This document provides an overview of private financing of infrastructure projects in India. It discusses how infrastructure projects are typically structured, with a special purpose vehicle (SPV) established to implement the project. Key project parties and contractual agreements governing the project are described. Power and telecommunication projects are used as examples to illustrate typical financial structures and risks. Private-public partnerships (PPPs) are also discussed as a model for infrastructure development in India given the large funding needs and involvement of the private sector. The document emphasizes the importance of PPPs for meeting India's infrastructure gaps and expanding economic growth.

1. CHAPTER 19
FINANCING INFRASTRUCTURE
PROJECTS

2. OUTLINE
• Private initiative
• Typical project configuration
• Key project parties
• Project contracts
• Financial structure and corporate governance
• Financing a power project
• Financing telecommunication projects
• Managing risks in private infrastructure projects
• Public private partnership
• Recommendations of the committee on infrastructure projects

3. PRIVATE INITIATIVE
 Traditionally, infrastructure projects in India were owned and managed by the
government or a government undertaking. Given the massive investments
required infrastructure, there is now a broad consensus that private sector
participation in this activity must be encouraged
 Private initiative in infrastructure projects can take many forms, ranging from
contracted operation of public utilities to full ownership, operation and
maintenance of these facilities
 A typical example is an electricity generation project which the private sector
builds, owns, operates for a certain period of time (called the “Concession
Period”) and finally transfers back to the government. This concept is called
BOOT.
 For a road project, the private sector may be invited simply to build the
facility, operate it during Concession Period and finally, at the end of the
concession period, transfer the facility back to the government (BOT) without
actually ever owning the same.

4. Typical Project Configuration
 The project is implemented by a Special Purpose Vehicle, which is a distinct
corporate entity.
 Project sponsors take an equity stake in the SPV.
 The SPV enters into contractual arrangements with project contractors,
offtakers, operators, government, and project lenders.
 The dependence on debt is usually high and lenders generally lend on a non-
recourse basis. This means that project lenders would not have any fall-back on
the resources/assets of the sponsors if the SPV fails to meet debt servicing
obligations.
 The contracts are as ironclad as possible and are less left to subjective
interpretation as possible.

5. Key Project Parties
• Project sponsors
• Project vehicle
• Project lenders
• EPC (engineering, procurement, and construction) contractor
• O & M (operations and maintenance) contractor
• Government

6. Project Contracts
 Through a comprehensive web of contracts, every major risk inherent in
the project is allocated to the party / parties that is best able to assess and
manage the risk
 The project contracts are:
 Shareholders Agreement
 EPC Contract
 Project Loan Agreements
 O & M Contract

7. Financial Structure and Corporate Governance
 Many argue that the essence of project finance is the web of contracts meant
to ensure that all parties work in concert for the success of the project, to
distribute risks efficiently, and to prevent the abuse of monopoly power.
 This argument is valid but incomplete because it does not explain why a
project is handled as a separate company, why project parties participate in
the equity of the company, and why the project company relies heavily on
debt in the form of non-recourse financing and limited recourse financing
 Separate SPVs ensure that multiple concessions with different or conflicting
terms are not imposed on the same SPV. It also enhances the trade ability of
these SPVs.
 As it is not possible to write comprehensive contracts (which can envisage
every possible contingency) and monitor them effectively, equity
participation of various stakeholders makes them more committed to the
project.
 Separately identifiable and assured cash flows facilitate a greater reliance
on debt in the form of non-recourse or limited recourse financing.

8. Parties in a Power Project
EPC
Contractor
Sponsors/Other
Shareholders
Fuel
Supplier
State Electricity
Board (Offtaker)Project Company (SPV)
O and M
Contractor
Project Lenders State Government

9. Features of a Power Purchase Agreement (PPA)
 The PPA establishes the conditions under which the SPV would sell power to
the SEB
 The SEB guarantees a minimum offtake from the SPV or, if it fails to do, a
minimum payment
 A payment mechanism and and a security mechanism that ensures availability
of payments on time is established. In India, several large projects have been
financed on the basis of a 3 tier security mechanism
Level 1 : Letter of credit
Level 2 : Escrow account
Level 3 : Irrevocable guarantee of the state government
 The formula for computing tariffs
 Termination under conditions of sustained default by either the SPV or the
SEB.

