EPC Industry in India

EPC Industry in India: Issues and Challenges
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EPC Report 4 Cover pages.indd 53 2/20/2011 8:19:18 PM
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Chemtech Foreword 2
KPMG Foreword 3
Executive Summary 4
Acronyms Used 4
Methodology 8
Coverage and Scope 8
Setting the Context 10
Value Creation Strategies 17
Key External Drivers and Issues 22
Key Internal Issues 29
End-Use Industry Views 33
EPC Industry in India
Action Agenda for Sustained Growth 48
Acknowledgements 51
About Chemtech 52
About KPMG in India 52
Contents
EPC Report New.indd 1 2/20/2011 8:13:28 PM
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CHEMTECH Foreword
S
trong infrastructure and industry are critical for India as the country
sees leapfrogging growth. As far as both these sectors are
concerned, India is in a sweet spot, which has created multitude of
opportunities in the fields of engineering, capital goods and construction.
Though, India has witnessed significant investments in both industrial and
infrastructure space, the growth has remained restricted due to various
weaknesses of the Indian EPC industry and difficulties for the foreign players
to ply in the market.
At this juncture, it is an imperative to address the challenges, which restrict
the growth of this sector in India and will continue to repress industrial
development lest addressed.
CHEMTECH has made an attempt to address the issues faced by the
EPC industry through each edition of its international conference, EPC
World Expo. Renowned speakers from world over have deliberated over
the topical issues that must be resolved to accelerate the development of
Indias EPC sector, which would eventually lead to countrys sustainable
economic growth.
As we reach another milestone year with 25th edition of CHEMTECH series
of expositions and international conferences, Jasubhai Media and KPMG
have come together and taken the initiative address these issues through
this report. I wish to thank all the members of CHEMTECH Advisory Board
for EPC who despite their busy schedules shared their opinions and guided
the team to come up with the study report that aims to leverage the Indian
industry.
We sincerely hope that this report would be a useful information tool for
both industry as well as statutory bodies to gear up for the challenges for
the Indian EPC sector during this decade.
Jasu Shah
Founder & Chairman,
CHEMTECH Foundation
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KPMG Foreword
T
he Engineering Procurement and Construction (EPC) services
industry in India is faced with a large and unique opportunity due to
galloping Indian economy, and investments in public and industrial
infrastructure. The 11th five year plan has been an inflection point in
Infrastructure investments, with them contributing upto 9 percent of Indias
GDP.
The 12th plan envisages a total investment in the region of USD 1 trillion,
contributing upto 10 percent of Indias GDP. Similarly, there are large
investments expected in industrial infrastructure, whether it be Oil and Gas,
Metals and Mining and other industries.
This large and fast build out of industrial and plant infrastructure requires
a robust and growing engineering, procurement and construction services
industry for spreading and management of risks, efficiency and productivity
in engineering and construction and supplementing the management
bandwidth of project developers.
This report in line with the theme for Chemtechs EPC conference, takes a
forward looking view on the future of the EPC industry in India, based on
current issues and challenges identified for the industry.
We hope that the collective insights shared in this report contribute towards
shaping future business strategies and government enablement that drive
Indias long term growth in this sector.
Arvind Mahajan
Executive Director
KPMG Advisory Services Pvt Ltd
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EXECUTIVE
SUMMARY
The EPC industry as dened here is
different from the pure engineering
or construction industry. We define
the EPC industry as comprising of
companies who are involved in executing
projects involving multiple engineering
disciplines with overall responsibility for
the performance of a unit or the whole
plant. The scope of work would include
engineering, supplies, construction or
construction management, erection
and commi ssi oni ng and provi di ng
performance guarantees. The EPC
companies in India are evolving from
mul ti pl e routes, wi th engi neeri ng
compani es, equi pment suppl i ers,
construction companies and project
developers morphing in to EPC service
providers by lling in the gaps.
Expectations
As a fal l out of the USD 1 tri l l i on
investment expected in infrastructure
and industrial growth keeping pace,
there is heightened interest among the
investor community from engineering
and construction companies who stand
to benet from this wave. However, the
expectations far exceed the historical
performance delivered and the EPC
service providers need to step up their
ability to win and deliver business to meet
these expectations.
Similarly, customers now expect EPC
service providers to ramp up their
financial and execution capabilities
to be able to execute larger projects,
in time and with ever improving cost
structures.
EPC Engineering, Procurement & Construction
GDP Gross Domestic Product
PPP Public Private Partnership
TSR Total Shareholder Returns
EPCM Engineering,Procurement &Construction Management
PMC Project Management Consultant
FEED Front End Engineering Design
O&M Operation & Maintenance
JV Joint Venture
BOP Balance of Plant
BTG Boiler Turbine Generator
BOT Build,Operate & Transfer
BOOT Build,Own,Operate & Transfer
DBO Design Build & Operate
DBOOT Design,Build,Own,Operate & Transfer
ITI Industrial Training Institute
MRP Material Requirements Planning
PNGRB Petroleum & Natural Gas Regulatory Board
PCPIR Petroleum,Chemicals & Petrochemicals Investment
Regions
MENA Middle East & North Africa
CGD City Gas Distribution
ADB Asian Development Bank
JNNURM Jawaharlal Nehru National Urban Renewal Mission
JICA Japan International Cooperation Agency
ULB Urban Local Body
E&P Exploration & Production
Acronyms Used
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Value Creation Strategies and
Routes to Growth
EPC companies can improve their wealth
creation prole by focusing on performance,
prospects and managing risks and nancing
costs. While performance is about improving
margins by way of correct estimations,
procurement and project management
capabilities, and focusing on adding higher
margin components to the services provided,
prospects is about continuously adding
newer avenues of revenue growth.
The most likely route for diversification
is through penetration in new end-use
industries or taking the developer route,
which in fact is an imperative for growth in
sectors like Water, Roads involving BOT,
BOOT contracts. International expansion by
EPC companies is likely to be limited largely
due to global competitive intensity and the
large domestic demand.
We expect increasing number of acquisitions
in this industry, as companies look to
enter new end-use industries by buying
qualications.
Lastly, risk management and no-surprises go
a long way in improving investor perception,
and materially bringing down nancing costs
for the EPC companies.
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Key Challenges
The key external challenges faced by the EPC industry are as
follows:-
Continuously evolving contracting models and relatively slower
adoption of the EPC-LSTK concept, especially where customers
are large public sector companies with in-house teams, and large
private sector developers, who have signicant in-house project
management capabilities.
Order book uncertainty brought about by purely price based
procurement decision making of customers, which has led to
the emergence of large number of hitherto unknown companies
winning relatively large contracts. While this is essential for capacity
building, it has led to uncertainty of order book for the incumbent
service providers. It also makes making investment decisions more
difcult for companies.
Shortage of skilled manpower for managerial as well as site labour.
The country has its task cut-out in terms of creating skill work force
for the industry. However, the onus really lies on the private sector
and the EPC companies to undertake initiatives to address this
supply-chain issue.
The perception on the sanctity of contracts remains divergent,
especially between Indian companies and International entrants.
There is a need to establish faith in our ability to enforce contracts
by standardization, following international practices and setting
right dispute resolution mechanisms.
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External
Internal
The key internal challenges are about managing scale and building
capabilities to address issues emanating out of this:-
Project Manager Empowerment, especially in Indian
companies
Balancing speed and cost control in the Procurement
function
Creating a robust engineering organization and balancing
between efciency and effectiveness
Adoption of leading Risk Management practices
The challenges are accentuated for two sets of companies a)
International entrants and b) mid-size companies looking to scale
up.
Policy making can help mitigate some of the issues related to
enabling private sector for building a skilled workforce, develoing
speedier mechanisms for speedier resolution of contractual
disputes, and clarifying taxation regulations related to the
industry.
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There are macro level learnings to be derived from Koreas EPC
growth story, which may be replicated by the Indian industry
Government support in terms of ministerial oversight for the
industry, followed by active promotion of the industry overseas
Capacity building initiatives in terms of institutions for developing
construction industry talent
Engineering rms working in collaboration with construction
majors, facilitated by not-for-profit engineering industry
associations
Apart from the above, the report discusses specic end-use industry
issues and demand outlook for Power, Oil and Gas and Water,
bringing out nuances in terms of differences in contracting models,
prole of service providers and key challenges.
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Learnings from the
Korean Construction Industry
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The report has been prepared by KPMG Advisory Services
Private Limited in association with Chemtech. Leading
executives from the industry were interviewed to seek inputs
for the report. The representation included project developers,
EPC companies, engineering consultants and construction
companies.
We have collected insights based on numerous engagements
with nodal agencies, infrastructure companies, engineering and
construction rms, and foreign players looking to enter India
and equipment suppliers.
Secondary research was conducted using published reports,
news analysis and usage of standard nancial databases
subscribed to by KPMG. We have leveraged the expertise and
relationships of our advisory teams in the area of Infrastructure
and Government and Industrial Markets spread across the
country.
Taxation related inputs have been provided by our Tax team
based on their working experience with clients in the area of
infrastructure and engineering and construction.
The report covers primarily the EPC services industry from
the perspective of the following end-use industries - Power,
Rening and Petrochemicals, Water and Water Treatment.
These industries have large investments planned in the country
for the next 5 to 10 years, and involve technological complexity
apart from being complex from a project management
perspective.
Also, they are varied and bring out the nuances of the EPC
sector across most aspects. Specic issues related to EPC
services for other end use sectors like Roads, Railways, Metals
and Mining etc are not detailed as part of this report, though
many of the generic EPC industry issues identied in this report
would also apply to EPC services for these other industries.
Methodology
Coverage & Scope
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EPC or Engineering, Procurement and Construction industry
is referred to by various terms like Construction industry,
Engineering and Construction, Contracting or just engineering
industry. Here we dene the EPC industry as consisting of
service providers who are capable of executing projects on a
turnkey basis, including detailed engineering, procurement,
construction, commissioning and performance testing.
We concern ourselves with players who are able to aggregate
multiple engineering disciplines like process engineering,
mechanical, structural, civil and electrical. Examples of such
companies in India are Larsen and Toubro, Punj Lloyd, Tata
Projects, Essar Projects etc. Players who only operate in the
civil construction and structural engineering domain and would
not undertake turnkey construction of a plant or packages
within a plant are not considered as EPC companies by this
denition. It is difcult to draw a strict boundary in terms
of what constitutes an EPC rm vis--vis construction or
engineering rms. One way to distinguish between a classical
EPC company from a primarily civil construction company
is the construction intensity of the end-use sector, dened
by Crisil as the percent of construction spend in the overall
investment towards creating an infrastructure or industrial
asset. For example, Roads is estimated to be close to 100
percent, while a thermal power plant is 20 percent.
The rest is towards equipment, mechanical fabrication,
electrical and non-construction engineering spend.
Defining
EPC Industry
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Route 1
Expanding scope from being engineering companies to
EPC companies. The most prominent example of this route
Engineers India Limited, which is Indias leading engineering
company, especially in the Hydrocarbons segment and now
offers EPC services. However, successful instances of this
route are limited.
Route 2
Expanding scope from being construction companies to
EPC companies. This is the more commonly followed route,
wherein companies have added engineering and procurement
capabilities to their existing expertise in mechanical and civil
construction. The leading example of this route has been
Larsen and Toubro, which moved from being a fabrication
and construction company in to one of the largest and most
respected EPC companies in India.
Route 3
Expanding scope from equipment supply to EPC companies.
This route has been more commonly followed in the engineering
and capital goods segment. Companies manufacturing major
pieces of equipment for a particular manufacturing process
have upgraded themselves to execute projects around their
equipments. Examples are Elecon, TRF who are suppliers of
material handling equipment and undertake projects in Power
Balance of Plant packages supplying entire Coal handling
systems or in industrial plants involving large material handling
components.
Route 4
A relatively new development has been of project developers
backward integrating and setting up their own EPC divisions.
This has been motivated by a desire to leverage their in-house
project management capabilities, and to capture the margins
typically belonging to contractors.
Setting
The CONTEXT
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Relevance of the EPC industry to the
India Growth Story
The 11th plan was an inection point for the Indian infrastructure
story. The 11th plan laid the foundation for large scale
investments in infrastructure in India. Of the USD 500 billion
planned to be invested in the infrastructure, at the current rate,
it is expected that the plan will be met to 94 percent. This would
amount to 9 percent of Indias GDP and is expected to go up
to 10.25 percent of GDP.
