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Engineering & Construction

Infrastructure in India
A vast land of construction opportunity

pwc
1
Contributors Jonathan Hook, Michael Cracknell, Vasant Gujararthi, Ravi Bhamidipati,
Amrit Pandurangi, Girish Mistry, Hemal Zobalia, Vishwas Udgirkar, Mukesh Rajani,
Graham Dredge, Jimit Devani and Raj Julleekeea.
Principal author Elizabeth Montgomery
Graphic design Hamilton-Brown

PricewaterhouseCoopers
Contents

Welcome 3
Introduction 5
Foreign Direct Investment (FDI) and the regulatory environment 6
Opportunities 7
Roads and highways
Rail
Ports and airports
Power
Public private partnerships

The tax environment for E&C companies investing in India 11


Structural considerations for developers
International tax considerations
Higher depreciation – what lies ahead?
Indirect tax issues

Challenges for local players and foreign companies looking to enter the market 14
Building a sustainable future in India 16
Concluding thoughts 17
Further reading 18
PricewaterhouseCoopers expertise in the E&C industry in India 20

Infrastructure in India: A vast land of construction opportunity 1


“Expanding investment in infrastructure can play
an important counter cyclical role. Projects and
programmes [are] to be reviewed in the area
of infrastructure development, including pure
public private partnerships, to ensure that their
implementation is expedited and does not suffer
from [the] fund crunch.”
Mr. Manmohan Singh, Indian Prime Minister,
(quoted in newspaper reports, October, 2008)

2 PricewaterhouseCoopers
Welcome

In this paper, we examine the opportunities created, how onshore versus offshore Reasons to invest in India:
for the engineering and construction (E&C) services and supplies are managed in a • One of the world’s fastest growing
industry in India, one of the fastest growing particular contract, and indirect tax economies – and growth expected to
economies in the world. We also focus on implications can all have a major impact continue at 7-7.5% despite the global
the structuring opportunities and some of on the bottom line. Further, foreign players downturn
the challenges overseas participants are are likely to need to identify promising
• Few restrictions on foreign direct
likely to encounter. local companies, then make a case for a
investment (FDI) for infrastructure
profitable partnership, in order to achieve
India’s economy is big and getting bigger. projects
PricewaterhouseCoopers estimates a win-win situation in India. Still, there is a
strong rationale for many E&C companies • Tax holidays for developers of most
that India will become the world’s third types of infrastructure projects, some
largest economy by 2050. Liberalisation of to invest in India sooner, rather than later.
Not only are there substantial of which are of limited duration
government regulations and a deliberate
opportunities now, but establishing • Opening up of the infrastructure sector
strategy on the part of the Indian
relationships and a presence in the market through PPPs
Government to promote infrastructure
spells opportunity for E&C companies. can help to ensure continuing project
potential over the medium- and long-term. Projected spending from FY07-FY12
Nearly all of the infrastructure sectors
Looking ahead, we believe that it is in selected infrastructure segments:
present excellent opportunities, with roads
and highways, ports and airports, railways imperative that infrastructure development • Electricity: US$167 billion
and power standing out as particular occurs in a sustainable manner, in India • Railways: US$65 billion
bright spots, with staggering sums of and around the globe, if the impact of
• Road and highways: US$92 billion
investment planned. Public private climate change is to be slowed to broadly
acceptable levels. The Indian Government • Ports: US$22 billion
partnerships (PPPs) are gaining in
importance, and are benefiting from must maintain a commitment to ensuring • Airports: US$8 billion
government support – targeted PPP that rapid growth does not happen at an
participation is US$150 billion. Companies untenably high environmental cost, and
experienced in structuring these types of infrastructure projects will play a key role
deals should be able to use their expertise in ensuring the success of ‘green growth’.
to good effect in the Indian marketplace. Those E&C companies taking a holistic
approach to building a sustainable
Operating in India requires a thorough infrastructure will have a strong
understanding of the local market. competitive advantage.
Companies need to do their homework in
order to understand a host of tax and
regulatory issues before bidding on
projects or setting up operations. Whether
or not a permanent establishment is November 2008

Jonathan Hook Ravi Bhamidipati

Global Engineering & India Engineering &


Construction leader Construction leader

Infrastructure in India: A vast land of construction opportunity 3


“The link between infrastructure and economic
development is not a once and for all affair.
It is a continuous process; and progress in
development has to be preceded, accompanied,
and followed by progress in infrastructure, if we
are to fulfill our declared objectives of generating
a self-accelerating process of economic
development.”
Dr. V. K. R. V. Rao [noted Indian economist, early 1980s]

