Raising finance for a ULB Strengthening Urban Management ASCI / WBI Workshop, January 21, 2003

Structure of the presentation Issues in flow of private capital Reform Agenda Raising private capital Conclusions

Issues in flow of private capital

Flow of private capital faces many hurdles Urban Sector Inadequate cost recovery and poor credit-worthiness Inability of ULBs to structure bankable projects Complex institutional structure and high political risk Inadequate accounting practices and poor financial mgmt.

Risk Mitigation Limited private capital mobilized so far: –Some bond issues –Select bank / FI financing Restricted to larger ULBs with relatively good financial position - revenue surplus Funding only by way of structured finance ( “ insulation from risks ” ) –Escrow of revenue streams –Cash collateral Financing has been usually preceded by reform actions in ULBs

Financing Scenario

Reform Agenda

ULBs need to undertake reform … ULBs need to develop “ commercial orientation ” and be managed as self-sustaining “ viable ” entities: –Accounting systems –Revenue enhancement thru tariff rationalization & new sources, distribution / collection efficiencies, cost control –Long-term masterplans (CDS) and project preparation for creating project pipeline –PSP for various urban sub-sectors –Better financial discipline to enhance creditworthiness and access private financing –Building awareness for “ pay-for-use ” principle while addressing concerns of urban poor

… with support from state governments State governments to facilitate reforms and private sector participation through: –Predictable devolution of funds –“ Incentivizing ” performance in service delivery –Enabling framework for private financing / PSP (Clarity in regulation, model contracts, etc.) –Supporting project development –Capacity building of ULBs –Credit enhancement

Raising private capital

Financing process Identify Projects Evaluate and Prioritize projects Raising finance CDS Advisors Improve revenues

Financing options include... Rupee debt from Banks / FIs –Need to look at banks / FIs as well –May offer advantages over bonds in select cases Bond issuances by ULBs –Structured obligations secured through escrow of specified receivables of the municipal corporation –Recently government has allowed tax-free bonds, subject to stringent criteria Non recourse : Project finance for BOT projects “Financial engineering” is not a substitute for cash-flows

Issues for consideration In evaluating financing options, ULBs need to be aware of “ hidden costs ” Hidden costs: –All monies received up-front –Lower flexibility vis- à -vis project requirements –Higher carrying cost for bonds due to sinking fund creation Cost vs Tenure : tenure is important in urban projects

Issues for consideration … (cont ’ d) Security: –ULBs should explore land as a security mechanism –Bond guarantees, not yet developed ULBs need to look at “ financial closure ” Finally, maintaining “ creditworthiness ” : –Consistent operating surpluses –Comfortable ratio of annual Debt Service to Operating

Pooled Finance –Modeled on the U.S. pooled finance experience –Key benefits include credit enhancement, economies of scale in: In financing costs Transactions costs –Credit enhancement usually through DSRF –In India, ULBs have much lower creditworthiness –DSRF alone may not be sufficient for financing

Layers of Credit Enhancement Credit Enhancement Aid Intercept Guarantees Reserves State Government Support Lenders Credit Support Credit Support Individual Project Loans Tariff Municipal revenues Subsidy Pooled Finance Entity

Credit Enhancement Building layers of credit enhancement: –Initial project user fees or taxes –Portfolio cash flow supplemented by Debt Service reserves –Reserve supplemented by intercepts –Partial Guarantees

Conclusions

In the short to medium term, ability to access private capital will be limited Besides creditworthiness, capacity of ULBs to manage reforms, plan and execute projects, and raise finance will be a key issue State governments need to play a key role in fostering reforms and help raise capital World Bank seeks to assist the urban reform agenda in terms of helping ULBs make the transition to become creditworthy and access domestic financial markets

Thank you