Injecting Hope

A slew of measures to infuse the much-needed cash-flow into the infrastructure sector have been introduced to push growth. And Rs 8 lakh crore of equity is likely to find its way soon in the sector enriching the fund pool. However, missing links like deepening the bond market in the country remain to be explored to further accelerate growth.

The trillion dollar opportunity in the Indian infrastructure sector for the 12th Five Year Plan is looking at some much-needed liquidity to be infused into the cash-starved infrastructure sector. The government and the Reserve Bank of India have taken several steps in recent times to boost infrastructure financing.

According to Moody´s Investors Service, the RBI has also issued new guidelines that exempt bank bond issuance from regulatory requirements such as the cash reserve ratio, statutory reserve ratio and priority sector lending if the bonds are issued to finance infrastructure lending. In addition, banks now have greater flexibility in loan structuring and refinancing.

The easing of restrictions on credit to the infrastructure sector would support investment and growth that has seen a slowdown in recent times. Creation of a power sector fund to bail out stressed projects is a popular suggestion being mulled over. Indian infra companies have been even allowed to tap the international market. This move followed Finance Minister Arun Jailtey´s budget reference where he mentioned that ¨Long term financing for infrastructure has been a major constraint in encouraging larger private sector participation in this sector.¨

On the asset side, banks will be encouraged to extend long term loans to the infrastructure sector with flexible structuring to absorb potential adverse contingencies, sometimes known as the 5/25 structure. On the liability side, banks will be permitted to raise long term funds for lending to the infrastructure sector with minimum regulatory pre-emption such as CRR, SLR and Priority Sector Lending (PSL).

Rs 26.4 Lakh Crore Investment In Infrastructure Required Over Next 5 Years

Bonds to the rescue?
According to Crisil, the infrastructure sector alone needs Rs 7 lakh crore from the bond market over the next five years. The average annual need is 35 per cent higher than issuances in past. The much-needed but missing corporate bond market in the country has led to added stress on the domestic lenders that come with their own set of inherent woes.

There is a mismatch between the tenor of deposits that banks can raise and the duration of the loans required for long-gestation, capital-intensive infrastructure projects. Banks in India can typically raise deposits of up to five years whereas infrastructure projects need long-term loans of 10-15 years and beyond, which banks find tough to advance.

Infrastructure project bonds can help access financing for construction and refinancing short term bridge loans by banks for infrastructure projects. The key prerequisite for accessing capital through bond markets is securing a credit rating at or above investment grade from an internationally recognised rating agency. Meanwhile, bond market funding to infrastructure is mainly indirect.

Average Annual Need Is ~35% Higher Than Issuances In Past

Credit enhancements, guarantees and International Financial Institution (IFI) lending can be used to support bond issuances through higher credit ratings. This can take many forms, but rating agencies have indicated that lines of credit issued during the construction phase of a project can increase the rating to a level that is safe for institutional investors. One such initiative is the Europe 2020 Bond Initiative. While the recent announcement to ease out this bottleneck in infra-financing that exempt bank bond issuance from regulatory requirements such as the cash reserve ratio, statutory reserve ratio and priority sector lending, the move is yet to attract a wider base of banks. The government and the RBI are also trying hard to convince banks to lend to infrastructure projects for longer periods that match the economic life of the asset with the 5/25 lending model.

Here, banks like State Bank of India, ICICI Bank and Axis Bank will be the major beneficiaries due to new norms. with the largest infrastructure portfolio to the tune of Rs 70,000 crore, will be the biggest beneficiaries, followed by ICICI Bank with an infra portfolio of Rs 25,400 crore and Axis Bank with Rs 20,000 crore portfolio in infrastructure sector.

Now, the yield benefit for banks would be two per cent and banks will encourage to do more infra lending as the fee income from loan syndication will rise. Also, for public sector banks, return on equity would go up.

In an exclusive interview with Infrastructure Today, Rajiv Lall, Chairman, IDFC, says that the move by the RBI has been accepted by the banking fraternity and if the money raised (through bonds) is used for funding of infra projects, the bond markets will become even deeper as the banks themselves will be issuers for long term takers. IDFC, for that matter will also be included in the list of beneficiary but only from 2018 onward.

¨Allowing banks to raise infrastructure bonds with exemption in CLR, SLR has been in the right direction,¨ says MS Raghvan, Chairman and Managing Director, IDBI Bank, adding, ¨rooting the long term saving (deposits) of the economy to infrastructure sector with some tax incentives to the depositors will also provide liquidity in the market.¨

To this, Nilesh Shah, Managing Director & CEO, Axis Capital suggests, ¨It is important to have enough savings or deposits in banks, but most importantly, it should be routed through bank assets (branches) to the regional infrastructure requirement.¨

Attracting private focus
The infrastructure sector in the country is the core focus area of the new government owing to the slowdown the sector has been facing. According to data from the corporate debt restructuring (CDR) cell, half of all restructured loans in the Indian banking system, or almost Rs 1.2 trillion, were in sectors like infrastructure including power, and iron & steel.

