(Happily) Disrupting Mid-Market Project Finance with CAP Funding

The long and challenging process of securing “impact” capital just got easier.

The traditional approach to project fundraising can be expensive and fraught with more than a few pitfalls, most of which go unnoticed until far too much “sweat equity” has been poured in.  This “pain” has been happily disrupted thanks to a next generation system and committed Family Office investment partners that deliver a radically improved alternative.

The top reasons “greenfield” (new) mid-market project finance can be so challenging:

1. It requires roughly as much effort to finance projects that require just $2 million as it does for $2 billion, so most of the capital and attention goes into larger projects. The middle market gets ignored or at least typically has to wait in quite a long line.
2. No standard process, measures, or evaluation criteria for pre-qualification or due diligence.  Definitions of “shovel-readiness” vary widely, for example, and some investors only recognize deals they don’t like, not ones they would fund with certainty.  This leads to a series of “big nasty surprises” and often significant delays (or kills the deal entirely) that crop up later during investor due diligence.
   Even when traditional project investors are willing to put in the time for vetting ahead of entering due diligence, they do not have an end-to-end process that allows both parties to adequately “test the waters” before diving in.  In3 does.  Once pre-qualified, In3’s project finance becomes more like science than the seemingly random interpretations of what constitutes an investible project.
3. Risk evaluations are often based on past experience (the fear of letting history repeat itself, aka emotional learning) rather than more objective, evidence-based standards.  Diverse investor styles, investment theses and acceptable project risk/reward metrics (many open to interpretation and conflicting opinions) make risk evaluation irrational and unpredictable. Instead, we eliminate most of these concerns and focus on aligned incentives as true equity partners — the project’s ultimate performance over time benefits all the owners, so selectively managing only the risks that matter (for us, that’s mostly the risk of non-completion) radically changes the game.
4. Some innovations and entire impact industries are relatively young and generally not trusted to perform (for example, new waste streams that can be profitably converted into products-of-value are arriving and maturing, but still often seen as pariahs or “overblown” before they start to prove profitability and then suddenly become popular for different reasons), so without industry standards or established comparables yet for addressing certain “wild frontier” opportunities, developers don’t have a  referenceable performance target.  This reminds investors of their prior failures, AKA ‘chasing unicorns’, and their inability to adequately assess the possible downsides (ghosts of the past), not what is actually being presented, so they find fault in the developer, the deal, or the sector itself, while the project innovator gets taken for a ride — wasting precious time — without benefit to them.
5. Few established standards for meeting investor legal compliance expectations (beyond the basics of accounting rules, with measures like anticipated performance/efficiency as IRR, leverage ratios and securities laws).  This results in an endless array of “jump over the moon” requirements to get through due diligence and reach closings at reasonable terms, or in reasonable timeframes, which tends to frustrate everyone and wastes precious time.

Left unaddressed, these traditional project finance challenges make securing funding a very slippery slope.  This is especially true for newer developers, or startups seeking to use project finance methods, or for those working in emerging markets or industries, even when proposed projects are quite close to “shovel-ready” status.  Traditional project financiers rely on too much unsupported opinion (unfounded fears that certain things could go wrong, despite the numbers looking good), often impose unworkable/impractical risk mitigation requirements, or other subjective interpretations that make the “success criteria” hard to predict and even harder to meet.

If there’s an offer to fund at all, typical fear-based (“adjusted”) terms can be unreasonable, as the investor expects control to make up for their fear, uncertainty and doubt (FUD).  Capital raises can be quite a dizzying exercise in tail-chasing, even for those who have done quite a few deals.

Recent examples of this insidious pattern in the waste-to-value sector (though the principles apply to any industry that involves fundamental innovation or where the best practice standards keep evolving) showed that project due diligence simply never ended.  It dragged on for literally years.  Some types of proposed WTV projects, such as those involving “biochar,” or almost any new technology innovation, or where the economics relied on avoided cost models (tipping fees for landfills, for example), became the dust bin where good, reasonably safe and profitable projects went to die.

