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Impact of COVID-19 On Project Financing
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Impact of COVID-19 On Project Financing

The impact of COVID-19 (coronavirus) cannot be miscalculated in project finance, as this virus is considered as a global pandemic and has resulted in the closedown of construction work and its related operations. The consequences can be seen as slow production and manufacturing of necessary equipment in projects are delayed due to the outbreak of COVID-19 which means the supply chain will be disrupted worldwide. Moreover, in project financing, Project Company is usually considered as a special purpose vehicle (SPV), and pursuant to present critical situation lenders are having no recourse to sponsors where the project is not performing as per the expected plan. But considering the different scenarios as the government now is hacking interest rates and making banking rules more convenient at this time of financial crunch.


Due to lower interest rates, demand for financing the new upcoming projects will increase along with debt financing and this effect will operate for the long term from the present. However, this article provides a snapshot of FORCE MAJEURE clause activation in project financing, how to get through the force majeure risk, and what all are the necessary consideration for the purpose of force majeure. Along with the force majeure aspect this article will also focus upon other immediate impacts on project financing due to COVID-19.

 


ACTIVATION OF FORCE-MAJEURE IN PROJECT FINANCING

Force majeure clause comes into play when one party is unable to perform his contractual obligation which he needs to perform and due to natural circumstances i.e. unforeseeable circumstance’s which includes acts of war and natural disaster, he was hindered or delayed in performing the same. Force majeure is governed by Section 32 and Section 56 of Indian Contract Act, 1872 and is also considered as exception to what amounts to breach of contract. This concept is explained in detail in one of the celebrated Supreme Court Judgement titled Energy Watch Dog vs. CERC. Usually this concept of force majeure is prevalent in project financing and construction cases. In an epidemic or pandemic scenario, like of COVID-19 this clause gets into play by contractor in construction project because he is the first one to encounter the consequences because of disrupted supply chain. When the force majeure clause is invoked due to the COVID-19 outbreak there is no surety that the contractor will succeed because it will depend on contractual interpretation whether this outbreak will be considered as “epidemic” or not.

 


After invoking force majeure number of key considerations arose which are as follows:

  1. Project Company has to ascertain that whether force majeure will succeed as per the interpretation of construction contract and this has to be done with the limited time frame.
  2. Assessing the evidences and circumstances which will prove that due to COVID-19, project company/contractor is unable to perform their obligation. Also, on the basis of a contractual agreement between the parties, it demands the contractor to prove that he is being prevented by the force majeure event to carry on his contractual obligation. Furthermore, the contractor also needs to produce the evidence to prove his onus pertaining to the contract

 

Now in order to analyze the force majeure in the contract the contractor or say the project company has to establish connectedness between the qualifying force majeure event and the impact to its performance of contractual obligations, and in most of the cases this will be based upon factual circumstances which will differ from case to case basis. Due to government measures that are related to business lockdown, mandatory quarantine measures, which will directly affect the working of the project and contractual obligations can be considered as evidence for the activation of force majeure clause. Concerned expert feedback would be required for the collection and preparation of evidence for notices of force majeure.

 

This also requires the affected to take steps in order to mitigate the force majeure events and it is considered as an obligation upon the affected party to do so. Also, it was required to draft or take the alternative options in consideration to perform the obligations pertaining to the contract and it would be advantageous to take remedying measures to address the impact due to unforeseeable events like COVID-19. However, in order to ensure that the claim is not time-barred, time is an essential ingredient for the notice requirement for the purpose of force majeure claim.

 


HOW TO TACKLE FORCE MAJEURE RISK?

The loopholes in the force majeure clause should be taken into consideration and such gaps should be addressed when the project documents were subject to bankability due diligence. Bankable project documents will typically contain similar force majeure provisions and the contractor's notice of force majeure will form part of the project company's notice in the project documents. Also, if there is any discrepancy or say loophole is identified, then the force majeure will be tested through the COVID-19 outbreak.


Further, others get through consideration include the timeline for submission for force majeure clause. In practice, the contractor and the project company may be engaged in negotiations or discussions on the impact of force majeure and will, therefore, need to consider the timelines that are running in parallel. Usually, Project documents with future cash flows contain time which provides a sufficient amount of time to project companies to provide its notice of force majeure under the upstream project documents. Another important contemplation is the different governing laws for project documents. Offshore construction contracts will be governed by English law, but on the other hand, power purchase agreements should be governed by the local law. Therefore, if the risks associated with different governing laws are not mitigated when the project documents were being developed, contractual interpretation of force majeure provisions can be difficult.


