Limited recourse financing is a powerful tool in structured finance, yet many businesses and investors misunderstand its mechanics. I’ve seen firsthand how this financing method can unlock capital for large-scale projects while mitigating risk. In this guide, I’ll break down what limited recourse financing is, how it works, and where it’s applied—with real-world examples and calculations.
Table of Contents
What Is Limited Recourse Financing?
Limited recourse financing is a loan structure where the lender’s claims are restricted to specific assets or cash flows of the borrower. If the borrower defaults, the lender can only seize the collateral tied to the loan—not the borrower’s other assets. This makes it a middle ground between full recourse (where lenders can pursue all assets) and non-recourse (where only the project itself serves as collateral).
Key Features
- Asset-Backed Security – The loan is secured against a defined set of assets, such as real estate, equipment, or future revenue streams.
- Risk Allocation – Lenders bear the risk of project failure beyond the collateral.
- Common in Project Finance – Often used in infrastructure, energy, and real estate developments.
- Higher Interest Rates – Due to increased lender risk, these loans typically carry higher costs than traditional debt.
How Limited Recourse Financing Works
Imagine a company wants to build a toll bridge. Instead of putting its entire balance sheet at risk, it secures financing strictly against the bridge’s future toll revenue. If the project fails, the lender can only claim the toll income—not the company’s other assets.
Mathematical Representation
The lender’s recovery (R) in case of default depends on the collateral value (V_c) and the outstanding loan amount (L):
R = \min(V_c, L)If V_c < L, the lender absorbs the loss of L - V_c.
Comparison Table: Recourse vs. Limited Recourse vs. Non-Recourse
| Feature | Full Recourse | Limited Recourse | Non-Recourse |
|---|---|---|---|
| Collateral Scope | All borrower assets | Specific project assets | Only project assets |
| Lender Risk | Low | Moderate | High |
| Interest Rates | Lower | Moderate | Higher |
| Common Uses | Corporate loans | Infrastructure projects | Real estate development |
Real-World Examples
Example 1: Solar Power Plant Financing
A renewable energy firm secures $50 million to build a solar farm. The loan is backed solely by the plant’s future electricity sales. If energy prices drop and revenues fall short, the lender cannot seize the company’s other assets.
Calculation:
- Project cost: $50M
- Expected annual revenue: $7M
- Loan term: 10 years
- If revenue drops to $4M, the lender’s recovery is capped at the present value of $4M/year.
Example 2: Real Estate Development
A developer obtains limited recourse financing for a condo project, with the loan tied only to the property. If the market crashes and units remain unsold, the lender can foreclose on the property but not the developer’s other holdings.
Advantages and Disadvantages
Pros
- Risk Mitigation – Borrowers shield unrelated assets.
- Access to Capital – Enables funding for high-cost projects.
- Flexible Structuring – Tailored to project cash flows.
Cons
- Higher Costs – Lenders charge premiums for added risk.
- Complexity – Requires detailed legal and financial structuring.
- Limited Leverage – Borrowing capacity depends on collateral value.
Legal and Regulatory Considerations
In the U.S., limited recourse loans must comply with:
- Uniform Commercial Code (UCC) – Governs secured transactions.
- Bankruptcy Code (Chapter 11) – Affects recovery in insolvency.
- SEC Regulations – If securities are issued against project cash flows.
Conclusion
Limited recourse financing is a strategic tool for large-scale ventures where risk must be contained. By understanding its structure, businesses can leverage it effectively while protecting their broader financial health. Whether in energy, infrastructure, or real estate, this method balances lender security with borrower flexibility—making it a cornerstone of modern project finance.
