More questions about infrastructure bonds
Moneylife Digital Team 10 August 2010

Apart from lack of credit rating, experts point to a few more issues with infrastructure bonds, for which notification was issued last month

A month ago the notification concerning issue of new infrastructure bonds was announced. A close reading points out to a few issues in the notification in its current form. The notification fails to mention the need to obtain credit rating for these bonds, which we have highlighted yesterday (see http://www.moneylife.in/article/8/8011.html). But there are other issues as well.
 
Firstly, in order to ensure long-term funding for infrastructure projects, which typically have long gestation periods, the minimum tenure of the infrastructure bonds has been fixed at 10 years. However, the minimum lock-in period is limited to five years. The investor will be allowed to exit either through the secondary market or through a buyback facility. The bond issuer has been given the liberty to choose what would be the mode of exit. "Investors may be allowed the put and call option," said the IFCI official.

Does not the put and call option and a minimum lock-in period of five years defeat the purpose of having minimum 10 year tenure? "Typically, repayments from the infrastructure companies start after five years. If there still remains a negative gap between withdrawal and funding and the issuer has to borrow from the market the amount that will be required would be small and would not have a significant impact," said Samir Kanabar, partner, tax & regulatory services, Ernst & Young.

Secondly, the yield of the bond cannot exceed the yield on government securities of corresponding residual maturity, as reported by the Fixed Income Money Market and Derivatives Association of India (FIMMDA), as on the last working day of the month immediately preceding the month of the issue of the bond. According to R Balakrishnan, columnist of Moneylife and former executive director of rating agency Crisil, this begs the question, "what is government security for this purpose? Central or state bonds? Why would weaker companies and stronger companies have the same ceiling? Weaker issuers like non-banking finance companies will look for some odd maturity such as 13 months, which is highly illiquid, take the quote and then issue bonds of that maturity, with a five year put call." Experts we spoke too had no counter to this possibility.

"They (the government) are ensuring that funds are borrowed at a lower rate, at best at the yield of a government security. In order to make infrastructure finance available at a lower rate, the government is playing its part by giving a tax rebate," said Mr Kanabar.

Thirdly, these bonds can be issued by the end of FY11. Isn't the window too short? Officials from IFCI state there are comfortable with the window as most action for such tax-free bonds is seen only in the last quarter of the financial year. The Centre is expected to renew it depending on the success of the bonds in this financial year. "It is being tried for one year; if it works well for one year, it will be continued. Prima facie, the window period may look small, but it is not so small, it will gradually get renewed," said Mr Kanabar.

Finally, in these days of transparency, fair competition and level-playing field, one other issue about infrastructure bonds is that Life Insurance Corporation of India (LIC) is allowed to issue them. Can an insurer borrow? Then why not private insurers? Well, who says LIC is like any other insurer. Level-playing field, did you say?

For investors, the infrastructure bonds are a must-have. Each investor can invest Rs20,000. According to Mr Balakrishnan, they get a bonanza if five-year put/call allowed. With a 30% tax break, the amount invested is just Rs14,000 for a bond face with a value of Rs20,000. Assume a coupon of 8% and the yield is an attractive Rs11.42%.
 

Comments
ramesha b v
1 decade ago
Sir, I am an ARN holder selling mfs, I want to sell infrastructure bonds. can you please guide me
P S Gulati
1 decade ago
The bonds issued by IFCI are unsecured. How good it will be to invest in unsecured bond? I think I can get more return from equity MF in the 5 to 10 years, It will compensate more than money loosing in tax by not investing in bonds. Comment please.
d k seth
1 decade ago
well unable to understand is IFCI bonds good to invest or not, kindly reply,
amit sehgal
1 decade ago
how is yeld 11.42%..these arent tax-free bonds. please see and correct if required.thanks.
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