A C OU NTRY FRAM EWO RK R E P ORT 21441 November 2000 Private oh,?' s j f t-' '- g *> | " " " ' ^ _'kAf -1 ~fiL ob itie t~~~~~~~~~~~~.~.i k 1~~~ .7.-'1. it Le . Op unweeorsh PUBLIC-PRIVATE INFRASTRUCTURE ._ ADVISORY FACILITY @ 3THE WORLD BANK Private Solutions for Infrastructure: Opportunitles for the Philippines A Country Framework Report Public-Private Infrastructure Advisory Facility and the World Bank Group Copyright © 2000 The findings, interpretations, and conclusions expressed in this paper are The International Bank for Reconstruction entirely those of the authors and should not be attributed in any manner to and Development the World Bank, to its affiliated organizations, to members of its Board of THE WORLD BANK Executive Directors or the countries they represent, or to the Public-Private IS]18 H Street, N.W. Washington, D.C. 20433, U.S.A Infrastructure Advisory Facility. Neither the World Bank nor the Public-Private Infrastructure Advisory Facility guarantees the accuracy of the data included All rights reserved in this publication or accepts responsibility for any consequence of their use. Manufactured in the The boundaries, colors, denominations, and other information shown on anv United States of America First Printing November 2000 map in this volume do not imply on the part of the World Bank Group or the Public-Private Infrastructure Advisory Facility any judgment on the legal status of any territory or the endorsement or acceptance of such boundaries. The material in this publication is copyrighted. Copyright is held by the World Bank on behalf of both the World Bank and the Public-Private Infra- structure Advisory Facility. Dissemination of this work is encouraged, and the World Bank will normally grant permission promptly. Permission to photocopy items for internal or personal use, for the inter- nal or personal use of specific clients, or for educational classroom use is granted by the World Bank, provided that the appropriate fee is paid directly to Copyright Clearance Center, Inc., 222 Rosewood Drive, Danvers, MA 01923, U.S.A., telephone 978-750-8400, fax 978-750-4470. Please contact the Copyright Clearance Center before photocopying items. For permission to reprint individual articles or chapters, please fax your request with complete information to the Republication Department, Copy- right Clearance Center, fax 978-750-4470. All other queries on rights and licenses should be addressed to the World Bank at the address above or faxed to 202-522-2422. Contnts Abbreviations v Acknowledgments vi Executive Summary I PART 10 CROSS-SECTORAL ISSUES 4 1. Business Environment 4 Foreign Direct Investment in the Philippines 4 Obstacles to Private Participation 5 2. The Legal Environment 6 Tax Regime 6 Foreign Exchange Regime 6 Labor Issues 7 Access to Land 7 Legislation on Foreign Direct Investment 7 3. Build-Own-Transfer and Other Mechanisms 9 Solicited and Unsolicited Build-Own-Transfer Proposals 9 Private Participation in Infrastructure outside the Build- Own-Transfer Law 10 Environmental Protection 10 4. Financial Institutions 12 The Capital Market 12 Public Sources of Debt Financing 14 Private Sources of Debt Financing 14 5. Decentralization and Institutional Capacity 15 PART 2. SECTORAL REVOEW 17 6. Power 17 Physical Performance 17 Tariffs and Financial Performance 18 Current Private Participation 18 Future Demand and Private Participation 20 Policy and Regulation 22 Risk Allocation 24 iii Contents 7. Water and Sanitation 25 Market Structure 25 Physical Performance 27 Current Private Participation 27 Demand Forecasts and Implications for Private Participation 29 Proposed Private Participation 29 Regulatory Framework 30 8. Telecommunications 37 Market Structure 37 Physical Performance 37 Financial Performance 38 Legal Environment 39 Current and Potential Private Participation 41 9. Transportation 42 Institutional and Regulatory Framework 42 Investment Issues 43 Private Participation 44 10. Ports 46 Market Structure 46 Physical and Financial Performance 46 Current and Potential Private Participation 46 11. Airports 49 Market Structure 49 Physical Performance 49 Current and Potential Private Participation 50 12. Heavy Rail 52 Market Structure 52 Physical and Financial Performance 52 Current and Potential Private Participation 54 13. Light Rail 55 Physical and Financial Performance 55 Current and Potential Private Participation 55 14. Roads 57 Market Structure 57 Physical Performance 57 Current and Potential Private Participation 57 PART 3. POLicY RECOMMENDATIONS 61 IS. Proposed Action Program 61 Reduce Dependence on Government Financial Resources 61 Rationalize Institutional and Legal Processes 63 Strengthen and Deepen Sectoral Reforms 64 References 69 iv Abbreviations ASEAN Association of Southeast Asian Nations ATI Asian Terminals, Inc. ATO Air Transport Offices BLT Build-lease-transfer BOO Build-own-operate BOT Build-own-transfer BT Build-and-transfer EDC Economic Development Corporation ERB Energy Regulatory Board IOD Investor-owned distributor JICA Japan International Cooperation Agency LRTA Light Rail Transit Authority MRT Metro Rail Transit MRTA Metro Rail Transit Authority MWSS Metropolitan Waterworks and Sewerage System NEA National Electrification Administration NEDA National Economic and Development Authority NPC National Power Corporation PEA Philippines Estate Authority PLDT Philippines Long-Distance Telephone Company PNCC Philippine National Construction Corporation PNOC Philippines National Oil Corporation PPA Philippines Ports Authority PNR Philippine National Railroad REC Rural Electricity Cooperative teu Twenty-foot equivalency unit WAPCO Wage and Position Classification Office v Acknowledgments This Country Framework Report for the Philippines and Russell Muir (Country Framework Report pro- is one of the first in a series of country reviews aimed gram advisor) and comprised ofJordan Schwartz (trans- at improving the environment for private sector involve- port), Philip Gray (telecommunications and power), ment in infrastructure. Prepared at the request of the Chiaki Yamamoto (water and cross-sectoral issues). In Philippine Government, the report has three main addition, Aloysius Ordu provided in-country coordina- objectives: tion and technical support to the team.The report also * To describe and assess the current status and per- draws on inputs from the local consultants ofUrban-Rural formance of key infrastructure sectors. Balance, Incorporated, led by Apolo Jucaban and Gilbert * To describe and assess the policy, regulatory, and Llanto; other development institutions; and representa- institutional environment for involving the private tives of the private sector. Members of the World Bank sector in those sectors. Philippines Country Team, including Heidi-Hennrich * Through the above, to assist policymakers in fram- Hanson ,VijayJagannathan, Sanjay Dhar, Sally Burning- ing future reform and development strategies and ham, and Selina Shum peer reviewed the process and pro- to assist potential private sector investors in assess- vided quality control inputs to various report drafts. ing investment opportunities. The Country Framework Report process was sup- This report was begun under the auspices of the ported by an advisory group comprised of representa- World Bank Group's Infrastructure Action Program, tives from the private sector, financial institutions, and with funding from the World Bank and the Japanese bilateral donor agencies. Members of the advisory group Government. It is being publishedjointly by the World for this report include Takashi Kudo, Keidanren Japan Bank and the Public-Private Infrastructure Advisory Federation of Economic Organizations);Takuma Hatano, Facility, the multidonor technical assistance facility estab- Japan Bank for International Coopcration; Shiladitya lished in July 1999, which is carrying forward the pro- Chatterjee,Asian Development Bank; Sean O'Sullivan, gram of Country Framework Reports begun under Asian Development Bank; and A. Fenix, Philippine the Infrastructure Advisory Facility. Chamber of Commerce and Industry. Rosario Bar- The report was initiated by Vinay Bhargava, World tolome produced the final manuscript draft of the Bank Country Director for the Philippines, and pre- report, and Communications Development Incorporated pared by a core team led by Aldo Baietti (team leader) edited, designed, and laid out the published report. vi Executive Summary The Philippines has led many of its East Asian neigh- tainer terminal facilities. Successes have been more lim- bors in creating a policy environment that is conducive ited in other sectors, in regions outside of Manila, in ser- to private sector participation in infrastructure.Together vice-level transactions, and in privatizations that would with a strong commitment to generating results, this pol- likely have involved more extensive and politically icy environment produced an impressive record of pri- charged sectoral reforms. Notwithstanding these limi- vate sector transactions in a relatively short period of tations, the Philippines' record for private participation time. in infrastructure sets it apart from the rest of the region The Philippine government has been committed and establishes a strong foundation for future progress. to private participation in infrastructure since the early Some progress has been made in every sector. 1990s, when it sought to boost the country's compet- itiveness by improving key infrastructure services while Power relieving itself of the significant fiscal pressures associ- The Philippines has gone farther than most Asian coun- ated with national infrastructure development programs. tries in attracting private capital to its power sector. It The private sector policy was first adopted in the early has contracted 33 projects, augmenting capacity by 1990s, with the establishment of the Committee on 5,533 megawatts. In addition, private distributors have Privatization for the disposal of large public industrial contracted for another 518 megawatts of capacity.There and infrastructure enterprises. Further progress was are several private distributors of power, including the made when the government passed the build-own- largest, Meralco, which distributes power in Manila and transfer (BOT) law-the first such law in the region. the surrounding area. The government plans to priva- The BOT law opened the door to private participa- tize the National Power Company's remaining power tion in infrastructure in the Philippines by establishing facilities and its transmission system as part of its power a transparent, competitive process for BOT schemes. restructuring plan. The Electricity Industry Reform Act, which would facilitate the new reforms, is currently Private Participation Has Been Strong in pending before Congress. Several Sectors Water The Philippines has attracted private participation in Two concessions for Manila's water system reached clo- infrastructure in several key sectors. Notable successes sure in July 1997. The projects will involve estimated include greenfield projects for bulk power generation, investments of about $7 billion over 25 years. A joint the concessioning of Manila's water supply and sanita- venture for water installations in Subic Bay was awarded tion systems, and the long-term leasing of Manila's con- in April 1997. Another concession, which had been I I Executive Summary awarded to the Clark Development Corporation in ment in which private participation in infrastructure March 1996, was terminated in April 1999. Several can be replicated across sectors, throughout the coun- unsolicited proposals, mainly for bulk water supply, are try. Three types of reforms will be critical: sector-spe- pending. Under the Local Government Unit Urban cific reforms, financial reforms, and institutional reforms Water and Sanitation Project, headway is being made (figure 1). to bring in the private sector through lease arrangements Since the early 1990s several different schemes and in small towns. institutions have proliferated to promote investment in the Philippines. The result has been redundant incen- Telecommunications tives, conflicts among multiple authorities, and duplica- Until the telecommunications sector was liberalized, the tion of efforts. Currently, the Board of Investments, the Philippines Long-Distance Telephone Company had a Bases Conversion Development Authority, the Philip- monopoly, investment was inadequate, and there was a pines Economic Zone Authority, and regional invest- three- to five-year waiting list for phone service. Lib- ment councils all promote investment.The Department eralization of the sector began in 1993, when 11 new ofTrade and Industry has developed several measures to licenses were awarded for basic telephone, cellular, and eliminate redundancies, but these measures have yet to international gateway facilities. By the end of 1998 be evaluated by the government or implemented. almost 4 million new lines had been installed as a result The Philippine government has demonstrated a of these licenses. The Philippines now has 76 local clear commitment to expanding the role of the private exchange carriers, 5 cellular providers, and many other sector in infrastructure. It can build on that record and smaller providers. There is at least a duopoly in virtu- take advantage of the window of opportunity opened ally every major market in the country, and the back- by the EastAsian financial crisis by pushing forward with log of customers has been cleared up. important sectoral reforms and the privatization of infrastructure assets. Transport Private companies operate the two major terminals for Power international container trade in Manila, several private The power sector in the Philippines has gone farther toll roads are under construction or about to become than most in the region in stimulating private sector operational, and a consortium of local and international participation. Nonetheless, problems associated with investors has been awarded the right to build a major international terminal at the Ninoy Aquino International ______________________ internathenal gernmennalat isealsoy puruing Intenatcone- Figure I Proposed Three-Point Stragegy for Increasing Airport. Thegovenmentisalsopu aon Private Participation in Infrastructure sioning program for Metropolitan Rail Transit Author- ity, the light rail operating division. The Philippines National Railways has yet to benefit from private sec- / D Rationariz Deepen sector tor participation, and Manila's attempt to build a sec- institutions X reforms and prociesse ond light rail line, LRT3, with private finance does not shift enough risk away from the public sector. 0/ N \; \N Despite Progress, Important Challenges Remain in All Sectors Challenges as great as those the government faced in the early 1990s lie ahead.To meet those challenges, the gov- ernment will need to prioritize its objectives, gain con- sensus among key stakeholders, and move ahead with a Reduce dependence on national well-managed and coordinated effort. It will need to government resources broaden and deepen reforms and create an environ- Source: World Bank staff. 1 2 Executive Summary early independent power projects, which increased tar- ent bidding will be required before the government can iffs, and the precarious financial situation of the National move to the next level of private participation in the Power Corporation, as well as the poor financial and sector. managerial performance of the electricity cooperatives have led the government to plan an ambitious series of In Addition to Sectoral Reforms, Financial and new reforms.These reforms should lead to a fully pri- Institutional Reforms are Needed across vatized and liberalized market place. Sectors Water To reduce the burden of private infrastructure projects Although the successful award of two concessions for on government resources, the government should focus the Metropolitan Waterworks and Sewerage System on the privatization of existing assets rather than on service area in 1997 is regarded as a model for successful greenfield investments. This new emphasis is particu- water privatization, additional reforms will be needed larly important in the wake of the East Asian crisis. to overcome remaining obstacles and successfully involve Where the government does contract for greenfield the private sector. The private sector has submitted investments, it should attempt to take on only those risks many unsolicited proposals, but they focus largely on over which it can exercise some control, minimizing its bulk supply schemes. No unsolicited projects have been exposure to commercial risks (such as construction and approved, reflecting several problems in the sector.These market demand)-risks the private operators may be bet- problems include the sector's fragmentation and dearth ter able to mitigate. of viable water systems; an unclear regulatory regime, Institutional reforms need to simplify and rational- in which responsibilities are allocated to various agen- ize the design and implementation of private infra- cies; and lack of adequate resources by local governments. structure projects and privatization strategies. In addition, The government is currently considering a technical competitive bidding procedures need to be put in place assistance facility to enable local governments to pre- for both privatization and greenfield projects. If the pare solicited projects. government is to achieve its goal of increasing private investment in infrastructure, it will be essential to clar- Telecommunications ify the rules of the game by establishing regulators that Despite the introduction of competition in the sec- are independent of regulated firms, consumers, and pri- tor, the Philippines Long-Distance Telephone Com- vate investors on the one hand and the political author- pany remains the dominant operator. Interconnection ities on the other. remains a thorny issue that the regulator, the National Telecommunications Commission, has yet to resolve satisfactorily. Transport Although a few transport investments and projects have transferred operations to the private sector, all modes of transport suffer from a lack of coordinated planning, particularly with respect to private participation. In the port, airport, and rail subsectors, private investors con- tinue to initiate proposals, even as state transport enti- ties try to control or subvert their own privatization programs in the absence of a clear national strategy. Clear tariffpolicies that allow for cost recovery, greater independent regulation, improved integration of modal planning, a stronger comn-iitment to right-of-way financ- ing, and a new emphasis on competitive and transpar- 3 W L C R(SS-SEf,CTORAL I! SdLES n Business Environment The Philippines has achieved one of the most impres- Despite recent growth, however, the Philippines still sive records in the region for promoting policies for pri- lags behind neighboring countries in terms of both vate sector-led growth. Significant structural adjustment aggregate and per capita foreign direct investment (fig- reforms were introduced under the Aquino and Ramos ure 1.1). The low level of foreign investment may be administrations in the area of fiscal and monetary reforms attributed to several factors, including inadequate infra- to liberalize trade, deregulate business activity and improve structure, the high cost of unskilled labor, and the often export competitiveness, promote foreign direct investment, conflicting array of investment promotion schemes and and privatize state enterprises. Other reforms were institutions. launched in the banking sector to tighten supervision. Since the early 1990s several different schemes and Investors reacted favorably, and private investment institutions have proliferated to promote investment and capital inflows increased significantly. The Her- in the Philippines. The result has been redundant itage Foundation, a policy think tank, grades the Philip- incentives, conflicts among multiple authorities, and pines highly for creating a favorable private sector duplication of efforts. Currently, the Board of Invest- framework, giving the country's government inter- ments, the Bases Conversion Development Authority, vention a 1, its regulation a 3, and its wage and price the Philippines Economic Zone Authority, and regional control a 2 on a 1-5 scale on which 1 represents out- standing performance. srFigure 1I.1 Foreign Direct Investment in Selected East Asian Countries, 1989-98 Foreign Direct Investment in the Philippines U.S.$ billions As a result of increased political stability under the 7 Indonesia Ramos administration, iniproved macroeconiomic fun- 6 M damentals, and deregulation and other reforms, total investment inflows increased substantially in the 1990s, especially after 1993.The manufacturing and financial 4 sectors attracted the bulk of foreign direct investment, 3 Thaila2 / but investment in infrastructure rose as well. Accord- 2 ing to the Philippine central bank, foreign direct invest- I _ipn--. ment in public utilities increased from about $15 million in 1992 to about $150 million in 1997. Investment in 91989 1990 1991 1992 1993 1994 1995 1996 1997 1998 power generation was particularly great. Source: World Bank 1999a. 1 4 Business Environment Table 1. I Ratings of the Philippine Business Envrionment Global Regional Feature Index ran king ranking Overall rating 6.8 33 9 Political environment 5.7 35 10 Political stability 7.3 25 4 Political effectiveness 4.4 46 13 .......... ...... . ,_~..,_.,...... . .,,.. ......... ....... = . ....*,........... .. ..r.........Ma r e o o i n io m n .926 Macroeconomic environment _ 7.9 _25 6 Market opportunities 55 35_ I I Policy toward prvae enterprise and competition 6.6 33 8 P lc to a c fo e g in e t e t 8 32................ .... __............... .. .......__. _.. ._..,, ........,. _ v....... ,,1 _, ., Poicy tow.ard foreizn investment 8.3 22 2 Foreign trade and exchange controls 8.9 8 4 Taxes 74 _ 1 6 Finarbsil ---- -. _ 6.3 39 - 0 Labor market 7.2 17 6 'infr-st-u "r . ............ ... . ............... . .. .... ... . .... .. ..... Infrastructure 4.2 4 Note: Highest possible index is 10,0. Global ranking based on 60 economies. Regional rankng based on 1 6 economies: Australia, China. Hong Kong (China), India, Indonesia, Japan, Malaysia, New Zealand, Pakistan, Philippines, Singapore, the Republic of Korea, Sn Lanka,Taiwan (China),Thailand, and Vietnam. Source: Economist Intelligence Unit 1999. investment councils all promote investment. The Department ofTrade and Industry has developed sev- eral measures to eliminate redundancies, but these measures have yet to be evaluated by the government or implemented. Obstacles to Private Participation Despite remarkable progress in developing a competi- tive private sector, obstacles to private sector growth remain. Private investors often cite the Philippines' con- voluted bureaucracy.Transparency International-which, together with Gottingen University, publishes a cor- ruption perceptions index-rates the Philippines in the bottom half of 99 countries surveyed in 1999. The Philippines ranks poorly in terms of transparency and clarity in business practices, with a corruption percep- tions index of only 3.3 out of a possible 10.The Econ- omist Intelligence Unit gave the Philippines mediocre ratings, ranking it 9th out of 16 economies in the region (table 1.1). 5 The Legal Environment The Philippine legal system is based on civil law and To expand the country's tax base, the government is heavily influenced by the Spanish and Anglo-American adapted a comprehensive tax reform program in late legal systems.An independent judiciary, headed by the 1997. The corporate income tax rate was reduced to Supreme Court, includes an anticorruption Sandigan- 33 percent in 1999 and is scheduled to be cut to 32 bayan, a Court of Tax Appeals, an Intermediate Appel- percent in 2000. Personal income tax rates were restruc- late Court, regional trial courts, and metropolitan and tured into six bands, ranging from 5 to 35 percent of municipal courts. annual income. Although the Philippines has one of the most lib- eral policy and regulatory frameworks for investment in Foreign Exchange Regime Southeast Asia, a recent survey (by the Economist Intel- ligence Unit) revealed that 71 percent of the 21 multi- Foreign exchange regulations were relaxed in 1993 (Cen- nationals surveyed viewed the courts as "capricious." A tral Bank Circular 5). Under the new regulations, for- large majority of survey respondents blamed the unpre- eign exchange can be freely sold and purchased outside dictable court system for the inhospitable investment cli- the banking system. In addition, foreign exchange receipts, mate. Several recent court decisions have been perceived acquisitions, or earnings may be retained and deposited as inconsistent, and some investors have even viewed them in foreign currency accounts, either in the Philippines as corrupt. Decisions regarding the sale of the Manila or abroad.They may also be sold for pesos to any agent, Hotel, the development of the Subic Bay container port, including unauthorized agent banks or agents outside the and the setting of the South Luzon Expressway toll rates banking system. Proceeds of foreign loans and foreign are among a list of questionable transactions that have investments must be sold to authorized agent banks for tarnished the country's reputation. pesos. Under the new rules foreign investments registered Tax Regime with the central bank or with a custodian bank desig- nated by the foreign investor are entitled to full and Investors in the Philippines are subject to both national immediate capital repatriation, dividend, interest, and and local taxes. National taxes include a value-added tax remittance privileges. Without prior approval autho- and a gross receipt tax on certain types of businesses, rized agent banks can sell the forcign cxchange equiv- including electricity and water utilities. Local taxes alent to sale or divestment proceeds, dividends, or interest include a sales or gross receipts tax on certain businesses, of duly registered foreign investments by submitting such as manufacturing and wholesale, a property tax, confirmation document and other required supporting and a community tax. documents to the central bank. Direct foreign equity 6 The Legal Environment investment registered with the Securities and Exchange Policy Forum-a business study group that met with Commission or the Bureau of Trade Regulation and private investors in the Philippines in March 1999- Consumer Protection (BTRCP) is deemed registered investors rank availability of skilled labor and adaptability with the central bank upon the recommendation of of workers in the Philippines higher than they do for either agency. Previously, companies had to apply to the its neighbors, including Singapore and the Republic central bank for approval and registration of their for- of Korea, but report that the rigid labor environment eign investments. Direct foreign equity investments not is one of the greatest deterrents to operating in the required by law to be registered with the Securities Philippines. and Exchange Commission or the BTRCP are regis- tered with the central bank, which issues direct invest- Access to Land ment registration documents. Only Philippine nationals or corporations with at least Labor Issues 60 percent Philippine equity can own land in the Philippines. Foreign investors can lease commercial The laws on labor standards and employment relations land on which they operate for 50 years, renewable for are consolidated in the Labor Code of the Philippines, an additional 25 years.The Investors Lease Act of 1993 as amended by 19 presidential decrees, 8 executive orders, (Republic Act 7652) extended the maximum dura- 4 batas pamnbansa, 13 Republic Acts, and numerous other tion of land leases by foreign investors from 50 to 75 labor-related laws and social legislation that supersede or years. Under the new law, any foreign investor invest- otherwise repeal some of its provisions.Wages and salaries ing capital in the Philippines can lease private land as in the Philippines are high relative to per capita income. long as the lease contract is originally for 50 years, is Remuneration levels are close to those prevailing in renewable only once for another 25 years, the leased Thailand, where per capita income is more than twice area will be used solely for investment, and the lease that of the Philippines, and are significantly above those conforms with the comprehensive Agrarian Reform in Indonesia, which has a similar per capita income (table Law and Local Government Code. Foreigners can own 2.1).The recent depreciation has reduced the wage gap office space as long as no more than 40 percent of a with China andVietnam but not with Indonesia. building is foreign owned. Republic Act 6727 of 1990 rationalized the struc- ture of minimum wage adjustments in order to reflect Legislation on Foreign Direct Investment regional and intraregional disparities in the cost of liv- ing.The minimum wage rates for nonagricultural work- The Philippine government has liberalized investment, ers are determined by the regional Tripartite Wages and deregulated trade, and reformed tax and tariff regimes Productivity Board. to attract foreign capital. Several laws have been passed Gross value-added per worker stagnated across all to encourage foreign investment, starting with the sectors between 1990 and 1995 (Department of Labor Omnibus Investment Code of 1987 (Executive Order and Employment).According to the Washington Sycip 226). The Code, which is implemented by the Board I Table 2.1 Average Wage Levels in Selected EastAsian Countries, 1996 (U.S. dollars) Unskilled workers Skilled workers Technicians Engineers Middle management Country (per day) (per day) (per month) (per month) (per month) China 2.5 - - - ~~~~~~~~~~~~~... . .... ... ..._..... - ... ..... . . ................. ......... . . ... .... .. ................ _ : ............ . . ......... ....... ...... ... .. = ............ . . ................ . ........ ..... Indonesia _0-3.0_6.1 250 380 560 ... .&.0 - ~~~~~~~ ~~13.3 - - 578 _ _1,395 1,992 Philippines 4.0-6.7 7.0-9.2 _ _ 350-550 650-962 1076-1,307 Thailand 5.1-6.1 6.6-7.3 282-560 584-74 700-1,221 vietnarn 1 .3- 1.4 2.2-2.4 100- i .85 195 220 - Not available. Source: World Bank 1997. 7 The Legal Environment of Investments, provides fiscal and nonfiscal incentives to investors in sectors specified in the annual investment priorities plan. Investors are also eligible for incentives offered under the Special Economic Zone Act of 1995 (Republic Act 7916), the Bases Conversion and Devel- opment Act of 1992 (Republic Act 7227), and the Export Development Act of 1994 (Republic Act 7844). The Foreign Investment Act of 1991 (Republic Act 7042) allows up to 100 percent foreign equity partic- ipation in all sectors except those that appear on the Foreign Investment Negative List. The list includes activities reserved to Philippine nationals, either by mandate of the Constitution and other specific laws or for reasons of security, defense, health, morals, or pro- tection of small and medium-scale enterprises.The Sec- ond Regular Foreign Investment Negative List of 1996 (Executive Order 362) specifies that up to 40 percent foreign equity is allowed in public utilities and build- own-transfer (BOT) projects requiring a public utili- ties franchise. 8 ) Build-Own-Transfer and Other Mechanisms The Philippines stands out as one of the few develop- whose capital is at least 60 percent Philippine ing countries that has created an explicit legal frame- owned. work for build-own-transfer (BOT) projects.The policy Preventing the use of explicit government toward private participation in infrastructure was orig- guarantees and limiting the use of public funds so inally prompted by a looming power crisis in the late that no more than 50 percent of the total project 1980s and early 1990s. In 1987 the government passed cost can come through government financial Executive Order 215, which abolished the monopoly institutions. of the National Power Corporation and provided incen- * Delegating Congress' approval authority to the exec- tives for private investors to enter the power sector, utive branch. which was experiencing massive shortfalls in generat- Allowing implementing agencies to consider un- ing capacity. In 1990 the government passed the first solicited project proposals and to negotiate pro- BOT law in Asia (Republic Act 6957). In 1994 that act posals directly with the private sector under certain was replaced with Republic Act 7718, which increased conditions. the number of variants of the BOT concept.The same year the BOT Center was created under the Coordi- Solicited and Unsolicited Build-Own-Transfer nating Council for the Philippine Assistance Program. Proposals The center is designed to facilitate BOT transactions by promoting the country's BOT program and providing BOT projects can be solicited or unsolicited. In the- training and expertise to implementing agencies, local ory, solicited proposals are identified and endorsed by governments, and the private sector. implementing agencies (ministries, local governments, The BOT law has increased private investment in government-owned and -controlled corporations) as infrastructure in the Philippines by: "priority projects" that correspond to the government's * Expanding private sector participation in infra- medium-term public investment program. Projects structure development in sectors other than power, whose costs exceed P200 million require approval from including telecommunications, ports, toll roads, air- the National Economic and Development Authority ports, and water utilities. (NEDA). Once NEDA confirms their priority status, * Relaxing the 60 percent Philippine ownership the projects are advertised for bidding. Pre-qualifica- requirement for operating infrastructure projects tion is usually done before the bid, although the adver- not classified as public utilities. tising of the prequalification tender and the bid can be * Relaxing the requirement that all private sector handled simultaneously for smaller BOT projects. construction contracts be awarded to companies NEDA prefers solicited projects and considers unso- 1 9 I Build-Own-Transfer and Other Mechanisms licited projects as "priority projects" only in exceptional close relationship already established between govern- cases. ment officials and the original bidder during the nego- However, many implementing agencies feel that tiation period. For their part, the implementing agencies unsolicited projects in which investors undertake the often view the challenge as a mere bureaucratic hur- necessary feasibility studies are the only viable way to dle to be cleared to fulfill the Swiss challenge require- get BOT projects started and thus propose very few pro- ments.To date, the Ninoy Aquino International Airport jects to NEDA. About half of the proposals that are sub- International PassengerTerminal has been the only case mitted are deemed incomplete and returned by NEDA in which an investor successfully managed to challenge for revision. The lack of complete proposals reflects a project within this framework. several problems. First, authority over the BOT process is poorly defined.The responsibility of different imple- Private Participation in Infrastructure outside menting agencies overlaps, and there is little coordina- the Build-Own-Transfer Law tion among them. Second, even when institutional responsibility is clearly defined, implementing agen- Agreements for privatizations or joint ventures with cies, particularly at the local level, lack the knowledge state-owned companies can be reached independently and expertise to conduct feasibility studies.The lack of of the NEDA Investment Coordinating Council eval- funds for outside consultants makes it difficult for agen- uation and approval process. Based on their own char- cies to solicit project bids. ters, for example, the Philippines National Railroad, As a result of these constraints, implementing agen- the Philippine National Construction Company, and the cies tend to favor official development assistance financ- Public Estates Authority have the right to grant fran- ing, which appears simpler and more convenient to chises for the construction and operation of road and most implementing agencies. Consequently, most BOTs rail transport infrastructure. In the transport sector, only outside the power sector have been unsolicited. one project went through the official BOT process; To be accepted, unsolicited projects must involve a three major joint ventures were concluded outside the new concept or technology. They must not be listed as BOT framework. In the water sector, before the deci- priority projects, and they must require no direct gov- sion to privatize, the Metropolitan Waterworks and ernment guarantee, subsidy, or equity. All unsolicited Sewerage System received 50 unsolicited proposals, four proposals must receive NEDA approval, regardless of of which resulted in Memoranda of Understanding for the cost.The submission of the bid is made in two sep- the exclusive rights to undertake the technical and arate envelopes, one including the technical proposal financial feasibility studies for specific water source and the other the financial proposal.The technical pro- development projects. posal is evaluated first. Financial proposals are evaluated Since the revision of the BOT law broadened the only for bids whose technical proposals are satisfactory. concept of private participation in infrastructure, sub- Unsolicited proposals are subject to a "Swiss stantial duplication has existed between the roles of challenge"-that is, the responsible government agency NEDA and the committee on privatization. Coordi- must advertise the project for competitive proposal for nation of these projects and BOT projects remains a chal- three consecutive weeks and allow other investors to lenge for the government. make better offers for a period of 60 working days. If a lower-priced alternative is submitted, the original Environmental Protection bidder has the right to match the price within 30 work- ing days. The government is beginning to take environmental pro- In theory, the Swiss challenge overcomes the lack tection more seriously.The Philippines Environmental of competition associated with unsolicited projects. In Impact Statement System (Presidential Decree 1586) practice, however, it is ineffective. Competitors perceive requires that projects that may affect the environment, their chance of winning the contract over the original including infrastructure projects, secure environmental proponent as extremely slim given the limited time for compliance certificates from the Environment Man- them to develop the necessary feasibility work and the agement Bureau of the Department of Environment and I 10 I Build-Own-Transfer and Other Mechanisms Natural Resources. Prospective private investors con- duct environmental impact assessments to ensure that all possible environmental effects of the project are addressed and that the project is consistent with the Philippines' goal of sustainable development. Depend- ing on the location and nature of the project, the prospective investor prepares an environmental impact system or an initial environmental examination. The final report is submitted to the Department of Envi- ronment and Natural Resources together with other documents, such as endorsements of the project from local government officials.After its review, the Depart- ment of Environment and Natural Resources decides on the issuance or denial of an environmental compli- ance certificate, without which the project cannot be implemented legally. A key element of the environmental compliance certificate approval process is social acceptability, which requires prospective investors to secure approval from local communities.The environmental compliance cer- tificate typically includes a number of conditions that the investor must meet during the construction and operation phases of the projects. It also identifies all other applicable environmental laws, regulations, or guidelines with which the investor must comply to ensure the implementation of the project. lIi Financial Institutions The Philippine financial system is classified into two Given its size and expected growth, the long-term broad groups of institutions, banks and nonbanks. Banks, nature of its liabilities, and the limited prospects for a which are supervised by the central bank, are autho- lengthening of the maturity structure of bank deposits, rized to accept demand, savings, and time deposits.They the contractual savings sector is increasingly viewed as are divided into commercial, thrift, and rural banks. a potential and critically needed source of long-term With 83 percent of total financial sector assets (exclud- peso debt finance for infrastructure and industrial pro- ing the assets of the central bank) in 1997, the bank- jects. However, restrictions on investment allocations and ing sector (particularly commercial banks) dominates the the types of admitted assets limit the volume of funds Philippine financial system. Better macroeconomic per- that can be used for long-term lending or investment formance and intensified competition have improved in debt securities issued by private companies. In addi- credit availability and terms. Although most of the tion, government-owned institutions are required to resources available to them are short term, banks have support certain social programs; the Social Security been increasingly willing to meet corporate requirements System has also been compelled at times to buy gov- for credit with maturities of three to seven years. ernment paper at below-market rates. Despite these Nonbanks include insurance companies, investment problems, the pension funds are the largest holders of houses, finance and investment companies, venture cap- commercial paper (insurance companies lead the mar- ital firms, securities dealers, pawnshops, lending investors, ket for privately placed corporate debt). Ongoing and and a variety of other intermediaries and financial ser- proposed reforms in the contractual savings sector are vices firms. The contractual savings institutions include expected to enhance the already important role these the government-owned Social Security System, the institutions play in providing term debt. Government Service Insurance System, and the Home Development Mutual Fund; personal and employer- The Capital Market sponsored pension funds; and private insurance and pre- need firms. The system also includes specialized Stock exchanges have existed in the Philippines for institutions, such as the Philippine Deposit Insurance Cor- many years. Until fairly recently, however, the equity mar- poration, the Philippine Crop Insurance Corporation, ket remained narrow, with limited public participation, the Home Insurance and Guarantee Corporation, and low trading volumes, and a relatively small number of the Philippine Health Insurance Corporation.The largest listed companies. The market was dominated by a few nonbank financial institutions are the Social Security Sys- large issues and subject to considerable volatility in tem and the Government Service Insurance System, trading volumes and prices. Improved political stabil- with combined assets of about P250 billion. ity, the implementation of economic and financial sec- I 12 I Financial Institutions tor reforms, better macroeconomic fundamentals (includ- order to achieve a better match between their obliga- ing declining interest rates), growing international tions and assets. investor interest in emerging markets, and liberalized Because banks remain cautious, most loans have policies for foreign investment have helped vitalize the maturities of two to three years, with the possibility market in recent years. The privatization of some gov- of a rollover if necessary. Loans with maturities of five ernment corporations and the divestiture of government to seven years are provided only to prime corporate holdings in others has also helped increase liquidity clients or to facilities the banks believe are excep- and the number of stocks.As a result of these measures, tionally well collateralized.To avoid interest rate risks, between 1993 and 1996, $5.4 billion in net foreign banks charge floating rates; to avoid exchange rate portfolio investment flowed into the Philippines, mar- risks, they match the currencies of the assets and lia- ket capitalization rose nearly six-fold to $80.6 billion bilities involved. (83 percent of GNP), and turnover rose by a factor of In addition to using a part of their own resources eight to $25.5 billion (IFC 1997). Higher share prices- for term lending, commercial and thrift banks also which lead to higher premiums-made equity issues provide term loans to enterprises under special pro- increasingly attractive to issuers. gram loans from the Development Bank of the Philip- Despite the increase in capitalization, turnover, and pines and the Land Bank of the Philippines. Under the investor interest, however, the market continues to be 1987 financial sector adjustment program, the Philip- accessible mainly to a few large corporate issuers. The pine central bank agreed to gradually eliminate its number of listed companies remains relatively small direct involvement in the management of govern- (216 in 1999, up from 170 in 1996), and the 10 largest ment-sponsored credit allocation programs.These pro- index stocks account for 35 percent of total market grams-which were funded by the government from capitalization. foreign sources or the budget-were the main sources The market for securitized term debt is undevel- of medium- and long-term debt funding. Adminis- oped, as a result of lack of liquidity, the imposition of trative responsibility for these programs was trans- a variety of taxes that undermine both yields and liq- ferred to the Development Bank of the Philippines and uidity, and a history of volatile interest rates. The lack the Land Bank of the Philippines, which were given of liquidity has meant that securities are largely held responsibility for intermediating funds from foreign to maturity. official sources and wholesaling them to other finan- Efforts to develop a Philippine bond market have cial institutions for retailing to individual enterprises been undermined by political and economic crises.The on a back-to-back basis.The hope was that these funds latest efforts began in 1991, with bilateral assistance and would increasingly be supplemented by funds mobi- support from the multilateral financial institutions.The lized from the domestic capital markets and contrac- most important component of this effort has been an tual savings sector. Through this mechanism, private attempt to improve the management of the economy institutions assume only credit risk, not liquidity or by improving fundamentals, reducing volatility, and cut- interest rate risk (since the loans are provided on a vari- ting the fiscal deficit and the government's need to bor- able rate basis). row, thereby lowering interest rates. In addition, the Limited additional term credit is also available from government and the central bank have sought to estab- investment houses and financing companies. A more lish benchmarks for other issuers and offer investors a important source of credit is the private placement wider choice of instruments and terms through the market. Much debt is placed with insurance companies phased issuance of first floating- and then fixed-rate trea- through investment houses and other intermediaries. sury notes of lengthening maturities. Other measures Other investors include trust funds, corporations, and include efforts to rationalize taxes and duties and improve societies with investment funds. the functioning of the secondary market to increase liq- Large corporations have the option of tapping the uidity.There are also plans to reform the contractual sav- domestic securities market by issuing commercial paper. ings sector to encourage social security institutions and Exceptionally strong prime corporations may also be pension funds to invest in longer-term instruments in able to tap international capital markets. I 13 Financial Institutions Public Sources of Debt Financing government financing. As of March 1997 the Philip- pine National Bank had total outstanding loans to local Traditionally, local governments have turned to gov- governments of P11.4 billion for 225 projects. The ernment financial institutions, primarily the Develop- national capital region accounted for 56 percent of the ment Bank of the Philippines and the Land Bank of total volume of loans. Before passage of the Local Gov- the Philippines, for their short- to medium-term credit ernment Code, private financing for local government finance requirements. Since 1985-when unpaid oblig- projects was nonexistent. Recently, commercial banks ations by local governments to government financial have been changing their attitude toward lending to local institutions rose to P2.1 billion, triggering a cessation governments in the face of growing market opportu- of lending by government financial institutions-the nities at the local government level, the presence of a national government has carried out a debt relief pro- legal framework for local government financing, and gram that allows government financial institutions to increasing comfort with more sophisticated financing resume lending operations.As of March 1997 the port- structures. Establishment of a guarantee facility, like the folio of loans granted by the Development Bank of the one that is being established by the Development Bank Philippines and the Land Bank of the Philippines to local of the Philippines, in cooperation with private banks governments amounted to some P12.0 billion. The could help promote greater private financing of local Land Bank of the Philippines, the larger lender of the governments. two, held a portfolio of infrastructure financing of The Province of Cebu pioneered local government P7.076 billion, skewed heavily toward Luzon and the bond flotations in July 1990, when it issued a P300 mil- national capital region, which received more than 50 lion three-year, tax-free equity bond at an interest rate percent of lending to local governments.Terms of lend- of 16 percent, with five equal semiannual principal ing ranged from three to five years, although some loans repayments. Five more bond issues were also floated, had maturities of up to seven years. all in the housing sector. All five issues had maturities Official development assistance-either from mul- of two to three years and paid 14-16 percent interest. tilateral financial institutions channeled through the Since 1990 few bond issues have been floated by sub- municipal development fund or from loans made avail- sovereign local governments. able through financial intermediaries or bilateral agencies-is another major source of public debt financ- ing. Total loans extended under the Municipal Devel- opment Fund amounted to P10.7 billion as ofJune 1998 and included several infrastructure projects. Among bilateral sources the Overseas Economic Cooperation Fund has played a major role in providing conces- sionary long-term lending to water districts through the Local Water Utilities Administration (LWUA), cre- ated in September 1972 under the Provincial Water Util- ities Act. As of February 1998 the LWUA had granted loans of about P12.3 billion to 462 water districts. However, the LWUA's financial position has deterio- rated significantly since the national government dras- tically reduced its financial support through subsidies. Private Sources of Debt Financing Private commercial banks, municipal bond flotations, and the Philippine National Bank, which was privatized in May 1996, are the potential private sources for local I 14 Decentralization and Institutional Capacity ./ The lack of institutional capacity in the Philippines has significant opportunity to expand infrastructure devel- become problematic as private participation has opment throughout the country. Severe constraints pre- expanded beyond the power sector into water and vent local governments from becoming credible transport. Two factors contributed to successful imple- borrowers and business partners, however. The shift in mentation of 25 BOT projects in power generation. First, accountability to local governments requires a com- the process was highly centralized, and it was carried mensurate adjustment in the overall philosophy governing out by a small number of staff within the National the management of resources and the measurement and Power Corporation. Second, the setting of similar tech- assessment of financial performance. Local governments nical standards for power plants meant that contractual should adopt commercial financial management prac- arrangements could be standardized, thus eliminating tices and reporting principles and shift away from appro- the need to enter into long negotiations. These condi- priation accounting principles, which essentially measure dions are not easily applicable to water or transport. performance purely as a control on spending. This shift Since adoption of the Local Government Code of is particularly important if local governments seek to enter 1991 (Republic Act 7160), local governments have been into third-party transactions, such as debt financing, in given substantial financial autonomy to undertake invest- which their creditworthiness will rely in great part on ment transactions previously handled by the national the accuracy, interpretation, and strength of their finan- government. Once the BOT Law enabled implement- cial statements. As decentralization proceeds, local gov- ing agencies, including local governments, to develop ernments will be called on to provide their own private projects, the institutional structure of the BOT guarantees to private sponsors and financiers.Their abil- framework expanded drastically-without coordina- ity to do so will rest heavily on their financial standing tion among the Philippines' 75 provinces, 65 cities, and and creditworthiness. 21,000 municipalities. At each level of government, Local resource mobilization has been declining since several agencies-including port and airport authori- 1991, as a result of increases in internal revenue allot- ties, local offices of the Department of Transport and ment allocations and low tax assessments and business Communications or the Department of Public Works tax compliance. A World Bank analysis revealed that and Highways, water districts, and mayor's offices-are local governments can improve their financial perfor- responsible for the various infrastructure sectors. mance by expanding their local rcsource bases and The Local Government Code of 1991 enables local leveraging their resources. Incentives to improve finan- governments to raise revenue and assume debt as a cial performance at the local government level should means of leveraging their financial resources in order to also be emphasized and incorporated in the internal rev- expand their investment envelope.This shift provides a enue allotment formula. 15 Decentralization and Institutional Capacity The Local Government Code of 1991-the legal framework for local government financing-provides for the following sources of finance: * Internal revenue allotments, which transfer 40 per- cent of national internal revenue taxes to local gov- ernments based on fixed percentage allocations. * Local taxation (primarily property and business taxes and licenses). * Credit financing, debt service on which should not exceed 20 percent of the regular income of local gov- ernments. Local government units need not seek the Department of Finance's approval before submitting bank credit applications, and they need not have their borrowing capacity certified by the Commis- sion on Audit. * BOT schemes. The main source of local government finances has been internal revenue allotments. Under the fixed per- centage allocations, provinces receive 23 percent, cities 23 percent, municipalities 34 percent, and barangays 20 percent. Local government units' allocations are based on population (50 percent), land area (25 percent), and equal sharing (25 percent). Over the years the share of internal revenue allotment as a percentage of total local government revenues has been increasing, as local gov- ernments rely heavily on block grants rather than devel- oping their own internal funds through property taxes and licenses. The internal revenue allocation formula heavily favors large cities, which have more financing capacity than smaller towns and can achieve greater scale economies in their investment programming. Inter- nal revenue allocations to small towns are insufficient to finance even the basic core municipal services, thus impeding the development of infrastructure in smaller conmuiunities. In view of these problems, the national government should rethink its internal revenue allot- ment formula, graduate large cities, and prioritize allo- cations to smaller communities, which have fewer financing options than larger communities for devel- oping their infrastructure. 