PROJECT REPORT ON

“FOREIGN DIRECT INVESTMENT IN INFRASTRUCTURE”

Submitted toUniversity of Mumbai

In Partial Fulfillment of the Requirement

For

M.Com (Accountancy) Semester IIIn the subject

Strategic Management

By

Name of the student : - Vivek ShriramMahajanRoll No. : - 14 -7288

Name and address of the collegeK. V. Pendharkar College

Of Arts, Science & CommerceDombivli (E), 421203

APRIL 2015

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DECLARATION

I VIVEK SHRIRAM MAHAJAN Roll No. 14 – 7288, the student of

M.Com (Accountancy) Semester II (2015), K. V. Pendharkar College,

Dombivli, Affiliated to University of Mumbai, hereby declare that the project

for the subject Strategic Management of Project report on “FOREIGN

DIRECT INVESTMENT IN INFRASTRUCTURE” submitted by me to

University of Mumbai, for semester II examination is based on actual work

carried by me.

I further state that this work is original and not submitted anywhere else for any examination.

Place: Dombivli

Date:

Signature of the Student

Name: - Vivek Shriram Mahajan Roll No: - 14 -7288

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ACKNOWLEDGEMENT

It is a pleasure to thank all those who made this project work possible.

I Thank the Almighty God for his blessings in completing this task. The successful completion of this project is possible only due to support and cooperation of my teachers, relatives, friends and well-wishers. I would like to extend my sincere gratitude to all of them.

I am highly indebted to Principal A.K.Ranade , Co-ordinater P.V.Limaye, and my subject teacher Dr .Rajeshri Deshpande for their encouragement, guidance and support.

I also take this opportunity to express sense of gratitude to my parents for their support and co-operation in completing this project.

Finally I would express my gratitude to all those who directly and indirectly helped me in completing this project.

Name of the studentVivek Shriram Mahajan

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Table of Contents:CHAPTER No Topic Page no

CHAPTER 1 Introduction

1.1 Introduction to FDI…………........................1.2 Research Objectives…………………………

57

CHAPTER 2 Literature Review

2.1 Findings through the literature review.................. 8

CHAPTER 3 Methodology

3.1 Secondary data.................................................... 9

CHAPTER 4 Challenges & Scope

4.1 Current Challenges..................................……4.2 Opportunities ……………………..................

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CHAPTER 5 Conclusion

5.1 Conclusion………………………………….. 33

Bibliography…………………………………………. 34

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INTRODUCTION

Foreign direct investment (FDI) has played an important role in the process of globalizationduring the past two decades. The rapid expansion in FDI by multinational enterprises since the mid-eighties may be attributed to significant changes in technologies, greater liberalization of trade and investment regimes, and deregulation and privatization of markets in many countries including developing countries like India. Capital formation is an important determinant of economic growth. While domestic investments add to the capital stock in an economy, FDI plays a complementary role in overall capital formation and in filling the gap between domestic savings and investment. At the macro-level, FDI is a non-debt-creating source of additional external finances. At the micro-level, FDI is expected to boost output, technology, skill levels, employment and linkages with other sectors and regions of the host economy.

In India FDI inflow made its entry during the year 1991-92 with the aim to bring togetherthe intended investment and the actual savings of the country. To pursue a growth of around 7percent in the Gross Domestic Product of India, the net capital flows should increase by at least 28 to 30 percent on the whole. But the savings of the country stood only at 24 percent. The gap formed between intended investment and the actual savings of the country was lifted up by portfolio investments by Foreign Institutional Investors, loans by foreign banks and other places, and foreign direct investments. Among these three forms of financial assistance, India prefers as well as possesses the maximum amount of Foreign Direct Investments. Hence FDI is considered as a developmental tool for growth and development of the country. Therefore, this study is undertaken to analyze the flow of FDI into the country identifying the various set of factors which determine the flow of FDI.

Balasundaram Maniam and Amitiava Chatterjee (1998) studied on the determinants of US foreign investment in India; tracing the growth of US FDI in India and the changing attitude of the Indian Government towards it as a part of the liberalization program. Nagesh Kumar (2001) concluded that the magnitudes of inflows have recorded impressive growth, as they are still at a small level compared to the country’s potential. Balasubramanyam.V.N and Vidya Mahambre (2003) concluded that FDI is a very good means for the transfer of technology and knowhow to the developing countries. Birendra Kumar and Surya Dev (2003) with the data available in the Indian context showed that the increasing trend in the absolute wage of the worker does not deter the increasing flow of FDI. Laura Alfaro (2003) finds that FDI flows into the different sectors of the economy (namely primary, manufacturing, and services) exert different effects on economic growth. FDI inflows into the primary sector tend to have a negative effect on growth, whereas FDI inflows in the manufacturing sector a positive one.

Evidence from the foreign investments in the service sector is ambiguous. Sebastin Morris (2004) has discussed the determinants of FDI over the regions of a large economy like India. He argues that, for all investments it is the regions of metropolitan cities that attract the bulk of FDI. Peng Hu (2006) analyses various determinants that influence FDI inflows in India which include economic growth, domestic demand, currency stability, government policy and labour force availability against other countries that are attracting FDI inflows. Analyzing the new findings, it is observed that India has some competitive advantages in attracting FDI

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inflows, like a large pool of high quality labour force which is an absolute advantage of India against other developing countries like China and Mexico. Chandana Chakraborty and Peter Nunnenkamp (2008) said that booming foreign direct investment in post-reform India is widely believed to promote economic growth. Chew Ging Lee (2009) has pointed out that GDP per capita has a positive effect on FDI inflows in the long run. Krishna Chaitanya Vadlamannatia, Artur Tamazianb and Lokanandha Reddy Iralac (2009) analyses about the determinants of FDI in Asian economies. The determinants are analyzed under four heads, viz. economic and policy factors, socioeconomic factors, institutional factors and political factors. The findings in the baseline models show that poor socioeconomic conditions and labour-related issues are the major determinants. Shiralashetti.A.S and S.S.Huger (2009) have made a comparison of FDI inflows during pre and post liberalization period, country-wise, sector-wise and region-wise. Subash Sasidharan and Vinish Kathuria (2011) examine the relationship between FDI and R&D of the domestic firms in the post-liberalization regime.

