Private Investments: Have we done enough – A quick reality check

Have we done enough – A quick reality check

Manish Aggarwal, Partner, Head, Corporate Finance, Energy & Infrastructure, Head, Resolutions & Restructuring, SSG, KPMG in India

Investments in the infrastructure sector are critical not only for the economic growth of any country but also to ensure that such growth is inclusive and the common man gets the desired benefits by having  access to basic facilities like electricity, water, roads, etc.

Equally important is to have a robust private sector that will invest in this critical sector. Governments the world over have limited resources and cannot keep investing in this space. When the current government took over in India a few years back, the focus initially was on undertaking structural reforms – both economic and social – implementing policy and regulatory initiatives across the key infrastructure sub-segments, and kick-starting the investment cycle with the government in the lead.

It was said that the private sector was under stress under the previous regime, with leveraged balance sheets, stalled projects, and nothing much moving due to the policy paralysis. Hence, it was expected that with the initiatives taken by the new government, the private sector will come out of the woods and start investing over a period of time. Reform measures across key infrastructure sub-segments were also expected to attract large foreign investments to India, especially by long-term capital providers such as pension/sovereign funds and strategic investors.

With the government’s current term being in the last lap, let us take a quick look at how much of the above expectations got translated into reality. Assuming that the first few years went into getting the reforms implemented, undertaking new measures, attempting to win investors’ confidence, I have looked at the investments made by the private sector (domestic and foreign) over the last year and a half for this assessment.

By now, as we all know even the infrastructure sector is under huge stress. So, let us break the investments into two buckets – pure growth/equity investments and investments under the newly created Insolvency and Bankruptcy Code (IBC) regime pre-National Company Law Tribunal (NCLT) and post-NCLT.

If one were to look at pure growth/equity investments by the private sector (domestic and foreign) within infrastructure, two sub-segments that would clearly stand out are renewables and highways. We have seen huge investments across these two segments not only from the domestic private sector, but also from long-term and patient capital providers. We are witnessing huge interest in the oil and gas space in the recent round of auctions for city gas distribution. Further, while there is a strong appetite for investments in the transmission and airports segments as well, the government has not been successful in channelising these investments yet.

While there is a lot of talk on the huge potential across many other segments within infrastructure (urban transport and infrastructure), we have not seen much translation of that into reality. Therefore, it is time to quickly step back and assess why few sectors made reasonable progress, and why the others could not take off. The domestic private sector is still under huge stress. While we have seen a new class of developers coming up, it will take some more time to let this churn settle down. It is the domestic sector that invests in greenfield/new capacity creation as they are the risk-takers and understand how to navigate the Indian ecosystem.

Foreign investors/funds/strategic investors are largely interested in brownfield investments and the current environment provides them with attractive investment opportunities. Clear government policies like “plug and play” in sectors such as renewables have really changed the game. The policy measures undertaken in this segment, the scale and size of the projects implemented by the government, and the government’s commitment towards sustainable energy have ensured a huge interest in this sector. Having said that, there are some headwinds that we are experiencing, but that is a subject for some other day.

A structured, focused approach by the Ministry of Road Transport and Highways has led to a turnaround in this space. A step-by-step approach to first address policy issues, then deal with challenges, followed by the adoption of new models like hybrid annuity and toll, operate and transfer (TOT), has ensured that highways attract huge investments in the sector. TOT has been a hugely successful first-of-its-kind (with very unique features) model initiated by the government.

A strong vision backed by a number of policy changes implemented by the Ministry of Petroleum and Natural Gas ensured huge interest in the last few rounds of auction of blocks and in the recent rounds of city gas distribution.

The lack of a “professional commercial disputes resolution institution” has deterred private investments across many sectors. While this has been talked of umpteen times, including a mention in the budget, we have not seen any action on the ground.

While the government came out with the Civil Aviation Policy and airports is one sector where we have huge interest and capital available, the government’s inability to implement a model/framework to channelise these investments has restricted new investors from coming into this sector.

The lack of long tenure and competitive financing in the infrastructure space has also been one of the key challenges that limit investments. With specialised infrastructure financing institutions getting converted into banks, there is a need for someone to plug this gap.

The key message – wherever the government has gone about in a structured fashion, articulated a comprehensive vision and most importantly executed that well, we have seen success. And wherever, we have just made announcements and not backed it by strong implementation, we have failed to attract investments. There is a need to implement models like TOT in other infrastructure sectors such as airports, transmission and gas pipelines, which, if customised well, can attract huge investments.

As I mentioned earlier, there are parts of infrastructure, especially thermal power, that are currently reeling under stress. With the introduction of the IBC and the government/Reserve Bank of India’s (RBI) focus on addressing the non-performing asset (NPA) challenge, there are investments expected by strategic, financial investors across this segment as well. In fact, infrastructure is one of the key sectors under stress within the overall NPA/stressed assets. Having said that, one has to appreciate the uniqueness of a sector like power to ensure investments. If there is one sector that has a huge policy/reform overhang, it is the power sector (thermal power specifically). Addressing the power sector stress essentially requires a two-pronged strategy that needs to be implemented in parallel.

There are huge “sector challenges” that need to be addressed urgently by the government.

  • Distribution reforms: The Ujwal Discom Assurance Yojana has not succeeded as it has not been implemented completely as per the vision. Tariff reforms are essential. We must get private sector expertise into the sector to complement government-side reforms. The distribution franchisee model needs to be overhauled and a new framework needs to be launched without further delay.
  • Payment of arrears: Utilities need to pay huge arrears to developers. Despite court/regulatory commissions passing favourable orders, utilities do not pay up on one pretext or other. We need to implement what the highways ministry implemented. Till pendency of dispute, if an appropriate regulator has passed a favourable order, at least 75 per cent of the payments should be released immediately.
  • Retiring of old/inefficient capacity: New operating capacity is available, and it is more efficient. Old plants under the centre and states need to be retired.
  • Obligation to serve: Utilities must have penalties for load shedding. India is unique, where we say there is power surplus and at the same time, huge parts of the country have no access to power, or get power for a few hours only. This must change.
  • Moderation of renewable capacity addition: The Indian government must rethink its targets. When the existing operating capacity is not finding demand, we must calibrate new supply.

Then we need a “structural solution” under the extant RBI guidelines to address the issue of large power capacity going to IBC and/or under liquidation. The Rural Electrification Corporation has proposed a refreshing scheme “Parivartan” and that must be seriously considered for implementation.

I strongly believe that addressing stress in the power sector is essential to ensure that the country’s energy security is not disturbed. If a large part of this capacity goes to liquidation, it will severely impact our ability to provide affordable power to consumers.

Infrastructure is a critical sector. Its growth directly impacts the economic growth of a country. The government’s vision to provide infrastructure access to every person can only be implemented if we get more and more of private sector investments into this space. Many success stories have been created in the infrastructure space over the past few years. Those learnings and models need to be replicated in other sectors within infrastructure. There is huge capital that is waiting to come in and the onus is on policymakers to ensure that this capital actually gets invested.

(The views expressed in the article are personal and not of the organisation the author is associated with.)