Successfully reported this slideshow.
We use your LinkedIn profile and activity data to personalize ads and to show you more relevant ads. You can change your ad preferences anytime.

Infrastructure financing-india

2,986 views

Published on

Preparation of Project Report for Bank Finance

Published in: Economy & Finance, Business

Infrastructure financing-india

  1. 1. Draft Final Report for the WORLD BANK September 2007 Infrastructure Public-Private Partnership (PPP) Financing in India pwc
  2. 2. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 Content Main Report ACRONYMS......................................................................................................................................................... 5 CURRENCY EQUIVALENTS ........................................................................................................................... 6 1 EXECUTIVE SUMMARY ......................................................................................................................... 7 2 INTRODUCTION ..................................................................................................................................... 10 2.1 2.2 SOME POINTS/ASSUMPTIONS TO BE KEPT IN MIND .............................................................................. 10 OBJECTIVE OF THE STUDY ................................................................................................................... 12 3 OBJECTIVE 1: EVIDENCE BASED DESCRIPTION OF PRESENT FINANCING SOURCES FOR PPP INFRASTRUCTURE ....................................................................................................................... 14 4 OBJECTIVE 2: ANALYSIS OF THE FINANCING OF PPP IN INDIA ............................................ 19 4.1.1 4.1.2 4.1.3 4.1.4 4.1.5 4.1.6 Debt financing ................................................................................................................................ 19 Equity Financing ............................................................................................................................ 25 Significance of Subordinated Debt ................................................................................................. 27 Strategic Investors and their Investment in the Projects................................................................. 28 Summary of Major Issues on the Debt and Equity Side.................................................................. 29 What is Happening in Infrastructure Financing in Other Countries? ............................................ 29 5 OBJECTIVE 3: TO IDENTIFY CHANGES REQUIRED TO REDUCE AND EASE THE IDENTIFIED CONSTRAINTS......................................................................................................................... 31 5.1 NEW AREAS TO FOCUS ON THE DEBT SIDE .......................................................................................... 31 5.1.1 Bonds as a Source of Fund ............................................................................................................. 31 5.1.2 Funding from Insurance, Pension and Provident Funds ................................................................ 33 5.1.3 Improving Bank capacity to lend to Infrastructure Sector.............................................................. 36 5.1.4 ECB as a Source of Infrastructure Financing ................................................................................ 36 5.2 NEW AREAS TO FOCUS ON THE EQUITY SIDE ....................................................................................... 38 5.2.1 Holding Company Structure Creates Issue in Raising Equity ........................................................ 38 5.2.2 Private Equity Investment to Shore up Promoter Equity ................................................................ 39 5.2.3 Equities Market as a Source ........................................................................................................... 41 5.2.4 Role of International Developers.................................................................................................... 42 5.3 CONCLUSION ....................................................................................................................................... 43 7.1 LIST OF INTERVIEWS CONDUCTED ....................................................................................................... 53 7.2 LIST OF PPP PROJECTS......................................................................................................................... 54 7.3 SOURCES FOR PROJECT INFORMATION ................................................................................................. 60 7.4 ASSUMPTIONS ...................................................................................................................................... 64 7.4.1 Analysis Assumptions...................................................................................................................... 64 7.4.2 Regions ........................................................................................................................................... 65 7.4.3 Sample Sizes.................................................................................................................................... 66 7.4.4 Approximation of Financial Closure Year from Secondary Sources .............................................. 66 7.4.5 Approximation of TPC from Secondary Sources ............................................................................ 70 pwc 1
  3. 3. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 Annexures 6 ANNEXURE 1 - PROCESS FOR SELECTION OF PPP INFRASTRUCTURE SECTORS FOR THE DETAILED STUDY ................................................................................................................................. 44 7 ANNEXURE 2 - APPROACH AND METHODOLOGY OF THE STUDY ........................................ 51 8 ANNEXURE 3: SURVEY COVERAGE ................................................................................................. 74 9 ANNEXURE 4 - OTHER KEY TRENDS IN PPP INFRASTRUCTURE FINANCING.................... 79 10 ANNEXURE 5 - FUTURE LENDING TO PPP INFRASTRUCTURE PROJECTS FROM COMMERCIAL BANKS IN INDIA ................................................................................................................ 92 11 ANNEXURE 6 - PROJECT RISK PROFILE AND RELATIONSHIP TO LENDING TERMS 108 12 ANNEXURE 7 - DIFFERENCES IN EQUITY INFUSION............................................................ 126 13 ANNEXURE 8 - REFINANCING OF PPP PROJECTS ................................................................. 129 pwc 2
  4. 4. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 List of Exhibits EXHIBIT 1: SAMPLE SIZE FOR PROJECT INFORMATION COLLECTION ..................................................................... 14 EXHIBIT 2: TRENDS IN TOTAL 231 PROJECTS AND SAMPLE OF 104 PROJECTS ....................................................... 14 EXHIBIT 3: PPP PROJECTS IN DIFFERENT SECTORS BY NUMBER AND VALUE ....................................................... 16 EXHIBIT 4: TRENDS IN PPP PROJECTS BY AWARDING AUTHORITY ....................................................................... 16 EXHIBIT 5: OVERALL FINANCIAL STRUCTURE OF PPP PROJECTS IN INDIA ............................................................ 16 EXHIBIT 6: SOURCE OF SENIOR DEBT FUNDING .................................................................................................... 17 EXHIBIT 7: SOURCES OF DEBT BY SECTOR AND SHARE OF COMMERCIAL BANKS BY TYPE ................................... 17 EXHIBIT 8: LOAN TENURE TO CONCESSION PERIOD RATIO FOR TEN PPP PROJECTS IN LAST TWO YEARS............ 22 EXHIBIT 9: DSCR REQUIRED BY BANKS ............................................................................................................... 23 EXHIBIT 10: PROJECT RISK CATEGORY AND AVERAGE INTEREST RATE ............................................................... 25 EXHIBIT 11: INCREASED GEARING OVER THE YEARS ............................................................................................ 26 EXHIBIT 12: DER BY SIZE ..................................................................................................................................... 26 EXHIBIT 13: SOURCES OF PURE EQUITY ................................................................................................................ 26 EXHIBIT 14: SOURCES OF EQUITY ......................................................................................................................... 27 EXHIBIT 15: INSTANCES OF SUB-DEBT BY YEAR AND SECTOR .............................................................................. 28 EXHIBIT 16: STRATEGIC INVESTMENT BY SECTOR ................................................................................................ 28 EXHIBIT 17: INVESTMENT BY LIFE AND NON-LIFE INSURER IN LAST THREE YEARS (USD MILLION) .................. 33 EXHIBIT 18: YEAR ON YEAR FUND COLLECTION BY EPFO................................................................................... 33 EXHIBIT 19: INVESTMENT BY INSURANCE COMPANIES IN RATED SECURITIES ...................................................... 34 EXHIBIT 20: CHINESE INSURANCE REGULATION ................................................................................................... 34 EXHIBIT 21: ECBS IN INFRASTRUCTURE (MARCH 2004 - FEBRUARY 2007).......................................................... 36 EXHIBIT 22: HOLDING COMPANY STRUCTURE AND ITS IMPLICATIONS ................................................................. 39 EXHIBIT 23: PE DEALS FOR THE YEAR 2006.......................................................................................................... 39 EXHIBIT 24: PRIVATE EQUITY INVESTMENTS IN THE YEAR 2006........................................................................... 40 EXHIBIT 25: INFRASTRUCTURE FUND BY MUTUAL FUNDS .................................................................................... 41 EXHIBIT 26: SECTORS CONSIDERED BY INFRASTRUCTURE DEFINITIONS BY VARIOUS AGENCIES ......................... 45 EXHIBIT 27: SELECTION OF SECTORS .................................................................................................................... 49 EXHIBIT 28: PROJECT METHODOLOGY .................................................................................................................. 51 EXHIBIT 29: REGIONAL DISTRIBUTION OF VALUE OF PPP PROJECTS BY STATE .................................................... 74 EXHIBIT 30: REGIONAL DISTRIBUTION OF PPP PROJECTS BY VALUE AND NUMBER ............................................. 74 EXHIBIT 31: SECTORAL DISTRIBUTION OF PROJECTS IN THE FOUR REGIONS......................................................... 75 EXHIBIT 32: REGIONAL DISTRIBUTION OF PROJECTS BY AWARDING AUTHORITY ................................................ 75 EXHIBIT 33: SECTOR WISE DISTRIBUTION OF STATE AND CENTRE PROJECTS BY NUMBER AND VALUE ............... 75 EXHIBIT 34: SIZE WISE GROUPING OF PPP PROJECTS BY VALUE AND NUMBER ................................................... 76 EXHIBIT 35: PROJECTS BY SIZE CLASSIFICATION AND SECTOR ............................................................................. 77 EXHIBIT 36: AVERAGE SIZE OF PROJECTS ............................................................................................................. 77 EXHIBIT 37: TRENDS IN AVERAGE SIZE OF ALL ROADS & BRIDGES AND NHAI PROJECTS .................................... 77 EXHIBIT 38: CENTRE AND STATE BY NUMBER AND VALUE................................................................................... 78 EXHIBIT 39: SECTORAL DISTRIBUTION OF CENTRE/STATE PROJECTS BY NUMBER AND VALUE ........................... 78 EXHIBIT 40: SECTORAL COMPOSITION BY VALUE AND NUMBER .......................................................................... 