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OBJECTIVES

This study is based on the following objectives-

To compare FDI inflow during the post liberalization period with pre liberalization period and to forecast FDI inflow to India for a future period of 5 years.

To identify the factors which influence the flow of FDI in Infrastructure in India.

To study the potential of Foreign Direct Investment (FDI) in Infrastructure.

SOURCES OF DATA COLLECTION

The study is based on published sources of data collected from various sources. The data wasextracted from the following sources:

Handbook of Statistics on the Indian economy, RBI, various issues

Economic Survey, Government of India, various issues

Department of Industrial Policy and Promotion (DIPP)

Secretariat of Industrial Assistance (SIA)

Central Statistical Organization (CSO)

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CHAPTER 2: Literature Review

The followings are the main findings through the literature review:

1. The Build-Operate-Transfer (BOT) scheme to financing infrastructure projects has many potential advantages and is a viable alternative to the traditional approach using sovereign borrowings or budgetary resources.

2. BOT projects involve a number of elements, such as host government, the Project Company, lenders, contractors, suppliers, purchasers and so on. All of which must come together for a successful project.

3. The application of the BOT scheme in Indian infrastructure development is being carried out stage by stage.

4. There are two broad categories of risk for BOT projects: country risks and specific projectrisks. The former associated with the political, economic and legal environment and over which the project sponsors have little or no control. The later to some extent could be controllable by the project sponsors.

5. A few researches of risk management associated with India’s BOT projects focused on aparticular sector. Different researchers appear to have different points of view on riskidentification because they have approached the topic from different angles.

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CHAPTER 3: Methodology

Secondary data – It is the second hand data obtained by the use of secondary sources such as articles, books, journals, internet, etc. For the study of FDI in Infrastructure in India, the secondary data was collected via the use of internet (websites, articles and journals) and books. The secondary data collected was presented in the dissertation in the form of a literature review. The citations and referencing states clearly from which online websites, published articles or journals the data was collected from. Also, since it is economical, and saves time, efforts and expenses, it provides a quicker solution to the problem.

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FDI INFLOWS DURING PRE & POST LIBERALIZATION PERIOD IN INDIA

The first objective on which the study is made is to analyze the magnitude of FDI inflows in India. In this context, the period of study from 1980-81 to 2009-10 is divided into two phases, Phase I is the Pre-Liberalization period, that is, FDI inflows from 1980-81 to 1990-91 are taken into account. The Phase II is the Post-Liberalization period from 1991-92 to 2009-10.

CHART 1: FDI INFLOWS DURING PRE LIBERALIZATION PERIOD

CHART 2: FDI INFLOWS DURING POST LIBERALIZATION PERIOD

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The above table and chart shows that FDI inflow into India before 1991 was minimal with the Compounded Annual Growth Rate showing only 25.46 percent. During this period, foreign investments into India were restricted and allowed moderately in few sectors. This is mainly because of the kind of policies which the government of India has adopted over the years which includes, `inward looking strategy'; and dependence of external borrowings. In turn, the borrowings resulted in foreign debts which were preferred to the foreign investments to bridge the gap between domestic savings and the amount of investments required. In 1991, when the government of India started the economic reforms program, FDI had suddenly become important for India which was looked upon as a key component of economic reforms package. The New Industrial Policy of 1991 gave utmost priority in attracting FDI inflows. In this process, the government started opening up of domestic sectors to the private and foreign participation which was earlier reserved only for the public sector. This was followed by slow but with significant relaxation of regulatory and entry restrictions on FDI inflows. Later substantial increase in the volume of FDI inflows into India was observed during the Post Liberalization period.

During the initial phase of post liberalization period i.e., from 1991 to 1998, there was continuous increase in the FDI inflows. The total amount of the FDI inflows during the period 1991-92 to 1997-98 had amounted to US$10,868 million. The increase was largely due to the expanded list of industries or sectors which were opened up for foreign equity participation. This was followed by relaxation of various rules, regulations and introduction of various policies by the government to promote the FDI inflows. FDI inflows declined to the level of US$2,462 million in the year 1998-99 and further to US$2,155 million in 1999-2000. The reasons for the declining trend of FDI inflows were due to various set of factors. Firstly, the most important factor was the several restrictions imposed on India by the USA on account of the nuclear test carried out by India at Pokhran. The second factor was the slowdown of the Indian economy dueto the mild recession in US and global economy. The third one was about unfavorable external economic factors such as the financial crisis of South-East Asia. Fourthly, the decline was due to the political instability and the poor domestic industrial environment.

In 2002-03, FDI inflows were declined to US$ 5035. They were also reduced to US$ 4322 during 2003-04. This fall in flow of FDI into the country was due to the Global economic recession. Then, from 2004-05 onwards, there has been steady increase in the flow of FDI into the country with highest annual growth rate which has reached 154.72 percent during 2006-07.Further, the table shows that the compounded annual growth rate (CAGR) which was 25.46 percent during Pre liberalization has increased to 34.73 percent during the Post liberalization period. This shows the openness of the Government in liberalizing and globalizing the economyto the outside world through relaxation of regulatory and entry restrictions on FDI inflows.

