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Page 1 July 2014Capacity Building of Banks/FIsFor EE Project Financing
Capacity Building of Banks and Financial Institutionsfor Energy Efficiency Project Financing
Module 4 Project Appraisal
Partnership to Advance Clean Energy-Deployment (PACE-D)Technical Assistance Program
September 2014
Page 2 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Introduction
• Project Appraisal
• Loan Security Considerations
• Developing Financial Products
• Risk Assessment and Mitigation
• Establishing an Energy Efficiency Business Unit
Presentation Outline
Page 3 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Strengthening technical competencies - Feasibility, knowledge gaps, credibility
• Evolving technical appraisal techniques for EE Projects – Minimum technical safeguards to ensure servicing of debt
• Adopting the cash flow approach for financing - Departing from asset-based financing models
• Adapting financing mechanisms to EE business models - Different business situations and business strategy
• Leveraging existing customer relationships – Incorporating EE financing in corporate lending
• Devising sound Payment and Security Structures - Financial mechanisms for improving credit rating
• Standardizing Energy Services Agreements - Overcoming contracting problems, evolving Contract Template for EE Project
Increasing EE Project Lending – Key Considerations
Page 4 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Who is the borrower – project host or ESCO?
• What is the structure of payment obligation? Fixed, pre-established Variable, performance-based
• If performance-based, what is the method for measuring/calculating performance/savings? Measurement & verification procedures Changes to the “Baseline” Energy price risks
Other factors influencing savings
• What are the major risks?
Considerations in Project Appraisal
Page 5 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Promoter appraisal
• Technical appraisal
• Economic and financial appraisal
• Environmental and legal appraisal
• ESCO appraisal
• Risk identification, assessment and mitigation
General Framework - Project Appraisal
Page 6 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Banks have their own unique appraisal schemes
• Sample checklist of required information will be provided in Guidelines
• Topics included:
General information on the organization
Financial and operational details
Promoter background
Management and organizational set-up
Promoter Appraisal
Page 7 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Key questions Are the technologies/products proven? Who has developed the savings estimates? Are the savings estimates realistic? Are there any factors that may impact the savings?
• Technical appraisal should include: Evaluation of the products and technologies Assessment of savings calculation procedures Consideration of risks and uncertainties in the savings estimates
and project implementation plan
Technical Appraisal
Page 8 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Includes assessment of: Project development costs Project capital costs Operating and maintenance costs Energy cost savings Other cost savings Escalation factors Financial structure Promoter or ESCO equity investment Sharing of savings between host & ESCO
Economic and Financial Appraisal
Page 9 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Procedures for appraisal similar to other investment projects
• Environmental: Assessment of possible environmental impacts Determination of need for permits/clearances Obtaining needed permits/clearances
• Legal: Statutory approvals Legal documentation
Environmental and Legal Appraisal
Page 10 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Basic ESCO Assessment Firm structure and organizational information Qualifications and experience; BEE accreditation Financial and operational information Past track record with performance contracting
• Client references Project completion on time Project costs – estimated vs. actual Guaranteed vs. achieved savings Client satisfaction
ESCO Appraisal
Loan Security Considerations
Page 12 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Most EE equipment has low collateral value Equipment typically 60-65% total project cost Equipment generally uneconomic to remove & use elsewhere Finance security needs to be based mainly on end-user credit, not
equipment asset value
• Positive Credit Features of EE Projects Equipment represents “essential use”, increases willingness to pay EE projects reduce operating costs, increase ability to pay EE projects generate savings and improve bottom line
EE Project Equipment as Collateral
Page 13 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• First security interest in project/equipment
• Full faith & credit obligation of end-user Preferred drawing right on end-user account Assignment of key end-user revenue stream
• Real estate Mortgage where project is installed
• Vendor Recourse equipment repurchase or remarketing commitment direct guarantee, cash reserves
• Additional collateral from end-user/borrower
Loan Security – End-User as Borrower
Page 14 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• First security interest in project/equipment
• Assignment of Energy Services Agreement (ESA)
• Must examine end-user credit
• Structure ESA to include fixed payment for debt service
• Escrow of end-user payments (TRA account)
•Recourse to ESCO & ESCO parent company
• Cross-default provisions for project portfolio
• Cash Reserves for debt service, repairs, etc.
Loan Security - ESCO as Borrower
Page 15 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Are they well-capitalized?• Do they have parental company support or private equity/external
investors on board?• Do they have well-defined cash inflow sources?• What is their financial capacity to meet time delays and cost overruns?• Is the financial plan adequate to address both project and working
capital needs?• How can the lender minimize recourse to non-project assets &
personal guarantees?
