Proper planning essential to port development funding

PORT development is viewed worldwide as a necessary component of economic expansion both in developed and still-emerging jurisdictions. Consequently, drawing boards from South America to Asia are laden with plans for port privatisation, development and modernisation. In view of the substantial funding that will be needed for such projects and the new opportunities they will necessarily create, port development should not be ignored by traditional sectors of the maritime community.

While the industry's spotlight is often on major projects in the developed world, enormous opportunities exist in other regions. One model for container terminal development that has been pursued successfully in emerging jurisdictions is the "Build-Operate-Transfer" or "BOT", which is based on the assumption that feasibility studies have indicated the potential for adequate teu throughput.

In the BOT here under consideration, the government becomes an equity holder in a local company together with suitable partners from the private sector. That company is granted a concession by the government to operate the port facilities for a set period of time (often twenty years or longer) in exchange for certain commitments, including a royalty payment (sometimes calculated as a per cent of profit) and substantial investment to create or upgrade the container terminal and related facilities.

Potential parties

In addition to the government, it is important that experienced and well-regarded industry partners be brought on board. They most likely fall into one of two categories - successful, international port operators, and port users, for example, container shipping lines. In addition, it is often advantageous to include as equity holders investors from the local business community.

Each party brings to the project different attributes, all of which are important. The government must grant the concession to the project company under terms that make its success likely, while at the same time protecting important national policy considerations. The level of government support will also impact the ease with which financing for the project is achieved.
The industry player brings market savvy, reputation, and presumably a track record of success in similar projects, and will instill confidence in lenders. Local investors bring equity and can help with local issues. Their presence might help convince lenders that the government will support the project to the fullest extent.

Structuring a bankable project

It is important that all obstacles to the creation of a local company in which there is significant foreign ownership be eliminated. Equity and capital requirements should be set so as to amount to significant investment on the part of each participant, but with due regard to the fact that the bulk of the project will be financed.

Other issues include whether to publicly list the company on the local exchange; the extent, if any, of restrictions on share transfer; and disposition of the private sector party's shares under conditions which have the effect of terminating the partnership.

The government's role

The government is expected to grant a concession to the project company. It may also be required, on its own, to undertake certain infrastructure development, such as dredging or construction of seawalls. It is likely that it will also be asked to provide consents, licences and other requirements that the project company may need. It will be expected to give to the project company a land lease for the property on which the facility is located and to ensure access to certain utilities.

Concession agreement

Let us assume that the private sector investor is a port user, for example, an operator of container vessels and, perhaps, of other container terminals. There are several possible features of the concession agreement that are worth noting. First, the government may want the user to manage the facility for the project company. A form of management agreement should be appended to the concession agreement. Next, the user may be asked to commit to using the facility for its own vessels and containers, and for those of any consortia in which it is a member.

With respect to payment by the project company for the rights to the concession, a certain return on capital can be considered. Any profits earned by the project company above that amount might be split with the government as a form of royalty.

There are other ways to structure payment for the concession, such as an agreed annual lump sum. However, permitting the project company to first recoup its expenses and then obtain a certain amount of return before it pays a royalty may work best, particularly when the project requires a large early investment. Often, the government will want an indigenisation clause that requires the training and hiring of local residents for key management positions at the port. This is a fair request that can be implemented in a number of ways.

Termination issues are typically thorny. It is possible for the government to insist upon certain throughput targets by specified dates in order for the concession to remain valid. This approach helps reduce the fear that a white elephant is being constructed. If the user has made a commitment to utilise the facility for its own containers, this might not seem to be an onerous requirement, assuming the targets are reasonable. But it raises some difficult issues on the financing side.

Termination for convenience is a right upon which most governments insist, but it unnerves investors and lenders. Typically, the right requires that the government commit to satisfying all project company loan obligations, purchasing the private party's shares and paying a certain agreed return.

The level of government support will impact the ease with which financing for the project is achieved.

Finally, return of the facility, including equipment, at the end of the concession period, is an important issue. Payment from the government for unamortised equipment, options to extend and maintenance issues in the later years need to be addressed.

Commitments towards use of the facility

Since liner operators continually seek the best available deal for landside services, which is not surprising in view of the razor-thin margins which exist in that business, a government may wish to be comfortable that the partner it has chosen is committed to the port.

A utilisation commitment may address this concern. It can be expressed in any number of ways, but the basic idea is the same. Specifically, for containers moving in a defined region, the user must put them through the facility which is the subject of the concession. Failure to do so might result in loss of its rights to participate further as a shareholder in the project company or other penalties.

Management agreement

If the user, as opposed to the project company itself, is to manage the facility, certain elements are important in the management agreement.

First, the government is likely to seek an incentive fee arrangement so that, the more throughput the port enjoys, the higher the compensation to the manager. There is a natural tension between the user as manager, and the user as liner operator. In a competitive market, the user may want to restrict its competitors' access to a new, well-positioned facility. This does not serve the interests of the project company or the government.

It is important that provisions are established to ensure an open and competitive environment so that all liner services have access to the facility. It is also crucial that tariff-setting be addressed at an early stage. It would be a mistake to permit the user's boxes to enjoy a material cost advantage. However, setting tariffs that reflect volume discounts might be one way in which all parties' interests are served. Creation of a tariff committee on which the government participates is a helpful step towards maximising the full potential of the facility.

Land lease

It is helpful from a financing point of view to have a lease. In many jurisdictions they can be filed at a local registry, and mortgages can be placed on the lease. Lenders often feel comfortable with such procedures since they may provide some added security.

Permits and licences

Environmental, labour and various regulatory issues often impact the project company's activities. Investors will want the government to commit to clearing away all such regulatory hurdles, and negotiation often ensues on these rather mundane points. They are, however, important, especially from a financing point of view. The more "local issues" that can be removed or streamlined, the happier lenders will be.

Any number of variations can be utilised to effectively construct and finance new port facilities. But proper planning will be necessary to attract required funding.