Thus, on analyzing FDI inflows into the country over a period of 30 years it is observed that the compounded annual growth rate (CAGR) is 25.46 percent during 1980-81 to 1990-91 i.e., during the pre liberalization period. On comparison with the post liberalization period, it is found that the annual compounded growth rate has excavated to 34.73 percent showing the

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relaxation of regulatory and entry restrictions on FDI inflows in the economy. This shows that the importance of FDI into the country is realized by the Government during the Post liberalization period. In this period of 19 years, steady increase of FDI inflow was observed from 1991-92 to 2009-10 except the period from 1998-99 to 1999-00 and again the period from 2002- 03 to 2003-04.

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Scenario of Infrastructure development in India

A number of reasons can explain India’s attractiveness to foreign investment.

1. Relatively cheaper human resources, especially the labour.

2. Governments at all levels in all states are eager for funding their local economic growth andhave become increasingly friendly to foreign investors.

3. A number of major international events have shown that India is safer oasis of investment.

4. The economic and social infrastructure that used to be considered as bottlenecks has been significantly improved in recent years. Governments at various levels in have been making investment in infrastructure development to keep pace with the local and the national economic growth.

5. India's economy has shown remarkable economic growth over the past two decades at an average annual rate of about 7.5 per cent, it is expected that India's GDP will grow at an average annual rate of about 9 per cent in year 2010.

6. India became a member of the World Trade Organization (WTO), which enables India to play a major role the development of new international rules on trade in the WTO, gives India access to the dispute resolution process in the WTO and makes it easier for reformers in India to push liberalization policies.

The tremendous economic growth in India has resulted in an immense demand for basicinfrastructure like roads, tunnels, power plants, water treatment plants and so on. In 1991, India began to investigate financing ways, specifically through the BOT scheme to meet the needs for the country's infrastructure and to be attractive to foreign investors. BOT has the potential to be one of the most effective ways for India to raise funds for infrastructure projects in the near future. It also provides opportunities for foreign investors to penetrate into new markets in India. Despite this there may be a reluctance to engage in BOT because the application of BOT projects has a relatively short history across the world and especially short in India. This means that the BOT scheme may not be well understood and received by foreign investors (in terms of its policy hurdles and its effectiveness in India) or by the Indian government representatives handling it.

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Furthermore, despite the tremendous opportunities to invest in infrastructure projects in India, it is inevitable that such projects will incur risks and obstacles. Unfortunately, the traditional mechanisms for project risk allocation that are available in other countries, may not be suitable in India due to differences in legal systems, market conditions and culture. In order to successfully implement BOT schemes in India, therefore, foreign investors will need to identify and find ways to mitigate the critical risks (considering diversity in terms of various issues pertaining to political front, policy matters and demographic issues along with geographical challenges). The purpose of the research is to identify and evaluate the critical risks associated with India’s BOT infrastructure projects; and develop a framework for managing these risks that all parties to BOT infrastructure projects can refer.

“Expanding investment in infrastructure can play an important counter cyclical role. Projects and programmes [are] to be reviewed in the area of infrastructure development, including pure public private partnerships, to ensure that their implementation is expedited and does not suffer from [the] fund crunch.” Mr. Manmohan Singh, Indian Prime Minister,(quoted in newspaper reports, October, 2008)

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The Indian economy is booming, with rates of Gross Domestic Product (GDP) growth exceeding 8% every year since 2003/04. This ongoing growth is due to rapidly developing services and manufacturing sectors, increasing consumer demand (largely driven by increased spending by India’s middle class) and government commitments to rejuvenate the agricultural sector and improve the economic conditions of India’s rural population. Construction is the second largest economic activity in India after agriculture, and has been growing rapidly. The production of industrial machinery has also been on the rise – and the increasing flow of goods has spurred increases in rail, road and port traffic, necessitating further infrastructure improvements. In the fiscal year ending March 2008, India’s GDP grew by more than 9%. This robust rate of expansion was initially forecast to continue in the 2008-2009 fiscal year. In summer 2008, however, the combined impact of slowing Indian consumption, a higher domestic cost of capital and reduced capital access from international capital markets raised concerns by some analysts that the rate of growth might be slowing. In October 2008, India’s Prime Minister, Mr. Manmohan Singh, affirmed the Government’s view that a rate of growth of 7-7.5% remains realistic, even given the global credit crunch, and assured observers that the country’s Government will take action if necessary to support businesses and the financial markets. Mr. Singh has also singled out infrastructure investment as particularly vital.

The Indian Government recognises this imperative. As per the Eleventh Five Year Plan, more than US$500 billion worth of investment is planned to flow into India’s infrastructure by 2012. Construction projects account for a substantial portion of the proposed investments, making the E&C sector one of the biggest beneficiaries of the infrastructure boom in India. The regulatory environment is relaxing to encourage further foreign direct investment (FDI).

Private sector participation is integral to these plans. PPPs have been identified as the most suitable mode for the implementation of projects – and indeed, are rapidly becoming the funding norm. Their share of the total planned infrastructure improvements is projected to be around 30% (US$150 billion). Power and road projects top the list, and other transportation sectors such as railways, ports, and airports are also targeted for major investments.

Companies looking to capitalise on the situation need to plan their strategy for entering the market carefully. Understanding the local market, including selecting complementary local partners, is vital. Tax optimisation is a key cost component – while substantial tax benefits are provided for infrastructure projects, developers need to be savvy about structuring their contracts. Good tax planning can have a potentially decisive impact, especially in bidding situations, and help to avoid unnecessary litigation later.

