The Road to Reforms

01 Oct 2011 CW Team

Despite the infrastructure 'boom', the industry has failed to adhere to the momentum expected from it in terms of project execution.

Janaki Krishnamoorthi delves into the reasons behind this and discovers that corruption, lack of transparency and rigidity must be eradicated for India to live up to its potential.

It's a curious thing, the pace of construction in India. While the past few years have witnessed an unmistakable upsurge in the quantum of work, especially in the infrastructure sector, projects just don't appear to be coming on stream as rapidly as they should.

Consider these numbers, for instance:

According to a recent independent survey, over 50 per cent of infrastructure projects are running behind schedule.
Forty five per cent of centrally funded projects in various states have been delayed, costing the Union Government an additional Rs 66 crore approximately.
The award of road projects by the National Highways Authority of India (NHAI) has been on a slow track in the current Five-Year Plan (FYP) 20072012, resulting in an investment of only Rs 278,658 crore, compared to the original projection of Rs 314,152 crore.
In the ports sector, the Ministry of Shipping awarded only nine projects last year as against the set target of 21.
The award of many hydropower projects has been delayed as they had to be reevaluated for environmental impact. Power capacity added in the first three years of FYP 20072012 is only about 20,000 MW as against the target of 78,000 MW, which must now be achieved in the next two years.

Evidently, the situation is far from ideal. And the reasons for this state of affairs are not far to seek: delays in project clearance by a slew of departments in the process chain; slow decision-making at various levels; problems of land acquisition and rehabilitation; inadequate project structuring, management and financing; shortage of skilled labour; rising material and project costs; delay in dispute resolution; and, of course, corruption.

Combating corruption

As early as 2002, a report by the Central Vigilance Commission (CVC), available on its website, observed how corruption, which was prevalent initially at the lower level of the hierarchy in the industry, had spread to higher levels over the years. The publication, titled Problem Areas of Corruption in Construction, by the Chief Technical Examiners Organisation (CTEO) of CVC identified areas vulnerable to corrupt practices like administrative approvals, technical sanctions, consultancy, preparation and scrutiny of tender documents, work awards and agreements, payment to contractors, and quality in construction. The report also pointed out with relevant examples how estimates were inflated to provide a sufficient margin for underhand dealings; scope of work changed drastically to benefit contractors; funds diverted from approved projects to non-approved works; consultants appointed in an arbitrary fashion, some of whom prepared inflated and vague estimates that went unchecked; and unnecessary and stringent criteria prescribed for pre-qualification to reduce competition.

Almost a decade later, little has changed. A recent survey conducted by KPMG India revealed that around 32 per cent of respondents perceived the construction industry to be most prone to corruption.

It's an estimate that comes as no surprise to major players in the industry. "It is well known that contracts are not awarded without quid pro quos," reportedly revealed Sunil Mantri, Chairman & Managing Director, Sunil Mantri Realty Ltd, and immediate Past President, Maharashtra Chamber of Housing Industry (MCHI). "Real-estate companies are at the mercy of the authorities when applying for any permission or approval and have to give in to their demands unless they want their project stalled or threatened under any of the onerous rules that they have at their discretion. Corruption is significantly lower in the private sector and in World Bank-funded projects, where monitoring is carried out by international agencies." According to Mantri, on an average, 1 per cent of the project cost in the realty sector is earmarked by developers for such 'out-of-pocket' expenses; in contracting, a contractor estimates 13 per cent of the budget to be spent on such expenses.

"Yes, our industry is probably the most corrupt one after the police and revenue department," concedes Niranjan Hiranandani, Managing Director, Hiranandani Group. "It is a systemic failure that ultimately brings in the wrong elements into the industry and increases housing costs, putting them beyond the reach of many and creating more slums. Despite being leaders in the industry, our individual attempts to fight the system have not been successful. It has to be a joint effort, a movement like what Anna Hazare has started. Some of our industry associations have made a good beginning in this direction but they are yet to yield effective results."