Mid-Term Appraisal of 11th Five Year Plan
In order to achieve this plan, various pieces of the puzzle
need to come together, and would require all stakeholders,
the government, public sector undertakings, private sector to
contribute their achievements in a co-ordinated manner. It is
expected that the private sector would contribute 50 percent by
way of nancing to achieve this plan. The obvious policy focus
has been on building nancing capacity, formulation of PPP
policies in various sectors, policies around creating investment
clusters, land acquisition and environmental clearances.
However, the chain is only as strong as the weakest link.
Achieving this rate of infrastructure build-out calls for massive
capacity building down the chain in terms of manufacturing
capacities for equipments, raw material and commodity
capacities (e.g. steel, cement, fuels etc) and human resources.
Similarly, it calls for massive capacity building in the engineering
and construction sector in terms of reasonable number of large
to mid-size contracting or EPC companies available to be able
to undertake Lump-Sum-Turn-Key (LSTK) and sub-contracting
jobs in the country.
Purely from a construction perspective, investment in
construction is estimated to double to INR 16,809 billion over
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1
Source: Crisil Construction-Opinion August 2010
the next ve years (2010-11-20114-15), from INR
8,895 billion recorded during the last ve years
1
.
Within this the infrastructure segment, would
comprise 85 per cent of the total construction
investment. Within infrastructure segment, the
roads, power, irrigation and urban infrastructure
sectors would contribute around 73 percent of total
construction investment. The opportunity for EPC
players varies by industry given the contracting
models and construction intensity of each class of
infrastructure or industrial asset. CRISIL Resarch
estimates that investments in the industrial sector
would be 1.2 times in the next 5 years as compared
to the previous ve years while in infrastructure it
would be 1.9 times, bringing the total growth to
be 1.7 times.
Projected Infrastructure Investments in 12th Plan
Base Yr
(2011-12) 2012-13 2013-14 2014-15 2015-16 2016-17
GDP (USD Billion) 1,595 1,738 1,895 2,065 2,251 2,454
GDP Growth (%) 9.00% 9.00% 9.00% 9.00% 9.00% 9.00%
Infrastructure
Investment
(% of GDP) 9.00% 9.25% 9.50% 9.75% 10.00% 10.25%
Infrastructure
Investment
(USD Billion)
144 161 180 201 225 252
Total Investments (USD Billion) 1,019

Source: Planning Commission
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2
TSR computation has been done for last 3 years data for companies which have been publicly listed in the last 3 years and
may be classied as engineering and construction companies
3
Source of data for analysis is Prowess, CMIE
Expectations from the EPC Industry
The EPC industry has gained prominent share of media,
investor and entrepreneurial attention in the last 3-5 years.
The stock markets have handsomely rewarded companies
operating in the infrastructure, construction and EPC space,
largely on account of future expectations. Similarly, the large
investment plans have raised expectations of customers from
this industry.
Investor Expectations
During the period of 2008-2010, the Total Shareholders Return
2

(TSR) by the EPC companies has been ~31 percent. TSR for
the more broad-based Infrastructure index in the corresponding
period has been only ~ 9 percent. KPMG analysis indicates that
the expectations embedded in the current valuations indicate
that investors are expecting the leading EPC companies to grow
their order books and revenues at a rate of ~65 percent if they
continue to maintain current protability and capital turnover
ratios, whereas the CAGR growth demonstrated in the last 3
years has been around 28 percent for the set of companies
considered below
3
.
Hence the stock market expectation of growth of EPC
companies appears to be very high. Private equity interest has
also been high in the industry.
RECENT EXAMPLES OF PRIVATE EQUITY DEALS CONCLUDED
CONSORTIUM OF PRIVATE EQUITY FIRMS, INCLUDING BARING, SEQUOIA CAPITAL, FIDELITY AND
DEUTSCHE BANK, ACQUIRED A 16 PERCENT STAKE IN INFRASTRUCTURE-EPC COMPANY COASTAL
PROJECTS FOR $54.8 MILLION
1

AVIGO INVESTED $14 MILLION IN DELHI-BASED NAFTOGAZ INDIA PVT LTD, AN EPC PLAYER IN
THE O&G SECTOR.
DELHI-BASED UEM GROUP, SPECIALISING IN WATER & WASTE WATER COLLECTION, TREATMENT
AND DISPOSAL, MOPPED UP ` 90 CRORE FROM INDIA VALUE FUND
CHENNAI-BASED AQUA DESIGNS INDIA, A WATER MANAGEMENT ENGINEERING COMPANY, RAISED
` 55 CRORE FROM PEEPUL CAPITAL
CONCORD ENVIRO SYSTEMS, A WATER MANAGEMENT ENGINEERING COMPANY, RAISED $10
MILLION FROM SAGE CAPITAL FUNDS IN DECEMBER 2009
A2Z MAINTENANCE & ENGINEERING SERVICES LTD (BACKED BY IEP, BEACON INDIA
PRIVATE EQUITY FUND AND MR RAKESH JHUNJHUNWALA), IS PRESENT IN POWER
DISTRIBUTION EPC BUSINESS.
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Total Shareholder Returns of Select Engineering and Construction
Companies
86.3%
74.5%
50.7%
38.9%
33.6%
32.3%
32.3%
31.5%
23.3%
23.2%
20.3%
17.1%
14.7%
14.1%
13.0%
12.4%
8.6%
8.5%
7.0%
4.5%
2.3%
3.7%
13.5%
20.0% 0.0% 20.0% 40.0% 60.0% 80.0% 100.0%
Era Infra Engg. Ltd.
Engineers India Ltd.
Sadbhav Engineering Ltd.
Jaiprakash Associates Ltd.
Mcnally Bharat Engg. Co. Ltd.
Bharat Heavy Electricals Ltd.
Larsen & Toubro Ltd.
Ahluwalia Contracts (India) Ltd.
Gayatri Projects Ltd.
Thermax Ltd.
Hindustan Construction Co. Ltd.
Patel Engineering Ltd.
Alstom Projects India Ltd.
Madhucon Projects Ltd.
Punj Lloyd Ltd.
Unity Infraprojects Ltd.
Nagarjuna Construction Co. Ltd.
Ion Exchange (India) Ltd.
I V R C L Infrastructures & Projects Ltd.
J M C Projects (India) Ltd.
Gammon India Ltd.
S P M L Infra Ltd.
Elecon Engineering Co. Ltd.
Source: KPMG Analysis, nancial data from Prowess, CMIE
In summary, the expectations from the investors are much higher
than the pace at which companies have delivered performance in the
recent past. This is an indicator of the strongly positive expectations
surrounding the sector, and hence the need for the industry to deliver
a consolidated performance in line with what is expected of them.
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The value proposition offered by the EPC industry is based
on the concept of risk sharing or risk transfer from the
project developer to the EPC
Company, at least to the tune
of the capital cost of the project
and to a limited extent to the
initial operating performance of
the plant / facility being built. In
exchange for that, the project
developers are willing to pay
a premium for the integration
services provided. Over a period
of time, customers have come
to expect a reduction in the total cost of putting up the plant
and the time schedule through the EPC route, compared
to exectution by the developer organization or the more
traditional route of procuring equipment, services and
engineering services separately
and owning the integration and
the project management.
It i s i mportant to poi nt out
here that given the customer
expectations and the consequent
EPC business model, an EPC
company takes on a much higher
level of real and perceived risks
wi thi n a proj ect, than other
service providers in the pure engineering, consulting or Project
Management space.
Customer Expectations
EPC company takes on a
much higher level of real
and perceived risks within
a project, than other service
pr ovi der s i n t he pur e
Engineering, Consulting or
Project Management space.
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T h e p u r e
e n g i n e e r i n g ,
consul t i ng or
PMC ser vi ces
companies build
t hei r busi ness
model s around
p r o f i t a b l e
c u s t o m e r
relationships, and
do not necessarily need protability in each project that they
undertake.
However, the services of an EPC contractor are supposed
to be based on comprehensive contracts with little room for
interpretation and ambiguity, whereas pure engineering or
EPCM service providers do not take on most of the project cost
or time overrun risks which remain with the developer.
Given its business model, an EPC Company hence has to
target protability from each contract, since the value at risk in
the case of overruns is very high, in proportion to its expected
margins. Further, the nature of the customer relationship
continues to be arms-length over the period of the contract,
as EPC companies look to protect themselves against time
and effort overruns delays on account of the developer and
a plethora of other risks that might take them off their initial
estimates. At the same time, customers want to ensure that they
get their plant or facility up and running, with the desired quality
in time and with no extra claims raised by the contractor.
APART FROM THIS BASIC CUSTOMER EXPECTATION, DURING OUR
DISCUSSIONS WITH PROJECT DEVELOPERS SEVERAL OTHER EXPECTATIONS
FROM EPC COMPANIES WERE COMMONLY MENTIONED
EPC COMPANIES NEED TO IMPROVE THEIR FINANCIAL AND BALANCE SHEET STRENGTH TO BE
ABLE TO TAKE ON LARGER JOBS, AND NOT DEPEND ON ADVANCES AND FAST TRACK PAYMENTS
FROM DEVELOPERS TO BE ABLE TO PROGRESS
INDIAN EPC COMPANIES NEED TO SIGNIFICANTLY IMPROVE THEIR ENGINEERING CAPABILITIES,
ESPECIALLY ON THE FRONT END SIDE. THIS IS ESPECIALLY TRUE FOR THE ENGINEERING
COMPANIES WHICH ARE RESPONSIBLE FOR PREPARING THE FEED (FRONT END ENGINEERING
DESIGN) PACKAGE SO THAT LSTK BIDDING CAN BE FACILITATED.
DEPLOY LATEST CONSTRUCTION METHODOLOGIES AND TECHNIQUES, BOTH MANAGERIAL AS
WELL AS TECHNICAL TO EXECUTE PROJECTS FASTER AND TO BETTER QUALITY.
DEVELOP EMPOWERED PROJECT MANAGERS, SO THAT THEY CAN ACT AS MORE THAN JUST
COORDINATORS, AND CAN INTERFACE WITH THE SENIOR MOST LEVELS IN THE CLIENT
HIERARCHY AND TAKE DECISIONS TO RESOLVE PROJECT ISSUES.
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The EPC game is
competitive,
while
EPCM game
is about
relationship &
trust
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Value Creation Strategies
The project level value creation driver in terms of protability
for an EPC company is its ability to
a) Correctly estimate the detailed costs and time schedules
of a project and
b) Manage the entire ecosystem of customers, vendors,
regulators, engineers and sub-contractors, to deliver within
those estimates.
Sources of Long Term Value Creation
However, long term value creation requires EPC companies
to improve in all three aspects that impact the market value
of a company performance, prospects, and nancing. While
performance is enhanced both through revenue and prot
growth, future prospects are enhanced when the EPC company
is positioned well to serve high growth segments and protable
customers. Financing component of value creation involves a
reduction in the risk premium and discount rate associated with
future cash ows of the company. This can be achieved by a
combination of a reduction in actual cost of borrowing and the
expected cost of equity through improved risk management
practices and reduced volatility of revenue streams.
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Scale and other Value Drivers for EPC companies
Performance improves for an EPC company with scale, as
it is able to leverage efciencies in procurement, overheads,
relationship building with vendors and sub-contractors. Also,
there are scale opportunities created when companies are able
to invest in standardization of designs, value engineering and
investment in world-class tools and techniques.
The other two important aspects for value creation are Growth
to create future prospects and Risk Management which are
covered subsequently.
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D
iversication is a key element of
growth, and will be aggressively
pursued in India. It is driven
not only from the point of growth, but
also from the perspective of managing
volatility in order booking. Presently, the
established EPC companies operating
in a limited set of industries in India,
are also perceiving a high risk to their
order booking levels due to the large
number of new entrants into the EPC
space, as well as a perceived dilution
i n qual i fi cati on cri teri a from many
customers that appears to be providing
a level playing eld to the new entrants.
Hence diversification has become a
popular mode of seeking both growth
and stability in revenue streams of EPC
companies.
Route 1
HORIZONTAL EXPANSION Existing
EPC companies are diversifying in to
new end-use industry sectors, inspired
by the large investments coming up in
these sectors. For example, Punj Lloyd,
a player in the Oil and Gas space,
expanded in to the Power Generation
EPC market and has recently won orders
in the Balance of Plant EPC space.
Similarly, Tata Projects has entered in to
a JV with EIL to form a TEIL, to address
the investments in the Oil and Gas space.
The JV leverages EILs engineering
know-how, client relationships in the Oil
and Gas sector and the LSTK contract
execution capabilities of Tata Projects.
There are many other examples, of such
strategies being followed by companies
all over the country.
