Completion Report PCR: SRI 31910 Investment 7153; Loan 1689-SRI September 2005

Equity Investment and Loan to the Colombo Port Development Project in the Democratic Socialist Republic of Sri Lanka

In accordance with ADB’s public communications policy (PCP, 2005), this completion report excludes information referred to in paragraph 126 of the PCP.

CURRENCY EQUIVALENTS

At Appraisal At Project Completion SLRe1.00 $0.01453 $0.009868

$1.00 SLRe68.8 SLRe101.34

ABBREVIATIONS ADB – Asian Development Bank BOT – build-operate-transfer CDC – Commonwealth Development Corporation EIRR – economic internal rate of return FIRR – financial internal rate of return IFC – International Finance Corporation JCT – Jaya Container Terminal JKH – John Keells Holdings Limited LIBOR – London interbank offered rate OCR – ordinary capital resources Port – Colombo Port PSIDC – Private Sector Infrastructure Development Company Limited QEQ – Queen Elizabeth Quay ROE – return on equity SAGT – South Asia Gateway Terminals (Private) Limited SLPA – Sri Lanka Ports Authority TEU – twenty-foot equivalent unit WACC – weighted average cost of capital

NOTES

(i) The fiscal year (FY) of South Asia Gateway Terminals (Private) Limited ends on 31 March.

(ii) In this report, “$” refers to US dollars.

This report was prepared by Christine Genalin C. Uy, Mission Leader and Christine Infantado

CONTENTS

I. INTRODUCTION 1

II. SUMMARY 2

A. Project Description 2 B. Rationale of the Project 2 C. What Would Have Happened Without This Project 3 D. Project Completion Review and Field Mission 3

III. PROJECT EVALUATION 4 A. Development Outcome 4

B. Investment Outcome 6 C. ADB's Effectiveness 6 D. Reasons for Significant Variations from Board Report Assumptions 7 E. Main Project Issues and Lessons Learned 8 IV. CONCLUSION 8

APPENDIXES 1. Project Description 9 2. Basic Data 11 3. Summary of Evaluation Standards 14 4. Private Sector Development Impact Checklist 20

I. INTRODUCTION 1. This report is on the Colombo Port Development Project (the Project) in the Democratic Socialist Republic of Sri Lanka. The Project was reviewed in May 2005, after South Asia Gateway Terminals (Private) Limited (SAGT) had been fully operating for almost 2 years, with a designed capacity of 1.1 million twenty-foot equivalent units (TEUs). A project description and basic data for the Project are presented in Appendixes 1 and 2. Information used to evaluate the Project was taken from legal and board documents, audited financial statements, a review of related operations, and business reports of SAGT. The information was verified in the field and the scope of the review was expanded during a mission on 18–20 May 2005. 2. The Project was evaluated according to three main categories, namely: (i) development outcome, (ii) investment outcome, and (iii) ADB’s effectiveness. The main categories and subcategories were rated against the guidelines presented in Appendix 3. The ratings for the Project are summarized in Table 1 below and the basis of the ratings is discussed in detail in Section III. 3. Overall, this Project is rated Excellent, as shown in Table 1 below.

Table 1: Evaluation of SAGT

Item

Excellent

SatisfactoryPartly

Unsatisfactory

Unsatisfactory

A. Development Outcome X (i) Business Performance X (ii) Contribution to Economic

Development X

(iii) Private Sector Development X iv) Compliance with Environmental

and Social Policies X

B. Investment Outcome X (i) Return on Equity X (ii) Debt Service X

C. ADB’s Effectiveness X (i) Screening, Appraisal, and

Structuring of the Project

X

(ii) Supervision and Administration X (iii) Addition of Value, Demonstration

Impact, and Catalytic Effect X

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II. SUMMARY

A. Project Description

4. The Project is Sri Lanka’s first build-operate-transfer (BOT) arrangement with the private sector in the transport industry. The Government signed a 30-year concession agreement in September 1999 with SAGT for the development of the country’s first modern private container terminal. The concession agreement called for the expansion of the Queen Elizabeth Quay (QEQ) facilities in Colombo Port1 (the Port) from a designed capacity of 285,000 TEUs per year to its present designed capacity of 1.1 million TEUs. To develop QEQ, SAGT (i) expanded the main terminal area from 7.5 hectares (ha) to about 20 ha of container yard with a total linear berth of 940 meters; and (ii) strengthened the ground handling facilities. The Project was built in three phases to ensure uninterrupted terminal operations at QEQ and was fully operational by August 2003. 5. ADB provided financial assistance to the Project in the amount of $28.6 million, consisting of an equity investment of $3.6 million and a loan of $25.0 million. Co-financiers of the Project were the International Finance Corporation (IFC), the Commonwealth Development Corporation (CDC), and the Private Sector Infrastructure Development Company Limited (PSIDC). The sponsors of the Project are (i) P&O Nedlloyd Container Line Limited (a joint venture of the Peninsular and Oriental Steam Navigation Company [P&O, a major international logistics and transport company] and Royal Nedlloyd N.V.); (ii) P&O Australia Limited (P&O Australia), a terminal operator of international repute; and (iii) John Keells Holdings Limited (JKH), one of the largest conglomerates in Sri Lanka. Other equity investors in the Project are the Sri Lanka Ports Authority (SLPA) and the Evergreen Group. P&O Ports, a world leader in cargo handling services and port management, provides technical and management support. See Appendix 1 for project details. B. Rationale of the Project 6. As presented at ADB approval, the Project was carried out to

(i) assist the Government in expanding the port infrastructure and improving port efficiency in Sri Lanka, to make Colombo Port a shipping centre and hub port in South Asia. Private sector participation would bring into the country the needed technology and service improvements and raise port operation standards to international levels;

(ii) demonstrate to the international community, at a time when interest from

commercial lenders were difficult to source due to the fragile political environment and the recent Asian financial crisis, that private infrastructure projects in Sri Lanka can have positive results. This will encourage more private sector participation in infrastructure development in the country; and

1 At the time of board approval, the Colombo Port consisted of two container terminals, namely: (i) Jaya Container

Terminal (JCT), and (ii) Queen Elizabeth Quay (QEQ), a passenger terminal and several cargo quays. The Unity Container Terminal (Unity) was built under the North Pier Development Project and opened for cargo handling in June 2004.

