Out of that proceeds account, the administrative agent will allow the project company to pay for operating costs and any applicable taxes, but only if the costs are in the budget. If there’s any money left over, it will cascade downward to the next obligation and so on. And you can think of the flow of money like a cascade where cash is used to satisfy one obligation. And from there the administrative agent will authorize the movement of cash to satisfy different obligations in the specific order of the waterfall. In our example above, the administrative agent makes sure that all of the project revenues are deposited into a bank account which we will call the proceeds account. The administrative agent manages each cash account on behalf of the lenders That job is outsourced to an Administrative Agent who may work for the lead lender, or it may just be a third party who’s been contracted as a service provider. The lenders appoint an Administrative Agent to manage the cashflow waterfallįor those of you who have completed a Pivotal180 project finance or financial modeling course, you may recognize that project finance deals are often contracted and managed so tightly that the lenders don’t allow the borrowing SPV to even manage its own cash.
Below is a hypothetical cashflow waterfall which you might see in the market. The cashflow waterfall is negotiated between the borrower (the SPV) and the lender and is stated in the loan agreement. This is similar to the cashflow statement, but the cashflow waterfall shows the priority of each cash inflow and outflow from the project. Hopefully you can see why we care about cash!Ĭashflow waterfall versus a cashflow statementĪs cash is so important in project finance, the financial statement of most interest to the lenders and investors is the cashflow waterfall, sometimes called a ‘cash cascade’. The valuation of that project is based on its ability to generate cash. The only way that your investment is money good, both for the debt and the equity holders, is if the project operates in place and in service. If you were to foreclose on a wind farm, take it down and sell all of the pieces for spare parts or resemble it somewhere else, you would never ever recover the value of that wind farm. In project finance, it doesn’t work that way. And by only extending loans for 80% of the value of a house, there’s a reasonable chance that they’re going to recover all of their money. If you fail to repay the loan because you don’t have enough cashflow, your lender can repossess the home and sell it, using the proceeds to repay themselves. Perhaps you can borrow 80% of the appraised value of a home. Lenders will advance funds as a percentage against the asset value based upon loan-to-value ratio. The home loan is predicated on an appraisal that puts a value on the actual asset (the home). What does this mean? Most conventional loans are collateral based, such as a home loan. Our basis of evaluation is cash-flow rather than the value of collateral. Project finance transactions are cashflow based.
Why does the cashflow waterfall matter so much? Ok, enough with the preamble, let’s get to it. The income from the SPV flows up to the corporations who own the project, and the corporations pay the taxes instead. Just in case your job is to worry about this apparent flagrant disregard for tax, don’t. Taxes do not fit in the cashflow waterfall! As a common example, most Special Purpose Vehicles (SPVs) in the US, Canada, and the Netherlands are not taxable entities. Having advised on and taught project finance around the world I have seen numerous variations on the cashflow waterfall and I have fielded many questions related to it.Īlthough not a complicated topic, there are some important variances in the order of the waterfall across industries and regions.
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