The infrastructure sector has traditionally relied on bank credit to meet its funding requirements. However, constrained bank lending to the sector has necessitated the development of alternative investment vehicles. Taking cognisance of this fact, the government proposed the setting up of infrastructure in-
vestment trusts (InvITs) in Union Budget 2013-14. Though it witnessed a slow start initially, the instrument is now attracting the interest of both developers as well as investors. InvITs are expected to encourage higher foreign investment in the infrastructure sector, reduce the burden on the banking system, and allow developers to unlock tied-up capital.
What are InvITs?
An InvIT is a trust which manages income-generating infrastructure assets (which have achieved commercial operation date), typically offering investors a regular yield and a liquid method of investing in infrastructure projects. It is like a mutual fund which enables investments in the sector by pooling in small sums of money from a multitude of investors for directly investing in infrastructure projects. The sponsor can raise funds by transferring assets to the trust (which will be managed by its trustees) in which other institutional investors can invest, thereby unlocking the tied-up capital of developers.
InvITs can be of two types, depending on the manner in which units are proposed to be offered to investors. Publicly offered InvITs will invest primarily in completed and revenue generating infrastructure projects, and the value of under-construction assets cannot exceed 10 per cent of the InvIT value. The other type, privately placed InvITs, have the flexibility to invest in completed and/or under-construction projects with no limit on the value of under construction projects.
Regulatory amendments
After InvITs were proposed by the government in 2014, there were hardly any takers for the instrument due to tax uncertainty, regulatory impediments, poor market sentiment and doubts over the practical feasibility of the investment vehicle. However, due to recent policy amendments coupled with tax benefits, the instrument is gaining traction. The removal of the dividend distribution tax (DDT) brings tax regulations at par with competitive global markets. Industry experts are of the view that these developments will prove to be a game-changer as they now give companies the wherewithal to monetise income generating infrastructure assets.
- Investment in two-level SPV structures: The Securities and Exchange Board of India (SEBI) has allowed InvITs to invest in a two-level special purpose vehicle (SPV) structure through a holding company, subject to sufficient shareholding in the company by the InvIT. Also, the holding company will distribute 100 per cent cash flows realised from the underlying SPVs and at least 90 per cent of the remaining cash flows.
- Sponsor-related amendments: SEBI has reduced the mandatory sponsor holding in an InvIT from 25 per cent to 15 per cent and rationalised the requirements for the private placement of an InvIT. The regulator has removed the limit on the number of sponsors (the earlier policy required three sponsors). Besides, such trusts now have the right to appoint majority directors in the SPV.
- Investment by mutual funds: SEBI has recently notified norms allowing mutual funds to invest their money in InvITs. A mutual fund scheme cannot invest more than 10 per cent of its net asset value in InvIT units; and a scheme cannot invest more than 5 per cent of its net asset value in the units of a single InvIT issuer.
- Foreign investment: The Reserve Bank of India (RBI) has permitted non-residents, including foreign portfolio investors, to invest in InvITs under the automatic route. It has also relaxed rules for downstream investments made by an InvIT by treating it as a “domestic investment”, as long as both the sponsor and the manager are Indian owned and controlled. Thus, such downstream investments will not have to comply with the sectoral caps, pricing guidelines and reporting requirements generally applicable to foreign investments.
- Disclosure norms: The regulator has made it mandatory for a company looking to list an InvIT to disclose financial information, related-party transactions and past performance. InvITs will have to disclose their commitments, contingent liabilities, earnings per unit, total debt, net worth, and debt-equity ratios before and after the completion of issues. The history of interest and principal payments of the InvIT and operating cash flows from projects for the past three years will also have to be disclosed.
Recent developments
Developments on the regulatory front have encouraged a number of infrastructure companies to set up these structures. Companies such as IRB Infrastructure Developers Limited, Sterlite Power Grid Ventures, IL&FS Transportation Networks Limited (ITNL), MEP Infrastructure Developers Limited, the GMR Group, and Reliance Infrastructure Limited have secured SEBI approval to establish InvITs.
Recently, in February 2017, IRB Infrastructure’s proposed IRB InvIT Fund received SEBI’s nod to launch an initial public offering (IPO) for raising about Rs 43 billion. Meanwhile, the regulator has sought clarifications from the India Grid Trust (sponsored by Sterlite Power Grid Ventures) and the Reliance Infra InvIT Fund (sponsored by Reliance Infrastructure) regarding their proposed IPOs of Rs 26.5 billion and Rs 30 billion respectively. Besides, in January 2017, IL&FS announced plans to raise around Rs 18 billion through the InvIT route, the proceeds of which will be used to finance four road projects. In another development, MEP Infrastructure Developers is exploring the private placement option for its InvIT, against its earlier plan for public listing. The idea behind the move is that the former option might give the company the flexibility to bundle its under-construction projects under the InvIT model. The company is consulting bankers to explore if hybrid annuity model (HAM) projects will also qualify to be transferred to the InvIT.
Buoyed by optimism around the investment vehicle, a few other players are also exploring the route. The Adani Group is in early stages of discussions with investment bankers for the creation of an InvIT for its assets in the port and power sectors. Tata Realty and Infrastructure Limited plans to launch an InvIT for its infrastructure projects worth Rs 100 billion.
With regard to investments by mutual funds, SEBI is yet to clarify the categorisation of this investor class which has recently been allowed to invest in InvITs. The Insurance Regulatory and Development Authority is also likely to spell out rules for insurance companies to make such investments.
Outlook
Over the next 12-18 months, InvIT issuances worth Rs 200 billion in debt and equity are expected to take place, led by the road, renewable energy and power sectors. Many developers have shown interest in floating InvITs, heralding a positive outlook for the instrument. Besides unlocking developer capital, InvITs will also provide sponsors access to capital markets through follow-on offers. On the other hand, investors in InvITs will gain access to a different asset class that can be publicly traded. However, market acceptance of the instrument could take some time and the overall yield will be a key factor for attracting investments.
Amidst a volatile interest rate scenario and competition from similar products like alternative investment funds, InvITs are expected provide lucrative yields (between 10 and 11 per cent) to investors, particularly foreign institutional investors that are looking for long-term instruments which provide a decent spread over government bond yields.
The success of an InvIT will depend on the credibility of the sponsor or investment manager and on the commercial income of the underlying assets. There is greater concern regarding private placements which do not have a cap on the value of under-construction projects vis-à-vis public listings, since a higher proportion of under-construction assets will affect the yield expectations of the investors. Although a conducive regulatory and tax environment has been created for the effective functioning of InvITs, much will depend upon investor sentiment, market conditions and government policies.
