Port Railway Terminals: Resolving Bottlenecks

With its unique geographical location, Ukraine has 13 operational sea ports, 11 of which are served by 17 railway terminals where most cargos are delivered and dispatched. The port reform launched in 2013 has boosted investment activities. The enhancement of marine terminals and growing interest on the part of investors in container transshipment necessitate upgrading of the country’s rail infrastructure. The business community intensely follows the government’s agenda for developing the rail infrastructure related to sea ports. The motivation to move the reform forward is obvious. However, more and more experts are starting to regard rail terminals as a bottleneck for the development of sea ports. Let’s take a closer look at existing concerns, why they are raised, and how these issues can be addressed.

Core Problems

Experts highlight two critical factors hindering the development of rail terminals adjacent to ports. The first one is the financial situation at state rail operator Ukrzaliznytsia (UZ). The lack of funds for capital investments is one issue. As a natural monopoly operator, UZ must obtain government approval for its financial plans on an annual basis. In practice, getting approval is a complicated procedure with an unpredictable outcome. For example, the financial plan for 2020 was approved in the middle of 2020. Therefore, the time for disbursement of the planned capital expenditure by UZ was too short. According to company statements published in autumn 2020, UZ intended to finance rail terminals in 2021. However, the company’s financial plan for 2021, which was approved at the end of the first quarter, does not envisage sufficient funds for investment.

The second negative factor is weak interaction between railway and port authorities, which prevents the development of connecting points for the port and railway infrastructure. According to the National Transport Strategy, the integration of the port-related infrastructure and the development of the traffic capacity of ports are among general challenges that need to be addressed. Similar challenges and tasks are outlined in the Port Development Strategy, which puts emphasis on the development of transshipment capacities and the road and rail infrastructure. It is proposed to harmonize plans for the development of rail tracks and railway terminals, roads, inland waterways, and traffic capacities of ports within the national and local development programs. Improving coordination between UZ and the Ukrainian Sea Port Authority (USPA) remains a pressing issue.

Legal Framework

The existing legislation, as inherited from the Soviet era, in which all enterprises were state-owned assets. In this context, it is worth mentioning a couple of provisions governing the rail sector.

Firstly, the law defines railway terminals as so-called strategic assets with a special regime for usage and disposition. These assets cannot be alienated and should be operated exclusively by UZ. Accordingly, the terminals cannot be transferred into private ownership or to private partners within PPP projects.

Secondly, the law specifies that the construction, reconstruction of rail terminals, other railway facilities supporting construction or reconstruction of industrial enterprises will be financed from the funds of those enterprises or from the State Budget. Typically, the State Budget does not provide any funds for these purposes and private investment remain the only possible solution.

Thirdly, the law does not provide for a possibility to compensate costs incurred by private investors. It seems that legislators considered private investments as a kind of grant money, which obviously would be unacceptable from a private investor’s perspective.

Critical Gaps

Having reviewed the practical application of rail transport and PPP legislation, we identified the following challenges.

•  Anachronisms in the legal framework do not allow for compensation of costs incurred by investors in rail terminals at sea ports. This gap also concerns PPP projects developing adjacent facilities at sea ports. In particular, the concession project in the Olvia port has been hindered by the very same reason.
•  Narrow interpretation of legal provisions on public representation in PPP and concession contracts. Legislation defines public authorities such as the Ministry of Infrastructure, public transport operators such as USPA and UZ, or any combinations of them as being potential contractual parties. However, although the operators are directly involved in infrastructure development, it is typically the ministry that has been defined as a contractual party.
•  Weak interaction between rail, road, and maritime transport infrastructure operators. We can observe some efforts to deepen collaboration. Notably, in 2018 UZ’s Odesa regional branch established a directorate responsible for liaison with USPA. However, such steps seem to be insufficient and interaction problems appear to be much more profound. Not least of all, USPA should play an important role by designing development policies for sea ports on the basis of the short-term and medium-term needs of marine terminals. Meanwhile, a quick look at its five-page plans for the development of sea ports should suffice to understand that there are no serious grounds to expect such policies. USPA could be more proactive in promoting the interests of port operators in their relations with UZ.
•  The shortage of reliable sources of financing. This aggravates the problem of the short-term budgeting approach currently applied by UZ. It is difficult to map out any long-term development projects on the basis of one-year budget planning. UZ’s dependence on governmental approval of financial plans makes investment in the development of rail terminals almost impossible.

