Downside cases determine the defensible capital structure

A liquidity reserve has a defined job: supply cash during a bounded timing or operating shortfall while the underlying repayment case remains viable. It is not additional CFADS, not profit and not a substitute for an unfunded capital package. The reserve memorandum should state its purpose, initial funding source, account control, permitted draws, minimum balance, replenishment order and conditions for release. It should also distinguish restricted reserve cash from unrestricted cash available for wages, suppliers and other ordinary payments.

GFT recommends sizing the reserve from the maximum cumulative shortfall in an agreed stress sequence, after explicitly modelled receipts, essential payments and debt service. That method is more informative than asserting a universal number of months of debt service. A reserve sized only against one payment can still fail when several weak periods arrive consecutively. Conversely, an excessive restricted balance can starve commissioning or working capital. The appropriate amount is therefore the result of a timing model and a funding trade-off, not a standard percentage claimed for every venture.

The draw rules matter as much as the opening amount. A reserve available only after a lender waiver may not be accessible when the timing shock occurs. Replenishment from later surpluses should precede distributions where that is the agreed purpose, but the model must show the cash consequence. Release to shareholders or another project belongs only after the remaining risks and required balance have been reassessed. Any facility treated as reserve-equivalent needs its own availability, draw and expiry conditions.

Exhibit 54 presents a separate illustrative monthly case. It assumes CFADS before senior service recovers through the ramp, while early debt service exceeds that cash. The reserve absorbs deficits first, then unrestricted cash absorbs any excess. Later surpluses remain unrestricted and do not replenish the reserve during the displayed window.

In that illustrative sequence, the reserve reaches zero at the end of month 3. Monthly coverage subsequently rises above 1 in month 5 and reaches 2 by month 8, yet no reserve has been rebuilt. Unrestricted cash recovers because later surpluses are retained, but the next adverse event would meet a thinner defence than the opening structure provided. A dashboard showing only the recovering ratio would miss that weakened state. The report should therefore show coverage, restricted balances, unrestricted balances and cumulative draws together.

Repeat weakness exposes the limit more starkly. Assume illustratively that annual CFADS remains XAF 80 million against the scenario's annual senior service of approximately XAF 123.333 million. The annual deficit is approximately XAF 43.333 million. An illustrative reserve of XAF 100 million falls to approximately XAF 13.333 million after two such years and cannot cover the third deficit in full. No later reserve release should be assumed to solve that trajectory. The response must change operating cash, obligations, capital or scope.

A repayment case should stand without assuming that another lender arrives, that assets sell at a premium or that a terminal value appears at maturity. Those events can be analysed as conditional options, with counterparties, costs, conditions and dates where evidence exists. They should not supply the base answer to a contractual cash shortfall. IFC's public loan description covers own-account lending and loans through financial intermediaries, but neither product description supplies this venture with a refinancing commitment or repayment terms.[S29]

Amortisation, grace and a balloon allocate risk across time in different ways. Equal principal creates higher early service when opening interest is largest, then reduces the payment as the balance falls. Principal grace can protect an evidenced ramp, but it leaves more principal outstanding and usually increases later instalments or total interest under otherwise comparable assumptions. A balloon minimises scheduled principal before maturity while concentrating the final repayment question. None is inherently preferable. The test is whether the operating cash and available liquidity match the actual profile under stress.

For a consistent illustrative comparison, hold senior principal at XAF 500 million, annual opening-balance interest at 8 percent and the total horizon at six years. The amortising case pays six equal principal instalments. The grace case pays interest only for two years, then four equal principal instalments. The balloon case pays annual interest and all principal at maturity. These constructed structures exclude fees, capitalised interest, subordinated payments and refinancing proceeds.

The illustrative amortising structure produces total interest of XAF 140 million, calculated from opening balances that sum to XAF 1,750 million. Its first-year service is approximately XAF 123.333 million and final-year service is XAF 90 million. The illustrative grace structure produces total interest of XAF 180 million. Its first principal payment arrives in year 3 alongside interest on the still outstanding XAF 500 million, producing service of XAF 165 million. At illustrative downside CFADS of XAF 120 million, that year's coverage is approximately 0.727.

