to a large degree upon the nature of the contemplated infrastructure
project and most importantly upon its contractual certainty of producing a stable revenue
The purpose of this Paper is to provide a concise overview of Project Finance and a
thorough analysis of the issues that should be addressed in structuring an infrastructure
project that is expected to be financed on a project basis. Part I of this Paper intends to
provide a very brief introduction to the definition of project finance model and its basic
participants. It also tries to examine the issue of financial engineering, namely the conditions
and sources needed for financing an infrastructure project. Part II aims to provide an
elaborate presentation of the project‟s documentation consisting of a complex web of
contractual arrangements which detail the obligations and rights of the different parties
engaging in the transactions. Finally, Part III addresses the issue of identifying and allocating
among the various parties involved a diverse set of risks which may arise during the phases
of development, construction and operation of an infrastructure project financed on a project


From a policy-maker's perspective, a key benefit of project financing, is the way they afford
governments the opportunity to develop regulatory experience as they make the transition
from being the provider of services to being the regulator of others who provide them. 11 A
further benefit is that the technique of project financing brings better financial and
managerial discipline to bear upon the ongoing activities of the project company. The tightly
defined roles of the actors are spelled out in the project documentation and are supervised
by the project lenders. In this regard, project financing is more likely to deliver better and
more sustainable projects than conventional government financed projects, even though the
initial transaction costs and failure rate are high. At the same time, such projects provide the
private sector with new opportunities to take a direct role and obtain greater experience of
operating in the emerging markets where the legal and regulatory environment is usually
more risky than the comforts of the known regulatory system of American or north-west
European markets. The continued rapid growth of project finance suggests that investors will
be hearing even more about this financing method in the future.

Comm., 30th Sess., U.N. Doc. A/CN. 9/438 (1996); Stephen W. Stein, “Build Operate-Transfer (BOT):A Re-
evaluation”, 11 International Construction Law Review 1994 at 101; Anthony Merna et al., “Benefits of a
Structured Concession Agreement for Build-Own-Operate-Transfer ("BOOT") Projects”, 10 International
Construction Law Review 1993 at 32; Fritz Nicklisch, “The BOT Model”, 9 International Construction Law Review
1992 at 423; John G. Manuel, “Common Contractual Allocation in International Power Projects”, 37 Columbia
Business Law Review 1996, at 40.
     See Stewart-Smith supra note 178 at 988-1000.

A. Definition and Players of Project Finance

       1. Definition of Project Finance

           Project finance is the "primary vehicle for financing cross-border investments
           throughout the world." The term project finance is generally used to refer to the
           arrangement of debt, equity, and credit enhancement for the construction or
           refinancing of a particular facility in a capital-intensive industry, in which lenders base
           credit appraisals on the projected revenues from the operation of the facility and in
           which they rely on the assets of the facility, including the revenue-producing
           contracts and cash flow, as collateral for the debt.12
           In less complicated terms, project financing is lending based “on the merits and the
           performance of a project rather than the credit of the project sponsor”.13 It is the
           financing of a particular economic unit where the repayment of financing funds is
           mainly dependent on the financed project itself.14 The finance is usually divided into
           two portions, debt capital and equity, in the ratio of seventy to thirty percent or eighty
           to twenty percent, or any range in between. The difference between debt and equity
           ratios is usually significant in favor of debt since it is the cheaper form of finance. The
           non-recourse nature of the debt relieves a project sponsor from liability to repay
           project debt or make interest payments on principal in the event that revenue
           generated by the project turns out to be insufficient to service debt obligations.
           Non-recourse debt financing, highly leveraged debt, and reduction of the
           overall risk for major project participants to an acceptable level, are the most salient
           features and also the great advantages of using project finance.15 The principal
           difference between the project finance approach and traditional corporate financing,
           and the biggest advantage to the project developer, is that project finance is limited-
           recourse or non-recourse “off-balance sheet” financing. In traditional corporate
           finance, the primary source of repayment for investors and creditors is the project
           sponsor, backed by its entire balance sheet. Although project lenders will usually still
           seek to assure of the economic viability of the project itself, a more important factor in
           their decision is “the overall strength of the [project] sponsor's balance sheet as well
           as business reputation”. In contrast, a typical project financing is secured “solely by
           the project and its revenues and is completely „non-recourse‟ to the project
           sponsor”.16 That is, if the project revenues are insufficient to cover principal and
           interest payments of the project debt, the project sponsors do not have any obligation
           to guarantee the repayment, and the project lender relies solely on the project
           collateral in enforcing rights and obligations in connection with the project finance
           loan.17 In essence, investors and lenders look to the creditworthiness and merits of
           the project rather than to the project sponsors.

   Sozzi supra note 2 at 446-449; see generally Carl S. Bjerre, “Project Finance, Securitization and
Consensuality”, 12 Duke Journal of Comparative and International Law Spring 2002, pp. 411-437; see also Funds
and Fundamentals: Securing Sound Financing for New Electric Power Projects (Privatization in Latin America),
Latin Finance Jan 1995, p. 22
     See Harder supra note 4 at 10.
  See Nagla Nassar, “Project Finance, Public Utilities and Public Concerns: A Practicioner’s Perspective”, 23
Fordham International Law Journal 2000, pp. 62-63.
 See Nan Zhang, “Moving Towards a Competitive Electricity Market: The Dilemma of Project Finance in the
Wake of Asian Financial Crisis”, 9 Minnesota Journal of Global Trade Summer 2000, pp. 717-720.
  See Mark J. Riedy, “Legal and Practical Considerations in Structuring Business Transactions in India for the
Conference Entitled: India Power”, 3 Cardozo Journal of International and Comparative Law 1995, p. 318.
   See Peter F. Fitzgerald, “Chadbourne and Park LLP: Project Financing Techniques”, 1170 Practicing Law
Institute/Corporate Law and Practice Course Handbook Series: Project Financing 2000 Building Infrastructure

           Thus, in corporate finance, should a project fail, project lender does not necessarily
           suffer, as long as project sponsor remains financially viable. In project finance, the
           failure of a project can inflict significant losses on both project lender and project
           sponsor. Theoretically, project financing provides a structure that does not impose
           upon the project sponsor any obligation beyond its equity investment. As a practical
           matter, however, project financing is often carried out on a limited-recourse basis,
           especially in most developing market projects. For example, during the construction
           period, the project lenders generally require project sponsors providing a contingent
           financial commitment under the terms of a project completion agreement. Moreover,
           if the risks associated with a non-recourse debt are too high, the project lender may
           require various types of credit enhancement in the form of guarantees, warranties
           and other covenants from the project sponsor or third parties to support the risk
           Another important reason for selecting project financing is the ability of project
           sponsors to finance a project using highly leveraged debt without requiring as much
           project sponsor equity as in traditional corporate finance, where the leverage
           percentage is often between seventy-five and eighty-percent. Because of this
           advantage, project financing is commonly used to finance capital-intensive industries,
           such as power generation, waste recovery, mining and transportation, especially
           greenfield projects. Project finance also can take advantage of the globalization of
           capital markets, which expanded the number of potential investors and creditors,
           created a broader spectrum of financial instruments, and therefore reduced the
           borrower's cost of funds. Therefore, the compelling reasons to consider using project
           finance are its non-recourse or limited-recourse nature and highly-leveraged debt. In
           addition, as will be discussed below, allocating the recourse obligations and the
           financing needs of the project among a group of project participants and
           interested third parties, so that no one of them has to assume full risks for the project,
           makes project financing one of the few available financing alternatives in the capital
           intensive industries.18

       2. Principal Players of Project Finance

           Project finance is a complex venture. The success of any project depends upon the
           interrelations between certain key players who establish the foundation of the project.
           These principal parties are broadly identified for the purpose of this Paper as the
           Project Company, the Sponsors, the Operator, the Off-taker, the Lenders, the
           Contractor, the Supplier, and the Host Government. At the core of the project
           financing structure is the project company with whom all the other parties form
           contractual relations. The project company will usually be a special purpose vehicle
           company (i.e. one whose only activity will be the construction and operation of the
           project) set up in the country in which the infrastructure facility will be constructed by
           a group of Sponsors who are the shareholders of that company and who therefore
           participate in equity. The project company engages in, and its charter permits it to
           engage in, no business other than the development and in some cases ownership of
           the project. The form of the project company depends on tax considerations, loan
           covenants and, in international projects, local law requirements of the host nation.
           Thus, the project company may be a general partnership, limited partnership, trust,

Projects in Developing Markets March 2000, at 53; Louis T. Wells & Eric S. Gleason, “Is Foreign Infrastructure
Investment Still Risky?”, Harvard Business Revue, Sept.-Oct. 1995, at 44; Stewart E. Rauner, “Project Finance: A
Risk Spreading Approach to Commercial Financing of Economic Development”, 24 Harvard International Law
Journal 1983 at 145.
     See Manuel supra note 10 at p. 59; Beardsworth supra note 7 at 29.

           limited liability company, corporation or other entity. In all cases, however, the project
           company has limited purposes and powers.19
           The sponsors of the project, as mentioned above, will typically own the special
           purpose project company. The advantage of using a special purpose project
           company as the owner of the project is that there will be no liabilities or obligations
           that the project company will bear which are unrelated to the project; so that there is
           little chance that the project company will end up in financial difficulty.20 Therefore,
           the special purpose project company limits the extraneous claims that can be
           asserted against the sponsors and the project assets. If the project company were to
           engage in other businesses, claims from those activities could impair its finances,
           give rise to liens or judgments against the project assets and create creditors that
           could file involuntary bankruptcy proceedings against it.
           The shareholders in the project company may include the contractor (those
           companies that will construct/build the project), the operator (who will operate it once
           completed), a local partner or partners, the supplier (those companies that will supply
           the required input) and the off-taker (those companies that will buy the project‟s
           output). Multilateral lending institutions, such as the International Finance
           Corporation and the Inter-American Development Bank, may also participate in the
           project company by supplying money in the form of equity.
           In addition to equity, the project's funds originate from the agreements entered by the
           project company, often in the form of syndicated loans, with various lenders. These
           lenders may include bilateral and multilateral lending agencies, export credit
           agencies and commercial banks, both international and domestic. The project
           company's debt, as already explained above, is said to be non-recourse and the
           assets of the project company are used as collateral for the debt. In other words,
           project financing is used as an alternative arrangement between debt and equity.
           Therein lies its main advantage: the project company's sponsors isolate that
           company from its external environment by transferring economic and political risks to
           other entities so that all monetary flows generated through the future operation of the
           company, after the operating expenses have been paid, are first devoted to the
           repayment of the loans. Therefore, a multitude of other mechanisms are set up in
           order to ensure the viability of the project company and its capacity to repay the
           project debt to the lenders (see Part II & Part III of this Paper).
           The project company will enter into an agreement with the contractor for the building
           of the infrastructure facility under a fixed price, turnkey construction contract (often
           called an engineering, procurement and construction contract (EPC).The project
           company must also concern itself with the operation and maintenance of the facility,
           an integral element of which is acquiring adequate supplies. To this end, the project
           company will typically contract with an operator for operation and maintenance
           services and with a supplier for a guaranteed input supply such as fuel, chemicals
           and other. A key component of a typical project finance structure includes also long-
           term off-take contracts entered by the project company with one or more creditworthy
           Another important consideration in the completion of a project, especially in
           undeveloped countries, is the approval of the host government, which in most cases
           besides the required concession and all the other relevant approvals and permits, will

     See Hanley supra note 9 at 87.
International and Comparative Law Spring 2000, p. 317.

           be required to provide some form of support (at the local or national level, or both) to
           the project company and possibly to the sponsors and lenders.21 Although the type of
           governmental support will depend on the particular project, governmental support
           may take the form of currency exchange guarantees, exemptions from taxes, etc.
           (See Government Support Guarantees analysed below in Part III of this Paper).

B. Financial Engineering: How to Put Together a Bankable Project

       1. Prerequisites for Obtaining Financing

           Because projects, host governments, project sponsors, and other conditions vary so
           greatly, it is difficult, if not impossible, to come up with a uniform, “one size fits all”
           approach to developing and financing infrastructure projects. Nevertheless, there are
           some general points worth noting.
           Project sponsors and their legal counsel should keep in mind that in working in
           foreign countries, particularly developing countries with newly emerging economies,
           significant differences in language, business culture, and legal traditions create
           different project development dynamics. The legal systems in emerging economies
           are often themselves emerging and generally do not offer the certainty provided by
           the legal systems of developed nations with open market economies. Recognizing
           and working with these differences may be crucial to the success of a particular
           In conjunction with these factors, the project finance approach has its own
           imperatives. Of paramount importance to project sponsors are the needs to protect
           the net revenue stream, create a complex web of contractual arrangements, and
           mitigate the various political and commercial risks inherent in projects. These goals
           will very often directly conflict with the need to forge long-term partnerships with local
           counter-parties and host government entities. The project sponsor has to recognize
           each of these diverse interests and balance them so that each group is satisfied. In
           order to ensure successful financing for a project, project developers comprising of
           sponsors and lenders should engage in a two-step inquiry.22 The first step is to
           determine the underlying economics of a project based on available information. If
           the project appears to be viable, the project sponsor should conduct research and
           exercise due diligence to identify what risks arise from the local business and political
           environment. These should be, in turn, factored back into the project economics. If,
           after factoring in the risks of a given project, the project remains viable, one must
           determine the financial structure of the project. In this second step of the inquiry, one
           must identify sources of funds to be used and find investors and lenders. Also, one
           must determine the project's ideal debt-to-equity ratio. Finally, one must ascertain the
           basic package of project documents to be negotiated, including the security
           documents necessary to collateralize the project's assets in the host country.

           a) Evaluation of Project and Business Environment

               Project sponsors should bring an understanding of international business and
               markets and familiarize themselves as quickly as possible with the local situation.
               Project sponsors should assess the host country's actual interest and support for
               a specific project. Identifying local officials and business leaders who will facilitate

     See Nassar supra note 13 at pp. 76-85.
  See David Blumental, “Sources of Funds and Risk Management for International Energy Projects”, 16 Berkeley
Journal of International Law 1998, pp. 272-273.

                  relations with government agencies is crucial to the success of a project.23 The
                  project sponsor must be able to bridge different worlds. Without spending
                  sufficient time and resources to understand the local political, economic, and
                  business situation, a project sponsor is liable to incur greater costs down the road
                  when more resources have been committed to the project.

            b) Feasibility Studies

                  Any potential project developer will review a project for technical and economic
                  (financial and commercial) feasibility.24 The technical test will normally entail a
                  technical feasibility study carried out by independent experts, such as consulting
                  engineers, with an emphasis on proven technological solutions. The financial test
                  will involve cash flow forecasts to show that revenues will be sufficient to cover
                  debt service, taxes, and other costs, plus a contingency and surplus for the
                  project to meet its target return on equity.
                  Lenders can be expected to retain an engineering firm and other advisors to
                  analyze the design of the project and other technical matters such as access to
                  utilities and spare parts, overall project cost and contingency requirements. An
                  environmental consultant may review permitting and environmental matters. A
                  supply consultant may be asked to evaluate complex fuel arrangements.
                  Multilateral lenders may also retain financial advisors. Many lenders will retain an
                  insurance consultant to recommend an appropriate insurance package for the

                  i)   Financial Viability

                       Beyond knowledge of the host country, infrastructure project sponsors must
                       realistically assess the likely returns of their projects. Project sponsors should
                       determine whether the projected prices for the project‟s output over the term
                       of the main project contract will be sufficiently stable to guarantee the net
                       revenue stream necessary to service the debt.25 In all of these instances,
                       project sponsors must weigh all costs, including opportunity costs and
                       development costs, against the potential returns. The greater the extent to
                       which the risks discussed below can be allocated through contract, the more
                       likely a project is to be financially viable.

                  ii) Technical Viability

                       On completion of construction, the facility must be able to operate according
                       to stipulated performance standards.26 If, due to technical defect or equipment
                       failure, it cannot, the project could suffer fatal setbacks from lost revenues
                       and potentially breach any off-take agreement. This risk is magnified by the
                       limited availability of repair service and replacement parts in developing
                       countries. For this reason, lenders will insist on proven and reliable

                  iii) Commercial Viability

     See Blumental ibid at 294.
     See Manuel supra note 10 at 86
     See Blumental supra note 21 at 294.
     Id at 295.