16 A1-t,> w ge i 1E' C'~T )fB RiA, L, Rno ff.:W X tPPower The Philippine power industry comprises vertically to the small island grid. Installed capacity was more integrated generation and transmission subsectors and than sufficient to meet peak demand in 1998 of 4,863 an independent distribution subsector, made up of megawatts in Luzon, 706 megawatts inVisayas, and 852 several larger private distributors and many rural coop- megawatts in Mindanao, which together represented eratives (figure 6.1). The National Power Corpora- about half of installed capacity. Before 1993 NPC pro- tion (NPC), also known as NAPOCOR, is the duced power solely from its own power plants. Between country's major generator of electricity. It generates 1993 and 1998 the generation sector evolved from a electricity from its own power plants and purchases monopoly to a monopsony of NPC to a de facto electricity from independent power producers. It is cur- deregulated sector in which private power producers rently owned and controlled by the government, can sell electricity to distributors and large industrial although its restructuring and eventual privatization users. In 1998 NPC sold 37,933 gigawatts and gen- is underway. erated 40,941 gigawatts of power-equivalent to 94.5 Electricity is sold wholesale to distributors and deliv- percent of the country's electricity requirements. Half ered through NPC's transmission network. Distributors of its generation in 1998 was through power plants it supply retail customers. In addition to buying electric- owned and operated and half through purchases from ity from NPC, they also purchase power from inde- independent power producers. In 1998 installed gen- pendent power producers for sale to end users, such as erating capacity of plants owned and operated by NPC households, industrial plants, and commercial estab- was 6,455 megawatts and capacity by the independent lishments. Several industries are connected to the trans- power producers contracted by NPC was 5,533 mission network and purchase electricity directly from megawatts, for a total generation base of 11,988 NPC. Other industrial users self-generate some or all megawatts. In addition, some 518 megawatts of pri- of their electricity. vately owned installed generation capacity served dis- tributors or acted as self-generation. Physical Performance The leading source of power in the Philippines is oil, which accounted for 40 percent of total generat- Total generating capacity in 1998 was 11,988 ing capacity in 1998. Other sources of power include megawatts, 8,619 megawatts of which (73 percent) hydroelectric power, geothermal power, and coal and was in Luzon.Visayas had 1,554 megawatts of gener- gas turbines (figures 6.2 and 6.3).Access to power and ating capacity; Mindanao had a capacity of 1,552 per capita energy consumption are higher in the Philip- megawatts. The remaining 263 megawatts of capacity, pines than inVietnam and Indonesia but lower than in which is scattered throughout the archipelago, belongs Malaysia and Thailand (table 6.1). ' 17 Power | Figure 6.1 1 Structure of the Philippines Electricity Supply Industry Policy and Regulatory Institutions National Electrification Energy Regulatory Board Department of Energy Nadion tration l ~~~~~~~~~~~~~~~~Administration Operators 00|1; Consumers | 1P| Source: World Bank staff. Tariffs and Financial Performance NPC, the main player in the sector, is the largest cor- poration in the Philippines In 1998 it had sales of P86.6 The largest private distributor in the Philippines is Mer- billion and assets of P646 billion, on which it earned a alco, which covers Manila and the surrounding area. Its 4 percent return (table 6.4). Between 1994 and 1997 retail tariff is based on systems losses; operating and NPC's net operating income averaged P12 billion, and maintenance expenses; the cost of power purchased its net income averaged P5 billion a year. In 1998 it posted from NPC and its independent power producer, Dura- a net loss of P3.6 billion and recorded total liabilities of corn; and the allowable return on its rate base. Embed- P517 billion (figure 6.4).The Asian currency crisis high- ded in the distributor's retail rates are cross-subsidies of lighted NPC's heavy dependence on foreign loans. residential and street lighting consumers by industrial Meralco, which supplies about 60 percent of all and commercial customers (table 6.2). electricity demand in the Philippines, is the other key For electric cooperatives the retail tariff is based on player in the sector.A publicly listed corporation, it has system losses, operating and maintenance expenses, the been cited as one of the best-managed firms in Asia. It cash required to cover power purchased from NPC, weathered the Asian crisis more successfully than NPC, alcortization of debt to the National Electrification albeit with difficulties (figure 6.5 and table 6.5). Administration, and a provision for reinvestment. The markups of these rates, which ranged from 74 to 115 Current Private Participationr percent over the NPC rate, were much higher than those of Meralco, which averaged about 33 percent Private sector participation in the generation sector began (table 6.3). in 1988, when NPC signed its first BOT contract with 18 Power | Figure 6.2 | Sources of Generating Power, 1998 | Figure 6.3 | Generating Capacity by Type of Plant, 1988-98 Gas turbine Megawatts Hydro 1% I S,000 13% 1 12,000 Gas turbine Geothermal 22% 9,000 Geothermal Coal 6,000 Oil 40% Oil 3,000 Coal Hydro 24% 0 Coal / 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 Source: Department of Energy, Philippine Energy Plan, 1998. Source: Department of Energy, Philippine Energy Plan, 1998. | Table 6.1 | Power Sector Indicators for Selected EastAsian Countries, 1997 Percentage Installed Annual per capita of households generation capacity Electricity generation energy consumption Country with access to power (megawatts) (gigawatts) (kilowatts) Indonesia 39 14,327 61,199 315 Malaysia 92 .3.19 45 . _452,032. ines 65 11,752 . 39815 542 . . -1,_.. .......__ . .... , . ,, . ... . ..... ,-,._ - - - - - - ........ ..... _. ........ I. .... . ....... ._.,,..... _.... , . ...... ... .... . ..... . Thailand 87 _ 13,003 .80,068 1,294 Vietnam 15-50 4,890 19,151 161 Source: Astan Development Bank 1997. Table 6.2 Average Power Rates Charged by National The master plan for the country's power devel- Power Corporation and Meralco, 1998 opment was based on this new thrust. NPC prepared a private power program, which became part of the Type of customer Rate Power Development Program. Eventually, a group of Ratescharged byNPC power projects totaling 1,016 megawatts was identi- Meralco __ 2.70 .... 2.82 fied and packaged together.These fast track projects Rates chorged by Meralco wiped out the 1,000-megawatt capacity deficit by ResideRntiNa,.l.,,,,,,,,,,,,_, .,,_,,,,,_ _ 4.16 . __ the end of 1993. Still concerned about lack of ade- Commercial 416 Industrial 3.64 quate capacity, NPC embarked on the insurance capac- tsr.........I..h.ts . . ............ ity program. That program involved a five-year ...........................................A.verag .. ....................... .... ..........- 4.00 operating lease arrangement for power barges and Average markup 33 percent Source: National Power Corporation and Meralco. skid-mounted generating facilities built under a build- own-operate (BOO) scheme. Almost all additional Hong Kong's Hopewell Energy Management, Ltd. for generation capacity has been undertaken through the construction of two 110-megawatt turbine power BOT and related schemes (the exception was the plants in Luzon, which became operational in 1991.To 600-megawatt coal-fired Masinloc power plant, the complete other power projects quickly, NPC looked to last plant to be constructed and funded by NPC).To the private sector, which had the capital the Philippine date some 33 private power projects have been public sector lacked.As of 1999 NPC had contracted with awarded, initially through negotiation but later through several independent power producers (table 6.6). bidding procedures. ' 9 Power Table 6.3 Rtil Power Rates of ElectricityCooperatives in Luzon,Visia , adand Mindana,january 1999 Rate Luzon Visayss Mindana Average rate charged by NPC Ele i c2 '82 258 155 Industries 0.94 2.34 1.82 Residential _:5.13 : 4.53 ::i::S 3.3 4 X J n ii...... 7 ....... ... _....... ._ ......6.... . -. -, - - ----- --- .. ...... ................ 5...3 134..,k ...: ..,.. ...... -.. .U ......... .......... - ........ ..... . ..... ..._..... ..... ., . ..... ................ . . ..... . . ...... . ......... - - -... . . . ...... . . . ..... Commercial 5.19 4.57 33 --___ .-1.. ._ - ............ . 4 , _. ,......_, Industrial 504.63 3.38 Stree~~~~~~~~~~~~~~hts . - . .~~~~~~~~~~~~~~~ . .~~~5.05 4.50 3,33 ~~~~~~~~~~~.......... .. . . ..........- ....... . . ., . ....... .. . . ...... ........ ... ..., . ............ .... ., , _ ..... ....... . . . .. ............. . ... .......... .6..i.. - ..-,.~.- -~ ........ . .. ......... ....... Averag~~~~~~~~~~~~~~~~~~~~~~ -~~~~~~~~~~ ~~~5.12 . - . - - 0.49 0.4 - Diflerence Pes_per ikilowatt _2_9 1.90 1 79 Percent 8 1 74 115 Source: National Electification Administration. Table 6.4 | Financial Indicators for National Power Corporation, 1993-98 Indicator 1993 1994 i 995 1996 1997 1998 E,l,,,ect,dri ,city sales 2 43gigawatt,, 24 5. 28,746 31,031 33,381 .36,442 38.067 Return on assets (percent) 5.91 8&32 7.26 8.2 7.3 40 _ on(en)_........... ......A...... - _ . ................ .. . ........,, ....,.5..9 .-. ,,,, .,, . ............. ...... ,,,.,, ,, ....7,,, .... -_ ....... . ..... 7.- _ . ._ - Retumn onequity (percent) _ 1.89 7.16 3.69 16.7 8.0 -7.2 Debt service coe ratio perem_89 126 127 120 90 92 -& ~ _ -_s_P r !N _ ....... . ..... ,. ., ....... .. _._ . ... .... , I. . .......... . . .. ...... ........ .. ... ,__..... ... ..... . - ..;.._ ...... ,_.... ........... . . ...... .......... - -.... .... Curen asets to current 6 litbitie-------(-er---nt----69 6557 - 60 - 252 , Ratio of debt to equ_ty 86:14 78:22 84:16 90:10 93:7 94:6 s _sJoes .(pent) 6.8 6.1 6.86.3 5.9 . 6. Station use 4.0 3.4 3.4 3.5 3.5 3.5 ~~~~~~~~~~~~~~~~~~~~~~~~~~....... j.... -.-..------'----'--'"''"''"'""'''"''''''-2o T sion loss .8 2.7 3. 2.8 2. 2.9 Note: Figures for 1993-97 are audited. Figures for 1998 are unaudited. Source. National Power Corporation financial statements. I Figure 6.4 Changes in National Power Corporation's | Figure 6.5 Changes in Meralco's Balance Sheet, 1993-98 Balance Sheet, 1993-98 B n p sillion pesos Bilihon pesos 800 80 700 600 Asse 60 500 iability 400 40 E 300 20 200 ~ qiyLiabilit' 100 01993 1994 1995 1996 1997 1998 1993 1994 1995 1996 1997 Sounce: National Power Corportion financial statements. Source: Audited financial statements of Meraico. Future Demand and Private Participation cent in 1998,4.46 percent in 1999, 5.2 percent in 2000, and 6.10 percent after 2000. Based on these growth rates, Opportunities for new private investment in the power NPC has projected demand for electric energy and capac- sector depend heavily on how fast the economy grows. ity through 2010 (table 6.7). NPC's Power Development Program for 1998-2010 is While systemwide demand for both energy and based on the National Economic and Development capacity is projected to grow at almost 9 percent a year, Agency's (NEDA) GDP growth rate targets of 2.41 per- NPC's load is expected to grow at an annual rate of only 1 20 I Power Table 6.5 Financial Indicators for Meralco, 1993-97 Indicator 1993 1994 1995 1996 1997 Electricity sales (gigawatts) 12,251 14,555 15,876 17,810 19,180 ............... __.__. ._. .....___...__........... ___............ . .. _._ .. _ _........ _._........_ Return on empty (percent).7.24 14.4 13.98 12.72 12.39 Ratio of current assets to current liabilities 1.50 1.86 2.01 L.89 1.45 i tio of d eb to -1-9-81 - 178 148 -:8 78 Return on rate base (perce _ 7.60 13.31 13.40 12.80 System losses (percent) 15.60 14.80 13.02 12.39 12.40 Source. Audited financial statements of Meralco. Table 6.6 1 National Power Corporation Projects under Implementation Project Cooperation Commercial Contract Capacity cost (US$ period operation expiration Project Operator Type (megawatts) millions) (years) date date Casecnan hydro eletric plant National Irrigation PPA 140 470 20 January 2000 January 2020 Administration ,........ . ......... ......... . ............... ......... . ...... . . ............... . .. _ . ..... . . . . ....... __ ... _._ ........... _._. Natur ga .p jec _ KEPCO _ BOT_ 00__ _ 960u ra 2 Sual, Pangasinan coal Hopewell Holdings Ltd. BOT 1,000 1,300 25 March 1999 fired power plant (Phase I) June 1999 June 2024 _ . . . . . . ...................................... - . . . . . . . . . . . . . . . . . . _ ..... _ . _ . _. Mindanao II !gt.Apoj Geo_. PNOC-EDC PPA 48.25 152 25 Jyi ! Bakun A/B and C HEP NMHC/Ever/AEV/ BOT 65 83 25 January 2000 January 2025 Pacific Hydro San Pascual cogeneration plant San Pascual Cogen BOO 304 400 25 June 2001 June 2026 Co. Interational Pagbilao coal firedTPP Hopewell Energy Ltd. BOT - 700 888 30 April 1996 (Phase I) June 1996 June 2026 liraa tocan-.alya H IMPSA BROT 640 450 25 January 2004 Jany Mindanao coal-fired plant I State/Harbin BOT _ 00 310. . ..Januryi004 January 2029 Timbaban SALCON BOT 29 39 25 Janzuary 2003 January 2028 ............... ..... .. _ .................................... ................. ........ ...................... . . . . ................. . ... VillaSJa _ _SALCON BOT 32 37 25 lanuary 2004 Januay 2029 Tagob>an .il_ HEDCOR BOT 68 106 25 y Bulanog-Batan Under negotiation BOT 132 205 25 January 2005 2030 ............ . ................ . . ............. ...... .... . ....... __................. .. . ................... . _._ ....... . . .... ............. P!~&uln V - . -. Under negotiation BOT 225 363 25 January2005 January 2030 San Roque multipurpose HEP Marubeni/SIT BOT 345 789 25 January 2005 January 2030 HE/Italian-Thai PPA-Power purchase agreement BOT--Build-own-transfer BOO-Build-own-operate. BROT Build, rehabilitatie, operated, and transfer Source: National Power Corporation. 5 percent. As market restructuring takes place and new In addition to projects under construction, NPC players enter the market, NPC's market share is projected plans to add some 8,417 megawatts of generating capac- to fall from 94 percent in 1998 to 81 percent in 2000 ity (table 6.8). About 5,460 megawatts, or 65 percent and 58 percent in 2010. of the additional capacity, will be added between 1998 These forecasts were based on the GDP growth rate and 2005.About 4,100 megawatts of additional capac- targets issued by NEDA in January 1998. In September ity is already under construction and bid evaluation.The 1998 NEDA lowered medium-term projected growth 600-megawatt Masinloc coal-fired power plant will be rates to 3.5 percent in 1999, 4.5 percent in 2000, 5.5 the last NPC-owned plant to be put on stream.All sub- percent in 2001,5.6 percent in 2002,6.3 percent in 2003, sequent capacity additions will be undertaken through and 7.0 percent in 2004. In January 1999 it reduced its BOT and related schemes. short-term GDP growth target to 2.6-3.1 percent for Ilaguen B and Asiga's price negotiations have failed, 1999.This decrease in GDP growth rates will have a sig- and the bids have been rejected.The bid for Pugu was nificant affect on NPC's demand forecast. also rejected after the lone bid was found to be defec- 1 21 Power Table 6.7 | Base-Case Forecast of Demand for Electric Energy and Capacity through 2010 Average annual item 1998 2000 2005 2010 growth rate (percent) Energy (gigawattts) (GWh) Syste .m .....40.. 40,170 . 46,335 72,193 111,885 8.9 NPC 37,880 37,498 48,778 65,227 4.9 Cpcity (megawatts) System _ _ _ 6,984 8,097 12,473 1_ 19,305 89 NPC 6,573 6,779 8,760 11,782 5.0 Sounre National Power Corporation Power Development Program 1998. tive. Addalam's price proposal was never opened after Policy and Regulation the technical evaluation because the project was deferred. The only project still to be implemented is the 200- Several institutions regulate the energy sector in the Phil- megawatt combined cycle plant for Mindanao. NPC has ippines. The two most important institutions are the yet to identify 300 megawatts of additional capacity in Energy Regulatory Board and the Department of Visayas. The remaining 2,957 megawatts for 2006-10 Energy. will consist of 257 megawatts of hydro plants, 1,350 megawatts of baseload plants, 550 megawatts of mid- Energy Regulatory Board range plants, and 800 megawatts of peaking plants. In Prices are regulated by the Energy Regulatory Board, addition, an annual allocation of 50 megawatts for new which regulates both NPC's bulk supply tariffand the and renewable energy systems (solar, wind, tidal, and distributors' retail end-user tariff. Before the board was other renewable sources) has been provided on the created, NPC was responsible for setting its own bulk condition that prices are reasonable. supply tariff, the National Electrification Adminis- Most recent contracts have been competitively bid tration regulated the retail rates of the rural electric (in contrast to some early contracts, which NPC nego- cooperatives, and the Energy Regulatory Board reg- tiated with independent power producers).The standard ulated the retail rates of private electric utilities. NPC contract is an energy conversion agreement, under The Energy Regulatory Board was established in which NPC purchases all fuel and pays the generator 1987 under Executive Order 172. Its powers include for converting it into electricity at a predetermined heat fixing and regulating the rates of petroleum products, rate. Although the industry is moving away from this type piped gas by franchised gas companies, pipeline con- of agreemenit toward agreemenits in which plants accept cessionaires, and electric utilities and NPC. Since the some market risk, several energy conversion agreements oil industry was deregulated, the Energy Regulatory are being planned (see table 6.8). The industry is also Board's primary responsibility has been to fix and reg- witnessing substantial natural gas development (box 6.1). ulate power rates.This role was enhanced under Exec- | Table 6.8 1 Planned and Deferred National Power Corporation Projects, as of 1998 Capacity Planned date for Project Type (megawatts) Fuel commercial operation Projects in the pipeline Mindanao combined cycle plant BOO Single cylce- 135 Condensate Single cycle-January 2001 .~~~~~.- _ ~~~~~~~~~ Corbn.d.cycle 200 Corbn.eod.cycle-February.2002 .... . . . . .............. . .. . . ........... ..... . ................. . . ............. . . . . ............ .... . ................ . . . . . . .......... _......... . .......... ... . . ...... ...... .......... C o b i e c y c l - 2 0 ........l F b r a r 2 0 Panav coal-firedp!iant BOO f 00 Coal Januay 2004. Samarcoal-ftrd_B Coal January 2005 us Il HEP BOT 225 _ J 20 Deferred projects llaguen B BOT 88 Hydr-o 2008 ~~~~~~~~~~~~~~...... .. _......__... ............. ...... _........... ... .................... . ... ............. ........... ......... .. .......... _... ....-...... ....... . ......... ....... _... Asjga BOT 11.3 Hydro 2008 ~~~~~~~~~~..... ..... . .. ..... ......... ..... ....... ..... ... .... ...... ......... ...... ...- ----. ......... .. ... .... . ..... ... ... .... _ ...... ............. Pgu _ __ _ BOT _ 52 2008 Addalam BOT 46 Hydro January 20005 Source: National Power Corporation. 22 I Power utive Order 215, which gave the board jurisdiction for Department of Energy reviewing and approving tariffs for wheeling, back-up, The Department of Energy was established in 1992. Its and maintenance power, incremental private sector gen- functions are to prepare, integrate, coordinate, super- erating facilities power, and reserve capacity fees; arbi- vise, and control all plans, programs, projects, and activ- trating disputes between NPC and private sector ities of the government related to energy exploration, generating facilities over matters that have implications development, utilization, distribution, or conservation. for power rates; and reviewing and approving inter- The department's objective is to meet the sector's socio- connection agreements between private sector gener- economic and environmental goals while ensuring the ating facilities and NPC or any electric utility. reliability and security of an economic supply of energy The Energy Regulatory Board sets the bulk sup- through optimal use of indigenous resources, efficient ply tariff so that NPC earns an 8-12 percent rate of and judicious consumption of energy, and encourage- return on its rate base. It also uses a return-on-rate- ment of private sector participation in the sector. base pricing methodology to set end-user tariffs for Among the department's four bureaus, the Energy private electric utilities. It uses a different methodol- Planning and Monitoring Bureau and the Energy Indus- ogy to set tariffs of the rural electric cooperatives, try Administration Bureau are most relevant to the elec- which are allowed to recover the costs of their annual tric power industry.The Energy Planning and Monitoring cash flow. Acceptable expenses include the cost of Bureau is responsible for preparing the annual Philip- purchased power from NPC as well as the nonpower pine energy plan. It requires the NPC and electric util- costs of administration, billing, operation and main- ities to submit power development plans. The Energy tenance, amortization of loans from the National Elec- Industry Administration Bureau is responsible for: trification Administration, and provision for * Promoting competition in power generation. reinvestment. Systems losses can be recovered through * Accrediting private sector generating facilities, includ- the tariff. For fiscal 1996 allowable system losses were ing those that will be used solely for self-generation capped at 22 percent. That ceiling was reduced by 2 by nonutilities. percent a year until 2000. . Monitoring private sector generating facilities' com- pliance with standards and revoking accreditation for Box 6.1 Development of Natural Gas in Malampaya noncomplance. I I * Handling nonprice regulation of generators and dis- Shell is developing a new gas field at Malampaya at an estimated tribution utilities. cost of $4-$5 billion. Reserves in the Malampaya gas field are . Resolving nonrate disputes between NPC and pri- estimated to be sufficient to provide a continuous supply of vate sector generating facilities. 400-450 million cubic feet per day of gas over 20 years with . Monitoring NPC direct connections. total reserves of about 3 trillion cubic feet.The exploration and . Ensuring that distributors comply with technical exploitation service contract under which the field is being and financial operation standards. developed provides exemptions from many of the typical pro- * Determining power purchase rates. Together with visions included in a concession agreement. Gas production is based on contracted demand for power generation of about the Energy Review Board the Energy Industry 3,000 megawatts. Production is expected to commence in 2002. Administration Bureau is responsible for formulat- KEPCO, a Korean company, is building a 1,200-megawatt ing a standard methodology for calculating the cost combined cycle plant, which it will sell directly to NPC through NPC avoids by purchasing power from a private sec- a power purchase agreement. First Gas Power Corporation, tor generating facility or electric utility. For power a joint venture between a Philippine firm and British Gas, will produced from indigenous or renewable sources, build a ,020-megawatt and a 51 0-megawatt combined cycle the Ener Indus Administration Bureau need not plant.The output of both plants will be sold directly to Mer- ai ctry alco through a power purchase agreement. First Gas is also usecthe avdedicostnmethodo to setntifs. planning to set up a local gas distribution and transmission * Collecting and disbursing funds to communities in network. which energy facilities are located (as required by energy regulation 1-94). These funds are intended Source: World Bank 1997. for rural electrification, environmental protection 23 Power and enhancement, and income-generating activi- E * ale69 Allocatio f Risks itn them TypiclEeg ties identified by the beneficiary communities. Conservation Aeent i Erg Risk Allocation Category Risk borne Risk borne of rsk by goverinment bI dters Consftruction tost [ ]~~~~~~~~~~~~~~~~~~~... ..s . . ...... . . ......... Historically, the allocation of risks between private sec- Interest rate : tor generators and the government was favorable to Operation and ratntenance ct_ . investors.With the exception of construction costs and C.hange in.cost.of_eq_ ty some risks associated with the efficiency of operation Demndi and availability, the government has borne virtualy al .ah'ate .....; risks (table 6.9).Traditional BOT projects create liabil- Avalabilt, convertibi transferability / ities for NPC and contingent iabilities for the gov- R.etailtriff _ ernment as the guarantor of NPC's obligations. Sovereign jd B k st ff / Q tNo iv eminent as the guarantor ~~~~~~~~~~Source. World Bank staff. NPC's independent power producer program has increased generating capacity, and it has been cited as exchange convertibility if favorable investment grade an example of successful cooperation between the gov- ratings are sustained. ernment and the private sector. The program has put * Termination of the early completion bonus. financial strain on NPC, however. In addition to trans- * Exclusion of change in law as a trigger for buyout. ferring certain risks to private parties, the move from * Shift of fuel supply risk to the concessionaire. publicly to privately financed projects shifts liabilities * Redefinition of political force majeure as force off NPC's balance sheet.The capital lease value remains majeure beyond the reasonable control of parties if on the balance sheet, however, increasing NPC's lia- NPC is privatized. bilities by P230 million in 1998 (44 percent of total * Replacement of unsolicited proposals with com- liabilities). petitive bidding process. For most BOT contracts, the government negotiated the best terms it could given circumstances prevailing at the time. These contracts were negotiated under the assumption that NPC would continue to be a monop- oly with the ability to pass on its costs to consumers. The various BOT contracts have been reviewed by NPC, which found that none of them can be modified without incurring subsantial penalties. A major weakness of independent power producer (IPP) contracts is the contractual buyout obligation, amount- ing to $7.85 billion (based on consultant estimates assuming a total buyout of 45 executed contracts using a discount rate of 10 percent). Because in most cases NPC cannot exercise its buyout option, it has no choice but to wait for these contracts to expire unless the independent power producers voluntarily agree to NPC's request for renegotiation. Nonetheless, several contract improvements have been undertaken by NPC in new contracts: Limitation of the government guarantee against fun- damental risks, such as political risks. Phase-out or elimination of the government guarantee on pro- ject agreements and the guarantee on foreign 1 24 7 jWater and Sanitation The water sector currently encompasses four main sys- areas to establish water districts in order to source, oper- tems, each with its own legal basis and oversight respon- ate, maintain, and expand water supply and waste water sibilities (figure 7.1). In metropolitan Manila the disposal systems. The Act also created the Local Water MetropolitanWaterworks and Sewerage System (MWSS) Utilities Authority as a special lending agency for the is responsible for water supply. In other urban areas, water sector. As of February 1998 the Local Water Utilities utilities are operated and managed either by autonomous Authority had granted concessional loans of P12.3 bil- water districts financed by the Local Water Utilities lion to about half of all water districts. Authority or as municipal departments of the mayor's In the 1970s about 500 water districts were estab- office. In private housing developments and subdivisions, lished in municipalities ranging from large secondary water supply systems are operated as private utilities cities to towns with fewer than 100,000 residents.Water under the supervision of the NationalWater Resources districts today range substantially by size. The smallest Board (NWRB). serve several hundred households.The large metropol- itan water districts, such as the Cebu Water District, serve Market Structure about 300,000 customers in three adjoining munici- palities. Davao, Cagayan de Oro, and Baguio City are Metropolitan Waterworks and Sewerage System also large water districts. The Metropolitan Waterworks and Sewerage System Financial problems have continued to plague water Charter of 1971 (Republic Act 6234) mandates that districts. Fewer than 100 water districts are currently con- MWSS operate and maintain water and sewerage services sidered financially or economically viable, and most lack in metropolitan Manila as an autonomous government- adequate financial capitalization for coverage expansion. owned and -controlled corporation.The system's service By law, board members of water districts are appointed area covers 11.3 million people, 8 cities, and 29 munici- by local mayors if more than 75 percent of the water ser- palities, including the Rizal Province and parts of the vice connections are within the jurisdiction of the munic- Cavite Province. As of 1997 MWSS provided service to ipality. In al other cases, the board is appointed by the 7 milion people, or about 10 percent of the country's pop- provincial governor. Service areas of water districts gener- ulation. In 1997 the government privatized MWSS by aly coincide with the boundaries of municipalities, which awarding two private concession contracts. makes it difficult for water districts to achieve economies of scale or be consistent with river basin boundaries. Water Districts Although local governments abdicate their powers The Provincial Water Utilities Act of 1973 (Presiden- when establishing the water districts, in practice they tial Decree 198) allows local governments in urban exercise a great deal of indirect influence through the 1 25 Water and Sanitation | Figure 7.1 | Organizations Involved in theWater Sector epartment o epartment o Public Works Interior and and Highways cal Governments Implementation Chair Chair Chair Supervision Rural point MWSS source board of trustees development MWSS Local Water National Water regulatory office Utilities Resources Authority Board __ Regulation Appointment Franchise permit A Water permit Water lending permit Appeals ~~~Technital asaiatance AppealPilpne regulation Qpanel>/ Concession court agreement Frnhs emtA Appointment Franhisep tAppeal I ~~~~~~~~~~~~regulation MWSS Water dtisricts Private utilities Local concessionaire _ governments Source. Authors' compilation. appointment of board members.While the law is silent municipality. Since the enactment of the Local Gov- on who actually owns the assets, in 1991 the Supreme ernment Code (Republic Act 7160) in 1991, mayors Court ruled that water districts are government-owned have acquired the ability to finance water supply sys- and -controlled corporations.The ruling has encouraged tem expansions. About 1,000 local governments now private investors to seek out national government guar- operate vertically integrated water supply systems with antees for proposed investments, most of which have 1,000-1,500 connections. been in the form of bulk water supply BOTs. Most of The Department of Interior and Local Governments the 100 pending Memoranda of Understanding for encourages local governments to privatize the delivery BOT projects in the water sector are within water dis- of basic services, including water supply, through con- tricts, although very few are coming to closure. tracts between the private sector and the local govern- In May 1999 the national government finalized a pol- ment. Local government units have also been receiving icy framework that specifies that national guarantees would