Before deciding on a port reform process, governments should articulate clearly the ultimate goals of reform. Broadly, there are two alternatives:
This section focuses on the implementation of partial privatization, since that approach has been used successfully to balance public and private interests and still meet the objectives of port reform. Box 20 shows the spectrum of port reform tools that will be discussed in greater detail in this section.
One tool available to governments to improve port efficiency and performance is contracting out to the private sector certain functions previously executed by the public port management. A public enterprise may decide to contract out certain of its operations through a tender-bid procedure instead of conducting them in house when the following circumstances apply:
Contracting out, however, should be handled with caution as it involves several risks:
Also within the framework of commercialization, a separate contract for the management of the public port authority or public terminal operator may be awarded. Use of such a tool may be appropriate in cases where a port authority has experienced poor management for an extended period of time; the financial condition of the port authority needs to be substantially improved with a view to its corporatization or privatization at a later stage on terms favorable to the ministry of finance of the country concerned; or the port authority would generally benefit from the introduction of private management.
The usual practice is for the government to agree on a management contract with a private sector operator. The operator agrees to employ the existing port staff and to provide adequate and efficient service to all customers. This former requirement (retention of existing staff), however, often emerges as the main reason for the failure of management contracts (for example, the Port of Mombasa). The management company may be saddled with excess labor and labor costs that cannot be sustained in a competitive market.
A management contract is usually entered into for a specified period, generally between three and five years. Upon expiration of the contract period, it may either be renewed or awarded to another party. A management contract may also be used as a stepping stone toward the granting of a more extensive concession. It is important when entering into a management contract that the government or ministry has the right to impose financial penalties or terminate the contract in case the private operator does not meet specified minimum levels of efficiency, financial performance, or throughput.
In concession agreements, governments are still widely involved in port management, mainly through public landlord port authorities. At the same time, the role of private enterprise in the sector will continue to grow. Service and tool ports will gradually disappear and be transformed into landlord ports; in some cases, fully privatized ports will emerge. For landlord ports, public bodies will retain the ultimate ownership of assets (especially land), but will transfer a major part of the financial and operational risks to the private sector. Governments will act mainly as regulators and land developers, while private firms will assume the responsibility for port operations. The main legal instrument used to achieve this realignment of public and private sector roles and responsibilities is a “concession.”
Concessions are widely used in the port sector today. A port concession is a contract in which a government transfers operating rights to private enterprise, which then engages in an activity contingent on government approval and subject to the terms of the contract. The contract may include the rehabilitation or construction of infrastructure by the concessionaire. These characteristics distinguish concessions from management contracts on one end of the reform spectrum and comprehensive port privatization on the other. Concessions, by permitting governments to retain ultimate ownership of the port land and responsibility for licensing port operations and construction activities, further permit governments to safeguard public interests. At the same time, they relieve governments of substantial operational risks and financial burdens.
There are two main forms of concession used in ports today: lease contracts, where an operator enters into a long-term lease on the port land and usually is responsible for superstructure and equipment, and concession contracts, where the operator covers investment costs and assumes all commercial risks. Such contracts are often combined with specific financing schemes such as BOTs.
Lease contracts and concession contracts share the same principal characteristics:
Landlord ports derive a substantial part of their income from leases. Typically, only land or warehouse facilities are leased. Berths may be included or excluded from the lease rent. If excluded, the port authority collects and keeps all revenue derived from berthing fees. There are two basic forms of leases most commonly in use today: flat rate and shared revenue leases. Both types of leases can be used for multiuser as well as single-user (dedicated) terminals or berths.
Flat rate leases give the lessee the right to use a fixed asset for a specific period of time in exchange for periodic payments of a fixed amount. In the case of a land lease, this can be a fixed payment per year per square meter. Lease rates may vary depending on the degree of port site development (for example, unpaved versus paved land or land with or without structures). The main advantage of this form of lease is that the lease rent is known to both parties in advance. The flat rate lease also provides to the lessee the greatest incentive to fully use the available capacity of the terminal.
The main characteristics of the flat rate lease are:
To set lease payments at the proper level, the port authority must be able to forecast accurately the level of business (and, hence, the wear and tear on port infrastructure and the traffic from which the lessee will benefit). It should also try to assess the true value of the land (for example, in its best alternative use) and attempt to recover this value through the anticipated level of business transacted by the lessee. Because the lessee must make the same lease payment regardless of the revenue his business generates, he has a strong incentive to make full use of the leased land and structures. A flat rate lease is often the preferred form of lease for a port whose primary objective is to maximize throughput and benefits to the local economy.