4 PricewaterhouseCoopers
Introduction

The Indian economy is booming, with realistic, even given the global credit Private sector participation is integral
rates of Gross Domestic Product (GDP) crunch, and assured observers that the to these plans. PPPs have been
growth exceeding 8% every year country’s Government will take action identified as the most suitable mode for
since 2003/04. This ongoing growth if necessary to support businesses and the implementation of projects – and
is due to rapidly developing services the financial markets. Mr. Singh has also indeed, are rapidly becoming the funding
and manufacturing sectors, increasing singled out infrastructure investment as norm. Their share of the total planned
consumer demand (largely driven by particularly vital. infrastructure improvements is projected
increased spending by India’s middle to be around 30% (US$150 billion). Power
Indeed, even with a somewhat slower
class) and government commitments to rate of growth, the Indian economy is still and road projects top the list, and other
rejuvenate the agricultural sector and expanding significantly, and substantial transportation sectors such as railways,
improve the economic conditions of investment in infrastructure continues ports, and airports are also targeted for
India’s rural population. Construction to be required in order to sustain India’s major investments.
is the second largest economic activity economic progress. The country’s Companies looking to capitalise on the
in India after agriculture, and has been capacity to absorb and benefit from new situation need to plan their strategy
growing rapidly. The production of technology and industries depends on the for entering the market carefully.
industrial machinery has also been on the availability, quality and efficiency of more Understanding the local market, including
rise – and the increasing flow of goods has basic forms of infrastructure including selecting complementary local partners,
spurred increases in rail, road and port energy, water and land transportation. In is vital. Tax optimisation is a key cost
traffic, necessitating further infrastructure some areas, roads, rail lines, ports and component – while substantial tax benefits
improvements. airports are already operating at capacity, are provided for infrastructure projects,
In the fiscal year ending March 2008, so expansion is a necessary prerequisite developers need to be savvy about
India’s GDP grew by more than 9%. This to further economic growth. structuring their contracts. Good tax
robust rate of expansion was initially The Indian Government recognises this planning can have a potentially decisive
forecast to continue in the 2008-2009 imperative. As per the Eleventh Five Year impact, especially in bidding situations, and
fiscal year. In summer 2008, however, Plan, more than US$500 billion worth of help to avoid unnecessary litigation later.
the combined impact of slowing Indian investment is planned to flow into India’s
consumption, a higher domestic cost infrastructure by 2012. Construction
of capital and reduced capital access projects account for a substantial portion
from international capital markets raised of the proposed investments, making
concerns by some analysts that the rate of the E&C sector one of the biggest
growth might be slowing. In October 2008, beneficiaries of the infrastructure boom
India’s Prime Minister, Mr. Manmohan in India. The regulatory environment is
Singh, affirmed the Government’s view relaxing to encourage further foreign direct
that a rate of growth of 7-7.5% remains investment (FDI).

Infrastructure in India: A vast land of construction opportunity 5


Foreign Direct Investment (FDI) and the regulatory
environment

Major infrastructure development requires Figure 1: FDI routes


a substantial influx of investment capital.
The policies of the Indian Government Approval Route Automatic Route
seek to encourage investments in – Permission required – Freely permissible (100%)
domestic infrastructure from both local
and foreign private capital. The country
is already a hot destination for foreign
investors. As per the World Investment
Report of the UNCTAD, India was rated • Existing Airports – beyond 74% • Greenfield airports
the second most attractive location (after • Atomic Minerals • Construction & maintenance of infrastructure
China) for global FDI in 2007. like ports, harbors, roads and highways
• In case of joint venture or technology
collaboration agreement in the same field • Power generation, transmission and
Currently, India has FDI of about US$21
distribution and power trading (atomic
billion per year, well below the targeted energy not permitted)
US$30 billion. In order to increase
• Mass rapid transport systems
FDI inflows, particularly with a view to
catalysing investment and enhancing • Townships, housing, built-up infrastructure
infrastructure, the Indian Government has and construction-development projects
introduced significant policy reforms. For
example, it now permits 100% FDI under
the automatic route for a broad range of
sectors (see Figure 1) – only certain post- to promote the construction sector, the the development of certain sectors in India
Indian Government has relaxed some may be hampered due to lack of adequate
investment intimation is required. For
of the exchange control restrictions and co-ordinated planning. Projects
FDI in a few sectors, a prior approval is
and is now allowing foreign nationals/ which are approved may face difficulties
required, which takes around 6-8 weeks.
citizens to acquire immovable property in if related projects are substantially
As part of policy reforms, the Indian
India, subject to certain conditions and delayed. One example is Bangalore’s new
Government is constantly simplifying
procedures. international airport, one of the largest
the approval route process, including
PPP projects to date. The project is facing
setting up several agencies to expedite Hurdles to investment remain. Although
growing pains related to insufficient road
FDI approval. Further liberalisation is India has a well-developed legal
and rail connections to the new facility,
expected as the Government continues to system, the current legal and regulatory
in part due to delays of expected high-
emphasise infrastructure investment. environment sometimes acts as an
speed rail and highway projects under the
obstacle to the necessary injections
In August 2008, a press report stated that auspices of other government bodies.
of foreign private capital into India’s
Morgan Stanley was looking to invest infrastructure. Major infrastructure
up to a quarter of its US$4 billion global projects are governed by the concession
infrastructure fund in emerging markets, agreements signed between public
notably India and China – and that in India, authorities and private entities. Tariff
Morgan Stanley would face competition determination and the setting of
from Australia’s Macquarie Group, JP performance standards vary somewhat by
Morgan, Goldman Sachs and Deutsche sector. In the roads and highways sector,
Bank, all looking to channel foreign the ministry generally sets tolls – while in
investors’ money into Indian infrastructure. major ports projects, and many of those
While some of this planned investment in electricity generation, an independent
may be reduced or delayed given the regulator will decide relevant tariffs. In
current environment in the credit markets, the airport sector, a new independent
India is still likely to garner substantial regulator is planned for 2009 and is likely
FDI, particularly if its economy is able to to play a major role in determining tariffs in
maintain a fairly strong rate of growth in concession agreements for the segment.
the face of a global recession. In some instances, ministry or regulator
From an exchange control perspective, control over potential proceeds can act as
India is moving towards full current a disincentive to the private infrastructure
developer.
account convertibility. Most revenue
transactions are freely permitted, As is the case in many countries, there
except certain transactions like royalty, is no single regulator which formulates
consultancy fees, etc., which are the policy for all infrastructure projects.
subject to certain limits. Capital account There is also no standardisation in the
transactions need prior approval, except concession agreements across the
where specifically permitted. In order different infrastructure sectors. As a result,

6 PricewaterhouseCoopers
Opportunities

What segments present the best road infrastructure. Plans announced by are likely to reach the US$700 million-
opportunities for E&C companies? The the Government to increase investments US$800 million range. About 53 projects
Planning Commission of India has planned in road infrastructure would increase funds with aggregate length of 3000km and an
extensive expansion in the roads and from around US$15 billion per year to over estimated cost of around US$8 billion
highways, ports, civil aviation and airports, US$23 billion in 2011-12 (see Figure 2). are already at the pre-qualification stage.
and power infrastructure segments – all of The quantum of funds invested as part The procurement process favours players
which provide substantial opportunities for of these programmes will significantly with good experience and sound financial
E&C companies. exceed that invested in recent history.
strength.
Such programmes would be funded via
a mix of public and private initiatives (see The opportunities do not stop there. More
Roads and highways Table 1). than 10 states are also actively planning
India’s roads are already congested, The Indian Government, via the National the development of their highways. While
and getting more so. Annual growth is Highway Development Program (NHDP), is the average size of these projects is
projected at over 12% for passenger planning more than 200 projects in NHDP smaller than the NHDP projects, most will
traffic and over 15% for cargo traffic. The Phase III and V to be bid out, representing still be substantial, in the US$100 million-
Indian Government estimates around around 13,000km of roads. The average US$125 million range. All told, more than
US$90 billion plus investment is required project size is expected to US$150 4,500km of state highways are likely to be
over FY07-FY12 to improve the country’s million-US$200 million. Larger projects awarded by the end of 2010.