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Foreign Direct Investment (FDI) and the regulatory environment

Major infrastructure development requires a substantial influx of investment capital. The policies of the Indian Government seek to encourage investments in domestic infrastructure from both local and foreign private capital. The country is already a hot destination for foreign investors. As per the World Investment Report of the UNCTAD, India was rated the second most attractive location (after China) for global FDI in 2007.

Currently, India has FDI of about US$21 billion per year, well below the targeted US$30 billion. In order to increase FDI inflows, particularly with a view to catalysing investment and enhancing infrastructure, the Indian Government has introduced significant policy reforms. For example, it now permits 100% FDI under the automatic route for a broad range of sectors (see Figure 1) – only certain postinvestment intimation is required. For FDI in a few sectors, a prior approval is required, which takes around 6-8 weeks. As part of policy reforms, the Indian Government is constantly simplifying the approval route process, including setting up several agencies to expedite FDI approval. Further liberalisation is expected as the Government continues to emphasise infrastructure investment.

In August 2008, a press report stated that Morgan Stanley was looking to invest up to a quarter of its US$4 billion global infrastructure fund in emerging markets, notably India and China – and that in India, Morgan Stanley would face competition from Australia’s Macquarie Group, JP Morgan, Goldman Sachs and Deutsche Bank, all looking to channel foreign investors’ money into Indian infrastructure. While some of this planned investment may be reduced or delayed given the current environment in the credit markets, India is still likely to garner substantial FDI, particularly if its economy is able to maintain a fairly strong rate of growth in the face of a global recession.

From an exchange control perspective, India is moving towards full current account convertibility. Most revenue transactions are freely permitted, except certain transactions like royalty, consultancy fees, etc., which are subject to certain limits. Capital account transactions need prior approval, except where specifically permitted. In order to promote the construction sector, the Indian Government has relaxed some of the exchange control restrictions and is now allowing foreign nationals/ citizens to acquire immovable property in India, subject to certain conditions and procedures.

Hurdles to investment remain. Although India has a well-developed legal system, the current legal and regulatory environment sometimes acts as an obstacle to the necessary injections of foreign private capital into India’s infrastructure. Major infrastructure projects are governed by the concession agreements signed between public authorities and private entities. Tariff determination and the setting of performance standards vary somewhat by sector. In the roads and highways sector, the ministry generally sets tolls – while in major ports projects, and many of those in electricity generation, an independent regulator will decide relevant tariffs. In the airport sector, a new independent regulator is planned for 2009 and is likely to play a major role in determining tariffs in concession agreements for the segment. In some instances, ministry or regulator control over potential proceeds can act as a disincentive to the private infrastructure developer.

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As is the case in many countries, there is no single regulator which formulates the policy for all infrastructure projects. There is also no standardisation in the concession agreements across the different infrastructure sectors. As a result, the development of certain sectors in India may be hampered due to lack of adequate and co-ordinated planning. Projects which are approved may face difficulties if related projects are substantially delayed. One example is Bangalore’s new international airport, one of the largest PPP projects to date. The project is facing growing pains related to insufficient road and rail connections to the new facility, in part due to delays of expected high speed rail and highway projects under the auspices of other government bodies.

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CHAPTER 4: Challenges & Scope

Current Challenges

India is focusing on maximizing political and social stability along with a regulatory environment. In spite of the obvious advantages of FDIs, there are quite a few challenges facing larger FDIs in India, such as:

• Resource challenge: India is known to have huge amounts of resources. There is manpower and significant availability of fixed and working capital. At the same time, there are some underexploited or unexploited resources. The resources are well available in the rural as well as the urban areas. The focus is to increase infrastructure 10 years down the line, for which the requirement will be an amount of about US$ 150 billion. This is the first step to overcomechallenges facing larger FDI.

• Equity challenge: India is definitely developing in a much faster pace now than before but in spite of that it can be identified that developments have taken place unevenly. This means that while the more urban areas have been tapped, the poorer sections are inadequately exploited. To get the complete picture of growth, it is essential to make sure that the rural section has more or less the same amount of development as the urbanized ones. Thus, fostering social equality and at the same time, a balanced economic growth.

• Political Challenge: The support of the political structure has to be there towards the investing countries abroad. This can be worked out when foreign investors put forward their persuasion for increasing FDI capital in various sectors like banking, and insurance. So, there has to be a common ground between the Parliament and the Foreign countries investing in India. Thiswould increase the reforms in the FDI area of the country.

• Federal Challenge: Very important among the major challenges facing larger FDI, is the need to speed up the implementation of policies, rules, and regulations. The vital part is to keep the implementation of policies in all the states of India at par. Thus, asking for equal speed in policy implementation among the states in India is important.

• India must also focus on areas of poverty reduction, trade liberalization, and banking and insurance liberalization.Challenges facing larger FDI are not just restricted to the ones mentioned above, because trade relations with foreign investors will always bring in new challenges in investments.

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Opportunities

What segments present the best opportunities for E&C companies? The Planning Commission of India has planned extensive expansion in the roads and highways, ports, civil aviation and airports, and power infrastructure segments – all of which provide substantial opportunities for E&C companies.

Roads and highways

India’s roads are already congested, and getting more so. Annual growth is projected at over 12% for passenger traffic and over 15% for cargo traffic. The Indian Government estimates around US$90 billion plus investment is required over FY07-FY12 to improve the country’s road infrastructure. Plans announced by the Government to increase investments in road infrastructure would increase funds from around US$15 billion per year to over US$23 billion in 2011-12. The quantum of funds invested as part of these programmes will significantlyexceed that invested in recent history. Such programmes would be funded via a mix of public and private initiatives.

