Interesting piece as usual Jerome. I am surprised to learn that lenders are so inflexible. Presumably there are some extra steps between ‘prices are too low to service debt’ and ‘banks foreclose on asset’. Is there not a payment holiday function, like a mortgage on a house for homeowners in financial hardship?
It's not that they are necessarily inflexible - indeed, project finance bankers can be a quite pragmatic bunch - but it has an impact on existing projects that do default: they go on watch lists, require more supervisions and intervention, possibly provisioning, teams need to be mobilized to restructure and ultimately it may lead to banks taking over the asset - which they then need to try to sell. So default, at the very least, represents hassle and costs and is something to be avoided. Which means that the next round of projects will receive loans on more conservative loans.
The power sector still remembers the multiple bankruptcies of (gas-fired) merchant plants in the US in the early 2000s - massive defaults led to a lot of projects being taken over by banks. Recovering gas prices allowed banks to sell the projects relatively easily and quickly (sometimes even with significant capital gains), so the collective memory of banks as regards merchant is both "oooh, default" and "oooh, we made money in the end" so it's not all negative, but it's definitely colorful. Bur project developers definitely lost their shirts, and they are the ones to decide to do debt or not, so that influences things too.
Great analysis
Interesting piece as usual Jerome. I am surprised to learn that lenders are so inflexible. Presumably there are some extra steps between ‘prices are too low to service debt’ and ‘banks foreclose on asset’. Is there not a payment holiday function, like a mortgage on a house for homeowners in financial hardship?
It's not that they are necessarily inflexible - indeed, project finance bankers can be a quite pragmatic bunch - but it has an impact on existing projects that do default: they go on watch lists, require more supervisions and intervention, possibly provisioning, teams need to be mobilized to restructure and ultimately it may lead to banks taking over the asset - which they then need to try to sell. So default, at the very least, represents hassle and costs and is something to be avoided. Which means that the next round of projects will receive loans on more conservative loans.
The power sector still remembers the multiple bankruptcies of (gas-fired) merchant plants in the US in the early 2000s - massive defaults led to a lot of projects being taken over by banks. Recovering gas prices allowed banks to sell the projects relatively easily and quickly (sometimes even with significant capital gains), so the collective memory of banks as regards merchant is both "oooh, default" and "oooh, we made money in the end" so it's not all negative, but it's definitely colorful. Bur project developers definitely lost their shirts, and they are the ones to decide to do debt or not, so that influences things too.