79 EXHIBIT 41: SIZE WISE DISTRIBUTION AND REGIONAL DISTRIBUTION .................................................................. 79 EXHIBIT 42: ISSUE OF NEGATIVE GRANT IN ROAD PROJECTS................................................................................ 80 EXHIBIT 43: SECTOR WISE NON GRANT, POSITIVE GRANT AND NEGATIVE GRANT PROJECTS ............................. 80 EXHIBIT 44: POSITIVE AND NEGATIVE GRANT PROJECTS – NUMBERS AND AMOUNT ........................................... 81 EXHIBIT 45: COUNT AND AMOUNT OF POSITIVE AND NEGATIVE GRANT IN ROAD & BRIDGES SECTOR ................ 82 EXHIBIT 46: FINANCING STRUCTURE FOR POSITIVE AND NON-GRANT PROJECTS AND ANNUITY AND NEGATIVE GRANT PROJECTS ......................................................................................................................................... 82 EXHIBIT 47: FINANCING STRUCTURE BY AWARDING AUTHORITY AND SECTOR ................................................... 83 EXHIBIT 48: FINANCING STRUCTURE BY SIZE ....................................................................................................... 83 EXHIBIT 50: SOURCES OF DEBT BY YEAR AND SIZE .............................................................................................. 83 EXHIBIT 52: TREND IN DEBT FROM COMMERCIAL BANKS..................................................................................... 84 EXHIBIT 53: AVERAGE TENURE OF DEBT AND CONCESSION PERIOD .................................................................... 84 EXHIBIT 54: SENIOR DEBT TO PURE EQUITY RATIO BY SECTOR ........................................................................... 85 EXHIBIT 55: INCREASED GEARING ........................................................................................................................ 85 EXHIBIT 56: DER BY AWARDING AUTHORITY AND SIZE ...................................................................................... 86 EXHIBIT 57: DER BY SECTOR AND SIZE ................................................................................................................ 86 EXHIBIT 58: AVERAGE INTEREST RATE SPREAD OVER 10-YR G-SEC YIELD ......................................................... 87 EXHIBIT 60: INTEREST RATE SPREADS AWARDING AUTHORITY ........................................................................... 87 pwc 3
  5. 5. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 EXHIBIT 61: REDUCING RESETS ............................................................................................................................ 88 EXHIBIT 62: AVERAGE RESET PERIOD ................................................................................................................... 88 EXHIBIT 63: SOURCES OF EQUITY ......................................................................................................................... 89 EXHIBIT 64 : STRATEGIC INVESTMENT BY SECTOR ............................................................................................... 89 EXHIBIT 65 : FDI ALLOWED BY SECTOR ............................................................................................................... 90 EXHIBIT 66: FDI IN PPP INFRASTRUCTURE ........................................................................................................... 90 EXHIBIT 67: EQUITY RETURNS EXPECTATIONS BY INVESTORS ............................................................................. 91 EXHIBIT 68: CREDIT OUTSTANDING OF COMMERCIAL BANKS (USD BILLION)..................................................... 93 EXHIBIT 69: ROADS, PORTS & OTHERS PPP LENDING/ INFRASTRUCTURE LENDING RATIO BY BANKS IN INDIA TO THESE SECTORS............................................................................................................................................. 96 EXHIBIT 70: PRIVATE SECTOR LENDING OUT OF TOTAL BANKS LENDING TO POWER PROJECTS IN USD BILLION .. 98 EXHIBIT 71: PPP POWER FINANCING CAPACITY OF BANKS IN NEXT 5 YEARS (USD BILLION) AT PRIVATE TO INFRASTRUCTURE LENDING RATIOS OF 15% MEDIUM GROWTH ................................................................... 98 EXHIBIT 72: CALCULATION OF DEBT FINANCING GAP .......................................................................................... 99 EXHIBIT 73: INFRASTRUCTURE LOAN OUTSTANDING OF IDFC ............................................................................ 100 EXHIBIT 74: IDFC’S TRANSPORT PPP LENDING AS ON 31ST DECEMBER IN USD MILLION ................................. 100 EXHIBIT 75: PFC LENDING TO POWER PROJECTS IN USD BILLION ...................................................................... 102 EXHIBIT 76: FINANCING REQUIREMENT FROM SOURCES OTHER THAN COMMERCIAL BANKS AND FINANCIAL INSTITUTIONS (USD BILLION) .................................................................................................................... 102 EXHIBIT 77: RISK AND INTEREST CHARGED ........................................................................................................ 110 EXHIBIT 78: DEBT ANNUITY PER KM AND RISK CATEGORY ................................................................................. 111 EXHIBIT 79: PROJECT CATEGORY AND DATA ...................................................................................................... 126 pwc 4
  6. 6. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 Acronyms ADB Asian Development Bank ALM Asset Liability Management APIIC BOT Andhra Pradesh Industrial Infrastructure Corporation Build Operate Transfer DEA Department of Economic Affairs DER Debt to Equity Ratio DFI Development Financial Institution DIAL Delhi International Airport Limited DoRTH DSCR FII Department of Road Transport and Highways Debt Service Coverage Ratio Foreign Institutional Investor FPO Follow-on Public Offer GDP Gross Domestic Product GoI G-Sec Government of India Government of India Securities HCC Hindustan Construction Company HDC Haldia Dock Complex HIAL Hyderabad International Airport Limited IDBI IDFC IFC IIFCL IL&FS INR Industrial Development Bank of India Infrastructure Development Financial Corporation International Finance Corporation India Infrastructure Finance Company Limited Infrastructure Leasing & Financial Services Indian National Rupees IPPs Independent Power Producers IRDA Insurance Regulatory and Development Authority JICA Japan International Cooperation Agency JBIC Japan Bank for International Cooperation KPCL LIBOR LIC MCD MF MoF MW NBFC NCD NDMC Karnataka Power Corporation Limited London Interbank Rate Life Insurance Corporation of India Municipal Corporation of Delhi Mutual Funds Ministry of Finance Mega Watt Non Banking Financial Company Non Convertible Debentures New Delhi Municipal Corporation NHAI National Highway Authority of India NTBL Noida Toll Bridge Company Limited PFC PFI PLR PMGSY Power Finance Corporation Private Finance Initiative Prime Lending Rates Pradhan Mantri Gram Sadak Yojna PNB Punjab National Bank PPP Public Private Partnerships PwC PricewaterhouseCoopers pwc 5
  7. 7. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 PWD RBI Public Works Department Reserve Bank of India RVNL Rail Vikas Nigam Limited SBAR State Bank Advance Rate SBI State Bank of India SCB Scheduled Commercial Banks SPV Special Purpose Vehicle TOR Terms of Reference ULB UNESCAP Urban Local Body United Nations Economic and Social Commission for Asia and the Pacific USD United States Dollar VGF Viability Gap Funding WB ’00,00,000 ’00,000 World Bank Crore Lakh ` Currency Equivalents Conversion Factor 1 USD (US Dollars) = 45 INR (Indian National Rupees) Conversion Factor 1 USD (US Dollars) = 0.034 UF1 (Unidad de Fomento) Conversion Factor 10 USD (US Dollars) = 1MXN (Mexican peso) Conversion Factor 1 USD (US Dollars) = 3 UDI2 (Unidades De Inversion) All values are at historical value. 1 The Chilean UF (Unidad de Fomento) is a reference currency updated daily in relation to inflation, internal consumer prices, and currency fluctuations. Most long term contracts, mortgages, insurance premiums, house prices etc. are quoted in UF while the actual payments are made in Chilean pesos at the rate of the day. 2 The Mexican UDI is a inflation-adjusting reference currency used to price Investments and loans which is converted to pesos at the time of payment pwc 6
  8. 8. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 Executive Summary It is being increasingly recognised in India that lack of good quality infrastructure is a bottleneck that must be removed in order to maintain the growth rate shown by the country in the past two years. To achieve the targeted economic growth, there is an urgent need to increase the level of investments in infrastructure. Government estimates peg the total infrastructure investment requirement in the country at about USD320-350 billion over the next five years. Considering the high emphasis on using PPP as an important format for creation and maintenance of infrastructure and considering the realistic levels that PPPs can go upto, about 20% of the total (USD64 to 70 billion) is estimated to come from PPP route. Though PPP infrastructure development in India is at a nascent stage, recent trends have been very encouraging. Our study has estimated that the total value of PPP infrastructure projects in India that have achieved financial close in the last ten years is about USD15.8 billion (in the study, sectors included are - all transport sectors, urban infrastructure, water & sanitation, power transmission and distribution). Hence, achieving the growth rate envisaged over next five years for investment from private players will definitely require a huge step-up approach to project development and implementation. Sectoral Distribution of PPP Projects by Value (Total Value USD15.8 billion) Waste Water 0.1% Water Supply Solid Waste 2.3% Airports Management 17.2% 0.4% Ports 20.5% Roads & Bridges 53.7% Railways 1.8% Power Distribution 1.8% Power Transmission 2.3% The good sign is that the year on year the trend is increasing. In the last 3 years alone, PPP infrastructure projects worth USD 8.2 billion (93 in number) have achieved financial close as against USD 5.1 billion (131 in number) projects in the previous 8 years. Many PPP projects are in Roads & Bridges sector. However, other sectors have also participated in PPP infrastructure growth except for urban infrastructure sector, where success of PPP is yet to be tested. Regionally West along with South dominates in development of PPP infrastructure (accounting for more than 75% by value and also number of projects). Infrastructure financing not only in terms of amount but also in terms of the cost and terms at which the finance is available to private players is very critical. The study shows that PPP infrastructure projects have so far been largely financed by debt (68% of project costs, on an average). The pwc Trend in PPP Projects by Value 6.00 5.00 USD Billion 1 4.00 3.00 2.00 1.00 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 Year of Financial Close Sources of Senior Debt (Total Value USD7.72 billion) Others 28% Commercial Banks 72% Composition of Other Sources of Senior Debt Insurance Companies IFCI 1.9% 1.5% Others 5.5% HUDCO 2.6% IL&FS 3.1% SIDBI 3.2% ADB 3.7% IFC 4.9% IDBI 17.3% IIFCL 34.4% IDFC 22.0% 7
