India's construction risk problem

This blog has long held the view that infrastructure projects in countries like India are optimally structured in terms of their life-cycle costs and management by off-loading construction risk and subsequent long-term contracting. The scale of construction and commissioning risks are so large that their presence distorts the incentives of any long-term concessionaire. Worse-still, private developers have limited control over such risks, which are best borne by the government.

An examination of the Project Risk Index components compiled by the Business Monitor International (BMI) reveals certain interesting insights. The BMI's index, a measure of the risk associated with carrying out an infrastructure project in the country, is calculated in terms of financing, tendering and construction, and operation. Each of these three components is dis-aggregated into three more sub-components - cost of capital, finance availability, and sophistication of financial markets (for finance); ease and credibility of tendering, potential for delays, and contract enforcement (for construction); and demand, operation, and foreign exchange (for operations). Each of the three categories and sub-categories are weighted equally, and the scores are allotted in a scale of 0-100, with the higher score representing lower risk.

The country specific risk parameters for the India shows that project risk is aggravated dramatically by construction risks. In fact, timeliness risk, a measure of time and cost over-runs, is among the highest in India, ranking a dismal 82nd among the 84 countries covered.

A comparison among all BRICS countries shows that India is the riskiest country for infrastructure projects, with construction and operation risks being the highest.

India's rambunctious democracy, with its judicial, political, and bureaucratic arms often working at cross-purposes, means that site acquisition and construction are fraught with  unknown unknows. The contributory factors are beyond the control of any private project developer, and causes inordinate delays resulting in snow-balling construction costs. While mitigating policy frameworks are essential, it is important to bear in mind that the private developers are least able to assume these risks.