INFRASTRUCTURE IN MONGOLIA: CHALLENGES AND OPPORTUNITIES

April, 2009

INFRASTRUCTURE IN MONGOLIA: CHALLENGES AND OPPORTUNITIES

April, 2009 Ulaanbaatar, Mongolia


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Contents

1. OVERVIEW.................................................................................................................................................4 1.1. 1.2. 1.3. 1.4. 2. INFRASTRUCTUREBOTTLENECK......................................................................................................................... 4 SHORTAGEINFINANCING .............................................................................................................................. ..4 . IFIINFRASTRUCTUREFINANCING....................................................................................................................... 6 PUBLICPRIVATEPARTNERSHIP:THESOLUTION....................................................................................................6

INFRASTRUCTUREINMONGOLIA:NOWANDFUTURE................................................................................8 2.1. 2.2. 2.3.

POWER .............................................................................................................................. .........................8 .

WATER............................................................................................................................... ......................12 TRANSPORT............................................................................................................................... ................17

3.

BESTPRACTICES.......................................................................................................................................23 3.1. 3.2. 3.3. MANILAWATER,INC.,PHILIPPINES................................................................................................................. 23 PHUMY3POWERPLANT,VIETNAM............................................................................................................... 24 SHARUSTKAMENOGORSKSTATIONRAILWAYLINE,KAZAKHSTAN.......................................................................26

4.

OUTLOOK.................................................................................................................................................27

CONTACTS........................................................................................................................................................29

INFRASTRUCTURE IN MONGOLIA: CHALLENGES AND OPPORTUNITIES

1. OVERVIEW
TheissueofimprovingtheinfrastructuresectorhasbecomecrucialforMongoliaasaresultofeconomic and social developments during the last few years. Growing urbanization around the capital city Ulaanbaatar and major mining areas, increase in industrial production, residential and commercial real estate construction and foreign trade have caused a significant pressure on supply of infrastructure services.Existingphysicalcapacitiesareoutdatedandinsufficientinvestmentshavebeenmadetorenew and expand them, and to improve their Infrastructuresegmentalclassification quality. As a result, current status of Subsegments infrastructure is unable to meet increasing Segments demand. Power supply has experienced Energy electricitygeneration,transmission,and shortages to better match to growing distribution naturalgastransmissionanddistribution migration to Ulaanbaatar and industrial airportrunwaysandterminals production. So has water supply as a result Transport railways(includingfixedassets,freight, of rising living standards that led to intercitypassenger,andlocalpassenger) importance of improving the quality of tollroads,bridges,highways,andtunnels drinking water and sanitation services. portinfrastructure,superstructures, Launching new mining deposits has raised terminals,andchannels concerns primarily in transportation Water potablewatergenerationanddistribution seweragecollectionandtreatment network amid expanding trade with China Telecommunications fixedormobilelocaltelephony andRussia. For the purpose of this report, the World BanksclassificationonPPPinInfrastructure databasewasusedwithregardtothetypes ofinfrastructureservices. 1.1. INFRASTRUCTUREBOTTLENECK Todays infrastructure capacities do not allow Mongolia to provide sufficient and quality basic public services. Only 67% of population has access to power (electricity) and 35% to water. Roads are in poor condition,only3.5%ofroadarepavedandexistingonesneedcapitalrepair.Therailwaynetworkcapacity does not match to growing exportimport cargo flows. Such infrastructure bottleneck is expected to get furthernarrowedstartingfrom2012whenthemajorminesstartproductionofminerals.About8,000jobs are estimated to be created in the mine areas, with most of the employees coming from other regions, thatwillleadtomoreburdenonwater,sanitation,electricityandheatingsupplyinthesouthernregions. More road construction is needed amid increasing number of motor cars and Potentialmajorminerals inSouthernMongolia trucks. Transporting multimillion tons of Mineral Life Production Employment Startdate (years) (000tons/year) Estimate Estimate the minerals to be mined both for Coal 20200+ 69,000 4700 20032015 internal use and exports to Russia and Copper* 2050 2,250 5000 2012 China, will further increase pressure on *Productionfigureisforcopperconcentrate(30%copper) landtransportinfrastructure,inparticular Source:TheWorldBank railwaytransport. 1.2. SHORTAGEINFINANCING Mongolian infrastructure sector requires substantial investments to renew existing capacities and build new ones. Mongolias infrastructure needs US$8bn over the next decade, Trade and Development Bank CEOsaidatMongoliaAsiaInvestmentForumonMarch31thisyearinHongKong.AccordingtotheWorld Bankestimates,theinfrastructurefortheOyuTolgoiandTavanTolgoiprojectsalonewillrequireaninitial investmentofmorethanUS$5bnoverthenextfiveyears.

domesticlongdistancetelephony internationallongdistancetelephony
Source:TheWorldBankPPPinInfrastructuredatabasemethodology

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The government alone does not have sufficient resources for infrastructuredevelopment.Althoughinternationalfinancialinstitutions suchastheWorldBankandtheAsianDevelopmentBankhaveprovided multimillionUS$investmentloansinthesector,Mongoliawillstillneed more investments from private sources, particularly from mining companiescomingtothesouthernmineareas. The government, realizing the importance of infrastructure development, has increased capital spending in power, transport and communication over the recent years. Investments in infrastructure reachedarecordlevelin2007at19%oftotalexpenditures(10%ofGDP) from 13% (4% of GDP) in 20012006. Between 20062008 the capital spending tripled. The public investments amounted to 10% of GDP in 2008,includingthestatebudgetfinancesUS$290mn. Over 19952005, loans, grants, private investment and the governments investments in infrastructure have averaged US$128mn per year, including grants 20.3% and loans 68.7%, with government and private resources providing the rest. Assuming that infrastructure investment needs are estimated atUS$427mnperyear,existingfinancingsourcesleaveagapof US$300mnperyear. Compared with previous levels, annual road infrastructure investment alone will equal eightfold in absolute terms over thenextdecade.Totalinvestmentsneededequaltoanannual investmentofabout15%ofGDPoverthecomingyears,stillan unsustainable level without international precedent. The mismatchbetweenavailablefinancialresourcesandproposed investmentssuggeststhatplanswillhavetobecombinedwith regulatory and institutional reform and a greater role for private investments as well as with effective use of budget spending.

