PROJECT FINANCINGEmerging Trends

E N E R G Y C F O ’ S S U M M I T

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Deepto RoyPartner

PXV Law Partners

INTRODUCTION

• Indian Project Finance• Project Finance- Evaluating Challenges• Recent Regulatory Developments• Trends• What we will See

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INTRODUCTION

• Massive and Sustained Investment necessary in Indian Infrastructure• Sources of Funds

• Government Expenditure- budgetary allowance, gap and viability funding• Domestic Rupee Borrowing • Multilateral Agency Funding• Equity Funding

• Funding was becoming more “asset based” than “security based”• Expenditure in infrastructure

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2010-2011 (in Rs Crore)

2011-2012 (in Rs Crore)

Eleventh Plan (in Rs Crore)

Private Investment

1,69,227 2,08,413 7,42,912Public Investment 2,90,832 3,19,904 13,11,293Total 4,60,059 5,28,316 20,50,0205

INTRODUCTION

• Infrastructure funding gaps Rs 1,27,570 Crores in 2011-2012

• Ability of commercial banks to provide long term funds is limited

• Significant liquidity issues resulting from international credit crisis for domestic and international banks

• Over-leveraged borrower groups- presents a commercial risk for banks

• Banks are running out of headroom in financing borrower groups and sectors

• High cost of funds

• Specialized NBFCs fund infrastructure but are restrained by lack of access to funds

• Decreased pipeline of “bankable” projects

• Project risks

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PROJECT FINANCE- EVALUATING CHALLENGES

PROJECT FINANCE- EVALUATING CHALLENGES• Political risk and uncertainty of Government actions• Uncertainty of tariff flows• Bankability of Project Documents- “pre-cooked”

documents leave little room for commercial negotiation and risk mitigation

• Competitive Bidding and related risks• Land

• Management of the acquisition process• Local and political issues• New land acquisition rules

• Environment• Management of the environmental impact assessment

process• Increased vigilance by local and environmental groups• Multiple state and central government agencies

involved • Multiple levels of approvals required• Litigation risk

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PROJECT FINANCE- EVALUATING CHALLENGES• Fuel Supply

• Uncertainty in relation to allotted coal blocks• Coal India Limited significantly behind targets in terms of extraction of coal (creating a

supply shortfall)• Model coal supply agreement- guarantees only 60% supply• Indonesian coal regulation- affected projects with long-term fixed price power supply

agreements• No pass-through of coal costs in bidding projects

• “Many a slip between cup and lip”- sanction v. disbursement• Realistic appraisal of conditions precedent• Developer’s preparedness

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PROJECT FINANCE- EVALUATING CHALLENGES• Different treatment of domestic and international lenders

• International lenders are not protected under specific security enforcement legislation such as the SARFAESI Act and the DRT Act

• No ability to access the CDR mechanism• Inter-creditor issues in relation to domestic and international lenders, in particular with respect to

enforcement of security • Stamp duty risk

• Maharashtra, ad-valorem stamp duty on loan and security arrangements• Registration and syndication related stamp duty issues in Gujarat• Bringing agreements for the purpose of filing forms makes the document subject to stamp duty• Cost implication for fronting and participation structures and syndication

• Additional issues with security• Mortgage cannot be created over forest land- permission from forest department to allow lender’s

nominee to use forest land- time consuming process• Enforcement of mortgage over SEZ land- lender’s nominee must be approved by SEZ developer/

user• Financing cross- country pipelines- no security can be created over the rights of way• Enfor

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REGULATORY DEVELOPMENTS

MEASURES TO ENHANCE INFRASTRUCTURE FUNDING

• Use of foreign exchange reserves for Infrastructure Development through IIFC (UK) Ltd. • RBI invests in fully government guaranteed foreign currency denominated bonds in

IIFCL for on-lending to Indian companies implementing infrastructure projects• Exposure norms in relation to borrowers and groups in the infrastructure sector has

been enhanced – From 15% to 20% in case of individual investors and from 40% to 50% in case of borrower groups

• Banks have been permitted to extend finance to funding promoter’s equity in cases of investment in companies operating infrastructure projects

• Promoter’s shares in an infrastructure projects pledged to a lending bank have been excluded from the bank’s capital market exposure

• Introduction of credit-default swaps to allow the banks to manage their exposure in a better manner

• Measures to enhance the corporate debt markets• FIIs permitted to invest in unlisted infrastructure binds

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REGULATORY CHANGES… ECBS• Recent Changes in Regulations related to

External Commercial Borrowings (ECBs)• Liberalization of the security creation process-

for security over immovable properties, corporate guarantees and pledge of shares

• Increase in ceiling on ECBs to US $ 750 million in a year

• ECB can be used to repay short term bridge finance for infrastructure projects under the approval route

• ECB can be used to fund interest during construction (IDC)

• Credit Enhancement • Rupee Loans with Non-resident

guarantees not considered as ECB• Infrastructure Companies and

Infrastructure Finance Companies can obtain “credit enhancement” for domestic debt raised through issue of capital market instruments such as debentures and bonds

• Direct foreign equity holders can now provide credit enhancement for domestic capital market dent

• Guarantee fee cannot exceed 2%• All in costs applicable once the credit

enhancement is invoked

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REGULATORY CHANGES… ECBS

• Take out financing under the approval route• Tripartite arrangement between the domestic bank and overseas recognized

lender to facilitate the take-out finance within 3 years• Fees payable to the foreign financier should not exceed 1% per annum• Prior approval of the Reserve Bank of India is required

• Permission to obtain ECBs in Renminbi • For infrastructure companies, 25% of ECB amounts can be raised to re-finance

existing rupee loans• 75% of the ECB must be used for capital expenditure• The purpose of the refinanced rupee loan should have been capital expenditure• Not available to companies in the power sector.