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(iii) generate foreign exchange revenues for the country and improve the trade

balance, since the Project would primarily serve the container traffic to and from the Indian subcontinent. The Government would also benefit directly through revenues earned from lease payments, royalties, and dividends, all in foreign exchange.

C. What Would Have Happened Without This Project 7. Without the Project, Sri Lanka would have lost its competitive advantage in the port industry to other ports such as Salalah (Oman) and Aden (Yemen) because of (i) inefficiencies in its operation, and (ii) its limited facilities. In an environment of rapidly increasing container traffic, shipping lines will use ports where they can be assured of continuous and reliable service. SAGT introduced new technology and service level standards comparable to those in international terminal operations. The marked improvement in operations at SAGT led to a similar revamp at the SLPA-run Jaya Container Terminal (JCT) using SAGT standards as a guide. Productivity at the Port (JCT and SAGT combined) increased substantially, with gross gantry moves (the number of containers handled) per hour rising from 12 in 1998 to 30 in 2003. Berth efficiency, which is measured as the average waiting time for container vessels, improved from 6.9 hours in 1997 to 0.9 hours in 2003. As a result, total throughput, which includes transshipment volume at the Port, increased from 1.7 million TEUs in 1998 to 2.2 million TEUs in 2004, or by about 30%. 8. The Project paved the way for public-private partnership in the development of the south harbor of the Port.2 This forthcoming development was considered in 1995 but failed to attract firm interest from the private sector at that time because of the high investment cost of the breakwater and the uncertainty of demand. The success of the Project has proved the effectiveness of private sector involvement in terminal operations. The success of SAGT has encouraged some private sector parties to consider developing and operating container terminals at the south harbor under lease from SLPA. D. Project Completion Review and Field Mission 9. ADB initiated the project completion review by sending out its standard questionnaire to SAGT in the first week of May 2005. Its first evaluation of the Project was based on information gathered from legal and board documents, progress reports, financial statements, and annual reviews. Then in mid-May ADB fielded a 3-day mission to broaden the review and gather relevant information from stakeholders. With the help of the Sri Lanka Resident Mission, the ADB mission members met with several key management staff of SAGT, the chairman of the SLPA, the chief executive officer of PSIDC, the president of the Transport Group of John Keells, and the project director of the Colombo Port South Harbor Development Project.

2 ADB approved a technical assistance (TA) package in September 1999 for a feasibility study of the south harbor

expansion at the Port. A TA loan (Loan 1841) was approved in September 2001 to (i) address regulatory, institutional, and other issues in the port sector; and (ii) prepare for the implementation of the south harbor development project. ADB is now considering a follow-on loan for the Colombo Port Harbor Development Project.

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III. PROJECT EVALUATION

A. Development Outcome 10. In view of the findings stated below, the Project’s development outcome is rated Excellent.

1. Business Performance

11. The business performance is rated Excellent. SAGT has had an impressive operating performance, generating strong financial results since it started in 1999. Throughput has grown steadily, from 200,186 TEUs in 2000 to 899,720 TEUs in 2004. SAGT expects to operate at its designed capacity of 1.1 million TEUs by the end of 2005 and to reach its full capacity of 1.3 million TEUs by 2009. Service has substantially improved, to a level that has become the benchmark for the local industry and is comparable to global industry standards. 12. The medium-term prospects of SAGT remain good as SAGT and two terminals owned and managed by SLPA, Jaya Container Terminal (JCT) and Unity Container Terminal (Unity), cooperate to improve port operations and increase container traffic to the Port. Over the long term, however, the Port in general faces challenges that include (i) increased competition from new ports; (ii) the advent of new-generation vessels; and (iii) full utilization of port capacity, which will eventually result in delays and inefficiency. Moreover, the Government has yet to approve and implement a port sector framework, an independent regulator, and labor reforms. A port sector framework and an independent regulator are needed to ensure fair competition in the sector and attract more private sector participants, while labor reforms are needed to enable the business to operate efficiently without fear of unnecessary strikes and work stoppages. 13. The operating cash flow of the Project is robust. The Project has generated enough cash since fiscal year ending 31 March 2004 to cover capital expenditures. This trend is generally expected to continue throughout the remaining life of the concession.

2. Contribution to Economic Development 14. The Project’s contribution to economic development is rated Excellent. 15. The service improvements introduced by SAGT led to an increase in transshipment volume from 1.18 million TEUs in 2000 to 1.53 million TEUs by the end of 2004, for an average annual growth of 6%, boosting the foreign currency receipts of Sri Lanka. The Government not only collects fees, royalties, and dividends from SAGT but also benefits from fees (pilotage, tug service fees, dockage, etc.) charged directly to vessels using the Port. 16. Operating improvements at the Port allow the prompt delivery of exports and imported raw materials, which is critical for continued competitiveness in global trade. As a result, the country’s own container traffic rose from 552,000 TEUs in 2000 to about 690,000 TEUs in 2004, suggesting higher trade volumes. 17. The increase in the number of vessels calling at the Port has stimulated the economy. The procurement requirements of SAGT to maintain its facilities as well as its outsourcing programs (i.e. drivers, janitorial service, security personnel) has also resulted in improved economic activity and employment in the country. Finally, jobs have also been created as a result of the spending habits of SAGT employees.