InvestmentneedsforSouthern Mongolia Electricity Towndevelopment Landtransport Waterresources TOTAL

Source:TheWorldBank

US$mn 2,711 1,454 800 262 5,177

Investments ininfrastructureas%ofGDP

Source:TheWorldBank

Annualinvestmentgap

Basic public infrastructure services, including heat transmission and distribution, sewerage, pure water supply, are provided by 26housingandcommunalservicecompanies,licensedfromERA Source:TheWorldBank (ElectricityRegulatoryAuthorityofMongolia).Sincepricesforthe publicinfrastructureservicesarelow,theseserviceprovidersarelossmaking.Asof2008,opreationalloss in25licenseholderstripled.Systemiclossesdonotenablethehousingandcommunalservicecompanies torepairand/orrenewtheinfrastructurecapacitiesresultinginfurtherdeteriorationinthequalityofthe services.
Housingandcommunalservicecompanies'revenue Revenue ofwhichRevenueofelectricityforheating totalexpense Operationalprofit NetProfit(Aftertax) 2007 MNTmn 27,011.7 12,470.4 27,436.8 425.2 1,665.8 2008 MNTmn 33,592.4 16,442.6 32,153.6 1,438.8 1,744.5 Change MNTmn 6,580.8 3,972.2 4,716.8 1,013.7 78.7 Change % 124.4% 131.9% 117.2% 338.4% 104.7%

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INFRASTRUCTURE IN MONGOLIA: CHALLENGES AND OPPORTUNITIES

1.3. IFIINFRASTRUCTUREFINANCING The Asian Development Bank (ADB) is the largest lender to Mongolia among international financial institutions. During 19912007 period, ADB has financed 35 projects totaling US$676.5mn in Mongolia, including US$292.3mn (43% of total ADBs financing) in 12 infrastructure projects. It is estimated that ADB spent US$36.8mn for Western Regional Road (Corridor Development Project Phase I) in 2008, accordingtotheADBscountrystrategyfor20082010.The financialinstitutionisplanningtofinanceUS$30mnforSouth Gobi infrastructure project and US$40mn for Western Regional Road (Corridor Development Project Phase II) in 20092010. According to the recentdata,theWorldBankthrough its International Development Agency (IDA) has provided more than US$184mn (44% of the World Banks total financing)forinfrastructureandminingprojects.Currently there are four active projects worth US$61mn in energy, water and sanitation, and mining sectors. There is also a pipeline energy project in Ulaanbaatar with the Banks financingUS$15mn. 1.4. PUBLICPRIVATEPARTNERSHIP:THESOLUTION The private sector involvement in Mongolian infrastructure development has mixed records. Though private investment record in air transport and mobile telecommunication is quite impressive, private participation in other sectors remains lagging or has no track record mainly due to uncertainty in regulation, lacking transparency and political will. As a result private investment in infrastructure (excluding civil aviation and telecommunication) remains limited. In order to attract sustainable private investmentandinvolvement,thereisanurgentneedforpolicy,regulatoryandpricingreformstoensurea levelplayingfieldforprivateprovidersbasedoncostbasedtariffsandtheconfidencethatsucharegime willextendintothelongterm. Takingintoaccount10%increaseofGDPoverthecomingyears,accordingtotheofficialauthorities,and estimated annual infrastructure investment approaching 20% of GDP, the government and interational donorsareunabletomeetthesustainablelevelwithoutprivateinvestors.Practicesregardingcoordination andintegrationofmininginfrastructuretobebuiltbytheprivatesectoraremixed.Undercertaincriteria whichareconformingtoregulationandofquantifiablesocialbenefitsandeffectivecost,thegovernment maychooseoptionstoparticipateinmultiuseinfrastructureprojects. Since the governments budget spending and IFIs investment loans are insufficient, private investments are highly needed and promoted at all levels of the Mongolian authorities. As a solution to the infrastructure shortage, Mongolia is considering to use publicprivate partnership (PPP) scheme. Taking intoconsiderationthefactthatMongoliahasnotrackrecordonthisformofinvestmentprojects,andwith aviewtoeffectivelyintroduceandfurtherexecutePPPprojectsininfrastructure,respectiveregulatoryand institutionalbaseshavetobeinplace.Mostinfrastructureservicesaresettobenaturalmonopoliesunder variousstateoraimagrunagenciesand/orenterprises.Currentlydraftconseccionlawisbeingdeveloped which will envisage various aspects of PPP implementation: project initiation, assessment, structuring, financing,regulation,tariffsformulation,managing,monitoring,controlling,etc.Ontopofthat,ministries and agencies lack special PPP project management skills. The laws on natural monopolies and
ADBfinancing
Sector Transportand Communication Energy Water Supply, Sanitation andWasteManagement Total Source:ADB Numberof projects 6 4 2 12 ADBfinance, US$mn 171.6 93.8 26.9 292.3

TheWorldBankfinancing(completedprojects)
Project CoalProject TransportDevelopmentProject TransportRehabilitationProject EconomicRehabilitationProject EconomicTransitionSupportProject SustainableLivelihoodsProject Ulaanbaatar Services Improvement Project Total Source:TheWorldBank WorldBankfinance, US$mn 35 34 30 30 20 18.7 16.7 184.4

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private/foreigninvestmentsaretobeamendedbecausePPPprojectsrequiredelegationofpoweramong variousstateagenciesprovidinginfrastructureservicesandprotectionofprivateinvestorsrights. Asfarastariffsforinfrastructureservicesareconcerned,whiletelecommunications,airandrailtransport sectorschargemarketbasedormoreindependentserviceprices,roadtransport,powerandwaterutilities services, particularly in Ulaanbaatar, are significantly underpriced or below operating costs. To attract privateinvestment,Mongolianeedsareadjustmentofpricingpolicytoensurefinancialsustainabilityand long term maintenance of capital stock. Setting independently regulated cost recovery or market based tariffscombinedwiththecentralgovernmentfundedsubsidymechanismfordomesticenergyandwater services,followedbyagradualintroductionoftransportpricingreform,isthemosturgentpricingreform to meet the urgent need to increase private sector involvement. A new business approach leading infrastructure business entities to a commercially sustainable footing in longer term will be crucial for successfuldevelopmentofMongoliasinfrastructure. In this regard, the government of Mongolia formed Southern Mongolia Infrastructure Coordination Unit underPrimeMinisterinchargeofthemajorminingprojects.AsinglePPPUnitissettobeestablishedat somelevel,eitherundertheMinistryofFinanceorNationalDevelopmentandInnovationCommittee.The IFIs have expressed willingness to assist to the PPP Unit by providing capacitybuilding and advisory services.

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INFRASTRUCTURE IN MONGOLIA: CHALLENGES AND OPPORTUNITIES

2. INFRASTRUCTUREINMONGOLIA:NOWANDFUTURE
2.1. POWER The energy market in Mongolia is an integrated system of coal production for electricity and heat generation. Outside the combined heat and electricity system, there are many Heatonlyboilers (HOBs) thatproducehotwaterandsteamfueledbycoaltomeetthespaceheatingandtaphotwaterneeds.In theCentralEnergySystem(CES)therearefiveelectricitygenerationcompanies,onetransmissioncompany and four distribution companies. Each of the combined heat and power plants (CHP) has two supply outlets: 1) an electricity transmission system that buys and sells electricity to multiple distribution companies;and2) adistrict heatingcompanythatbuystheheatandtransmitsittosubstations andthe municipalhousingservicecompany. Underthecurrentmarketstructure,thetransmissioncompanybuysfromgenerationcompaniesandsells to distribution companies based on contractual arrangements. Currently, the structure is really a cash settlementsystem,inwhichelectricitydistributioncompaniesdepositpaymentsforelectricitypurchases intoazerobalanceaccountthatthetransmissioncompanyadministers. Space heating in Mongolia is provided through three sources: 1) CHPs provide electricity heat and hot water to the urban centers in Ulaanbaatar and a few other cities; 2) HOBs meet heating and hot water needs, usually serving either a single building or a small central network of several buildings; and 3) individualheatstovesburningcoalorwood. The overall energy balance available for Mongolia shows that the country mainly depends on coal as a primary energy source, which is the only source of energy for electricity generation and space heating, accountingforover80%ofthetotal.Petroleumaccountsforthemostpartoftheremainingbalance.Over 90%ofthegrossenergysupplygoesintotheproductionofelectricityandheat.