                 In project finance, the funds provided by lenders provide the wherewithal to
                 promote the project (often in excess of 70% of the capital cost of the project).
                 In a typical project finance transaction, these lenders will conduct a rigorous
                 commercial analysis of the project, testing the commercial viability (the ability
                 and the extent to which the project can generate revenue) of the project under
                 various scenarios. Such lenders operate in a competitive, market environment
                 and will finance only those project companies that demonstrate a reasonable
                 certainty that they can repay the funds they borrow. This analysis serves to
                 vet the good projects from the bad, selecting those that make commercial
                 sense from those that do not. This process leads to the good health not only
                 of the lenders but also the various parties to the transaction and, indeed, the
                 economy of the host country. Commercial viability is the foundation of the
                 logic of project finance.

        c) Legal Due Diligence: the role of legal opinions

            Lenders are likely to require an extensive review by its lawyers of the laws of the
            country where the project is located. Generally, a legal opinion will confirm for the
            foreign lender the legal assumptions on which the lender's decision to lend
            money are based. The legal opinion is often viewed by a lender as an extension
            of the lender's investigation and review of the risks of the transaction and of
            factors that may have an impact on repayment of the loan.27
            The legal opinions requested in an international infrastructure transaction are
            rooted in traditional opinion practice for loans to foreign borrowers combined with
            enhanced scrutiny of the home country legal regime under which the project will
            be built and operated. The opinions rendered to the lenders collectively address
            the standard issues of due incorporation, authorization, execution and delivery,
            enforceability, non-contravention and the absence of material litigation. They will
            usually confirm tax matters, that judgments rendered abroad will be honored in
            the project's home country jurisdiction, that the borrower can be sued there, and
            that the submissions to jurisdiction are valid and enforceable. The legal opinions
            will also address the creation and perfection of all security interests in the project
            assets and revenues and address (if not resolve) questions of title to project
            assets and the immunities applicable to a state-owned sponsor. (To the extent
            that a borrower is owned by a government that is subject to the World Bank
            negative pledge, special opinion considerations may apply.)
            In addition, local counsel will be asked to identify all governmental approvals
            necessary not merely for the execution, delivery and performance of the financing
            documents, but also for the construction and operation of the project. In that way,
            especially in jurisdictions where the process of ensuring compliance with
            applicable government regulation may be less rigorous, the local counsel legal
            opinions serve the larger goal of trying to make sure that the project is being
            executed properly. Counsel for critical suppliers and off-take or throughput
            purchasers will also be asked to confirm the validity and binding effect of the
            relevant supply and off-take or throughput agreements. The information
            generated in the opinion process-if received early enough-can be invaluable in
            the design of the covenants, conditions precedent, events of default and
            remedies to be incorporated into the credit and collateral documents.
            Among the legal issues that may be reviewed:

  See William F. Megevick Jr, “Loan and Security Documentation in International Infrastructure Projects from
Lenders’ Perspective”, 866 Practicing Law Institute /Commercial Law and Practice Course Handbook Series
October 2004, pp. 103-104

               -   Regulatory structure governing the project.
               -   The need to obtain governmental approvals, licenses, concessions, etc.
               -   Ownership of the project assets.
               -   Enforceability of each of the project agreements (over its entire term) and
                   loan documents (including enforceability of interest and default interest
                   provisions). Where a contractor, such as a fuel supplier, is a governmental
                   entity, this analysis will cover the enforceability of waivers of immunity as well.
               -   Enforceability of choice of law and dispute resolution (arbitration) provisions.
               -   Enforceability of foreign judgments or arbitral awards.
               -   The creation of liens or charges and restrictions on, and costs of, foreclosing
                   the lien created by the security documents.
               -   Laws or rules giving priority to liens of certain creditors (e.g., tax authorities).
               -   Existence of exchange controls (and need to obtain exchange control
                   approvals), withholding taxes or other charges.
               -   Registration requirements that may be imposed on foreign lenders by the
                   government or local banking authorities.
               -   Restrictions or limits on use of offshore bank accounts.
               -   Procedures and creditors' rights following a bankruptcy of the Project Owner.
               -   Liabilities under local environmental laws.
               -   Liabilities under local labor laws.
               -   Restrictions on availability of insurance coverages.

           d) Risk Management

               While the project finance model offers many advantages over traditional
               corporate financing approaches, significant risks remain at each phase of the
               project's development. Lenders are risk-averse by nature. Their fear is
               heightened where the debt is non-recourse or limited recourse, and the
               borrower's risk is limited to its own equity investment. In order to obtain financing,
               and to give the lenders sufficient comfort, the project structure itself must take
               risk factors into account. Identifying, analyzing, and mitigating risk are one of the
               most critical aspects in structuring and funding a successful international privately
               financed infrastructure project.28 Risks as discussed below exist at all phases of
               the project. Project sponsors and their counsel must work prospectively to
               structure the investment in a way that reduces and mitigates risk to the greatest
               possible extent. Accordingly, the relationships between the project's parties and
               the instruments required are quite complex. The true skill in developing project
               finance deals lies in the 'financial engineering' that will comfort lenders while
               raising the most capital possible.29

           e) Security Arrangements

               When financing in developing countries, commercial lenders seek a complete
               security arrangement to protect them from the broad range of commercial and
               political risks outlined above. Project sponsors need to mobilize all the available
               multilateral support, bilateral export credit, and risk insurance that can be

     See Blumental supra note 21 at 271.
  See David N. Powers, “Selected Issues Regarding Construction and Operation and Maintenance Contracts”, in
Practicing Law Institute/ Commercial Law & Practice Course Handbook Series 1997: Project Financing 1997:
Building Infrastructure Projects in Developing Markets, pp.143-145.

                  obtained in order to convince lenders that revenue projections can be met and
                  that the project's assets can be repatriated.30 The contractual arrangements
                  should ensure that lenders will not bear the burden of the cost overrun or revenue
                  shortfall, and that the lenders will be kept whole. The project sponsor must be
                  willing to pledge its equity to the lenders. The project must securitize the project
                  assets to the lenders' benefit. And the project parties must often consent for the
                  project sponsors to assign all of their contract rights to the lenders. The lenders'
                  objective is to ensure that if there is an event of default, and they foreclose, they
                  will be able to take over and continue to operate the ongoing concern, rather than
                  liquidating the project company.

       2. Combining and Sourcing Project Funds

            Project finance is an approach that integrates a mixture of equity and debt financing
            from different sources - including multilateral institutions, regional development
            banks, export-import banks, commercial banks, institutional investors, equity and
            bond markets, equipment suppliers' credit, and other ad hoc sources - all of which
            derive their return on equity or debt service strictly from the revenue stream of the
            underlying project over a ten to twenty-five year period.31 Sources of funds for a
            project include equity, senior loans and, at times, subordinated loans, and the capital
            markets. Equity interests may be active or passive (passive investors might include
            investment funds or private institutions that seek investment opportunities offering
            high yields), and may take the form of shareholdings, partnership interests or other
            forms of equity investment in the project company.
            Senior loans may be provided by commercial banks (local and foreign) or institutions
            such as insurance companies or pension funds, export credit agencies and other
            government assistance programs and multinational or regional development banks.
            Beyond risk aversion, commercial banks are subject to certain structural and
            regulatory constraints, which necessitate a financing package that includes other
            sources.32 Principally, infrastructure projects require large investment and debt
            service over a relatively long term. Commercial banks, however, are limited in the
            amount of long-term loans they can fund due to country risk limits, sector limits, and
            reserve requirements. Multilateral institutions, regional development banks, and
            bilateral agencies can provide important support, which gives private commercial
            banks and other investors the confidence they require to participate in the project.
            Institutionally, multilateral organizations and regional development banks have
            shifted their traditional focus and now provide numerous services and facilities
            designed to support private investment in the infrastructure sector.33 Although the
            actual amounts that multilateral institutions commit to projects are usually relatively
            small, they serve to give private investors comfort and confidence and thus pave the
            way for commercially-sourced funding. Bilateral agencies and the export-import
            banks of developed countries now provide funding to private entities in the form of
            suppliers' credit, buyers' credit, and guarantees. Because these agencies exist to

  See Richard Walsh, “Pacific Rim Collateral Security Laws: What Happens When the Project Goes Wrong?”, 4
Stanford Journal of Law, Business and Finance Winter 1999, pp. 121-122; see also Blumental supra note 21 at
     Blumental ibid at 275-276.
     Id at 285.
     Id at 276-280.

            promote their own nations' exports, this support is generally limited to use for the
            purchase of that country's equipment and products.34
            Subordinated loans may be provided by equipment vendors or by investors.
            Subordinated debt is often used in lieu of equity, since some sponsors may prefer to
            contribute debt instead of equity. Recently, project sponsors have begun looking to
            the capital markets to obtain funds for projects through the public offering or private
            placement of securities, typically long-term bonds.35 To guide investors in analyzing
            these debt issuances, rating agencies have developed ratings to evaluate project-
            related offerings. These ratings evaluate the ability of project collateral to generate
            sufficient cash flows to provide for timely payment of debt-service obligations.
            Standard & Poor's utilizes seven rating criteria for project debt basing its overall
            rating on the interrelationships between these factors: output sales contracts, output
            production costs, supply risk, structure, technology risk, the purchaser's credit
            strength and the project's projected financial results.36
            Determining the proper ratio and the sources of equity and debt financing are key
            steps in designing the structure of project finance projects.37 Generally, total project
            investment is 20-40% equity and 60-80% debt financed. This mixture relates to the
            question of how project risk is to be distributed among the parties. Between project
            sponsors and lenders there is a natural tension surrounding this issue. Lenders
            naturally prefer project sponsors to commit more equity to a project. The more equity
            a project sponsor invests, the greater the proportion of the project risk it undertakes.
            The project sponsor, however, wants to reduce its exposure and save as much of its
            capital as possible to invest in other projects. The tension between the interests of
            the lenders and those of the project sponsors plays out during the negotiation of the
            financing documents and project structure.
            Several factors influence the determination of the debt to equity ratio: the
            creditworthiness of the sponsors, the location and economics of the project, and the
            risks inherent in that project. In this area, just as in the development of project
            finance itself, necessity drives innovation. The huge investments and long-term
            nature of infrastructure project investment have forced project sponsors to broaden
            the search for financing. Equity financing, as described just above, now often
            includes funds raised not just from the sponsor, but also from investment funds,
            multilateral institutions like the International Finance Corporation ("IFC"), regional
            development banks, and international and local equity markets.
            Projects structured as joint ventures between project sponsors and local public
            utilities add a new dimension because the local partner's funding may come from the
            host government or from the public lending arms of the World Bank or regional
            development banks. Similar creativity and innovation go into structuring the debt
            financing. Because commercial banks remain cautious about making large
            infrastructure investments in developing countries, and because of the structural
            problems commercial banks face in making such large, long-term loans, traditional
            commercial financing alone cannot provide sufficient debt financing for large
            infrastructure projects. Syndicated bank loans increase the funds available, but they
            cannot resolve the timing constraints on commercial banks. Infrastructure projects
            still generally require financing for longer periods than the standard five to ten year
            commercial loan maturity.

     Id at 280-283.
     Id at 286.
     Id at 287.
     See Fitzgerald supra note 17 at 63-64.


As demonstrated by the structure of project finance, different types of agreements with
multiple and independent participants provide the cohesive force in a financing project. Each
participant brings into the project what other participants are lacking: financing ability,
political authority, technical know-how, procurement of supplies, human resources, etc.
Therefore, setting up a project implies dealing with numerous contracts entered into by
various participants from different countries, either bilaterally or multilaterally. Therefore, the
common denominator between all international infrastructures projects financed on a project
basis, in spite of their inevitable individuality, is that the parties negotiate multiple and
separate contracts that will form a global structure with links, both from a business and a
legal perspective.38 Those contracts and documents may be divided into two main
categories: the underlying documents regarding the project itself, namely the Project
Documents, and the financing and security documents regarding the strictly financial
aspects of the project financing structure, or else called the Financing Documents.
Most of the public sector infrastructure facilities expected to be financed on a project basis
are projects put up for bid.39 A bid constitutes a transparent procedure that guarantees the
lowest pricing and awards the project to the most competitive bidder. All in all, it is regarded
as the most efficient way of guarding the public interest and ensuring a fair chance to all
competing sponsors. Once the bid is won, the successful consortium of sponsors transfers
its joint venture agreement, which is normally sufficient for purposes of the bid, to the project
company incorporated under the laws of the country where the project is located. The
corporate structure of the project company, which will be the borrower in the credit
agreements, may be determined by a preliminary series of agreements (including either a
shareholders or a joint venture agreement, charter documents or articles of association and
by-laws) between the sponsors, instituting either a single corporate subsidiary of the
shareholders or a joint venture in the form of a partnership between multiple sponsors.40
Depending on the type of project, the participants then negotiate a series of contracts in
relation to the construction and the operation of the project company, such as site lease or a
usufruct of a building or land, sales contracts, supply contracts, construction contracts and
sub-contracts, technology or license agreements, off-take contracts and administrative
agreements and documents (environmental consents, concession agreements, or
documents regarding title to land, etc.).41 There are yet other agreements to be concluded
regarding the management and operation of the project.
The type of sales contract concluded depends on the users and the output of the project.
Where the output is capable of being directly consumed by its potential end consumer
without the need for any further process, the contract entered into is a contract for sale of
such output. Therefore, at the heart of any project finance structure is the off-take
agreement, the document under which the project company will receive sufficient funds to
service its debt and provide its equity return. Electricity, water, and liquefied natural gas are

  See generally Christopher C. McIsaac and Daniel J. Michaels, “Financing Power Projects in Developing
Countries: Principal Project Agreements”, 1240 Practicing Law Institute and Corporate Law Course Handbook
Series 2001, p. 114.
   For concession agreements see generally Viktor Soloveytchik, “New Perspectives for Concession Agreements:
A Comparison for Hungarian Law and the Draft Laws of Belarus, Kazakhstan and Russia”, 16 Houston Journal of
International Law Winter 1993, pp. 262-289; see also UNCITRAL consolidated legislative recommendation supra
note 19 at 310-317; see generally Dichstein, “Revitalizing the International Law Governing Concession
Agreement”, 6 International Tax and Business Law 1998, p. 54.
     See Sozzi supra note 2 at 473-474.
     See Nassar supra note 13 at 63-64.

good examples. Where the product needs further processing to be ready for consumption,
however, the contract is often a concession. Oil exploration and production, as well as
lumber contracts, are the classical examples. In a concession, the agreement is always
concluded between a private party, i.e., the project company, and the host government, its
agent, or another instrumentality of the host government. This situation is not always true
with respect to contracts of sale of the project‟s output, which may be directly consumed. In
the latter instance, since the project is designated for commercial users, the off-taker may be
a private party, and, hence, the government may or may not be a party to the deal.
Accordingly, the two parties to the sale-purchase contract may be private parties.
On the finance side, the project normally reflects several agreements, including equity
subscription agreements concluded between the project company, the sponsors and other
project participants, project credit agreements, inter-creditor arrangements, collateral security
documents and waterfall provisions. All financing agreements are aimed at providing the
project company with the necessary liquidity to execute the project. Project credit
agreements include term sheets, common letters, common term agreements and each
lender‟s loan or credit facility.42 These arrangements usually consist of bank loans,
underwriters, bonds, note-holders, export agencies, or multilateral institutions. To guarantee
the repayment of these borrowed funds, several collateral are executed. The collateral
documents grant the project lenders security interest in all its rights and assets. These may
take the form of a mortgage, pledge, and/or assignment of revenues as will be discussed
Thus, the negotiation of the project‟s structure leads to the setting up of an aggregate of
multiple, sometimes intertwining, contracts and documents. This documentation usually
reflects the compromise position that reconciles conflicting interests between multiple project
participants. The following section reviews some of the most significant project finance
contracts and documents from a legal perspective.

A. Project Documents

       1. Land Title Documents and Permissions

           The project site shall include the land on which the project is built and all easements
           and rights-of-way necessary to build and operate the project facility.43 These rights
           may include rights to use public or private roads to gain access to the project site, to
           lay down pipelines or transmission lines, to construct conveyors for fuel (e.g., coal),
           to use water from rivers, lakes or wells, to return water, including waste water, to its
           source or to disposal sites. The site may also need to include areas for fuel or waste
           storage (e.g., ash ponds). It is preferable that the project company have title to the
           site and all rights-of-way; however, it is not uncommon that the site will be leased or
           that rights to use the site will be granted for a term of years. In this case, leases,
           easements and other real estate documents shall have a stated rental fee (which
           may escalate in accordance with a known index) for a term no shorter than the useful
           life of the project, and shall be non-terminable. Termination rights in favor of a lessor
           make financing extremely difficult, because a loss of the site or a critical easement
           means a loss of the project. The lease and other documents should be
           “mortgageable” that is, assignable to the lenders.
           One issue that may be of great sensitivity to some lenders (and to project sponsors)
           is liability for environmental conditions at the site, for example, contamination at the
           site caused by the use, or misuse, of hazardous substances or pollution of nearby

     See Sozzi supra note 2 at 480-482.
     See UNCITRAL consolidated legislative recommendations supra note 19 at 317-318.

            water sources. Although in many countries environmental matters are not currently
            viewed as important, there is a growing awareness of the need to protect
            environmentally sensitive areas and to clean up contaminated sites. As a result, the
            transfer documents for the site or the site lease shall contain an environmental
            indemnity by the prior owner or lessor for pre-existing conditions on the site. An
            environmental site assessment should be performed (even if it is not legally required)
            before a site is finally chosen, and any contamination or other potential liabilities,
            such as areas of historical, religious or archaeological sensitivity, potential
            contamination from neighbouring land, or presence of endangered species or rare
            habitats, must be evaluated, and if possible, removed.
            In addition, title to the site and to the land on which easements are granted should be
            searched and, if possible, insured, so that any liens or rights in the land that may
            have been granted to other parties will be known, evaluated for potential conflicts with
            use of the site for the project and, if necessary, removed.44 (In some countries, it is
            not possible to purchase insurance that title to the site is clear, but it may be possible
            to obtain a lawyer's opinion as to clear title.) It should also be confirmed that the site
            may be properly used under applicable law for a project location. Finally, it may prove
            to be useful to prepare a survey of the site. Many lenders will require a survey at
            closing of the financing agreement. Early in the process, the construction contractor
            may be asked to review the survey and the site conditions and confirm that the site is
            sufficient for the contractor to build and warrant the project on the site.
            Project sponsors and lenders alike will want to be sure that the project and the site
            are properly permitted under all applicable laws and regulatory requirements, whether
            national, regional or local.45 Air, water, waste discharge or storage and other permits
            should be obtained by proper procedures prior to closing. Any permit that is not final
            or is revocable prior to repayment of financing, or that contains requirements or
            conditions that are unduly burdensome, could delay financial closing or make project
            financing more difficult without additional sponsor support. In some projects, permits
            relating to construction may be the responsibility of the construction contractor, but
            the project sponsors should confirm early in the development process that all required
            permits will be available when needed.

       2. Engineering, Procurement and Construction (“EPC”) Contract

            Basic Goal: The project company contracts with an experienced construction
            contractor to provide all engineering, procurement and construction services
            necessary to provide a project site meeting the project owner‟s requirements, at a
            fixed price. This type of contract is commonly referred to as a "turnkey contract"
            because, when the project site is delivered by the construction contractor, the project
            company being the project owner is required to do nothing more than turn a key in
            order to begin operating the project and delivering its output to the users.46 The
            following are some of the key provisions and considerations in an engineering,
            procurement and construction contract.

            a) Scope of Services and Responsibilities

                 The scope of work of the construction contractor should be all inclusive, so that
                 the contractor is required to perform all services necessary to provide a complete

     See Fitzgerald supra note 17 at 55.
     Id at 55.
     See Sozzi supra note 2 at 482-483.

            project that is capable of meeting the project company‟s obligations under the off-
            take agreement.47 The design of the project will vary depending upon the
            technical and performance specifications required to operate the infrastructure
            facility. The contractor, in consultation with the project company, will develop the
            technical drawings and equipment specifications required for the facility. Lenders
            will require that an independent engineer review and approve the design of the
            project facility and confirm achievement of construction milestones. In addition to
            designing the project, the contractor is generally required to arrange for the
            procurement of all equipment necessary for the construction of the facility. EPC
            agreements require also that the equipment and materials be new and of the type
            for which replacement parts and service are readily available.
            Among the services to be provided under an EPC Agreement are:
            -   performance of all work and services necessary in connection with the
                engineering, design, procurement, construction, start-up and testing of the
            -   procurement of all materials and equipment, machinery, tools, transportation,
                construction fuels, chemicals, and utilities, administration and construction
                management services required to complete the project,
            -   provision of qualified personnel, including properly licensed engineers,
                necessary to perform all services, and training of project operators,
            -   importation and transportation of all material, equipment and supplies, and for
                the payment of all import fees (the EPC Agreement may specify the country
                or countries from which certain goods and services must be procured in order
                to meet financing requirements or to minimize the risk of delays in deliveries),
            -   production of documentation and manuals for start-up, operation and
                maintenance of the project, quality control and safety procedures and
                personnel training,
            -   procurement of all licenses or permits necessary for the construction
                contractor to perform its services, building and construction permits and
                permits necessary to import goods required for the construction of the project,
            -   clean-up of the site and waste removal and disposal, including disposal of
                hazardous materials.
            Other responsibilities of the contractor include:
            -   Compliance with Laws: The contractor is expected to comply with all
                applicable laws and permits affecting the construction of the project, but while
                this provision is not required to make the contractor subject to applicable
                laws, the provision does make it a breach of the EPC agreement for failure to
                comply with such laws.
            -   Project Management: The contractor will be required to designate a project
                manager and a site representative with the authority to act for the contractor
                in dealings with the project company. In some cases, there may be a
                restriction preventing the contractor from reassigning the designated
                personnel without the consent of the project owner, as well as a provision
                requiring the removal of the designated personnel upon the request of the
                project owner.

