Privatizing Highway

Case Statement:

Your client is the Government of Germany, deliberating on privatizing the highway between city A and B. They want you to suggest if it is a good idea to go ahead with.

BCG

Profitability

Policy

Easy

C: Can I get clarity on what privatizing the highway exactly mean here?

I: It means the government is planning to introduce toll on the highway.

C: Okay. What is the objective of introducing such toll booths?

I: The NPV should not be negative.

C: What is the usual traffic on highway?

I: There are 2 million commuters between city A and B.

C: Okay, is there any other route between the two cities?

I: Good question. Yes, there are other routes.

C: What share of them usually use the highway?

I: You can assume that 10% of the commuters use the highway.

Can you tell me what would be the sources of revenues and costs for the highway?

C: Sure. The costs can be divided into fixed and variable costs. Fixed will include infrastructure and maintenance cost for setting up Toll booths, shops, restrooms etc., on the highway. The variable costs will include labor, electricity and technology.

The Revenue can be divided into Toll and non-toll revenue. Non-toll revenue will include a major portion from advertisements, and shop rents.

I: Fair enough. Can you now tell me what would be the toll price per one way trip to achieve a payback.

C: Sure. Do we have any data on the estimated costs incurred for the project?

I: The Fixed investment amounts to Rs. 8 million. You need not worry about the variable, as that can be covered by the non toll revenue.

C: Okay. Given there are 2 million commuters between city A and B, and 10% of them use highway, that makes it 0.2 million commuters using the highway. But out of these, there must be some who would take a round trip, so we have any data on that?

I: Good observation. You can assume 50% go for a two-way trip.

C: So that makes it 0.6 million commuters for two years. Therefore, a fair price would be 8million/0.3 million, i.e., Rs.13 approximately for a one-way trip.

I: Fair enough, we can go ahead with that. So, what will be your final suggestion, should the highway be privatized?

C: As discussed, by charging the price of Rs. 13, the government can recover its costs, and can have a positive NPV thereby achieving its objective. Thus, I will recommend the government to go ahead with privatization if it expects to earn more revenues than the costs.

I: Okay, we can close the case here. Thank you.

Background Information:

Client: Government of Germany privatizing the highway

Customer: 2 million commuters from City A to B

Competitors: Other routes from City A to B

Product: Highway from city A to B

Case recommendations:

Case highly depends on the right scoping questions, like the presence of alternative routes and share of commuters is significant in calculating the price.

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