Challenges of Infra finance-overview

• What is infrastructure?
• Characteristics/Importance.
• Two important questions.
• Why special and difficult?
• Market failure.
• Availability of finance.
• Role of private investors
• Bottlenecks for private investors
• Sources of finance.
• Examples-Shapoorji Palonji
• PPP-Expressways.
 What is infrastructure?

Rapid growth demands huge infrastructure investments

1. Ports.
2. Airports.
3. Roads.
4. Power generation and distribution.
5. Water and sewerage facilities.
6. Intra and intercity rail networks.
7. Telecommunication networks.
8. Social infrastructure (Education/Health/Prisons)
Creation of good infrastructure as a stepping stone for
economic growth is government’s responsibility.
 Typical characteristics of infrastructure investments
• Long-term assets with long economic life.
• Low technological risk (obsolescence).
• Provision of key public services.
• Non elastic demand.
• Natural monopoly with high entry barriers.Capex.
• Regulated. Also to limit market power derived from
conditions of monopoly.
• Natural hedge against inflation(capex/revenue)
• Stable predictable operating cash flows.
• Low correlation with traditional asset class and
overall macroeconomic performance.
 Importance of Infrastructure
• Infrastructure- input to a wide range of industries
• An important driver of long term growth.
• Delays in implementation of projects lead to large
economic (cost over runs) and social costs (farmer
suicides).
• Badly designed projects, even if realized cannot deliver
expected performance.(Example Delhi bus rapid
transport corridor)
• In some emerging markets, lack of good infrastructure
holds back economic development.
• Even in advanced economies, lack of investment in well
designed transport, renewable energy and social
infrastructure is becoming evident.
 Delhi Bus Rapid Transport corridor
• Indian Express-23/7/15-The Delhi cabinet has finally
given in principle approval to dismantle the city’s BRT
corridor. First implemented in 2008 ahead of the 2010
commonwealth ,BRT was envisaged as a way to
incentivise use of public transport and also as a way to
improve air quality in the long term. It drew inspiration
from similar successful projects in Brazil. Yet, from the
beginning it faced several challenges and suffered from
design errors. Heavy traffic jams had a devastating
impact on public opinion and after the initial criticism
the BRT was not extended beyond its initial 5.8 km
pilot length which minimised its benefits.
 Two important questions.
• If the benefits of • A question of great
infrastructure concern to policy
are so obvious, makers.
why are so few Why is infrastructure
infrastructure investment lagging
projects even though the
successfully potential supply of
implemented? long term finance is
ample?
What makes infrastructure special and financing difficult?
• Complexity and involvement of many parties.
• Often comprise natural monopolies like highways,
waterways, water supply. Governments want to
retain ultimate control to prevent abuse of
monopoly power. (JNPT/ British Petroleum).
• This requires complex legal arrangements to
ensure proper distribution of payoffs and risk
sharing, to align incentives of all parties.
• Measures needed to restrict monopoly power
must still ensure that governments respect pre
agreed contracts.
 What makes infrastructure special and financing difficult?
• Cash flows are generated after many years (long pay back)
making the initial phase of an infrastructure project highly
risky.
• Uniqueness in terms of the services they provide makes
them less liquid.
• The three elements-time profile of cashflows, high initial
risks and illiquidity-make purely private investment difficult).
• Although infrastructure investments are potentially hugely
profitable for the economy as a whole, they are especially
subject to market failures.
• Markets alone cannot provide these services because they
are not profitable on their own, or because associated risks
are too large or costly to insure.
 What makes infrastructure special and financing difficult?

• As a result, infrastructure investment from the

private sector cannot be realised without some
sort of public support-direct (viability gap funding
or some form of insurance)
• Financing apart, many parties- construction
companies, operators, governments, private
investors, insurers and citizens most directly
affected-make it a complex but essential task to
design an efficient set of contracts.
 The infrastructure bottleneck

• The demand for infrastructure projects is likely to grow

faster than output (GDP) and tax revenues.
• McKinsey 2012, share of infrastructure financing in GDP
will increase from 3.8% to 5.6% in 2020.
• In emerging markets increase will be even more. $1
trillion a year up to 2020.
• Similar amounts for developing countries-low carbon
emission energy, transport and social infrastructure.
• Government funding is unlikely to be enough.
• Infrastructure funding will need to come increasingly
from the private sector.
• How do we tap the private sector?
 Availability of finance for infrastructure
• Potential supply of long term finance from the
private sector is ample.
• Pension funds, insurance companies and other
long term institutional investors have very large
and growing long term liabilities.
• To match their long term liabilities, they need long
term assets.
• The problem is of matching supply of finance
from private sector with investible infra projects.
• But allocation to infrastructure is very little. Why?
 Role of private investors in infrastructure
• Help provide financing.
• Ensure that project construction and operation is
run efficiently (Reliance).
• Why do private investors have an incentive to see
that a public infrastructure project is executed
efficiently?
• Because it increases the likelihood that their
investment is safe and profitable.
 What creates bottlenecks for channeling funds from long term investors into infrastructure
projects?

