Executive summary

The infrastructure sector in India has witnessed a slew of measures which have addressed legacy issues of the past. This is reflected in the raft of policy facilitations that have helped shore up the attractiveness of Indian infrastructure as an investment destination by several notches.

With these measures, a gradual perceptible shift has been witnessed in the infrastructure sector credit risk profile. Rightfully, this improvement in risk profile should be reflected in both Probability of Default (PD) and Loss Given Default (LGD) - the twin pillars of credit risk assessment.

While improvement in PD is readily visible and is also factored into the pricing, thanks to the preponderance of PD ratings available in the public domain, improvement in LGD is something less talked about or visible.

Data on loss (and recovery) rates are scarce and difficult to find. Defaults do not occur on a regular basis and when they do, information around the event and the resulting loss and recovery is rarely available in the public domain. Needless to say, the resolution process typically takes years to complete. It is for this reason that LGD tends to remain relatively static (compared to PD) or is strongly anchored around the historical data.

To understand the LGD in the infrastructure sector, CRISIL Ratings conducted a study on 80 stressed infrastructure assets for which data was available courtesy its involvement as a rating agency in providing recovery risk ratings/ independent credit evaluations in the stressed assets space. For other assets, data was collected from publicly available sources.

The LGD for infrastructure assets was found to be in the 20-60% range, well below the typical LGD (60-80%) factored in by lenders.

As the study is based on a sample of assets where CRISIL Ratings could find data that it considered reliable, the findings may not be representative of the overall population of stressed infrastructure assets. It is crucial to understand the study's results within the context of these limitations and avoid generalizing the LGD data to the broader infrastructure sector.

Investor sentiment and median PD ratings in the CRISIL Ratings portfolio of infra-assets witnessed a gradual improvement driven by four key measures. These include: 1) better risk sharing between public and private counterparts; 2) increase in central counterparty presence; 3) IBC and pre-IBC platforms 4) benefits offered by newer platforms such as infrastructure investment trusts (InvITs).

Structural reforms in the infrastructure space not only influence the PD but also the LGD. Although shifts in sectoral fundamentals tend to impact both, PD and LGD, these are distinct concepts in credit risk analysis, representing different aspects of credit risk.

The LGD in infrastructure is expected to improve with better risk sharing in concession agreements, reduced bottlenecks during the construction stage, improvement in sponsor credit profile, strong investor demand for infra projects and healthy recovery prospects driven by IBC and pre-IBC resolution platforms.

This article aims to capture the shift in credit ratings in the infrastructure space and analyse the key changes in the sector that could drive the LGD from hereon. It also indicates that Expected Loss (EL) ratings - capturing PD and LGD - can provide additional insights and help in risk-based pricing.