Moreover, the party claiming force majeure has to prove that he has taken all reasonable circumstances in order to avoid or mitigate the risk and its effect. Thus, this will depend upon case to case basis and in project company case contractor has to prove the same. In project financing consideration under financial document needs to be taken care of, project lenders are widely analyzing the COVID-19 outbreak as they begin receiving notices related to force majeure and due to which they cannot wash their hands off this outbreak. This outbreak requires taking steps in financial documents that are in consonance to the terms of the project document. Furthermore, after receiving the notice of force majeure the project lender has to consider carefully the impact on the project and positions under the financial document. Also, prior consent is also required before agreeing to any relief obtained through force majeure and certain time constraints need to be undertaken by the project company in this case.

 


EVENTS WITH ITS NEGATIVE IMPACT

After considering force majeure scenario there are other events too which will be triggered due to COVID-19 outbreak in project financing and major of these defaults might extend to necessary parties involved in the successful completion of the project that is construction contractor, operator, and main manufactures of necessary equipment’s. Default events are as follows:

 

  1. Emerging Economies: COVID-19 outbreak affected economy drastically which would be clearly seen through interruptions created in supply chains, fall in exchange rates, limited support, or say financial support of government for projects as impacted by COVID-19 outbreak. Whilst it also includes travel restrictions, the lockdown of major working sites and financial covenants involved in the projects are also affected. Thus, this pandemic affected economy but it insurances should be taken into consideration to take up protection form this drastic effect and all these measures should be taken into consideration by the project company, lenders, and all sponsors, who may be coming under pressure due to this outbreak.
  2. On-going Projects: one should expect, that this outbreak already affected on-going construction projects due to hampered supply chain and labour availability worldwide. In India, labourers are going back home because of this outbreak and it is expected that this impact will be amplified in the future. Further, as the government has taken initiatives in lowering interest rates and baking measures which will benefit the upcoming projects in the future but presently debt financing and tax equity financing is going through a negative impact. Lack of funds would be witnessed pertaining to the on-going projects which will attract defaulting lending provision in loan documentation.
  3. Material adverse effect clauses: ongoing projects which contain Material adverse effect clause, will get triggered because of circumstances that arose due to COVID-19. Further, this clause will be activated when specifically the situation or say circumstances will affect the project. Thus, there should be material adverse effect and circumstances from case to case basis has to be administered and considered. In my opinion, this clause will get in activation mode because each and every project is hampered due to this virus outbreak. Also, the borrower should inform the lender about these circumstances from time to time.
  4. Financial ratios: The effect of COVID-19 as of now cannot be said to be accurate because it is still in action and according to the Health Ministry and government inputs it may extend for some more time. Due to which debt financing or tax equity financing will hamper but the project financing sector will surely bounce back with a boom in itself from this recession as it was earlier seen in the 1987 recession. The present slashing interest rates and tax incentive proposal will allow the project finance sector to recover.

 

Considering the impact, Project Company has to take the following measures:

 

  1.  A project-related review should be done by the project companies so that it can analyze the impact which the project has to go through due to the COVID-19 outbreak. As seen in normal circumstances the risk associated with the project will be the supply of necessary equipment, labour availability risk, financial covenant risk, and other lending and funding scenario. Whilst with the effect of COVID-19 these risks will get one level up and due to the slowing of economy financial crunch will also arise in project financing.
  2. Major contracts involved in project financing like an employment contract, shareholder agreement, the loan agreement should be critically analyzed in respect of termination, force majeure, and law jurisdiction and dispute resolution mechanism. Also, repayment covenants, information covenants, events of defaults should be critically reviewed.
  3. A detailed review of Supply chains should be done so that an alternate option can be finalized in advance by the project company. This step should be in respect to mitigating the losses and reasonable steps that can foresee.
  4. Expected outcome after inserting force majeure and list of events in which it can be invoked and other ways as stated earlier about how to get out of the force majeure and compliances which are necessary as per Indian Contract Act, 1872.
  5. Consider developments or impacts of steps taken up by the government pertaining to the COVID-19 outbreak with respect to project financing along with tax implication involved. Also, the Project Company should amend all it’s an important document well in advance so that it can save time and cost for the same.

 

 

CONCLUSION


COVID-19 outbreak is spreading at an alarming rate due to which economy is diversely affected and the project finance sector is also facing uncertainties through the hampered supply chain, labour availabilities, financial crunch, and unforeseen circumstances. This outbreak has also affected debt financing and tax equity involved in project financing. Further, continuous monitoring of government policies are required for project financing. So, at last, after considering the crucial aspects of force majeure, the negative impact of several defaults due to the COVID-19 outbreak is one of the worst nightmares in today’s economic sense for project financing.

 

Authored By: Vaibhav Chauhan

JEMTEC School of Law

 

Disclaimer: The content of this article is solely the author’s personal analysis and interpretation. In case you wish to act upon on the basis of the content of this article, please seek legal advice. The author shall not be responsible for any loss you may incur as a result of your actions relying upon this content. The content herein is the copyrighted material of the author and is informational and shall not be used for commercial purposes other than for personal reading.