Route 2
VERTI CAL EXPANSI ON Some
companies are expanding to control
more of the investment value of the
project, by becoming system integrators.
A large proportion of these companies
are equipment vendors, who believe that
they have the ability to execute contracts
on a turnkey basis. Examples of this route
being followed being prevalent largely
in the Power Generation equipment
si de. For exampl e compani es l i ke
Elecon, TRF which were earlier primarily
material handling equipment vendors
are now competing for turnkey
materi al handl i ng systems
packages. Similarly, there are
engineering companies like
EIL, who are now offering EPC/
LSTK services to their clients.
The vertical expansions have
been driven by the desire to
enhance the top line and to
control a larger share of the
investment pie. Engineering
services contribute not more
than 5-10 percent of the total
plant investments, and while
engi neeri ng servi ces have
higher margins and relatively
lower risks, it doesnt provide aggressive
top line growth. Such vertical expansion
into Construction and Project Execution
by publicly listed manufacturing or
engineering companies, is also driven
by the higher earnings multiples currently
associated with such high potential
businesses. The market recognizes that
construction and project management
service providers will be in short supply
and high demand in the short to medium
term.
As a note of caution, however, it is worth
mentioning that companies who enter
the Projects business from product
manufacturing or engineering services
backgrounds, need to carefully built
the required capabilities for project
Routes to Growth
DIVERSIFICATION
PROMISES GROWTH
& STABILITY IN
REVENUE STREAMS
EXPANSION MODES
Horizontal
Vertical
Backward Integration
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execution, and identify and manage their
risk exposure in a higher risk business in
a calibrated manner. Several traditional
manufacturing companies have faced
nancial difculties in managing their
project businesses in the recent past.
Route 3
BACKWARD INTEGRATION Many
Indian entrepreneurs have typically
wanted to control as much of the value
chain as possible. The story is being now
repeated in the EPC industry - Reliance
ADAG has Reliance Infrastructure,
while Essar Group has Essar Projects.
GMR has its own EPC division, while
the Tata Group has Tata Projects. Many
other business houses have established
strong internal project execution teams.
Moreover they believe they can derive
substantial benefits on procurement
activities through in-house procurement.
Further, as an executive from one of the
leading players in the industry pointed out
large business houses making signicant
investments believe that there isnt
enough expertise and scale within the
existing EPC companies for assuming
and managing their project risks.
In the Power Sector, for example, the
only large full service EPC company that
comes to mind is Larsen and Toubro,
which can offer full EPC, BTG package,
BoP package and al so i ndi vi dual
equipments and sub-systems. There
are few others capable of simultaneously
executing a number of full EPC projects in
the Power Sector. One private developer
mentioned that the available set of EPC
companies does not inspire condence
in their being able to deliver projects on
time and with the initial estimated cost.
Typically in such scenarios, the risk of
both schedule and cost is transferred
back to the developer in forms of claims
and counter claims on who is responsible
for delays and escalations. As a result,
the developer feels compelled to manage
his projects on his own if he has the
organization and resources to do so,
and a large enough pipeline of projects
to utilize these in-house resources
efciently.
International expansion for growth
has really not been a focus area for
most Indian EPC companies given the
growth in the domestic sector, and the
stiff competition posed internationally
by the gl obal maj ors. However,
there remain certain sectors where
international expansion is likely. The
Indian Oil and Gas plant engineering
and construction market has all the
global majors present in India. Hence,
Indian companies competing with
them have raised their game to the
international level in this eld. Hence
companies like Larsen and Toubro,
Punj Lloyd, Essar Projects have won
business at the international level
and should continue to do well in the
hydrocarbons space. Similarly, sub-
contractors in this space (e.g. Petron
Engineering) may also be able to
compete internationally, as they have
been working as sub-contractors to
global companies in India.
On the other hand, there are niche
International Expansion
COMPANIES WHO ENTER
THE PROJECTS BUSINESS
FROM PRODUCT
MANUFACTURING OR
ENGINEERING SERVICES
BACKGROUNDS, NEED TO
CAREFULLY BUILD THE
REQUIRED CAPABILITIES
FOR PROJECT EXECUTION,
AND IDENTIFY AND
MANAGE THEIR RISK
EXPOSURE IN A HIGHER
RISK BUSINESS IN A
CALIBRATED MANNER.
| 21 |
EPC segments, with limited market size
in India, which has prompted Indian
companies in these domains to go
global. Examples of this are to be found
in Walchandnagar for sugar and biomass
based power plants, KEC International
for EPC in transmission and distribution
space. Some of these expansions have
been facilitated by global acquisitions
as well for example the acquisition
of the mineral beneciation equipment
business of cement major KHD Humboldt
Wedag by McNally Bharat Engineering
has provided them a foothold in the
international market. Similarly, the
acquisition of Sembawang and its
subsidiary Simon Carves has signicantly
improved the international prole of the
Punj Lloyd. KEC International acquired
SAE Towers busi ness, a l eadi ng
manufacturer of steel lattice structures
for transmission towers with subsidiaries
in Brazil, Mexico and US. This is the most
plausible route that Indian companies
are likely to take acquiring companies
in niche areas globally to create large
multi-country EPC businesses. There
are no large acquisitions of note in the
main plant EPC market, other than Punj
Lloyds acquisition of Sembawang.
In the domestic market, diversication
in to newer areas by EPC companies
has been accompanied by acquisitions
or JVs - particularly in the Hydrocarbons
space, wherein the qualication criterion
are quite stringent for entry.
Tat a Pr oj ect s acqui r ed Ar t son
Engineering, while entering into a JV
with EIL for its Oil and Gas foray. IVRCL
acquired Hindustan Dorr-Oliver to
strengthen its Water Treatment business
and gain a foothold in the mineral
beneciation plant construction market.
We expect the acquisitive activities
of Indian EPC companies to intensify
over the next 3-5 years. Opportunities
for partnering or acquisition will arise
as smaller, niche EPC companies nd
it difficult to compete against large
companies. Additionally, the recent bout
of aggressive bidding by Indian EPC
companies is likely to throw up winners
and losers in the next 3 to 5 years. This
will likely lead to consolidation in the
industry.
GLOBAL ACQUISITIONS
BY INDIAN COMPANIES
Mineral beneciation
equipment business
of cement major KHD
Humboldt Wedag
by McNally Bharat
Engineering
Sembawang and its
subsidiary Simon Carves
by Punj Lloyd
SAE Towers business,
a leading manufacturer
of steel lattice structures
for transmission towers
with subsidiaries in Brazil,
Mexico and US by KEC
International
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| 22 |
Contracting Models
Model Role of EPC company Drivers / Highlights
Engineering
Procurement
and Construction
Management
(EPCM)
System engi neeri ng, opti onal l y
detailed engineering
Detailed cost estimation
Pa c k a g e a n d s u b - c o n t r a c t
structuring
Managing bid / vendor selection
process
Quality management ( including
drawing approvals of vendors, sub-
contractors)
Supervision of construction, erection,
commissioning, performance testing
Project Management ( sometimes
an additional Project Management
agency)
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Commonly practiced in process industry
Players like Engineers India Limited, Uhde, Foster
Wheeler, Technip, Technimont ICB etc
Contract values are small as compared to LSTK,
however high margin
Minimal risk for EPCM companies, however customers
now insist on incentives based on project cost and
schedule as compared to original estimates
Places responsibility of managing risks, cost control
and procurement on the project developer
Preferred in the Indian context due to in-house
capabilities of Indian entrepreneurs and willingness
to take risks, and save margins
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EPC - Lump Sum
Turn Key (LSTK)
En g i n e e r i n g , p r o c u r e me n t ,
construction, commissioning
The extent of information provided
varies, typically all the drawings and
designs are provided to construction
companies to bid, while in some cases
only the conceptual design may be
provided
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Complete risk transfer to EPC company
Very large contract sizes, equal to the project
investment
Higher adoption in India of this model in the infrastructure
segments ( Roads, Water, Hydro Power etc)
Limited adoption in the industrial segment
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Package EPC En g i n e e r i n g , p r o c u r e me n t ,
construction and commissioning of a
particular unit
Most likely to involve mechanical,
electrical, instrumentation, utilities civil
and structural scope
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Project developer splits the project in system or unit
packages
Most commonly used method in Process plants, power
plants especially by the public sector. E.g. NTPC
breaks the Power plant in to packages like BTG, Coal
Handling, Ash Handling, Water Treatment etc
Contract sizes can be as large as INR 2000 Crores
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Contracting Models and their Drivers
The demand for the EPC industry is driven by the contracting models adopted by customers. Theoretically, the EPC industry is
driven by the need to reduce the risk for the developer, at the same time leveraging the expertise of the EPC player to reduce
the overall execution period and cost. Some of the prevalent contracting models are mentioned below:
Source: KPMG Research and Analysis, Industry inputs
Key External Drivers and Issues
| 23 |
The choice of the contracting models are
driven by multiple factors
Internal capabilities of the project
developer
Inuence of nancial institutions
Availability of enough number of
quality LSTK suppliers
Prevai l i ng market condi t i ons,
including supplier power. In a capacity
constrained scenario, contracting
models move towards shifting the
risks on to the project developers.
However, a few general trends can be
drawn based on the above drivers, as
follows:
In the infrastructure segments, the
contracting models are moving
towards transferring more risk to
contractors, including operating risks
in the form of BOT, BOOT models.
In the i ndustri al segment, i t i s
expected that the EPCM or even
lesser risk models will continue to
dominate.
What wi l l t i l t t he bal ance i n
favour of turnkey models in the
industrial segment is the entry
of new devel opers, especi al l y
in the mid-scale segments, who
have limited internal capabilities to
execute projects without LTSK type
contracts.
Order Book Uncertainty
One si gni fi cant trend i n i ndustry,
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especially where projects are being
awarded through the competitive bidding
in the public sector, is the emergence
of a large number of relatively small,
unknown players bagging signicantly
large contracts.
While it is important from a capacity
building and competitive stand point,
it has led to order book uncertainty for
the incumbents. At the risk of sounding
anti-competition, a senior management
executive of a large EPC company
suggested that it is not a healthy trend
at all. It is leading to contracts being
bagged by companies with limited
capabilities, which will affect projects
in the medium to long run. While the
extent of truth in this prophecy can only
be borne out over time, it is a fact that this
phenomenon has increased the order
book uncertainty for the incumbents.
Strategic planning methods based
on projected capital expenditure and
historical market shares do not throw up
reliable revenue projections, and there is
scramble to hedge risks by diversifying
and being present in as many sectors as
possible. There are numerous examples
around this; a look at the portfolio of the
top 10 construction companies in India
illustrates this point.
Another ramication of this order book
uncertainty is the appetite for investment
in manufacturing or in-house value
addi ti on. The BTG manufacturi ng
capacities of private sector companies
in India like that of L&T, Bharat Forge,
Thermax, BGR etc are faced with the
prospects of being under utilized as
most main plant equipment orders have
been won by BHEL and the Chinese
companies.
This phenomenon was also seen in the
Roads sector, where there is consequently
now a cap on how many orders can be
placed on a single company, and also in
the Balance of Plants in Power space,
where multiple companies have sprung
up to take advantage of the under-
capacity scenario.
CONTRACTS
being bagged by
COMPANIES
with LIMITED
CAPABILITIES
will affect
PROJECTS in
the medium to long run
| 24 |
4
NSDC report on Human Resource and Skill Requirements in Building, Construction Industry and Real Estate Services
Human Resources
The shortage of skilled manpower is
most acutely being felt in the construction
industry. The construction industry
currently employs 32 million people in
the country. It is estimated that 1 percent
increase in GDP translates to 1 percent
increase in jobs for the construction
industry. With the accelerated investment
in infrastructure, this is only going to
increase. If the 12th plan envisages
doubling of infrastructure investment
from the 11th plan, it calls for doubling
of requirement for the construction
industry, which indicates a large shortage
of resources. While mobilization of
unskilled labour at construction sites
may be of relatively lesser concern, the
need for doubling the skilled resources
available in the country is being acutely
felt. Anecdotal evidences indicate that
construction managers with 15+ years
of experience in building high quality
roads are now drawing compensation
in the same range as their peers in
advanced countries, which was unheard
of in the Indian context. Industry leaders
are worried about the shortage of skilled
workers like carpenters, tters, welders,
but what they lament the most is the
lack of Project Managers with adequate
experience and skill levels to execute
the ever increasing size and complexity
of projects.
The 11th plan envisages the development
of a National plan for Human Resource
devel opment through trai ni ng and
certication of construction personnel.