• A major reason is a lack of pipeline of properly

structured projects.(well designed contracts, legal
framework , risk/return distribution).
• Infrastructure investments entail complex legal
and financial arrangements.
• Infrastructure projects are long term and political
risks loom large for investors.

• Investors will be prepared to commit large sums

of financing for long horizons only if they can trust
the legal system and political procedures.
 What should the public sector do, to encourage private
sector investment in infrastructure projects?
• The crucial role of the public sector is to create
conditions, for the private sector to improve both
the execution and financing of projects.
• The challenge for project owners and hence the
public sector, is to design contracts such that risks
and returns are distributed in an incentive
compatible way.
• Apart from a strong contractual structure a solid
and trusted legal framework is crucial.
 Sources of infrastructure finance
Banks
• a major source, and will continue to do so.
• Particularly in the early stages of new projects.
• mainly short term liabilities.
• Not well placed to hold long term assets.
Alternate sources need to be tapped.
• Bonds-Institutional investors insurance companies /pension
funds have long term liabilities.
• Development banks/ECA-(ADB/BRICS/EXIM)- guarantees,
mezzanine capital.
• New-Infrastructure investment funds. ILFS/IDFC.
• Public Private Partnership.(JNPT)
• Infrastructure Bonds-Tax free.
 Sources of infrastructure finance
• In 2014, RBI introduced a 5/25 refinancing
scheme which encouraged banks to lend to
infrastructure projects for longer tenors with the
idea of refinancing that debt periodically either
through the bond markets or other existing and
new banks.
• The success of the scheme is dependent on the
ability of firms to replace their bank debt with
market based financing.
 Yes Bank and IFC(5/8/15)
• IFC, a member of the World Bank Group has
invested $ 50 million (Rs. 315 crores) in Yes Bank’s
Green Infrastructure Bond.
• This is IFC’s first investment in an Emerging
Markets green bond issue.
• Funds will be used to finance Renewable Energy
Projects across Solar power and Wind Power.
• In February 2015 Yes Bank, also issued India’s 1st
Green Infrastructure Domestic Bonds raising Rs.
1000 crores (including Rs. 500 crores Green Shoe)
• Yes Bank wants to fund 5000MW of Renewable
Energy projects by 2020.
 Shapoorji raises Rs. 2610 crore in largest infra refinancing
deal ( Mint-11/8/15)
• Shapoorji Pallonji group raised Rs. 2610 crores through
the bond market to refinance bank debt taken for one
of its highway projects.
• It is one of the largest infrastructure refinancing deals to
be concluded via the debt market in an economy where
most infrastructure is financed through bank loans.
• Refinancing done through SPV, SP Jammu Udhampur
Highway Ltd , which was set up for construction and
operation of a 65 km stretch of highway between
Jammu and Udhampur.
• Concession (?) for the project was awarded in 2011.
 Shapoorji raises Rs. 2610 crore in largest infra refinancing deal (Mint-11/8/15)

• According to Icra Ltd (?) the project cost was estimated

at Rs. 2400 cr. at financial closure(?).
• Of this Rs. 2160 cr. was through domestic bank debt
and ECB.(?). Now refinanced through NCD(?) at an
average coupon(?) of 9.15%, semi-annual.(AAA-Icra).
• Most of India’s infrastructure has been financed
through bank loans, even though such loans tend to be
of shorter tenors and don’t match the implementation
timelines of complex infrastructure projects.
• India is estimated to need $ 1 trillion in infra finance
over the next few years as per commerce minister
Nirmala Sitharaman (28th May PTI report).
Shapoorji raises Rs. 2610 crore in largest infra refinancing deal (
Mint-11/8/15)
• This transaction clearly establishes the viability of
the domestic bond market as an attractive source
of funding for quality infrastructure projects.
• Experts (HSBC )say that the deal can establish
capital markets as an attractive alternative to
conventional bank financing for mature infra
projects.
• Kotak Mahindra Bank-Debt capital markets can
provide significant amount of take-out financing to
banks for financing infrastructure projects of
utmost importance to our country.
 Public Private Partnership (PPP)
• Government and the private sector work together in
setting up infrastructure projects and running them.
• Transfer to private sector of investment projects that
traditionally have been executed of financed by the
public sector-IMF 2004
• GOI-MOF:PPP. Project,based on a contract or a
concession agreement, between Government/ statutory
entity on one side and a private sector company on the
other side, for delivering infrastructure service on
payment of user charges.
• Helps government implement its schemes in partnership
with the private sector.
• Typically set up as a SPV.
 SPV
• A special purpose vehicle (SPV) is a financial
entity created for the purpose of fulfilling a very
specific and limited use. It is separated from the
sponsoring or parent company for legal and tax
reasons, and may be controlled by several
companies working together.
 Web Of contracts for an SPV
Construction
Contractor
Building
Contract
Equity Finance
Sponsors
Contract
Enforcement
Debt Finance Special Procuring
Lenders Authority
Purpose Sevice Fees
Vehicle & subsidies
Insurance Debt Insurance
Companies

