New sectors emergence will aid in sectors diversification of EPC Players

Upcoming EPC players and infrastructure developers have expressed keen interest in core sub-sectors such as roads and highways, railways, power and buildings in the past. The government’s focus on infrastructure development to spur economic growth and its efforts to increase the private participation has provided EPC players an experience of project planning and execution across these core sectors of the industry. However, the growing needs of an emerging economy such as India, calls for continuous investment in infrastructure to sustain the long-term growth. Keeping this in mind, the new government has also laid down its agenda to build new-age infrastructure and this will be opening up a new areas of growth for EPC players.

The EPC players can play a vital role in supporting the government agenda of opening up the railways sector for private investment (DFC, suburban rail corridors, high-speed rail corridors, port connectivity projects, smart city projects with their own set urban infrastructure, increased focus on renewable energy primarily solar and wind, SEZs along the industrial corridors, high voltage power transmission lines, Water supply and water waste treatment systems for cities source.
Along with opportunities, diversification comes with its own set of risks. What the EPC players need to do here is that they should pursue it considering the synergy with their existing business and expertise. Every sector has its own issues, investments, profit margin and gestation periods.There is reluctance among the EPC players to participate because of the considerable competition in the civil infrastructure space particularly highways. Hence the only way here is that the players should continue to consider diversification into new sectors such as transmission etc. Most of the EPC players should now focus on diversifying into new sectors such as transmission etc. There are many new emerging sectors including railways, smart cities, port-based SEZ and renewable energy. This is a substantial investment, which holds the potential of completely transforming the infrastructure landscape of the country. Traditionally, the government remained solely responsible for the financing, implementation, operations and maintenance of infrastructure projects. However, to avoid the cost and time overruns and benefit from innovative project structuring and implementation strategies, it has started encouraging private sector participation in the development of infrastructure. Therefore, in the Twelfth Plan, the government set up the target of meeting around 48 per cent of the infrastructure spending by the private sector, as compared to 36 per cent contribution that was estimated in the Eleventh Five Year Plan. Given the enormity of the task in hand, the government has taken certain steps in the right direction by including take-out financing scheme, an Infrastructure Development Fund and Infrastructure bonds. It has also liberalised the ECB policy to enable the flow of foreign funds to the sector. However, solely arranging for finances will not help India achieve its infrastructure investment targets. Policy reforms that make the business environment investor friendly, ensure project delivery and enhance capacity to sustain development require equal importance. Few measures taken by the Government in recent years, which will continue to boost the EPC industry include Restructuring the tariff framework of ports, and seeking international cooperation from other countries for technical support in renewable energy to meet power generation targets, Allowing 100 per cent private sector stake in the development of 17 airports in 11 states, Entering MoUs between state governments and private players to setting up natural gas infrastructure, Allowing FDI of up to 100 per cent under the automatic route in townships, housing, built-up infrastructure and construction development projects. Recent development in the road sector in which the government decided to award more projects through EPC route in the next two-three years has helped improving the EPC sector outlook. Moreover, measures such as opening the railway sector completely for FDI except the operations, announcement of 17 greenfield airports and 24 domestic air cargo terminals, thrust on IWT and coastal shipping along with two greenfield major ports and metro rail projects in many cities, augurs well for the EPC sector. Although these key measures and initiatives taken by the government in recent past in quite promising for the EPC market, it should consider taking some more measures looking at the headwinds faced by the sector. The government should allow more tax benefits foe EPC players to encourage their participation in infrastructure building and other things which should be given preferences are permitting debt restructuring by bankers to the ailing EPC players in order to ease their finances and keep the project going and also to review the new land acquisition law and make it simpler for private players and last but not the least is to build a robust dispute resolution system.
