Presented to ACET SeminarAccra, Ghana

January 25, 2012

Okyu KwonKAIST Graduate School of Finance

Public-Private Partner-ships

in Infrastructure of Ko-rea

I Overview on PPPsOverview on PPPs

II Government SupportGovernment Support

Table of Contents

III Success Factors of Korea’s PPPSuccess Factors of Korea’s PPP

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IV Concluding RemarksConcluding Remarks

I. Overview on PPPs

2

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1. Major Functions of PPP

In 1994, the Act on Promotion of Private Capital into Infra-structure Investment enacted.

Expected Functions of Public-Private Partnership (PPP)• Effective alternative to financially constrained government• To utilize private sector’s know-how and creativity • Long-term investment opportunity for private investors Partnership between government and private sector Government role was to plan, evaluate, approve execution,

and support implementation. Private partner’s role was to design, finance, build, and oper-

ate facilities.

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2. Evolvement of PPP Act

- PPP Act introduced with components of market contract.- Started from Total Project Cost Management System.- Basic Plan for PPP drawn.

Revision of PPP Act in 1998

• Execution agreement between Ministries and concessionaires• Supporting measures: minimum revenue guarantee, request for

government buyout, credit guarantee, supporting agency• Further reforms undertaken since 2003: Introduced infrastructure fund and compensation scheme for

dropouts. For effective competition, price factor taking more than 50%

weight

- BTOBTO

Build - Transfer - Operate

① Construction by the private sector ② Ownership transferred to government ③ Operation by the private sector IRR is determined through negotiation(9~15%)

-

Build - Transfer - Lease

① Construction by the private sector ② Ownership transferred to government ③ Lease and payment by the government

IRR = Reference rate (government bond) + α(80~100bp)

BTLBTL

3. Implementation Method

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Others : BOT, BOO, etc.

delivers Service

Pays usage fee

Transfers Ownership

Grantsoperating rights Transfers

Owner-ship

Lease pay-ments

delivers Ser-vice

Tax or FeesGovernment

Private Participant(SPC)

User User Government

Private Participant(SPC)

BTOBTO BTLBTL

There are 46 types of infrastructure facilities in 15 sectors

specified by the PPP Act

Road(3)

Port(3)

Rail(3)

Welfare(4)

Forestry(2)

Energy(3)

WaterResources

(3)

Communication(5)

Environment(5) Logistics

(2)

15 Categories Education(1)

Military Housing(1)

Culture & Tourism(9)

PublicHousing

(1)

* Positive listing

Airport(1)

Available Facility Types

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BTOBTO BTLBTL

< Average Operation Period >                Road : 30 years (20~40 years) Railway : 30 years Seaport : 50 years (30~50 years) BTL : 20 years

Decided at concession agreement between the authorities in charge (gov’t) and the concessionaire (private participant)

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Operation Period Operation Period

Within 50 years under the PPP guideline

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4. Achievements of PPP in Korea

Private Investment Fast Growing

• Private played a key role, complementing public investment. • The proportion of private investment over public investment From 3.9% in 1998 to 15.4% in 2009 At the end of 2009, 461 projects PPP contracts approved. 106 BTO and 145 BTL projects were completed to provide services

to the public.

<Table 1> Share of PPP in Government Infrastructure Investment

(KRW trillion, %)

1998 2003 2005 2007 2009 Sum

Private investment by PPP 0.5 1.0 3.0 6.0 9.6 70.9

BTO 0.5 1.0 2.9 3.0 3.1 51.1

BTL - - 0.1 3.0 6.5 19.8

Share in government

investment

3.9 5.6 16.1 17.0 19.7 -

II. Government Support

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Government Support

TaxBenefits

ConstructionSubsidy

Land Acquisition Support

Risk-Sharing Structure

TerminationPayment

InfrastructureCredit

GuaranteeFundFinancial

Support

Risk SharingMeasures,etc.

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1.Costruction Subsidy

Construction Subsidy

Land Compensation : 100% Government Subsides

Roads : Up to 30% of Total Investment Railways : Up to 50% of Total Investment   Ports : Up to 30% of Total Investment * Foreign exchange loss compensation scheme was abol-ished.

Land Compensation : 100% Government Subsides

Roads : Up to 30% of Total Investment Railways : Up to 50% of Total Investment   Ports : Up to 30% of Total Investment * Foreign exchange loss compensation scheme was abol-ished.