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3. Contribution to Private Sector Development 18. The contribution to private sector development is rated Excellent overall and on most individual indicators in the Private Sector Development Impact Checklist found in Appendix 5. 19. SAGT raised service standards at the Port to a level that has become the benchmark for port operations in the country. Overall efficiency at the container terminal has increased significantly as a result. 20. SAGT not only introduced service standards to the sector but also professional work ethics and corporate governance. Furthermore, its human resource policies and programs are geared towards improving worker compensation and strengthening worker relations. SAGT effectively created roughly 500 jobs since only 15 from the QEQ facilities opted to join SAGT in accordance with the signed concession agreement. It hired people from various provinces of the country and granted benefits and compensation beyond those required by law. 21. SAGT trains its management and staff to improve their knowledge and skills and equip them for higher positions in the organization. There was also considerable transfer of technology in the efficient management of terminal operations from P&O Ports to SAGT. Except for two senior positions, SAGT is now staffed by Sri Lankan nationals, and it is expected to be managed solely by Sri Lankan nationals within the medium term. While turnover at SAGT is not very high, a number of skilled employees have found job opportunities abroad. 22. The positive experience of SAGT demonstrates the importance of private sector role in infrastructure development, which can be replicated in other sectors. The current interest among commercial lenders in providing financing to SAGT suggests that the Project was able to demonstrate that the private sector can undertake infrastructure projects in Sri Lanka with positive results. Some private sector investors have also expressed interest in other infrastructure projects in the country, including the expansion of future terminals, subject to an enabling environment.

4. Compliance with Environmental and Social Policies

23. The Project has been classified as environmental category B. It has not had any significant impact on the environment; nor did it involve any resettlement, since it was merely an expansion within an existing port. The initial environmental evaluation (IEE) report on the Project mentioned the possibility that the improper disposal of spoil, from the deepening of the harbor basin, into the water could have an environmental impact during construction. But no improper disposal of dredged materials during construction was later reported, since these were disposed of as planned, in the location approved by local authorities. The main adverse impact of the Project during operation, according to the IEE report, would be the risk of collision between large vessels in extreme weather conditions. This impact is being mitigated through pilot training or berthing delays, which are both the responsibility of SLPA. Finally, SAGT has implemented safety measures to minimize the identified risk of oil spills from its terminals. In general, SAGT complies with the applicable environmental policies and guidelines of ADB and IFC. Environmental monitoring reports are disclosed in its board documents and submitted each year to ADB. 24. To avoid any retrenchment of staff right after the handover of the QEQ facilities to SAGT, the concession agreement required SAGT to offer employment to the 500 employees of QEQ. If the employees did not wish to join SAGT, SLPA was committed to employ them. SAGT offered employment to all the QEQ employees, but only 15 chose to join SAGT at that time.

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SAGT has continued to employ about the same number of employees since it started operations. 25. In view of the above, the Project’s compliance with environmental and social policies is rated Satisfactory. B. Investment Outcome 26. The investment outcome is rated Excellent. 27. The financial performance of SAGT exceeded expectations, generating strong returns for the shareholders including ADB. The outcome of ADB’s equity investment merits a rating of Excellent. 28. The interest charged on ADB’s loan is market-based and reflects the country and project risk at the time of financial closing. Loan repayments, which began in March 2003, have been on schedule with a high probability of satisfactory debt collection until final maturity. Some commercial lenders have expressed interest in refinancing the loans of the Project, including ADB’s loan, at a lower margin. ADB’s loan is therefore likely to be prepaid in whole or in part before maturity. Debt service is rated Satisfactory. C. ADB’s Effectiveness 29. ADB’s effectiveness in the Project is rated Satisfactory.

1. Screening, Appraisal, and Structuring 30. ADB was in discussion with the Project sponsors to provide financial assistance to the Project since 1995 at about the same time that IFC and CDC were having separate discussions. IFC was appointed as financial adviser in November 1997, primarily to coordinate the financial assistance package of ADB, CDC, and IFC, including the due diligence. The involvement of all three financial institutions was critical to mobilize financing since funding from commercial lenders was not available at that time due to concerns over political stability in the country and the general market sentiment for emerging market risks. 31. Besides providing financing, ADB took part in negotiating the concession and implementation agreements to ensure that they were structured in a way that served the interest of the country and also addressed the concerns of the private sector. 32. ADB was proactive throughout this process as a key financier of the Project. Its performance in screening, appraisal, and structuring is therefore rated Satisfactory.

2. Supervision and Administration 33. A rating of Satisfactory is given for supervision and administration. ADB had only two annual review missions (in December 2002 and December 2003) after financial closure in August 1999. Staff constraints prevented it from fielding more frequent review missions for this high-profile project. But ADB was sufficiently represented at board meetings where the strategic directions and progress of the Project were discussed. 34. Disbursements and requests for extension of the commitment period followed ADB procedures and agreements. Quarterly reports were prepared regularly; however, they did not

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indicate any in-depth discussions of deviations from budget or covenants, or analysis of regulatory and other challenges facing the Project.3

