Rebel with a cause

11am, Jun 10th, 2010: I arrive at the most unlikely rebel base. Oak Tree Cottage, deep in the heart of the Kent countryside – sometimes referred to reverentially as the ‘Garden of England’ – is where I find Robert Bain, hailing me heartily from an upstairs window. From this idyllic setting, Bain runs RBconsult (robbain.com), a provider of investor support services to the traffic, transport and public-private partnership (PPP) sectors.

One of the first things you might observe about Bain is that he chooses to focus on empirical evidence rather than arguments of assertion – and he’s not afraid to speak his mind.  It’s a habit which can get him into scrapes. He relates, for example, an occasion when he was speaking at a Standard & Poor’s road-show in Spain and was “shouted down by an audience of concessionaires, one of whom interrupted his presentation and made an impromptu speech of his own”. Surprisingly, he seems to look back on this skirmish with affection: it made him feel like he was in a punk rock band, he says.

‘Telling it straight’ in Bain’s world means exposing why it is that some toll road traffic forecasts are so flagrantly wide of the mark. During his time as a director in the London-based infrastructure finance ratings team at Standard & Poor’s – where he worked for five years – Bain conducted a groundbreaking study of 100 toll roads (groundbreaking because he claims that the data he used is seldom shared with parties outside the financial services sector).

What he found was that – assuming a ratio of 1.0 for projects where the performance was in line with the prediction – the average result was 0.77. This meant that the toll road traffic forecasts under scrutiny were over-optimistic in their assumptions by a 23 percent margin.

It was talking about this phenomenon that got him into trouble in Madrid. “I was explaining that my global research demonstrated a 30 percent optimism bias on average and they were saying that doesn’t happen in Spain.  Six years after I delivered that speech, a number of Madrid’s toll road concessionaires now need bailing out.”

Further evidence that Bain doesn’t mince his words emanates from his book “Toll Road Traffic and Revenue Forecasts: An Interpreter’s Guide”. In the preface to the book, he asserts: “I have been working with traffic forecasting models for over twenty years…After twenty years, my principal conclusion is simple. In a world characterised by uncertainty, it is almost certain that traffic forecasts will be wrong.”

The evidence to back up Bain’s assertions is compelling. In an article for Infrastructure Investor’s Annual Review of 2009, ING head of infrastructure Michael Dinham wrote that, of the 30 toll roads the bank has lent to, ING “can only find two instances where initial sponsor forecasts were met”. As such, Dinham said he considered toll roads the worst-performing sub-sector within infrastructure. The most high-profile toll road mishap of recent times came when Lane Cove Tunnel – the Australian road subsequently acquired by toll road operator Transurban – went into receivership in January this year after failing to meet interest repayments on loans.  

‘Blatantly overoptimistic’

Australian toll roads are a particular bugbear of Bain’s. He believes the country is home to many of the most unrealistic toll road business plan assumptions. Moreover, he believes Australia is not learning from past mistakes – citing Brisbane’s new CLEM 7 toll road as one example.

“There’s some sort of collective denial about demand risk. Some forecasts are hopelessly overoptimistic,” Bain contends. “Look at CLEM7 in Brisbane. That opened in March this year with a start-up forecast of 60,000 vehicles a day. It launched with a toll-free period and reached 59,000 a day. When they switched the tolls on, performance plummeted to 20,000 a day – where it remains today. You might argue that this is the ramp-up phase, an experimental period on project opening where you’re waiting for stable, long-term trends to kick in. But not in this case – the ramp-up assumptions were built in. And this is a road that’s looking for 100,000 vehicles a day in 2012.”

Bain has a particular objection to frothy toll road business plans and fancy financial engineering in Australia, since less sophisticated retail investors participate through listed investment vehicles and end up exposed to some “opaque and very aggressive structuring”. He also regrets that the shocking performance of the worst-of-breed casts a shadow over the toll road sector as a whole – one that it doesn’t necessarily deserve.

“The worry is that institutional investors around the world are unduly influenced.  A number of them have a broad focus and so don’t necessarily have specialist internal expertise to build up sector knowledge.  They read their email alerts from the Australian Financial Review and decide to steer well clear of toll roads. And yet, with good advice and a measure of common sense, it’s clear that long-term investment in well-structured roads and transport projects generally can offer solid returns.”

To Bain, the prospect that misunderstanding might reduce the amount of capital available for investment in roads is deeply frustrating “because I’m a strong advocate of investor finance and user charging in transport. The tax-based approach to funding road infrastructure investment is failing in many countries. Look at US gas tax revenues, for example, which have blatantly failed to keep up with investment requirements for some time. There’s a ticking time-bomb.”
 
For this reason, Bain is no fan of availability payments – public contributions paid in exchange for making assets available in good condition – and other incentive mechanisms. They stem from procuring authorities’ belief that road models need to have such mechanisms built into the model in order to eliminate traffic risk and be a bankable proposition, he says.