More mainstream arenas like utility-scale solar and wind power projects are the opposite of this, and much more commoditized, but with offtake rates going lower in a competitive marketplace, the developer gets squeezed as IRRs become untenably low, making major component pricing, EPC fees and other marginal cost factors maker/breakers.

In3’s innovation: Radically improved funding certainty

In3’s funding model, by design, favors new entrants that bring sufficient talent, integrity (especially the “grit” part) and persistence to see it though.  They also bring a completion guarantee, which is our not-so-secret sauce that enables advantageous terms and forgiveness in many or most other areas that would otherwise seem woefully lacking to traditional investors.

Both impact investors as well as traditional project financiers expect developers to “do their homework” and fully bake in all risk mitigation before taking the proposal to capital markets. They usually won’t provide constructive feedback about perceived risks that should have been handled before showing up … they just politely pass.

Why such an unforgiving process? Because they can. Investors want what they want, and they bring the checkbook, so …. this playing field is not level.  This is both cultural and born of pragmatism. If the investor’s goal is to place capital in as many strong, profitable projects as they can, then it is about efficiency at an acceptable level of perceived risk (read:  low enough).  The “no-brainer” decisions will get made long before those that require nuanced reasoning or more work on their part.  Call them “lazy” or “conservative” or whatever you see as a sign they are often much more risk averse than reward- and/or mission-driven, and you’d be right.

The effect of the tried-and-true approach (historical performance as the key metric) is traditional investors taking the “cream off the top” of the market, again working with mostly the incumbent (larger) developers.

In fact, there’s very little tolerance by investors for doing more work than other, similar projects would ordinarily require, and on par with similar risk/reward profiles as discovered during due diligence.  Many deals are screened out immediately with very little time initially allocated to take a more careful look or consider possible solutions.  For our part in this, at least, we usually offer advise on steps to take before coming back to the table rather than just saying (as so many investors do), “Pass.”

Why this funding program is desperately needed now, more than ever

We need to work together to innovate, as quickly as possible, to solve so many problems facing our society, from climate change to preparing for the next pandemic, to addressing the imperative for health, livable wages, justice, … all the United Nations sustainability goals suddenly in line with living in the “real world.”  Even wealthy people would admit (aside from political bias/ignorance) the time to make meaning, money and live according to espoused value is now.

Rather than asking “is climate change real and manmade” the discourse has shifted to “how many years do we have left to make a difference?”  With climate change looming, and getting worse (some would say we’re already in the midst of a “climate crisis” or “climate emergency”) we can no longer tolerate such unpredictability.  We longer have time to waste.  Easy to make this declaration, perhaps, because we also happen to have discovered a solution.

Too many qualified proposal are still being left on the cutting-room floor and never even make it to due diligence let along through to closing due to these and several other factors, such as the “rush” happening now that COVID’s tail end may be in sight, the heat is on for quality infrastructure projects (including and especially renewables and anything else that can cut carbon emissions), while project scale and capital requirements continue to climb higher.

But can all risks be mitigated?  Do they need to be?

No and no.  Projects are usually subject to a number of technical, environmental, credit, and/or commercial (business/economic) risks. In most developing countries and emerging markets add in some degree of political, currency, or legal risk. Required risk mitigation includes providing proof that all essential contracts are in place, especially long-term Power Purchase Agreements (for assets that generate power), or a strong case for reasonable spot power pricing at the point of offtake.  Some capital providers (such as our partners) have worked in both developing and developed markets and focus on project completion, because no matter the commercial or operational risks, the project funding must be properly used and the team responsible for building and commissioning the project must do their job or there won’t be a operating asset at all.

Out of an abundance of caution, some investors seek elaborate third party reviews (technical, financial, legal) before writing the check.

“Several long-term contracts such as construction, supply, off-take and concession agreements, along with a variety of joint-ownership structures are used to align incentives and deter opportunistic behaviour by any party involved in the project.”^[1]

Our partners do not require such detailed, third party analyses, or “vetting.”  Instead, we can accept an unusual level of uncertainty and risk with proper assurance of completion by non-fraudulent teams.

