INR: To Hedge Or Not To Hedge
November 19, 2015
Capturing the Governance Premium in less Developed Markets
April 23, 2016

India’s Infrastructure Push

Infrastructure bottlenecks are a common hindrance to doing business in India. Productivity suffers due to overstretched road, rails, ports and regular power outages.The current government under the leadership of Prime Minister Narendra Modi has identified infrastructure as one of its key areas for driving the economy and has stepped up spending in roads, railways and power. The efforts of the government are directed towards first removing current bottlenecks in the existing infrastructure and then building new infrastructure to support the next phase of growth. It is also working towards creating the right environment to facilitate private sector investments in infrastructure. In this note, we look at the government’s plan to push infrastructure forward.

Government the Catalyst for the Next Investment Cycle:

Efforts to address the severe infrastructure gaps in India were visible across ministries (exhibit 1) during FY16. A total of INR 1.17 trillion worth of projects were awarded during YTD FY16. The government has plans to spend INR 20.5 trillion (exhibit 2) in building infrastructure over the next 5 years.

Exhibit 1: Award of Infrastructure Contracts increased by 39% during the first 4 months of FY16 (INR Mn)

Award-of-Infrastructure-Contracts-

 

Exhibit 2: Planned Government Infrastructure Spend (next 5 yrs)

Planned-Government-Infrastructure-Spend

 

While planning capex and awarding projects is important, arranging funds and judiciously implementing the awarded projects is equally important. A serious intent from the government to address the bottlenecks for execution is visible in each of the segment.

Funding Constraints Getting Addressed:

Funding is one of the main challenges for execution of any infrastructure project. With low private participation (due to earlier policy uncertainty), the challenge of private funding currently remains. However, the environment for government funding is now becoming more conducive. Some of the factors enabling the government to channelise funds towards investment spend are;

  • Low global commodity prices driving down trade deficits
  • Sustained period of lower inflation and hence lower interest rates
  • Government policies bringing in more transparency and hence reducing pilferage and corruption (Helping subsidies to investment mix turning more favourable – Exhibit 3)
Exhibit 3: Subsidies to Investment Mix

Subsidies-to-Investment-Mix

 

Source: CMIE

The potential vehicles for funding part of the public contribution are shown in exhibit 4 below:

Exhibit 4: Potential Vehicles for Funding 5 Yr Infrastructure needs

Potential-Vehicles-for-Funding-5-Yr-Infrastructure-needs

 

The availability of such funding vehicles and the intent of the government to execute projects in a timely and planned manner will open up participation from other channels of funding including private and foreign direct investments. Positive surprises on tax collections could further augment the flows towards infrastructure build.

Besides the central allocation to build infrastructure, Indian states are also competing with each other to attract investments and are actively investing in infrastructure.  Spending by states on roads already exceeds that of federal spend (centre) shown below in Exhibit 6.

Exhibit 6: Spending by States on Roads

Spending-by-States-on-Roads

 

Exhibit 7: Capital Outlay by States (% y-o-y growth)

Capital-Outlay-by-States-

Source: CMIE

Roads

India sold 19.751 million vehicles in 2014-15. The investment in road infrastructure though has been abysmally low. Long traffic jams and slow movement of goods (average speed of trucks and buses on highways is only 30-40 km per hour2) is the result of the under investment in the sector.

Hence road construction is one of the top most priorities for the Indian government with a targeted spend of INR 5 tn over FY 16-20. The government has budgeted to increase the expenditure on road construction by 2.8 fold to INR 716 bn in FY16 from INR 250 bn in FY 15.

Cognisant of the legacy issues with the Build Operate and Transfer (BOT) model, the government took the financial/execution risk of most road projects and enabled the National Highway Authority of India (NHAI) to award road projects under the Engineering Procurement and Construction (EPC) method. NHAI awarded 2,300 Kms during first five months of FY16 against 3,100 kms during all of FY15.

The government has also taken a series of policy measures to rejuvenate the interest from the private sector. These measures included (i) adoption of new hybrid model (40 % cost of the project funded by the government) and flexibility to change the method (ii) project awarded only after 80% land availability and clearances (iii) easier environmental clearances (iv) Simplified approval processes and (v) 100% divestment allowed after 2 years.

Further, the government has taken steps to debottleneck and improve the financial viability of stalled projects, along with providing tax benefits and other incentives to attract fresh private sector interest. The combination of government expenditure and favourable policy initiatives and incentives is expected to improve the pace of road construction in India. The award of road construction projects by Indian financial year is shown as exhibit 8 below.

Exhibit 8: Award of Road Projects by NHAI(KMs)

Award-of-Road-Projects-by-NHAIKMs

India Avenue Opinion

India plans to spend over INR 20 tn (~USD 310 bn) on infrastructure over the next five years. The increased capital outlay has a strong multiplier effect.  As per an RBI study3, the impact multiplier for non-defence capital outlay is 1.81 X and peaks at 5.88 X in 5 years.  Besides the strong multiplier impact, the infrastructure push will lessen the burden on India’s financial sector which is plagued with bad debt issues related to the infrastructure sector. On the social side, the infrastructure push will provide employment to the rural population, 51% of which is dependent on manual labour4. This will also drive sustained rural consumption demand. Furthermore, Modi led campaigns such as “Make in India” and “Housing for All” will be easier to implement once infrastructure bottlenecks are addressed.

From a beneficial perspective, the following sectors and companies are well placed to take advantage of this secular theme.

Select Key Beneficiaries of the Infrastructure Push

Select-Key-Beneficiaries-of-the-Infrastructure-Push

Conclusion

The infrastructure investment cycle in India has commenced in earnest with the government being the main catalyst. Funding of projects is a key area for the success of any infrastructure build and has been secured well in advance. In addition, Indian ministers are taking unprecedented proactive steps to bridge the funding gap.  Each infrastructure related ministry is working hard to award and execute contracts in a time bound manner after ensuring basic factors such as availability of land and environmental clearances. Substantial progress has already been made in areas like roads, power, water resources and irrigation. After roads, Indian railways will drive the next big investment cycle.

—————————————-

1 Domestic sales trend, SIAM India;

2 India’s urban awakening: Building inclusive cities, sustaining growth, Mc Kinsey.

3 Size of Government Expenditure Multipliers in India: A Structural VAR Analysis : Rajeev Jain and Prabhat Kumar

4 Socio Economic Survey of India