Feedback — Quiz Final HelpYou submitted this quiz on Wed 23 Jul 2014 3:01 AM PDT. You got a score of 14.33 out of 20.00. You can attempt again, if you'd like. Question 1 Which of the following statements about the use of project finance rather than corporate finance is true? Your Answer Score Explanation Risk of contamination across projects is avoided. Diversification of cash flows from different projects improves their stability. The SPV can manage multiple projects more efficiently. Inorrect 0.00 Total 0.00 / 1.00 Question Explanation When project finance is used, all project cash flows and liabilities are isolated from the balance sheets of project sponsors. Thus, risk of contamination across projects is avoided and the corporate cost of funding is unaffected by incremental debt to finance the project. It is the SPV that raises all the money needed to fund one single project and then collects all the cash flows generated by the project. On this respect, then, cash flows from different projects are isolated from one another and debt is not co-insured. Question 2 What category or categories of sponsors most typically play(s) a dual role? Your Answer Score Explanation Industrial sponsors Correct 0.33 Financial sponsors Inorrect 0.00 Public sponsors Inorrect 0.00 Total 0.33 / 1.00 Question Explanation A dual role requires that the sponsor is also linked to the SPV through one or more industrial contracts. Financial sponsors are then usually excluded from dual roles as they are only interested in the financial returns from the project. Question 3 Which of the following statements about the contractual network is true? Your Answer Score Explanation A less efficient incentive structure is reached when the counterparty of a project contract is also an industrial sponsor. A more efficient incentive structure is reached when the counterparty of a project contract is also an industrial sponsor Correct 1.00 A financial sponsor is usually found in a concession agreement. Total 1.00 / 1.00 Question Explanation A dual role improves the efficiency of the incentive structure for the party involved as it will be in its best interest to perform at its best in its industrial obligations in order to maximize its returns as a sponsor. Question 4 Which of the following criteria are positively affected by a larger number of banks in a syndicate? Your Answer Score Explanation Bargaining power of each invited bank Inorrect 0.00 Return on invested capital for the MLA Confidentiality of information Total 0.00 / 1.00 Question Explanation How many banks to invite? Numbers matter. A syndicate composed of a limited number of financing institutions ensures a higher degree of confidentiality on the issuer’s information and on the deal itself and implies a significant reduction both in coordination costs and in the timing of the decision-making process. On the other hand, banks bear a greater risk because not all invited parties will actually translate their interest into a capital commitment and hence in an investment, and this may constitute a problem especially amidst market turmoil or in the case less-standardized products are offered. Wider syndicates can indeed reduce risks for the banks involved. However, wider syndicates bear higher coordination costs and more potential confidentiality issues, as information is shared with more participants. Question 5 Which of the following statements about the final take is true? Your Answer Score Explanation Higher final take corresponds to higher return on invested capital for lending banks Inorrect 0.00 Lower final take signals confidence by the MLA on the quality of the project Higher final take corresponds to higher fees for lending banks Total 0.00 / 1.00 Question Explanation In the case of syndicated loans, the bookrunners face another trade-off. In the general syndication phase, the bookrunners have to decide what portion of the loan to sell in the market and what to retain on their own balance sheet. Selling a high portion of the loan downloads a part of the credit risk to third parties, frees liquidity and increases the return on capital employed. However, if too large a portion of the loan is sold it may be send a wrong signal to the market, i.e. that the bookrunners do not want to “keep skin in the game”. A higher percentage of the loan kept onto the bookrunners’ balance sheet has also the positive effect of driving the bookrunners to monitor the borrower more closely during the life of the loan. It is worth noting that sometimes the borrower asks the banks a commitment to hold without selling or a commitment to sell portions of the loan only after the issuer’s consent. Question 6 Focus on the following case of a dual stage syndication strategy. A loan of €600 mil is granted under the following conditions: Total fees: 1.2% Co-arranging fees: 0.8% Upfront management fees: 0.3% The Co-Lead Arranger (Y) underwrites a total amount of €300 mil and finances €100 mil. Two additional Manager banks (X and Z) provide respectively €250 mil and €150 mil. Who is getting the largest return on invested capital? Your Answer Score Explanation Mandated Lead Arranger (W) Co-Lead Arranger (Y) Inorrect 0.00 Manager Bank (Z) Manager Bank (X) Total 0.00 / 1.00 Question Explanation Return on invested capital is computed for each bank by comparing the fees it is entitled to with respect to the amount of the loan actually financed. The final take of the MLA can be recovered as the residual of the total amount of the loan that is not financed by other banks: it is equal to €100 mil (€600 mil - €100 mil - €250 mil - €150 mil). ROI is then 3.3% (€3.3 mil / €100 mil) for the MLA; 2.7 % for the CLA; and 0.3% for both Manager Bank (X) and (Z). Question 7 What kind of risk does the direct agreement address? Your