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2. Risk-Sharing Structure

Construction Subsidy

Risk-Sharing Structure

*Available for solicited projects only* - Under the new risk-sharing structure, government guarantees redemption of the minimum costs* of the project (costs for PSC at maximum)

* Minimum Costs= (Private investment cost + interest on government bonds)

*Available for solicited projects only* - Under the new risk-sharing structure, government guarantees redemption of the minimum costs* of the project (costs for PSC at maximum)

* Minimum Costs= (Private investment cost + interest on government bonds)

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Risk-Sharing Structure (Introduced in PPP Revitalization Plan to ease credit crunch - Aug. 2009)

Risk-sharingBy the

Government

- Government pays the amount of shortfall when the actual operation revenue is less than the level of risk-sharing revenue* * Risk sharing revenue: The amount of operation revenue that guarantees the IRR comparable to the government bond’s rate of return.

- When the actual operation revenue exceeds the risk-sharing revenue, Government subsidies are redeemed on the basis of realized payments.

Revenue Revenue

Redemption

n

Revenue

Rev-enue

n+1 n+2 n+3

SubsidiesNo Subsi-dies

Risk-Sharing revenue

Prospective revenue

50% of Risk-Sharing revenue

- Subsidy is only provided when the actual operation revenue is greater than 50% of the risk-sharing revenue.

- Uncertain guarantee of IRR (Internal Rate of Return)

Risk sharingof Private

Participants

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3. Tax Benefits

Construction Subsidy

Various Tax Benefits

• Exempt from Acquisition and Registration Tax• Application of 0% VAT • Separate Tax on Interest Income from Infra Bond (14%)• Separate Tax on Dividend Income from Infra-Fund (14%)• Dividends from SPC are tax-exempt (if more than 90% of the

profit was distributed)

• Exempt from Acquisition and Registration Tax• Application of 0% VAT • Separate Tax on Interest Income from Infra Bond (14%)• Separate Tax on Dividend Income from Infra-Fund (14%)• Dividends from SPC are tax-exempt (if more than 90% of the

profit was distributed)

Risk-Sharing Structure

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4. Termination Payment

Termination Payment

Construction Subsidy

Various Tax Benefits

Increased Coverage for Payment Upon Termination i.e. If the project has to terminate for unavoidable reasons, the amount of compensation is increased (50~55% of investment cost → 80~85%)   (PPP Revitalization Plan to ease credit crunch )

Risk-Sharing Structure

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5. Credit Guarantee Scheme

Termination Payment

Construction Subsidy

Various Tax Benefits

Infrastructure CreditGuarantee Fund

`

Credit guarantee for concessionaires to obtain bank loan - Guarantee limit per project is increased from KRW 200 billion to KRW 300 billion - Guarantee for subordinate debts is increased from 4.5 to 20% of the to-tal guaranteed amount (PPP Revitalization Plan to ease credit crunch ) 

Credit guarantee for concessionaires to obtain bank loan - Guarantee limit per project is increased from KRW 200 billion to KRW 300 billion - Guarantee for subordinate debts is increased from 4.5 to 20% of the to-tal guaranteed amount (PPP Revitalization Plan to ease credit crunch ) 

Risk-Sharing Structure

• Acquisition of Equity* minimum equity ratio of project company has decreased: - BTO : 25% → 20% (20% → 15% if financial investor’s participation exceeds 50%) - BTL : 5~15% → 5%

• Granting loans • Underwriting infrastructure bond

A. Direct investment

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6. Two Ways to Invest

By establishing or participating in infra-fund

* Macquarie Korea Infrastructure fund invested in 15

Projects worth 1.8 billion USD (30%FDI), which ismanaged by Mac-quarie Capital Fund Limited (Europe)

B. Indirect investment

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Equity acquisition of loan for PPP projects

Minimum required capital : 10 billion KRW (8.5

million USD)

* To decrease from 10 billion → 1 billion KRW (850,000 USD)

by the end of this year (PPP Revitalization Plan to ease credit crunch )

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Infrastructure FundsInfrastructure Funds

Advantages : No limit in investment portfolio Debt allowed up to 30% of eq-uity Current status : 10 funds, as of 2010, (1 public equity fund, 9 private)

Advantages : No limit in investment portfolio Debt allowed up to 30% of eq-uity Current status : 10 funds, as of 2010, (1 public equity fund, 9 private)

III. Success Factors of Korea’s PPP

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1. Sound Legal Framework: PPP Act

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• Prime regulator: Ministry of Strategy and Finance (MOSF) Draw the Basic Plan for PPP Prepare directions of government policy• Workable, clear and detailed legal framework Procedures, rights, obligations, risk sharing mechanism Reduce potential business risks for private sector

The PPP Act[MOSF]

Enforcement Decree onPPP Act [MOSF]

Basic Plans for PPP [MOSF]

Request for Proposals

[Competent Authority]

Act Enforcement Decree

General GuidelinesBasic plans of

Individual Project

2. Creation of Supporting Agency: PIMAC

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• Established PICKO to provide professional supports for PPP projects.