In a shared revenue lease, the lessor also gives to the lessee the right to use a fixed asset for a fixed period in exchange for a variable amount of money. With a shared revenue lease there is a minimum payment regardless of the level of activity, but no maximum payment. The main characteristics of the shared revenue lease are:
A shared revenue lease represents true partnerships between the port authority and the lessees. Under this arrangement, the port must carefully determine the minimum lease payment, taking into consideration its financial obligations, its own forecasts of traffic volumes, and its statutory and business tolerances for risk. Once minimum throughput levels are attained, the lessee and the port share the benefits deriving from any additional activity. The shared revenue lease is the only approach in which the port authority can maximize revenues, employment levels, and throughput. Along with this potential for added rewards, however, come added risks.
Box 21 shows how the two different forms of lease would work for a notional terminal.
Potential lease partners for a port authority are:
Today it is increasingly common for shipping lines to lease terminals from port authorities. For these leases to succeed for all parties, however, two key conditions should exist: the shipping line lessee should generate a large volume of cargo at the port (that is, it should be a major customer), and the port should possess additional facilities of the same type leased to the shipping line to prevent creating a monopoly (a public access facility should be available).
If the port does not have other similar facilities (and other customers), the creation of a monopoly may conflict with the interests of both the port and the national economy. In this respect, the following points should be kept in mind:
Signing a lease contract with an operating company may be less risky than with a shipping line because the operating company usually does not rely on a contract with one single user, but will spread the risks and safeguard its business interests by having contracts with several clients, and in the case of a contract with a locally incorporated port operator, should a legal (contract) issue arise, it is generally easier to enforce liens and other measures needed to compel lease compliance than in the case of a company whose home base is in another country.
Which form of lease is to be preferred? In general, one may conclude that if the port’s principal objectives are to maximize throughput and provide maximum benefits to the local economy through increased employment, a flat rate lease may be preferable. This is often the case when a port is newly established and wants to develop its business. Or if the port’s principal objective is to maximize revenues, with an initial need to subsidize the terminal lessee, the shared revenue lease may be the optimal choice.
A landlord port for the most part does not involve itself directly in port operations. Instead, private port operators and service providers conduct their business independently and compete in the market. The port authority acts as a neutral landlord promoting the port as a whole. Together, they represent the interests of the entire port, with the port authority in the lead.
Relations between the port authority and the private sector cover two areas: commercial relations based mainly on concession and lease agreements, and relations based on the public oversight functions of the port authority, such as enforcement of port bylaws, dangerous goods regulations, and vessel management.
Relations between landlord port authorities and private port operators have become increasingly complex, and the alignment of responsibilities have further shifted. One of the valued features of a landlord port is its clear division of responsibilities. Each party is distinctly aware of its rights, liabilities, and financial responsibilities. Moreover, many governments today are seeking to diminish their financial involvement in ports and to use private sources to finance new port development, including construction of basic infrastructure such as quay walls. This implies not only an increased role for the private sector in port development, but also increased financial exposure. In such situations, a simple and straightforward lease contract often is not sufficient to cover all responsibilities and liabilities. As a result, a more complex contractual relationship, a concession agreement, has been developed.
The primary objective of concession agreements is to transfer investment costs from the government to the private sector. Concessionaires are obliged to construct and rehabilitate infrastructure and operate a facility or service for a fixed number of years. Concessions may be “positive,” when a concessionaire pays the government for concession rights, or “negative,” when the government pays a concessionaire for the services it provides under the agreement.M
The benefits of concessions in the port sector include:
Disadvantages associated with concession contracts include:
Concession agreements are often developed as a part of a BOT scheme and represent specific agreements between a government or port authority and the special purpose company (SPC) established by the concessionaire to carry out construction and operation of a port development project. Under concessions, the ultimate ownership of the affected assets is retained by the national or local government, or by the port authority. At the same time, part of the commercial risks of providing and operating the assets is transferred to a private concessionaire.
In agreements involving an SPC, a port authority should ensure that:
The port authority may (depending on legal strictures) hold a financial interest in the SPC created by the concessionaire, or it may not. If the port authority chooses not to participate financially in the SPC responsible for developing the port assets under a concession contract, then its role as an independent and impartial public entity does not significantly change. The only real change is in the shift in responsibility for investments from the port authority to the concessionaire.
