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### Viewing cable 08PANAMA820, CANAL BIDDING PROCESS DELAYED AGAIN

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Reference ID | Created | Released | Classification | Origin
--- | --- | --- | --- | ---
08PANAMA820 | 2008-10-24 23:11 | 2010-12-18 12:12 | CONFIDENTIAL | Embassy Panama

`

    VZCZCXYZ0004
    PP RUEHWEB

    DE RUEHZP #0820/01 2982337
    ZNY CCCCC ZZH
    P 242337Z OCT 08
    FM AMEMBASSY PANAMA
    TO RUEHC/SECSTATE WASHDC PRIORITY 2603
    INFO RUCPDOC/DEPT OF COMMERCE WASHDC PRIORITY
    RULSDMK/DEPT OF TRANSPORTATION WASHDC PRIORITY
    RUEATRS/DEPT OF TREASURY WASHDC PRIORITY
    RUEKJCS/OSD WASHDC PRIORITY

` `

    C O N F I D E N T I A L PANAMA 000820

    SIPDIS

    DEPT OF COMMERCE - MATTHEW GAISFORD
    DEPT OF TREASURY - SARA SENICH

    E.O. 12958: DECL: 10/22/2018
    TAGS: ECON EINV ETRD MARR PM EWWT
    SUBJECT: CANAL BIDDING PROCESS DELAYED AGAIN

    REF: A. 2007 PANAMA 1899
    ¶B. 2008 PANAMA 0320
    ¶C. 2008 PANAMA 0732

    Classified By: Ambassador Stephenson for reasons 1.4 (b) and (d).

    ¶1. (U) This cable contains sensitive proprietary business
    information concerning on-going negotiations. Please
    handle accordingly.

    -------
    Summary
    -------

    ¶2. (C) The Panama Canal Authority (ACP) announced on October
    24 that the deadline for submission of bids on the contract
    for the third set of locks, centerpiece of the overall $5.25
    billion Panama Canal expansion, will be extended from
    December 10, 2008 to March 3, 2009. This third delay marks
    turbulence in the bidding process for this mega-project and
    allows the ACP to reconsider the key issue of the balance of
    risk between the ACP and the consortia. Furthermore, the
    bidding consortia claim that the net effect of the Panama
    Canal Authority's (ACP) 18 amendments to the original request
    for proposal added complexity to an already complex project.
    Despite the bidding complications, there is no indication of
    a decrease in the level of transparency and fairness in the
    process. While the Panama Canal Authority (ACP) enjoys a
    record of efficiently, safely, and profitably operating the
    canal and overseeing incremental improvements, constructing a
    project of this scope and complexity demands a different
    skill set and effective ACP cooperation with its project
    management advisor. Regarding funding for the expansion, the
    Government of Panama trumpeted its success in securing a $2.3
    billion financing package despite construction cost estimates
    that exceed original projections.

    -------------------------
    Expanding a Canal is Hard
    -------------------------

    ¶3. (C) Jhan Schmitz of the American firm CH2MHill, the
    Project Management Advisor to the ACP, stated on September 8,
    "Nobody has done this (the Canal Expansion Project) before,
    but all the pieces have been done before." He noted that the
    coordination of all the contractors and the scale of the
    $3.35 billion project combined with the seven year
    construction timeline will be challenging. Although rolling
    gates have been constructed before, the scale is
    unprecedented. The design calls for 4,000 ton, 50 foot
    thick, 60 foot high rolling gates with a lifespan of 100
    years that must move across 200 feet of water in ten minutes
    or less. The complexity of the expansion combined with the
    fact that the ACP has never managed a multi-billion dollar
    project has created delays in the bidding process due to
    numerous amendments. While the ACP does not have experience
    in mega-projects, the Panamanian people and world-wide
    maritime transport industry recognize that the ACP
    transparently and successfully operates the Canal and
    implements incremental infrastructure improvements to the
    Canal - see ref C.