  9. 9. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 contribution of equity has been 25% with remaining coming from subordinate debt3% and grant-4%. Commercial banks are the major source of debt and constitutes 72% of all debts with other financial institutions such as IDFC, IIFCL, IDBI, IL&FS, etc. constituting the balance 28%. Interestingly, the tenor of term loan by banks is around 50% of concession period length (see charts overleaf). Average Tenure and Concession Period 16 Airports 30 13 Ports 28 12 Power Transmission 25 10 Railways 28 14 Roads & Bridges 5 Solid Waste 16 15 Water Supply - 5 23 10 Average Concession Period 15 20 Number of Years 28 25 30 35 Average Tenure of Debt Unlike the international markets that have a very high gearing, the typical gearing ratio in India is 70:30 though there is a clear trend towards increasing gearing ratios in recent projects, as also in the road sector which has moved the farthest in the PPP market. Commercial banks are comfortable lending to PPP projects despite having limited long term resources, but always with resets. The resets have shown a clear trend of becoming shorter and shorter in duration. In the absence of appropriate interest rate swaps in the market, project developers have limited choice. However, the survey reveals that when interest rates came down substantially, Developers have tried successfully to refinance their loans, particularly when the construction periods were over. This activity also mirrors what happens in the developed markets. Internationally, banks that are active in the infrastructure PPP market have various options to manage their matching of long term lending with several products. Unlike international banks, which package and sell down their different debts to various types of buyers, the Indian banks do not have many options as yet. From our survey and analysis of financing of PPP projects, other interesting observations on the debt side of funding are: • Relationship banking or promoters strength is the most important factor that influences lending to PPP projects. Driven by the fact that there is little history of operational PPP projects, banks ask for corporate and sometime personal guarantees from the developers. • Long term sources such as Insurance and Pension Funds are currently not going into PPP infrastructure, as they can invest in only in ‘AA’ rated instruments and there are no ‘AA’ rated instruments available from the SPVs of the PPP projects in the market as of now. Internationally, investment grade “BBB’ is the minimum rating requirement for Insurance and Pension Funds’ investment. • Bonds are not a popular source of funding at all in the PPP market. Apart from the absence of an active market, the developers surveyed also indicated that the cost of issuing and credit enhancement makes these costlier than the term loan from banks. Though not explicitly stated, higher level of disclosure is also a reason. Absence of monoline institutions in India, unlike in the international scenario, is also an important reason. • External Commercial Borrowings (ECBs) in the current scenario have become relatively less expensive and developers are looking at them favourably even with such loans having no option of long term forward cover or convertibility into rupee loan before their maturity. The ECB policies followed in the next few years will determine their contribution to financing of infrastructure projects. pwc 8
  10. 10. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 Of the USD11.48 billion investments made in the last 12 years (in the surveyed 104 PPP projects for which detailed financial Sources of Pure Equity (Total value USD2.93 billion) information was obtained), the total equity Strategic was USD2.93 billion. Of this, the maximum Inverstors 6% Government equity (USD1.43 billion) has been funded in 10% Roads & Bridges because of large number of Financial Institution projects being awarded on PPP basis in the 2% last 3-4 years. On the Equity side, our survey reveals that majority of the equity, almost Developer 82% 82% is provided by developers themselves. Financial investors and other strategic sources are small. In a few cases, where the SPV has been set up as a joint venture between Government and the Developers, Government has made their equity contribution, typically limited to 26% or less. Clearly, if this trend were to continue, there would be big issue on the volume of equity available from the developers when significant up-scaling of PPP activity takes place. However, there are very significant developments taking place in the market wherein strategic investors in the form of PE funds are entering in. Though the volume of their investments in infrastructure PPP market has been small till now (under USD300 million in the year 2006), it is expected that this will go up very rapidly with recent entry announcements by both Indian and international PE players. Many PE firms are looking at the infrastructure sector favourable and Government too has supported the setting up of a USD5 billion fund to invest in PPP projects. Our survey identified certain key equity side constraints in PPP infrastructure financing. For example, FDI cannot come into Holding Companies (typically created by Developers combining a few infrastructure projects) under automatic route thus requiring specific Government approvals (FIPB). This restrains holding company to raise capital outside India. Given the fact that the Government has removed most hurdles for FDI into infrastructure in the country, this still remains a road block for FDI into PPP infrastructure. Also, a two tier structure of holding & SPV companies (again typical of Indian infrastructure developers) results in cascading effect of Dividend Distribution Tax. The two tier structure is important for attracting equity investors to the PPP infrastructure projects because there are a number of exit restrictions to direct equity investments into SPVs as also the SPV’s existence is co-terminus to the concession period. Accepting the recommendations of the Patil Committee Report, the Government has already taken some steps to develop the Bond Market. Also, the Government is actively looking at the initial recommendations of the Parekh Committee to address several constraints identified. The role of an important financing institution (IIFCL) is being examined for playing the role of a monoline institution. It is therefore, our suggestion that on all these issues, namely bond market development, FDI into holding companies, cascading effect of dividend tax, and accessing insurance and pension funds, the Government should give preferential and liberal treatment as far as infrastructure investments are concerned. pwc 9
  11. 11. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 2 Introduction The Indian economy is going through its most remarkable phase of growth - with GDP growth rate at an average of 7.6% in the Tenth Plan Period (2002-03 to 2006-07) as compared to the average of 5.5% in the Ninth Plan Period (1997-98 to 2001-02). The Eleventh Five Year Plan projects an even higher average annual growth rate of 9%. This rapid growth of the Indian economy has brought into focus the poor state of infrastructure in India. Congestion can be seen everywhere, be it roads, ports or airports and reports show that all sections of the Indian society, from the business community to the common man, feel constrained by the lack of adequate infrastructure. Their concern is highlighted in the approach paper to the 11th plan, put out by the Government of India (GoI), which states that, “The most important constraint in achieving a faster growth of manufacturing is the fact that infrastructure, consisting of roads, railways, ports, airports, communication and electric power, is not up to the standards prevalent in our competitor countries. This must be substantially rectified within the next 5-10 years if our enterprises are to compete effectively.” The message coming from all quarters is that the continuation of the growth momentum of India will require significant improvement in infrastructure. Several estimates have been made about the level of infrastructure requirement in the next five years required to sustain a growth rate of 9 percent. The most widely quoted of these estimates is a GoI estimate which projects that, during the 5 years of the 11th plan period, USD 320 billion of infrastructure (in 2005-06 prices) will be required. The estimate also breaks down this requirement sector wise and projects that a majority of this investment will go in the power sector followed by railways and national highways. In this report we deal with the likely challenges that will be encountered in financing of this infrastructure requirement. In recent times there have been several committees, individuals and interest groups that have given their recommendations on how to increase the level of financing for infrastructure projects. This report does not aim to replicate their work. Instead the focus of this report is on providing evidence based descriptions on the challenges of infrastructure financing- how infrastructure projects are being financed currently and the sufficiency of the existing means to finance future infrastructure requirements. In this report we present an extensive amount of primary data on the current situation in infrastructure financing, and this sets apart this report from others which mostly offer viewpoints of experts on the situation of infrastructure financing in India. In addition to the primary data we also present views from prominent stakeholders in the infrastructure sector on the challenges of financing infrastructure. Based on an understanding of the challenges we highlight our views on how infrastructure financing is going to evolve, especially in the near term. However, before we get into the analysis we need to clarify some important points/assumptions that we have made in the report. 2.1 Some Points/Assumptions to be Kept in Mind Future Infrastructure requirement: As already stated earlier in the report, GoI estimates the level of infrastructure requirement in India in the next five years to be around USD 320 billion. However, it is difficult to determine the accuracy of this estimate. This requirement is based on an estimate of infrastructure capacity expansion required in some chosen infrastructure sectors during the eleventh plan period. Projects chosen are mostly in the Central sector, for example in roads the estimate accounts explicitly for only National Highways and not for State Highways or Rural Roads. There is an ‘Other’ category which possibly encompasses infrastructure needs in the states and in sectors such as Special Economic Zones, telecommunication etc. However, estimating that only 17 percent of the USD 320 billion pie will go for these is definitely an underestimate. Also many estimates of infrastructure requirements even in the chosen sector are only preliminary and pwc 10