Making a project easily financeable, including for those who have not already proven themselves as developers, or who otherwise have invested all available resources to get to the current state, is in everyone’s best interest, so we developed a program that enables a high degree of rationality, virtually eliminates any subjectivity on our part, and is at once systematic and trustworthy because of a pre-qualification step that serves as a “no fault zone” for gaining access to quite flexible and patient capital.

We use accept guarantees instead of requiring a senior debt lien as collateral.  We bring deep industry experience to minimize the need for explanation or lengthy business plans, detailing the market, the technology, the value of the opportunity to finance 100% of the project at almost any stage (beyond just an idea), which also greatly streamlines the work.

But we have taken it one step further:  a partial financial guarantee system that provides a win-win for the investor while improving the terms, relaxing the conditions, and accelerating closings for developers.

What’s trust got to do with it?

The traditional project finance mindset asks for proof, and does not “trust” what could be proven, reasonably assured, reliably or demonstrably predicted.  It evaluates not the average case, but the worst case, and is thus extremely “conservative” and at times remarkably lazy.

One of our partners observed that project finance is essentially about monetizing contracts.  Too simplistic?  Perhaps, but while traditional project finance looks at debt/equity ratios, new technology risk and unproven developers and/or business models as roadblocks, we take issue with none of that.  Our funding uses a different design and upholds a refreshing set of cultural shifts that make funding more feasible, more often.

Traditional funders seek efficiency and are risk averse in ways that tend to filter out fundamental innovation.  This is somewhat endemic, or even cultural, … the nature of the beast … with notable exceptions for repeat developers with more cookie-cutter projects (after the first few closings, similar projects enjoy the simplicity of “wash, rinse, repeat” where only the site and local conditions are scrutinized).  In sectors that are less ubiquitous, despite the promised upside and enthusiasm “normal” business people and venture capitalists would feel, traditional project finance is insidiously slow or out of reach entirely.  There are often “special circumstances” involved, such as when the project developer or sponsor faces any or all of these common challenges:

1. 1. Project requires 100% funding because the developers have put in all or nearly all available cash.  And/or the developer has less experience in this sector — just starting to build projects in the selected industry with a new team.  Often project financiers won’t support new teams — they require an extensive track record and history of success with a substantial installed base.  We don’t.
   2. Further development steps are required — the project isn’t yet “shovel ready”
   3. Developer desires to accelerate and/or rapidly build an entire pipeline of projects.  Even when developers are in a rush, we reliably reach financial closing in 30 days or less, while conventional project financiers tend to go slower when developers show up with a sense of urgency.
   4. Developer or owners require control the project assets (desires to maintain majority voting rights)
   5. Developer wants to retain majority equity carried interest — though, in practice, with CAP funding, the equity split is on a case-by-case basis, and does depend primarily on the amount of guarantee coverage (subject to good faith negotiation), generally speaking, the larger % of guarantee coverage will enable you to retain more of the project’s cashflows. More guarantee coverage means a decreased request for our partner’s equity carried interest. Talk to us about this point as part of our procedures and qualification “essentials”.

The traditional route can thus be quite difficult to gain acceptance of otherwise well-formed proposals if an expected contract is missing or weak. This alone can kill the deal. Although thinking is allowed, the belief is that it should not be required.  Why?  Because certain risk exposures lead decision makers directly to “analysis paralysis” — which will cause them to evaluate the nuances and edges in a given proposal.  When that happens, the decision makers (check writers) will often give up without trying to solve underlying problems, or make the front-end effort to make a “creative” arrangement work (much more common in venture finance, once the value of an enterprise is apparent), especially so if they are otherwise busy people.  By contrast, although no less “busy” these days, have honed a cookie-cutter template that constitutes a strong, faster, easier and ultimately simple approach to bypass the need for a bulletproof file.

The goal is not “bankability” … it is financeability

Often we hear “If we had done all that, we wouldn’t need your money!” That’s evidence of a misunderstanding. We’re not seeking up-front payment, collateral or loan guarantees.  We do not expect any further collateral once the project reaches commercial operation.  We only require at least some form (3 options so far, outlined here) of surety that the project funding will be used as arranged, that the developer is non-fraudulent (and held accountable accordingly) and that the team hired to build the project will see it through to completion.  If that seems like too much to ask then we have no problem concluding our funding is not a fit.