Figure 2: Projected Investment in the Road & Highways Sector in the Eleventh Plan

23,387
25,000
Investment (US$ million)

19,971
17,273
20,000 15,976
15,104
15,000
10,000
5,000

2007-08 2008-09 2009-10 2010-11 2011-12

National Highways State Roads Rural Roads North East Roads Total

Table 1: Road Infrastructure Detailed Projections (US$ million)

State Roads (Highways, Major District Rural


National Highways Roads, Other Roads) Roads North East Total

NHDP 1
NHDP Non-NHDP
Year Public Private (Public) Total Public Private Total

2007-08 3,173 3,702 463 7,338 4,347 1,333 5,680 1,875 212 15,104

2008-09 3,305 3,966 486 7,757 4,528 1,428 5,956 2,025 238 15,976

2009-10 3,464 4,495 510 8,469 4,745 1,618 6,364 2,150 291 17,273

2010-11 3,834 5,685 536 10,055 5,253 2,047 7,299 2,300 317 19,971

2011-12 4,707 6,478 563 11,747 6,488 2,345 8,834 2,463 344 23,387

Total 18,483 24,326 2,557 45,365 25,361 8,771 34,132 10,813 1,401 91,711

1 NHDP – National Highway Development Programme

Infrastructure in India: A vast land of construction opportunity 7


Rail at many ports is currently inadequate, Cochin and Bangalore supplementing the
even where ports have already been efforts of the Airports Authority of India.
The Indian Government has also modernised. An estimated investment of
The Government has proposed the
recognised existing infrastructure gaps around US$22 billion is targeted for port
establishment of an Airport Economic
and capacity constraints in the rail system, projects in the five year period from FY07-
Regulatory Authority (AERA) to promote
and as a consequence plans large scale FY12. The National Maritime Development
efficiency, competitive pricing and
investment over the five years from Programme includes 276 projects, with
a customer-focused service. State
FY07-FY12. Projected investments total a required investment of about US$15
US$65 billion, of which 40% is expected governments are also getting involved
billion over the next ten years, with private
to be contributed by the private sector. and looking to facilitate the development
investment targeted at around US$8
One major PPP programme is already in of new airports. The total investment
billion. In addition to improving road and
its initial phases. The Dedicated Freight on new airports has been proposed at
rail connections, projects related to port
Corridor project is designed to alleviate about US$10 billion by 2012. Greenfield
development (construction of jetties,
congestion on the rail routes between airport projects are planned in resort
berths, container terminals, deepening of
Delhi and Mumbai and Delhi and Kolkota destinations and emerging metros
channels to improve draft, etc.), will provide
by building long-distance, cargo-only such as Goa, Pune, Navi Mumbai,
major opportunities for E&C companies.
rail lines, at an estimated cost of US$6 Greater Noida and Kannur. Further, 35
Recent deregulation of the sector now
billion-7 billion. non-metro airports are proposed for
permits 100% FDI, and an independent
development. Prequalification of bidders
Other proposed initiatives include the tariff regulatory authority has been set up
for development of Amritsar and Udaipur
development of manufacturing plants for to facilitate projects at major ports.
airport has already been completed,
rolling stock with long-term committed Air traffic has increased rapidly in recent and bids for 10 non-metro airports are
procurement for several years, and the years, although this slowed in 2007. While scheduled to be invited shortly.
setting up of logistics parks. City metro a number of Indian airlines have faced
systems are also in the pipeline. The first As the density of airports increases in
challenging market conditions in 2008, and
corridor of the Mumbai Metro Project various regions, increased competition is
the rate of growth is likely to be significantly
has already been awarded to Reliance likely to bring new issues into focus, such
less than initially projected, Indians are still
Infrastructure and the Government has as corporate performance management.
flying in much greater numbers. Estimates
asked the final shortlisted companies Airports will look to diversify their revenue
made in 2007 by the Indian Government’s
to submit detailed financial bids for the sources through the development of
Committee on Infrastructure suggest that
second phase of the Mumbai Metro. city-side infrastructure. Airlines will also
passenger traffic will grow at a CAGR
be looking for new technology solutions
Indian Railways is also looking for of over 15% in the next 5 years. Indian
to maximize revenues and reduce costs.
private partners to help modernise manufacturers are also looking to the skies
MRO (Maintenance, Repair & Overhaul)
railway stations to world-class levels, – the same source anticipates that cargo
facilities could therefore also present new
and for projects focused on increasing traffic will grow at over 20% p.a. over the
business opportunities.
connectivity with ports. next five years.
The need for improved aviation
Even if these estimates prove somewhat
infrastructure extends beyond the
Ports and airports optimistic, the growth already achieved
construction of new airports – existing
has put tremendous pressure on airport
metro airports also require significant
Increasing connectivity with inland infrastructure. The Indian Government has
modernization and upgrading. EPC
transport networks is just one of many projected that an investment of around
contractors are expected to be sought
challenges currently facing India’s ports, US$8 billion in the five year period from
for Chennai and Kolkata airports in the
which have seen massive swells in the FY07-12 will be needed to help cope
immediate future.
amount of goods transported. Traffic is with additional demand, and private
estimated to reach 877 million tonnes sector participation is expected to play a
by 2011-12, and containerised cargo is key role. The private sector has already Power
expected to grow at 15.5% (CAGR) over stepped up to the challenge of airport
the next 7 years. India’s existing ports infrastructure development in several Increased manufacturing activities
infrastructure is not sufficient to handle cases, with private participation in recent and a growing population are also
the increased loads – cargo unloading years at Delhi, Mumbai, Hyderabad, causing a surge in power usage. India