    --------------
    Issues of Risk
    --------------

    ¶4. (C) The ACP will likely institute changes to its
    "draconian" "liquidated damages" clause, according to
    President of Bechtel Civil, Michael Adams on October 5. This
    view was confirmed in an October 20 conversation between
    Administrator Aleman and the Ambassador when the Minister
    stated the ACP will review the full status of the bidding
    process to encourage participation of all consortia and to
    examine flexibility on the bidding deadline, the budget, and
    issues of risk. For the third set of locks contract, the
    original bidding documents placed every possible risk
    (financial and technical) onto the consortia. Subsequent
    amendments shifted some of the risk burden from the consortia
    to the ACP, such as price escalation clauses for some
    construction commodities. However, the possible deal killer
    for the bidders remains liquidated damages - a specified
    amount of damages by a contractor for non-performance. For
    example, the rolling gates must close in 10 minutes. The
    liquidated damages clause, if enforced, would cost the
    winning consortium hundreds of millions of dollars if the
    gates close a just few seconds over 10 minutes. Usually,
    liquidated damages clauses apportion damages according to the
    severity of non-performance. There is no incentive if the
    gate is faster than the requirement. Adams stated the ACP is
    creating an adversarial relationship and is fostering the
    conditions for future litigation.

    -----------------------------------------
    ACP Appears to Listen to Advisor's Advice
    -----------------------------------------

    ¶5. (C) The ACP and its project management advisor (CH2MHill)
    are struggling over the control of the contracting process.
    The fierce independence and control of details that have made
    the ACP an effective manager of the Canal are impeding the
    management of the bidding process, according to CH2MHill,
    which cautions that the project cannot continue to a
    successful completion on its current course. It appears that
    the ACP is listening.

    ¶6. (C) In its most recent round of talks on October 9,
    CH2MHill representatives Joe Cazares, Canal Construction
    Advisor, and Michael Kennedy, President of Transportation
    Business Group report that CH2MHill issued an "early warning
    notice" as specified in the contract between CH2MHill. In
    order to correct the process, CH2MHill outlined options for
    CH2MHill to gain control of the contracting process. Kennedy
    told the Ambassador on October 16 that CH2MHill would not
    walk away from the project, because that is "not who we are."

    --------------------------------------------
    Bidding Process - 18 Amendments and Counting
    --------------------------------------------

    ¶7. (C) The original specifications for the contract for the
    third set of locks, the primary contract of the expansion,
    were publicly released on December 21, 2007. To date, the
    ACP amended the document 18 times, which is higher than the
    normal two or three modifications for a project of this
    complexity, according to Schmitz. The amendments resulted
    from the ACP and the four prequalified consortia refining the
    original specifications. On the one hand, ACP Administrator
    Aleman asserts the refining process provides "value
    engineering" - cooperatively designing plans with bidders
    (which shifts extra costs to the bidders). ACP Administrator
    Aleman in several meetings has stated that the process will
    reduce the likelihood of future litigation, improve the
    design, and achieve the best price for the ACP. While
    meeting with Aleman on August 27, a delegation of U.S. Army
    Corps of Engineers (USACE) personnel lauded the ACP's value
    engineering process as having the potential to be a model for
    extremely large USACE projects in which there are only a few
    bidders in order to reduce the likelihood of legal disputes.
    On the other hand, the ACP's failure to incorporate "tracked
    changes" in over a thousand pages of specifications in each
    of the 18 amendments has created confusion, uncertainty, and
    deadline delays (from August 22 to October 8 to December 10
    and now to March 3). Due to the delay, all four consortia
    are spending a million dollars per month, according to
    Bechtel (one of the four prequalified consortia - see ref B
    for information on the four prequalified consortia) and
    CH2MHill Representatives.

