MANAGEMENT DISCUSSION AND ANALYSIS

Indian economic overview

India is set to emerge as the world's fastest growing major economy, ahead of China, as per the World Bank. The country's GDP is pegged to grow at 7.5% during 2015-16 and is expected to grow at a higher rate in 2016-17. The improvement in economic fundamentals has been accelerated by strong government reforms and declining commodity prices.

In the current year, the rupee values of exports and imports (of goods and non-factor services) are both projected to decline; the former on account of the sluggish global demand and the latter due to steep decline in international crude oil prices and other commodity prices.

Growth in industry is estimated to have accelerated during the current year on the strength of improving manufacturing activity. The Index of Industrial Production (IIP) showed that manufacturing production grew by 3.1% in April- December 2015, vis-a-vis a growth of 1.8% in the corresponding period of 2014-15.

Reserve Bank of India (RBI) also played an important role in determining the growth structure of India by reducing the Repo-rate by 25 basis points from 6.75% to 6.50%. Overall, the Indian economy performed well, compared to other economies of the world.

The Indian government has also taken a number of steps to improve business climate. Additional structural reforms to address the legacy impediments to growth, including measures to speed up infrastructure investment, could help to sustain the strong pace of growth in the coming years. The Government announced a record budgetary allocation of Rs. 2.21 lakh crore for infrastructure sector. The year also witnessed execution of new plans, with the government identifying first 20 smart cities under its 'Smart Cities Mission'. (Source: RBI, IMF, IBEF, Union Budget)

India's infrastructure segment

Infrastructure sector is a key driver for the Indian economy. The sector is highly responsible for propelling India's overall  development and enjoys intense focus from Government for initiating policies that would ensure time-bound creation of world class infrastructure in the country.

India infrastructure sector accounts for nearly 38% of India's industrial output. Infrastructure output in India went up by 6.4% on a y-o-y basis as on March 2016.

Total infrastructure spending is expected to be about 10% of Gross Domestic Product (GDP) during the 12th Five-Year Plan (2012-17), up from 7.6% during the brvious plan (2007-12). Increased impetus to develop infrastructure in the country is attracting both domestic and international players. Private sector is emerging as a key player across various infrastructure segments, ranging from roads and communications to power and airports.

Significant allocation to the infrastructure sector in the 12th Five-Year Plan, and investment requirement of US$ 1 trillion is expected to create huge demand for construction equipment in India. In the road's sector, the government's policy to increase private sector participation has proved to be a boon for the infrastructure industry with a large number of private players entering the business through the public-private partnership (PPP) model.

Roadways

India has the world's second largest road network - spanning 5.23 million kms.

National highways account for over 2% of the network, State highways account for over 3%, and Major District Roads (MDRs) and other roads together account for the remaining 95%.

In terms of traffic, about 60% of freight and 80% of passenger traffic is supported by the road network. National highways constitute only over 2% of the road network but carry about 40% of the total road traffic.

Further, India's road density is higher than the US and China with a road density of 148 km per 100 sq. km as compared to 66 km per 100 sq. km in the US and 39 km per 100 sq. km in China. In addition, the number of vehicles in India has been growing at an average pace of 10.16% per annum over the last five years.

Government initiatives

The total length of the National highways is expected to cross 200,000 km in next five years.

O This expansion will include 25,000 km under Bharat Mala Project and declaration of 75,000 km of State highways as National highways.

O NHAI along with MoRTH plans to award over 12,000 km of road projects in FY17.

The Government has set a medium-term target to achieve 2.0% of the GDP from Transport and Port sector.

Union Budget

In a major push on infrastructure, the central government on announced allocation of Rs. 2.21 lakh crore for road and rail sector in the Union Budget for the next fiscal - 2016-17.

An allocation of Rs. 97,000 cr for the roads sector has been announced which includes the Rs.19,000 cr allocated for rural roads under the Pradhan Mantri Gram Sadak Yojna.

Owing to the legacy of problems in the roads sector over 70,000 road projects had been stalled, locking investment of up to Rs.1 lakh crore. As per the budget, 85 per cent of stalled road projects are now back on track.

Growing private sector involvement The private sector is emerging as a key player in the development of road infrastructure in India As on March 2015, Indian has completed 100 PPP projects and 165 PPP projects were under progress. An investment of USD31 billion is expected in PPP by 2020 for national highways.

