The verdict is in. According to a recent Fitch Solutions report, transport infrastructure development, more than any other sector, is set to drive infrastructure investment globally over the next decade. The region expected to lead this development is Asia, with a pipeline of 4,084 transport projects – 37 percent of such schemes worldwide – which totals $3.3 trillion in investment, or 48 percent of the global total invested.
“India has a vast road network, ranking third in the world after China and the US. However, the quality of roads has historically been quite poor”
In the target-rich environment of the Asian transport sector, India is attracting more investment attention than most, with another recent report from Fitch Solutions predicting infrastructure growth in India would continue to be “robust” over the longer term, thanks to “supportive regulatory policies and rising public and private investment, which have already expanded the project pipeline significantly”. Of all the infrastructure subsectors, Fitch predicts India’s road and bridges sector will generate the most opportunities.
Hardik Shah, partner and head of India infrastructure at KKR, sees India’s roads sector as a major beneficiary of the country’s world-leading economic and demographic growth. Shah adds that it is easy to see why India’s roads are likely to be a magnet for private investment.
“Roads continue to be among the most significant and critical infrastructure assets in India, that will not only connect cities and citizens but also spur further economic growth. Rapidly growing passenger and commercial vehicle traffic have driven the need to further develop India’s roads network, and in turn created opportunities for experienced players to invest in the sector,” Shah says.
“The government has also helped to accelerate the sector’s development by providing a favourable regulatory environment and introducing several innovative structures, such as the toll-operate-transfer [TOT] model for roads and infrastructure investment trusts as part of its public-private-partnership initiative. These have also led to a rapid expansion of India’s roads sector,” he adds. “The combination of these qualities has encouraged private sector players like KKR to participate.”
The firm’s interest in the sector took the form of a major acquisition last year, when KKR bought Global Infrastructure Partners’ entire interest in roads platform Highway Concessions One and seven highway assets. The investment, made through KKR’s Asia Pacific Infrastructure Fund, marked the firm’s first investment in Asia’s transport sector.
In April, KKR’s India roads platform, which now consists of 12 road assets with a total length of 910 km spanning 11 states, drew a $175 million commitment from Ontario Teachers’ Pension Plan and is expected to acquire more assets in due course. The transaction followed OTPP’s acquisition of a 25 percent stake in the National Highways Infra Trust – an infrastructure investment trust sponsored by the National Highways Authority of India – for 15 billion rupees ($193 million; €186 million) in November.
“What makes [the hybrid annuity model] exciting for investors like us, is that there is a hedge against any interest rate movement”
Edelweiss Alternative Asset Advisors
Sharat Goyal, chief executive of Impact Infracap, an Indian investment management consultancy responsible for the asset management of AMP Capital’s joint venture with Mumbai-based Sterlite Power, agrees that a major factor behind the rapidly expanding roads sector is the country’s commitment to PPPs as a key tool in the development of infrastructure.
“India has a vast road network, ranking third in the world after China and the US. However, the quality of roads has historically been quite poor,” says Goyal. “Significant progress has been made in the last few years in expanding the national highway capacity – [the country’s] national highways now cover over 140,000km, making it one of the largest networks in the world – and 742 concessions have been awarded in the PPP space, creating a vast pool of assets available for trading among investors.”
Pointing to the Asian Development Bank ranking India first in terms of PPP operational maturity and designating the country as a developed market for PPPs, he adds: “This is a testament to the pace of development – 50,000km of highways of the [total] 140,000km have been built over the last eight years – [and the] wide participation of strategic, domestic and international financial investors.”
Innovative investment models
Contributing to the attractiveness of India’s roads sector as an investment destination, and setting it apart from other Asian and emerging markets, are the two types of investment opportunities in highways available to investors: the hybrid annuity model and toll roads. According to Subahoo Chordia, head of infrastructure at Mumbai-based Edelweiss Alternative Asset Advisors, the hybrid annuity model – a PPP structure implemented by the Indian government to support the development of road infrastructure – is especially effective for encouraging investment in underdeveloped, low-traffic areas.