3. Addition of Value, Demonstration Impact, and Catalytic Effect

35. A rating of Satisfactory is given for addition of value, demonstration impact, and catalytic effect. Besides financing, ADB also gave advice and comments on project documents to ensure a bankable transaction that could be replicated in future port projects in Sri Lanka led by the private sector. Because of the success of SAGT, the Government is planning to develop more container terminals in the south harbor at the Port with the help of the private sector. ADB’s assistance also catalyzed financing for the Project, which might not have proceeded without ADB, CDC, and IFC. D. Reasons for Significant Variations from Board Report Assumptions 36. There were no significant variations from the assumptions in the board report. 37. Delay in Project Completion. The Project was expected to be completed by October 2002 but was completed only in August 2003 mainly because of delay in (i) the handover of QEQ (by 2 months), (ii) civil works, and (iii) the delivery of equipment. However, the delay has neither significantly impaired the operations of SAGT nor increased the cost of completing the Project. 38. Actual Throughput. The actual throughput is below the projected throughput indicated in the board document by an average of 50% a year, mostly because of the delay in project completion. Allowing for the delay, the actual throughput is growing by an average of 45% yearly, which is close to the rate indicated in the board document. The shortfall is also due to (i) intense competition from other regional ports, (ii) the imposition in 2001 of a war risk surcharge4 on all vessels going to Sri Lanka due to security concerns following a terrorist attack on the airport, (iii) generally sluggish trade with the rest of Asia until 2002, and (iv) competition from JCT. Medium-term prospects remain good and SAGT is expected to be operating at designed capacity by the end of 2005. E. Main Project Issues and Lessons Learned 39. Need for an Independent Port Regulator. The Government failed to establish an independent regulator, as it was required to do under the concession agreement. In the meantime, SLPA faces a conflict of interest since it (i) acts as a regulator; (ii) competes directly with SAGT for business through its own terminals, JCT and Unity; and (iii) is a member of the SAGT board.

IV. CONCLUSION

40. The Project is given a rating of Excellent. The financial performance of SAGT exceeded expectations, generating strong returns for the shareholders while also drawing interest from commercial lenders in refinancing existing debt. While throughput fell below projections in the first 5 years, largely because of completion delays, the actual average annual throughput growth rate was close to the estimated growth rate. SAGT is expected to be operating at full capacity by the end of 2005.

3 ADB, through its South Asia Department (SARD), was in discussions with the Government on the establishment of

an independent port regulator. 4 The surcharge was removed in March 2002.

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41. The development impact of the Project has been substantial primarily because the service standards introduced by SAGT have become the benchmark for terminal operations not only at SAGT but also at the SLPA-managed terminals JCT and Unity. As a result, throughput has increased by 30% for Colombo Port in general in the last 5 years, thereby generating strong foreign currency receipts for the country. Besides direct employment, indirect employment has also been created in response to the increased requirements for ancillary services and the greater purchasing power of SAGT employees. The success of SAGT has proven that the private sector can provide the infrastructure requirements of Sri Lanka, with financial rewards for both investors and the country. ADB should continue to assist the country and encourage similar transactions through private-public partnerships. 42. Over the long term, the Port in general faces challenges that include (i) increased competition from new ports; (ii) the advent of new-generation vessels, which Colombo Port may not be equipped to handle; and (iii) the possibility of delays and inefficiency in operations as port capacity nears full utilization. The port operations of the country must be expanded if the Government’s goal of making Sri Lanka a hub port in the region is to be achieved. ADB is considering playing a role in such an expansion.

Appendix 1 9

PROJECT DESCRIPTION 1. Background. Colombo Port (the Port) is geographically well positioned to serve the transshipment traffic of the Indian subcontinent at the least cost. However, at the time of the Project, the facilities at the Port, which includes both the Jaya Container Terminal (JCT) and Queen Elizabeth Quay (QEQ), were already operating at full capacity, and outdated equipment and systems were causing inefficiencies and delays. Shipping lines were forced to divert container traffic to competing ports outside of the country, which was estimated at that time at around 40% of the west-to-east traffic. Meanwhile, market studies suggested that regional container traffic was increasing because of the rising volume of trade. Forecasts made by the Dewry Shipping Consultants in 1998 showed traffic in the Indian subcontinent to be growing by 7.3% yearly until 2018. New ports with state-of-the-art facilities were being built to serve this growing business. Measures inevitably had to be taken to develop the Port and enable it to regain its competitive advantage; otherwise, the country would lose a good source of foreign exchange. 2. In response to the growing demand for container handling capacity and in an effort to modernize port operations in Colombo, the Government invited the private sector, in March 1995, to bid for the development of an outer harbor for the Port, which would require the construction of a new breakwater structure. Since the Port had no land for expansion, the breakwater would be built outside the existing port and would create a larger inner harbor basin protected from ocean waves and wind. Although several developers declared their initial interest, none submitted bids for the proposed development. The tender procedures, however, allowed for alternative development. The consortium of the Peninsular and Oriental Steam Navigation Company (P&O) and John Keells Holdings Limited (JKH) proposed a two-phase approach: the QEQ facility would first be expanded, and then the outer harbor facilities would be developed in private-public partnership. The advantage of the proposal was that the development could take place within the boundaries of the existing harbor, without requiring a costly investment up-front in a breakwater to develop the outer harbor. The proposal would also permit demand levels to be tested in an intermediate phase and at the least cost. 3. The Project. The purpose of the Project was to develop the facilities of QEQ in the Port from a capacity of about 285,000 twenty-foot equivalent units (TEUs) per year to about 1 million TEUs. The main terminal area would be expanded from 7.5 hectares (ha) to about 20 ha of container yard with a total linear berth of 940 meters. The modern facility is now equipped with nine quayside gantry cranes (three post panamax and six super post panamax), 28 rubber-tired gantry cranes, and 48 terminal tractors and trailers. 4. The Project was undertaken in three stages. In Stage 1, Berth 1, comprising 340 meters of quay length and a depth of 15 meters alongside, was built. It was equipped with three super post panamax cranes and nine rubber-tired gantries (RTGs). Berth 1 was completed and operational by February 2002. Stage 2 introduced an additional 310 meters of quay length at the same depth of 15 meters alongside (Berth 2). Three super post panamax cranes and nine RTGs were installed. Berth 2 was operational by July 2002. Berth 3, with a length of 290 meters and a depth of 15 meters alongside, was built in Stage 3. It included three post panamax cranes, 10 RTGs, and 48 terminal tractors. Berth 3 was completed by August 2003. Terminal buildings and utilities were also provided under the Project. SAGT has 5,250 ground slots for a maximum of 25,000 slots (for stacking 5 TEUs of cargo for transshipment and 3 TEUs for domestic use).