National highways

Under the 12th Five-Year Plan (2012-17), the government plans to develop 20 kms of national highways per day, which implies a total development of 7,300 kms per year

The size of national highway is expected to reach to 100,000 kms by the end of FY17 from 97,135 kms as on FY15

National Highways Authority of India (NHAI) plans to add around 50,000 km of road network in the next five to six years with an investment potential of nearly $250 billion (about Rs.  17 lakh crore).

The most critical issue of land has also been addressed by the government. It has been decided that 80% of the land should be available with the authority before awarding the project. This will act as a game-changer for the sector. NHAI has already acquired 9,000 hectares of land worth Rs.  20,000 cr.

NHAI remained committed to undertake several mechanisms to ensure we get more investment from the private sector. The introduction of hybrid annuity scheme, exit policy for build-operate- transfer developers, among others, are some of the measures taken by the government to resolve issues of the private sector.

The trend towards private participation increased after 2005, as several National Highway projects were awarded under the NHDP on a BOT basis. However, post 2012-13, reasons like the overall macroeconomic environment, aggressive bidding by the developers and lenders turning cautious made the PPP format unviable and unattractive. The Government has taken several initiatives to reform the entire situation with investments boast towards the road segment. The result of which is that during 2015­16, NHAI awarded 62 projects until February 2016 through a mix of EPC, BOT and HAM (Hybrid Annuity Model) formats.

O 52 EPC projects with length of 2,467 km worth Rs. 376.7 billion

O 7 BOT projects with length of 872.9 km worth Rs. 119.3 billion

O 3 HAM projects with length of 91.8 km worth Rs. 24.7 billion (another seven project were awarded during March taking it to a total of 10 projects worth Rs. 74.5 billion, having length of 377.1 km which have been awarded in 2015-16)

Introduction of Hybrid Annuity Model

While EPC remained the brferred mode for highway project development in 2013-14 and 2014-15, it suffered from the unavailability of financial resources. This is what led the Ministry of Road Transport and Highways to introduce an alternative mode of project delivery to sustain the pace of implementation of highway projects through optimum utilisation of available financial resources. The hybrid annuity model is a mix of BOT toll and EPC models.

Under this model 60% of the total project cost to be contributed by developer and balance 40% to be invested by the Government during construction period in five equal installments linked to project milestones. The developer will also receive O&M payments bi-annually along with annuity payments. All project payments are inflation indexed

The Hybrid Annuity Model involves lower equity outlay upfront and substantially higher revenue certainty. Because of the huge planned government outlay in the space and lower risk participation models, international players are expected to show greater readiness to get involved in this segment. It will also see new and small companies bidding for highway projects instead of focusing on EPC opportunities. Lending for HAM projects would be comparatively easier as there will be no traffic risk associated. Lenders would be comfortable as the execution risk would be less for contractors as the bidding will roll out only after 80% land is available. Finally, the introduction of the model is expected to result in speedy completion of projects.

Opportunity

O With focus on assured execution of road projects, over 80% of the future projects are proposed to be awarded under EPC and Hybrid Annuity Model (HAM) routes.

O For FY17, MORTH and NHAI have lined up 40% of total road projects to be awarded on HAM requiring an investment of Rs. 600 billion.

O MORTH and NHAI have already identified 19 road projects, to be awarded in FY17, entailing an investment of Rs. 181.2 billion and length of 1,002 km

OMT model  Since 2012, there is increased focus on OMT marked by entry of specialized players in the market.

As a result, a number of OMT projects have been identified and awarded both at the national and state level. Till date, projects covering over 2,760 km have been awarded by the NHAI.

The maximum length was awarded during FY10 and FY11 following which the segment witnessed a lull with no projects awarded during FY12. Around 80 agencies responded to a combined request for quotation (RFQ) for 20 projects issued by the NHAI during FY13, and 54 agencies responded to a combined RFQ for eight projects during FY14.

The number of projects bid out by NHAI and State highway authorities on an OMT basis is expected to increase from the 14 and 34 projects respectively in 2013-14 to 30-32 and 55-60 projects respectively in 2017-18.

