The central government has carried out a series of reforms to increase the participation of mid-sized engineering, procurement and construction (EPC) players in the tendering process of construction contracts. These measures are likely to intensify competition in roads, bridges & highways and tunneling projects by way of higher participation from a wider set of bidders, opines India Ratings and Research (Ind-Ra). These relaxations however would also provide the much-needed relief to those construction contractors whose eligibility to bid for new projects has been hampered on account of COVID-19 led business disruptions. These changes relate, among others, to relaxations in the eligibility criteria and norms for construction projects in the segment, which are bid both on the EPC and hybrid annuity model (HAM) / build-operate transfer (BOT) modes.

Reduction of Performance Guarantee: In November 2020, the Department of Expenditure, Ministry of Finance reduced the amount of performance guarantee for all construction contracts to 3% of the value of the respective contracts from the existing levels of 5%-10%. This reduction is the result of a continued demand from infrastructure developers since the onset of COVID-19, which has impacted the overall systemic as well as entity-specific liquidity. The reform is likely to aid timely project execution and alleviate liquidity concerns, given that companies are likely to have enhanced headroom for order tendering, which would help them maintain their revenue visibility. This reform is also significant for the sector, considering the shrinking bank credit to the sector even before the onset of the pandemic. The reduction in performance guarantee is valid for all existing contracts and would remain so for all contracts awarded until end-2021. Furthermore, existing eligible projects can avail the benefit till the end of the construction period, even if the same falls beyond 2021. However, these benefits would not accrue to contracts where arbitration or court proceedings have already been initiated or are being contemplated. An approval from a higher authority of the concessionaire would be required for cases where higher performance security (above 3% of contract value) is envisaged by the latter.

Relaxation of Eligibility Criteria for HAM / BOT projects:
The Ministry of Roads Transport and Highways (MoRTH) has reduced the minimum net worth criteria limit to 15% of the projected EPC project value in the preceding financial year for bidders of national highway projects from 25%. In case the bid is submitted by a consortium, each member of the consortium is required to have a minimum net worth of 7.5% of the estimated project cost in the preceding financial year, versus 12.5% earlier. 

Also, the definition of core sector has been expanded to include construction of stadiums, hospitals, hotels, smart cities, warehouses /silos, oil & gas and commercial set-up (e.g. special economic zones) works. As such, experienced construction companies in terms of the new definition would now be eligible for participating in bids for HAM projects. These changes are also likely to benefit construction companies which are likely to be financially stressed on account of COVID-19, hampering their eligibility to bid. 

The agency, however, believes that this amendment should increase the participation in bids for HAM projects especially from mid-sized players and players having expertise in sectors earlier considered as non-core for road construction bids. HAM projects tend to have lucrative returns in the form of capital unlocking, which are generally higher than the book value, post commercial operations. They also benefit from an inherently strong model, especially since the traffic volume risk is borne by the concessionaire. Also, there is huge potential for divestment of these projects. These divestments are mostly utilised by construction companies for deleveraging or for funding equity commitments. The relaxations have also been provided for projects being tendered under the BOT model. However, the proportion of such projects has significantly reduced since the introduction of HAM in FY17.

Despite this, companies potentially eyeing the HAM/BOT space in view of the relaxations are likely to face the same set of challenges being faced by the players already operating in this space, viz. financial closure of HAM projects, delayed appointed dates due to land acquisition issues and tying up for equity funding, especially if the entrants are smaller in scale and have lesser financial flexibility or group support.
 

Relaxation of Technical Eligibility Criteria for Tunneling / Bridge Works Awarded through HAM / BOT  Modes: C
ompanies are no longer are required to have prior tunneling experience for participating in projects which involve construction of tunnels up to 200m. Similarly, no experience is required for participation in projects which involve construction of bridges up to 60m as per the revised guidelines. 

The agency believes these modifications would pave the way for smaller sized construction companies to meaningfully enter in these segments. However, tunneling projects typically require investments into tunnel boring machines (TBMs) which would require incurrence of capital expenditure, unless the primary developer chooses to sub-contract these works or lease-in these TBMs. Furthermore, companies face challenges to replenish their order books with similar tunneling projects to adequately utilise their machinery/TBM till the end of its life-span. As such, bidders, specifically mid-sized bidders, intending to execute such works would be required to gauge their appetite for such projects to bid for them. 