  12. 12. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 the financing requirements for the infrastructure are just ballpark. It is therefore, difficult to know what the actual requirements will be. However, at the same time many experts doubt that the Government will be able to implement USD 320 billion worth of projects even if financing was available. They point to the limited capacity of Government departments and agencies and question their ability to formulate such a large number of projects. Because of this lack of capacity, they claim that while USD 320 billion of financing need might be projected, the actual financing need will be significantly less. In this sense the USD 320 billion figure is an overestimate. Because it is difficult to pinpoint the actual future infrastructure requirement we will take the figure of USD 320 billion for analysis in this report. While it is clearly not the right number it does show that the infrastructure financing requirement is very large and that significant improvements need to be made to infrastructure financing in India to meet this large demand. Focus on Public Private Partnership: Infrastructure development in India has largely been in the Government domain. However, in recent years Government of India (GoI) and State Government(s) have been putting an increasing focus in involving the private sector in infrastructure creation under the public private partnership (PPP) framework3. Two commonly cited reasons for this are as follows: 1. Funding the infrastructure deficit: Given the large investment required for infrastructure development in India and the scarce Government resources, it is unlikely that public funds would be adequate to meet the needs in this context. In addition, the Fiscal Responsibility and Budget Management Act4 and steps towards fiscal prudence adopted by both the Centre and State Governments have also contributed to the thought process of involving the private sector in the process of infrastructure development in the country. 2. Value addition: Apart from being an alternate source of finance, private sector participation is also viewed as a possible way of value addition in the various aspects of the value chain of infrastructure development including innovation, managerial efficiency in the project management process, adoption of better technology in key infrastructure areas etc. PPPs are thus being seen as an important tool for producing an accelerated and larger pipeline of infrastructure investments, and catching up with the infrastructure deficit in the country. In this report we will concern ourselves with the financing of infrastructure projects under the PPP framework. Government financing of infrastructure is done primarily from budgetary resources and public debt and Government provides guidance on its investments in many of its documents like the Union and State budgets, annual plans etc. In contrast PPP projects in India are not well documented and only very limited information is available on their financing in the public domain. Given that PPP projects are being looked at as an important means of meeting the infrastructure requirement in India we have focused this study on the financing of PPP infrastructure projects (in consultation with the GoI and World Bank). Definition of Infrastructure: Infrastructure is defined differently by different reports/estimates and by different agencies. Currently there is no consensus on the sectors to be included in infrastructure. For example, the Economic Survey of India 3 GoI has specifically defined PPP in the “Scheme for financial support to Public Private Partnerships in Infrastructure” (also commonly known as Viability Gap Funding or VGF) as follows – “PPP means a project based on a contract or concession agreement between a Government or Statutory entity on the one side and a private sector company on the other side for delivering an infrastructure service on payment of user charges.” 4 The FRBM bill, passed in August 2003, makes the government responsible for elimination of revenue deficit by 2008-09 and a fiscal deficit of 3 percent. pwc 11
  13. 13. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 published by the Reserve Bank of India includes “Storage Infrastructure” as a part of Infrastructure while it is not included as Infrastructure by most other agencies. Also most reports do not drill down to the sub-sectors which they include. For example while the Economic Survey includes inland waterways in its definition of transport sector some other agencies do not. Because of the diversity of definitions available we also need to clearly define the infrastructure sectors we will look at so as to not confuse the reader. For defining Infrastructure for the purpose of this report we start with taking a comprehensive approach to the definition of infrastructure, basing it on as many relevant sectors as is done commonly by the Government agencies. However, for analysis in this report we have excluded some sectors as the focus of this report is on PPP infrastructure projects in particular and not on all infrastructure projects as in India PPP have not taken place in all infrastructure sectors and not all sectors are looked upon as equally amenable to PPP. To come to our definition of PPP we developed some criteria and then subjected the infrastructure sectors to these criteria. Annexure 1 gives the details of the process we used for selecting PPP infrastructure sectors for the detailed study. Based on the process our definition of PPP infrastructure involves projects in the following: 1. 2. 3. 4. 5. 6. 7. 8. Roads Railways Airports Ports Power including generation (to a limited extent), transmission and distribution Urban water supply including treatment, transmission and distribution Waste water including disposal and treatment Solid waste management These sectors include all prominent sectors highlighted by GoI in their estimation of the infrastructure financing requirement. Keeping the above points/assumptions as boundaries for this report the objectives of this study are described next. 2.2 Objective of the Study The primary objectives of the study is to identify issues and constraints to Public Private Partnership (PPP) infrastructure financing which are foremost on the minds of market players/ stakeholders in the infrastructure financing market, and to elicit feedback to identify efforts required to ease the constraints. Specifically the objectives of the study are as follows: 1. To provide evidence-based descriptions of present financing sources for PPP infrastructure projects in India with an idea to specifically identify and assess financing constraints associated with such projects. 2. To analyse the financing of PPP in India in detail. The analysis will be used to identify: • Constraints to expanding the range of investors in infrastructure; • Constraints to financing faced by current investors; and • Financial innovations in India and abroad for infrastructure financing and their applicability in Indian context. 3. To identify changes required to reduce and ease the identified constraints. To meet these objectives a detailed approach and methodology was developed and agreed upon in consultation with GoI and the World Bank. This approach and methodology is highlighted in Annexure 2. The key elements of our methodology are as follows: 1. We prepared a detailed list of PPP projects in the sectors chosen for the study. 2. We met key stakeholders including sponsoring agencies, project developers and financial institutions to obtain detailed information on the mode of financing of the chosen pwc 12
  14. 14. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 projects. The data was then analyzed to bring out trends in Infrastructure financing in India. We also carried out detailed interviews with over 80 individuals representing the above institutions as well as some other developers, financial institutions, rating agencies and Government agencies. The interviews focussed on their perception of the issues with the current mode of PPP infrastructure financing and ways to ease the constraints. The following sections detail out the objective listed above. pwc 13
  15. 15. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 Objective 1: Evidence Based Description of Present Financing Sources for PPP Infrastructure PPP projects have begun to take off in the infrastructure sector in India. In the infrastructure sectors chosen for the study we estimated that as many as 231 projects have already achieved financial close with a combined value of USD 15.80 billion. We were able to get detailed financial information for 104 of these projects, which form nearly 45 percent of the total PPP projects by number, but with a total value of USD 11.48 billion form more than 72 percent of the total PPP projects by value. This indicates that we have been able to capture detailed financing information for most large PPP projects in our sample. We could not obtain information for all the projects as for many projects the stakeholders refused to share financing details citing confidentiality or commercial reasons. In spite of that our sample of 104 projects is large enough to highlight the trends in financing of PPP infrastructure projects. Even for projects where we were not able to obtain detailed financial information we did manage to obtain other project information. Exhibit 1 & Exhibit 2 below highlight our coverage. Annexure 3 highlights the coverage of our survey in greater detail. Exhibit 1: Sample Size for Project Information Collection Number Number Value (USD billion) % of total Value % of total Project Information* 231 100% 15.80 100% Detailed Financing Information 104 45% 11.48 72% Notes: *Considered only those projects that have achieved Financial Close *As agreed with World Bank during inception phase, we have not considered: • • • Urban projects less than USD1 million; cities less than 1 million population Smaller road projects in states (below USD1 million) in MP, Maharashtra and Rajasthan (about 20 numbers.) Select power distribution projects such as Noida, Ahmedabad and Mumbai; Real estate oriented projects such as Nandi Corridor (NICE), Mumbai Car Park, etc. We have also made assumptions in a very small number of projects about project costs, financial closure, etc Exhibit 2: Trends in Total 231 Projects and Sample of 104 Projects Number of PPP Project Value of PPP Projects 50 5.00 40 Number 6.00 USD Billion 3 4.00 3.00 2.00 30 20 10 1.00 0 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 Year of Financial Close Detailed Financial Information All PPP Projects 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 Year of Finanacial Close Detailed Financial Information All PPP Projects If we look at the temporal trend of the PPP projects in India we find that PPP projects clearly show an increasing trend in the past 10 years with a sharp increase particularly in the last 3 years. Out of the total projects more than 93 PPP infrastructure projects have pwc 14
  16. 16. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 achieved financial close in the last three years. This is as compared to a total of 131 projects in the previous 8 years5. If we look at a sector wise distribution, as can be seen from the graph below, road sector (especially National Highways) has seen the maximum activity in terms of the number of projects. PPP Projects in India by Number (Total Number 224) 50 Number 40 30 20 10 0 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 Year of Financial Close Roads & Bridges Railways Solid Waste Management Ports Power Distribution Waste Water Airports Power Transmission Water Supply In value terms we find that growth has been even steeper in the recent years. In 2006 projects worth USD 6 billion achieved financial close as compared to projects worth only USD1.8 billion in 2005. However, when looked at sector wise we find that road projects are not as dominant as they are by numbers. Roads sector which forms more than 81% of the total PPP project by number accounts for approximately 54% of the total projects by value (please refer to Exhibit 3). Even though the Port and Airport projects are fewer by number they are usually large by value and constitute 20.5% and 17.2% of the total PPP projects by value respectively. PPP Projects in India by Value (Total Value USD13.32 billion) 6,000 USD Million 5,000 4,000 3,000 2,000 1,000 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 Year of Financial Close Roads & Bridges Railways Solid Waste Management Ports Power Distribution Waste Water Airports Power Transmission Water Supply 5 Project achieving financial closure in the year 2007 (7 in number – 2 Airport, 5 Roads & Bridges) have been excluded in this trend analysis because the analysis cannot be done for the whole year in 2007. That is why in the graphs showing yearly trends the number of projects comes to 224 instead of 231 and the project value comes to USD 13.32 billion rather than USD15.8 billion. pwc 15
