The buzz around the recent bond offer from the National Highway Infrastructure Trust (NHIT) has led to a lot of curiosity about Infrastructure Investment Trusts or InvITs.
The Government of India too is increasingly using the InvIT route to monetise assets held by government entities, and bring in broad-based public shareholding. Should retail investors look at InvITs as a replacement for shares, fixed income instruments or something else? Well, InvITs are an in-between vehicle that have features of stocks, bonds and mutual funds. Before investing in them, it’s useful to know how they work and generate returns.
How they work
InvITs list on the bourses to raise money to acquire a portfolio of infrastructure assets that are already running and generating regular cash flows.
InvITs can own any assets capable of generating steady cash flows over time. Companies with listed shares are free to conserve their profits and reinvest it in the business, while holding back dividends. But under SEBI regulations InvITs are required to compulsorily distribute 90% of the income they earn every year to their unit holders.
This makes InvITs more suitable for income-seeking investors rather than growth-seeking ones. SEBI also caps the borrowing that an InvIT can take on to 70% of its assets. While investors in a stock IPO become part owners of the underlying business, investors in an InvIT become part owners of the operating assets it owns. InvITs may own their infrastructure assets directly or through arms called special purpose vehicles (SPVs).
InvITs globally tend to own many types of assets — warehouses, oil pipelines, power plants and roads.
But in India, the listed InvITs mainly own toll roads or power transmission lines. These assets generate toll collections or transmission fees which make up the InvIT’s distributable cash flows. Both shares and InvITs, once listed on the exchange, trade in the secondary market on a daily basis. Investors are free to buy or sell units of the InvIT at the traded price.
While shares are priced in the markets based on their profit potential, InvITs tend to be priced based on the distributions they make.
A key metric for InvIT investors to track is the distribution per unit (how much cash it is able to pay out on a per unit basis) and the yield, which is the annual distribution as a percentage of the InvIT’s market price. An InvIT is also required to get its portfolio periodically valued by independent valuers who declare a net asset value (NAV) per unit. The price of the InvIT can trade at a premium or discount to this NAV, but does not usually stray far from it.
Unlike companies, the kind of assets an InvIT can own are subject to regulation. SEBI requires listed InvITs to have at least 80% of their asset value in completed infrastructure assets that are already churning out cash. Only the remaining can be invested in under-construction projects, shares and bonds of infrastructure companies, government securities and so on. Apart from this, InvITs are also required to distribute a minimum 90% of the cash they earn and cap their debt at 70%.
SEBI rules also specify an InvIT governance structure that is akin to mutual funds. InvITs are initially floated by a sponsor (a promoter) who is usually an owner of infrastructure assets. For subsequent assets it may still look to the sponsor, or shop elsewhere. Just as AMCs manage mutual funds, InvITs usually have an investment manager.
The investment manager, for a fee, operates and maintains the InvIT’s assets, acquires and sells assets as the need arises and takes decisions on distributions.
Returns and taxation
InvITs may earn their returns from the assets they own in three forms. One, if the InvIT holds assets on its own balance sheet, it may earn income from toll collections, power transmission fees or other avenues, which, after meeting expenses, is distributed to shareholders. Two, if the InvIT holds assets through an SPV, it may earn dividends from the SPV’s profits. Three, the InvIT may also lend to the SPV to acquire and maintain assets in which case it will earn income from it by way of interest receipts and loan repayments. The returns that an InvIT distributes to its unitholders can take all three forms.
The taxation of the distribution you receive depends on its source. Interest and dividend income will be taxed like income from bonds and shares respectively and direct payouts by the InvIT will be taxed as income in your hands. The capital gains you make on trading in InvIT units on the exchanges are treated as short term and taxed at 15% if held for less than 36 months, and taxed at 10% if held beyond this period.