unsolicited bids for BOT water projects by private be given only to cover force majeure and other sovereign sponsors. risks. Since then the private sector has shown interest in participating in transactions other than BOT deals. Private Utilities Private utilities, creatcd on the basis of Presidential Systems Operated by Local Governments Decree 957, are typically established by developers dur- Where water districts do not exits, water supply has been ing the construction of subdivisions. They are later traditionally organized as a service function of the transferred to homeowners associations, which assume 26 Water and Sanitation responsibility for their management. Close to 1 million Table 7.1 Access to Safe Water in the Philippines, people, or a little more than 1 percent of the popula- Malaysia, and Thailand, 1995 tion, are currently served by private utilities.These util- (percent of population) ities typically cover 10-5,000 households, many from Populaton segment Philippines Malaysia Thailand high-income groups. Eighty-one private utilities serve Urba 91 100 94 40,000 households in metropolitan Manila and 109 Rural 81 86 88 private utilities serve 85,000 households in the provinces. Total 83 89 89 Note: Figures for Philippines are for 1996. Figures for Malaysia and Thailand are Private facilities often end up deteriorating because for 1995. Because "safe water" includes untreated but uncontaminated water, of lack of proper financial and technical support. More- such as water from sprngs. sanrtary wells, and protected boreholes, figures are over, the proliferation of these utilities fragments an higher than share of population served by water utilities. Source: World Bank 1998. already highly fractionalized sector. the Eastern service area and from 66 percent to 57 per- Physical Performance cent in the Western service area. The increase in effi- ciency was also achieved through a reduction in total Currently only a small percentage of the population is personnel to about 4,200 in March 1998, from 5,500 connected to piped water in the Philippines.Although in July 1997. the connection rate is higher in metropolitan Manila than in the provinces, the availability of piped water is Current Private Participation uneven even within the MWSS supply area. Overall, 83 percent of the population had access to With the exception of small-scale private utilities, pri- safe water in 1996 (table 7.1). In systems managed by vate participation in the water sector is limited to just local governments, 63 percent of the population had two cases, a joint venture in Subic Bay and the MWSS access to safe drinking water and sanitation.These sys- concession.The 1995 privatization of Subic Bay repre- tems serve about 40 million people, or about 53 per- sented the first time the private sector participated in cent of the population.Where piped water is available, the Philippine water sector. Privatization of MWSS is services are often restricted to less than one hour a day. worth reviewing in detail because of its relevance to other Residents commonly resort to self-provisioning by water districts and local governments that may be con- investing in private wells or purchasing water from sidering privatization options. Until an adequate national vendors at high prices to mitigate the risk of unreli- independent regulatory system is established, the arrange- able supply. ments for contractual regulation in MWSS privatization When MWSS was privatized in July 1997, targets could be used as a model for water districts and local were set to reach 100 percent coverage, achieve inter- governments seeking to involve the private sector. national quality and pressure standards within 10 years, and reach 83 percent coverage for sewerage and sani- Subic Bay Privatization tation services by the end of the 25-year concession The Subic Bay project is considered unique because it period. It is still too early to assess whether such stan- involved well-maintained and commercially operational dards will be met, but significant progress has already infrastructure, which had been put in place by the U.S. been made. Navy. It was also unique because the ability of local One indicator of operating efficiency, unaccounted industrial customers to pay cost-recovering tariffs was for water, suggests that the water sector in the Philip- relatively certain at the time of privatization. The ser- pines is suffering from significant physical losses (for vice area combines the former U.S. Naval base, which example, losses from pipe breaks and overflows) and had been operated by the Subic Bay Metropolitan commercial loss (for example, losses from illegal con- Authority (SBMA), a government-owned and nection and inadequate collection) (table 7.2). Between -controlled corporation, since the departure of the U.S. July 1997 and July 1998 the volume of unaccounted Navy, and the towns of Olongapo and Subic, which had for water fell markedly as a result of an increase in been served by the Olongapo water district. Directed leak repair efficiency from 45 percent to 36 percent in by a 15-member board appointed by the President of 27 Water and Sanitation Table 7.2 Service Quality and Efriciency across Cities, 1995 Indicator Manila Cebu Davao Kuala Lumpur Bangkok Production volume per capita per day (cubic meter 0.26 0.08 0.13 0.35 0.53 Conrumpon per cPita per day (!iters) _ 202 173 145 200 265 Watravailabil per day 1our) .7 18 _ 24 _ 24 Unaccounted for water (percent) 48b 38 31 36 38 Staff per I 000 connections 5- 9.3 6.2 1.1 4.6 a Based on total service population rather than population served by connections or public standpipes. b. Figures are for 1998. Source: Asian Development Bank 1997; Metropolitan Waterworks and Sewerage System. the Philippines, the SBMA is the sole owner and devel- month's sales.Water supply coverage was 65 percent and oper of the former U.S. Navy base. sewerage coverage only 7 percent for the 11 million peo- SubicWater & Sewerage Inc. is ajoint venture among ple in the service area. Service was available 16 hours BiWater International (a U.K.-based water supply firm, a day, and the system was heavily overstaffed.The objec- which owns 30 percent); DMCI (a Philippine con- tive of privatization was to improve the quality of ser- struction firm, which owns 40 percent ); the Olongapo vices and expand coverage, increase operating efficiencies, water district (which owns 10 percent); and the Subic and reduce government capital expenditure. (For a dis- Bay Metropolitan Authority (which owns 20 percent). cussion of the privatization of MWSS, see MacLeod, The company was awarded a 25-year concession con- Clamp, and Dejonckeere 1997 and Kerr 1998). tract through competitive bidding that grants it the exclu- Spurred by the privatization of the power sector, sive right to provide water supply services.The company which ended brownouts, the Congress passed the took over the operation of the water system in April 1997 National Water Crisis Act (Republic Act 8041) in 1995. and is now responsible for water resource development, The act established the legal framework for the priva- treatment, collection of tariffs, and distribution to indus- tization of MWSS and created the Executive-Legislative trial customers in the Subic Bay Free Port and to city Water Crisis Commission, which undertook a nation- residents in the adjacent municipality of Olongapo. wide review of the water sector. It also empowered the According to the agreement between the SBMA and President to reorganize MWSS and to enter into nego- Subic Water & Sewerage, the SBMA is to set up the tiated contracts with private companies without pro- regulatory office as part of its administration. This viding financing or financing guarantees. arrangement may cause a conflict of interests, because The MWSS service area was divided into east and it will make the SBMA the implementing agency, oper- west zones in order to establish independent bench- ator, consumer, and regulator of water service all at the marking, even the balance of power between conces- same time. Subic Water is contractually entitled to sionaires and the regulator, and ensure competition in increase tariffs twice a year. After a year of private oper- the bidding process.The privatization was done through ation, however, the regulatory office has not been competitive bidding in two stages, a technical bid and formed, and Subic Water & Sewerage has not been able a financial bid for all bidders that submitted qualified to increase its tariff as originally planned. technical bids. The company that offered the lowest coefficient to a predefined rate structure was to be Metropolitan Waterworks and Sewerage System awarded the 25-year concession, with no single com- Privatizaton pany awarded the concession in both areas. Before privatization MWSS faced several operational Concessionaires are required to meet predefined deficiencies. Nonrevenue water was as high as 60 per- service targets and pay concession fees that cover the cent. About 80 percent of these losses were estimated system's $100 million a year debt repayment. The to be the result of leakage, with the remaining 20 per- required total capital investment over the concession cent caused by metering errors and unregistered or period is estimated to be about $7 billion. illegal connections. Billing and collection were poor, After privatization MWSS was split into a Regula- with gross accounts receivable equivalent to about six tory Office and a Residual Office. The Regulatory 1 28 I Water and Sanitation Office monitors and enforces the concession agree- The management and operation of existing assets ments and reviews water supply and sewerage rates. in the Philippines do not reflect benchmark standards The Residual Office implements other MWSS projects in the ASEAN region for either efficiency or cost recov- and provides services or functions as assigned by the Reg- ery. Expansion and rehabilitation of networks has been ulatory Office following the concession commencement financed on an ad hoc basis that depends on the avail- date. Both offices report to the MWSS board of trustees. ability of official development assistance concessionary financing through the national government. Local gov- Demand Forecasts and Implications for Private ernments and small water districts considered nonvi- Participation able have been neglected, because available resources have not been adequate to accommodate all needs.Yet stud- Since 1994 the government has taken significant steps ies indicate that the willingness to pay for improved ser- to restructure the country's water sector. The most vices is often highest in small urban communities that recent Medium-Term Development Plan (1999-2004) have suffered decades of inadequate financing from the aims to increase the percentage of the population with public sector. potable water supply from 78 percent to 90 percent by Priorities for private participation in infrastructure 2004 (table 7.3).The government estimates that expan- should therefore focus on the transfer of existing assets sion of coverage to an additional 17 million people (and the associated commercial risks) to a competitive will require about $258 million of investment.This fig- private sector, in order to increase service efficiency and ure does not include the investment requirements for provide incentives for cost recovery. Expansion of net- local government-operated systems or private utilities. works should be based on willingness to pay and options The water sector is currently unable to provide safe for service delivery rather than on supply-driven and reliable water to a majority of the population. Sur- approaches.Where those preconditions are met, private veys of consumers consistently indicate that willingness sector involvement might be sought to finance distrib- to pay for safe and reliable water supply is high. Given ution assets as well as bulk supply services without pro- the severe budgetary constraints faced by the national viding government guarantees against market risks. government, there is considerable potential for enhanc- ing private sector participation in the sector. Proposed Private Participation The private sector will invest in the water sector, however, only if users are willing to support tariffs that The sole legal basis for private participation in infra- will allow investors to earn an adequate return on their structure in the water sector is the 1994 BOT law investment. In the absence of assurances that such tar- (Republic Act 7718). In addition to nine BOT vari- iffs will be supported, private operators will require ants specified in the law, the BOT law includes a catch- guarantees for demand risk. Therefore, it is not sur- all provision that allows other contractual arrangements, prising to find that private sector interest, reflected in including concessions and lease agreements.' The law the nurriber of unsolicited bids, has focused on the pro- distinguishes between solicited and unsolicited pro- vision of bulk water supply with off-take arrangements jects and specifies application processes for each type that allocate demand risks to the public sector. of project. Table 7.3 1 Access to Safe Water under the Potable Water Development Program, 1998-2004 1998 2004 Population Population served Population Population served Service area (million) (percent) (miltion) (percent) Metropolitan Waterworks and Sewerage ystem service area 12 63 16 90 ~~~~~~~~~~~~~~~~~~. ....... Hq_.. ... .......................... . ............ . ..... .. .. ........ ... . _................... ..... ....... ... ..... Otther urbani ar-eas 20 70 23 87 : _ - . ........... .. ... .............. ...... .............. ...... . ...... ....... - - --- - -. ............... .. . .............. .... - - "73. ............ .. _....... .... ....- 8839 Rural areasa -.8S7449 Total.73 78 83 -0 a.Water supply In rural areas includes point sources, communal faucet systems, and individual house connections. Source: Medium-Term Development Plan 1999-2004. 29 Water and Sanitation Several private infrastructure projects are in prepa- Limits on Foreign Ownership. Private corporations engaged ration at the provincial level (table 7.4).With one excep- in the extraction or sale of water to the public must be tion in Baguio, all are unsolicited BOTs for bulk water at least 60 percent Filipino owned.There are no nation- supply.These unsolicited projects tend to remain in the ality restrictions for companies that treat water in pipeline for a long time, in some cases for years, for sev- between these two stages. This policy has contributed eral reasons. First, unsolicited projects require substan- to the proliferation of unsolicited proposals for BOT tial negotiation and review. Second, the government is bulk water supply, which are not subject to nationality less willing to commit to unsolicited than to solicited restrictions. projects, because the initiative to privatize does not orig- The following laws form the basis for these inate with the public sector.Third, and most important, restrictions: laws and policies regarding provision of the guarantee * Philippines Constitution (Article XlI, Section 2). The to unsolicited projects are unclear, which substantially Constitution stipulates that "water shaU not be alien- delays the negotiation of off-take agreements.The BOT ated" and sets a 40 percent limit on foreign own- law prohibits "direct" guarantees, or guarantees of the ership of any corporation that exploits or develops private company's debt obligation for unsolicited pro- water sources. No agreement between the govern- jects, but it allows for indirect guarantees, or guarantees ment and private corporations to use natural of minimum off-take. The government's current policy resources may exceed 25 years. Franchise certifi- aims to discourage increasing its fiscal exposure to pri- cates or authorization to operate public utilities can vate projects, however, making it reluctant to provide be granted only to corporations that are at least 60 guarantees for unsolicited proposals. percent owned by Filipinos. Water Code. The Water Code establishes the basic Regulatory Framework principles governing appropriation, control, and conservation of water resources. It gives the National The government has been encouraging private sector par- Water Resources Board the authority to issue per- ticipation in the water sector for several years.Together with mits to source, use, and develop water. Applicants the BOT law, NEDA Resolutions 4, 5, and 6 and the for permits must meet the 60 percent nationality Water Crisis Act of 1995 create the legal framework for requirement. private involvement in the sector. NEDA Resolution 4 calls * Department ofJustice Opinion No. 100 (1994). The for the restructuring of water utilities so that services are Department ofJustice opinion clarifies the nation- provided based on consumers' willingness to pay. It also ality requirement by stating,"In view of the peremp- advocates private sector participation in the water sector, tory provision of the Constitution and the Water This policy was reinforced by the Water CrisisAct, which Code, a company not owned at least 60 percent by vests the executive branch with special powers to reorga- Filipino citizens may not be qualified to operate nize sectoral agencies, induce greater private sector par- water supply facilities if it will take, divert, and pump ticipation, and improve the overall institutional environment. water directly from its natural source because of the The government has finalized a policy paper out- nationality requirement, but it may legally process lining its policies for promoting private participation in or treat the water after it is removed from the source water supply, including a framework under which by a qualified person." BOTs for bulk water supply national guarantees will be given. It is also seriously con- are not covered by the nationality requirement. sidering introducing legislation for establishing a water regulatory commission during the current session of Exclusivity. Water services in metropolitan Manila are Congress.A draft bill is expected to be ready by March provided by MWSS and small scale private utilities. 2000 for this purpose. The MWSS charter provides that the National Water Resources Board needs the consent of MWSS to issue Sector Rules a certificate of public convenience to private utilities Various rules govern the water sector, some of which operating within the MWSS service area. After priva- limit foreign investment. tization, concessionaires were granted the exclusive 30 Water and Sanitation Table 7.4 Current and Proposed Private Sector Infrastructure Projects in the Water Sector I (as of third quarter 1998) Project Agency Remarks Current projects Metropolitan Waterworks and Metropolitan Waterworks and VWestem concession is held by Maynilad Water Services, Inc. Eastern Sewerage System privatization Sewerage System concession is held by Manila Water Company Inc. Estimated project cost is $7 billion. . .... _._ ... . _. .. . _ _ .. _ ...... ............. .......... _ .__ ... __ ..... __ .. _ _ _ : _~~~~....... . ... .. . ... ... .. . ... ..... ...I -- -- . .. ........ .. Subic Water and Sewerage Subic Bay Metropolitan Authority Lease started in April 1997 for water system facilities of the Subic Bay and the city of Olongapo. Subic Water and Sewerage is held by joint venture of BiWater (30 percent), DMCI (40 percert), the Subic Bay Metropoltan Authority (20 percent), and Olongapo water district ( 10 per-cent ). Estimated project cost is $120 million. Contract is 100 percent peso financed through an Organisation for Economic Co-operation Fund loan arranged through the Development Bank of the Philippines. Regulatory office is not yet set up, but the Subic Bay Metropolitan Authority has tentatively established a three-member regulatory board. Request for tarff increase under review. ... .. .. ...................... ............. __ ........... _ _ .... _ _- - . - ...,.....-.........._ .......I...................-. _ _._ _ _ .............. . . . ........ ...... ... .... .... ..... Clark Water Supply and Sewerage Clark Development Corporation Joint venture between Kemayan Corporation/Ciriaco Corporation Philippines and Clark Development Corporation tcok over operations of existing assets.The company failed to secure financing for $55 m Ilion in new investments needed to expand water supply , ... ..... ....... .... . ... ... ... .... ... " . .. ...... .......... . ........ ... ..... .... ... . . .... . .......... _ _ .... .... .. . _._ . ....... - _ . _............ ._ .. ....... . ......... ...... __ ..... ..... Proposed projects Mananga 11 Water Supply Metropolitan Cebu water district Johan Holding/G. Keng (Malaysia) proposed $160 million build-and- transfer and BOT arrangement for bulk water supply at proposed tariff of PI 8 per cubic meter Proposal received technical approval by Metropolitan Cebu water district and NEDA Investment Coordinating Council in early 1998. Concessionaire seeking Department of Finance approval for a guarantee provision in case of default by the water district. Both parties currently awaiting Department of Finance decision on the Bulacan BulkWater S_ypp u P .. Bulacan Bulk Central Local Water Utilities Authority CGE/Aboitiz/SIG Construction & Industrial Corporation proposed !,,r.Syjpp!y I _ . $165 million BOT. m O , .. Puerto Water Supply I Puerto Princesa water district Lurgi Bamag GMBH/CAMS Asia, Inc. (Germany) proposed $29 million Extension Project join. venu for a b supply project Batangas Water Supply Batangas Provincial Govemment Montgomery-Watson proposed a $5.75 million BOT project Uarsolicited proposal to estabiish a provincewide bulk water system. , _ . .... .... .... ... ................ ...... .............. ....... .................... ......... _ ... . _ .. ........I _ - -.. . ..... .......... . - . ...... .. ..... .I......... . .. Cavite Water Supply and Cavite provincial government OMI conducting a feasibility study under aTrade Development WastewaterTreatment Agency grant Scheme for private participation in this $412.3 million project has not been determined. Projected water tariff seen as too high by several water districts involved, and project encountered ... . -.- problems coondinat.pglvanous o ilities. Baguio City Baguio water district The only solicited project in province for a bulk water supply. Six private companies submitted financial bids, opened in December 1997. Nominal tariff required to be fixed for 25 years, with a ceiling of P i I per cubic meter (current price is P2 I per cubic meter). G6ndrale des E aux was awarded the contract.Terms of the water purchase agreement have not been finalized. , . . . . _ . . . . . . . . .. . .. . . . . .. . .. . . . . .. . .. . . . . . . _. . . . . . . .. . . . . . . .. . . . _ _ . .. . .. . . . . .. . .. . . _ . ....... .. _............. .. ...... .........._. ...... . .... . ..._.................. ........ . ._ _.._..... . ................ .. ........... . .. . . . ................... Local Govemment Unit Department of Interior First phase of project envisions construction of new water supply Urban Water and Sanitation and Local Governments systems for 10 local governments with service populations of Project 3,000- 17,000 customers. Networks to be operated by private sector under lease arrangements. Five operators prequalified, final bid documents are to be issued in May 1999. Note: Other projects have not started the formal application process. Many Memoranda of Understanding have been signed between private companies and local gov- ernments or /water distrcts. Source: BOT Center right to provide water and sewerage services, except in only if concessionaires are either unwilling or unable areas already served by private utilities at the time of to provide service at the standard rates and at substan- privatization.The concession agreement stipulates that tially similar terms as set forth in the new third-party MWSS shall conserit to grant a peririit to third parties license. In addition, the duration of a new license to a 1 31 Water and Sanitation new third-party service provider cannot exceed 10 if the foreign currency in which the concessionaires bor- years, and it can be terminated with a minimum 60 days row appreciates (depreciates) against the peso by more notice if concessionaires notify MWSS and the National than 2 percent since the debt was incurred. Water Resources Board in writing that they are now Tariffs can be rebased if certain forecasts that influ- in a position to provide the service. In effect, this pro- ence the financial performance of the concessionaire- vision allows concessionaires to retain an indefinite such as forecasts of demand growth, per capita right to supply any new customer in the MWSS ser- consumption, operating efficiencies, or technological vice area. improvements-turn out to be grossly inaccurate.Tar- Once a water district is established, no other orga- iffs can be rebased every five years if other tariff adjust- nization can supply water within its service area with- ment mechanism in the concession contracts fail to out the water district's consent and the Local Water provide reasonable rates of return to concessionaires or Utilities Authority's approval.The Provincial Water Util- if their rates become excessive. ities Act provides that "no franchise shall be granted to There is a concern over the growing gap between any other agency for domestic industrial or commer- tariffs charged by the concessionaires in the eastern and cial water services within the district or any portion western zones of metropolitan Manila as a result of thereof unless and except to the extent that the Board annual tariff adjustment. Based on different assump- of Directors of said district consents thereto by resolu- tions regarding the cost of borrowing and forecasts of tion duly adopted, such resolution, however, shall be sub- demand, the two concessionaires started with very dif- ject to review by the Administration." ferent average water rates (P2.32 per cubic meter in the Although not explicitly stated by any legislation, eastern zone, P4.96 in the western zone). Because these local governments have the de facto exclusive right to tariffs will be adjusted by the same rate over the years, provide water services in their service areas. New entrants the disparity of tariff rates in absolute terms between must obtain approval from the mayor's office to start the two concessionaires will continue to grow. water supply services in their jurisdictions. The Provincial Water Utilities Act establishes the right of the board of the water district to determine Tariff-Setting Rules. Section 12 of the MWSS charter pro- rates and charges to customers of water services accord- vides that rates and fees fixed by the board of trustees of ing to the following principles: the metropolitan system and by local governments for local * New water customers have to cover expenses for systems "shall be of such magnitude that the system's rate installing new services and meters. or net return shall not exceed 12 percent, on a rate base * Revenues should recover costs of all service provided composed of the sum of its assets in operation as reval- by the water district, including operating expenses, ued from time to time plus two months' operating cap- maintenance and repairs, and a reasonable surplus ital."The concession agreement states that "subject to the for replacement, extension, and improvement. limitation of Section 12, standard rates may be adjusted . Tariffs should cover payment of interest and prin- in thc following three cases, namely, annual inflation, cipal of debt as well as establishment of"a fund for extraordinary price adjustment, and rebasing." The Reg- reasonable reserves." ulatory Office is responsible for reviewing the tariff adjust- Letter of Instruction 700 (1978) requires the Local ment proposed by the concessionaires. Water Utilities Authority to "ensure that the water rates Under the concession agreement, tariffs can be are not abruptly increased beyond the water users abil- adjusted annually for inflation, based on the Philippine ity to pay" and that tariff increases not exceed 60 per- consumer price index. Either the concessionaires or cent of any current rate. It also requires water districts MWSS can seek an annual adjustment based on extra- to conduct public hearings before any proposed rate ordinary circumstances.The concession contract enu- increase. merates 11 grounds for extraordinary price adjustments, The National Water Resources Board has adopted including changes in the concessionaires' service oblig- the policy of allowing private utilities to earn no more ations, changes in the laws that affect the concession- than 12 percent on invested capital. Since Presidential aires' cash flows, and foreign exchange losses (or gains) Decree 957 requires subdivisions to develop their own 32 Water and Sanitation water supply system, it is assumed that capital expen- Water Utilities Authority considers various factors, ditures for such facilities are reflected in the pricing of including water quality, equipment, procedure of oper- the lots.A private utility in any given subdivision is there- ation, and organization. fore required to initially operate on a break-even basis. The tariff is reviewed every six months. After the sub- Types of Water System and RegulatoryArrangements division is fully occupied, the rate structure may change Different regulatory arrangements exist for each of four to reflect the return on investment. One of the most types of water supply systems in the Philippines. significant components of the tariff adjustment is the power cost adjustment, which can be passed on to water Metropolitan Waterworks and Sewerage System. The con- consumers.The power tariff has a currency adjustment cession agreements for