World-class infrastructure creates an enabling environment for growth. In India, there is now a considered response in the form of practical and creative solutions to infrastructure problems.
Over the last decade, infrastructure growth in India has been propelled by Central and State Governments and aided by a host of private investments from within and outside the country.
Today, governments have a greater need for capital for infrastructure, and private investors have a substantial amount of capital for investment.
The result has been a convergence of public need and private capital. More private capital is flowing into infrastructure, more public-private partnerships to build and operate infrastructure are being formed, and more private investment transactions in infrastructure are being finalised.
It is estimated that the infrastructure sector will require an investment of $320 billion during the next five years.
‘Facilitating PPPs for accelerated infrastructure development in India’, a report released by the Department of Economic Affairs (DEA), Ministry of Finance, and Asian Development Bank (ADB), highlights the Government’s commitment to raising the investment in infrastructure from 4.7 per cent of GDP to around 8 per cent.
Given the government’s limited resources, the emergence of Private-Public Partnerships (PPPs) is seen as a sustainable means to bridge the infrastructure funding gap. A PPP cell has been set up in the DEA to administer various proposals and coordinate activities to promote PPPs.
Mechanism
In general, the term PPP broadly means a partnership between the government and the private sector to come together for undertaking a specified project. The project would involve identifying sources for funding, designing, implementing, operating and managing the project.
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In some cases, part of the financing is undertaken by providing capital subsidy for the project, and is partly arranged by the private party with the operations being run jointly or under a contractual arrangement with any other party.
And in another form of financing, the entire capital investment is mobilised by the private sector on the basis of concession agreement signed with the government and levy of user charges to pay for such investment.
Typically, enterprises specialising in different areas form a consortium to bid for projects. For the execution of a project, consortium members form a Special Purpose Vehicle (SPV) to build and operate the asset. The SPV finances the construction of the asset/infrastructure facility through a combination of debt-equity, which is serviced from the revenue flows from the operation and maintenance of such facility.
Statistics
In India, PPPs are on the rise. According to the joint DEA-ADB report, as of December 2006, as many as 86 PPPs were awarded, with road and port projects dominating in both number and size. An estimated 500 PPP projects valued at Rs 34,000 crore are ‘assumed’ to in operation in 12 States and three central agencies.
The World Bank statistics show that during the 15-year period from 1990 as much as $51 billion of public and private investments were pumped into various projects. All this could not have been possible without the Government’s commitment to this model.
For instance, of late there has been more transparency in the entire process, negotiations have been replaced by competitive bidding, model concession agreements have been drawn up at least for highways and major ports, tariffs and user fees have been restructured in some instances.
PPPs can help address both national interest and that of the private sector. The PPP model is intended to allocate risk to the party best able to manage it at least cost.
Under most PPP projects, stronger incentives are provided to the parties for timely execution of services on a continuous basis.
Advantages
Furthermore, by transferring responsibility for providing public services to the private sector, government officials act as regulators and focus upon service planning and performance monitoring instead of the management of the day-to-day delivery of public services.
In addition, by exposing public services to competition, PPPs enable the cost of public services to be benchmarked against market standards to ensure that optimum value for money is achieved. PPPs often allow the public sector to translate upfront capital expenditure into a flow of ongoing service payments. This enables projects to proceed when the availability of public capital may be constrained because of budget constraints or other issues.
While there are significant advantages, it must also be recognised that attracting private capital through the PPPs or any other route is neither easy nor is it automatic. The need of the hour is to ensure that irrational policy measures do not take a toll on the pace of acceleration of reforms.
Key challenges
There is a dire need for standardisation and coordination which is required in different stages and sectors of infrastructural growth. Projects in various sectors, such as highways, ports, water, power, etc., are spread under the management and control of several ministries. This leads to lack of coordination between them. Standardisation is also a major issue which hinders day-to-day operations, as in the case of Central and State level agencies which use different formats, bidding procedures, agreements for same type of projects, making the situation more complex.
