Budget 2021 expectations | Better financing mechanisms needed to keep National Infrastructure Pipeline on track

To keep the National Infrastructure Pipeline (NIP) on track for completion by 2025, it is expected that the Union Budget will significantly increase the capital outlay towards infrastructure and also announce steps to boost infrastructure financing avenues and private sector participation.

As per the NIP, infrastructure investment of over Rs 111 lakh crore is envisaged between FY2020 and FY2025. While the target for FY2021 itself was a daunting task, given the impact of the COVID-19 pandemic, the infrastructure investment during FY2021 is likely to be much lower compared to the NIP plan. The private sector and state government investment was severely impacted due to COVID-19. Against this backdrop, it becomes all the more important for the Central government, which has a higher wherewithal, to step up infrastructure capex. However, given the huge funding requirements, the infrastructure capex cannot be entirely met through increased budgetary support and the government will most likely have to depend on higher internal and extra-budgetary resources (IEBR) of the Central Public Sector Enterprises (CPSE), including borrowings, equity dilution, asset monetisation, as well as avenues of long-term infrastructure financing.

To facilitate fund raising, reputed infra-based CPSEs can be allowed to raise long-term funds in the form of infrastructure bonds / tax-free bonds. Given the critical role played by key implementing agencies like the National Highways Authority of India (NHAI), it is expected that the budgetary allocation towards such entities will be increased to ensure that the pace of execution doesn’t suffer. The NHAI has also initiated asset monetisation through the toll-operate-transfer (TOT) process and is planning for an Infrastructure Investment Trust (InvIT). Similar to the NHAI’s plan, some other CPSEs are also likely to use the InvIT route to raise funds. However, given the scale of investment required, this alone may not be sufficient. Hence, some long-term sustainable source of financing needs to be explored, which can bridge the infrastructure funding gap.

Infrastructure project financing in India is predominantly from the banking sector and a few infrastructure NBFCs. It is important to strengthen the existing infrastructure NBFCs for enhancing their ability to finance projects. The task force on the NIP, in its report, has also emphasised the requirement of increasing participation of Infrastructure Debt Funds (IDFs), Development Finance Institutions (DFIs), etc. The NIP financing plan includes sourcing 2-3 percent financing from a new DFI. It is likely the government would allocate equity funds towards this in the upcoming budget.

Besides providing capital to the new DFI, its structure and support from the government would also be important. The DFI is not new to India as there were multiple DFIs in the past - IFCI (set up in 1948), ICICI (1955), UTI (1963), IDBI (1964), Exim Bank (1982), NABARD (1982), SIDBI (1990), NHB (1988), IIFCL, and various State Financial Corporations (SFCs). However, over the years, as the DFIs faced challenges in raising low-cost funds and competition from banks, most transformed into banks or NBFCs. The new DFI structure should help raise low-cost foreign funds, for which Central government support will be critical. With a revamped structure and a sizeable equity capital it can leverage to provide significant funding for the infrastructure sector.

Further, increased facilitation of innovative mechanisms such as loan securitisation, InvITs, etc. can also help enhance infrastructure capital. In addition, the National Investment and Infrastructure Fund (NIIF) can play a big role in channelising long-term funds – both debt and equity - to the infrastructure sector. Hence, ICRA expects higher allocation towards the NIIF in the upcoming budget and more active participation in infrastructure investment over the medium term.

On the execution front, with a significant scale-up in the pace of infrastructure development, the contractor’s capacity to take up and efficiently execute projects will also become important. One major constraint faced by construction contractors is the availability of bank guarantee (BG) limits, which are required throughout the project lifecycle, right from the bidding stage till its completion, and often extends to the defects liability period. For availing BGs, the companies have to provide collateral securities and provide margin money, which is often a constraint for mid-size contractors. Thus, without adequate BGs, neither can bids for new projects be made, nor can the contracts be efficiently executed. The Central government had recently taken measures to reduce the BG requirement, however, this has been done for a limited period and more policy initiatives are needed.

One major constraint faced by construction contractors is the availability of bank guarantee (BG) limits, which are required throughout the project lifecycle, right from the bidding stage till its completion, and often extends to the defects liability period.

In some countries, sureties (generally provided by insurers) are an alternative to the BGs and can help reduce margin/collateral requirement. Another alternative could be in the form of a contractor-wise revolving BG provided to employers, which could be used as security for multiple contracts. While this aspect can be taken up outside the Budget, some guidance on the plans in this regard would provide comfort to the construction industry.