“What makes [the hybrid annuity model] exciting for investors like us is that there is a hedge against any interest rate movement, which we are all witnessing [at the moment]. It provides a hedge against inflation because it’s a fixed payment linked to interest rate, so the investor doesn’t take on any risk on traffic,” Chordia says.
“We aim to actively evaluate various PPP models with a particular focus on the build-operate-transfer and TOT models, and pursue investments with compelling risk-adjusted returns”
The toll road model, while more prevalent globally, is also drawing more interest within India’s investment landscape thanks to the significant freight traffic post-covid. Recent government initiatives such as the implementation of India’s country-wide goods and services tax and the ‘Make in India’ initiative have resulted in a higher level of on-road traffic and are likely to ensure the continued resilience of toll roads in India, Chordia adds.
“Indian on-road traffic is predominantly freight traffic and not passenger traffic. Hence, as the activity of manufacturing came back post-covid, we saw a huge amount of bounce-back of traffic on toll roads, particularly those which have a higher freight component,” he says.
“This has been further supported because of the efficiencies which the government is creating, such as the 2017 GST Act [Central Goods and Services Tax Act] – which is beneficial because now cargo can move across the country without being worried about every state levying different taxes – and the Make in India movement, which has led to an increase in manufacturing activity in India. [The roads sector] is becoming the beneficiary, and will continue to be a beneficiary, of this.”
The attractiveness of both investment models notwithstanding, Chordia does have some concerns about a lack of investment opportunities large enough to entice global investors over the long term. Privatisation of existing toll roads via the toll-operate-transfer scheme, whereby 30-year leases of toll roads are auctioned off by the government, are also yet to make a serious impact on the investment landscape.
“From a risk perspective, the government has done a good job, but [in terms of] availability of projects, especially if an investor wants to invest a larger sum of money in India, there are less opportunities available. It can be a bit of a challenge for global investors to find a sizeable investment opportunity in India,” he says.
“[In addition], the success rate of the TOT model needs to increase. We have eight TOTs, which the government has [made available], but only four have been awarded, so the success rate for TOTs so far has been 50 percent. The government is committed to seeing this increasing, so we do see positive intent from their side, and [the model] is evolving. I’m hoping it will fall into place. After making such an effort, the government, as well as investors, would like to see a higher conversion ratio on the monetisation of those assets.”
From roads to rail
Edelweiss has primarily built up a transport portfolio comprising hybrid annuity and toll roads. While Chordia does not anticipate Edelweiss’s investment approach changing in the short to medium term, he says the firm is open to exploring other transportation assets in the long term. Railway assets – looking increasingly attractive now government has announced its intention to monetise them – are a potential target.
“As the government [focuses on] the monetisation of railway assets, we would like to add that into the mix to further de-risk ourselves from any movement between rail versus road,” he says.
“Over the long term, we may see railway infrastructure being strengthened, and there could be a bit of a shift which will happen from road to rail. We would like to factor that in and build a portfolio where we can add some railway infrastructure into our portfolio over the long term to mitigate the risk of road versus rail.”
Looking forward, Shah expects transportation to remain a key part of KKR’s infrastructure strategy in India.
“We aim to actively evaluate various PPP models, with a particular focus on the build-operate-transfer and TOT models, and pursue investments with compelling risk-adjusted returns,” he says.
“The market dislocation and potential impact of the ongoing pandemic is something we are continuing to keep a close eye on. That said, our infrastructure strategy is focused on downside protection with a low risk of capital impairment, and one of its qualities is that the assets that we seek to invest behind tend to have limited sensitivity to economic cycles and discretionary spending risk. As a long-term investor, we have the ability to stay invested even in moments of short-term impact, and additionally invest behind compelling opportunities in times of market dislocation.
“We continue to look for more ways to continue contributing to the development of this important sector for India.”