Government agencies need to adopt the best practices which have already been evolved in other sectors or by other agencies, thereby cutting down on time and cost inefficiencies in the project preparation and bidding process.
Though 100 per cent Foreign Direct Investment (FDI) is permitted under the automatic route in various infrastructure sectors, the existing regulatory guidelines require SPVs established for infrastructure development to obtain prior approval of the Reserve Bank of India to raise External Commercial Borrowings (ECBs) to finance rupee expenditure cost of such projects. Further, corporate law requires mandatory transfer to statutory reserves before declaration of any dividend, thus resulting in cash trap for investors.
To stimulate private sector investment in infrastructure sector, a 10-year tax holiday in the block of 15-20 years has been provided to the undertaking/enterprise which develops/operates/maintains specified infrastructure facilities. However, such undertakings/enterprises are subject to Minimum Alternate Tax (MAT) on books profits adjusted for specified items, resulting in demand of higher grants from Government, lowering of IRR for the infrastructure project.
This is in contrast to non-levy of MAT on companies engaged in development of Special Economic Zone (SEZ). Accordingly, abolishment of MAT can provide further impetus to private sector investment. Also companies engaged in development of SEZs are exempted from levy of Dividend Distribution Tax (DDT). Similar exemption to infrastructure projects under the PPP model would help boost investment in this sector, as it helps in increasing the return on capital invested.
On the indirect tax front, Custom concessions have been provided in respect of power projects, roads, and ports.
Global lessons
The joint DEA-ADB Report states that India can learn lessons from Mexico, Chile, the US and the Philippines. Global lessons include: Need for detailed policy and planning; strategic planning and management which could include using external technical and financial advisers; optimum allocation of risks between parties; adequate protection to lenders against non-commercial risks relating to force majeure, regulatory changes, contract termination, etc; and avoiding renegotiations and midway changes to save costs and delays.
To encourage more PPPs in infrastructure projects the right institutional set-up must be created, best practices adopted in the project bidding and awarding process, tax inefficiencies must be removed and the regulatory structure liberalised to ensure smooth flow of international capital.
Over the last decade, infrastructure growth in India has been propelled by Central and State Governments and aided by a host of private investments from within and outside the country.
Today, governments have a greater need for capital for infrastructure, and private investors have a substantial amount of capital for investment.
The result has been a convergence of public need and private capital. More private capital is flowing into infrastructure, more public-private partnerships to build and operate infrastructure are being formed, and more private investment transactions in infrastructure are being finalised.
It is estimated that the infrastructure sector will require an investment of $320 billion during the next five years.
‘Facilitating PPPs for accelerated infrastructure development in India’, a report released by the Department of Economic Affairs (DEA), Ministry of Finance, and Asian Development Bank (ADB), highlights the Government’s commitment to raising the investment in infrastructure from 4.7 per cent of GDP to around 8 per cent.
Given the government’s limited resources, the emergence of Private-Public Partnerships (PPPs) is seen as a sustainable means to bridge the infrastructure funding gap. A PPP cell has been set up in the DEA to administer various proposals and coordinate activities to promote PPPs.
Mechanism
In general, the term PPP broadly means a partnership between the government and the private sector to come together for undertaking a specified project. The project would involve identifying sources for funding, designing, implementing, operating and managing the project.
• Check out our Yearender Special
In some cases, part of the financing is undertaken by providing capital subsidy for the project, and is partly arranged by the private party with the operations being run jointly or under a contractual arrangement with any other party.
And in another form of financing, the entire capital investment is mobilised by the private sector on the basis of concession agreement signed with the government and levy of user charges to pay for such investment.
Typically, enterprises specialising in different areas form a consortium to bid for projects. For the execution of a project, consortium members form a Special Purpose Vehicle (SPV) to build and operate the asset. The SPV finances the construction of the asset/infrastructure facility through a combination of debt-equity, which is serviced from the revenue flows from the operation and maintenance of such facility.