One such organisation is Confederation of Real Estate Developers' Associations of India (CREDAI), which recently launched its programme, Mission Transparency, to combat corruption. "Owing to the 48 departments that are required to give an NOC (no-objection certificate) and approvals to a project, almost 150 to 200 people in authority are brought into contact with the client," explains Lalit Kumar Jain, President, CREDAI, and Chairman & Managing Director, Kumar Urban Development Ltd. "It's a capital-intensive business and many in the system exploit the situation to their advantage. Identifying this as the main source of non-transparency in the business, CREDAI launched 'Mission Transparency' in an effort to create one-window clearance. Under this, we have created a comprehensive check-list that covers all departments, including environment, aviation, defence, traffic, fire, etc. If implemented, approvals can be given by one office within three weeks instead of the current three years."

Transparency trail

Indeed, transparency and a single-window clearance have been a key industry demand for decades as a project requires myriad approvals and clearances from several departments that not just cost time, energy and money but also delay projects and escalate costs. "The key issues affecting the real-estate business, apart from inadequate FSI norms, are excessive rules and regulations, far too many permissions to be obtained and the extremely slow process of granting such permissions," asserts Adi Godrej, Chairman, Godrej Properties Ltd. "All the state governments in the country should introduce simplified and single-window clearance procedures."

In Mantri's view, applying innovative methods and technology to minimise human intervention and outsourcing some activities to professionals in the private sector would improve the functioning of government bodies. "Using technology to bring down human intervention to a bare minimum will reduce the discretionary powers vested in some individuals," he points out. "For instance, municipal corporations can outsource the scrutiny of plan and sanctions to authorised architects from the private sector with the corporation only doing systemic checks and peer reviews. Similar outsourcing to accredited and experienced professionals in several facets where governmental interventions are required will help reduce red-tapism and improve the system."

At this juncture, it is important to point out that many government agencies are cognisant of the problem and are working towards a solution. For instance, Central Public Works Department (CPWD) and some State Public Work Departments (PWD) have already introduced e-governance. "CPWD, and even state PWDs in many ways, follow transparent business practices as well as rigorous record keeping practices," emphasises Chandra Shekhar Prasad, Director-General, CPWD. "Accounts are systematically audited and maintained in the public domain. We are endeavouring to strengthen these practices by leveraging technology and e-governance measures. We have already put in place four standalone, web-based modules for e-tendering, project monitoring, personnel information and management, and complaints (e-sewa). We plan to add other modules and bring them all under one umbrella for a comprehensive e-governance system."

For his part, Brihanmumbai Municipal Corporation (BMC) Commissioner Subodh Kumar recently proposed changes in the Development Control Rules (DCR) to prevent illegal structures, curtail malpractices and bring transparency to the system. His suggestion also includes the scrapping of Section 64 (a) of the DCR, wherein the municipal commissioner has certain discretionary powers to grant concessions and relaxations to developers on a case-to-case basis. The proposals are now under government review.

NHAI too has introduced several proactive policies and implemented most of the recommendations of the B Chaturvedi Committee on the Model Concession Agreement (MCA) and bidding process, though it is yet to implement its recommendations on dispute resolution. Currently, the outstanding disputed amount due to contractors in DRB/arbitration/court cases is estimated to be around Rs 11,500 crore.

Procedural lacunae

In addition, there are several procedural issues that need to be addressed by NHAI. For example, inadequate time given to consultants for a feasibility study affecting the quality of the report; cost discrepancies; the selection of consultants on parameters other than technical skill; ill-defined scope of work; variations in work; lack of sufficient time given to the contractor to prepare the bid, leading to potential mistakes; and delay in pre construction clearances (like environmental clearances and land acquisition) are some of the major issues with NHAI projects according to the National Highways Builders Federation (NHBF) and some contractors.

In addition, the 'independent engineer' appointed by NHAI to supervise and review a project is hardly independent, argue industry professionals. "NHAI essentially follows an outsourcing model, but with one key difference," states Rohit Modi, Deputy Managing Director, Gammon India Ltd. "The independent engineer is not really independent but is required to obtain NHAI's NOC for most decisions. There is little accountability for loss of time, which for a private player means money. There are instances where toll notifications are issued several months after the COD (commercial operation date). The revenues lost never come back. For any individual, while there could be a downside of taking a decision if it is perceived to have favoured the private sector or contractor, there is no downside if he does not take a decision or delays it."

