What the rise of smart cities means for Indian investors

Date : 15/02/2017
Read: 8 mins

Private sector holds the key to Modi’s Smart City project.

What the rise of smart cities means for Indian investors

By Anik Basu

These days, it is unsmart not to know about “Smart Cities” and the investment opportunities opened up by this programme, one of Prime Minister Narendra Modi’s main promises during the run-up to his election in 2014.

There is no universally accepted definition of a Smart City; the parameters accepted in India can differ from that in Europe.

However, broadly speaking, a “Smart City” in the Indian context would be one that harnesses technology to enable local development and economic growth, thereby creating a “smart outcome”, to wit, an improved quality of life for citizens, which can be summarised as follows:

The government is pushing the idea to tackle an impending urban implosion; it believes the number of urban dwellers will touch 590 million by 2030 – constituting 40% of the country’s total population.

And although this group’s contribution to the national GDP is also going to rise over this period – from 63% to 75% – it is feared that urbanisation at this rate will put a tremendous strain on civic amenities.

Hence, the Smart City programme. The Mission Statement released in June 2015 said such cities would have adequate water, assured power, improved sanitation, digitalisation, solid waste management and affordable housing – among other improved civic amenities.

The government wants to develop 100 “Smart Cities” over a six-year period – in three phases of two years each – on an outlay of about Rs 51,000 crore ($7.5 billion). The first phase will begin this year with 20 cities:

But there is a hitch: state funding will account for only a fifth of the total costs; the rest must be raised by the selected cities through Special Purpose Vehicles (SPVs) set up for the purpose.

It is here that the private sector is expected to step in.

PPPs & SPVs

The Mission Statement identifies municipal bonds and public-private partnerships (PPPs) as tools to bridge large portions of the funding gap.

The plan is to engage the private sector to invest in areas that have the most infrastructure needs – like water supply and waste management – and become an investor-stakeholder in civic services. Norms are now being relaxed to ensure this.

Additionally, while the state government and Urban Local Bodies (ULBs) of each selected city will have a 50-50 stake in the SPV, private companies may also have a minority holding, with the state government and the ULBs holding equal shares.

The SPV, which will get Rs 200 crore in the first year from the Centre and the state government (and Rs 300 crore over the next three years), will then have to raise the additional funds on their own.

Private companies are expected to recoup their investment through user fees.

Plus, as FDI specialist firm Desan Shira & Associates observes in a note on the subject, opening the public services sector to private investment is also an opportunity for the companies to market their products.

The gambit seems to have succeeded in eliciting some response; among those to have shown interest are IL&FS Energy Development Co., Cisco, Hitachi, Siemens and NEC Corp.

There is more than elbow room for others to step in.

Affordable housing

With the government announcing its “Housing for all by 2022” mission, one sector that opens up immediately for private sector investment in Smart Cities is affordable housing – a dire need in Indian cities.

As consultancy KPMG says in a report titled “Bridging the Urban Housing Shortage in India”, the deficit stood at nearly 19 million in 2012, and is rising.

Taking cognisance of this, the 2014-15 budget took two concrete steps to provide a leg-up to affordable housing: first, it allocated Rs. 4,000 crore for low-cost housing schemes, and second, it relaxed FDI norms for this sector.

The Modi government has also underscored the need to make access to cheap credit easier for the economically weaker sections, as well as for the LIG and MIG segments.

All these spell good tidings for investors in the affordable housing segment, which refers to dwellings of value up to Rs 70 lakh for Mumbai and Delhi, and between Rs 20 lakh and Rs.50 lakh for the rest of India.

Real estate consultancy Cushman & Wakefield reckons 35% of new projects in the April-June period of 2016 was accounted for by this segment; it was 22% in the corresponding period of 2015, and only 17% for the entire 2014.

Non-brokerage house Liases Foras feels some tax incentives to the newly-introduced REITs, or Real Estate Investment Trusts, to attract investment in affordable housing will further increase chances of its success.