Appendix 1 10

5. The Project was structured as a build-operate-transfer scheme under a 30-year concession agreement with the Sri Lanka Port Authority (SLPA). A new passenger berth was also built and was turned over to SLPA upon commissioning. The Project was completed on August 2003, nearly a year after the targeted completion date of October 2002, because of delays in civil works and the delivery of equipment. 6. The Project was the first stage of the Government’s plan to establish the Port as a regional hub. A breakwater with additional container berths will later be built near QEQ. Further developments, however, will be considered only after an in-depth feasibility study. 7. Sponsors. The consortium of the Peninsular and Oriental Steam Navigation Company (P&O) and John Keells Holdings Limited (JKH) are the proponents of the Project.

(i) P&O Group. This is a major international logistics and transport company founded in 1837. Its fastest-growing business is the development of container ports around the world. P&O Ports is the subsidiary responsible for port development, investment, and operating, as well as stevedoring activities. It has 27 container terminals and logistics operations in more than 100 ports in 18 countries. It provides management services to SAGT. The P&O Group holds 26.25% of the Project through P&O Netherlands (16.25%) and P&O Nedlloyd (10%).

(ii) John Keells Holdings Limited. This is one of the largest and most diversified

business concerns in Sri Lanka, with interests in transportation, property, plantation, financial services, information technology, leisure, and food and beverage. It is the largest capitalized company on the Colombo Stock Exchange with a market capitalization of about SLRe51.7 billion, representing 11.3% of the exchange’s total market capitalization as of 5 May 2005. John Keells account for 26.25% equity in SAGT.

8. ADB Approved Assistance. On 11 May 1999, the Board of Directors of ADB approved a financial assistance package to South Asia Gateway Terminals (Private) Limited (SAGT) from its ordinary capital resources. The financial assistance comprised the following:

(i) An equity investment of up to $7.4 million equivalent in Sri Lanka rupees; and

(ii) A loan of up to $36.1 million, without government guarantee, using ADB’s market-based loans (MBL) facility.

9. The actual assistance extended by ADB amounted to only $28.6 million ($3.6 million in equity investment and $25 million in loans) because of the reduction in project cost.

Appendix 2 11

BASIC DATA

Investment Summary

A. Investment Identification 1. Country Democratic Socialist Republic of Sri Lanka 2. Investment Number/Loan Number Investment 7153; Loan 1689 3. Type of Business Service (Port Terminal) 4. Project Title Colombo Port Development Project 5. Investee Company/Borrower South Asia Gateway Terminals (Private) Limited 6. Amount of Approved ADB Assistance - Equity Investment $7.4 million - Senior Loan $36.1 million

7. Project Completion Report Number PCR: SRI 914 B. Investment Data 1. Concept Clearance Approval 2 May 1997 2. Board Approval 11 May 1999 3. Signing of Legal Documents - Shareholder’s Agreement 6 August 1999 - Loan Agreement 6 August 1999 4. Loan Effectiveness - In Loan Agreement 6 August 1999 - Actual 6 August 1999 - Number of Extensions None 5. Loan Closing (End of Availability

Period)

- In Loan Agreement 15 December 2002 - Actual 16 June 2003 - Number of Extensions 1

Appendix 2

12

6. Disbursements Senior Loan - Dates Initial Disbursement Final Disbursement Time Interval 8 June 2000 16 June 2003 1,103 days Effective Date Amended Closing Date Time Interval 6 August 1999 30 June 2003 1,424 days - Amount Disbursed $25,000,000.00

Equity Investment - Dates Initial Disbursement Final Disbursement Time Interval 10 April 2000 15 November 2001 584 days Effective Date Original Closing Date Time Interval 6 August 1999 15 December 2002 1,228 days - Amount Disbursed $3,618,000.00

Appendix 2 13

C. Data on ADB Missions

Name of Mission

Date No. of

Person- days

No. of

Persons

Specialization of Members

Fact-Finding Mission 12–15 Mar 1997 a

4 1 Investment Officer

Lenders’ Meeting 20–24 April 1998 15 3 Investment Officer Investment Officer Legal Counsel

Fact-Finding Mission 5–12 Aug 1998 18 3 Investment Officer Sr. Investment Officer Legal Counsel

Fact-Finding Mission/Term Sheet Negotiation

10–12 Nov 1998 9 3 Investment Officer Sr. Investment Officer Counsel

Term Sheet Negotiation 7–10 Dec 1998 12 4 Investment Officer Sr. Investment Officer Legal Counsel Young Professional

Loan Negotiation 24–28 May 1999 10 2 Investment Officer Legal Counsel

Appraisal Mission 11–15 Mar 1999 5 1 Investment Officer

Annual Review Mission 2–4 Dec 2002 6 2 Structured Finance Specialist Associate Project Analyst

Annual Review Mission 17–18 Dec 2003 4 2 Structured Finance Specialist Associate Project Analyst

Project Completion Review Mission

18–20 May 2005 6 2 Sr. Investment Officer Project Evaluations Officer

a Participated as part of the Country Programming Mission.

