Suvendu Bose PPT

8/10/2019 Suvendu Bose PPT

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NOVEMBER 07

MEANS OF INFRASTUCTUREFINANCING

BY

SUVENDU BOSE, Ph.D


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NOVEMBER 07

Todays Discussions will be on -

Infrastructure Project FinancingAn Overview

Infrastructure Project FinancingRisks & Its Mitigation

Average Cost of Funds

Innovative Financing

An example of Structured Finance

Conclusion


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Infrastructure Project Financing An Overview





Conclusion


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NOVEMBER 07

Infrastructure Project FinancingAn Overview (2)

Typical Payment Security Structures underling Project Finance

Security structure is Lender Centric and is usually tri-layered involving

Escrow of Receivables

Guarantee by Off-takers Sponsor Long Term PPA

First Charge on the Project Fixed Assets and Second Charge on ProjectCurrent Assets

However, the domestic (Indian) debt financing markets have now seen achange -

Tariffs are lowering and paying ability of consumers has gainedimportance in project structuring / implementation

The sector has started reforming and opportunities for alternate sourcesof cash flows exist (direct access to consumers)


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Nature of Funds for Infrastructure Project Financing

Funds requirement for long durations

Long gestation periods & longer physical / operational life

Given limited availability of equity funds, High component of debt financing

Lenders, who as a source of finance are most risk averse, are expected to anddo take the maximum exposures

Project Risk Mitigation measures are thus taken to enhance the certainty /predictability of cash flows of the project since they serve as the primaryrecourse

The crux of all Infrastructure project financing thus, is an assessment of thestandalone financial and commercial viability of the Project

Here again, as far as Infrastructure Projects are concerned, the approach ofLenders has changed dramatically

Viability should be demonstrated at Tariffs Affordable by the Off-taker


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NOVEMBER 07


Risk

Mitigation

Mechanism

Management MachineryManInfrastructure

Market Materials

Margins & RisksMethods OperationFactors

Land &Building

TechnicalInstallation

Operating Costs Capital Costs

Revenues

Financial & Commercial Analysis

Viability

Sensitivity

Analysis

ContractualFramework

Based on the results of the above, as assessed on Qualitative and Quantitativeparameters, Debt financiers would determine the Risk Premium (Margin) that isrequired over and above the risk free rate


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NOVEMBER 07

COD

Risk

Performance Risk

Regulatory Risk

Environmental Risk

Coal Pilferage Risk

Supply Risk

Environmental Risk

Time

Delay / Technical Risk

Performance Risk

Cost Over-run Risk

Environmental Risk

CONSTRUCTION OPERATION

Infrastructure Project Financing Risks & Its Mitigation


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Long TermOff-TakeContract

Insurance &ContractualPerformanceGuarantees

Turn-keyContractor

Market /RevenueRisks

PerformanceRisks

Delay /TechnicalRisk

PROJECT COMPANY RESIDUAL RISK

Legal/Regulatory Political RiskFinancial Risk

Due Diligence Hedging/ Insurance/Credit Enhancement

Insurance/MultilateralFinancing/Host Govt.

Assurance


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Conclusion


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NOVEMBER 07

Average Cost of Borrowing (1)

Sources of Funds typically comprise

Equity, either from Sponsors, Public Offerings, Internal Resource Generation

As per CERC norms, Equity is eligible for a 14% post tax return upto an investment of 30% of theProject Cost, beyond which, it earns only the prime lending rate as stipulated by SBI (viz. 12%)

The opportunity loss, thus makes Equity a more expensive form of Debt

Debt, from Banks & Institutions (Domestic & Overseas), Bond Investors

Apart from the base rate and risk premium, other costs include

Cost of issuance / syndication

Upfront fees

Risk Insurance

Cost of Guarantee

Commitment Fee

Hedging Costs / FERV

The aim / objective to reduce the average cost of funds is -

To reduce the cost of generation and consequently support a competitive tariff


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NOVEMBER 07

Cost of Borrowing & Tariff Linkage (2)

In all fairness, the tariff of a Infrastructure Project would need

To Comprise

Interest

O&M

Return on Equity

Depreciation

Taxes etc.

