By Anjan Dasgupta,
HSA Advocates

India’s Cabinet Committee on Economic Affairs, chaired by Prime Minister Narendra Modi, recently gave its approval for the hybrid annuity model as one of the modes of delivery for imple-menting highway projects. The introduc-tion of this model is expected to provide impetus for the next wave of public-private partnership highway projects and attract more investments in this sector. It’s a welcome move towards the right direction and will benefit all stakehold-ers involved in highway projects in India, primarily private sector developers which were required to assume risks that they couldn’t efficiently manage and banks and financial institutions which were unable to finance such projects due to bankability issues. However, the scope of such a model could be expanded to infrastructure projects other than high-way projects.

Premises of The Model : The government has opted for a hybrid annuity model, based on the assump-tions that: (a) in many highway projects, tolling may not be feasible and hence such projects are not found to be viable on a build-operate-transfer toll (BOT-toll) model; (b) the cost of funds for the government is lower than that at which the private sector can borrow; and (c) the private sector is better equipped to ensure efficient construction, mainte-nance and operation of infrastructure projects. The main object of the hybrid annuity model is to realign risk allocation based on ground level realities of the market thereby bringing about a revival in investor confidence.

Hybrid Mix : Government contracts in the infra-structure sector in India are generally awarded through one of the following hree models: (a) engineering, procure-ment and construction (EPC) and opera-tion, maintenance and transfer (OMT) model, where the project is undertaken at the cost of and on behalf of the govern-ment by a contractor, which is required to construct the project for a fixed price by a fixed date and after construction the government operates the project on its own or awards an OMT contact to an operator to operate and maintain the project over the period of the OMT con-tract; (b) build-operate-transfer annuity (BOT-annuity) model, where the project is developed on a build, operate and trans-fer basis, and the developer is entitled to annuity payments from the government over the period of the contract; and (c) BOT-toll model, where the project is developed on a build, operate and trans-fer basis, and the developer is entitled to generate revenues from tolls levied on the vehicles using the road. The hybrid annuity model is a mix of the BOT models and the EPC model. The project is developed on a built, operate and transfer basis but, unlike BOT con-tracts, 40% of the project cost is payable by the government to the developer in five equal instalments linked to project completion milestones.

Reallocation of Risk : Under the hybrid annuity model, the construction risk and the availability risk is entirely managed by the developer. This is similar to the risk borne by the developers in BOT contracts. However, unlike the BOT-toll model, in the hybrid annuity model the traffic risk is entirely with the government. Toll collection is the responsibility of the government and the developer is entitled to receive semi-annual annuity payments after the completion of the project. This enables the developer to recoup 60% of the project cost, which the developer had to initially bear during the construction of the project, and also the operations and maintenance cos

The project cost and the operations and maintenance cost recovered through annuity payments is inflation indexed through a price index multiple, which is the weighted average of the whole-sale price index and the consumer price index for industrial workers in the ratio of 70:30

Cost of financing : The developer could arrange to fund 60% of the project cost through a com-bination of debt, to be procured from banks and financial institutions, and equity. In a significant departure from the earlier models, the interest cost of financing the debt is to be paid by the government along with the annuity pay-ments. The interest payments would be made on a reducing balance method and the interest rate would be the bank rate determined by the Reserve Bank of India plus a margin of 3%.

In conclusion, the assumptions based on which the hybrid annuity model was approved and adopted by the govern-ment hold good for many other infra-structure projects in India, particularly, the infrastructure projects to be under-taken in the smart cities, as many of these projects will not be viable on a tolling or user fee payment model. Some of the salient features of the hybrid annu-ity model, which have been highlighted above – in particular, the realignment of risks – can be effectively adopted for other select infrastructure projects in India as well.

Anjan Dasgupta is a partner at HSA Advocates. HSA is a full-service firm with offices in New Delhi, Mumbai Kolkata and Bengaluru.

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