However, industry participants feels
that this large capacity building will
require signicant private sector effort,
for establishing training institutes, setting
course material and reducing trainee
career risks by providing absorption.
While the need for upgrading the current
set of ITIs and vocational training institutes
is felt, more importantly, there is a need
to establish training centers with private
participation at major labour centers in
the country, in the semi-urban and rural
areasThe challenge is accentuated due
to the demand centers and the supply
centers being different. The supply
is likely to be driven predominantly
by states like Orissa, West Bengal
and Bihar, especially at the minimally
skilled levels
4
. Centum Learning, a joint
venture between Bharti Groups Centum
Learning and NSDC is one initiative,
to skill and train 1.2 crore Indians on
workskills in sectors like Telecom, Retail,
Building and Construction. However,
there is need for many more, especially
from the Construction Industry itself.
Hence there is an urgent imperative for
collaborative action by the Engineering
and Construction companies in investing
in skill building at the supply centers, in
a non-competitive environment. In the
meantime, the government may have
to refrain from disallowing the use of
foreign labour for project
execution, till such time as
skilled labour shortages are
addressed.
While, the skilled resource
The existing public school infrastructure can be
upgraded through private participation with minimal
additional expenditure with after-school hours used for
providing vocational skills
- Senior Executive at an EPC company
Incremental Human Resource Requirement
(including skilled workforce) in 000s
Prole of People Incremental
Requirement
Project Managers and
Engineers
473
Supervisors 473
Foremen 946
Crane Operators 7
Electricians 473
Weleder 473
Source: Nat i onal Ski l l Devel opment
Corporation and IMaCs study on Human
Resource skill gaps in Building, Construction
and Real Estate
| 25 |
requi rement at the Engi neer and
Supervisor levels is a constraint as well,
we feel that it is easier addressed as over
a period of time through private sector
participation in engineering education,
as this is financially rewarding even
with limited or no government support.
What may be needed though is more
specialized curriculum development
(for example Power Plant engineering).
A second requirement is for cross-
f unct i onal engi neeri ng ski l l s and
exposure. The EPC industry needs a set
of professionals to act as integrators, who
can act as engineering coordinators and
are comfortable with various engineering
disciplines and not just one specific
discipline. It is only with the availability
of such talent, that companies can
innovate, carry out value engineering
to improve the overall productivity of a
capital project.
The second of critical challenges apart
from technical and skilled labor, lies in
developing managerial talent. There
are few institutes focusing on teaching
Project Management, especially for
the construction industry in the country.
In the absence of specialist nishing
schools for Project Management, the
industry relies on in-house training, and
on-the-job training programs. While
those are important, there is a need to go
beyond the generic project management
credits introduced in business schools
or engineering institutions. It is strongly
believed that the development mandate
given to the Construction Industry
Development Council and the National
Institute of Construction Management
and Research (NICMAR) needs to be
supplemented by the establishment
of some such high quality Project
Management schools.
There is a need for building a high prole project
management school along the lines of an IIT/
IIM, all we need is some land allocation and the
industry can do the rest
Senior Executive of an EPC company
| 26 |
5
http://www.doingbusiness.org/rankings
Ease of Doing Business Ranking for India
(i) Ease of doing business in India
In the latest rankings
5
for ease of doing business, India is ranked 134th in the world.
Contracts
Ease of
Doing
Business
Starting a
business
Dealing with
construction
permits
Registering
property
Getting
Credit
Protecting
investors
Paying
taxes
Trading
across
borders
Enforcing
contracts
Closing a
business
134 165 177 94 32 44 164 100 182 134
Source: World Bank Group, Ease of Doing Business Rankings, 2011
Managing within a weakly enforced regulatory
framework is a competitive advantage for Indian
companies
- Senior Executive at an EPC company
India scores particularly poorly in the
establishment of new business and
construction, closure of businesses,
and enforcement of contracts. While,
one may argue that these rankings
mean little to investors and companies
who see the immense potential of India,
as also reflected in the FDI flowing
in to the country. However, for many
global companies contemplating entry
into India, these are not encouraging
indicators. One of the worlds leading
design engineering and consultancy
firms, while evolving it strategy for
emerging markets recently, found these
rankings to be particularly forbidding in
its evaluation of Indias attractiveness as
a business location.
Risk Assessment of
Typical Contracts
During a recent engagement for an Indian
EPC client, we studied the risk evaluation
frameworks in use by international
majors. We found that many international
companies would rate typical Indian
projects as No-Go. While the reasons
would typically also include issues
related to logistics constraints and overly
aggressive delivery periods, the primary
reason for such evaluations, we found,
were the typical contractual clauses,
including payment and retention terms
which detract international companies
from taking up large contracts in India.
Moreover, many EPC companies nd
arbitration as a lengthy process in India,
and hence the risk averse companies
assume that in case of any disputes,
they will have to accept terms from
the customer. Interestingly, as a senior
executive in in an EPC firm told us,
the ability to manage within a weakly
enforced regulatory framework is a
competitive advantage for Indian EPC
companies who have learnt to operate
under these conditions. For example,
these companies have realized that
Liquidated Damages are rarely enforced
by Public Sector clients. Further,
new infrastructure developers, when
dealing with large experienced EPC
rms operating in India, nd it difcult
to prevent extra claims, and costs
from escalating.
| 27 |
We feel, the industry requires that nodal
agencies in various government sectors,
take up these issues, to align the project
contractual clauses to international
standards, particularly if they wish to
receive enough number of bids in the
International Competitive Bidding routes,
reduce the number of disputes and raise
the trust levels in the industry between
project developers and engineering and
construction companies.
Taxation
Direct tax
A typical EPC contract will have the
following scope of work in a single
project:
Supply of equipment (offshore and
onshore);
Installation / commissioning
Services (offshore and onshore)
Software / Technology transfer
(offshore and onshore)
Under a typical EPC contract, a non-
resident contractor performs multitude
of activities. The scope of work under
EPC contract:
Offshore: Offshore supplies and
offshore services
On-shore: Onshore supplies and
onshore servi ces (i nstal l ati on,
commissioning, etc.)
Taxability of payments received by
foreign companies in respect of EPC
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contracts, especially in respect of off-
shore supply of goods / services under
a composite contract, has become a
matter of great debate and litigation.
Equally important is the issue in relation
to withholding tax on such payments.
The onshore supplies and services are
normally taxable in India.
There has been a lot of litigation in
relation to taxability of offshore supply
and offshore services. However, the
controversy in relation to offshore
services is now rested with an amendment
in the domestic law and accordingly
offshore services are now taxable in
India if they are utilised in India. A general
principle which was emerged out of the
judicial precedents is that prot from
offshore supplies would not be taxable
in India provided following conditions
are satised:
Principal to principal transaction
Title (i.e. risk and ownership) in the
offshore supplies passed to the buyer
outside India
Sal e consi derati on i s recei ved
outside India
Sale is at arms length
Although the above rulings suggest that
offshore supply may not to be taxed in
India, the taxability depends of facts
of each case. Further, the revenue
authorities have not accepted the above
rulings and hence, it is still a matter of
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controversy and litigation. Hence, it
is advisable to structure contracts in a
tax-efficient manner after taking into
account the peculiar facts of each case.
Further, there as several provisions
under the Proposed Direct Taxes Code,
2010 such as General Anti Avoidance
Rules, etc. that will have to be taken into
consideration while entering into EPC
contracts.
Permanent Establishment (PE)
Issues
Deputation of personnel for erection /
installation / commissioning / designing
/ t rai ni ng act i vi t i es i s a common
phenomenon in case of EPC contracts.
The ambit of the domestic law of India is
very wide and it tries to tax income from
all the activities which give rise to some
business connection in India. Based
on the tax treaty, the business income
of foreign companies would be subject
to tax in India only if they have a PE in
India. There are various types of PEs like
xed base PE, agency PE, service PE or
construction / installation PE.
Practically, in an EPC Contracts, activities
take a long duration to complete, and
hence PE clause (especially xed base,
construction / installation PE and service
PE) comes into play in this industry more
often. This would imply that a foreign
company rendering services in India for
more than the specied period would
| 28 |
be taxed in India in addition to being
taxed in the country of residence only
by virtue of the fact that services are
being rendered in India for more than
the specied number of days or they
have a virtual presence in India. Hence,
it is important for the EPC contractor to
structure their operations and contracts
to mitigate PE exposure.
Association of Persons (AOP)
Generally, two or more EPC contractors
come together to bid for EPC contracts
in the form of a consortium. In such
a situation, an AOP exposure would
arise. The term AOP is not specically
dened in the Act. One has to rely on the
ordinary meaning and the law emerging
out of the judicial decisions to determine
what constitutes an AOP. Whether
AOP exist or not is a very vexed issue
and much depends upon the facts and
circumstances of each case.
Following are the consequences of
constituting an AOP:
Applicability of Maximum Marginal
Rate;
Issues in relation to carry forward
of losses;
Issues in relation to Foreign Tax
Credit;
Taxat i on at t wo l evel due t o
applicability of Minimum Alternate
Tax on prot distribution from AOP
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BROAD PARAMETERS TO
ANALYZE CONSTITUTION OF
AOP
TWO OR MORE PERSONS
VOLUNTARY COMBINATIONS
A COMMON PURPOSE OR COMMON
ACTION WITH OBJECT TO PRODUCE
PROFITS OR GAINS
SHARI NG OF PROFI TS AND
LOSSES
JOINT AND SEVERAL LIABILITY OF
THE MEMBERS; AND
SOME KI ND OF SCHEME FOR
COMMON MANAGEMENT
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| 29 |
Key Internal Issues
The key internal challenge facing the
Indian EPC industry today is issue of
being able to manage scale and diversity,
with the rapid growth in business and
diversication into new business areas.
Other issues around improving the
quality and value addition of engineering,
i mpl ementi ng l eadi ng practi ces i n
project management, implementing
modern constructi on methods are
also specific challenges facing the
industry players, but we believe these
will get addressed in natural course
as the EPC industry matures in India.
However, the core challenge facing the
mid-size, fast growing companies are
around effective project management,
management of growth and scalability
without compromising on project and
business risks, and developing systems
and processes to make companies
more scalable and less dependent on
individuals.
Project Management
E+P+C is not equal to EPC said
the director of one of Indias leading
engineering and construction company.
The glue that binds all these together
i s Pr oj ect Management . Pr oj ect
Management is a science, with its own
school of tools and techniques, both
in the scientific and the behavioural
domain.
In our company, project managers
are GODs i s the common refrai n
in international EPC or engineering
companies. However, this is not the
case in Indian EPC companies, as
is evident from various perspectives
provided by Indian companies as well
as developers. A leading Hydrocarbon
major, in an industry forum, called upon
the EPC companies in India to develop
better project management talent, and
especially requested the Indian ofces
of global firms to rotate local talent
through global assignments to develop
these skills.
Most mi d-si ze f ast growi ng EPC
companies in India are facing issues
related to empowerment of Project
Managers and the primacy of the Project
Management function in an EPC rm.
As a result, projects are de facto mana-
ged by Business Unit Heads or other
very senior professionals,
reduci ng the desi gnated
proj ect managers to co-
ordination roles, and resulting in senior
management being involved in day to
day project issues.
Further, with business growth, senior
executive time available for a specic
project becomes limited, resulting in
loss of execution control. We suggest
that fast growing mid-size companies
relook at their organization structures
and policies to ensure that their project
managers are empowered. They should
have accountability for project cost and
time control, and adequate control over
decisions related to the project.
E+P+C is not equal to EPC
RESPECT FOR SENIORITY IN INDIA LEADING TO PROJECT MANAGER
EMPOWERMENT ISSUES
THE OTHER DIMENSION OF THE CHALLENGE IS THE RESPECT FOR SENIORITY IN THE INDIAN
CULTURE. WHILE PROJECT MANAGERS ARE DE-FACTO CEOS OF A PROJECT, THEY MAY NOT ALWAYS
BE MOST SENIOR IN THE PROJECT ORGANIZATIONS HIERARCHY. THE PROJECT TEAM MAY CONSIST
OF ENGINEERING COORDINATORS, CONSTRUCTION MANAGERS WITH MANY MORE YEARS OF
EXPERIENCE WHO WOULD BAULK AT REPORTING TO THE DESIGNATED PROJECT MANAGER DUE
TO THEIR CULTURAL CONDITIONING.
| 30 |
Organization Design & Management:
Building the Engineering
ORGANIZATION
As we discussed earlier in evolution of
EPC companies, most EPC companies
are likely to evolve from the construction
or the developer route. In both the cases,
the key capability gaps would remain in
the domain of engineering. While Project
Management is the execution arm,
engineering does and should function as
the brain, adding competitive advantage
i n terms of standardi zati on, val ue
engineering and technology leadership.
