Chongqing Innovation and Human Capital Development Project (RRP PRC 50222)

FINANCIAL ANALYSIS

A. Introduction

1. Institutional arrangement. The Chongqing Municipal Government (CMG) will be the executing agency and the Chongqing project management office (CPMO) will manage the project for the CMG. The project has seven implementing agencies, which are the end- borrowers of the Asian Development Bank (ADB) loan. Of these, two are state-owned enterprises: (i) Chongqing Changshou Economic and Technological Development Area Development Investment Group Co., Ltd. (implementing agency for the Changshou subproject), which is under the Changshou District Government (CDG); and (ii) Dianjiang Chaoyang Industrial Co., Ltd. (implementing agency for the Dianjiang subproject), which is under the Dianjiang County Government (DCG). The other five are public higher education institutions (HEIs) under the Chongqing Education Commission of the CMG: (i) Chongqing Jiaotong University (CJU), (ii) Chongqing Sanxia Vocational College (CSVC), (iii) Chongqing University of Education (CUE), (iv) Chongqing University of Science and Technology (CUST), and (v) Chongqing Vocational Institute of Engineering (CVIE).

2. Project scope and outputs. The project will support (i) people in Chongqing to gain industry-relevant and innovation-oriented skills and capacities; and (ii) institutions to create an enabling and inclusive environment that helps build an innovative, diversified, efficient, and green economy in Chongqing. The seven implementing agencies agreed to work together to achieve the project objectives under the management of the CPMO. The project will deliver three outputs: (i) relevance and quality of higher education and vocational training strengthened, (ii) supporting mechanisms for innovation and entrepreneurship established, and (iii) institutional and project management capacity enhanced. Subprojects implemented by the five HEIs will support output 1, and subprojects implemented by the two state-owned enterprises will support output 2. The CPMO will be responsible for the implementation of output 3.

3. Financial analysis approach. This financial analysis was conducted following guidelines set out by ADB.1 This analysis aims to (i) assess the financial viability of the two subprojects implemented by state-owned enterprises (i.e., the Changshou and Dianjiang subprojects); (ii) assess the financial sustainability of the five subprojects implemented by HEIs (CJU, CSVC, CUE, CUST, and CVIE); and (iii) review the fiscal capacities of the CDG, CMG, and DCG to finance the incremental costs generated by the respective components.2

B. Financial Analysis of Changshou and Dianjiang Subprojects

4. Financial viability. The weighted average cost of capital (WACC) and financial internal rate of return (FIRR) were computed for the Changshou and Dianjiang subprojects. The FIRRs are calculated based on capital investment and operation and maintenance (O&M) costs and revenues obtained from facility rental and parking fees. A project with an FIRR that exceeds its WACC is deemed financially viable. With an FIRR (3.4%) higher than its WACC of 2.0%, the Changshou subproject is financially viable (Table 1). However, the Dianjiang subproject

1 ADB. 2005. Financial Management and Analysis of Projects. Manila; and ADB. 2009. Financial Due Diligence: A Methodology Note. Manila. 2 The financial evaluation of an ADB commercial project consists primarily of a comparison between the project’s financial internal rate of return (FIRR), which represents financial benefits, and its weighted average cost of capital (WACC), which represents financial costs. Noncommercial projects are not subject to FIRR and WACC assessment. Instead, reliance is placed on the project’s financial sustainability. 2 generated a negative FIRR, and its cash flows can only cover the operating costs. Sensitivity analysis considered four alternative scenarios: (i) a 10% increase in capital costs, (ii) a 10% increase in operating costs, (iii) a 1-year delay in implementation, and (iv) a 10% decrease in revenues. The results of the sensitivity analysis show that the financial viability of the Changshou subproject is robust under these adverse scenarios. All scenarios yield an FIRR higher than the Changshou subproject’s WACC (2.0 %).

Table 1: Results of Financial Internal Rate of Return and Sensitivity Analysis Item Changshou Subproject (%) Dianjiang Subproject (%) Weighted average cost of capital 2.0 2.1 1. Base case 3.4 Negative 2. Capital costs increased by 10% 2.7 Negative 3. Operating costs increased by 10% 3.2 Negative 4. Implementation delayed by 1 year 3.2 Negative 5. Revenues decreased by 10% 2.4 Negative Source: Asian Development Bank estimates.

