Often (though not always) in a project, a special purpose vehicle or a project companyy, is incorporated in the jurisdiction of the project. A less common alternative is an unincorporated consortium in which the project assets are directly held by the sponsors according to their participating interests.
In some cases, incorporation of a local company is required by the government either under the law or during the procurement process.
The advantages and disadvantages of a local corporate vehicle as opposed to an unincorporated consortium is discussed below. The issues here are also relevant for the government as a policy maker, because they are the basic considerations of an international investor when investing in a country.
The key advantages for the sponsors of a locally incorporated special purpose vehicle are:
• Bankruptcy remoteness for the project. If the sponsors hold the assets directly, then if one of the sponsors become insolvent, then the assets of the whole project are likely to become the subject of a claim by the insolvent sponsor's liquidator. A corporate structure isolates the project assets from this risk. The shares in the project company may also be subject to liens (that is, the right to take and hold or sell property as security or payment for a debt or duty) for the benefit of the other sponsors in the event of bankruptcy.
• Bankruptcy remoteness for the sponsors. A corporate structure isolates the risks of the project from the sponsors. As corporate entities have limited liability, if a project fails then the sponsors are only liable to lose only up to the maximum extent that they have agreed to commit to the project.
• Management. A corporate structure allows the project to be administered by a board of directors rather than a committee of joint venturers. As directors generally have fiduciary obligations to act in the best interest of the company for which they are directors, the board of directors of a project company is more likely to act in the interest of the project company than a committee of joint venturers who act in the interests of the individual sponsors.
• Vesting of project assets. A special purpose vehicle facilitates the vesting (that is, the grant of right to ownership or possession) of the project assets. It is a conceptually "cleaner" structure in which one company holds the project assets. An unincorporated association would require that each of the individual sponsors hold the assets directly and proportionate to their interests.
• Security. It is easier to secure finance from lenders because it is easier to grant security under a corporate structure.
• Introduction of new sponsors. A corporate structure allows for new sponsors to be introduced by the issuance of new shares or the transfer of shares. An unincorporated joint venture consortium would require amendments to be made to the ownership documents of each of the project assets, and possibly for the registration of changes in the ownership, for example in the case of land. In a PPP transaction, however, this right to introduce new owners may be subject to the right of approval from the government.
• Divestment of existing sponsors. Conversely to the above point, it is also easier for a sponsor to divest of its holdings in a corporate entity than the direct holding of individual assets. In an infrastructure project that requires long-term commitment from its sponsors, however, ease of divestment by sponsors is not necessarily regarded as beneficial. In most cases, transfers of shares (which effectively means the divestment of the interest in the project) are prohibited or at least heavily regulated under agreements or constitutional documents. In a PPP transaction, however, the right to dispose of project assets may be subject to the right of approval from the government.
• Jurisdiction. A local corporate entity would mean that the sponsors are not directly subject to the risk of jurisdiction of the local courts. The overall business of the sponsors would also not be subject to regulatory compliance that applies to local businesses (although of course the local project company would need to comply with the local regulatory regime).
• Non-inclusion of negative covenants. Infrastructure projects normally involve a substantial amount of debt financing. The lenders would normally impose many strict undertakings and covenants in order to protect the value of their security. A corporate entity enables the project company rather than the sponsors to be subject to these undertakings.
• Reporting requirements. A corporate structure could mean that the sponsors do not need to include the project liabilities into their accounts. This would depend on the extent of the sponsor's involvement and the accounting policies adopted by the sponsors in drawing up their accounts. The accounting policies to be adopted would depend on the law and requirements in the country of the sponsor's jurisdiction as well.
The key disadvantages to the sponsors of a locally incorporated special purpose vehicle are:
• Tax. The tax position may be less advantageous, although many countries offer tax incentives for investments in infrastructure projects in their country.
• Political risk. Incorporating the company means that the project company is subject to greater political risks.