Maintaining roads : the Argentine experience with output-based contracts

NOTE NUMBER 231 P U B L I C P O L I C Y F O R T H E privatesector JUNE 2001 Maintaining Roads Gerard Liautaud The World Bank is The Argentine Experience with Output-Based Contracts providing loans to the Argentine government to The Argentine government is using output-based contracts with the fund the rehabilitation private sector for rehabilitation and maintenance of its nonconcessioned and maintenance of nonconcessioned roads. road network. The multiyear lump sum contracts, funded by the T H E W O R L D B A N K G R O U P PRIVATE SECTOR AND INFRASTRUCTURE NETWORK The loans total US$435 government, specify required road service outputs and use incentive- million and partially fund the project over the based payment schedules to ensure the quality of the work. After three period 1997–2002: a years of operation the 60 contracts (averaging US$10 million) in the first loan of US$370 million (75 percent of the phase are working well. By 2002 around 75 percent of Argentina’s funding) for phase 1 and nonconcessioned roads should be operating under output-based contracts. a loan of US$65 million (50 percent) for phase 2. Road maintenance and rehabilitation have tradi- of the subnetworks for contracting out. Roads The Argentine tionally been procured by the government with traffic in the range of 300–3,000 vehicles a government funds the remaining cost of through input-based contracts with the private day are eligible for output-based contracting. US$215 million from sector. Several goals underlie the shift to output- (Roads with traffic exceeding 3,000 vehicles a day general tax revenue. The based contracts: To cut the administrative costs are considered concessionable.) On the basis of author has managed the associated with input-based contracts—in partic- the survey information the government set uni- Bank’s funding and ular, the costs arising from the frequent requests form national output indicators for the contracts. advised the Argentine for payments to cover necessary increases in To help define the indicators, road users (who government over the inputs. To encourage innovation and cost- spend US$10 billion annually operating vehi- duration of the project. effectiveness by giving contractors more respon- cles) were surveyed to find out what they consider The write-up of this case sibility. To develop more stable funding for road an acceptable level of service. Contracts were study has been funded by maintenance (under traditional arrangements awarded to the lowest lump sum bidder, and a the Public-Private national funding dried up during a fiscal crisis). share of the payments to contractors is based on Infrastructure Advisory And to better meet road users’ needs. how well they perform against these indicators. Facility, a multidonor The contracting is run at the national level by In their initial application, the output-based technical assistance the highways authority. The first step was a contracts covered maintenance of paved roads, program. nationwide road survey to estimate traffic, define with payout schedules based on kilometers per the minimum (rather than optimum) road stan- month. The next stage covered rehabilitation dards, define the rehabilitation and mainte- and maintenance, with contracts requiring nance required, and identify the size and shape lumpy up-front payments to cover rehabilitation M A I N T A I N I N G R O A D S THE ARGENTINE EXPERIENCE WITH OUTPUT-BASED CONTRACTS costs. A third stage under consideration would Bidding cover new construction of low-volume roads In designing the contract, different rehabilita- (less than 250 vehicles a day). tion strategies were tested, involving spreading the rehabilitation across the life of the contract Maintenance contracts to avoid funding spikes, using contracts of dif- Introduced in August 1995, the first output- ferent durations, and adjusting the payment based contracts are kilometer per month con- schedules to reduce financing costs. tracts spanning four years and covering a The highways authority settled on contracts network of about 3,600 kilometers of paved requiring rehabilitation works to be carried out 2 roads. The 11 contracts cover roads that were in during the first year, and routine maintenance good to fair condition and expected to require activities throughout the five-year contract only routine maintenance to remain in that con- period. Bidding is done through international dition over the next few years. competitive tenders. In early bidding rounds Contractors are paid equal monthly install- the payment schedule called for a 5 percent ments for specified services, as long as the qual- advance followed by two equal payments of 10 ity of outputs complies with the technical percent, with the rest in equal installments over specifications. If the outputs do not comply with the next four years. But the bids exceeded offi- standards, daily penalties are imposed (and sub- cial estimates by nearly 100 percent because of tracted from future payments) until the neces- high financial costs (since most expenditures sary repairs are carried out. The penalties are would have been in the first year, contractors based on deficiencies noted during monthly would have had to borrow). These early rounds inspections. No penalties are imposed for the were canceled, and a schedule with larger up- first two or three months following the award of front payments was chosen to reduce contrac- a contract, giving the contractor time to repair tors’ financial costs. any preexisting deficiency. Only after the contract is awarded does the The contracts are working well. Routine contractor prepare a detailed engineering maintenance is costing an average of about design. On the basis of its own risk assessment, US$175 per kilometer a month. About 600 cer- the contractor is free to propose any rehabilita- tificates of noncompliance have been issued, tion solution above the minimum threshold giving rise to penalties amounting to only 1 per- defined in the contract. (This involves judg- cent (US$300,000) of the total amount of the ments about how much up-front rehabilitation contracts. Given the satisfactory outcome, the is required to get the roads to a level at which contracts were recently renewed for four more they can be cost-effectively maintained.) But the years with the same contractors. contractor is not allowed to change the agreed financial bid. The decision to postpone the Rehabilitation and maintenance contracts detailed designs until after contract award was On the basis of the experience with the mainte- made to expedite the bid proposals (and thus nance contracts, a contract was designed for the reduction in the rehabilitation and mainte- combined rehabilitation and maintenance of nance backlog) and to cut the bidding costs. paved roads. This contract, called contrato de recuperación y mantenimiento (CREMA), requires Payments and monitoring the contractor to rehabilitate and then main- The payment schedule is designed to provide tain a network of roads for five years for a lump incentives for the contractor to maintain the sum amount. Each contract covers a network network for the full length of the contract. The comprising contiguous or area-specific road contractor receives an advance payment of 5–10 sections ranging in length from 100 to 300 kilo- percent, followed by 15–25 percent at the end meters. The contract specifies the sections that of the first six months, when specified activities need rehabilitation and the minimum solution have been executed, and 25 percent at the end required to ensure a positive net present value of the first year, when rehabilitation works have for the investment. been completed. Thus up to 60 percent is paid by the end of the first year; the remaining pay- Rehabilitation and maintenance ments are made in 48 equal monthly amounts. Box indicators In addition, the contract requires a perform- ance guarantee of 20 percent. The contract allows reimbursement of cost overruns in certain circumstances beyond the 1 Throughout the contract period rehabilitation works must: ▪ Meet or exceed the minimum thickness of overlay. ▪ Not exceed the maximum level of roughness, rut control of the contractor, such as earthquakes, depth, cracking, or raveling. hurricanes, and bitumen shortages. The gov- Regular visual inspections of maintenance activities focus ernment uses the contractor’s schedule of input on a few essential items in ensuring compliance with 3 prices submitted in the bid as a baseline for over- the specifications: run estimates. The risk of excessive cost overrun ▪ Potholes, cracking, and rutting. is contained by a 25 percent cushion on these ▪ The condition of shoulders, culverts and drains, and prices. If the contractor’s estimate exceeds the the roadside environment. baseline by more than 25 percent, the contract ▪ Guardrails and vertical and horizontal signs. can be rebid. In contrast with input-based contracts, under the CREMA payments are made when the con- ering subnetworks averaging about 180 kilome- tractor achieves a specified level of service. ters in length. Performance is assessed during monthly on-site The contracts were awarded to mostly local inspections by the government engineer and the construction companies for a total of US$650 contractor. Throughout the contract period the million, equivalent to US$11,000 per kilometer rehabilitation works must comply with the spec- a year. With the larger up-front payments, the ified minimum and maximum standards (box lowest bids exceeded the budget estimate by 1). The compliance with maintenance standards about 24 percent. Rehabilitation works is inspected visually on a monthly basis. Penalties accounted for 74 percent of the total bid for noncompliance are set for each indicator. amount, and routine maintenance for 26 per- For example, a pothole left unrepaired beyond cent. (The costs—US$66,000 per kilometer for the authorized time limit will cost the contractor rehabilitation over the 8.25-year life of the works US$400 a day until it is patched. Penalties are and an estimated US$3,000 per kilometer each deducted from the monthly payments. year for maintenance—are roughly in line with Road users can also monitor performance, those in other parts of Latin America.) Private voicing concerns about the quality of service in sector participation was high, with each contract a claim book available at the contractor’s site attracting 5–20 bid proposals. The average con- office. Entries in the claim book are publicized tract price was US$10 million. in the local media. Contractors must signpost The second phase involves a network of 4,000 each network with information about how they kilometers and 20 contracts. Bidding of the first can be contacted. And a representative of the two subnetworks, initiated in August 2000, user community is periodically allowed to par- received a positive response from the private sec- ticipate in monthly inspections. tor: the lowest evaluated bidders