RISK MITIGATION IN PROJECT FINANCING IN VIETNAM:
FROM LENDERS’ PERSPECTIVES IN THE PRIVATE SECTOR
by
Duong Nhu Hung
A research study submitted in partial fulfillment of the requirements for the
degree of
Master of Business Administration
Examination Committee : Prof. J.P. Gupta (Chairman)
Dr. D.B. Khang
Dr. S. Venkatesh
Nationality : Vietnamese
Previous Degree(s) : Master of Electrical Engineering
Technical University of Budapest
Hungary
Scholarship Donor : The Government of Switzerland
Asian Institute of Technology
School of Management
Bangkok, Thailand
April 1999
Acknowledgement
During the process of this research study, many persons and institutions whose involvement
made this research possible. I would like to extend my appreciation and gratitude to all of
them.
I am very grateful to Prof. J. P. Gupta for his guidance, help and encouragement in assisting
this research. It was he who introduced me to the field of Project Financing and I am very
proud to have worked with him.
I am also grateful to Dr. Do Ba Khang and Dr. S. Venkatesh, for having served as the
committee members. They provided me with valuable suggestions to enhance the quality of
this research.
Outstanding acknowledgements are due to the government of Switzerland for providing the
scholarship that enabled me to achieve the degree of MBA at the School of Management. I

Table of Contents ii
3. Table of Contents ii
List of Tables v
4. List of Tables v
List of Figures vi
5. List of Figures vi
6. Chapter 1 1
7. 1. Introduction 1
1.1 Rationale 1
1.2 Statement of Problem 1
1.3 Objectives 2
1.4 Scope 2
1.5 Organization of the Research 2
8. Chapter 2 4
9. 2. Literature Review 4
2.1 Concept of Project Financing 4
2.2 Parties Involved in Project Financing 5
2.3 Project Financing Structures 6
ii
2.4 Risks Involved in Project Financing 7
2.5 Managing Project Risks 9
10. Chapter 3 13
11. 3. Methodology 13
3.1 Analytical Model 13
3.2 Data 15
12. Chapter 4 16
13. 4. Country Environment 16
4.1 Political Environment 16
4.2 Macroeconomic Environment 17
4.3 Infrastructure 18

Abbreviation 54
22. Abbreviation 54
Reference 55
23. Reference 55
Appendix 57
24. Appendix 57
iv
List of Tables
Table Title Page
No.
4-1 Important Economic indicators of Vietnam 17
4-2 Some indications about the living standards 19
4-3 Summary of Opportunities and Threats of the Country Environment 20
5-1 Investment of the economy during 1996-1997 23
5-2 Summary of Strength and Weakness of Key Partners in Vietnam 27
6-1 Financing details of CSM project 30
6-2 Financing back up of the CSM project 31
7-1 Required insurance in CSM project 45
7-2 Summary of Risk mitigation arrangement in CSM project 50
v
List of Figures
Figure Title Page
No.
1-1 Organization chart of the research 3
2-1 Traditional method of financing a project vs. project financing 4
2-2 An IFC co-financing structure (Clifford Chance, 1991) 7
2-3 Project risk phases (IFC, 1996) 9
3-1 Model for Analyzing Project Financing 15
7-1 Security support for CSM project 37
8-1 Simplified financing structure of CSM 53

In project financing, sponsors usually contribute only a small portion of the capital. The
lenders usually have to provide about 50%-70% of the total investment cost (Clifford Chance,
1991) with limited recourse to the borrowers (sponsors). Meanwhile, they rarely involve
directly in management of the project. As a result, lenders are exposed to a lot of risks.
The needs for project financing, the increasing private investment and the risk exposure of
the lenders necessitate researches in risk mitigation in project financing in Vietnam,
particularly in private sector. On the other hand, not much literature is available in these
issues. Thus, more researches in this field should be done.
1.2 Statement of Problem
This research attempts to solve the problem “How to mitigate risks in project financing in
Vietnam, particularly in private sector?"
1.3 Objectives
• To analyze the country environment of Vietnam.
• To analyze the key partners in project financing in the context of Vietnam with focus on
private sector.
• To analyze the financing structure, risk mitigating techniques and important issues for the
lenders through an in-depth study of a typical case in project financing in Vietnam.
• To make recommendations about risk mitigation for the lenders in project financing in
Vietnam.
1.4 Scope
The research is written from the lenders’ perspectives with focus on risk mitigation in project
financing in private sector.
1.5 Organization of the Research
The first chapter is the introduction including rationale, problems, objectives, scope and the
organization of the study.
The second chapter is literature review, which provide back ground and terminology needed
for the analysis.
The third chapter is methodology that creates the foundation for the analysis.
The fourth chapter is the country environment analysis including the analysis of political
environment, macroeconomic environment, and infrastructure and market opportunities.

