The road sector has certainly seen a surge in activity both in terms of the launch of enabling initiatives as well as the award and completion of projects. In the last 12-15 months, several projects have been awarded under the hybrid annuity model (HAM). However, financing continues to be a challenge even for these projects. Issues such as land acquisition, utility shifting and asymmetry in project cost estimates continue to impact the sector. Moreover, financial stress in the current portfolio of assets prevents developers from taking on new projects. In the near term, stakeholders will have to await the on-ground impact of the host of initiatives taken by the government. The launch of the toll-operate-transfer (TOT) model is expected to scale up the National Highways Authority of India’s (NHAI) financial resources substantially and aid the development of roads on an engineering, procurement and construction (EPC) basis. Industry experts share their views on the sector’s progress, impact of key initiatives, impending issues and the way forward…
How has the road sector progressed in the past one year?
Indranil Bose
The downward trend in public-private partnership (PPP)-based project awards started in 2012 and followed the same trend till 2014-15. In 2015-16, NHAI awarded only seven projects on a build-operate-transfer (BOT) basis and nine projects based on HAM. During April-May 2016, five projects were awarded under HAM while no projects were awarded on a BOT basis. These numbers clearly conclude that project developers are still not keen on taking traffic/revenue risks and have shown hardly any interest in bidding for BOT (toll) projects. The stressed balance sheets of road developers have played a significant role in the waning interest in the BOT model. With regard to the National Highways Development Programme, the EPC model and HAM have now emerged as the default mode of project award. HAM allows lower upfront equity and substantially higher revenue certainty due to the absence of toll revenue and cost escalation risks. The model has been tested at the state level too.
Karthikeyan M.
The road sector, with its huge budgetary allocation, has been fuelling the Indian economy with its EPC mode of delivery. Construction companies have benefited immensely from increased order books and cash flows. On the PPP front, the government has been successful in rolling out HAM and the response from developers has been positive, as reflected in their bid participation. The typical BOT model has rightly taken a back seat. The improved economy has resulted in better traffic numbers across the country and has partially eased the stress of existing BOT portfolios.
Anil Malik
EPC is a brilliant concept, but the on-ground experience has been mixed. There have been some good points that have emerged and there are some areas that need attention. The Indian EPC segment is not yet in step with international trends seen in the global EPC segment. There has been a trend of underbidding for projects since several contractors are cash starved. Unless cash flows improve, projects are going to suffer and get delayed.
K.V. Praveen
The central government has adopted the EPC mode of contracting as one of the favoured modes because of the stress in the road sector. The EPC experience with regard to project awards has been good, while the implementation experience has been mixed. EPC is still in its infancy as far as NHAI projects are concerned. EPC projects were initiated only during the latter part of 2013-14. However, a number of projects were awarded during 2015-16. The performance of the EPC model cannot be assessed without the completion of these projects.
Asim Tewari
The road sector’s performance has improved in the past one year. While the pace of project award was sluggish during the past few years, a lot of new work has subsequently been taken up. More and more work has been awarded on an EPC basis. NHAI and the Ministry of Road Transport and Highways (MoRTH) have awarded 28 projects under HAM. However, it is yet to be seen how these projects secure financial closure. Further, projects are yet to make significant headway in the BOT segment.
What has been the impact of the key initiatives undertaken by the government?
Indranil Bose
After its introduction by the MoRTH, HAM has received significant interest from the private sector. The other talked-about model is TOT, which aims to monetise completed highway projects for a one-time concession fee. The TOT model has already been tested successfully in Chicago, Puerto Rico and Malaysia. So far, the MoRTH has identified 100 revenue-generating toll roads for TOT and the model concession agreement has been drafted. The MoRTH expects to tap international pension, wealth and sovereign funds and raise about Rs 700 billion Rs 1,000 billion from the TOT model.
A host of measures taken by the central government has impacted the sector positively. These include the restructuring of premium payments, allowing 100 per cent equity divestment after two years of construction completion for all BOT projects irrespective of the year of award; a one-time fund infusion by NHAI for languishing PPP projects; the extension of the concession period for all current BOT projects stalled due to reasons not attributable to the concessionaire; approval to raise subordinate debt on the strength of future surplus cash flows of operational BOT projects; and the introduction of the Reserve Bank of India’s (RBI) 5/25 and the strategic debt restructuring schemes to provide relief to stressed infrastructure projects and companies respectively.
