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IFR: Before we go into deeper local issues, let’s look at some international overviews. India definitely needs support from all quarters to meet its infrastructure development goals. What role can the Asian Development Bank play to enable India to achieve its infrastructure investment targets?
<div class="inline_image_right inline_image" data-attachment="207898" style="width: 220px;"><p class="picture"><img alt="IFR Asia Funding India’s Infrastructure Roundtable 2013: Part 2" src="/MediaFiles/Browse/a7c0aa4e-d644-4a7c-8627-2ccc302b4321"></p></div>Lakshmi Venkatachalam: Well, since 2008 and in the wake of the Lehman crisis the syndicated loan market in Asia has shrunk. While Asian banks have stepped in somewhat to fill these gaps, it’s still relatively short-term credit and the question arises as to whether local and regional banks have the long-term foreign currency lending base and expertise to engage in long-term financing. A lot of corporates in the region are increasingly turning to the capital markets to raise funds rather than relying too heavily on banks. So the corporate bond market is something we increasingly need to look at.
“It’s very clear that we got some things right, that there are some things which need to be rectified, and the time is just ripe for the second generation of PPP reforms.”
I would like to touch upon some of the interesting developments that ADB has engaged in against this backdrop. The first is regarding the corporate bond market. The ADB has been very proactive in setting up the Credit Guarantee Investment Facility (CGIF). This is an ADB-funded vehicle and is basically to credit enhance, through guarantees, cross-border corporate bonds. It has just begun operating and in fact closed its first issue very recently [in Thailand].
We are mandated to play a role in this space to finance this requirement of infrastructure, but we don’t have unlimited lending headroom. Therefore, we would like to think that our core product goes beyond finance – we call it “Finance Plus Plus.” It is Finance plus leverage plus knowledge.
We prioritise knowledge solutions to support governments in preparing bankable projects by helping with regulatory reforms and creating an enabling environment. We can add value. We focus on market gaps. We look at structural features so our intervention will really bring in value and long tenors, particularly in areas of renewable energy where upfront capital [construction] costs are very high.
Next is innovative financing. I won’t elaborate but the recent support that we provided where we partnered with the India Infrastructure Finance Co. (IIFCL) to basically share risk and credit wrap project bonds. It’s the first step we are taking to refinance banks’ project finance outlays so that they can recycle those funds. It’s the first step. It’s a pilot programme but we are committed to supporting not only IIFCL but also other partners.
IFR: What has been the ADB’s experience in the region, especially concerning private sector participation, and how can be used in an Indian context?
Lakshmi Venkatachalam: We have an array of examples and I would like to refer to some of the stuff we have done in China. Yes, the PRC is different from India. But there are some features we can learn from, particularly in the way the policy framework guides the regulatory structures, and then there is this orchestrated approach as to how the sub-national entities take forward the PPP agenda. As a result, we have been able to finance a very well-diversified portfolio of structures, which does a lot in terms of reducing our risk and also ensuring our returns.
Let me not underestimate the worth of our work in India. We have done very pioneering projects in the PPP space. I would go along with rest of the panelists in saying that in the PPP space it’s very clear that we got some things right, that there are some things which need to be rectified, and the time is just ripe for the second generation of PPP reforms, based on the experience.
IFR: What role can the public sector play in leveraging the private sector? What does the government need to do and in what way will public funding be deployed? Will it be viability gap funding, or subsidies, for example?
Sharmila Chavaly: A personal rider from the finance ministry, I hate the word subsidy. The viability gap funding that you mentioned is something innovative which we have. But that basically is used to make a project viable with a little bit of sweetening of the project funding.
There are various sectors that don’t need viability gap funding. For instance, between 2007 and 2009, the kind of returns you got in the road sector meant that the government was on the receiving end of a lot of premium. You didn’t need viability gap funding. Viability gap funding will continue but we don’t encourage subsidies. They distort market pricing.
IFR: Apart from the banking sector, are there any other means of financing envisaged over the next one to two years?
Sharmila Chavaly: We are cognisant of the fact that the banking sector needs to churn its investments. We need to free banks from group exposure and sector exposure limits so that they can go for fresh lending. One scheme we have come up with to help this is the IDFs. Suneet Maheshwari, who is a co-sponsor of one of the IDFs, can give more details.
Suneet Maheshwari: One thing that is happening is that a lot of operating projects are coming on stream and the completion phase is getting over, or has already ended. So there is a need to evacuate the capacity of the banking system. Banks are pretty good at taking completion risks, but if we need to develop greater private financing capacity to be able to fund more projects, then we need to evacuate bank debt and fund it through some other mechanism.