• Expanded to PIMAC, which

- consists of experts from economics, finance, accounting, law, engineering, urban planning, etc.,

- performs feasibility studies, VFM tests, request for pro-posal (RFP), evaluation, etc., and

- provides education programs for government officials, and cooperation with international organizations and foreign countries.

PIMAC contributed to designing efficient PPP implementation conditions and enhancing transparency on bidding process.

3. Reasonable Level of Incen-tives

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• A reasonable level of incentives to attract investors is necessary. Private sector risk: high up-front cost, delayed ROI, economic un-

certainties, limited financial resources Over-incentives hazardous and undesirable will cause fiscal bur-

den.

* Korea’s the six government support schemes seem to be well designed. - support for land acquisition, credit guarantee, termination

payment, risk-sharing structure, tax benefit, and construction subsidy

* However, overly protective incentives are not desirable due to potential moral hazard and future fiscal burden. - minimum revenue guarantee, a general government's buyout

scheme, foreign exchange rate risk sharing

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4. Foreign Investors’ Participation

• Equally treated with domestic investors• Entitled to additional benefits For more than US$10 million to build PPP facilities in a Foreign In-

vestment Area, tax breaks were granted For foreign exchange losses, government could offer subsidies or

long-term loans Positions of foreign investors, holding significant portion of a

project, are better respected: language and provisions in conflicts resolution in the agreement

Instrument Projects

Equity Busan New Pore Phase 1(25%), Incheon Bridge(23%), Yongin LRT(26%), Busan New Port Phase 2,3(18.5), Daejeon Riverside Expressway(67%), Songdo-Mansu Sewage Treatment Facility(80%), Busan Aquarium(100%)

Debt Busan New Port Phase 1(43%), Daejeon Riverside Expressway(83%), Daegu-Busan Expressway(10%), Seoul Beltway(11%), Busan Aquarium(100%)

5. Existence of Developed Construction In-dustry

And Soft Infrastructure

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• Construction companies have participated in overseas construction works vigorously

- with skilled workers, work discipline, and low wages.

- In 1982, construction orders received exceeded US$13 billion.

• Learned advanced technologies, construction manage-ment skills, and financial know-how’s.

• Contributed to successful adoption of PPP in 1990s as well as efficient domestic infrastructure development.

• Soft infrastructure, such as legal, accounting, taxation, fi-nance, etc., also helped fair contract and negotiation.

IV. Concluding Remarks

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• Preemptive, sufficient and steady investment necessary

• A top-down approach is essential considering weak capacity of private sector.

• Foreign capital with local partnership should be encouraged.

• A transparency in bidding procedure as well as strict construction supervision is essential.

1. Infrastructure development plays a leading role.

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• PPP provides solutions to inefficiency of gov-ernment monopoly supplier and capital short-ages.

• Outright privatization may not be a good option.• Need not to wait until the country reaches mid-

dle income level.• Foreign suppliers with domestic partners will

provide opportunities to learn.

2. PPP needs to be widely adopted.

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3. A strong coordination function is nec-essary.

• Government: interested in infrastructure growth and effective public policy

• Private sector: interested in maximizing the ROI.• Regulators: interested in ensuring transparency

and interests balancing.• Consumers: seek to realize their value for

money.

Need to establish a good framework to coordi-nate stakeholders’ interests.

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4. A good framework for coordination in-cludes;

• Policy making role given to the most competent Government Ministry.

• Regulatory framework should be clearly stipu-lated by laws.

• A transparent and efficient process of PPP should be put in place.

• A reasonable level of incentives to attract in-vestors is necessary.

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5. Foreign capital inducement should be encouraged.

• Including loans from international financial or-ganizations

• Complements domestic capital shortages.• Provides momentum to adopt international stan-

dard in infrastructure development. Essential for domestic companies to have op-

portunities to learn.

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6. To avoid political pressure, a transpar-ent and professional decision-making process is necessary.

• PPP Act clearly stipulates a strict compliance to the law.

• Use professional organizations like PIMAC.• Civic group’s surveillance activities could be a

great help.

T h a n k Y o u !T h a n k Y o u !