India's ailing road sector may be in the headlines for all the wrong reasons, but that has not dimmed foreign investors' interest in acquiring and managing these assets, which are now available at relatively attractive valuations. That's because developers are willing to unlock capital by selling operating projects to large domestic and global infrastructure funds as liquidity dries up and banks refuse to finance new projects.
Merchant bankers say almost every developer is looking at doing some kind of a deal today as nearly all of them are facing a cash crunch. The National Highway Authority of India (NHAI) has bid out 240 odd projects under private-public partnership so far, entailing an investment of Rs 200,000 crore. Of these 240 projects, 80 are operational road projects and 160 are under construction. According to investment bankers, developers are looking at doing a transaction-either equity dilution or outright sale-for nearly half of these operational assets.
In the last six months, at least six large deals involving nearly Rs 6,000 crore have happened where strategic investors/funds have acquired stakes in operating road assets. Some of the big players in the segment are SBI Macquarie Infrastructure Fund, IDFC Alternatives, Piramal Enterprises and Uniquest. And many other large foreign entities are sniffing around.
Despite the slowdown and policy paralysis that has hurt India's infrastructure sector, foreign funds-sovereign, pension and infrastructure funds-are keen to acquire projects that will earn them annuities. According to investment bankers in the know, nearly 40-45 operating road assets are up for grabs. Subahoo Chordia, head of Infrastructure and investment banking at Edelweiss Financial Services, says that most developers are in various stages of discussion to monetise their assets as their other main business is going through liquidity issues. He says: "Other than known infrastructure funds, new platforms are also coming up which are interested in acquiring road assets in India. A few pension funds from Europe and Canada too are looking for opportunities to pick up stakes in operating roads in India. The currency volatility and other macro issues have slowed the pace of deals, but a few could be announced soon which will help in attracting further investment in the sector."
There are four or five big players in the sector who are interested in buying road assets in India which are cash positive and operational. Suresh Goyal, chief executive officer and managing director of SBI Macquarie Infrastructure Fund, says: "The roads sector is an important sector for us and we have invested about $300 million in road assets over the last nine months. This is the first time we have picked up majority stakes in two road projects as so far our investment has been through minority stakes. This is changing as promoters are now more willing to divest assets, at least in the roads sector." Macquarie owns infrastructure assets worth $100 billion across the globe and is a nascent player in India in the infrastructure space. The fund now runs road projects and has put a team in place to look after it. Unlike private equity funds, infrastructure funds look at managing the asset through its lifetime and earn annuities in return. Other infrastructure funds are also actively looking at acquiring majority stakes in operating assets, especially roads. While buyers are willing to buy a part of a developer's portfolio, foreign funds are not looking at stressed assets which are facing cash flow issues or are unviable. However, contractors are willing to sell controlling stakes in projects if their overall portfolio is stressed.
At the same time, not all deals in the road sector are due to stress. Some developers are also getting premium valuation in the market. Satish Parakh, managing director of Ashoka Buildcon, which has raised Rs 700 crore from SBI Macquarie Infrastructure Fund, believes the sector holds promise for investors as only 2 per cent of India's highways are national highways and plenty of work needs to be done on the existing roadways. He says: "The sector will see a revival as serious investors who have a portfolio of assets globally are looking at India. However, players with viable experience in execution will score. We formed a holding company with seven road projects (six national highways and one state highway), and of this six are tolling. Macquarie has given us a premium valuation for the 34 per cent stake picked up in the holding company."
However, not all projects are going for a premium, even if they are not being sold below book value (cost of building the asset). Developers are still not climbing down from their expectations, which is why a number of deals are stuck, but many of them could materialise soon. MK Sinha, CEO of IDFC Alternatives, which has also acquired a couple of road projects, does not think that deals are happening below book value. Also, merchant bankers say that since these are operating assets, they are valued on the basis of the cash flow they generate and not on the cost incurred in building the asset.
Valuations of road projects are also being driven by their viability. The road sector projects can largely be classified into two distinct phases. Projects that are most viable were bid between 2003 and 2006. Thereafter, things went awry and overbidding became the norm by 2007. Jayesh Desai, head of investments at Piramal Enterprises, which has acquired a stake in Hyderabad-based road developer Navayuga Engineering, says: "Road projects which were bid before 2006 are viable and have an internal rate of return, or IRR, upwards of 15-16 per cent." While things did improve marginally in 2008-2010, the "blue-sky bidding" came back into vogue with developers offering unrealistic premiums to NHAI as order inflows started drying up from 2011 onwards.
Investors are looking at consistent returns rather than high returns, explains Parakh of Ashoka Buildcon. Even though traffic growth has fallen 4-5 per cent on a year-on-year basis, investors are happy to put their money in road projects that have been tolling for three to four years. Investors believe that things are unlikely to worsen from here and once interest rates start coming down, the IRRs will inch up from 16 per cent levels to around 20 per cent. It's the anticipation of an improvement in the macro-economic environment and possibility of a fall in interest rates that is driving these deals.
ONE FOR THE ROAD
ROAD PROJECTS WHICH HAVE SEEN INVESTOR INTEREST IN THE LAST SIX MONTHS
Assets on the block: Seven highway projects, of which six are tolling with concessionaire period of over 20 years
Investor/Acquirer: SBI Macquarie Infrastructure
Size of deal: Rs 700 crore. The holding company with these roads gets premium equity valuation (30 per cent of project cost) of Rs 2000 crore
Deal Structure: SBI Macquarie picked up 34 per cent in a holding company with seven road projects for Rs 700 crore
Assets on the block: Seven road projects in different stages of development. Company owns 100 per cent in these assets
Investor/Acquirer: Piramal Enterprises
Size of deal: Rs 530 crore is what Piramal has invested in the holding company with seven road assets
Deal Structure: Investment through convertible debentures, stake rises or falls depending on the performance of the roads
GMR JADCHERLA EXPRESSWAYS
Assets on the block: Farukhnagar-Jadcherla highway in Andhra Pradesh
Investor/Acquirer: Macquarie SBI Infrastructure Fund & SBI Macquarie Infrastructure Trust
Size of deal: Rs 206 crore
Deal Structure: Acquiring companies buy 74 per cent in the road project
Assets on the block: Sells 74 per cent in its Ulundurpet highway project in Tamil Nadu stretching over 73 km
Investor/Acquirer: IDFC Alternatives
Size of deal: Rs 222 crore paid to acquire 74 per cent in the special purpose vehicle
Deal Structure: Acquisition is in a single road project that will earn annuity for the investor
Assets on the block: Three road projects in Tamil Nadu: Salem Tollways, Kumarapalayam Tollways and IVRCL Chengapally Tollways
Investor/Acquirer: TRIL Roads, a Tata group company
Size of deal: Rs 2,200 crore
Deal Structure: Salem and Kamarapalayam project have been tolling for the last few years and the controlling stake gives buyer annuity income