3 days ago
InvITs look tempting. But are they right for you?
Sixty-year-old Ram was looking for some good investment options when he came across Power Grid Infrastructure Investment Trust (InvIT). Trading at ₹86 and having a 14% yield, it appeared to be an attractive option for locking in a high income during his retirement years.
After all, fixed deposits yield 6-7% interest every year, and investment-grade bonds could only reach up to 10%.
Tempted by the high return, Ram decided to consult his financial advisor before making a move.
'That's not how it works," his advisor said.
Understanding InvITs
For starters, Infrastructure Investment Trusts or InvITs are instruments that allow investors to earn from the cash flow generated from various infrastructure assets, including roads, power generation, transmission projects, optic fibre networks. Each InvIT has an income-generating asset, and a chunk of the income earned after deducting the costs is distributed to investors.
However, they are neither debt instruments, nor traditional equities. Unlike FDs or bonds, where you get the initial investment back at the end of the term, there is no principal repayment for most InvITs at the end of the tenure. The underlying project is also not owned directly by the unitholder in most cases, and it simply represents rights to collect cash flows (such as tolls) for a fixed period.
To be sure, there are exceptions like warehousing InvITs, in which the underlying asset is owned by the unitholder, and the revenue will keep generating as long as the asset remains occupied. When the warehouse ages, the underlying land and the building can be sold off and distributed among investors or used to buy new assets.
Also Read: How InvITs can add yield to your investment portfolio
So what was the 14% InvIT yield?
Power Grid InvIT had distributed ₹12 to each of its unitholders in the previous financial year. However, this amount does not represent just the interest payments but also includes a component of capital repayment. Since InvITs don't return capital to unitholders at the end of maturity, the yield is not comparable to bond yields or interest in fixed deposits.
'People confuse InvIT yield with REITs and use it interchangeably with other instruments," said Niraj Murarka, chief investment officer and head of Real Assets at 360 ONE Asset. 'Comparing it to other dividend yields would be incorrect. While interest from common bonds and FDs is pure interest, the InvITs distribution includes interest, dividend, and part repayment of the capital."
The payouts in the previous financial year are also not a constant figure and tend to decline over time. For instance, toll-based road InvITs, after a certain period, will no longer have permission to collect tolls and will stop earning from it. In Reits, investors continue to own the underlying asset and the cash keeps flowing as long as the building is intact and there is an occupancy.
Typically, an InvIT could have 8-20 projects, each with a different 'balance concession period,' which means that each project may have a different lifespan until when it can earn income. If there is a road asset and the license to take toll expires after a year, then the income would stop from the next year.
If this road project was fetching them ₹2 every year, and if the balance concession period of this project stops, unitholders will get ₹2 less or whatever this project could have earned from next year. To be sure, InvITs can choose to buy new assets when existing Invits projects expire through equity dilution or by taking debt.
Also Read: Sebi's big bet on REITs, InvITs—are we fixing what isn't broken?
Discount to NAVs
Ram also noticed that Power Grid InvIT was trading at ₹86 while its net asset value (NAV) stood at ₹94. Optically, it looks like it's trading at a discount of ₹8 to its fair value. He wondered if this presented a chance for capital appreciation.
'It doesn't quite work that way," replied the financial advisor.
Mutual fund NAVs are straightforward. The closing price of underlying securities is tallied to arrive at the daily NAV of MF schemes. It's a relatively simple process and requires no subjectivity. It is generally considered a good representation of the underlying value of the scheme.
On the other hand, InvITs' NAV is calculated quite differently. Every six months, the InvIT trustee appoints a valuation agency to arrive at the value of the underlying assets in the Invits. However, different valuation agencies use different methods and assumptions to arrive at the value of the same asset.
This makes the InvIT's NAV subjective and open to interpretation compared to other kinds of NAVs, such as those used by MFs and ETFs.
A host of factors can also play a role in how the market prices InvITs. For instance, traffic on a road could fall if a new, better road is constructed, and it might lead to reduced toll collection.
Also read: Infrastructure Investment Trusts: How do they provide a new path for infrastructure financing?
So should you invest?
Murarka said retail investors may invest in InvITs through mutual funds or under the guidance of a professional financial advisor.
Understanding InvITs requires a detailed study of the underlying projects, lifespan of each asset, and the cash flow potential it has. Such material can be best studied by analysts or fund managers to make an informed decision, said Murarka.
Although InvITs have a low traded volume, and free float market cap ranges from around ₹2,000 to Rs.19,000 crores, retail investors investing a few lakhs shouldn't face much liquidity issues.
Mutual funds can invest up to 10% in InvITs and REITs. The market regulator has proposed to increase this limit to 20% in equity and hybrid schemes.
Taxation of InvITs is more complex than plain vanilla instruments, said Gautam Nayak, partner, CNK & Associates LLP.
'While the interest component is taxed in the hands of the unitholder at the slab rate, the dividend income may be taxable or tax-free, depending upon the tax rate opted for by the SPVs in which the InvIT has invested."
Capital repayment is tax-free, but reduces the cost base and may get taxed as capital gains upon sale. Capital gains on sale of InvITs are at par with equities.
'It's advisable to consult a tax expert to understand the implications," Nayak added.
Ram's example is hypothetical.