  17. 17. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 Exhibit 3: PPP Projects in Different Sectors by Number and Value Sectoral Distribution of PPP Projects by Value (Total Value USD15.8 billion) Sectoral Distribution of PPP Projects by Number (Total Number 231) Waste Water 0.1% Water Supply Solid Waste 2.3% Airports Management 17.2% 0.4% Water Supply 2% Airports Ports Solid Waste 2% 8% Power Management Distribution 2% 2% Railways 2% Ports 20.5% Roads & Bridges 53.7% Railways 1.8% Power Distribution 1.8% Power Transmission 2.3% Roads & Bridges 82% We also find that the number of projects awarded by Central Government agencies is only slightly higher than those of State projects. This bears testimony to the widespread acceptance of PPP projects in India. However, by value PPP projects awarded by Central agencies dominate over those in the states. Exhibit 4: Trends in PPP Projects by Awarding Authority PPP Projects Awarded by Centre/State by Number (Total Number 224) PPP Projects Awarded by Centre/State by Value (Total Value USD13.32 billion) 5,000 40 4,000 USD Million 6,000 50 Number 60 30 State 20 3,000 2,000 State 10 1,000 Centre Centre - 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 Year of Financial Closure 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 Year of Financial Closure If we look at the financing of these projects we find that PPP projects in India have been largely financed by plain vanilla debt6. On an average across all projects 68 percent of the project cost is usually financed by debt, 26 percent by promoter’s equity while only 2 percent comes from sub-debt. The remaining 4 percent of the project cost comes from Government grants of different kinds. The grants are mainly in the form of monetary support given by both the State and the Central Government to make the projects viable. Exhibit 5: Overall Financial Structure of PPP projects in India Financial Structuring of PPP Infrastrutcure Projects (Total Value USD11.48 billion) Sub-Debt Grant 4% 3% Equity 25% Debt 68% 6 The analysis hereon is done for a sample of 104 projects for which we have detailed financing information. pwc 16
  18. 18. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 The institutions which dominate infrastructure financing in India are commercial banks. Out of a total debt financing done for PPP projects nearly 72 percent can be attributed to term loans from banks while other institutional lenders provide the rest. This is slightly higher than what is prevalent in the financing of infrastructure in developing countries overall, where World Bank estimates suggest that nearly 62 percent of the financing comes from this source. Out of the debt financing of USD7.72 billion, 72% can be attributed to term loans from commercial banks. USD1.93 billion, which forms 28% of the total debt funding, is from sources other than banks. Players like IIFCL (34.4%), IDFC (22%) and IDBI7 (17.3%) dominate in the funding from other sources. Exhibit 6: Source of Senior Debt Funding Composition of Other Sources of Senior Debt Sources of Senior Debt (Total Value USD7.72 billion) Insurance Companies IFCI 1.9% 1.5% Others 5.5% HUDCO Others 28% 2.6% IL&FS 3.1% SIDBI 3.2% ADB 3.7% IFC 4.9% IIFCL 34.4% Commercial Banks 72% IDBI 17.3% IDFC 22.0% Banks and other institutional lenders provide debt on a syndicated basis, especially for large projects. There are nearly 30 lenders which are active in the infrastructure financing market and participate in the lending syndications. However, only 6-7 of these play the role of lead banks in the syndicate and have the capacity to appraise projects. Others rely on the appraisal carried out by the lead bank for lending to projects. Within commercial banks we find that a majority of the senior debt funding is done through public sector banks in India. The project database shows that public sector banks dominates with a share of 82 percent, while share of private sector banks and foreign banks are only 13% and 5% respectively8. Exhibit 7: Sources of Debt by Sector and Share of Commercial Banks by Type Sources of Debt by Sector Share of Commercial Banks by Type (Value USD5.6 billion) Water Supply Foreign Bank 5% Solid Waste Management Private Sector Bank 13% Roads & Bridges Railways Power Transmission Ports Airports 0% 20% 40% Commercial Banks 7 8 60% 80% Institutions 100% Public Sector Bank 82% Others IDBI has become a bank only after the 2004 we have therefore,, considered it to be an institutional lender in this report Lenders break-up into banks or institutional investors is only available for debt amounting to USD4.18 Billion pwc 17
  19. 19. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 Equity contribution in projects, the next highest means of financing a project comes mostly in the form of promoter’s equity. In the past year a number of private equity players have been showing keen interest in financing a portion of the equity. However, the difficulty in being able to take out equity from the project SPV has slowed down the extent of private equity deals in the sector. The only financial innovation of any sort that has taken place is the issuing of sub-debt to cover a portion of the equity. A unique aspect of the sub Not Known 14% debt issue in India is that as much as 86 percent of the sub debt is lent from institutions which syndicate the issue of senior debt. If we look at the financial structuring of infrastructure projects Member over the years we find that the level of or senior 22% debt has been increasing over the years while the Lead level of equity has been going down9. What the 64% trend demonstrates is that bankers seem to be getting more confident on the infrastructure projects. From 2004 we find an increased optimism for infrastructure projects with a drop in equity required below the commonly accepted 30 percent. In some projects, especially in the road sector, promoter equity even went below 10 percent. However, to compensate for the lower levels of equity banks often insist on sub debt to be taken by the promoter, with the level of sub debt going to as much as 25 percent in some cases10. Sub-Debt from Commercial Banks by Source & Value Changes in Financial Structure Over the Year 80% 70% 60% 50% 40% 30% 20% 10% 0% 1995 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 Senior Debt Equity Sub-Debt Grant Other key trends and analysis are presented in 9 The trend in 2000 and 2001 of relatively low debt levels and high equity levels is because of the closing of a few port projects during those years which had high levels of equity. Some experts have raised the concern that developers are using grants from Government for reducing their equity contribution rather than reducing the debt component of the project. Annexure 8 highlights this issue in more detail. 10 pwc 18
  20. 20. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 4 Objective 2: Analysis of the Financing of PPP in India PPP projects in India are Size Wise Grouping of PPP Projects by Value and Number predominantly small in (Value USD15.8 billion, Number 231) size (less than USD 50 million) by number of projects and these small by Value 11% 20% 69% projects are able to reach financial closure without much difficulty (given that they are viable and carry 61% 18% 21% reasonable levels of risk). by Number However, there are also a small number of large PPP projects (project 0% 20% 40% 60% 80% 100% size greater than USD <USD 50 Million USD 50-100 Million >USD 100 Million 100 million), the financing of which is significantly more complicated. As can be seen from the accompanying graph while only 21 percent of the total PPP projects (or about 48 projects) are large projects, they account for nearly USD 11 billion in project size11. The average size of such large projects is approximately USD 230 million and financing each of such projects requires significant coordination between markets players involved in infrastructure financing. In this section we analyze in detail the present modalities and issues in infrastructure financing particularly bringing out issues in the financing of large projects. The discussion is divided in two parts- first we analyze the modalities and issues in the use of Debt to finance infrastructure and second we analyze the modalities and issues concerning the use of equity and sub debt in financing of infrastructure projects. A discussion on grants is also incorporated in this section, where appropriate. 4.1.1 Debt financing On the debt side we present the current trends on the basis of detailed information on debt financing information for the 104 projects, as indicated earlier. We also present views obtained from our interaction with the key financial institutions and developers. The value of total senior debt, for the 104 projects, aggregate to USD7.72 billion. Box 1: Institutions Operating in Debt Financing of PPP Projects The accompanying diagram gives a schematic representation of the types of institutions presently providing debt financing for PPP projects. As can be seen from the diagram PPP debt financing is dominated by commercial banks in India (the size of the circle depicts the size of lending to infrastructure). These banks offer mainly plain vanilla loans and sub debts where needed. However, as we will explore in detail later, the commercial banks are hampered by the lack of availability of long term finance as well as lack in providing innovative financial instruments. The second group of institutions are DFI’s (development finance institutions) like IDBI, IDFC, HUDCO, PFC, and IL&FS etc. Some of them like IDFC have comparatively long term finance available from the Government and most of them were keen to introduce a portfolio of innovative financial products (like some initial use of take out financing by IDFC). 11 World Bank has estimated that 20 percent of the Infrastructure Financing requirement of USD 320 billion will come from PPP projects. This works out to a financing requirement of USD 64 billion for PPP infrastructure projects in the next 5 years. If the same trend in value and number of PPP projects continues in the future then it would be fair to assume that out of the USD 64 billion nearly 45 billion will come from a small number of large projects, financing of which will require significant financial innovation pwc 19
  21. 21. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 However, today their lending behaviour has become (for most purposes) not much different from commercial banks. They also are not prominent players as they lack size. Finally there are bilateral and multilateral institutions. While they too have long term loans available and can offer innovative financial products (like political risk insurance, currency risk insurance etc.) their participation in lending to PPP projects is insignificant as of now. Availability of Long Term Finance High Bilateral and Multilateral Institutions IL&FS IDBI IDFC Commercial Banks Low Specialized Institutions -PFC, HDFC, HUDCO, Indian Railway Finance Corporation etc. * Size of circle indicates relative size in the financing pie High Use of Innovative Financial Instruments The project database shows commercial banks to be the predominant source of long term debt. However, this has not always been so. Historically requirements of long term debt by industry were predominantly met from development finance institutions (DFI’s) promoted by the GoI. The financial sector reforms started in the 1990s allowed the private sector to raise long term finance from banks and international capital markets. At the same time it made DFIs unable to raise long-term resources at reasonable cost due to changes in the SLR requirements by banks and disqualification of investment by banks in DFI bonds to meet their SLR requirements. Since then banks have become the largest source of financing for long term debt, with some erstwhile DFI’s like ICICI and IDBI have also converted themselves into banks. This raises questions on the future role of DFIs in financing of infrastructure projects. Bank lending to the infrastructure sector has grown rapidly over the last few years. However, the growth in lending to infrastructure is not unique. In fact it is concomitant with a sharp rise in non food credit provided by banks, with strong growth in credit off take being observed in both the corporate and retail segments (more detailed projections for the PPP infrastructure lending by commercial banks is presented in Annexure 5). Also infrastructure projects are not unique in the need for long term loan. Significant proportion of the credit demand for the long term exists in other sectors like real estate. This demand for long term loan from multiple sectors will eventually hamper the lending by commercial banks due to the issue of Asset Liability Mismatch. This issue is explored next. Asset Liability Mismatch (ALM): Long term financing by banks exposes them to the risk of asset liability mismatch. The major source of fund for Indian banks is saving bank deposits and term deposits, the maturity profile of which ranges from less than 6 months to 5 years. Such deposits account for over 80 percent of the liabilities of Public Sector banks and around 73 percent for Private Sector banks. Lending long term with such a short term asset base exposes the banks to ALM risks. One manifestation of ALM is in terms of liquidity risk. This is the risk that excessive long term lending growing faster than the growth in credit will result in banks failing to repay its short term depositors. As long as there is surplus liquidity in the banking system there is very little liquidity risk. This situation prevailed in the Indian banking system for a long time when the deposit growth was much higher than the credit off-take. However, in the past 2-3 years the situation has reversed, with credit off-take (including long term credit off-take) far exceeding pwc 20