Appendix 3

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SUMMARY OF EVALUATION STANDARDS A. Development Outcome 1. A project’s development outcome encompasses all effects on a country’s economic and social development. Effects on development are evaluated through a “with versus without project” comparison, i.e., considering (i) what happened because of the project, and (ii) what would have happened without it. As far as possible, the project should be distinguished from the company’s performance.

1. Development Outcome Rating

a. Concept 2. This rating is a synthesis of the overall impact of the project on the development of its host country, and thus implicitly addresses how well the project has contributed to fulfilling ADB’s purpose and mission.

b. Indicators 3. Each of the four development outcome indicators measures a distinct aspect of the operation’s performance. The development outcome rating is a bottom-line assessment of the project’s actual results, and not an “average” of the four indicators.

c. Evaluation standard 4. Considering the four indicators, the overall impact of the operation on the development of its host country is rated on a six-point scale:

(i) Excellent: A project with overwhelming positive development impacts, with virtually no flaws. Indicates the type of project ADB should use publicly to illustrate the contribution of private sector development.

(ii) Satisfactory: A project without material shortcomings or some very strong positive aspects that more than compensate for shortfalls. The guiding principle should be: if all of ADB’s projects were rated Satisfactory, ADB should just be able to justify its existence as a development institution.

(iii) Partly Unsatisfactory: A project with either minor shortcomings across the board, or some egregious shortcoming in one area, which outweighs other generally positive aspects.

(iv) Unsatisfactory: A project with largely negative aspects, far outweighing the positive aspects.

5. For any overall rating of Mostly Successful or better, ADB should be able to explain (without embarrassment) to a public audience why it rates the project a “success.”

2. Business Performance

a. Concept

6. Project business performance measures the project’s actual and projected financial impact on the company’s financiers, i.e., lenders and equity investors. Investors have diverse goals, but ultimately there is only one bottom line: financial returns. Financial returns must be sufficient to attract and reward private investment.

Appendix 3 15

b. Evaluation standard

7. Project business performance ratings are based on a comparison of the after-tax FIRR with an estimate of each company’s real weighted average cost of capital (WACC). The benchmarks are:

(i) Excellent: FIRR > WACC + 2.5% (ii) Satisfactory: FIRR > WACC (iii) Partly Unsatisfactory: FIRR > WACC – 2% (iv) Unsatisfactory: FIRR < WACC – 2%

3. Contribution to Economic Development

a. Concept

8. ADB’s purpose is to “further economic development…in its member countries” (by encouraging private sector development). Growth and development are not synonymous, but economic growth provides the resources needed for development. Projects with high economic returns contribute to a country's economic growth, whereas those with low or negative economic returns detract from it. Not all development aspects can be quantified, and this indicator therefore also considers qualitative aspects.

b. Indicator 9. The best single indicator of a project’s contribution to economic growth is its economic internal rate of return (EIRR), which measures the quantifiable net economic benefits to all of society. To determine the net benefits, the economic effects of the project on its input and output markets should be considered.

c. Evaluation standard 10. In determining the rating, both quantified and non-quantified benefits and costs should be considered. Where non-quantified benefits or costs are material, an explanation, and if possible a demonstration (e.g., in the form of a sensitivity analysis), should be given to justify a higher or lower rating than indicated by the EIRR. Any project rated satisfactory or excellent should have a demonstrably positive effect on society in the host country. If there are no significant qualitative effects, economic sustainability should be rated as follows:

(i) Excellent: EIRR > 15% (ii) Satisfactory: EIRR> 10% (iii) Partly Unsatisfactory: EIRR> 5% (iv) Unsatisfactory: EIRR < 5% 4. Private Sector Development

a. Concept

11. This indicator addresses the extent to which the company has developed into a corporate role model—positive or negative—and the project has contributed to ADB’s purpose beyond the project company.

Appendix 3

16

b. Evaluation standard

12. The performance is rated according to these standards:

(i) Excellent: Considering its size, the project improved the enabling environment or otherwise made a substantial contribution to the growth of private enterprises or efficient financial markets.

(ii) Satisfactory: The project had some, but no major, positive impact. (iii) Partly Unsatisfactory: The project had some negative impact, which, however, is

not expected to be extensive or to last long (e.g., a failed project without substantial negative demonstration effects).

(iv) Unsatisfactory: The negative impact was substantial and is expected to be extensive or to last long.

13. The factor or factors described above (or others) that were most important in this judgment, and their relevance, should be described briefly.

5. Compliance with Environmental and Social Policies

a. Concept 14. “Environmental effects” include the project’s impact on the physical environment and social, cultural, and health and safety issues, all of which should be considered if they have entered into project performance or public perceptions of the operation.

b. Evaluation standard 15. The project’s environmental effects should be rated as follows:

(i) Excellent: The project has materially improved either the company’s overall environmental performance or that of local companies. In addition, the project has consistently met ADB’s approval requirements, and its environmental effects are deemed acceptable in view of ADB’s current requirements. ADB should be able to use projects rated Excellent as role models for positive environmental effects.

(ii) Satisfactory: Over its lifetime, the project was in material compliance with ADB’s current requirements or its requirements at approval, including its environmental, health, and safety policies and guidelines.

(iii) Partly Unsatisfactory: The project was not in material compliance with ADB's current requirements or its requirements at approval, but deficiencies are being addressed through ongoing or planned actions; or earlier noncompliance (that has since been corrected) caused environmental damage.

