Law and Project Finance

45 Pages Posted: 27 Aug 2007 Last revised: 15 Aug 2014

See all articles by Krishnamurthy Subramanian

Krishnamurthy Subramanian

Indian School of Business (ISB), Hyderabad

Frederick Tung

Boston University School of Law

Date Written: January 14, 2014


We investigate Project Finance as a private response to inefficiencies created by weak legal protection of outside investors. We offer a new illustration that law matters by demonstrating that for large investment projects, Project Finance provides a contractual and organizational substitute for investor protection laws. Project Finance accomplishes this by making cash flows verifiable through two mechanisms: (i) contractual arrangements made possible by structuring the project within a single, discrete entity legally separate from the sponsor; and (ii) private enforcement of these contracts through a network of project accounts that ensures lender control of project cash flows. Comparing bank loans for Project Finance with regular corporate loans for large investments, we show that Project Finance is more likely in countries with weaker laws against insider stealing and weaker creditor rights in bankruptcy. We identify the predicted effects using difference-in-difference and triple-difference tests that exploit exogenous country-level legal changes and inter-industry differences in free cash flow and tangibility of assets.

Keywords: Agency Cost, Bankruptcy Cost, Corporate Finance, Free Cashflow, Investor Protection, Leverage, Limited Recourse, Project Finance, Self-Dealing

JEL Classification: G32, G33, G34, K22

Suggested Citation

Subramanian, Krishnamurthy and Tung, Frederick, Law and Project Finance (January 14, 2014). Journal of Financial Intermediation, Forthcoming, Available at SSRN: or

Krishnamurthy Subramanian

Indian School of Business (ISB), Hyderabad ( email )

Hyderabad, Gachibowli 500 019

Frederick Tung (Contact Author)

Boston University School of Law ( email )

765 Commonwealth Avenue
Boston, MA 02215
United States

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