In the infrastructure space, power is the most critical and capital-intensive sector. The sector’s fund requirement for the 11th Plan was a staggering R10,31,600 crore, of which R4,10,896 crore was meant for generation projects alone.
A major issue in the power sector is ?raising funds for carrying out operations?. Considering the fund crunch being faced by the state electricity boards (SEBs), it would be better for private promoters to form joint ventures, by sharing equity with foreign promoters. The equity requirement, by the government rule, is 11% of the project cost.
Foreign loans are another source of funding. For this, supplier’s credit has to be guaranteed by the export credit agencies (ECAs) from the country of export. These ECAs would, in turn, have to seek guarantees from Indian financial institutions and banks since foreign banks and credit institutions are reluctant to take credit risk in view of the poor financial health of the SEBs. Loans given by the ECAs are supported by the IFIs, and for this a fee, of between 1.5% and 3% of the principal and future interest, is charged. Apart from interest costs and guarantee fees, other costs of financing are the lenders’ upfront fee, a fee for the amount committed but remained unused, and third-party assessment and closing fees. In most cases, upfront and unused fees are calculated on the committed amount and not on the drawn amount. Third-party costs include legal and consultancy fees.
Government policy allows a debt-equity ratio of 4:1; however, the lending institutions advocate a debt-equity ratio closer to 7:3 as a prudent measure. Specialised infrastructure and mutual funds have come up to bridge the equity gap in mega projects such as Global Power investment of GE Caps, the AIG Asian Infrastructure Fund, the Asian Infrastructure Fund of Peregrine Capital Ltd and ICICI Power promoted by ICICI Mutual Fund.
Ideally, debt raising cost should be the lowest to bring down the cost of electricity to the consumer. The promoter?s choice of equity or debt finance depends on factors such as government guidelines for power projects, incentives available and return on equity as also the cost of debt vis-a-vis equity. Debentures/bonds are issued by central/state PSUs and public/private companies to augment resources for power sector in the capital market. Currently, internal rates are deregulated and credit rating is mandatory if the maturity of instrument exceeds 18 months. NCDs with an option of buyback, debentures with equity warrants, floating rate bonds and deep discount bonds are some of the attractive instruments offered in the market.
In India, project financing is largely limited to Indian term-lending institutions like IDBI, IFCI, ICICI, SCICI, Sidbi, UTI, PFC, LIC and GIC. Also, a large number of state-level institutions and smaller-sized commercial banks participate in term loans to a limited extent. Disbursements made by PFC were to state utilities like SEBs/SGCs, whereas disbursements by other FIs were mainly to private power projects.
Since domestic fund availability is limited, it is inevitable for power projects to tap the international markets, which are characterised by long-tenure maturities and multiple modes of finances.
There is a pressing need to resolve the fundamental issues in the sector. In the medium-term, private investment would be critical for meeting the resource requirements. Several short- and long-term measures have been taken by the governments towards risk mitigation in the sector. Today most SEBs and state governments have come forward with the mechanisms of letters of credit, escrow accounts and state guarantees. The escrow capability of SEBs after meeting their working capital requirement would be limited. A realisation is growing in most states that the only long-term solutions to the problem could be commercial viability of SEBs and enhancement of their credit worthiness.
As is known, the Centre has stopped giving counter-guarantees, which are available only for the eight fast-track projects now. But several state governments and SEBs have come forward to give guarantees on payment obligations. To raise the comfort level, the SEBs have also agreed to the escrow account mechanism. But the mechanism has limited scope for expansion of the power industry through the private sector route.
Considering all these, the best solution to the issue of bankability of power projects is to remove doubts about the credit worthiness of electricity distribution agencies. In the present framework of SEBs, in most cases, this problem may remain unresolved, and the ultimate solution appears to be tariff rationalisation through the regulatory mechanism, restructuring of the power industry through privatisation of distribution & transmission, and privatisation of mine development and the collection mechanism.
The author is professor at Management Development Institute, Gurgaon