The roads and highways sector continues to be on the radar of investors. Increased government support and an abundance of operational assets have attracted interest from long-term investors. The sector has been growing and the momentum is likely to continue with the pace of land acquisition, one of the key bottlenecks, improving. Although bank credit has decelerated in recent times, a pool of alternative sources including bonds, infrastructure investment trusts (InvITs) and the National Investment and Infrastructure Fund (NIIF) are being tapped. Though funding is not an issue in the near term due to reduced equity requirements under the hybrid annuity model (HAM), issues such as stretched balance sheets of developers, capacity constraints of contractors and lengthy arbitration processes may impede the sector’s growth.
Trends in budgetary support
The central government has allocated funds amounting to Rs 710 billion to the Ministry of Road Transport and Highways (MoRTH) under Union Budget 2018-19, an increase of 9.39 per cent over the Rs 649 billion allocated during 2017-18. The allocation for central sector schemes/projects stood at Rs 708.73 billion, marking an increase of 9.42 per cent over the
Rs 647.71 billion in the previous fiscal year. Of these allocations, the National Highways Authority of India (NHAI) has been allocated
Rs 296.63 billion (an increase of 24.16 per cent over the previous year), Rs 408.95 billion has been allocated for road and bridge works (an increase of 0.65 per cent over 2017-18) and Rs. 3.15 billion has been allocated for road transport and safety.
Sluggish growth in bank credit
The growth in bank credit to the sector has decelerated in the past three-four years. Credit growth turned negative in 2017-18 on account of mounting stress on the banks’ books. However, the current fiscal year saw a marginal pickup in bank lending to the road sector. HAM has renewed the confidence of banks. Having said that, bank lending remains selective and slow due to promoters having lower skin in the game under this model.
In the wake of the government failing to provide the necessary resources for highway development, NHAI recently signed an MoU with the State Bank of India for an unsecured loan worth Rs 250 billion. The loan will be provided for a period of 10 years with a three-year moratorium on repayments. It is the largest one-stroke loan to have been sanctioned to NHAI by any institution. The move has drawn flak from various stakeholders on the premise that it will impact credit ratings and finances of NHAI and that infrastructure development cannot be undertaken by such unsecured loans.
Meanwhile, the sector has witnessed 10 financial closures in the current fiscal year so far, as against 10 in 2017-18. Five projects of Ashoka Buildcon, two projects of IRB Infrastructure Developers, and one project each of Sadbhav Infrastructure, PNC Infratech and KNR Constructions were able to tie up funds. With lenders gradually warming up to HAM, there has been an increase in financial closures.
Recent bond issuances
NHAI has been supporting project execution through bond issuances. In May 2017, the authority launched its maiden masala bond issuance on the London Stock Exchange raising Rs 30 billion ($467 million). The initial benchmarked issue of Rs 15 billion was upsized to Rs 30 billion yielding 7.3 per cent annually as a result of the highly positive response from the investor market. The Rs 30 billion issue attracted an overwhelming investor response from across the spectrum with Asia contributing 60 per cent of the subscription and the balance 40 per cent coming from Europe. Further, in April 2018, NHAI listed its Rs 250 billion medium-term note (MTN) issue on the Bombay Stock Exchange’s India International Exchange (India INX) global debt listing platform. The MTN programme is an instrument to raise money through debt securities that typically mature within 5-10 years. Meanwhile, the Life Insurance Corporation of India bought bonds worth Rs 20 billion under the first issuance of NHAI’s 30-year bonds in 2018-19.
Capital market transactions
With regard to the initial public offering (IPO) market, fundraising activity has remained subdued in terms of numbers. Apart from the H.G. Infra Engineering IPO in early 2018, the year has not witnessed any other issuances. However, in 2017, InvITs saw the light of day with the listing of the IRB InvIT Fund, the country’s first InvIT. Despite receiving a favourable response from various investor classes, the fund made a weak stock market debut. Meanwhile, players such as GR Infraprojects and GVR Infraprojects have plans on the anvil of hitting the bourses.