  See B. Broussard, J.G. Martin and J.H. Stibbs Jr., “The Importance of Engineering, Procurement and
Construction Contracts in Electric Power Projects”, 44 South Texas Law Review Summer 2003, pp. 768-770.

                -   Cooperation with Other Parties: The construction of an infrastructure
                    project is a complicated task involving numerous interests, contractors, and
                    subcontractors. In order for the project to be completed successfully and on
                    time, the cooperation of all parties is critical. To this end, the contractor will be
                    contractually required to cooperate throughout the project with the project
                    company, the lenders, other subcontractors, an independent engineer, and
                    perhaps the party, namely the off-taker that has contracted to purchase the
                    output from the project.
                -   Safety: In an effort to manage one of the many risks associated with
                    constructing an infrastructure facility, the contractor will be required to use
                    materials that are new and warranted, obtain construction and other related
                    permits, and provide insurance coverage for casualty events in an effort to
                    establish and enforce reasonable safety protocols and accident prevention
                -   Project Schedule and Progress Reports: Prior to, or shortly after, execution
                    of the EPC agreements, the project company and the contractor will agree to
                    an overall project schedule for the construction of the project. As work
                    progresses, the contractor will then be required to prepare and submit regular
                    construction progress reports compared to the project schedule.
                -   Drawings, Plans, and Specifications: The general contractor will be
                    required to submit all drawings, plans, and specifications to the project
                    company and an independent engineer for review and approval. The lender
                    will demand such a review process for its protection. Further, the EPC
                    agreement will require the contractor to compile all such documents in an
                    orderly fashion for presentation to the project owner upon completion of the
                -   Training of Operation & Maintenance Personnel: Although the contractor
                    is responsible for the construction of the facility, the project company or
                    someone working on behalf of the company, namely the operator, will usually
                    be responsible for operating and maintaining the project. To facilitate these
                    efforts, in some cases, the project company will ask that the contractor train
                    the personnel who will be responsible for operating and maintaining the
                    project after completion of construction. If so, the contractor will be required to
                    develop the training program and train the relevant personnel well in advance
                    of the project's expected completion date.

           b) Standard of Performance

                All services of the construction contractor should be performed in a good and
                workmanlike manner, in accordance with prudent utility practices and all
                applicable laws, rules and permits.48

           c) Payment Terms

                The project company‟s payment obligations should be stated as a fixed sum,
                payable by the company in instalments.49 Payment of each instalment should be
                conditioned upon achievement of construction "mile-stones". The first payment
                due under the EPC agreement is generally based upon the project company's

     See Fitzgerald supra note 17 at 70.
     See Broussard supra note 46 at 774-775.

                 "notice to proceed" with each remaining payment due upon the contractor's
                 completion of the corresponding milestone The payment schedule should be
                 consistent with the availability of funds under anticipated loan arrangements.
                 Payments under the EPC agreement shall be inclusive of all taxes and other
                 costs associated with the construction, including any permitting and insurance
                 costs required during the construction phase of the project. The fixed price
                 feature of a typical EPC agreement shifts any cost overrun risk to the contractor.
                 Title to completed work and materials often vests in the project company upon
                 payment, although risk of loss generally remains with the contractor until final
                 It is common for the project company to withhold a portion of each instalment,
                 typically 5%, to ensure completion of the project by the contractor. Amounts
                 withheld, commonly referred to as "retainage", may be applied to correct any
                 defaults by the contractor or to complete unfinished construction tasks ("punch
                 list" items).50 Any remaining retainage will be paid to the contractor following
                 completion of the project. The project company should also retain a right to
                 withhold payments when the contractor is in material breach of the agreement.
                 EPC contracts will also sometimes provide bonus payments for early completion
                 on the theory that early completion and operation of the facility enables the
                 project company to enjoy savings of construction period interest and accelerate
                 the operational period revenue stream

            d) Completion and Performance of the Project

                 The construction contractor should be obligated to demonstrate, by a specified
                 deadline, that the project is capable of operating at the anticipated levels of
                 performance. The contractor should guarantee that the project will be completed
                 on schedule, and if the deadline for completion is not met, the contractor should
                 be required to pay a specified amount per day for each day that project
                 completion is delayed.51 The following are the components of project completion:
                 i)   Mechanical Completion. Mechanical completion occurs when the project
                      has been constructed in accordance with the design specifications and is
                      mechanically capable of operating.
                 ii) Performance Tests. Performance tests are designed by the project
                     company, contractor and independent engineer to ensure that the facility will
                     allow the project company to meet its obligations under the off-take
                     agreement. EPC agreements will, however, allow for a "cure" period for any
                     failure to pass agreed-upon performance tests.
                 iii) Substantial Completion. Substantial completion occurs upon the successful
                      completion of all performance tests.
                 iv) Final Completion. Final completion occurs upon the successful completion
                     of all final punch-list and close-out items. Final completion does not occur
                     until all liquidated damages, bonuses, and retainage amounts are paid as
                 Project completion will occur, as mentioned above, when the project successfully
                 passes carefully designed performance tests.52 The performance tests should

     See Fitzgerald supra note 17 at 57.
     Id at 56.
     See Broussard supra note 46 at 778-779.

                demonstrate that the project plant can operate at a capacity, efficiency and
                reliability that will produce revenues under the off-take agreement sufficient to
                repay project debt, pay operating costs and provide the expected return on the
                sponsors‟ investment. If the construction contractor is unable to demonstrate
                during the performance tests that the project meets the guaranteed performance
                levels, the contractor should be obligated to pay performance liquidated
                damages. The aggregate liability of the construction contractor for performance of
                its services or breach of the EPC Agreement should equal the contract price prior
                to successful completion of the performance tests. Because the contractor's profit
                margin is finite, EPC agreements usually contain limits on the contractor's liability
                for failure to perform. In all cases other than failure to achieve mechanical
                completion, liability is typically limited to 30-40% of the fixed price. Often liability
                sub-limits may apply to particular liquidated damages categories.

           e) Liquidated Damages

                Liquidated damages are generally divided into two categories, delay and
                performance damages53:
                i)    Delay damages. Payable for each day (or other agreed-upon time period)
                      that the contractor fails to deliver a completed facility following the date
                      certain. Delay damages should usually be seized to cover any required
                      payments of interest during construction, fixed operating costs, and any
                      damages payable to the off-taker under the off-take agreement.
                ii) Performance damages. Payable to the project company for any failure of the
                    facility to achieve agreed upon performance criteria. The amount of these
                    liquidated damages should be sufficient to prepay (or "buy down") a portion of
                    the project's debt so that the remaining debt can be repaid out of the lower
                    revenues that will be earned by the project at the impaired performance

           f) Warranties

                A construction contractor typically provides a one- or two-year warranty of design,
                materials and workmanship.55 The contractor should be obligated to re-perform
                any service, or repair or replace any item that is found to be defective during the
                warranty period. For any defective item, the warranty period may be extended for
                one year following the repair or replacement of the item.

           g) Other

                Other provisions of the EPC agreement address the following issues:
                -     Force Majeure: The project company should ensure that force majeure
                      excuses available to the construction contractor do not include any event that
                      does not also extend the deadlines under the off-take agreement or supply
                      agreement for commencement of service by the project,
                -     Defaults and Remedies: The project company should be entitled to take
                      possession of the construction contractor's work in progress, assume all

     Id at 779-780.
     See Fitzgerald supra note 17 at 71.
     See Broussard supra note 46 at 780.

                       contracts with subcontractors and complete construction in the event of a
                       material breach by the contractor.56
                  -    Insurance: The construction contractor should be required to provide a
                       comprehensive insurance package covering any damage to the project prior
                       to its completion and certain delays in construction.57
                  -    Assignment: The EPC agreement should provide that the project company's
                       interest can be assigned as collateral security to the lenders. The contractor
                       generally agrees to execute a consent and assignment agreement in form
                       and substance satisfactory to the lenders
                  -    Contractor Expertise and Credit: The experience, capabilities and
                       creditworthiness of a construction contractor are important considerations in
                       choosing a contractor. It is not uncommon for a construction contractor to
                       provide performance bonds or letters of credit to back its performance under
                       the EPC agreement.58

            h) Project Company Responsibilities

                  A typical EPC contract will also have a section that outlines the project
                  company‟s general responsibilities59 under the agreement:
                  i)   Project Management: The project company will also be required to
                       designate a site representative with the authority to act on its behalf in
                       dealings with the contractor.
                  ii) Permits: The project company‟s obligations may include the acquisition of
                      any permits required for the construction and operation of the project facility.
                      In some cases, the obligation to obtain certain permits will be allocated to the
                  iii) Property Access: The project company is expected to provide free,
                       uninterrupted access to the project site for the contractor, its subcontractors,
                       and any vendors providing parts or equipment to the project.
                  iv) Utilities: To facilitate the contractor's construction activities, the project
                      company will, in many cases, be expected to provide "fuel, water, electricity,
                      chemicals, lubricants, and all other consumable materials required for the
                      start-up and testing of the facility".

            i)    Contractual relationship between General Contractor and Subcontractors

                  Although the project company and the contractor will necessarily work very
                  closely with each other throughout the construction of the project, it is important
                  that the EPC agreement clearly identifies the contractor as an independent
                  contractor, and not as an agent, employee, or partner of the company‟s sponsors.
                  From a contractual perspective, the contractor has been hired by the project
                  company and its sponsors to perform a certain function. At the end of the day, the
                  project company and the lenders will want to look to the contractor to be liable for
                  any shortcomings of the project, including any damage caused by the vendors or

     Id at 777.
     See Fitzgerald supra note 17 at 72.
     See Broussard supra note 46 at 770-771.

                subcontractors selected by the general contractor. For this reason, the contractor
                should be free to subcontract portions of the scope of work, but the contractor
                must remain liable to the project company for all of the work done on the project
                including the work of subcontractors.60
                The EPC agreement will also typically require that the selection and contracting
                with subcontractors be subject to certain restrictions. For example, the agreement
                may contain a list of pre-approved subcontractors and may require the project
                company‟s approval to use subcontractors that are not on this list. The
                subcontracts themselves will also be subject to certain requirements and
                restrictions, such as the following:
                (i) the subcontractors must agree to comply with all applicable laws and permits,
                (ii) the subcontractors must agree to comply with all terms of the EPC contract
                     with respect to their scope of work, including dispute resolution provisions,
                (iii) all warranties and guarantees from the subcontractors must also be available
                      to the project company,
                (iv) all subcontracts must be assumable by the project company if the EPC
                     contract is terminated, and
                (v) the subcontractors must agree that they are not third-party beneficiaries
                    under the EPC contract.

           j)   Implementation of Change Orders

                Despite months and maybe years of planning, and the best of intentions, every
                project will have changes from the original plan. For example, the project
                company may decide to increase or decrease the project's output capacity. The
                party purchasing the output from the project may request some new technology
                to enhance the project's efficiency. The contractor may request more time to
                complete the project due to unforeseen delays. Most EPC agreements provide a
                procedure for amending the terms of the agreement (including the contract price)
                in certain limited circumstances, including a force majeure event, a breach by the
                project company or a change in applicable law.
                Because the nature of the changes cannot be predicted at the time the EPC
                agreement is entered into, a typical change order provision will provide that the
                general contractor will be entitled to an equitable adjustment to the price or
                schedule.61 Adjustments will be negotiated between the contractor and the
                project company at the time of the change order request, and in the event that an
                agreement cannot be reached regarding the terms of the change order, the
                agreement may provide that the contractor must perform the work until an a final
                agreed-upon solution is reached. For certain changes requested by the project
                company, the EPC contract may provide that the contractor will perform the work
                in return for a reasonable fee for services rendered. The point, however, is that
                the EPC contract should set out a flexible and equitable procedure for addressing
                all change orders because it is likely that both parties will request changes during
                the construction of any project.

     Id at 771-772.
     Id at 773-774.

            k) Suspension and Termination of Project for Convenience

                    For the same reason that it is essential for an EPC agreement to have a
                    mechanism for change orders, the agreement will also need to have provisions
                    allowing the project company to suspend or terminate the construction of the
                    project for no other reason than its own convenience.62 Business plans change.
                    So do market conditions. The project company will almost always insist on having
                    the right to suspend or cancel the project in order to react to any unexpected
                    changes. In the case of a suspension of work, the agreement will likely provide
                    for a maximum amount of time, generally one year, during which the project
                    company can require the contractor to resume work. After this time expires, the
                    EPC contract is considered terminated for convenience. A suspension of work
                    under an EPC contract will also entitle the contractor to an adjustment in the
                    critical path schedule, as well as the price for construction of the project, to
                    account for delays and costs incurred as a result of the suspension of work. If the
                    project company terminates the EPC contract for convenience, then the
                    contractor will be entitled to payment for the work already performed, as well as
                    any reasonable costs incurred to demobilize its crew and equipment.

       3. Supply Contract

            a) Basic Goal: The project company should contract with a supplier for a sufficient
               quantity of input (raw materials, utilities and other supplies), that will be made
               available when required by the company, in order to satisfy the project's
               obligations under the off-take agreement, at a price that is consistent with the
               revenue stream under the off-take agreement.63
            b) Quantity: The supplier will deliver a quantity of input that will enable the project
               to meet its maximum obligations under the off-take agreement during any day
               and, depending on delivery restrictions, during any hour.
            c) Scope of Services: The supplier's obligation to deliver input may be firm,
               interruptible or quasi-firm.64 A firm obligation requires the supplier to deliver input
               whenever called upon, and most lenders can be expected to require a firm
               delivery requirement. An interruptible obligation allows the supplier to refuse to
               make deliveries, at its discretion. A quasi-firm obligation requires the supplier to
               deliver input on a firm basis during certain times and on an interruptible basis at
               other times.
            d) Point of Delivery: This is the point where title to the input transfers from the
               supplier to the project company. If the delivery point is not at the project site but
               at a point into, for example, a pipeline transporter, the project company must
               make sure that the delivery point under its supply contract matches the receipt
               point under the supply transportation contract.65 The right of the supplier to
               change delivery points should be restricted.

     Id at 776-777.
     See Fitzgerald supra note 17 at 73.
     Id at 57.
     Id at p. 73.

            e) Price: There are many different types of pricing mechanisms that can be utilized
               for pricing of input.66 The key is that the price paid for input should be consistent
               with the stream of revenues arising from the payments under the off-take
               agreement. Examples of pricing mechanisms are a fixed price and an index
               price.67 Under a fixed-price contract, the price of input is fixed for the first year of
               the contract, and is escalated each year thereafter based on an index measuring,
               for example, changes in input prices in the country or region where it is delivered.
               An index price is based on a publication that provides periodic price quotes for a
               particular region or delivery point, for example, on a pipeline. When the supplier's
               obligation is to deliver its input on a firm basis, the price may also include a
               demand charge component. A demand charge requires payment regardless of
               whether the project company actually purchases the input. Usually, demand
               charges constitute a small percentage of the total supply payment.
            f) Take-or-Pay: Under a "take-or-pay" contract, the project company is required to
               take a certain quantity of input, either on a monthly or annual basis, or pay for
               that quantity of input, even if the project company does not take it.68 Often the
               project company will have "make-up" rights, so that the company can take input
               in later periods that was paid for but not taken earlier. Take-or-pay obligations
               may be particularly problematic for dispatchable projects. This is because the
               actual level of dispatch may not require the project to operate at a level that
               would require the project to consume a quantity of input equal to or greater than
               the minimum take level.
            g) Term: The term, or duration, of a supply contract should match the duration of
               the term of the loan or credit facility.69 Some lenders have been known to permit
               a project company to purchase some of its supply on a short-term basis, thus
               allowing the company to purchase its input at a market price.
            h) Supplier Credit: The creditworthiness of a supplier is a serious concern for the
               project company and its lenders. It is not uncommon for a supplier to provide one
               of the following forms of credit enhancement70:
                    -   Corporate Guaranty,
                    -   Reserve Dedication (an arrangement whereby the supplier grants a lien or
                        designates certain reserves that will be used only to supply the project. A
                        reserve dedication should provide for periodic review of the dedicated
                    -   Letter of Credit (having a fluctuating value equal to the difference between the
                        market price for input and the contract price for input).
            i)      Conditions Precedent and Commencement of Service: The project company
                    may want to include certain conditions precedent to its obligation to purchase
                    input. For example, the company may want to condition its obligation on financial
                    closing, receipt of governmental approvals, or commercial operation of the
                    project.71 In choosing deadlines for the conditions precedent, the company should
                    take into account deadlines contained in the off-take agreement or other project

     Id at p. 58.
     Id at p. 74.
     Id at 75.

                 documents. The initial delivery date under the supply agreement should be tied to
                 the commercial operation date of the off-take agreement. This will ensure that the
                 company will not have to pay for input before payments for output begin under
                 the purchase agreement. Arrangements for input deliveries at the time of testing
                 of the project may be necessary, however.
            j)   Force Majeure: The project company should ensure that the events of force
                 majeure in the supply agreement are compatible with those in the off-take
                 agreement and should try to narrow the events that can be claimed by the
                 supplier as force majeure. Moreover, the company may seek a provision that
                 requires the supplier, during events of force majeure, to reduce or "curtail" its
                 interruptible obligations to its other customers before it curtails deliveries to the
                 project company and to curtail deliveries to the project company rateably with
                 other firm supply obligations.72
            k) Default and Remedies: The project company should specify events that would
               qualify as a default under the agreement and set forth the remedies the company
               could pursue if the supplier defaults. For example, the project company may want
               a provision that allows it to terminate the agreement and seek damages if the
               supplier fails to deliver input on a certain number of days or to deliver a certain
               percentage of the input that was required to be delivered.73 Also, if the supplier's
               obligations are backed by some form of credit support, the company may want a
               "cross default" which would allow it to terminate the supply agreement if there is a
               default under the credit support arrangements. In addition, the project company
               may want a "liquidated damages" provision which sets forth the damages the
               supplier will pay if it fails to deliver the required input. The usual measure of
               damages is the difference between what the project company pays to purchase
               replacement supplies (including costs to transport the required input to the project
               site) and the contract price for the input.74
            l)   Letter of Credit from Project Company: A supplier may request that the project
                 company post a letter of credit to cover its payment obligations.
            m) "Regulatory Out" Clause: A supplier may request a provision that allows it to
               terminate the agreement if it becomes subject to regulation. However, such
               provisions should be avoided.
            n) "Upstream/Downstream" Cost: The project company should seek a provision
               which allocates the risk of certain costs that may arise from the delivery of input.
               The cost allocation should be based on costs arising "upstream" or "downstream"
               of the delivery point, with the supplier liable for upstream costs and the company
               liable for downstream costs. Costs that should be addressed include taxes and
               transportation costs.75
            o) Representations and Warranties: The supplier should provide a warranty
               regarding the quality of the input delivered.76 The quality standard should match
               or exceed the input quality standard on which the construction contractor's
               performance warranties are based. The project company may also request a
               warranty with respect to title to the input delivered.

