Railways Need Investments
Yerlan Atamkulov, President of Kazakhstan Temir Zholy, Candidate of Economic Science
Nigmatzhan Isingarin, Director General of Economtransconsulting, Doctor of Economic Science
Rail transport is one of the most socially, economically and strategically important sectors of the real economy. At the same time, this is a capital and material-intensive industry with enormous requirements as to financing and materials supply, because long-term assets account for up to 80% of its property.
Adequate technical condition is crucial for the railway industry to be able to cope with its main task – to provide smooth cargo and passenger traffic. For example, one kilometre of a new railway including all necessary equipment, buildings and structures costs about US$1 million; a freight car US$30,000-50,000; a passenger car up to US$600,000; and a locomotive about US$2 million. A pay-back period for these assets is ten years as a minimum, the more so since building of new railways is often dictated by political, social and other non-commercial considerations.
Historically, railway-building booms occurred in periods when the state was in a position to mobilise immense financial and material resources for that purpose. In the Soviet period, when allocation of funds was centralised, a powerful railway industry was created with a high throughput capacity and very adequate equipment at most lines (whose potential is deemed sufficient to support operation for decades ahead). But, because this network was designed for a centralised economy, it proved unable to serve the needs of new independent states.
In today’s market environment, the situation is quite different. Whilst the need of domestic railways for technical resources and especially investments remains high, the national railway company Kazakhstan Temir Zholy cannot on its own raise the capital required by the industry, nor can the government assist it with funding.
Today there are much fewer possibilities for providing the sector with a sustained investment inflow compared with the era of planned economy, and the sources of finance are different. At the same time, the main items of investment costs are the same:
• building new lines to form a railway network for our independent state;
• continuing electrification and introducing modern, reliable powering in main directions;
• modernising and replacing automatic and remote control mechanical devices, and installing new wire communications lines;
• renewing the locomotive and car fleets;
• replacing metal with expired service life;
• modernising and renewal of buildings and structures, etc.
Presently the national railways operate rolling stock, track machinery, equipment and structures of largely obsolete designs. Depreciation of fixed assets in the industry has approached 60%, whereas the limit for normal operation is 40%. In some cases this threatens the industry with losing its technological stability.
It was calculated that the railways need some 120-130 billion tenge annually to maintain this huge asset base in working condition, develop the operation of existing lines, and bring its technical and throughput capacity to international standards. However, this amount is three times what will actually be allocated for all this in 2003.
What are the potential sources to bridge this gap? The first one is government funding. It is expected that finance will be made available for building the new Altynsarino-Khromtau branch, which will bring together the northern and western regions of Kazakhstan and eliminate the need to pay high international cargo and passenger transit tariffs. Since the overall need for new railways in the country is about two thousand kilometres, the launching of that line will relieve the tension only by one fourth. Accordingly, the government will have to allocate 8-10 billion tenge annually (12 billion in 2004) to build a railway network in the next 15 years which would meet the requirements of independent Kazakhstan.
Passenger traffic is also in need of government support. In most countries this sector is normally subsidised from either local or national budgets. Formerly, in the planned economy environment, this problem was addressed through the so-called cross subsidy system where passenger traffic costs were included in cargo tariffs and the government backed the purchase of passenger and freight cars. Regrettably, the current budget of Kazakhstan envisages no such subsidies.
An alternative source is capital charges and profit of the railways. However, bearing in mind the high degree of depreciation and the low book value of fixed assets, capital charges are unlikely to become a key investment source in the near future. Similarly, profit cannot be relied on entirely since its increase is restricted by a state regulation system that was introduced to keep down cargo and passenger rates in the interests of the economy and the population.
The investment programme of Kazakhstan Temir Zholy for 2003-2005 is estimated at 125-130 billion tenge. It encompasses the following critical activities:
• rehabilitation and development of the main line network (54.5%),
• renewal of the locomotive and car fleets (15.6% and 7.6% respectively),
• information technology and communications (10%),
• launching of new import-substitution production (3%),
• building of new lines (2%),
• development, research and design work (1%),
• resource-saving technology (0.7%),
• other projects (5.6%).
Apart from the company’s own funds (capital charges and net profit), the main sources of investment are loans (approximately 10%).
The state railway policy should be centred on the investment component. As is known, users of the main-line network are charged at a flat rate. And state regulation is likely to be extended to the provision of locomotives and other railway services. When setting fixed tariffs the governmental bodies should take into account the need for renewing the main assets of the railways and introducing modern equipment and technology.