Answer Score Explanation Supply risk Counterparty risk Correct 1.00 Construction risk Political risk Total 1.00 / 1.00 Question Explanation The direct agreement allows creditors to replace any contractual counterparts of the SPV which is unable to perform as agreed. It then relates to counterparty risk. Question 8 Which of the following is false of a TKCC? Your Answer Score Explanation It includes a provision for the payment of damages if performance is not in line with an originally agreed minimum standard tested by an independent technical engineer at completion. Inorrect 0.00 It defines a specific provision for a maximum cap of costs above which any extra cost is paid for by the contractor. The contractor only commits to provide its best effort. Total 0.00 / 1.00 Question Explanation With the TKCC agreement the contractor agrees to build the infrastructure for a pre-defined price. Any extra cost above this maximum cap is paid for by the contractor. Moreover, it includes a specific provisions for the damages the contractor has to pay in case of delay in construction, proportional to its length. As such, it is usually backed by a bank guarantee. Question 9 Which of the following is true of a Take or Pay agreement? Your Answer Score Explanation If the buyer does not withdraw from the production it is required to find alternative buyers on the retail market. The SPV commits to provide supplies to the buyer who is unconditionally required to pay the predetermined price even if it is not able to withdraw from the production. Correct 1.00 If the buyer does not withdraw from the production it does not pay the price and the SPV is free to sell the product on the retail market. Total 1.00 / 1.00 Question Explanation Under a Take or Pay Agreement, a buyer commits to purchase at a pre-defined dates for a fixed price a certain quantity of the output of the SPV. It is unconditionally required to pay the predetermined price even if it is not able to withdraw from the production. Question 10 Which of the following is a typical direct investment during the construction phase? Your Answer Score Explanation Operational & Maintenance Fees Capitalized Commitment Fees Development costs Correct 1.00 Total 1.00 / 1.00 Question Explanation The price of the construction contract is only one of the components of the overall investment, and it is the simplest to quantify. In fact, this figure is specified in the turnkey construction contract. Seeing that this contract is normally signed only when the project development phase is complete, it is not unusual for the price to be changed in the interim. Along with the cost of the turnkey contract, other values that need to be estimated for the financial model are the following: Cost of purchasing the land where the facility will be built Owners’ costs Development costs Question 11 Which of the following statements about the base facility is correct? Your Answer Score Explanation It is the funds provided by lenders as a revolving credit facility. It is the equity funds provided by shareholders to finance the construction phase's advancement. It will be repaid from the cash flows the project generates in the operational phase. Correct 1.00 Total 1.00 / 1.00 Question Explanation Speaking about senior debt in a general manner oversimplifies project finance deals, given that banks make various tranches to the SPV available each of these tranches is intended to finance part of the project’s needs and is utilized and repaid in different ways. The majority of the financing constitutes the base facility that covers plant construction and start operations. Question 12 Which of the following statements about the VAT loans is correct? Your Answer Score Explanation The lower the sales, the sooner the VAT facility will be repaid. They are funds used to finance the exposure of the VAT accrued during the construction phase of the project. Correct 1.00 Interest and financial costs on the VAT facility are capitalized during the operational phase. Total 1.00 / 1.00 Question Explanation The early years of the project will concern the construction stage, during which initial development costs are incurred. If the project takes place in a country where VAT is in force and VAT reimbursement times are long, then the SPV will be entitled to a tax credit but will not be able to recover it from VAT on sales (given that the project will start to produce revenue only after the construction stage and not before). And so cash will be needed to finance VAT paid on construction and development costs. A specific VAT facility is granted by the pool to the SPV to cover VAT requirements during the construction phase. Clearly the VAT facility will be repaid from VAT receipts during the operating phase. For instance, if during the first year of operation the project generates sales of 100 with a VAT rate of 20%, then cash flow from sales will be 120, of which 20 will be used to repay the VAT facility. So the higher the sales, the sooner the VAT facility will be repaid. The spread requested for the VAT facility is lower than that applied for the previous tranches. Question 13 Consider the following project: Project's Value: $300mil Project amortized 20% per year Loan: $150mil, 5% fixed rate amortized in constant Principal repayments: 5 years (y0,y1,y2,y3,y4,y5) Tax: 50% EBITDA in the first five years (operating life) is equal to $100mil What is the outstanding debt at y2? Your Answer Score Explanation $90 Correct 1.00 $75 $60 Total 1.00 / 1.00 Question Explanation Year: 0; 1; 2; 3; 4; 5 Outstanding Debt: 150; 120; 90; 60; 30; 0 Question 14 What is the rate creditors use to discount UFCFs to their present value in order to compute LLCR? Your Answer Score Explanation Creditor's cost of funding Base rate Interest rate