Meanwhile, Union Budget 2016-17 announcements are expected to bode well for the sector. These include the creation of a new National Investment and Infrastructure Fund with at least $3 billion of annual equity commitments from the central government. The government also plans to introduce the Public Utility (Resolution of Disputes) Bill to streamline institutional arrangements for the resolution of disputes, guidelines for the renegotiation of PPP concession agreements and a new credit rating system for infrastructure projects under which various inbuilt credit enhancement structures will be developed, instead of relying upon a standard perception of risk which often results in mispriced loans.
Karthikeyan M.
The central government has proactively engaged with banks, financial institutions and ministries and displayed its intent of addressing sector-specific problems. The government held project-level meetings for distressed BOT projects and has come up with quick fixes for some projects and formulated policies to fix others. These steps, along with India’s “growth story”, have attracted global investors, especially pension funds. The acquisition market is showing signs of revival with some deals getting closed in the first half of 2016.
Anil Malik
The EPC model essentially works as an enhanced version of the item rate contract. There is little scope for contractors to optimise and innovate in terms of project design. On a positive note, government authorities are trying to solve problems at hand and the contractor fraternity is hoping to see solutions to issues soon.
K.V. Praveen
The success of the EPC model can only be assessed after the current lot of projects is completed in the next two years. While the government has taken concrete steps to resolve land acquisition-related concerns, the impact has not been considerable.
Asim Tewari
The initiatives taken by the government come under three heads. The first initiative pertains to a greater focus on road development through the use of public funds by bidding out projects on an EPC basis. The second major initiative is the change from the BOT mode to HAM, to address viability concerns. With the launch of HAM, the government aims to hedge against potential traffic risks faced by developers. The third initiative pertains to the efforts of the government to fast-track work on languishing projects. Steps have been taken to identify bottlenecks, resolve disputes and restart pending projects.
What are the key challenges being faced by stakeholders?
Indranil Bose
Delays in land acquisition and utility shifting, asymmetry in the estimation of project costs, deficiencies in project preparation and lengthy approval processes are issues which still impact the sector. Besides, the increasing number of non-performing assets has severely impacted the ability of banks to finance projects. As per the National Highways Toll Policy, annual escalation of toll rates is linked to the wholesale price index (WPI). However, the negative WPI during 2015-16 has created a pessimistic scenario for developers. From April 2015, RBI, as part of its monetary policy, has adopted the consumer price index as the key measure of inflation (nominal anchor). Many developers are of the view that the change in monetary policy has resulted in a negative WPI. Traffic uncertainty remains a concern in the current economic scenario. Besides, the termination payment formulas are also causing banks to be reluctant in funding road projects.
Karthikeyan M.
In spite of the government’s positive intent towards addressing the portfolio problems of BOT assets, the commercial stress is significant and can be remedied only by the renegotiation of concession agreements. But this is some time away. Stress in the current portfolio restricts any future investment by players. This is reflected in the profile of players bidding for HAM and BOT projects where many traditional players are conspicuously missing. The consolidation of the BOT market is extremely slow and that has further locked in equity capital. It is surprising that competition still continues to be intense in all the three formats – EPC, HAM and BOT. This poses a serious challenge for project completion and profitability.
Anil Malik
Cash flows in the case of EPC projects are not aligned with the working capital requirement of contractors. Obtaining approvals for corporate debt restructuring is difficult. Independent engineers are not neutral in their approach. There is inadequate time for project preparation for completing pre-construction activities. Further, detailed project reports are made in a general manner with limited focus on terrain-specific details.
K.V. Praveen
A major challenge is the obtaining of regulatory approvals, especially for mining of boulders, earth or sand. These approvals are in the domain of the state government and local authorities. It is often seen that these authorities are not as involved with projects as NHAI or the central government. This is one of the prime reasons for project delays. Another area of concern is the lack of design flexibility in EPC contracts. Further, securing clearances for utility shifting and removal of structures add to delays and cost. Absence of encumbrance-free land is the biggest roadblock.