Projected Investment in the Road & Highways Sector in the Eleventh Plan

Road Infrastructure Detailed Projections (US$ million)

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The Indian Government, via the National Highway Development Program (NHDP), is planning more than 200 projects in NHDP Phase III and V to be bid out, representing around 13,000km of roads. The average project size is expected to US$150 million-US$200 million. Larger projects are likely to reach the US$700 million- US$800 million range. About 53 projects with aggregate length of 3000km and an estimated cost of around US$8 billion are already at the pre qualification stage. The procurement process favours players with good experience and sound financial strength.

The opportunities do not stop there. More than 10 states are also actively planning the development of their highways. While the average size of these projects is smaller than the NHDP projects, most will still be substantial, in the US$100 million- US$125 million range. All told, more than 4,500km of state highways are likely to be awarded by the end of 2010.

Rail

The Indian Government has also recognised existing infrastructure gaps and capacity constraints in the rail system, and as a consequence plans large scale investment over the five years from FY07-FY12. Projected investments total US$65 billion, of which 40% is expected to be contributed by the private sector. One major PPP programme is already in its initial phases. The Dedicated Freight Corridor project is designed to alleviate congestion on the rail routes between Delhi and Mumbai and Delhi and Kolkota by building long-distance, cargo-only rail lines, at an estimated cost of US$6 billion-7 billion.

Other proposed initiatives include the development of manufacturing plants for rolling stock with long-term committed procurement for several years, and the setting up of logistics parks. City metro systems are also in the pipeline. The first corridor of the Mumbai Metro Project has already been awarded to Reliance Infrastructure and the Government has asked the final shortlisted companies to submit detailed financial bids for the second phase of the Mumbai Metro.

Indian Railways is also looking for private partners to help modernize railway stations to world-class levels, and for projects focused on increasing connectivity with ports.

Ports and airports

Increasing connectivity with inland transport networks is just one of many challenges currently facing India’s ports, which have seen massive swells in the amount of goods transported. Traffic is estimated to reach 877 million tones by 2011-12, and containerised cargo is expected to grow at 15.5% (CAGR) over the next 7 years. India’s existing ports infrastructure is not sufficient to handle the increased loads – cargo unloading at many ports is currently inadequate, even where ports have already been modernised. An estimated investment of around US$22 billion is targeted for port projects in the five year period from FY07- FY12. The National Maritime Development Programme includes 276 projects, with a required investment of about US$15 billion over the next ten years, with private investment

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targeted at around US$8 billion. In addition to improving road and rail connections, projects related to port development (construction of jetties, berths, container terminals, deepening of channels to improve draft, etc.), will provide major opportunities for E&C companies. Recent deregulation of the sector now permits 100% FDI, and an independent tariff regulatory authority has been set up to facilitate projects at major ports.

Air traffic has increased rapidly in recent years, although this slowed in 2007. While a number of Indian airlines have faced challenging market conditions in 2008, and the rate of growth is likely to be significantly less than initially projected, Indians are still flying in much greater numbers. Estimates made in 2007 by the Indian Government’s Committee on Infrastructure suggest that passenger traffic will grow at a CAGR of over 15% in the next 5 years. Indian manufacturers are also looking to the skies – the same source anticipates that cargo traffic will grow at over 20% p.a. over the next five years.

Even if these estimates prove somewhat optimistic, the growth already achieved has put tremendous pressure on airport infrastructure. The Indian Government has projected that an investment of around US$8 billion in the five year period from FY07-12 will be needed to help cope with additional demand, and private sector participation is expected to play a key role. The private sector has already stepped up to the challenge of airport infrastructure development in several cases, with private participation in recent years at Delhi, Mumbai, Hyderabad, Cochin and Bangalore supplementing the efforts of the Airports Authority of India.

The Government has proposed the establishment of an Airport Economic Regulatory Authority (AERA) to promote efficiency, competitive pricing and a customer-focused service. State governments are also getting involved and looking to facilitate the development of new airports. The total investment on new airports has been proposed at about US$10 billion by 2012. Greenfield airport projects are planned in resort destinations and emerging metros such as Goa, Pune, Navi Mumbai, Greater Noida and Kannur. Further, 35 non-metro airports are proposed for development. Prequalification of bidders for development of Amritsar and Udaipur airport has already been completed, and bids for 10 non-metro airports are scheduled to be invited shortly.

As the density of airports increases in various regions, increased competition is likely to bring new issues into focus, such as corporate performance management. Airports will look to diversify their revenue sources through the development of city-side infrastructure. Airlines will also be looking for new technology solutions to maximize revenues and reduce costs. MRO (Maintenance, Repair & Overhaul) facilities could therefore also present new business opportunities.

The need for improved aviation infrastructure extends beyond the construction of new airports – existing metro airports also require significant modernization and upgrading. EPC contractors are expected to be sought for Chennai and Kolkata airports in the immediate future.

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Power

Increased manufacturing activities and a growing population are also causing a surge in power usage. India has the fifth largest electricity grid in the world with 135 GW capacity, andthe world’s third largest transmission and distribution (T&D) network. Large investments are needed to meet growing demand and provide universal access. The policy and regulatory framework is pro-investment – shifting away from ‘negotiated and guaranteed’ to ‘open and market competition’. Given the increased competition, diversity, and number of opportunities, project and collaboration risk must be more carefully assessed and managed.

An investment of US$167 billion is projected for electricity projects in the five year period from FY07-FY12. The massive number and scope of potential projects has attracted a number of new investors, lenders and operators. All new awards are through open, competitive bidding. A rush is on to develop new assets, harness natural resources, and attract global finance – but an industry focus and strategy is necessary to properly tap into this opportunity.

