Special Purpose Vehicles (SPV) have become an integral part and a key link in the implementation of large investment projects under the project finance model, playing an important role in public-private partnerships.
Special purpose vehicle SPV was first surfaced in the middle of first twentieth century, spreading around the world thanks to the global economic transformation of recent decades. Initially, SPV (Special Purpose Vehicle) was seen as a joint venture created by partner companies to implement projects with minimization of financial responsibility and risk. Today, special project companies are widely used in project finance (PF) schemes, financing capital-intensive projects in the framework of public-private partnerships, as well as in various asset securitization schemes.
Typically SPV / SPE is created as a legally independent subsidiary that serves the specific economic goals of the parent company and is fully liable to the debts of a specific project. This solution allows the parent company to reduce the risk associated with participation in a new project with significant investments and a high level of uncertainty (for example, immature technologies). In the broadest sense, any special-purpose vehicle refers to an independent subject of commercial law created to implement a specific business idea. In fact, it is a universal tool for organizational interaction between partner companies in the context of a project.
Having a unique structure corresponding to a specific project, an SPV can operate in the form of a limited liability company (LLC) or a joint stock company (JSC), the shares of which are divided between partners in accordance with their participation.
The choice of SPV structure depends on many criteria resulting from the applicable legal and tax regulations of the host country. This decision of the founders should be maximally adapted to the requirements of the project and its goals. The main advantage of using a project company in the framework of the implementation of investment projects is off-balance sheet financing, which does not burden the balance of the initiating company with debts. These schemes are most often used by private companies, since project finance is associated with a reduction in financial risks for them. In practice, the assets of the parent companies are transferred to a special project company in order to attract financing without risk (capital “isolation”). This approach paves the way for obtaining larger loans against future financial flows that are not tied to the assets of the founders. In addition, the off-balance sheet nature of the debt means that SPV bankruptcy does not lead to bankruptcy of the project initiators.
Currently, special purpose vehicles are widely used for the implementation of expensive projects, including the construction of factories and power plants, water treatment plants, roads and railways, bridges and many other infrastructure facilities.
Havelet Finance Limited offers financing of investment projects through SPV / SPE.
Our financial team is ready to provide professional management of a project company and comprehensive consulting services for the implementation of any business project.
Contact Havelet Finance Limited consultants to learn more about the benefits of working.
Special Purpose Vehicle SPV as the main link in Project Finance
In the 80’s, project finance (PF) has been widely used to implement large investment projects by raising borrowed funds against the future financial flows of the project. This financial model is based on the establishment of an independent legal entity, the purpose of which will be to develop an investment project, raise funds and service debt.
The main characteristics of project finance using SPV / SPE are listed below:
- Generation of cash flows sufficient to repay the principal debt and provide profit to creditors and shareholders.
•Consistent planning of an investment project, regardless of other activities of the parties, which allows predicting the timing of achieving adequate cash flows and comparing it with the schedule for obtaining borrowed funds.
•Complete independence of the project, which is reflected in the special legal status of the project company.
•The financial structure of an SPV is usually dominated by various investor-shareholders interested in the project, including companies other than the original founders.
•The special purpose vehicle owns the assets of the project and manages their maintenance and proper use. An SPV enters into a chain of contracts required for the construction, operation, maintenance and sale of future products or services.
•In project finance, shareholders risk only their contribution to the SPV’s capital, although in most cases various mechanisms are additionally used to ensure the safety of investors.
The PF is characterized by strong initial investments with a small contribution of the initiator (usually 15–35% of the investment) and a long period of project development to achieve the target financial indicators. Also, such projects are characterized by high costs for analysis and preliminary research, as a result of which project finance is applicable mainly for large and profitable projects that can withstand these costs. The PF requires the preparation of an information memorandum or a complete dossier with all the necessary documentation about the project, confirming the attractiveness of the latter for investors and creditors. Our team can arrange project finance from A to Z, ensuring the implementation of your project in the shortest possible time.
General characteristics of a Special Purpose Vehicle
SPV / SPE is a tool created to achieve specific goals set by project sponsors. Such a goal may be the implementation of an investment project or a certain financial transaction (securitization). Typically, the parent company in such cases decides to create a subsidiary that will serve a specific economic purpose and reduce financial risk. The creation of an SPV actually begins with the transfer of certain assets by the project initiating companies. It should be emphasized that a newly formed company always acts as an independent economic entity.
This allows it to leverage the resources it needs to implement large projects without putting the parent company at risk. Special purpose vehicles are also created by government treasuries. In this case, the prerequisite for working on the principles of SPV is the willingness to limit state funding as much as possible and attract funding from external sources, as well as the concentration of efforts on the project.
From the point of view of project financing, the advantages of an SPV include the possibility of obtaining larger borrowed funds in comparison with the parent company. Such lending, which does not depend on the financial background of the borrower (lending without history), is most suitable for young companies with ambitious plans. A special purpose vehicle is especially attractive for companies developing large investment projects. Thanks to this mechanism, it is much easier to win the favor of banks and interest outside investors.
The goal is also to separate the project into a separate company and limit any possible claims that can then only be filed with that company. At the same time, all other companies in the group are engaged in other tasks and are not liable for SPV / SPE obligations.
Reasons to use SPV for large projects
Companies of this type are usually complex structures that combine the interests of many shareholders and operate through complex bureaucratic procedures. Executives, aware of the limitations of such a structure, are actively using special purpose vehicles as highly specialized and flexible tools. Infrastructure projects, investments in the energy sector and mining concessions have long been the domain of SPVs. For non-industry companies, this practice may raise questions about the rationale for capital isolation. However, managers of capital-intensive projects have no doubts: SPV in their case is a business necessity.
Role of a special purpose vehicle in the securitization of assets
Special purpose vehicle means an entity that is legally separate and independent from the initiating company, which may have a different formal status depending on the legislation of the host country. SPV / SPE has an extremely limited scope of activity and is aimed at acquiring rights of claim in obligations and issuing securities backed by the above rights.
These companies are distinguished by a special management structure and special rules for initiating reorganization and bankruptcy procedures. Classic off-balance sheet securitization is as follows.
The originator with a broad portfolio of assets (for example, credit claims) transfers such assets to an SPV. This company will issue securities backed by the transferred assets for the purpose of their subsequent placement among investors. In other words, a special project company plays a central role in securitization, converting low-liquid claims into high-liquid securities purchased by domestic or foreign investors.
It is currently one of the most promising financial instruments in the global market and continues to strengthen. It should be noted that in a number of countries the SPV does not have the status of a legal entity, and its activities may differ significantly depending on the specific market.
Choice of jurisdiction for SPV / SPE establishment
The right choice of jurisdiction for the SPV / SPE establishment is key to the success of securitization and high investment returns. Typically, companies choose territories with a favorable tax climate, stable financial regulations, and low political risk. Also, the host country or jurisdiction should offer low corporate costs and acceptable requirements for share capital and management responsibility.
Considering the above requirements, many companies in recent years have chosen such convenient jurisdictions as the Netherlands, Luxembourg, British Virgin Islands, Jersey, Cayman Islands, as well as Ireland and a number of other jurisdictions. The complexity of securitization and the ongoing expansion of financial schemes and models of its use force businesses to seek the assistance of qualified financial and legal advisers.
Financial market conditions, host country’s legal framework and restrictions, partner requirements and other factors influence the success of securitization. Do you need professional help establishing and managing an SPV / SPE? Are you looking for qualified advice on financial modeling and project finance? Contact Havelet Finance Limited team to learn more about our services.