International project finance

INTERNATIONAL PROJECT FINANCE

Law and Practice

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1

INTERNATIONAL

PROJECT FINANCE

Law and Practice

Edited by

John Dewar

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v

PREFACE

Th e purpose of this book is to off er a new framework for the law and practice of

international project fi nance.

My colleagues and I at Milbank approached the task with both excitement and a

little trepidation. Our aim has been to write a book which analyses the law and

practice of project fi nance from a diff erent perspective from existing books, which

have tended to be rooted in a more domestic focus.

Over the last twenty years, modern project fi nancing techniques have spread rap￾idly from the US market to Western Europe and then on into emerging markets in

Asia, the Middle East, Africa, and Latin America. I have felt for some time that

there is a place for a book with a truly international focus, responding to the needs

of sponsors, lenders, and practitioners for analysis of the legal and documentation

issues of core relevance to the practice of international project fi nance.

Despite a signifi cant knock during the ‘credit crunch’, and following the collapse

of Lehman, the international project fi nance market has showed remarkable resil￾ience. It has been sustained by the swelling demand for infrastructure, at a time

when governments everywhere are seeking to manage burgeoning fi scal defi cits.

Th erefore, in many countries, private sector-led project fi nance solutions have

come to the fore and many governments are seeking to accelerate the introduction

or continued growth of Public Private Partnerships.

Whilst economic growth has, and may continue to be, impacted by the eff ects of

the fi nancial crisis, the quest for oil and gas, minerals, and other natural resources

continues unabated across the globe. Th is has led to the sponsoring and fi nancing

in the private sector of a number of ‘mega’ projects in the gas, LNG, gas transporta￾tion, refi nery, and mining sectors.

Th e sustained demand for project fi nance comes at a time when commercial

banks—the institutions which have historically provided the preponderance of

project debt fi nance—have found it increasingly diffi cult to maintain their position

as the core providers of capital. In emerging markets, and in some recent cases, even

in OECD countries, the fi nancing of many projects has only been possible with the

leadership provided by Export Credit Agencies and multilateral and bilateral fund￾ing institutions. Th e last few years have also seen the increasing application of

Islamic fi nancing techniques (particularly in the growing Middle East project

fi nance market). Despite the diffi culties faced by the international capital markets,

there has also been a resurgent focus on the project bond market. In order to tap this

Preface

vi

diverse pool of potential sources of liquidity, it is important for both commercial

principals and practitioners to have a thorough grasp of the structuring and docu￾mentation requirements of these very diff erent funding sources.

In conceiving the book, I also concluded that a book on international project

fi nance would not be complete without presenting and analysing the background

and issues arising in the context of projects developed in civil law jurisdictions. I

was therefore delighted when Antoine Maff ei and Jean-Renaud Cazali of De Pardieu

Brocas Maff ei agreed to write a chapter analysing practice issues arising in France

and other jurisdictions whose jurisprudence is based on the civil code. As project

fi nancing techniques have spread throughout Francophone Africa, an understand￾ing of the roots of the relevant legal systems, and the particular issues arising in the

context of these jurisdictions, is particularly important.

Our long-standing friend and colleague, Martin Benatar, also agreed to assist us in

‘de-bunking’ the arcane world of project insurance and re-insurance. For project spon￾sors and lenders, insurance plays a key part in the overall risk management of projects.

Even many seasoned practitioners fi nd the topic both complex and bewildering.

Notwithstanding the recent stresses at play across the global fi nancing markets, the

relatively low default rate amongst project fi nanced transactions is a testament to

the skills of practitioners in analysing and assessing risk, as well as allocating such

risk in the most appropriate manner. Alas, some projects do experience fi nancial

distress and, in this context, the book includes a chapter analysing the intricacies of

restructuring complex projects.

Last, but by no means least, it appeared to me that there was a need for greater

understanding and clarity about the management and resolution of disputes, which

regrettably do occur, and raise complex legal issues, particularly in the context of

cross-border international project fi nancings.

Many authors from diff erent disciplines have been involved in the writing of this

book and many other practitioners at Milbank have been involved in supporting

the writing process. I am eternally grateful to all who have contributed and the

many others who have lent their time, given their advice and insights, and above all,

engaged in analysis and debate which has considerably enhanced the knowledge set

forth in the pages which follow.

Apart from the invaluable contributions made by all my colleagues, I have also

received tremendous support from my unfl appable assistant, Josie, who for some

time has had to put up with the combined demands of a busy legal practice, as well

as the editing of this book. I have also promised to my wife, Geraldine, and my son,

William, that the many weeks of nocturnal activity will diminish following the

book’s publication!

John Dewar

1 March 2011

vii

SUMMARY CONTENTS

List of Contributors xix

List of Financial Terms, Abbreviations, and Acronyms xxv

Glossary xxix

Table of Cases xxxi

Table of Legislation xxxvii

Table of International Treaties, Conventions, and Agreements xli

Introduction 1

1. Approaching Legal Issues in a Project Finance Transaction 3

2. Project Participants and Structures 21

3. Sources of Funding 55

4. Project Risks 81

5. Allocation of Risks in Project Documentation 113

6. Insurance 133

7. Principal Loan Finance Documentation 167

8. Offi cial Funding Sources: Export Credit Agencies and

Multilateral Development Banks 213

9. Documentation of Project Bonds 241

10. Islamic Project Finance 269

11. Ancillary Finance Documentation 299

12. Project Finance in Civil Law Jurisdictions 349

13. Defaults and Workouts: Restructuring Project Financings 385

14. Dispute Resolution in Project Finance Transactions 419

Appendix 1: Checklist of Conditions Precedent, Representations,

Covenants, and Events of Default for inclusion in

Finance Documents 463

Appendix 2: Environmental Due Diligence Checklist 471

Summary Contents

viii

Appendix 3: Checklist of Key Provisions of a Joint Venture or

Partnership Agreement 475

Appendix 4: Checklist of Key Provisions in a Concession Agreement 477

Appendix 5: Checklist of Key Provisions in Turnkey

Construction/EPC Contracts 481

Appendix 6: Checklist of Key Provisions in Feedstock Supply

Contracts 485

Appendix 7: Checklist of Key Provisions in Off take/Power

Purchase Agreements 489

Appendix 8: Checklist of Key Provisions in Operation and

Maintenance Agreements 493

Index 497

ix

CONTENTS

List of Contributors xix

List of Financial Terms, Abbreviations, and Acronyms xxv

Glossary xxix

Table of Cases xxxi

Table of Legislation xxxvii

Table of International Treaties, Conventions, and Agreements xli

1. Approaching Legal Issues in a Project Finance Transaction

Introduction 1.01

Overall Risk Assessment 1.07

Assessing the Host Country 1.11

Corporate governance 1.16

Industrial regulation 1.18

Permitting 1.24

Taxation 1.26

Customs and immigration law 1.34

Reliability of local law and courts 1.35

Changes in law 1.39

Environmental and Social Considerations 1.41

Governing Law Considerations 1.44

Choice of law 1.45

Enforceability 1.48

Forum 1.49

Sovereign immunity 1.53

Credit Documentation 1.54

Security Packages 1.58

Process Management 1.63

2. Project Participants and Structures

General Overview 2.01

Project Participants: Stage One (Project Origination) 2.05

An introduction to project origination 2.05

Contents

x

Th e role of host governments 2.09

Th e roles of advisers and consultants 2.38

Th e role of private sponsors/equity owners 2.42

Th e role of the project company 2.60

Project Participants: Stage Two (Financing the Project) 2.63

An introduction to the fi nancing stage 2.63

Th e role of equity fi nancing 2.65

Th e role of debt fi nancing 2.68

Th e role of alternative fi nancing 2.74

Th e role of other fi nancing participants 2.77

Project Participants: Stage Th ree (Constructing the Project) 2.81

An introduction to the construction stage 2.81

Th e role of the construction contractor 2.83

Th e role of energy and other infrastructure 2.87

Ongoing roles 2.92

Project Participants: Stage Four (Operating the Project) 2.94

An introduction to the operations stage 2.94

Th e role of the operator 2.95

Th e role of the operation and maintenance guarantor 2.98

Th e role of feedstock, fuel, and other suppliers 2.99

Th e role of off -takers 2.101

Ongoing roles 2.104

Project reincarnation 2.105

Ownership and Project Structures 2.110

An introduction to ownership and project structures 2.110

Selecting an ownership structure 2.112

Types of ownership vehicle 2.123

Relationship among equity investors 2.135

Dilution and cross-charge mechanisms 2.138

Project structures 2.140

3. Sources of Funding

Introduction 3.01

Sources 3.08

Equity 3.13

Equity bridge loans 3.16

Subordinated shareholder debt 3.17

Mezzanine debt 3.20

Bank debt 3.22

Islamic project fi nance 3.27

Capital markets 3.28

Public sector lenders in project fi nancings 3.38

Export credit fi nance 3.40

Multilateral agencies and development fi nance institutions 3.45

Leveraged and fi nance lease arrangements 3.53

Contents

xi

Letters of Intent, Term Sheets, Commitment Letters, and Mandate Letters 3.55

Showing interest without a commitment—the letter of intent 3.55

Th e term sheet 3.59

Commitment letters and mandate letters 3.63

4. Projects Risks

General Overview 4.01

Introduction to project risks 4.01

Risk Identifi cation—Due Diligence 4.03

General Issues For All Projects 4.07

Completion risk 4.07

Operating risk 4.30

Supply risk 4.34

Currency risk 4.41

Political risk 4.56

Environmental and social risk 4.71

Insurance 4.81

Supervening events aff ecting contractual performance 4.82

Force majeure 4.83

Frustration 4.90

Procurement rules 4.97