The available sources of capital rapidly taper off as perception of risk increases.  The riskiest project is one that cannot reach Commercial Operation Date (COD) for whatever reason.  That’s also known as a one-way ticket on the not-so-good ship, Mis-Adventure Capital.  It rarely makes a return — at best a fire sale.

If a project is entirely bankable, with a substantial contribution of equity from the owners, and the sponsors or developers have access to affordable credit, then use it!  Consider our offer of project equity to give the bank further comfort, and possibly lower your borrowing rates of interest.

But why limit your options to only those few investors that tolerate avoidable risks? Wouldn’t you rather be able to pick from a known provider than be bothered to even approach unscreened investors that you’d probably rather not work with in the first place?  Most or all of them will offer less-than-favorable terms, while we can pre-qualify and offer terms and conditions that will be honored with a quite modest margin of error.  T’s & C’s are one thing, … reliability and predictability (the need for certainty in these highly uncertain times) is quite another.  Our promise to you in stating that In3 funding is “better than the traditional path” includes an integrity check — we will not overpromise; we “tell it like it is” from the start.

In fundraising, private sources that specialize in mid-market projects using non-bureaucratic processes offer far better terms, easier qualification, and faster closings than commercial banks.  But that isn’t saying much.

Estimates are that 95% or more of all proposed projects never receive their required funding. Why is that? Take out a good number of them because they are not well designed, or won’t make enough money to justify the capital costs (are not financially feasible), or are not well enough prepared, but the more common (and preventable) reason is often due to substantial gaps between investor expectations and developer qualification.

In3 exists to help close that gap and offers a series of simple steps to first pre-qualify (provide the appropriate transparency to take the mystery or randomness out of the process) then get a fast yes/no response.

Doing the same thing over and over without learning or succeeding is simply a waste of time. Time none of us have to spare.

Practical Advise on Securing a Sponsor or Backer to Guarantee Project Completion

The best approach is to involve a backer or “sponsor” as the guarantor, which raises the immediate question of what’s in it for them? You might have to offer him an “enhanced” fee, adding that incentive to capital costs. Or offer a modest percent of equity carry (rights to cashflows) in the operating project for a period of time.

The important thing to understand, both for yourself and for any backers, is how completely safe it is to guarantee a project when the developer (that’s you) isn’t fraudulent. What happens if the project pre-construction or construction runs into an issue? What if … something catastrophic happens that keeps the project from proceeding? The parties work together no matter what happens to complete the project.  If necessary, no matter how unlikely it may seem, perhaps that will mean a different site, different project or even a different team would be needed to complete the project. One way or the other, it will be completed so the guarantee will not be called or cashed.

As extra assurance of this, a lien could be offered to the backer to “securitize” the project, in effect, using a pledge of the operating assets as collateral so that, if lightening did strike, and the developer defaulted (failed, went bankrupt), the guarantor would have rights of asset ownership that would offset the value of the blocked instrument used as a guarantee.

In any case, point is that we will not call the instrument – that is an absolute last resort only in case both the developer and the hired contractor(s) conspire to run off with the money, instead of completing the project, following a long cure period. Even then, we never have called an instrument and definitely do not want to start now, as that would ruin this track record (it would also make us look awful in the eyes of our bank … a negative reflection on all of us), so the backer might need to ask someone on their end to pool their assets to make the guarantee possible. We’re also building a similar pool of assets pledged for this purpose, highlighting a set of high quality projects that have been fully vetted and are ready for our funding.

This CAP funding program is well proven and safe per international banking rules since 2010.

It doesn’t work for all situations or all developers, of course, and might not be worth the trouble of getting others on board. Why is that?  There is a natural defense mechanism against new ideas – anything innovative is initially seen as a foreign “mutation” and not immediately even worth considering (to do independent review) before rendering judgement. Such innovations are seen as threatening to conventional wisdom, as somehow conflict with the established body of thought and expectations about how things must be done, and thus often viewed with sharp skepticism.

