COVID-19: Capex cut by states to hit construction sector, says Icra

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Updated: May 26, 2020 6:30 PM

With the country being under a nationwide lockdown for almost over 60 days, economic activities have been severely impacted, and so have the state revenues, Icra said.

COVID-19, Capex cut, Icra, COVID-19 pandemic, GSDP, NIPC, construction sector, latest news on coronavirus pandemicAccording to the agency, major and medium irrigation, roads, metros and drinking water supply projects have been the major focus areas for various state governments.

With states staring at huge revenue deficits in the wake of significant contraction of gross tax collections due to the disruption caused by the COVID-19 pandemic, the overall capex budgeted by these governments is likely to witness a steep cut, thus impacting the construction industry, says Icra.

According to the rating agency, the overall capex budgeted by states for FY2021, which was around Rs 5.7 lakh crore, is now likely to witness steep cut, as the headroom available to them for incurring capital expenditure has reduced substantially.

With the country being under a nationwide lockdown for almost over 60 days, economic activities have been severely impacted, and so have the state revenues, Icra said.

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State-led capex accounts for around half of the total government driven capex in the country. Over the last three years, it grew by 16 per cent to Rs 5.11 lakh crore in FY2020 (Revised Estimates) from Rs. 3.73 lakh crore in FY2018.

Recently, Maharashtra government said that only 33 per cent of outlay will be released in FY2021. “Budget cuts by some states will curtail the allocations to infrastructure spend and thereby slowdown the execution as well as new project awarding activity and elongate the receivable cycle for construction contractors,” Icra said.

According to the agency, major and medium irrigation, roads, metros and drinking water supply projects have been the major focus areas for various state governments.

“Whatever reduced capex allocation happens in FY2021, would be primarily allocated towards states’ share of central government funded projects or grants for projects awarded by various state corporations to allow them to draw down debt from financial institutions,” Icra Senior Vice President, Corporate Ratings, Shubham Jain said.

He further said that projects funded by the central government, multilateral agencies and financial institutions through corporations are expected to fare relatively better.

“Projects dependent solely on state budgetary allocations are likely to suffer most. Not only is the awarding activity for these projects likely to reduce sharply but the receivable cycle is also likely to get elongated by 60-90 days. “Elongation in the receivable cycle triggers a vicious cycle by exerting pressure on cash flows of contractors which in turn affects the execution pace,” Jain added.

States such as Uttar Pradesh, Maharashtra, Karnataka, Tamil Nadu and Gujarat are the top five states accounting for 43 per cent of the total state capex. Recently, the Centre enhanced the permitted net borrowing of state governments in FY2021 to 5 per cent of gross state domestic product (GSDP) from 3 per cent of GSDP to address the expected shortfall in their revenues due to the pandemic.

Out of this, additional borrowing of 1.5 per cent of GSDP is conditional on the states executing reforms in FY2021 in four areas outlined by the Centre, the accomplishment which is contingent on various factors.

As per Icra estimates, the permitted enhanced unconditional borrowing of 0.5 per cent of GSDP for the state governments for FY2021 is pegged at Rs 1 lakh crore, which pales in comparison to the gap between the estimated GST compensation requirement and the funding for the same through cess collections.

The recently launched National Infrastructure Pipeline involving Rs 111 lakh crore of investments by FY2025 envisages funding from the states to the extent of 40 per cent, while 39 per cent would be the Centre’s contribution and the remaining 21 per cent would come from private sector.

“With strain on state finances, the funding for NIP will be lower thereby slowing the award and execution pace,” it said. The agency noted that construction industry players who have a good mix of projects from states, Centre and funded corporations, will have a better cash flow as compared to those who are exposed to projects solely funded by state governments.

“In the case of the latter, the order book accretion, execution (gross billing) are likely to witness moderation and cash conversion cycle will get elongated resulting in increase in working capital borrowings. “Lenders may look at increasing the cover period for the drawing power calculations to ensure that such entities are adequately funded to tide over the temporary cash flow issues,” Jain added.

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