Extension of Concessions for All Road Projects:
The construction sector as a whole has faced a major challenge in the form of labour availability and mobilisation of projects, among others, from end-March 2020 to 20 April 2020. Although labour issues ironed out by end-2Q / early-3QFY21, many projects are likely to run behind schedule due to the early onset of monsoon in 1HY21 and low efficiency of operations. MoRTH had provided certain relief measures to contractors of road projects in June 2020, including no deduction of retention money from running bills for a period of three to six months on a project-by-project basis, waiver of penalty for delay in submission of performance guarantee / bank guarantee in new contracts entered into during March – September 2020, grant of extension of time for three to six months based on the conditions of the project site and a similar extension of concession period of BOT contracts before commercial operations date to avoid loss of toll collection due to a shortened concession period, among others. The ministry has extended these relief measures by a further three months, which is likely to adequate cushion for completion of projects while maintaining liquidity avenues, without potential time overruns and the penalties associated with them. 

Increase in Frequency of Milestone Payments for HAM Projects:
The ministry has increased the frequency of milestone payments to aid working capital management of HAM developers and improve cash flows during construction by minimising working capital blockage required to fund construction activities. HAM projects awarded by central agencies, viz. National Highways Authority of India (NHAI; ‘IND AAA’/Stable) / MoRTH typically receive around 40% of the bid project cost from the respective concessionaire by way of grants during the construction period. These payments were earlier received by HAM project developers in five equal tranches (each worth 8% of the project cost), i.e. on achievement of physical progress of 10%, 30%, 50%, 70% and 90% of the project. As per the revised guidelines, the developers would receive the first milestone payment on achievement of 5% of the physical progress of the project, second to be received on completion of 10% of the project and the balance eight payments would be received on achievement of further physical progress at intervals of 10%. As such, the frequency of payments has been increased to 10 equal instalments of 4% of the project cost. 

Relaxation of Eligibility Criteria for Road EPC Projects:
MoRTH has also relaxed certain eligibility criteria for EPC projects. A summary of a few significant ones among these is as follows: 
·       Companies having executed project of up to 20% of the estimated project cost can participate in the bid, as against the earlier criteria of 25%
·       Reduction in requirement of annual average turnover in the past five financial years from 20% of estimated project cost to 15%
·       Reduction in requirement of receipts of minimum payments for completed works of roads, bridges and highways projects in the past five financial years to not less than 5% of the estimated project cost from 10%.
·       Relaxations have also been provided on the technical front, viz. no prior experience required for sole bidders / at least one joint venture partner if the longest span of proposed structure in a road project is less than 60m; else experience required in the past 10 financial years of construction of 50% of the longest span of the proposed project or 100m whichever is lesser. Earlier, bidders required construction experience of 50% of the longest span of proposed structure in the project being bid for 
·       Similar relaxations in technical criteria have also been provided in standalone specialised projects featuring construction of bridges / railway overbridges / flyovers, most notably requirement of completion of similar projects has been brought down to 20% of the estimated project cost in last ten financial years, as against earlier requirement of 25% of estimated project cost in last five financial years. In case of projects costing more than INR10,000 million, the relaxation applies to completion of project of at least 20% of the estimated project cost or INR10,000 million, whichever is lesser in the past 10 years financial years. 

Despite the benefits that are likely to accrue to construction companies as a result of these changes, bank credit has not been easy to obtain for companies having a stretched balance sheet and tight liquidity profiles. 

As such, mid-sized players with a strong balance sheet position and adequate working capital cushion for expansion or large sized players with strong financial profiles willing to diversify into other sub-segments are the ones most likely to benefit from these amendments in the bidding guidelines. Resultantly, these changes are likely to increase participation of construction companies for new bids within the road sector, which has been a challenge especially in the post-COVID times on account of lack of eligibility and stretched credit profiles of mid and small-sized construction contractors. The agency further opines that companies which are able to bag new projects as a result of these changes while maintaining bidding discipline are likely to drive home the advantage.

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