--- title: "Concept of project finance" subject: "Project Engineering" chapter: 6 key: "semester_7/project_engineering:project-finance-concept" source: https://www.bctengineer.com/q/semester_7/project_engineering/project-finance-concept site: BCT Engineering --- # Concept of project finance Project Engineering · Chapter 6: Introduction to Project Financing - Asked in: 2079 Bhadra, 5 marks - Video: [What is project finance?](https://www.youtube.com/watch?v=X-4u55CNa1g) — Financial modeling - Answer checked by Claude Opus 5.5 (high effort) on 2026-10-14 - Page: https://www.bctengineer.com/q/semester_7/project_engineering/project-finance-concept - Whole chapter: https://www.bctengineer.com/md/semester_7/project_engineering/chapter-6 ## Question Explain the concept of project finance. ## Short answer Project finance is long-term financing of a specific project based on the project's cash flow and assets rather than sponsor balance sheets, usually through an SPV. It has non-recourse or limited-recourse debt, high leverage of 70-80%, risk allocation by EPC and PPA contracts, and long tenor with DSCR checks. Example: a hydropower SPV signs a PPA and raises 70% debt and 30% equity. ## Answer #### Concept **Project finance** is the long-term financing of a specific project (such as a hydropower plant, road or pipeline) in which the lenders and investors look mainly at the cash flow and assets of the project itself, not at the balance sheet of the sponsors, for repayment of the debt and return on equity. A separate legal entity (special purpose vehicle, SPV) is usually formed for the project. #### Main characteristics - **Separate project entity (SPV)** with its own assets, contracts and accounts. - **Non-recourse or limited-recourse debt:** repayment is from the project revenue. - **High leverage:** commonly 70 to 80% debt. - **Risk allocation by contracts:** construction (EPC), supply, offtake/PPA, operation and insurance contracts share the risk among those who can best manage it. - **Long tenor**, often 10 to 20 years or more. - **Detailed feasibility and financial model** with debt service coverage ratio (DSCR) checks. #### Example A private hydropower company builds a 30 MW plant. It forms an SPV, signs a PPA with the Nepal Electricity Authority, gets 70% of the cost as bank loans and 30% as sponsors' equity. The PPA revenue pays the loan instalments. #### Why it is used It allows big infrastructure to be built without putting the full risk on the sponsors or the government, and attracts private and foreign capital. ## Check yourself The answer's key points as multiple-choice questions, with the correct option and why. 1. What is the role of an SPV? A. A government audit office B. A separate project company holding the contracts, assets and debt C. The sponsor's balance sheet D. A bank branch for loans Answer: B. The SPV is a separate legal entity with its own assets, contracts and accounts. (Key point: SPV) 2. What is the typical leverage of project finance? A. 10 to 20% debt B. About 50:50 always C. 70 to 80% debt D. No debt Answer: C. Project finance commonly uses 70 to 80% debt. (Key point: Leverage) 3. How is risk shared in project finance? A. Entirely by the government B. Entirely by the sponsors C. It is not shared D. By contracts (EPC, supply, PPA, O&M, insurance) among those who can best manage it Answer: D. Risk is allocated through contracts to the party best able to manage it. (Key point: Risk allocation) 4. In the 30 MW hydropower example, what repays the loan instalments? A. The PPA revenue from the NEA B. Sponsors' personal assets C. Government budget D. Sale of the SPV shares Answer: A. Revenue under the PPA with Nepal Electricity Authority pays the loan. (Key point: Repayment source) ## Related in Project Engineering - [Project finance sources; capital structure determinants](https://www.bctengineer.com/question.md?key=semester_7%2Fproject_engineering%3Aproject-finance-sources-capital-structure-determinants) — Project Engineering, chapter 6, asked 3× - [Project finance; sound capital structure; factors](https://www.bctengineer.com/question.md?key=semester_7%2Fproject_engineering%3Aproject-finance-features-sound-capital-structure) — Project Engineering, chapter 6, asked 2× - [Sources of finance; ARR, payback, IRR, PI decision](https://www.bctengineer.com/question.md?key=semester_7%2Fproject_engineering%3Aproject-finance-sources-investment-decision-c75) — Project Engineering, chapter 6 - [Finance sources; capital budgeting steps; NPV](https://www.bctengineer.com/question.md?key=semester_7%2Fproject_engineering%3Asources-project-finance-steps-capital-budgeting) — Project Engineering, chapter 6 - [Monitoring vs controlling; EVA concept](https://www.bctengineer.com/question.md?key=semester_7%2Fproject_engineering%3Amonitoring-vs-controlling-eva-concept) — Project Engineering, chapter 4 - [EPS and book value; ABC project Rs 6,00,000](https://www.bctengineer.com/question.md?key=semester_7%2Fproject_engineering%3Aeps-bv-abc-project-600000-b79) — Project Engineering, chapter 6 ## Related in other subjects - [Time cost trade-off concept with example](https://www.bctengineer.com/question.md?key=semester_8%2Fconstruction_management%3Atcto-concept) — Construction Management, chapter 2, asked 5× - [TCTO, crashing and reducing project duration](https://www.bctengineer.com/question.md?key=semester_8%2Fconstruction_management%3Atcto-crashing-reduce-schedule) — Construction Management, chapter 2