The government need to look beyond the L1 mechanism and evaluate bids realistically. The stringent diligence during the bidding process will attract serious players and help maintain a long-term sustainable market. For instance, In Australia, the public sector comparator (PSC) is a hypothetical value calculated as the net current cost of a project if the government retains ownership and responsibility for construction. This has put in place a financial benchmark for quantitative assessment, against which tenders can be evaluated. In the Indian context, this can help the Government evaluate aggressive bids rather than grant L1 awards at arbitrary rates, which are not sustainable. Meticulously prepared scope and accurate cost estimation will strengthen project. The planning process of infrastructure projects needs to be initiated at the selection stage of the project itself. Projects should be selected on the basis of their socio-economic impact and economic viability. Adequate time and resources need to be allocated for the due diligence process. Evaluation of project’s techno-economic viability and inherent risks, along with preparation of accurate traffic related studies is imperative before its implementation. In addition, a clear transparent framework needs to put in place to evaluate and validate studies conducted. This would empower government agencies while awarding and approving infrastructure projects and provide them requisite autonomy along with responsibility. Merger and acquisitions: consolidation is on the horizon, several pure-play developers, who did not have a construction presence, are now seeking to secure their profitability in the construction business in addition to their own segment. The have been exploring possibilities to develop the necessary expertise either organically or inorganically. The sector has witnessed plethora of private equity transaction, particularly during 2006-2013 when around 76 deals got consummated.
Now when the markets have revived, the challenge will be the limited investor appetite contrasting to multiple companies available for listings/ investments. Furthers, the real financial position of companies has also deteriorated. On this deadlock situation created due to deteriorating balance sheets, the sector is bound to witness “consolidation” and emergence of foreign companies targeting Indian EPC companies as inbound transaction opportunities. Acquisitions will be on the radar to enable private equity players, who have invested in the sector, to exit and relieve the cash stress situation. Due to issues on cash availability, not many promoters have the ability to offer buy-back option to PE investors. On the contrary, promoters holding minority stakes due to multiple rounds of dilution may also consider existing business, particularly in situations where succession planning is not yet very clear. The current scenario offers an opportunity to cash-rich industrial groups, both domestic and international, who will be keen on majority/ complete buyouts to achieve scale of existing operations or enter the sector. The recent euphoria in the infrastructure sector is expected to drive the EPC opportunity and hence, the target players are ready to take the plunge. This may also enable transforming the current “fragmented” state of the industry into an “organised” one. Availability of long-term funding sources will ease the cash-crunch. The government needs to leverage new avenues of long-term financing to channel funds to the sector. To achieve this, it needs to develop a corporate bond market. These bonds can be listed on stock exchanges. Commercial banks and Non-Banking Financial Companies (NBFCs) should also play a key role in the bond market.
The participation of long-term institutional investors, including pension funds and insurance companies should also be encouraged. Such cash-rich investors require diversified assets to match long-term liabilities, but only can invest in assets with credit ratings of AA or above (and A+ with special approval). However, Special Purpose Vehicles (SPVs) undertaking infrastructure projects are unable to secure such high ratings. The government, therefore needs to provide security or guarantees to help them improve their ratings and attract these funds, Contracts need to be flexible and have easy exit norms in order to stimulate and increased flow of foreign and private equity. This will enable developers to re-arrange their portfolio’s and invest in additional projects. There is also an urgent need to introduce innovative modes of financing. Since most infrastructure projects have a long gestation period, it is important for the government to establish a dedicated funding institute (such as the Power Finance Corporation and Indian Railways Finance Corporation Ltd.), which caters to infrastructure segments, including roads, ports and airports, to provide tailor-made financing solutions to players in these sectors. In line with this, the government is also setting up a finance corporation with a corpus of 1,000 billion Indian Rupees, in partnership with Japanese investors, to fund projects in the road sector. It is high time to realise that the construction sector as a whole needs a helping hand to continue on its growth trajectory. Considering that the fundamentals of the sector’s growth are in place, timely and innovative initiation and implementation of policy measures can go a long way in facilitating its journey. The new government has announced its agenda to revive the growth of the sector. Its plans to adopt a multipronged strategy to simplify procedures, expedite ongoing projects and develop new ones. It is also likely to amend the recently enacted new land acquisition law to facilitate the process of land acquisition to make it less costly for developers. Implementing these measures will help it attract and retain investors’ interest by providing them with a level playing field.
Speaking about how the new sectors emergence will aid in sectors diversification of EPC players Atul Punj, Chairman, Punj Llyod Ltd said, “We have been actively involved in power sector, both thermal and nuclear. Despite various hiccups and challenges for the overall infrastructure sector in the past two years, we have been able to secure big orders as our strategy has always been to work in different geographies to ward off the risk of a particular region. Our proven expertise in the EPC domain ensures that we remain on track to maintain our consistent growth.”