If a port authority not only enters into a concession agreement with the SPC, but also participates in the company as a shareholder, then the port authority’s role changes more dramatically. By investing risk capital, the port authority becomes more directly involved in port operations. Sometimes this situation is prohibited by law (Poland). If the venture has a monopoly in the port (such as having the only container terminal), the situation might be acceptable, although a conflict of interest may arise between the roles of port authority as an investor and as the regulator of the monopoly. If the venture competes with other terminals in the port, however, participation of the port authority in the SPC will give rise to a serious conflict of interest and will undermine its independent, neutral position.
Depending on the specific situation, a concession agreement may consist of a combination of contracts including:
Generally, a typical concession agreement will clearly set out the terms relating to:
It is common practice that during construction, the concessionaire and the port authority use an independent test certifier to certify that all work has been carried out in conformity with the requirements of the concession agreement. Upon the return of facilities, the SPC should be required to carry out any work needed to bring them up to an agreed-on standard. Accordingly, provisions must be included to inspect facilities and identify any deficiencies.
A concession agreement for a greenfield project is less complicated than the takeover of an existing terminal or port. In such a case, no personnel or existing facilities are acquired by the SPC. However, a terminal access agreement still must be drawn up between the government or port authority and the SPC to cover such things as the building of access roads and rail, the provision of water and electricity, and other facilities.
Master Concession. In some instances, port reform is implemented through a master concession contract, which enables a private operator to carry out many of the port functions. This type of contract has rarely been used, but it is an option. Usually, the principal choice is between granting a full master concession, in whatever form, and implementing a landlord port structure comprising the public port authority and private terminal operators. The choice between the two options considerably influences further port privatization process. When choosing a master concession, the government leaves the unbundling of port activities for a large part in the hands of the concessionaire. It might also be expected that retrenchment costs resulting from granting a concession would primarily be borne by the government.
The government should allow the concessionaire enough freedom to structure its business according to its own requirements, otherwise the exercise does not make much sense. Lack of freedom will lower the concession’s attractiveness. To make a master concession attractive for a private investor, the concessionaire should be allowed to unbundle the port business in the way it thinks fit. On the other hand, introducing a landlord port system will require a much more active role for the government in structuring the various concessions of terminal and marine activities, as well as reorganizing the port authority.
BOT Arrangements. A landlord port authority is typically responsible for constructing fairways, quay walls, and terminal areas. Such construction is usually based on a port master plan and carried out in close consultation with the future operator. Sometimes construction of such facilities has already started before agreements have been concluded with the prospective operators. This may be the case when the market demand is strong and the port authority is confident of finding clients and is prepared to take the risk that port capacity will go unused. As a rule, port authorities should permit private operators to finance most of the additional capacity (including the quay wall expansion). The port authority can then concentrate on access infrastructure and protective works relating to port extension and on renovation projects. Port authorities may sometimes have difficulties amassing the investment funds from dues or retained profits. In such cases, they have sought to acquire funds either from an IFI (such as the World Bank) or from private lending institutions. For specific port facilities, such as container or bulk terminals, private funding can be arranged through a concession agreement as described above. BOT schemes are a specialized form of concession designed to increase private financial participation in the creation of port infrastructure and superstructure without changing the landlord structure of the concerned port (see Box 22).
When designing BOT schemes, it is important to consider carefully which parts of the port can be concessioned and which parts should remain with the port authority. Generally, BOT schemes can be applied to all assets that can be exploited as a separate business. Key among these are:
Other port assets cannot be easily concessioned as individual items. The most important of these are assets such as breakwaters, piers, connecting channels, intraport roads, and other common areas. These assets, however, can be part of a master concession agreement or a comprehensive privatization scheme.