Solid waste management

It is a universal truth that where there are people, there will be waste. The PPP approach in Smart Cities opens up this area as well.

As India’s economy powers ahead, industrial, biomedical, and electronic waste also piles up. Alongside, growing consumerist lifestyles are adding to the municipal waste.

As consultancy Frost & Sullivan says in a study on the Indian waste management services market, greater awareness as a result of globalisation is also mounting pressure on ULBs local government to tackle garbage clearance in an environmentally sound manner.

Smart Cities will provide the necessary impetus to waste management service, as yet a fledgling market, to take wings.

The regulations already exist in the “Ministry of Environment and Forests’ Waste Management and Handling Rules” to deal with all the four types of waste – municipal, industrial, biomedical, and electronic, for private agencies are involved in waste collection and treatment.

In case of electronic waste especially, these guidelines can prove to be the prime growth drivers for PPPs in waste management.

The study notes that “several” PE funds appear keen to participate in the Indian environmental market as the country tries to balance growth and environmental protection.

However, market participants must guard against weak law enforcement to make optimum use of the opportunities.

But first, what needs to be promoted is the understanding that there is a critical need for effective waste management.

Digitisation

Yet another area where there is ample business opportunity for the private sector to invest in is technology; “robust IT connectivity and digitalisation,” coupled with “e-Governance and citizen participation” will be two of the stated features of smart Cities.

A blueprint created by the Bangalore office of Cisco Systems may be treated as the template for others.

Designed as a “campus-as-a city” for Cisco employees, the two million sq. ft. “Cisco Smart City” showcases how a physical network infrastructure can be connected to devices such as sensors, information access points and mobile devices, while not compromising with security.

Cisco says it has used the Internet-of-Everything (IoE) approach to showcase how connected education, connected healthcare, smart buildings, connected transport and smart parking can transform cities and communities and ensure a better life – economically, socially and environmentally.

Moreover, it also demonstrates how citizens could be digitally empowered to avail government services in real time – online and via mobile platforms. In the prime minister’s own words, that is the future.

Incidentally, Cisco has begun work on a five-km area in Vijaywada in Andhra Pradesh to put in place an e-infrastructure such as Smart Wi-Fi, Smart Security, Smart Lighting, Smart Parking, Smart Transports, Smart Bus Stops, Smart Kiosks, Remote Expert for Government Services (REGS) and Smart Education.

Cisco says it will also develop new applications specifically for Smart Cities and collaborate with the Andhra Pradesh government upcoming Smart Cities in the state.

Water Supply

Private sector participation in the supply and management of water – ironically one of the scarcest and wasted commodities that is vastly under-priced – is a sensitive subject in most places, and certainly in India.

Indian social activists and the media have spoken against it, with one prominent New Delhi newspaper running an article on the subject under the headline, “In pipeline, a plan to privatise water supply in cities”.

For the record, as global engineering consultancy Black & Veatch says in its “Water Industry Report 2016,” it is important to distinguish PPPs from outright privatisation.

Privatisation implies selling the entire assets of a given entity, it argues, while through a PPP the government entity retains ownership of the assets – facilities, pipes, right-of-ways, pumps, etc.

Moreover, in a PPP model, capital and resources can be restructured and/or provided to help the utility manage its existing assets or implement projects within or outside its planned budget.

Additionally, Black & Veatch says, it transfers the risk from the utility to the private sector, protects the ratepayer and, most importantly, provides for the optimisation of life-cycle costs and alternative management of these costs.

“PPPs provide a generational payback on the assets,” it noted.

And most important, it is possible to provide ratepayer safeguards and allow reasonable returns on private investments through an asset management framework.

Last Word

A 100-city modernisation programme is a colossal project, and the Modi government needs one section more than anybody else – India’s private sector.

Admittedly, the PPP model is not ideal for every utility or project, and most ULBs should assess whether the approach is appropriate for their needs, while the private sector should guard against weak law implementation.

But when it is workable, it is a win-win for everyone: the government, the consumer, and in this case, the private sector.