stalling investments in infrastructure and the expanding infra debt burden in india

01

Stalling Investments in Infrastructure and the Expanding Infra Debt Burden in India

Apart from targeting rural development, the Finance Ministry’s new budget

announcement at the end of February 2016 prioritised the need to upgrade

infrastructure and reinvigorate investment in the sector. The finance minister,

Arun Jaitley, acknowledged in his budget speech that India had fallen short of its

targets for modernising its infrastructure and that many of the projects have

been stalled by disputes, red tape and lack of finance. In order to sustain India’s

rapid economic growth, the government is dedicated to reviving investments in

infrastructure and allocating more funds through various proposals. With the

new budget, the government allocated USD 32 billion for infrastructure

development in 2016-17, a 22.5% (or USD 5.9 Billion) increase YoY. A year

earlier, the 2015 budget, had additional spend of USD 11 billion on

infrastructure outlay.

However, with a huge infrastructure supply gap the country’s funding

requirement is much larger. A CRISIL study stated that India needs INR 6 trillion

of investments every year or around INR 17 billion every day from April 2015 to

March 2020. In short, India needs INR 31 trillion in investment over the next five

years to provide uninterrupted power to homes and factories, and improve

roads, telecom, transport and other urban infrastructure. Over each of the last

three government’s five-year plans, estimated investments in infrastructure

have doubled and a larger share of investments was projected to come from

the private sector. One of the main challenges in scaling up private investment

was the mobilisation of debt financing for meeting the ambitious targets set by

the Government.

Dharish David

[email protected]


20160518 Dharish David [email protected]

02


India’s Five-year Plans Time Period

Proposed Investments in Infrastructure

(USD Billion)

Private Sector Investments

(Share as %)

Tenth Five-year Plan 2002 - 2007 240 22%

Eleventh Five-year Plan 2007 - 2012 500 37%

Twelfth Five-year Plan 2012 - 2017 1,025 49%

Source: Uzabase from various sources

Under the current Prime Minister, Narendra Modi, whose unwavering goal has

been to boost economic growth, the daunting task has been to attract private

sector capital to improve roads, rail, ports, power and other infrastructure. The

government is now opting to use public money to kick-start investments in the

sector, as many projects have been stalled by a lack of private funding. This

year’s budget included USD 11 billion in increased commitments through

Private Sector Enterprises for infrastructure investment.

More involvement by the private sector through investments and project

operations has become a reality through models like Public-Private Participation

(PPP), which not only allows the private sector to raise capital but also improve

the efficiency of projects. Given the fiscal constraints that exist, there has

always been pressure on public investments at the scale required, PPP has

emerged as the principal vehicle for attracting private investment in

infrastructure, and India has attracted a lot of PPP investments over the years. A

large portion of theses PPP projects rely on private capital that has to be raised

from domestic financial institutions.

03


The challenge in India and in a lot of other developing countries is that they do

not have the capacity or instruments to provide long-tenure debt for projects

having a long payback period. Since PPP projects have been usually financed on

a 30:70 ratio of equity and debt, mobilisation of the requisite debt resources

has become a mounting challenge, and many infrastructure project promoters

are now submerged under huge loans that have turned non-performing. To pay

off at least a portion of their bad debt these large project developers are

desperately selling their cash-generating assets, crippling cash flows and

financial capacity. On the other hand, banks and financial institutions (FIs) are

seeing their books turn bad, and cannot lend any further to these borrowers.

The big dilemma facing the government, banks and corporates in recent years is

raising resources for many stalled infrastructure projects. According to the

Centre for Monitoring Indian Economy (CMIE), the number of stalled

projects touched an all-time high of 893 ventures worth INR 11.36 trillion at the

end of 2015-16, which are held up due to the lack of promoter interest,

unfavourable market conditions and lack of funds. Over the last few years

especially, stressed assets have been detrimental to the infrastructure sector.

This is a grave concern, as non-recovery of loans from the sector has affected

ongoing projects and projects hitting completion. Worst of all it has impeded

investment in Greenfield projects.

04


Plummeting Private Sector Investments in Indian Infrastructure

Private sector participation in infrastructure investment reached a 10-year low

in 2015 as the country fell out of the top five countries globally, for private

sector investments in infrastructure. But this has been in line with the global

trends as private participation in infrastructure (PPI) in the emerging markets of

Brazil, India, and China saw declining investments. These countries have been

traditionally the large players in PPI, however investments tumbled in China,

India, and most notably Brazil, where the combined commitments dwindled to

just USD 1.8 billion in H1 2015 from USD 30.9 billion in H1 2014.