Statistics
In India, PPPs are on the rise. According to the joint DEA-ADB report, as of December 2006, as many as 86 PPPs were awarded, with road and port projects dominating in both number and size. An estimated 500 PPP projects valued at Rs 34,000 crore are ‘assumed’ to in operation in 12 States and three central agencies.
The World Bank statistics show that during the 15-year period from 1990 as much as $51 billion of public and private investments were pumped into various projects. All this could not have been possible without the Government’s commitment to this model.
For instance, of late there has been more transparency in the entire process, negotiations have been replaced by competitive bidding, model concession agreements have been drawn up at least for highways and major ports, tariffs and user fees have been restructured in some instances.
PPPs can help address both national interest and that of the private sector. The PPP model is intended to allocate risk to the party best able to manage it at least cost.
Under most PPP projects, stronger incentives are provided to the parties for timely execution of services on a continuous basis.
Advantages
Furthermore, by transferring responsibility for providing public services to the private sector, government officials act as regulators and focus upon service planning and performance monitoring instead of the management of the day-to-day delivery of public services.
In addition, by exposing public services to competition, PPPs enable the cost of public services to be benchmarked against market standards to ensure that optimum value for money is achieved. PPPs often allow the public sector to translate upfront capital expenditure into a flow of ongoing service payments. This enables projects to proceed when the availability of public capital may be constrained because of budget constraints or other issues.
While there are significant advantages, it must also be recognised that attracting private capital through the PPPs or any other route is neither easy nor is it automatic. The need of the hour is to ensure that irrational policy measures do not take a toll on the pace of acceleration of reforms.
Key challenges
There is a dire need for standardisation and coordination which is required in different stages and sectors of infrastructural growth. Projects in various sectors, such as highways, ports, water, power, etc., are spread under the management and control of several ministries. This leads to lack of coordination between them. Standardisation is also a major issue which hinders day-to-day operations, as in the case of Central and State level agencies which use different formats, bidding procedures, agreements for same type of projects, making the situation more complex.
Government agencies need to adopt the best practices which have already been evolved in other sectors or by other agencies, thereby cutting down on time and cost inefficiencies in the project preparation and bidding process.
Though 100 per cent Foreign Direct Investment (FDI) is permitted under the automatic route in various infrastructure sectors, the existing regulatory guidelines require SPVs established for infrastructure development to obtain prior approval of the Reserve Bank of India to raise External Commercial Borrowings (ECBs) to finance rupee expenditure cost of such projects. Further, corporate law requires mandatory transfer to statutory reserves before declaration of any dividend, thus resulting in cash trap for investors.
To stimulate private sector investment in infrastructure sector, a 10-year tax holiday in the block of 15-20 years has been provided to the undertaking/enterprise which develops/operates/maintains specified infrastructure facilities. However, such undertakings/enterprises are subject to Minimum Alternate Tax (MAT) on books profits adjusted for specified items, resulting in demand of higher grants from Government, lowering of IRR for the infrastructure project.
This is in contrast to non-levy of MAT on companies engaged in development of Special Economic Zone (SEZ). Accordingly, abolishment of MAT can provide further impetus to private sector investment. Also companies engaged in development of SEZs are exempted from levy of Dividend Distribution Tax (DDT). Similar exemption to infrastructure projects under the PPP model would help boost investment in this sector, as it helps in increasing the return on capital invested.
On the indirect tax front, Custom concessions have been provided in respect of power projects, roads, and ports.
Global lessons
The joint DEA-ADB Report states that India can learn lessons from Mexico, Chile, the US and the Philippines. Global lessons include: Need for detailed policy and planning; strategic planning and management which could include using external technical and financial advisers; optimum allocation of risks between parties; adequate protection to lenders against non-commercial risks relating to force majeure, regulatory changes, contract termination, etc; and avoiding renegotiations and midway changes to save costs and delays.
To encourage more PPPs in infrastructure projects the right institutional set-up must be created, best practices adopted in the project bidding and awarding process, tax inefficiencies must be removed and the regulatory structure liberalised to ensure smooth flow of international capital.
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