Betting Big On The Basics
Photo Credit :
The FM reiterated the trillion dollar (Rs 50 lakh crore) target for the 12th Plan, 50 per cent of which is required to come from the private sector. This translates to over $350 billion of debt requirement, and nearly $150 billion of equity requirement. On the equity side, strategic investors, private equity/infrastructure funds, as well as capital markets, have all been sources for the infrastructure sector. There has been a perceptible slowdown over the last year, due to a combination of sector-specific issues (e.g. coal availability and price) and economy-wide issues (inflation and interest rates). Various fiscal measures, through reduction in customs duties and import duties, will have an impact on project economics. Also the increased target and outlay for the National Highway Development Project (NHDP) will stimulate investors and contractors. However, any significant change in investor excitement towards the sector will come only after inflation and interest rates cool down, and sector-specific issues are addressed.
Having said that, the budget does have two specific proposals that will be attractive from an equity investor's perspective. One is the proposal to remove the cascading effect of dividend distribution tax in a multi-tier corporate structure. This is particularly relevant for infrastructure sectors, with developers straddling across a range of sectors, and organising themselves along infra-holding companies, sector-specific holding companies, and then project-specific SPVs. Such structures help in organisationally building capabilities, being able to comply with concession agreement requirements, as well as bringing in investors with different risk appetites at different times and at different levels and also providing exit options to them. The removal of the cascading effect (albeit only by one level) will increase the flexibility for developers to appropriately ring-fence investments at different levels. On the other hand, recognition of the limited liability partnership structure, for infrastructure projects, could have helped to make it a favoured route for private investments.
|ROAD AHEAD: Infrastructure is one of the key focus areas of the budget (BW Pic By Ritesh Sharma)|
The other proposal is to enhance the rate of investment-linked deduction of capital expenditure to 150 per cent from 100 per cent for businesses like warehouses (for foodgrain and sugar), cold chain facility, affordable housing, container freight stations and inland container depots (CFS/ICDs). Similar tax incentive-based approach has in the past brought significant investments into the wind power segment (though the scheme does have its critics).
Moving on to the debt side, clearly the first requirement is to get much larger inflows from the pension and insurance sectors into the infrastructure sector. The challenge there is that outside of Life Insurance Corporation (LIC) and Employees Provident Fund (EPF), the private sector industry is relatively nascent, and doesn't have a very large corpus of long-term funds, and what it does have are invested in the highest safety instruments. The budget speech mentions various legislative reforms in the pipeline, which combined with ongoing progress in these sectors, could increase their share in infrastructure financing going forward. The credit enhancement scheme launched recently by the India Infrastructure Finance Company (IIFCL), and mentioned by the FM, could play a significant role in bringing the infrastructure sector paper up to AA or so levels, thus facilitating this process.
Estimates show that even if higher levels of domestic sources of debt (banks, insurance, pension, etc) get channelled into infrastructure, there would still be a $80-100 billion gap in debt financing requirement towards the trillion dollar target, to be bridged through overseas sources. Various measures towards overseas sources are certainly well directed. The FII investment and external commercial borrowings (ECB) conditions for infrastructure have been eased from time to time, and the budget proposes further easing for certain road equipment, etc, as also a significant reduction in withholding tax on interest on ECB for certain sectors. Allowing qualified foreign investors to access the Indian corporate bond market can increase participation, and, combined with credit enhancement, can facilitate infrastructure debt. The government's big bet towards enabling foreign debt to flow into infrastructure remains the Infrastructure Debt Fund. The FM underlined the setting up of the first such fund. However, there is still scepticism about the degree to which such initiative will result in success, with various other supporting elements still to fall in place. These include a vibrant corporate bond market, a mechanism to pierce the country rating ceiling, etc.
Finally, what proportion of the trillion dollar target is achieved at the end of the 12th Plan will be impacted by addressing sector-specific issues, adequacy of the pipeline of projects, and the government's ability to bridge the viability gap funding (VGF). A number of sectors have been included in the definition of infrastructure for the purpose of eligibility for VGF. These include irrigation (including dams, channels and embankments), terminal markets, common infrastructure in agriculture markets, soil testing laboratories, capital investment in fertiliser sector, oil & gas/LNG storage facilities and oil & gas pipelines, fixed network for telecommunication and telecommunication towers. The expansion of the list, particularly the first set, is certainly welcome since it brings focus to the critical infrastructure needs in agriculture-related areas. The package of incentives for the affordable housing segment is also welcome. There will be a time lag in getting the public-private partnership (PPP) model and documents finalised for these new sectors. The impact of these inclusions on the quantum of VGF requirement, and hence on creating competition between sectors for a limited budget, is not known yet. For the 11th Plan, against an estimate of about Rs 7,000 crore, VGF approvals have been given for over Rs 8,000 crore, though the actual disbursement has been lower. Hence, there is a need to keep a keen eye on this critical enabler of private investment in infrastructure.
(This story was published in Businessworld Issue Dated 26-03-2012)