Source: World Bank, PPI Project Database

Private investment in infrastructure in India had increased rapidly from 2006,

and peaked in 2010, but ever since it has been on a rapid decline. The World

Bank predicted in 2013 that the slowdown would continue in the longer term

due to rising domestic concerns, especially with financing.

-

20,000

40,000

60,000

80,000

100,000

120,000

140,000

160,000

180,000

200,000

1991-1995 1996-2000 2001-2005 2006-2010 2011-2015 H1

Inve

stm

ent

in P

roje

cts

by

Sect

or

USD

Mill

ion

Five Year Period

Private Sector Investment in Infrastructure Projects in India by Sector 1990 - 2015 H1

Water andsewerageTelecom

Seaports

Roads

Railroads

Natural Gas

Electricity

Airports

05



The largest investments have been traditionally in electricity, telecoms and

roads. However investments in the telecom and power sector have declined

significantly in the last five years. Though sector specific decline was expected in

transport and energy, there have been larger, looming reasons for the decline.

The biggest challenge has been that public banks, which have been the main

source for infrastructure financing, have been overstretched and are reaching

their exposure limits. Moreover there has been an absence of a domestic

corporate debt market (which is only 2% of GDP) and a lack of foreign equity

and credit (equity FDI is only 1.2% of GDP) in India’s private infrastructure

market to relieve this exposure.

The current infrastructure-financing gap is estimated to be USD 750 billion of

the targeted USD 1 trillion spending on roads, ports, power and other

infrastructure for the current five-year plan (2012 - 2017). The USD 750 billion is

essentially 75% of the required funding that would need to come through debt,

much higher than what the government had in mind initially when planned. This

figure is also five times the existing INR 9.2 trillion (USD 144 billion) of bank

loans that have been disbursed to Indian infrastructure projects to date.

-

10,000

20,000

30,000

40,000

50,000

60,000

70,000

80,000

2010 2011 2012 2013 2014 2015 H1

Inve

stm

ent

in P

roje

cts

(USD

mill

ion

)

Year

Private Investment in Infrastructure Projects in India by Sector 2010 - 2015 H1

Water andsewerageTelecom

Seaports

Roads

Railroads

Natural Gas

Electricity

06


Government to Kickstart Infrastructure Finance and Remove Regulatory Hurdles

A year earlier, the 2015 budget proposed the creation of a ‘National Investment

in Infrastructure Fund’ with an initial annual allocation of USD 3.25 billion. The

NIIF is structured like a fund of funds, where it will invest in more sector specific

funds or at different phases of funding, based on investor appetite. The fund,

which is still being set up, is expected to invest in public sector infrastructure

finance companies. The companies in turn will be able to leverage their higher

credit rating to access domestic and international debt markets, including

foreign pension and insurance funds and institutional investors.

The government has budgeted to contribute INR 200 billion to the fund in the

current fiscal year (2016-2017) while another INR 200 billion will be raised

through sovereign wealth funds. It will, however, be interesting to see whether

the NIIF will complement or invest directly in other infrastructure investment

special purpose vehicles (SPVs) that already finance infrastructure projects,

such as the Infrastructure Development Finance Company (IDFC) and Indian

Infrastructure Finance Company Limited (IIFCL).

To mobilize additional finances for infrastructure spending the government

proposed that it will permit infrastructure regulatory agencies, including the

National Highway Authority of India (NHAI), Power Finance Corporation (PFC),

Rural Electrification Company (REC), Indian Renewable Energy Development

Agency (IREDA), National Bank for Agriculture and Rural Development (NABARD)

and Inland Water Authority to raise bonds up to the extent of INR 313 billion in

the current year.

The government’s fresh allocation of USD 2.25 billion to roads and USD 1.6

billion to railways in the current fiscal year is also expected to improve liquidity

in the system by encouraging public sector led investments in infrastructure,

through EPC, Cash Contract and Annuity models for the awarding of projects in

these sectors.

07


The government has also sought to improve the regulatory setup and reboot

the PPP framework by improving the PPP dispute resolution process. The new

budget put forward recommends a ‘Public Contracts (Resolution of Disputes)

Bill’ and a ‘Regulatory Reform Bill’ that would aim to ensure greater consistency

across the country’s various regulators and regulations.

