DSRA tutorial workbook
Our DSRA modelling template, to follow along with the accompanying webinar. Excel binary workbook (.xlsb).
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What a DSRA does
A debt service reserve account (DSRA) is a cash reserve that gives the lender extra security. It makes sure the borrower always has funds deposited to cover future debt service, usually sized to a set number of months of projected debt service, commonly 6 or 12.
The DSRA provides a cash buffer in periods when cash flow available for debt service (CFADS) is less than the scheduled debt service. That buffer gives time for operational issues to be resolved or, in more extreme cases, for the debt to be restructured before the borrower defaults.
The funds in the account are not expected to be used in the base case of a financial model. In downside scenarios, though, the DSRA may have to fund cash shortfalls, and how it responds shows how resilient the project is.
The workbook in the download box goes with our recorded webinar on modelling the DSRA in project finance.
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How the DSRA is funded
The DSRA is usually funded up to a dynamic target balance that covers both interest and principal repayments. The requirements are set out in the term sheet and may include certain fees. The target is typically 6 to 12 months of debt service, or a fixed amount.
The term sheet usually also sets the funding method, typically one of these:
- Funded in full on the last day of construction
- Partly funded on the last day of construction, then built up from the project’s cash flow
- Built up entirely from the project’s cash flow
Modelling the target balance, deposits and releases
Target balance
The target balance depends on future debt service and follows the bank term sheet. Deposits to and withdrawals from the reserve are calculated by comparing the target balance with the opening balance.
- A deposit is needed when the target balance is more than the opening balance
- A withdrawal is needed when the opening balance is more than the target balance
The mechanics link the project’s cash flow to the reserve account in both directions: cash in and cash out.
Cash in: additions to the reserve
- Initial funding, using one of the funding methods above
- Funding from cash flow: cash available to top the account up to the target balance
Cash out: releases to the project’s cash flow
- Release in distress: cash released from the available balance to fund a shortfall in CFADS, when the DSCR is below 1.00x
- Release of excess cash: cash released to bring the balance down to its target, including the release at final maturity
Interest is generally earned on the balance and recognised in the same way as interest on cash balances in the cash flow waterfall.
Where the reserve sits in the financial statements
The DSRA is a cash balance owned by the borrower, so it sits in current assets on the balance sheet.
In the cash flow waterfall, the reserve ranks below debt service but ahead of equity, which gives lenders extra security. Cash paid into the reserve is an outflow for the waterfall, and cash released from it is an inflow.
Checks for a reserve account model
Setting up a DSRA in a model is tricky, but the calculation varies little from project to project. Check that:
- Funding from the project’s cash flow to top up the reserve never exceeds the cash available to fund it
- The balance is never negative
- Additions to and releases from the reserve never happen in the same period
- In the base case, every movement other than the initial funding and the final release is small
- All cash movements and the initial funding sum to zero
- The balance falls gradually in the periods before the end of the loan life and is zero at the end
The circular reference created by sculpted repayments
The DSRA often causes a circular reference in the model, and a copy-paste macro is often needed to break it.
The DSRA target today depends on future debt service. If repayments are sculpted, they depend on CFADS. Part of CFADS is interest income, which is usually based on the cash balance brought forward. That balance is the cash carried forward from the previous period, which depends on the net cash flow for the period, which in turn depends on the cash needed for the DSRA.
This circularity only occurs when the principal repayment is sculpted. With an annuity repayment, which does not depend on CFADS, the circularity disappears.
For our approach to breaking circularities in VBA, read our tutorial on copy-paste macros in financial models.
DSRA questions
What is a DSRA?
A debt service reserve account is a cash reserve, typically sized to 6 or 12 months of debt service, that gives lenders extra security. It gives a project time to resolve operational issues, or for its debt to be restructured, before a cash flow shortfall leads to default.
How is the DSRA target balance set?
The target balance depends on future scheduled debt service, both interest and principal, and is defined in the term sheet. It is typically 6 to 12 months of debt service, though it may be a fixed amount instead.
Why does the DSRA create a circular reference?
When repayments are sculpted, the DSRA target depends on future CFADS, CFADS depends on interest income, interest income depends on the cash balance brought forward and that balance depends on the DSRA funding requirement itself. The loop only occurs with sculpted repayments. An annuity schedule, which does not depend on CFADS, removes it.
Where does the DSRA rank in the cash flow waterfall?
Below scheduled debt service and above equity distributions, so lenders have first call on the reserve before any cash reaches shareholders.