offered financial proposals 5 percent below official estimates. This Bidding for phases 1 and 2 outcome is probably the result of increasing pri- The CREMA program was designed to be imple- vate sector comfort with the contracting process, mented in two phases. The first phase involved a higher share of up-front payments (and thus a network totaling 11,700 kilometers in length, lower financing costs), and better estimating by 55 percent of the nonconcessioned national the highways authority. The remaining subnet- paved network. That network was generally in works are expected to be tendered in 2001. good to fair condition, with 25 percent in poor condition, and had daily traffic averaging about Results for phase I contracts 750 vehicles. Following international competi- The first phase was successful in many respects tive bidding, 60 contracts were let in 1997, cov- during its first three years: M A I N T A I N I N G R O A D S THE ARGENTINE EXPERIENCE WITH OUTPUT-BASED CONTRACTS ▪ By requiring contractors to perform their own ▪ Rates of return for the contractors have not quality control, the system has cut the gov- been assessed. But the competition for the ernment’s cost of supervising the network. contracts and the fact that only one of the 60 ▪ The fixed price contracts reduced the risk of contracts has had to be canceled because of cost overruns. The only cost increases so far a contractor’s financial difficulties suggest have been due to natural disasters or force that the contracts are financially attractive to viewpoint majeure events (mostly related to El Niño) the private sector. and have amounted to about 3 percent of the ▪ The CREMA program has substantially is an open forum to total contract price. improved the condition of the network, ▪ encourage dissemination of The requirement that contractors carry out reducing the share of roads in poor condition public policy innovations for detailed engineering designs before initiat- from 25 percent to less than 5 percent by the private sector–led and ing the works has minimized delays in proj- end of 1999. As a result, road users’ costs have market-based solutions for ect implementation. In traditional programs been reduced by more than 10 percent. development. The views such delays are due to lack of stocks of ▪ Damage to roads caused by vehicle overload- published are those of the government-prepared subprojects. ing is being addressed by asking contractors authors and should not be ▪ By making the long-term payment obliga- to provide and operate devices for measur- attributed to the World tions legally binding on the government, the ing axle loads on-site and to report any excess Bank or any other affiliated CREMA has deterred the Treasury from fail- load problems to the highways authority. But organizations. Nor do any of ing to provide funding for road maintenance. the contractors still have to rely on the gov- the conclusions represent ▪ The performance indicators have been simple ernment for enforcement. official policy of the World enough to apply and monitor, and they get the Bank or of its Executive desired results. (Output indicators invariably Conclusion Directors or the countries involve a tradeoff between accurate measure- Argentina’s approach to road maintenance offers they represent. ment of the road service required and unam- an effective means to improve efficiency and biguous and low-cost measurement.) public accountability. By holding contractors To order additional copies ▪ The contractors’ obligation to maintain the accountable for the future quality of the roads, contact Suzanne Smith, roads over a five-year period has reduced the output-based contracts keep them more alert to managing editor, Room I9-017, risk of unsatisfactory quality in the rehabili- quality during the execution of road works. And The World Bank, tation works. by passing some monitoring functions on to ▪ The system has fostered some innovation in contractors—and requiring the permanent 1818 H Street, NW, Washington, DC 20433. the programming and execution of works, presence of their maintenance crews on-site— since payments are tied not to rigid specifi- the contracts guarantee efficient monitoring of Telephone: cations on workmanship but to outcome. pavement and traffic conditions, leading to 001 202 458 7281 Nevertheless, as contractors get used to the more timely corrective actions. Fax: new system, they are starting to question the In the long run this approach could both 001 202 522 3181 appropriateness of uniform national stan- reduce the cost of maintenance and improve its Email: dards and to ask that they be allowed to set quality. The approach is one that could be trans- ssmith7@worldbank.org the standards once the government has ferred to other countries. Indeed, pilot initiatives defined the quality of service. with similar contracts are already under way in ▪ Ex post financial and economic evaluations Brazil, Chile, Colombia, Guatemala, Paraguay, Printed on recycled paper showed that the rehabilitation and mainte- and Uruguay. nance funding yields an economic rate of return of 60 percent (at a 12 percent cost of capital). The contracts will reduce the need for capital investments by nearly 30 percent: Gerard Liautaud (gliautaud@worldbank.org). after the five-year implementation period better quality roads will lead to a drop in ongoing capital and maintenance expendi- tures from about US$11,300 per kilometer a year to US$8,000. This Note is available online: www.worldbank.org/html/fpd/notes/