With bad loans and stressed assets on the rise, the government also sought to

improve the investment environment, by pushing for the recapitalization of

Public Sector Banks (PSBs). Under project Indradhanush, the government had

proposed that it will infuse INR 250 billion into public sector banks in each of

fiscal years 2016 and 2017, and INR 100 billion each in fiscal years 2018 and

2019. These proposed amounts are still short of the estimated INR 2.3 trillion of

capital that Indian public sector banks need by 2019. Most of the support is

expected to come through government capital infusions as banks still find it

difficult to raise capital from the equity capital markets.

This year’s budget also sought to improve the last-mile connectivity in many

infrastructure sub-sectors, including power, railways and ports. The budget

included provisions to help electrify the last remaining 20,000 villages that are

still not connected to the grid by 2020. The last-mile connectivity plans for ports

and railways propose to link the 12 major ports to the rail network to move

cargo, which is expected to increase efficiency and reduce cost, when

compared with road transport.

08


Investments in Power and Roads Continue to Dominate

The top three sectors in terms of investments through PPI have been in

electricity, telecoms and roads, but over the last 5 years investment has been

mainly in roads/highways and electricity. Until 2010, the largest investments

went into the telecoms sector, but more recently electricity and highway

projects have garnered more investment.


Road and highway projects though large in number are still small based on

project costs, when compared to telecoms and electricity. Over the last 25

years, the largest 10 projects in India with PPI investments are listed in the

following table.

141,873

100,231

73,238

8,744 7,826 5,111 1,015 6050

20,000

40,000

60,000

80,000

100,000

120,000

140,000

160,000

361 37 386 39 8 7 5 14

Electricity Telecom Roads Seaports Railroads Airports Natural Gas Water andsewerage

Tota

l In

vest

men

t (U

SD m

illio

n)

No. of Projects in each Sector

Investments by Private Sector in India by Infra Sub-sector 1990 - 2015 H1

09


Private Participation in Infrastructure in India - Top Projects 1990 – 2015 H1

Project Sector Type of PPI Termination Year Contract Period Investment

(USD million)

Reliance Communications

Limited Telecom Greenfield Project 2001 20 29,001

Bharti Airtel Limited

Telecom Greenfield Project 2024 20 23,879

Vodafone Essar Telecom Greenfield Project - - 17,053

Idea Cellular Telecom Greenfield Project - 15 11,284

Tata Teleservices Limited


NTPC Limited Electricity - Generation

Divestiture - - 5,992

Shyam Telelink Ltd.


Mundra Ultra Mega Power Plant

Electricity - Generation

Greenfield Project 2033 25 4,200

Sasan Ultra Mega Power Plant


Greenfield Project - - 3,986

Jindal Tamnar Power Plant Phase

I and II


Greenfield Project - - 3,983


The government's allocation to roads in the 2016 budget through the road

transport and highways ministry now stands significantly higher at INR 579.76

billion (up 23.1% from INR 471.07 billion in FY16). Overall, the budgetary

allocation towards the key transport segments - roads and railways - stands at

INR 2.18 trillion, and if the allocation towards the upgrade of state highways is

included, the figure expands further to INR 2.21 trillion. These investments will

dramatically improve transit timing and are expected to reduce the per km cost

of transportation.

For the current fiscal year, the government plans to build 10,000 km of national

highways and upgrade another 50,000 km. It is slowly making progress in terms

of efficiency in road construction, building 13 km of roads a day, which is still

less than half the speed at which the government aimed to build (30 km/day).

10


The railways are also seeing a major push in the proposed investment plan of

INR 1.21 trillion for 2016-17, with the government providing budgetary support

of INR 43.01 billion. This is about 43% higher than the proposed investment

plan for fiscal 2015-16. The plan will also invest in developing railside logistics

parks that will allow terminals and sheds to handle container traffic to create an

integrated transport system with ports. These investments will dramatically

improve efficiency in logistics by reducing transit timing and the per km cost of

transportation. The railway logistics and freight container trains proposed to

run on time-tables, will give new options for logistics managers to lower costs

and improve timeliness.

The Renewable Energy sector has globally attracted a lot of private equity

investment in recent years, and it has fared well in India too. The sector is

expected to expand from 32 GW to 175 GW by 2022. Against this backdrop, the

government has allocated an outlay of more than INR 100 billion for 2016-17.

