Understanding Public Private Partnerships · Tacoma Narrows Bridge (DB) US 183 Austin Indiana Toll...

12/17/2010

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Understanding Public Private

Partnerships

Colorado PPP Symposium

November 18, 2010

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What is a Public-Private Partnership (PPP)?

“A form of project delivery resulting in a contractual agreement between public and private sector partners that allows for more private sector

participation than is traditional.”

Pu

blic

Pri

vate

2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011

Tacoma Narrows Bridge

(DB)US 183 Austin

(DB)

Indiana Toll Road(Concession)

Pocahontas Parkway

(Concession)

Northwest Parkway

(Concession)

I-635 Managed

Lanes

(DBFOM)

SH-130, Segments 5-6

(DBFOM)

North Tarrant Express

(DBFOM)

Port of Miami Tunnel

(DBFOM)I-595 Managed

Lanes

(DBFOM)

Capital Beltway HOT Lanes

(DBFOM)Chicago Skyway

(Concession)

SR 125(DBFOM)

Recent US PPP Projects

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Driving the need

Governments faced with several problems:

• Aging infrastructure

• Growing population in urban centers

• High level of services

• Construction costs increases

• Budgetary constraints:

o Slower revenue growth

o Resistance to tax increases

• Cost overruns and delays in traditional

procurements

What is Driving the Need for PPPs?

Meeting the Need

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Risk allocationLong term contracting

Performance based contracts

Innovation

Economies of scale

Whole life costing

CompetitionGreater

leveraging of public funds

Task integration and efficiencies

in delivery

Affordability and value for money

Common Characteristics of PPPs

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Design

Private

Sector

Government

ConstructFacilities

Maintenance

Finance

Project

Management

Design

Government

Construct Facilities

Maintenance

Finance

Users

Project

Management

Traditional Procurement Structure PPP Structure

Service

Service

Users

Direct Fee Revenues

Availability Payment

Direct Fee Revenues

Real Fee Structure

Availability Payment Structure

How are PPPs Structured?

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Simple Operating Contract

Accessing Private Sector Financing

Running the Service as a Stand Alone “Business”

PPP Business Models

The PPP model chosen will have a major impact and should reflect careful consideration of the project objectives and the level of risk transfer

appropriate for that particular project.

The risk sharing balance should determine the

type of P3 used

PRIVATE

SECTOR

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Risk Allocation Defines the PPP Business Model

Design Design Design Design ConstructionConstructionConstructionConstruction Operate Maintain Operate Maintain Operate Maintain Operate Maintain Financing Financing Financing Financing TrafficTrafficTrafficTraffic RevenueRevenueRevenueRevenue

Design Bid Build (Traditional)Design Bid Build (Traditional)Design Bid Build (Traditional)Design Bid Build (Traditional) ��

Design Build Design Build Design Build Design Build ��

Design Build Operate MaintainDesign Build Operate MaintainDesign Build Operate MaintainDesign Build Operate Maintain ��

Design Build Finance Operate Design Build Finance Operate Design Build Finance Operate Design Build Finance Operate

MaintainMaintainMaintainMaintain

(Availability Payment)(Availability Payment)(Availability Payment)(Availability Payment)

��



(Shadow User Fee)(Shadow User Fee)(Shadow User Fee)(Shadow User Fee)

��



(Real User Fee)(Real User Fee)(Real User Fee)(Real User Fee)

��

� − Risk retained by Public Sector

� − Risk transferred to Private Sector

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Design/Build

Designer and contractor hired under single contract

• Selection usually based on best value

Private partner takes majority of design and construction risk

• Introduces private sector innovation

• Greater cost and schedule certainty

Public sector has single point of contact

• Design and construction disputes typically remain between designer and contractor

Public sponsor retains obligation to fund

Public sector retains full operational and maintenance obligation

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Design/Build/Operate/Maintain