    ------------------------------------------
    Bidders' Dilemma - Lowball, Value, or Punt
    ------------------------------------------

    ¶8. (C) Adams of Bechtel outlined three possible bidding
    strategies for Bechtel and the other consortia for the locks
    contact which the ACP publicly expects to be $3.35 billion or
    less: bid lowball, bid value, or punt.

    -- Lowball Bid: Bechtel assumes that governments (the ACP is
    quasi-statal) are only able to accept the lowest bid due to
    political reasons; therefore, Bechtel must be the lowest
    bidder in order to win, regardless of their technical design.
    Bechtel anticipates that the "lowball strategy," which would
    entail bidding low enough to win this highly prestigious
    contract yet not high enough to cover contingencies (much
    less profits) could lead to crippling losses. However, Adams
    believes that the two weakest consortia, Sacyr led Spanish
    consortium (which is reportedly close to bankruptcy) and the
    French-led consortium, might lowball the bid with the
    intention of securing the contract and attempt to renegotiate
    the price during construction. Bechtel has been worried
    about this concern since April - see ref B.

    -- Value Bid: Bechtel bids what they believe is the proper
    cost of the contract to construct the third set of locks
    which is in the $4-8 billion range depending on which Bechtel
    official provides the number. Adams noted that traditionally
    Bechtel's services are more expensive than its competitors,
    but that Bechtel finishes all of their projects and has high
    quality engineering.

    -- Punt: Bechtel decides that bidding on the locks contract
    creates too much risk for the company and bids $10 billion
    dollars. By putting in such a high bid, Bechtel would not
    expect to win the contract, but exchange ownership of
    Bechtel's engineering plans for a several million dollar
    stipend from the ACP and the right to walk away without any
    legal obligations.

    ---------
    Financing
    ---------

    ¶9. (C) President Torrijos secured $2.3 billion in financing
    for the already initiated $5.25 billion overall Canal
    expansion (construction of the locks and related dredging and
    excavation projects); the ACP plans to fund the remaining
    cost out of its operating budget. During a October 14 press
    conference, Torrijos announced that five governmental
    financial institutions offered loans with a 20 year term with
    a 10-year grace period and an average annual interest rate of
    5.49%. The lenders and amounts committed are: Japan Bank for
    International Cooperation, $800 million; European Investment
    Bank, $500 million; Inter-American Development Bank (IDB),
    $400 million; Andean Development Corporation, $300 million;
    and International Finance Corporations, $300 million.
    Minister of Canal Affairs Dani Kuzniecky was pleased that the
    cost of financing fell below ACP projections and that these
    lenders remained committed to the ACP despite the on-going
    financial crisis. We understand that First Vice-President
    and Foreign Minister Samuel Lewis Navarro told EEB A/S
    Sullivan that President Torrijos wants to announce the
    consolidation of financing for the Canal expansion at the
    December 9-10 Pathways to Prosperity Ministerial.

    -----
    Price
    -----

    ¶10. (C) The $5.25 billion cost estimate for the Canal
    expansion was established by the ACP in 2005 when commodity
    prices, financial environment, and world economy were more
    favorable than they are at present. An IDB independent
    consultant estimated the total cost to be $5.9 billion and
    Bechtel representatives believe the price could be $5.9 to
    $9.9 billion dollars if all risk in the locks contract is
    placed upon the consortia. The IDB analysis of alternative
    scenarios for the IDB Loan Proposal states that under the
    worst case scenarios the ACP has a strong capacity to repay
    the outstanding debt due to its strong balance sheet.

    -------
    Comment
    -------

    ¶11. (C) Post believes the bidding extension provides time for
    the ACP, the Project Management Advisor CH2MHill, and the
    consortia to iron out the fundamental issues outlined above.
    The Panamanians realized that a project of this scope,
    complexity, and duration requires flexibility, even if that
    flexibility entails finishing the expansion beyond the summer
    2014 deadline. It is noteworthy to mention that the
    announcement of the winner now likely will occur after the
    May 3 elections.
    STEPHENSON

`