The illustrative balloon produces annual interest of XAF 40 million before maturity and a final-year payment of XAF 540 million including principal. Total interest is XAF 240 million. Early coverage can look comfortable precisely because principal has been deferred. At illustrative CFADS of XAF 120 million, final-year coverage is approximately 0.222 and the final payment deficit is XAF 420 million before any cash reserve. Without an evidenced source for that amount, the early ratio has concealed rather than solved repayment risk.

Exhibit 55 does not argue against every grace or balloon structure. It shows what must be evidenced. A grace case needs a ramp that generates enough later cash after the higher payments. A balloon needs a credible cash accumulation, contractual amortisation substitute or separately evidenced repayment event. A refinancing case should be shown beside a no-refinancing case, with its costs, conditions and earliest feasible draw made explicit. If removal of that assumption creates an unfunded maturity, the present capital structure is not yet defensible.

A stress exercise becomes a financing control only when it ends in an authorised decision. GFT proposes a committee memorandum that identifies the model version, base assumptions, every stressed change, supporting evidence and reviewer. It should report the lowest coverage and its period, minimum unrestricted cash and its date, maximum cumulative funding shortfall, reserve depletion and any unmet essential obligation. Average outcomes may supplement that record, but they cannot replace the binding period.

The memorandum should distinguish the shock from the response. For each material mitigation, name the accountable role, amount, funding source, authority, execution date and remaining residual risk. If the response is additional sponsor cash, attach the evidence of commitment. If it is a lender amendment, record its status as proposed until agreed. If it is an operating correction, show the physical mechanism and its cost. This prevents the committee from accepting a favourable output that depends on an unowned action.

An independent challenge should reproduce the decisive arithmetic and reconcile it to the cash ledger. The reviewer should test that a later collection reduces current cash, a reserve draw reduces accessible reserves, capitalised interest increases debt and a principal payment reduces both cash and principal. The reviewer should also confirm that the same production loss is not counted twice and that restricted cash has not restored an operating deficit. These are model-integrity checks, not evidence that the stressed events will occur.

Decision states should be explicit. Accept means the defined case and conditions support the stated commitment. Accept with conditions identifies evidence or funding that must be completed before a specified irreversible step. Redesign returns scope, capital or payment terms to appraisal when the current structure fails. Reject records that no defensible structure has been demonstrated. A conditional acceptance should not be used to authorise the very expenditure that an unresolved funding gap is meant to constrain.

The record should preserve the counterargument and dissent. A sponsor may consider a combined case too severe, or a credit reviewer may consider a mitigation unproven. The resolution should identify the evidence and authority behind the decision rather than delete the objection. Where uncertainty remains, a smaller bounded commitment can buy information without approving the full exposure. That option still needs enough funding to complete the bounded stage safely.

Base-case feasibility, institutional eligibility, credit approval and signed finance are separate states. IFC's application page describes information that may support appraisal, including a feasibility study or business plan after preliminary review. Submission and appraisal do not themselves constitute an approval or cash commitment. The committee record should therefore avoid converting a coherent stress model into a claim that any financier has accepted the venture or its proposed terms.[S01]

Before an actual commitment, the decision owner should refresh the inputs that can expire: buyer terms, supplier quotations, construction schedules, interest and currency quotes, capital commitments, permits, insurance, tax and legal advice, and environmental and social actions. Every refresh should update the affected stress case, not sit outside the model as correspondence. The final approved pack should retain both the selected case and the rejected alternatives so later changes remain visible.

The defensible capital structure is consequently a conditional conclusion, not a permanent ratio. It holds only for the stated scope, cash definitions, contractual schedule, downside cases and funded responses. When one of those changes, the credit question reopens. That discipline allows a sponsor to proceed where the evidence supports payment and to stop before optimism becomes an obligation that the factory cannot meet.