The problem with this supposition is that, while availability payments enable a project to be financed, they do not provide the fresh funding that road networks require. Bain believes that traffic risk can indeed be incorporated into business plans if the plans themselves are flexible while avoiding being overly complex. If they are, to put it another way, based on common sense.

Psychology lessons

A question is begging to be answered at this point. And it’s this: Why is it that so many toll road business plans have gone so badly wrong? One reason cited by Bain lies in the realm of psychology. He says that, when examining transport forecasts at S&P, he found “large errors and a systematic tendency towards optimism bias. These errors were asymmetrical. There were many more instances of over-prediction than under-prediction.”

He continues: “Psychologists trace the need for over-optimism to cognitive biases and organisational pressure. Experiments demonstrate that, in general, people believe that they have better-than-average characteristics and talents…Forecasters are not immune from such biases, commonly downplaying the possibility of random or uncontrollable events impacting on their predictions, underrating the potential of competitive threats and understating the probability of things going wrong.”

There’s a second reason – and it’s less innocent. “You also have what I would politely call ‘strategic misrepresentation’,” says Bain. “The objective of many bidders is simply to win the concession.  There’s a view that, if things get in a mess, the government will come to the rescue. This is a big money game with powerful incentives at play. Consultants are leant on to come up with the required forecasts – ones that fit the financial models – rather than accurate ones.”

With an independent perspective and expertise in credit analysis from his S&P days (as well as being a chartered civil engineer), Bain now finds himself in demand as someone who is likely to know a bad (or good) model when he sees one. When RBconsult was launched two years ago, Bain’s main source of work emanated from “banks, institutional investors and infrastructure funds throwing detailed demand study reports at me and wanting technical summaries – specifically from a credit perspective – quickly in return. I then laid out the story in straightforward terms”. Whether they still wanted to go ahead with these projects was clearly up to them, he adds, but these sorts of technical reviews remain popular with his clients today.

Bain says that the development banks, such as the European Investment Bank and African Development Bank, are regular clients these days. This is unsurprising, perhaps, given that they are the organisations that have ensured many infrastructure projects have been able to carry on post-Crisis. In Bain’s words, they “will lend, and they will lend long”.     

While on the theme, Bain holds forth on another subject close to his heart – when PPPs are and are not appropriate. In the case of the developing world, he insists that development banks have a responsibility to discourage countries from embracing PPP programmes that are likely to be highly attractive as a way of enabling much-needed infrastructure development – but which may ultimately be unaffordable.

“You should look at PPPs as a procurement option – not the only game in town,” says Bain. “So when particularly rich countries do availability- or performance-based PPPs it’s interesting because they have genuine alternatives. Poorer countries should be very cautious about jumping on the bandwagon and the development banks supporting some of these transactions need to look at affordability in the round, not just the economic case for individual projects.”

He continues: “I come across some countries paying for road PPPs that simply can’t afford them.  There are countries where the financial commitments to individual PPPs approach 1 percent of GDP.  That’s a huge, arguably unsustainable, commitment to a single scheme.”

Information gap

Not that affordability is an issue for poor countries only. Bain points out that, in the UK, the Highways Agency has spent around 40 percent of its procurement budget on just 17 percent of the road network – the result, Bain says, of committing to expensive availability payments. “The defence from the procurers is that ‘it doesn’t matter, we won’t roll it out across the whole network. We’ll just expose some of the network to the disciplines of the private sector and private finance, learn the lessons and then spread those lessons to the rest of the traditionally procured network.”

This, he continues, is not particularly credible in his view. “To do that, you need information about the assets, how they’re being managed and how they’re performing. But soft disclosure requirements typically mean that it’s impossible for procurers to find out what’s happening in any detail. Why are maintenance costs so low on some road projects? There’s no mechanism in place for institutional learning.”

Bain supports charging for the use of roads, and, in keeping with his personality, doesn’t seem to mind if it’s an unpopular stance. It may seem counterintuitive to ask motorists to dig deeper at a time of economic hardship, but Bain makes the point that, with the government seeking ways of raising extra revenue, a great opportunity is being overlooked. 

“Why not charge for roads at the point and time of use – as with other utilities?” he asks, rhetorically. “People think congestion is a facet of modern life but it doesn’t have to be like this.  Congestion is simply a symptom of mispricing. I don’t understand why people will pay parking charges to keep their cars stationary, but there’s national indignation at the prospect of paying a premium to have them move efficiently around the network.  The time is right to revisit the concept of road pricing – particularly given the current economic climate. It’s perhaps not the most popular ticket for government but it needs money and this option may be less unpalatable than some of the alternatives.”

It’s no coincidence, given Bain’s passion for transport infrastructure-related issues, that he took the decision to be his own boss. “I wanted to be independent – not employed by some large corporate – in part so that I could talk more openly about infrastructure investment policy,” he says.

As I’m ushered to the door and prepare to step out into the blossom-scented garden, Bain perhaps feels the need to make clear where his priorities lie in light of his previous statement. “I’m a credit analyst first and foremost, though,” he insists. In other words, being a modern-day punk rock star equivalent may have its attractions – but it doesn’t pay the bills.