8 PricewaterhouseCoopers
has the fifth largest electricity grid in
the world with 135 GW capacity, and
the world’s third largest transmission
and distribution (T&D) network. Large
investments are needed to meet growing
demand and provide universal access.
The policy and regulatory framework
is pro-investment – shifting away from
‘negotiated and guaranteed’ to ‘open and
market competition’. Given the increased
competition, diversity, and number of
opportunities, project and collaboration
risk must be more carefully assessed and
managed.
An investment of US$167 billion is
projected for electricity projects in the five
year period from FY07-FY12. The massive
number and scope of potential projects
has attracted a number of new investors,
lenders and operators. All new awards
are through open, competitive bidding.
A rush is on to develop new assets,
harness natural resources, and attract
global finance – but an industry focus and
strategy is necessary to properly tap into
this opportunity.
E&C companies may want to consider
involvement in the construction of power
stations, and T&D networks, particularly
if sustainable building and generation
technologies can be leveraged. The Indian
Government is also looking to encourage
the generation of wind and solar power
by providing generation-based incentives
to those companies who do not claim
accelerated depreciation, so E&C
companies with experience in building
these types of alternative energy projects
may find excellent opportunities.

Public private partnerships


Funding India’s wide-ranging, US$500
billion programme of infrastructure
expansion over a five-year period is
likely to be beyond the means of total
government funding, so policies have
been designed to facilitate private
investment to the maximum level possible.

Infrastructure in India: A vast land of construction opportunity 9


If the Indian Government’s targeted are also increasing their interest. Until
level of private sector involvement and recently, only a very limited number of large
investment are met (approximately 30%), domestic players were fully conversant
the quantum of funding required would with PPP models and had the capability to
be around US$150 billion – dwarfing deliver on them. However, local developers
the investment achieved over the past and contractors are catching up fast
decade by comparison. Achieving this and domestic capacity has increased
level of investment is ambitious. Several substantially in recent months.
frameworks and plans are already in
E&C companies looking to participate
place, however, that may facilitate
in this burgeoning segment do face
reaching these goals.
certain hurdles. The typical PPP project
The PPP/PFI market in India is still at a design and preparation process is still
relatively early stage. However, over the largely technically-oriented, with limited
past decade or so, there has been an appreciation of the overall financial and
increasing trend at the central as well as commercial risk issues involved. Often
state government level to use PPPs for information distortions in the market
meeting critical infrastructure gaps. The have led to large variations in the bids/
results have been quite encouraging. offers received during the procurement
Establishing a PPP is now considered process. Further, the procurement
to be the default option for major process is often highly prescriptive, rather
infrastructure projects in sectors such as than participative. The emphasis is on
roads, railways, airports, ports and other conforming to public sector requirements,
transport segments. First preference will which may not offer value for money
be given to the PPP model, and only in and does not encourage innovative
cases where projects are expected to fail solutions, rather than evolving the project
to attract private sector interest will more configuration to be delivered over the
traditional models be considered. long-term in a partnership approach.
Most infrastructure sectors have an overall And while the public sector is dictating
long-term plan and programme that the terms, it is quite often not willing to
provides guidance on the projects that shoulder concomitant risk. The current
are likely to come up for development. concession structure is highly asset
Key policy frameworks for procurement oriented, rather than focusing on service
of projects through PPPs have also delivery. Private sector participants are
been drafted. For example, the NHDP often required to assume considerable
discussed earlier in this paper details a risk, including demand risk, and the
long-term plan for the roads and highways apportionment of risk is in some cases
segment, with seven defined phases quite inefficient.
and largely clearly identified projects
Financing for PPP/PFI projects can also be
(along with project costs) and an agreed
a key constraint, as long-term financing and
timeframe. The roads and highways
instruments have been in scarce supply.
segment also has a generally successful
PPP projects have so far been largely
PPP model concession framework. The
financed domestically using plain vanilla
NHDP is mandated to a dedicated agency
debt with relatively low gearing. Commercial
that also has clearly earmarked source
banks are the major source of debt with
of funding coming in to support the
generally short tenor (being about 50% of
programme. Almost all the other sectors
concession period). At the current time,
have similar plans.
it is difficult to predict how the financing
Over the last 3-4 years, there has been situation will evolve over the short-term.
a push towards expanding the scope Certainly, access to credit has become far
of PPPs for the provision of urban more restrictive on a global basis, however
infrastructure through establishment of if India’s growth continues to outperform
another government programme for urban most other economies, it could emerge as a
renewal across the country. This is likely preferred destination for investment.
to further increase the scope, scale and
India has become an attractive PPP
number of PPPs in the country.
market and its attractiveness is likely
Not surprisingly, international interest in increase in the future. Contractors
Indian PPPs has soared in 2008, with over able to negotiate and partner with the
50 international players showing interest relevant ministries should find excellent
in a variety of types of projects in the first opportunities, particularly companies with
three quarters of the year. Local players a longer-term view.

