In a bid to provide long-term capital to infrastructure companies, the government is planning to provide them with subordinated debt with a maturity of around 10 years.
The funds, which would carry a slightly higher rate of interest than the prevailing market rate, would be provided through state-owned India Infrastructure Finance Company (IIFCL). The instrument would be quasi-equity in nature, which, in turn, would help cash-starved companies to borrow afresh from banks and financial institutions by leveraging the instrument.
“The government will be shortly coming out with a policy of providing long-term, subordinated debt or quasi-equity to help infrastructure developers to raise long-term finance,” said IIFCL Chairman and Managing Director S S Kohli.
“Subordinated debt is a very popular instrument of financing infrastructure needs overseas. We will have to wait and see what shape it would ultimately take,” said Vinayak Chatterjee, chairman, Feedback Ventures. Sources in the finance ministry said the instrument was in the final stages of receiving the government approval.
The proposed, long-term, subordinated debt, which is not a part of the government’s stimulus package for the infrastructure sector, is in addition to the package.
The government’s package announced last fortnight has allowed IIFCL to raise Rs 10,000 crore through tax-free bonds, which will be used to refinance 60 per cent of the bank lending to this sector. According to initial estimates, Rs 10,000-crore mobilised through tax-free bonds will help implement Rs 25,000-crore projects related to roads and ports.
Typically, an infrastructure company would be required to have about 25 per cent of its project cost in the form of equity, with the balance (75 per cent) forming the debt component. The company would find it difficult to secure loans from banks if it does not have the required equity component. It is here that the subordinated debt comes into play by providing the company funds, which will qualify as equity, though they are debt for all practical purposes (quasi-equity), requiring the borrowing company to repay the funds with interest. With the equity component in place, the company can easily raise loans from banks.
With the proposed subordinated debt, the government is contemplating to provide a complete financing facility, quasi-equity and debt, for infrastructure projects. The proposed move of providing subordinated debt as quasi-equity through IIFCL will help companies achieve financial closures for many ongoing and future projects.
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Typically, a subordinate debt or mezzanine finance could be in the form of a subordinated loan, subordinated bond, subordinated debt or a junior debt, which ranks after other debts in the hierarchy of payment to debtors. In other words, subordinated debt has a lower priority than other debt and, as such, is more risky to the lender of such money. However, in view of the risk involved, the lender of such debt would expect a return that is normally higher than the interest rate charged by other lenders.
A subordinate debt is a flexible form of risk capital that can be tailored to meet a specific financing need. Besides being a long-term source of unsecured capital with debt repayment characteristics, it offers other advantages. Such a debt is treated as quasi-equity in the balance sheet of the borrowing company and as debt in the books of the lenders.