  22. 22. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 deposit growth. This has resulted in banks liquidating their statutory reserves with the RBI to fund the credit demand. While this is unlikely to cause banks to fail in India, yet there are some worrying signs. Firstly there is a rapid reduction in excess Statutory Liquidity Ratio12 (SLR) in the banking system. ICRA estimates that SLR has reduced to around USD 13 billion (Rs. 600 billion) as on March 2007 from over USD 55 billion (Rs. 2.5 trillion) as on March 2005 and around USD 26 billion (Rs. 1.2 trillion) as on March 2006. As a result the ability of the banks to repo these excess securities to meet liquidity pressures have reduced. Also by lending long term banks expose themselves to the risk of reduction in margins. To service liabilities and to meet credit demand banks need deposits. The scarcity of deposits in such a situation leads them to pay ever higher premium for them. In India this has been seen in the form of high interest rate time deposits being issued by banks to improve their liquidity situation. RBI view on the ALM issue is that in the future banks role will have to be confined to supplementing long term lending rather than remain as the primary lenders. The development of other avenues for long term funding is important in the light of the fact that RBI is pushing the banks to become more stringent in lending long term. Internationally many banks avoid ALM by participating in infrastructure projects through bridge loans and mini perm loans during the riskier construction period of infrastructure projects. After the operations begin and the risks are lower then financing is sought from other less expensive long term lenders (like insurance firms) as well as from bond issues. In India the absence of such lenders makes such a situation difficult at present. Another way in which International banks are able to manage their long term Asset Liability matching issue is selling down their loans in a variety of ways, sometimes packaging several project debts together, to buyers with different risk appetite. Typically these buyers include other banks, pension funds, insurance companies, other institutional investors etc. Since, the market is very liquid for such products, banks or the buyers of such products do not have major issue of asset-liability mismatches. The timing of such sell downs also range from immediate to few years depending on the risk profile of projects as well as the risk appetite of buyers. Commercial banks in India are not able to meet their ALM mismatch in the same way. The market for such products is not liquid and hence not preferred by many investors. Banks can raise long term Bonds to provide long term debt to PPP projects. RBI through its annual Policy statement for the year 2004-05-issue of long-term Bonds by banks13 has allowed for this. The circular allows banks to raise rupee denominated long term bonds to the tune of bank’s exposure to infrastructure projects with residual maturity of more than 5 years. However, the cost of these long term funds to banks and ultimately to the PPP project is high and there is not much demand for expensive credit. Some institutions/ banks like IDBI, ICICI, UTI, and IDFC etc have raised long term funds through bonds for lending long term. However, competition with commercial banks, who lend long term using cheap retail assets (cost of assets being less than 5 percent in some cases), forces even the more prudent banking institutions to price below what is necessarily prudent. In addition, to ALM issues another issue with the present financing of the debt component of infrastructure projects relates to the short tenure of loans and the reset periods on offer. Tenure and Reset Period of Infrastructure Loans: Presently the tenure of infrastructure loans is nearly half of the concession period. Our interviews with banks indicate that the short tenure is possibly given by the banks to give them enough time for restructuring the infrastructure asset in the event that something goes wrong with the project. 12 SLR is that amount which a bank has to maintain in the form of cash, gold or approved securities with the Reserve Bank of India (RBI). The quantum is specified as some percentage of the total demand and time liabilities of a bank. This percentage is fixed by RBI and the minimum stands at 25 percent at present. 13 Circular number RBI/2004/236-DBOD No. BP.BC. 90 /21.01.002/ 2003-04 dated June 11, 2004 pwc 21
  23. 23. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 Average Tenure and Concession Period 16 Airports 30 13 Ports 28 12 Power Transmission 25 10 Railways 28 14 Roads & Bridges 5 Solid Waste 16 15 Water Supply - 23 5 10 28 15 20 Number of Years Average Concession Period 25 30 35 Average Tenure of Debt As compared to India internationally the debt tenure is typically 80-90% of the concession period. For example, some of the PPP deals in the international market as presented in Exhibit 8 have average debt tenure to concession period ratio of 80%. Exhibit 8: Loan Tenure to Concession Period Ratio for Ten PPP Projects in last Two Years # 1. Year of Financial Close Project Debt Amount (million) Debt Tenure (years) Currency Ratio 4. 5. 6. 7. 8. 2007 29 320 Pound 25 86% The Keppel Seghers Tuas Project (Waste to Energy Project – Singapore) 2006 25 105 US Dollar 23 92% The Uijeongbu Project (Korea) 2006 30 132 Euro 18 60% W 20 67% 51 3. Project 58 2. Lancashire Waste (UK) Concession Period (years) W 23 77% Limerick (Ireland) Tunnel The Wastewater (Belgium) light rail conduit 2006 36 258 Euro 34 94% Brussels-North Project 2006 20 167 Euro 18 90% 100 Euro 19 95% Cyprus Airports (Cyprus) Project 2006 25 542 Euro 19 76% Calle 30 (Madrid) Ring-road Project (Phase-1) (Spain) 2005 35 1350 Euro 30 86% Madrid's flagship ring-road 2005 35 1350 Euro 30 86% pwc 22
  24. 24. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 project, Calle 30 (Spain) 9. 10. 1150 Euro 20 57% E18 Grimstad-Kristians and road project (Norway) 2006 35 399 Euro 28 80% Richmond Airport-Vancover rapid transit project (Canada) 2005 35 600 (Canadian Dollar) 25 71% Average 80% Source: Project Finance Magazine various issues However, it must be noted that in UK too PPP loans, in the initial years, were of shorter period when compared to concession lengths, the reason being little known history of performance of PPP projects. Even now real toll projects, where the traffic risk is borne by the project companies, have relatively smaller debt tenure to concession length ratios. The significant issue with debt financing in India is that in addition to short tenure banks also ask for short resets and high Average Debt Service Cover Ratio (DSCR) from promoters. In our interviews banks have indicated that they prefer a 1.5 DSCR or more, except for (NHAI) annuity projects where they are willing to look at lower DSCR (near 1.2) due to lower risk on projected revenues. Exhibit 9: DSCR Required by Banks Minimum DSCR Desired by Banks 1.2-1.5 24% More than 1.5 26% Around 1.5 50% In mature markets like UK, the Average DSCR in PPP projects range from 1.05-1.1. However, banks attributed this difference to the lack of history of PPP projects in India which forces the banks to keep a higher margin for repayment. Another reason for a higher DSCR in India is because the traffic risk in the project is also factored in by banks. Along with high DSCR requirements banks in India also push for short reset period in projects. Volatile interest rate regime14 in India has been one of the factors that have led to 14 In order to assess the volatility we have analysed the four rates viz State Bank Advance Rate (SBAR), LIBOR, 5 Year Government Securities Rate & 10 Year Government Securities Rate. The accompanying exhibit shows a decline in average reset periods across years. From the point of view of projects short reset periods are potentially risk for infrastructure projects as an upward movement in rates can worsen project viability. The volatility of the interest rate is also evident from the Standard Deviation of each of the above rates, presented in table below: Benchmark Rates Standard Deviation SBAR 0.013 3 year G-Sec 0.024 5 Year G-Sec 0.025 10 Year G-Sec 0.026 Libor 0.019 Source- RBI, SBI, Moneycafe website pwc 23
  25. 25. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 banks to become cautious on interest rates. The accompanying exhibit shows a decline in average reset periods across years. From the point of view of projects short reset periods are potentially risk for infrastructure projects as an upward movement in rates can worsen project viability. Average Reset Periods 3.5 3.0 3.0 3.0 2.7 2.6 2.5 2.0 2.0 1.5 1.0 0.5 2002 2003 2004 2005 2006 Year The reset period for some of the recent projects have become yearly. Yearly reset periods are a way of passing the entire interest rate risk to the project. However, our interactions surprisingly showed that many developers actually preferred shorter resets. This is because the experience in India has been one of falling interest rates and projects being refinanced at a lower rate. Having said this we have not come across any project in our survey where there was an increase in interest rates because of the reset clause. The possible reason for this phenomenon is that in general the interest rates have been falling over the years of the survey and also that banks generally perceive a lower risk when the project construction period is over. Post construction, when the majority of the risks have been covered, the developers frequently renegotiate the loan terms with the commercial banks to more favourable terms. However, in the present system renegotiations have to be carried out for individual projects which can be both time consuming and expensive. There is no availability of institutions which actively seek projects to take up on their own once the construction risk is over. (Annexure 8 presents some of the case studies and international examples on refinancing of PPP infrastructure projects) One view that we commonly encountered during our interviews was that despite some obvious safeguards adopted by banks in lending to the infrastructure sector it was doubtful whether the banks were pricing all the risks correctly. Some market participants felt that commercial banks were showing a lot of exuberance in lending to infrastructure sector and in the process was ignoring several project risks during lending. They felt that the situation of not building in risks in the lending terms was not sustainable and a tightening of lending conditions as well as the implementation of the Basel II norms might result in a reduction in lending by banks to the sector. It is important to analyze this claim because one of the significant criticisms of infrastructure development in China has been that banks have lent without prudence thereby saddling them with huge levels of Non Performing Assets. Risk pricing by banks: To test whether risks are being priced appropriately by commercial banks we decided to analyze the lending terms of one set of projects all belonging to one sector (in our case the road sector) but with differing risk profiles (Annexure 6 details out our It can be seen above that 5 Year G-Sec and 10 Year G-Sec have been more volatile than LIBOR and SBAR. SBAR is much less volatile and because of that, State Bank of India, the leading infrastructure lender in the country, has now linked its interest rate to SBAR instead of G-Sec. pwc 24