Similar attributes to Design/Build

Private partner has long term operational and maintenance responsibility

• Acts like an extended warranty

Transfers life-cycle costs to Private Partner

• Balances upfront capital costs v. long term maintenance costs

Public Sponsor responsible for revenue and financing

Maximum term of 15 years

• May be longer if Private Activity Bonds are used

Suited for facilities with specialized operational and/or maintenance requirements

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Design/Build/Finance/Operate/Maintain

Similar to DBOM

Private Partner is responsible for financing

Public Sponsor responsible for revenue stream

Applicable to both revenue and non-revenue facilities

Also referred to as Availability Payment

• Private Partner required to have facility “available”

• Annual payment is a function of facilities “availability”

Suitability

• Where transfer of revenue risk may not be best value for money

• Transit projects

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Concession

Greatest degree of risk transfer to the private sector

• Design, Construction, Revenue, Finance, Operations, Maintenance, Capital Renewal

• Potentially includes capacity expansions

Public Sponsor retains least control

• Rate Setting

• Operational/Performance Standards

Payments to Public Sponsor

• Upfront payment

• Revenue Sharing

• Unplanned refinancing

• Excess revenue

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Payment Mechanisms

Payment Mechanism

Description Advantage(s) Disadvantage(s)

Real Tolls (Hard toll, HOT, Congestion pricing)

Developer collects tolls directly from the users of the facility

Developer takes risk related to usage, demand and collection of revenue

Established direct link between usage and compensation

Public acceptance of real tolls

Developer requires higher return because it retains usage and demand risk

Shadow Tolls Public authority pays the developer a user fee based on the usage of the facility

Developer takes risk related to usage

Revenue payments are usually capped

Public authority takes risk related to revenue

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Payment Mechanisms

Payment Mechanism

Description Advantage(s) Disadvantage(s)

Availability Payment

Public authority pays the developer a periodic unitary payment based on availability and performance of the facility

Availability payment is fixed subject to indexation

Deductions to payments for unavailability and poor performance

Developer requires lower return due to guaranteed payment stream (subject to deductions)

Creates budgetary certainty for public authority (payment does not increase based on usage)

Encourages developer to keep facility open and performing to standards

If usage does not meet forecast, then the public bears the risk of a redundant asset/loss of toll revenue

Does not incentivize developer to improve service – only operates to avoid payment deductions

Public authority must make commitment to long term payments (similar to debt service and O&M outlay)

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What is Risk?

• Time

• Schedule

• Project or Program Development

• Financing

• Design/Engineering/Construction

• Operations and Maintenance

• Revenue

• Changes in Law

• Termination

Risk is an uncertain event or condition that, if it occurs, has a positive or negative effect on at least one project variable

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Risk Allocation Considerations

Individual project characteristics will drive risk allocation strategy

Risk should be allocated to party best suited to manage the risk

Risks are more often allocated to private sector due to

• strong project control

• ability to spread risk over time

• equity cushion

If neither better situated to manage risk, share it

Value for money is maximized by the optimal allocation of risk

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at bidding

Time in years

0 1 4 7 n

Risk falls at

financial close

Risk falls as

construction/

rehab risk

diminishes

Risk falls relatively quickly

in first few years of

operation as operational

and volume risk

diminishes

Risk gradually declines as

operational and volume risks

are fully understood and

managed before hand back

0%

2%

4%

6%

8%

10%

12%

14%

Conception Financialclose

At servicecommencement

Handback

Risk free

Operational risk premium

Regulatory/Unforeseeable risk

Construction / Refurbishment / Financing risk premium

Volume risk premium

Bid risk premium

Evolution of Project Risk Profile

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Value for Money:Assessing the value of private participation

