Project Finance in Theory and Practice
Academic-practitioner treatment with worked deal structures.
Summary
Stefano Gatti teaches finance at Bocconi and wrote this as a treatment of project finance that combines the academic literature with practitioner mechanics. It covers similar ground to Yescombe with more attention to the theoretical justification for the structure and to quantitative modelling.
The theoretical chapters address why project finance exists at all, drawing on the corporate finance literature on agency costs, asymmetric information and debt overhang. The argument is that separating a project into its own vehicle with dedicated cash flows resolves conflicts that would arise if it were financed on a sponsor's balance sheet: it prevents cash flow from being diverted to other uses, it allows a leverage level appropriate to the project rather than the firm, and it makes the project's risks assessable independently of the sponsor's other activities.
The practical chapters cover risk identification and allocation, the contract structure, the due diligence process, financial modelling including the construction of the base case and sensitivity analysis, debt sizing through cover ratios, the valuation of the sponsor's equity position, and the roles of advisers and lenders. Later editions add public-private partnerships, project bonds and the effect of Basel capital rules on bank participation. It is a textbook with worked cases and is used in specialist master's programmes as well as by practitioners.
Key takeaways 7
- Project finance exists because separating a project into its own vehicle resolves agency conflicts that on-balance-sheet financing would create.
- Dedicating cash flows to a single project prevents their diversion to other corporate uses, which is what allows higher leverage.
- Risk allocation through contracts, not the quality of the asset, determines whether a project can be financed.
- Cover ratios rather than leverage multiples determine debt capacity, because the analysis is of cash flow rather than of asset value.
- Sensitivity and scenario analysis on the financial model is the negotiation, since every party argues through the assumptions.
- Basel capital rules changed which lenders can hold long-dated project debt, which shifted the market toward institutional and bond funding.
- Gatti argues that the sponsor's equity return depends primarily on leverage and on construction outcome rather than on operating performance.
Who should read it
Practitioners and students who want project finance treated with both its corporate finance justification and its contractual and modelling mechanics.
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