A flexible state tariff policy would give the railways more freedom in borrowing from the private sector. Of course, the question is how are we to do that? Given the scanty use of technical resources and limited traffic, the payback of a railway project may drag on for years. On the other hand, repaying a commercial loan with an interest rate of 10% or higher may be a tremendously difficult job.
However, the situation might change if the railway industry is opened for private operators having their own capital. This is the way in which railway sector reform is being promoted throughout the world. The same goal is set for the quite reformatory railway act and the sector restructuring programme, both adopted in 2001. It is crucial to determine areas in which market competition should be allowed in full or in part, in combination with natural monopolies.
For example, cargo handling services and provision of special equipment for them have been the domain of the private sector and an investment area for several years. The thing that matters is that the cargo must be handled safely and in accordance with technical and commercial standards, but who will do this work and what equipment will be used is up to the consignor or the consignee.
Private operators would also become a possibility in the main-line network traffic by establishing the institute of government-appointed operators. A locomotive or a car may be privately owned, and to become a carrier their owner has to obtain a licence, have the rolling stock registered and make a contract with the operator of the main-line network. Brand-new rolling stock may be purchased abroad (because there are no manufacturers in Kazakhstan); another option is to buy used cars and locomotives from the railways, with some additional investment costs for repairs and modernisation. Thus the railways will earn by collecting tariffs for the use of the main-line network, and rolling stock operators (this component accounts for 12-15%) will take care of the car and locomotive fleet’s maintenance and renewal needs.
According to our estimates, which generally match plans being considered in Russia, about half the car and locomotive fleet may be converted into private property to create a degree of competition with the national railways company. Such a measure not only will ease the monopoly’s task of rehabilitating or buying freight cars, but also stir up efforts to improve the quality of services.
Investment opportunities, however, are not confined to this area. Essentially, the country is faced by the need to restore its repairs capacity. Presently the industry’s need for new cars and locomotives, as well as repairs and modernisation, is mostly satisfied by import and placing orders with Russian and Ukrainian companies. If a favourable investment climate is created in this sector, it will be able to attract hundreds of millions of dollars.
Another private investment area is the development of main lines and communications systems, which is the basis for expanding the use of modern information and automation technology in the railway transport. In the next decade we will need to lay some 10,000-12,000 km of fibre-optic cable. The operator company Transtelecom which was founded three years ago (100% owned by Kazakhstan Temir Zholy) can use idle resources of its communications systems for commercial purposes, and this is an opportunity to attract private capital into the sector.
An analysis of investments in the railway industry’s fixed assets shows that not all possible forms of investment are being employed. For example, the investment structure can be diversified by adding mechanisms such as credit, rent, foreign interest in joint ventures, raising funds for particular projects, etc.
The state should be interested in renewing the rail industry’s assets and provide support to large investment projects.
New opportunities in this field were created by governmental Resolution No. 436 of 8 May 2003, which was adopted in pursuance of the Act On Investments of 8 January 2003. The Resolution sets out:
• a model investment contract envisaging preferential treatment;
• a list of priority activities which are subject to preferential treatment;
• maximum investment amounts and respective duration of preferential treatment granted by the authorised body; and
• rules for employing specialists from state bodies and consultants/experts in state support for investments by the authorised body.
The list of the priority activities includes manufacture of rolling stock and railway services.
The legal provisions of Kazakh law governing investments and state support for direct investments also apply to leasing transactions carried out in accordance with the Act On Financial Leasing of 5 July 2000.
In developed countries leasing transactions account for 30-35% of total investments in fixed capital. Many experts maintain that leasing is the only promising mechanism for long-term investment arrangements.
Promotion of leasing practices in the railway sector is necessitated by the need for a technological upgrade and certain difficulties encountered while attempting to attract capital through the “traditional” financing mechanisms such as bank credit. Leasing transactions are advantageous in that they allow the recipients to operate the leased property long before it is paid for in full. In addition, there is no need to raise at once considerable amounts in the form of company’s own funds or loans in order to obtain the assets.
Organised leasing in the railway sector would start out with establishing a professional company, say, Transleasing. Government support for such an agency would be an asset, for example, in the form of direct financial participation at its start-up; however, private capital should take the lead here.
The practical implementation of state investment policy in the railway sector is a complex task. Due attention should be paid to internationally accepted practices relying on comprehensive analysis and appraisal of each particular investment project. Planned investments, projects and programmes are usually proposed and designed by government bodies. Because the state is directly interested in the development of transport infrastructure, it must be the key player in formulating an overall strategy, determining investment priorities, setting up a favourable investment climate and providing support for investment. Private investments can, and must bring in a worthy reward, and contribute to the development of a modern transport infrastructure. This in turn is the precondition for economic revival.
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