Competition law 4.99

Corrupt practices and money laundering 4.104

Participant risk 4.113

5. Allocation of Risks in Project Documentation

General Overview 5.01

Risk Allocation in Project Agreements 5.14

Shareholders’ or joint venture agreements 5.15

Construction contracts 5.16

Operation and maintenance agreements 5.33

Site purchase or lease agreements 5.38

Off -take agreements 5.41

Fuel and other feedstock supply and transportation agreements 5.54

Development agreements/concession agreements 5.59

6. Insurance

Introduction 6.01

Th e importance of project insurances 6.01

A ‘bankable’ insurance programme 6.04

Insurance Programme Design 6.10

Material insurances—material damage insurance 6.12

Material insurances—consequential loss insurance 6.22

Material insurances—liability insurance 6.24

Mandatory but non-material insurances 6.27

Contents

xii

Project Company Control 6.32

The Breadth and Scope of the Insurance Programme 6.37

Full value coverage 6.38

Natural force majeure 6.39

Political force majeure 6.40

Insurability of force majeure risks 6.41

Standard exclusions from insurable risks 6.42

Legal and Commercial Infl uences on Procurement 6.45

Creditworthiness of the risk carriers 6.47

Reinsurance 6.49

Insurance Risk itself and Lenders’ Clauses 6.56

General insurance law principles 6.57

Mitigation of the risks presented by general insurance law principles—lender

endorsements 6.76

Broker’s letter of undertaking 6.90

7. Principal Loan Finance Documentation

Introduction 7.01

Credit Agreements 7.03

Purpose clause 7.06

Conditions precedent 7.07

Drawdown of loans 7.12

Repayments 7.15

Prepayments and cancellation 7.17

Interest 7.23

Market disruption 7.26

Yield protection 7.28

Tax gross up 7.31

Increased costs 7.34

Representations and warranties 7.35

Covenants 7.37

Financial ratios 7.40

Events of default 7.47

Remedies 7.50

Accounts Agreements 7.52

Shareholder Senior Facilities 7.58

Mezzanine Facility Agreements 7.59

Introduction 7.59

Key features of mezzanine facility agreements 7.63

Selected mezzanine facility agreement issues 7.68

Subordinated and Equity Bridge Facility Agreements 7.69

ECA Covered Facilities 7.77

Documentation 7.78

Contents

xiii

Eligibility criteria 7.80

Bribery and corruption—OECD Guidelines 7.81

Policing environmental covenants 7.83

Other documentation issues of interest to ECAs 7.92

Intercreditor Agreements 7.101

Introduction 7.101

Drafting and negotiation considerations 7.105

Th e typical project fi nance creditor classes 7.109

Selected intercreditor issues 7.112

Consideration aff ecting hedge providers 7.129

ECA covered loan voting mechanics 7.133

Considerations aff ecting project bonds 7.135

8. Offi cial Funding Sources: Export Credit Agencies and

Multilateral Development Banks

General Overview 8.01

ECAs and Multilaterals Generally 8.02

Export credit agencies defi ned 8.03

Multilateral development banks defi ned 8.05

Other governmental and quasi-governmental funding sources 8.07

Funding Considerations 8.10

Credit alternatives with export credit agencies 8.11

Rules applicable to ECAs 8.19

Credit alternatives for multilaterals 8.31

Common funding issues 8.38

Recent Trends 8.46

Non-OECD ECAs and ‘cooperation’ agreements 8.47

Local currency funding options 8.49

Credit crisis of 2008–2010 and beyond 8.50

9. Documentation of Project Bonds

Introduction 9.01

History of project bonds 9.04

Securities Regulation and Legal Framework 9.07

Disclosure 9.09

United States 9.10

European Union 9.23

Other jurisdictions 9.27

Selling Restrictions 9.28

United States 9.29

European Union 9.33

Other jurisdictions 9.34

Governing Law 9.35

Contents

xiv

The Due Diligence Process 9.37

Th e Underwriting Process 9.41

Types of underwritings 9.43

Roadshow 9.45

Typical Project Bond Documentation 9.49

Off ering circular 9.50

Subscription/underwriting agreement 9.75

Bond trust deed/indenture and global note 9.83

Global note 9.84

Trust deed/indenture 9.85

Intercreditor arrangements 9.89

Security documents/collateral deed 9.90

Auditor’s comfort letter 9.91

Agreement among underwriters 9.93

Role of legal counsels and legal opinions 9.94

Listing 9.98

10. Islamic Project Finance

Introduction 10.01

Sources of Islamic Finance 10.04

Th e role of Sharia’a scholars and regulators 10.08

Islamic Finance Principles 10.10

Islamic Finance Techniques 10.14

Mudarabah 10.15

Musharaka 10.16

Murabaha 10.17

Istisna’a 10.18

Ijarah 10.19

Sukuk 10.22

Islamic Project Finance Techniques 10.23

Conventional Project Finance Structures 10.24

Multi-tranche Sharia’a-compliant Financing 10.26

Wakala-Ijarah tranche 10.32

Istisna’a-Ijarah tranche 10.42

Wakala-Ijarah tranche and Istisna’a-Ijarah tranche 10.45

Other techniques utilized in a multi-tranche project fi nancing 10.59

Integrating the Conventional and Islamic Tranches 10.62

11. Ancillary Finance Documentation

General Overview 11.01

Equity Support 11.05

Introduction 11.05