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Infrastructure Presents Opportunity, Pitfalls

25 June, 2009

 A decisive election result has spurred hopes for a kick-start to development of India’s notoriously poor infrastructure, but investors should be selective and temper their expectations given the challenges of completing big-ticket projects in the country.

 
While progress has been made in recent years in improving India’s roads, ports, railways, and airports, other parts of its infrastructure — especially power — remain woefully inadequate.
 
Even the capital New Delhi is subject to blackouts, with some suburbs in the dark for up to eight hours at a stretch.
 
“You’re not going to see a great leap, Chinese-style,” said Frank Hancock, managing director for advisory at Barclays in India. “It’s going to be incremental but it’s never going to be enough to satisfy everybody,” he said.
 
Indian infrastructure investment equalled 6 percent of gross domestic product last year, compared with 8.5 percent in China, and hopes are high that the budget to be unveiled on July 6 will include commitments to speed infrastructure development.
 
But with a fiscal deficit headed beyond the targeted 5.5 percent of GDP for the year ending in March 2010, and competing demands from projects such as rural job schemes and campaign promises for the poor, finances are tight.
 
Bureaucratic roadblocks also remain, although industry players say the situation is improving.
 
“There are thousands of challenges, challenges in project implementation, funding them, getting the clearances. These have always been there,” said Archana Hingorani, chief executive of private equity firm IL&FS Investment Managers, which along with Standard Chartered runs the $600 million Standard Chartered ILFS Asia Infrastructure Growth Fund.
 
“If one thinks just because the government is better these will go away, I don’t think so. Having said that, is that a major deterrent? Certainly not. Opportunities continue,” she said.
 
BRIGHTER PROSPECTS
 
The demand for infrastructure investment is obvious in India.
 
With an economy that grew at least 9 percent annually in the three years through March 2008, India is choking on overcrowded roads and railway lines, with businesses large and small forced to self-generate power in order to ensure supply.
 
Difficulties with land acquisition, long-term financing, red tape and a dearth of attractive projects have curbed development of infrastructure in the world’s second most populous country.
 
India’s Congress party-led ruling coalition scored a bigger-than-expected win in last month’s election, spurring hopes that spending will increase and progress will accelerate.
 
To capture investor optimism, fund managers have aggressively marketed infrastructure funds, with ads from Reliance Capital for its new offering plastered on billboards across Mumbai.
 
“There was always the political will, but this time there is political alignment,” said Ravi Bhamidipati, India engineering and construction leader at PricewaterhouseCoopers.
 
While stock prices of Indian companies poised to capitalise on a wave of infrastructure investment have rallied, valuations of companies and individual projects remain lower than during the rally that peaked in early 2008.
 
For example, Larsen & Toubro, one of the country’s top infrastructure-linked companies, now trades at about 29 times trailing earnings compared with the 52-week high of 37 times.
 
“There is no doubt that one of the key themes for India for years to come will be infrastructure spending,” said Binay Chandgothia, chief investment officer at Principal Asset Management in Hong Kong, adding that appropriate valuations will depend on government policies and incentives for foreign capital.
 
The global financial crisis has made overseas capital harder to come by, meaning those willing to invest in Indian infrastructure can be more selective and demanding.
 
“The cost of investment, I believe in these times, is significantly lower than what it was two or three years ago,” said Ranveer Sharma, a principal at Eredene Capital, a London-based investor specialising in Indian infrastructure.
 
“As a result the return profile for the investors is much higher, and at the same time it’s easier to do the deals,” said Sharma, whose firm raised a $100 million fund in 2006 and is in the process of raising a $300 million fund.
 
POWER PLAY
 
India’s laggard power sector is regarded by many observers as the country’s greatest infrastructure opportunity.
 
“The next sector after telecom which has the biggest potential for India is power,” said Manisha Girotra, managing director and chief executive officer for UBS in India.
 
China’s 720 gigawatts of power generation capacity in 2007 was five times India’s capacity last year, according to figures cited by Reliance Capital in its fund marketing materials.
 
Of the roughly $500 billion in infrastructure spending the government has said is needed in the five years through 2012, power accounts for the biggest share at about 30 percent.
 
For a graphic on planned infrastructure spending, click here
 
Domestic players including JSW Energy, Jindal Power, Essar Energy and Sterlite Energy were all considering initial public offerings before last year’s market meltdown, and Adani Power is seeking regulatory approval for a $600 million listing.
 
Foreign players, however, are more cautious about entering the Indian power market given the woes of the past, including the cautionary tale of Enron’s $2.9 billion Dabhol plant, which was shut over a billing dispute with a state utility.
 
“The precedents that you have aren’t very good, to be honest, so I believe investors are adopting a wait and watch policy on this one,” said Eredene’s Sharma.

 


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Infrastructure Presents Opportunity, Pitfalls

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