Issues around infrastructure creation in India bring to the fore some core themes that are worth analysing. The structure of infrastructure companies, cost over-runs, retail investor exposure to credit funds, and the need to recycle assets to real-money balance sheets are once again in focus given the problems that IL&FS is facing currently.
Firstly, one must assess whether it makes economic sense for infrastructure companies to be publicly listed. Being publicly listed has its advantages in terms of greater scrutiny of financial information and the liquidity available to the company through share sale. Additionally, listed companies have their own stocks which are a “currency” of sorts to attract and retain top talent.
But public listings also mean implicit pressure from the markets for quarterly performance, something an infrastructure business, which is long-dated by its very nature, is not particularly well suited to handle. For all the advantages of being publicly listed, it is worth pondering whether in an Indian context quarterly pressure of results can hinder infrastructure businesses from making the correct decisions keeping the long-term goals in mind. While scrutiny of financial results is crucial, so is the capacity of the infrastructure business to focus on the aim of creating long-dated assets.
A better level of corporate governance is essential for infrastructure businesses, given the scale of investments, the lack of alternative uses of assets once created, and the urgent need to develop such assets. Whether publicly listed or not, overall corporate governance standards need to improve to create a more robust ecosystem.
Secondly, there is the constant debate on the public versus private aspect regarding infrastructure creation and asset management. The truth is that both are essential. The way forward for India to create the requisite infrastructure both in respect of quantity and quality will require the private sector to work together with the government.
There are issues that a public-sector project or a private sector company face, but this does not necessarily mean that there is a fundamental issue with all such projects and companies. Transparency and effective policies will be crucial. Project-wise analysis is required to determine as to who is better placed to take care of the three essential components of each project, i.e., Build, Operate and Finance.
Given the complexity of infrastructure assets, a “one size fits all” solution will not work. While issues around land acquisition and the time required for approvals have seen improvement over the years, India needs to ensure that such problems continue to receive constant attention. The issues above are generic to the infrastructure sector regardless of the ownership of the asset.
Thirdly, to boost infrastructure creation and credit flow one needs to have a more efficient process with regards to credit risk pricing. Credit ratings must reflect the embedded credit risk to enable the higher flow of credit into the sector. For instance, a rating should ideally move through downgrades and upgrades in notches to reflect the gradual re-pricing of credit risk. Such credit systems provide the investor base with greater confidence in both the rating system and the credit quality of the underlying market.
A jump in credit rating indentation over multiple notches over a short span of time tends to imply that the credit risk in the system isn’t being priced at the right pace. To further enable efficient and constant re-pricing of ratings to reflect credit risk a secondary market in credit products must develop. Only with a secondary market for credit products can credit genuinely be priced and assessed by the markets.
Fourthly, the investor base for the financing of infrastructure assets deserves attention. On the retail mutual fund side, the credit funds that have invested in infrastructure have provided the sector with much-needed capital and retail investors with an opportunity to earn attractive returns. But till a secondary market for credit products develops in India to aid credit risk pricing, retail investors will need greater education on what returns and risks infrastructure assets present. Short-term liquidity in a fundamentally illiquid investment may not always be easy to come by.
On the institutional investor side, the need for more “real money” (pension funds and insurance companies) investors cannot be over-emphasised. A greater share of infrastructure assets in India must be on balance sheets that hold the assets to generate returns to match liabilities, and not from a pure financial return perspective. The ability of a “real money” investor who has a long-term horizon of 20 years or so to manage short-term revenue fluctuations from an asset is far greater than it is for a financial investor with a much shorter time horizon.
Issues that infrastructure creation faces present us with opportunities to learn and implement solutions. An iterative process that continually imbibes new learning is essential for India to create the required infrastructure that a rapidly growing economy will need in the decades to come.