Reviewing Financial Capacity of Borrowers
Page 16 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Earmark, securitize or escrow cash inflows to service debt
• Ensure suitable tri-partite contractual protection for performance and payments through ESAs
• Structure cash collaterals (e.g. deposits) or over-collateralize (e.g. escrow more than needed for servicing)
• Follow best practices from equivalent bank asset products (e.g. rental securitization, power projects)
• Take protection from partial risk guarantee facilities such as BEE’s PRGFEE
Devising Payment and Security Structures
Page 17 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Structuring contracts to protect interests of borrowers & lenders against payment defaults
• Adhering to specific protocols vs. standard contract template
• Ensuring clear-cut measurement and verification (M&V) and payment procedures
• Mitigate causes for disputes & litigation
• Protecting lenders interests directly in the ESA itself
• Identifying and assigning risks
Standardizing Energy Services Agreements
Risk Assessment and Mitigation
Page 19 July 2014Capacity Building of Banks/FIsFor EE Project Financing
Project Risks
Page 20 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Confirm that the products, equipment and/or technologies are well established and proven; review benchmarks
• Review and assess prior experience of the implementing organizations with the technologies, equipment and products being proposed
• Verify credentials of the energy auditors• Assure that project meets the appropriate design standards
specifications • Obtain client references, where appropriate, for similar project
implementations• Use of contractors that guarantee their performance and offer fixed
prices
Assessing and Mitigating Technical Risk
Page 21 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Assess creditworthiness of both the host and the ESCO
• Examine the ESA and assure that it has adequate assurance for cash flows that will be used to repay the loan
• Establish payment security mechanism such as escrow account or TRA
• Develop customized financial products
• Implement schemes to adequately collateralize project assets
Assessing and Mitigating Financial Risk
Page 22 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Verify experience of project management and construction management organizations and individuals
• Assure that sufficient time has been allocated for permits and licenses
• Verify ESCO’s track record in implementing projects on time
• Use lump-sum contracts with penalty clauses for failure to meet committed deadlines
Assessing and Mitigating Construction Risk
Page 23 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Assure that ESA contains performance guarantees (given by both the ESCO and the equipment suppliers) are measurable
• Review structure of performance guarantees
• Assure that an adequate M&V plan is in place
• Confirm that a baseline has been established for M&V
• Use third party M&V agent
Assessing and Mitigating Performance Risk
Establishing an Energy Efficiency Business Unit
Page 25 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Identify the target market characteristics
• Define typical project characteristics
• Develop innovative financial products for the market
• Facilitate the development of a pipeline of attractive projects with creditworthy customers
• Design and implement a plan for marketing, project investment preparation, & market aggregation
• Develop project appraisal guidelines and procedures
• Organize and provide technical assistance to loan officers
Functions of an EE Business Unit
Page 26 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Technical characteristics
• Project economics
• Typical size of individual projects
• Typical credit characteristics of end-users & borrower(s)
• Credit structure of financings
• Credit enhancement strategies
• Collateral/asset value of EE equipment
• Projects risks and plan for assessment, allocation & management/mitigation
• Financial structuring
Defining Project Characteristics
Page 27 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Based on target market characteristics credit characteristics typical deal size & attractive economics Ability to assemble acceptable security package
• Define loan offer(s) term, pricing required security structure, with guarantee economic parameters: e.g., size, % own funds documentation requirements
• Prepare marketing plan, identify/do initial deals, train branch staff network
Developing Financial Products
Page 28 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Waste heat recovery and cogeneration
• Lighting, cooling and controls for buildings (particularly hotels, hospitals and shopping malls)
• Motors, pumps etc. in industrial facilities
• Streetlighting
• Municipal pumping
• Off-grid renewable energy projects
• Fuel substitution in industry
• Chauffage or outsourced energy management
Customizing Financial Products to EE Projects
Page 29 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Establish relationships with qualified ESCOs and equipment vendors
• Assess capabilities and experience
services/products offered; business methods
target end-user market & customer profile
reference projects & current pipeline
financing needs, capital demand estimate
• Select initial companies & projects to prepare for investment: provide finance structuring assistance
• Structure multi-project finance facilities to reduce transaction costs
Working with Energy Service Providers
Page 30 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Establish relationship with equipment vendor or manufacturer
Vendor offers deal pipeline to lender/lessor
Financing can be marketed at point of equipment sale
Standard origination documents, end-user credit screening & analysis processes & criteria
Vendor can help process loan/lease transaction & absorb some transaction costs
Simplifies transaction from customer perspective
• Vendor may act as lessor & match primary lease with assignment or sale/lease back with bank
Vendor Finance Programs
Page 31 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Credit facility for financing current and future projects
• Revolving credit line based on signed contracts with customers
• Drawdown conditions based on expected project costs and cash flows
• Specification of project economic parameters such as project size, debt/equity ratio, debt service coverage, sharing of savings, etc.
• Security could be combination of ESCO balance sheet, parent organization, and project cash flows
Establishing Credit Line with ESCOs
Page 32 July 2014Capacity Building of Banks/FIsFor EE Project Financing
• Master Loan Terms Standard origination
procedures Lender evaluates and
approves end-user credit Standard sub-loan
documentation Recourse to ESCO & to
ESCO parent (if applicable) Construction finance;
disbursement procedures Pricing, fees
• Security Requirements Assignment of project
assets, contract rights, revenues
Project flow of funds; escrow account; priority of pmts
Debt service reserve considerations
Other recourse & collateral; end-user credit standards
Cross default provisions between projects
Establishing Credit Line with ESCOs
Thank you
Dilip R. LimayeFinance Team Leader
USAID PACE-D Technical Assistance Program