Risks Retained by

Public Sector

Operations &

Maintenance

Costs

Financing Costs

Capital Costs

Risks Retained by Public Sector

Operations & Maintenance Costs

Financing Costs

Pro

ject

Co

sts

Capital Costs

Value for

Money

Public Delivery Private Delivery

Not to scale – illustrative only

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17

Concession Company

PPP Contract

Public Body

PPP Contract Structure

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PPP Contract

Operating and

Maintenance

Contract

Construction

Contract

Public Body

Concession Company


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Public Body

PPP Contract

Concession Company

Investors/Developers equity finance

Operating and

Maintenance

Contract

Construction

Contract


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Public Body

PPP Contract

Concession Company

Construction

Contract

equity finance Debt finance

PABS

TIFIA

Commercial

Debt

Investors/

Developers

Operating and

Maintenance

Contract


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Public Body

PPP Contract

Concession Company

Construction

Contract

equity finance Debt finance

PABS

Commercial

Debt

Investors/

Developers

Operating and

Maintenance

Contract

TIFIA


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Protecting the Public Interest

When and how could the “public interest” be at risk?When and how could the “public interest” be at risk?

Setting and controlling fares/tolls?

Policing excessive returns?

Responding to poor service delivery?

Insolvency of private partners?

Termination of the concession?

Expiry: What happens to the assets?

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Setting and controlling fares/tolls

• Demand risk with public or private sector?

• Availability payment structures

• With demand risk, balance various factors:• degree of freedom to set tariffs

• policy considerations

• "value" of the concession to the private sector

• Contractual formula or independent regulation

• Certainty and scope for political manipulation

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Policing excessive returns?

• “Super-profits"• deal priced in competitive environment

• should upside be capped?

• Refinancing gain• reduced risk profile after construction

• reduced risk profile of maturing market

• public sector share in any gain?

• Equity disposals


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Responding to poor service delivery

• Calibration and operation of payment tools

• Performance monitoring regime

• Escalation of remedies:• warning

• direct specific action

• termination

• Step-in and self-help remedies

• Responding to emergency situations


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Insolvency of private partners

• Concession company:• visibility and time to plan

• commercial debt incentivised to assist

• ultimate control of assets

• take in-house or hand to replacement contractor

• "work-out" most likely in practice

• Sub-contractor:• private partner incentivised to manage

• control over unsuitable replacement

• Provider of finance


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Termination of the concession

• Ultimate right if service is not acceptable• long term inadequate service

• one-off "material" failure

• Ability to control ownership of assets

• Public sector windfall?

• Compensation to private financiers• bankability and cost of capital

• basis of calculation


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Expiry: What happens to the assets?

• Public sector direction• decided at the outset

• option close to expiry

• Main options• revert to public ownership

• private sector retain decommissioning risk/residual value risk

• Asset condition at expiry• requirement for specified condition?

• retentions/reserves in final years of concession


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How the Public Sector Can Facilitate Success

Create institutional certainty

Educate the public about PPP’s

Prioritize and screen projects

Appoint senior government “champions”

Create a clear decision making hierarchy

Be an effective counterparty with sufficient resources and experienced external advisors

Adopt standardized procurement practices

Clear accountability and transparency of the procurement process

Be prepared to provide credit support to projects

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What PPPs Are Not: Dispelling The Myths

• PPPs = PrivatizationMyth #1

• PPPs generate large upfront payments to the governmentMyth #2

• PPPs cost more to the publicMyth #3

• Private sector participation comes at the expense of serviceMyth #4

• Facilities suffer under PPP projects Myth #5

• PPPs are less transparentMyth #6

• PPPs lead to public sector job lossesMyth #7

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Contact Information

Andrew Garbutt

Principal

KPMG LLPOne Congress Plaza, 111 Congress Ave

Austin, TX 78701

Phone: 512-501-5329Email: [email protected]

Lisa Fenner

Senior Director

KPMG LLPOne Congress Plaza, 111 Congress Ave

Austin, TX 78701


Michael Matteou

Partner

Hogan Lovells International LLPAtlantic House, Holborn Viaduct

London EC1A 2FG

Phone: +44 20 7296 5215Email: [email protected]

Andrew Briggs

Partner

Hogan Lovells International LLPAtlantic House, Holborn Viaduct

London EC1A 2FG

Phone: +44 20 7296 2484Email: [email protected]

Helen Atkeson

Partner

Hogan Lovells US LLP1200 17th Street, Suite 1500

Denver, Colorado 80202


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