TheNationalDispatcherCenter(NDC)

TPP2 TPP3 TPP4 ErdenetTPP DarkhanTPP P

TPSs sell energy to CRETGC

The Energy Regulatory Authority (ERA) regulate P1, P2 and P3 directlyonthebaseofcostofsoldgoodsforeachentities(TPSs, CRETGC,EDC)andregulateP4andP5basedonpricequotefrom Russia.

Consumersof electricity(C), including households, organizations, manufactories andetc

CRETGC pay cash to

P2 CentralRegional Electricity TransmissionGrid Company (CRETGC)

CRETGC sells energy to EDC

MGL exports electricity (Avg 1518 mn kW/h per annum)

Energy Distribution Companies (EDC)

(C)pays cashfor consump tionof energy

P3
EDC sells energy to(C)

P5

P4

EDC pay cash to CRETGC

Russia
MGL imports electricity (Avg 135 mn kW/h annually)

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Coalindustrypotential As a primary source of energy for Mongolia, the coal industry is critical for the operation of Mongolias energysystem.Estimatedpotentialcoalproductioncouldreach55milliontonsperannum.Thequalityof the discovered reserves varies from lowgrade coal lignite to highquality bituminous coal coking coal. Most part of the current production is lowquality coal primarily mined at Shivee Ovoo, Baganuur and SharynGol. Notwithstanding the heightened interest, Mongolias coal resources receive limited official interest from international agencies. For example, the coal section of BPs annual statistical survey does not register Mongolia at all. Similarly, the International Energy Agencys statistics section fails to recognize the countrys resources, while it does not warrant a country report with the US Energy Information Administration.Moreover,thecountryappearsinvisibleinthestatisticsoftheWorldCoalInstitute. However, Mongolia contains one of the biggest coal reserves in the world. According to US consultingfirmNorwest,theTavanTolgoideposit, which makes up a small part of the Gobi desert, holds about five to six billion tons of coal, which could sustain a mine life of 50 years and annual productionof100milliontons.Thisdepositalone takesthecountryintothetoprankofworldcoal exporters. The Mongolian Coal Association says thattherearemorethan200knowncoaldeposits inthecountry.
PotentialmajorcoalminesinSouthernMongolia Name TavanTolgoi Uhaahudag BaruunNaran TsagaanTolgoi NariinSukhait OvootTolgoi Sumber Life (years) 200+ 100 20 20 40 50 50 Production (000tons/year) 15000 10000 6000 2000 2000 5000 5000 Estimated startdate 2012 2009 2012 2015 2003 2008 2015

Another big coal reserve is Shivee Ovoo. Shivee 200+ 14000 2015 Ovoo is located in Govisumber aimag, beside the ShiveeOvoo Source:TheWorldBank transMongolia railway line. It is estimated to have over 2 billion tons of coal reserves. Shivee Ovoocoalissubbituminous,withhighmoisturecontentandpoorignition,thatcausessomedifficultyin usinginpowerstations. Given its limited domestic requirements, Mongolia has the potential to become one of the major coal exporters in the world. There is every indication that demand for Mongolias coal will increase. In 2008, Chinas massive demand for energy changed it from being net coal exporter to a net coal importer. Indonesia,theworldssecondlargestcoalexporter,issuggestingthatitwillnotbeabletomeetexpected demandgrowthintheAsiaPacificregionasthedomesticconsumptionisincreasing. Electricity generation accounted for 25% of all Asian energy use in 1990, but, in 2006, the International EnergyAgencyforecastthatby2030itwouldriseto44%.By2030,Asiaisexpectedtoreach45%ofglobal electricity demand, compared with 20% in 1990. Coals share in Asian electricity production has been projectedbytheIEAtorisefrom56%in2004to63%in2030.InChina,thecountryslongdependenceon coal has grown as coalfired plants have been commissioned on a weekly basis. By end2007, Chinas 712,290MWtotalcapacityincluded556,400MWofcoalfiredplantwhich,during2007,produced85%of national electricity production. Moreover, much of that capacity was added in recent years, with 2007 alonewitnessingcoalfiredgenerationofadditional65,000MW. ItisclearthatMongoliagoingforwardmayplaysignificantroleinenergymarketofAsia.Yet,despitesuch huge energy potential, in recent years Mongolia is hard pressed to meet the increasing energy demand domestically.Soonthe lackofadditionalelectricity capacitymayhamperthedevelopmentof manynew miningdepositswhicharevitalfortheeconomyofthecountry.AccordingtotheWorldBankestimates, SouthernMongoliamaygenerateaboutUS$2bnfromcokingcoalexport,aboutUS$1bnfromthermalcoal export and around US$2.3bn from copper exports from the Oyu Tolgoy and Tsagaan Suvraga deposits. Therefore,thebottleneckinenergysectormaycosttheeconomyaboutUS$5.3bnperannum.

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INFRASTRUCTURE IN MONGOLIA: CHALLENGES AND OPPORTUNITIES

Electricitydemand Recent growth in the Mongolian electricity network is extensive for the country with low income populationandlowpopulationdensity.Percapitaelectricityconsumptionrateat1300kWh,higherthan one might expect, is driven by energy used in the mining sector. The electricity and heating sectors consumeabout5milliontonsofcoalorabout65%oftotaldomesticcoalproduction.TheCentralEnergy System represents 91% of installed generating capacity and 96% of electricity supplied. At present, generation, transmission, bulk supply, distribution and retail tariffs are all determined by Energy RegulatoryAuthority(ERA)onacostofservicebasis.CESelectricitydemandrategrewabout4%annually between20002007andpeakedinDecember2007at631MW. On the back of surgingcommodity prices, Mongoliahaswitnessedsignificant economicgrowth over the last10years.UrbanizationfocusedaroundUlaanbaatarandminingareas,theexploitationofnewmines, andcontinuedgrowthinRussiaChinatradeallhascontributedtotherapidexpansionoftheeconomy.In addition,theexploitationofnewminingassetssignalsasubstantialriseinelectricitydemand,whichhas averageda7.6%annualgrowthoverthelastfiveyears.Increaseddisposableincomepushingthedemand for more comfortable housing and the greater use of electrical appliances, as well as an increase in passengervehicles.Furthermore,wagesandsalariesofworkershaveincreasedbyover40%during2001 2004. Private house construction more than doubled between 20012005, while the number of private automobiles grew by about 50% in the same period. According to the World Bank estimates, without additionalgeneratingcapacity,therewillbeinadequatesupplyreservemarginfrom2011,andelectricity demandwillexceedsupplyfrom2012. ElectricityDemandandSupplyinMongolia
4,000 3,500 3,000 2,500 2,000 TPP#2(CHP) 1,500 Import 1,000 Export 500 Totaldemand,GWh 0 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 ErdenetTPP(CHP) DarkhanTPP(CHP) TPP#4(CHP) TPP#3(CHP)

Source:EnergyRegulatoryAuthorityofMongolia

Ifdemandkeepsgrowingatthisleveltheelectricitydemandmayreachabout1200MWin2014.Demand in SouthernMongoliaisprojectedtoreach294MWin2012,and650 MWby2020.Suchlevelsofrapid growth in such a short period are unprecedented in Mongolias electricity sector and bring new opportunities and challenges. Without additional generating capacity, electricity demand will exceed supplyfrom2012.