Asim Tewari
A major challenge in the sector is funding. Banks which were earlier open to financing road projects are now becoming very stringent on various aspects. While 28 projects have been bid out under HAM, not many have been able to achieve financial closure. Companies are likely to face this challenge whenever there is bidding in the PPP mode. Another issue is the inadequacy of supervisory action. The process of the selection of consultants for supervision and quality control suffers from various shortcomings. Though initiatives have been taken in the area of land acquisition, the impact of these is yet to be seen. State-level cooperation in terms of law and order support during the project execution phase still needs to be taken up. However, not much seems to be happening in this particular area.
What is the sector outlook for the next one-two years? What is the potential for the PPP model going forward?
Indranil Bose
In the next one or two years, HAM is expected to eclipse the BOT (toll) and PPP models because of its acceptability to both NHAI as well as road developers. New innovative PPP models like TOT for brownfield projects are also expected to take centre stage. Long-term performance contracts are going to be a good way of involving the private sector for the maintenance of national and state roads.
Karthikeyan M.
The EPC model will continue to remain the key mode of project implementation while the TOT model could generate interest among investors for participating in PPP projects. Going by past experience, lenders are expected to show caution in project assessment on the new HAM and BOT bids. The resurgence of PPP will depend on the government’s innovative ways to solve portfolio problems, attract new capital (both equity and debt) and the launch of new business models like TOT in well-balanced concession agreements. Implementation of the Kelkar Committee’s recommendations will be a key factor. Nevertheless, this should be complemented by mature financial bids by the private sector.
Anil Malik
Going forward, the acquisition of 80-90 per cent of the land should be done before awarding projects. Overall, the EPC contracting model needs to be analysed in greater detail and the best examples from around the world need to be studied. In the coming years, the level of EPC activity both at the national and state level is expected to pick up considerably.
K.V. Praveen
The real success of road development in the country as a whole will be visible in the next couple of years when most of the current projects come to a close. Projects worth Rs 1 trillion are expected to be implemented in a mix of EPC and HAM. The opportunities are pretty large, especially on the EPC front. In the current year itself, 12,000-15,000 km of projects are likely to be awarded on an EPC basis together by the MoRTH, NHAI and the National Highways and Infrastructure Development Corporation. States such as Uttar Pradesh (Lucknow-Ballia), Maharashtra (Mumbai-Pune expressway), Andhra Pradesh, Telangana and Madhya Pradesh have lined up large-scale EPC projects.
Asim Tewari
For the next one year, the situation will continue to be the same as it was in the past year. There will be no remarkable improvement. However, the area where there will be some beneficial development for the road sector is the TOT model where the already existing assets can be monetised. This will give NHAI a lot of capital to execute projects on an EPC basis. Regarding the PPP model, it will still take some time for things to start moving in the right direction. It will happen definitely, but not in the immediate future.
“Delays in land acquisition and utility shifting, asymmetry in the estimation
of project costs, deficiencies in project preparation and lengthy approval
processes are issues which still impact the sector.”
Indranil Bose, Vice-President, Government and Transaction Advisory Services, EY
“The government has been successful in rolling out HAM and the response
from developers has been positive, as reflected in their bid participation. The
typical BOT model has rightly taken a back seat.”
Karthikeyan M., Chief Investment Officer, Uniquest Infra Ventures
“The EPC model needs to be analysed in greater detail and the best examples
from around the world need to be studied. EPC activity at the national
and state levels is expected to pick up considerably in the coming years.”
Lt. General Anil Malik, AVSM (Retd.) Vice-President, Business Development and Corporate Affairs, HCC
“The real success of road development in the country as a whole will be visible
in next couple of years when most of the current projects come to a close.
Projects worth Rs 1 trillion are being implemented in a mix of EPC and HAM.”
K.V. Praveen, Vice-President and Head, Roads, Runways and Elevated Corridors, Transportation Infrastructure, L&T ECC
“NHAI and the MoRTH have awarded 28 projects under HAM. However, it is
yet to be seen how these projects secure financial closure. Further, projects
are yet to make significant headway in the BOT segment.”
Asim Tewari, Chief Executive Officer, Bharat Road Network Limited