E&C companies may want to consider involvement in the construction of power stations, and T&D networks, particularly if sustainable building and generation technologies can be leveraged. The Indian Government is also looking to encourage the generation of wind and solar power by providing generation-based incentives to those companies who do not claim accelerated depreciation, so E&C companies with experience in building these types of alternative energy projects may find excellent opportunities.

Public private partnerships

Funding India’s wide-ranging, US$500 billion programme of infrastructure expansion over a five-year period is likely to be beyond the means of total government funding, so policies havebeen designed to facilitate private investment to the maximum level possible.

If the Indian Government’s targeted level of private sector involvement and investment are met (approximately 30%), the quantum of funding required would be around US$150 billion – dwarfing the investment achieved over the past decade by comparison. Achieving this level of investment is ambitious. Several frameworks and plans are already in place, however, that may facilitate reaching these goals.

The PPP/PFI market in India is still at a relatively early stage. However, over the past decade or so, there has been an increasing trend at the central as well as state government level to use PPPs for meeting critical infrastructure gaps. The results have been quite encouraging. Establishing a PPP is now considered to be the default option for major infrastructure projects in sectors such asroads, railways, airports, ports and other transport segments. First preference will be given to the PPP model, and only in cases where projects are expected to fail to attract private sector interest will more traditional models be considered.

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Most infrastructure sectors have an overall long-term plan and programme that provides guidance on the projects that are likely to come up for development. Key policy frameworks for procurement of projects through PPPs have also been drafted. For example, the NHDP discussed earlier in this paper details a long-term plan for the roads and highways segment, with seven defined phases and largely clearly identified project (along with project costs) and an agreed timeframe. The roads and highways segment also has a generally successful PPP model concession framework. The NHDP is mandated to a dedicated agency that also has clearly earmarked source of funding coming in to support the programme. Almost all the other sectorshave similar plans.

Over the last 3-4 years, there has been a push towards expanding the scope of PPPs for the provision of urban infrastructure through establishment of another government programme for urban renewal across the country. This is likely to further increase the scope, scale and number of PPPs in the country.

Not surprisingly, international interest in Indian PPPs has soared in 2008, with over 50 international players showing interest in a variety of types of projects in the first three quarters of the year. Local players are also increasing their interest. Until recently, only a very limited number of large domestic players were fully conversant with PPP models and had the capability to deliver on them. However, local developers and contractors are catching up fastand domestic capacity has increased substantially in recent months.

E&C companies looking to participate in this burgeoning segment do face certain hurdles. The typical PPP project design and preparation process is still largely technically-oriented, with limited appreciation of the overall financial and commercial risk issues involved. Often information distortions in the market have led to large variations in the bids/ offers received during the procurement process. Further, the procurement process is often highly prescriptive, rather than participative. The emphasis is on conforming to public sector requirements, which may not offer value for money and does not encourage innovative solutions, rather than evolving the project configuration to be delivered over the long-term in a partnership approach.

And while the public sector is dictating the terms, it is quite often not willing to shoulder concomitant risk. The current concession structure is highly asset oriented, rather than focusing on service delivery. Private sector participants are often required to assume considerable risk, including demand risk, and the apportionment of risk is in some cases quite inefficient.

Financing for PPP/PFI projects can also be a key constraint, as long-term financing and instruments have been in scarce supply. PPP projects have so far been largely financed domestically using plain vanilla debt with relatively low gearing. Commercial banks are the major source of debt with generally short tenor (being about 50% of concession period). At the current time, it is difficult to predict how the financing situation will evolve over the short-term. Certainly, access to credit has become far more restrictive on a global basis, however if

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India’s growth continues to outperform most other economies, it could emerge as a preferred destination for investment.

India has become an attractive PPP market and its attractiveness is likely increase in the future. Contractors able to negotiate and partner with the relevant ministries should find excellent opportunities, particularly companies with a longer-term view.

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Public-Private Partnerships in India’s National Highways

The Indian government foresees Rs. 50,000 crore (US$10.54 billion) in private investments in the highways sector this fiscal as it awards contracts for building 7,300 kilometers (4,536 miles) of roads.

According to India’s Ministry of Road Transport and Highways, bids for about 4,600 kilometers have already been received or invited this year and the Ministry will award concessions for 7,300 kilometers before the year ends.

In the first four months of the current year, the government has awarded public-private partnership (PPP) projects with an investment of over Rs. 21,000 crore. The bids received are far better than estimated bids for these projects. This will give the government additional revenues of more than Rs. 10,000 crore.

Also, out of India’s 71,000 kilometer national highway network, up gradation projects for about 16,000 kilometers have been concluded, while about 15,000 kilometers are in different stages of projects being awarded.

As a result, about 40,000 kilometers will be left, which may be overlooked by the government. Specifically, 20,000 kilometers including single-lane roads which are more often than not in less developed regions.

Now, the government is planning to make these single-lane highways into two-lane highways through turnkey engineering, procurement, and construction (EPC) contracts to ensure timely construction without cost overruns. The Ministry is also planning concessions for expanding about half of the Golden Quadrilateral – which connects the metropolises of Delhi, Mumbai, Kolkata and Chennai – into a six-lane highway.

The government of India also initiating the steps to construct expressways in high density corridors and the Ministry is in dialogues with budding investors and concerned states to find innovative ways of financing these projects.

Regarding state highways, the Planning Commission will work closely with states to change these into world-class roads. So far 77 projects for a length of 7,801 kilometers have been fulfilled. The Ministry also showed confidence that the ambitious target of building 20 kilometers of roads a day will be achieved soon. The UPA-11 government has set up a goal of constructing 35,000 kilometers of highways by 2014.

