A Comparative Study by India Ratings and Research (Fitch Group): Road Financing Models in India and Global Markets
India Ratings and Research (Fitch Group) has conducted a comparative study of the key structural risks prevalent in infrastructure financing in the roads sector in India vis-à-vis a few select projects in key developed and developing economies, viz. United States of America, Europe and Latin America. The objective of the report is to highlight certain project concession structures that are used in road projects in these geographies but do not necessarily exist in their full forms in India. Additionally, the study aims to discuss global practices that could be explored by the main stakeholders in India’s highways sector.
In the United States (US) and Latin America, flexible term concessions have been used in some toll road projects, with the concession term linked to the total aggregate revenue of a project reaching a predefined net present value based threshold. In Europe, a few toll road projects were seen to have a variable concession tenor, with an option for term extension to recover higher capital expenditure incurred in the project. For some European toll road projects, concession agreements also allow for capital expenditure recovery through specific toll rate escalations. Most Indian toll road projects rated by Ind-Ra have variable concession tenors and term extension, which is linked to the achievement of a threshold level for target traffic. However, provisions for recovery of major maintenance costs by extending the concession tenor have not been seen in these rated toll road projects.
Furthermore, some key differential features observed in certain toll road projects (under specific schemes) developed in the US, Europe and Latin America are as follows: – (i) subordinated debt up to 10-30% is provided by the grantor to the developer for mitigating high traffic risk exposure; (ii) minimum revenue guarantee (MRG), wherein the grantor usually pays a minimum fixed portion of the annual toll revenues to the concessionaire during the contract term to offset traffic underperformance; (iii) shadow tolling mechanism, wherein toll payments (in descending order) are paid by the grantor to the developer based on band-wise traffic distribution; and (iv) hybrid structure, which includes both the approach of shadow tolling, in the form of traffic compensation payments, and user-payment based tolling.
In the US, the United Kingdom (UK) and Latin America, while electronic tolling is largely the preferred tolling collection method, toll rates are determined on the basis of one or a mix of the following factors – vehicle type, length of project stretch travelled, and time of travel (peak time/ off-peak time). CPI-linked toll rate escalations typically take place on an annual basis; however, unusual tariff hikes have been observed in certain concessions to account for a significant decline in traffic growth or for the recovery of the capital expenditure incurred. In India, toll rate escalations are annual and are (i) partially fixed and partially linked to the wholesale price index (WPI) (3% fixed and 40% linked to the WPI); (ii) fully linked to the WPI; or (iii) having fixed annual toll rate escalation. Indian toll road projects are also expected to adopt electronic tolling for all national highways and incorporate a pay-as-you-use model in the near term.
Issuance of bullet debt structures, a demonstrated track record of accessing both banks and capital markets, debt structures with spread out debt maturities to mitigate refinancing risk is seemingly common among project sponsors in some European road projects. Debt structures of a few Latin American road projects have distinguishing features such as (i) foreign currency-denominated debt; (ii) full amortisation for some debt tranches, and bullet payment structures for others; (iii) debt subordination; and (iv) the option to defer principal repayments against scheduled amortisation. Indian road project financing in Ind-Ra’s portfolio is largely via bank loans, while bond issuances are limited. Additionally, structural features such as bullet debt issuances, deferrable principal repayments or terminal value payments (in concession agreements) backed bond issuances are unpopular in India.
In the report, Ind-Ra has also proposed some recommendations for the sustainable development of the Indian roads sector. The suggestions include enhancing public-private partnership by exploring other variants of build operate transfer (BOT) models such as MRG structures, subordinated debt, shadow toll payments, etc. Furthermore, apart from existing alternative structures (like infrastructure investment trusts), stakeholders may also explore the possibility of setting up a dedicated secondary market for infrastructure road financing, and ensure the availability of multiple debt structures (deferred principal payments, bullet debt issuances) along with securitisation structures (collateralised loan obligations, toll road securitisations), to achieve low cost financing and a diversified investor community for Indian infrastructure road assets. Additionally, a deeper bond market and a speedy resolution of distressed assets for the Indian infrastructure sector under the Indian insolvency regime would improve overall investor sentiments in the roads sector.
Report by Fitch Group
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