on loan/bond Correct 1.00 Total 1.00 / 1.00 Question Explanation For consistency with the nature of cash flows being discounted and the focus on project sustainability from the point of view of creditors expected UFCF need to be discounted using the interest rate on corresponding loan/bond. Question 15 Consider the following stream of UFCF: UFCF: y1: 57.5 y2: 58.8 y3: 61.6 y4: 88.5 y5: 89.1 You have an outstanding loan of 200 that pays an annual interest rate of 10% and is repaid in 5 years according to this repayment schedule: y1: 15% y2: 15% y3: 15% y4: 25% y5: 30% which gives the following stream of Principal Repayments: y1: 30 y2: 30 y3: 30 y4: 50 y5: 60 and the following stream of Interest Expenses: y1: 20 y2: 17 y3: 14 y4: 11 y5: 6 Indicate the year in which DSCR is maximum. Your Answer Score Explanation Year 4 Correct 1.00 Year 1 Year 2 Year 3 Year 5 Total 1.00 / 1.00 Question Explanation DSCR is computed each year as the ratio of the corresponding UFCF over the sum of interest and principal payments. According to the stream of cash flows provided and the schedule of principal repayments the highest level of DSCR is reached in year 4 when it is equal to 1.5. Question 16 Consider the following stream of UFCF: UFCF: y1: 57.5 y2: 58.8 y3: 61.6 y4: 88.5 y5: 89.1 Compute LLCR at year 0, for an outstanding loan of 200 that pays an annual interest rate of 10% and is repaid in 5 years. Your Answer Score Explanation LLCR between 1 and 1.5 Correct 1.00 LLCR above 2 LLCR below 0 Total 1.00 / 1.00 Question Explanation LLCR is computed as the ratio of the present value of future UFCF generated during the entire life of the loan over the total amount of debt outstanding. The present value each UFCF discounted at year 0 on the basis of the interest rate of the loan is equal to 262.32 and the LLCR then equals 1.31. Question 17 Which among the following statements is correct? Your Answer Score Explanation The fact that early in the operational phase creditors generally require a portion of the cash generated by the project is kept inside the vehicle does not affect the IRR of shareholders. To obtain equity financing the project needs to comply with a minimum predefined level of cover ratios, that is set according to project risk. If a sponsor plays a dual role the relevant cash flows to be taken into consideration for the estimation of the IRR should also include any additional profit margin the sponsor can get out of the project as a counterparty of the SPV itself. Correct 1.00 Total 1.00 / 1.00 Question Explanation In order for a project to be financed it has to be profitable for both sponsors and creditors. A project profitability is measured in terms of IRRs on the basis of equity and debt contributions and the corresponding cash flows they are respectively entitled to (i.e. dividends plus any other profit margin from a dual role or debt service). In addition, creditors need also to assess the project financial sustainability on the basis of cover ratios that indicate whether during the life of the loan there is always enough cash in the project to fulfill debt obligations. Question 18 Which of the following statements about Positive Covenants is correct? Your Answer Score Explanation Positive Covenants oblige the project company to do certain things. Correct 1.00 Positive Covenants are obligations forbidding to buy assets or sign contracts not included in the list of project contracts approved by lenders. Positive covenants are obligations forbidding to grant credit or provide guarantees to third parties. Total 1.00 / 1.00 Question Explanation Positive covenants oblige the project company to do certain things. Question 19 Which of the following statements about project company’s covenants is correct? Your Answer Score Explanation They can be defined as the basic obligations only focusing on the repayment by the borrower of the amount due on the agreed maturity date. They are limitations established by lenders on borrowers which the latter must respect in order to draw down the funds made available by lenders. Correct 1.00 They are obligations directly and only correlated to the loan repayment. Total 1.00 / 1.00 Question Explanation A somewhat narrow view of lending activity could lead us to conclude that in a credit agreement the only thing the borrower is expected to do is to pay lenders their dues at maturity. In fact, nothing can change the fact that this is and always will be the primary obligation of every borrower. In a project finance context, however, it is completely normal, and indeed necessary, for the borrower to take on a complex, detailed set of obligations toward lenders that are ancillary to both the obligation to repay and to the financing in general. These obligations may be either correlated to loan repayment (if the project company does not take certain actions, by definition it will not be able to repay the loan at the schedule maturity dates) or required by lenders in order to monitor their credit investment and verify that it is being managed properly. Question 20 Consider a tailor made loan repayment, assume that we are at the end of the construction phase. Total amount of the loan to be repaid is equal to 340 €. Interest rate is fixed at 5%. The repayment is scheduled in four years as follows: Y1 =20% (the end of the first year) Y2 =21% (the end of the second year) Y3 =24% Y4 =35% What is the loan amount repaid by the end of year 2 (Y2)? Your Answer Score Explanation 71.40 € 139.40 € Correct 1.00 83.40 € Total 1.00 / 1.00 Question Explanation Year: 1; 2; 3; 4 % of repaid loan: 20%; 21%; 24%; 35% UFCF: 100; 105; 115; 125 Debt Service: 85; 85; 91.63; 124.95 Outstanding: 340; 272; 200.6; 119; 0 Interest 5%: 17; 13.6; 10.03; 5.95 Principal: 68; 71.4; 81.6; 119 Repaid: 68; 139.4; 221; 340