Business Lookouts During COVID-19
Company

Business Lookouts During COVID-19

Businesses are experiencing unprecedented challenges and market disruption due to the Covid-19 pandemic and consequential economic meltdown seems inevitable. Economists predict that economy is now dealing with a situation far worse than the global recession of 2008. We are not prepared to deal with this situation since no business has anticipated or predicted menace to this extent, where globally national borders are locked down halting global market and business operations. 

 

Importantly, we are dealing with a war waged by the unknown, and nations are fighting to safeguard and protect their people and economy. In this context, businesses/ entrepreneur has to operate sustainably, and it is important to set up and administer certain proactive measures to mitigate financial and business losses. These special circumstances require special measures to sustain and thrive, and this article covers some measures that companies may imbibe to thrive over the crisis and to sustain. 

Pragmatic ideation and proactive resolution will mitigate the impact of impending problems”

 

 

WORK FROM HOME

Work From Home is not an exception but has become a Rule”

Legally, the success of a business and its sustenance depends on how well it protects its confidential information and trade secrets. Especially, in times like now, it has become imperative not only to have sustainable business modus operandi to thrive and succeed during bad market conditions but also to protect what has been already built through years of hard work. This sounds simple yet very difficult to implement and execute in the frontline. 

 

Employees are key to every organization. Their performance and conduct in operating the business decide the company's future. Good employees build a successful business and the bad ones ruin the organization. A simple claim or lawsuit will change the future of the company or drag the company into darkness (third party infringement and damages suits), so the company should explicitly set out the framework within which the employees have to function within the company. 

 

With a large number of employees working remotely at the comfort of their houses, the management is now grappling with the management of infrastructure to facilitate employees with work from home access and to keep the business running. While companies are dealing with infrastructure difficulties, protection of confidential information and trade secrets should be set on high priority in order to avoid future uncertainties and to govern the way the organization continues to operate within an uncontrolled environment of homes of the employees.

 

Measures: Implementing effective policies and conduct awareness training programs so as to how to operate and function while working at the comfort of home. Data Protection Policy, Information Technology and Security Policy and Work from Home Policy are few policies that companies should implement and effectuate measures for protection of data and confidential information.

 

 

STRUCTURE BUSINESS CONTRACTS

Businesses don’t operate in silos but are reliant upon clients, service providers, and customers (the list may vary business to business). It is important to evaluate and strategically secure and retain existing business connections. Practically, retaining old clients is a cost-effective measure, since securing new clients is a costly affair during this market meltdown. The business relationship with the client is regulated by a document called “Agreement” and this provides how to govern and operate during the subsistence of the agreement.

 

An agreement may be implied or express contract. Where the terms of the agreement are explicit, the business should evaluate the risks and be prepared for any foreseeable risks that may arise in the current market circumstances and protect itself from the unforeseen risks (Force Majeure Clause). For implied and unwritten business arrangement, the company will be operating in an uncontrolled and ungoverned territory and may cost the company irreparably, if things don’t operate the way they are supposed to, and legal binding of the implied agreement depends on external factors and burden of proving the transaction and losses are high. So, the management should focus on dealing with the governing business through the Agreements.

 

Agreement decides whether you have a falling business or scope to rise above the troubled water.”

 

It is imperative to work along with the legal team to overcome the uncertainties and to operate within a controlled business environment. In the interest of economies of scale of business, as a rule, litigation should be the last resort. When agreement provides for business certainty why take long shots with regard to company future.

 

As such, in case a client (or a set of clients) is important for the survival of a business, then the business should take proactive measures to re-negotiate, re-design, or structure the transaction to make it sustainable to both the business and the clients. If you are expensive to your client, your dealings with them are bound to fall to the ground. Importantly, be the first to make a proposal for restructuring a transaction before your clients make a decision against you and it’s too late.

 

Change is constant, adaption is a rule and knowing when to adapt will decide the success” 

 

Conventionally, business teams are oriented to gain business, finance to control costs and project profits, so they pay no heed to transactional risks. Inevitably, in order to succeed, the leaders have to make decisions that involve exposure to risk. However, it is important to take calculative and informed decisions with regard to such a risk exposure and the same has to be documented through an agreement to avoid uncertainties and ambiguity. Drawing up an agreement is not just a good-to-have measure, but it is a tool to resolve conflicts in case of disputes. 

 

To be triumphant, all teams should collaborate and structure a workable business transaction for the clients. Overpromising-Underperformance and low promises and overperformance both strategies kill the business, but a sustainable, performance and an achievable business agreement works well for all and leads business to a successful path. In this, the legal contribution would be to enlighten the business with unbiased views of the nature of risk and consequences that may arise therefrom.