Engineering which being a knowledge
based function requires careful design of
organization structures, career paths and
development strategies, and a different
approach to performance assessment
and management as compared to the
other functions in the organization.
Also, with rapid diversification, the
central i zati on vs. decentral i zati on
question stares at managements of
EPC companies, who would like to
balance efciency with effectiveness.
For exampl e, compani es t end t o
cent r al i ze end- use / pr ocess
independent engineering disciplines
like civil, structural and electrical, while
the other disciplines are de-centralized.
However, there is no right answer, it
needs to be carefully assessed in light
of the companys portfolio, strategy and
culture.
Source: PMI-KPMG Study on drivers for success in infrastructure projects 2010 - Managing for change
Risk Management
Less than one third of the survey respondents in KPMG-PMI Infrastructure report,
had condence in their risk management capabilities.
The EPC business model revolves
around taking ownership of project
risks. Hence it is absolutely critical for
EPC companies to establish robust
processes for risk identication and risk
management. Such a process would
address risks identified
at both the sal es and
execution stages of the
project.
While the ideal situation
wo u l d b e f o r EPC
companies to be able to
identify, mitigate or provide
for all risks at the tendering
stage, this is usually not
practical, given the need
to complete bids within
a specied deadline, and
to not rely indiscriminately
on additional contingency
margins that may impair
| 31 |
Source: PMI-KPMG Study on drivers for success in infrastructure projects 2010
- Managing for change
The KPMG-PMI study in 2010 also
highlighted the some concerns on the
comprehensiveness of risk identication
by companies, given the high incidence
of projects having suffered due to risks
that were hitherto unidentied and hence
not mitigated. Critical improvements are
also required to acquire a robust level
of sophistication and maturity in risk
mitigation. Routinely used mitigation
the competitiveness of the bids. Hence
while key risks are identied and mitigated
during the bidding stage, a large number
of additional or minor unmitigated risks
may need to be addressed during
ongoing project execution. Most leading
international EPC companies, process
all enquiries / tenders through a risk
identication process based on which,
go-No-go decisions are taken, and risk
ratings are assigned to each project or
proposal.
The more sophisticated systems also
have contingencies and margin policies
based on risk ratings. Similarly, the
portfolio of projects is weighted based
on risk categories as strategic planning
inputs. Another common element is
Independent review of risks by personnel
not directly involved in Project Sales or
Execution. With the rapid growth in
order books, and a senior management
stretched for time, it is essential that
Indian companies also rely less on
individual or subjective experience
and expertise, and more on agreed
risk management tools and objective
frameworks which can be used even
by less experienced people with the
help of knowledge and experience that
is codied into these tools. These risk
assessment frameworks, customized
and developed with the inputs from
senior management of the company, can
ag off critical risks in the tenders, and
ensure awareness and more informed
decision making during bidding. Also,
nuanced and differentiated processes of
project execution, monitoring and control
and stafng of projects based on the risk
assessment will help in focusing the
best and most careful decision making
capacity towards the most risky of the
projects in a companys portfolio.
strategies are either reduce, transfer or
avoid. While accept risk type strategies
are used infrequently, exploit strategies
are rarely used. The industry thus is
yet to reach maturity levels at which
mitigation strategies are leveraged to
exploit project risks and are used as
means to maximize project income
potential.
Risk reporting and monitoring are the
remaining links in the risk management
pr ocess t hat ar e cr i t i cal f or i t s
effectiveness. Evolving information
systems can make timely and accurate
proj ect i nf ormat i on f or report i ng
purposes. The information reported
should comprise early warning indicators
and provide content that facilitates
decision making.
| 32 |
Procurement
Procurement can be a vital element
inuencing timely and protable project
delivery in EPC projects. In projects with
low construction intensity like Power
projects, Refining and Petrochemical
complexes and other industrial plants, just
the standard bought-out components
may comprise anywhere between 30-50
percent of the project value, apart from
other procured items like construction
materials and sub-contracted services.
There are several reasons leading to
complexity in the procurement function
of an EPC company:
Number of i ndi vi dual i tems to
be procured for a large project,
within specific and often varying
deadlines.
Cost targets for Procurement are
usually set at individual component
level, not at an overall Procurement
budget l evel si nce seni or
management usual l y does not
l
l
disclose overall project cost budgets
for confidentiality and flexibility
purpose.
The constant trade-offs between
procurement time and procurement
costs to meet the often conicting
goal s of cost control vi s-a-vi s
schedule control on a project.
It requires companies to evolve strong
sourcing teams, capable of vendor
discovery and price discovery on a
larger scale than would be required
in a manufacturing set-up. In most
manufacturing companies, rate contracts,
differentiated procurement processes for
minor vs. major items, and MRP based
procurement processes reduce the
transactional overhead signicantly.
Moreover, most public sector units have
made, depending on how one looks
at it, the job easier or more difcult for
contracting companies by providing
vendor lists. This has resulted in vendor
development take a backseat as the
l
burden of that job has been transferred
to developer or the consultant.
This is however, not the case with private
sector clients, especially new entrants.
EPC companies we believe, would
benet signicantly from an increased
focus on vendor development, including
supporting high quality emerging vendors
in getting themselves accredited with
PSUs.
Given this context, we feel Procurement
capability can emerge as a strategic
differentiator for improving performance
and wi nni ng busi ness i n the EPC
industry. It requires efforts on the part
of engineering, procurement and client
facing personnel to discover, qualify
new suppliers and convince customers
to include them in their approved lists or
allow deviations on the projects. We feel
however, in the emerging high growth
but hyper competitive scenario for EPC
companies, this would be a worthwhile
investment to make.
EFFICIENCY IMPROVEMENT INITIATIVES FOR PROCUREMENT
FUNCTION
REDUCE CYCLE TIME, BY DESIGNING THEIR PROCUREMENT PROCESSES FOR INCREASING
DECISION MAKING SPEED
REDUCING THE NUMBER OF TRANSACTIONS BY STANDARDIZATION AND IDENTIFYING COMMON
ITEMS ACROSS PROJECTS EXECUTED IN THE PAST
IMPROVE THE COMPETITIVENESS OF THEIR SUPPLIER BASE BY CASTING THEIR NET WIDER,
INCLUDING ELEMENTS OF GLOBAL SOURCING IN THEIR STRATEGY
l
l
l
| 33 |
6
And not necessarily poor planning
End-Use Industry Views
Power Generation Units especially
thermal power plants are likely to be
amongst the largest opportunities for
EPC players in the short to medium
term. The thermal power and nuclear
power units both have relatively lower
ci vi l constructi on component and
require superior capabilities in terms of
equipment sourcing, engineering and
integration management as compared to
other infrastructure classes like Roads,
Ports etc.
Demand Outlook
By 2015, India would need to increase
its current generation capacity of 152
GW to 205 GW (an increase of 53 GW)
till year 2014-15 for meeting the base
load capacity requirement to support
growth of economy at 8 percent and
address unavailability of power in many
parts of the country. To meet the peak
load capacity requirement, the installed
capacity requirement would need to be
more than 270 GW.
The gener at i on capaci t y gap t o
meet baseload requirements varies
significantly across regions and is
estimated as 62 GW in Western Region,
62 GW in Northern Region, 54 in the
Southern Region, 24 GW in the Eastern
Region and 3 GW in the North Eastern
Region of India in the year 2014-15. This
projection implies an average annual
generation capacity addition at the rate
of 16 GW per year during the period
2007-08 to 2016-17 (covering two 5
Year Plan periods in India viz. XIth and
XIIth). During the IXth (1997-2002) and
Xth (2002-2007) 5 Year Plan periods,
the average annual generation capacity
addi t i on i n t he
country has been
3.6 GW and 4.2 GW
respecti vel y. The
poor performance in
the past is attributed
to implementation
del ay s
6
by t he
public sector utilities
coupled with hitherto
limited private sector
participation.
A bottom up analysis
of expected plant
additions was conducted based on a
variety of sources such as the CEA
database for upcomi ng addi ti ons,
industry reports and KPMGs internal
assessment. Only those plants which
have reached an appropriate state
of readiness for commencement of
commercial operations within the period
FY 2010-15 have been considered
for capacity addition. Effective supply
addition for each year of the period
(FY 2010-15) was calculated based on
the total capacity addition. We expect
a total capacity addition of 99 GW in
this period. Assuming a similar rate,
this translates in to an approximate
opportunity size of INR 500,000 crore
(i.e. over USD 100 Billion) towards
capital expenditure for these plants.
The majority of this investment will be
towards thermal power plants, of which
80 GW are likely to be commissioned by
2015. The opportunities for EPC players,
equipment vendors are for projects which
are likely to get commissioned beyond
2012-13 as they are the ones which are
mostly likely yet to be tendered out - for
balance of plant equipment if not main
plant equipment.
Source: KPMG Research and Analysis
Expected Capacity Addition (GW)
Power Generation
| 34 |
7
Source: http://www.sify.com/nance/ntpc-likely-to-oat-rs-18-000-cr-tender-news-equity-km4bvDidjib.html
End-Use Industry Specific Issues
The thermal power industry has been
one of the fastest to adopt the EPC
model
The Power Generation industry has
seen one of the fastest adoption rates
in terms of EPC contracting model.
Prior to the reforms in the power sector
and the policies around public private
partnership models, power plants were
being constructed by the state level
generation companies and NTPC. The
tariff regime and operating models of
some these power generation entities at
that time did not require utmost attention
to projection completion on schedule
and to cost budgets. However, with the
competitive power pricing policy PPP
bids, - wherein one can participate in
developing power, only if you are the
most efcient on capital cost as well as
operating cost - has led to increased
focus on executing projects on time and
within budget. Most projects are being
nanced by project nance companies
and nancial institutions, who demand
that developers manage the project
budget escalation risks.
Internal teams at even established
generation companies are stretched,
and at the same time, there have been
a large number of new power sector
entrants, some with limited background
in executing large projects. Hence
the entire sector is favourably inclined
towards contracting project execution
on a LSTK basis. The current landscape
indicates that large public or private
sector generation companies like NTPC,
given their internal engineering and
project management talent pool, will
continue to buy individual packages,
keeping the integration to themselves.
However, they may combine multiple
power plants in their portfolio, going for
combined bids to get the best prices and
reducing transactional bidding costs.
NTPC floated a tender for different
packages for 11 units of 666 MW each,
the award of which is likely by first
quarter of 2011. With this move, NTPC
is expecting to bring down the cost/MW
of setting up power plants, which many
experts believe today is at about 5.5
crore/MW
7
. State l evel generati on
companies, most of whom are currently
on the twin package mode (BTG and
BoP), may continue to procure in that
manner.
The trends in the private sector are
interesting, where a distinction needs to
be made between large business groups
like Reliance ADAG, Essar Group, JSW
Group, Sterlite Group, GMR Group,
Lanco etc who are likely to build large
portfolio of power projects in the future,
vis--vis smaller players with fewer
generation projects in their planned
portfolio.
While complete power plant as a single
EPC/ LSTK package is still rare in the
Indian scenario. Moreover, the trend
of not awarding the entire EPC job (i.e.
both BoP and BTG of a power plant) to
one single service provider has been
driven by:
Distinct set of competencies required
for the BTG and BoP packages.
While BTG is technology, equipment
and manufacturing intensive, BoP
r equi r es compl ex i nt egr at i on
capabilities of sub-systems to be
sourced, erected and commissioned
from different sources.
A single LSTK package would amo-
unt to a range of around INR 6000
crores for a typical 2X660 MW
project, requiring EPC companies
with large balance sheet and risk
bearing capability. It will be difcult
to find enough number of such
contractors to get a competitive bid.
l
l
| 35 |
8
Economic Times, 23rd January 2011
Typical Outsourced Package Structure by
Thermal Power Plant Developer Segments
The large business houses like Tata,
Reliance, JSW, Adani have signicant
in-house capabilities as far as project
execution goes. Moreover they have
substantial leverage with equipment
vendors and sub-contractors due to
their large portfolios. (Reliance has
demonstrated this by entering in to
an agreement with Shanghai Electric
Company for main plant equipment
supply for all its thermal power plants,
and in the process also getting access to
cheap funds. Estimates put the savings
on nancing cost alone at INR 6500 Cr.
for just the Sasan UMPP project being
developed by Reliance Power
8
.