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The Prime Minister of India Manmohan Singh also insisted that government agencies should avoid of any favoritism while awarding projects to private players under the PPP mode.

The Planning Commission will be working in close collaboration with state governments to guarantee that state highways become world class. Projects have been able to draw investments of Rs. 21,000 in the first four months ending July 2011.

Financing in PPP mode

Regarding the financing of PPPs in the transportation division, state highways are not as easy to deal with as their national counterparts. Even though the Center and states are presently undertaking about 3,500-4,000 kilometers each of highway construction through the PPP route, funding agencies like the IDFC and IIFC seem to have a marked favorite for the former.

According to the CEO of IDFC, financier hesitation while funding state road projects results from lack of homogeneity in procedures adopted by states. States like Maharashtra, Madhya Pradesh, Gujarat, Punjab, Haryana, Rajasthan, Kerala and Karnataka have more PPP projects because they have a standardized Model Concession Agreement – a broad framework of rules concerning PPP projects. Also financiers like IDFC are also worried about the lower creditworthiness ease that states are able to provide, compared to agencies like the National Highways Authority of India. To diminish the risks arising from funding of state road projects, financiers are now in view of projects that are larger in dimension.

With the 11th plan foreseeing a doubling-up of investment in state and rural roads to Rs. 1.6 lakh crore, there is an imperative need for a sharp uptake in private sector investment.

Window for investment

According to the Parliamentarian panel, India needs to invest Rs. 200 crore every day for the next 20 years for road projects under National Highways Development Project and necessitates an efficient financing plan to meet this purpose. Accordingly, the government needs to raise Rs. 73,000 crore every year for the next two decades. The panel also stated that since government resources are not enough for such capital intensive activity, a proficient financing plan mobilizing all resources needs to be worked out to provide a balanced flow of funds.

In the month of July, six proposals from the Ministry of Road Transport and Highways have been approved by the government. These proposals are in five states. The predictable project cost of the permitted proposal is Rs. 9,773.85 crore.

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Opportunity and potential

Road development is known as vital to maintain India’s economic growth and the constant focus on highway infrastructure development is targeted at annual growth of 12-15 percent for passenger traffic and 15-18 percent for cargo traffic.

The project has been attracting huge FDI and the government is planning to increase spending on road development significantly with funding already in place based on a cess on fuel. Several high traffic stretches have already been awarded to private companies on a BOT basis. Two successful BOT models are already in place:

1. The annuity model

2. The upfront/lump sum payment model.

Government initiative

The National Highway Development Program, linking a total investment of Rs. 220,000 crore (US$ 45.276 billion) up to 2012, has been established.

100 percent FDI under the automatic route in all road development projects. 100 percent income tax exemption for a period of 10 years Cabinet Committee on Economic Affairs has agreed upon the National Highways Fee

(Determination of Rates and Collection) Rules, 2008 to establish uniformity in fee rate for public funded and private investments projects.

Global participation

Many global players have joined the group in the development and reform of the highway infrastructure in India and Indian road construction projects have become a profitable and rising investment opportunity for numerous international giants.

The various international companies to join the league are:

Berhad (Malaysia) Deutsche Bank, Emirates Trading Agency (Dubai) The Isolux Corsan Group (Spain) Italthai (Thailand) Baelim (Korea) Dyckerhoff (Russia) Widmann AG (Germany) IJM Corporation, SDN and Road Builders (Malaysia) Kajima and Taisei (Japan)

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These companies have acquired equity stakes of 10 percent to 51 percent in various highway projects floated by the National Highway Authority of India and other state governments.

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Investments

The government has announced that foreign investors can put in as much as Rs 90,300 crore (US$ 14.65 billion) in India’s rail infrastructure through the FDI route, according to a list of projects released by the Ministry of Railways. The Rs 63,000 crore (US$ 10.22 billion) Mumbai-Ahmedabad high-speed corridor project is the single largest. The other big ones include the Rs 14,000 crore (US$ 2.27 billion) CSTM-Panvel suburban corridor, to be implemented in public-private partnership (PPP), and the Rs 1,200 crore (US$ 194.79 million) Kachrapara rail coach factory, besides multiple freight line, electrification and signalling projects.

Israel-based world's seventh largest agrochemicals firm ADAMA Agrochemicals, formerly known as Makhteshim Agan Industries, plans to invest at least US$ 50 million over the next three years. ADAMA's global president and Chief Executive Chen Lichtenstein said the idea was to expand both manufacturing and research and development facilities in India aimed at growing better than the average industry growth.

Apple - world's most admired electronics brand - that sells devices such as the iPhone, iPad tablet and iPod media player – is planning to open 500 'iOS' stores in India in its first major push that will include moving into smaller towns and cities.

The Department of Industrial Policy and Promotion (DIPP) has moved a Cabinet note to allow 100 per cent FDI in medical devices as part of a strategy to not only reduce imports but also promote local manufacturing for the global market, which will be worth over US$ 400 billion next year.

Real estate private equity FDI is set to double after the Indian government ended the three-year lock-in and has introduced 100 per cent FDI for completed assets, according to JLL India. With India now allowing 100 per cent FDI in the construction sector, real estate private equity investment could double – and boost demand from overseas property buyers, according to sector experts.

FDI real estate private equity, which is currently estimated at around US$ 1billion - US$ 1.5 billion per annum, could reach to up to US$ 3 billion in the next few years, according to leading agency, JLL India.

The Ministry of Finance has announced that it has cleared 15 FDI applications, including that of Panacea Biotech and Sanofi-Synthelabo (India), and recommended HDFC Bank's proposal to hike foreign holding to the Cabinet for consideration.