5. Financial sustainability of Dianjiang subproject. The projected annual financial statements of the subproject’s operation from 2025 to 2045 are prepared to determine the annual subsidies required from the DCG and to assess the financial sustainability of the Dianjiang subproject (Table 2). The projected annual performance shows that the annual cash flow from operating activities is positive from 2025 onwards, but annual subsidies will be required to fully cover the subproject’s debt service requirements from when the loan repayments are to commence in 2026 to the final year of ADB loan repayment in 2044. The required subsidy will be highest in 2026 at about CNY13.44 million (equivalent to 0.17% of the DCG’s recurrent budget in 2018). This will require the DCG’s recurrent budget to grow by at least 0.02% per year during 2019–2026. This is lower than the expected 6% average growth in the economy of Dianjiang County and the recurrent budget of the DGC during the period. Improvements in operations are expected over time and will result in lower subsidy requirements in the future. The required subsidy is projected to decline from 2027 onwards and will be lowest in 2044 (at least CNY8.03 million). This will require the DCG’s recurrent budget to grow during 2026–2044 by an average of at least 0.03% per year—much lower than the expected growth in the DCG’s recurrent budget. These projections strongly indicate that the Dianjiang subproject is financially sustainable.

Table 2: Summary of Operation Performance of Dianjiang Subproject Item 2025 2026 2027 2030 2035 2044 2045 A. Income Statement Operating rate (%) 70.00 80.00 90.00 100.00 100.00 100.00 100.00 1. Business revenue (CNY million) 5.32 6.08 6.84 7.60 7.60 7.60 7.60 2. Operating cost (CNY million) 2.69 3.11 3.50 3.99 4.26 4.87 4.95 3. Profit before depreciation, financial charges, 2.63 2.96 3.33 3.61 3.33 2.72 2.65 and income taxes (CNY million) Depreciation and amortization (CNY million) 15.41 15.41 15.41 15.41 15.41 15.41 15.41 Financial charges (CNY million) 0.00 5.81 5.50 4.55 2.98 0.16 0.00 Income taxes (CNY million) 0.00 0.00 0.00 0.00 0.00 0.00 0.00 4. Net profit (CNY million) (12.78) (18.26) (17.57) (16.36) (15.06) (12.84) (12.76) B. Cash Flow Statement Cash from operations activities (CNY million) 2.63 2.96 3.33 3.61 3.33 2.72 2.65 Cash from investment activities (CNY million) (12.15) 0.00 0.00 0.00 0.00 0.00 0.00 Cash from financing activities (CNY million) 12.15 (16.41) (16.09) (15.15) (13.58) (10.76) 0.00 Beginning cash (CNY million) 0.00 2.63 (10.82) (47.46) (102.58) (185.83) (193.86) Change in cash (CNY million) 2.63 (13.44) (12.76) (11.55) (10.25) (8.03) 2.65 Ending cash (CNY million) 2.63 (10.82) (23.58) (59.01) (112.83) (193.86) (191.21) ( ) = negative. Sources: Dianjiang County Government and Asian Development Bank estimates. 3

6. Fiscal impact and sustainability of Changshou and Dianjiang subprojects. Since the Changshou subproject is financially viable, the CDG only needs to provide counterpart funds for the subproject during the construction period. For the Dianjiang subproject, if necessary, the DCG will provide counterpart funds during the construction period, as well as subsidies for O&Ms cost and debt service requirements. To assess the capacities of the CDG and DCG to fulfill the incremental financing requirements of their respective subprojects, revenues and expenditures of the CDG and DCG during 2016–2018 were reviewed, and projections of their future revenues and expenditures were made. Incremental costs include (i) counterpart fund requirements, (ii) annual O&M cost requirements, and (iii) debt servicing requirements. In this analysis, a fiscal cost burden exceeding 2% of total revenue is considered problematic, as it may crowd out other programs or delay the provision of counterpart funds. Table 3 shows that the fiscal cost burden of the Changshou subproject as a proportion of fiscal revenue is highest at 0.84% in 2023, while that of the Dianjiang subproject is highest at 0.38% in 2021. This implies that the financial requirements of the Changshou and Dianjiang subprojects are affordable to their respective local governments and will have negligible impacts on the budgets of the respective governments.

C. Financial Sustainability and Fiscal Impact of Public Higher Education Institutions Subprojects

7. CJU, CSVC, CUE, CUST, and CVIE are responsible for implementing their respective subprojects, providing counterpart funds, and covering O&M costs and debt service repayments. A financial sustainability assessment was conducted to estimate the future revenue and expenditure flows of the five project HEIs. To assess the HEIs’ financial capacity to finance the incremental cost requirements of their respective subprojects, their revenue and expenditure flows during 2016–2018, and their historical revenue-generating capacity were reviewed. The revenues of these public HEIs are from (i) a general annual fiscal budget allocation from the CMG, which amounts to about CNY12,000 per student; (ii) business revenue, which is mainly from tuition and accommodation fees; and (iii) other revenue sources.