This outlay includes INR 50 billion from the National Clean Energy Fund (NCEF)

with the balance coming from Internal & Extra Budgetary Resource

(IEBR). Moreover, India is emerging as a key destination for renewable energy

projects, as the government has provided incentives to infrastructure and

programs designed to attract investment. India topped the ranks in 2015 with

USD 11.8bn of announced FDI in the sector, which included Lightsource

Renewable Energy’s plans to invest USD 3 billion, to design, install and manage

more than 3 GW of solar power within the country.

11


The Real Concerns in Sustaining Infrastructure Investment and the High Financial Leverage of Infrastructure Companies

While the public sector in India had opted out of infrastructure development

spending to free up fiscal resources since the early 1990s, more has been left to

the private sector and bank financing. Most often infrastructure lending was

done by commercial banks that lent on a large scale to private sector

infrastructure companies, and over time this has presented another set of

challenges. Not only are the private sector companies involved in infrastructure

development now excessively reliant on bank financing, they do not have any

other options for raising capital, as they cannot tap corporate bond markets or

other long term funds such as insurance and pension funds.

With bank credit being the principal source of debt funding for infrastructure

projects, credit is only available for a maximum tenure of 10-15 years, which

does not match the typical 20-30 year tenure of an infrastructure concession

contract. The issue is exacerbated when considering infrastructure project loans

have tenures of 10 to 15 years, bank deposits, the main source of funds;

typically have a maturity of less than 3 years. With the rapid growth in lending

to the infrastructure sector between 2000 and 2010 there has been a growing

risk of an asset-liability mismatch (ALM). The Reserve Bank of India (RBI – India’s

central bank and banking supervisor) and banks have become cautious on the

issue related to financing infrastructure loans. Several domestic public and

private sector banks have neared their group exposure limits set by the RBI for

lending to large infrastructure players.

Over the last few years, the banking supervisor has expressed serious concerns

about the level of non-performing assets of the banking system, especially due

to the loans provided to the infrastructure sector. As these loans have had a

disproportionate share in the aggregate non-performing assets, banks are

reluctant to increase their exposure. This has taken toll on many of the

infrastructure firms, which are unable to complete their current projects

without cleaning up their balance sheets. With this situation it is expected that

private infrastructure investment is going to stall for a few more years, with

new investments in Greenfield projects to be most negatively affected. There is

now a growing onus on the public sector to revive infrastructure investments.

12


In real terms the consolidated debt of over 250 companies in the steel,

construction, infrastructure development, power generation and distribution

sectors rose by around 10% in 2014-15 from the previous year. Power

generation and distribution have been the most indebted sub-sectors, with the

consolidated debt of these companies rising to INR 4,730 billion in 2014-15

from INR 4,263 billion in 2013-14. India is already known to have one of the

world’s highest levels of electricity transmission and distribution (T&D) losses,

due to technical inefficiency and theft. Apart from that many of India's utilities

also lose significant electricity-related revenue because of poor collection

efficiency, and retailers are forced by their state governments to sell electricity

at subsidized rates, which now accounts for INR 600 billion (USD 9.1 billion)

every year as costs exceed tariffs.

With such large amounts of debt, private sector investments have virtually

ground to a halt, and the difficulties that these companies face reflect the

problems that the Indian financial system is grappling with. Where the cost of

capital has been high, banks are reluctant to extend credit because they have

too many bad loans.

The RBI has conditionally allowed banks to roll over loans to indebted

infrastructure companies, only if they have good assets. So until these indebted

groups can raise the cash to repay the banks, either by selling assets or

completing projects to generate the required cash flow, new investments are

not going to meet the scale of funds required for the country to upgrade its

infrastructure assets and meet the growing demand.

A Credit Suisse report titled “House of Debt”, which was first released in 2012

and then updated in 2015, has outlined the financial stress and indebtedness

that ten large Indian corporate groups went through. Most of the corporate

groups are in the infrastructure space, and their indebtedness has intensified

over the last 3 years. These companies included the following groups: Lanco

Group, Jaypee Group, GMR Group, Videocon Group, GVK Group, Essar Group,

Adani Group, Reliance Group, JSW Group and Vedanta Group. All the three

major ratios of debt servicing of these groups have suffered deterioration:

interest cover, debt-to-earnings and debt-to-equity. Their overall debt has risen

to INR 7,335 billion from INR 6,532 billion between 2012-13 and 2014-15.