10. Telecommunication Projects
 Telecommunication projects are characterised by large project costs, a
virtually continuous project implementation (or roll–out), long gestation
periods, and a dispersed customer base that exposes the project to commercial
risks and requires significant marketing and selling budgets. In telecom
projects, in practice there can be no single COD ( Commercial Operations
Date).
 In general, telecom projects incur cash losses in initial years and these need to
be funded. Unlike a power project which generates reasonably flat revenues
and profitability over its life, telecom projects, by virtue of their continued
implementation and increase in subscriber base demonstrate increases in
profitability over a period of time.
 Private telecom projects operate under a license from the Department of
Telecom and the projects framework is determined by the conditions of the
license.

11. Factors considered by Project Financiers in a
Telecommunication project
• Conditions imposed by the license
• Equipment supply contract(s)
• Financial strength of the project sponsors
• Business plan assumptions
• Competitive environment

12. Financing Telecommunication Projects
 In general, telecom projects incur cash losses in initial years and these
need to be funded. In determining a telecom project’s cost, lenders
follow the concept of “ peak Negative Cash Flow Period,” which
determines the maximum period over which the project requires
external cash infusion and the total external financing requirements
during the period.
 Given the long gestation periods and the commercial risks, project
lenders in India have funded telecom projects on a lower debt-equity
ratio (DER) such as around 1:1

13. Infrastructure Financing Scenario in India
 Due to their complex nature, infrastructure projects have historically been funded by
banks and financial institutions, SBI, IDFC, ICICI, IDBI, and PFC being the key
financiers.
 In recent times, there has been an increasing interest from the capital markets in
financing equity requirements in well-structured infrastructure projects.
 Banks have become more responsive and are now willing to lend upto tenors of 12
to 20 years.
 A large part of the Golden Quadrilateral is based on a fixed annuity payment to
contractors on a build-operate-transfer (BOT) model.
 An operate-maintain-transfer (OMT) model is emerging for road financing. Under
this arrangement, the government funds the road while the contractor operates and
maintains it for a fee and then transfers it for a fee.
 There has been a fair amount of action in seaports in the last few years
 The Government of India has recently approved five ultra- mega power projects to
come up in the private sector.
 Telecom operators in the private sector have been funded by debt and equity, coming
in good measure from foreign sources.

14. Managing Risks in Private Infrastructure Projects
• Construction Risk
• Operating Risk
• Interest Rate Risk
• Foreign Exchange Risk
• Payment Risk
• Regulatory Risk
• Political Risk

15. What Is a PPP?
Broadly a PPP refers to a contractual partnership between the public and
private sector agencies in which the private sector is entrusted with the
task of providing infrastructure facilities and services that were
traditionally provided by the public sector. An example of a PPP is a toll
expressway project financed, constructed, and operated by a private
developer.
According to the Government of India, a PPP project is a project
based on a contract or concession agreement between a government or
statutory entity and a private sector company for delivering an
infrastructure service on payment of user charges. A private sector
company is a company in which 51 percent or more of equity is owned
and controlled by a private entity.

16. Relevance of PPPs in India
India, the second fastest growing and the fourth largest economy of the world (in terms of
PPP), faces huge gaps between the demand and supply of essential social and economic
infrastructure and services. There is a shortage of power, roads, ports (airports and
seaports), irrigation facilities, water and sanitation services, and so on. The deficient
infrastructure is a major constraint in sustaining, deepening, and expanding India’s economic
growth and competitiveness. It also impedes inclusive growth and poverty alleviation.
Recognising the importance of infrastructure, the Government of India (GOI) has stepped
up its spending on infrastructure through a series of national programs such as the National
Highway Development Program (NHDP), Bharath Nirman, Providing Urban Services in
Rural Areas (PURA), Jawaharlal Nehru National Urban Renewal Mission (JNNURM), the
Prime Minister’s Rural Road Program, National Rail Vikas Yojana, National Maritime
Development Program (NMDP), airport expansion program, and so on. However, the
estimated investment requirements are far greater than governmental resources. So, the
Approach Paper to the Eleventh Plan has argued for reaching out to the private sector and
private savings and aggressively promoting private partnership in infrastructure
development. The National Development Council (NDC) has passed a resolution which
says that “increased private sector participation has now become a necessity” for mobilising
the resources required for infrastructure expansion and upgradation.