(iv) Unsatisfactory: The project was not in material compliance with ADB’s current requirements or its requirements at approval, and mitigation prospects are uncertain or unlikely; or earlier noncompliance (that has since been corrected) caused substantial and permanent environmental damage.

16. No opinion possible (NOP): Where, after best efforts, the information needed to establish material compliance (or noncompliance) cannot be obtained, a rating of No Opinion Possible (NOP) may be assigned. The NOP rating should be given as a last resort, after reasonable effort has been made to get the necessary information. A sponsor’s failure to report should

Appendix 3 17

result in a Partly Unsatisfactory rating, or even an Unsatisfactory rating if the sponsor repeatedly refuses to cooperate on this issue.

B. Investment Outcome

1. Return on Equity 17. The exit dates and values translate into an annualization risk premium that exceeds the floating-rate interest on a secured nonrecourse ADB term loan for a similarly risky project and borrower in a similarly risky country environment by the following minimum multiples:

Excellent Satisfactory Partly Unsatisfactory

Unsatisfactory

Realized Exits 2.0 1.5 1.0 <1.0 Projected Exits 2.5 2.0 1.5 <1.5

2. Debt Service 18. The project’s debt service should be rated as follows:

(i) Excellent: The fixed loan rate or margin over the applicable floating interbank rate

over the lifetime of the loan as scheduled yields a gross contribution to the income of ADB that significantly exceeds the level compatible with the direct transaction cost, the risk profile of the project and the borrower, and the country risk at the time of investment.

Note: In view of the ADB transaction cost, any loan below $10 million would not

normally meet the requirements for an Excellent rating, unless it is a repeat or follow-on investment approved under fast-track procedures.

(ii) Satisfactory: The fixed loan rate or margin over the applicable floating interbank

rate over the lifetime of the loan as scheduled yields a gross contribution to the income of ADB that is compatible with the direct transaction cost, the risk profile of the project and the borrower, and the country risk at the time of investment. The loan carries no specific loan loss provision.

(iii) Partly Unsatisfactory: The loan carries a specific loss provision, or its fixed rate or

margin over the applicable floating interbank rate over the lifetime of the loan as scheduled yields a gross contribution to the income of ADB that to some extent falls below what is compatible with the direct transaction cost, the risk profile of the project and the borrower, and the country risk at the time of investment.

(iv) Unsatisfactory: The loan carries a specific loss provision, or its fixed rate or

margin over the applicable floating interbank rate over the lifetime of the loan as scheduled yields a gross contribution to the income of ADB that falls significantly below what is compatible with the direct transaction cost, the risk profile of the project and the borrower, and the country risk at the time of investment.

Appendix 3

18

C. ADB’s Effectiveness

1. Concept 19. This section addresses three areas of ADB’s operational performance: (i) screening, appraisal, and structuring; (ii) supervision and administration; and (iii) role and contribution. Did ADB apply good practice standards in these areas, such as those identified in its policies and procedures and guidance notes? An unsatisfactory development and investment outcome can be caused by external factors—unforeseeable (e.g., force majeure) or foreseen (e.g., realized market risk). A satisfactory outcome can be achieved even though ADB did a poor job of appraising and supervising the project, had an insufficient role, and made no contribution. However, if ADB did improve the project’s development or investment outcome (or could have improved the outcome but did not), this finding should be reflected in this section.

2. ADB’s Effectiveness Rating 20. On the basis of the ratings on the three indicators—(i) appraisal, (ii) supervision, and (iii) role and contribution—ADB’s overall effectiveness should be rated on a four-point scale: Excellent, Satisfactory, Partly Unsatisfactory, or Unsatisfactory. Since ADB’s ability to influence the quality of an operation is greatest between screening and disbursement, this rating should reflect the overall quality of the value added by ADB, at each stage, to the operation’s development outcome and to ADB’s profitability. 21. The ADB effectiveness rating can be no lower that the worst indicator, and no higher than the best indicator. The rating should be as follows:

(i) Excellent: ADB’s performance was exemplary. (ii) Satisfactory: ADB’s performance was materially up to a high professional

standard. (iii) Partly Unsatisfactory: There was a material shortfall in at least one area. (iv) Unsatisfactory: There were shortfalls in several areas or an egregious shortfall in

one area, which led (or could have led, under less favorable circumstances) to a less-than-satisfactory development or investment outcome.

1. Screening, Appraisal, and Structuring of the Project

a. Concept

22. The extent to which ADB has professionally executed its front-end work to a sustainable corporate performance standard should be evaluated. ADB’s operating policies and procedures, as well as its credit notes, give guidance on what ADB considers an appropriate professional standard.

Appendix 3 19

b. Evaluation standard

23. ADB’s screening, appraisal, and structuring should be rated as follows:

(i) Excellent: ADB’s front-end work could serve as an example of best practices. (ii) Satisfactory: The front-end work materially met ADB’s good practice standards. (iii) Partly Unsatisfactory: There was a material shortfall in at least one important

area. (iv) Unsatisfactory: There were material shortfalls in several areas or a glaring

mistake or omission bordering on negligence in at least one important area.

2. Supervision and Administration

a. Concept 24. The extent to which ADB has professionally supervised the project, in a manner appropriate to the project’s circumstances, should be evaluated.

b. Evaluation standard 25. ADB’s supervision and administration should be rated as follows:

(i) Excellent: ADB has always kept itself promptly and fully informed about the project’s and the company’s performance in all material areas and used this knowledge proactively to improve the project’s development outcome or ADB’s investment outcome.

(ii) Satisfactory: ADB has always kept itself sufficiently informed to react on time to any material change in the project’s and the company’s performance, and took timely action where needed.

(iii) Party Unsatisfactory: ADB’s supervision was insufficient to monitor the project’s and the company’s performance, or ADB did not take timely and appropriate action.