  26. 26. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 methodology and findings). Based on our analysis we categorized our sample of projects into high risk, medium risk and low risk. We analyzed the average interest rate charged to an infrastructure project belonging to the three categories for the years 2002 and 2006 (where a large set of projects were available). Separate analysis was done for 2002 and 2006 because the interest rate charged differs across years due to the variation in the rate of government securities. The following results were obtained from the analysis: Exhibit 10: Project Risk Category and Average Interest Rate Financial Closure Year 2002 Risk Category Low Risk Medium Risk High Risk 2006 Average Interest Rate 12.00 13.00 10.00 Low Risk Medium Risk High Risk 9.09 9.39 9.79 Note: Higher risk category number means higher project risk. As can be seen from the table there does not seem to be any significant correlation between the level of risk in the project and the interest rate charge. It is easy to see why a perception can arise that risks are not being taken into account. However, that might not entirely be true. Based on our data it is difficult to comment the level to which risks are taken into account. However, there does not seem to be any significant reason to believe that risks are not being taken into account during lending. Also the imminent implementation of the Basel II norms will require banks to become even more stringent on project lending. A bigger cause of worry for lending by banks is that RBI exposure norms may constraint the lending to some developers by banks. RBI classifies infrastructure financing to SPV’s in India as forming part of the group exposure of the parent company. Beyond a certain point banks are not allowed to take further exposure to these companies. In the current situation large companies with varied interests are likely to hit the group exposure norms in the next 2-3 years preventing banks from lending to them. Institutions such as the IIFCL have been actively lobbying the RBI and Finance Ministry to do away with the group exposure norms for infrastructure. However, till now the RBI has stuck to not making any changes to the group exposure norms. But if no changes are made then companies will be forced to look at additional means of financing the debt component of the projects. This situation might become a driver for change in the project finance market as existing commercial banks will be forced slow down the growth in lending to the infrastructure sector. (Though is difficult to assess the lending capacity of banks given the limited amount of information available still an attempt has been made to assess the PPP lending capacity of banks. The detailed methodology and findings of the assessment are presented in Annexure 5). The next section discusses the trends and issues in equity financing in India. 4.1.2 Equity Financing In our interviews with key stakeholders we found repeated reference to one key issue- the amount of equity required to attract large volume of debt in the infrastructure sector is not available. The lack of adequate amounts of risk capital is leading promoters of large infrastructure projects to push for ever higher leverage from commercial banks. The commercial banks on their part have largely acquiesced to their demands realising that reaching financial closure would be difficult otherwise. If we look at the numbers we find that Senior Debt to Pure Equity Ratio (DER) over the years for all sectors has increased has increased from 2.1 in the year 2002 to 4.3 in the year 2006. pwc 25
  27. 27. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 Exhibit 11: Increased Gearing over the Years Debt to Equity Ratio Ratio (Senior Debt to Pure Equity) 5.0 4.5 4.0 3.5 3.0 2.5 2.0 1.5 1.0 0.5 - 4.3 2.6 2.3 2.1 2.0 2002 2003 2004 2005 2006 Year Also while we find that DER has increased across the board for all project sizes, the maximum increase has been in the case of large projects. This indirectly hints at the problem identified by stakeholders- large volumes of equity capital are not easily available. Exhibit 12: DER by Size Debt to Equity Ratio by Project Sizes (Senior Debt to Pure Equity) 6.0 5.0 4.0 3.0 2.0 1.0 2002 2003 2004 2005 2006 Year <USD 50 Million USD 50-100 Million >USD 100 Million As per our analysis, total equity infused in PPP infrastructure projects (sector wise) is USD2.93 billion by the Year 2006. The maximum equity (USD1.43 billion) has been brought in Roads & Bridges which is due to the large number of projects being awarded on PPP basis in the last 3-4 years. As can also be seen from the accompanying graphic nearly 80 percent of this equity at the SPV level is infused by the promoter’s themselves. This is because due to the lack of exit options at the SPV level, lock-in etc. very few equity providers are willing to participate at the SPV level. Annexure 7 explores the differences in equity infusion by strong and small developers and looks at the restrictions on equity dilution in concession and loan agreements. However, equity from other sources does come in at the Promoter company/Holding company level through IPOs, private placements etc. Exhibit 13: Sources of Pure Equity Value of Pure Equity for sectors (Total value USD2.93 billion) Solid Waste Management, 7.8 Water Supply, 102.3 Airports, 511.0 Sources of Pure Equity (Total value USD2.93 billion) Government 10% Strategic Inverstors 6% Financial Institution 2% Roads & Bridges, 1,429.5 Ports, 648.3 Power Transmission, 107.6 Railways, 119.8 pwc Developer 82% 26
  28. 28. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 One major reason for the predominance of equity infusion by developers is that currently there are several restrictions on equity investments. The way rules are structured in India makes taking out of the equity by the developers very expensive. This issue is discussed in detail later in the report. The ability of a developer to reduce their equity in the project is important so that it can recycle the equity into other projects. Equity can be shared at the beginning of the project or it can be sold off later in the project. However, in India many concession agreements do not allow the developer to sell off their equity in the project. Internationally it is common for financial investors to take over the project once the construction phase is over. This is because once the construction risk is over financial institutions are more adept at increasing the returns on the project equity as compared to a developer. The financial investor in turn hires a contractor/s to provide for O&M. In the Indian situation this can especially work as no developer really has the experience to claim that they adept at operating the assets in comparison to some one else. While some movement has been seen in this direction, with the new NHAI agreements allowing for more selling down of the equity, many concession agreements still do not even provide for such a possibility15. In the projects analyzed we have not seen financial investors become a part of the bidding consortium. However, the situation is slowly changing with IDFC, SREI and Macquarie showing some interest in infrastructure projects in India in recent times. Despite these restrictions our data clearly shows that developers have been able to reduce the level of own equity invested in projects. Exhibit 14: Sources of Equity Source of Equity by Sector Source of Equity by Year 3% 2006 77% 2005 56% 2004 Year 12% 24% 61% 2003 11% 29% 20% 40% Developer Own Equity 36% 21% 65% 15% 20% 3% Ports 8% 60% 80% Other Source of Equity 90% 100% Sub-Debt 2% 5% 1% 15% 92% 0% Airports 3% 11% 84% 2000 40% 27% 86% 2001 Railways 20% 73% 2002 11% 2% Roads & Bridges 76% 0% 10% Developers 20% 30% Financial Institution 40% 5% 50% Government 60% 70% Strategic Inverstors 80% 17% 90% 100% Sub-Debt It can be seen that there has been substantial reduction in the percentage of equity provided from developer’s own source for three years after the year 2002. A sector wise analysis shows that equity funding by developers has been supplemented by Government equity as well as sub debt in Airports & Railways projects while developer’s equity has been supplemented primarily by sub debt in the Roads & Bridges projects. As can be seen, sub debt has emerged as the primary means by which developers reduce their equity infusion. The next section explores the role of this important mechanism in reducing equity. 4.1.3 Significance of Subordinated Debt As mentioned above taking on sub debt has been an important avenue through which developers try to reduce their equity stake. Sub-debt infusion in infrastructure PPP projects since Year 1998 has been presented below- 15 In some Port Sector projects like in Pipava, Mundra etc. the original promoter has been able to exit. pwc 27
  29. 29. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 Exhibit 15: Instances of Sub-Debt by Year and Sector Instances and Value of Sub-Debt (Total Value USD333 million) Number of Instances 25 Sub-Debt Across Sectors by Value (Total Value USD333 million) 139.0 Solid Waste Management 1% 93.3 20 Ports 4% Railways 9% 15 10 5 44.3 3.1 3.1 48.0 2.2 0 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 Roads & Bridges 86% Year It may also be noted that there has been an increasing trend in sub-debt since the Year 2004. It can also be seen above that since 1998 an amount of USD333 million has been infused as sub-debt, in PPP infrastructure projects. It is also important to mention that majority of sub-debt (86%) has come in Road & Bridges PPP projects which is a matured and more active sector now in terms of PPP initiative. Our analysis of detailed financing information on the sample of 104 PPP projects reveals that against the popular perception, sub-debt is not limited to annuity projects in Roads & Bridges sector and only about 7% of projects having sub-debt are annuity projects. Analysis of the data shows that most of the sub-debt has been provided by the senior lenders themselves. This clearly means that sub debt is not really considered as quasi equity, providing the lenders with the requisite amount of risk capital, but more as a way to assist developers in putting less equity in the projects. In return for ‘conserving’ the equity of the developers banks charge a higher rate of interest on the sub debt thereby improving the overall yield on the project debt. We also found that sub-debt arrangement becomes easy if the project IRR is comfortable and the developer is reputed. In addition to sub debt we also found a limited number of strategic investors participating in a few PPP infrastructure projects. However, going forward their presence is likely to increase significantly. 4.1.4 Strategic Investors and their Investment in the Projects Based on the survey information collected we found strategic investor in infrastructure sector in only 9 PPP projects. The exhibit below presents more detailsExhibit 16: Strategic Investment by Sector No of project with strategic investor Equity Infused (USD Million) Ports 4 29.89 Airports 3 102.15 Water Supply 1 30.00 Railways 1 4.89 Total 9 166.93 Sectors pwc 28