13


With many of the projects stranded due to insufficient financing, the companies

have been caught up in high financial leverage, and debt repayment. Over the

past eight years, the corporate debt of these 10 over-leveraged corporate

groups covered by the Credit Suisse list grew by an alarming seven times.

Source: Credit Suisse; *Essar P&L numbers are for FY14, debt is based on data available for FY15, with remaining figures assumed to be the same as in FY14

These figures also take into account the fact that these companies, despite

resorting to asset sales in order to deleverage their balance sheets, have seen

their stress levels rise. This is evident by looking at how debt has eaten into the

equity of these companies, especially those operating in infrastructure and

power projects, which were initially built at a debt-to-equity ratio of 70:30, as

that ratio has now shifted to 90:10. For example the market cap-to-debt ratio in

the case of GVK Group is 95:5.

Declinining Debt Servicing Ability of Groups Operating in the Infrastructure Space in India

INR Billion Gross Debt EBITDA EBIT PAT Interest Cover Debt/EBITDA (x) Debt/Equity (x)

FY2013 FY2014 FY2015 FY2015 FY2015 FY2015 FY2014 FY2015 FY2014 FY2015 FY2014 FY2015

Vedanta Group 996.10 1012.27 1033.40 231.95 107.6 -234.83 1.6 1.3 1.8 2.3 0.4 0.7

Essar Group* 986.44 999.49 1014.64 83.7 28.36 -7.87 0.3 0.8 11.1 8.5 4.6 3.9

Adani Group 811.22 844.40 960.31 123.7 88.48 19.48 1.1 1.3 7.3 6.5 2.9 3.1

Jaypee Group 636.54 729.79 751.63 61.38 44.51 -17.27 0.8 0.6 11.1 11.9 6.9 7.1

JSW Group 461.18 530.27 581.71 130.25 88.01 31.46 2 1.9 4.1 4.2 1.8 1.8

GMR Group 408.24 450.45 479.76 25.54 7.42 -27.33 0.4 0.2 16 16.8 5.4 7.1

Lanco Group 410.84 440.82 471.02 16.93 5.8 -20.36 0.1 0.2 24.6 23.1 16.1 43.8

Videocon Group 407.68 N/A 454.05 -1.12 -16.49 51.19 -0.3 -0.3 285.5 NM 8.4 3.8

GVK Group 269.64 310.26 339.33 7.39 0.34 -8.34 0.5 0 21.7 32 7.4 12.2

14


In any case, the corporate debt ratio in India, which is only a moderate 50% of

GDP, has been highly concentrated, with the top 1% of firms accounting for

about half of the debt, as do corporates in the infrastructure (including power,

telecommunications and roads) and metals sectors (including iron and steel).

Ever since the global financial crisis, the median debt-to-equity ratio of these

corporations have been at more than 175%, not only higher than corporates in

other sectors in the country, but also among the highest among corporates

across emerging economies.

BMI Research expects Indian banks to continue to report a significant amount

of bad debt, this is not surprising as the financial position of the country’s

infrastructure conglomerates continues to deteriorate. With no signs of

improvement, the RBI has been vigorous in promoting regulation and norms

regarding restructuring loan repayments and refinancing, and in cleaning up the

banking system. While the RBI has been in the balancing act of safeguarding

banks from the mounting NPAs and restructured loans, the government has

been keen on easing non-performing asset norms for bank loans to revive

projects.

15


Public Sector Banks (PSBs) most Exposed to Stressed Loans in the Infrastructure Sector

Though India has been able to sustain itself as an emerging market ‘bright spot’,

there has been growing apprehension about its banking system which has been

weighed down by bad loans and the growing level of stressed or restructured

loans.

Over time, the public-sector banks (PSBs) have taken the largest share in

lending to large-scale infrastructure projects. The main issue has been with the

long gestation periods of these projects, making recoveries very difficult. The

Economic Survey for 2014-15 held that infrastructure, iron &

steel, textiles, mining (including coal) and aviation, held 54 per cent of total

stressed advances of PSBs as on June 2014. The survey noted that the exposure

of PSBs to infrastructure stood at 17.5 per cent of their gross advances and was

significantly higher than private sector and foreign banks.