     Id at 76.

            p) Right to Resell Input: The project company should consider retaining a right to
               resell input it does not consume at the project.77 Through input resales, the
               project company may be able to reduce some of its take-or-pay risk.
            q) Regulation: The project company should be aware of any regulation or relevant
               laws regarding the production and sale of input required in the jurisdictions in
               which these activities will occur.78 Additionally, if the input supply is being
               imported into a country, import and export permits may be required.

       4. Off-take Contract

            a) Basic Goal: While all project agreements are important, the off-take agreement
               is the foundation of a project's “bankability”. The off-take agreement is a critical
               element of a project because it provides funds for payment of project expenses,
               repayment of the project's debt and dividends or distributions to the sponsors
               who hold equity in the project company. Because of the significance of the off-
               take agreement as an anchor to the deal, it is typically negotiated very early in
               the development process and is often complete by the time the project company
               seeks debt financing.79 Consequently, the primary objective in negotiating an off-
               take agreement is to create a secure and dependable revenue source for the
               project. Although every off-take agreement will differ, the following key provisions
               are generally incorporated into the traditional long-term offtake agreement:
            b) Term: The term of the off-take agreement should be as long as, and preferably at
               least two or three years longer than, the term of the project's debt (to give lenders
               an adequate time to collect full repayment even if there is, for example, a force
               majeure interruption).80 Some off-take agreements in power projects contain
               options for renewal or, in the case of BOT or BOOT concessions, a mandatory or
               optional buy-out at the end of the initial term. Typically, renewal or buy-out
               provisions are not capable of being exercised until project debt is retired. Lenders
               will seek to structure the amortization of the project debt so that the final payment
               of principal and interest due under the relevant loan agreements occurs prior to
               the termination of the off-take agreement. Often, lenders will look to incorporate a
               substantial cushion or "tail" of two or more years from the final scheduled debt
               payment to the off-take agreement termination to carry the project through any
               potential or unforeseen problems with cash flow.
            c) Scope of Services: The off-take agreement specifies the project's obligation to
               supply and the offtaker‟s obligation to purchase the project‟s output.
            d) Price: The pricing regime under the off-take agreement must be adequate to
               ensure that the project company is able to cover fixed operating costs (i.e.,
               maintenance, spare parts and any fixed input costs), variable operating costs
               (i.e., additional input costs (other than fixed costs), major maintenance costs),
               debt service, and a return on equity investment. There are several forms the
               pricing provisions can take. In power projects, and particularly in power purchase
               agreements, most common form is a two-part tariff comprising of a capacity price
               and an energy price.81

     Id at 79.
     Id at 59.
     Id at 58.

                 The off-take agreement may contain incentive payments and performance
                 penalties to reward or penalize performance above or below a specified standard
                 of performance.82 In a power purchase agreement the energy price usually
                 provides a built-in incentive for the project to operate efficiently. Bonuses are
                 often structured based upon additional availability of the project facility and
                 delivery of additional power beyond that originally contracted for. Such bonus
                 payments are generally payable only if the off-taker requests delivery of the
                 additional power. Penalties may be assessed by way of a reduction in capacity
                 payments when the plant does not achieve specified availability standards. In
                 particular, penalties are assessed against the project company if it fails to meet
                 completion and start-up milestones (often these penalties can be mitigated by
                 imposing an analogous penalty on the EPC contractor), or if the power plant fails
                 to meet its required capacity availability commitments due to unscheduled forced
                 outages or faulty operations. A power purchase agreement may also require the
                 power purchaser to accept power produced during start-up and testing, usually at
                 a lower price.
            e) Conditions Precedent: All off-take agreements contain a variety of conditions
               that are required to be satisfied prior to the obligations under the off-take
               agreement becoming effective. Typical conditions precedent often include:
                 (i) Achievement of construction milestones by specified dates, including
                     commencement of construction and initial operations;
                 (ii) Obtaining required permits and governmental approvals by specific dates;
                 (iii) Start-up testing that meets certain established performance criteria;
                 (iv) Achievement of financial close;
                 (v) Execution of input supply, transportation, and, to the extent necessary, spent
                     input disposal agreements;
                 (vi) Successful completion of interconnection testing; and
                 (vii)Construction of the project facility in accordance with the designs and
                      specifications required to meet the performance criteria of the off-take
                 Frequently, project companies are required to pay a penalty to the off-taker in the
                 event of a failure to satisfy certain of the conditions set forth above by a certain
                 date. When reviewing off-take agreements, lenders must be satisfied that each of
                 the conditions precedent can be satisfied as and when required. To this extent,
                 events of force majeure should extend the required completion dates and where
                 there exists a "drop-dead" deadline (i.e., a date which can not be extended
                 (except by mutual agreement of the parties) despite the existence of an event of
                 force majeure), the lenders must be adequately certain that such date is sufficient
                 to cover all reasonably foreseeable contingencies.
            f) Exchange Rate Fluctuations and Currency Convertibility: The off-take
               agreement should protect the project company and lenders to the project against
               exchange rate fluctuations to the extent that the debt is required to be repaid in a
               currency other than the currency of the country in which the project is located.
               The off-take agreement should also contain a provision addressing the risk that
               the currency in which payments are made to the project company cannot be
               converted to the currency in which the debt must be repaid or project expenses

     Id at.80.

                    must be paid.83 It is not uncommon for the off-taker to assume these risks,
                    particularly if the off-taker has revenues in the desired currency sufficient to cover
                    its obligations under the off-take agreement.
            g) Force Majeure: The project company should be excused from its obligation to
               deliver the project‟s output under the off-take agreement as a result of events of
               force majeure. The period during which the project is excused should also include
               any additional time required to re-mobilize staff and resources to restart the
               project after the event of force majeure has passed. 84
                    Ideally, purchase payments should continue during some or all of the force
                    majeure events, at least to the extent that those risks cannot be insured. In
                    addition to the contractual allocation of force majeure risk, the project company
                    and its lenders can look to various types of insurance for protection.85
            h) Security and Creditworthiness: To secure the obligations of the off-taker, the
               off-take agreement may require some sort of "credit enhancement" if the off-taker
               does not have a strong balance sheet (or, in some cases, where the off-taker
               lacks access to the currency in which purchase payments are to be made). Credit
               enhancements may include a letter of credit that can be drawn on in the event the
               off-taker defaults on payments under the off-take agreement, a guarantee by the
               off-taker‟s corporate parent (assuming that the parent is a creditworthy entity), or
               a pledge of revenues of the off-taker (particularly those denominated in a strong
               foreign currency).86 In addition, because the project company is usually a special
               purpose company with limited assets, some off-takers will require that the project
               company provide some form of security to backstop its obligations under the off-
               take agreement. Consequently, off-takers have also required some form of credit
               enhancement from the project company, such a corporate parent guarantee or
               letter of credit in favor of the off-taker.87
            i)      Events of Default: Because it is critical to ensure a steady revenue stream for
                    the project company, the company will want to negotiate carefully defined events
                    of default based on a failure of the project to deliver the committed amount of
                    output (or service) or to make it available when it is required by the off-taker.88 In
                    addition, the project company should be afforded an opportunity to correct any
                    breach or default before the off-taker is able to exercise remedies. For defaults
                    that are not inherently curable, such as a failure by the project to deliver the
                    committed amount of output, a "cure" may be fashioned (for example, a
                    requirement in a power purchase agreement that the project company reimburse
                    the purchaser's additional costs in securing alternate electricity or, in the case of
                    prolonged or persistent failures, a right of the power purchaser to require that the
                    operator be replaced).89 Additionally, off-takers have sometimes requested that
                    they be provided a "step-in" right upon the occurrence of a default (generally
                    limited to performance defaults) which allows the off-taker to operate the facility.
                    Such a remedy cedes a great deal of control to the off-taker in a troubled project
                    scenario; consequently, lenders will resist such provisions vigorously.

     Id at 81.
     Id at p. 59.
     Id at p.81.
     Id at p. 60.
     Id at p.81.
     Id at p.59.
     Id at p.82.

            j)   Entry into Service: For new facilities or greenfield projects, the off-take
                 agreement may also contain provisions relating to the commencement of
                 operation of the project. Such provisions typically include deadlines for financial
                 closing and completion of construction. A failure to meet these deadlines may
                 result in liquidated damages payments by the project company or termination of
                 the contract if the delays are excessive.90
            k) Buyout upon Off-take Agreement Termination: In a power project if the energy
               produced by the plant is critical to the operations of the power purchaser and if
               some or all of the equity in the project is held by parties other than the power
               purchaser or its affiliates, the parties may negotiate a provision in the power
               purchase agreement whereby the power purchaser has the option or obligation to
               purchase the equity-holders' interests in the plant at the end of the term of the
               power purchase agreement.91
            l)   Billing and Payment: The payment schedule in the off-take agreement should
                 be fashioned to accommodate the company‟s payment obligations under its
                 supply and operating agreements and loan or credit agreements. The failure to
                 coordinate the revenue stream under the off-take agreement with the company‟s
                 costs could cause severe and chronic cash-flow problems. The off-take
                 agreement should contain procedures for resolving billing disputes, and interest
                 should be assessed on late payments at a rate sufficient to ensure that the
                 project does not become a low-cost lender to the off-taker. 92
            m) Liability and Indemnification: The project company should not be liable for
               consequential or special damages suffered by the off-taker in the event of a
               default by the company.93 In addition, the off-taker should indemnify the project
               from damages attributable to its actions, whether negligent or not.
            n) Changes in Law: It is not uncommon for an off-take agreement to provide to the
               project company a right to terminate the agreement and, once construction has
               commenced, force the off-taker to compensate the project company, in the event
               of a change in law that, for example, subjects the project to undesired regulation
               or limits the company‟s ability to repatriate earnings or to acquire sufficient
               foreign currency to meet the company‟s obligations.94 As for changes in law that
               alter the costs of operating the project, the off-take agreement provides that the
               off-taker bear those increased costs through increases in the purchase
            o) Assignment: The off-take agreement should provide a provision that allows for
               the project company to collaterally assign the off-take agreement to the lenders
               with the right to receive notice of, and to cure, any default. Assignment provisions
               are generally detailed more precisely, including the lenders' notice and cure rights
               in the case of an event of default, in a separate consent and assignment
               agreement among the lenders and the off-taker.
            p) Take-or-Pay: Take-or-pay provisions are standard features in off-take
               agreements. Under the take-or-pay obligation, an off-taker agrees to make pre-

     Id at 83.
     Id .
     Id at 84.

                determined payments even when there is no delivery of the project‟s output.
                These agreed payments are typically linked to a price escalation formula in order
                to protect the real value of revenues from increased costs of operating an ageing
                facility. Take-or-pay provisions operate as an indirect guarantee - guaranteeing
                adequate revenues for the project company's operating expenses, debt service,
                and return on equity.

       5. Operation and Maintenance Contract

           Under an operation and maintenance agreement, a qualified project site operator
           agrees to perform all operation, maintenance and repair services for the project, with
           experienced personnel, in accordance with prudent operating practices.95 The
           operator assumes most of the operational risk; however, the operator is unlikely to
           accept responsibility for output production reductions due to force majeure events,
           design defects in the project site or unavailability of supply.
           The obligations of the operator will depend upon the nature of the project and the
           project company's involvement in certain of the operating aspects (i.e., oversight of
           the supply agreement); however, generally the operator's duties96 include, but are not
           limited to:
           -    providing the necessary personnel and services for the operation, maintenance,
                and repair of the facility;
           -    monitoring compliance of other aspects of the project with other project contracts,
                government permits and licenses, and other duties required by "prudent industry
           -    acting on behalf of the project company in incurring expenses necessary to
                operate and maintain the project; and
           -    in some instances, procuring and maintaining supply contracts.
           The duties of the operator may also include administration of project agreements or
           liaison with other contracting parties (e.g., the supplier), preparation of an annual
           budget and administration of warranties under the construction contract.97
           Operation and maintenance agreements typically obligate the operator to meet
           specific performance levels and to bear certain limited risks of operational
           deficiencies. The operation and maintenance agreement contains pricing estimate
           features that allow the project company and lenders to properly budget for the costs
           that will be incurred to operate and maintain the facility.
           There are three types of pricing structures98 generally used in the agreement:
           a) Fixed Price: under this structure, the agreement sets forth an agreed upon fixed
              annual price for the operation of the facility. This type of structure is generally
              applied when the project company and operator have some form of corporate
              relationship (i.e., the operator and project company are affiliates of the same
              sponsor). The fixed fee allocates inflation risk to the operator and thus the price
              charged by the operator under this structure can be more costly than other

     See Sozzi supra note 2 at 483-485.
     See Fitzgerald supra note 17 at 60.

            b) Cost Plus: under this structure, the project company reimburses the operator for
               all reasonable costs and overhead incurred in connection with the operation of
               the project facility in addition to a fixed fee (the operator's profit). Under the costs
               plus structure, the project company (and the lenders) bear the risk of
               unanticipated spikes in operation and maintenance costs.
            c) Percent of Revenues (Bonus/Penalty): under this structure, the operator's
               compensation is tied to the facility's output and operating costs. Incentives are
               provided to encourage the operator to maximize output and to keep operation
               and maintenance costs low. Bonuses may be based upon numerous factors
               including ability to meet performance levels that meet or exceed those required
               under the off-take agreement and ability to meet the annual operating budget.
               Penalties are imposed for low output or other operational deficiencies. In the case
               of deficient operation, the operator will be required to pay the project company for
               failure to meet certain performance milestones or for forced outages caused by
               improper maintenance or poor operation.
            Other key provisions include:
            -   Limitation of liability of the operator: the level of liability varies from project to
                project and is often dependent on the potential profit to the operator under the
                Operation and Maintenance agreement. Nevertheless, because the operator's
                upside (profit margin) is so limited, it is common that the operator is only willing to
                incur extremely limited liability, typically not more than one or two years of its
                gross profit.99
            -   Termination: Because of operator‟s limited liability and the profound negative
                impact poor operations can have on project cash flows, the project company
                must be able to freely terminate and replace the operator. Lenders will routinely
                seek to be able to step-in to the project company's shoes and trigger this
                termination right.
            -   Force majeure: these provisions should be no broader than the force majeure
                relief available to the project company under the off-take agreement.100 In many
                projects, the force majeure events are more limited in the Operation and
                Maintenance agreement, allocating certain risks, such as labor difficulties, to the
            -   Insurance obligations of the operator: The operator is generally required to
                carry adequate insurance to cover its operation of the project (property damage
                and business interruption insurance can be carried by either the project company
                or operator).
            -   Assignment: The operator is usually prohibited from assigning its rights under
                the Operation and Maintenance agreement, but, as with to the Off-take and EPC
                Agreements, will be required to consent to the collateral assignment of the
                agreement to the lenders. The assignment conditions and cure rights are usually
                detailed in a separate consent and assignment agreement.

B. Financing Documents

     Id .
      Id at 60-61.

       The heart of international project financing is the structure of the credit agreement and
       the accompanied collateral security documents. The negotiation of the credit agreement
       needs to take into consideration many important issues, in particular the limitations on
       recourse to the sponsors, the future application of cash flows, protective clauses (market
       disruption, political risks, expropriation guarantees, and stabilization clauses), events of
       default, or assignment and transfer provisions. The credit and security agreements for
       international infrastructure project financings are not fundamentally different from the
       loan and security documents for other secured, cross-border financings, notwithstanding
       the typical need to accommodate multiple lenders with differing interests.
       A credit agreement for an international infrastructure project financing will provide
       familiar mechanics for the making, repaying and prepaying of loans.101 It will set forth
       interest-rate provisions, contain the usual lender protections against increased costs and
       illegality and include a standard battery of representations and warranties, covenants
       and events of default. The credit agreement will also provide familiar sections on
       submission to jurisdiction, waiver of immunity and payments in foreign currencies, as
       well as provisions to "gross-up" the lenders for foreign withholding tax. Similarly, security
       agreements in international infrastructure project financings will provide for first priority
       perfected liens, for rights to control and foreclose on the assets pledged, for collateral
       accounts and for the investment of the cash running through them.102
       But three factors fundamentally, if subtly, cause both the content and the function of
       international infrastructure project financing documents to differ from those of their more
       ordinary counterparts.103 The first factor is that lenders in a typical infrastructure project
       financing have agreed to give up or significantly limit their recourse to any assets other
       than the assets of the project in exchange for close contractual control over the elements
       of risk to the project's cash flow, which is the lenders' primary, if not only, source of
       repayment. The second factor is that, no matter how successful, because an
       infrastructure project is inherently local, the cash flow the project generates will usually be
       in the local currency, for which the lenders have no use. Third is the fundamental reality-
       common to all loan transactions, but more acute in the context of a project financing in a
       foreign country-that no matter how effective a credit agreement may be in controlling the
       conduct of a particular borrower, it is ultimately not very effective in controlling exogenous
       factors, such as construction and engineering complications, the local demand for newly-
       generated electricity, the actual traffic on a newly-financed toll road or a host country's
       changing politics.
       From a substantive standpoint these factors necessitate that the credit and security
       agreements in an international infrastructure financing attempt to regulate as closely as
       possible many aspects of the project.104 From a structural standpoint, therefore, the credit
       and security agreements will form the centerpiece around which an elaborate system of
       other arrangements (discussed in detail in Part IV) to address risk is built. Those