• Indian companies can obtain ECBs from foreign equity holders designated in Indian rupees

• Increase in all-in-cost ceiling for trade credits for imports into India

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REGULATORY CHANGES… INFRASTRUCTURE DEBT FUNDS

• Initiative by the Government of India to bridge the asset liability mismatch – idea floated in the Union Budget 2011-12

• November 2011- RBI and SEBI notified detailed guidelines for setting up infrastructure funds which can be either NBFCs or (IDF-NBFCs) or Trusts regulated by the SEBi Mutual Funds Regulations (IDF-MF)

• Scheduled Commercial Banks are allowed to act as sponsors to the IDFs with the prior approval of the RBI

• IDF NBFCs can raise funds through issue of rupee or dollar denominated bonds• Funds can be used to take-out loans in projects which have already reached COD and

completed one year of operations• IDF NBFCs can fund only PPP projects whereas IDF MFs can funds non-PPP projects

as well• Model tripartite agreement for NBFC-IDFs has been approved

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TRENDS

INCREASED DUE DILIGENCE EMPHASIS

• Lenders have become significantly more cautious on projects risks

• Issues in relation to potential litigation with respect to regulatory approvals and allotment

• Risk of cancellation of licenses- due diligence to cover not just the issue of the license but also the license allotment process

• Involvement of forest land increases project risk significantly

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EVOLVING NATURE OF SPONSOR SUPPORT• Traditional sponsor support-limited to cost overrun, shareholding and completion

undertakings• Growing emphasis on sponsor credentials and commitment to support the Project• Evolving Nature of Sponsor Support

• Capped and upcapped Cost overrun support• Technical support undertakings• Raw material, Feedstock Supply Arrangements, Transmission Support,

Transportation Support• Offtake undertakings• Marketing assistance for sale of products• Tariff/ revenue gap funding• Termination payment gap funding- to fund termination payments in case of shortfalls

under Concession Agreement• Project Management Support• Hedging Support

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MULTILATERAL DEVELOPMENT BODIES/ ECA FUNDED FINANCINGS• IFC, ADB and OPIC are making significant

debt and equity investments in India • With banks suffering from lack of liquidity,

ECAs/ Multilateral Development Bodies have become a significant source of funding

• Projects involving high capital expenditure• ECAs will fund “pre-approved” projects by

allotting funds to a commercial bank• On-lending through a commercial bank• Cheap and long term funding• Independent agency verification• Higher up-front equity• Increased compliance requirements

including environmental compliance (e.g. Equator Principles) and more stringent due diligence and documentation requirements

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SUB-LIMIT FINANCING AND PHASE WISE PROJECT EXPANSIONS• Sub-limit financing

• Facilities provided under umbrella commitments by banks• Facility may be limited to a component or part of the project

• Development of Projects in several phases (large projects- power plants, refineries)• Several sets of lenders• Ring fenced security arrangements and separate cash waterfalls• Common facilities may be shared between different phases and should be available for

use in case of enforcement of rights by lenders• Complicated inter-creditor and trustee arrangements

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FINANCING RENEWABLE ENERGY• Indian financiers still not comfortable with financing renewable projects• Most projects funded on a balance sheet rather than project finance basis• Despite significant emphasis from the Government, regulatory gaps and uncertainties

continue to exist• Problems with renewable projects

• Regulatory risks• Technologies are at a nascent stage• Inexperienced developers• Price bids submitted without sufficient risk analysis• Power Purchase Agreements not bankable• Rapid devaluation of assets• Intellectual property intensive- risk of infringement litigation• Evacuation and interconnection risks

• Possible Solutions• Payment security mechanism with budgetary allocation set up by the Government of

India• Long-term tax free bonds by banks to fund renewable prjects• Credit guarantees from the Indian Renewable Energy Development Authority (IREDA)

 

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WHAT WE WILL SEE• Innovative Financing Structures

• Increase access to Bonds and Debt markets to replace expensive rupee loans

• Issuance of long term infrastructure funds- tax free status to ease raising of funds

• Multilateral and development institution funding

• Bringing in new classes of institutional investors (pension funds, insurance companies, provident funds)

• ECA Backed Funds

• Replacement of Rupee with ECB

• NBFC Funding- NBFCs with focus on infrastructure permitted to avail ECBs upto 50% of their net owned funds for on-lending to the infrastructure sector

• Issuance of municipal bonds by local governmental authorities to fund urban infrastructure projects and viability gap funding

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THANK YOU

Deepto Roydeepto.roy@pxvlaw.com

+919654400716