India’s investment has been much below potential over the last few years. From a peak of 24% in the last quarter of 2009-10 financial year, the rate of growth of gross fixed capital formation now languishes around zero. The stock of stalled projects at the end of December 2014 stood at Rs.8.8 lakh crore or 7% of GDP as per Economic Survey 2014-15.
The stalling rate of projects has been increasing at an alarmingly high rate in the last five years, and the rate is much higher in the private sector. The rate has flattened to around 7% of the GDP at the end of December 2014 as compared to a previous year rate of 8.3% of the GDP.
The survey data shows that manufacturing and infrastructure dominate in the private sector, and manufacturing dominates in total value of stalled projects even over infrastructure. The government’s stalled projects are predominantly in infrastructure. Unfavorable market conditions (and not regulatory clearances) are stalling a large number of projects in the private sector, and in contrast regulatory reasons explain bulk of stalling in the public sector. Also, clearing the top 100 stalled projects would address 83 per cent of the problem of stalled projects by value.
Despite high rates of stalling, and weak balance sheets, the equity market seems to be performing quite well. A plausible hypothesis being that equity valuations of affected companies are not being sufficiently priced in. Through an event study it is shown that the stalling of projects is indeed not having a significant impact on firm equity. This may potentially be due to the pure political economy reason that the market is internalizing the expectations of bailouts.
Public investment may be needed to recreate an environment to crowd-in private sector investment in the short term followed by revitalising the public private partnership model of investment.
At end of the third quarter of the current financial year, for every 100 rupees of projects under implementation, 10.3 rupees worth of projects were stalled, and the number for private sector stood at 16. The public and private sector account for Rs.1.8 and Rs.7 lakh crores, respectively, of the total worth of stalled projects.
In terms of share in total, electricity and services dominate for both public and private sectors, while manufacturing forms the major component of stalled projects in the private sector. At the end of third quarter of this financial year, 80 projects were stalled in the electricity sector out of which 75 are in generation and 5 in distribution, and 54 of these 80 are in fact private.
Manufacturing, mining and electricity, in that order, have had the highest stalling rates in the last few quarters among all sectors. Air transport, roads and shipping are the other big contributors in infrastructure, and steel, cements, garments, and food processing are the largest contributors within the manufacturing sector. Stalled projects in electricity are a victim of lack of coal (or coal linkages).
It is clear that private projects are held up overwhelmingly due to market conditions and non-regulatory factors whereas the government projects are stalled due to lack of required clearances.
The total debt of USD 450bn in the sample, USD 140bn (about 33 per cent) is currently with companies with Interest Coverage Ratio of less than 1. Four years ago only 17 per cent of the debt was with such companies. India’s debt is almost exclusively financed by public sector banks. This has translated into high and rising non-performing assets for public sector banks.
The market is not penalizing firms severely for the debt pile-up in the wake of investments turning sour. Equity markets have not priced in stock specific concerns. This may potentially be due to the pure political economy reason that the market is internalizing the expectations of bailouts. It means that the market is factoring in the possibility of the Government bailing out the companies that are under severe financial stress due to stalled projects. The market is expecting the Government to bail out companies that are too big to fail if at all they become bankrupt in the process of repayment of debt because of no profits from stalled projects. The market has not seen correction in the value of stocks that are under financial stress due to stalled projects and thus continue to remain overvalued in comparison to their fundamentals.
Creative solutions are necessary for distributing pain equally amongst the stakeholders from past deals gone sour, by setting up a high powered Independent Renegotiation Committee.