RBI cautions banks over project financing

Concerned over the high level of defaults in the project finance portfolio of banks, the Reserve Bank of India (RBI), has asked banks to ensure that funds for projects are released in such a way that the decided level of debt-equity ratio (DER) for the project is maintained at all times.

The central bank has suggested that banks could release funds sequentially so that they are not required to fund the equity portion of projects.

"To contain this risk, banks are advised, in their own interest, to have a clear policy regarding the debt-equity ratio (DER) and ensure that the infusion of equity or fund by promoters should be such that the stipulated level of DER is maintained at all times. Further, they may adopt funding sequences so that possibility of equity funding by banks is obviated," said RBI in a circular to all banks.

RBI noted that while decisions for financing projects were to be taken by banks' boards, there was a greater equity-funding risk in allowing promoters of a project to bring in their equity portion proportionately as banks released finance.

"If the borrower is unable to bring in his portion, the banks may ask the borrower to bring in another promoter or acquire equity in the project. However, as the investment is locked up, banks are forced to release funds to keep the project going as a delay could result in the project becoming a non-performing asset," said a senior banker.

Banks could also ask the promoter to bring their entire contribution upfront before the bank started disbursing the sanctioned amount or to bring in a certain percentage of their equity (40-50 per cent), upfront and bring the balance in stages.

RBI had earlier asked the Indian Banks' Association (IBA) to consider advising banks to introduce a system wherein the borrower would be required to first spend the portion of the finance being brought in by him and the bank would release funds thereafter.

The banking regulator had observed that banks were forced to lend more to keep the project going as delays could result in the project becoming a non-performing asset (NPA).

IBA suggested that RBI could reiterate to banks that promoters' portion should be brought in such a way that the stipulated level of DER was maintained at all times to ensure commitment of the promoters to the project and reduce the equity-funding risk.

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SOUND ADVICE

RBI has asked banks to ensure that funds for projects are released in such a way that the decided level of debt-equity ratio (DER) for the project is maintained at all times

The regulator noted that while decisions for financing projects were to be taken by banks' boards, there was a greater equity-funding risk in allowing promoters of a project to bring in their equity portion proportionately as banks released finance