RBI be beneficial or detrimental- The Reserve Bank of India’s (RBI) draft proposal suggesting stricter project financing standards caused a significant reaction in the stock market. Banks, real estate equities, and shares of infrastructure finance businesses. Indian real estate projects that were facing difficulties in obtaining financing turned to cost and benefit analysis. While the majority of prominent developers refrained from publicly expressing their disapproval. They privately insisted that the RBI ought to have examined the financing shortfall of feasible under-construction real estate projects that had cash receivables in the works.

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What are the draft finance norms of the RBI?

The RBI has published a draft framework for banks. lenders who fund real estate and infrastructure projects as part of its proposal to restrict project financing. By recommending an increased standard asset provisioning of up to 5% on loans. The draft framework seeks to restrict project financing. Should the idea be put into action, the bank’s net value would be subject to an additional 0.5–3% provisioning.

Real estate asset provisioning is currently set at 0.4% of total assets. All schedule commercial banks, urban cooperative banks, non-banking financial corporations (NBFCs), and other financial institutions are cover under this.

According to the propose rules, the 5% provision can be lower to 2.5% of the funded outstanding once the project enters the operational phase. If the project has a positive net operating cash flow that is adequate to meet the current repayment commitments. It can be further decrease to 1%.

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Project finance: what is it?

The funding of a single project with loan or equity is known as project finance. It is a credit structure that depends on cash flow for repayment.  The lenders typically utilize the project’s assets as collateral for financing projects.

The RBI guidance has emphasize that prior to financial closing, all necessary conditions. Such as having land free of encumbrances and obtaining all necessary legal and regulatory permissions, must be met. Lenders may, however, take into account a minimum of 50% land availability for infrastructure projects covered by PPP (Public Private Participation) in order to achieve financial closure.

Why is the proposed financial norms concerning the real estate industry?

Many in the Indian real estate industry’s constructed environment think the RBI’s aggressive approach is unnecessary. They think that long-term infrastructure initiatives and real estate projects ought to have different benchmarks. Their concerns stem from the following fears:

• Delay in approving the loan
• Cost of borrowing will increase
• Cost of interest increases
• Buyers will bear an increased burden
• Banks and NBFCs who lack project financing experience may become disinterested.
• Banks’ and financial organizations’ profitability to hit
• NBFCs and smaller banks are limit in their potential by minimum aggregate exposure restrictions.

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According to Kiran Chonkar, partner at BDO India’s corporate finance and investment banking, most projects require a significant amount of time to mature before they can begin commercial operations and scale up to meet project loan obligations on their own. Finances assume control over all project assets, pledge project SPV shares. Obtain a corporate guarantee from the parent company, establish a debt service reserve account. Construct other contractual comforts in order to protect their interests and reduce project risk.

“To mitigate the additional risk arising out of the delay in the start of operations, the RBI has strict guidelines regarding provisioning for banks/NBFCs in case the Date of Commercial Operations (DCCO) gets delay beyond a notifies time frame for projects under construction.”

Standard provisioning for loans and advances also follows sensible rules. According to Chonkar, “in this case, applying a 5% provisioning to projects that are still in the construction stage appears to go beyond appropriate credit-risk caution and verges on indicating a lack of confidence in the credit appraisal process used by project financing banks and institutions.”

Large infrastructure projects, like real estate developments, would also suffer practical difficulties because there is no headroom in case annuity receipt lags; the maximum moratorium period permitted is six months.

According to Vinay Kumar G, vice president and sector head of corporate ratings at ICRA Limited, annuities for NHAI road projects using the Hybrid Annuity Mode (HAM) become due 180 days after the commercial operations date (COD), and the authority has 15 days to make the annuity payment. In order to meet these deadlines, the COD has imposed a seven-month (or longer) payback moratorium on the HAM project sanctions. This moratorium offers a buffer of more than one month in the event that administrative delays result in the receipt of an annuity.

A HAM project has a 15-year operational lifespan, and payback terms are typically 13.5–14 years, which translates to a repayment tenor of more than 90% of the project’s economic life. The new laws outline the payback tenor and a moratorium period that cannot be longer than 85% of the project’s economic life. New HAM projects would need to modify their sanction conditions to comply with the new standards. In order for the developers to maintain comparable credit profiles, he predicts that the equity needs will rise due to the shortened payback schedules.

Chartered accountant Riddhi Saha feels that the RBI’s position is more related to a lack of confidence than credit-risk balancing. She claims that there is no immediate justification for such a stance at a time when banks and other financial institutions’ NPAs (non-performing assets) have decreased and asset quality has improved.

“With its credit exposure to infrastructure and real estate, India is not China. What’s more, a solid balance sheet is possess by the majority of the top and publicly trade companies in the industry. Personally, I don’t see why the standards would be abruptly tighten in an attempt to stop the expansion. “Does RBI believe a bubble is forming?” Saha queries.

According to a research by IIFL Securities, higher provisioning requirements would reduce banks’ net worth by 0.5–3% and the CET1 (Common Equity Tier 1) ratio by 7–30 basis points (bps). A bank’s core equity capital (CET 1) ratio compares its risk-weighted assets to its equity capital. It demonstrates a bank’s resilience to monetary hardship. One tenth of a percentage point is equal to one basis point.

According to a JM Financial analysis, if implemented in its current form, a considerable rise in provisioning requirements will result in lower returns for lenders in project finance and diminish incremental willingness for such risks.

In summary, the draft project financing standards have increase apprehension in the built environment, even though project financing has always been crucial in India and many projects have been delay because of a lack of cash or other issues. Everyone agrees that the draft standards do not look good for the environment in their current form, even if they do not take into account the lenders’ and projects’ cost and benefit analyses.

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