Malaysia's new government has lost little time fulfilling election pledges by canning a major rail project and casting a pall over others, sending shockwaves through the local construction industry and reminding investors of the risks attached to infrastructure investing.
In a setback for China, which is spearheading a major infrastructure drive across the region with its Belt and Road Initiative, Prime Minister Mohamad Mahathir this week cancelled the high-speed rail (HSR) link between Kuala Lumpur and Singapore.
The reason? Overly high costs and poor value for money, which at a time when total government debt amounts to more than RM1 trillion ($250 billion), or 80% of GDP, are pretty powerful reasons.
The $13 billion project was already behind its original schedule, with the bidding deadline for the AssetCo (the controlling company) pushed back from June to December.
And its cancelation brings other Malaysian mega-projects into the firing line, including the East Coast Rail Link (ECRL) -- a $13.6 billion 688km line that seeks to connect the east and west coasts of Malaysia and cut journey times down from around 12 hours to four hours.
Both ECRL and HSR, along with other infrastructure projects, were highlighted by Mahathir during the election run-up as things “we need to renegotiate" or "even cancel ... and pay compensation.”
The largest Belt and Road-funded project in Malaysia, the ECRL contract was awarded to the China Communications Construction Company (CCCC) in November 2016, two weeks after an official visit to China by the-then prime minster Najib Razak.
Unlike the HSR, the ECRL was awarded in a closed tender.
CCCC is the main contractor for the project, with a minimum 30% of contract value to be awarded to Malaysian companies approved by CCCC via a tender process.
Funding for the project was agreed with China’s Export-Import Bank, which is loaning 85% of the projected cost at 3.25% with a 20-year tenure. The remaining 15% is being funded via a sukuk raised by local banks. All very convenient.
And ground was broken last August, according to Malaysia Rail Link, the Malaysian company overseeing the project.
AMBITIOUS PROJECTIONS
But looking at the figures it is not hard to see why Malaysia's pesky democracy got in the way, say some analysts and even some on the inside, because underlying the project were excessively ambitious (and thereby unrealistic) demand projections.
“The revenue projection for the ECRL of $73 million in 2024 was optimistic to say the least,” a person close to both projects told FinanceAsia. “Likewise, the demand assumes that the line would be carrying 60 million tonnes of freight by 2035 -- that is 10 times what KTM carries today across the whole network.”
State-owned Keretapi Tanah Melayu (KTM) now operates a single tracked line on the East coast linking the west coast via Gemas to the south of Kuala Lumpur.
Perhaps the cancelation of the HSR provides a silver lining for the ECRL. The money saved may boost Mahathir's bargaining position ahead of renegotiations with the country's Chinese partners since Malaysia will not be forced to borrow as much for the project.
It may also prove to the public that he is not afraid to cancel or amend deals that he sees as detrimental to the public purse, giving the new government more time to assess all options before pulling the plug as a last resort.
For local construction companies that is of little solace for now. Mahatir's actions since coming to power on May 8 have sent construction stocks sharply lower, a downwards move made worse by the cancellation on Monday of the HSR and on Thursday of the MRT 3 project in the Greater Klang Valley area that includes the country's capital.
The reputed cost of the MRT 3 line was in the region of $10 billion to $11.3 billion. As with the HSR project, the winning bidder had not been announced prior to the cancellation.
But all may not be lost for the local construction industry.
“Looking at how the new government is looking at dealing with these big mega-projects, I think they are trying to see whether we can actually rationalise these projects in light of the debt situation that Malaysia is in,” according to Professor Mohamed Rehan Karim, president of the Transportation Science Society of Malaysia.
And this is important for infrastructure-related companies in Malaysia, whose shares have sold off sharply since the election on May 8. Because by rationalising these projects, local companies may yet get a fresh chance to bid for scaled-down versions of these projects.
BMI Research has been quick to lower its growth forecasts for the Malaysian construction industry in response to the news governments actions. It now expects the Malaysian construction industry to grow by 4.3% over the next four years from 5.8% previously.
But analysts there remain fairly positive about the outlook for the industry as a whole.
“Rural road, power and broadband projects may not be of the same value or prestige as high-speed railways, but they remain essential to bolstering economic growth and will be a source of project opportunities for companies that may have missed out on larger projects,” BMI said in a report on Thursday.
REGIONAL CONTROVERSIES
Mahathir may have learnt from other regional mega-projects that have floundered under huge piles of debt for not much return.
Sri Lanka’s recent sale to the Chinese of an 80% stake in Hambantota port plus a 1,235-acre adjoining plot for the construction of a special industrial zone in exchange for the writing off $1.12 billion China Exim bank loan is a case in point.
Started during the previous government’s tenure, the project has not generated any returns for Sri Lanka, only to the Chinese government. Under crippling debt repayments, the current government had little option but to sell the asset to China causing civil unrest in Sri Lanka.
And Malaysia is not alone in voicing concerns over the huge debts and political repercussions such huge infrastructure projects often invite.
A Chinese-led $2.5 billion hydropower project in Nepal that was commissioned under one government last June and cancelled by a new prime minister in August, now looks set to be restarted under another new prime minister, highlighting the perils of infrastructure investing in emerging markets, according to reports in the media.
The political relationships and risks attached to such mega-projects cannot be underestimated. Sometimes they can leave countries labouring under a lot of debt and on the hook to a powerful foreign nation for projects that bring little or no return and are of a stop-go nature due to the changing whims of government.
By fulfilling his election promise and reining in some of these projects, Mahathir is ultimately raising questions about the value of such projects across the region to the host nation. And who will ultimately pay for them.