2.1.1 Definition
Niehuss (199x) defines that project financing is a method of borrowing funds for a project in
which the lender’s security for the loan is
• primarily based on the expectation that the revenues generated by the project will be
sufficient to service debt incurred for the project;
• and/or a mortgage on the assets of project entity.
The project financing differs from the traditional method of raising funds for projects. In the
traditional method, the lenders look to the overall credit worthiness of the borrower and all of
the borrower’s assets as security for their loan and not the assets and revenues from a single
project. In a project financing, lenders would not have direct recourse to the sponsors’ assets
or revenue but would rely on the economics of the project, project assets, and the revenue
stream generated by the project (Figure 2-1).
The basic principle underlying project financing is to shift the burden of direct debt liabilities
from the sponsors of a project to the project itself.
Figure 2-2: Traditional method of financing a project vs. project financing
(Source: Niehuss, 1999x)
4
TRADITIONAL METHOD PROJECT FINANCING
lender lender
loans loans
Project Project Project Project
Sponsor sponsor Sponsor sponsor Loans
Equity & loan Equity
Special project entity Special project entity
(Joint-venture) (Joint-venture)
Owns Owns
Project facilities Project facilities
Note: Loans are made directly to Note: Loans are made to the special
project sponsors but not to the project entity and not tto the
special project entity project sponsors

several borrowers, each raising funds separately to cover its individual participation in the
venture.
5
2.2.4 The banks
The sheer scale of many projects dictates that the financing will be syndicated. A syndication
of banks might be chosen from as wide a range of countries as possible to discourage the
host government from taking action to expropriate or otherwise interfere with the project and
thus jeopardize its economic relations with those countries. Syndication might well include
some banks from host countries, particularly if there are restrictions on foreign banks taking
security over project assets. The total finance package might involve different tiers of lending:
some secured, some unsecured; some short term and trade related, some long term; part of
finance might be subordinated to the right of other lenders.
Commercial banks might also act as guarantors. For example, where concessional rate
financing is available from multilateral organizations or where export credit finance is
involved, some or all of the commercial banks might agree to issue guaranteed or to open
letter of credit in favor of the concessional rate lenders. The benefits to the sponsors of
obtaining the concessional finance on a limited recourse basis could well outweigh the cost of
paying guarantee fees and commissions.
From the perspective of the commercial banks, this arrangement has the advantage that they
do not have to share the project security with the export credit lenders nor suffer their
interference in accelerating the finance or enforcing security. This might justify the additional
risk taken on under the guarantees, particularly if the concessional lenders would have
required a first priority interest in the security proceeds in any event.
2.2.5 Other actors
The arranger. The bank, which has arranged the financing, and syndication of lending will
normally take the lead role in negotiating the terms sheet and the credit and the security
documentation.
The managers. Managers and lead managers might be named in the documentation and in
any publicity surrounding the launch of the project. They will not normally assume any
particular responsibilities to the borrower or to the other lenders.

• Multinational Company establishes a Joint Venture (PCo) with a local company to
produce cement in a developing country. PCo obtains the government license, enter into
project agreements and an off-take agreement with the multinational company.
• IFC enters into “investment agreement” with PCo, for USD90 m and makes separate
“deposit agreement” with commercial banks for USD60m of the total loan.
• The structure involves no direct contractual relationship between the banks and the
borrower. Under the documentation, IFC retains control of covenant performance,
acceleration and payment; there is no formal agency structure as there would be in a
conventional syndicated loan agreement.
2.4 Risks Involved in Project Financing
2.4.1 Types of risks
Several major groups of risks include
1. Project construction and completion risk, if the project cannot be finished in time, cost
overruns, non-availability of land etc.
2. Operational risk. The main operational risk is that assets do not operate efficiently. This
risk includes
7
• Project performance risk if there are shortfalls in expected capacity, output or
efficiency. For instance: poor management, high cost of service or change in
ownership.
• Technology risk if the project uses new but untested technology, or obsolete
technology
• Fuel, materials risk if the supply of materials, fuel is disrupted, or there are
changes in their cost.
• Human resource risk if there is unavailability or shortage of qualified people, work
force, reliable contractors.
• Transportation risk if the transportation means are not available, changes in
transportation cost.
3. Commercial risk if there are falling demand, oversupply (market size risk), competition of
the import goods, changes in price (price risk) or buyers refuse or delay the payment

