Around
the world there is a growing use of public-private partnerships (“PPPs” or “P3s”)
by all levels of government to meet the need for a wide range of public
infrastructures such as roads, bridges, hospitals and schools.
Once found in only a few countries and
sectors, PPPs are emerging as an important model for infrastructure projects.
The
United Kingdom was one of the first to pioneer this trend, beginning with its
Private Finance Initiative (“PFI”) in the 1980’s. Since then, countries as
varied as Australia, France, Netherlands, Japan, Brazil and India – as well as
Canada – are increasingly relying on PPPs as the model of choice to deliver
public infrastructure.
What is different about a public-private partnership?
A PPP
has been defined as “a partnership agreement in the form of a long-term performance-based
contract between the public sector (any level of government) and the private sector
(usually a team of private sector companies working together) to deliver public
infrastructure for citizens.” (See Understanding
Public Private Partnerships at www.partnershipsbc.ca.) It is interesting that a separate revenue stream
like a toll road is not essential – the partnership can involve any type of
infrastructure, ranging from highways and bridges to hospitals, schools and
more.
In
traditional government procurement, the government essentially borrows directly
the necessary capital for the project in the form of a government bond, pays a contractor
to build the facility, and repays the debt and interest over the life of the
bond. The bond is secured by the general
credit of the government, and so the government carries all the financial risk
of the project.
In a PPP
project, the government has private sector partners with their own equity at
risk in the project. The debt financing relies on the contracted payments from
the project itself – analogous to mortgage payments – not the “full force and
credit” of the government. As a result,
the equity and debt partners in a PPP project are highly motivated to conduct
thorough due diligence on the project risks, and they work directly with the design,
build and maintenance companies in the team.
One
of the characteristics of a PPP project is the resulting highly sophisticated
parsing of risks in the contractual arrangements between the design,
construction, financing, operations and maintenance members of the bid team. In effect, the government participant obtains
highly motivated assistance in the due diligence for the project, and can
therefore place its focus on specification of the outcome.
What are the benefits of PPPs?
Although not advocated for any
and all infrastructure projects, proponents of PPPs maintain that, where they
are suitable, they offer several benefits as compared to the traditional methods
of public procurement.
- PPPs
allow the costs of the investment to be viewed over the lifetime of the
asset. Since the project evaluation is based on the net present value of
all the costs that will be incurred over a period of, say, thirty-five
years, the designers can take a long-term view – considering, for example,
whether a better-quality road surface today will save maintenance costs in
20 years time. This is not always practicable
in traditional procurement, where up-front capital costs can be the
primary focus and constraint.
- PPPs
are intended to measure risk and place it with the party best able to
manage it. When an equity partner has its entire investment at risk, or
when a bank can look only to the particular project itself for repayment
of their loan, both are highly motivated to control the project costs.
- The
private sector typically assumes the risk associated with the design,
build, financing and maintenance of the project. The whole lifecycle approach and the use
of performance-based incentives give the competing teams of bidders the
flexibility and encouragement to adopt innovative approaches that yield
cost savings.
- Finally,
PPPs generally have an enviable track record for on-time, on-budget
delivery. The private sector has a strong incentive to complete the
project as quickly as possible in order to start the stream of “mortgage
payments” that will be paid by the government over the life of the asset.
Critics
of the PPP concept argue that PPPs must be more expensive than direct
procurement, because bank financing will always cost more than the rate on
government bonds. PPP proponents respond
that the interest rate “spread” between government bonds and commercial
financing is a measure of risk, and the absence of a measurement of risk in traditional procurement is not the same as
the absence of risk. In a PPP project, not only has the project
risk been measured and subjected to extensive due diligence, the government also
has partners with their own funds participating in that risk.
In a PPP
project, the government’s role shifts from directing and managing the project
to specifying and overseeing the service levels required of the project. PPPs allow governments to focus on the
outcome of the project and thereby ensure that public interests are served.
Wolrige Mahon LLP is involved in the PPP field through
the performance of logic and integrity audits on the underlying spreadsheet-based
financial models.