      See UNCITRAL consolidated legislative recommendations supra note 19 at 318.
   See generally Miguel Jauregui Rojas, “Financing Mexican Infrastructure Development: Incentivizing Finance
Project”, 12 US-Mexico Law Journal Spring 2004, pp. 11-17.
    See Philip R. Wood, COMPARATIVE LAW OF SECURITY AND GUARANTEES 1995; Gary S. Wigmore, “Credit
Documentation for Project Finance Transactions” in Practising Law Institute and Commercial Law & Practice
Course Handbook Series 1992; Derek Asiedu Akroft, “Negative Pledge Clauses in International Loan
Agreements”, 26 Law & Policy of International Business 1995 at 407; Raymer McQuistan, “Drafting an
Enforceable Guaranty in an International Financing Transaction: A Lender's Perspective”, 10 International Tax &
Business Law 1993 at 138;E.W. Warner Jr., W. Megevick and E. Altman, “Credit Agreements and Collateral
Arrangements in International Infrastructure Projects”, 803 Practicing Law Institute/Commercial Law and Practice
Course Handbook Series: Project Financing 2000 Building Infrastructure Projects in Developing Markets March
2000 at 361-362.
      See Megevick supra note 26 at 75-105

       arrangements include sponsor completion guarantees and cost-overrun agreements to
       protect against engineering and construction risks, exclusive government concessions or
       special off-take or "throughput" agreements to guarantee project usage and price
       minimums, off-shore collateral accounts to capture any hard currency cash flows, political
       risk insurance to protect against expropriation, political violence and currency
       inconvertibility and intercreditor agreements with multilateral or bilateral lending agencies,
       like the International Finance Corporation (IFC) or U.S. Eximbank. As a result, the total
       volume of documentation for an international infrastructure project financing usually
       dwarfs that required for an ordinary secured loan.
       A term sheet is the typical starting point for setting forth the principal financing terms for
       an international infrastructure project.105 Because the structural issues can be complex
       and interrelated, it is generally advisable to take greater care than is customary in drafting
       and negotiating the term sheet, treating as many matters as possible in a detailed
       enough way to clarify misunderstandings early in the process and avoid wasting valuable
       time at later stages. However, this must be balanced against the need to avoid
       negotiating the specific wording of each contractual provision that will appear in the credit
       documentation, which is likely to mire the term sheet discussions in endless negotiations
       among the legal counsels to the principal parties. At the same time, no matter how
       detailed and comprehensive the term sheet, as a practical matter it is frequently the case
       that later developments necessitate negotiations during the documentation phase on
       issues that were unforeseen at the outset. In light of the foregoing, it is not the best use of
       all parties' time to attempt to make the term sheet a perfect document; in fact, the term
       sheet has served its main purpose once it is at a stage where it would be considered to
       be about 90% complete by the main parties. At that stage, it is efficient for the parties to
       direct their efforts towards negotiating and finalizing the actual loan, security and ancillary
       documentation that will be required by the lenders with respect to the financing.
       The conventional approach to multi-lender international infrastructure financings is for all
       of the lenders to execute a "master" or "omnibus" agreement with the project
       company and sponsors, which is often referred to as the "Common Terms Agreement"
       or "Common Terms and Security Agreement". Under this approach, the loans of each
       lender to the project are subject to identical conditions precedent to disbursement,
       representations and warranties, information reporting requirements, covenants,
       prepayments, insurance repair and rebuild provisions, dividend restrictions, project
       completion conditions, events of default and other documentary requirements. Often, the
       Common Terms and Security Agreement also contains annexes setting forth the forms of
       legal opinions and third-party consents to assignment that the lenders require as a
       condition to the first disbursement of the project loans.
       In addition to the Common Terms and Security Agreement, the financing documents for
       an international infrastructure project will usually also include separate loan agreements
       for each separate tranche of project loans, such as commercial bank loan facility
       agreements and export credit agency loan agreements.106 These separate loan
       agreements will often incorporate by reference the main substantive provisions of the
       Common Terms and Security Agreement while also setting forth specific requirements or
       procedures that are unique to the specific lender or lenders involved. As some examples:
       commercial bank loan facility agreements contain certain LIBOR funding and yield
       protections that would not be applicable to fixed rate loans being made by Japan Bank for
       International Cooperation (formerly the Export-Import Bank of Japan); governmental
       lenders may require borrowers to deliver specific forms of annual environmental reports
       that would not be relevant to the commercial banks; and export credit agency loan

      Id at 77.
      Id at 78.

       agreements often require the submission of special documentation that is not applicable
       to other lenders, such as copies of paid invoices demonstrating a required level of
       reimbursable expenditures made in the relevant country, as a condition precedent to
       drawing funds.
       Because they are puzzle-like in their complexity, drafting and negotiating an effective set
       of credit and security agreements for an international infrastructure financing requires an
       almost heroic measure of patience and attention to detail on the part of everyone
       involved. In addition, because such financings often take years to structure and close,
       participants must have long memories and flexible characters: real world events and
       changes in law produce changes in documentation which are in turn made obsolete by
       subsequent changes. Best of all, from a creative lawyer's point of view, each
       infrastructure project is - almost by definition - different from all others, and therefore
       requires a considerable measure of originality.

       1. Credit Agreement

            Whether set forth specifically in one or more credit facilities or incorporated by
            reference to a common set of terms or uniform provisions (Common Terms
            Agreement), the credit documentation in an international infrastructure project
            financing will need to provide for loan commitments and advances, interest and other
            charges, prepayment of the loan, conditions precedent, representations and
            warranties, covenants (affirmative and negative), events of default, governing law and
            limitation on recourse.
            a) Basic Goal: In an international infrastructure financing the project company
               contracts with a lender or group of lenders to provide short-term construction
               loans which will convert into longer term loans if construction is completed and all
               elements of the project have been put in place.
            b) Parties: The credit agreement is entered into by the project company and one
               lender or, very often, a group of lenders (multi-lender project financing).107 A
               lender‟s group, particularly a mixed group of commercial lenders and international
               financial institutions, is likely to appoint an agent to organize the activities of the
               lenders under the credit agreement.
            c) Loan Commitments: Each lender will commit to make construction loans up to a
               specified amount to finance the construction of the project. Each lender agrees
               that it will convert its short-term construction loans into long-term loans upon
               completion of construction of the project and satisfaction of other conditions
               specified in the credit agreement (described below).108 In some transactions,
               equity will be contributed by the project sponsors just prior to conversion of the
               construction loans to term loans to repay a portion of construction loans. (more
               frequently, equity contributions are made throughout the construction period,
               reducing the amount of funds borrowed.)
            d) Loan Advances: Before any loans are advanced, the project company and the
               lenders will agree upon a construction budget and schedule, detailing the costs of
               the construction. Loan advances are made periodically (usually monthly or
               quarterly) during the construction period as funds are needed to pay costs of
               construction.109 A loan disbursement schedule will be agreed in advance and will

      See Fitzgerald supra note 17 at p.85.
      Id at 85-86.

                  be based generally on the payment schedule under the construction contract for
                  the project and other anticipated costs. An independent engineering consultant
                  may be asked to verify for the lenders prior to each disbursement of funds that
                  project costs to be paid with the funds have been incurred properly.
            e) Interest and other charges: Interest on loans may accrue at a fixed or floating
               rate, and will most likely be capitalized during the construction period (that is,
               interest during construction will be paid out of proceeds of the construction loan).
               The credit agreement may obligate the project company to pay to the lenders
               agreed fees, which may include an up-front fee, construction loan commitment
               fees, prepayment fees and cancellation fees.110 The credit agreement will also
               require the project company to reimburse additional costs that may be incurred
               by the lenders in making the loans. For example, if the project company is
               required by law to deduct taxes from any payment made to the lenders, the built-
               in "increased cost" provision requires the company to increase the amount of the
               payment so that the lenders will be fully paid. Other examples of increased costs
               to lenders include costs incurred due to a change in law or increases in the
               lenders' reserve requirements or capital requirements.
            f) Prepayment of the Loan: The credit agreement may permit the project company
               to prepay the entire principal amount of the construction loans or term loans,
               usually after payment of a prepayment fee. The company may be required to
               make "mandatory prepayments" of outstanding loans with insurance proceeds
               received following damage to the project, or condemnation payments received by
               the company, or payments (often in the form of "liquidated damages") received
               from the construction contractor for failure to construct the project in accordance
               with performance guarantees set forth in the construction contract.111
            g) Conditions Precedent to Closing, Funding and Conversion: The lenders'
               obligations under the credit agreement will be subject to satisfaction of conditions
               precedent. Prior to execution of the credit agreement, the project company will be
               required to demonstrate that all key aspects of the project have been put in place
               and all project agreements have been executed. Perhaps most importantly,
               lenders will typically require third parties with a material contractual relationship
               with the project company to consent to the security interest in the company's
               rights under the contract being granted to the lenders. Prior to each loan
               disbursement, the project company will be required to show that project
               construction is continuing on schedule and that no material adverse change in
               any aspect of the project has occurred. Prior to the conversion of the construction
               loans to term loans, the lenders will require assurances that construction of the
               project has been completed successfully and that the project has been
               demonstrated during performance tests to be capable of operating in the manner
                  Specific examples of conditions precedent112 to execution of the credit agreement
                  -   execution and delivery (and, if necessary, filing in the appropriate government
                      offices) of all required individual credit agreements, intercreditor
                      arrangements, security agreements, pledge agreements, mortgages,
                      promissory notes and other instruments. The project company being the
                      borrower will be required to deliver copies of any other related financing

      Id at 86.
      Id at 87.

                      agreements and to provide evidence of the availability of funds under those
                  -   execution and delivery of all agreements relating to the project in a form
                      satisfactory to the lenders. The copies of all the major documents relating to
                      the project - shareholders or joint venture agreements, sponsor support
                      arrangements, host government concessions, licenses or memoranda of
                      understanding, supply and off-take or throughput agreements, development
                      plans and budgets, construction contracts, operating and maintenance
                      agreements, governmental approvals, insurance contracts, leases,
                      easements and evidence of title - will also be furnished to the lenders and will
                      be subject to their review and approval.
                  -   absence of any breach under the credit agreement or any other financing
                      agreement or any project agreement
                  -   bring-down and accuracy of all representations and warranties of the project
                      company and of other significant project participants
                  -   lenders' receipt of (i) satisfactory evidence that the project has received (or
                      will receive when needed) all governmental approvals required to construct
                      and operate the project and (ii) satisfactory reports on all environmental
                      matters at the project site from the project company and the lenders'
                      consultants (i.e., independent engineer, environmental consultant, etc.). In
                      addition the lenders will require the delivery of engineering reports, feasibility
                      studies and other consultants' reports (addressing such matters as insurance,
                      marketing and resource availability, among others), often prepared by experts
                      hired by and responsible to the lenders, which satisfactorily demonstrate the
                      viability of the project and confirm that international engineering norms will be
                      followed in its construction and operation.
                  -   lenders' approval of the construction budget and construction schedule for the
                      project, as well as the project company‟s economic projections and proposed
                      budget during the operation of the project.
                  -   lenders' receipt of (i) legal opinions of counsel to the project company and
                      other third parties which are satisfactory in form and substance to the lenders,
                      (ii) all consents necessary to create a security interest for the lenders in each
                      of the project agreements, (iii) if available in the country in which the project is
                      located, title insurance for the real property on which the project is located,
                      (iv) copies of all insurance policies required to be maintained by the project
                      company pursuant to the terms of the credit agreement or project
                      agreements, and (v) copies of the company‟s and other significant parties'
                      charter documents, secretary's certificates and corporate resolutions, and
                      most recent audited financial statements.
                  On the date of each loan disbursement, the project company will be required to
                  provide for among other things113 :
                  -   the lenders' receipt, and the independent engineer's approval, of the
                      company‟s application for funds,
                  -   absence of any breach under the credit agreement or any project agreement
                      and accuracy of representations and warranties of all parties,
                  -   procurement of all required governmental approvals and permits and absence
                      of violations of the terms of these approvals and permits,

      Id at 88.

                  -   continued effectiveness of lenders' security interest in the project,
                  -   absence of adverse change in law, regulation or other government ruling or
                  -   absence of any legal action or proceeding which could have a material
                      adverse effect on the project.
            h) Covenants and Accounts: As noted just above, the credit agreement in an
               international infrastructure financing will contain the usual roster of covenants
               found in almost any debt financing. Unlike a standard credit agreement, however,
               which imposes relatively broad limits on the conduct of a borrower's business, a
               project credit agreement will seek to define precisely and regulate closely most
               aspects of a project's life. In addition to the familiar covenants to provide financial
               and other information on an ongoing basis, such as notices of default and
               communications from government authorities, the project company will be
               obligated to provide the lenders with detailed, and often certified, reports on the
               progress of the project and, once completed, on its operation and performance
               and to permit lender inspection. 114
                  Typically, the project company drafts and signs covenants to:
                  -   comply with and perform the credit agreement, all security agreements, all
                      project agreements and all government approvals and permits;
                  -   pay its taxes and comply with all other applicable laws;
                  -   maintain its corporate existence and keep its properties in good working order
                      and condition, and properly insured;
                  -   construct, maintain and operate the project in accordance with approved
                      standards of performance;
                  -   provide notices to the lenders of the occurrence of significant events affecting
                      the project;
                  -   keep proper books and records and submit annual and quarterly financial
                      reports to the lenders;
                  -   not create or incur indebtedness, or allow liens on its properties, except as
                      permitted by the credit agreement;
                  -   not merge into or consolidate with any person or sell, lease or convey all or
                      any substantial part of its assets;
                  -   not amend or modify any project agreement except as permitted under the
                      credit agreement.
                  Since the project company often object - with some justification - to the
                  impracticality of lenders vetting every change order submitted under the EPC
                  contract, covenants are often negotiated so as to limit lender consent rights to
                  amendments of "material" project documents or "material" amendments of any
                  project documents.115 The restriction on amendments to project documents is
                  usually less negotiable with respect to the critical project documents to which the
                  lenders are not a party, such as: government concessions and off-take
                  agreements, because these contracts usually provide a project with its material, if
                  not sole, source of revenues; and operating or joint venture agreements, because
                  these agreements typically delineate the project sponsors' obligations with

      Id at 89.
      See Warner supra note 102 at 367-368.

                respect to the project company being the borrower, in terms of equity
                contributions and operational expertise. On the other hand, the project company
                may be permitted unilaterally to consent to changes, within specified cost,
                schedule and scope of work limitations, in construction contracts as mentioned
                above. In some cases, where the company convinces a lender that a third party
                contract is easily replaced at a competitive cost in the open market, the project
                company may have sole discretion to amend or terminate a third party contract,
                so long as the subject matter thereof is adequately addressed by contractual
                arrangements acceptable to the lenders. Between these ends of the spectrum -
                complete lender control to total borrower discretion - the definition of "material" is,
                obviously, something to be hammered out in the conference room, agreement by
                agreement and, in some cases, section by section.

           i)   Representations and Warranties: The project company will be required to make
                representations and warranties concerning the project and to confirm before each
                loan disbursement that the representations and warranties continue to be
                true.116The representations and warranties of the project company help the
                lenders to confirm that their assumptions about the project (and on which their
                commitments to make loans are based) are correct.
                The project company typically represents and warrants to the lenders, among
                other things, that:
                -   its legal existence is intact and that it has the power and authority to enter into
                    the credit agreement and all project agreements;
                -   the credit agreement and all project agreements are valid and enforceable;
                -   there is no pending or threatened litigation which could adversely affect the
                -   it has good and proper title to its assets;
                -   it has paid all of its taxes and is in compliance with all laws and regulations;
                -   it is not in default under the credit agreement or any project agreement;
                -   the security interests granted to the lenders are valid and give the lenders a
                    first priority security interest;
                -   the construction budget, operating budget and the economic projections for
                    the project are correct and complete;
                -   the project site is free of hazardous materials and other environmental
           j)   Events of Default and Remedies:
                The credit agreement will contain events of default117, including, among others:
                -   failure of the project company to make any payment required under the credit
                -   material inaccuracy of any representation or warranty made by the project
                -   failure of the project company to observe its covenants under the credit

      See Fitzgerald supra note 17 at 90.
      Id at 90-91; see also Warner supra note 102 at 369.

                -    material default by a party to any significant project agreement;
                -    insolvency/ bankruptcy of the project company or other significant parties;
                -    material judgment, decree or order rendered against the project company or
                     other significant parties;
                -    failure of any security document to provide a valid security interest (lien
                     perfection and priority) in favor of the lenders;
                -    failure to obtain or maintain in effect any material governmental approval or
                -    expropriation or condemnation of the project.
                The occurrence of an event of default will entitle the lenders to exercise the usual
                panoply of lender remedies: commitment cancellation, loan acceleration and, of
                course, foreclosure of the collateral granted under the security documents. The
                lenders will have the right to terminate their commitments to make loans and to
                declare the loans to be immediately due and payable In a multi-source project
                financing, lender remedies may be subject to elaborate intercreditor provisions.
                Needless to say, claims under various project guarantees may also be triggered
                by the occurrence of payment defaults.
            k) Governing Law: It is usual to attempt to increase the predictability of the
               interpretation of the obligations of the parties to an international project financing
               by providing that the financing contracts will be governed by the law of a
               jurisdiction with well-developed commercial precedents, regardless of where the
               project is located or the nationality of the sponsors.118 Similarly, where there is a
               perceived risk of bias with respect to dispute resolution when a project participant
               is the host government or a government-controlled entity, the agreements may
               call for dispute resolution in a specified forum believed by the lenders to be

       2. Collateral Security Documents

            Basic Goal: To the extent possible under the laws of the country where the project is
            located, the project company will be required to grant to the lenders security interests
            in all of its assets.119 If the project company defaults under the credit agreement, the
            lenders will be able to enforce the security interests and take title to the project as a
            going, revenue-producing concern.
            Key Provisions of Security Agreement
            a) In particular, the project company will grant to the lenders a security interest in all
               of its assets120, whether currently owned or acquired in the future, including:
                -    each of the project agreements;
                -    the project company‟s bank accounts;
                -    all authorizations, consents, approvals, waivers, exemptions, permits or
                     licenses with respect to the project;
                -    all equipment, machinery, apparatus, installations, facilities and other property
                     of the project company;

      See Warner ibid at 368-369.
      See Fitzgerald supra note 17 at 64.
      Id at 91-92.