A lot have been tried, like takeouts, but IDFs are one of the key initiatives that the government has taken up. It is early days but I am quite hopeful that we might be able to use this vehicle to develop private financing. In a way, IDFs would be akin to a bit like monolines. You can aggregate a few projects and issue a bond instrument on the back of it. People and institutions can participate and you create a new vehicle to make the financing available – without taking completion risk, but with operating risk. That’s the key perspective with IDFs. The IDFs have two formats – one is the non-banking finance company format, which relies more on PPP projects, and the second is the mutual fund format, which is available to any kind of infrastructure project.
<div class="inline_image_right inline_image" data-attachment="207899" style="width: 220px;"><p class="picture"><img alt="IFR Asia Funding India’s Infrastructure Roundtable 2013: Part 2" src="/MediaFiles/Browse/bb1a9a6e-00ba-4f11-b026-a4c740e917df"></p></div>Arundhati Bhattacharya: The Indian banking sector has stepped up to the plate in funding the country’s infrastructure. We have a CAGR growth in infrastructure financing of 31% from 2008–2012. However, banks are facing many problems. One is the asset-liability management mismatch. Banks take liabilities for the short term and, therefore, lending for the long term is not possible. This has a lot of ramifications.
“We are talking about an asset which has a life of 25 years but we are expecting it to be repaid in 10 to 12 years because that is the maximum period banks can lend.”
We are talking about an asset which has a life of 25 years but we are expecting it to be repaid in 10 to 12 years because that is the maximum period banks can lend. And, because there is no proper takeout market, because the corporate bond market is very shallow, we cannot give a very much longer extended repayment period.
What happens is you crunch up a repayment of a project financing of 25 years into 12 years. If there is any kind of a slippage anywhere in the project’s implementation, the entire project gets restructured and that is not a good tag to have for any project.
Look at the way funding is done and repayments scheduled for any long-term infrastructure project abroad. If, say, there is a concession for 40 years, the funding will be made available for 25 years with a certain amount of repayments in the first five years and a very large balloon at the end of the five years, which will get refinanced. This will keep rolling five times, till you repay the whole thing. What happens as a result is your initial repayments are low so any slippage on the project gets taken care of. Second, the developer is able to takeout some of the equity and can start on his next project.
But in India we are not allowed to have this kind of balloon repayment that will be refinanced. Indian developers are also not allowed to take out any of the equity. Therefore, when the developer goes on to the next project, he necessarily has to take more loans. That results in an over-leveraging of the promoter’s entire balance sheet. These are inter-related in the sense that if a very good takeout financing was available, probably even the Reserve Bank of India would be comfortable with this kind of balloon payment. Because it is not, the RBI likes to see all of these projects repaid within the funding span of the banks.
Then, there is the inability of the banks to interfere when they find that a project is not doing well. The banks are not allowed in certain cases to even replace the concessionaires. And, frankly speaking, the banks don’t have the expertise to do that. Where there is a PPP and an asset is about to be built, it is very easy to pull the plug. But, that doesn’t help anybody. Okay, the promoter will lose his share but what about the public money that is already gone in and the need to protect that? There, the banks and the government need to work in tandem to replace the concessionaire and get the project working.
Also, if you are looking at group exposures, banks have a problem as in many cases the banks are at the top of group exposure limits. We need to address that. Take, for instance, the SPVs where there is non-recourse lending. Should that be added on to the group exposure? Or can we only do a portion of it so as to enable banks to lend further?
In respect of takeout financing, there is resistance from banks because they feel they have taken all the risk and now that the project is complete, and they have been given a patent stream of cash, the whole thing is taken away and the banks left with nothing. Now, the banks are feeling this because the risk at the concession stage is too much as it has to be taken out in 10-12 years. If I put a higher rate of interest in the beginning, the project will get stressed. So, I am not getting really compensated for the risks I am taking.
So, when the takeout financing is occurring, the agency which will take out the financing will take 80% to 85% of the debt, or the maximum they can take is 100%, but even then it will be based on total project cost and not the overruns that might have happened.
But the security moves on to the bondholder or the agency which is going to take the IDF, and the bank has no security at all in whatever is left over. So, I take the risk, I handover a completed project and I am left with something which is unsecured. Which bank anywhere in the world is going to take that kind of risk?
Next: Part 3
