Sector Review

Some expectations met, but miles to go

Indian Railways (IR) is a vast monolith, a state within a state. It is perhaps the most important part of the country’s transportation segment, not only for passenger traffic, but also for freight movement. IR’s network expansion has been slow, its capacity growth has been inadequate, its asset base is ageing and it has been slow to adopt new technologies. Political interference in management, deteriorating financial position, and a bureaucratic organisational structure are key reasons for this state of affairs.

In the recent years, IR has been able to create a shelf of lucrative investment opportunities, primarily under the government’s Make in India mandate. Nonetheless, safety concerns have time and again derailed the sector’s growth momentum. An increasing operating ratio is also a cause of worry. In a nutshell, the organisation needs restructuring. Experts believe that restructuring is crucial for IR to be able to provide modern and efficient service to its customers.

Indian Infrastructure analyses the sector’s evolution over the past 20 years, highlighting the key game changers, the big successes and the major pitfalls…

Track record in numbers

IR is the third largest railway network in the world under a single management. Its network spans over 68,312 route km today, up from about 62,000 route km in the early 1990s. The network has been progressively doubled and electrified. Since 1990, over 25,000 route km have been standardised to broad gauge. Commensurate with the growth of the route network and stations, traffic has also increased considerably over the past 20 years.

Freight traffic grew at a compound annual growth rate (CAGR) of 5.53 per cent, increasing from 421 million tonnes (mt) in 1998-99 to 1,172 mt in 2017-18. It crossed the 1 billion tonne mark in 2012-13 and has been rising continuously since then. Passenger traffic grew at a CAGR of 3.39 per cent, from 4,411 million in 1998-99 to 8,307 million in 2017-18.

However, traffic growth has been almost been flat or even negative in the past three to four years. In 2016-17, the year-on-year growth in freight and passenger traffic was less than 1 per cent. While passenger traffic maintained this growth figure in 2017-18, freight traffic showed signs of recovery with a growth of 5.1 per cent in 2017-18 over 2016-17. Earnings from both the passenger and freight businesses grew at a CAGR of about 10 per cent during 1998-99 and 2017-18.

Trends in operating ratio: Worsened scenario

Over the past twenty years, operating ratios have shown a mixed trend. The high financial burden on IR could be attributed to its traditional policy of cross-subidisation of passenger fares with freight rates. While the operating ratio stood at 93.34 per cent in 1998-99, it reached an all time-high of 98.3 per cent in 2000-01 (under the NDA-led government), and then declined to the minimum of 75.9 per cent in 2007-08 (under the UPA-I government).

Interestingly, during 2006-07, IR achieved a cash surplus of Rs 200 billion. Its freight traffic grew by over 9 per cent and passenger traffic by 7 per cent, almost double the growth rates of 3-4 per cent achieved in the past. Total revenues grew at an even more impressive rate of 16 per cent. Its operating ratio was down to 78.7 per From 2008-09, the operating ratio started increasing due to an increase in staff costs and pensions consequent upon the implementation of the sixth pay commission recommendations. In 2017-18, IR reportedly clocked an operating ratio of 96 per cent due to pressures arising out of the seventh pay commission commitments.

Trends in investments

IR is basically a self-funding organisation with extensive internal cross-subsidisation. Total investments increased significantly from Rs 222 billion in 1990-91 to Rs 1.2 trillion in 2017-18.  IR made infrastructure development the focus of its efforts in the Eleventh Plan (2007-12), with an investment of Rs 2.5 trillion. It started investing in new trains, high capacity wagons, route upgradation for higher axle loads, high speed trains, and the development of terminals, logistics parks and dedicated freight corridors (DFCs).

The DFC project, lauded to be a game changer for the sector, was also launched during this period. The commissioning of DFCs is intended to increase freight capacity along the targeted corridors threefold. The progress of the project has been slow till recently due to several issues pertaining to land acquisition and financing, among others.

The average annual capital expenditure in 2014-18 is more than double the average during 2009-14. Capital expenditure in 2015-16 was estimated at Rs 940 billion with the commissioning of 2,500 km of new broad gauge rail during the year. In 2016-17, IR had a capital expenditure of Rs 1.1 trillion, almost three times the average during the period 2009-14.

There has been notable progress on various fronts such as track electrification, the introduction of new trains and rolling stock, improved passenger services and reduced energy expenditure. Other remarkable improvements include a 50 per cent increase in rail renewals between 2013-14 and 2017-18. The average pace of commissioning of new lines, doubling, and third and fourth line projects increased by 59 per cent between 2009-14 and 2014-18.

The tale of PPPs and policy interventions

Private investment has been slow to flow amidst uncertainty over the bankability of projects and excessive control exercised by IR.  So far, the public-private partnership (PPP) experience in the railway sector has been a mixed bag. In projects with a clear-cut demarcation of responsibilities, the model has proven successful, an example being the last mile port-connectivity for the Mundra and Pipavav ports. However, using the PPP route for manufacturing rolling stock and locomotives has met with limited success.

In the 1990s, IR initiated private sector involvement in the development of railway infrastructure and services for the first time. Two schemes were introduced: Own Your Wagon Scheme (OYWS) in 1992 and the Build, Own, Lease and Transfer (BOLT) Scheme in 1996. However, these were not able to attract private players to the extent expected. The OYWS was revamped and renamed the Wagon Investment Scheme (WIS) in 2005. Subsequently, the WIS was revised and the Liberalised Wagon Investment Scheme (LWIS) was introduced in April 2008. However, it was only in 2000 that the first PPP project was launched and a special purpose vehicle (SPV) for the project, Pipavav Railway Corporation Limited (PRCL), set up in 2003.

In 2006, IR made a modest beginning in the container segment, with licences awarded to 16 private sector firms under the Container Train Operators Policy. This was an attempt to end Container Corporation of India Limited’s (Concor) monopoly position. With a view to bringing in better designed wagons and inducting rakes through the PPP route, the Wagon Leasing Scheme (WLS) was launched in April 2008.

In 2010, efforts were also made to encourage private participation in freight operations. During 2016-17, 45 freight terminals were commissioned under the new Private Freight Terminal Policy. A new policy to encourage private investment in wagons was also introduced. The Automobile Freight Train Operators (AFTO) scheme was introduced in 2010, with the aim of increasing IR’s share in the transportation of automobiles. A part of the DFC is also being implemented on a PPP basis.

The biggest development in the PPP space so far has been the introduction of the Participative Policy of Investment in Railway Infrastructure for rail connectivity and capacity augmentation (December 2012). It provides five PPP models for building rail connectivity. Of these models, three (private line, joint venture and customer-funded) involve the participation of strategic investors/customers and the remaining two (build-operate-transfer and annuity models) are pure PPP models. In fact, this new policy superseded the R3i (Railway’s Infrastructure for Industry Initiative) and R2CI (Rail Connectivity to Coal and Iron Ore Mines) policies notified earlier. Both the R3i and R2CI policies failed to enthuse investors owing to a cap of 14 per cent on the rate of return they could get.

Big shifts and the classic turnaround

The past two decades have also seen IR making concerted efforts to bridge efficiency and infrastructure gaps. In 2001, the Rakesh Mohan Report criticised IR’s operations, citing an outdated business structure, and a serious infrastructure maintenance and renewal backlog. Signs of improvement surfaced after the release of this report. In less than a decade, IR eliminated maintenance deferrals, paid back the government for deferred dividends, replenished its depreciation reserves and earned record surpluses.

In December 2009, IR released the Vision 2020 statement that called for a 10 per cent annual growth in traffic, achieved through an addition of 25,000 km of new lines by 2020 and the induction of 1,000 locomotives, 5,100 coaches and 29,000 wagons each year. However, the organisation simply did not have the funds to invest in regular upgradation. Recognising this, the government formed an expert group on modernisation in 2011, which submitted its report in 2012. The group’s recommendations did not get the necessary attention because of several changes at the ministerial level and coalition politics. The key elements of the recommended strategy were asset modernisation, mobilisation of resources, exploration of new revenue models, focus on key enablers and prioritisation of projects.

In 2015, the National Transport Development Policy Committee recommended that the railways need to increase their market share in freight transport from the current 30 per cent to about 50 per cent over the next two decades. The government has started working towards this and a number of initiatives have been taken in the freight segment.

The new government: Bringing in change

At the time of coming to power, the NDA government promised an investor-friendly environment for PPP projects in locomotive manufacturing, port connectivity, station development and freight terminals. It approved three investor-friendly model concession agreements (MCAs) for private participation in January 2018. In what could be termed as one of the biggest structural reforms in the sector, the cabinet approved the setting up of an independent regulator, the Rail Development Authority, to recommend passenger and freight fares and set service-level benchmarks.

The government also approved 100 per cent foreign direct investment in select segments. It launched seven “missions” to increase speed, eliminate accidents, increase capacity utilisation, introduce accounting reforms, carry heavier loads, streamline procurement and add railway sidings. In a major development, the railway budget was for the first time merged with the Union Budget in 2017-18.

IR has laid a lot of emphasis on the deployment of modern rolling stock. Improving the speed of trains and increasing carrying capacity is also critical. In the recent past, IR launched several new, innovative, high speed trains on its network. These trains are equipped with modern on-board facilities to enhance passenger comfort. Superfast trains such as Tejas Express, Antyodaya and Humsafar have been launched. India’s fastest train (160 kmph), the Gatimaan Express, was also introduced.

Safety has emerged as a key focus area. In 2016-17, IR recorded the highest ever number of accidents (76) owing to track failures/derailments. A separate safety fund, the Rashtriya Rail Sanraksha Kosh, worth Rs 1.19 trillion has been created for undertaking various safety works. Customer comfort and convenience has also been deemed one of IR’s top priorities.

In a bid to reduce its energy bill,  IR is undertaking a number of initiatives such as procuring cheaper power, improving the efficiency of power utilisation, stepping up its renewable energy capacity and developing innovative energy-efficient solutions.

Top priorities: Asset creation

Timely completion of the Eastern and Western DFCs has been accorded the highest priority. IR is also taking steps to develop rail connectivity to the Northeast, improve last mile connectivity, expand rolling stock, and improve energy efficiency in the railway system.

Meanwhile, preliminary works on India’s first high-speed bullet train between Mumbai and Ahmedabad are in full swing. The government plans to launch the bullet train by 2022. IR has also put forth an ambitious plan to modernise and redevelop 68 stations by March 2019. Station redevelopment contracts have been awarded for Habibganj and Gandhinagar stations. The development of the Bengaluru suburban system and the upgradation of the Mumbai suburban system is also on the anvil. Further, Rs 170 billion has been sanctioned to develop the Delhi-Mumbai and Delhi-Kolkata sections as semi-high speed corridors.

Investment needs

IR has envisaged an overall investment of Rs 8.56 trillion to be made in the medium term (till 2019-20) across all segments of the rail sector, of which the majority (23 per cent) will go towards network decongestion, 22 per cent towards network expansion, and 15 per cent towards safety works. For 2018-19, the capital expenditure target is Rs 1.48 trillion. In order to ensure assured funding for these projects and plans, institutional financing is being tied up through a loan worth about Rs 1.5 trillion from the Life Insurance Corporation of India (LIC). In March 2018, the Indian Railways Finance Corporation raised Rs 50 billion from LIC through a bond issue.The carrier has further listed its green bonds on the stock exchanges, and has already disinvested a stake in RITES Limited through an initial public offering in a bid to raise more funding. Public issues for Rail Vikas Nigam Limited, the Indian Railway Finance Corporation and Ircon International Limited are likely to be floated soon.

A leap into the future

Over the years, IR has gone from a loss-making, lethargic, customer-indifferent organisation to a profitable, fairly dynamic, sometimes innovative and somewhat customer-friendly business.

The sector needs massive capacity addition both in the passenger and freight segments. A multi-year investment plan supported by a credible financing plan will form the bedrock for sound development. A clear delineation in the management and operations of the railways will go a long way in bridging the efficiency gap. The confusion between commercial objectives and social goals needs to be conclusively addressed. The modernisation of rolling stock, tracks, bridges, stations and terminals is critical. These are challenges that can also be seen as opportunities.

The industry can expect new business opportunities going forward, particularly in light of the recent Make in India initiative. Big ticket manufacturing ideas for the sector include high horse power, green technology locomotives; commodity-specific wagons like auto carriers; signalling  and train protection systems; and track laying and track maintenance machines.

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