Gross NPAs of Banks in India Mar-2010 – Mar-2015

Public Sector Banks Private Sector Banks Foreign Banks All Banks

Year Amount

INR Billion Gross

NPAs (%) Amount

INR Billion Gross

NPAs (%) Amount

INR Billion Gross

NPAs (%) Amount

INR Billion Gross

NPAs (%)

Mar-2015 2,785 5.0 337 2.1 108 3.2 3,229 4.3

Mar-2014 2,273 4.4 242 1.8 116 3.9 2,630 3.8

Mar-2013 1,645 3.6 208 1.8 80 3.0 1,932 3.2

Mar-2012 1,173 3.0 185 1.9 63 2.7 1,420 2.8

Mar-2011 747 2.2 182 2.2 51 2.5 979 2.3

Mar-2010 599 2.2 176 2.7 71 4.3 847 2.4

Source: Department of Banking Supervision, RBI

The RBI also conducted sectoral credit stress tests for the infrastructure sector

and the largest sub-sectors that included power, transport and

telecommunications. The infrastructure sector as a whole has been assessed as

highly stressed, with its share of NPAs standing at 12.7% and standard

restructured assets at 46%. Among the sub-sectors, the power sector was the

most stressed with a share of 29.3% in restructured assets and 5% in total NPAs.

In contrast, the transport sectors share of restructured assets was 14.6% and

3.8% of NPAs, while for the telecom sector these figures were 1.8% and 1.7%

respectively.

16


Source: Credit Suisse

The stressed loans of Indian banks were to the tune of 14 % of gross advances

(USD 161 billion) as of March 2015. Reviewing the trend of growth in the

number of stressed loans, over 30 per cent were from the Infrastructure sector

– primarily in the power space. A large proportion of these loans were to

government-controlled power generation and distribution companies.

Operating inefficiencies (technical and commercial), lack of adequate availability

of cheaper domestic coal and inability to pass on the increased costs to

consumers have impacted these companies adversely.

Infrastructure and Construction

25%

Metals12%

Industrials10%Utilities

10%

Services9%

Energy5%

IT/Telecoms5%

Other24%

Stressed Loans by Sector in IndiaQ2 2015 (5)

17


The Regulators Scramble to Plug the System through Opportunities for Refinancing

Over the next four years, New Delhi says the state banks will need about USD

28bn in new capital. Of that, the government for its part has already provided a

USD 11 billion bailout to struggling PSBs, while also promising structural reforms.

With the RBI not completely receptive to the idea of setting up a special

purpose infrastructure fund or a development financial institution which would

lend to projects that require last-mile funding, these assets end up being

classified as stressed assets. As aside from NPAs, banks also carry loans that

were restructured — where borrowers have sought more lenient terms such as

reduced interest rates or extended repayment period, in order to make

payments and allow banks to classify the loans as standard assets.

But while the RBI closed the restructuring window for banks in April 2015, listing

various measures taken to provide impetus to infrastructure lending and

address the stress in the sector, the RBI and Finance Ministry are allowing banks

and FIs to enter into a take-out financing arrangement with IDFC and other

Financial Institutions (FIs) under the 5:25 scheme. Banks are now allowed to

have flexible structuring and refinancing of project loans under the 5:25 scheme,

and banks can issue long-term bonds with a minimum maturity period of seven

years with certain incentives.

The central bank has recommended that the lenders should take advantage of

the 5:25 scheme, a provision that allows banks to refinance loans for

infrastructure for up to 25 years, and the strategic debt-restructuring scheme,

which allows debt-for-equity swaps. Essentially banks now have the right to

convert their loans into a majority equity stake if they feel that a change in

ownership can help turnaround the borrower’s business. Under the 5:25

scheme, banks can fix longer repayment schedules, even for say 25 years, for

loans to infrastructure projects.

18


Additionally, the Securities and Exchange Board of India (SEBI) has recently

relaxed the norms on debt – equity conversion by banks in stressed listed

entities. This could enable the banks to get a controlling equity stake in such

companies so as to enforce a change in the management, and eventually

improve efficiency.

The flexible loan restructuring scheme stipulates that loans given to

infrastructure and core industries in which the aggregate exposure of all

institutional lenders exceeds INR 5 billion, the debt can now be repaid over a

maximum of 25 years and the banks will refinance the loan every five years. The

repayment at the end of each refinancing period would be structured as a bullet

repayment, being specifically mentioned upfront that the loan will be

refinanced and that it would be considered in the asset liability management

(ALM) of banks. According to some recent estimates the loan amount already

refinanced under this scheme is on the order of INR 1 trillion.