The market has seen increased involvement of both domestic and foreign players in picking up stakes in road assets. Since 2016, about 20 asset sales have been undertaken by players such as GMR Infrastructure Limited, HCC Limited, Dilip Buildcon, and MBL Infrastructures. In 2018, however, the market has been slow in the asset sell-off space with only a handful of deals taking place. These include Welspun Enterprises acquiring the Vishvaraj Group’s road asset, Cube Highways and Infrastructure acquiring road assets of HCC Limited and MEP Infrastructure, etc. Meanwhile, Ramky Infrastructure is in advanced talks to retire its build-operate-transfer (BOT) assets to private equity players for Rs 34.5 billion. There has been rising investor interest in operational assets with steady cash flows. Investors such as KKR, Brookfield and Cube Highways and Infrastructure, as well as pension and sovereign wealth funds have an appetite for such projects, which have high internal rates of return. While most of the asset sales have been a result of balance sheets deleveraging and the infusion of the much-needed liquidity by debt-laden promoters, others have been an outcome of business strategies aimed at achieving growth at a faster pace as well as at increasing market share.
TOT a safe bet for investors
NHAI’s asset monetisation programme via the toll-operate-transfer (TOT) model also generated remarkable interest with the award of the first bundle. In March 2018, a joint venture of the Macquarie Group and Ashoka Buildcon Limited secured the rights to manage 648 km of national highways at a bid price of Rs 96.81 billion. In August 2018, NHAI invited bids for the second TOT bundle. The bundle consists of eight stretches of national highways in Rajasthan, Gujarat, Bihar and West Bengal. The total length of the projects is 586.55 km. At the state level, Telangana has become the first state to kick off the asset monetisation exercise. This is the first TOT initiative being undertaken by a state and will set the pace for asset recycling. Hyderabad Growth Corridor Limited has recently started the process of monetising the Nehru Outer Ring Road in Hyderabad under this model and expects to raise approximately Rs 30 billion from the exercise.
The recent default by Infrastructure Leasing and Financial Services (IL&FS), one of the largest financiers of roads, bridges and power plants, jolted the entire banking system. The potential for an incipient financial sector meltdown has forced the government to seize control of IL&FS and its units by superseding the current board. The company is considering generating immediate cash flows by selling the rights to operate toll roads built by it to NHAI. Many road projects of IL&FS are nearing completion or have been completed but these were not generating cash flows because of delays in putting in place the toll collection system. Meanwhile, Cube Highways and Infrastructure has evinced interest in buying some of the operational toll road projects owned by IL&FS.
New funding sources
Factors such as exhaustion of sectoral limits, adoption of Basel-III norms, and the high level of stressed assets have impacted banks’ appetite for road projects. As a result, new sources of funds, though slow in gaining traction, bode well for the future. Newly established international institutions such as the Asian Infrastructure Investment Bank and the New Development Bank hold significant promise.
India’s maiden sovereign wealth fund, NIIF, is in early discussions for raising another fund — the Strategic Investment Fund — which will invest in both greenfield and operational assets across sectors including roads, ports, airports. Meanwhile, IL&FS is in talks with the NIIF to sell its road portfolio. IL&FS Transportation Networks Limited has among the largest portfolio of BOT projects in the country.
In the InvIT space, L&T Infrastructure Development Projects Limited listed its InvIT, IndInfravit Trust, in May 2018, raising around $510 million. The InvIT is the first in India to be listed through the private placement route.
Hand-holding by the government has gone a long way in re-establishing confidence and enthusiasm of lenders in the road sector. While the high level of non-performing assets has made them cautious, they continue to show interest in operational projects. The TOT space is marked by a high level of competition. The second round is expected to witness aggressive bidding due to greater diversification of projects. HAM has received wider acceptance among financiers and developers, and has significantly revived public-private partnership in the sector. The majority of HAM projects have so far been won by large contractors. A number of mid-sized engineering, procurement and construction contractors are eying opportunities in this space.
Though InvITs have failed to take off owing to weak investor sentiment, the product is ideally suited for asset recycling and is aligned with the government’s agenda of asset monetisation. Robust management, strong governance and continuous addition of good quality assets are critical to InvIT yields which, in turn, will increase investor interest. In order to raise equity from the market for its mature assets, NHAI will also need to consider organising its road assets into special purpose vehicles. Net, net, the increase in the pace of construction and project awards, and policy reforms have made the sector upbeat.