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A project’s cash flow available for debt service (CFADS or CADS) is analysed by project finance lenders (senior debt banks) to determine debt size and credit covenants.
This tutorial looks at the application of CFADS in project finance analysis, as well as, the debt service cover ratio (DSCR) and the loan life cover ratio (LLCR).
- Application of CFADS in project finance analysis
- Debt service cover ratio (DSCR)
- Loan life cover ratio (LLCR)
- Common mistakes in CFADS calculations
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A project’s cash flow available for debt service (CFADS) is analysed by project lenders (senior debt banks) to determine debt sizes and repayment criteria. CFADS is an important measure that determines debt repayment calculations and ratios including debt service coverage ratio (DSCR), loan life coverage ratio (LLCR) and project life coverage ratio (PLCR).
In a typical project finance model, the cash flow available for debt service is calculated by netting out revenue, operating expenditure, capital expenditure, tax and working capital adjustments. The annual cash flow waterfall below clearly demonstrates the calculations of CFADS.
Application of CADS in project finance analysis
CFADS is preferred over EBITDA in determining gearing and lending capacity because this measure does not take taxes and timing of cash flows into consideration. EBITDA is a common metric in corporate finance but in project finance the focus is on actual cash flow.
Many projects experience a ramp-up period before they reach steady state production and revenue. In screenshot 2, CFADS is plotted against debt service. CFADS is increasing over time while debt service is decreasing over time.
Project lenders usually determine borrowing capacity on the basis of debt service ratios. Most common debt ratios in project finance are debt service cover ratio (DSCR) and loan life cover ratio (LLCR) which both use CFADS in the numerator of the calculation.
Debt service cover ratio (DSCR)
The DSCR uses CFADS in the numerator and debt service (calculated as principal + interest) is in the denominator. A ratio of 1.00x means that the CFADS in a period is equal to the total debt service in that same period. A ratio of greater than 1.00x means that there is sufficient cashflow to meet principal and interest payments.
DSCR = CFADS / scheduled debt service
Scheduled debt service = interests + principal repayment
Loan life cover ratio (LLCR)
Unlike period on period measures such as the DSCR, LLCR measures how many times the discounted CFADS over the scheduled life of the loan can repay the outstanding debt balance.
LLCR = NPV (CFADS over loan life) / debt balance brought forward (b/f).
Full calculation of LLCR can be found in this related financial modelling tutorial for LLCR.
Common mistakes in CFADS calculations
It is important to check that each cash flow item leading to CFADS line occurs at the correct seniority to other items and is modelled in accordance to the term sheet. Common mistakes in CFADS modelling are listed below.
- Incorrect and n-n cashflow items are included in the CFADS calculation, such as: depreciation, cash balances, and reserve accounts balances.
- When modelling subordinated or mezzanine debt, it is important to include cash flow available at the appropriate level of seniority. Different CFADS may need to be calculated at each level of seniority.
- CFADS calculations back calculated from EBITDA is a warning sign that the modeller is inexperienced in project finance modelling and should be checked carefully.
Corality Academy: Corality Financial Modelling Campus
There are numerous other tutorials and free resources related to financial modelling in the Corality Financial Modelling Campus.
Some of the more popular courses that relate to this topic include: