M2 overhauling

The 367 Km motorway from Lahore to Islamabad is going through an overhauling exercise these days. The project is run by a privately incorporated company; and the return of investors is pegged with toll collection and service areas rental charges. Its a classic case of public private partnership and setting a benchmark for future infrastructure projects in PPP mode.

Fiscal resources are scarce and the country needs to jump to an annual spending of 8-10 percent of GDP on infrastructure from existing 2-4 percent in next 5-7 years to bridge in the huge infrastructure gap. The optimal way is to incentivize private sector ownership through core equity investment in commercially viable infrastructure projects.

The government's rule is to oversee projects to ensure public utility and regulate pricing, and provide credit guarantees mechanism, if needed, to partially ensure projected cash flows. The idea is to share the risk of private investors and entice banks to lend in long gestation projects.

The M2 repair and maintenance project is run by Motorway Operation and Rehabilitation Engineering (MORE) company which are privately incorporated but a subsidiary of FWO. Hence, it is effectively not a truly private company; but is paving way for others to invest in projects run by similar model.

The M2 project cost is roughly around Rs47 billion, which was supposed to be completed in two years initiated in 2015, and its likely to complete in 18 months by July 2016. Out of Rs45-47 billion cost, Rs10 billion was paid to NHA to cover the opportunity loss to government entity and to ensure MORE's commitment to a twenty year long project. The construction cost is envisaged around Rs29 billion while the debt servicing cost of Rs27 billion financing by consortium of local banks is close to Rs5 billion per annum for ten years of financing period while around Rs3 billion is administration and other costs.

The returns of MORE are in the form of toll charges and rents from service areas. They are entitled to all the income right from day one of the project; and MORE is entitled to the entire toll and other income till 10 years. From the 11th year onwards, it will start sharing 42 percent of revenues with NHA. MORE will give another Rs10 billion guarantee at the tail end of 20 year project.

The returns are lucrative for the private partner and public sector will enable to provide better service without incurring any cost from its own pocket. Its a win win situation. The numbers make sense. The initial assumption was that the Rs12-14 million would be collected in toll every day; and actual numbers are slightly north of it. It is safely assumed that toll collection to increase by 10 percent every year.

This way the collection would be around Rs4 billion for first year with a steady increase every year. Even at constant Rs4 billion per year, MORE's bottom-line is well in green at the end of the contract period. That is not the end of story; MORE is entitled to return of any service it initiates during the tenure of the project. And the innovation of private sector is already visible.

For instance, HASCOL (providing fuel services across all service stations at M2) is offering a discount of one rupee per liter on fuel; and has initiated paid washroom services for travelers. There are new eateries and cafes opening up at various service stations. One can see new trees and green patched all over M2 to sooth eyes of passengers; overall experience of travelers is changed for better.

A natural progression for MORE could be to come up with a theme park either near Lahore or Islamabad for inhabitants starved for recreation; and that can be accompanied with an outlet mall where factory outlets can be setup for number of home-grown brands. In a nutshell much can be done on to add colours in infrastructure and other public utilities projects by engaging private sector.

The PPP mood is the way to go forward for not only commercially viable projects; but also for economically viable projects which are not financially feasible. Here the need is to have viability gap support funding, credit enhancement schemes and an institutional framework to plug in funding for over ten years financing projects.