But a company going into CDR itself is in bad taste, and not in good health of the company´s future outlook. According to experts, the overall exercise of CDR is associated with respective companies greediness and government´s lack of action with respect to settlement of disputes with each arbitration getting fought resulting in choking the funds flow to the company when costs have already been incurred. And also, those companies in CDR continue to be not so responsible in terms of their tender quotes etc. These three would result in many companies continuing to be in CDR and banks having no option but to declare them as NPAs, they will continue to do restructuring.

Bond Market Expected To Provide ~40% Of Debt Funding

To this, S Paramasivan, Dy Managing Director, Afcons Infrastructure Ltd says, ¨Many stronger companies may not be willing to take over these companies as well as apart from what´s visible, there could be issues hidden beneath.¨

The way forward for companies opting for CDR is to tighten their belt, strengthen operations and improve bottom-line at the earliest so that they can come out of the CDR mechanism at the earliest. Says, Sidharath Kapur, President and Chief Financial Officer Airports, GMR Airports, ¨There is a taint associated with CDR and for companies opting for CDR, it should be a stop gap arrangement to provide breathing space and stress should be to get out at the earliest.¨

According to CRISIL, 26.4 lakh crore investment in infrastructure is required over the next five years. The bond market expected to provide 40 per cent of debt funding.

Apart from substantial budgetary allocations to the infrastructure sector (nearly Rs 60,000 crore in direct infrastructure investments, spread across sectors like roads and ports), the Modi-led government has also ensured better policy framework for execution of projects. The budget presented a broad roadmap of the economic policy of the new government and outlined its plan for reviving the growth spirit of the Indian economy and reviving investor sentiment across the board.

It is important to attract the confidence and the investment of the private sector as the government is itself paralysed in spending much on itself, owing to its own sorry state of financial affairs. And to encourage private sector funding in the infrastructure sector, both RBI and SEBI have recently undertaken a number of efforts to smoothen the rough road of investment by making banks to lend and private sector to infuse the much-needed liquidity.

Market regulator Securities and Exchange Board of India (SEBI) has recently notified norms for listing of business trust structures, Real Estate Investment Trust (REIT) and Infrastructure Investment Trust (InvITs), that would help attract more funds in a transparent manner into realty and infrastructure sectors. REIT and InvIT are required to make investments either directly or through Special Purpose Vehicles. In case of PPP projects, money can be put in only through SPV.

According to SEBI, InvITs are proposed to provide a suitable structure for financing/refinancing of infrastructure projects in the country. As per a SEBI note, an InvIT which proposes to invest at least 80 per cent of the value of the assets in the completed and revenue generating infrastructure assets, shall raise funds only through public issue of units and minimum subscription size and trading lot for such InvIT shall be Rs 5 lakh. The balance 20 per cent may be invested in under-construction infrastructure projects (subject to a maximum of 10 per cent) and other permissible investments.

Finance experts suggest that InvIT will certainly brings some foreign investment in the country. Opines Ramesh Bawa, Managing Director & CEO, IL&FS Financial Services Ltd, ¨Foreign investors should find investment in InvIT units as preferred investment asset class for making investment in Indian infrastructure on account of superior returns compared to similar markets and taking advantage of diversification of risk as well as more transparency in the framework and investor protection built in the structure.¨

While the new financing avenues are opening up, the maturity is yet to come. Financing options are being explored from various sources in the country with what has been called a weak regulatory and institutional framework. Till the market matures, the burden is likely to continue to be on banks.

Observes Vishwas Udgirkar, Senior Director, Deloitte India (read interview), ¨Indian debt markets are still underdeveloped and raising funds in the large scale required for infrastructure projects is tough.¨ He adds: ¨The recent government efforts to encourage banks to raise funds for infrastructure via bonds has proved to be unsuccessful with the markets providing a lukewarm response.¨ To this, a financial expert says, ¨The concession agreement needs to be designed to adopt more avenues, i.e., take-out financing, of financing at the project conceptualisation stage, to develop the financing market.¨

Ease of doing business
China has offered to bridge the finance gap by offering to fund 30 per cent of India´s targeted infrastructure plan. If the offer is accepted, it would mark the largest single foreign investment in infrastructure in the country. Japan, with less historical baggage compared to China, has been a steady investor in the country´s infrastructure sector. Two-thirds of the Delhi Metro has been financed by Japan International Cooperation Agency, which also contributed $7.7 billion to a part of the Dedicated Freight Corridor Project (Delhi-Mumbai). Equally, the Japan Bank of International Cooperation (JBIC) is another agency involved in funding Mumbai Metro line III in Maharashtra.