                  -   all accounts receivable, other contract rights, insurance proceeds, inventory,
                      money and other assets owned by the project company.
            b) The security interests granted to the lenders will secure the company‟s
               obligations to repay the loans and to perform its other obligations under the credit
            c) The project company will undertake to keep all of its assets free and clear of all
               liens or claims of all other parties.122
            d) The shareholders or partners of the project company may also be required to
               pledge their stock or partnership interests to the lenders, to secure the obligations
               of the project company to repay the loans. In the event of a default under the
               credit agreement, the lenders may take control of the stock or partnership
               interests and all voting rights, as an alternative means to seize control of the
            f) Taking and foreclosing on collateral: The security documentation in any project
               financing is designed, to the greatest extent possible, to keep the lenders'
               interests in the project's revenues safe from the company‟s other creditors and, in
               the event of a default, to enable the lenders either to complete and operate the
               project themselves (together with all the benefits and rights the project company
               would have enjoyed) or to sell it to someone else who will.124
            Thus, project lenders, with the assistance of both their lead counsel and their local
            counsel, will seek to create the strongest security position legally possible vis-à-vis all
            of a project's assets, tangible and intangible offshore accounts, hard and local
            currency revenue streams, permits, licenses and authorizations, construction
            contracts, each support agreement from which the deal benefits, and, of course,
            plant and equipment.125 Offshore collateral accounts into which hard currency project
            revenues are required to flow will, for the most part, protect the lenders' interests in
            those revenues from the company‟s other creditors. They will, in addition, provide the
            lenders with a substantial degree of control over how project revenues in excess of
            debt service requirements are used. As for security interests in physical facilities, any
            assumption that the lenders to a foreign infrastructure project will quickly be able to
            foreclose on, finish the facility and then operate or sell the project requires close

       3. Waterfall Provisions: Controlling the use of proceeds

            A final aspect of international infrastructure project financing, which is shared with
            project financings generally, is the extent to which the lenders are able to control a
            project's cash flow. As part of their plan to see a project operated at maximum
            efficiency so that their loans will be repaid, project lenders have a significant interest
            in monitoring the uses of project revenues. Their goal is to ensure that such revenues
            are spent prudently on operating expenses of which they approve, then used to
            establish reserves for debt service and maintenance expenses and to pay off debt

      See UNCITRAL consolidated legislative recommendations supra note 19 at 122-147.
      See Fitzgerald supra note 17 at 92.
      Id at 92.
      See Warner supra note 102 at 376-377.
      See UNCITRAL consolidated legislative recommendations supra note 19 at 318.
      See Warner supra note 102 at 377.

           and, finally, but only to the extent of any excess, returned to the project sponsors
           (including the home government) as profit.127
           Thus, the creation of collateral offshore accounts (or local currency accounts if no
           such offshore accounts exist) serve not only to secure the lenders in the traditional
           sense, but also provide a mechanism for controlling the use of project revenues. The
           credit agreement or the related security agreement will therefore typically contain
           provisions regulating the flow of funds into and out of various collateral accounts,
           beginning with a receipt or revenue account, on to an operating account, and
           successively, through a debt service account, a capital expenditure account, and
           other reserve accounts, with the project company‟s account at the end, typically used
           for payments of dividends (or interest on subordinated debt) to the project
           sponsors.128 This arrangement is often called a "waterfall" or "cascade" of accounts,
           for obvious reasons. "). A typical cash "waterfall" requires that project revenues be
           applied in the following priority order: O&M expenses, interest on senior debt,
           principal payments on senior debt, deposits to reserves (O&M reserve, debt service
           reserve, fuel reserve, etc.), interest on subordinated debt, principal payments on
           subordinated debt, payments to equity.129
           Since the project has no source of revenue to pay operating expenses other than
           project revenues, it is typical for a negotiated amount of project revenues to be paid
           out of the revenue accounts prior to the payment of debt service. Consequently,
           much time is spent in negotiations over both the amount and the categories of
           operating expenses that will be permitted to be released. Sponsors and the project
           company will often be required not only to furnish operating expenses and budgets to
           the lenders for advance approval, but also to provide certifications reconciling actual
           expenditures with such previously approved operating budgets. In addition, project
           financing credit agreements typically give the lenders substantial control, as well,
           over the release of excess funds from the collection accounts to the project company
           or to third parties. The borrower may be prohibited from withdrawing cash from its
           own account at the bottom of the "cascade" unless it can certify that no default under
           the project documents has occurred and is continuing.130

       4. Intercreditor Arrangements

           Intercreditor issues classically arise in multi-source project financing structures in
           which various lenders have differing interests, such as different collateral or different
           levels of seniority. In such cases, the parties will need to consider the relationships
           among the lenders, the sponsors and the project company in the event that a default
           occurs. Typically, the issues to be resolved in an intercreditor agreement entered
           among the senior and subordinated lenders. This agreement will establish the rights
           of different classes of lenders to share in collateral, call defaults, exercise remedies
           against the project company and other matters.131 The intercreditor agreement may
           also address issues among senior lenders, such as voting requirements of lenders
           under a loan agreement or proportional funding of loans, and among fixed and
           floating rate lenders.

      See Fitzgerald supra note 17 at 64-65.
      See Warner supra note 102 at 378-379.
      See Fitzgerald supra note 17 at 101-102.
      See Warner supra note 102 at 379.
      See Fitzgerald supra note 17 at 64.

           A type of potential intercreditor issue involves the rights of insurance providers as
           subrogees or assignees of insured party claims.132 One condition to the receipt of
           compensation under political risk insurance contracts, for example, will be the
           assignment to the insurance provider of all claims arising out of the insured event,
           free of liens. This condition, straight-forward though it may seem, may present a
           number of practical concerns. First, a project company and literally the project
           sponsors may be required to assign these same claims to the lenders by operation of
           a political risk exclusion clause which excuses a sponsor from its obligations under a
           completion or other type of guarantee. Second, these claims may also be subject to
           liens created by the financing documents. Finally, the sponsor and the project
           company are entitled to the "excess salvage value" of the assigned claim, i.e. any
           compensation paid in excess of the amount paid under the insurance policy.
           In circumstances where such claims are of little value (which is likely to the case with
           respect to assets destroyed as a consequence of political violence), this overlap of
           interests should not cause much concern. Where the claims may be of some value
           (most notably in the case of expropriation, where international legal principles require
           that compensation be paid) some accommodation among the parties will need to be
           reached with respect to the sharing of any compensation received and with respect
           to cooperation among the interested parties in making decisions about enforcing (or
           compromising) such claims.

C. The Transactional Unity of Project Finance Contracts and Documents

       1. Issues Relevant to all Project Contracts and Documents

           As mentioned in section A of this Part, setting up a project financing structure
           involves negotiating a web of multiple contracts and documents. Each agreement is
           concluded between different parties and has a different purpose. Therefore, they
           each have a separate economic and legal philosophy. At a more global level, that of
           the project financing structure as a whole, however, each transaction contributes to
           the general purpose of the project: the economic viability of the project company and
           its capacity to make profits and to repay its loans. The global nature of international
           project financing is essential in understanding the originality of the mechanism. There
           are no general negotiations to enter into a single contract, but a series of contracts,
           which, once entered into, will define the global structure of the project. Therefore, it
           appears imperative that the participants recognize the concept of unity with respect
           to the resolution of their disputes and reflect this unity in their transactions. Any
           failure to do so would dissolve the transactional unity of the structure and jeopardize
           the project's viability.
           In practice, infrastructure project finance participants need to thoroughly examine the
           connections and interactions between the agreements involved in the global
           structure. For instance, they should assess the implications, in terms of
           implementation and dispute resolution, of the difference between, on the one hand, a
           set of disparate contracts and, on the other hand, a hierarchical contractual structure
           between a framework or master agreement and subsidiary agreements. In addition,
           international project finance participants need to assess, among all types of risks, the
           legal risk associated with an erroneous determination of the competent court that will
           resolve future disputes. Given the transactional unity of project financing, the non-
           application or the defective application of a given contract may have an economic, as
           well as a legal, impact on other contracts or mechanisms and, eventually, on the
           project as a whole.

      See Warner supra note 102 at 375-276.

           For example, in a project regarding the construction, maintenance, and operation of a
           petroleum facilities in country A, the scheduling clauses in the construction contract
           are fundamental to the implementation of a petroleum sales agreement entered into
           between the project company (in country A) and the purchasing corporation (in
           country B). Obviously, project financing allows for contractual mechanisms aimed at
           ensuring the timely completion of the construction phase, such as completion
           guarantee provisions or documents, liquidated damages provisions in the
           construction contract, or a fixed-price turnkey contract. The mere existence of these
           mechanisms, however, does not preclude the occurrence of disputes regarding their
           enforcement. A dispute regarding the failure to comply with the completion date on
           the part of the construction contractor may have a consequence on the
           implementation of the sales agreement and the applicability of the dispute resolution
           clause in that agreement. In this example, the effective resolution of the overall
           dispute depends on two elements to be considered by the parties:
            (1) choosing the appropriate court to resolve the dispute between the project
                company and the construction contractor and
            (2) anticipating the likely connections and the possible differences in approach by the
                competent courts regarding the dispute between the construction agreement (the
                competent courts being, for instance, the courts of Country A where the project
                company has its seat) and the dispute regarding the sales agreement (the
                competent courts being, for instance, the courts of Country B, where the
                purchasing corporation has its seat). 133

       2. Issues Relevant to all Project Lenders

           Typically, project agreements are negotiated long before the project company begins
           discussions with potential lenders. There is often a need to renegotiate provisions of
           a project agreement to satisfy requirements or concerns of the lenders.
           Renegotiation can be time-consuming and expensive if the parties are unwilling to
           cooperate with the project company to obtain financing for the project. As mentioned
           above, each agreement relating to a project should be assignable to the lenders in
           the event of a loan default. Project lenders typically require third parties with a
           material contractual relationship with the project company to explicitly consent to the
           creation of a security interest in the contract being pledged to the lenders. In
           jurisdictions that do not have a filing system, notice to a contractual counterparty is
           the legally effective means of perfecting the lenders' security interest.134 In addition to
           providing for an explicit acknowledgment that the counterparty has received notice of
           the pledge of the contract by the project company, the consent agreement to
           assignment also creates a direct contractual relationship between the lenders and
           the third-party that is counterparty to the contract. Lenders often request third parties
           to agree to a variety of undertakings in addition to acknowledging the lenders'
           security interest, such as: an agreement not to terminate the contract as a
           consequence of the project‟s company default thereunder without giving the lenders
           notice of the default and an opportunity to cure the same; an agreement not to
           amend any material provision of the pledged contract without the lenders' prior
           written consent; and, if necessary, clarifications of ambiguous or problematic terms of
           the underlying contract.

      See Megevick supra note 26 at 86-88.
      See Fitzgerald supra note 17 at 61.

            All lenders, as a group, are particularly concerned with the project's economic
            viability and the commercial deal incorporated in the project documents. In project
            finance, as opposed to traditional corporate/bank finance, there is a lack of, or limited
            recourse to, personal/corporate guarantees, which makes lenders rely heavily on the
            project's cash flow and assets. Since the physical assets of infrastructure projects
            are not - in most cases - of independent significant value and their potential markets
            are limited, lenders to projects of this sort are exposed to very high risk. Not only
            does the guarantee of a constant cash flow become a crucial issue, but the
            continuous operation of the project also becomes an essential contractual goal.
            Thus, the lenders‟ two main objectives are a constant cash flow and a continuous
            operation of the project. To realize these goals, the lenders must use contractual
            documents to guard against any potential threats.
            Because the value of the hard assets is usually less than the project debt, debt
            repayment depends on performance under project contracts. Properly structured
            project contracts are therefore essential for any project financing. A long-term
            contract with a creditworthy party that agrees to purchase the project‟s output is
            usually the linchpin of this contract structure. Given the significance of the off-take
            contract, the supply contracts must match the off-take contract so that expenses are
            linked to revenues. Costs to be incurred by the project company under the
            agreements (for example, increases in input costs under the supply contract) should
            match cost "pass-through" provisions of the off-take agreement.135 Force majeure
            provisions in all agreements should be compatible. If the off-take agreement does not
            contain adequate force majeure provisions, the lenders may require a large debt
            service reserve to cover periods when the revenue stream is interrupted.
            It is difficult to provide with a comprehensive list of inter-relations among the project
            agreements, since they are numerous and can become more complex depending
            upon the identity and relationships of contracting parties. For example, if the operator
            is an affiliate of a project sponsor, the lenders will look very carefully at limiting
            compensation to the operator. Operation and maintenance costs typically are paid
            before debt service, and the lenders will not want to permit a payment to equity to
            take priority.
            It is very important that the project agreements work together as a whole. If there are
            gaps in the network of contracts, the lenders may require remedies that will reduce
            the returns of the project sponsors. For example: if operation and maintenance costs
            are unpredictable or are not assumed by the operator or "passed through" under the
            off-take agreement, the lenders may require a large operation and maintenance
            reserve (that is, a bank account into which revenues generated by the project are
            deposited) to ensure that funds will be available when needed in the future.136
            The careful balancing of contractual obligations is a difficult but important foundation
            of a project financing. The success with which the project sponsors achieve this
            balance may dictate the availability of project financing or the amount of equity or
            other sponsor support the project will require. The tensions and conflicts of interest
            between the project‟s participants reflect themselves in the contractual documents of
            project finance. It is only natural that each of the contracting parties looks to protect
            its own interest.

      Id at 61.
      Id at 61.


The limited recourse nature of project loans and the importance of project cash flow to debt
repayment shape the structure of project finance. Much of the rest of a project financing has
a certain predictable, if complicated, logic that flows from these key concepts. The
advantages of project finance are in its rigor and flexibility, which allow sponsors and lenders
to finance large, complicated, multiparty, multinational projects with high levels of debt from
international sources. The successful structuring of project financing in any market,
particularly an emerging market, requires that project sponsors, lenders, and their financial
advisors adequately identify and address the major risk components of such financings. This
involves attention to a wide range of issues related to the host country's legal, political,
regulatory, and financial environment. It also involves leveraging the lessons learned from
troubled projects - and how they were restructured such that they were salvaged.

A. Overview of Risks

       Risk analysis, as well as the allocation and management of those risks, represent the
       core of any project finance transaction. Project financing depends on a proper allocation
       of each risk to the project participant who is best able to manage and mitigate the risk.
       This simple rule can be difficult to implement. Where the risk is not "properly" allocated,
       obtaining project financing for the project is likely to be more complicated and more
       expensive for the project sponsors. Because of the variety and gravity of the risks and
       the disparity between the ability of the different project participants to control the risks,
       proper risk allocation can be used as a significant tool for enhancing the financial viability
       of the project by shifting each risk to the party with the lower marginal cost of bearing or
       mitigating the risk.137
       Each project is faced with a unique combination of risks. The degree of uncertainty with
       respect to each common risk also varies from project to project. The natures of the risks
       facing a particular project depend on different factors such as the technology involved in
       the project, the availability of supplies for the project, the political stability of the country
       in which the project is located, the nature and affiliations of the project participants and
       many others. In general, the risks fall into four basic categories: country, commercial,
       non-commercial or policy, and force majeure.
       While the wider use of project financing techniques for infrastructure development is
       most marked in the OECD countries, despite the intense interest expressed by various
       project sponsors it has yet to develop to the same extent in developing countries. A key
       reason for this gap between expressions of interest and financially closed projects is
       difficulty in securing debt financing and the scarcity of these funds. Scarcity of funds is
       largely due to perceptions of country risk. Lenders fear that the host government will take
       arbitrary action jeopardizing the repayment of the loans to the project. These issues go
       not to the project contracts themselves, which tend to be similar in form in both
       developed and developing countries, but rather to the environment in which these
       contracts are to operate. This environment is composed of such factors as the
       predictability of government decisions, the enforceability of contracts, the regulatory
       framework, and its transparency (especially with regard to the process for setting tariffs
       and their review, currency convertibility, and money transfers).
       Until recently, the private investor approach to mitigating country risks was to require
       certain guarantees or indemnities of the host government through guarantee

      See UNICTRAL consolidated legislative recommendations supra note 19 at 310.

       instruments. However, if the host government is unwilling to ensure that itself or the
       state-owned utility will adhere to its obligations in the underlying project contracts, one
       cannot be certain that the government will respond to claims on such guarantees. The
       evolving approach to dealing with these risks first involves its mitigation, primarily
       through economic reform. Clearly, this has to be government-led.138 This reform process
       also involves reform of the legal and regulatory framework at a much wider level than the
       scope of the particular project. In this area, the various multilateral and bilateral
       development finance agencies have played a significant role. Legal technical assistance
       that facilitates new entry and private sector development is only one part of this process.
       The strengthening of institutions that will act in a transparent and more predictable
       manner goes hand in hand with the reform of the legal and regulatory environment.139
       For example, the judiciary is important in the enforcement of contracts, and regulatory
       institutions that will administer the regulatory scheme in a consistent manner should be
       developed. Far-reaching reforms of both the legal and institutional framework are
       required to make these financing techniques and private sector provisions sustainable
       over a significant period of time.
       Commercial risks140 consist of a) project specific risks connected with developing and
       constructing the project, operating and maintaining the assets, and finding a market for
       the project‟s output, and b) broader economic environment risks related to inflation,
       currency risk141, international price movements of raw materials, and other inputs, all of
       which have a direct impact on the project but are beyond the control of project
       sponsors.142 Although commercial risks are common to all types of project financing,
       private infrastructure projects in developing countries are more susceptible to extensive
       non-commercial or policy risks, such as unstable political regime, adverse changes in the
       law, expropriation, and possible civil unrest. The differences in local business
       environments between industrialized and developing countries cause the most concern
       and uncertainty for lenders and project sponsors alike. The assumptions underlying a
       project's economics usually include continued political stability and economic growth in
       the host country.143 At best, such projections can take into account only a limited degree
       of uncertainty. However, in developing countries, political and legal institutions as well as
       legal processes and remedies are often incomplete and inchoate. Rapid economic
       growth creates wealth, but it also has the potential to generate social displacement and
       disenfranchisement that can topple a seemingly stable regime. The most fundamental
       risk is instability of the political system. The best approach for sponsors is to examine the
       local situation closely before investing in a project and to avoid investing in countries with
       unstable regimes or economic systems.144 In particular non-commercial or policy risks
       can be divided into a) project-specific policy risks arising from expropriation, changes in
       the regulatory and legal regime, and the failure of the host government to meet its
       contractual obligations, and b) political risks resulting from events such as war or civil

  See Tamara Lothan and Katharina Pistor, “Local Institutions, Foreign Investment and Alternative Strategies of
Development: Some Views From Practice”, 42 Columbia Journal of Transnational Law 2003, pp. 114-118.
      See Harder supra note 4 at 39.
      See Manuel supra note 10 at 42; see also Beardsworh supra note 7 at 36.
      See Smith supra note 7 at 222.
   See International Finance Corporation, Lessons of Experience No. 7, Project Finance in Developing Countries
(1999) at 39.
   See Smith supra note 7 at 195; see also Michael P. Todaro, ECONOMIC DEVELOPMENT IN THE THIRD W ORLD (4th
ed. 1989), p. 420.
      See Beardsworth supra note 7 at 43
      Id at 39.

