The Proposed Development Finance Institution: A Respite For Airport Financing

The pandemic notwithstanding, India’s aviation potential remains high. A core element is the development of airport infrastructure. Airport development is estimated to require amounts north of USD 10 billion over the next decade.

And the Government of India continues on the path of airport privatisation. The total airport capacity under the private operators now stands close to 65 per cent and is likely to rise further.

Yet, financiers are wary. Because, despite the success airports have had, delays, cost-overruns and regulatory uncertainty have made for a roller-coaster ride.

And most financiers no longer want to partake in the excitement.

The financial returns of airports are linked to several factors. These include traffic growth, land banks, regulatory frameworks, political will and also the management ability to deliver returns.

When coupled with the monopoly status, long term concession periods, low competition risk, favourable till-structures and stable cash-flows it certainly adds to investor interest.

Add to this a guaranteed return on large portions of the asset base. Thus while gestation periods are long, for investors that are looking at quality assets, the elements are present to make for a compelling case for returns. But the risks paint a different picture.

While the macro-economic risk holds steady, the political risk and project specific risks in India have fluctuated widely. The airport developer and operator experience in India also involves managing through issues that just cannot be assigned timelines – the foremost being land-acquisition.

Then there are the clearances including the all-important environmental clearance. Add to that navigating through changes with the political, economic, social, legal and technical framework.

Together, these lend themselves towards impacting a key item that impacts financing, namely cash-flow mismatches.

It doesn’t help that the Reserve Bank of India published a circular in 2015 mandating that any change in the commencement of operations date beyond two years necessarily means that the loans have to be classified as non-performing assets (NPAs) or restructured.

Both outcomes are negative for bank lending. Thus, several banks take a route of simply not lending to infrastructure projects. It would seem that the safest way to avoid bad loans is to give no loans at all.

When it comes to lending to airports, there is also a question of collateralisation. While on first glance, the airports have significant collateral — it is collateral that isn’t really liquid.

For instance, land in most cases is acquired by the state government and given on lease to the airport. Thus, land cannot be leveraged. The terminal buildings and other hard assets don’t carry with them liquidity. So even if a bank is to repossess these assets, disposing of these becomes a challenge. Same is the case with runways, airside, landside and intangible assets.

Thus, financiers for the most part, are left to give loans that are secured against cash-flows from airports. These cash-flows can only accrue once the airport is in operation and thus greenfield projects are left wanting.

All this while, in the background, the bond market continues to be strained on liquidity, NBFCs continue to grapple with their own challenges and commercial banks wary of the aviation sector as a whole are focussed on short-term collateralised lending.

Private capital is reluctant to enter, given the long gestation periods, prior experience and also, as very few developers have the balance sheet strength to finance new projects.

And thus, the risk-return proposition doesn’t make it past creditor committees.

Finally, there is the perverse nature of fees levied on passengers which have literally financed expansion of several projects by way of over-optimistic traffic forecasts and capex spends unaligned to demand.

India continues to be one of the few markets that allows for both a User Development Fee (UDF) and an airport development fee (ADF), both of which effectively impact the flying public — and the very nature, levy and architecture of these fees is in direct contravention of stated policy goals of inclusive development and access.

Due to this confluence of factors, airports find themselves looking at a financing void. And this is where a development finance institution (DFI) can help.

Not only because DFIs are backed by the ability to access funds at lower rates, but also because unlike commercial banks, DFIs have dual objectives of both development and returns.

This then allows disbursement of longer-term loans and the ability to be more patient with capital. As such, the Finance Minister's budget announcement regarding the setup of a Development Finance Institution (DFI) is likely to be welcomed by airports and developers alike.

It will help the country accelerate towards a take-off towards delivering on the vision of airport development.