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Potentialsourcesofpower Thereareabouttenpotentialsourcestomeetgrowthindemand,however,onlythreeofthemhavestrong potential to be commissioned by 20132014. The proposed Oyu Tolgoi 450 MW thermal power plant is probablytheonlyplantthatcouldbereadytosatisfytheincreasedelectricitydemandin2012.Adelayof oneyearinsupplyingpowertoOyuTolgoiwoulddeferminingrevenuesofUS$2bnandthegovernment revenuesofUS$670mn. Another potential source is Tavan Tolgoi thermal power plant. A minemouth plant at Tavan Tolgoi has been proposed for development to meet electricity demand in Southern Mongolia as well as supply electricitytotheCES.Theplantisplannedtobefuelledbythermalcoalremovedtoallowaccesstothe coking coal deposit at Tavan Tolgoi. According to the Ministry of Fuel and Energy of Mongolia, the proposedplantwouldhaveacapacityof600MWwiththeinvestmentcostofUS$350mn.However,there hasbeenlittleworkonthedevelopmentofthisprojecttodate.Allowingtimeforthenecessaryfeasibility studiesandconstruction,itseemsunlikelythattheplantcouldbecommissionedbefore2013. Third,theproposedthermalpowerplant#5wouldbeanewcombinedheatandpowerplant,locatedat Ulaanbaatarandfueledbylignite.Becauseoftheurgentneedtomeettheelectricityandheatingdemand growthinUlaanbaatar,thegovernmentofMongoliaissuedarequestforproposalsforTPP#5.Therequest specifies a 300MW CHP with a heating capacity of 700 GCal/hour, at an estimated investment cost of US$650mnandwithanexpectedcommissioningdatein2013. Finally, expanding electricity imports from Russia is another alternative to meet the current increase in electricitydemand.However,theMongoliangovernmentisconcernedabouttherisksrelatedtoincreasing dependenceonforeignenergysources,althoughthecurrentpricesforelectricityimportsfromRussiaare significantlylowerthanthecostofnewcapacityinMongolia.Therelativelylowpricesreflectthepresent excess capacity in Russia and it is uncertain how long such excess capacity will remain and what will happen to prices when the Russian electricity system requires largescale investment in its aging infrastructure. The first three options require substantial investment. The government of Mongolia has proposed the MongoliaIntegratedPowerSystems(MIPS),a40yearpowerandheatdevelopmentprogram,asawayto address looming shortfalls in capacity, which could occur as early as 2012. The cost of such program is about US$2bn over the period through 2020, which is well beyond the systems financial resources. On averagethisprogramrequiresUS$150mnannually,whichissubstantiallyabovetherevenuetheCESearns ineachyear. Privatesectorparticipation Currenttariffsforelectricityarelowtosustainthepowerindustry.Ifprivatesectorfinanceistobeusedto buildpowerplants,tariffswillneedtocoverthecostsofservicedelivery,sincetheprivatesectorwillnot invest in nonprofitable projects. According to the World Bank estimates, compared with current tariffs, costcovering tariffs for new facilities could be 3.5 times higher for Electricitytariff electricity. Also, the CES suffers 2002 2007 2008 technicalandcommerciallossesequal Households 0.039 0.044 0.054 to about 25% of energy distributed in 35 KV and lower voltages, the losses Enterprises 0.039 0.044 0.079 having risen from 21% in 1999. This performance is substantially weak compared to international best practices where losses are below 5%, andabout20%oftotalproductionisconsumedbytheplantsthemselves. Inaddition,effectiveparticipationoftheprivatesectorinthefuturewilldepend,toaconsiderableextent, on the condition of Mongolias regulatory framework, which has several impediments to successful regulation.Ifregulatoryreformsarenotcarriedout,theresultwillbetogreatlyincreasethefinancinggap between available funds and capital expenditure needs, making it harder to fill the gap from private investment.

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INFRASTRUCTURE IN MONGOLIA: CHALLENGES AND OPPORTUNITIES

TherehasbeenacertainprogressintheregulatoryenvironmentinMongoliainrecentyears.Thecountry hasdevelopedoneofthemostindependentandactiveenergyregulatorysystemsinAsia.However,some regulatory functions are duplicated by aimags and the capital city. In total, Mongolia has more than 20 separate governmental entities with pricecontrol powers, while New Zealand, with an economy of 40 timeslargerthanMongolias,hasoneregulatorybodyoverseeingprices. Outlook It is clear that Mongolia needs huge investments in power generation to meet its growing domestic demand and the country cannot afford such huge investments without private sector participation. Although the country has succeeded to make considerable progress in the regulatory environment for privateinvestors,thegovernmentdoesnothaveenoughpoliticalwilltoincreaseelectricitytariffstomake thesectorattractiveforprivateinvestments.Therefore,itismostlikelythattheprivatemininginvestors suchasIvanhoeMinesandRioTintowillproceedbuildingitsownpowerplantsinsidethefencetomeet their own energy needs, while households, particularly those living in gers will continue to receive restrictedsupplyofenergyinthe shortrun.Inthemidterm,webelievethegovernmentwillbe ableto undertakethenecessaryinvestmentstoimprovetheenergyinfrastructureduetoincreasedrevenuefrom windfalltaxesandprofitsfromminingcompanies. 2.2. WATER Conclusionofinvestmentagreementswithminingcompaniestodeveloptwoprominentdepositslocated in Southern Mongolia, Oyu Tolgoi and Tavan Tolgoi, poses serious challenge to the water sector of Mongolia. The water demand in Southern Mongolia is expected to increase 7fold by 2020. In addition, rapidurbanizationisaddingtothepressureofurbanutilityserviceprovidersthatalreadyoperateatafull capacity. The Mongolian water sector is generally underdeveloped due to low tariffs that do not cover costs and insufficientinvestments.Asresult,waterinfrastructurehasbeendeterioratingsincethepullbackofSoviet subsidies. The quality of water services is inadequate, where only 35% of population has access to satisfactorywaterand25%topropersanitation. The Government of Mongolia recognizes the issues in the water sector. The Millennium Development Goals (MDG) set by the government targets to increase the proportion of population using satisfactory waterto70%by2015andincreaseadequatesanitationfrom25%to50%respectively.Howevertomeet MDG targets, investments, not including infrastructure around mining projects, have to substantially increasefromcurrentUS$14mntoUS$200mnperyearandsourceoftheseinvestmentshasnotyetbeen identified. Demandside:SouthernMongolia Southern Mongolia is expected to experience substantial increase in fresh water demand due to the developmentofminingprojects.Currently,freshwaterconsumptionisequalto50,000m3perdayandby 2020requiredwatersupplymayriseto350,000m3perday.Theminingindustrycouldrequire200,000m3 perdayby2020,a22foldincreasefromthecurrentdemandof9000m3perday. Inadditiontotheminingsector,urbanwaterconsumptionisexpectedtorapidlygrow.Currentpopulation ofSouthernMongoliaisabout55,000andwaterconsumptionisabout6,000m3perday.TheMinistryof ConstructionandUrbanDevelopmentforecastsapopulationincreaseof110,000by2020.Thistranslates intowaterconsumptionof30,000m3perdayby2020.

