Tim Watson and Phyllis Lye work for PriceWaterhouseCoopers

in Phnom Penh. They specialize in Cambodian taxation, with a particular emphasis

on infrastructure investment.

T HE recent political settlements in Cambodia have opened the door to renewed foreign

investment.

A lot of this new investment is targeting infrastructure development, particularly

power generation, water treatment and transportation. In many cases Cambodia appears

as if it will seek to retain residual control over infrastructure assets via Build-Operate-Transfer

(BOT) or similar arrangements.

For potential investors in this area Cambodia's investment environment does offer

attractions. This is particularly in regard to the openness of the investment environment,

the relatively low taxation levels, and the availability of foreign currency.

However, there are still some real issues for investors to consider and many of these

relate to tax and accounting.

The financial viability of a project could very well turn on how well these issues

are managed. Some of these issues, and possible strategies for dealing with them,

are discussed below.

Project-end Cash

For a fixed term investment, such as an infrastructure company licensed on a BOT

basis, at the end of the project (with physical assets fully depreciated or transferred

at zero value, and with profits having been fully repatriated) the infrastructure

company will have a cash balance, equivalent to its equity.

This arises because distributable profits are calculated after allowing for depreciation

on the company's initial assets, and depreciation is not a cash outflow.

The ability to get this residual cash into the hands of investors, lenders etc before

having to wait for, say, liquidation can make a significant difference to project

returns.

So what can be done? Clearly investors would be looking at means by which equity

can be reduced and/or minimised. Possibilities include reductions of capital during

the life of a project, perhaps via the use of redeemable shares with priority distribution

rights.

Maximizing the use of debt in the first place is another approach. So too is some

type of upstream lending of idle cash in advance of dividend or capital returns,

although lender conditions would need to be considered.

Cambodia's company laws are in their infancy

However, draft corporate regulations appear to accommodate the use of redeemable

equity arrangements, at least to the extent registered capital is preserved. This

option therefore presents possibilities.

In regard to debt maximization it needs to be noted that Council for the Development

of Cambodia (CDC) licenced entities are restricted by a 3:1 maximum debt/equity ratio

as outlined in the Investment Law. However, the Investment Law does appear to allow

for greater debt levels for "priority projects". Investors should therefore

be looking to explore this special concession.

A more practical restraint is the debt servicing capability (ie cash-flow) of the

project itself. Further, the recently introduced 15% interest withholding tax will

make profit repatriation via interest unattractive where the profits tax rate is

the concessional 9%, which will almost always be the case for infrastructure projects.

In this regard, investors may need to weigh the benefit of an earlier return of funds

against a greater absolute tax cost.

Speed of Repatriation

Many large infrastructure projects are particularly sensitive to the speed by which

cash generated from operations can be remitted to investors and lenders.

In many jurisdictions the desirable strategy is to align more closely distributable

profits with cash-flow, often by delaying depreciation or adopting the lowest possible

depreciation rates.

Cambodia's tax laws, however, impose mandatory depreciation rates meaning profit

for tax purposes cannot be easily altered. Cambodia's Chart of Accounts (CCA), which

in theory should be adopted by all Cambodian incorporated companies, arguably imposes

similar restrictions from an accounting point of view.

Even if the CCA does not impose a restriction dividend payments may still need to

be reduced for profits tax in order to ensure there is funding for profits tax payments

when those liabilities arise.

This will be a particular concern if the tax and accounting depreciation differences

reverse outside a tax holiday period. Consequently, dividend levels could well be

effectively controlled by the tax depreciation rates.

Loaning funds upstream prior to profits tax payment represents one possible solution.

Again however, lender terms or conditions will need to be taken into account.

Another possibility is to seek early dividend payments possibly via interim dividends.

In this regard, Cambodia benefits from having no significant tax or foreign currency

clearance requirements when making dividend payments. However, given Cambodia's limited

company regulations, over the life of a large infrastructure project it is quite

feasible greater restrictions will arise. Investors should therefore be looking to

lock-in desired dividend payment entitlements at the time of project implementation.

Other Matters

The following issues may also be relevant:

Tax holidays: Cambodia's Investment Law allows for tax holidays of up to 8 years.

However, Cambodia also imposes a minimum tax, equal to 1% of turnover, irrespective

of any tax holidays.

The minimum tax can be offset against the ordinary profits tax, which for a CDC licensed

company will generally be at 9% of profit.

The existence of the minimum tax means that the holiday is of no value to the extent

the project generates a return of around 10% or less. This is because the profits

tax otherwise payable would be no more than the minimum tax liability. Investors

could make this point with the authorities when negotiating investment conditions.

Impact of Cambodian Accounting System: As mentioned, Cambodian companies are, currently

at least, required to adopt the CCA. (There is recent evidence of this being enforced).

Investors should look carefully at how the use of this system will impact profit

calculations (and so dividend payments).

VAT on import: VAT is payable at the rate of 10% on the import of goods. This value

notionally includes import duty if the import duty is exempted. The VAT should be

refunded monthly while in a pre-operating stage.

While this all sounds reasonable the value of plant and other equipment involved

in infrastructure projects can be large and meeting VAT payments, even for a short

period of time, can pose a significant financing issue.

Investors should be looking at negotiating exemptions on VAT, perhaps similar to

those recently granted to exporters, or having VAT payments secured by, say, letters

of credit. At the moment however, such concessions are not possible under the VAT

rules.

VAT on in-country supplies: With the possible exception of hospital services, the

likely activities of an infrastructure company would not be exempt from VAT. With

the possible exception of airports, the likely activities would also not be zero

rated. This leads to the conclusion that an infrastructure company would generally

be charging VAT at the rate of 10%.

However, consumer services such as power and water will typically be supplied by

an infrastructure company to a public utility, for onward sale to consumers. As these

supplies can be particularly price sensitive, investors should monitor whether political

factors could ultimately force a change in the VAT treatment.

In particular, investors should note that a VAT exemption at either the infrastructure

company or public utility level would have a significant cost impact. This is because

accumulated VAT would need to be absorbed by the exempted entity. As an indication

of possible developments in this area, it should be noted that the recent VAT Prakas

No. 1031 indicated that specific rules will apply to the supply of electricity and

water. To date, no such rules have been issued.