Infrastructure Projects are highly capital intensive. They are characterized as long-term investments that have a long gestation and payback period. Most infrastructure projects require a large initial investment for construction. Meanwhile, their maintenance is a comparatively small expense. In emerging economies like India, the government is the major source for funding Infrastructure. Governments allocate investments in infrastructure based on the priority of different sectors. The priority of each sector is determined by the emphasis on facilitating growth in them. Recently, Public-Private Partnership has been introduced as an innovative strategy to involve more private investments in the country’s infrastructure development. Let us look at the different methods of funding infrastructure projects:
In the foreseeable future, the government is expected to be the major driver of infrastructure development. These developments can be funded either through its coffers or by external routes. The National Highways Authority of India (NHAI) is a government body that is involved in the construction of highways and road projects in India. It is relying more on external borrowings such as masala bonds, funds from institutions such as LIC and NSSF, and models such as Toll-Operate-Transfer as more projects are awarded under the hybrid annuity model (HAM) and on a cash-contract basis.
Projects such as operational national highways and bridges are monetized using the Toll-Operate-Transfer (TOT) model. The TOT model is a form of a risk transfer agreement. The NHAI transfers the toll collection rights to a private company in exchange for a lump-sum amount. The private developer has to maintain the project for the toll collection period. Usually, the contract is of 30 years. Private developers are chosen by a bidding process. They quote a fee for the project’s toll collection rights. The biggest benefit for NHAI is that it enables it to invest the lump-sum payment into another project. It also does not have to wait for a long payoff period to receive the payback from the project. Private companies benefit from the fact that they can participate even if they have no prior experience with construction projects. The reason for this is that operational projects are auctioned off under the TOT model.
While the government is involved in a large number of infrastructure projects, private companies also fund infrastructure projects, albeit to a lesser extent. The main goal of government investments is to benefit the people as a whole. It must also achieve social and economic objectives. Private companies, on the other hand, invest in infrastructure projects with the primary goal of maximizing their return on investment. The Public-Private Partnership for highways, bridges, railways, and aviation has grown in popularity among a growing number of stakeholders. In the medium and long term, the government is willing to increase private participation. Private investments also contribute to keeping the fiscal deficit under control. However, the policies made by the government that benefits the functioning of private companies is crucial for the success of this sector.
Bond Financing for Infrastructure Projects
Bonds are one form of financing used for infrastructure projects. The project company issues bonds to obtain debt financing from the financial market. The Project Company agrees to repay bondholders the principal amount plus interest on specified future dates. Bondholders are investors looking for a long-term fixed-rate return without taking on equity risk.
Bonds vs Bank Loans. Which is Better?
Bonds are preferred for financing infrastructure projects because they can have longer maturities than loans. The duration of infrastructure projects is closely related to the duration of infrastructure projects. Furthermore, the liquidity of term loans in large projects is limited because banks are hesitant to increase their exposure in a few large projects. As a result, bonds are preferred over term loans. Bonds also have lower interest rates than comparable bank loans because they have a larger investor base.
Bank loans, on the other hand, are better suited for projects where regulatory requirements change frequently, as loans offer greater flexibility. Another advantage of loans over bonds is commercial confidentiality. When it comes to loans, project documents and other related documents will be shared with a select group of banks.
Infrastructure Investment Trusts (InvITs)
Infrastructure Investment Trusts (InvITs) are similar to mutual funds. InvITs allow entities such as retail or institutional investors to pool small amounts of money into multiple infrastructure projects. The investors become unitholders of the fund and receive the income generated from these investments.
Viability Gap Funding
Viability Gap Funding (VGF) is a one-time or deferred grant provided to support infrastructure projects that are economically justified but lack financial viability. Long incubation periods and the inability to raise user charges to suitable levels are common causes of financial unsustainability. VGF has helped to make a large number of projects more feasible to the private sector through assistance from the government.
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