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WaterDemandEstimatesinSouthernMongolia(m3) 350000 300000 250000 200000 150000 100000 50000 0 2008

Source:TheWorldBank

Tourism Irrigation Industry Rural Urban 2015 2020 Mining

Remainingwaterdemandisanticipatedtocomefromrural water consumption, industry, irrigated agriculture and tourism. To meet increasing water demand large investments into fresh water sector are required. The World Bank estimates that fresh water sector investment needs in Southern Mongolia range from US$260mn to US$500mn dependent on whether ground water can be developed in Southern Mongolia.

MiningIndustryWaterRequirements Miningindustryneedswatertomakeoregiveupits valuable minerals. Water is used for the extraction of minerals such as coal, iron, and such liquids as crude petroleum. The processes that need water includes quarrying, milling (crushing, screening, washing, and flotation of mined materials) and re injectingextractedwaterforsecondaryoilrecovery. Water usage is also dependent on the extraction method, for example underground mining needs water,whileopenpitdoesnot.

The previous exploration results suggest that Southern Mongoliahasgroundwaterpotentialof500,000m3perday. However,theseestimatesareuncertainandrequirefurtherinvestigation.Capitalcostestimateofground waterdevelopmentisaboutUS$260mn. AnalternativetogroundwateristobuildlongdistancepipelinesfromNorthern(TheOrhonGobipipeline) andCentralMongolia(TheKherlenGobipipeline).Inbothprojectswaterwillbeextractedfromrivers,the Orhon river (The Orhon Gobi pipeline) and the Kherien river (The KherlenGobi pipeleine). However, capital cost of piping the water from Northern and Central Mongolia would be around US$500mn. In addition, environmental consequences of using water from the Orhon and Kherien rivers are not well understood. The issue of who will be spending money on mining infrastructure private companies or the Mongolian governmentorcombinationofbothisstillnotresolved.Toattractprivateplayers,industryreformshaveto beinitiated. Demandside:rapidurbanization Currentlyover60%ofMongolianpopulationislocatedincitiesandthisnumberisexpectedtoincreaseto 75%in2030.ThegrowthofpopulationinUlaanbaatarandErdenetexceeds4%annually,whilethisfigure isaroundorbelowzeroinsmallcities. Demand for fresh water and sanitation services are expected to substantially increase by 2030 due to migrationofpeoplefromruraltourbanareas. InUlaanbaatarwastewaterflowisexpectedtoreach365,000m3perdayby2030fromcurrent154,000m3. With existing capacity of waste water treatment plant of 177,000m3 per day, there is a need to either substantially increase capacity of the existing plant or to build a new plant to provide current level of sanitationservices.

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INFRASTRUCTURE IN MONGOLIA: CHALLENGES AND OPPORTUNITIES

MongoliasUrbanandRuralPopulations
3500 3000 2500 2000 1500 1000 500 0 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 2020 2025 2030 RuralPopulation
Source:UnitedNations,2006

UrbanPopulation

UlaanbaatarWasteWaterFlow(000m3perday)
350 300 250 200 150 100 50 0 2007 2010 2020 2030

WasteWaterFlow

Source:JapanInternationalCooperationAgency

Waterindustrystructure Ulaanbaatar Water and Sewerage Authority (USUG) is a stateowned enterprise and is responsible for watersupplyandsewerageinUlaanbaatar.USUGperformstheroleofawholesalerinUlaanbaatarwater sector. It operates Waste Water Treatment Plant (WWTP) which treats collected waste water before releasingittotheTuulriver. USUG services to domestic consumers are provided through the Housing & Communal Service Authority (OSNAAG), which manages 19 exkantors serving groups of apartments and organizations with water boughtwholesalefromUSUG.GerareaisprovidedwaterbyUSUGskiosks,eithernetworkedorsupplied byitsTankerDepartment. A resolution of the Government of Mongolia issued in 1997 enabled the establishment of Public Utility ServiceOrganizations(PUSOs)toprovideutilityservicessuchaswatersupplyandseweragesystems,the supply of hot water and heating to apartment blocks and other formal buildings, public bathhouses and solidwastecollection.PUSOoperate primarily in provincialcapitals. However, thequality ofservices fell below expectations because of locally constrained revenues. PUSOs are unable to maintain their assets properlyandrequirefinancialassistanceforworkingandcapitalexpendituresfromthegovernment.

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INFRASTRUCTURE IN MONGOLIA: CHALLENGES AND OPPORTUNITIES

UlaanbaatarWaterSectorIncomeStatement
OperatingRevenue OperatingExpenses OperatingIncome Depriciation InterestExpenses ForeignExchangeGains Profit/Lossbeforetax
Source:USUG

USUG 10589 11411 822 3647 1515 1685 4299

Aggregate Retailers 1805 1436 369 284 85

Total 12394 12847 453 3931 1515 1685 4214

Financialresources Majorsourcesoffinancinghavehistoricallybeenforeignloansandgrants.In19962004foreignassistance totaled US$88mn with average US$9.8mn per year, including 54% loans and 43% grants. At present the ADBhascommittedUS$47mninloansunderIntegratedDevelopmentofBasicUrbanServicesinProvincial TownsLoanprogramandUSIP2. The other principal source of finance for the sector is the treasury via the budget of the Ministry of Construction and Urban Development (MCUD). Although, with current adverse economic conditions in Mongolia,MCUDbudgetisexpectedtobeconstrained. TheMillenniumChallengeCorporationhasbeenseriouslyevaluatingabidforgrantaidofUS$45mnforger areaimprovementstobespentover5years. Thus annual projections for water sector investment might total some US$14mn consisting of US$10mn from multinational agencies, US$3mn from the government budget sources and US$1mn from other sourcesforeachof5years.US$14mnissufficienttocovercurrentcapitalexpenditures. However,toreachtheambitiousMDGtargets,investmentinwatersupplyalonewouldhavetotripleto over US$40mn peryear for the next 10years.To increase populations adequate access to sanitationto 50%, sewer connection cost would be around US$350mn. In total water sector may require around US$1.4bn by 2015 to meet MDG targets, including increasing and upgrading existing water supply and sanitationcapacity.Sofarsourcesofmorethan90%ofrequiredinvestmenttoreachMDGtargetsarenot identified.

