TOTs On The Turf
With the private investment cycle, still a few quarters away to kick in, the much-awaited revival in infrastructure investment in the country is once again expected to come from the road sector – a little differently though this time around.
The Government of India sponsored road concessioning authority, the National Highways Authority of India (NHAI), seems to have finally worked through the details around monetising several of its public funded road assets. This has been done in the past in a piecemeal way under what’s called the Operate, Manage, and Transfer (OMT) model. The approach, however, has been short-term and on a case by case basis.
After several representations from the investing community and following internal deliberations, about 75 national highways that have been operational for a couple of years have been identified to be monetized. The identified highways, with an aggregate length of 4,500 kilometres and annual toll revenue collection of Rs 2,700 crore will be moved to the Toll Operate, and Transfer model, or what’s popularly referred to as the ToT.
It’s a proven and successful public-private partnership model globally.
For scale, this Indian road-sale process can be compared to the French toll road privatisation model, done more than a decade ago, where a similar kilometre length of road network attracted top global long-term investors. One didn’t mind working over Christmas to get a piece of the opportunity.
These highways have been identified by the NHAI based on their expectedly steady annual revenue, to attract pedigreed private institutional investors.
For instance, it’s noted that about half of these projects generate annual revenue of more than 10 percent of the incurred project cost.
Expectedly, this is a great opportunity for:
- Quality institutional investors to participate, thus bringing along not just their financial dollars but also the much-needed knowledge dollars - earned globally through some smart and successful investment experience.
- This single initiative is expected to generate significant cash for the NHAI through upfront payment of the concession fee by investors. Add optimal leverage through the successful Masala Bonds program or otherwise, and this will go a long way in facilitating greenfield construction and development of road infrastructure by the government.
- This will spur banks and financial institutions to lend to such de-risked assets managed by world-class private parties and developed by the NHAI. These should be enough to kick-start private investment in the sector – adding to the economy overall in a meaningful way.
As per the TOT framework from the NHAI, the right of collection of toll fees for the highways is to be assigned for a concession life of 30 years, with a minimum of 25 years assured and maximum of 40 years capped, to private parties against upfront payment of a lump sum amount called the concession fee.
Also, operations and management obligations of such projects shall be the responsibility of the concessionaire for the term of the concession. This is set to bring in best practices globally to the Indian road network in better collection of toll revenues, employing the latest technology and proven systems, and superior quality roads, where driving can be a pleasure for the private user while being economic and efficient for commercial users. There’s ample evidence of the willingness and ability of Indian users to pay for good quality infrastructure – especially since the per kilometre charge in India is a fraction of what it is in the developed economies.
A key parameter for determining the winner through a detailed competitive bidding process is the highest concession fee quoted. This concession fee is comparable to the “initially estimated concession value of authority” – which is to be an NHAI estimate of future cash flows from respective projects over the economic life of the concession discounted at Reserve Bank of India’s Bank Rate plus 3 percent. These days, the latter translates to 9.5 percent. It may be noted, however, that the interest rate in India has varied between 14.5 percent and 4.25 percent since the start of this century.
Secondly, the traffic numbers and growth assumptions to arrive at the concession value of authority shall be based on NHAI estimates.
Thirdly, the NHAI needs to ensure that the condition of the road upon handover to the private party is at least covered for routine maintenance.
Infrastructure investment is a distinct asset class, the core thesis of which is around investing in long-term inflation-linked cash flows.
Linking expected returns to short-term Bank Rate may not be the best way to assess the risk-return matrix for the sector. Instead, the right mix should have considered long-term expected inflation and long-term sovereign risk of the economy.
Secondly, historically speaking, NHAI’s cost and traffic estimates have varied widely from those undertaken by serious bidders leading to several instances of mismatch in terms of return expectation from the national highway projects right at the bidding stage itself – leading to aggressive bidding driven by myopic attitude by several Indian developers in the past. One hopes that a combination of these risks does not end up in a sub-optimal outcome of this great NHAI initiative in encouraging private investment in the sector.
After a company has won a bid, there has been, again historically, a big gap between what the NHAI’s obligations have been under the well-defined Model Concession Agreement and the actual practice – whether it’s the right of way, land acquisition, tree felling et al – leading to several unprofitable situations for the private developer/investor. Hopefully, the handover is smoother this time around with the roads handed over to the winning parties in good condition as per the concession agreement.
There are several attractive features of the proposed TOT like exclusivity, capacity augmentation, fair termination payment clauses.
Hopefully, past mistakes will not be repeated and that there’ll be a reason to demonstrate a successful case study out of this one major step from the government to attract private investment in the sector. A step that can have a significant impact in showing real growth in the core economy.
Ajay Jain is Managing Partner at Indusbridge Capital Advisors and has been a senior advisor to Brookfield and the World Bank’s International Finance Corporation.
The views expressed here are those of the author’s and do not necessarily represent the views of BloombergQuint or its editorial team.