The role of Insurance with CAP funding for Project Owners
“Trust in God, but tie your camel.” – anon
The ability of any business model to reliably generate project revenues and net income for its partners is key for both impact investing (to deliver measurable benefits to people and planet) and “single bottom line” (profit-only) investing as well.
Why? Well, first, even commodity projects and ventures must earn sufficient net income to sustain operations over the life of the business, the essential “engine” where the business operates, creating jobs, delivering products and/or services that often make a difference in people’s lives. If not, why do it?
How CAP funding is different — the New Risk Paradigm
Traditional project finance (in sharp contrast with CAP funding) also carefully considers the risk profile of a given project before financing can be secured. But with CAP funding, the risk/reward equation is turned on its ear, where the family office partner will take on many of the risks that would otherwise kill or delay traditional deals (if prohibited by the involved underwriters that can slow or stop progress altogether).
The table below captures typical risk factors and expectations for more traditional project funding compared to CAP. Notice any pattern in these differences? Does one different stand out for you?
With traditional funding, any remaining credit risk (debt service coverage and leverage ratios), technology risk, business model risk, or even performance or execution/operation risk once the project begins generating revenue. None of these are an issue for CAP funding. The tradeoff is that we just won’t accept the majority of completion risk.
But if you’re concerned about the guarantee requirement, first review this article about how completion assurance guarantees are key to gaining advantage, including fundamental access to funding that might not otherwise be within reach. The unspoken truth about traditional project finance is that it seems like it should be much easier than it is. The reason for this ties to a human fallacy — we sometimes “fall in love” with our projects and ignore (or simply filter out) the weaknesses that others will spot immediately. In3’s objectivity helps make sure that doesn’t get in the way.
What’s in it for guarantors? Returns on assets loaned and usually a modest equity carried interest. Backers of fully vetted projects in their wheelhouse usually gain above-market-rates of interest on assets pledged and/or bridge loans for bank fee coverage (temporarily turning fixed assets into completion assurance instrument via a bank’s guarantee or endorsement), as well as an equity stake proportionate to their capital contribution. Once the project begins Commercial Operations, the guarantor is repaid plus interest (the family office covers these financing costs on an approved monthly draw schedule), and can include repayment of any higher-APR bridge or construction loans via the family office’s more flexible equity funding. More for prospective guarantors at this Guarantor landing page
The developer may optionally wish to use cashflows to buy out equity interests. We typically reach closing within 30 days of a usable guarantee scenario, with first draw of funds 30-45 days after that.
Insurance is an after-thought to many project developers, who see it as necessary only to address serious risks and hazards, while we’ve found the process of arranging insurance — whatever policy coverage, if any, is justified to support future operational success. This process identifies and then removes (transfers, avoids or mitigates) all known and unexpected risks that have any reasonable chance of impacting a proposed project, its assets and owners.
How In3 CAP funding handles risk differently
Unlike traditional project finance where financiers seek to kick out any and all remaining risks, once commercial/business risk is reasonably low (creditworthy customer/offtaker in evidence), CAP funding is able to accept technology, execution/operational, credit risk (for example, first-time borrowers without 3 years of audited financials are not a problem), process risk (CAP funding can come in before final engineering/design work is complete), development risk (additional steps to and costs to begin and/or complete construction), political risk, currency/hedging risk (yes, we can invest in local currencies other than US$ or Euros), and a host of other risks, if present.
Knowing this in advance helps us form an equity partnership that makes projects investible that would otherwise go nowhere without a lot of additional work. Even then, far too many projects in traditional finance circles do not survive due diligence. Our mission is about
- Construction and installation / completion risk — this is the main area that CAP’s Security partially offsets
- Commercial Risk — Trade or Merchant or Offtake risk, sometimes simply called business risk. The only other area of concern with CAP, over the life of the project’s financial projections.
- Contract Performance — bonding elements
- Political Risk – location-dependent, such as if the project is in a part of the world that uses an unstable currency, unstable politically, or other factors pertaining to the government’s role.
- Management Liability Risk (EL PL/D&O/PI/Crime/Office, etc.)
- Property & Casualty — liability that varies depending on where the project operates
- Site security and Geotechnical risk — earthquake-prone, or subject to other natural disasters such as fire or flood?
- Is the physical site secure?
- Operational (performance) risk
- Advanced Loss of Profit due to either quality or quantity of production, as perceived by or delivered to customers
- Business Interruption and Delay risk insurance
The Underwriters are all “A” Investment Grade Credit Rated as evidenced by AM Best, Fitch, Moody’s and Standard & Poor’s which independently attest to their financial strength, contract certainty, secured claim settlement and stability. By the very nature of the inception, contract certainty and securitization afforded by the proposed “insurance wrap”, the Underwriters’ Investment Grade Credit Rating of “A” will automatically transfer across to the proposed project.
CAP funding does not require insurance, but some of our alternative funders definitely want to know if a project is insurable before due diligence as a way of identifying and ultimately mitigating their perception of risk. This can help expedite closings, as In3 we can work with the preferred underwriter or broker with whom clients wish to engage, if requested.
In addition, some of our funding partners will want to pursue alternative insurance products known to them, for which we would request a copy of the schedule and wording, with any previous client details redacted. Thereafter, In3 and its insurance services provider will work with the client and our funders to source and secure coverage if or as necessary.