We thus invite people who are new to CAP Funding to bring their skepticism with them, ask penetrating questions, and figure out for themselves if there is a fit. Only a few inquisitive types will choose to engage in learning enough, seeking out and verifying the facts, to make up their own mind. Snap judgements are much faster and easier. Because of this, a lot of doors are shut from the start, leaving significant value on the table. Once properly informed, however, we have had great success with funding projects globally that would otherwise not have access to funding at all.

We realize such innovations are not for everyone, but that said, do not accept the first “no” … keep going! If not the backer you already have in mind, consider finding an alternative party (EPC firm, General Contractor, OEM or third party asset owner) that is well enough established that they can afford to tie up an asset during construction and yet not so large that they’re closed to new ideas or culturally predisposed to testing innovative programs that could, if they were able to wrap their heads around it, increase their business and margins substantially with no net increase in risk exposure.  If necessary, ask for our presentation materials to help achieve this, assuming your project otherwise qualifies.

Summary & Conclusion — Challenges Solved

1. Radically improved funding certainty – we know extremely well what our partners want to finance, and their likely terms & conditions.  We can usually get a binding offer in 2-3 weeks once we submit the pre-qualified package.

Problem solved:  Project finance is typically a long, challenging and expensive process.  Most financiers won’t know how long they will take, and will usually express initial enthusiasm but then fall apart when they find undisclosed issues.  And because they won’t be criticized by their employer for NOT funding something, there’s an incentive to keep digging until they find a fatal flaw.  Not us.  We find a way to make it work!

2. Better and more flexible terms than most traditional project financiers can offer – 3% fixed APR for the life of the loan (up to 20 years), with a minority equity kicker, up to 100% of the project’s finding (we do not rely on traditional equity-to-debt or leverage ratios), but with no need to give up control.

Problem solved:  This solves the problem of under-capitalized developers who have already put in nearly all their available cash.  We ignore debt-to-equity, liquidity, and debt service coverage ratios.  We can deliver a binding offer within 30 days without any application fee, no due diligence costs or up-front fees.

3. The need for speed — In3 CAP delivers your funding, faster:  reach closing in as little as 30 days, with first draw of funding 30-45 days after that.

Problem solved:  Banks and institutional funders regularly take 6-9 months to deliver first funds.

4. Completion surety – we ask for a party to bring a Completion Assurance Guarantee, that is one of several types of acceptable financial instruments designed to get the project completed and commissioned for commercial operation (reaching the “Commercial Operation Date” or COD).  This means that all the funding needed to finish any remaining development costs and then build the project would be pre-approved and also completely guaranteed.

The most widely used strategy for this is to ask the General Contractor or well-established EPC firm to bring the guarantee through their bank (as a BG/SBLC) or with their bank’s consent for an alternative, company-issued (not bank-issued) instrument that has been easier for some clients.  Selecting the right type of guarantee.

Problem solved:   Disputes between the developer and construction firm that get in the way of completing the assets.  We can authorize additional funds, if needed, as conditions warrant increased costs, filter out fraud, and shorn up the challenge that other project investors face, being “under water” during the construction phase, when all the money is going into the project but there is not yet any revenue.

The middle market remains ripe for rapid growth but with so few developers succeeding at financing their projects, even after unfathomable amounts of work and preparation, greater efficiency was needed. We deliver that missing link via our innovative structure, personalized service and billions in available capital, providing a straight shot with project completion surety as the ticket to “get there from here.”

A few useful links:

• A cover letter synopsis of In3’s funding program’s structure and basic terms.
• Description of how it works or request our video showing the process more visually
• We use a set of Six Essentials captured via an available worksheet or directly entered into our tracking system at in3finance.com/register
• Impact Capital — Opportunities to solve problems we all face
• February 2021 interview online by Companies for Zero Waste, topic:  “Greta Thunberg, HH the Dalai Lama, and scientists discuss urgency for natural climate solutions; now’s the time to develop, implement and scale, clean, sustainable, circular solutions; here’s how… (more)

¹ Reference: Marco Sorge, The nature of credit risk in project finance, BIS Quarterly Review, December 2004, p. 91. BIS is the Bank for International Settlements (BIS) is the world’s oldest international financial organization.