the MWSS service area estab- clause, but the rate increase cannot exceed 80 percent lished the MWSS Regulatory Office. The office is of current rates. responsible for regulating all aspects of water supply The National Water Resources Board needs the operation, including tariff setting, water quality, and consent of MWSS to grant a certificate of public con- environment standards.The concession agreements rec- formance to a private utility operating within metro- ognize that the Regulatory Office is under the juris- politan Manila.As a part of the process, MWSS reviews diction of the board of trustees, but they vest the and approves private utilities' tariff structures. Accord- Regulatory Office with certain powers without spec- ing to the National Water Resources Board, private ifying the degree of control by the board of trustees. utilities' rates are currently about 10-20 percent higher A three-member appeals panel is created to resolve than those charged by MWSS. disagreements arising out of the concession agreement. The Regulatory Office and each concessionaire appoint Access to Raw Water. The Water Code stipulates that all one panel member for each rebasing period. All panel who wish to appropriate water, including government members must be residents of the Philippines. In case eiitities or government-owned and -controlled corpo- of major disputes between the concessionaires and rations, need to obtain water permits from the National MWSS, the concessionaires jointly agree on the appoint- Water Resources Board. Eligible applicants for water per- ment of one member to an appeals panel. The Presi- mits include government-owned and -controlled cor- dent of the International Chamber of Commerce porations, citizens of the Philippines, and organizations designates a third member, who chairs the panel. (Major that are at least 60 percent Filipino owned. In deter- disputes include appeals over rebasing, determinations mining whether to grant the permit, the National Water of grounds for extraordinary price adjustments, the cal- Resources Board considers the availability of water, the culation of the termination amount or the amount and necessary water supply to be allocated, prior permits price of bulk water transported from west to east, the granted, possible adverse effects, land use issues, and delegation of responsibilities between the two conces- any protests filed or other relevant factors. sionaires in the joint venture, and notices of termina- tion.) The panel renders a binding decision within 90 Franchise Permit. Outside the MWSS service area, all days. Concessionaires waive further appeals and MWSS water suppliers must obtain franchise permits to oper- waives its sovereign immunity. ate water facilities. Authority to grant these permits To improve the regulatory framework for future con- is shared by the Local Water Utilities Authority, which cessions in the sector, several issues need to be addressed: issues certificates of convenience to water districts, * Legalfotindationfor regulation and auitonomy. The cur- and the National Water Resources Board, which issues rent framework does not establish regulatory over- certificates of public conformance to private utilities. sight outside the contract; by consent of MWSS Both certificates of convenience and certificates of and the concessionaires, the Regulatory Office could public conformance are issued for 10 years and estab- simply be disbanded. Moreover, the legal basis for lish the right of a system operator to supply water.They the creation of a regulatory office cannot be used also fix the maximum permissible tariff. In reviewing for future concessions in water districts and local gov- applications for certificates of convenience, the Local ernments.The Regulatory Office is not autonomous 1 33 Water and Sanitation of the parties to the contract.The concession fee is ation of public water supply services outside the juris- set to cover the cost of the Regulatory Office, diction of MWSS, the Local Water Utilities Authority salaries for 60 professional staff, staff training, and hir- and water districts.The Local Government Code, how- ing of outside consultants to help the office with the ever, lists water supply systems as one of the responsi- frequent and resource-intensive tariff review process. bilities of autonomous and self-regulating local The board of trustees is responsible for allocating governments. the budget, however, and appointing regulators. It remains to be seen whether the Regulatory Office Water Districts. The Provincial Water Utilities Act cre- can maintain an arm's-length relationship with ated the Local Water Utilities Authority and the water MWSS. districts.The Local Water Utilities Authority is attached • Terms of appointment. The concession agreement pro- to the Office of the President and administratively vides that the Regulatory Office be composed of reports to the Department of Public Works and High- five members with fixed five-year terms.The term ways.With about 800 personnel, it is mandated to act of appointment of two of the four initial members primarily as the specialized lending institution to the is three years, however. If the regulators are entitled water districts. It is also responsible for issuing certifi- to the same job security as employees of the old cates of conformance; regulating water tariffs, water MWSS and the MWSS Residual Office, they may quality, and customer services; and providing technical be entitled to hold their positions until they reach assistance to water districts.Water districts need to obtain retirement age or resign. water rights from the National Water Resources Board, • Structure of the Regulatory Office and decisionmaking which arbitrates disputes between the water districts and among regulators. The Regulatory Office comprises the Local Water Utilities Authority. the chief regulator and four other regulators, who Since the enactment of the Local Government Unit are organized along technical rather than functional Code in 1991, water districts have been given the lines (legal, technical, customer service, financial). option to self-regulate their water tariffs and to design, Multidimensional regulatory issues therefore become construct, and operate and maintain standards once the responsibility of more than one regulator. they repay all obligations to the Local Water Utilities Although regulators might promote possibly con- Authority. Section 530 of the Local Government Code iflicting interests, they must reach consensus in order provides that "all powers, functions, and attributes for the office to make a decision. granted by Presidential Decree 198, otherwise known as the Provincial Water Utility Act of 1973, to the Systems Operated by Local Govemments. As the agency Local Water Utilities Authority may be devolved in responsible for coordinating the water resource devel- total to the existing local water district should they opt opment, the National Water Resources Board is sup- or choose to exercise, in writing, such powers, func- posed to issue water permits and certificates of public tions, and attributes: "Provided that all obligations of conformance to local governments operating water the local water district concerned to the Local Water supply systems. In practice, most local governments Utilities Authority shall first be settled before said devo- started developing water resources and operating water lution." This language impedes privatization of the supply systems without obtaining permits or certifi- water districts, because it is difficult to settle all exist- cates of public conformance. Many systems operated by ing debt before a transaction. No water district has local governments were created during the water cri- become self-regulating. sis in the early 1990s, when the government supported the establishment of water systems whether or not local Private Utilities. As mandated under Presidential Decree governments held certificates of public conformance. 1206, the National Water Resources Board regulates and Regulatory responsibilities over local controls the operation of public water supply services government-supplied services are not clear. Presiden- outside the jurisdiction of MWSS and the Local Water tial Decree 1206 gives the NationalWater Resources Utilities Authority and water districts.Within the MWSS Board the mandate to regulate and control the oper- service area, the National Water Resources Board can 34 Water and Sanitation issue certificates of public convenience to private util- Local Water Utilities Administration. The Local Water Util- ities with the approval of MWSS. In addition to grant- ities Authority functions as the creditor, consultant, reg- ing the relevant water rights, the board issues certificates ulator, and procurement agency for water districts. Up of public conformance to private utilities. In practice, to 80 staff members work in a regulatory capacity, with because of staff shortages, the National Water Resources personnel sent to water districts to validate the data Board does not actively enforce standards, especially submitted by the districts. outside Manila, where it relies on employees of the The Local Water Utilities Authority has faced severe Department of Public Works and Highways and National financial difficulties. Its loan portfolio is highly con- Irrigation Administration for on-site inspection. centrated, with the 20 largest water districts account- ing for 80 percent of its outstanding loans. Despite the Regulatory Agencies continuing government subsidy, the agency faces an Three institutions have primary resoponsibility to reg- extreme liquidity squeeze and working capital short- ulate the water sector in the Philippines.These include: age. It has also been heavily dependant on external * National Water Resources Board. financing, although it is currently unable to provide * Local Water Utilities Authority. the needed counterpart funds to mobilize new financ- * Metropolitan Waterworks and Sewerage System. ing, seriously constraining its ability to expand its invest- In addition, Department of Interior and Local Govern- ment lending and fulfill its mandate. ments and Departmeint of Public Works and Highways With the exception of the genieral manlager of the have some oversight responsibilities (see figure 7.1). Local Water Utilities Authority, who is appointed by the board of trustees, the five-member board is appointed National Water Resources Board. The National Water by the President.The members elect a chair. One trustee Resources Board coordinates water resource develop- must have at least 10 years experience in banking, ment and management. It issues water rights to all water finance, or business; one trustee must have a background suppliers and certificates of public conformance to local in economics; and one must have experience in man- private utilities. It also regulates private utilities' tariffs aging systems operations. Two trustees must be civil or and water quality. sanitary engineers, and no more than one trustee may The 10-member board is chaired by the Secretary of represent a utility owned by private investors. At least the Department of PublicWorks and Highways.The nine three of the trustees must be government employees. other board members are the Secretaries of the Depart- Trustees are appointed for five years, and their appoint- ments ofAgriculture, Environment and Natural Resources, ments are staggered. Health, and Trade and Industry; the director general of the National Economic and Development Authority; the Metropolitan Waterworks and Sewerage System Regulatory president of the National Power Corporation; and admin- Office. The Regulatory Office is established by the istrators of the National IrrigationAdministration, MWSS, concession contracts for the MWSS service area and and the Local Water Utilities Authority. comprises the chief regulator and four regulators. One The National Water Resources Board is divided regulator each is responsible for financial, technical, into five division: legal, and customer services issues. The Regulatory * Policy and Program Division, which formulates Office reports to the MWSS board of trustees, which policies on water resources development. appoints regulators and allocates the budget to the * Water Rights Division, which grants water rights. Regulatory Office.The board of trustees is chaired by * Water Utilities Division, which grants waterworks the Secretary of the Department of Public Works and franchlise permits and evaluates rates applied by pri- Highways. The vice chair is the MWSS system admin- vate utilities. istrator. Six other board members are appointed by the * Monitoring and Enforcement Division, which mon- President of the Philippines. The government's cor- itors compliance with water rights and certificates porate counsel serves as the board's legal advisor. All of conformance. board members hold office for five years and may be * Administrative and Financial Division. suspended or removed by the President upon the rec- 1 35 Water and Sanitation ommendation of the Secretary of Justice after due notice and hearing. Salaries of all regulators are com- parable to those of other civil servants with similar posi- tions. Regulators can be removed from office by a majority of the members of the appeals panel; any proposed removal of a regulator shall be treated as a major dispute. The salaries of the agency's 60 professionals and other expcnses are financed indirectly through a con- cession fee. Each concessionaire paid P50 million to MWSS, which was allocated as the annual budget of the Regulatory Office in 1997. In subsequent years, each concessionaire will pay half of the Regulatory Office's annual budget, provided the annual budget does not exceed P200 nillion (subject to CPI adjustment). | Note 1. These variants include build-operate-transfer (BOT), buLild-and-transfer (BT), build-own- and-operate (BOO), build-lease-and-transfer (BLT), build-transfer-anid-operate (BTO), contract-add-and-operate (CAO), develop- operate-and-transfer (DOT), rehabilitate- operate-and-transfer (ROT), rehabilitate-own- and-operate (ROO). For a definition of each scheme, see Section 2 of the BOT Law. 36 Telecommunications Historically, the telecommunications sector has been Companies granted cellular or international gateway dominated by the Philippines Long-Distance Telephone licenses were required to build local telephone lines in spe- Company (PLDT), a private company that provided cific regions of the country (tables 8.1).The government's about 95 percent of telephone service in the Philippines objective was to rapidly increase national telephone pen- until 1993. Until competition was allowed, PLDT pro- etration using the incentive of potentially attractive cellu- vided poor service, and investment was uneven and lar and international gateway licenses to try to ensure inadequate. Investment in the sector did not exceed 1 rapid line build-out. In return for the licenses, each cel- percent of GDP-about a fourth the level of investment lular company was required to build 400,000 lines in its of other Asian countries. Unmet demand was about service area by mid-1998; each international gateway oper- 700,000 in 1990, with a three- to five-year wait for tele- ator was required to build 300,000 lines. Eleven licenses phones. In 1991 about 700,000 telephone lines were were awarded, creating at least a duopoly in each region. in service, about 1.1 phone lines per 100 people. In the Luzon area (which encompasses five regions, includ- ing region IV-A but excluding metropolitan Manila), a third Market Structure licensee, Digitel, operates. In 1993 Digitel won the man- date that had previously been awarded to the Department In response to these problems, the government of Fidel of Transport and Commnunications to build and operate Ramos decided to liberalize the sector to improve per- local telephone lines in these five regions. forinaalce and expan-d service into unserved areas.This pol- icy objective was put into practice with the passage of two Physical Performance Executive Orders in 1993. It was strengthened with the enactment of the Public Telecomnmunications Policy Act The liberalization program has been a major success in of 1995 (Republic Act 7925), which rapidly opened up terms of attracting new investment into the sector and the sector. Today a large number of operators compete, rapidly expanding the number of telephone subscribers ensuring at least a duopoly in every major market. PLDT in the country (table 8.2). Not all operators have com- still remains a dominant operator in the sector, however, plied with the targets set out at the beginning of the controlling about 80 percent of the land lines. program, however. How these operators will be sanc- Executive Order 59 mandated PLDT to interconnect tioned remains to be seen. with other operators, thereby forcing it to share the prof- Since liberalization investment in the telecommu- itable long-distance revenue stream and providing other nications sector has increased significantly (figure 8.1). operators access to its subscribers. Executive Order 109 In 1998 the level of investment was about 1 percent of awarded local telephone exchange licenses to operators. GDP (World Bank 1994). The program is expected to 1 37 Telecommunications ITable_8.1 1Number of Telephone Lines Committed under Basic Telephone Program, 1996-98 Total lines TotaL lines Cumulative lines committed required under committed under __- under revised r-ollout plans ___ Carrier Executive Order 109 revised rollout plans 1996 1997 1998 Dig~~~~~~~~~~~~~~~~~~i ~~~~~~~~300,000 337,932 203,976 337,932 .-337,932 GlobeTelecom 700,000 705,205 88,000 705,205 705,205 ICClBayantel . - - 300,000 341,410 332,640 341,410 341,410 Islacom 700,000 701,330 26,554 474,978 __ 70,330 Ma ~~~~~~~~~~~~~~~~~~~~~~ ~ ~~~~300,00 305,706 84,362 -~201,618 3052706 PILTEL 400,000 417,858 0 417,858 417,858 ffE~ 300,000 30Q0i00 90,500 .- 168,200 -. 300,000 SMART 700,000 700,310 200,000 437,000 700,310 ETPI 300,000 300,497 0 69,982 200,050 All carriers 4,000,000 5,364,620 1,426,554 3,870,555 5,264,173 Source: National Telecommunications Council Annual Report 1 997. jTable 8.2 1Number of Operators in Each Business Segment, 1992-97 Type of service 1992 1993 1994 1995 1996 1997 Local exchae arirsvce45 49 60 67 74 __ 76 _ Cellular mobile telephone service 2 5 5 5 5 5 g~Ki rve . - 6 6. 610 - . II14 . IS Public trunk r-epeater service 7 88 10 10 I Satelite service 3 3. 3 - 3 3 Intemnational record carrier 445 5 Ver ~a~443 3 3 4 Public coastal station.-13 -13 . 13 12 -12. - . 2 Radio telephone 4.- - 6 6 ___ Intemet service providers 0 1113 130 Source: NationalTelecommunications Commission Annual Report 1997. attract $4.5 billion in investments. As a result of the rapid Figure 8.1 Investment_inTelecommunications as aShare expansion of service following deregulation, the wait- of GDP, 1992-97 ing list for telephone service has virtually disappeared and the Philippines now significantly outpaces its near Investment/GDP (percent) neighbors in terms of system expansion.There were 3.8 2.0 million installed lines in 1997, which should increase Mlyi to 7 million by the end of 1999 (table 8.3). 1.5 HogKong (China) PLDT launched a zero backlog program and is in the process of installing 1 m-illion new lines. Between 1.0 - --- 1992 and 1997 telephone density increased from 1.17 Idonesia lines to 8.07 lines per 100 people.The number of main 05- Singapore stations also rose (table 8.4). Telephone density increased--------- - - from 1.17 lines per 100 people in 1992 to 4.66 lines in Thailand early 1997 and 8.07 lines per 100 by the end of 1997. 09992 1993 1994 1995 1996 1997 Source: International Telecommuicaions Union. Financial Performance Despite the Asian financial crisis-and unlike other in recent years (tables 8.5).The company earned 5 per- operators-PLDT enjoyed strong financial performance cent on assets and had a current assets to liabilities ratio 1 38 I Telecommunications ITable 8.3 1Equipped and Installed Telephone Lines, 1997 Lines. built Percent of equipped lines installed Carrier Equipped Installed 1996 1997 1998 Digite! .. ~374,638 343,786 10 1.7 ~ 101.7 114.6 GlobeTelecom 730,036 705,288 100 I00.0 100.8 ICC/Bayantel 375,647 355,174 104 104.0 118.4 Islacom 315,922 332,420 70 47.4 47.5 Majon~~~~~~PhiIcom ~~~~~50,155 70,834 35.1 23.2 23.6 PILTEL 299,165 299,165 71.6 71.6 74.8 PLDT . ....... ..... .... ... "1,4'1 3-,8-70 ................. "930,~9 1-3 .......... ...........-129".9' ......................... 74."2 PTY&T/C a p wire 182,926 182,926 108.8 . 61.0 . - 61.0 ETPI 15,000 15,000 21.0 5 5 Akll ca'r r'ie rs5com bin'ed........................... ..4,535',945 3,798,090 98.1 69.3 93 -Not available, Source: National Telecommunicatons Commission 1997. ITable 8.4 Telephone Density by Area, 1998 Area Number of towns Population Main stations per 100 inhabitants fhili - ~~~~1,565 . . - 57,928 1 L03 .njor cities -- - 58. -1,584.03 Metroofitn Manila 17 7,494 5.51 Luzon 744 24,076 036 402. - -12,989 _ 0.46 Mindanao 402 13,366 ... ........ . ... 027...... ....1 ...... . ..... Smcaller towns .~~~~~~~!~~~~phones ~~~~~~~~~~~225 13,380 0.37 W~ithout telephones 1,282 30,950 0.00 Source: National Economic and Development Authority Development Plan 1991-20 10; Department ofTranspor-t and Comnmunications. of 1.11; its debt to equity ratio was 1.73:1. In part, roles of the Department ofTransport and Coummuni- PLDT's profitability stems from the fact that 78 per- cations and the National Telecommunications Council. cent of its revenues are linked to the U.S. dollar. The depreciation of the peso thus had a net beneficial impact Entry Requirements on the company's earnings. The main barrier to entry is the license requirement. Traditionally, local telephone tariffs have been set Licenses are periodically issued by the National at $12-$15 a month (depending on the area) for Telecommunications Council, particularly for new unlimited local calls. These low rates have been sub- technologies, such as personal communication system-s sidized by international and long-distance tariffs. Long-distance tariffs have been about $0.17 a minute. International tariffs have been falling, but they remain Table 8.5 Financial Indicators for the Philippines Long- high at an average rate of about $1.70 a minute. The IDistanceTelephone Company, 1997 Philippine international gateway operator receives Item Millions of pesos Millions of U.S. dollars about $0.50 a minute for incoming international calls. Income statement Revenues ~~35,709 916 _ Since November 1997 local subscription rates have Reve4tnues01 8 ~ ~~~~ incom e~~~~~~.. . ............. .507 386..... . ..................... .......... .. ...... .. increased and long-distance and international rates Net income 7,649 196 have declined. oalnce shet Current assets 34,324 880 CEu-r rent liab"iIitiies......... .... ...........31,042. ...........................796....... ......... Legal Environment 'Fixed assets 152,6 3,904...... .. . ..... .... Total assets 194~435 4,986 Deb' t-and oth-er l,Iia b"il-itie"s ........ 10"7072 2,745 This section reviews the legal and regulatory frame- Ecquty 56,321 1,444 work of the telecommunications sector and describes the Source: Philippines Long-Distance Telephone Company Annual Report 1997. 39 Telecommunications or satellite cellular telephone service. Most basic licenses paid by the subscriber between the originating local car- have been issued to establish at least a duopoly in every rier, the long-distance carrier, and the terminating car- major market. In return for a cellular or international rier. T:or international calls there is considerable gateway license, licensees are required to install a cer- uncei ainty over charges because the international tain number of lines in metropolitan and rural areas, accounting rate system is currently being dismantled. with a required 1:10 minimum ratio between the two areas. Regulatory and Policy Institutions The Public Telecommunications Policy Act of 1995 Tariff Setting and Modification formalized the role of the two entities responsible for The key regulatory issue in the sector is the determi- regulating the telecommunications sector in the coun- nation of interconnection rates. Republic Act 7925 try, the Department ofTransport and Communications allows for negotiated settlement between operators and the National Telecommunications Council. The wishing to interconnect and intervention by the National Department of Transport and Communications is Telecommunications Council if such agreement is not responsible for policy formulation; the National Telecom- reached. munications Council is charged with implementing The Department of Transport and Communica- policy, supervising the sector, issuing licenses, and reg- tions recently recommended that the NationalTelecom- ulating tariffs.While both the Department ofTransport munication Council strictly enforce its role as regulator and Communications and the National Telecommuni- in resolving the issue of interconnection among local cations Council are autonomous bodies, they come exchange carriers.To execute Executive Order 59, the under the ultimate authority of the Department of NationalTelecommunication Council should issue set- Telecommunications. tlement rules and more detailed technical and opera- The National Telecommunications Council is tional rules shortly to guide carriers in negotiating an responsible for: interconnection agreement.The Department ofTrans- . Granting certificates of public convenience and port and Communications recommended that the necessity and provisional authority to install, oper- National Telecommunications Council: ate, and maintain telecommunications, broadcast, * Require interconnecting operators to notify the and cable and television services. National Telecommunications Council of the date * Granting licenses to install, operate, and maintain of the first day of the 90-day negotiation period. radio stations. * Monitor the progress of negotiations to determine * Allocating, suballocating, and assigning the use of their progress. radio frequencies. * Initiate arbitration if needed, even if neither of the * Approving and accepting all types of radio com- parties involved complains. munications and broadcast equipment. * Adhere strictly to the 30-day period for the reso- * Conducting radio communication examinations and lution of disagreements. issuing radio operator certificates. * Monitor the implementation of interconnection a Preparing, planning, and conducting studies for pol- agreements and apply appropriate sanctions for non- icy and regulatory purposes. compliance with the provisions of the agreement. X Monitoring the operation of all telecommunica- The NationalTelecommunication Council is in the tions and broadcast activities. process of implementing these rules. In the meantime, . Enforcing applicable domestic and international it has left it up to carriers to negotiate interconnection laws, rules, and regulations; prosecuting violations; agreements themselves. There are no set interconnec- and imposing appropriate penalties or sanctions. tion formulas, but some standards have emerged. For * Issuing licenses to operate land, maritime, aeronau- local interconnection, each operator pays PLDT a fixed tical, and safety services. sum for the availability of trunk lines to connect to its * Performing other telecommunications- or broadcast- network. For domestic long-distance calls, there seems related activities as necessary in the interest of pub- to be a consensus on a 30:40:30 share of the call rate lic service. 1 40 I Telecommunications * Fostering a healthy competitive environment in the telecommunications sector. * Establishing a stable, transparent, speedy, and fair administrative process that observes due process. * Managing and administering the radio frequency spectrum and imposing reasonable spectrum usagc fees. * Deregulating rates when the market is highly com- petitive and moving toward cost-based rates. * Democratizing ownership of telecommunications and broadcast services. * Registering value-added service providers. Current and Potential Private Participation With the exception of a few small government projects and a small government equity stake in ETPI, virtually all players in the sector are privately owned.The gov- ernment is planning to sell its 2.65 million shares in ETPI (a 10.2 percent stake), at a price of P282 a share. It is also planning to privatize the national, regional, and municipal telephone program Public Calling Office facilities. The government has initiated several programs to increase the number of telephone lines. Most of these initiatives have been superceded by the actions taken by the new operators under Executive Order 109. 