The worry with financials of National Highways Authority of India (NHAI) is because of the scale and speed at which the NHAI debt has risen. As reported in Moneylife, NHAI’s debt soared
from Rs40,000 crore in 2014, to Rs1.78 lakh crore by 2019. The estimated contingent liabilities suggest that the figure could be close to Rs5 lakh crore. The reasons why the balance sheet expanded lie in the way NHAI's projects are structured.
Project Structure Leads to Bigger Balance Sheet
Till date, NHAI has used different types of project contracting methods.
Under the build, operate, transfer (BOT) method, the contractor incurs all the costs and creates all the infrastructure for the specified roads. The investment is recovered in the form of tolls. Under this model, private players bore the entire cost of construction (road and allied infrastructure) and operation but not land acquisition. This kept the NHAI balance sheet quite lean. However, because of cost escalations and below-par toll collections, private players were reluctant to bid for these projects.
In response, NHAI started awarding contracts on the annuity method, also called BOT-Annuity. This method is similar to BOT method, i.e., the contractor invests in building the road and allied infrastructure. However, in return, the contractor gets specific annual payments from NHAI (in lieu of tolls) and toll is collected by NHAI's contractors. Thus, NHAI takes the toll collection risks and, therefore, the potential returns on the investments. (Sharp Moneylifers must have already sat up!)
Another simplistic method used is engineering, procurement and construction (EPC) contracting. Here everything is fixed and the cost is paid by NHAI directly to the contractors based on the successful bid. The terms of payment may differ from contract to contract (lump-sum vs equated payments). The returns from this project are entirely the responsibility of NHAI.
Recently, NHAI has shown a preference for the hybrid annuity model (HAM). As the name suggests, it is a mix of EPC (40%) and BOT (60%) models. Here the cost of construction (road and allied infrastructure) and operation is shared between NHAI (40%) and private contractor (60%). The private party is paid in specific annual payments. Even in this method, the returns from the project are entirely the responsibility of NHAI.
If NHAI had functioned exclusively on the first BOT model, its balance sheet would have reflected mostly the cost of land acquisition. In the BOT-Annuity model, NHAI bears the risk of land and annual payments. In the EPC method, NHAI has to bear all the costs on its own balance sheet. The HAM model requires NHAI to bear the cost of land, 40% of construction costs and specific annual payments.
But Big Balance Sheet Is NOT ALWAYS a Problem
If the big balance sheet is translating into earnings, then big balance sheet is not a problem. In an ideal case, each project viability is understood before the project is flagged off. Therefore, NHAI projects should generate enough tolls to sustainably service the debt and leave a surplus to invest in new projects. Thus, ideally, NHAI will generate its own revenue to pay off its debt and finance new road projects. In such an ideal scenario, infrastructure will continue to improve as money is not a constraint. However, we are not in an ideal case because of many reasons.
First, the NHAI is spending too much to build these roads, may be because of cost escalations as against the budgeted amounts.
Second, NHAI is building too many roads. The lack of infrastructure, the economic stimulus provided by infrastructure investment in a slow global environment, and the need to improve economic efficiency pushed this government into aggressive road building.
Third, NHAI is not earning as much from earlier, stable projects to pay off the loans taken earlier. This is because traffic is not as much as predicted and tolling losses are high for various reasons that we discussed in previous articles.
Fourth, because NHAI's road assets are not performing well, they cannot be sold either through the Infrastructure Investment Trust (InvIT) or through the Toll Operate Transfer (TOT) model. Thus, there is no way to get the 'completed' projects off its balance sheet.
The net result is that its balance sheet is growing faster than is comfortable.
The Real Problem Is Different
Per se, the size of NHAI balance sheet is not a problem. The problem with NHAI is not its ability or intention to pay; it has both. It also helps that NHAI is a government agency and not a separate listed company. The loans on NHAI's books are, technically, loans of the government. The assets (lands, roads and road infrastructure) belong to the government. Thus, technically, there should not be any problem.
With assets performing below expectations, NHAI is forced to keep them on its books. With such a financial overhang, NHAI’s size may affect its ability to invest profitably in new projects. It may, thus, affect future infrastructure development and financial viability of NHAI itself.
NHAI, being an infrastructure company, will not be as profitable as a private company. However, it should not be a capital sink for taxpayers' money. We expect NHAI to be self-sustaining. The real problem is the return on the investments that NHAI is making. The solution is simple in concept but tedious to implement. NHAI needs to make its projects perform better. We will discuss how, in the final part of our article.
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(Rahul Prakash Deodhar is a private investor and Advocate, Bombay High Court. He can be reached at [email protected], on twitter at @rahuldeodhar or at his website www.rahuldeodhar.com.