In making Tariffs Reasonable / Affordable, the major components that can be targeted are

Sponsor returns, Lenders payments, Statutory payments

Reducing financiers returns may make the project unattractive for investment

Merit of certain statutory payment waivers could be possibly weighed vis--vis theoverall social value of a project and the benefits derived there from

To Service

Debt annual charges

Operating expenses

Sponsor returns

Debt Amortization

Other annual charges


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NOVEMBER 07

Cost of Borrowing in India (3) - Interest costs are Rising

Sovereign yields have firmed up substantially in the past one year

Overall shift of around 250 bp in Yield curve in the past 2 years

Source: RBI Website


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NOVEMBER 07

Source: RBI Website

Strategically, the way forward for reducing average cost of funds would be

Identify and peg loan costs to stable benchmarks

Optimize between long and longer term loans

Build in options for riding a favorable change in the interest rate scenario

through refinancing or changing the financing source during the

construction period or soon thereafter

Cost of Borrowing in India (4)Widening of Spreads on Corporate Bonds


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The 5 year G-Sec return has seen a upward shift of around 200 basis point in thepast 30 months

Prime Lending Rates have been relatively stable with an increase of less than 100

basis point in the corresponding period

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Period

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5 year G-sec PLR

Cost of Borrowing in India (5) - Popular Benchmarks for Indian Debt


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Conclusion


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Innovation does not mean Complexity - Instead Innovation is

synonymous to Structuring -

Thus, working within given constraints, it is the process of Simplifying

each financing component such that it is capable of meeting the end

goals


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NOVEMBER 07

Innovative Financing (1)

A simple and effective form of structuring is extending the tenor of loan

repayment

Helps reduce the cashflow mismatches - viz. Base Capital recovery chargethrough depreciation vis--vis debt amortization

Trade-off between annual amortization and interest would need to beoptimized

The example shows that extending the repayment period from 10 to 15 years, even at100 bp extra premium, is a more competitive financing and can contribute towardsreducing the tariff


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NOVEMBER 07

Innovative Financing (2) - Indian Debt Financing Market Facts

Long term loans are selectively available

Banks are capable of lending upto 14-15 year loans comprising construction, graceperiod (moratorium) and loan repayment

Constraining factors are Asset-Liability mismatch

Limited appetite from Insurance companies

LICI is practically the only serious player

Development Financial Institutions are selectively deepening the market in terms of tenor

However, they are largely dependent on Banks for financing

Interest rates (and reset terms) are not commensurate with tenors

Bond markets are not yet mature for long term project finance debts

Limited secondary market

May entail negative Carry costs

Mismatch of initial drawdown and funds requirement

Bullet payments with stipulation of redemption reserves


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NOVEMBER 07

Innovative Financing (3) - Expo rt Credit Agencies (ECA)

COUNTRY ECA COUNTRY ECA

Australia EFIC Italy SACE

Austria OeKB Japan JBIC & NEXI

Belgium OND Korea KEIC & K-EXIM

Canada EDC Norway GIEK

China Sinosure South Africa CGIC

Denmark EKF Spain CESCE

Finland Finnvera Sweden EKNFrance COFACE Switzerland ERG

Germany Euler Hermes UK ECGD

Netherlands Atradius USA Ex-Im Bank

Source: Standard Chartered

In India, US Exim, ECGD, JBIC , Nexi are among the active lenders

Long repayment tenors feasible possible (10-15 Years) but lending usually tied to

and limited to a % of equipment imports from a particular country

Funding tie-up can be made a part of EPC bid for better pricing

Detailed appraisal processes are taken by ECA itself and can be Time Consuming

May restrict Developers preference for retaining EPC Contractor as per their choice

Not necessarily cost competitive


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Innovative Financing (4) -External Commercial Borrow ings (ECB)

Automatic route for borrowing upto US $ 500 mn during a financial year

Minimum average maturity of five years, preferred tenor 5-7 years

All-in-cost ceilings over 6 month LIBOR

200 bps for 3 to 5 years maturity

250 bps for more than 5 years maturity

ECB proceeds should be parked overseas until actual requirement

Not permitted for

Working Capital funding, General corporate purposes and Repayment of existingrupee loans