The RBI is also allowing the creation of infrastructure debt funds as Non-banking

financial corporations (NBFCs) or mutual funds. However, while capital infusion

and restructuring might provide short-term relief, it is clearly not a sustainable

answer to a complex problem. The argument against the 5:25 scheme is that it

is largely being used as just another tool to postpone the write-offs, even

though they admit that the scheme is a better way of restructuring loans

compared with corporate debt restructuring (CDR). Though the 5:25 guidelines

allows banks to increase the tenure of the loans so that they can match each

project’s inflows and outflows, the issue is whether these loans eventually

default.

Taking for example the power sector with its INR 750 billion worth of loans,

even if these debts are put under the 5:25 scheme, not all of them will

eventually turn positive. Given that about 35-40% of the restructured accounts

have eventually defaulted, there may be a large percentage of debt being

shifted to the 5:25 scheme that will eventually end up in default.

19


In terms of dealing with the stressed loans, banks have preferred to address the

problem through restructuring debt under the Corporate Debt Restructuring

(CDR) mechanism. While recovery of assets has mainly been the responsibility

of banks, they are not well equipped to manage recoveries and so there is the

dire need to promote agencies that can manage distressed funds such as Asset

Reconstruction Companies (ARCs).

A two-pronged strategy that needs to be implemented has been Asset

Reconstruction and Asset Disposal. Currently, the banking industry has resorted

to the former, which is the sale of the distressed assets of the bank to an Asset

Reconstruction Company (ARC), thereby disposing of the debt. After the sale,

bad loans become the responsibility of the ARCs and relieve banks from the

pressure of recovering loans, while also generating capital. According to media

reports, the Finance Ministry is working towards creating a public-funded ARC,

which will help in the bailout. Along with reconstruction, currently a ‘Bankruptcy

Code’ is also being worked out, as this is expected to go a long way towards

helping local lenders to better manage their non-performing and stressed

assets.

The real challenge in the current environment has been the RBIs call for banks

to clean up their account books by early 2017, the central bank has implicitly

implied that it would be closely scrutinizing whether concessions made to the

lenders are being misused. The RBI governor, Raghuram Rajan, stressed the

importance of such a clean-up in his speech on 11 February 2016, where he

reiterated that the profitability of some banks may be impaired in the short run,

but that once the system was cleaned up, it will be able to support economic

growth in a sustainable and profitable way. With the RBI intent on getting banks

to clean up their loan books, the likely credit costs which were supposed to be

spread over the next three to four years will have a much higher incidence in

FY16/FY17.

20


Infrastructure Investments Unlikely to Make Headway in the Short-Term

The main issues for infrastructure projects in India have been their commercial

viability and long gestation periods, but more recently the focus has shifted to

stalling private investments in the sector due to growing indebtedness and the

high financial leverage of firms operating in the infrastructure space. Lending to

infrastructure companies has pushed up the NPLs and stressed loans in the

banking sector, as these companies completely rely on banks for lending, due to

the absence of a deep corporate bond market in India and muted participation

by pension funds that have inhibited credit availability for long-term financing.

While the 10-15 year tenure of lending is too long for banks, it is too short from

the point of view of project companies, resulting in an asset-liability mismatch

issue.

Further regulations such as sector specific resolution of stressed assets,

implementation of a strong bankruptcy code and institutionalising a formal

mechanism to revive sick companies are needed to resolve stressed loans.

Above all, a credible, timely and realistic mindset is required to ensure

sustained recovery management. The quick action in enacting a modern

bankruptcy law, will also allow infrastructure projects that have turned into bad

loans to be speedily handed over to new promoters capable of attracting fresh

financing.

The Finance Ministry, in a mid-term review of the economy last year, had

acknowledged the concerns springing from over-leveraged private balance

sheets and the need for higher public investments to compensate for India Inc’s

inability to take up Greenfield projects. But even after a year, investments by

the public sector have yet to see an improvement. Hopefully with more funds

committed to the road sector, where the award of projects both under EPC

(engineering-procurement-construction) and a new ‘hybrid annuity’ model may

make headway, more can be done to support the power and railway sector.

Though in the short run (3-5 years) the private sector involvement in the

infrastructure investment space is going to be constrained, with reviving

demand and continued economic growth, continued reforms in cleaning up the

banking system and a public sector push in infrastructure spending, the sector is

likely to see growth in the medium to long term.

21


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