Necessary reforms to boost investment into Vietnam’s burgeoning water sector

Donald Lambert - Principal, private sector development specialist Asian Development Bank

The Asian Development Bank (ADB) is increasingly active in this sector in Vietnam. After supporting it for decades through official development assistance to the government, ADB signed a commercial loan of $8 million in November 2020 with Binh Duong Water Environment JSC to expand a water treatment plant in the southern province of Binh Duong.

This was ADB’s first non-sovereign investment in the water sector in the country, and other water transactions are expected to follow. Vietnam needs more such investments. Daily production of urban water is expected to grow from 10.9 million cubic metres in 2019 to 20 million cubic metres by 2030, according to the Vietnam Water Supply and Sewerage Association.

Estimates for water sector investment range from $1.3 billion to $2.7 billion over the next 10 years. Vietnam will need new sources of financing to reach even the lower end of that range.

In principle, private investors should be interested. Demand for water tracks economic growth, and Vietnam with its consistent growth of 6-7 per cent and strong handling of the pandemic is one of the most dynamic economies in Asia.

However, to attract private investors, reforms are needed.

Consolidation: Around 200 companies operate in Vietnam’s water sector, including over 100 water supply companies. This is too many. With each company serving on average less than one million people, their small size inhibits economies of scale, weakens balance sheets, and deters the recruitment of top professional talent. Consolidation would allow stronger companies to attract investment.

Mainstream service contracts: Many water supply companies do not have contracts that define service standards with the local authorities. This creates regulatory risk. Lenders will want to know that water companies have the right to operate, typically exclusively, in a service area and that penalties for any performance shortcomings are well defined.

Streamline regulatory framework: There are too many regulators, with each of Vietnam’s 63 provinces responsible for overseeing its own water. This creates an impossible regulatory jigsaw. It may be politically infeasible in the short term to introduce a single regulator for water as Vietnam has done for electricity. But a first step could be to create a handful of regional regulators. This would not only give investors more predictability, but lead to better enforcement of regulations intended to protect consumers.

Build a national database: The fragmented regulatory framework makes data collection challenging. The absence of comprehensive data makes it difficult for authorities to make informed investment decisions and for investors to compare potential opportunities.

Benchmark: With better data, Vietnam could effectively benchmark its water companies. This is particularly important because state-owned enterprises (SOEs) dominate the sector. This is not uncommon. Water is a critical public service, and governments can be cautious about relying on the private sector. However, an SOE-dominated sector does not face the competitive pressures that can raise service delivery and reduce costs. Therefore, benchmarking becomes critical. Vietnam should identify key performance indicators, collect data from water companies on these indicators, and then publish the results to foster transparency and accountability.

This would also strengthen corporate governance, which would help SOEs to attract commercial debt and equity investments.

Reform tariffs: Local governments have a lot of discretion in setting tariffs, which can create uncertainties in the tariff-setting process and lead to underpricing. Indeed, water tariffs in Vietnam are on average insufficient to sustain the existing infrastructure and attract investment for new infrastructure.

Water tariffs are politically sensitive, but there are many examples globally of localities with progressive tariffs that protect the economically vulnerable, offer transparency and predictability, fund capital expenditures, and provide fair returns to investors.

Attract quality public-private partnerships (PPPs): Following the passage of Vietnam’s first Law on Public-Private Partnership Investment in 2020, the water sector is positioned to use PPPs to attract not just external financing but also external expertise. Vietnam has had some early success with PPPs in water supply, and the law has the potential to expand this to new areas such as irrigation and wastewater. Moreover, water PPPs often use availability payments, a structure that is particularly promising under the law. However, to attract interest from top investors, authorised state agencies must demonstrate the SOEs that dominate the sector have no special or implicit advantages in the bidding.

Develop long-term finance: Water projects typically have an economic life of 25 years or more, but the financing available in Vietnam is usually no longer than 12 years. This mismatch makes some projects unviable. To promote longer-term financing, project sponsors need to move away from corporate finance to project finance to create opportunities for project bonds and longer-tenor bank loans.

Credit ratings and a credit culture that rewards investors for longer-term risks need to emerge. This in turn would attract pensions and life insurers that need long-term assets to offset their long-term liabilities.

Whether for investors seeking green assets or to capitalise on Vietnam’s growth story, the water sector is promising. A bold reform agenda would connect private capital to this crucial public service, providing a wellspring for development and economic growth.