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Private Public Partnerships in

Infrastructure

Private Public Partnerships in Infrastructure

• A major new user of project financing techniques
• Infrastructure traditionally financed and managed by
governments
• Demand for infrastructure has been growing faster than
government funding available, particularly in emerging
economies.
• Recent trend has been to involve the private sector in
the supply and provision of these services
• For example: Roads, Bridges and Tunnels, Light Rail
Networks, Airports and Airport control Systems, Water
and Sanitation, Electricity Generation, Hospitals,
Schools, Prisons
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Private Participation in Infrastructure
(PPIs)

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Private Participation in Infrastructure
(PPIs)
• In many instances, the governments
receive tax payments from the project, and
in certain cases, a share of the profits.
• The structure of the partnership can vary
along a spectrum from a leading private
sector role to a marginal one.

• Private sector involvement requires
commercial rates of return
• Projects have to lend themselves to
generating these returns.
• The public partner typically gains in the
sense that a desired project is
implemented without any financial strain
on the budget
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© Cambridge Resources International

• For a PPP to be successful, there has to be
a clear benefit for both the public and the
private partners
• In the spectrum of public sector verses
private sector service delivery, PPPs lie
somewhere between simply the government
contracting –out of a set of service delivery
to the private sector and a complete private
market to plan, design, build and operate a
facility that provides the service

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The public sector retains responsibility for operations. 6 © Cambridge Resources International • Build-Own-Operate (BOO): The government grants the right to finance. the government assumes responsibility for operating and maintaining the facility. At the end of that period.) • Design-Build-Operate (DBO): Under this model. This method of procurement is also referred to as Build-Transfer (BT). This procurement model is also referred to as Build-TransferOperate (BTO). operate and maintain a project to a private entity. the government contracts with a private partner to design and build a facility in accordance with the requirements set by the government.OperateTransfer (BOT). Once the facility is completed. After completing the facility. while the private sector operates the facility for a specified period. The private entity is not required to transfer the facility back to the government. Degree of Private Sector Risk Privatisation Buy-Build-Operate Build-Own-Operate Build-Own-Operate-Transfer Build-Lease-Operate-Transfer Lease-Develop-Operate • Design-Build-Maintain (DBM): This model is similar to Design-Build except that the private sector also maintains the facility. build and operate a facility for a specific period of time. 7 . the title for the new facility is transferred to the public sector. the operation of the facility is transferred back to the public sector.) Public-Private Partnership Models (Cont. Design-Build-Operate Operation / Maintenance Service /License Design-Build Government Degree of Private Sector Involvement 4 5 Public-Private Partnership Models (Cont. design. Ownership of the facility is transferred back to the public sector at the end of that period. • Design-Build-Operate-Maintain (DBOM): This model combines the responsibilities of design-build procurements with the operations and maintenance of a facility for a specified period by a private sector partner. build. design. This method of procurement is also referred to as Build. the private sector designs and builds a facility. which retains ownership of the project.Different PPP Models Public-Private Partnership Models • Design-Build (DB): Under this model. • Build-Own-Operate-Transfer (BOOT): The government grants a franchise to a private partner to finance.

operates and/or maintains a new facility under a long-term lease. while the private operator retains ownership over any improvements made 8 during the concession period. 11 . either in part or in full. builds. Some of these models are described below. bridge) Operating and maintaining the assets in order to deliver the product/service Significant risks is transferred from the government to private sector 2. ii. 9 Public Private Partnerships (PPPs)  Main characteristics of PPPs are: 1. the facility is transferred to the public sector.Public-Private Partnership Models (Cont. Bundling of responsibilities or the allocation of two or more tasks to a unique partner(s) 3. private financing. PPPs can also be used for existing services and facilities in addition to new ones. the private sector designs. DBFO/M covers both BOO and BOOT. Public-Private Partnership Models (Cont.) • Service Contract: The government contracts with a private entity to provide services the government previously performed. finances. v. iii. The public sector retains ownership of the original asset. Generally the government will include certain conditions with the sale of the asset to ensure that improvements are made and citizens continue to be served.) • Lease: The government grants a private entity a leasehold interest in an asset. Private sector is given responsibilities for one or more of the following tasks: i. In some countries. 10 © Cambridge Resources International Public-Private Partnership Models (Cont. iv. DBFM or DBFO/M): Under this model. • Management Contract: A management contract differs from a service contract in that the private entity is responsible for all aspects of operations and maintenance of the facility under contract.) • Design-Build-Finance-Operate/Maintain (DBFO. The private partner operates and maintains the asset in accordance with the terms of the lease. Defining and designing the project Financing the capital costs of the project Building the capital physical assets (road. to the private sector. Allocation of the financing task. • Divestiture: The government transfers an asset. At the end of the lease term. • Concession: The government grants a private entity exclusive right to provide operate and maintain an asset over a long period of time in accordance with performance requirements set forth by the government.