10 PricewaterhouseCoopers
The tax environment for E&C companies investing
in India

E&C companies looking to invest in India Table 2: Types of taxes which may be applicable for E&C companies operating in India
need to consider a variety of tax issues.
Overall tax rates can be relatively high,
Nature of tax Governing Authority Rate of Tax (in %)
so careful tax planning is vital. Some
of the relevant taxes applicable to E&C Income Tax Central Government 33.99
companies are listed in Table 2.
Fringe Benefit Tax Central Government 33.99
Transfer pricing regulations were
introduced in India in 2001. Although Custom Duty Central Government Up to 31.70
transfer pricing regulations are a relatively
Excise Duty Central Government Up to 14.42
recent phenomenon, the authorities have
taken an aggressive stance. There is no Service Tax1 Central Government 12.36
advance pricing arrangement (APA) yet
in India, so the implications of transfer Sales Tax/Value Added Tax (‘VAT’)1 State Government 4.00 to 12.50
pricing remain somewhat uncertain. 1
India is planning to implement a unified goods and service tax (GST) in 2010 at a rate still to be determined.

The Government’s strong focus on


promoting infrastructure development
also extends to tax policy, with a number
of policy measures and incentives now in
place for the construction of infrastructure Table 3: Overview of tax holiday terms for various infrastructure segments
facilities, including a numbers of tax
holidays, although Minimum Alternate
Tax (MAT) of 11.33% may be payable on Sector Applicability Time-frame Eligibility
book profits during this period. Relevant Power • ‘Undertaking’ which • 10 consecutive years • All the above
tax holidays, their applicability, and the generates power out of 15 years should commence
eligibility of each infrastructure sector are • ‘Undertaking’ which (+complete) before
detailed in Table 3. transmits or distributes March 31, 2010
power
• ‘Undertaking’ which
Structural considerations for carries out substantial
developers renovation and
modernisation+
Dividends paid by an Indian company
Ports & • Indian companies • 10 consecutive years • ‘New’ infrastructure
are subject to a Dividend Distribution Tax Airports developing and/or out of 15 years facility
(‘DDT’) of around 17%. operating & maintaining • Agreement with
ports and airports government/ statutory
In February 2008, the Finance Minister
announced some relief whereby a dividend • Applicable also to body
Inland waterway, Inland
paid to a parent company by its subsidiary port, Navigational
would not be liable to DDT, subject to channel in the sea
prescribed conditions. Earlier, corporates
Railways • Indian companies • 10 consecutive years • ‘New’ infrastructure
had a lean structure with one company
developing and/or out of 20 years facility
having many divisions catering to different operating & maintaining • Agreement with
businesses. rail system government/ statutory
Following the recent change in DDT, many body
corporates may be considering restructuring Roads & • Indian companies • 10 consecutive years • ‘New’ infrastructure
their corporate structure so that different Highways developing and/or out of 20 years facility
business streams have separate Indian operating & maintaining • Agreement with
operating companies with one common roads and highways government/ statutory
Indian parent. While such types of • ‘Roads’ – includes toll body
structuring may help the parent company roads, bridges
to unlock shareholder value and should not • ‘Highways’ – includes
impose any additional levy of DDT, it should housing or other
integral activities
be noted that introducing a new corporate
layer at the Indian level will bring the shares Water • Includes water • 10 consecutive years • ‘New’ infrastructure
in the Indian operating company within the supply project, water out of 20 years facility
treatment system, • Agreement with
Indian capital gains tax net.
irrigation project, government/statutory
Additionally, even if DDT is not due on sanitation and sewerage body
dividend payments, there would be an up system or solid waste
management system
to 10% cash trap in the Indian operating

Infrastructure in India: A vast land of construction opportunity 11


companies, as in accordance with Indian establishment position, where if the contract would include both onshore and
regulatory provisions, only 90% of a Indian tax authorities successfully offshore activities (see Figure 3). Taxability
company’s distributable reserves may be argue that there is an Indian permanent of payments received by foreign companies
paid as dividends. establishment of the foreign operations under EPC contracts has become a matter
in India, then there maybe significant of great debate and litigation. Onshore
Therefore, a construction company
adverse tax implications. It is therefore supplies and services are normally taxable in
working on multiple projects in India
important to carefully manage the India. Offshore supply of goods and services
should consider all relevant factors
operations carried out at the Indian level. under a composite contract are something
bespoke to their requirements before
In practical terms in the E&C industry, of a grey area. The Indian revenue authorities
structuring their operations.
activities generally take a long duration often attempt to bring the entire EPC
to complete, and hence PE clauses contract, including the offshore supplies and
International tax considerations (especially fixed base and service PE) services, within the range of taxes in India.
come into play in this industry more often. The tax authorities may cite a business
Effective tax structuring into India is vital Table 4 details common types of PEs and connection in India, and also note the
as this impacts on how attractive a project their considerations. presumed indivisibility of EPC contracts.
is to target investors and has a direct
influence on the net internal rate of return. Cash and profits repatriation Nonetheless, some recent landmark
It is therefore particularly important that judicial rulings with regard to EPC
international investment opportunities Profit repatriation – There are various contracts in India suggest that tax
are structured appropriately to take into options on repatriating profits from the outcomes for each of the components
consideration tax, accounting, regulatory structure, such as dividend distributions, of the contract must be determined
and legal aspects. We have outlined below share sale, capital reductions, etc, all with independently. These rulings have brought
some of the key areas to consider. differing tax impacts. about a general principle that profit from
offshore supplies would not be taxable in
Entry and exit strategy Engineering, procurement and India, subject to the following conditions:
construction (EPC) contracts – • Principal to principal transaction
Holding company location – Appropriate onshore versus offshore
planning in respect of a holding company • Title (i.e. risk and ownership) in the
jurisdiction is necessary to minimise Indian In the E&C industry, the execution of offshore supplies passed to the buyer
withholding tax and Indian capital gains on projects is undertaken substantially by on high seas (outside India)
the sale of shares in Indian companies. way of an engineering, procurement and • Sale consideration is received outside
construction (EPC) contract. A typical EPC India
Financing – In order to introduce debt into contract will have the following scope of
India, there are various issues that need to work in a single project: • Sale is at arm’s length
be considered such as the Indian External
• Supply of equipment (offshore and Although the above rulings suggest that
Commercial Borrowings rules, withholding
onshore) offshore supply and services may not to
tax issues on distributions out of India and
the availability of a tax deduction for the • Installation/commissioning be taxed in India, the taxability depends
distribution at the Indian level. • Services (offshore and onshore) on the specifics of each case. Further, the
revenue authorities have not accepted the
• Software/technology transfer (offshore
above rulings and the matter is pending
Holding the investment and onshore)
before the higher judicial authority. E&C
Permanent Establishments – One of Under a typical EPC contract, a non- companies should take care to structure
the risks with managing investments in resident contractor performs a multitude of contracts in a tax efficient manner, taking
India is managing the Indian permanent activities. The scope of work under an EPC into account the particulars of each project.