       The commercial and non-commercial risks of a project in a developing country must be
       carefully allocated among the participants: project company, project sponsors, the host
       country government, multilateral and bilateral agencies, project lenders and other project
       financing participants (purchaser or users, construction contractor, operation contractor,
       supplier, etc.). In accordance with the fundamental theory of allocation of risk to the
       parties best able to manage it, the commercial risks associated with the completion and
       operation of the project are usually shifted to the private sector participants and
       insurance companies.146
       On the other hand, the non-commercial risks are typically allocated to the host country
       government, its agencies, and to multilateral and bilateral agencies providing political risk
       insurance. According to some experts, project sponsors should, as a general rule,
       minimize exposure to political risk by minimizing the assets present in the project's host
       country. In addition, opening the project to local participation further reduces political risk
       by tying the financial interests of the local population to the success of the project.
       Finally, borrowing and purchasing political risk insurance from international multilateral
       and national governmental agencies can discourage undue political interference by the
       host government, thereby reducing political risk.147
       Force majeure is any event or circumstance that materially and adversely affects a
       party's ability to perform its obligations to the extent that the same is beyond the
       reasonable control of, and not caused by the fault or negligence of, the affected party or
       its subcontractors, and could not have been avoided by the exercise of such party's best
       efforts. The definition of force majeure risks typically includes acts of God, including
       weather-related occurrences and events such as earth-quakes, and should include labor
       unrest or strikes, political events, epidemics or plagues, sabotage, terrorism, explosions,
       acts of war, mechanical break-downs of plant equipment (this is a contentious issue and
       probably should be limited to unavoidable failures of major components), inability to
       transport fuel, and other events beyond the reasonable control of the project company.
       “Acts of God” are dealt with provisions that excuse performance (other than payment of
       amounts earned under the contract) by a party, when that party's performance is
       rendered "impossible" by the force majeure event. Numerous forms and variants of
       casualty and political risk insurance policies are available to provide coverage against
       certain potential force majeure risks.148

B. How to Manage Risks Ex Ante

       Because of the non-recourse or limited-recourse nature of project finance, the complex
       financial and legal structures, and the project lenders' reliance on the underlying cash
       flow from the revenue-producing contracts over a long payment period, project financing
       requires a complex scheme of risk identification, evaluation and allocation through
       various contractual and guarantee or support arrangements.149

       1. Contractual Arrangements

           Surely one of the more significant contributions to be made by the various counsels
           to the project participants is the proper identification of risks to their respective clients

      See Smith supra note 7 at 218-221; see also Beardsworth supra note 7 at 35-37.
      See Beardsworth ibid at 35; Fitzgerald supra note 16 at 14; Smith ibid at 223.
  See Wm. Cary Wright, “Force Majeure Clauses and the Insurability of Force Majeure Risks”, 23 Construction
Lawyer Fall 2003, pp. 16-25.
   See generally Furnell, “Infrastructure Projects: Allocating Risks”, 7 Journal of Banking and Financial Law and
Practice 1996 , p. 29.

           and the proper documentation of the negotiated allocation of such risks.150 Risk is
           allocated to various contracting parties through the multitude of agreements that
           comprises a project finance deal151.

           a) Country Risk

               In addition to the aforementioned actions in the mitigation of country risk, new
               and innovative contractual mechanisms may be developed to reduce the
               exposure of the project to certain kinds of risk. For example, if the local off-taker
               that would normally purchase electricity generated by the independent power
               project is not particularly credit-worthy, the electricity may be sold to local
               industrial or commercial users. Wheeling arrangements may be concluded with
               the utility for the use of its transmission system to transport the power to those
               users. Also, if the local currency is not convertible, special arrangements may be
               made with the central bank to ensure availability of foreign exchange for spares,
               debt service, and dividends.

           b) Commercial Project-Specific Risks Inherent at Various Stages of Project

               i)   Development Phase

                    In the development phase, the prospective sponsor assesses the project‟s
                    scope, seeks any necessary regulatory and concession approvals from the
                    host government or municipal authorities and attempts to attract financing.
                    Risks may sometimes arise because of unclear and arbitrary host
                    government processes, which cause long delays, and may even lead
                    sponsors to abandon an otherwise sound project.
                    Moreover during the development stage the project sponsor may face the risk
                    of rejection of the project by either the host government or by its potential
                    lenders.152 Commonly cited grounds are that the project is commercially weak
                    or not viable. Host governments may also reject the project if the terms
                    excessively favor the foreign party, or if it decides the project will not achieve
                    desired social or economic goals. Lenders may reject the project based on
                    the project sponsor's failure to obtain the aforementioned necessary
                    approvals, licenses, permissions, or due to other risks inherent in the local
                    political or economic system. The risk of rejection and failure at this stage is
                    high and borne solely by the project sponsor. But up-front costs may not be
                    that high, depending on how far along the development process has gone.

               ii) Construction Phase

                    The risk that construction will not be completed on schedule (delay in
                    completion), within budget (cost overruns), and according to specifications
                    (failure to achieve target performance) is great; and the costs associated with
                    that risk are high153. Normally, a project has already obtained financing by the
                    construction stage, so the risk of failure to complete construction is shared

  See Hoffman, “A Practical Guide to Transactional Project Finance: Basic Concept, Risk Identification and
Contractual Considerations”, 45 The Business Lawyer 1989, p 181.
      See Manuel supra note 10 at 42; see also IFC Lessons of Experience supra note 141 at 39.
      See Blumental supra note 21 at 287.
      See Manuel supra note 10 at 43-46.

                    both by the project sponsors and by the lenders. An incomplete project is
                    unlikely to be able to generate cash flows to support the repayment of
                    obligations to lenders. Long delays in construction may erode the project‟s
                    financial viability. A project may fail to reach completion for a number of
                    reasons, ranging from technical design flaws to difficulties with sponsor
                    management, financial problems, or changes in government regulation.
                    The construction phase is the most critical risk stage for the project lenders
                    because in non-recourse financing, they have recourse only to the project
                    assets.154 As such, the lenders take on proportionally greater risk, depending
                    on the debt to equity ratio. At this stage their security interests are of little
                    value. Hence, to mitigate their risk, lenders often ask for recourse at this
                    stage in the form of limited pre-completion guarantees or otherwise require
                    sponsors to cover construction contingencies through a contractual document
                    called “project funds agreement”. Project sponsors may also limit their
                    exposure through completion bonds and liquidated damages, provided for in
                    their construction contract (EPC agreement) with the general contractor.155 In
                    particular, they hedge construction risk by using fixed price, certain-date
                    turnkey contract, with built-in provisions for liquidated damages if the
                    contractor fails to perform, and bonuses for better than expected
                    performance. The project company may also take out business start-up and
                    other kinds of standard insurance, include the afore-mentioned construction
                    contingency in the total cost of the project, and build in some excess capacity
                    to allow for technical failures that may prevent the project from reaching the
                    required capacity. Because lenders cannot control the construction process,
                    the completion risk is usually the responsibility of the project company, its
                    sponsors, contractors, suppliers and insurers.156 Typically, lenders are
                    interested in both the physical and financial aspects of project completion.

               iii) Operation and Maintenance Phase

                    At this stage, risk remains but is less than that present at earlier stages of the
                    project. During this time, significant changes that undermine the project‟s
                    viability may take place, such as the availability and cost of project inputs or
                    supplies, the technical performance and management of the project, and the
                    market demand for the project‟s output.
                    In order to avert the risk of input scarce or limited availability 157, supply
                    contracts entered between the project company and the supplier shall be
                    specified in terms of quantity, quality and pricing and their terms shall be
                    construed so that they match the equivalent terms of off-take commitment.

    About construction risks see generally Bruner, “Allocation of Risks in International Construction”, 3
International Construction Law Review 1986, pp.250-260; see also Richter, INTERNATIONAL CONSTRUCTION CLAIMS:
AVOIDING & RESOLVING DISPUTES (McGraw Hill, 1983); D'Ambrosio, et al., “Dealing With International Contracting
Risks”, Construction Briefings No. 86-5 (Fed. Pub. Apr. 1986); Ford et al. “International Construction
Contracting”, Construction Briefings No. 79-2 (Fed. Pub. Mar. 1979); Nicklisch, “The BOT Model-The
Constructor's Role as Builder: The Contract Structure, Risk Allocation and Risk Management”, 12 International
Construction Law Review 1995, p. 425; Megens, “Construction Risk And Project Finance :Risk Allocation As
Viewed By Contractors And Financiers”, 14 International Construction Law Review 1997 at 7; John Scriven,
“Banking Perspective on Construction Risks in BOT Schemes”, 11 International Construction Law Review 1994
at 313.
      See Blumental supra note 21 at 287.
      See IFC Lessons of Experience supra note 141 at 42.
      See Manuel supra note 10 at 49-50.

                    The project company will also ask its equipment suppliers for performance
                    guarantee on the quantity and quality of technical components.
                    If a project is in a sector that is completely new to country, there may be no
                    qualified personnel to run it. In such cases, it may be necessary to obtain
                    sustained technical assistance from a specialist company. Thus the project
                    company may enter into a management agreement with a foreign technical
                    partner, with penalty payments if performance is not up to standard. 158
                    Maintenance expenditures may account for a significant share of operating
                    cost, particularly for project using high technology equipment. Project
                    profitability may be undermined if the equipment fails to meet initial technical
                    specifications and performance or frequently breaks down. Technological
                    performance is normally guaranteed by the provider of the equipment, but the
                    expense of routine maintenance has traditionally been borne by the project
                    company. An important part of appraisal is to estimate the cost of
                    maintenance over the life of a project. Maintenance risk can then be mitigated
                    through a long-term service agreement with the manufacturer of the
                    equipment, who is in the best position to understand the technology and
                    associated risks.
                    Changes in the demand for project output have been the leading cause of
                    revenue and profitability problems in most infrastructure projects financed on
                    a project basis.159 The quality of the market analysis, and the accompanying
                    revenue and margin forecasts, greatly affects future profitability. Often the
                    appraisal is overoptimistic, perhaps because the strength of new trends is not
                    fully appreciated, and the project never achieves the sales and revenue
                    volumes projected. Market risk is difficult to hedge against specifically, unless
                    there is a single off-taker or a small group of off-takers for the project‟s output.
                    Signing an off-take agreement with the price and quantity clearly specified
                    with an off-taker who has a good credit standing is an excellent way of
                    hedging product price risk to ensure the project will generate revenues. 160
                    Projects having a single product, whose price may vary widely are particularly
                    vulnerable to changes in demand and need to hedge again product price risk.
                    An off-take agreement, for example, will likely provide price protection for the
                    project company in the form of price escalators, either keyed to inflation (or
                    consumer price benchmark) or set by a predetermined formula. 161
                    To cover payment risk stemming from a not creditworthy off-taker, project
                    sponsors may consider credit enhancement mechanisms such as the direct
                    assignment of part of the off-taker‟s revenue stream and the establishment of
                    an escrow account that will cover several month‟s debt service. The project
                    company‟s rights under the off-take or throughput agreement will be assigned
                    to the lenders and the sales proceeds, particularly if payable in hard currency,
                    will be paid into an offshore account which is also pledged to the lenders. In
                    some circumstances, often based on the comfort of a consultant's report,
                    lenders may agree to bear some degree of market risk. For example, the off-
                    take price or the throughput rate (or the price of critical supplies) will often be
                    defined against a market-related price or rate benchmark. Thus, the lenders
                    must rely on projections of prices and rates to determine whether project cash

      See Blumental supra note 21 at 288.
      See Hanley supra note 9 at 91-93.
      See Manuel supra note 10 at 52-53.
      See Zhang supra note 14 at 722-723; see also Blumental supra note 21 at 290.

                     flows will be sufficient to pay back their loans. An issue that often must be
                     analyzed in this context with respect to infrastructure projects is the market
                     effect of the removal of direct or indirect price subsidies for services
                     previously provided by government.

           c) Broader Economic Environment Risks

                i)   Currency-Related Risks

                     Exchange Rate Fluctuation Risk: Because of the nature of infrastructure
                     projects in emerging markets, the project company is usually required to
                     make payments to other project participants (or, with respect to pass-through
                     costs, pursuant to the other project agreements) in currencies other than the
                     currency received from the off-taker under the off-take agreement. The two
                     primary factors influencing the degree of exchange rate risk facing the project
                     company are whether the project is funded in hard currency or local currency
                     and whether the payments to be made by the off-taker to the project company
                     are denominated in hard currency or local currency.162 Although funding a
                     project in local currency would generally reduce exchange rate risk,
                     significant international infrastructure projects are typically funded in hard
                     currency because the debt market in the host country is viewed as not
                     sufficiently sophisticated or capitalized.
                     The off-take agreement usually provides for currency fluctuation
                     adjustments.163 Even where a tariff is denominated in local currency, the price
                     may be referenced to dollars, calculated at the exchange rate as of a certain
                     benchmark date. The critical point to negotiate is which party, the off-taker or
                     the seller, will absorb the difference should the local currency fall against the
                     dollar. Many times, as a local utility, the off-taker may be unwilling or unable
                     to pay more for its off-take, often because its own revenues come from
                     transmission and distribution and from sales to consumers. The project
                     company, on the other hand, must maintain its net cash flow at all costs to
                     ensure debt service. The result is an often contentious point of discussion
                     during negotiations.
                     Inconvertibility Risk: If the country where the project is located experiences
                     foreign exchange shortages, the lenders will evaluate the risk that the project
                     company will be unable to convert its local currency revenues into the foreign
                     exchange required to make necessary debt service and other foreign
                     currency payments. In assessing this risk, the lenders shall analyze the host
                     country's foreign exchange reserve position. Those countries experiencing
                     acute foreign exchange shortages may block conversion either passively
                     (e.g., the company‟s application to the central bank is accepted, but the
                     central bank lacks the foreign exchange to effect the remittance) or actively
                     (e.g., through the imposition of exchange controls or the declaration of a
                     moratorium).164 To mitigate this risk, the project company must obtain rights
                     under local law to convert local currency to the required currency and to remit
                     interest, fees and principal to the lender.
                     Transfer Risk: Transfer risk is the risk that the central bank of the country
                     where the project is located will notionally convert the project company‟s local

      See Blumental id at 290.
      See Manuel supra note 10 at 54.
      Manuel id at 57; see also Hanley supra note 9 at 93-94.

                     currency into foreign exchange on its books, acknowledge the central bank's
                     foreign exchange obligation to the lender, but will not transfer the foreign
                     exchange out of the host country.165 This is often a prelude to a country's
                     general rescheduling of its foreign exchange obligations. The risk mitigation
                     techniques are the same as for the risk of inconvertibility.
                     Devaluation Risk: Whenever a lender lends in foreign exchange and relies
                     for repayment on a project company that generates earnings only in local
                     currency, there is a risk that the local currency may depreciate in value and
                     that the project company will be unable to generate sufficient local currency
                     for conversion into foreign exchange to service the debt.166 In countries with
                     soft currencies, the likelihood of devaluation is high and the ability to hedge
                     against or insure the risk is very limited. The lenders may seek to allocate this
                     risk to, or share the risk with, the project sponsors or the off-taker (through
                     adjustments in the output price). Where the off-taker shares devaluation risk,
                     however, the lenders may be concerned that the output price may increase to
                     a level at which the off-taker will no longer be interested in purchasing the
                     project‟s output from the project company.167

                ii) Risks Associated with Inflation and Price Volatility of Inputs

                     The risk of inflation is also primarily addressed in the off-take agreement. The
                     primary mechanism for allocating risks associated with inflation between the
                     off-taker and the project company is provided in the manner of calculating the
                     payments by indexing the output rice to local inflation.168 Thus, an off-take
                     agreement, for example, will likely provide price protection for project
                     company in the form of price escalators, either keyed to inflation (or consumer
                     price benchmark) or set by a predetermined formula.
                     Equally important, in projects whose success or failure rests on the price of
                     one raw material input, there is a need to hedge the price for that raw
                     material. For many infrastructure projects, supply price risk is also borne by
                     the off-take purchaser. In the case of large projects, project sponsors will
                     attempt to prearrange long-term supply purchase contracts for important
                     inputs (for example, raw materials or energy supplies) to limit the impact of
                     price volatility, particularly in the case of primary commodities. If input prices
                     rise, the project company simply passes through the increased cost to the off-
                     taker by increasing the payment of the output tariff accordingly.

           d) Project-Specific Policy Risks

                i)   Expropriation

                     Expropriation is the risk that the host government will seize and nationalize
                     the project's property rights in a capricious or discriminatory manner usually
                     without providing just compensation. Even where it is compensated, the
                     amount of compensation will likely not satisfy all of the project's debts and

      See Fitzgerald supra note 17 at 66.
      See Alexander supra note 2 at 22; see also Zhang supra note 14 at 724.
      See Fitzgerald supra note 17 at 9.
      See Manuel supra note 10 at 55.

                    equity.169 Expropriation can occur overtly through a governmental act, or more
                    discretely, through a series of measures designed to decrease project
                    profitability to the point where the project developer abandons the project, the
                    latter being the case of creeping expropriation. Creeping expropriation is often
                    a greater fear than outright seizure. This occurs gradually through increased
                    taxes, fees, and other regulation.170
                    The project company can manage expropriation risk by obtaining political risk
                    insurance from multilateral sources such as the Asian Development Bank
                    ("ADB") or the IFC, and bilateral sources such as OPIC. In addition,
                    expropriation risk can be mitigated by requiring the host nation to create an
                    offshore collateral account containing sufficient hard currency to service the
                    developer's debt in the event of a governmental taking. Finally, the project
                    company can obtain a written agreement from the host nation which prohibits

                ii) Risks Associated with the Laws of the Host Nation

                    Given the sometimes less or underdeveloped nature of the host government's
                    legal system, project sponsors and lenders must decide whether the host
                    nation has a legal and regulatory system that is conducive to privately
                    financed infrastructure projects.171 The sponsors and lenders must determine
                    whether the host nation has a stable system of law and an impartial court
                    system which allow private parties to seek redress against public entities.172
                    Moreover, the sponsors and the lenders must consider whether the host
                    nation will take lawful actions that render the project unprofitable. Often, in
                    developing countries, state controlled goods and services include raw
                    materials or fuel supplies and transportation systems. The necessity of the
                    project company‟s reliance on government-controlled goods and services
                    enhances the risks associated with the stability and fairness of the host
                    nation's legal and regulatory systems. Practical operation of the legal system
                    and remedies available upon the occurrence of an event of default may also
                    be problematic.
                    It is difficult for the project company to shift this risk to political insurance
                    carriers, because the insurer will have no recourse against the host nation for
                    lawful actions within its own borders. Mitigation of this risk, therefore, is based
                    primarily on the sponsors‟ and lenders‟ risk assessment during the project
                    feasibility investigation. Project sponsors and lenders should identify
                    developing countries with stable legal and regulatory systems and target
                    those countries for project bids. Practically lenders must take the legal system
                    as it exists. There is no way of contracting around statutory requirements. The
                    only real method of ameliorating any difficulties presented by legal systemic
                    risk are by retaining sponsor support past completion for any perceived legal
                    risk, which is unacceptable to a sponsor from a credit perspective, and by
                    taking the benefit of political risk insurance to guard against the precipitous
                    act of any local government or related body. The may also use favorable

    See George T. Ellinidis, “Foreign Direct Investment in Developing and Newly Liberalized Nations”, 4 Journal of
International Law and Practice 1995, pp. 315-316.
      See Manuel supra note 10 at 57; see also Alexander supra note 2 at 22.
   David Flint et al., Constitutional and Legislative Safeguards for FDI: A Comparative Review Utilizing Australia
and China, in ECONOMIC DEVELOPMENT, FOREIGN INVESTMENT AND THE LAW 103 (Robert Pritchard ed., 1996), pp.
103-04; see also Fitzgerald, supra note 16, at 11.
      See Megevick supra note 26 at 91-96.

                    choice of law and forum selection clauses as negotiating tools with the host
                    nation to obtain favorable offshore dispute resolution procedures or
                    compensation for risk assumption in the form of higher payments from the off-
                    taker. Host nations can minimize the impact of the legal system risk on project
                    costs by instituting legal reforms that ensure fair and swift dispute
                    Specific legal risks to be encountered or anticipated in the host country may
                    Risk of Adverse Change in Law: The risk at issue is that the host
                    government will pass or modify laws that have an adverse effect on the
                    profitability of the project, such as price controls, taxation, or import or export
                    restrictions.174 The host government's control of numerous goods and
                    services critical to project construction and operation compound this risk. The
                    primary mechanisms for allocating the risk of an adverse change in law
                    between the off-taker and the host government are provided in supplemental
                    tariffs or buyout provisions. The off-take agreement often requires the off-
                    taker to pay to the project company a supplemental tariff to compensate the
                    company for additional costs caused by an adverse change in law. The risk
                    can sometimes be ultimately shifted to the host government through a
                    guarantee by the host government of the obligations of the off-taker provided
                    that is a governmental entity under the off-take agreement.
                    Risk of Legal Treatment of Security Interests: Since the legal systems of
                    many developing countries may be unsophisticated and volatile, the ability of
                    sponsors to obtain financing can be hampered by poorly developed debtor-
                    creditor laws in host nations.175 For example, a host nation may have in place
                    a system that recognizes security interests, but no registration system which
                    establishes priority among competing security interests. The risk borne by the
                    project lenders in these situations will be passed on to the sponsor and,
                    ultimately, the off-taker in the form of increased financing costs and purchase
                    payments. The only way for the lenders to mitigate this risk is to consider the
                    treatment of security interests carefully when determining project feasibility.
                    Risk of Foreclosure of Security Interests: The analysis of the risks inherent
                    in any project frequently ends, at least from a legal perspective, with the
                    documentation. However, this is short-sighted. Enforceable documentation is
                    obviously critical to any project lender, but this does not give the whole
                    picture.176 The rights available in connection with any enforcement of that
                    documentation are paramount. The traditional common law analysis, for
                    example, assumes that any secured party will have a self-help remedy that
                    will enable it to sell the secured asset on its own motion without the need to
                    involve any third party. In civil law countries, and in most emerging markets,
                    this is not possible. In those jurisdictions no self-help remedy is available, and
                    foreclosure will usually need to be performed with the assistance of the court