Opportunity

As per CRISIL, a total of 15,150 km of OMT opportunity is expected to come up. Of this, about 5,150 km will come from contracts already awarded under the NHDP, while 10,000 km is expected to come from future contracts.

The market opportunity is expected to grow 2.4x from 23.8 billion in 2013-14 to 57.9 billion in 2017-18.

The OMT market will be primarily driven by increasing number of BOT players exiting their current projects, creating opportunity to contract these projects on an OMT basis; and rising penetration of OMT stretches in state highways, especially in Karnataka, Bihar and Madhya Pradesh. These states have even outsourced the operation and maintenance (O&M) and tolling activities to private players.

O Karnataka - The KRDCL has identified 8 OMT contracts worth Rs.  6 billion to cover 840 km.

O Bihar - The BSRDC has identified OMT contracts to cover 1,800 km of State highways, 4,000 km of major district roads and 675 km of state roads under Bihar State Highways Project.

O Madhya Pradesh - The MPRDC has identified 12 projects worth Rs.  450 million to be undertaken on an OMT basis.

Toll collection

This is a form of road pricing typically implemented to help recoup the cost of road construction and maintenance. The primary purpose of a toll collection contract has been to provide private players with the opportunity to toll highways, construction work of which has already been completed.

Today, there is a growing emphasis on upgrading to electronic toll collection system through RFID technology.

Opportunity

Tolling market is expected to increase 1.4 times from 12,150 km in 2012-13 to 16,900 km by 2017-18 primarily driven by rising penetration of tolling stretches in State highways, especially in Karnataka, Rajasthan and Haryana and increasing number of stretches being awarded by NHAI on tolling basis.

The number of projects bid out by NHAI and State Highway authorities on tolling basis is expected to increase from the 120 and 102 projects respectively in 2013-14 to 145-150 and 140-145 projects respectively in 2017-18. This is expected to enhance the market opportunity by 1.8x to 81.7 in 2017-18

outlook

A number of initiatives undertaken in 2015 that have the potential to significantly impact and influence activities and investments in the infra sector in 2015-16, include:

O national investment and infrastructure Fund:

The NIIF, proposed in the Union Budget 2016, demonstrates the Central Government's objective of creatively using off-budget resource-raising measures. The Cabinet has cleared an initial equity corpus of Rs. 20,000 crore which can be leveraged extensively. It is likely to be set up as a 'fund of funds' with three buckets—stressed projects, renewables and general investments—with the Central Government holding a 49% stake.

O Roads and roadways: The Ministry of Road Transport and Highways has instituted a bouquet of practical and remedial measures to rejuvenate the beleaguered roads sector. These include an emphasis on EPC projects and the introduction of the hybrid annuity model. Furthermore, provisions like top-ups for financially-stressed developers, an easier exit policy, concession period elongation option for delayed projects have taken road construction rate from a lowly 2 kms per day a few years ago to around 16 kms per day at brsent (an estimated 30 kms per day over the next two years).

O smart cities and AMRuT: In June 2015, the Central Government unveiled three flagship schemes—the Smart Cities Mission, AMRUT (Atal Mission for Rejuvenation and Urban Transformation) and the Pradhan Mantri Awas Yojana. While 2015-16 saw a heightened awareness of urban rejuvenation issues, 2016-17 is expected to see an upsurge in urban investments.

Growth drivers

O Strong demand and policy support: In 2015-16, there has been a significant rise in two-wheeler and four-wheeler vehicles with increasing freight and strong trade flows between states. (In 2015-16, passenger vehicles have increased by 2.79 million units, Commercial vehicles by 0.69 million units and 2-wheelers by 16.5 million and 3-wheelers by 0.54 million. Thus, a total increase of 20.47 million units has been increased from 2014-15. ) This has invited policy support and increased investments from the Central Government.

O Increasing road traffic: The share of the total traffic via roads in India has grown from 13.8% to 65% (freight) and from 32 to 80% (passenger) over 1951-2015. Increasingly amenable vehicle loans have also driven the demand for the road traffic.

O National Highway construction: A mere 179 kms of roads were built during the Third Five-Year Plan period this increased to 10,228 kms during the Eleventh Five-Year Plan period. Another 36,500 which is expected to be added in the twelfth

O Infrastructural development: The infrastructure sector's total share in bank funding rose from 3.74% in 2002 to about 8.7% in 2016. It is estimated that total spending on infrastructure would reach USD19 billion during FY12-17.