17. Key Government Initiatives
To give impetus to PPPs several initiatives have been taken. The GOI
has established a Cabinet Committee on Infrastructure (COI), a high-
level Committee of Secretaries, a PPP Appraisal Committee (PPPAC) on
the model of the Public Investment Board (PIB), and several task forces
to streamline decision making and operationalise PPPs. It has
established the Viability Gap Funding (VGF) scheme and the India
Infrastructure Finance Company Limited (IIFCL) to provide long-term
finance to PPP projects.
The GOI is working on several initiatives to assist and encourage
capacity building at the state and central levels. It is providing assistance
for creating state level PPP cells as nodal agency, streamlining their
approval process, and developing PPP toolkits (model concession
agreements, project manuals, bidding documents, and project preparation
manuals).

18. The Way Forward
In order to accelerate PPPs the following are needed:
 A stronger policy and regulatory framework has to be created, both at the centre
and the states. The US-India CEO forum has called for a policy and regulatory
framework that fosters efficiency and transparency in the bidding process,
ensures sanctity of contracts, encourages competition, promotes market-driven
tariffs, and separates regulatory and adjudication authorities.
 The availability of long term equity and debt for PPPs has to be augmented
through suitable instruments and mechanisms.
 The shelf of bankable PPP projects has to be expanded.
 The capacity of the government to manage PPP projects has to be substantially
strengthened.
 The government should expeditiously award contracts, facilitate land acquisition,
and ensure better coordination between the centre and states. In particular, large
size PPP projects may be put out for bidding after obtaining mandatory
clearances and approvals, preferably through a Shell Company / Special Purpose
Vehicle as was done recently in the case of Ultra Mega Power Projects.

19. Recommendations of the Committee on Infrastructure
Financing
1. Develop a deep and robust debt market
2. Tap the potential of insurance sector
3. Enhance the participation of banks, financial institutions and large NBFCs
4. Provide fiscal incentives
5. Facilitate equity flows
6. Induce foreign investments
7. Utilise a small portion of foreign exchange reserves for infrastructure
development

20. SUMMARY
 While traditionally infrastructure projects in India were owned and managed by the
government undertaking, there is now a broad consensus that private sector
participation in this activity must be encouraged.
 The key features of project finance which appears to be the principal arrangement
for private sector participation in infrastructure projects are as follows: (i) The
project is set up as a separate company which is granted a concession by the
government. (ii) The sponsor company which promotes the project usually takes a
substantial stake in the equity of the project and enjoys the overall responsibility
for running the project. (iii) The project company enters into comprehensive
contractual arrangements with various parties like contractors, suppliers, and
customers. (iv) The project company employs a high debt-equity ratio, with lenders
having no recourse or limited recourse to the sponsor company or to the
government in the event of default.
 The key differentiating feature of project finance is the manner in which project
risks are allocated to various parties involved in the project. Through a
comprehensive web of contracts, every major risk inherent in the project is
allocated to the party/parties that is best able to assess and manage that risk.

21.  The key project parties are project sponsors, project vehicle, project lenders, EPC
contractors, O & M contractor, and the government.
 The main project contracts are : shareholders agreement, EPC contract, project loan
agreements, and O & M contract.
 In the case of a power project, the power purchase agreement (PPA) establishes the
conditions under which the SPV would sell power to the SEB, the SEB guarantee
for a minimum takeoff, the payment and security mechanism, the formula for
computing tariffs, and the provision for termination.
 Financiers of a telecommunication project consider the following factors:
conditions imposed by the license, equipment supply contract (s), financial strength
of the project sponsors, business plan assumptions, and competitive environment
 Due to their complex nature, infrastructure projects have historically been funded
by banks and financial institutions. In recent times, there has been an increasing
interest from the capital markets in financing equity requirements in well-
structured infrastructure projects.
 Broadly, a PPP refers to a contractual partnership between the public and private
sector agencies in which the private sector is entrusted with the task of providing
infrastructure facilities and services that were traditionally provided by the public.

22.  To give impetus to PPPs in India, several initiatives have been taken. However, a
lot more needs to be done.
 The Committee on Infrastructure Financing has made several recommendations: (a)
Develop a deep and robust corporate debt market. (b) Tap the insurance
companies. (c) Enhance the participation of banks, financial institutions, and large
NBFCs. (d) Provide fiscal incentives. (e) Facilitate greater equity flows. (f)
Induce foreign investments. (g) Utilise a small portion of foreign exchange
reserves for infrastructure developments.