Managing Project Risks: 5 Ways Credit Solutions Can Help

Project finance has become one of the fastest growing asset classes covered by the credit insurance market. Many underwriters are synthesizing the risk engineering expertise of their construction insurance peers to develop a holistic risk view of infrastructure projects, building their capacity to support all clients involved, from lenders and sponsors to EPC contractors and other stakeholders.

Three major markets in Asia Pacific — Singapore, Australia, and Japan — recognize credit insurance as a regulatory capital relief tool to lower risk-weighted assets, while Malaysia and Taiwan have implemented regulatory policy changes that are leading to greater adoption of credit insurance by local banks.

By increasing the sums lenders can commit to a project, credit insurance solutions are proving to be a boon to capital mobilization. Simultaneously, tailored political risk products can also enhance the bankability of project structures. As global infrastructure development becomes increasingly reliant on project financing methods, credit solutions are emerging as an important tool for optimizing risk allocation and accessing better financing.

“It may be known as credit insurance; however, our industries capabilities go well beyond protection. We facilitate access to new forms of capital, helping to drive growth opportunities in both developed and emerging markets,” says Gary Lorimer, Aon’s Growth Leader for Credit Solutions.

Gaps in Risk Allocation

Project delays and failures are often caused by the poor alignment between public and private stakeholders on risk matters and inadequate risk allocation across all parties. This not only creates exposure to risk events that may occur in the future but can also prevent the project from getting off the ground in the first place, by compromising financing efforts.

From potential issues with credit to construction and supply, businesses must fill all gaps in risk allocation across a project’s ecosystem to enhance funding viability.

“Project risks are multifaceted, interrelated and evolving,” says Stephen Taylor, head of Aon’s Credit Solutions in Asia. “Businesses can benefit from leveraging insurance and alternative capital to safeguard their investments and unlock new opportunities.”

Five Key Benefits of Credit and Political Risk Solutions

Credit and political risk solutions offer strategic ways to mitigate potential threats and enhance project bankability.

• Securing quality EPC contractors
  Having credit solutions in place encourages established Engineering, Procurement and Construction (EPC) contractors to take on projects in challenging contexts knowing that they can limit their own financial losses in case of contractual termination or non-payment. In turn, having experienced contractors on board can reduce construction risk and give peace of mind to potential project backers.
• Enhancing valuations for investors and sponsors
  Political risk solutions can protect projects against the negative impact on the value of equity investments because of government intervention. For example, critical contracts, such as concession agreements or export licenses can be insured against the risk of termination or breaches by the host government. Sponsors can leverage political risk insurance to reduce country risk in the long term, lowering internal rate of return thresholds for investment decisions.
• Protecting project cash flows
  Key sources of cash flows for infrastructure projects, such as offtake or power purchase agreements, can be protected through breach-of-contract or non-payment solutions.
• Supporting supply chain resilience
  Insurance solutions can mitigate performance risk in the supply chain, bolstering resilience in a volatile commodities environment. For example, should a pre-paid balance not be returned following a supplier default, insurance can indemnify the financial loss, thereby absorbing any cash flow impact on the project. In a time of rising fuel costs, mark-to-market credit solutions can mitigate financial losses suffered when an original supplier defaults and the new supply comes at a higher price.
• Increasing infrastructure lending capacity
  Businesses can gain access to liquidity by ensuring that risk is managed well. Lenders can use insurance capital – covering the credit risk of project loans and bank guarantees – to increase credit facilities. Contractors can also access surety solutions for guarantees issued in various forms throughout the project lifecycle, from bid bonds and advance payment bonds at the project’s start to decommissioning performance bonds upon completion.

Learning from History

Numerous critical infrastructure projects have suffered huge financial losses that continue to have repercussions. Some controversial examples are: