On the Effect of Green Bonds on the Profitability and Credit Quality of Project Financing

Abstract

The relatively recent green bond market is increasingly attracting interest at the technical, regulatory, and academic research levels. Although a considerable body of research on green bonds focuses on the investor's perspective, this study takes the perspective of a project finance sponsor to analyze whether there is a direct financial incentive for issuing green bonds in contrast to other types of financing. In order to measure the impact of green bond financing on the profitability and solvency of environmentally friendly investments, we study the sensitivity of the financial performance of a well-established project finance investment-the Sagunto regasification plant-to shifts in its financial structure. In particular, we develop a base case that allows us to study the impact of green financing compared to other financial structures typically used in project finance, under different scenarios. Our results show that in all cases, the internal rate of return (IRR) for shareholders is higher when green bonds instead of bank loans are issued to finance investments. Additionally, in the vast majority of the scenarios, green bond financing results in higher average debt service coverage ratios. Consequently, our results suggest that green bond financing constitutes a strong financial incentive for sponsors, which can help align their objectives with those of public authorities.