Long Tenor Loan (for 20 years) may not be possible

Large appetite for high quality assets

Foreign banks do not have interest in 12-14 years project finance


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NOVEMBER 07

Bottlenecks of Innovative Financing

1. The Innovation Process is inherently uncertainuncertainty isfundamentally different from Risk

2. The challenge of making investment in the face of extreme uncertaintyis compounded by the fact that return from the innovation process isquiet skewed

3. Although often times nether the innovator nor the financiers knows thetrue potential of the project, the innovator may still know more about theproject than the financier.

4. Finally firm engaged in innovation have a high percentage of intangiblesassets, where knowledge is embedded in human capital of the firmsemployees.


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Conclusion


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Sharing of Some Relevant Rural Infrastructure Project Financing Experience

MORTGAGE OF ASSETS

OF PROJECTS

TRANSFER OF ASSETS OF PROJECTS TO SPDCL

PROJECTS

currently LOAN REPAYMENT

owned by

Payment for Power * TRA Account PROJECTSPOWER to be

DEPRT. owned by

SIKKIM Shortfall LOAN

GOSIKKIM DSRA Account transfer SPDCL LENDERS

Power generated from the Projects

sold to Power Department

* Payment for power shall be at tariff as per PPA

Power generated shall be equivalent to actual generation

or generation at 60% load factor which ever is higher


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Conclusion


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Conclusions

Choose stable benchmarks or a mix

Lock-in rates for shorter period

- Interest rates could see a dip (Bank F/D rates can serve as a

reference point)- Simultaneously attempt longer term debt if available at a

reasonable premium

Keep options for refinancing / replacing with alternates based on

movements in interest rates at a later date (towards the end of theconstruction period)- ECBs, Bonds etc.


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Q & A


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Thank You


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Reasons for Change

The government on August 07,2007 tightened the rules governingoverseas borrowing by local companies

to check the inflow of foreign funds. This would enable it to check therise in the rupee value against other currencies.

The rupee has risen to a nine-year high, rising nearly 14 per centagainst the US dollar since August 2006. This has been largely due tomassive inflow of foreign funds as debt and equity

In the period from April-July, 2007 India has received ECBs to the tune

of USD 9 billion. Indian companies had raised a total of $24 billion of ECBs during 2006-

07 against the governments internal target of $22 billion.

In terest co sts for com panies m ight jum p b y 75-100 basis points as ECBs

are usual ly at lower interest rates than domest ic borrowin gs


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What are the Major Changes

ECBs of more than $20 million per borrowing company would bepermitted only for foreign currency expenditure for permissible end-usesof the ECBs. Accordingly, borrowers raising ECB of more than $20 millionshall park the ECB proceeds overseas for use as foreign currencyexpenditure for permissible end-uses. The above modifications would beapplicable to ECBs exceeding $20 million per financial year both under theautomatic route and under the approval route.

ECBs up to $20 million per borrowing company would be permitted forforeign currency expenditure for permissible end-uses under the

automatic route and these funds shall be parked overseas and notremitted to India. Borrowers proposing to avail ECBs up to $20 million forrupee expenditure for permissible end-uses would require prior approvalof the RBI. Such funds shall be continued to be parked overseas untilactual requirement in India.


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What are the Major Changes

All other aspects of ECB policy such as $500 million limit per company peryear under the automatic route, eligible borrower, recognised lender,average maturity period, all-in-cost-ceiling, prepayment, refinancing ofexisting ECB and reporting arrangements remain unchanged.

These conditions will not apply to borrowers who have entered into loanagreement and obtained loan registration numbers from the RBI.Borrowers who have taken verifiable and effective steps wherein the loanagreement has been entered into to avail of ECB in the previousdispensation, and not obtained the loan registration number, may apply

to the RBI through their authorised dealer

It wi l l c ertainly help ind us try, i f these gu idel ines are a sho rt-term m easure

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