The airport sector is highly regulated. Lenders draw comfort from the robust regulatory framework and assured returns that the sector offers. There has been slow growth in passenger traffic in the past few months due to challenges faced by airlines. However, overall, the demand for airports has been increasing. In fact, every metropolitan city requires two airports due to rising passenger footfalls. Thus, lenders are willing to provide funding to airport projects.
That said, the sector is marred by structural issues related to land acquisition, environmental clearances, contracts and dispute resolution. In order to attract foreign direct investment, these issues must be addressed. Nevertheless, there have been foreign institutional investments in the space in the past few years and new financing instruments can play a critical role in meeting the investment needs of the sector.
Financiers’ concerns
The sector has shifted from the revenue sharing model to the revenue per passenger structure. In the earlier regime, the revenue share was reckoned for tariff calculation. But now, the revenue per passenger is not reckoned for tariff calculations. As a result, the returns to investors under the new revenue regime could be slightly lower.
There are some concerns regarding the cost of airport capacity expansion that has been approved by the Airports Economic Regulatory Authority (AERA). The final regulatory nod comes only after these costs have been incurred. If some of these costs are disallowed, then it is unclear as to who will take the hit – lenders or investors. This issue needs to be ironed out. Another concern is related to the difference between costs determined by the airport authority and the developer. In case of termination of contract, the termination payment to lenders is proposed at around 80 per cent of the authority’s estimate for new airports such as Mopa, Navi Mumbai and Jewar. This results in a shortfall in termination payments due to a difference in cost estimates. Thus, there should be recourse to the concessioning authority or investor to safeguard the lenders.
Airport financing can be divided into three broad categories – greenfield airports (Jewar, Mopa, etc.), modernisation of brownfield airports (Bengaluru, Chennai, etc.), and operations and maintenance (O&M) of existing airports (Jaipur, Ahmedabad, etc.). The financing dynamics will differ in each of these cases and will also be impacted by the split of aeronautical and non-aeronautical revenues. The share of non-aeronautical revenues is higher for regional airports due to a fewer flights. Greenfield airports, once operational, will have a higher share of non-aeronautical revenues initially and as the airport grows and develops into an airline hub, the share of aeronautical revenues will start increasing. Thus, lenders take into account these factors along with other aspects, including airline mix and policy continuity, to protect their interests.
In August 2019, Parliament passed a bill allowing AERA to bid out any new airport at a predetermined tariff structure. This will offer comfort to lenders by making viability forecasting easier. However, investors may shy away as there is no upside for them in such a fixed-returns model.
Recommendations to expand the financing base
The public sector is best suited for capacity generation but is not ideally suited for the operation of assets once they’ve been set up. A suitable model for the airport sector is one in which the public sector develops the airport infrastructure and, post completion, the private sector operates it. Though banks will have to continue assuming construction risks in greenfield projects, private investments can flow in at the O&M stage. As banks have become selective in funding infrastructure projects, public-private partnerships are crucial in airport projects. The toll-operate-transfer model in the road sector can be replicated in other infrastructure sectors as well.
The recent privatisation of six airports only entails O&M of these airports. Substantial funding requirements will emerge at a later stage when the airports need further expansion/upgradation. As some of these airports have been bid at aggressive revenue per passenger rates, they will require long-tenor debt. Since commercial bank lending is constrained, private players are exploring other financing avenues. Monetisation of real estate assets/land parcels is one such lucrative source for the private sector. The only caveat is that the cap of 10 per cent on real estate area needs to be revisited for private players to make money. Non-aeronautical revenue streams can also be securitised. Then, there are infrastructure investment trusts (InvITs) that hold a lot of potential for the airport sector.
Further, Category II alternative investment funds could be tapped for airport financing. Apart from real estate, ancillary infrastructure including maintenance, repair and overhaul facilities, special economic zones, cargo handling units and simulator training organisations should be put in place for shoring up revenues and bolstering lender confidence.
The way forward
A slew of factors will come into play for greenfield airport financing. These include the developer’s total project cost estimate and revenue per passenger. Lenders should appoint an agency to ensure that the project is free from litigation, examine the technical aspects of project implementation, monitor the project’s progress, check the release of funds, and identify the gaps. The airport sector will require huge investments in the coming years. Small airports under the Regional Connectivity Scheme will also need funding. Among the new instruments, there is tremendous scope of InvITs and infrastructure debt funds in financing airports. A new way to provide mainstream funding to infrastructure projects is the securitisation of infrastructure loans. Instead of lenders holding these as illiquid assets, they should sell/trade them on the stock exchange. New-age development finance institutions can facilitate such a securitisation mechanism.
Based on a panel discussion among P.R. Jaishankar, CEO, IIFCL Projects; Amit Mittal, Assistant Vice President, Airlines and Aviation, Bank of Baroda; and N. Prakash, Senior Vice President, Project Advisory and Structured Finance, SBI Capital Markets, at a recent India Infrastructure conference