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High revenue share, faulty model the bane

December 23, 2012:

Its raining controversies and setbacks in the private public partnership (PPP) world of the

Central Government-owned Major Port sector. Close on the heels of the cancellation of the awardof the fourth container terminal at Jawaharlal Nehru Port (JNP) comes the news that theconsortium which won the contract to develop a Rs 14000crore container terminal project atEnnore has backed out.

The new terminal that would have added 1.5 million TEUs (twenty-foot equivalent units) to portcapacity on the East coast now stands indefinitely postponed, while congestion in major portsincreases transactional costs and becomes a huge headache for policy makers.

The two projects at JNP and Ennore were the poster boys of Governments new port policyadopted in 2008. The JNP container terminal envisaged an outlay of Rs 6700 crore in two phasesto handle nearly 5 million TEUs over a quay length of 2,000 metres. It was awarded with muchfanfare in September 2011 and the first phase was to be completed in three years.

Both concessionaires came through competitive bidding route and are well-known names in theinternational port industry. The Singapore Government-owned Port Singapore Authority (PSA),which won the JNP concession, runs one of the largest and most successful ports in the worldand has already invested in container terminals at Tuticorin and Chennai ports.

The Ennore project was won by a consortium in which Eredene Capital of London, Grup MaritimTCB of Spain and Lanco Infratech are investors.

FAILURE TO GET INVESTMENTS

Why has the new port policy failed to attract investment in major ports? Some experts believethat the huge percentage of revenue that each party offered to share with the port made theprojects unviable. The Ennore group offered a revenue share of 39.99 per cent, while the PSA-ledconsortium in JNP offered 50.08 per cent. These huge amounts must be seen in the context ofGovernment guidelines that do not allow the revenue share to be treated as a pass through whenfixing tariff. So, regardless of how much of the top line a party agrees to share, tariff will beneutral to the revenue shared and will be fixed on a normative basis.

But is it true that the villain of the piece is the high revenue share offered? After all, these areexperienced port operators, familiar with the Indian port scene and aware of how much theirbalance sheets could bear. Would they really have bid more than they could afford?

And if the changed economic environment is to blame, just look at Krishnapatanam port, aprivately-owned entity just North of Ennore, which began container operations in September2012. Their terminal, set up with an outlay of Rs 800 crore, has two berths capable of handling1.2 million TEUs.

In the next phase they plan to expand to 6 million TEUs. Within a few kilometres of the Ennoreport, L&T has constructed the Kattapaulli port with a container handling capacity of 1.2 millionTEUs, which is expected to become operational next month. If the changed economicenvironment did not inhibit these two ports why did it affect projects in Ennore and JNP?

FAULTY MODEL?

Only two new projects have come up since the new policy was announced with much fanfare in2008 and both of them were conceived and approved under the old policy. So, why is the new

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policy not showing results? Some experts fault the model by which the port calls for bids fromparties, who are pre-qualified on the basis of their experience, competence and financial muscleand then allots the project to the one who offers the highest revenue share. They believe thathigher earnings for Government should not be the sole criterion for private participation in portactivities. Instead, the project should be awarded to the bidder who promises to charge the lowesttariff.

It is tempting to believe that the lowest tariff will solve all problems of non-implementation, butthe ground reality does not bear this out. After all if over-ambitious offers of revenue share makeimplementation impossible, might not aggressively low tariffs also do the same? Ultimately it isthe judgment of the bidders that counts and an experienced port operator must surely know whathis balance sheet can bear.

Besides why are we so obsessed with low tariffs? The projects discussed above are for startingcontainer terminals. Today more than 95 per cent of Indias Exim trade in containers is carriedby foreign vessels. Why offer them concessions at the cost of those who invest in Indian ports? Itwould have made sense if they passed on the benefit of lower port charges to Indian consumersbut most experts would agree that this is unlikely. Freight rates are a function of market forcesand the possibility of their falling because of lower port tariffs is remote. Besides, how are we surethat the tariff offered at the time of bidding will remain the same through the 30 year life of theconcession?

FIX TARIFF

For some reason there is reluctance to put the blame where it belongs, which is the faultyprinciples guiding the fixation of tariffs upfront for the entire 30-year life of the contract. Underthe old guidelines tariff was fixed on the basis that the terminal would handle a certain number ofTEUs. If, by better marketing or by more efficient handling, the terminal increased its turnover,tariff would be reduced in the next round of tariff fixation.

All this does is to discourage innovation and penalise efficiency. Some operators have evenrefused to accept new business because, following an increase in turnover, their tariffs have beendrastically reduced. The present system in which tariff is fixed for the full 30 year life of theproject allows little scope for adjustment for unforeseen future events.

The obsession with regulation and tariff fixation is entirely misplaced. It was needed in the earlystages of port development, when there was practically no competition and ports were naturalmonopolies.

Today, shipping lines have a choice not only between different ports but also between differentterminals within a port. In fact, if more projects had come up market forces would have regulated

tariff far more efficiently than the present regulator. Policy makers must realise that an over-regulated system drastically inhibits investment in ports and benefits neither consumers norshipping lines.