Project financing gif
Seyed Roohullah Razavi is a legal and contractual expert in Iranian Offshore Engineer- ing and Construction Com- pany and a member of Energy Capital Corporation Group. Mr. Razavi graduated from Imam Sadiq (as) University in Islamic studies and financial manage- ment. He also interested in multidisciplinary studies of in- ternational contracts especial- ly in oil and gas industry and has professional experience in Shari’ah-compliant project financing.
more than US$ 1 trillion for energy projects between 1996 and 2006. This represents 60% of total project financing in this period. Most Muslim countries have enormous infra- structure needs that could be organized and financed using private-public partnerships (PPP), which are derivative of project finance methods. Using the PPP approach helps Mus- lim governments counter budgetary shortfalls and develop infrastructure projects by involv- ing local or foreign private investors in each project. Cash flow generated from project performance services the debt or capital of the private investor. Eventually, the title of the project is transferred to the host government.
makes sense. It offers some cost advantages to projects where big volumes of capital are involved.
Shariah-Compliant Project Financ-
ing Matters
We have established that project finance is at the core of today’s oil and gas industries. This will help us explain why Muslim countries should be putting more emphasis on project finance. Given Islamic regions are the main hotbeds of the oil sector in particular, it surely stands to reason that they should be making more use of shariah-compliant project finance. By doing so they could further increase the already incredible amounts of oil wealth they already enjoy.
As above-mentioned the energy sector heavily relies on project finance to meet infrastructure needs. According to Thomson Project Finance International Database, project finance raised
As alluded to above, Muslim countries are the central powerhouse of the global energy sector. Between them, Saudi Arabia, Iran, Iraq, United Arab Emirates and Kuwait have approximately 63% of the world’s oil reserve and are responsible for 27% of global oil pro- duction. These five countries, as well as Qatar, Oman and Bahrain, are trying to develop their hydrocarbon resources and therefore need plenty of capital for the development of these projects. Iran is planning US$ 150 billion of new investment in oil and gas upstream and downstream projects over the next five years. Saudi Arabia estimates it will invest US$ 90 billion in domestic power generation over the next 15 years. Other states in the Persian Gulf are investing heavily in infrastructure projects especially petrochemical plants. There will be growing demand in Muslim countries, espe- cially in the GCC region, to invest in infrastruc- ture projects, particularly energy ones. Hence the urgent need to ensure project financing can be implemented with the highest degree of conformity to Islamic jurisprudence. The main issue is with the ratio of Islamic facilities to conventional financing amounts. Another is the structuring of financing plans in a way that makes Shariah-compliant project financ- ing more attractive to commercial banks. A list of some projects financed based on Islamic jurisprudence during past years will be deliv- ered at the end of this article.
Features of Project Finance
In order to understand how project finance can facilitate major infrastructure projects in Islamic countries, we must first concentrate on the following features of project finance:
• Assets and liabilities of the project com- pany do not appear on the balance sheet of sponsors. Hence, project financing is also referred to as off-balance sheet financing. Project financing, unlike cor- porate financing, deals with one specific project rather than financing several projects simultaneously. • Project Financing is also referred to as non-recourse financing. This means that all claims, including interests and loan repayments, shall be paid only through cash flows generated from the perform- ance of the project company. Unlike
corporate financing, in which financiers can claim against sponsors’ all available assets, project financing financiers rely solely on the cash flows and assets of the project company itself. • Project financing provides extreme trans- parency with respect to the cash flow of the project. In corporate financing, it’s possible to completely distinguish be- tween cash flows generated from differ- ent projects due to the commingling of all assets and cash flows. • A high level of transparency in project financing enables financiers to easily monitor all cash inflow and cash outflow of the project. Based on this, all involved parties can enter into detailed mecha- nisms like cash flow waterfall contracts and project accounts in order to specify precisely how project cash flows should be disbursed. Such mechanisms provide all contracting parties, especially finan- ciers, with related information concern- ing day-to-day business operations of the project company. This characteristic reduces agency costs in project finance and secures project performance against all inherent risks associated with devel- opment of project. • The risk-minimisation process used in project finance typically involves three steps. Firstly the financiers undertake risk identification and analysis, then they move onto the risk allocation stage, be- fore lastly invoking a risk management structure. Risk identification and allo- cation in particular are key elements of project finance. • Many project schemes are effectively state-backed. Such projects are often sources of controversy, with experts frequently directing a number of criti- cisms their way. These criticisms usu- ally include allegations that government- backed projects fail to transfer risk to the private sector, as well as accusations of conflicts of interest.
Such features of project finance are in line with an important Islamic Finance principle decreeing all technical, financial, commercial and economic information regarding project performance be circulated for all contract- ing parties, among which financiers have an essential role. On the other hand, in accord- ance with Islamic jurisprudence, financiers should have enough unequivocal information about the subject matter of their financing. It doesn’t mean that corporate financing cannot be compliant with Islamic finance principles; it simply shows that project financing is more suited for adherence to Islamic Finance’s in- formation sharing principle. Therefore, project financing structures provide better situations than corporate financing, in terms of observ- ing the prohibition of Gharar in transactions based on Islamic jurisprudence. Limited or non-recourse characteristics of project fi- nance make financiers more active with re-
2010 June GlobalIslamic Finance 13
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