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2.3. TRANSPORT Mongolia is a landlocked country, sandwiched between China and Russia. The transport sector of the country possesses significant importance for the economic development of the country. The strategic locationofMongoliabetweenthetwoglobaleconomieshasincreaseddemandfortransportationservices, butthetransportsectorofMongoliaisunabletocopewithincreaseddemand,hencenegativelyimpacting economicdevelopmentofthecountry.SinceChinaandRussiaarevitalforMongoliasinternationaltrade, massive transport infrastructure development is required to connect large mining deposits to the two majortradingpartners. Taking into consideration that mining is the main sector contributing to the recent growth of the Mongolian economy, discovery of huge mining resources will further stimulate the demand for transportation services and increase overall economic activity. Once mining deposits are developed,RussiaandChinanotonlywillbeamong the biggest consumers of those minerals, but also will remain the only option through which internationalmarketsfortheMongoliangoodscan bereached.
Transporttypes Road Railway CivilAviation Maritime Total
Source:MinistryofFinance

Length(thous.km) 49.308 1.815 46.5 0.5 98.123

Share, % 50.25 1.85 47.39 0.51 100

TheGovernmentofMongoliahasbeenseekingtobuildastronglogisticsnetworkinordertoenhancethe countrys competitiveness and has been taking steps to enhance trade facilitation: developing transport routes,increasinglegal,regulatoryandinstitutionalcapacity.Buttheneedforunforeseeninvestmentsinto the transportation sector will test the governments capacity and ability to attract financial resources, effectivenessandtheoverallabilityinexecutingvarioustransportinfrastructureprojects.

Roadtransport TheMongoliasroadinfrastructureisweakwith3.5%ofroadsonlybeingpavedwhichissignificantlylower than international standards. The total road network is equal to 49,308km, of them 11,218km are state roadsand38,100kmareprovincialorlocalroads.

Comparativeroadnetworkindicators
45.0 40.0 35.0 30.0 25.0 20.0 15.0 10.0 5.0 0.0 LaoPDR Mongolia Tajikistan Uzbekistan 5.7 1.4 6.8 3.3 3.7 12.8% 61.8% 19.0 18.2 12.0% 11.3% Improvedearth Gravel Earth Asphalt Surfacetreatment Concrete 40.6 1.8%

Stateroadnetwork(km)

0.3%

km/1000people Source:ADB,CAREC

km/100sq.kmland Source:TheWorldBank

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INFRASTRUCTURE IN MONGOLIA: CHALLENGES AND OPPORTUNITIES

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International financial institutions have supported Mongolia, the World Bank, the ADB and others have been actively engaged in providing financing in developing transport infrastructure. However, transport projects cannot be financed by IFIs alone. Financial sustainability of transport projects requires fiscally constrainedplanning,prioritization,aswellasutilizationofdifferentfinancingresources.Thekeyquestion ishowthefinancialinjectionsintotransportprojectswillbepaidback.Capacityoflocalauthoritieshaveto be expanded in terms of financial planning and project execution, there are a number of investment projectsinthetransportsectorproposedbyvariousgovernmentagencies.Thereisaneedforprioritizing investmentsinordertoreduceinvestmentplantoadequatelevelsandutilizeothersourcesoffinance. Lack of required legislation for PPP so far has deterred private sector from participation in transport projects.Noparticular lawis inplacetostimulate PPP projectsin Mongolia,althoughdraftof thelaw is being prepared for parliament. In order to raise interest from private sector, government has to ease control over ownership of transport infrastructure. This is particularly relevant to railways mining companies will be the main investors and clients of rail services. The central government is the main providerandoperatorofrailandaviationinfrastructure.Onlyinroadsegmentthegovernmentdelegates some obligation and authority over road infrastructure to aimag and soum agencies. PPP projects are complexthathaveshownmixedoutcomesinothercountries.

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INFRASTRUCTURE IN MONGOLIA: CHALLENGES AND OPPORTUNITIES

GovernmentProposedInvestmentProgramforTransport,20082015(theWorldBank,PPIAFestimates in2007) Project Lengthorunits Totalcost(US$mn) Roads Millenniumroad WesternMongoliaNorthSouthRoad Othernorthsouthroad CompletionofUBPRCroad SouthernroadtoAltai Bridgemaintenance Roadmaintenance Subtotalroads Railways Newparallelrailway Otherrailwayextensions Miningrailways Railmaintenance Subtotalrailways Aviation Newinternationalairport Upgradingdomesticairports Expansionofthenavigationsystem SubtotalAviation Urban RoadstoaimagsinUB Interchangesforouterbypass TrafficmanagementinUB Subtotalurban Totaltransportinfrastructureinvestment 2,945 100 5 1 10 2 1 1 4 1 300 40 10 350 1100 500 300 1100 1100 500 300 55 600 800 1100 300 225 120 160 220 60 27 16 24 627

Source:theWorldBank,PPIAFFoundationforSustainableDevelopment:RethinkingtheDeliveryofInfrastructureServicesin Mongolia,2007

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3. BESTPRACTICES
3.1. MANILAWATER,INC.,PHILIPPINES PrivatesectorhasalwaysplayedanimportantroleinthePhilippinesseconomy.Startingfrom1990s,the country was progressive in terms of liberalizing the economy, privatizing state companies, obtaining privatefinancingandthusoperatinginfrastructurebyusingPublicPrivatePartnership(PPP)arrangement. PrivatizationinthePhilippinesstartedin1986.Bytheendof1990s,450stateownedcompaniesoutof562 were privatized. Private sector involvement in infrastructure projects through PPP has been important componentfortheGovernmentsinfrastructureprograms.In1990and1994,buildoperatetransfer(BOT) laws were enacted which allowed private sector to participate in the development and operation of infrastructure, especially in power sector. By 2003, the Philippines had committed about US$25mn in privatefinanceusingconcessions.ThroughPPParrangement,therewereimplemented45powerprojects withtotalvalueofUS$10bn,20transportprojectswithtotalvalueofUS$6bn,17environmentalprojects valued at US$8bn, and 49 other projects in areas of property development and information technology procurement. OneofthesuccessfulcasesisManilaWaterconcessionwhichprovidesanexcellentexampleofhowwater infrastructurecanbefinancedbyinvolvingtheprivatesector. Initially, the private sector participation in water infrastructure consisted of two concessions in Manila: MayniladWaterServices,Inc.andManilaWater,Inc.whichsplitbetweenthemselvestheserviceareasin Metro Manila (West Zone and East Zone). These concessions were regulated by the Metropolitan WaterworksandSewerageSystem(MWSS)whichcontinuedtoholdresponsibilitiesforoperationofboth concessions that created a conflict of interest. Maynilad was cancelled due to the financial problems it faced. In contrast, Manila Water concession was successful and since its contract began in 1997, it has achievedsignificant improvementsinwaterqualityandincreasedits servicecoverage.Thecompanyhas doubledthevolumeofwaterrunningthroughitsdistributionnetworkfrom440mnlitersto992mnliters perday(2007)andincreaseitsservicecoveragefrom325,000to900,000households(2007).Waterloss fellfrom63%toarecordlowof23.9%(2007).ManilaWaterachievedtheseimprovementsthroughcost effective operation which allowed the company to earn profit every year since 1999. The company successfully launched an IPO in 2005 and raised additional US$65mn to invest in rehabilitation and expansionofthewaterinfrastructure. Howitworked Under the privatization program of MWSS, the stateowned corporation, its original service area was dividedintotwoconcessionareas,theEastZoneandtheWestZone.UnderthetermsoftheConcession Agreement entered in 1997 with MWSS, Manila Water Company, Inc. was granted exclusive rights to servicetheEastZoneasanagentandcontractorofMWSS.MWSSgrantedthecompanytheuseofMWSSs land and operational fixed assets and the exclusive right to produce and treat raw water, distribute and marketoffer,andcollect,transport,treat,disposeandeventuallyreutilisewastewater,includingreusable industrial effluent discharged by the sewerage system for the East Zone. Manila Water paid MWSS a commencementfeeofUS$5mn.Thecompanyisentitledtorecoveroverthe25yearconcessionperiodits operating,capitalmaintenanceandinvestmentexpenditures,businesstaxesandconcessionfeepayments, andtoearn arateofreturnontheexpendituresfortheremainingtermoftheconcession.Tariffscover operating costs, capital maintenance and investment expenditures, a rate of return to finance such expenditures (referred to as the Appropriate Discount Rate), the concessionaire cost of borrowing for loans, financial costs of the performance bond, foreign exchange losses or gains, MWSSs operating budget,andconcessionfeepayments. Manila Water received a corporate income tax holiday for six years from the date of actual start of operations01January2000.Followingtheexpirationofthetaxholiday,thecompanybecamesubjectto thestandardcorporateincometaxrateof32%.Thecompanyisalsoentitledtopreferentialtariffsonthe