    See John Teolis, Issues in Project Finance, in ECONOMIC DEVELOPMENT, FOREIGN INVESTMENT AND THE LAW 197
(Robert Pritchard ed., 1996) at 204; see also Douglas Webb, Legal System Reform & Private Sector
Development in Developing Countries, in ECONOMIC DEVELOPMENT, FOREIGN INVESTMENT AND THE LAW 45 (Robert
Pritchard ed., 1996) at 53.
      See Manuel supra note 10 at 56.
   See Fitzgerald supra note 16 at 11; see also George M. Knapp,” International Power Projects: Making the
Business Opportunities Achievable”, 8 Natural resources and Environment 1993, p. 32.
      See Fitzgerald supra note 16 at 11; see also Harder supra note 4 at 39.

   system. This usually implies an auction following some defined period and
   can involve a lengthy delay. During a period when a project is in trouble and
   unable to meet the needs of its creditors, this can be a significant issue. In
   addition, some auction procedures may not permit the lenders to bid in debt,
   rather than bidding in cash, thus potentially materially increasing the exposure
   of the lenders to the project as a whole if they wish to avoid defeating some
   wholly inadequate bid made at auction by a third party.
   Risk of Taxation: Potential taxes assessable on a privately financed
   infrastructure project are numerous. The project company may be subject to a
   profits tax, value added tax ("VAT") on services, or other forms of local
   taxation. In addition, there may be withholding taxes on interest and dividend
   payments made offshore. Fortunately, most emerging markets recognize the
   economic advantages in attracting offshore sponsors/ investors‟ consortium to
   develop infrastructure facilities, and therefore offer tax packages for individual
   projects that are available to be negotiated on a project-by-project basis.
   These will frequently result in tax holidays in connection with profit and related
   taxes in addition to exemptions from VAT and withholding tax on both interest
   payments and dividends.
   Risk of Insurance: Comprehensive insurance for any particular project is an
   essential part of the package that will be required by any provider of limited
   recourse finance. Prima facie this should not create any difficulty as
   commercial insurance for a project (third party liability, construction risk, delay
   in start-up, etc.) should be available irrespective of location. However, a
   complication arises by virtue of the fact that many of the emerging markets
   require that the primary insurance be provided by a local insurance company.
   This raises both performance and credit risk issues. While such local
   insurance will be reinsured by coverage in more traditional insurance
   markets, such as the London market, that is not the end of the problem. For
   example, reinsurance is just that: it is a secondary cover with respect to the
   primary insurance policy. Accordingly, if the primary insurance policy is not
   valid, then neither will the reinsurance. In those jurisdictions where the
   primary insurance with the local insurance provider must be governed by local
   law, then comfort must be obtained with respect to the validity and efficacy of
   that insurance. Note that these issues will not be circumvented by the so-
   called "cut through" provision present in many reinsurance arrangements,
   which provides for the reinsurers to pay beneficiaries of the primary insurance
   policy directly rather than being put through the necessity to pay through the
   primary insurer as a conduit.

iii) Risk of Governmental Default on Contractual Obligations and

   The host government may also breach various commitments it will have made
   to the project to waive fees and taxes or to provide surrounding infrastructure
   necessary for the project. Sponsors and lenders have little recourse in this
   situation. The potential damage to the host government‟s' international
   reputation may deter this type of breach to some degree, but nationalistic
   politics can often prevail over diplomacy, comity and respecting commitments.
   A host country may prohibit the repatriation of profits abroad and insist that
   profits be invested in other local projects. Lenders, of course, depend on
   expatriation of profits for debt service and will not lend where it is not possible.
   A change in policy after the project is in construction or operation would likely
   constitute governmental breach of contract.

                    Risk of governmental default on payment guarantees arises when both the
                    off-taker and the host nation, being a governmental entity, are unable or
                    unwilling to meet the off-takers obligations under the off-take agreement.
                    Sovereign guarantees are typically embodied in the implementation
                    agreement, which is a contract between the company and its sponsors and
                    the agencies of the host nation authorized to provide guarantees, assurances,
                    and other types of project support. Host nations often default on guarantees
                    by obstructing convertibility of their currency or by making foreign exchange
                    unavailable. To mitigate this risk, the sponsors should obtain political risk
                    insurance from multilateral and bilateral sources.

           e) Political Risks

                Risk of Political Violence and Civil Unrest: Political violence in the host nation
                (including war, insurrection, terrorism, or labor strikes) can interrupt and even
                terminate a project's cash flows, preventing the project company from servicing
                its debt. Because political violence is often temporary, the developer can mitigate
                its risk by requiring the host government to create an offshore collateral account
                with sufficient debt service reserves to protect the developer and its lenders from
                temporary business interruption.177 The sponsors can further mitigate this risk by
                securing adequate physical protection for the project facilities. Finally, the risk of
                political violence can be shifted to political risk insurers such as MIGA and OPIC.

           f) Force Majeure Risk

                Because of its unpredictability, force majeure is perhaps the most difficult risk
                faced by the contracting parties. The problem will most likely be dealt with in the
                EPC contract, the supply contract and the off-take contract. 178 It may be that an
                event of force majeure, which excuses the contractor from performing and
                delivering the project by a certain date, does not necessarily excuse the project
                company from doing so. For example, in negotiations, the contractor may believe
                that a two years leeway for industry force majeure is necessary. The project
                company, however, might regard the risk as lower and be prepared to agree to a
                shorter time period with the off-taker in return for something the project company
                may regard as more valuable (such as lower penalties for poor performance). A
                strike, for example, could delay construction or prevent operation, while an
                earthquake could damage the project and reduce its ability to generate. A riot
                could result in any of these obstacles. A change in law could affect the project by
                delaying or stopping construction or operation until a new, perhaps
                discriminatory, law has been complied with. Alternately, regulation changes could
                increase capital or revenue costs by imposing new and stringent environmental
                As mentioned above, a party will only claim force majeure relief if it is unable to
                perform its obligations. The most obvious consequence is being excused from
                liability for breaching those obligations. The off-take agreement itself may contain
                an obligation to generate which would not per se be breached. However, the off-
                take agreement might also contain provisions whereby purchase payments are
                reduced if the level of available project output is concomitantly reduced. The
                reduction might be pro rata, or it might be disproportionate, and require the
                project company to pay penalties for reduced availability. In these circumstances,

      See Manuel supra note 10 at 58.
      See Fitzgerald supra note 17 at 16-17 and 21.

                the project company's income will fall, reducing lenders' returns and possibly
                threatening the economic viability of the project, if the project company is unable
                to meet its debt service. The project company will, therefore, want to ensure that
                its income is maintained and that funding be available, where the event of force
                majeure results in a requirement that additional capital be spent (e.g. on
                rebuilding following an earthquake). The Power Purchaser, on the other hand, will
                not want to pay for capacity that is not available and will be unwilling to provide
                any additional capital funding.

       2. Support Arrangements and Guarantees

           Project finance borrowers and lenders have developed a number of devices which,
           when used in various combinations, manage to address many of the risks associated
           with lending money to the project company in order to build an infrastructure project
           in a foreign (and possibly unstable) country. Each such device will typically be
           embodied in its own agreement and each must be integrated into the transaction
           structure created by the credit agreement: the delivery of each such support must be
           a condition precedent, its failure to be available must be an event of default, its
           benefits must be made accessible upon the occurrence of appropriate triggering
           events and, in most cases, it must be enforceable not merely by the project owner or
           sponsor, but by the project lenders as well.179

           a) Sponsor Support Arrangements

                The project sponsor may, in addition to its equity investment, make certain limited
                guarantees to eliminate risk. Such guarantees may include a completion
                guarantee (i.e., a contingent commitment to put in more equity), cost overrun
                funding, performance bonds, and clawback of equity distributions.
                The most classic sponsor‟s support device is a sponsor guarantee (typically
                limited). Such completion guarantees can take a number of forms, including: a
                sponsor guarantee of the scheduled repayment of the principal of and interest on
                the loans until such date as "Project Completion" has occurred; a sponsor
                guarantee to repay the entire outstanding amount of the loans, together with
                accrued and unpaid interest, if "Project Completion" does not occur by an agreed
                date certain; and a sponsor promise to contribute additional equity to the project
                company sufficient to enable it to achieve "Project Completion", which is
                essentially cost-overrun protection. Not surprisingly, a significant amount of time
                is spent by lenders, sponsors, borrowers and guarantors discussing how
                "completion" should be defined. 180
                A typical completion test will combine (i) the delivery of legal opinions as to the
                continued perfection of the security interests created at the beginning of the
                transaction, (ii) borrower certifications as to the absence of defaults, the receipt of
                all licenses and approvals necessary in order to operate the project and final
                acceptance of the contractor's work under the construction contract, and (iii)
                detailed independent engineer certifications as to the physical completion of the
                project facilities and the satisfaction of performance criteria, particularly those as
                set forth in the construction contract (such as evidence that the facilities have
                been operating at specified capacities over a specified period of time).181 Matters

   See Martin Stewart-Smith, “Private Financing and Infrastructure Provision in Emerging Markets”, 26 Law and
Policy in International Business, pp. 1003-1005.
      See Fitzgerald supra note 17 at 78-79.
      See Warner supra note 102 at 370-371.

                   specific to a particular jurisdiction should also be included in the related
                   completion tests. For example, if a central bank must issue a certificate in
                   connection with each advance of hard currency funds in order for the borrower to
                   be entitled to repay those funds in hard currency (i.e., "register" the foreign debt
                   investment made by the lenders so that the borrower is entitled to remit the
                   amount of such debt, together with interest at the contract rate, outside of the
                   host country), the related completion test should require that all such certificates
                   or registrations have been received.182
                   Moreover, project sponsors will agree to provide very specifically delineated and
                   limited support to a project borrower, such as: a sponsor obligation to contribute
                   equity to the project company, which is typically capped at a specific dollar
                   amount or percentage of project costs; a sponsor obligation to contribute
                   additional limited equity upon the occurrence of certain specified risk events; a
                   sponsor obligation to purchase a specific amount of project's product or to
                   guarantee a "floor price" for the project's product; a sponsor obligation; or other
                   similarly limited contingent support obligations.
                   Project sponsors may also grant letter of credits to obtain and maintain certain
                   security instruments on behalf of the project company (such as a letter of credit
                   that may be required by the off-taker under an off-take agreement to support any
                   obligations of the project company to reimburse the off-taker for contractual
                   defaults or indemnified events) or comfort letters in favor of the commercial banks
                   in a non-recourse project financing saying that, as parent companies, they
                   generally support their subsidiaries. Comfort letters, of course, may be merely
                   statements of present intention rather than instruments creating legal obligations.
                   Nonetheless, they can be just as effective in terms of instilling moral obligation in
                   a large multinational corporation to support its floundering special-purpose project
                   company. Where an intention to create legally binding obligations exists, a parent
                   company guarantee or the guarantee of a foreign or international financing
                   institution may be required for specified risks in particular circumstances.
                   Another traditional support mechanism for limiting project risk is for the sponsors
                   to arrange and provide for a "clawback" or recapture of excess cash flow. 183
                   Excess cash flow (that is, project cash flow in excess of that necessary to pay
                   operating expenses and debt service) after any required prepayment of the loans
                   or funding of special reserves will often, if various financial covenants are met, be
                   available for the sponsors, subject to the clawback rights of the lenders. The
                   clawback requirement may be triggered upon the occurrence of certain events
                   that are likely to increase a project's risk so that the sponsor has a greater
                   incentive to resolve all resulting problems promptly.

            b) Government Support Arrangements

                   Another form of project party support consists of host government guarantees
                   securing its contractual obligations, such as: exclusive concession agreements or
                   tax holidays to help ensure that a project will have sufficient revenues at its
                   disposal to service project debt; agreements to pay for project product in dollars
                   directly to accounts located in New York (as opposed to local currency payments
                   to local bank accounts) to ameliorate exchange rate and inconvertibility risks.184

      Id at.371.
      See Fitzgerald supra note 17 at 67; see also Warner id at 374-375.
   See Fitzgerald supra note 17 at 90; see also Mark Kantor, “Summary of Project Financing Programs of: U.S.
Eximbank, OPIC, JEXIM, ECGD”, in Practicing Law Institute/ Commercial Law & Practice Course Handbook

                Moreover, some governments will guarantee the obligations of their affiliate off-
                takers in order to shift certain market risks to the host government. In particular:
                i)   Currency Convertibility: A form of sovereign guarantee is a convertibility
                     guarantee under which the host country or its central bank will allocate hard
                     currency reserves in support of the project, agreeing to make sufficient
                     amounts of the loan contract currency available during the life of the loans to
                     meet debt service (assuming local currency project revenues are being
                     received in the requisite amounts).185 Similarly, a borrower can enter into
                     currency swaps on a commercial basis to ensure availability of hard currency
                     for debt service, though such hedges may be prohibitively expensive or, in the
                     case of certain currencies, not available at all.186 Another way project
                     borrowers and lenders have sought to reduce currency risk is to denominate
                     the project contracts in a hard currency such as having a significant
                     percentage of the off-take agreement provide for payment in U.S. dollars,
                     which can provide significant comfort when the other party to the contract is a
                     government-owned entity. In some cases, arrangements can be made to
                     "counter-trade" local currency for commodities produced within the country
                     which can be sold abroad for hard currency. These structures may be
                     stressed to the breaking point, however, if currency movements render them
                     wholly uneconomic.
                ii) Concessions: One traditional way sovereign nations encourage private
                    developers to undertake in-country infrastructure projects when the country is
                    not sufficiently creditworthy, or is unwilling, to finance the project itself is to
                    grant the developer a concession to operate the project - and to collect and
                    keep its revenues - for a period of time sufficient to enable the developer to
                    pay off the loans incurred in financing the project, as well as to earn a
                    negotiated profit.187 These kinds of concessions, which are central to BOT
                    (build, operate and transfer) and BOOT (build, own, operate and transfer)
                    projects, will often have the advantage that if negotiated targets are not met
                    by the end of the original concession period the developer - and by extension
                    its lenders - has the right to require the host country to extend the concession.

           c) Third Party Support Arrangements

                i)   Arrangements with Multilateral and Governmental Agencies: The
                     participation of multilateral agencies, like the World Bank, its affiliates, the IFC
                     and MIGA, or the European Bank for Reconstruction and Development
                     (EBRD), as well as bilateral agencies (such as OPIC and the export-import
                     banks of Japan and the United States), in an international project financing is
                     often viewed by lenders as a way to mitigate political risk. In some cases, the
                     commercial and agency loans are made in tandem (with a common terms
                     agreement or simply with cross-defaults); in other cases, a multilateral agency
                     will make the entire loan and participate it out to commercial banks. The virtue
                     of such an arrangement is that the "umbrella" provided by the agency is
                     perceived to, and may in fact, reduce the likelihood that the host country will
                     jeopardize the project by any governmental action. In addition, the "umbrella"
                     of a participated IFC or EBRD loan often permits favorable treatment of the

Series 1995: Project Financing from Domestic to International: Building Infrastructure Projects in Developing
Markets 1995, p. 111; see also Smith supra note 7 at 222.
      See UNCITRAL consolidated legislative recommendation supra note 19 at 310.
      See Warner supra note 95 at 371-372; see also Smtih supra note 7 at 222.
      Warner id at 372-373.

                    loan by the lenders' bank regulators and enables lenders to take advantage of
                    exemptions from host country withholding taxes which might otherwise be
                    imposed on commercial loan payments.
                ii) Political Risk Insurance: One classic third-party support device covering the
                    category of risks broadly characterized as “non-commercial” or “political” is the
                    political risk guarantee or political risk insurance policy.188 Typically, these
                    instruments will provide for a third party to absorb, for an agreed fee, the risk
                    of non-payment of the project loans as a result of one of the following
                    "political" events: expropriation of project assets by the host government;
                    political violence, such as war, sabotage or terrorism; and currency
                    inconvertibility.189 Political risk guarantees may be provided by government
                    lenders and export credit agencies190, such as Overseas Private Investment
                    Corporation (OPIC), the Export-Import Bank of the United States (US-EXIM),
                    and Japan Bank for International Cooperation (JBIC), as well as private
                    insurance companies, such as AIG, Sovereign and the like. Lenders should
                    not view political risk insurance as a panacea for all political risks; the
                    coverages under political risk insurance policies are relatively narrow, the
                    exclusions can be extensive, and the procedures for claims may not be
                    entirely satisfactory. In essence, the broader issue of country risk, a critical
                    aspect of infrastructure projects, is generally left largely uncovered. Similarly,
                    one of the most potentially effective mitigants for country risk - sound
                    management to insure sensitivity to local issues and practices - cannot be
                    provided through insurance.
                iii) Commercial Risk Insurance: Commercial risk insurance covers a variety of
                     commercial risks. Commercial insurance policies will vary from country to
                     country, but the preferred insurance package includes comprehensive
                     "builder's all risk" coverage during construction, comprehensive general
                     liability and business interruption coverages during project operations. 191
                     Typically, lenders retain an insurance consultant who will advise the lenders
                     on the types and amounts of the insurance coverages that are appropriate for
                     the project. Most commonly, such policies will cover the risk of non-payment,
                     delayed payment, or other default of the buyer for certain non-political
                     reasons, including insolvency or other financial inability to pay. Such policies
                     come in a variety of flavors (depending, of course, on the particular provider) -
                     covering short, medium, or long-term risks; single or multiple buyers; and
                     single and repetitive sales - and can take the form of either insurance or
                     guarantees. Coverage also is available for commercial risks involved in
                     foreign direct investment, including equity investment, loans and guarantees,
                     and the acquisition of fixed assets. Rights under such policies are typically
                     assignable (i.e., to banks) so that exporters will be able to obtain more
                     favorable financing terms.

      See Fitzgerald supra note 17 at 79-80.
      See Ellinidis supra note 168 at 316-330.
      See Alexander supra note 2 at 21; see also Blumental supra note 21 at 291-292
      Blumental id at 293.

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