The encyclopedia · Strategy & Leadership · Strategic decision · 1998–2005
Chile's Route 68 auction let the road's term fit traffic
Chile franchised the Santiago-Valparaíso highway in 1998 by auctioning the least present value of toll revenue, ending demand-risk gambling.
Chilean Ministry of Public Works (MOP)
The solution
By the 1990s highway franchises typically set a fixed term (or a fixed toll) and let firms bid on the other. Traffic forecasts are notoriously wrong, so winners either overpaid or, expecting renegotiation, bid artificially low; in Mexico some toll-road franchises saw terms double and the state had to rescue firms.
Chilean economists Engel, Fischer and Galetovic proposed the least-present-value-of-revenue (LPVR) auction: firms bid the present value of toll revenue they are willing to accept, and the concession ends when that amount is collected. The term adjusts automatically to demand, and a fair compensation rule is easy to define if the state ends the concession early.
In February 1998 the Santiago-Valparaíso-Viña del Mar highway (Route 68) became the first road franchised with a PVR auction. Four firms bid; one was disqualified. The winner's bid came in below the Ministry's estimated construction and maintenance costs, meaning the state would top up the difference.
Why it worked
- Term adjusts to traffic, so demand risk stays with users, not the franchise holder.
- Lowball bids lose their point because renegotiation is harder to force.
- Risk premium shrinks; the World Bank estimated it near a third of investment cost in Chile.
- Termination compensation is easy to calculate, which kept the state's options open.
What can be applied
When demand is the biggest risk, let the contract end when the winner's revenue target is met rather than after a fixed period; the market then prices construction, not traffic forecasts.
Aftermath
LPVR/PVR auctions became a reference design in infrastructure PPP economics: the Journal of Political Economy paper formalizing the mechanism has over a hundred citations on RePEc, and Chile's concession program continued awarding road franchises under the framework.
Sources
- Route 68 concession, Chile (PVR auction) — PPIAF Highway Toolkit case study
- Privatizing Roads: A New Method for Auctioning Highways (Viewpoint Note No. 112)
- Least-Present-Value-of-Revenue Auctions and Highway Franchising
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