41 ) Transportation This chapter addresses the institutional, regulatory, and for approval and tariff negotiation for all toll roads in investment environment in the Philippines' transport sec- the Philippines. tor as a whole. Chapters 10-14 examine each of the subsectors that have attracted or are likely to attract Legal Basis for Private Sector Involvement in Transport private investment: ports, airports, railroads, and toll The 1990 BOT law (Republic Act 6957) and the 1993 roads and bridges. amendment to the law (Republic Act 7718) and their implementing rules and regulations define the way in Institutional and Regulatory Framework which the private sector can participate in infrastructure investment in the Philippines, including the transport Separate agencies handle each mode of transport in the sector.The amendment to the BOT law allowed greater Philippines, with an interagency body coordinating private participation in infrastructure schemes and activities among the various agencies. The port, air- strengthened and clarified the approval process. Recent port, railroad, and light rail sectors are regulated by the amendments to the implementing rules and regulations same institutions that own them. In contrast, the nation's of the law have been issued and will be published before toll roads have been regulated by a separate Toll Reg- they take effect.These amendments cover the following: ulatory Board since 1977. . Clarification of rules for local government projects, Policymaking lies with the Infrastructure Commit- including approval by local councils, minimum stan- tee of NEDA's. Investment decisionmaking lies with the dards and economic parameters, and authority to various implementing agencies (except for final approval provide tax incentives, exemptions, or relief. of government guarantees). Concession agreements for . New qualification rules on citizenship and proof of BOT projects are approved by NEDA's Investment ability to provide minimum equity. Coordination Committee. . New rules on "simultaneous qualification," or three- envelope bidding, in which the first envelope is for Decentralization qualification documents, the second for the techni- Although national agencies retain ultimate control over cal proposal, and the third for the financial proposal. the privatization process in all sectors of transport, sev- . Clarification of rules on unsolicited proposals, includ- eral local governments have introduced legislation to ing the submission of a full feasibility study, and the sever their ties with the controlling agencies.The result- authority of the Investment Coordination Com- ing independent authorities include the airports and mittee of the National Economic and Development ports in Cebu, Davao, and General Santos. In the road Authority to determine the scope and forms of sector the Toll Regulatory Board retains responsibility government undertakings that may be granted. 1 42 Transportation * Clarifications of credit enhancements as govern- kilometers of elevated expressways, and 230 kilometers ment undertakings defining indirect guarantees, of urban rail lines at an estimated cost of $10.7 billion direct government subsidies, and goverrunent equity. through 2015.The government's plan does not include private sector BOT contributions for these projects, Investment Issues which may represent about 50 percent of the govern- ment's estimated contribution. Meeting the demands of As part of its 1999-2004 Development Plan, the gov- the economy for private participation in infrastructure ernment forecast its transportation investment require- in metropolitan Manila between 1999 and 2004 would ments by sector (table 9.1). Under this investment plan, therefore requirc about P30 billion a year, with a 50- which allocates about $1 billion at current exchange 50 sharing between the public and private sectors. rates to the transport sector in 2000, road investments Between 1999 and 2004 investment in transport infra- will require about 75 percent of all nationally budgeted structure would thus require about P295 billion ($7.3 transport allocations. The government recognizes that billion) from the public sector (national government plus to support private investments it will need to allocate metropolitan Manila requirements) and about P85 bil- public funds for right-of-way acquisition and clearing, lion ($2.1 billion) from the private sector for metro- particularly for the Central and Northern Skyway, the politan Manila alone. Metropolitan Manila Expressway, and the C-6 Tollway. Two studies have presented their own conclusions Transparency and Competition for Private Investment about the sector's financing requirements.The "Philip- Different government corporations are authorized by pine Transport Strategy Study" (Halcrow Fox 1997) their charters to enter into contracts with the private sec- recommended investment of about P148 billion between tor to provide services in partnership with them.The BOT 1998 and 2003 for national roads and bridges, P20 bil- law defines the rules and regulations governing these lion for railways, P20 billion for ports, and P20 billion partnerships, increasing the transparency of the processes for airports. and procurement procedures.These procedures are meant The "Metropolitan Manila Transport Integration to be as similar as possible to those followed when procur- Study" (World Bank 1998) estimated the investment ing contracts for regular government projects. needs of metropolitan Manila, where it identified the Competition in the selection of contractors is need for 630 kilometers of road improvements, 117 required, although unsolicited proposals have been Table 9.1 Estimated Investment Required byTransportation Sector, 1999-2004 1 ~ (billions of pesos) Sector 1999 2000 2001 2002 2003 2004 Total Road Govemment National 24,277 23,239 29,934 34,090 37,622 41,006 190,168 Local' 9,250 11,200 13,150 15,100 17,675 21,625 88,000 Private _ -.. .24,794 29,712 40,667 25,283 20,032 13,807 154,295 Ports Depart.met of Transp orts.tin and Communications b 355 306 420 _ 287 369 5 1,742 Philippines Ports Authont. 588 1,069 1,379 1,240. 665 581.5,522 Airports .ment.of Transportation and Communications 175 668 707 671 484 12 2,717 ....... ... - .1............... ............. .... . ......... . ................ ....... . ...... .................... . ........ .... ... .- - ............. . . ,,, ., . .....I ...... - ....... ... ......... - - .................. - - ......... Rail transport Urban rail 668 i 1169 20,179 14,871 8,212 393 55,492 ....... ............................ . .......- -- ..- ....... -.. ................ . ....... .................... ........... . . ......... .. . ........... ... ..... .......... ............. - .... . ....._ Philppine National Railroad National Railroad .. 30 . _ 0 184 55 524 1288 Total Govemment 35,343 47,651 65,769 66,443 65,577 64,146 344,929 Private 24,794 29,712 40,667 25,283 20,032 i 3,807 154,295 a Farrr-to-market roads. b. Feeder ports only. Source: Midterm-Philippine Development Plan, 1999-2004 43 Transportation allowed, with competitive bidding simulated through government to provide adequate alternative living "Swiss challenge," or price challenge, procedures. In arrangements for displaced families. practice, however, it is very difficult to mount a suc- Although right-of-way acquisition and clearing are cessful challenge to an awarded contract. It is at the line the responsibility of the implementing agencies, some ministry's discretion whether to publish the financial agencies require the concessionaire to bear this respon- terms of the initial bid. Moreover, challengers know that sibility. Right-of-way funds, which are allocated by they may be sued if they beat the original bidder, since Congress every year, are easy targets for reduction it is unlikely that both bidders followed the same set of through the budgeting process.To reduce their impact assumptions in preparing their proposal or that the sec- on project costs, some policymakers have suggested that ond bidder, who rushed to put together a proposal, has squatter relocation should not be charged to the pro- firm commitments from all financiers. To date, only ject but considered separately as part of the housing Passenger Terminal 3 at the Ninoy Aquino Interna- program-a concept applied in the light rail line 3 pro- tional Airport was awarded to a challenger, and that pro- ject, LRT3. ject has yet to reach financial closure. Private Participation Coordination between the BOT and Privatization Processes The BOT approach to investment has played an impor- The government has involved the private sector in tant role in the transport sector. The BOT Center- transportation in several ways, including BOT projects, a centralized information office that helps guide franchises and joint ventures, build-lease-transfer con- potential investors through the bidding process and tracts, and a few concessions or long-term leases (table investment laws-is admired and copied overseas. 9.2). Although the program appears comprehensive, Although the BOT Center maintains an impressive few initiatives have been implemented. Among pro- stock of data and information on existing or planned jects that are underway, the relationship between the gov- initiatives, it does not coordinate those initiatives in ernment and the private sector does not necessarily implementing the bidding process or selecting the represent an optimal division of risk and responsibility. bids. Moreover, no significant private sector transport pro- Privatization or concessioning of existing assets has jects have been implemented outside of the metropol- often been secondary to BOT initiatives. Although the itan Manila area. Ministry of Finance maintains a privatization office that Private participation in infrastructure has a long and values and disseminates potential privatization projects, erratic history in the Philippines. In metropolitan Manila these initiatives are generally not coordinated with toll roads (built by the Construction and Development greenfield developments. The lack of coordination Corporation of the Philippines, now the Philippine between greenfield development and the privatization National Construction Company) and light rails (for- of existing assets is commonplace in all areas of private merly operated by the Metropolitan Rail Transit) were participation in infrastructure in the Philippines. The once run by private operators. Both sectors were nation- problem manifests itself most dramatically in the rail sec- alized during periods of financial failure; both are cur- tor, where private efforts to use the rail system are pro- rently being reprivatized. The Philippine National ceeding in an uncoordinated fashion. Construction Company is being privatized through franchising and joint ventures with private investors for Right-of-Way and Resettlement Issues toll road development and operation in the Manila Right-of-way concerns, particularly involving resettle- metropolitan area. Privatization of the Light Rail Tran- ment of squatters, affect the feasibility and ability to sit Authority has also been proposed. obtain financing of many projects. Commuter rail devel- opment, light rail development, the privatization of the Philippine National Railroad, land-side expansion of Manila's port terminals, and almost all toll road projects require significant resources and commitment from the 1 44 I Transportation Table 9.2 Private Participation in Transport, by Sector and Form of Participation Management Sector contract Lease Concession BOT Privatization or franchise Port None AsianTerminals, Intemational Under consideration Under consideration by Inc.-Manila ContainerTerminal for Subic container Philippine Ports Authoritya Services Inc-Manila faciltya Toll road None None None Skyway Phase I operational; Public EstatesiAuthority Manila-Cavite under and the Philippine National construction Construction Corporation Road North Luzon project Franchises signed approved by the National Economic and Development Authority; several other projects ....... ... ............ . .. ...... - - . . . . ,. . .. . .. . .. _ .. . . . . . . . . . under Heavy rail None International None MCX (commuter line) Under consideration for ContainerTerminal proposed over the the Philippine National Services Inc.- Philippine National Railroad container service Railroad line Light rail None Build-lease-transfer None LRT4 and LRT6 proposed Franchising of Metropolitan for LRT3 under RailTransit (Light Rail constructionb Transit operator) underconsideration Airport None None Cargo terminals at PT3-Manila signed but None Ninoy Aquino not closed Intemational Airport and General Santosb under consideration a Outside the Manila metropolitan area. b.The government will operate the light rail system. Over a 25-year period it will reimburse the owners forthe cost of construction and provide a guaranteed i 5 percent return on equity. Source: Philippine government agercies. 45 Ports The Philippine Ports Authority has legal jurisdiction over Responsibility for rate setting remains with the respec- all ports in the Philippines. It operates as a commercial tive authorities. Rates other than rates for the Subic Bay entity and has assumed jurisdiction over about 120 Metropolitan Authority can be appealed before the Sec- ports with commercial traffic. The Cebu Port Author- retary ofTransportation and Communications. ity was created by law to manage the ports of Cebu Province. Both corporations are authorized by their Physical and Financial Performance charters to enter into whatever contracts are necessary to fulfill their corporate objectives. Ports outside of the The Philippine Ports Authority has been profitable Philippine and Cebu Port Authority systems are devel- (table 10.1). A large portion of its revenues, however, oped by the Department ofTransport and Communi- come from the transfer of operating revenues as part of cations, although local governments, under the Local the lease and concession agreements with Asian Terminals Government Code, may take over the operation and Inc. and International ContainerTerminal Services Inc. development of these ports. Under its own charter, the (ICTSI). independent Subic Bay Metropolitan Authority can Financial indicators for one of Manila's two private undertake facility improvements at the Subic free port terminal operators,Asian Terminal Inc., indicate that 1998 with the private sector. was a difficult year for port operators (table 10.2). Prof- itability should increase once the region recovers eco- Market Structure nomically. The Philippine Ports Authority is one of the largest Current and Potential Private Participation revenue-earning agencies in the Philippines, thus free- ing the national Treasury from directly contributing to Many of the ports owned by the Philippine Ports its operating budget. In contrast, the Cebu Port Author- Authority are operated by private companies through ity, a start-up corporation, still relies on national gov- short-term lease agreements.Warehousing, storage, and ernment assistance. Both agencies are authorized to cargo handling are provided by both the Philippine borrow in order to finance development projects. For Ports Authority and private operators.The main inter- the Department ofTransport and Communications and national container terminals in Manila are managed, local governments, any counterpart funds for private par- operated, and maintained by two competing private ticipation in infrastructure projects must be taken up operators-AsianTerminals Inc., a consortium based in in the annual budgets. The Subic Bay Metropolitan Australia, and ICTSI, a Philippine company. Outside the Authority is also autonomous in fiscal matters. Philippine Ports Authority system, private operators 46 Ports Table 10.1 Financial and Operating Performance ofthe Table 10.2 Financial Performance byAsianTerminals, Philippine PortsAuthority, 1996 and 1997 Inc., 1996-98 (millions of pesos, except as indicated) (millions of pesos) Compounded 1996 1997 1998 annual Revenues 1,527 2,116 2,085 grovvth rate .peratingexpenses 1,128 1,456 1,605 1996 1997 (percent) 0.eratin income 399 660 480 Revenues 3,388 3,644 8 Other income 99 21 . .... .... .... . . .. _ _ __ _ .. ................. ...... .............. ...... ...........r.... ............. - ... - - . . -.............._. Port 3,166 3,354 - 6 Earn ngs before income taxes 498 681 _Nonoperating .221 290 31 Inters exese 0 0 Expenss. 2,199 2,624 19 Provision of income tax 113 120 ............... ...... _ _ _ ............................. _ -........... .. ...............- .... -................... . ................... .. ................. . ......... . ....................... perating _1,786 2,069 8 Net income 279 354 142 . . .... .... .... ..... . ..... .414 555 1 6 Revenue. rwth "p rc 25'.9 . Nonoperating.- g ~~~ .....- ---- --...... ...... ......rcen........j.....25 39.... -I1 . .... . Profits 1,188 1,019 -14 Net income growth (percent) 82 27 -60 - Not available. Total tonnage (millions) 139.1 143.6 3 ............. ... _... . .......... ....................................- . - -.. ...................................................... Foreign to.1nnage 67.5 68.3 1 I........ . ........ . - - 1 ....... . .._ ... . ..... ......... . _.1 ..... ......._ _ I ............._ Domesticon,,,,,ae,,tonnage,,,,,,,,,,71.6.......75.2....._shipping............,.Most...,5.domestic...... . .. .containers.shipping.,Mhinpdomeandco m e s outcntaieofand a ManilafaMnil Total(miiot eq2.7 v.9 I10 were moved by the Philippine Ports Authority facility ........... ......_.I _ ...... ........... . ..... ..._ . ......... ....... _..... .Foreign.20-foo.t.quialy 1.4 1.5 8 in North Harbor. Domestic 20-foot equivalency unit 1.3 1.5 12 Asian Terminals Inc. has been operating under a 15- Source: Philippine Ports Authority. year lease, signed in 1986.The agreement was recently continue to own and run terminals associated with extended to 2013, providing the operator with suffi- industry-specific captured cargo. cient time to recover the cost of its investment in gantry The Philippine Ports Authority has announced its cranes and other yard equipment. Asian Terminals Inc. intention to privatize its dredging fleets and its cabo- also runs a grain terminal in Mariveles and has invested tage facilities in Manila and many secondary ports, in Aries Arrastre Services, the operator of the Port of includingTabaco, Pasacao, General Santos, Zamboanga, Batanegas. and CotabatoWharf.The Cebu port has broken offfrom ICTSI was awarded a 25-year concession that has the Philippine Ports Authority and may pursue its own required it to purchase several gantry cranes, transtain- privatization. BOT projects are also allowed, but no ers, and other heavy superstructure. ICTSI has also major port constructed has the potential to become a invested in a new berth and paid for its own mainte- competitor with the Manila Port. Construction and nance dredging. operation of private greenfield facilities require the The Philippine Ports Authority has managed to approval of the Philippine Ports Authority through remain profitable through 1997. Its investment in port construction permits or operating clearances. In 1997 modernization, however, has been limited. In order to the Philippine Ports Authority issued 11 permits and finance much-needed capital improvements, it has bor- 12 clearances, mostly for bulk terminals and other rowed from multilateral institutions and turned to pri- commodities-handling facilities. vate operators to assume a greater role in port The largest privately owned shipping lines are now infrastructure capital expenditures. As of December 31, merging and are likely to dominate coastal trade as a 1997, the Philippine Ports Authority held outstanding single force. It is believed that they will invest in ter- foreign loans of P5.6 billion ($140 million), with about minal operations, such as the domestic general cargo 40 percent owed to the Overseas Economic Cooper- facilities in Manila, thus extending their control over ation Fund, 40 percent to the Asian Development Bank, domestic trade to waterfront operations. and 20 percent to the World Bank. At the country's main container port in Manila, The board of the Philippine Ports Authority is cur- Asian Terminals Inc. and ICTSI compete for interna- rently discussing its own privatization. Although the tional cargo. In 1997 the two operators were responsi- results of their discussions have not been made furlly pub- ble for nearly all international container shipping in lic, interviews with officials suggest that the board is con- Luzon and 95 percent of the nation's foreign container sidering expanding the leasing and concessioning of its 1 47 Parts terminal operations without ceding its tariff setting or cations and P1.558 billion in official development assis- regulatory powers. In order to avoid lawsuits and con- tance). Private sector expenditures (by ICTSI) were flicts among domestic investors, the Philippine Ports P1.676 billion. Authority has also recently considered granting a sole- sourced concession to a consortium of shippers and carriers for the domestic container terminal operations of Manila. Terminal operators, domestic carriers, and port labor are jointly funding a study to analyze the effects of full privatization of the port of Manila, since it is unlikely that the Philippine Ports Authority will be able to find financing for the $150 million required for renovation and modernization. Although the Philippine Ports Authority has announced no plans to decentralize the port system, pri- vate specialized terminals continue to evolve, particu- larly for bulk commodities, such as grains and coal. Cebu has recently declared itself independent of the Philippine Ports Authority and is considering privatiz- ing its terminal operations. The Subic Bay Port Authority operates with con- siderable autonomy, but it is currently restricted to small volumes of break-bulk and heavy lift shipments used by Subic's industrial sites and to some refined product bulk distribution by a regional petroleum company, Coastal Corporation. Attempts to convert a portion of Subic Bay into a private container trans-shipment cen- ter are floundering because of lawsuits brought by the losing bidder against Hutchinson Holdings of Hong Kong (China). As part of an initiative to rejuvenate interest in Subic, the Japan International Cooperation Agency JICA) has funded a comprehensive master plan for the port that considers the optimal use of general cargo, liquid bulk, and container and cruise terminals given the area's evolving industrial, commercial, and tourism plans.To minirmize the overlap between the ship- ping business and commercial and tourism facilities, JICA's interim report recommends reclaiming and con- structing an entirely new two-berth container termi- nal. The Subic Bay Port Authority seems to favor this alternative. In the current investment climate, it is unclear whether investors will return to Subic with new con- struction requirements for a facility with such limited capacity or whether that capacity is sufficient to justify improved land connections to Manila. In 1997 public investment in ports totaled P2.395 billion (P837 million by the Philippine Ports Author- ity and the Department of Transport and Communi- 1 48 Airports The airport sector is managed, operated, and regulated authorized by its charter to form subsidiaries in air by the Air Transport Office, which is under the direct transport services (passenger or cargo, domestic or inter- supervision of the Department ofTransport and Com- national) with up to 49 percent private capital. Once munications. Of the 89 airports in the Philippines, 4 are airports are transferred to local governments, they may designated international airports (Ninoy Aquino Inter- pursue development projects with the private sector.The national Airport, Subic, Clark, and Cebu); 4 as alternate Subic Bay Metropolitan Authority also has an airport international airports (Zamboanga, Davao, General San- that is independently run (except for air traffic services, tos/Tambler, and Laoag); 12 as trunk-link airports; 36 which are provided by the AirTransport Office).Another as secondary airports; and 33 as feeder airports. independent entity is the Clark International Airport Corporation, a subsidiary of the Bases Conversion Market Structure Development Authority. Clark International Airport has been declared the successor to the Ninoy Aquino No airports have been sold, concessioned, leased, or International Airport as the premier international gate- built on a BOT basis in the Philippines. There are no way, but the date of the changeover has not been made definite plans for the decentralization of the country's definite.The corporation has prepared a master plan for airports or the restructuring of the AirTransport Office, private participation in infrastructure for the airport. although Manila's main airport, Ninoy Aquino Inter- The Manila International Airport Authority gener- national Airport, is independently managed, and the ates its own funds, with some assistance on debt servic- Mactan International Airport at Cebu has, through leg- ing from the national government. The Air Transport islative initiative, declared itself independent of the Office and the Philippine Aerospace Development Cor- nation's Air Transport Office. poration rely on the annual budget of the Department The two independent airport authorities-the of Transport and Communications for support. The Manila International Airport Authority and the Mactan- Department oflTransport and Communications also pro- Cebu International Airport Authority-may enter into vides infrastructure funding to the Mactan-Cebu Inter- contracts for their airport services and infrastructure national Airport Authority. Local government units rely development, subject to approval by their boards. The on their annual budgets for aviation-related commitments. Air Transport Office enters into contracts through and upon approval of the Department of Transport and Physical Performance Communications. Another corporation under the Department of Transport and Communications, the Air traffic in the Philippines increased steadily between Philippine Aerospace Development Corporation, is 1985 and 1996, although it did not keep up with eco- 1 49 Airports Table I 1.1 ITraffic at Ninoy Aquino International Airport, 1985-97 Componded annual __growth ratepercent) 1985 1990 1994 1995 1996 1997 1985 96 1990-96 1996-97 Aircraft 81,500_ 56.559 67,969 74,755 94,592 4867 I 9 21 Passengers 5754,000 7241,718 9,975,138 10574.839 1,938,454 13603,374 7 9 14 Domestic Pax ,,,,,,,2,5,0600 _ 2,874,361 3,831,215 4,014,831 4,641,346 5,876,892 5 8 27 Intemational Pax 3,171,000 4,367,357 6,143,923 6,560,008 7,297,108 7,726,482 8 9 6 _ig.ht.tons 183,000 236,505 301,153 354,527 393,344 488,341 7 9 24 Avera.Pa' p!ne . 71 _ 28 147 141 126 _ 18 5 0 -6 GDP (billions of dollars) 30,716 44,331 64,139 74.176 83,840 83,125 10 I I -I Source: Nino Aquino International Airport. nomic growth. In contrast, air traffic levels in Indone- The country's main international gateway and hub sia, Malaysia, Singapore, and Thailand all outpaced eco- for domestic flights is Ninoy Aquino International Air- nomic growth during the same period. Airport traffic port in Manila. In 1997 the government approved an levels did experience a dramatic jump in 1997, perhaps unsolicited bid from local developers to build, on a compensating for the slow growth of the previous BOT basis, a new passenger terminal, PT3, at the air- decade. Data from 1998 from Ninoy Aquino Interna- port to serve international flights.The government then tional Airport reveal a slight drop in landings as well as allowed challengers to attempt to beat the closed bid passenger and freight traffic as a result of the regional it received. PIATCO, a consortium of Philippine banks economic crisis (table 11.1). Cost recovery by the two and Lufthansa's air cargo group, submitted a higher bid largest airport authority remains poor, however (table and was awarded the right to build. 11.2). More than two years after the contract was awarded, financial closure has not been reached, although it Current and Potential Private Participation appears to be near. Closure of the deal has been stalled by a series of problems: The only major private investment in Philippine's air- * The original bidder challenged the validity of port infrastructure currently under serious considera- PIATCO's bid in court, holding up the govern- tion is a BOT terminal for international passengers in ment's final commitment. The case was recently Manila. While the Air Transport Office has reportedly dismissed. presented the legislature with a plan for its own priva- *PIATCO was initially concerned about the gov- tization, no plan has been announced and no action has ernment's willingness to live up to its original com- been taken. In the meantime, the Air Transport Office mitment to postpone Clark Airbase's expansion as is considering concessioning new international cargo a commercial airport until PT3 had reached 10 terminals at Ninoy Aquino International Airport and million passengers a year for three years. The new General Santos, and the Mactan International Airport administration has reconfirmed its commitment. at Cebu has unilaterally separated itself from the Air * The consortium has had to reorganize to meet the Transport Office. demands of its financiers. *The military has yet to evacuate or dismantle its buildings on the site of the new terminal. Table 11.2 Recovery of Operations and Maintenance The awarding of PT3 to PIATCO represents the and Capital Costs by Airport Authorities, only successful "Swiss" challenge to an unsolicited bid (percent) 997rcandt99 in the Philippines.While the delays are indicative of the problems associated with unsolicited bidding proce- Airport authority i997 1998 dures and the vagaries of Swiss challenges, the likeli- Manila International Airport Authority 37 54 . .......... .. _. _,..... _....._ . - - - -_ ..... H_.._. ...1....a Mactan-Cebu International Airport Authority 39 39 hood of success suggests that this is a robust project that Source: Manila International and Mactan-Cebu Intemational Airport Authorities, will meet real demand. s50 Airports As with port terminal operations, private participa- tion in the airport sector has been limited to interna- tional traffic and to Manila.The pattern may reflect the significant benefits of hard currency earnings associated with international passenger fees and international con- tainer handling fees, as well as the visibility of Manila to investors. Subsequent private sector participation ini- tiatives in both airports and ports-which will involve domestic traffic and secondary municipalities, which cannot offer as high a percentage of hard currency earnings or as high a level of demand for service-will provide a better test of interest in the Philippine mar- ket and the sustainability and credibility of the Philip- pine approach to private participation in infrastructure. Total public investment in the airport sector was P3.686 billion in 1997 (P2.045 billion provided by the Department ofTransport and Communications, the Air Transport Office, Mactan-Cebu International Airport Authority, and the Manila International Airport Author- ity and P1.641 in official development assistance). Pri- vate sector investment was estimated at P1 billion, including engineering design work but not construction on Terminal 3 at Ninoy Aquino International Airport. 