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INFRASTRUCTURE IN MONGOLIA: CHALLENGES AND OPPORTUNITIES

import of capital equipment, tax credits on locally produced equipment, and exceptions from local governmentandfranchisetaxes. Whilethecompanyhastherighttomanage,operate,repairandrefurbishspecifiedMWSSfacilitiesinthe EastZone,legaltitletotheseassetsremainswithMWSS. The companys business is highly regulated. It is obliged to operate its business under the terms and conditions of the Concession Agreement. The agreement sets out the Companys service, asset managementandemployeeobligationsandtheformulasusedtodeterminetheratesitcanchargeforthe services it provides. The company is bound to comply with certain service committments relating to, among other things, water, sewerage and sanitation service coverage and water quality and availability, andisrequiredtomeetnumerousperformanceandbusinessefficiencytargets. Participationofdonororganizations TheAsianDevelopmentBankandtheWorldBankplayedaleadingroleinimplementationofthisproject and in financing the development of the countrys water supply and sanitation sector in general. InternationalFinanceCorporation(IFC)assistedwithhumanandfinancialcapitalatvariousdevelopment stages. IFC was hired to act as a transaction advisor in structuring the concession and the World Bank approved a loan financing the rehabilitation of sewerage networks and treatment plants and the first phase of sewerage management expansion. Since 2003, IFC has provided Manila Water with a total of US$90mn in loan facilities, US$15mn investment in equity (2004), brokered a relationship with local microfinanceinstitution,helpedtodevelopasustainabilitystrategyandreport,andcontributedtoManila Waterscorporategovernancemanual. 3.2. PHUMY3POWERPLANT,VIETNAM Phu My 3 Power Plant is the first BuildOperateTransfer (BOT) power project in Vietnam. The 720MW power plant was commissioned in March 2004. Phu My 3 is located at the Phu My industrial complex, 70kmsoutheastofHoChiMinhCity.Currently,theplantprovidesabout7%ofthetotalelectricityoutput ofVietnam. TheprojectwasdevelopedbythePhuMyBOTPowerCompany,alimitedliabilitycompanyincorporatedin Vietnam. The company was initially 100% owned by British Petroleum. Currently, BP and SembCorp UtilitiesofSingaporebothownonethirdoftheproject,whileJapansKyushuElectricPowerCo.andSojitz Corp.sharetheremainingonethird. Projectimplementation The project initially had a slow start due to novelty of the BOT model to Vietnam. The Government of Vietnam did not have experience in implementing a largescale BOT project. The Phu My BOT Power Company signed an agreement with the Vietnamese government to develop Phu My 3 as a natural gas fired combined power plant in October 1995. The Ministry of Industry approved feasibility study in December 1998. After long negotiations, the Ministry of Industry approved Phu My 3 BOT Power Companys selection of Siemens as the main engineering, procurement and construction general contractorfortheprojectinMay2001. The terms of the EPC (engineering, procurement and construction) contract envisaged full turnkey construction of the power plant. Siemens started the construction works in December 2001. The power plantachievedcommercialoperationafterjust26monthsofconstruction.Thecompanyalsosigneda12 yearmaintenanceagreement.

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Projectfunding TotalprojectcostwasUS$385.9mnfundedbyshareholderequityofUS$96.5mnanddebtofUS$289.4mn. TheJapanBankforInternationalCooperationprovidedUS$99mnloantotheProjectCompany.TheAsian Development Bank provided a direct loan without government guarantee of US$37.5mn. The rest was arrangedbycommercialbanksMizuhoCorporateBank,FortisBankofBelgium,BankofTokyoMitsubishi, CreditLyonnaisandCreditAgricoleIndosuez. NipponExportandImportInsurance,theAsianDevelopmentBankandMultilateralInvestmentGuarantee Agency (MIGA), World Bank Group provided guarantee insurance to cover political risk for the portion financed by commercial banks. Nippon Export and Investment Insurance covered political risks for US$95mn.ADBissuedapoliticalriskguaranteetocovercommercialbankloansofUS$30mn.MIGAissued US$43.2mn in guarantees to SembCorp Utilities of Singapore to cover its US$38mn equity investment. MIGA also issuedUS$75mn in coveragetoCredit LyonnaistocoveraUS$43mnnonshareholder loan to theproject.Thefollowing2004year,MIGAissuedaguaranteeofUS$15mntoCreditLyonnaisforitsswap agreementsrelatedtothefinancingofPhuMy3BOTPowerCompany. Development organisations involvement helped the Phu My 3 project investors obtain financing at competitiverates,whilespeedingupprojectimplementation. Overall,PhuMy3hadhighlystructuredprojectfinancingwithafullonshore/offshoresecuritypackageand a comprehensive direct agreement regime, insurance package and extensive mechanisms to maximize revenueconversiontotheUSdollaranditsexpatriation. Governmentinvolvement Inlinewithitsdeclaredintentionofattractingprivatesectorintoinfrastructuresector,theGovernmentof VietnamprovidedcomprehensivesupporttoPhuMy3project. TheBOTcontractspecifiestherightsandobligationsofalltherelevantpartiesinimplementingtheproject. The concession has a term of 23 years and operates in conjunction with a 20 year power purchase agreementwithElectricityofVietnam(EVN),thestateownedutilityonatakeorpaybasisandgassupply agreement with the Oil and Gas Corporation of Vietnam (PetroVietnam). The gas price passes through under power purchase agreement whereby EVN pays a tariff incorporating a fuel charge. Gas supply agreementisalsobasedonatakeorpayprinciple;howevertheobligationsarepassedtoEVN. Natural gas is delivered from Nam Con Son gas field, jointly developed by BP, ONGC and PetroVietnam. UnderagassupplyagreementsignedinMay2001,PetroVietnamsupplies3.2mncum/dayofnaturalgas tothePhuMy3powerplant. Tariffswere setbased on a similarBOTPhu My 2.2 project tariffs.Phu My 2.2 wasawarded basedona transparent, international competitive bidding process to ensure the leastcost tariff. The tariffs are indexedtotheUSdollarandescalatedtotakeaccountofinflation. Under the BOT agreement the government covered the cost of some infrastructure facilities, which includedthePhuMydistributioncentre,partofthecoolingchannel,theportandsecondaryfueldelivery facilities,andthegasdistributionfacilities.Thegovernmentalsoprovidedguaranteeundertakingtocover performanceobligations oftheVietnamesecounterparties, includingEVN,PetroVietnam,theMinistryof IndustryandUDEC(siteuseagreement).Theguaranteealsocoverstheconvertibilityintoandavailability oftheUSdollar,andprovidesthatthelegalandtaxregimesagreeduponwillremainvalidandstablefor thedurationoftheProject. Twenty years after commercial operation, the power plant will be transferred to EVN without compensation. Overall, the Phu My 3 power plant development proved to be an example of successful PPP. Well structuredBOTagreementeffectivelyutilizedprivatesectorcapabilitiesforpublicgood.Theconstruction ofthepowerplantwascompletedinjust26months.ActualconstructioncostsofUS$385.9mn,noticeably less than estimated US$412mn. Construction costs and timeframe once again proved effectiveness of privatesectorinsupplyingtimelyproductsatcompetitiveprices.

