Mining projects can consider private debt financing as cost gap is closing
Are the benefits of Private Debt worth the cost as a financing model for new mines, an investment manager asked his audience in his presentation on the first day of the three-day Paydirt Africa Down Under mining conference in Perth, Australia.
Explaining the pros and cons of private debt as an alternative financing mechanims for mines, the Managing Director of Northcott Capital, Mr Nick Martin said this is the “new” new thing in mine finance for projects in Africa.
Whereas up to around 2010, the gap between bank finance and private finance was considerable, Martin argued that the gap is closing fast with the upfront cost of private debt now only 3% more expensive over bank loans.
“The gap between project finance and private debt is closing but it’s not the silver bullet,” he cautioned.
Calculated as a factor of lender’s return, private debt is just 3% more expensive. Furthermore, it allows flexible terms, no mandatory hedging like a bank loan and it allows early cash distributions.
Using a typical $250 million financing structure as an example, Martin said a private debt facility will look very similar to a bank loan. It will have a five to seven year loan life with a senior secured bond over assets. Just as a bank loan, there are fees and debt equity ratios to consider and the funding will require a due diligence.
But the differences between bank and private debt are what provide the mine operator with the real benefits. Private debt allows for more cash control flexibility. It makes provision for a longer grace period and there is no mandatory hedging. It allows early dividends and it usually provides a bigger ticker size.
Since the global financial crisis global lending flows have slowed and this has impacted the available financing for mining projects. Against the background of stricter capital adequacy and accounting rules, banks tend to retreat to their home turf, said Marting adding that the downturn in commodity prices and the growing value of distressed mining debt, leave lenders with considerably lower expectations for returns on mining investments.
Furthermore, there is community pressure for instance against thermal coal.
Institutional demand after the financial crisis have changed since traditional assets only offer low yields coupled with unpredictable volatility. As institutional investors have started diversifying, there is low correlation with traditional assets. One of the ways to overcome low yields is to follow a hybrid financing model where returns are amplified by a so-called “equity kicker.”
Investors are also now placing more weight on the defensive structure of private debt demanding a properly structured vehicle with sufficient security.
Still with his $250 million example, Martin said under a conventional bank finance model, the ultimate liability will amount to $318 million while financing the project with private debt will eventually cost the mine $373 million.
His final advise to mining investors is “Make sure you understand what you are buying. What is the true cost? What are the tangible and intangible benefits? Make sure you run a competitive process and get good advice.”