Modi goes on to add that while the Union Minister of Road Transport and Highways has undertaken a major drive to bring transparency, it needs to be accompanied with strengthening of NHAI with the appointment of a full-time chairman and time-bound decision making. "We have to create an incentive structure for taking decisions," he maintains. "It's not easy but is the only way forward."

"The lack of consistency in NHAI contract terms is another major concern," points out M Murali, Director-General, NHBF. "The recent amendment of the toll policy, by which toll rates of multi-axle vehicles were reduced by the government on the insistence of transporters, is a classic example. The amendment was imposed without taking into account the views of the road builders, which may lead to a revenue loss to concessionaires to the extent of 1518 per cent. Another issue is overloading of commercial transport vehicles that not only reduce the life of roads but increase the cost of maintainence."

The process of contracting, too, leaves a lot to be desired, according to Modi. "Contracts are possibly the ultimate in 'forwards trading'," he remarks. "The selling price is fixed even before production has begun. It is a game of trying to control or limit costs in an uncertain and ever-changing world. EPC contracts typically tend to be lumpsum turnkey fixed-price contracts, whereas there is a limited forwards market in commodities, especially key inputs to construction like cement and steel."

Regulating prices

It is definitely a matter of concern that the industry has been jostling with a steep and steady rise in prices of cement, steel, bricks and other materials, some of which are also in short supply. In fact, according to a survey conducted by The Associated Chamber of Commerce and Industry of India among industry players, the slowdown in the sector is mainly owing to an unregulated price hike in key construction materials, together with the rampant shortage of workforce at all levels. Apart from projects getting delayed or cancelled, such cost increases also adversely affect contractors undertaking infrastructure projects. "The availability and rising prices of construction materials are a cause for concern, especially in BOT projects where any cost increase will have to borne by the concessionnaires," observes Murali. "As there is no government control over prices and availability, an escalation clause ought to be included in BOT projects. All these issues can be resolved by strengthening sector policy, institutional structure and regulation."

However, this begs the question: is the price rise and shortage of key materials a market-driven phenomenon or driven by vested interests? "The construction industry is booming and the increase in demand is a major reason for the price rise," responds Prasad. "There may be other reasons and only economists can answer this question. In our projects, we have made an effort to insulate contractors from the effects of a rise in the price of labour and major materials. This has helped reduce the effect of the price rise."

Meanwhile, some industry players allege that cement and steel cartels are behind such rapid price rises. And industry organisations like the Builders' Association of India (BAI) and CREDAI have been demanding some regulation on this score. "There is a suspicion of cartels being involved but we have not been able to prove it," concedes Hiranandani. "Prices are increasing, no doubt, and I do not know whether they are justifiable. It could be a market-driven mechanism; an increase in price need not necessarily mean cartelisation."

Though Godrej declined to comment, he made sure to add that any cartelisation under the new Competition Act was illegal and it was up to free-trade regulator Competition Commission of India to look into any such allegation. Nevertheless, Jain declares that it is a well-established practice. "We have been raising the issue. Only greater political will can help." In fact, the Serious Fraud Investigation Office of the Ministry of Corporate Affairs (MCA), which probed into price manipulations by three leading cement companies between 2008 and 2010, held them guilty and recommended action against them. Subsequently, the Competition Commission of India received a mandate from MCA to further investigate the charges of cartelisation against these cement companies.

Labour crunch

The lack of skilled manpower has proved to be another stumbling block for the industry. The massive growth of the manpower-intensive industry has naturally led to a surging demand for skilled and unskilled workers. Supply has clearly not kept pace with demand and the industry is now facing an acute shortage and consequent rising labour costs. "The labour cost has doubled in the past two years," confirms Jain. "CREDAI is participating in the National Skill Development Corporation's training programmes. Large scale mechanisation and automation have become necessary."

Modi concurs, saying, "Labour is the biggest challenge for the industry now. Unavailability, lack of appropriate skills and quick turnover are the major issues. Despite many of us investing in training and skill upgrades, we are still falling short. The reduced migration of workers from traditional locations like Bihar, Orissa and West Bengal owing to the generation of local employment opportunities through the National Rural Employment Guarantee Scheme is a major reason for this shortage. To counter this, we may have to follow the west and move to mechanisation and greater asset utilisation."

