Startups working on climate infrastructure projects face a unique challenge: securing financing that can grow alongside their capital-intensive projects. Although venture capital is a common source of funding for early-stage companies, it is limited to those developing asset-intensive businesses. This is where project finance comes in, specifically designed for businesses with significant physical infrastructure requirements.
Wavelength Infrastructure specializes in structuring asset-level financing and connecting these startups with the right capital providers for their growth. In a recent conversation with Petros Lekkakis, the firm’s co-founder, we discussed how project finance works, who it is appropriate for, and, once certain criteria have been met allowing project financing sources to come to the table, why it is often preferable to traditional venture capital.
What is Project Finance?
Unlike traditional corporate finance, project finance is an off-balance sheet financing structure and its providers are focused on the cash flows generated by a specific project rather than the overall value of the company. This strategy is particularly appealing to businesses whose projects have strong revenue visibility (usually in the form of long-term offtake contracts signed with reputable counterparties).
Rather than raising expensive equity through venture capital, which can dilute ownership, project finance enables startups to raise large sums of capital that are directly tied to the success of a single or a group of projects. This capital, although highly structured, is typically less expensive than venture capital and imposes less restrictions on the corporate structure.
Who is Eligible for Project Finance?
Project financing is ideal for asset-intensive businesses that have already demonstrated some operational success. In Wavelength’s view, the best candidates for project financing are startups with at least a demonstration or near-commercial operational facility, as well as an in-house team with experience in project development, permitting, and risk management. The ability to deliver large, complex projects is critical for obtaining this type of funding.
Another important criterion is the offtake agreement. A long-term agreement with an investment-grade counterparty, such as a large corporation like Google or Amazon, derisks the project cash flows and assures investors that the project will be able to generate enough cash flows to cover any project-level debt and clear the project equity’s returns expectations.
The Process: Structuring for Success
Once a startup has the necessary components in place—a scalable project, a strong team, and an offtake agreement—the process of securing project finance usually begins with the formation of a special purpose vehicle (SPV). This legal entity owns the project and related contracts and separates it from the corporate entity. Investors or lenders then invest in this SPV, providing the funds required to complete and operate the project.
The financing structure varies, but usually includes both equity and debt. Project equity investors have returns expectations well within corporate equity at the company’s high-growth stage, which can be enhanced by project debt where applicable, but still require rigorous due diligence and structuring. “There’s a lot of dry powder out there,” Petros said, referring to the availability of capital for infrastructure projects. “But it’s about conforming to what investors need to see in order to get comfortable.”
Pros and Cons of Project Finance
One of the most significant benefits of project financing is that it allows startups to access large amounts of capital without significant dilution at the corporate level. For businesses with a clear path to commercial deployment, this can provide the financial security they need to get their projects off the ground. According to Petros: “Once you’ve deployed projects one and two, you can grow those capital facilities and get financing from the same partner, reducing your financing uncertainty.”
However, project financing is not without its challenges. The minimum equity amount to get project investors interested, given the considerable diligence and structuring required, is usually over $25 million, which may necessitate packaging and committing several projects under development to the specific investor(s). The due diligence process is also extensive, requiring commercial, technical, and environmental analysis, as well as detailed contract reviews and structuring facilitated by accounting firms. Furthermore, project equity investors may require a right of first refusal on future projects until their initial capital facility has been fully deployed, leaving startups with limited options for finding new investors for the immediate projects in their near-term pipeline.
The Bigger Picture
Project finance is about more than just funding; it is about scaling climate solutions. As Petros pointed out, the true value of this funding emerges when a startup demonstrates that its technology works on a commercial scale. This proof of concept could lead to even more funding in the future, allowing startups to expand and deploy new projects.
For green infrastructure startups, project finance is a critical tool for increasing their impact. Wavelength Infrastructure, with its extensive experience structuring and sourcing capital, is well-positioned to guide these companies through the process, assisting them in obtaining the capital required to build a more sustainable future.