With that kind of leverage, it is hard
to imagine, large private companies
wanting to outsource setting up of power
plants to EPC companies on a turnkey
basis. If EPC companies are looking
to capture this private sector market in
utility power plants, we believe they will
have to bring a value proposition which
reduces power plant capital expenditure
costs by at least 10 15 percent over the
currently prevailing benchmarks, through
efcient global procurement and strong
project execution capability.
Do the EPC companies really deliver for us?
- Power Plant Developer
Central Sector PSU State Sector PSUs Private Sector UMPPs
EPC Contract
for Entire Plant
(BTG + BOP)
Not Applicable Rajasthan Rajya Vidyut
Ut padan Ni gam Lt d
(RRVUNL) Projects
Companies like GMR,
Jaypee, Essar, Indiabulls
whi ch have thei r own
Project companies
Not Applicable
* Bal ance of
Plant EPC
DVC projects to be
tendered as single
BOP package
NLC also expected to
go for BOP in the NLC
TPS III
Some state generating
c o m p a n i e s l i k e
Maharashtra, Madhya
Pradesh, Chattisgarh are
going for the BOP route
The new entrants and
small-to-mid size players
in the IPP market may go
for BoP
BOP route unlikely given
the scale of orders and also
due to the fact that most
large power developers
have EPC companies
Coal Handling
Plant (CHP)
N T P C , N L C
separ at e CHP
package
S t a t e g e n e r a t i n g
companies going for split
packages have CHP
separate
Companies going for
split packages have CHP
separate
Tata Power Mundra UMPP
awarded CHP separately
to Krupp: Reliance Infra
undertaking Sasan UMPP
on EPC basis
Ash Handl i ng
Plant (AHP)
N T P C , N L C
separ at e AHP
package
Some state generating
companies combine AHP
with Main Plant but that is
slated to change
Companies going for
split packages have AHP
separate
Se p a r a t e p a c k a g e s
expected from the UMPPs
W a t e r
Packages
NTPC and NLC
separate packages
S t a t e g e n e r a t i n g
compani es of West
Bengal, ie, WBPDCL and
DPL will give complete
water packages; rest will
split
Water packages will
be split
Water packages will be
split
Source: KPMG Research, News Analysis
| 36 |
9
Report of the Committee to study Design Features of Boilers and Auxilaries being sourced from Chinese Manufacturers,
September 2008
Hence in terms of contracting model,
the following trends are likely to sustain
/ materialize
Majority of the public sector projects
or projects of new developers are
likely to be on twin package route
(BTG and BoP)
Most large business houses in
the Thermal Power business will
manage their projects in-house to
leverage their portfolio, faith in their
internal project management and
l
l
procurement capabilities, and hence
will place smaller sub-contracting or
equipment orders.
In the BTG segment, the Chinese
companies will likely continue to
have the second largest market
share, after BHEL. It may be difcult
for Indian companies in JV with
foreign partners to make inroads in to
this market due to the cost advantage
offered by the Chinese players due
to overcapacity in their domestic
market. While quality concerns
l
regarding Chinese supplies have
been expressed, we understand from
our interview respondents that there
is no conclusive evidence to this
effect. In fact a CEA study
9
in 2008
found no material reason to doubt the
quality or the technology offered by
the Chinese suppliers. On the other
hand, BHEL is the most established
player in Indian with ~60 percent
market share and with recently
augmented capacity should continue
to protect its market share.
| 37 |
10
Refers to opportunities for engineering and construction companies as well as equipment
suppliers, not restricted to those on offer through the EPC-LSTK model
Refining and Petrochemicals
Demand Outlook
Oil and gas constitutes about 65 percent
of the global and 40 percent of the
Indian primary energy consumption. In
the Indian context, the primary energy
consumption over the last ve years
has increased by over 6.5 percent
CAGR as compared to global increase
of about 1.7 percent CAGR. The overall
contribution and pace of growth of oil
and gas provides a perspective on the
importance of this segment to the Indian
economy.
Oil and gas is one of the few sectors which
exceed the investment targets as laid out
in the Governments five year plans.
For instance, in tenth ve year plan, the
actual expenditure was 112 percent of
planned outlay at INR 1,08,003 crores.
Similarly, during the midterm appraisal of
eleventh plan, government has to revised
its planned outlay to INR 2,69,461 crores
from INR 2,29,278 crores, a 17 percent
increase in planned expenditure. This is
mainly because of aggressive investment
plans by oil and gas companies in India.
The actual expenditure during the rst
two years and 4 months of eleventh plan
(up to August 2009) is INR 1,08,625.91
crores which is 47.38 per cent of the
plan approved Outlay. The Oil and gas
sector is poised for growth. Many public
and private companies have announced
their investment plans in the various
streams of the oil and gas sector such as
exploration and production, oil and gas
pipelines, petroleum reneries, liqueed
natural gas, city gas distribution and
petrochemicals. All these investment
plans would create a robust opportunity
for EPC companies. The total value of
the EPC
10
opportunity in India for Oil and
Gas sector can be pegged at USD 60
- 65 billion in the next ve years. On the
upstream side, an investment of about
USD 18 - 20 billion has been envisaged
in the next ve years for development
of offshore elds and laying pipelines.
A substantial part of this investment
is expected to be done by ONGC in
developing the east coast gas discoveries
and maintaining production from existing
discoveries. Moreover, the government is
Five year plans Planned Expenditure vs Actual Expenditure
0
50
100
150
200
250
VII Plan VIII Plan IX Plan X Plan XI Plan*
Planned Expenditure Actual Expenditure
Actual expenditure as
% of planned outlay
127
169
67
112
-
*XI plan actual expenditure is only up to August 2009
Source: Planning Commission
I
n
v
e
s
t
m
e
n
t

(
i
n

I
N
R

t
h
o
u
s
a
n
d

c
r
o
r
e
s
)
EPC Investment opportunity in Oil & Gas Sector
60-65 2
3-4
3
21-23
12
1
18-20
0
10
20
30
40
50
60
70
U
p
s
t
r
e
a
m
O
il
P
i
p
e
li
n
e
s
G
a
s
P
ip
e
l
in
e
s
R
e
f
i
n
e
r
ie
s
L
N
G

T
e
r
m
in
a
ls
C
G
D
N
e
t
w
o
r
k
P
e
t
r
o
c
h
e
m
ic
a
l
s
T
o
t
a
l
I
n
v
e
s
t
m
e
n
t

(
i
n

U
S
D

B
i
l
l
i
o
n
)
Source: KPMG Analysis
| 38 |
11
Including offshore engineering centers supporting global projects
12
Not an exhaustive list of projects, examples provided only to demonstrate instances of work executed in India
also planning to offer shale gas blocks
in second half of 2011, which will create
more opportunity over and above the
aforesaid investments. The midstream
segment would see a spurt in investments
given that the PNGRB is in the process
of awarding four key pipelines segments
more than 4,000 kms. Further there has
been plan to launch additional pipeline
such as Asansol-Howrah, Chennai-
Nellore and other pipeline segments
as part of national gas grid. This would
mean an EPC opportunity of about
USD 12 billion in natural gas pipelines.
Addi ti onal l y around USD 1 bi l l i on
investment opportunity exists in crude
oil and petroleum products pipelines.
Further, to meet the domestic gas supply
constraint, LNG regasication terminals
have been planned at Kochi, Mundra
and Ennore which would require the
capex investments of about USD 3 billion
by 2015. In the downstream segment,
refinery sector has seen number of
announcements by compani es for
expansion of existing plants and setting
up of Greenfield refineries. The new
reneries are expected to increase the
Indias renery capacity by 55 mtpa. Given
that reneries are highly capital intensive,
the EPC opportunity can be pegged
at about USD 21 - 23 billion. Besides
this, some companies have announced
firm additions in their petrochemical
production capacity which would mean
an EPC opportunity of USD 2 billion. In
addition, the Ministry of Chemicals and
Fertilisers has approved proposals of
about USD 35 billion in three regions
under its agship Petroleum, Chemicals
and Petrochemicals Investment Regions
(PCPIR) policy. These three PCPIRs are
Visakhapatnam and East Godavari
districts in Andhra Pradesh, Bharuch
i n Guj arat and East Mi dnapore i n
West Bengal. We have not included
investments in PCPIR in our overall
estimate. City Gas Distribution (CGD)
is another downstream segment which
is set to see a spurt in investment
opportunities, due to new domestic gas
discoveries and bidding by PNGRB.
The regulator has already completed
the bidding for 13 geographical areas
in rst two rounds and plans to have
offer further 16 cities in next two rounds.
Thus even if one were to assume a
conservative spread per city, the EPC
opportunity in CGD network is about
USD 3-4 billion in the next 5 years.
End-Use Industry
Specific Issues
The Hydrocarbons industry is unique in
terms of player proles as the very best
in the world have a presence in India.
Here is just a sample list of companies
operating in India, not just by means of
having offshore engineering centers, but
having won & executed projects in India.
Our discussions with these companies
indicate that they have at least 20
percent of their India center manpower
deployed on Indian projects.
Source: Company Websites and News Reports
Company India Ofces
11
Examples of India Projects
12

Foster
Wheeler
Chennai, Kolkata
and Gurgaon
IOCL Paradip Renery FEED package
Uhde India Mumbai, Pune PMC for Renery Units of BPCL, Mahul,
Jacobs
India
Ahmedabad,
Vadodara, Mumbai,
Delhi
PMC and EPCM for Manali Renery Resid
Upgradation
Technip Chennai EPC for Ethylene Storage System of
Chemplast Sanmar
Tecnimont
ICB
Mumbai, New Delhi EPC for Polypropylene plants at IOCL
Panipat
Linde Vadodara Hydrogen Plant at IOCL Barauni
Aker
Solutions
Mumbai Engineering, Procurement, Project Mana-
gement and construction/commissioning
assistance for Reliance Polypropylene plant
Examples of International Engineering Companies Presence in India
in Oil and Gas
| 39 |
It is a phenomenon very unlike the other
sectors discussed like Power Generation
or other infrastructure segments. One
of the differentiating factors is the
engineering and equipment intensity, put
together as the technological intensity of
the projects. This is an area where the
relative strengths of the international
companies are believed to be superior.
Moreover, the qualification criteria
are stringent and past experience in
a particular type of unit / package is
demanded. As a result, it has been
observed that international companies
have established their niches. Amongst
Indian companies, the key players
include Larsen and Toubro, Punj Lloyd
and recently Essar Projects, which has
received large size orders in the recent
IOCL renery project.
The industry is also unique in terms
of the prevalent contracting models,
with very little being given out as LSTK
contracts. The various reasons cited for
this phenomenon are as follows
Limited set of LSTK contractors
in the Oil and Gas sector, capable
or willing to execute large turnkey
contracts. While the EPC companies
believe that process plants are
too complex and the quality of
front end and basis engineering
which will provide the solid ground
for firm estimation is lacking, the
l
user industry feels that the EPC
companies are just not willing to
take large risks in this sector. While
L&T and Punj Lloyd are among the
few Indian companies capable of
taking up large LSTK packages,
the international companies do not
have Indian balance sheets of the
size wherein they can afford to take
such large risks. The international
parent companies hesitate taking
up large projects in India on account
of their internal risk assessment
pol i ci es. Addi ti onal l y, there i s
ambiguity related to various taxation
issues, which results in limited
number of bids being received in an
international competitive bid route.
One of the state-run rening and
marketing company highlighted the
lack of enough number of global
bids received, when they did break
their contracting pattern to attempt
awarding large LSTK packages.
KPMGs tax experts believe there
are ambiguities in Indian taxation
laws related to importing of capital
equipment for projects, and also in
taxation on work performed in India
for global companies, which force
these companies to either not bid,
or bid very conservatively.
The complexity of the process
industry makes it difcult to prepare
detailed and comprehensive xed-
cost bids. The preparation of the
l
FEED, so that it is good enough
to give it out for LSTK itself takes
about a year, followed by bidding
and contracting for another year.
Thi s process adds a good two
years to the 3 odd years of project
execution cycle. Moreover, Indian
user companies seem reluctant to
spend that kind of man-hours and
cost towards front end engineering.
Majority of the capital expenditure
is being done by the state run
oil marketing companies, ONGC
or Reliance. While the state-run
companies have their large in-
house teams developed over the
years to take on the integration
challenge, companies like Reliance
are well-equipped to assume the
project risks on their own, given their
entrepreneurial history and esteemed
project management capabilities. In
that light, the LSTK model or larger
packages would be possible only in
the event that the internal teams of
Petroleum companies are stretched
on account of a large number of
capital expenditure projects ( which it
appears, is not the case), or there are
mid-size rening and petrochemical
companies setting up plants in India.
