Real options model of toll-adjustment mechanism in concession contracts of toll road projects

Abstract

The toll-adjustment mechanism (TAM) is a hybrid of a price cap regulation mechanism and a revenue sharing mechanism. It is one solution to saving private investors from severe traffic demand risk and the government from heavy fiscal burden, while ensuring the private investor a reasonable but not excessive rate of return in a public-private partnership (PPP) concession contract. This research models TAM as a real option to assess the value of flexibility of the right (but not obligation) to toll adjustments. A hypothetical case study derived from a real-life project (the Western Harbour Crossing in Hong Kong) is illustrated in detail to demonstrate the application of the framework developed and to validate the effectiveness and robustness of the framework. Outcomes of the research can help the government to design reasonable concession contracts and help the private investors to make sound investment decisions through effective management of the traffic demand risk. Therefore, a win-win prospect can be achieved in PPP concession contracts for both parties.