Indian road sector: Performance review for Q3FY12 by ICRA

ICRA has come out with its report on Indian road sector. As per the research firm the slowdown in a few segments of the construction industry like irrigation and power, and the entry of new players has had the effect of raising the competitive intensity in the road sector.

The Indian road sector continued to face multiple challenges in the third quarter (Q3) of the fiscal year 2011-12 (FY2012) in the form of high interest rates, reduced availability of funds, execution slowdown, and increased competitive intensity. The award of new projects picked up during the last two quarters with the National Highways Authority of India (NHAI) awarding some mega projects. However, execution on many of the projects awarded over the last one year remained slow primarily because of delays in land acquisition, clearances, and financial closure. Projects that had the requisite approvals and funding reported healthy execution. While both developers and contractors1 are going through a rough phase over the last one and a half years, the challenges were higher in the case of companies that had recently entered the project development space. While developers with a portfolio of operational toll road projects were partly hedged from high interest rates due to inflation-linked toll rates, those with projects in the developmental phase faced challenges in achieving financial closure due to weakened project viability owing to high interest rates besides delays in land acquisition and approvals. Road construction companies continued to face long working capital cycles, which put a strain on their liquidity position and increased their indebtedness. The operating margins of several road contractors also witnessed pressure because of rising commodity prices (for fixed-price contracts) and idling of capacities as execution could not begin in many new projects. With NHAI increasingly awarding projects under the public-private partnership (PPP) model, engineering, procurement and construction (EPC) contractors have struggled to maintain their order-book growth and many have chosen to enter the PPP space by undertaking projects on build-operate-transfer (BOT) basis. The equity requirement for BOT projects, along with the weak capital markets that have made raising capital difficult, has increased their dependence on external borrowings. Further, many of these companies have raised debt at the parent or holding company level to meet the equity requirement in BOT projects thus significantly increasing the indebtedness at the group level. The slowdown in a few segments of the construction industry like irrigation and power, and the entry of new players has had the effect of raising the competitive intensity in the road sector. Consequently, despite the pickup in order inflow, many projects saw aggressive bidding during the first half (H1) of FY2012. However, with many developers facing difficulty in raising funds, some moderation in bidding activity was witnessed in Q3, FY2012. ICRA believes that with the pipeline of road projects to be awarded by NHAI and State governments remaining strong, there will be ample growth opportunities for both developers and contractors in the next 2-3 years. Also, key policy initiatives such as creation of Infrastructure Debt Funds and the catalysing role played by India Infrastructure Finance Company Limited (IIFCL) will assume greater importance in channelising the much needed long-term debt funds into this sector. IL&FS Transportation Networks Limited (ITNL): Order inflow during Q3, FY2012 remained subdued as no new NHAI order was won by the company primarily because of the aggressive bidding witnessed in these projects. While IRB

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