At present, all stakeholders from the government and major players to industry associations are undertaking a variety of initiatives, like setting up training institutes, providing inhouse training and organising special training programmes. They are also paying heed to good compensation, improved working conditions and recognition of the labour force.

Funding fracas

Manpower apart, a sharp rise in lending rates by banks is yet another shock that has the industry reeling. The cost of borrowing just got higher with the recent hike of repo rates by the Reserve Bank of India, which will naturally have an adverse effect on both developers and home buyers.

"Such increases in interest rates only make housing more unaffordable," rues Hiranandani. "I think there should be selective credit control instead of raising interest across the board. An exception should be made for the housing sector as it affects not only developers but home buyers."

For their part, players in the infrastructure sector undergo funding limitations owing to infrastructure projects being capital-intensive with long gestation periods and multiple risks. Hence, they require long-term finances with a constant rate of interest. "Our projects are characterised by back-ended cash flows and require term loans of a longer tenor, ideally 10 to 12 years, with a back-ended repayment structure," says Murali. "However, there is a dearth of long-term structured sources of funds, as banks cannot have more than 15 per cent exposure. Capital markets in many emerging countries including India are insufficiently developed to support the raising of such long-tenor debt."

Recognising the problems faced by the industry, the government set up the The India Infrastructure Finance Company Ltd (IIFCL) in 2006 to provide long-term loans for financing infrastructure projects. In the same year, it also announced the Viability Gap Fund for competitively bid projects. Under this fund, the Central Government meets up to 20 per cent of the capital cost of a project being implemented in the public-private partnership (PPP) mode by a central ministry, state government, statutory entity or local body; the state government, sponsoring ministry or project authority can pitch in with another 20 per cent of the project cost. However, all these programmes reportedly have yet to become proactive.

That said, the will to change is in itself heartening, a sign of the times and a harbinger of the future. While the Indian construction and infrastructure sectors are certainly beset by impediments they need to overcome, it is good to see that our nation stands today on the threshold of reforms. It's time to step across to the other side.

Dr JN Singh, MemberFinance, NHAI, comments on criticism levelled against the body:

On inadequate time for feasibility study and bidding process: Our time frames are definitely adequate. We provide around six months for a feasibility study. It may not be ideal by European standards but as we have a large number of programmes, we cannot afford to give more time as the projects will get delayed. Likewise for bidding; we give 45 days for RFQ (request for qualification); after a gap of 15 to 20 days, we call for RFP (request for proposal) and give another 45 days for submitting the proposal. So the bidders, in all, get around three to four months. In addition, our tenders are posted on our website almost a month in advance.
On the independent engineer not being really independent: I agree our engineer has not been given full freedom. In fact, he too prefers to consult us. After all, we are dealing with public money and NHAI is ultimately accountable. Hence, we would like to keep a tab. However, almost 95 per cent of the engineers' recommendations are accepted by NHAI. There is hardly any delay as only two to three levels of officials are involved in the process. If this is leading to corruption, how can we be sure that the independent engineer who is given full powers will be above board?
On illdefined scope of work and variations: The scope of work is well defined at least in current projects that are now largely on BOT (build, operate and transfer) basis. Sometimes, changes and alterations are made depending on local situations and demands. Our agreements allow for such changes and they rarely go beyond the 5 per cent specified.
On delays in land acquisition: We generally try to acquire around 80 per cent of the land prior to the commencement of a project. But at times we do start the work even when 25 to 30 per cent free right of way is available.Yes, there have been delays in acquiring the balance land owing to some state governments not being forthcoming because of local pressures, unwillingness of landowners to part with their land, demand for higher rates, etc. For instance, in Junagadh for the JetputSomnath fourlane highway project, an underpass was to be originally located at a place close to the town. But as there were objections, we shifted it to another place with the consent of all involved. Now, a new set of agriculturists in that area are against it. We are trying to sort it out. It is a challenge but not an insurmountable one.
Dispute resolution: Disputes had cropped up earlier with EPC contracts on issues related to materials used, quantity and quality of materials, and specifications. Now, with BOT contracts, disputes are comparatively fewer as both design and construction are carried out by contractors. We are in the process of finalising the Chaturvedi committee recommendations and they will be put in place in another two to three weeks.

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