Thursday, 14 June 2012

Indian toll road profitability declines and Ontario floats more tolls


A lot of new highways in India are invariably being toll funded, albeit with manual tolling systems. A recent report has noted that returns on such projects have been declining in recent years.

My Iris reports that Build Operate Transfer (BOT) projects (also known as BOOT) before 2009, could earn an average equity return of 22%. In most of the 23 projects surveyed, the reason for this is put down to the relatively low cost of bidding (related to the lack of bidders, an average of five) and higher than expected traffic growth boosting toll revenue (10-12% over two years). The lack of bidders was put down to property developers being unsure about land being available for construction on time, and contractual provisions that made it complicated for developers to sell their full equity stake in the project concessions. 

This environment appears to have changed, with land acquisition being accelerated by government offering an option for developers to exit, and more lucrative projects being pursued. As a result, the number of bidders is now averaging 25-30. Conversely, traffic forecasts are no longer being met by some projects. Fitch Ratings reports that actual traffic may be as low as 45% of the estimates for the first year. 

Optimism bias in such forecasts is driven by construction companies in consortia keen to capture the lucrative contracts for building the roads (and to be paid for them), which means they are keen to support forecasts that are more likely to mean their consortium wins the concession. In addition, poor reliability of traffic statistics (and lack of robust research into preferences of users) makes such forecasting particularly prone to error. 

The key point for investors is to have some decent expert scrutiny of the projects they are being asked to invest in, and base forecasts on a range of plausible scenarios. 


Ontario Premier Dalton McGuinty has announced that the tolled Highway 407 will be extended, first from Pickering to Oshawa, with the province owning the 22-kilometre link but charging a fee to use it.  This has been described by theLF Press as crossing  “a Rubicon city and provincial politicians have been loathe to dip their toes into”.

Ontario's last civic toll road was scrapped in 1926, and of course the 407 toll road remains the only exception to date which is also privately owned.  Building the extension as a private road is also an option under consideration, which is likely to be controversial.   To privatise and allow tolls for a new link is an obvious option for administrations lacking finance and options to fund such improvements.  No doubt the debate in the province will be vigorous on this one, although given the success of the 407, I would have thought it should not be as controversial as it is made out to be.

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