Infrastructure debt fund: Will it bridge the gap between need and demand?

The finance ministry has once again attempted to bring foreign funds and domestic insurance money into infrastructure projects by floating the Infrastructure Debt Fund, or IDF.

How this works?

Banks and non-banking financial corporations (NBFCs) will set up mutual funds or another NBFC, which in turn will sell mutual fund units to foreign funds or insurance companies to raise money.

The money will then be used to buy out infrastructure loans fron banks. These loans will finance public-private-partnership (PPP) projects only. Once the said period of the partnership is over, the project will be handed over to the National Highways Authority Of India(NHAI) or the government, depending on the case. Moreover, banks can only sell loans to IDFs after the project becomes commercially feasible.

Will this funda work?

In an interview with CNBC-TV 18’s Latha Venkatesh, the Deputy Managing Director of State Bank of India, Santosh Nair, said since the amount of investment that IDFCs are looking at is not too large, most banks have enough room to set up these NBFCs. Moreover since there is a cap of 30-49 percent, two or three institutions will have to pull in the debt together.

He, however, added that in order for this fund to work, banks must be sufficiently incentivised to churn out the portfolio because it has to pass on the project to someone else after taking the pre-COD ( commercial operational date) risk entirely by itself. “Second thing is we need to success the product so that the foreign funds are attracted to invest in this,” he said.

Will banks be incentivised enough?

Prabhakar, executive director of Bank of India, said any existing loans will have difficulty in completing the takeout transaction. However, he said, the new projects will be structured in such a way that banks will be taking the project risk and once the COD is completed and one year after the satisfactory performance, “we should be able to pass on the credit to the IDF NBFC.”

He added that pricing after the COD and after one-year completion can be negotiated for new projects, but for existing projects it will be very difficult to do a takeout transaction.

Will foreign investors get high returns?

Vikram Limaye, executive director, IDF said returns would depend on the bond ratings. If these bonds are rated ‘A’, then the return for international investors would definitely be around 9 to 10 percent. However, if “You were to get to a AA or AA (+) domestic rating, you stand a good chance that you could attract at least the foreign investors in at 10-11%,” said Limaye.

Ratings and yield an issue:

Limaye also cautioned that regulations around insurance will not permit insurance companies to invest in any paper that is less than an AA rating.

“So if you are trying to attract insurance pension money, I think rating will become an issue. Say “A” rating may not work and the yield will become an issue because at 10-11 percent for operating assets if that’s the yield that the investor is demanding then I am not sure what kind of a spread the NBFC-IDF will earn, based on what the expectations are of domestic promoters for operating assets.”

Investors will have to be incentivised with a a higher interest yield

Therefore, getting foreigners to buy a single-rated paper at ten to eleven percent yield is going to be a problem because they would prefer a double A rated bond with the same yield.

Need to sell Indian Infrastructure to foreign investors

Limaye went on to say that from a a macro perspective, there is ageing population in most parts of the world which requires a steady yield over a period of time. There aren’t too many places that provide a steady cashflow as the case with the Indian or Chinese infrastructure and this a an opportunity to market Indian Infrastructure to FIIs who are hungry for long-term yield.

Watch video: Indian Infrastructure is an attractive destination for those looking for higher yields