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The past year has been challenging for the economy – and for your Company –as domestic savings and investments have plummeted, and private investment in infrastructure came to a virtual standstill. We are at a crossroads with respect to private participation in infrastructure, which marks a natural time for reflection. Why are we in this situation?
Over the past nine or ten years, we have seen a phenomenal build–up of infrastructure driven by the private sector. Of course, the Indian mobile telecommunication revolution is well known, but the magnitude of the private footprint in other infrastructure sectors is no less significant. Today, over 85 percent of all container traffic is handled through private ports or concessions, compared with less than 25 percent in 2003, and these ports are as efficient as ports in Singapore and Antwerp. More than 60 percent of the dry bulk traffic is currently handled by private port operators. Around 60 percent of the passenger air traffic and 70 percent of the cargo air traffic is handled by private airport concessionaires. By far, the toughest for private sector entry has been the power sector and here too there has been extraordinary activity. Private power plants have added around 65,000 MW of generating capacity – that is almost one–third of total generating capacity in the country. Another 52,000 MW of private thermal capacity is under construction. It is no small feat to have such a massive build–up of infrastructure in so short a time.
In fact, the torrid pace of private sector activity has outstripped the requisite planning, administrative and regulatory capacity. We must not forget that private participation in infrastructure entails more sophistication in Government management and oversight than direct Government implementation of infrastructure projects. It requires skills in Government agencies for structuring contracts, ensuring a level playing field, and monitoring performance of the private operator. It also requires clear delineation and delivery of responsibilities of both the private and public sectors, and the latter which, in turn, needs seamless co–ordination amongst the many Government bodies concerned, as well as between the public and private sectors. The transparency and speed of Government decision–making assumes great importance and the predictability and stability of decisions is critical. The crux of the matter is that the Government has had difficulty ramping up capacity rapidly enough to handle all these aspects, as the private sector took off with unprecedented enthusiasm, even aggression. We are now in a period of assimilating the implications of this mismatch.
In the power sector, for instance, the inability of the public sector to supply fuel at the pace at which private power generation capacity has been growing has led to significant unutilised capacity. The option of importing fuel raises the costs of power generation substantially and is beginning to affect the financial viability of the generators, in the absence of a mechanism to pass through the higher cost to end consumers. The mechanism of pooling domestic and imported coal prices is stuck for want of consensus on burden–sharing across stakeholders. Further, delays in resolving the impasse will have a domino effect throughout the chain, with financiers being hit and investors staying away, leaving consumers to face mounting power shortages. Inaction or delayed action will additionally dent the risk appetite of private investors.
Another case is the road sector. Several road projects are caught in construction delays, in part caused by land acquisition issues and delays in environmental clearances, and there are a large number of contractual disputes with various agencies, including the NHAI. At the same time there has been a build–up of receivables. All this has led to a logjam in the sector. While the Government may not have met all its obligations, the private sector too has not always behaved responsibly, as for instance, we have witnessed irrational bidding in some PPPs. The need of the hour is to learn from past mistakes to improve the interface between the public and private sectors.
Increased scrutiny from the judiciary, CAG and media led to further Government indecision and inaction. Their role and the Supreme Court's cancellation of 2G telecom licences, crackdown on iron ore mining, probe into coal block allocations and independence of investigation, though disruptive in the short–term, should hopefully lead to a culture of operating under greater transparency and a robust, sustainable framework that allows the public sector to work with the private sector.
This is a period to re–group and fortify the administrative system and processes. There are already signs of pragmatic problem–solving. For instance, although not yet accepted by the Government, the NHAI is attempting to re–schedule premium payments while maintaining their same net present value, in an effort to relieve the cash crunch of developers. The Government has initiated some steps to reduce bottlenecks in the execution of infrastructure projects. The Cabinet Committee on Investment (CCI), headed by the Prime Minister, has made some headway in fast–tracking key projects. De–linking environment and forest clearances in linear projects, viz. roads, railways and transmission lines, has cleared the way for work to start on non–forest areas once the environment clearance has been granted.
The CCI has also facilitated inter–ministerial dialogue, which has helped clear an NTPC project in Jharkhand that was in a state of limbo for more than ten years because of disputes between the Ministries of Coal and Power. This will inject some liquidity to contractors, equipment suppliers and so on. The CCI has facilitated security clearances in gas and oil blocks and for ports as well. It has also introduced a distinction between expansion and new greenfield projects, making the approval requirements less onerous for projects which have gone through the clearance process earlier, such as for coal mining and widening of national highways. We can hope that such measures will create the necessary traction for more sustained reforms and revitalize investor confidence in the sector and the economy.
In fact, there may be some green shoots emerging. Although uncertainty remains in the aftermath of the cancellation of 122 telecom licenses, this could mark the beginning of a move towards consolidation and revival of the sector once the ambiguity with respect to re–farming of spectrum is resolved. Moreover, with effective tariffs increasing as promotional offers are reduced, the financial health of telecom operators is gradually improving. Another positive development is that corrective measures are being taken by several of the crisis–ridden power distribution companies (discoms), with an upward revision of tariffs. A number of states have taken up the Financial Restructuring Package offered by the Central Government, which entails undertaking reforms by states and discoms. It is notable that, amongst the late starters, Bihar has now made significant strides in power sector reforms. The Bihar State Electricity Board has not only unbundled into functional entities, but the State Government has also initiated private sector participation in the power distribution network, having already awarded the contracts in two of the 12 identified cities.
Notwithstanding the regulatory uncertainties, policy issues, execution challenges and eroding confidence amongst the business community, your company remained focused on risk management and responded well to the emerging challenges and opportunities with the right combination of caution and agility. You will be happy to note that even in this milieu of a slowing investment cycle, IDFC emerged as the second highest private issuer of domestic debt. IDFC has been ranked 3rd globally in PPP deals and 4th in Asia in overall project finance loans. For the previous Annual Report, IDFC received the silver shield for excellence in financial reporting from ICAI. In addition, IDFC has become the first Indian Financial Institution to adopt the Equator Principles, a framework for managing environmental and social risk in project finance. Our contribution to nation building continues with advisory and advocacy, working towards improving the investment environment. This year, we have also engaged with the Ministry of Rural Development to prepare a comprehensive report, assessing rural development and infrastructure. The flagship India Infrastructure Report for the first time focused on social infrastructure in the 11th edition by covering education, while the forthcoming edition will focus on the health sector.
Yet, all this uncertainty and volatility has raised strategy–related issues for your Company. It will take some time for the complex issues facing the infrastructure sector to be addressed and for the confidence of private developers and investors to be restored. Until then, growth could be a challenge for your Company. In order to mitigate risk and secure a more stable growth path, diversification of our asset base and liability profile has become a strategic priority. We will pursue new avenues for lending and financing and actively explore entry into banking. The goal is to help us service our existing clients better through a wider array of products, as well as to expand the footprint of our activities beyond the infrastructure sector. The Board had given in–principle approval for your Company to apply for a banking licence and accordingly, we have submitted our application to RBI.
In light of macroeconomic constraints and unfinished reforms, we need to look to the future with cautious optimism in realising India's huge potential. I can assure you of IDFC's continued strong and unwavering commitment to enhancing shareholder value while staying firmly focused on sustainable and inclusive development.
RAJIV B. LALL
July 1, 2013