O Governmental initiatives: There are various initiatives that have been undertaken by the Government of India namely the National Highway Development Programme, Pradhan Mantri Gram Sadak Yojna and Central Road Fund Act (2000), and other initiatives like viability gap funding, among others to boost growth.

Government reforms to boost road sector projects

Government's thrust on Fast-tracking Road Projects

O Ordinance to amend the New Land Acquisition Act.

O Committee on easing environmental clearance norms and  introduction of an online portal for environment and forest clearance.

O Central Government introduces new bidding strategy for National highway projects.

O Faster dispute resolution, including setting up of the Society for Affordable Redressal of Disputes by NHAI.

O Fast - tracking road projects in border areas and bringing BRO under the Ministry of Defense.

Finance Related Measures

O RBI's permission to NBFCs to restructure project loans.

O RBI's permission to banks to refinance project loans through full or partial takeout financing.

O 5/25 scheme for easing financial brssure on the developers of new infrastructure projects with long gestation projects. The scheme allows banks to extend long- term loans of 20 - 25 years to match the cash flows of projects, while refinancing them every five or seven years.

O Further, lenders can refinance existing exposures and change repayment schedule without classifying exposure as "Restructured".

O RBI's classification of lending exposure to toll road projects as "Secured" to the extent assured by the project authority, leading to easing of provisioning norms & lower pricing of debt.

O Issuance of long-term bonds by commercial banks, which would be excluded from CRR/SLR requirements.

O Issuance of Maharaja Bonds by IFC to raise funds for the infrastructure sector.

O Issuance of bonds by multilateral financial institutions eligible for repo in corporate debt securities.

O The Central Government is also in the process of finalizing a mechanism that will allow private equity firms and sovereign wealth funds to invest in highway projects

Initiatives to Revive the Road Sector

O Shift towards cash contracts.

O Regulatory clearances to ~ 80 stuck projects and railway clearances for 85 projects with railway over-bridges.

O Golden handshake with developers for 34 projects worth ~ USD 5.5 billion.

O CCEA has approved a combrhensive Exit Policy Framework that now permits concessionaires /developers to divest 100% equity, two years after completion construction. This will help revive private participation.

O In order to revive projects stuck due to lack of funds, NHAI has been authorized to provide funds to such projects from its overall budget/corpus as loans at a br-determined rate of return.

O Plans to allow international arbitration for dispute resolution

Ordinance on new Land Acquisition Act

Easing of the land acquisition process particularly for PPP projects. However, the developers would be required to pay a higher amount for acquiring land.

O NHAI will not award any road project unless it possesses 80% of land for the BOT projects and 90% of land for the EPC projects.

O MoRTH& NHAI plans to award ~ 12,000 km in FY17, respectively. NHAI has already acquired ~ 60% of land required for road projects which MoRTH (including NHAI) plans to award in FY17.

O Currently, the authorities (NHAI/MORTH) are evaluating development of rigid pavements (cement concrete) instead of bituminous earlier, to ensure minimum maintenance over next 15 years.

Easing of Environmental Clearance Norms, Online portal for Environment and Forest Clearance

De-linking of forest from environmental clearances. During May-December 2014, the MoEF has given environment clearances to ~ 190 projects worth Rs. 6.3 trillion. This includes 48 infrastructure projects, including highway projects worth Rs. 950 billion.

RFID-based Toll Collection System

The implementation of ETC (Electronic Toll Collection) method of tolling to enable faster transit at toll plazas and seamless travel across tolled roads.

Rescheduling of Premium Payments

Provide relief to the project developers by rescheduling of brmium payments. During FY15 ~ 11 projects have been cleared by the NHAI.

Constitution of SAROD by the NHAI

Quicker redressal of disputes at reasonable arbitration fee and miscellaneous expenditure. As of December 2014, ~ 60% of the NHAI-awarded contracts worth Rs. 272.1 billion were involved in disputes

Bringing BRO under the Ministry of Defence

Expedite road construction work in the border areas due to reduced procedural and inter-ministerial delays.

Setting up of NHIDCL

Upgradation of road infrastructure in the north-eastern region and other strategic areas of the Country on a priority basis. This will lead to a significant EPC opportunity.