Roads to Wherewithal

Five ways to revitalise infrastructure financing in India.

Akshay Purkayastha
  • New Delhi,
  • Aug 20, 2018,
  • Updated Jul 17, 2019, 2:15 PM IST

Last fiscal, contracts to build highways peaked and the pace of construction was twice as fast as in the previous five years. The government achieved this through policy reforms, which made EPC (engineering, procurement and construction) and HAM (hybrid annuity) models of highway construction attractive - so much so that they now account for 90 per cent of the contracts awarded.

In the process, the government has partly resolved a logjam that had its roots in the FY2008-2012 period, which saw aggressive bidding combined with a high-risk build-operate-transfer (BOT) model. Ultimately, developers lost interest in the sector.

EPC and HAM are relatively less risky for developers and contractors, and these involve materially substantial - and upfront - skin in the game from the government. Such leaning on higher public spending on infrastructure partially offset the steep decline in private sector investments seen over the past few years. That is what has been driving infrastructure investments, with public spending rising by 50 per cent between FY2012/13 and FY2016/17 compared to the previous five years. But such de facto fiscal lifting by the government is not sustainable.

The private sector still does not have the wherewithal to fund infrastructure, and public sector banks, the traditional bulwark of debt financing, are hobbled by bad loans. However, there are five ways to find the money:

First, amp up on the toll-operate-transfer (TOT) model of sweating government road assets. It is attractive to private equity (PE) players, sovereign wealth funds, infrastructure investment funds and developers with strong financial capacity and a long-term investment horizon because it reduces or eliminates construction risk and minimises revenue risk. That is because baseline traffic figures and willingness to pay are already established in such projects. The model is advantageous for the government, too, as it helps generate funds to create new infrastructure assets and frees up locked resources. The National Highways Authority of India awarded the first such TOT bundle for Rs 9,681 crore. Two more such bundles would be on the block this fiscal with one already released in the first week of August.

Second, there is a need to get more buy-in for infrastructure investment trusts (InvITs) from investors. InvITs offer benefits over traditional debt and equity investments due to their tax-efficient returns and mandatory payouts. However, the response to InvITs has been quite subdued and till date, only three have been listed, with the sponsors being IRB, Sterlite Power and L&T IDPL. While the IRB InvIT saw 1.26 times oversubscription, it continues to trade at a discount to the issue price owing to inherent challenges. The problem here is weak investor sentiment. But robust management, strong governance and continuous addition of good quality assets are critical to InvIT yields which, in turn, determine investor interest. In terms of assets, transmission and BOT-Toll assets are ideally suited for monetisation through InvITs. So, it makes sense to calibrate strategies accordingly.

Third, portfolio sale of assets to strategic and financial investors can unlock capital and encourage participation from institutional investors. Matching long-term liabilities of foreign PE investors and sovereign wealth funds makes infrastructure an attractive investment class. 'Patient capital' investors need stable cash flows and higher risk-adjusted yields. But they are averse to taking construction risk and thus, typically prefer a portfolio of operational assets.

Fourth, initiatives such as infrastructure debt funds (IDFs) and securitisation of infrastructure loan assets via pass-through-certificates could be strengthened/explored. IDFs could facilitate taking out a share of the outstanding commercial bank loans. After the commercial operations date, infrastructure loan assets could be targeted for securitisation. But to make things attractive to investors, it would require credit enhancement. Such securitisation could address asset-liability mismatch challenges, create funds for further on-lending and reduce the capitalisation burden on the government for public sector banks.

Finally, given that India's infrastructure build-out needs around Rs 50 lakh crore till 2022, large-scale private sector investment will be quintessential. The key to success in PPP models is an optimal allocation of risks. It is good to see that the government has realised this and is exploring the changes needed for PPP models in the airport sector. That needs to be done for the BOT-Toll model too, particularly for road stretches with high traffic.

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