TNAG-0422-FCO40-468-Construction-of-an-underground-railway-system-in-Hong-Kong-1973 — Page 73

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5. This problem is essentially one for the consortium to overcome; if they can do so a single package contract for the whole of the work remains a very real possibility. The problem also has repercussions on the proposed repayment terms. It is extremely unlikely that a finite price can be attached to each of the four stages of the scheme. This, coupled with the fact that for items on the mechanical and engineering side like rolling stock it is impracticable to allocate cost to particular stages, makes the concept of relating repayment for each stage to completion of that stage unrealistic. The Japanese appear to have recognised this. Their offer provides for repayments to commence at the end of year 6 (about midway between completion of stages 2 and 4) and to complete at the end of year 19. It does not attempt to relate specific borrowings to specific stages.

6. The Japanese offer is thus very much better than ours on this score. It is also nearer to what is possible if one accepts that repayment be related to revenue from operation of the system. The consultants' projections show that revenue should begin to come in at the end of year 5, but the level of income to the completion of Stage 4 is insufficient to service principal repayments (and a fortiori to service both principal and interest repayments), without the demands of purely operating costs upon it.

Our own recommendation would be that repayment of principal should not commence until after completion of the four stages, currently expected to be end-1980.

even

7.

The Hong Kong Government's objective in respect of pre- completion interest is to minimise their dependence upon "non export finance" borrowing to carry the scheme through to completion.

They could obviously borrow from "the market" to meet payments of pre-completion interest; and indeed Lazards proposals provide for them to do so. However current indications are that they intend to create the statutory Mass Transit Authority with sufficient funds to enable the Authority to finance virtually the whole of the first four stages from its own resources and from export finance, and with only minimal resort to other borrowing. This can only be achieved if they can defer (or entirely avoid) all repayments at least until the scheme commences to earn revenue.

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The question of whether one should permit a borrower to defer payment of interest is very much a technical and commercial one. Our own contacts with the Japanese suggest that avoidance of pre- completion interest either by capitalisation (i.e. incorporation with the principal repayments, interest being charged on the period the interest was notionally due) or by simple deferment (without interest) is by no means unusual. We would not expect the Japanese to refuse a request from the Hong Kong Government to this effect. On the general assumption that drawings made during construction will all be refinanced by the clearing banks, they have no interest in the question of capitalisation or deferment of interest. It has thus to be seen solely as one of the impact upon public expenditure of making a concession to the Hong Kong Government in this respect. Against this background we examine in the following paragraph the order of cost involved.

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