 

Notably, business conglomerates are successful in a way they are, since they operate and function by making informed decision knowing their exposure and risks, and on the contrary, start-ups can’t afford legal costs and hence fall prey in the hands of business eagles who specialize in acquiring businesses at low cost (or no cost). As a result, start-ups rise and fall over-night. 

 

Measures: Evaluate your business agreement and understand the cost-value proposition as the deal/ transaction stands. In essence, restructuring your business agreement to current market will help companies to retain clients. This task also helps companies to evaluate high-cost clientele and to allocate funds to sustain the business or make the decision to let go of a client for the larger good.

 

 

SUMMARY

Pragmatic and proactive measures make to business sustainable and keep it afloat.”

This article outlines legal measures which the business managers have to evaluate and reconsider under the Covid-19 crisis. It aims to highlight the common areas of lacuna in business operations. Pragmatic and proactive measures make the business sustainable and keep it afloat. Introspection into business processes, models, operations, and business flow, and the results of such analysis helps to strategize and acclimatize to the current business environment. Change is inevitable so the factors are key to thrust and succeed. Having enforceable and sustainable contracts is vital to govern the way the business operates and to understand obligations and liabilities. This will help to plan, strategize, and execute business in an informed way during the time of change in the business environment, and to stay out of troubled waters. These measures may mitigate the disaster and help to survive and succeed in the long run.

 

Authored by: RAMYA KUNAPAREDDY

Corporate and Litigation Lawyer, Hyderabad

 

 

Disclaimer: The content of this article is solely the author’s personal analysis and interpretation. In case you wish to act upon on the basis of the content of this article, please seek legal advice. The author shall not be responsible for any loss you may incur as a result of your actions relying upon this content. The content herein is the copyrighted material of the author and is informational and shall not be used for commercial purposes other than for personal reading.

Things To Know Before Appointing An Auditor for your Company
Company

Things To Know Before Appointing An Auditor for your Company

Every company requires an Auditor to audit its financial accounts. This ensures that the company is not manipulating its accounts, inflating its profits or cheating its shareholders. An audit is an examination of accounting records to determine its genuineness. The law mandates that every company needs to appoint an Auditor to examine their accounts. Through this post, we shall discuss how to appoint an auditor.

 

 

Appointment of Auditors

 

Appointment of auditors occurs in many situations. We shall discuss below the procedure and the situations where an auditor is required to be appointed: 

 

 

Appointment of first Auditor 

 

Every company needs to appoint the first auditor within 30 days of incorporation. Typically, the Board of Directors appoints the first auditor. Certain criteria are laid down in the Companies Act for an auditor, The auditor is required to sign a written consent and certificate confirming that he fulfills the given criteria. 

 

The tenure of an auditor appointed by the board shall be until the conclusion of the first Annual General Meeting (AGM). In case they fail to appoint one, an Extraordinary General Meeting (EGM) shall be convened within 90 days. Government companies are exempted from this rule. Appointment in government companies is done by Comptroller Auditor General within a set period from incorporation, failing so the Board of Directors fulfills the duty. In case both fail to carry out an appointment it is the members, through an EGM, who end up appointing an Auditor. 

 

 

Appointment of Auditor in the first AGM

 

During the first AGM the company (except government companies), can appoint an individual or a firm as an auditor. The tenure would be from the conclusion of that meeting until the conclusion of the sixth AGM. It is carried out through an ordinary resolution. 


An Audit Committee formed by the Company shall recommend the candidates after taking into consideration the requirements of the company and the qualification of those concerned. The Board of Directors can disagree with the recommendation and can ask them to reconsider. 

 

 

Appointment of Auditor arising out of a casual vacancy

 

If there is a vacancy arising out of death, disqualification or resignation of an auditor then it’s referred to as Casual Vacancy. If the same arises out of resignation, then the EGM appoints a new one within 3 months of the recommendation of the Board.  If it is any other reason than Resignation the Board appoints an Auditor within 30 days. Any auditor appointed in a casual vacancy continues to hold office until the ending of the next Annual General Meeting. 

 

 

 

Appointment of Retiring Auditor

The retiring auditor can be reappointed again provided that he is not disqualified, has not given a notice to the company about his unwillingness to continue and no special resolution appointing some other auditor or specifically denying his re-appointment has been passed. If no auditor is appointed at the end of the tenure of the serving auditor then the same auditor shall continue.

 

 

Removal of Auditor

An Auditor, who is statutorily appointed can only be removed by a special resolution, after obtaining the previous approval of the Central Government on that behalf in the prescribed manner. The auditor concerned shall be given a reasonable opportunity of being heard before proceeding with the same.

 

 

Conclusion

 

An Auditor is a necessary part of company functioning. They ensure the money invested or earned by the company is utilized in a proper manner. Audits carried out by the Auditor increases trust of the Public and Government in a company. This increase in trust and compliance ultimately helps in increasing investment in the business. It also helps keep the company financially healthy by detecting fraud.