The hybrid annuity model (HAM) was launched at a time when project award relied largely on the engineering, procurement and construction (EPC) model and private sector interest in build-operate-transfer (BOT) projects had almost dried up. Till date, 121 national highway projects spanning over 6,800 km have been awarded on HAM. As per estimates, for the National Highways Authority of India (NHAI), HAM constituted about 40 per cent of project awards (in terms of length) in 2018-19. The share increased dramatically from 8 per cent in 2015-16 to 56 per cent in 2016-17 due to the euphoric sentiment regarding the new model. However, the share subsequently reduced to 46 per cent in 2017-18 due to issues related to financial closures and land acquisition surfacing, thus bringing prudence in bidding on the part of developers. The year 2018-19 saw moderation in project award activity. Bids for HAM projects continued to be judicious with the lowest bids being 15 per cent higher on average than NHAI’s estimated EPC costs. Also, the number of bidders for HAM projects was limited to 5-10 per project as against 25-30 bidders in the case of BOT projects.
So far, 70-75 per cent of the awarded HAM projects have achieved financial closure. Some of the lenders for these projects are the State Bank of India, Axis Bank, HDFC Bank, Punjab National Bank, Larsen & Toubro Financial Services and ICICI Bank. Meanwhile, a few projects are facing difficulties in obtaining financial closure due to a lending freeze by many public sector banks and cherry-picking of projects by private banks.
At present, Dilip Buildcon Limited holds the highest share both in terms of number of projects and the length awarded under HAM, followed by Sadbhav Engineering Limited and Sadbhav Infrastructure Project Limited. Other key players include MEP Infrastructure Developers Limited, Ashoka Buildcon Limited, GR Infraprojects Limited, PNC Infratech Limited, MEP Infrastructure Developers Limited, Welspun Enterprises Limited and MBL Infrastructures Limited. These players together account for 60 per cent of the total contracts awarded under this format indicating a high concentration among a few companies in the HAM space. However, with the order books of large players swollen on account of HAM project awards, some mid- and small-sized players such as HG Infra are also entering this space.
Despite a number of HAM projects being able to tie up funds, nearly one-third of them are still awaiting appointed dates on account of delays in land acquisition or regulatory clearances. These projects are stuck as the mobilisation advance is not given by the government until the appointed date is fixed. The date is announced only after the government secures 80 per cent right of way (RoW) for a project. Developers have already forfeited four projects – the Vizag port road and three road projects in Tamil Nadu – citing similar issues.
Although 80 per cent land availability offers an edge for swifter project completion, the delay in providing encumbrance-free land continues to weigh down the road sector. Developers are now cautiously accepting land only after the issuance of section 3G notification, when NHAI starts finalising the compensation for landowners, against the earlier practice of section 3D notification.
Moreover, there have been concerns regarding the balance 20 per cent land to be provided by NHAI within 180 days of the appointed date. Some projects in advanced stages of execution are yet to receive the balance RoW, potentially affecting execution. In case 100 per cent land is not provided on time, road developers can either await RoW from NHAI (and execute projects once it is received) or de-scope part of the project for which land is not available and adjust the project cost on a pro-rata basis. However, the actual outcome varies across individual stretches and is finalised on the basis of negotiations with NHAI. Typically, the authority pays annuity for a road stretch based on toll collections. However, in some cases, incomplete construction translates into no toll collection. In both cases, NHAI will have to pay annuity to the developers, which would put pressure on its financial position. In the past couple of years, NHAI has increasingly depended on market borrowings.
Another issue has been that the falling bank rate has started to impact cash flow streams of HAM projects as the corresponding reduction in the cost of borrowing has been slow. The annuity paid by NHAI is linked to the bank rate (bank rate plus 3 per cent). In a falling interest rate scenario, the lag in rate transmission on loans creates a mismatch in annuity income earned by the road developer and the interest paid by it to the bank. This can cause cash flow disruptions for operational assets in the short term till bank rates stabilise. Also, with frauds and scams surfacing in the banking industry, mid-sized construction companies are finding it tougher to procure term loans and bank guarantees.
Acquisition by investors
There is an emerging trend of acquisition of ongoing HAM projects. Private equity players are looking at these projects with the idea of diversifying their portfolio of traffic-linked toll roads. Further, their in-house project management and engineering teams closely monitor all phases of construction to ensure that the projects are completed on time and within budget. Recently, Cube Highways acquired two under-construction road projects owned by KNR Constructions Limited and five HAM projects of Dilip Buildcon Limited. Meanwhile, Canadian pension fund Caisse de depot et placement du Quebec and Sekura Roads Limited are in talks with GR Infraprojects to acquire the latter’s seven ongoing HAM road projects.
Banks continue to be selective in funding infrastructure projects due to liquidity constraints and pile up of sour loans. In addition, most of the developers have stretched balance sheets that make financial closures difficult. These factors, combined with prudent bidding, will reduce the share of HAM projects in the overall pie of project awards in the next few quarters.
The first round of HAM projects is likely to achieve completion in the near term, and these projects are best suited for acquisitions by investors. Though this is an area of opportunity for global investors, the delays in transmission of rate cuts can disrupt cash flow streams, in turn, lowering equity returns to investors. Moreover, the delay in the execution of some projects due to slow equity infusion from weak sponsors and land acquisition issues will further wane investor interest in these projects.