(iv) Unsatisfactory: ADB missed material developments or did not use information to intervene appropriately and on time.

3. Addition of Value, Demonstration Impact, and Catalytic Effect

a. Concept

26. This section evaluates how well ADB fulfilled its development role.

b. Evaluation Standard 27. The following rating guidelines should be applied:

(i) Excellent: ADB’s role was essential for the project to proceed, and ADB made a major contribution to its success.

(ii) Satisfactory: ADB’s role and contribution were in line with its operating principles. (iii) Partly Unsatisfactory: ADB’s role or contribution fell short in a material area. (iv) Unsatisfactory: ADB’s role did not plausibly add value, and ADB’s expected

contribution was not delivered.

Appendix 4

20

Private Sector Development Impact Checklist South Asia Gateways Terminal (Private) Limited

Sri Lanka

Change Attributable to the Project Annotations and Ratings Justification

Assessed Impact to

Date5

Potential Future Impact and Risk

to Realization

Combined Rate

Impact Risk6 1. IMPACT ON PROJECT COMPANY

1.1 Know-how: management and operational skills

Excellent Excellent Low Excellent There was considerable transfer of technology from P&O Ports to SAGT in the efficient management of terminal operations. Except for two senior positions, SAGT is now staffed by Sri Lankan nationals. SAGT trains all its managers and staff to upgrade their knowledge and skills and equip them for higher positions within the organization.

1.2 Achieve standards of the company:

- against global industry performance and service quality benchmarks - in corporate governance,

transparency, worker relations, health, and safety

Excellent Satisfactory Medium Excellent SAGT introduced significantly higher service standards to Colombo Port, which today is the benchmark for port operations in Sri Lanka. As a result, overall container terminal efficiency at the Port has significantly increased. SAGT introduced not only service standards but also a professional work ethic and corporate governance to the sector. Its human resource policies and programs are geared toward improving worker compensation and promoting strong worker relations.

1.3 Direct employment impact, in relation to the amount of investment

Excellent Satisfactory Medium Satisfactory While SAGT had a legal obligation to hire the 500 employees of QEQ, only 15 accepted SAGT’s offer of employment. As a result, SAGT went to the Sri Lanka labor market for its staffing requirements.

2. IMPACT BEYOND THE COMPANY

2.1 Brings pioneering or increased private sector role in the sector and beyond.

Satisfactory Satisfactory High Satisfactory The success of SAGT has clearly demonstrated the effectiveness of the private sector in building and operating infrastructure, advocating corporate governance and transparency, and promoting a professional work ethic. The Government needs to establish a framework to encourage more private sector participation in this sector and to sustain the accomplishments of the Project.

5 Excellent, Satisfactory, Partly Unsatisfactory, or Unsatisfactory. 6 High, Medium, Modest, or Low.

Appendix 4 21

2.2 Brings pioneering or enhanced competition (to state monopolies, early concession operators, and others).

Excellent Satisfactory Medium Excellent The rise of SAGT as the first private sector terminal operator in the country and the competition it presented spurred the SLPA-owned and SLPA-managed container terminal JCT to improve its own operations. The Project clearly demonstrated the impact of competition in improving the efficiency of competing state-run facilities.

2.3 Introduces effective new service, products, and innovation.

Excellent Satisfactory Medium Excellent SAGT has advanced terminal handling equipment and tracking facilities. It puts considerable emphasis on IT in all terminal operations.

2.4 Relative to investments, brings significant gains for the economy, some of which will accrue to the poor.

Excellent Excellent Low Excellent An efficient port operation facilitated the on-time delivery of exports and imported raw material critical to competitiveness in the global trading environment. Because more vessels call at the Port, there are also more ancillary activities like ship handling. Employment has increased, and so has economic activity in general. In addition, jobs have been created as a result of increased spending by SAGT employees, in such industries as food, housing, and consumer durables. Moreover, since 70% of SAGT’s inventory requirements are procured from local sources, jobs have been created to meet the increasing demand for spare parts and other materials. SAGT provides yearly training in cargo handling to the community. Those who complete the program are more likely to find work.

2.5 Brings pioneering or catalytic finance, enhancing funding prospects and investments in the sector

Excellent Satisfactory Medium Satisfactory The success of the Project has demonstrated the effectiveness of private sector involvement in terminal operations. Some private sector parties have already expressed interest in developing and operating container terminals under lease from SLPA at the south harbor while the Government develops the common facilities including the breakwater. Moreover, the current interest among commercial lenders in providing financing to SAGT suggests that the positive experience under the Project has made financing more accessible to the sector.

2.6 Brings improvements in laws and institutional frameworks in the sector.

Satisfactory Unsatisfactory High Partly Unsatisfactory

The signed concession agreement called for the establishment of an independent regulator within 5 years from the handover date to ensure fair competition in the sector and encourage more private sector participants. So far, the Government has not made much progress in establishing the necessary port framework and independent regulator.

Appendix 4

22

2.7 Demonstrates visibly high

standards of corporate governance, transparency, workers relations, health and safety, etc.

Excellent Satisfactory Medium Excellent SAGT serves as a model for advocating corporate governance and promoting a professional work ethic in the sector. Its success has demonstrated that a private sector business that follows high standards of corporate governance, transparency, and worker relations can prosper.

OVERALL RATING 7 Excellent Satisfactory Modest Excellent Clearly demonstrates the viability of promoting private sector development in the country. To sustain the Project and other, similar ventures, the Government must create an enabling investment and regulatory environment.

7 This overall rating of wide private sector impact is not an arithmetic means of individual ratings, and should also

weigh in the ADB’s additionality.