PE players take fancy to infrastructure projects

Funds raise Rs 20,000 cr in last 3 years to invest in the sector.

Infrastructure projects seem to have emerged as a hot favourite of private equity (PE) players this year. So far in 2010, there have been 19 deals in the infrastructure sector, involving an investment of close to Rs 5,000 crore, according to Venture Intelligence data. In the same period last year, there were 14 deals with a cumulative value of around Rs 1,200 crore.

The heightened interest pans across the sector. From such known players as GMR Energy, which received a $200-million (around Rs 900-crore) investment from the Singapore government-owned Temasek Holdings, to little-known Azure Power, anyone with a good business model and potential to grow seems to be in line to received capital. And to meet the rising infrastructure demand for maintaining the India growth story, global investors like 3i and JP Morgan and domestic players like the PE fund promoted by State Bank of India are ready with resources to be deployed. According to industry estimates, funds have raised over Rs 20,000 crore during the last three years for investment in the sector.

Change of tack
PE players have, however, changed their investment approach in recent months. Increasingly, they are looking to invest in projects, instead of a direct exposure in companies.

For instance, Singapore-based utility firm Sembcorp picked up 49 per cent stake in Gayatri Projects’ 1,320-Megawatt, coal-based power project in Krishnapatnam, Andhra Pradesh, for Rs 1,100 crore. Another Hyderabad-based road company, Soma Enterprises, is said to be in its second round of raising equity from 3i India — at the project level this time. Actis also put in $78 million (around Rs 351 crore) in TRIL Roads, a Tata Realty company.

“One can look at project-level investments when company level cash flows are opaque. It might be much easier to evaluate a specific project,” says Rahul Bhasin, managing partner of Baring Private Equity Partners.

Lower risk, lower returns
In addition, there are lesser risks in project-level investments. “You can estimate more specific risks and returns, as opposed to a basket of projects. As there is greater certainty and lower risk, returns are also lower,” says Bhasin.

While average returns from PE deals would be in the range of 20-25 per cent, power projects offer returns of 14-15.5 per cent and road projects six-seven per cent. But infrastructure companies say project-level investments offer better deals for PE firms.

“PE players prefer investing at project level as the returns are safe and assured. Although returns may not be higher, the risk involved is lower than investing at the entity level. Also, because you are investing at a project level, you have the option to exit by selling stake to the company,” says H V Harish, partner, Grant Thornton India.

“The project (Krishnapatnam) is in construction stage and we have already received all the approvals and are very close to raising debt. We have offered them a project literally on the plate,” says Sanjay Reddy, MD, Gayatri Projects.

Adds Maganti Ankinedu, managing director of Soma Enterprises: “”If you get a partner at the holding company level, you give them a value of not just the projects that you have but also divest stake in all potential future projects that you bid and could win.”

More life span
Since infrastructure projects have longer gestation periods, the funds also have longer life spans to stay invested.

“PE firms can look at returns for as long as 10 years. There is no ‘one size fits all’. It varies, depending on fund to fund. There is a wide variety of strategies and each of them have different time horizons,” adds Bhasin.

Apart from staying invested through the entire life of an infrastructure project, which spans from 15 to 35 years, PE companies could look at other exit options, like selling their stake in the project to yet another strategic investor. Or the promoters themselves can look at buying back the equity stake.

“Some can even look at a strategy of forming a holding company with a large number of special purpose vehicles, and consider listing that entity,” says Kuljit Singh, partner (transaction advisory services), Ernst & Young.

Experts say the right size of an infrastructure project that can seek PE investments is around Rs 2,000-3,000 crore. “PE investors like to invest more than $50 million and the project should be able to take in that kind of investment,” says Ankinedu of Soma Enterprises.

PE funds also enter according to their strategy. While early-stage investment comes at cheaper valuations, it commands higher valuations at later stages .

“A lot of funds prefer to come in after the financial closure of a project. But smarter funds would want to get into a special purpose vehicle just after it is won, or even at the bidding stage. After financial closure, investors will have to pay a premium,” says Singh.