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INFRASTRUCTURE IN MONGOLIA: CHALLENGES AND OPPORTUNITIES

The power plant itself turned into viable business capable of servicing all its debts and increasing shareholder value. The case serves as blueprint for the Government of Vietnam for development of its infrastructuresector. 3.3. SHARUSTKAMENOGORSKSTATIONRAILWAYLINE,KAZAKHSTAN EastKazakhstan,animportantregionfortheeconomyofthecountry,isanindustrialzonethatcomprises of plants producing cement, copper, zinc, timber cutting and other commodities. The railway communicationbetweeneastofthecountryandotherregionshasbeencarriedoutthroughtheRussian stationLokot.Forcargoshippersitwasassociatedwithadditionaltransportandcustomsexpendituresand reducedthespeedofthecapitalturnover.Toavoidthis,theKazakhstanGovernmentdecidedtoinitiate BOTconcessiontoconstruct,operate,andmaintainthenewrailwaylineSharUstKamenogorskStation (around150kilometersofrailways)tothejointstockcompanyspeciallycreated(JSC)DoszhanTemirZholy. TheprojectaimstoavoidrelianceontheRussianrailwaysystem,toreducecosts,increasespeedoffreight transportation,excludedoublecrossingofKazakhRussianboarderandpassingoftheappropriatecustoms procedures.Therequiredinvestmentfortheconcessionuntil2028,hasbeenestimatedatUS$250mn.The volumeofcargoplannedforthenewrailwayisaround9,400tonsfor2009andisplannedtoreach16,300 tonsperyearby2028. The Kazakhstan Investment Fund (a public fund) participated in Doszhan Temir Zholi as a minority shareholder. In order to finance project JSC Doszhan Temir Zholy issued infrastructure bonds backed by state guarantee to attract investments particularly from pension funds. The company issued 30000000 bonds with nominal price of KZT1000 indexed to inflation rate. Construction of the railway started in August2005andtheconnectionofthenewlinetoexistingKazakhstanrailwaysystemwasannouncedin December 2007, a year before the planned schedule. In the beginning of 2009 main construction works havebeencompletedandrailwayhasbeenputintooperation,fullexploitationoftheraillinewithboth passengerandfreighttransportationisexpectedwithin36month. TheprojectwasthefirstconcessionprojectinKazakhstanandfacedsignificantchallengesasinstitutional andlegalframeworkforsuchprojectswasnotfullyestablishedandassessedthroughpractice.Asaresult of high inflation in 2007, deteriorated economic situation and especially stagnation of the construction sectorhadnegativeimpactonthefinancialsituationoftheJSCDoszhanTemirZholy.Thecompanywas notabletoraisefullKZT30bnthroughinfrastructurebonds,thegovernmentguaranteewasonlyvalidfor theconstructionperiodoftheprojectinitially,lateritwasextendedtofullconcessionperiodtill2028.Asa resultthecompanycouldnotpayinterestonissuedinflationfixedinfrastructurebonds(19.95%)forthe periodofAugust20072008.ThegovernmentallocatedKZT3.09bntoSamrukKazynaFundtoaddressthe situationandprovideadequatecapitalforprojectcompletionandrepaymentofinterestcouponsthrough acquisitionofsharesofDoszhanTemirZholyinDecember2008.

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4. OUTLOOK
Eurasia Capital views that outlook for infrastructure market in Mongolia is positive. The Mongolian governmentandtheParliamentwillcontinueconsideringthesectorasapriority.Launchingmajorminesin the southern region will lead to increased demand for infrastructure services, and, given financing constrainsofMongoliasinternalsources,offerstronginvestmentopportunities.Majorminingcompanies, expectedtoexploitthemines,maybecommittedtodeveloptheinfrastructure,relatedtotheinsidemine area only. The nations authorities are likely to offer outsidemine area to international infrastructure companies in power, water and transport industries. International financial institutions are also likely to continuefinanciallysupporttheinfrastructuredevelopmentinthecountry. Considering the current low global prices for coal and copper, expecting that the prices for these commoditieswillreboundsoon,aswellasrecognizingthestrategicallyimportanceofavoidingfuthergrow in poverty, the authorities are likely to speed up their efforts in creating and improving legislations and regulations to involve private investors in the countrys infrastructure. With cofinancing and advisory support by the IFIs, the mining companies and interested partners, private investors participation in the marketisviewedtogrow.

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INFRASTRUCTURE IN MONGOLIA: CHALLENGES AND OPPORTUNITIES

SENIORMANAGEMENT
AlisherAliDjumanov Chairman EurasiaCapitalGroup alisher.djumanov@eurasiacm.com SardorKoshnazarov Director,HeadofResearch EurasiaCapital sardor.koshnazarov@eurasiacm.com

DimaOrazimbetov Director EurasiaCapitalManagement dima.orazimbetov@eurasiacm.com

EURASIACAPITALRESEARCHTEAM
UlugbekAzamov PrivateEquityAnalyst ulugbek.azamov@eurasiacm.com SherzodRakhimov EquityAnalyst sherzod.rakhimov@eurasiacm.com EnkhbayarDavaatseren ResearchAnalyst enkhbayar.davaatseren@eurasiacm.com ChinbolorBatbileg ResearchAnalyst chinbolor.batbileg@eurasiacm.com AkmalAminov ResearchAnalyst akmal.aminov@eurasiacm.com BatkhuyagChoijiljav FinancialAnalyst batkhuyag.choijiljav@eurasiacm.com ZultsetsegChuluunbat ResearchAnalyst zultsetseg.chuluunbat@eurasiacm.com

COMPANYDESCRIPTION EURASIACAPITALGROUP
Eurasia Capital Group (ECG) is a Singaporebased investment group with primarily focus on Central Asia andEurasiaregion.ECGhastwomainbusinesses:EurasiaCapital,aninvestmentbankandEurasiaCapital Management, a fund management firm. Eurasia Capital Management (ECM) is focused on investing in emergingmarkets inEurasia includingRussia,China,CentralAsiaandMongolia.Withover US$100mnin assets under management and advisory mandates, ECM invests across various industries (oil and gas, mining, banking, telecom, energy/infrastructure, consumer goods, agribusiness) and asset classes (public securities,privateequityandproperty)throughafamilyoffundsaswellasmanagedaccounts.

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CONTACTS
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