DEFINITION OF MERCHANT FACILITY

The term merchant facility is generally used to refer to a facility financed using project finance principles, except that long-term off-take contracts are not used to eliminate the market risk. Rather, project viability is based on the market for project output and forecasts of future market conditions because project output is sold into the commodity market and sold at a price at or below the market price. As a facility financed using project finance techniques, the project company will be a special-purpose, stand-alone entity that does not have access to the balance sheet of its owners. The highly leveraged, nonrecourse nature of project finance, coupled with commodity risk and the inherent inability to stockpile electricity, combine to make these pure merchant power plant investments speculative.

Interestingly, projects financed as non-merchant facilities often face these risks. For example, a project financed with a long-term contract involuntarily becomes a merchant plant if that contract is terminated. Similarly, a project that loses a regulatory benefit because of a change in law or a failure to comply with regulatory requirements can also become subject to merchant power risks.