The answer in terms of encouraging
mid-sized players to invest in India
seems to have been found in the
form of PCPIRs being set up in the
country which will encourage foreign
l
| 40 |
as well as domestic investment, with
the feedstock being supplied by the
anchor investor. Though not exactly
falling in this bracket, ONGCs
petrochemicals venture, OPaL, being
set up in the Dahej PCPIR is a case
in point. ONGC has limited in-house
expertise in petrochemicals, and
hence there is a clear difference
in the way it has gone about its
procurement. The EPC order for the
ethylene cracker has been placed on
a consortium of Linde and Samsung
Engineering India. This is one of the
largest EPC contracts awarded in
India in the Oil & Gas sector. Also, it
marks the entry of the famed Korean
EPC companies to India.
Contracting Models:
Medium Term Outlook
As far as the hydrocarbons and the
process industry is concerned, it will
likely continue to see the dominance
of the EPCM model of contracting.
However, to reduce the complexity
of procurement and integration, the
individual packages being procured for
a Greeneld renery or similar plant, are
likely to come down from the current 20-
25 to may be 10-15 packages and even
less going forward.
Indian EPC companies looking to enter the
Hydrocarbons sector, have to overcome
the challenge of qualication.
The routes adopted by them to build their
credentials have included
a) act i ng as sub- cont r act or s t o
international companies,
b) bidding in consortiums or
c) acquiring small companies which
have partial qualications.
However, as compared to EPC in other
industries or infrastructure segments, it
is a more gradual process to establish
oneself in the Oil & Gas sector in India.
| 41 |
13
Techpetro Asia Newsletter (April 5,2010)
14
SAM group Water - A Market for the future (2010)
15
ADB: www.adb.org/India/main.asp; World Bank: go.worldbank.org/E9RO7F96W0; JICA: www.jica.go.jp/india/english/activities/
16
Planning Commision of India
17
India Infrastructure at crossroads Thomas Reuters. September 24, 2010
Water
Demand Outlook
Wat er Resour ce Management
A Critical Global Challenge and
Burgeoning Opportunity
The Worldwide Plant market for water
treatment has been estimated at USD
380 Billion Dollars as of 2009
13
. Water
demand is increasing due to growing
levels of industrialization and the spurt
in global population. However regions
with high demand are not well connected
with regions of high supply. Given
the demand-suppl y mi smatch and
increasing emphasis on sustainability,
water management is a sector expected
to experience high growth.
Structure of the Water market
Nearly 50 percent of water use is
for industrial purposes in developed
countries as opposed to 80 percent for
agricultural use in developing nations.
Both public utilities and private players
operate in this space with private players
accounting for 44 percent of the serviced
water in Europe as opposed to only 12
percent in South East Asia
14
.
Key Characteristics Description India
Industry Structure Global move towards consolidation has led
to the formation of multinational corporations
like Veolia, Suez etc having presence in more
than a number of nations and latest reported
revenues of over 10 billion USD
Growing opportunity in the Indian market has led
to the growth of Indian rms in partnerships with
global majors, intending to participate in the planned
privatization of the water utilities market in India.
Technology Patented In-house technologies possessed
by most companies. No one technology
dominates
Procurement of technology through tie-ups with foreign
majors
End Use Consumers Industry consumes nearly 50 % of all water Agriculture consumes over 80 % of total water
Domestic opportunity Historical infrastructural activity surrounding
heavy industry development and emphasis
on sustainability provided the necessary
project management experience.
Very little penetration of the Domestic market.Large
opportunity going forward
Typical Contract
Mode
DBO/BOT (Design Build Operate,Build
Operate Transfer). Focus on both building
and operation of the facility
EPC (Engineering Procurement and Construction).
Also DBO/BOT basis contracts.
Comparison of Global Water EPC Market with India
Indian Scenario: A growing market
with a lot of opportunity
Due to the multiplicity of issues plaguing
the sector, the Central, State and Local
governments are investing signicant
amounts of money in the sector. Add-
itionally, funding to the water sector
by development banks is increasing
manifold. Investment in urban water
supply and sanitation has increased
during the first decade of the 21st
century, driven by increased central
government grants made available
under Jawaharlal Nehru National Urban
Renewal Mission (JNURM) and funding
from development agencies such as
ADB, World Bank and JICA
15
. The 11th
Five-year plan (20072012) foresees
investments of INR 127,025 crore (USD
28.6 billion) for urban water supply and
sanitation, including urban drainage
and solid waste management
16
. While
private sector interest in the sector
has increased, critical barriers such as
poorly written contracting documentation,
large timelines to project award and
sub-optimal risk sharing mechanisms
continue to hinder the growth of private
sector investment in the water sector
in India
17
.
| 42 |
Opportunity Drivers and Trends for EPC companies in Water Segment
Opportunity Area Drivers and Trends
Wastewater Treatment Stringent enforcement of sewage disposal norms
Shortage of Water for Industrial use
Opportunity in building sewage collection infrastructure and Treatment plants
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Water Treatment and
Transimission
Increasing Urbanization
Opportunity in the form of EPC / BOOT model including metering and collections
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Industrial Water
Infrastructure
Large capacity additions in Power and Steel
EPC is the preferred Contracting model
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Desalination Reducing cost of desalinated Water, couple with water shortage
Medium term adoption in the industrial sector
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Water Management Leakage reduction programs by Municipal bodies
Small projects, opportunity for engineering and equipment suppliers
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Agricultural Demand Irrigation projects and driving efciency of water usage to agricultural consumers. Limited
opportunity for EPC players
l
End-Use Industry Specific Issues
Structure of the I ndi an Pri vate
Sector
A snapshot of some companies operating
in the sector along with their area of
operations is mentioned below:
| 43 |
18
Industry Inputs
Contracting Models for Private Sector Participation in Water Projects
Contract Denition Duration Skills Sought Risk Transfer Payment
Turnkey Contract to private sector
to design and build the
system for a fixed fee;
funded by the publ i c
sector
Construction
period
Ef f i c i enc y i n
construction
Low Time & activity linked xed
fee
Design-Build-
Operate
Contract to private sector
to design and build the
system for a fixed fee,
and to operate the system
for a few years; funded by
the public sector
5 10 yrs Ef f i c i enc y i n
c o n s t r u c t i o n
wi t h operat i on
& mai ntenance
ef f i ci ency f or
some time
Medium T i m e & a c t i v i t y
l i n k e d f i x e d f e e
constructionPerformance-
based fee - operation
Design-Build-
Finance-
Operate
Private sector builds,
nances and operates a
facility and sells products/
services to users; could
be partly nanced by the
public sector as well
15 30 yrs F i n a n c i n g ,
c o n s t r u c t i o n
ef f i ci ency and
o p e r a t i o n s
efficiency for a
longer time
High Per f or manc e- bas ed
f ee oper at i on post
commissioning (revenues
from end-users + subsidy
from ULBs, if any)
Management
Contract
Private sector carries
out the operation and
maintenance of some
or all components of the
water system
5 15 yrs O p e r a t i o n
e f f i c i e n c y
T y p i c a l l y
includes a design
component
M e d i u m
High
Performance-based fee
operation
FBC (Fee-
Based Contract)
Private sector carries out
one or more specified
tasks while the public
authority remains primary
provider
1 3 yrs Skills as sought Low Fixed fee (per unit)
There is a need to standardize contracts
to a limited set of standard models and a
general set of services, in order to speed
up contracting processes and the speed
of award of contracts. In summary, we
expect the water sector to become a
major and attractive opportunity for EPC
companies as well Infrastructure players
in India, driven by:
Stricter enforcement of regulations
surrounding industrial waste
Publ i c sect or i nvest ment i n
urban renewal programs like the
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JNNURM
Increasing urbanization and lifestyle
requirements for water
Major Power Generation and Steel
Plant projects.
Water treatment can emerge as an
additional revenue source & a hedge
against declines in other Industrial
markets for domestic EPC rms.
Further, given the fact that a large number
of contracts in the water space will be
awarded by ULBs across the country,
given the nances of most ULBs in India,
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the future mode of collaboration will tilt
towards PPP model participation rather
than stand alone EPC contracts
18

Going forward, we expect several major
business groups to foray in to the Water
sector, and indeed, several of Indias
largest conglomerates have already
done so. Given the likely preference for
PPP / BOT, BOOT models to emerge in
this sector we are likely to see more EPC
companies becoming project owners
and developers as well in the water
segment.
| 44 |
19
Techpetro Asia Newsletter (April 5, 2010)
20
Techpetro Asia Newsletter (April 5, 2010)
20
Snapshot of Some Relevant International Trends
The global plant market was valued at
USD 1.6 trillion dollars as of 2009, of
which nearly USD 730 Billion dollars
worth of projects were open to foreign
player participation
19
.
Of this power, water treatment and oil
exploration and production (E&P) activity
form the largest portion of the market. A
chart representing the breakup between
various sectors in the construction
industry is given below.
Breakup of Global Plant Market
Going forward, the international bidders
eligible component of the global plant
market is expected to increase to 1.11
trillion dollars by 2015. Asia Pacic and
the Middle East in particular will be the
key growth drivers for this region and are
expected to contribute to about 58 % of
all orders generated globally.
| 45 |
21
http://cdiver.net/news/south-korean-rms-taking-work-in-the-middle-east/
Characteristics of the Global Construction Market
21
The global construction market is essentially split into three major segments
| 46 |
22
http://www.khl.com/magazines/international-construction/detail/item61017
The Growth of the Korean EPC Industry Some Observations
22
The Korean Constructi on i ndustry
picked up steam after the Korean war in
the 1950s, rst by rebuilding essential
domestic industries and real estate
destroyed during the war and then by
taking these skills and capabilities to
international projects. The Middle East
with its oil revenues represents Koreas
biggest foreign market for construction
activities though Korean companies have
diversied into other regions recently.
Middle Eastern contracts accounted
for 73 % of total international contracts
i n 2009. Korean compani es have
increasingly bid and won projects in
the Oil and Gas and Petrochemical
space in the Middle East, a result
of decades of project execution and
growing engineering and technological
prowess. Some key enablers for the
Korean construction industry have been
mentioned in the following table, along
with comparison with India.
Key Enablers for Korean Construction Companies and Comparison with Indian Industry
Key Enablers Korean Companies Indian Industry
Project
Management
Experience
Large range of projects executed nationally and
internationally
Only a few Indian companies have broad as well as deep
experience in the domestic market. Indian companies
have limited foreign penetration
Government
Support
Favourable Economic policies and indirect
support through the promotion of research
institutes and various infrastructure programs
Limited or no direct or indirect governmental support to
the industry
Domestic
Engineering
Firms
Korean Firms focused solely on engineering
exist which work in collaboration with the
construction majors
Only one (publicly owned) engineering major which is
expanding its portfolio to undertake construction projects.
Limited presence of foreign engineering rms in domestic
projects. However, a large offshore engineering services
sector being built by global majors.
Industry Bodies Industry bodies exist in a variety of spheres-
technical, economic and labour related providing
support and engaging with the government on
industry issues
Labour unions exist , however there are no dedicated
industry bodies for the EPC construction industry
Skilled
Manpower
Large pool of both labour and engineers
available due to academic support via various
related disciplines
Large pool of both labour and engineers available
Domestic
opportunity
Historical infrastructural activity surrounding
heavy industry development provided the
necessary project management experience.
However the opportunity in the domestic market
has slowly become saturated
Large opportunity going forward in the domestic
market
International
Leverage
A signicant portion of Koreas energy needs
are met by the Gulf Cooperation Council (GCC)
leading to Korea being an important source of
revenue to the GCC
Indian EPC and construction rms presently have limited
leverage to win contracts in foreign countries. This may
improve along with Indias growing economic importance
with its major trading partners
Domestic
Ancillary
Industry Support
Equipment often procured from overseas
domestic ancillary industry support has not
necessarily been an imperative for Korean
construction industry
The equipment industry is growing and maturing in India,
and can be expected to provide a differentiator in the long
run to Indian construction companies
| 47 |
24
Company Annual Reports , http://cdiver.net/news/south-korean-rms-taking-work-in-the-middle-east/
23
http://www.koreanewswire.co.kr/?job=news&no=345887,
http://www.businessweek.com/investor/content/oct2007/pi20071010_252795_page_2.htm
http://www.investkorea.org/InvestKoreaWar/work/journal/content/content_main.jsp?code=4580101
Support from Government and other bodies
23
The Korean Ministry of Land, Transport
and Maritime Affairs is the primary
government body dealing with Korean
overseas construction activity through
its arm the International Contractors
Association of Korea. It provides support
in the form of providing a forum for the
industry to interact with the government
and through various initiatives like
providing dedicated construction training
to Koran manpower, the opening of
educational courses through partnerships
with academic institutions like the Korean
Institute of Construction Technology etc.
