While a sustained low-interest-rate regime is a challenge for operational HAM projects, the bank rate is expected to remain at low levels as the RBI monitors the situation to revive growth and mitigate the impact of COVID-19.
India's Ministry of Road Transport and Highways (MoRTH) is contemplating a change to the hybrid annuity model (HAM) in order to address the issue of repayments to developers. The ministry may link the interest rate on annuity payments to the country's largest lender, the State Bank of India's lending rate, instead of to the Reserve Bank of India's bank rate, according to government sources.
The proposed changes to link the repayments to commercial rates come after declining interest rates ever since the central bank accelerated easing in an effort to boost a COVID-19-hit economy.
Under HAM, the government finances 40 per cent of the cost of construction and the developer arranges the remaining 60 per cent in a combination of debt and equity. It is repaid over a 15-year concession period at an interest that is linked to the country's bank rate.
With a series of downward revisions in the repo rate, the bank rate, which is always 25 basis points above the RBI's benchmark repurchase rate, has reduced to a historic low of 4.25 per cent from around 6.5-6.75 per cent at the time when many of the HAM projects were awarded in 2019 and earlier. The lower bank rate has adversely affected overall cash inflows for HAM projects.
Parallel Reduction This is because commercial banks tend to lag RBI's moves in adjusting their own lending rates. This has resulted in a situation where the interest in annuity payments to developers has reduced without a parallel reduction in their borrowing costs.
"It would be prudent to link the interest rate on annuity payments due to developers to the same rate at which they borrow as this would ensure that there is no divergence between income and expenditure on account of movements in the interest rate," says Bajrang Choudhary, Managing Director at Bharat Road Network.
The issue has been raised in various forums and the government is taking a positive view of this request by the industry, a senior official in MoRTH told INFRASTRUCTURE TODAY.
"The changes in the model concession agreement for HAM projects are under consultation within the inter-ministerial group and a decision on the same is expected soon," he said, without providing further details or a timeline to the resolution.
Developers, through their industry association, National Highway Builders Federation (NHBF), have requested the government to adopt an index which could be the yearly average of the lending rates of the top three banks in the country, informs PC Grover, NHBF's Secretary-General.
From December 2015 to March 2020, the government has awarded close to Rs 1.5 trillion of projects, of which it owes 40 per cent immediately in two years, during the construction stage. The remaining - about Rs 900 billion - needs to be paid in the next 15 years over the duration of the concession periods, points out Rajeshwar Burla, Vice President, Corporate Ratings at the credit rating firm ICRA.
"This amount is excluding the interest and also does not account for inflation," he said, adding that the interest payments alone account for 45 per cent of the annual payments.
Discussion on hold The fall in the bank rate has also affected projects' valuations. During calls with analysts to discuss their first-quarter earnings, several developers who were in discussions to divest their under-construction projects indicated that the discussions were now on hold.
"Both divesting and refinancing of HAM projects looks difficult under the current circumstances on account of the widening gap of the marginal cost of funding-based lending rate (MCLR) and the bank rate," says, Supratim Sarkar, Executive Vice President and Group Head, SBI Caps.
The MCLR is a tenor-linked internal benchmark and is determined internally by the bank.
Developers may even have to sell the projects at a loss if they were to sell now, Sarkar says, adding that lenders will also shy away from lending at this juncture.
"Unlike toll projects, there is no upside in HAM projects as a fixed annuity is given and lenders will have to rethink the debt service coverage ratio (DSCR) levels at which they are willing to refinance," he elaborates.
Gap in lending rate The gap between the weighted average lending rate of commercial banks and the bank rate has never narrowed to less than 199 basis points - a level last seen in August 2013 - and was at 511 basis points at the end of November, according to data from ICRA.
While investor interest will always be there for operational road projects, valuations will need to be appropriate, says Shailesh Pathak, Chief Executive Officer of L&T Infrastructure Developers.
"They will be keen on acquiring distressed projects at the right price," he says, adding that projects with an established baseline traffic data of over two years provide greater comfort to investors especially in forecasting future traffic growth, for toll-based projects.
"Such assets get good value from long-term international investors with patient capital," he added.
Commercial traffic recovery By the end of this month, it will be a full six months since the Central Government first imposed its two-month nationwide lockdown. Commercial traffic has recovered to over 90 per cent of the pre-COVID-19 levels since the end of May when the nationwide lockdown was gradually eased.
However, the hit to economic growth may impact valuations of highway projects, according to a senior official at a road infrastructure trust, as traffic is directly linked to economic growth.
Earlier this month, the Indian government released economic data for the first quarter of the current fiscal year revealing a historic contraction of 23.9 per cent over the three months of April, May and June.
"By the end of the current fiscal, we may see a few good buying opportunities," the official said.
In the current environment, large global investors have spent most of their time this year in making sure that their portfolio companies are robust from an operational integrity and liquidity perspective. As a result, the pace of looking at new acquisitions has been slower, an official at a foreign pension fund with a large presence in India, told the magazine.
In the roads sector, investors have been waiting for the government's highways auction under the toll, operate, transfer (TOT) model.
Two successful TOT actions However, the COVID-19 outbreak has forced investors to postpone their interest and the government has already extended the submission dates for bids multiple times for a third bundle of highways in the toll-operate-transfer (TOT) model. There have been two successful TOT auctions so far, one of which was won by Australia's Macquarie Group in 2018 and the second by Singapore-based Cube Highways in November last year. Investors are required to make an upfront payment to the National Highways Authority of India (NHAI) in exchange for the right to toll the project stretches in the bundle for 30 years.
In the first auction, Macquarie bid one and a half times NHAI's expected price at Rs 96.81 billion. Cube won the second with a bid of Rs 50.11 billion.
The COVID-19 outbreak caused Cube to delay their takeover of the projects - initially scheduled for April - but the I Squared Capital-backed highways investor is looking at starting operations sometime in October, according to sources.
The company did not respond to a request for comment. Earlier this month, Cube said that it had tied up Rs 35 billion in financing from SBI for the TOT project.
Downsizing India's road transport ministry is now keen on attracting all classes of investors and will be downsizing the bundles of projects it plans to auction under the TOT model.
Several Indian developers said they may be keen to participate in bids in case the investment required is lower than in the first two bundles.
"It has been decided to offer TOT project bundles of various sizes to investors û small and big - which will not only allow MoRTH to tap into all classes of investors for highway projects, it will also provide a gateway to investors of different sizes to invest in India's infrastructure growth story," said the ministry official.
Attractive Opportunities "Investors in today's market, be it domestic or global, are looking at clean and attractive opportunities and we plan to offer such projects to them," he added.
Other than the TOT model, the NHAI is also in the process of registering a road infrastructure trust which it also expects to offer to investors in the near future.
The infrastructure investment trust (InvITs) is an alternate way to monetise assets and was introduced by the Ministry of Finance.
"The Ministry of Road Transport and Highways intends to issue the first public sector InvIT in India," the highways ministry official said, adding that the government is working on both the TOT and InvIT models parallelly to raise funds for highways construction.
-NEYOOR B. SHARMA