Will cos benefit from higher FII limit?

The hike in FII limit in infrastructure corporate bonds to $25 billion per annum is largely perceived by the sector as a positive move. For one, infrastructure players may be comfortable with local currency-denominated bonds rather than foreign currency loans, where they have to shoulder the burden of currency risks. Two, the tenure of such bonds can be longer, compared with external commercial borrowings or bank loans. Three, special purpose vehicles, typically created for specific projects, can now receive direct FII funding through bonds and do not have to look to the parent company for funding. Four and most important, a lower withholding tax of 5 per cent for interest paid from debt funds notified for infrastructure as against 20 per cent currently may attract FIIs.

Hedging options

This said, the proposal, while opening doors for higher investment, may not bear fruit in the near term for a few reasons. According to industry experts, FIIs have so far taken a short-term view in the corporate debt market. A five-year lock-in may, therefore, see them hesitate, as it would require taking a medium-term view on interest rates. Two, while the interest arbitrage between developed nations and India is high, the cost of hedging the rupee exposure may leave less returns on the table for FIIs. The hedging options available to FIIs are not as plentiful as in developed markets. Three, whether FIIs would be willing to take the credit risks attached to individual projects is something that needs to be watched.

The beneficiaries

Would infrastructure companies make full use of the higher FII limit and exclusive debt fund proposal? Chances are that only a few may be in a position to invite FII attention. This is because, special purpose vehicles which generate stable operating cash flows, are the ones ideally placed to tap the debt market. As things stand, there are few companies in India which hold a mature portfolio of assets or whose SPVs already generate cash flows. GMR Infrastructure, IRB Infrastructure Developers or a Lanco Infratech, to name a few, have such SPVs. Most other players have SPVs in their early stages that are yet to generate cash flows. These projects may not be preferred candidates. This apart, unless companies can boast of a very high credit rating, the cost of borrowing for the likes of Jaiprakash Associates or a Sadbhav Engineering is not going to be low. Today, SBI's offer of a 9.75 per cent 10-year bond clearly suggests infrastructure companies' borrowing cost cannot be low given their mediocre credit standing. With interest cost, as a proportion of gross profits, as high as 37 per cent (higher by 5 percentage points over a year ago) for construction companies surveyed by the RBI in the first half of FY-11, higher spreads may pressurise profit margins.

Hence to begin with, while the public sector infrastructure financing companies and blue-chip infrastructure players may benefit from this move, smaller players may yet find the going tough. The proposal may, therefore, be viewed as a step towards deepening the infrastructure finance market over the long term with no earthshaking benefits in the near term for companies.

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