Sizing the loan: three tests, one answer

A bank runs three tests to decide how much it lends. The lowest answer is the loan, and the model has to say which test it was.

1. Maximum gearing: 75% of total project costs, R554.9m. This is the lender's minimum-equity requirement: the sponsor funds at least 25%, and its equity takes the first loss. It is credit policy, not tax: South Africa has no statutory debt-to-equity limit, SARS's 3:1 safe harbour having fallen away in 2012.
2. P50 cash flows at 1.30x DSCR: on its own, this supports R689m.
3. One-year P90 cash flows at 1.20x, tested period by period alongside P50. P90 is the tighter test whenever P90 CFADS is below 1.20/1.30 = 92.3% of P50 CFADS. Output is 92.5% of P50 but costs don't change, so P90 CFADS runs at about 91%, and P90 binds in 12 of the 15 repayment years. Together, the cash-flow tests support R681m, 90% gearing.

The loan: R554.9m. The gearing limit binds.

That leaves R127m the cash flows could carry. Lent, it would lift the equity IRR to 30.3% and cut minimum cover to 1.30x. Left undrawn, the lender has 1.57x on P50 and 1.45x on P90 against 1.30x and 1.20x targets.

Then sculpting: each semi-annual repayment is set so debt service follows CFADS at a near-level ratio. With the gearing limit binding, that level is about 1.57x, not 1.30x. The term sheet states both: the sizing target, and the ratio the schedule runs at.

A cap can also be the sponsor's own choice, below what a lender would lend. Either way, the documents should say whose cap it is and how much debt was left on the table.

Next: interest and the swap.

Riverbend Solar is an illustrative case study: a fictional deal with no real counterparty.