Let’s take a look, in this context, at the Draft Law on Railway Transport and other related developments.

Upcoming Developments

The Draft Law On Railway Transport (RN 1196-1) was registered in the Ukrainian Parliament in 2019. Since then, the draft has not been officially put to the vote but has become an object of continuous discussions between MPs, the government, and the business community. One of the sticking points is private investment in strategic infrastructure. Let’s take a closer look at the main governing rules in this area.

In legal terms rail terminals remain to be qualified as strategic assets and their alienation is explicitly prohibited. These assets will be transferred to a single rail infrastructure operator, a company to be set up within the upcoming unbundling of UZ.

According to the draft bill, the construction, modernization, and acquisition of infrastructure facilities can be financed by the infrastructure operator, the state or local budgets, or any other legitimate sources. Moreover, the draft stipulates that private financing of infrastructure facilities should be provided in accordance with Ukrainian legislation. However, the problem is that there are no specific rules and procedures, including the draft law itself. It means that private financing will remain impossible. This issue is mentioned in the Infrastructure Index 2020, an expert study of the general state of transport infrastructure development conducted by the European Business Association in Ukraine. “Introduction of legislative opportunities to attract private investment in public railway infrastructure” has been listed among the four most critical reforms.

Besides, the draft law includes some positive novelties. For example, it introduces a five-year investment program for the construction, reconstruction, modernization, and maintenance of infrastructure facilities. The investment program is inextricably linked with the all-new tariff policy outlined in the draft. Access to public infrastructure is the only aspect that will be covered by regulation. According to the draft law, the access tariff shall include an investment component, and the government is not going to stop there.

In 2020 the business community came up with the idea of a special fund for the development of railways. Things began to move fast from January 2021 and we witnessed some practical steps: the Ministry of Infrastructure approved a decision on establishing the Railway Development Fund. In its turn, the EBRD has already allocated funding and selected consultants to study relevant international experience, develop a concept, and draft the necessary legislation. In this regard, finding sources of funding for the fund is the most complicated issue. Currently, in the view of experts in the sector the only realistic revenue will be the diesel excise tax, but it will hardly suffice. Another key issue is the distribution of available funds. According to Mr. Kryklii, Minister of Infrastructure, the fund may be used for availability payments within PPP projects. No other possible allocations of the fund have been mentioned to date.

What Can Be Done

The development of rail terminals requires substantial financial resources and well-coordinated management. Fund-raising activities must be accompanied by legislative changes, and the success of specific projects will depend on timely and strategic interaction on the part of monopolists.

Finding alternative sources of financing is a vital task. Since strategic assets cannot be used as collateral, debt financing is too complicated or even impossible. In this respect, it would make sense to introduce rules for investment in rail terminals similar to those applied for investment in port infrastructure. According to the Sea Ports Law, private investment in publicly-owned hydro-technical facilities can be reimbursed. The law establishes that port fees may be used to compensate private investment. UZ could use the fees for various services of a rail terminal to refund investments. Such a mechanism could attract businesses whose activities depend on the efficiency of rail terminals, such as stevedoring companies, suppliers of natural resources, agro-producers, metal producers.

The establishment of the Railway Development Fund is just part of the solution. It is important to effectively use the resources of the fund not only for the availability payments within PPP projects but also as additional financing for reconstruction of rail terminals.

With regard to the difficulties of management, a more holistic approach to collaboration of monopolists is required. It is crucial to empower UZ and USPA to implement PPP and concession projects in which the development of strategic port and rail facilities is envisaged. It means that these enterprises should act as direct contractual parties in relevant projects.

Another important issue is the coordination of relevant infrastructure development plans between UZ and USPA with taking into consideration growth of port traffic capacities. Against this background, the USPA’s mission in long-term planning of the port infrastructure becomes even more important. Ukraine should introduce the landlord port model as soon as possible. However, this will be the subject of a separate publication.