8. Incremental costs include (i) counterpart fund requirements, (ii) annual O&M cost requirements, and (iii) debt servicing requirements. In this analysis, the revenues of CJU, CSVC, CUE, CUST, and CVIE meet basic recurrent expenditure, including staff and basic administrative expenditures. The remaining revenue can then be used for administrative business expenditures and capital expenditures. CJU, CSVC, CUE, CUST, and CVIE will allocate the remaining revenue to fund ADB subproject construction, operation, and debt service. If the remaining annual revenue is higher than the incremental cost burden due to the ADB subproject, the subproject is considered financially sustainable.

9. Table 4 shows that the remaining revenue of each HEI exceeds the incremental cost burden of its respective subproject. This suggests that the incremental cost burden of each of the five subproject HEIs is affordable to the respective implementing agency, and is financially sustainable. Nonetheless, in case any of the implementing agencies become unable to fulfill financing requirements, the CMG will cover counterpart funding, O&M costs, and debt service repayment. The fiscal burden of the five HEI subprojects to the CMG is highest at CNY120.78 million in 2023, equivalent to 0.02% of CMG revenue that year (Table 3). This implies that the financial requirements of the five HEI subprojects have a negligible impact on the CMG’s budget.

4 Table 3: Fiscal Cost Burden as Percentage of Fiscal Revenue Projection (CNY million) Item 2016 2017 2018 2019 2020 2021 2022 2026 2035 2045 1. Changshou District Government 1.1 Total revenue 13,197 16,389 15,651 14,762 15,626 16,540 17,508 21,978 36,662 64,734 1.1.1 General public budget revenue 6,779 8,470 8,120 8,596 9,098 9,631 10,194 12,797 21,347 37,692 1.1.2 Governmental fund budget 6,418 7,919 7,530 6,167 6,528 6,910 7,314 9,181 15,315 27,042 1.2 Total expenditure 13,197 16,389 15,651 14,762 15,626 16,540 17,508 21,978 36,662 64,734 1.2.1 General public budget 6,779 8,470 8,120 8,596 9,098 9,631 10,194 12,797 21,347 37,692 1.2.2 Governmental fund budget 6,418 7,919 7,530 6,167 6,528 6,910 7,314 9,181 15,315 27,042 1.3 Total fiscal cost burden due to subproject 0 10 21 113 0 0 0 1.4 Fiscal cost burden as percentage 0.00% 0.06% 0.13% 0.64% 0.00% 0.00% 0.00% percentage of fiscal revenue 2. Dianjiang County Government 2.1 Total revenue 8,229 10,513 11,520 12,887 14,416 16,126 18,040 28,251 77,502 237,848 2.1.1 General public budget revenue 6,092 8,005 7,712 8,627 9,651 10,796 12,077 18,913 51,886 159,233 2.1.2 Governmental fund budget 2,137 2,508 3,808 4,259 4,765 5,330 5,963 9,338 25,616 78,615 2.2 Total expenditure 8,229 10,513 11,520 12,887 14,416 16,126 18,040 28,251 77,502 237,848 2.2.1 General public budget 6,092 8,005 7,712 8,627 9,651 10,796 12,077 18,913 51,886 159,233 2.2.2 Governmental fund budget 2,137 2,508 3,808 4,259 4,765 5,330 5,963 9,338 25,616 78,615 2.3 Total fiscal cost burden due to subproject 0 46 61 50 13 10 0 2.4 Fiscal cost burden as percentage 0.00% 0.32% 0.38% 0.28% 0.05% 0.01% 0.00% of fiscal revenue 3. Chongqing Municipal Government 3.1 Total revenue 766,490 858,300 893,100 939,791 988,923 1,040,624 1,095,027 1,342,609 2,123,882 3,535,432 3.1.1 General public budget revenue 498,200 521,100 522,300 549,606 578,339 608,574 640,390 785,181 1,242,082 2,067,580 3.1.2 Governmental fund budget 268,290 337,200 370,800 390,185 410,584 432,049 454,637 557,429 881,800 1,467,851 3.2 Total expenditure 766,490 858,300 893,100 939,791 988,923 1,040,624 1,095,027 1,342,609 2,123,882 3,535,432 3.2.1 General public budget 498,200 521,100 522,300 549,606 578,339 608,574 640,390 785,181 1,242,082 2,067,580 3.2.2 Governmental fund budget 268,290 337,200 370,800 390,185 410,584 432,049 454,637 557,429 881,800 1,467,851 3.3 Total fiscal cost burden due to subproject 0.00 5.34 46.07 101.47 36.93 31.37 4.66 3.3.1 Chongqing Jiaotong University 0.00 3.98 62.06 88.10 18.94 16.01 2.88 3.3.2 Chongqing Sanxia Vocational College 0.00 1.58 32.86 43.89 10.38 8.87 1.63 3.3.3 Chongqing University of Education 0.00 1.18 4.66 5.32 7.66 6.34 0.00 3.3.4 Chongqing University of Science 0.00 2.58 8.55 52.27 18.89 16.16 3.03 and Technology 3.3.5 Chongqing Vocational Institute of 0.00 4.77 27.92 31.61 18.55 15.82 2.69 Engineering 3.4 Fiscal cost burden as 0.000% 0.001% 0.013% 0.020% 0.006% 0.003% 0.000% percentage of fiscal revenue Source: Asian Development Bank estimates based on data provided by the Changshou District Government, Dianjiang Country Government, and the implementing and executing agencies.