12 PricewaterhouseCoopers
Higher depreciation – what Figure 3: Elements of a Typical EPC Contract

lies ahead? EPC Contract

In order to make infrastructure projects


more attractive for companies and
investors, the Indian Government is
re-examining the existing depreciation
policy for such entities. The infrastructure
Engineering Supply of Erection, Installation &
sector may be eligible for a higher rate & Design Equipment Commissioning
of depreciation in book value for BOOT
(build, own, operate, transfer) projects. The
Government is still examining this proposal
and also evaluating whether depreciation
should be allowed or, alternatively, there
could be a policy for amortisation of the Offshore Onshore Offshore Onshore Onshore
services services Supply Supply
entire expenditure for such companies.
Private players are needed to invest
in infrastructure projects on the BOOT
basis, and in the future, infrastructure
companies may benefit from the creation
of a sinking fund by such companies for
the concession period. Such a fund would
depend on the life of the project and the
concession period could vary widely,
depending on the contractual conditions of
the specific project.
Table 4: Types of Permanent Establishments, when they occur, and issues to consider

Indirect tax issues Type of PE Occurs when a foreign Issues to consider


company:
The majority of the E&C services rendered
Fixed base PE Has a virtual presence in India, either Implications should be known prior to
by a company in India are subject to
by way of a branch office or any establishing a project office in India.
either service tax, VAT, or both, depending other manner which depicts a virtual
on whether the services rendered by presence in India.
E&C companies are in the nature of a
Agency PE Has a dependent agent in India Ensuring that an Indian company
construction contract or service contract. does not act as a dependent agent
Apart from the above, there are certain for the foreign company.
other indirect tax issues which need to be Service PE Renders services in India through its Planning of international assignments
addressed appropriately, especially relating employees or personnel for a period to ensure that employees do not stay
to contract structuring. Companies need aggregating more than a specified in India for a period exceeding the
to ensure that indirect taxes are taken into period in any twelve month period, specified period.
account as they make decisions around although this depends on the specific
terms of each tax treaty.
how to structure a particular project.

Infrastructure in India: A vast land of construction opportunity 13


Challenges for local players and foreign companies
looking to enter the market

“Foreign firms do Without doubt then, there is huge


opportunity in the Indian infrastructure
Domestic production of equipment and
machinery is ramping up fast, but in the
not get their own space in the short- and medium-terms
at least. The policies of the Indian
short term, a foreign partner may be
able to help fill in any gaps. There are
infrastructure to Government, which have been evolving many factors that influence the role of the
very rapidly in recent years, continue to local players vis-à-vis foreign players – for
execute projects, such encourage the private sector in taking example, the criteria used for the selection
as skilled manpower, on a larger and more diverse role – from
being an infrastructure builder (under
of developers is an important influencer
on what role the foreign players will take.
plants & equipments a publicly financed arrangement) to an
infrastructure developer (under PPP
Risk-sharing on a PPP project also needs
to be carefully considered. The revenues of
and construction structures which include private finance). most infrastructure projects in India will be
These developments have led to a large denominated in the local currency. Foreign
materials etc. They number of infrastructure projects open up players will need to consider the currency
as opportunities for the private sector. and tax issues already mentioned in some
usually try to employ detail, particularly on a PPP project where
Considering the liberal FDI guidelines,
locally available these lucrative projects present both an
significant private investment is also sought.
opportunity and a threat to local players. In International EPC contractors, including
resources in order to many cases, foreign players are believed Toyo Engineering, Jacobs H&G, Uhde,
cut costs.” to have greater technological expertise,
deeper pockets and more extensive
Tecnimont and Aker Kvaerner, are already
leading players in India. At the same time,
Quote from a Government representative experience compared to domestic many Indian companies e.g. Larsen &
companies. These advantages could mean Toubro (L&T), Gammon, Bharat Heavy
overseas companies winning work at the Electrical Limited (‘BHEL’), Engineers India
expense of local players, or partnering Ltd and Thermax have either scaled up
with them. Domestic E&C companies their skill sets or extended their operations
may therefore look at foreign entrants in to overseas projects.
the market as tough competitors – or as
India has a very well established
strong potential partners.
infrastructure developer market. Local
If most of the forecasted projects go firms have evolved in recent times into
ahead as planned, there should be more fully-fledged national players (and in some
than enough work for everyone. Wharton cases international players). In certain
Business School’s 2007 analysis of India’s sectors, such as highways, power and
construction boom pointed out that the water, the local firms also have significantly
proposed US$50 billion infrastructure progressed on the technological front.
spend per year in India is nearly two and Some of the India-based companies
half times the current turnover of the entire such as L&T, Punj Lloyd, Reliance, GMR,
existing domestic construction industry Suzlon, Tata Power, etc. are very active in
(US$15 billion and growing fast), and that the international markets and thus, can no
many of the major E&C companies have more be deemed ‘local’ E&C companies.
massive order backlogs. Wharton also Indeed, they are global organisations
flagged talent shortages as an issue in based out of India. These and other large
key skilled trades such as fitting, welding, firms clearly look at foreign players as
masonry and plumbing – so drawing on both partners and competitors. However,
the talent pool of foreign partners may smaller and medium-sized infrastructure
help in supplementing and training local construction companies and developers
tradesmen. India is also facing shortages (such as KMC, Nagarjuna, IVRCL,
of construction equipment and machinery. Gammon, etc.) are often happy to partner

