Question

In order to determine the ability of a project to meet its’ debt obligations it is important to forecast the project cash flows. Explain why it is important to carry out a cash flow analysis in project finance and the five factors that need to be considered when calculating cash flows.

Answer 1

It is important to have a Cash flow analysis because it will help in knowing the periodic debt repayment ability of a project. It will help in knowing with the liquidity risk and default risk associated with the project.

Cash flows analysis must be done while lending to different long term projects which will pay their periodic debt repayment obligation through generation of regular cash.

Five factors that are needed to be considered while calculation of cash flows of a project are-

1.Credit term and conditions are important to be considered while estimating cash flows from a project.

2. indirect costs which are associated with the project must always be considered as they reduce a significant chunk of cash flows.

3. Credit ratings of the firm is needed to be monitored regularly to keep a check over default risk.

4. Value of assets which have been collateralised should also be considered because that limits the control on business hence impacting cash flows negatively.

5. Economic scenarios must be considered while making a growth forecast of cash flows as it impacts it multifold.