RBI’s Proposed Framework for Long-Gestation Project Financing

RBI’s Proposed Framework for Long-Gestation Project Financing

Sub: Economy

Sec: Monetary policy

Key Points:

• Purpose of the Framework:
  • Strengthening Regulations: To enhance the regulatory framework for long-gestation period financing in infrastructure, non-infrastructure, and commercial real estate sectors.
  • Challenges in Infrastructure Projects: Infrastructure projects often have long gestation periods and higher financial risks, facing delays and cost overruns due to issues like land acquisition and regulatory clearances.
• Issues with Current Framework:
  • Project Delays and Cost Overruns: The Ministry of Statistics and Programme Implementation reported that out of 1,837 projects, 779 were delayed and 449 faced cost overruns as of March.
  • Bank Risk Pricing: Banks price risks based on initial project assessments, which can become outdated due to project delays and changes.
• Key Revisions in the Proposed Framework:
  • Mitigating Credit Events: Focus on avoiding defaults, extensions of the Date of Commencement of Commercial Operations (DCCO), additional debt infusions, and reductions in Net Present Value (NPV).
• Provisioning Requirements:
  • Increased Provisioning: A general provision of 5% at the construction stage, a significant increase from the previous 0.4%.
  • Phased Implementation: The 5% provisioning requirement will be phased in gradually.
• Prudential Conditions:
  • Pre-requisites for Financial Closure: All necessary environmental, regulatory, and legal clearances must be in place before financial conditions are finalized.
  • DCCO Specification: Clearly defined DCCO with financial disbursals and equity infusion based on project completion stages.
  • Independent Verification: Banks must deploy an independent engineer or architect to certify project progress.
• Positive NPV Requirement: Projects must have a positive NPV to qualify for financing, with annual independent re-evaluation of NPV.
• Repayment Norms:
  • Repayment Tenure: Should not exceed 85% of the economic life of the project, including the moratorium period.
  • Revision Criteria: For changes in repayment schedules due to project scope and size increases, reassessment is required if costs exceed 25% of the original outlay before DCCO.
• Initial Observations and Impact:
  • Impact on NBFCs: Higher provisioning requirements could affect the near-term profitability of non-banking financial companies and infrastructure financing firms.
  • Bank Confidence: Major banks like SBI, Union Bank of India, and Bank of Baroda expressed confidence that the proposal would not significantly impact them.

Summary: The Reserve Bank of India’s proposed framework aims to improve the regulatory environment for long-gestation project financing by increasing provisioning requirements, ensuring prudential pre-requisites, and mandating positive NPV for project finance. While higher provisioning may impact some financial institutions, major banks are confident in managing these changes without significant disruption.