14 PricewaterhouseCoopers
with foreign players without necessarily
considering them as competitors.
“Foreign companies offer an excellent
The recent guidelines issued by the opportunity for a comprehensive tie-up to win
Indian Government for the selection
of PPP developers have also led to a
projects and share the spoils. An attendant
slightly distorted behaviour in the local benefit is the transfer of technology to us at the
marketplace. The guidelines favour
larger players, even when the project end of it all.”
investments and execution can be easily
Quote from an Indian E&C company
carried out by mid-sized companies.
This has led to situations where many
of the small/medium-sized local players
are looking at partnering with the foreign
players primarily for the purpose of
getting qualified and winning the job,
rather than to actually bring in investment
“Entry of foreign players needs to be viewed as
or expertise. It is expected that such a positive development to add value and state-
behaviour will soon change as the
guidelines become more reflective of of-the-art technology to our highway projects.
market dynamics and mid-sized Indian
companies mature. These firms will bring with them greater expertise
Foreign players looking to enter into the in areas of highway construction technology,
Indian marketplace and team with local
players need to evaluate carefully the project management, project implementation
cost competitiveness of their prospective
participation. India has witnessed
and monitoring expertise as well as technology
huge interest from a number of foreign transfer. The resultant benefits include savings in
infrastructure companies in the past,
but not many have really been able to cost, time and improved quality of works, to the
offer a cost-competitive proposal. Since
India has evolved its own model of cost benefit of all.”
competitive delivery in many sectors Quote from a Government representative
(for example, in telecoms), local players
have an incentive to work with foreign
companies only if the partnering offers
a competitive edge over other bidders.
There have been few such success stories
so far where the foreign player has offered “Let us tie up with foreign companies from
a particularly cost-competitive product
or service. In instances where we have countries where we intend to do business in.
seen the successful entry of foreign
players (such as in the port sector), foreign While we can help them enter India, they could
companies have often been able to bring
technology or management advantages,
help us in expanding our business outside India
or expanded reach into international in countries where they operate.”
markets, to supplement the capabilities of
local partners. Quote from an Indian E&C company

Infrastructure in India: A vast land of construction opportunity 15


Building a sustainable future
in India

Whilst the need for greater infrastructure in key social and economic infrastructure In our view, it is imperative that debate on
investment is clear, equally important is are maximised. the issue of sustainability in infrastructure
the need to sustainably manage such provision is heightened and that the
Global climate change creates further
investments. The Indian Government’s challenge that it presents is effectively
success in infrastructure provision will be challenges. New infrastructure must not
met. Government and infrastructure
measured not by the quantum of funds only support social and economic goals, it
agencies will also need to retain sufficient
invested, but on how infrastructure must also do so within acceptable
focus on issues of feasibility and
contributes to the achievement of India’s environmental parameters. In our analysis
prioritisation when the primary focus shifts
economic, social and environmental The World in 2050: Implications of global
to delivery.
objectives. Importantly, infrastructure growth for carbon emissions and climate
investment should be considered as a change policy2, we set out a number of E&C companies looking to bid on major
means to an end, not an end in itself. possible scenarios for climate change projects need to ensure that they are
based on projected growth rates. In only taking a holistic approach which
Challenges in infrastructure provision are one of the scenarios, ‘Green growth + incorporates sustainability issues into the
not unique to India. Uncertainty, scarcity Carbon capture and storage (CCS)’, were design of the project, both in the planning
of available funds for investment, and emissions held to levels that are broadly and the delivery stages. Those that do so
competing priorities present challenges to considered to be ‘acceptable’ by have a unique opportunity to make a
all governments in infrastructure planning climatologists. major difference in a growing economy
and delivery. Sustainability requires that while enhancing their own bottom line.
future generations are not compromised Given that India’s growth rate is likely to
by the investment decisions of current continue at high levels, it is important that
generations. Sustainably managing considerations of issues such as fuel mix,
infrastructure through the appropriate encouraging more fuel efficient modes of
pricing, funding and prioritisation transport such as rail, and the possible
frameworks is important to ensure the use of CCS technology, come fully into
benefits that accrue from the significant discussion and are implemented whenever
investment that India is currently making possible.

2
Available to download at www.pwc.com

16 PricewaterhouseCoopers
Concluding thoughts

Although it may not always be easy to


navigate the plethora of views, opinions
and perceptions expressed by various local
stakeholders, a vast opportunity exists
for foreign contracting companies looking
to invest in Indian infrastructure. Already,
a number of contractors from Europe,
Australia, China, Malaysia and Korea have
made their presence felt in India. Further,
many E&C companies, particularly from
Japan, Spain, France and the UK are
also now aggressively looking out for
opportunities to enter India for business.
Overall, the opportunities to develop a
significant business in India are extremely
promising for E&C companies, if they
have carefully selected strong local
partners, structured contracts sensibly to
maximise tax benefits where appropriate,
and taken a long-term, sustainable
perspective. Foreign companies who do
not acknowledge the opportunity in good
time may miss out on a critical opportunity
to establish a long-term presence in one
of the world’s largest growth markets.

Infrastructure in India: A vast land of construction opportunity 17


Further reading:

Other publications from PricewaterhouseCoopers relating to the E&C


industry are available to download free of charge at www.pwc.com/e&c

International Mobility in the Engineering & Construction Industry


In this paper, we take a close look at trends and best practice across the E&C industry
with regard to moving people to work abroad. We draw on interviews with 24 companies
in the sector from around the globe, covering areas such as international assignment
policy, compliance, reward, cost effectiveness and talent management.

PwC Annual Global CEO Survey – E&C summary


A summary document containing the highlights from our interviews with over 50 CEOs
and executives within the sample who were from E&C companies. We compare the
results of their responses with the global average across all industries – with some
interesting findings.

Global Economic Crime Survey – E&C industry supplement


Examines the views of over 300 E&C industry executives and compares and contrasts
their thoughts with those of their peers across all industries, as well as with E&C
executives’ views from our 2005 survey. The results suggest that E&C executives need
to take economic crime more seriously.

