HIGH SPEED RAIL - EXPOSING PITFALLS OF BOT FINANCE

C O N F I D E N T I A L SECTION 01 OF 02 TAIPEI 000490

SIPDIS

DEPT FOR EAP/TC
DEPT PLEASE PASS AIT/W

E.O. 12958: DECL: 02/03/2015
TAGS: ELTN ECON TW
SUBJECT: HIGH SPEED RAIL - EXPOSING PITFALLS OF BOT FINANCE

REF: 04 TAIPEI 2466

Classified By: AIT Director Douglas H. Paal, Reason 1.5 d

Summary
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1. (SBU) Despite cost overruns and technical problems, Taiwan
High-Speed Rail Corporation (THSRC) insists that Taiwan's
first high-speed railway, which will run the length of
Taiwan's west coast, will open on schedule in October 2005.
However, financial problems continue to plague THSRC forcing
it to seek an eleventh revision of its credit contract with a
consortium of banks and to seek capital from Formosa Plastics
Group. The success or failure of the TSHRC is increasingly a
political issue, and the project has exposed some of the
hazards of the build-operate-transfer method Taiwan is using
to finance public works projects. (End summary)

Minor Delays, Significant Cost Overruns
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2. (SBU) Taiwan's high-speed rail is still on track to open
more or less on time, but has experienced cost overruns that
have caused serious financial problems for THSRC.
Construction costs have exceeded estimates by at least NT$ 20
billion (over USD 600 million),more than 5 percent of total
costs. Technical problems have increased expenses. Lee
Sheau-jin, THSRC's Chief Financial Officer, told AIT/T that
major construction and laying tracks have not encountered
major problems and are running close to schedule. However,
the "core systems," which include power supply, signals and
communications systems, have caused difficulties.


3. (C) Lee said that many of the problems are due to the fact
that THSRC originally developed its bid with European
contractors. However, in the end, THSRC wound up with
Japanese firm Shinkansen as the primary contractor.
Shinkansen's experience with the older Japanese high-speed
rail has made it difficult for them to meet some of the
European-based standards in the contract. For example,
special provisions had to be made to ensure that the train
seats were fire-resistant, a feature that Shinkansen had not
provided before. Other modifications were required to
address average temperatures higher in Taiwan than Japan.
According to Lee, these problems were compounded by the fact
that as the Japanese systems evolved over time, there was
inadequate documentation of their standards and
specifications.


4. (SBU) TSHRC conducted the first test runs of the train
January 27 on a limited portion of track. The tests were
months behind the original schedule, and in a mid-January
interview with the press, THSRC chairwoman Nita Ing implied
that the train would not be ready to begin operations by the
October 2005 target. However, subsequent statements from
THSRC officials have walked back Ing's statement and
confirmed that the train will start running on time. THSRC's
Lee told us that THSRC will open October 31.

Struggling for Capital
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5. (C) THSRC's financial problems are more troubling than the
technical ones. As recently as early August 2004, the THSRC
was seeking to raise more than NT$ 27 billion in capital by
the end of the year (reported reftel). In September, THSRC
reached a new agreement with the syndicated banks that have
supplied loans for the project. On September 30, 2004, they
signed the tenth revision of the syndicated credit contract,
which set the goal that the THSRC would raise NT$ 7.5 billion
by the end of 2004. THSRC was only able to raise NT$ 1.5
billion resulting in technical default. Under the terms of
the contract, THSRC has six months to correct the situation
or revise the contract. Otherwise the government has the
right to terminate the contract. According to THSRC's Lee,
the firm is now working on an eleventh revision.


6. (SBU) In the meantime, the syndicated banks stopped
providing additional credit to THSRC. Chiao Tong Bank is the
lead bank in the syndicate. It's chairman Cheng Shen-chi,
told the press that the bank consortium would meet soon to
consider whether or not to resume credit. TSHRC CFO Lee told
us that the THSRC shareholders would meet March 4 to discuss
the situation.

7. (SBU) The five original shareholders of THSRC, Continental
Engineering, Evergreen Group, Fubon Group, Teco Group, and
Pacific Electric Wire and Cable, all appear reluctant to
invest more funds in the project. Some media reports
indicated that the five had failed to maintain 25 percent
equity in THSRC as required by the original agreement with
the Taiwan government. CFO Lee denied these reports and
confirmed that the five firms had fulfilled their
obligations. Nevertheless, according to press reports, no
representatives from Evergreen, Fubon or Teco attended the
ceremony that marked the first test run.


8. (U) Although THSRC refuses to confirm it, Wang Yung-ching,
chairman of Taiwan's largest industrial conglomerate Formosa
Plastics Group, told the media that THSRC's Ing had
approached him about investing in the project. According to
the reports, Wang also said that Taiwan President Chen
Shui-bian had suggested that he should help THSRC solve its
financial problems. Wang indicated that he would explore the
possibilities.

Comment - Political Football, BOT Pitfalls
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9. (C) As President Chen's apparent involvement indicates,
the THSRC is increasingly a political issue. Some Pan-Blue
politicians have been very vocal in their criticism of the
handling of the project. CFO Lee blamed hostile press and
politicians for many of THSRC's problems. The source of much
of the controversy lies in the structure of the
build-operate-transfer (BOT) agreement with the Taiwan
government. The government in effect guarantees the entire
project. If for any reason, THSRC fails to complete
construction the government must buy back the THSRC for up to
NT$ 325.9 billion. Although the agreement was signed with
the KMT government in 1997, the perceived success or failure
of the project will fall on the current DPP administration.
In addition, some observers accuse THSRC of unfair practices
for assigning an unduly large share of the subcontracts to
the major shareholders or firms connected to the
shareholders. Continental Engineering, in particular, has
been singled out for criticism. The current situation
exposes some of the pitfalls of Taiwan's BOT model. If
Taiwan wants to use BOT contacts for major projects in the
future, it must learn from the lessons of the THSRC. (End
comment)
PAAL