The private sector invested $225 billion or roughly 12 per cent of GDP in India´s infrastructure between 2007 and 2012, much of it through PPPs, which have proliferated. Yet these projects have suffered myriad dysfunctions due to their poor structure. In 2013, around 31 largest India-dedicated infrastructure funds, exited all portfolio companies in the country after investments failed to meet investor expectations. According to a report by Deutsche Bank, between May and September 2014, India Inc raised $8.4 billion through overseas bonds compared with $2.9 billion in the year-ago period. In the first nine months of calendar year 2014, banks and corporates raised almost $15 billion through international bonds compared to $10.4 billion during the same period in 2013. Interestingly, the amount raised in the first nine months of the current calendar year is higher than $13.2 billion raised for the entire calendar year 2013, the report.

While PM Modi has been promoting India on the global platform with his Make in India´ campaign, it is important to iron out the last-mile issues and improve the business environment to further facilitate the growth of the infrastructure sector. Removing the economic and regulatory bottlenecks, easing the mandatory environmental clearances, simplifying the taxation issues and encouraging rapid pace of land acquisition can make the country an attractive business destination that will ease the pressure and increase the pace of infrastructure development in the country. In addition, the three Ps give the confidence that the government´s focus is on the right track. Continuation of tax holiday for power units, planning for new ports and laying of more gas pipelines are right steps towards infrastructure development, which will bring in more viable investments.

Governor Speak
Recently, in an event organised by Indian Banks´ Association, RBI Governor Raghuram Rajan briefly made clear his concerns on a range of issues. While addressing the event he said: ¨We need better project evaluation through improved internal skills, not through intermediaries. A problem that has emerged in recent years and recent scandals is the fact that evaluation has been outsourced. Evaluation is so central to banking, it is impossible to outsource. It has to be brought back in house and competencies generated. We have to move towards engaged, informed banking and not getting done by engaging outside intermediaries.

We have to make sure that we don´t give so much forbearance that we really don´t know whether the asset is functioning or not… it creates enormous ever-greening and the end result is that bank balance sheets have no meaning. The regulatory requirement is to make sure that bank balance sheets continue to be informative.¨

Why IDFs partially failed?
PPP projects are primarily confined to roads, ports and airports. Firstly, under a Tripartite Agreement, an IDF will take over a portion of the debt of the concessionaire availed from existing lenders. An IDF has to get the approval of existing lenders to sign the Tripartite Agreement. In the future, if the project gets terminated, then IDF gets the first priority over the termination payment that the concessioning authority will make to the concessionaire or to the borrower. That means the existing lenders will get second priority, which has led to the tapid response to IDFs. It is the job of the IDF to convince the existing lenders that the benefits of getting the IDF into the lending consortium outweighs this potential reduction in termination payment.

The second reason is, for the last two-three years, banks have not lent much to the infrastructure sector. Typically, the operational projects are low risk projects, hence, banks are reluctant to sell their loans down.

IDFs need to go beyond road sector and look at having a well balanced tripartite agreement in other sectors. The take-out is another issue as banks may not want to trade a good asset out of their books and recycle the money into other higher risk projects.

Industry observations on InvIT

• SEBI and MoF have taken a first-of-its-kind initiative to introduce Infrastructure Investment Trusts (InvITs) in India. The structure would assist in catalysing funds and diversify investor base for Indian infrastructure.
• The structure would enable developers to unlock capital for reinvestments in the infra economy.
• This structure will help public-private-partnership (PPP) projects to come back on the development track. These projects are facing severe liquidity crunch due to the limited funding options, high interest cost and subdued investor interest. Both pre-commissioned and post-commission projects would benefit from the structure.
• Developers would be required to hold minimum percentage of equity in the SPV for completion, operations and maintenance of such infrastructure projects.
• Selection of projects and debt/equity mix at InvIT would determine the yield to investors.

Bonds in offing
Andhra Bank to raise Rs 1,000 crore infra bond
ICICI Bank plans to raise Rs 2,000 crore via infra bonds
GMR Infra to raise Rs 2,500 crore
Srei Infrastructure launches Rs 250 crore NCD issue
IFC Raises $100 million to fund infrastructure projects in India

Take out finance, yet to take off
The scheme was developed keeping in view the asset-liability mismatch of banks while lending to infrastructure projects. Typically, the liabilities of banks are of three years, while loans for infrastructure development are given for eight to 10 years or even more. However, when the scheme was launched by the government for infrastructure projects, it could not initially achieve the expected interest from the lenders or borrowers mainly due to certain features like additional cost to lenders or borrower without any certainty of actual takeout, as actual takeout is conditional on the project achieving minimum debt service coverage ratio of 1.10 during first year after COD. Further, there was resistance in operating level of lenders for transferring a good loan asset to IIFCL, without any gain to existing lender. ¨Since banks in India are conservative they don´t want to sell those assets which are paying high interest rate after the construction risk is over and want to transfer only potentially bad loans thereby affecting the quality of IIFC´s balance sheet,¨ says an analyst.