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Government Initiatives

India’s cabinet has cleared a proposal which allows 100 per cent FDI in railway infrastructure, excluding operations. Though the initiative does not allow foreign firms to operate trains, it allows them to do other things such as create the network and supply trains for bullet trains etc.

The government has notified easier FDI rules for construction sector, where 100 per cent overseas investment is permitted, which will allow overseas investors to exit a project even before its completion. It also said that 100 per cent FDI will be permitted under automatic route in completed projects for operation and management of townships, malls and business centres.

With the objective of encouraging foreign firms to transfer state-of-the-art technology in defence production, the government may increase the FDI cap for the sector to 74 per cent from 49 per cent at present. India is expected to spend US$ 40 billion on defence purchases over the next 4-5 years, mostly from abroad.

The Union Cabinet has cleared a bill to raise the foreign investment ceiling in private insurance companies from 26 per cent to 49 per cent, with the proviso that the management and control of the companies must be with Indians.

The Reserve Bank of India (RBI) has allowed a number of foreign investors to invest, on repatriation basis, in non-convertible/ redeemable preference shares or debentures which are issued by Indian companies and are listed on established stock exchanges in the country.

In an effort to bring in more investments into debt and equity markets, the RBI has established a framework for investments which allows foreign portfolio investors (FPIs) to take part in open offers, buyback of securities and disinvestment of shares by the Central or state governments.

FDI in Infrastructure: Alternative Modes of Investment

Of the total quantum of FDI flows across the globe, a large fraction has gone into infrastructure projects. Growing pressures on Government budgets and a general concern about the quality of service provision by incumbent entities saw an explosion of private sector FDI into infrastructure, particularly in the developing countries. Between 1990 and 1998, infrastructure projects in the developing countries attracted about US$ 63 billion through the following routes:

Privatisation sales Concessions Leases and other contractual agreements New capacity creation through Build-Operate-Transfer (BOT) Agreements

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The bulk of infrastructure FDI in terms of quantum of investment has flowed into the telecomand power sectors. This is not surprising since projects in these sectors tend to be large. In terms of the number of projects, the distribution is more or less even across sectors.

Modes of Foreign Direct Investment in India

FDI can enter India through two possible channels:

• The automatic route under which companies receiving Foreign Direct Investment needto inform the Reserve Bank of India within 30 days of receipt of funds and issuance ofshares to the foreign investor

• For sectors that are not covered under the automatic route, prior approval is neededfrom the Foreign Investment Promotion Board (FIPB).

Other determinants of FDI in Infrastructure

While a liberal ‘entry’ policy can go a long way in encouraging foreign investments in infrastructure, the willingness to invest in infrastructure projects has been restrained by a number of constraints across a number of economies. Thus, any successful strategy of attracting Foreign Direct Investment into these sectors will have to deal with these issues directly. These are:

• Subsidized prices: In most developing countries, infrastructure services are priced below the cost of supply. Subsidies may be hidden as increasing arrears to the banking system or outstanding payments to State agencies (like State Electricity Boards). This undermines the financial viability of projects.

• Mixed signals from different constituencies: Many diverse groups with varying levels of influence on Government policy have a stake in the policy that affects private infrastructure operations. Consumers benefitting from subsidised prices may resent price increases associated with privatisation. Managers and employees of public utilities are understandably concerned about their jobs. This often influences policy related to private infrastructure and affects the investment environment.

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Suggestions

1. For delay in approval, maintaining a good relationship with government authorities,especially officers at the state or provincial level.

2. For change in law, obtaining government’s guarantees via adjusting either the tariff or extending concession period.

3. For cost overrun, entering into contracts with the project participants so that all share the responsibility and the incentive.

4. For dispatch constraint, entering into take-or-pay contracts with other parties.

5. For land acquisition and compensation, obtain government’s guarantees to achieve timely acquisition of land.

6. For enforceability of contracts, making a credit judgment on the financial ability and integrity of the contracting party to live up to its contractual obligation.

7. For construction schedule, choosing quality, trust-worthy Indian partners with knowledge of how to handle everyday construction issues.

8. For financial closing, equity financing and cooperation with government partners.

9. For tariff adjustment, negotiating to separate and redefine the tariff burden so that while some portions of the total tariff burden remained fixed other portions were either adjusted, re-scheduled or paid in foreign currency.

10. For environmental risk, creating appropriate lines of communication and contacts withgovernment authorities and agencies.

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Conclusion

India’s rising growth trajectory requires rapidly expanding infrastructure facilities to support it. The Government recognises the fact that domestic resources alone may not be adequate to sustain the required expansion in infrastructure. Thus, it has followed a strategy to create incentives for Foreign Direct Investment. India, today, has an extremely liberal regime for FDI in terms of entry norms. International experience shows that there can potentially be a number of other barriers to the willingness to invest in infrastructure projects. The Government has taken systematic initiatives to address these problems largely through comprehensive reforms in sectors like power and telecommunications. The combination of domestic private foreign investment and multilateral investments is likely to propel India’s economic growth momentum in future.

India’s Foreign Direct Investment (FDI) policy has been gradually liberalised to make the market more investor friendly. The results have been encouraging. These days, the country is consistently ranked among the top three global investment destinations by all international bodies, including the World Bank, according to a United Nations (UN) report.

For Indian economy which has tremendous potential, FDI has had a positive impact. FDI inflow supplements domestic capital, as well as technology and skills of existing companies. It also helps to establish new companies. All of these contribute to economic growth of the Indian Economy.

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Bibliography

World Wide Web

Newspapers: The Times Of India Economic Times

World Wide Web http://www.economictimes.com/ http://en.wikipedia.org/ http://www.slideshare.net http://www. cfr.org

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