51 49S mR MMN Ku 1C; Heavy Rail The Philippine National Railroad (PNR) is a publicly nection with its railroad lines, toll viaducts and toll tun- owned and operated railway that runs through much nels." Operation of a hospital constitutes a large por- of Luzon. Track, rolling stock, freight, and passenger tion of the financial obligations of PNR. operations are the responsibility of the Philippines PNR determines its own fares and rates, subject to National Railroad. ICTSI, a private consortium, runs approval by the Secretary ofTransportation and Com- a twice-a-day service that moves modest amounts of munications. Two other government agencies-the container traffic out of the port of Manila. Public Estates Authority and the Bases Conversion Development Authority-are authorized by their char- Market Structure ters to invest in light or heavy railway development projects within their areas ofjurisdiction. Although future capital development projects will be with the private sector, PNR currently invests in such Physical and Financial Performance projects itself. The railways' charter allows it to "own and/or operate hotels, restaurants, terminals, warehouses PNR relies heavily on assistance from the national gov- . . . and to manufacture rolling stock, equipment, tools, ernment to finance its capital expenditures, debt ser- and other appliances ... to construct and operate in con- vicing, and operations. It meets less than half of operating I Table 12.1 Financial and Operating Performance by the Philippine National Railroad, 1990-97 (millions of pesos, except as indicated) Componded annual growth rate 1990 1991 1992 1993 1994 1995 1996 1997 (percent) Revenues 184 150 197 95 153 168 164 186 0 ~~~~~~~~~........ . .... ....._ . __... . _......_ .... .. ..... _..... _....... .... _ _. ................ . .... ....... ... - . Rail 104 91 60 59 64 85 85 106 0 Nonoperating.- _ ~~ ~ ~~81 60 - 138 . 36 ~ 89.- 82 79 80 0. , _ . . .. .... _ . .... _ ... _ ..... _ ..... ... __ ..... _ ..... _ .... __ . _ _ ............. _ . ~~~~~~~~~~~~~~~.. .. ... . .. . . ... .. . .. .. ... .. . .. . .. .. . .. .. .... ... .. . .. .. Expenses _ _ __ _ 395 425 368 400 395 771 311 806 II , , ,,, , ,R ,,,, ,,,,,,,,_,,,,, ......... ,,,,,,,,_,,,,,,,,,,.,,,,,_,,,,,.,, ........ ,,,,,,,,,_,.,,,,,,,,,2,,65.. ...... . ,,,.,,,,,.,,.. ...... .. . . ...... ..... ...... . . . ...... ....., ., .2. ..... ...... ._.2. .2... ..... Rail __265 281 215 187 232 292 311 360 4 Nonoperating_ 130 144 153 213 163 479 - 445 19 .......... . . ... ...... .. ........ __ .... _..._... _..... _... _._ .. ................_ ............... ...... .... . ......................05-2 2 6 4 1 7 Profits or losses -211 -274 -171 -305 -242 -604 -147 -620 17 Co ho, u .s .ands) .. , . ,,._., 5,561 4,315 2,226 4,639 5,007 4,055 - - -6 Tons (thousands) .-_. _ 32 12 18 12 14 -! 8 Tons- kilometers (thousandi) _ 7,075 236 929 4,912 3,083 3,997 Source: Philippine National Railroad, 52 Heavy Rail I Figure 12.1 i Railroad Traffic Density for Selected Countries, Most RecentYears Available (1994-97) Traffic units [(tons + pax)/kilometerJ 35 30 25 20 1 50 1 00 15-I Philippines Vietnam Malaysia Sri Lanka Pakistan Indonesia Thailand Austria India Rep. of Korea China Source. World Bank Railroad Database. I Figure 12.21 Productivity of Rolling Stock in Selected Countries, Most RecentYears Available (I1994-97) Wagon productivity (thousands of ton-kilometerlwagon) 3000 2500 2000 1500 1000 500 0 Philippines Vietnam Malaysia Sri Lanka Pakistan Indonesia Thailand France Austria India Rep. of Korea China Locomotive productivity (millions ofTU/locomotive plus MU/Mu factor) ISO 120 90 60 30 0 Philippines Vietna- Malaysia Sri Lanka Pakistan Indonesia Thailand France Austria India Rep. of Korea China Source: World Bank Railroad Database. 53 Heavy Rail costs from its operating revenues. Although commuter and cargo volumes dropped, revenues remained steady through modest tariff increases. However, expenses rose dramatically, resulting in a tripling of annual losses between 1990 and 1997 (table 12.1). Compared with other regional railroad systems, PNR is underutilized (figure 12.1). This is a result of several factors, including the importance of coastal ship- ping in a country made up of islands and the slowness and unreliability of rail service, which makes it an unat- tractive commuting alternative. Poor utilization contributes to unusually high lev- els of inefficiency in the use of the system's rolling stock. Utilization is far lower than in other countries, including countries in the region (figure 12.2). Current and Potential Private Participation The Privatization Office of the Department of Finance had planned to privatize the PNR in 1999. Nothing, however, has been done to date. In the meantime, dif- ferent private groups are trying to use the rail system in an uncoordinated fashion. ICTSI, the Manila port container terminal operator, is operating a twice-a-day freight rail service out of the port under a lease agree- ment that has required it to invest in rolling stock.This lease may be in conflict with three possible longer- term plans for PNR, including those of the Privatiza- tion Office of the Department of Finance; a group of domestic investors, which is pursuing a joint venture with the government; and a major real estate developer, which presented an unsolicited bid to the Department of Transport and Communications for BOT develop- ment of urban commuter rail services to be operated over PNR tracks. It is unclear which, if any, of these methods of transferring the railroad to the private sec- tor will be implemented. 54 Light Rail In 1980 the Philippines established the Light Rail Tran- second is construction of the LRT3, which is being built sit Authority (LRTA) in an attempt to find a long-term on a build-lease-transfer (BLT) basis. solution to congestion in and around Manila. Until 1996 the private sector played a limited role in the Metropolitan Rail Trainsit Lease development and operations of Manila's light rail sys- LRTA has proposed privatizing its operating subsidiary, tem, except for a brief period in which the Metropol- MRT. Although MRT was originally a private entity itan Rail Transit (MRT), the operating arm of the owned by Meralco; it was returned to LRTA because LRTA, was privately owned. Since 1985 the LRTA has of Meralco's inability to maintain the tracks at accept- operated a single-line rail- known as LRT1-up the able standards. western corridor of Manila between Pasay City and The LRT1 system is currently undergoing exten- Caloocan. sive renovations, including realignment of the track, refurbishing and air conditioning of the cars, and pro- Physical and Financial Performance curement of new cars.The renovation program, financed with loans from Belgium, France, and the Overseas The LRTA relies heavily on national government Economic Cooperation Fund, will be completed before assistance for its capital budget and debt servicing. It LRTA is privatized. more than covers its operating expenses with fare Under the proposed privatization scheme, a private revenues. Revenues have grown by less than 3 per- company would purchase the existing MRT shares for cent a year over the past several years, while costs P30 rmillion. MRT would then be given a manage- have risen at a rate of 14 percent a year (table 13.1). ment contract to operate and maintain the system for Although the system is running at full capacity with 25 years. The contract would be bid out. The winner 143 million people a year, or just under 400,000 rid- would agree to purchase the outstanding shares and ers a day, average revenue per passenger of just over provide LRTA with P2 billion, to be used to improve P5 has not been sufficient to cover growing operat- infrastructure. The contract payments would amortize ing and capital costs, leaving LRTA in a precarious this up-front payment and would include payments financial situation. based on the size of the fleet and the period of oper- ation. The contract would include performance stan- Current and Potential Private Participation dards relating to system availability and quality of service. Five years after the sale of shares, LRTA would become Two major projects are proposed or ongoing. The first a regulatory body as well as the owner of the infra- is the concessioning of MRT to private operators. The structure. The P10 fare is expected to provide suffi- 1 55 Light Rail I Tabte 13.1 Financial and Operating Performance by £he Light RaIlTrnsitAuthority,* 1 (millions of pesos,except as indicated) Componded annual growth rate 1993 1994 1995 01996 (percent) Revenue 717 808 757 780 2.8 .... ..............~~..... ........_ . ..... ...._:. ,..... .. . __.... . _.......:._ . Rail....... 702 790 735 732.4 *.n.3. .... _........... ....... - -------- . . ..._..... .......... . 8 ,,_,,,,,.............Z,, , , ~ Nonrail is 18 22 27 2L.6 .A.ns..,_...... ., .,.. ------- --- -, --- . ..... . ~85...,q. ,.,,, . 97. .,__., . ......... I_ -:; Ex~~~~nses 8~~~~58 974A7 ,8 14.3 ... i. n ! ........ . . .! ......... i. ........ .. . ........0_', ; .¸?~~~~ra in~~~~~ 412 . 4141 . _2.7 .._ _C !^ -^ eW!._=$_ i ._H e- (itaI: i446 513 492 693 __ 15.8 Profits or losses -1141 -_6-1 502 52.7 ~~~~~~~~~~~.--. . ,,........... . ..... .......... . _ ........... ..... ~. . .,....... . ,_...... ,,-.. __ .1 .. ,........_......_~_Po is ro s 5 f- 4 i 6- 1 5 25 . LTRI r.dersh;p _29 146 36 t;43 3.5 Averag rate per ride 54 5.45453A. r~~~~~~~~~~~~~4 - - .------.... ..... .... .. 5 . ;:4... _:_ ._.o .- Source: Philippine Lght Rai Tans Authority' cient cash flow to cover all operating and maintenance Whether or not the 600,000 rider a day target is reached, costs. Debt service would remain the responsibility of the government has guaranteed a yearly lease payment the government. of about P5.5 billion.The risk of under-performance is thus being fully assumed by the government. In con- Light Rail Line 3 trast, if tariffs are raised and additional revenues are gen- In September 1996 a private consortium of Philippine erated, they will be split evenly between the consortium real estate and retail interests began constructing an and the government. additional light rail line known as LRT3. Sumitomo, As with the planned privatization of MRT, the the turnkey contractor overseeing construction of the LRT3 approach uses the private sector to construct, line for the consortium, will operate and maintain the operate, and maintain the system without shifting any line for the duration of the agreement. commercial risk associated with ridership, revenues, or The new line loops around Manila alongside EDSA currency to the private sector. The LRT3 leaseback from Baclaran in the south through Makati, Ortigas, and agreement provides Philippine real estate interests with Cubao in the north. The project is being financed on a risk-free opportunity to develop major retail sites a BLT basis in which the consortium assumes the cost throughout Manila and to support the value of their of construction and the government leases back the key landholdings by making them accessible by light finished system from the consortium.The lease payments, rail. indexed to the dollar, are based on the assumption that 600,000 passengers a day will ride the LRT3 and that Cebu Light Rail the tariff will be P25 a ride. Both assumptions are Only one local government, the city government of backed with sovereign guarantees. These figures were Cebu, has initiated a study for a light railway line. Cebu used to guarantee that the six consortium members expects to negotiate a BOT arrangement to imple- receive a 15 percent return on their equity investments ment the project. from ridership alone. Since the total capacity of the system is 600,000 riders, the lease represents a take-or- pay agreement of 100 percent.The consortium has also been given air rights over the terminal and station sites for the development of retail and office space. Planning of the system-driven by the investors-is designed to maximize the value of property controlled by key mem- bers of the consortium. Some doubts have been raised about passengers' willingness or ability to pay P25 pesos to ride the LRT3. 1 56 Roads The agencies that own the national port network, air- Physical Performance port system, railroad, and light rail line fall under the juris- diction of the Department of Transportation and In terms of road density, the Philippines' network of Coommunication. In contrast, the national road network about 161,000 kilometers of roads compares favorably falls under the jurisdiction of the Department of Public with other East Asian countries and is considered ade- Works and Highways.The investment program of national quate for the country's needs. In terms of road standards roads is funded through the department's capital outlay and quality of maintenance, however, the system is budget; the annual maintenance program is appropriated grossly inadequate. Only about 17 percent of the total separately using an established formula.A dedicated road network is paved (table 14.1). Except in metropolitan fund was abolished in the mid-1970s.The investment and Manila and other rapidly growing urban areas, where maintenance programs for provincial and local or Barangay new road construction is needed, upgrading, rehabili- roads are funded by local governments through a mix of tation, and improved maintenance are the main chal- tax revenues and government grants. lenges for the road sector. Traffic on the North and South Luzon Expressway Market Structure rose in 1997 (table 14.2). Toll rates are P26 per kilo- meter for cars and jeepneys (jeeps converted into jit- Recently, the road sector has been receiving enhanced ney buses), P52 per kilometer for buses and trucks, and support from the government. Between 1993 and 1998 P77 per kilometer for trailers and large trucks. the budget of the Department of Public Works and High- ways has increased steadily, more than doubling in cur- Current and Potential Private Participation rent prices. Historically, the road sector has been allocated 70-75 percent of the department's infrastructure budget. Contracts for toll road and bridge development are Government allocations for basic road maintenance- entered into with the Department of Public Works and additional support based on an equivalent maintenance Highways' BOT Project Management Office and its kilometer formula-more than doubled between 1993 regulatory agency, the Toll Regulatory Board. Other and 1998.The main elements of the department's 1998 specialized agencies-including the Philippine National highway program include upgrading 1,078 kilometers of Construction Corporation, an existing tollway oper- unpaved national arterial roads and 483 kilometers of sec- ator, and the Public Estates Authority-are authorized ondary roads, reconstructing and upgrading 80 bridges to develop toll roads within or adjacent to their areas totaling 3,035 kilometers along the national network, and of operation. Local governments are also authorized rehabilitating or reconstructing paved but damaged roads. to develop toll facilities in their jurisdictions. All toll 1 57 I Roads Table 14.1 Philippine Road Network, by Type of Road Size Type Type of road Length (kilometers) Percent of total Percent paved Percent all-weather National 26,659 1 7 52 76 Arterial 15,848 10 59 82 10,81 1 7 . 41 . 67j Provincial 29,157 18 12 61 City _ . . _ . .. - - .. 2 67 96 Municpal_t 2,820 8 26 61 Barana . 88,363.-5 5 4 . 52. .......... . .. QL_.... ._....,,._.. . __ .....,,....._ ... _. _ ...__........... . . . ............ ..... :. ................ ..... . ....... ..... . .......... ....... Total 160,948 100 17 59 Source: Department of Public Works and Highways and Communications. Table 14.2 Average DailyTraffic Levels for Selected ing rights of way, or inviting solcited bids; the regula- North and South Luzon Expressways, tory framework-in which the Philippine National Con- 1 0 0 000; :; 0 jl996-97 0 struction Corporation (PNCC) holds franchise and its Tollway :0 0 00 001996 1997 supervising agency, the Toll regulatory Board, issues Toll- NPorthLuzon 131 000 146,058 way Operating Certificates-encourages negotiated bid- , _ ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~.... ._ __.. _. _ . '.................. . ................. . .... _._ $odh L6iohin u : 235 044 239,214 ding injoint venture with PNCC, rather than use of the Source:Tbil Regulatory Board. BOT law. Some P22.9 billion in public funds, including P19.7 rates, however, are approved by the Toll Regulatory billion in government funds and P3.3 billion in offi- Board. cial development assistance, was spent on roads in 1997. Fund commitments for toll road development (such Private investment in the sector (by the PNCC and the as expenditures for right-of-way or feasibility studies) Skyway Project) is estimated to have been about P1 bil- by the Department of Public Works and Highways, the lion. Toll Regulatory Board, and local governments are drawn from the annual budgets of those agencies. Commit- Skyway (CITRA) ments by the Philippine National Construction Cor- The Skyway is being constructed under the PNCC poration and the Public Estates Authority are approved concession for toll roads within metropolitan Manila. as part of their internally generated budgets or borrowed The consortium undertaking the project is a joint ven- externally, ture between a local developer and an Indonesian com- Most projects proposed or received by the govern- pany that has constructed Indonesian expressways using ment are pursued under joint ventures with the state- a novel technology for rotating the support beams. owned Philippine National Construction Corporation The first phase of the project was opened in Decem- or the Philippine Estates Authority. Only two appear ber 1998. Users of the upper deck pay a flat rate; users to have reached financial closure, including the Met- of the lower level (formerly a free road) pay P1.66 per ropolitan Manila Skyway and the first phase of the kilometer.The toll for the first section was determined Manila-Cavite Expressway. Several projects are stalled based on a financial model prepared in 1995.The per- because of dependence on East Asian financing and mitted maximum tariff was computed to provide the massive government right-of-way obligations that have consortium with an internal rate of return of 20 per- not been escrowed. cent.The second phase of the project, which extended The Asian Development Bank's most recent study of the road to Alabang, opened in February 1999. It also transport sector technical assistance (Halcrow 1997) has the provision for tolling the at-grade roadway as well describes the toll road process as one with several appar- as the skyway. The consortium also built the elevated ent problems: lack of overall plan or strategy results in portion of the road from Magallanes to Buendia and each project being pursued separately, not as a part of an rehabilitated the at-grade section of the road from Bicu- integrated network; the government has taken a passive tan to Magallanes.That phase of the project was opened approach toward preparing plans, identifying or prepar- to the public in July 1999 on a promotional basis, with 58 I Roads the new toll rates implemented in October 1999. Com- tion effort to construct a new city, which will be served pletion of the second phase of the project is expected by the expressway. by the end of May 2000. Once completed the system Each section of the expressway has a separate finan- will connect with the Northern Luzon Expressway, cial rationale.The first section of the road involved sim- following a route that runs parallels in some places to ple upgrading of an existing road to create a toll road. the Philippine National Railroad right of way. The extension to C-5 is three times as expensive per Tariffs at the system's three block tolls will be kilometer as the first section, but it will generate con- increased every few years based on a parametric for- siderably more traffic.The southern extension will have mula that incorporates the consumer price index and less traffic and will cost almost twice as much as the first the exchange rate of the peso.There are no other gov- section per kilometer, but it will allow the developer ernment guarantees. to develop the reclaimed land. The consortium obtained a guarantee from the Philippine National Bank. In the event of cancellation, Northern Luzon Expressway the government will pay liquidated damages for sec- The Northern Luzon Expressway will be operated by tions under construction to cover expenditures plus 10 Benpress in a joint venture with the PNCC.This pro- percent. If the tollway is operating, the government ject involves three phases. In the first phase, the exist- will pay liquidated damages equal to the income stream ing 82.5-kilometer expressway will be rehabilitated and projected by the financial model over the period of the an access road to Subic Bay free port will be built. The agreement. second phase will involve construction of 28.5 kilometers The concession agreement was originally limited to of C-5. The third phase will involve construction of a $500 million. However, as a result of the devaluation 58.5-kilometer extension of the express to Subic. of the peso, the project will exceed this limit. For this Although the Northern Luzon concession was one reason, the section from Bicutan to Alabang is being of the earliest toll road concessions, progress has been treated as a separate project.The toll for that part of the delayed because of problematic negotiations with the tollway will be computed based on the 1998 estimate Toll Regulatory Board. The toll agreement was finally of costs. signed during the summer of 1998, but the agreement requires that the concessionaire complete the rehabil- Manila-Cavite Toll Expressway itation of the existing expressway before taking over The Manila-Cavite Toll Expressway is being con- operation of the road. Until the rehabilitation is structed by a Malaysian firm, Renong, in joint ven- completed-expected to take until the end of 2000- ture with the Public Estates Authority.The tollway will PNCC will continue to operate and maintain the extend from Highway C-5 to the Noveleta-Rosario expressway. Road, a total distance of 21.1 kilometers. Only the 6.6- Each phase of the concession has a separate finan- kilometer middle section of the expressway has been cial rationale.The existing expressway-the oldest toll completed (by converting the existing road into a toll road in Asia-has a substantial volume of traffic and gen- road). Following a temporary injunction as the result erates a significant revenue stream. After the PNCC of a lawsuit that challenged the right to charge a toll concession ended, the road was operated briefly as a free on what had been a free road, the toll road is now oper- road. The road deteriorated rapidly and was reconces- ational.The extension to the south, which is to be built sioned. The C-5 extension was originally intended as on reclaimed land, has been delayed by right-of-way a public road but could not be completed because of negotiations. problems securing the right of way.With the comple- The right-of-way for the section to C-5 is now tion of other sections, this extension should generate being acquired by the Toll Regulatory Board. Half of substantial traffic.The extension to Subic is unlikely to the right-of-way is across land owned by the Ninoy be financially viable because of its high cost and low Aquino International Airport. Negotiations with the air- traffic volumes. The 8-kilometer section to the free port to relocate squatters along the route are underway. port was built with a guarantee that the concessionaire The extension to the south is part of a larger reclama- would be compensated for the cost of construction if 1 59 Roads the connecting road to the Northern Luzon express- way was not constructed. Cebu Bridge The bridge connecting the Cebu Airport with the city will be rehabilitated under a concession agreement. The Toll Regulatory Board plans to define the scope of the concession and tender it in 2000. Pasig Highway The Toll Regulatory Board has also proposed to ten- der a concession for construction of a 15.2-kilometer expressway that would run parallel to the Pasig River and connect the Northern Luzon Expressway and Ortigas. 60 12juir 3,.,1 P"OLey R ECOMMENDAT-IONS Proposed Action Program The Philippine government has demonstrated a clear pendent power producers and ultimately raised tariffs commitment to expanding the role of the private sec- for consumers.The contingent liabilities assumed by the tor in infrastructure. It can build on that record and take government through sovereign guarantees represent a advantage of the window of opportunity opened by the heavy burden on an already difficult fiscal condition. East Asian financial crisis by pushing forward with Under the proposed Electricity Industry Reform Act important sectoral reforms and the privatization of the government would absorb $2.5-$3.75 billion of infrastructure assets. stranded costs as part of the move to a market-oriented The government will need to clarify many cross- sector structure. sectoral policy and institutional issues, and implement Future efforts must recognize that the government needed reforms uniformly across sectors.The investment can no longer assume similar financial commitments. and financing communities are likely to respond rapidly Indeed, it is fruitless for the government to commit to to sound policy and institutional reforms, which they a policy of private sector participation and subsequendy will interpret as clear and credible evidence of the gov- provide broad guarantees for market risks. The govern- ernment's commitment to privatization. ment can minimize the need for financial support through The proposed action program includes three main the adoption of the following financial policies: reconunendations: reducing dependence on govern- Support the privatization of existing assets over green- ment financial resources, rationalizing institutional and field investment. Supporting the privatization of legal processes, and strengthening and deepening sec- existing assets makes strategic sense for a number toral reforms (figure 15.1). Each of these recommen- of reasons. First, privatization or long-term con- dations is described below. cessions may not initially require new capital invest- ment.This is particularly important in the current Reduce Dependence on Government Financial environment because investors and creditors are Resources extremely cautious about new investment in East Asia.As the operation is privatized and confidence Private participation in infrastructure has successfully is established, the new private owners can finance addressed the immediate problems of the infrastruc- new investments off their balance sheets rather ture sectors, particularly the power sector. In its first wave than on a project finance basis. These transactions of projects in the early 1990s, however, the govern- would be between private parties and would there- ment assumed heavy contingent liabilities. The gov- fore not require national government support. ernment's justifiable efforts to resolve the power shortage Some of these benefits can be achieved through resulted in a number of lucrative transactions for inde- mechanisms other than outright sale. For instance, 1 61 Proposed Action Program Figure 15.1 ProposedThree-Point Stragegy for Increasing the introduction of the Local Government Code of Private Participation in Infrastructure 199 1,local governments have been given the oppor- tunity to be financially autonomous and raise resources for their own investment needs. Several pro- Rationalize Deepen sector jects in the water and sanitation sector are currently institutions - r currentlyrefors and processes underway that should be used as models for greater public-private involvement in the development of infrastructure. To the extent that cost sharing is undertaken, it is recommended that local govern- ments rather than the national government partic- ipate in these projects unless the projects are truly of national significance. Enact transparent economic regulation to reduce the require- nmentfor other types of sovereign guarantees. Sponsors normally ask for other forms of guarantees to pro- Reduce dependence on national t government resources tect them against noncomphance and foreign exchange risk.The need for such guarantees normally Sou,rce~ World Bank staff. declines once sponsors and creditors become con- vinced that a regulatory environment is in place that in most cases, the mechanism that gives an entire sets and modifies tariffs that allows concessionaires operation to a private operator under a concession to generate the cash flows necessary to justify their does not require the government to guarantee the investment. revenue stream, since the private sponsor has con- * 1here guarantees are required, the government should trol of the consumer base. Other guarantees may price and manage them on a commercial basis. In the near be needed to assure private sponsors that the gov- term it may not be possible to eliminate sovereign ernment will comply with its commitments. But guarantees in all cases. Where such guarantees are these