Various research bodies like the Korean
Institute of Construction Technology
(KICT), Korean Institute of Construction
Safety Technology (KICST),Korean
Institute for International Economics
and Trade (KIET) etc exist to provide
research and other support to the
construction industry. Following the
enactment of the Engineering Services
Promotion Law, the Korean Engineering
and Consulting Association a non
prot group of engineering companies,
was set up which helped stimulate the
domestic engineering services industry.
In addition through the use of various
treati es and regi onal agreements,
the Korean government assi sts i n
promoting business for Korean firms
in other nations. Thus Korea posseses
a skilled set of manpower and has
domestic industries capable of providing
construction materials like steel, cement
at low cost to facilitate the rise of the
Korean construction industry in the
international arena.
Future Growth Plans of the Korean Construction Industry
24
The international growth of the Korean
construction industry has picked up
steam over the last decade with an
increasing number of orders especially
in the oil and gas space in the Middle
East. The graph below illustrates the
rise in the international order book
of the Korean construction industry
over the last 5 years. Most Korean
Construction Companies are diversied,
operating both in the civil and industrial
construction space. Large corporations
dominate and the Top 5 companies
accounted for over 60% of the total order
book as of 2009.
Source: Techpetro Asia Newsletter (April 5, 2010)
Korean companies overseas plant Contracts ($ Billion)
| 48 |
Advantages of low cost of construction
and the ability to take up risky xed price
contracts have won Korean companies
contracts in the plant space in the
last 5 years. Samsung Engineering is
pursuing a strategy of building up a
strong base in the Middle East and then
further expanding into Northern Africa.
Korean companies are increasingly
focusing on Sustainable Development
as one of the key goals for the future
and are also expanding their activities
into other segments like nuclear power,
water treatment etc in addition to their
presence in civil works. There is also
a greater focus on the development of
technological and engineering skills to
enable Korean companies to operate in
a wide range of business domains and
industry sectors. For example, Daewoo
has prepared a long term action plan
called GET which includes three strategic
concepts Globalization, Expansion of
Prot Pool and Transformation through
Innovation and other corporations have
similar blueprints for growth
25
.
Thus the Korean Construction Industry
aims to have a spectrum spanning
presence with operations in various
industry segments through the buildup
of technological ability and a credible
reputation.
EPC Industry in India: Action Agenda for Sustained Growth
What f ol l ows i s a summar y of
considerations by various stakeholders
for the growth and development of the
EPC industry in India.
Overall Industry Level
Actions
There are certain elements of an industry
action agenda which have been pointed
out by various industry participants as the
need of the hour for the EPC industry.
The major EPC industry players may
need to come together to help in
building a talent pool for the industry,
l
and contribute in related capability
development initiatives,
EPC industry participants in India
need to enhance the sensitivity
and focus on Environment, Health
and Safety standards, and close
the gap between Indian and global
practi ces i n thi s respect. Most
industry participants agree that the
overall standards on safety need to
be raised in India.
The Industry participants, either
jointly or individually need to develop
or invite independent agencies for
benchmarking of projects, collect
l
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data on each project executed, so
that more industry knowledge is
publicly available as case studies
and benchmarks for future planning
of projects and improving upon past
performance.
Need f or i mpr oved i ndust r y
collaboration and representation in
both Government and other for a on
issues related to the EPC industry.
While there are broader fora available
for the construction industry, the EPC
industry per se is under-networked
and not adequately represented
currently.
l
25
Source: Company Websites
| 49 |
Policy Agenda
In recognition of the critical role played
by the EPC industry and related service
providers in enabling the growth of the
Infrastructure and Industrial sectors of
the country, concerned policy makers
should take note of the policy and
regulatory imperatives for support and
strengthening of this industry in India. As
the Korean example indicates, there is an
important role to be played by an active
and supportive policy environment in the
success of the construction industry in an
economy. Some of the key directions for
action would include:
1. Addressing the weaknesses of the
present legal mechanisms in the
area of practical enforceability of
construction contracts and setting
up speedi er di spute resol uti on
mechani sms i n t he case of
infrastructure construction projects.
Thi s woul d gi ve confi dence to
more competent global players to
participate in this sector in India,
which in turn would make Indian
industry more competitive.
2. Standardization and simplication of
EPC and related contracts for some
of the core infrastructure segments
where Government entities are
the project owners or franchisors
for example, the Water sector. In
several such sectors there exists
today a number of different types of
contracts of varying complexity, and
perceived risk, which hinders broader
participation in such contracts,
as well as lengthens the contract
bidding and award timelines. Unclear
and poorly written contracts also
lead to greater levels of disputes
and litigation, commonly resulting in
project delays.
3. Facilitate and encourage PPP models
in vocational education for this sector,
supporting the setting up training
institutes and capacity building in
the skilled labour supply market
for engineering and construction
industry.
4. Cl ar i t y and si mpl i f i cat i on of
taxation policies for EPC service
provi ders, whi ch wi l l enhance
global participation, and reduce
transactional overheads and overall
cost of projects
Some Considerations for International
Entrants in the Indian Market
While it is well known that Indias
need for Infrastructure and Industrial
capacity build out will represent a
very large market for the foreseeable
future, International construction and
engineering / EPC companies need to
be aware of additional considerations as
they evaluate their plans for the Indian
market:
1. While large in aggregate, the Indian
market is varied and complex. It is
highly segmented in terms of a wide
range of business and contracting
models, representing opportunities
and risks of very different types.
2. A deep understanding of the local
market and regulatory environment is
critical to long term success. To this
end, international companies would
nd it important to take a medium
to long term and patient approach
to building their business in India.
Judicious selection of partners for
specic segments / markets would
also help to build local market
understanding quickly
3. The at t ract i veness of vari ous
market segments within each of
the major end-use sectors may
be very different for International
companies vis--vis Indian players.
International companies would nd
it benecial to assess in detail, the
specic types of projects, packages
and customer types where their
deeper technological and managerial
capabilities can be a source of
competitive advantage, as well as
provide sufcient returns to offset
their higher cost structures vis--vis
Indian counterparts.
Some key considerations for Indian EPC
companies:
1. Indian EPC companies planning to
diversify into new segments / end-
use industries, would need to select
these industries with care depending
on core capabilities, risk appetite,
| 50 |
and existing competition and develop
a differentiated value proposition to
compete. Potential routes of such
entry have been described in an
earlier section.
2. Mid-sized companies which have
growth quickly in the recent past,
may need to allocate management
attenti on and budgets towards
building core capabilities in the area
of Project Management and Risk
Management, if they have not done
so already.
3. To achieve a high degree of scalability
of their business in a fast growth
scenario, some of the following
initiatives should help the Indian EPC
companies:
l Developing an empowered pool
of Project Managers, by putting in
places systems, processes, and
training and appropriate leadership
frameworks.
l Devel opi ng a r obust Ri sk
Management framework, embedded
i nto the tenderi ng and proj ect
execution processes. Continuously
and consciously improve the ability to
measure, manage and exploit risks
over a period of time. An adequate
Knowledge management system is
a critical enabler for enhancing this
capability.
l Revisit the organization structure
as the number and complexity of
projects under execution go up the
trade offs between centralized vs
decentralized reporting of support
functions like procurement and
engineering can change with scale
and diversity of project types.
Finally, build control, efficiency and
st andardi zat i on i nt o key proj ect
management processes and technology
platforms, which will allow efcient scaling
up of the business while managing risks
and gaining from past experience.
| 51 |
Acknowledgements
We would sincerely like to acknowledge and thank the following industry leaders for providing their valuable views for this report
(in alphabetical order)
K Venkataramanan, President, E&C Division, Larsen and Toubro
Leja Hattiangadi, Jacobs, Director, Business Development
Pothen Paul, India Country Manager, Aker Solutions
P D Samudra, Executive Director, Business Development, Uhde India
P K Chandra, Chief Operating Ofcer, McNally Bharat Engineering Company Limited
P K Johari, CEO, ONGC Petro additions Limited
R Jaishankar, Advisor, SNC-Lavalin Engineering India
Rajiv Mittal, CEO, VA Tech Wabag
Russel Waugh, Managing Director, Leighton Contractors India
SS Gangawati, President Strategic Planning, Walchandnagar Industries Ltd
Swarup Mukherjee, President, Projects, Walchandnagar Industries Ltd
Apart from the above, we sincerely thank the members of CHEMTECH Advisory Board for their initial direction, our clients in
the Infrastructure and Industrial Markets sectors who provided validation on specic issues in the report.
This report also would not have been possible without the commitment and contribution of certain individuals within KPMG.
The initiative for this report was led by Vishal Mehta, under the guidance of Biswanath Bhattacharya and was supported by
Abhijeet Deshmukh.
Finally, we thank CHEMTECH FOUNDATION team for continual support in facilitating and participating in industry
interviews.
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KPMG Contacts
Arvind Mahajan
Executive Director and Head
Business Performance Services
e-Mail: [email protected]
Tel: +91 22 30901740
Hemal Zobalia
Executive Director
Tax
Tel: +91 22 30902706
Biswanath Bhattacharya
Director
Tel: +91 22 30902521
Vishal Mehta
Manager
Tel: +91 22 39896000
| 52 |
About KPMG in India
KPMG is a global network of professional rms providing Audit, Tax and Advisory services. We operate in 146 countries and have 140,000
people working in member rms around the world. The independent member rms of the KPMG network are afliated with KPMG International
Cooperative (KPMG International), a Swiss entity. Each KPMG rm is a legally distinct and separate entity and describes itself as such.
KPMG in India, the audit, tax and advisory rm, is the Indian member rm of KPMG International Cooperative (KPMG International.) was
established in September 1993. As members of a cohesive business unit they respond to a client service environment by leveraging the
resources of a global network of rms, providing detailed knowledge of local laws, regulations, markets and competition. We provide services
to over 2,000 international and national clients, in India.
KPMG has ofces in India in Mumbai, Delhi, Bangalore, Chennai, Hyderabad, Kolkata, Pune and Kochi. The rms in India have access to
more than 2000 Indian and expatriate professionals, many of whom are internationally trained. We strive to provide rapid, performance-based,
industry-focused and technology-enabled services, which reect a shared knowledge of global and local industries and our experience of the
Indian business environment.
The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we
endeavour to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will
continue to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the
particular situation.
2011 KPMG, an Indian Partnership and a member rm of the KPMG network of independent member rms afliated with KPMG International Cooperative
(KPMG International), a Swiss entity. All rights reserved.KPMG and the KPMG logo are registered trademarks of KPMG International Cooperative (KPMG
International), a Swiss entity
About CHEMTECH
THE CHEMTECH FOUNDATION has connected the Chemical
Process Industry in India with a constant focus on innovations and
technology. What started as a simple idea of a Trade Fair over 35
years continues to revolutionize the chemical industry today.
The Chemtech Group has a presence across all the 6 major industry
areas, connecting the entire value chain of the Chemical Process
industry.
Its specialised media offerings of Events and Information Services
serve as platforms for the exchange of ideas and technology.
Chemicals & Process Industries
For equipment, services or developing processes for the Chemical
and Process industries.
Event: Chemtech World Expo | Publications: Chemical
Engineering World | Chemical Products Finder
Pharma & Biotech
For avenues in manufacturing, packaging and formulation services
to Pharma and Biotech industry
Events: Pharma Bio World Expo | Publications: Pharma Bio
World
Water Management
For the entire value chain of water management - industrial, residential
or commercial.
Event: WaterEx
Shipping, Marine and Ports
For those part of the Supply chain logistics and storage
Events: Shipping, Marine & Port Expo | Publications: Shipping
Marine & Ports World
Oil and Gas
For the entire Upstream value chain related to Oil & Gas exploration,
production and transportation
Events: Oceantex | Publications: Offshore World
Power and Energy
For opportunities in the renewable and non-hydrocarbon energy
sector
Events: Enertech
Industry Automation & Control
For the process chain covering Industrial and Process Automation,
Instrumentation and Industrial Electronics
Events: Industry Automation & Control
| 52 |
AN ISO 9001:2008 CERTIFIED COMPANY
CHEMTECH SECRETARIAT
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Tel: +91-22-4037 3737, 2287 4758/59, Fax: +91-22-2287 0502
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