Features of a cash flow waterfall in project finance - Corality

FEATURES OF A CASH FLOW

WATERFALL IN PROJECT
FINANCE

21/07/2014 14:37

BY NICK CRAWLEY
Contact Nick Crawley
(mailto:nick_crawley@corality.com)

25 SEPTEMBER 2008

The cash flow waterfall ensures that each cash flow item occurs
at the correct seniority to other items. This tutorial outlines key
categories of cash flow items and how to present the cash flow
waterfall in comparison to the cash flow statement in a project
finance model.
In project finance, a projects cash flow is summarised using a cash flow waterfall, which
shows the priority of each cash inflow and outflow. The cash flow waterfall ensures that
each cash flow item occurs at the correct seniority to other items. The cash flow waterfall
becomes especially important when illustrating debt repayments of many debt tranches
with reducing seniority.

Cash flow waterfall categories

A cash flow waterfall is simple in its approach, as all cash flow items are placed in the
order in which they occur. The main categories of a cash flow waterfall, in order of
occurrence are:
Revenues: Operating revenues and other income
Expenses: Operating expenses and capital expenses
Tax
Debt service: Principal repayments and interest paid
Distributions
Net movement in cash balance

Key summary lines of cash flow waterfall

The cash flow waterfall is used to calculate key cash flow lines, which are used in
different parts of project finance modelling. Key lines of the cash flow waterfall are:
Cash flow available for debt service (CFADS): (/training/learning/bloglist/blogs/september-2008/cfads--cash-flow-available-for-debt-service)This is the
most significant line which drives all debt repayment calculations and ratios, including
debt service coverage ratio (DSCR) (/training/learning/blog-list/blogs/september2008/dscr--debt-service-coverage-ratio), project life coverage ratio (PLCR)
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(/training/learning/blog-list/blogs/march-2009/plcr--project-life-cover-ratio) and
loan life coverage ratio (LLCR) (/training/campus/blog-list/blogs/september2008/llcr-loan-life-coverage-ratio)
Cash flow before funding: This line is useful as a quick check against funding, to ensure
that initial construction costs are being met by debt or equity
Cash flow available for debt service reserve (or other reserve) account (DSRA)
(/training/learning/blog-list/blogs/september-2008/cfads--cash-flow-available-fordebt-service)
Cash flow available to equity to calculate distributions
Net cash flow
Screenshot 1 is a high level illustration of a typical cash flow waterfall. Each category will
be separated into individual line items, such as individual operating costs.
It clearly shows that by going down the page, you are able to identify the timing and
seniority of each cash flow and the highlighted key cash flow lines.

IMAGE 1: CASH FLOW WATERFALL PRESENTED IN A PROJECT FINANCE MODEL

Comparison of a cash flow statement and a

cash flow waterfall
Grouping of cash flows
The cash flow statement presents information in three key categories: Cash flow from
operations; cash flow from investing; and cash flow from financing, which are standalone
from one another.

Seniority of cash flow items

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The cash flow statement does not order cash flows in order of seniority, thereby making it
less efficient when analysing a projects debt repayment ability. The cash flow waterfall
clearly shows the amount of cash flow at each level as described in the term sheet.

Investors or financiers?
The cash flow statement provides information that can be readily analysed from an
external investors perspective, whereas the cash flow waterfall provides information that
can be easily analysed by the banks.
Screenshot 2 is an illustration of a cash flow statement. When compared with the
structure of the cash flow waterfall in screenshot 1, the differences are easily identified.

IMAGE 2: CASH FLOW STATEMENT SUITABLE FOR FINANCIAL MODELLING OF CORPORATE

FINANCE TRANSACTIONS OR ANALYSIS

Points to consider in cash flow waterfall

modelling
The term sheet specifies the seniority of certain categories, such as
reserve accounts.
The addition of an annual cash flow waterfall significantly improves the usability of the
model, as it facilitates analysis at a high level. This is efficiently coded using the SUMIF
formula based on calendar year, financial year or operating year.

Ensure that debt is being repaid according to seniority of the tranches.

This is especially important in downside sensitivity or scenario analysis, where the
operating cash flows are highly stressed.

The cash flow waterfall is used to calculate the net movement in the cash
balance and also the cash closing balance.
Adding an integrity check to this line that indicates whether the closing cash balance (or
balance carried forward balance C/f) is negative is a critical component of a complete
model. If this integrity check is not added, a project can appear to be funded by a
negative cash balance which is not a realistic scenario.

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