A carefully crafted concession is central to the implementation of a BOT scheme. The concession contract gives the concessionaire the right to run the facility (with limited and clearly defined government oversight) and earn a commercial return on investment. The concession or BOT agreement, with the required business plan, will set out estimates of the likely revenues, costs, debt repayment, and profit for the SPC. This information is necessary to assess the project’s financial viability and its debt repayment capacity. Many planned BOT projects fail because their terms are negotiated without taking into account whether or not the project is bankable. Governments often try to negotiate a BOT arrangement at an early stage in the project preparation cycle, before the full scope of the project is known and before a regulatory oversight regime has been decided. While this might generate significant revenues for the government in the short run, it may saddle the concessionaire with an impossibleto- complete project. There are many variants of BOT-like schemes, including:
A special case is the wraparound BOT (WBOT); this scheme is used in the case of expansion of a government-owned port facility by the private sector, which would hold title to the expansion only. Under such a scheme, the SPC would:
In many cases, the government effectively becomes a partner in a BOT arrangement by investing in certain portions of the infrastructure. Private parties appear to be reluctant to invest in basic port infrastructure, not only because it makes it more difficult to price use of infrastructure in a manner that permits the concessionaire to realize a reasonable return on the investment, but also because these assets are largely immobile and have no comparable alternative use. Political instability, change of control, antiprivatization backlashes (nationalization), unexpected new tax regulations, and other governmental actions could make comprehensive BOT schemes much less attractive.
Comprehensive port privatization has, until now, been developed only in the U.K. and in New Zealand. Outright sale of port land combined with a transfer of traditional public port tasks, such as safety and environmental oversight (for example, harbormaster’s tasks), remains an exception. Other countries have introduced significant privatization schemes, but mostly with respect to port and terminal operations.
Comprehensive port privatization often requires the enactment of new laws, both to regulate the transfer of ownership and functions from the public to the private sector and to define the borderline between redrawn public and private responsibilities and tasks. Such legislation should establish:
Privatization legislation may include additional elements, depending on the local situation, the structure of the former port authority and the specific legal, institutional, and socioeconomic situation in the country concerned.
In the U.K., the benefits of comprehensive port privatization most often cited are:
These features, it was argued, would result in improvements to the port system’s financial and operational performance. Note, however, that not all of the above-mentioned benefits are due exclusively to comprehensive privatization; other port reforms may generate similar benefits.
A vast majority of maritime nations considers comprehensive privatization to be incompatible with national and regional interests. Specific reasons why governments and port authorities have refrained from pursuing full privatization are diverse, but often include one or more of the following:
Background on the U.K.’s port privatization is provided in Box 24a and 24b. After more than 10 years of experience, some conclusions can be drawn concerning the U.K.’s implementation of comprehensive privatization. Generally, the U.K. model of port privatization is highly determined by local factors and ideological considerations that are unique to the British experience. However, it appears that:
The U.K. experience, therefore, has yielded very mixed results and provides few arguments supporting comprehensive privatization (the sale of port land and transfer of all public functions to the private sector) when other, less radical reforms can achieve the same objectives.
Increasingly, major terminal operators are trying to secure their strategic position by offering complementary terminal facilities located either in the foreland or hinterland. This practice is most apparent in connection with containerized cargoes. In the event that an operator engages in operating other facilities such as inland terminals, rail facilities, or even entire port complexes abroad, its objectives and motivations are broader than those of a localized operator.
The phenomenon of supply chain management can for instance be well observed in the Port of Rotterdam, where very large crude carriers (VLCCs) discharge crude oil from various oil producing countries. Rotterdam has a virtual monopoly in this traffic in Northwestern Europe as a result of its very deep access channel to the North Sea (78 feet). Pipeline systems have been constructed to connect the port with various refineries in the hinterland, such as in Belgium and Germany. Thus, the inland transport chain is effectively controlled by one port, creating a stable environment for the transport of crude oil as well as an attractive location for balancing refineries. The Rotterdam Municipal Port Management was instrumental in developing the pipeline systems.
Some port authorities also seek to attract customers to their port facilities by facilitating or cofinancing terminal facilities outside their port area. This more expansive view of a port authority’s role has the potential to influence traditional port management structures, particularly in ports structured on the landlord model.
A port authority’s involvement in terminal operations beyond its homeport may not be focused solely on improving logistics chains. The main objective might be to maximize the port authority’s revenue by making more widespread use of its operational expertise and management, especially in the case where the port authority acts as terminal operator as well.
Port authorities seeking to become transport chain facilitators should be aware of possible conflicts of interest and the potential loss of their neutral position. Managing a port area, including attendant public functions, is different from optimizing a logistics chain, which can be considered a supporting function for the ports industry, and for that reason essential from a competitive point of view.
The PSA Corporation is a prime example of globalization of terminal operations. Since its establishment, it has become a leading player in the global terminal operating business and today owns, manages, and operates a chain of container terminals and logistics hubs throughout the world. Before taking on this expanded role, PSA had to change thoroughly its legal structure. Box 25 describes this transformation.
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