to providing appropriate incentives during construction and operation. Efficient risk allocation
occurs where risks are assumed by the party best able to manage them. Projects may still be
financeable if some risks are not allocated according to this principle, but costs-and ultimately
tariffs-will be higher. Sponsors and lenders expect higher rewards for assuming higher risks.
Mobilizing debt is particularly sensitive to having adequate risk management mechanisms in
place. With at-risk debt supplying over half of project costs, achieving financial closure can
be stalled if the risk management needs of lenders are not met.
According to IFC (1996), critical areas for lenders include market risk, non-commercial risks,
insurance arrangements, force majeure provisions, and sponsor and government support
arrangements.
2.5.1 Construction and Completion Risk
Private lenders will not generally accept construction or completion risk. Instead they look to
strong, experienced sponsors for support arrangements and contractors to whom the risks
can be laid off. In addition, the Project Company is providing completion support.
Sponsors deal with completion risk by:
• Using fixed-price, date-certain turnkey construction contracts containing provisions tot-
liquidated damages if the contractor fails to perform (and bonuses for better than
expected performance).
• Taking out business start up and other commercial insurance.
• Building contingency amount into the financing plan.
• Building excess capacity to create headroom to meet contracted output levels in the event
of technical difficulties.
9
Engineering
&
constructio
n
Mature
operation
Early

Market risk is affected by market structure and buyer creditworthiness. Lenders use several
strategies to reduce their exposure to market risk:
• Independent appraisals.
• Limiting debt exposure by controlling the maximum debt-equity ratios
• Sponsor guarantees. Lenders may request partial sponsor support to service the debt
until the project is certified as physically and financially complete (limited recourse
financing) or full sponsor guarantees (corporate financing).
• Escrow accounts. These enable debt servicing to continue in the face of a temporary fall
in revenues. A nine-month debt reserve account was established for the CSM; this
proved useful after the Dong devaluation reduced the foreign exchange equivalent of the
plant's revenues. A debt reserve accounts are usually offshore and denominated in
foreign exchange.
10
• Standby letters of credit. Issued by the purchaser in favor of the project, these serve the
same purpose as a debt reserve account.
• Government guarantees of contractual performance. Where payment risks is due to a
non-creditworthy state-owned entity, sponsors and lenders may request (Government
guarantee of the entity's payment obligations under contracts sinned with the project.
• Government sometimes bundle an existing asset into concession to give lenders more
confidence.
2.5.4 Non-commercial risks
Many projects are heavily exposed to non-commercial and political risk at both the country
and project level. While some risks such as expropriation or convertibility risk apply to many
projects financed by foreign investors others such as payment risk or regulatory risk, are
more infrastructure-specific.
Project sponsors or lenders cannot remove these risks entirely. But several mechanisms
have been used to mitigate them:
• Contractual provision. Specifying "automatic" formulas in contracts or regulatory regimes
for adjusting tariffs in the face of inflation or devaluation (or defining tariffs in foreign
exchange terms) may help to depoliticize tariff adjustments.

• Domestic political events, such as war, riot, sabotage, radioactive contamination, general
strikes, lapses of consent, and changes in laws that affect the project.
• Non-political events or "acts of God," such as natural disasters, fire epidemics, or strikes.
Sometimes a third category of political events occurring outside the country is also
considered (for instance, strikes in a supplier country preventing delivery of equipment on
time).
2.5.6 Insurance Arrangements
Lenders have a well-defined set of requirements for insurance arrangements, but some
difficulties have arisen:
• Contractor controlled insurance. Where the contractor arranged the construction
insurance, ensuring that lenders' requirements were met involved lengthy negotiations
with contractors whose primary concern was additional costs.
• Market capacity constraints. For some risks the cost of available capacity is escalating as
the size of projects increases. Insurance capacity for risks such as earthquake, volcanic
eruption, and typhoon depend on project location, it’s existing risk profile, and
underwriters' exposure in the country or region.
• Change in insurance market. For example, take-or-pay obligations are not being insured,
and insurers have argued that principal repayments should be excluded from debt service
cover because they can be rescheduled.
• Technology risks. Where underwriters consider technology to be untested, no insurance
is provided during the crucial testing period. The solution is for the manufacturer to be
contractually bound to cover what would otherwise be uninsurable.
• Local legal requirements. Although most countries expressly prohibit the placing of
insurance directly outside the country, arrangements whereby local insurers effectively
"front" internationally reinsured pro-rams are usually permitted, with the local insurer
retaining a small percentage.
• Costs. Weighting lenders' requirements against sponsors' desire to contain costs is an
ongoing issue. Delay in start-up insurance in particular attracts high premiums, and
sponsors try to contain costs by keeping indemnity periods low and deductibles high.
• Experience has shown that if insurance issues are discussed early with sponsors,