being contractor and operator give incentive to minimize such risk)  Political risk is better managed by public sector 6. Poor Labor Relations  Private sector through the forces of competition may offer a skilled. The public sector labor management may be inflexible due to tradition. credit rating cost of borrowing increases  Allocating the financial tasks to the private sector PPPs should be embraced only when they allow government to provide services of an acceptable quality at lower cost to taxpayers (consumers) 14 © Cambridge Resources International 13 • PPPs involve a range of risks: – Construction risks: relate to deign problems. Innovation  Some parts of the project may need new approaches and innovative thinking  The extend of PPPs will depend on the complementarities between the tasks 5. construction-delay risk. Risk  Major risk can be managed better by private sector (ex. Constrains on public sector borrowing  Being in depth and further borrowing risk on deteriorating of government.Public Private Partnerships (PPPs) Why PPPs have become an alternative to traditional methods for the provision of public services? 1. provide the measurement of verification of quality and provide for enforcement of the contracts’ requirement. 8.  Less likely that tax payers will get value for money their if such ex-ante competition does not exist 2. Observability and measurability of quality  Concerns about the quality of services  The partnership agreement should specify the required quality.  Competition at the bidding stage. Ex ante Competition (Private sector firms compete to do project)  Marshaling the pro-efficiency forces of competition lowers costs. building cost overrun and project delays – Financial risks: variability in interest rates. and political protection of certain groups of workers Public Private Partnerships (PPPs) 4. Economies of scale  Private sector is taking advantage of economies of scale from the operation of similar project in other jurisdictions. exchange rate and other factors affecting financing costs – Availability risks: relate to continuity and quality of service provided and in turn depend on “availability” of an asset – Demand risks: relate to ongoing need for the service – Residual value risk: relate to future market price of assets 15 . Scarce Skills  Private sector has skills not available in the public sector  Allocate certain tasks to a private partner who has the skills and also the incentive to reform at a high level 3. civil service laws. ex ante. efficient and flexible labor force. the PPP option becomes more attractive 12 Risk Analysis Public Private Partnerships (PPPs) 7.

managerial improvement and spur innovation • In the case where private sector sells to public sector.g. hold down prices. limit monopoly profits 19 . government must compare cost of public investment and provision of service with using PPPs to provide the service – PPPs sometimes are an efficient way for government to relieve its risks – Government has to pay for the risks that it transfers to the private sector – Project-specific risk (e. labor problems. project risk is not affected by the particular source of financing (finance theory) – Incomplete markets in risk bearing affect project risk as sources of financing defines the risk of project – Various sources of financing will determine how this risk will be allocated – Private sector transfers risk to financial markets – Governments transfer it to taxpayers in general • Pricing of Risk Risk Analysis – To use PPPs. unfavorable weather. etc) can be diversified across a number of government or private sector projects and need not be priced by the government 16 Risk Analysis – Market risk reflects the economic developments that affect all projects and cannot be diversified and should be priced properly – private sector demands a discount rate that includes a risk premium on the risk free discount rate that typically government uses 18 © Cambridge Resources International 17 Competition and Regulation in PPPs • Private sector efficiency is main reason for PPPs • Competition is the important source of efficiency in both the private and public sector • Competition in award of construction and service contracts necessary to foster competition. there is little scope for competition after the contract is awarded and government usually regulate prices • Price regulation and incentive based regulations are used to increase output. interruption of supply of building materials.Risk Analysis • It is necessary to achieve significant risk transfer in order to derive the full benefits from the capital inflows from the private sector and the management change • Financing costs of risk transfer and pricing of risk are important in efficient allocation of risks • Risk Transfer and Financing Costs – With complete market in risk bearing.

Risk Transfer Prerequisites for PPPs Success • • • • • Need for Risk Transfer to the Private Sector – Determines whether PPPs is a better option than to have public investment and government provision of service – Influences the appropriateness of accounting and reporting treatment of PPPs Political commitment Good governance Government expertise Effective Project Appraisal and Selection • Risk Transfer and Ownership 20 Risk Transfer • In the case where ownership related risks are not specified by PPP contracts. risk transfer can be assessed by reference to the overall risk characteristics of the PPPs • In the Non-separable contracts (ownership and service elements cannot be distinguished) the balance between demand risks and residual value risk borne by government is used in the UK • Demand risk is borne by government if service payments to a private operator are independent of future need for the service • Residual value risk is borne by the government if the asset is transferred to the government at more or less than its residual value • Other factors such as government guarantees. and in that case the PPPs will be indistinguishable from traditional methods of financing – Different risks are associated with owning and operating an asset and risk transfer can be assessed by reference 21 to these rights and obligations . it is in effect the owner of the asset. extent of government influence over asset design and operation can be used to assess the degree of risk that has been transferred away from the government 22 © Cambridge Resources International – PPPs are legally owned by private and are legally mandated to bear the risks of the project – If government bears ownership related risks.