  30. 30. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 It can be seen that a total of USD166.93 million has come as strategic investment in the PPP infrastructure projects and this investment is mainly in Ports & Airports sector. In addition to the lack of strategic investors there is also little Foreign Direct Investment in the infrastructure sector. 4.1.5 Summary of Major Issues on the Debt and Equity Side We find that on the debt side the major lenders are commercial banks. Going forward relying on commercial banks as major lenders is precarious as banks are likely to be constrained in their future lending due to the issue of asset liability mismatch. Also banks have not been able to offer very long tenure loans and the reset period on these loans is very short. Finally the exposure norms may prevent banks from lending to large developers in India thereby stymieing the growth of PPP infrastructure in India. On the equity side we find that promoter’s of PPP infrastructure projects have to put in most of the equity requirement of an infrastructure project. There is an acute shortage of equity with private developers and if the present trend continues then they will not be able to attract the requisite amount of debt for the projects. Use of sub debt has eased the equity requirement somewhat. However, restrictions on taking out of the equity by developers remain a cause for concern. Involvement of financial investors in bidding for infrastructure projects is also limited at present as is the involvement of strategic investors and international companies. 4.1.6 What is Happening in Infrastructure Financing in Other Countries? With an understanding of what is happening in India it is important to compare it with how infrastructure projects are financed in other countries. This will help to highlight the gaps faced by the infrastructure financing market in India and will also point to what can be done about them, based on the experiences in other countries. This review is predominantly focussed on infrastructure project development in other developing Asian countries (especially China, Indonesia, Malaysia and Thailand where a majority of the private sector investment in infrastructure have taken place) as the situation in many of these countries is similar to the situation in India. India is not unique in having a substantial infrastructure creation requirement. In fact as early as the ninth five year plan (over the period 1996-2000) China had projected an infrastructure requirement of nearly USD 305 billion, close to the infrastructure financing requirement being projected in India for the 11th five year plan. And like India commercial banks have been the major source for financing this infrastructure requirement. The role of other financial institutions and capital markets has not been significant. It has also been seen that Chinese banks are also resorting to using the corporate finance model as opposed to project finance model for some infrastructure projects to bring in increased comfort. As far as other Asian countries are concerned the infrastructure financing situation is also not much different from India. Before the Asian economic crisis there was a significant flow of foreign currency infrastructure financing, which was arranged by international banks. International bank participation was high in a lot of countries as banks followed international developers who participated significantly in developing infrastructure in these countries. The long term relationship between international banks and developers helped to give an additional sense of comfort in financing projects. Comfort was also got from various guarantees given by Governments to reduce the risk of the lenders. However, the experience of this first round of infrastructure development was bitter after the East Asian economic crisis hit. Some countries like Indonesia defaulted on the guarantees offered to project sponsors16 as they were hit by devaluation of the local currency. It was also realized during the crisis that many projects had been financed on the basis of questionable viability 16 India (famously in the Dhabol case) too defaulted but it was not because of the East Asian crisis. pwc 29
  31. 31. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 and under pressure from the economic downturn a lot of the projects suffered. As infrastructure projects floundered in the wake of the crisis the increased risk perception led to a significant reduction in the flow of capital for infrastructure projects in these countries. With international capital flows drying up there has been an increased reliance on domestic markets and commercial banks in many countries to provide the financing needed for infrastructure projects. Infrastructure sector in countries with high liquidity in the banking system have been able to tide the crisis as local commercial banks in these countries have started to take a lead in infrastructure financing. The major reason for reliance on the banking system has been that other avenues for financing are not significantly developed in these markets. China has seen the consequences of excessive reliance on commercial banks to lend to the infrastructure sector. Chinese banks are saddled with very high levels of NPAs and as a consequence very low returns on average assets. The returns on average assets for Chinese banks are in the below .20 as compared to Indian banks where these returns range from just below 1 to significantly more than 1. Banks are surviving only because of the high levels of liquidity in the market and because the Chinese Government is strongly backing them. Confidence of international lenders has also slowly been returning. However, in their second coming international banks have often been beaten by highly liquid local banks which have been able to out price international banks as well as shown willingness to take higher levels of risk while giving out plain vanilla products. International banks with higher financing cost as well as currency risks have not been able to offer the kind of products needed by the markets in these countries. Another issue for the lack of financing products from international banks has been that the attendant legal underpinning necessary for such transactions is either absent or not easily enforceable in many countries. If we contrast the above with the situation prevailing in India we find that there are many similarities. Commercial banks lead infrastructure financing in India like elsewhere. Also like India most other developing countries lack alternative means of financing infrastructure. There are some countries like Chile and Malaysia which also have a strong corporate bond market which helps in raising infrastructure bonds. But even in these countries the tenure of the bonds is not significantly more than the tenure being offered by the banks to infrastructure projects in India. As the Chinese example shows large involvement of the banks in financing infrastructure can lead to deterioration in bank finances. Thus if the health of the banking sector has to be maintained (or improved upon in light of Basel II guidelines) then alternatives to bank lending in infrastructure projects will need to be found. Also, going forward, a large proportion of the infrastructure financing will be local currency based even though other countries have successfully implemented projects with external commercial borrowing. This is because in India the RBI fears that a significant rise in liquidity in the market will increase the inflation rate which it wants to keep in check. Also RBI is quite stringent on exchange risk management. While it is imperative that other sources of infrastructure financing will need to be tapped in India there are very few successful templates that exist in the developing world for developing markets for such financing. As a consequence India will have to largely chart its own course on the matter taking cognizance of developments elsewhere. The aim of the reforms will have to be to ease the constraints that are faced in infrastructure financing. In the next section we discuss some of the changes required. pwc 30
  32. 32. Infrastructure Public-Private Partnership (PPP) Financing in India Draft Final Report September 2007 5 Objective 3: To Identify Changes Required to Reduce and Ease the Identified Constraints As discussed in the previous section, from a financing point of view there are several changes required to help ease the requirements of the infrastructure sector in the long run. Many of these issues are already recognized by the GoI and in particular the Ministry of Finance. It is important to understand that these changes, even if forthcoming, will not yield dramatic results. It is highly unlikely that the requirement of USD 320 billion will be financed if the constraints are removed as results of many of these changes will only be seen in their full force in the long run. That is why the changes required should be viewed at as forward looking activities which need to be rolled out to streamline the financing requirement in the future. Changes are required both on the debt side and the equity side. On the debt side new sources of funds need to be developed to reduce the reliance of infrastructure financing on commercial bank lending. Also to continue the momentum of bank financing of infrastructure changes need to take place so that banks do not concentrate risks from long term lending. On the equity side as well new sources of equity need to be explored to ease the scarcity being faced by excessive reliance on promoter’s equity. It is important to keep in mind that changes required should not be such that they compromise on risk assessment of projects or give out bad loans. India already has had experience with such lending by development finance institutions to the corporate sector. These institutions where saddled with large amounts of bad loans and fiscal imperatives post the reform in 90’s led to a fading away of many such institutions. Thus while infrastructure development is critical we assume that the Government will not take it up at the cost of prudence. This section will highlight the areas where we feel changes are needed. It will also present some areas in which changes are already taking place. However, as already indicated at the beginning this report does not involve giving recommendations on the policy changes required as various other reports already describe them. Instead focus will be on detailing out the possibility for change in various areas and then leave it to the Ministry of Finance and other concerned stakeholders to decide on the exact path they want to follow to bring about changes. 5.1 New Areas to Focus on the Debt Side On the debt side the major changes required are the introduction of new sources of financing to supplement bank lending to infrastructure projects and reducing the risk of bank lending to infrastructure. Large volumes of funds are locally available in India both with institutional investors as well as with the common public. Also funds can be accessed via external commercial borrowings. Development of the bond market, securitization, syndicated loans from international markets etc. are some of the ways of tapping the funds. In addition selling down of the infrastructure loans held by banks will help in maintaining the level of lending by banks. In this section we explore some of these issues in more detail. 5.1.1 Bonds as a Source of Fund Bond market in India is one of the largest in the Asia and includes issuances by the Government (Central & State Governments), public sector undertakings, other Government bodies, financial institutions, banks and corporate. Despite there being a large number of players bond issuances are dominated by Central and State Governments through the issue of Government Securities (G-Sec). Current outstanding G-Secs are more than 25 percent of our GDP. In direct contrast the corporate bond market is not that well developed with a total bond issuance in 2005-06 of less than USD 20 billion. Also out of the total corporate bond pwc 31

×