Building New Europe’s Infrastructure – Public Private Partnerships in Central


and Eastern Europe
Explores the current developments and future opportunities within the infrastructure
sector of the CEE region. In the paper, we outline the opportunities in infrastructure
projects in CEE, EU funding, challenges and key success factors on bidding and
delivering on projects in CEE – a region requiring significant infrastructure investment.

Building Knowledge
A quarterly series of short papers on highly topical issues for E&C companies, hitting
directly to the heart of the business issue addressed.

18 PricewaterhouseCoopers
Additionally, further reading on investing and operating in India, including
the following, is available to download at www.pwc.com/in

Destination India
Gives potential foreign investors a bird’s eye view of the tax and regulatory framework in
India. A foreign investor looking at investment opportunities in India, needs to decide its
entry strategy and business model while bearing in mind the gamut of Indian laws and
regulations impacting such foreign investment. The publication attempts to provide an
introductory summary of the policies, laws and regulations in India and a guide to the
more important aspects of doing business in India

Buying into India


Highlights a number of opportunities and challenges for investment in India with a
particular focus on Industrial Products, setting out the significant variations from state to
state in terms of the labour market, quality of infrastructure, and governmental attitudes
to investment amongst other things.

India Spectrum
This quarterly newsletter encompasses a summary of recent important judicial and
legislative developments in the field of direct tax, indirect tax, transfer pricing, exchange
control regulations, and mergers & acquisitions.

Infrastructure in India: A vast land of construction opportunity 19


PricewaterhouseCoopers expertise in the E&C
industry in India

In India, PricewaterhouseCoopers has development includes advising on some Key contacts for E&C in India:
extensive experience of working with E&C of the first port projects on a PPP basis,
companies and has a dedicated group of providing bid advisory and financial close
over 350 professionals advising clients assistance and strategic advice to large
in the industry. The infrastructure team Indian/international port developers, as
India E&C leader
works closely with our Real Estate, PPP well as advice to key logistics player in
& Government practices. Our knowledge strategic investments and valuations Ravi Bhamidipati
management programme focuses on for ports. We are currently advising a
ravi.bhamidipati@in.pwc.com
the building of close networks and the government ministry on the development of
sharing of information and expertise. Our an international container trans-shipment +91 (22) 6669 1308
assignments in all regions of the sub- terminal.
continent have included both private and Advisory
PricewaterhouseCoopers experts were
public sector clients.
also involved in the first rail BOT project
We have played an integral part in in India. We have experience advising Amrit Pandurangi
the evolution of the highways sector, railways on PPP structuring options for amrit.pandurangi@in.pwc.com
serving as a thought leader for the railway projects and have also advised +91 (124) 4620 517
NHAI & Department of Road Transport on assignments for PPP structuring/
and Highways. We have assisted NHAI bankability studies. We are also advising Vishwas Udgirkar
in the award and financial close of 35 the Ministry of Railways on strategy
vishwas.udgirkar@in.pwc.com
projects (total length of about 1700km) formulation for the development of
and cost of around US$3.5 billion. We manufacturing facilities for rolling stock. +91 (124) 4620 557
also assisted the NHAI in the preparation
As PPP projects are still relatively new
and finalization of the Model Concession
to India, there are many taxation issues Tax
Agreement being used for NHAI Projects.
which are either evolving or still to be
Other projects include: Review of Model Girish Mistry
determined. Therefore, adopting the
Concession Agreement (MCA), BOT Toll
correct tax position is important. Although girish.mistry@in.pwc.com
agreement & BOT Annuity agreements,
there are various tax incentives provided +91 (22) 6689 1433
OMT (Operation Maintenance Transfer)
to infrastructure companies, greater focus
agreements. Further, we assisted the NHAI
is required to optimise the utilisation of Hemal Zobalia
in evaluating various development models
tax incentives. Further, there are various
for National Highways and are assisting hemal.zobalia@in.pwc.com
other important issues such as permanent
State Governments in various aspects of +91 (22) 6689 1466
establishments and the taxability of EPC
policy formulation for the road sector.
contracts, which need to be considered at
Our team has also advised both public the time of entering into a contract.
International tax
and private entities on aviation issues,
Tax is also a key cost component. It is
spanning from work on the concession Raj Julleekeea
imperative that companies structure
agreement for Bangalore International
their contracts in order to achieve tax raj.julleekeea@uk.pwc.com
Airport and advising the Airport Authority
optimisation. Good tax planning can +44 (0)1895 522 398
of India on a feasibility study of five
have a potentially decisive impact,
non-metro airports, to bid support for
especially in the bid process, and can
a development project in Mumbai, to
provide a clear competitive advantage.
advising the AAI/Ministry of Civil Aviation
PricewaterhouseCoopers was named
on formulating cargo policy.
2007 India Tax Firm of the Year by
Our experience in the area of ports International Tax Review (ITR) magazine.

20 PricewaterhouseCoopers
Our Engineering & Construction industry practice is comprised of a network of more
than 4,000 industry professionals located in over 50 countries around the world.

Our Global E&C network – recognised and enhance value for its clients and their with our clients are central to the delivery
for its industry credentials and extensive stakeholders. More than 155,000 people of our services to E&C companies. Many
expertise – is focused on providing in 153 countries across our network share of these issues drive our programme of
services to contractors, housebuilders, their thinking, experience and solutions to publications and thought leadership for
building products companies, professional develop fresh perspectives and practical
the sector.
and support services companies, advice. Our specialised services to the
governments as well as to private and E&C sector include contract dispute “PricewaterhouseCoopers” refers
public sector clients of the industry. resolution, acquisitions, PPPs, cost to the network of member firms of
reduction and structuring. PricewaterhouseCoopers International
PricewaterhouseCoopers provides
industry-focused assurance, tax, and An in–depth understanding of key industry Limited, each of which is a separate and
advisory services to build public trust issues and practical experience of working independent legal entity.

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