Project Level
Project Analysis
Risk Analysis
Cash flow protection
Loan security package
Extent Analysis
Sensitivity Analysis
Effectiveness &
Limitation Analysis
1 2
3
HOW TO MITIGATE RISK
IN PROJECT FINANCING?
• Country (or industry) opportunities and threats can affect the project directly (arrow
3) or indirectly through the key partners (arrow 1- 2)
• The strength and weakness of the key partners can directly affect the project
(arrow2).
• Lenders follow the theory described in literature reviews. They would primarily
focus on the project risk analysis, cash flow protection, and loan security package.
Based on the above assumptions, the lenders should focus on analyzing (i) the opportunities
and threats of the country (or industry) (ii) the strength and weakness of the key partners, and
(iii) the risk analysis, cash flow protection and loan security package of the project.
In this research, we will stand in the position of foreign lenders who are considering lending to
private sector in Vietnam. The key partners include:
• Government, State owned enterprises (SOEs), the private companies and the Foreign
Direct Invested (FDI) companies, because they can be the borrowers of the loan (the
sponsor of the project)
• Domestic banks (include foreign banks’ branches), because they can play important role
in supporting local sponsors.
• International Finance Corporation (IFC), if the lenders consider lending to non-state sector

indirectly affect the project? How do country opportunities and threats directly affect project?
How do the strength and weakness of the sponsors affect the project?
Since it is difficult to conduct a large-scale survey to collect detailed financial data of
companies, we will analyze only a typical case to understand the financing structures and risk
mitigating techniques. Therefore, the financing structure and risk mitigation of the chosen
case must cover as much as possible the common features of project financing. After
scanning some large projects in Vietnam, we chose the CSM as the typical case for our
analysis.
3.2 Data
Data was obtained through the in-depth interviews with selected people such as investment
officers of banks, Government authorities such as Ministry of Planning and Investment (MPI),
experts in economics research Institute (ERI) and managers at some large projects,
particularly the CSM project. Data was also collected from the secondary sources:
Government annual reports, Journal, book, and Internet.
15
Chapter 4
4. Country Environment
4.1 Political Environment
Politically Vietnam is a communist country. The Communist Party has involved extensively at
all level of Government. Vietnam has relative stable political system. There are no politically
motivated attacks against government or business. Violent crime is rare, although in a more
difficult economic circumstance theft of property is increasing.
Both the Party and Government commit to continue the reform, especially in the field of
privatization, improving data transparency and government administration. However, the
implementation of reforms faced several problems. First, it is the weakness of the
bureaucracy. The bureaucracy lacks a public service ethic, and is hampered by vested
interests, which result in a lack of consistency in policy implementation within and between
departments. There is also high level of corruption. The collective decision making process
often acts as constraint on the speed with which decisions are made. Taken together, such
problems make it difficult for the government to steer the country rapidly in any single

10,97
0
11,10
0
11,74
5
13,30
0
14,70
0
15,19
0
16,30
0
17,64
0
Prime rate %/year 28.3 28.3 28.3 16.8 19 23 20 18 16 15
Population Mn 71 72.5 74 75.4 76.7 78.1 79.5 80.9 82.3 83.7
Labor force Mn 32.7 33.7 34.6 35.8 36.8 37.9 39.1 40.3 41.5 42.8
(Source: EIU, 1998. 1998-2002*: Forecasted by EIU)
4.2 Macroeconomic Environment
The following analysis is based on data in table 4-1.
4.2.1 Economic growth
GDP grew strongly at 8-9 percents annually during the period between 1993-97. The growth
slowed down in 1998-99 because of the affects of the regional crisis. However, the GDP is
expected to increase in the year 2000 when the regional economy is recovered.
The gross fix investment, which come from government budget, state owned companies,
private sector and foreign direct investment, was above 10 percent of GDP during the
economic boom 1993-97. The gross fix investment fall sharply in 1998 but is expected to
increase again when the foreign investors return to the region.