5 Table 4: Remaining Revenue Compared to Incremental Cost Burden (CNY million) Item 2016 2017 2018 2019 2020 2021 2022 2026 2035 2040 2045 1. Chongqing Jiaotong University 1.1 Total revenue 1,309 1,395 1,331 1,113 1,132 1,172 1,214 1,382 1,475 1,475 1,475 1.2 Expenditure 987 1,171 1,140 1,030 1,032 1,072 1,111 1,279 1,372 1,372 1,372 1.2.1 Basic expenditure 557 578 584 604 609 614 619 639 649 649 649 1.2.2 Basic administrative business expenditure 292 338 385 340 335 372 404 553 635 635 635 1.2.3 Operating expenditure 74 86 87 87 88 87 88 88 88 88 88 1.3 Remaining revenue 83 101 100 103 103 103 103 103 1.4 Total incremental cost burden due to subproject 0 4 62 88 19 16 14 3 1.5 Net surplus 322 224 191 83 97 38 15 84 87 89 100 2. Chongqing Sanxia Vocational College 2.1 Total revenue 195 202 177 180 188 199 211 240 244 244 244 2.2 Expenditure 156 139 177 123 128 133 139 153 156 156 156 2.2.1 Basic expenditure 87 101 131 123 128 133 139 153 156 156 156 2.3 Remaining revenue 57 60 66 72 87 88 88 88 2.4 Total incremental cost burden due to subproject 0 2 33 44 10 9 8 2 2.5 Net surplus 39 63 0 57 59 33 28 76 79 80 86 3. Chongqing University of Education 3.1 Total revenue 368 445 462 399 392 387 387 387 387 387 387 3.2 Expenditure 366 370 441 362 341 345 348 347 347 347 347 3.2.1 Basic expenditure 187 200 299 233 231 236 239 238 238 238 238 3.2.2 Basic administrative business expenditure 75 94 121 129 109 109 109 109 109 109 109 3.2.3 Basic construction expenditure 104 76 22 3.3 Remaining revenue 37 52 43 40 40 40 40 40 3.4 Total incremental cost burden due to subproject 0 1 5 5 8 6 6 0 3.5 Net surplus 2 75 21 37 51 38 34 33 34 35 40 4. Chongqing University of Science and Technology 4.1 Total revenue 660 688 817 687 715 740 769 878 938 938 938 4.2 Expenditure 660 656 699 570 586 593 608 630 639 639 639 4.2.1 Basic expenditure 478 495 508 513 525 537 541 541 541 4.2.2 Basic administrative business expenditure 193 75 78 80 82 93 98 98 98 4.3 Remaining revenue 117 129 147 161 249 299 299 299 4.4 Total incremental cost burden due to subproject 0 3 9 52 19 16 15 3 4.5 Net surplus 0 32 118 117 126 139 109 230 282 284 296 5. Chongqing Vocational Institute of Engineering 5.1 Total revenue 662 492 397 422 322 322 322 322 322 322 322 5.2 Expenditure 661 492 397 305 290 290 290 290 290 290 290 5.2.1 Basic expenditure 203 234 322 285 285 285 285 285 285 285 285 5.2.2 Basic construction expenditure 457 258 75 20 5 5 5 5 5 5 5 5.3 Remaining revenue 117 32 32 32 32 32 32 32 5.4 Total incremental cost burden due to subproject 0 5 28 32 19 16 14 3 5.5 Net surplusa 1 0 0 117 27 4 0 13 16 18 29 ( ) = negative. a There is land replacement revenue of CNY100 million in 2019, which Chongqing Vocational Institute of Engineering assured to use as counterpart funding for the subproject. Source: Asian Development Bank estimates based on data provided by the implementing agencies.