guarantees would be substantially different needed, the prudent policy is to manage them pro- from the market risks the government assumed to fessionally. Such management would require the promote bulk supply BOT schemes through off- government to establish a separate fund that would take agreements. operate commercially. * Structure greenfield transactions to reduce the requirement * Explore ways to expand and deepen local capital markets. for sovereign guarantees. Greenfield projects-such as The principal financing issue for private participa- provision of bulk water or provision of power by tion in infrastructure is the currency mismatch independent power producers to state-owned dis- between revenues and costs, thus creating problems tribution service companies-often require guar- of financial management and cost recovery.Account- antees of revenue streams because the concessionaires ing rules, which are not set up to accommodate the have no means of controlling the market for their tremendous fluctuations that have resulted from the products. Before entering into greenfield agree- recent financial crisis, have exacerbated the problem. ments, the government needs to weigh the pros and The government can substantially eliminate this cons of such projects very carefully.Where privati- problem by increasing opportunities to finance pri- zation is not possible because of the lack of investor vate participation in infrastructure locally.The gov- willingness to commit equity capital, capital leases ernment should recognize the importance of with direct financial support by the public sector instituting measures to expand and deepen the mobi- entity may be preferable to open-ended guarantees lization of local sources of funding that can be ear- for market risks. marked for financing infrastructure. It could institute * Introduce greater public-private partnerships where cost a funded social security program, review the pref- sharing is explicit, transparent, and not open-ended. With erence for local capital sources to finance housing 62 I Proposed Action Program mortgages, and review the current practices of the * Use equity markets to widen the distribution of owner- Social Security System and Government Social ship. More privatization transactions could be struc- Insurance System in using scarce long-term domes- tured through the stock exchanges to achieve a tic funds to finance consumer loans for their mem- broader distribution of ownership that includes bers. In addition, to help develop a local finance investors such as pension funds and insurance com- market, the government could reduce distortions panies.This approach could help broaden the equity by eliminating the interest rate subsidies and excep- markets for infrastructure. Policymakers could also tional concessional terms provided by the Local consider other means of financing these transac- Water Utilities Authority and the National Electri- tion, such as securitizing assets. fication Administration. Eliminate the subsidy mentality. One of the key long- Build the capacity of local governments to borrow and term factors inhibiting development of a financing transactprivateprojects. The Local Government Code market for infrastructure projects is the fact that of 1991 fundamentally shifted the manner in which many public infrastructure projects are currently resources are administratively and financially man- heavily subsidized. The National Electrification aged at the state, territorial, and political subdivisions. Administration and the Local Water Utilities Author- Local governments are given substantial financial ity are extending pricing terms and conditions that autonomy to undertake important investment trans- would not be possible under commercial market actions previously handled by the national govern- conditions.These terms do not encourage the finan- ment. In addition, local governments can now raise cial discipline essential to promote private partici- revenue and assume debt as a means of leveraging pation. Instead, they have created a subsidy mentality their own financial resources to expand their invest- among rural electric cooperatives and water dis- ment envelope.This shift provides a significant oppor- tricts. This mentality severely retards the develop- tunity to expand infrastructure development ment of an infrastructure financing market, as local throughout the country, as local governments enter banks, including government financial institutions, into partnerships with private companies, particu- cannot compete on such soft terms.To restore some larly for water and sanitation, municipal waste, and discipline in the financing market for infrastructure, transport projects. the government should ensure that these financial Severe constraints, however, limit local govern- institutions can recover the cost of their operations, ments' credibility as borrowers and business partners. given the terms and conditions provided to them The shift in accountability to local governments through official development assistance from mul- requires a commensurate adjustment in the overall tilateral and bilateral donors. To do so, all costs, philosophy that governs the management of resources including foreign exchange risks, must be appro- and the accurate assessment of financial perfor- priately accounted for and transferred to borrow- mance. In essence, local governments should adopt ers. In turn, electric cooperatives and water districts commercial financial management practices and need to charge tariffs that allow all costs associated reporting principles and shift away from account- with the financing and operation of infrastructure ing principles that measure performance as a con- assets to be recovered. trol on spending. This is particularly important if local governments will be seeking to enter into third-party Rationalize Institutional and Legal Processes transactions, such as debt financing, where their creditworthiness will be measured in large part by The government should strengthen the institutions and the accuracy, interpretation, and strength of their legal process for promoting private participation in financial statements. In addition, as decentralization infrastructure by taking the following actions: continues, local governments will be called on to pro- Strengthlen the role of the Committee on Privatization. If vide guarantees of their own to private sponsors the cornerstone of the government's agenda is to pri- and financiers. Their ability to do so will rest heav- vatize existing assets rather than pursue new green- ily on their financial standing and creditworthiness, field projects, it will need to manage the process 63 Proposed Action Program carefully. An effective privatization process requires work does not accommodate the needs of private timely management that is not shaped by the self- investors. When competition in the market is not interest of line agencies. International experience in possible, arm's-length regulatory agencies should be countries with successful private participation in established to protect both investors'and consumers' infrastructure programs, such as Australia, Chile, Mex- interests.The regulator should maintain arm's-length ico, and the United Kingdom, has highlighted the relationships with regulated firms, consumers, and importance of allowing units with direct access to other private interest on the one hand and with the key decisionmakers to drive the process rather than political authorities on the other. Investors are aware allowing line ministries or other bodies to deter- of political pressures that regulators face and of the mine the pace and scale of privatization. In the vulnerability of their large, long-term, immobile Philippines the Committee on Privatization can play investments. Unless the government makes a cred- a crucial role in this process, as it did in the privati- ible commitment to respect regulators' indepen- zation of most of the country's government-owned dence and autonomy and clarifies the rules of the and -controlled corporations in the early 1 990s.The game, private investment in infrastructure is unlikely capacity of the Committee of Privatization to value to increase. and disseminate information on potential privatiza- tion projects should be strengthened and redirected Strengthen and Deepen Sectoral Reforms to the infrastructure sectors.The committee's impres- sive record of privatizing the metal, oil, airline, and In addition to implementing institutional, legal, and banking industries should be replicated in the infra- financial reforms, the government needs to strengthen structure sectors. Creating an infrastructure unit and deepen sectoral reforms. Specific recommenda- within the committee could facilitate privatization tions for each sector are outlined below. of existing infrastructure assets, which in the past have been secondary to BOT initiatives. Power A similar assessment should be made on the fuiture Reforms are needed to ensure the viability of the sec- role of the BOT Center. The BOT Center should tor and reduce costs. Proposed reforms include the focus primarily on the "buy" side of the privatiza- following: tion process, acting as a promotion agency to poten- . Restructure the sector. Thirty-three power projects have tial investors.The Committee on Privatization, which been developed under the government's program, pro- comprises key cabinet-level officials, should be the viding about 5,000 megawatts of capacity to the main entity responsible for disposing of the gov- National Power Company (NPC). Although these ernment's assets and for setting policy. Coordination project have allowed the government to overcome between privatization and sectoral reforms with the capacity shortage, they threaten to obstruct the new greenfield investments also needs to be government's even more ambitious plans to com- improved. pletely privatize and liberalize the sector. The cur- Consistently apply competitive bidding procedures. A com- rent reform program, set forth in the draft Electricity petitive and transparent bidding process should be Industry Reform Act, calls for the privatization of used to privatize infrastructure assets and enter- NPC's generation assets, creation of a wholesale mar- prises. To promote fair competition, the project ket for power, and promotion of competition in the selection process should be clearer and more trans- sector by allowing customers, starting with the largest parent than it currently is. The process for solicit- customers, to choose their suppliers. ing, evaluating, and awarding projects should also be Obstacles to this ambitious reform program include simplified and standardized by sector. NPC's liabilities (both its own debt and the liabili- Establish arm's-length regulatory agencies. Although the ties associated with the independent power projects), broad sector policy framework has become more hos- political opposition from those benefiting from the pitable to private participation in infrastructure, the status quo, and potential consumer discontent with current transactional policy and regulatory frame- higher prices in the short run to pay off liabilities 1 64 Proposed Action Program and the elimination of cross-subsidies between con- Water sumers and grids. Well-defined plans exist to cover Although the concessioning of the MetropolitanWater most of the technical issues associated with the and Sewerage System is regarded throughout the world reform, such as bundling profitable independent as a model for successful water privatization, addi- power project contracts with the successor genera- tional reforms may be required to overcome remain- tion companies and allowing a charge or long-term ing obstacles and to replicate success in private contracts to cover the cost of stranded assets. Tech- participation in the water sector. These reforms include nical solutions can be found to potential obstacles the following: to reform, but political opposition may be strong. Shift emphasis from BOTs to privatization of existing * Support reform of the electricity cooperatives. To improve assets. Although BOT projects being pursued out- the performance of the electricity cooperatives and side metropolitan Manila will enhance supply capac- the weaker investor-owned distributors, policy- ity, they fail to address fundamental problems makers could tighten regulation, allow or encour- associated with those water systems-namely, inad- age smaller and weaker distributors to merge, and equate investment; inefficient operations, mainte- encourage the transformation of cooperatives into nance, and management of the distribution system; stockholding cooperatives whose shares can be and deficiencies in billing and collection. Privati- traded. zation of existing assets-which the Medium-Term * Strengthen the Energy Regulatory Board. Restructur- Development Plan (1999-2004) supports-addresses ing of the sector will require the Energy Regula- these issues while removing the gap between bulk tory Board to perform new roles, such as encouraging and retail tariffs. It also eliminates contingent lia- competition in generation and supply; establishing bilities that the government might assume through new forms of price control, such as price caps on take-or-pay agreements, which private investors the remaining "wires" businesses; and playing a more continue to pursue, despite the opposition of the active role in establishing new market arrangements. Department of Finance. 'The Energy Regulatory Board will need to be Shift emphasisfrom unsolicited to solicited bids. All but strengthened and its staff trained and supported. one of the bulk water projects currently under nego- Reassess the role of the National Electrification Adminis- tiation have been unsolicited. Like independent tration. The National Electrification Administration's power producers, private developers pursue bulk role has been that of policymaker, technical advisor, water BOTs that offer guaranteed returns under creditor, and regulator. Although its regulatory role low-risk conditions.The proliferation of unsolicited has diminished through the transfer of some pow- BOT schemes in the Philippines is not a result of ers to the Energy Regulatory Board, if greater con- careful public planning to solve operational ineffi- solidation is to occur, its role is likely to have to ciency but reflects instead the private sector's ini- change. Particularly if fewer soft loans are made to tiative in defining an investment strategy for the the electricity cooperatives, the financing pattern sector.To signal that the government has taken con- will have to change. Greater involvement in non-grid- trol of the planning process, the emphasis should shift related electrification and policymaking issues will from unsolicited to solicited bids. also be appropriate in the new environment. * Use technical assistance to solve capacity constraints of water Eliminate cross-subsidies. Maintaining cross-subsidies districts and local governments. The heavy reliance on between regional grids and between customer classes unsolicited projects in the water sector partly reflects becomes increasingly difficult as the grids become the lack of resources and capacity at the provincial integrated and competition is introduced in gener- level. Water districts and local governments should ation and supply. International best practices suggest be encouraged to use technical assistance to iden- that there are better ways to ensure affordable ser- tify projects and develop transparent and standard- vices, such as providing subsidies to poor customers. ized bidding and contract evaluation procedures. The government should start to reduce cross-sub- Separate regulatory functions and establish an indepen- sidies before competition is introduced. dent regulator. Currently, several government agencies 1 65 Proposed Action Program are involved in the water sector, sometimes with . Continue current deregulation plan. Despite the gov- multiple and conflicting tasks (operating, regulating, ernment's ambitious liberalization program, the consulting, financing). In the long run, it is best to Philippines Long-Distance Telephone Company separate regulatory, policymaking, and operational remains the dominant operator in the sector, con- functions and establish an independent national util- trolling about 80 percent of the land lines in the ity regulator. country. The company's competitors are weak and Develop model contractual regulatory arrangements. A divided, lacking the financial resources to meet their model contractual regulatory arrangement for con- obligations to build-out lines or increase their com- cession and lease schemes could be developed and petitive position.A likely market trend, therefore, and implemented in the interim period before an inde- one that the government should manage with a pendent regulator is established. The World Bank's light touch, is the potential consolidation of the Local Government Unit Urban Water and Sanita- sector. The government should not unduly dis- tion project is developing a lease contract that could courage consolidation since it is likely to lead to a be used as a model for privatization in the provinces. smaller number of more viable competitors. Reassess the role of the Local Water Utilities Authority. * Standardize interconnection agreements. The stated goal Currently, the Local Water Utilities Authority suf- of standardizing the interconnection regime may fers from a severe working capital shortage as a result become a less pressing issue with the development of poor collections, inefficient operations, and a mis- of a competing national backbone and the growth match of repayment periods. Unless changes are of cellular traffic. made, it will continue to require large subsidies well . Auction remaining spectrum rights. Where there is excess into the future. A second problem is the fact that demand for spectrum rights, auctioning the rights the lending portfolio is highly concentrated among would ensure that they are allocated to their high- a few large water districts, leaving many water dis- est value use. tricts without access to funding. The government . License competitorsfor new services. New technologies should consider restructuring the Local Water Util- should be licensed promptly to allow new forms of ities Authority so that it can play a more effective competition and high-quality services to emerge.The role in the sector. new generation of satellite cellular phones and other * Achieve positive net revenue at individual utility level. The new services should be licensed as soon as possible prices charged by water utilities are generally too to allow a highly competitive and flourishing sec- low and their costs too high to generate sufficient tor to develop. positive net cash flow. Public utilities should be encouraged to achieve positive net revenues in order Transportation to attract private sector participation. The Philippines has moved farther than most countries * Establish a revolvingfundforftasibility studies to solve in inviting the private sector to play a key role in its resource constraints of water districts and local govern- transportation infrastructure. The country's major port ments. The World Bank's Local Government Unit terminals in Manila are operated by competing private Urban Water and Sanitation project proposes cre- companies, a group of private investors is on the verge ation of a preinvestment fund, whose component of financial closure on a deal to build Manila's new costs would be recovered through success fees. international airport terminal, one privately financed toll road is operational and at least two others are under con- Telecommunications struction. Portions of all modes of transport, including Liberalization of the telecommunications sector has railroads, airports, and regional ports, are under con- expanded service and reduced tariffi. More work still sideration for privatization, concessioning, or green- needs to be done, however, to fully liberalize the sec- field private development. tor. The government needs to standardize intercon- This progress notwithstanding, private sector par- nection agreements and ensure that new services are ticipation in the sector may be stalling because of weak introduced on a timely basis. macroeconomic conditions, legal con9ficts, and unclear 66 Proposed Action Program government policies. Private investment in the sector and property holdings and to secure air rights to the is driven by local investor interests rather than a clear space over and around stations and terminals for government strategy. The lack of proactive and coor- commercial and retail development. Proposed air- dinated initiatives, exacerbated by the regional lack of port investments are also driven by local investors financing, resulted in an 18-month period in which seeking to capitalize on the retail potential of the no significant transport projects have came to financial terminials.While it is natural and desirable that the closure. private sector pursue these opportunities, the lack In response to these challenges, the recommended of government strategy driving the process results action program focuses on the following themes: in uncoordinated development and project designs Assess thefeasibility of private participation in regional that may not optimize consumer benefits. airports and ports. Given the importance of interis- The government, through the Department of land transport to the Philippine economy, ports and Transport and Communications or its line agen- airports function much like network industries. cies, evaluates each project, but it may not have the While centralized aviation and maritime policies resources to challenge the assumptions about demand are necessary in order to integrate and sustain these and willingness and ability to pay under proposed networks, regional or local communities should have tariffs. By opening up the bidding process to com- the right to seek efficiencies in the operation of petition on a solicited basis, the government would their ports and airports and to maximize available protect itself from the accusation that it is held cap- private capital by inviting private participation in tive by domestic cartels. Competitive award of con- those sectors.The Philippines Port Authority has pur- tracts is also likely to survive court appeals. sued the leasing of terminal operations for more . Improve coordination between greenfield and privatization than 10 years and has allowed BOT contracts since projects. Before decisions are made to allow new 1990, when the port of San Fernando was rebuilt. facilities to be built, analyses of the potential capac- The process, however, has been largely driven by the ity gained by improving the efficiency of existing central office in Manila. The feasibility of future facilities through privatization or concessioning port privatization initiatives as well as Air Transport should be performed. Private sector participation in Offices' use of private investors in transport should the Philippines National Railroad has involved BOT be assessed as independent decentralized initiatives and privatization procedures. The fact that both conducted by local governments for the benefit of approaches are being pursued simultaneously by dif- local and regional economic development. ferent investor groups for overlapping assets means Strengthen localgovernments' ability to manageprivatepar- that the bids will not be comparable. Providing one ticipation in infrastructure. As the Philippines Port agency with the authority to implement both green- Authority and Air Transport Offices are decentral- field and privatization schemes would allow the ized and traffic growth leads to more potential toll government to coordinate feasibility studies and road development outside Manila, local and foreign bidding criteria and proposals. It would also protect investors will continue to approach local governments it against lawsuits and accusations of favoritism. about investment opportunities. Municipalities and . Separate the regulatory, policy, and operationalfunctions provinces must have the technical and financial of the Philippines PortAuthlority, theAirTransport Offices, capacity to assess unsolicited bids or solicit and eval- and the Department of Public Works and Highways. uate bids on a competitive basis. Transport agencies in the Philippines perform mul- Encourage solicited, competitive, and transparent bids. Like tiple, sometimes contradictory, functions. For exam- other infrastructure sectors in the Philippines, the ple, the Philippines Ports Authority operates several transport sector uses a bidding process that involves ports, negotiates and manages concessions and leases submission of unsolicited bids, typically from con- with private terminal operators, owns the assets of sortia of local retailers, real estate developers, and the nation's public ports, determines overall port banks. In light rail, commuter rail, and toll roads, policies, sets tariffs for public facilities and approves investors seek to maximize the value of their land tariffs for private facilities. Perhaps as a result of 1 67 I Proposed Action Program these contradictory responsibilities, tariffs do not ment through revenue earnings or determine if gov- align with the actual usage of port facilities, and ernment financing is required to prepare the pro- vessels engaged in international trade are forced to ject free of settlement. If the government assumes cross-subsidize domestic activity to a far greater responsibility for right-of-way obligations, its com- degree than elsewhere in the world. mitment and ability to finance resettlement should As the Asian Development Bank has recom- be strengthened if doing so is needed to make the mended, the regulatory functions of the Philippines project bankable. Putting earmarked government Port Authority and the other line agencies need to funds in escrow to demonstrate commitment and be separated from agencies responsible for policy- using public-private partnerships in which landown- making and operations. This is particularly impor- ers speculating on real estate appreciation contribute tant as more and more private operators compete to right-of-way costs should be considered. with or cross-subsidize public facilities. Help projects reach financial closure. Since the Asian financial crisis, achieving financial closure has become much more difficult, even for projects with proven demand and limited currency mismatch. Traditional providers of debt are reluctant to accept the risks associated with off-balance sheet infra- structure investments. Even apparently viable pro- jects, such as International Container Terminal Services Inc.'s new terminal and the Manila North Tollway, are unable to find financing because of the lack of affordable financing flowing into the Philip- pines and the absence of peso-denominated long- term financing. Creditors are requiring unaffordable spreads over Libor or revenue guarantees from the equity partners of projects. Local equity investors are unable to offer these guarantees; after its expe- rience with independent power producers, the gov- ernment is reluctant to assume more contingent liabilities or guarantee-based obligations. As a result, no significant transport projects have come to finan- cial closure in the Philippines for a period of 18 months. Finding long-term peso-denominated financing will be a key part of attracting sustainable investments in transport infrastructure. Currency mismatches- typical in rail and light rail projects but present in all modes of transport-highlight the need to cre- ate bond markets or other local currency financing mechanisms. * Clartfy the commitment to financing right-of-way oblig- ations. Right-of-way commitments for transport projects require significant resources to provide ade- quate alternative living arrangements for displaced families. Initial feasibility studies must consider the ability of the project to absorb the cost of resettle- 1 68 Referemces References Economist Intelligence Unit. 1999. Philip- pines Country Forecast First Quarter 1999. London. Halcrow Fox. 1997. "Philippine Transport Strategy Study." Report prepared for the Asian Development Bank, Manila. IFC (International Finance Corporation). 1997. Emerging Stock Markets Factbook 1997. Washington, D.C. International Telecommunications Union: 1999. World Telecommunications Develop- ment Report. Geneva. Kerr, J. G. 1998. "The Privatization of MWSS: Manila Sets the New Standard." Project Finance Yearbook 97/98. London: Euromoney. MacLeod, Scott, Tony Clamp, and Luc Dejonckeere. 1997. "Manila: Private Water Works." Impact 1 (2). McIntosh, Arthur C., and Cesar E.Yiiiguez, eds. 1997. Second Water Utilities Data Book: Asia and Pacific Region. Manila: Asian Development Bank. Phillipines, Department of Energy. 1998. "Philippine Energy Plan." Manila. Tasman Asia Pacific. 1997 "Energy Strat- egy and Pricing Study" Reported pre- pared for the World Bank,Washington, D.C. World Bank. 1994. Philippines Power Sector Study. Washington, D.C. - 1997. Philippines: Managing Global Integration. Washington, D.C. .1998."Metropolitan ManilaTrans- port Integration Study." East Asia and Pacific Region,Washington, D.C. .1999a. Global Development Finance. Washington, D.C. .1999b. World Development Indicators. Washington, D.C. 69 PUBLIC-PRIVATE THE WORLD BANK INFRASTRUCTURE !25 ~~~~~~~ADVISORY FACILITY 181 8 H Street, NW PPIAF Program Washington, D.C. 20433, U.S.A. Management Unit Telephone: 202-477-1 234 c/o The World Bank Facsimile: 202-477-6391 1818 H Street, NW, 19-049 Internet: www.worldbank.org Washington, D.C. 20433 U.S.A. E-mail: feedback@worldbank.org Telephone: 202-458-5588 Facsimile: 202-522-3481 Email: info@ppiaf.org World Wide Web: http://www.ppiaf.org/ ISBN 0-8213-4873-6