Rating Debt Rating User Fees

Agencies Users of the
Service infrastructure
Contract Service and and service
O&M quality delivered
Contractor
 Public Private Partnerships
• PPP have gone a long way, but we should not
forget that they are largely based on Project
Financing techniques.
• When structuring a PPP transaction, we should
therefore be extra careful as to how the various
risk elements are identified and allocated to the
different parties involved in the transaction. (In
the initial stages GOI did not receive bids for road
projects).
 PPP Models
• Build transfer(BT)
• Build Lease Transfer(BLT)
• Build Operate Transfer(BOT)
• Build Operate Lease Transfer (BOLT)
• Build Transfer Operate (BTO)
• Design Construct Maintain (DCM)
• Design Build Finance and Operate (DBFO)
• Design Build Finance Operate Transfer (DBFOT)
• Build Operate Share Transfer (BOST)
• Build Rehabilitate Operate Transfer (BROT)
 PPP Models
• Build Transfer(BT)-Basic model. Private party
builds the project by arranging the financing and
transfers it to government. Government pays the
private party as per the contract-agreed schedule.
• Build Lease Transfer(BLT)-party builds project and
leases to the government for a specified period,
after which it is transferred to government.
• Build Operate Transfer(BOT)-Party (Bids/
Concession) builds project, operates it by
collecting user charges and after a specified
number of years transfers to government.
 PPP Models

• Build Operate Lease Transfer (BOLT)-cost is

recovered through lease rentals.
• Build Transfer Operate(BTO)-Asset is transferred
when complete. Concessionaire continues to
operate it for concession period.
• Design Construct Maintain(DCM)-operation and
recovery of revenue is not in concessionaires
hands.
• DBFO/DBFOT
 Major PPP projects in India
1 Alandur Sewerage Project.
2 Karnataka Urban Water Supply Improvement Project
3 Latur Water Supply Project
4 Salt Lake Water Supply and Sewerage Network.
5 Timarpur Okhla integrated Muncipal Solid Waste
Management Project
6 Vadodara Halol Toll Project
7 Tuni Anakapalli Annuity Road Project
 Major PPP projects in India
8 Delhi Gurgaon Expressway
9 Nhava Sheva International Container Terminal
10 Kakinada Deep Water Port
11 Gangavaram Port
12 Mumbai Metro
13 Hyderabad Metro
14 Bhiwandi Electricity Distribution Franchisee
15 Amritsar Intercity Bus Terminal Project.
 Investor-friendly contracts for 8 expressways. Model
concession agreements being prepared. (ET-14/8/2015)
• The government is designing new contracts to
build expressways with investor-friendly clauses,
as it seeks to bring private sector interest back to
a sector, that can set the path for economic
recovery.
• Authorities are working on a model concession
agreement, under World Bank assistance for eight
expressway projects, that the government plans
to award.
 Investor-friendly contracts for 8 expressways. Model
concession agreements being prepared. (ET-14/8/2015)
• Under this, toll rates are expected to be more
dynamic than now, and the concession period as
many as 30 years. Contractors will get more
options to explore commercial utilization of the
stretches they develop. Govt. hopes these
measures will make the design-build-operate-
transfer projects attractive to investors and boost
their confidence.
• The government’s target is to bring in private
investment worth Rs.75000 crores in the roads
sector.
 Investor-friendly contracts for 8 expressways. Model
concession agreements being prepared. (ET-14/8/2015)
• KPMG-The new model mitigates the risks of the
private sector concessionaire to a very large
extent. The risk mitigation will clearly help attract
more private capital to the sector.
• The corridors are Delhi-Chandigarh (249 km),
Bengaluru-Chennai(334 km),Delhi-Jaipur (261
km), Delhi-Meerut (66 km), Kolkata-Dhanbad
(277 km),Delhi-Agra(200 km), Vadodara-Mumbai
(400 km), and Eastern Peripheral Highway outside
Delhi.