Sources of Ppp Infrastructure Finance in India

Sources of Finance for PPP Infrastructure Projects

Any Infrastructure Project can be financed through following sources:

1) Debt

2) Equity

3) Grants from government

4) Sub Debt

Grants: To develop Infrastructure in India and to attract Private Sector's investment GoI provides grants to PPP projects to fund the viability gap. Grant cannot exceed 20% of the total Project Cost.

Negative Grant: It is the opposite of 'grant' given by the government.

Under negative viability gap funding, a constructor pays the government to get a contract because the returns from it are so good. A company would offer to pay the government instead of receiving the grant is because the company estimates huge profits.

Financing Sr. Debt:

If we look at the financing of these projects we find that PPP projects in India have been largely financed by plain vanilla debt. 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.

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.

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. Public sector banks dominate with a share of 82 percent, while share of private sector banks and foreign banks are only 13% and 5% respectively.

Financing Sub-Debt:

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 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 over the years we find that the level of or senior debt has been increasing over the years while the level of equity has been going down9. What the 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 cases.

Debt Financing

Commercial banks are now 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. 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.

Infrastructure projects require 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)