Edward Farquharson

James Ballingall

March 2011

PPP Project Concepts

2

International Context

Countries with active / developing PPP programmes include: Australia, Austria, Brazil, Belgium, Bulgaria, Canada, Chile, Colombia, Cyprus, Czech Republic, Egypt, France, Germany, Greece, Hungary, India, Indonesia, Ireland, Italy, Japan, Korea,Malaysia, Malta, Mexico, Netherlands, Nigeria, Pakistan, Peru, Philippines, Poland, Portugal, Romania, Russia, Saudi Arabia, Singapore, Slovak Republic, Slovenia, South Africa, Spain, Taiwan, Turkey, US and UK … and more ….

3

PPPs Are Not Standardised Internationally

Each Country’s approach to PPP is:

• Designed to meet the policy objectives of its Government

• Developed to complement other public procurement and public service delivery methods

• Implemented according to the available public and private sector resources

Tailored and Unique

4

What Are The Common Features Of Different PPP Progr ammes?

a) Applied across a broad range of sectors

b) Mostly applies where major capital investment is required

c) Based upon long-term (e.g. greater than 10 years) arrangements

d) Private sector capital at risk to performance in the delivery of public services

e) Fixed price, output-based contracts

Hospital Regional del Bajio, Mexico

5

Common Sectors

Transport Education

Prisons Health

6

Common Sectors (cont’d)

Also

• Housing• Courts

• Technology

Also Also

•• HousingHousing•• CourtsCourts

•• TechnologyTechnology

Defence

Government Offices

Leisure

Waste Treatment

7

Distinction between Privatisation and PPP?

Where does accountability forpublic services delivery lie?

Where does accountability forpublic services delivery lie?

8

Types of PPP

* Partnerships UK is an example

Investment Programme Management

Joint Venture*

Who pays?

‘BOT’ Projects Public utility

Concession User

PFI model Public sector

9

Types of PPPs…2

Demand Risk Transfer

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e.g. real toll roads, airports, ports?

e.g. rail, water?

e.g. street lighting, prisons!

e.g. schools, hospitals, solid waste?

Variants of charging, different tunes on demand risk

10

Privatisation, PPP, Outsourcing

Regulation Asset transfer Accountability for service provision

Private capital at risk

Privatisation Regulator to regulate pricing, service

Permanent transfer of assets

Transferred to private party

Yes

PPP Terms usually in the contract

Management of assets usually returns to government

Accountability retained by public authority

Yes

Outsourcing Terms in the contract

No - short term management of assets

Accountability retained by public authority

Limited

11

Wide Range of Procurement Models

12

Why Embark on a PPP Programme?

• Reform / modernisation of public services.

• Improved value-for-money procurement of public services.

• Contestability in delivery of public services.

• Antidote to short-termism in both public and private sectors.

• Improved transparency of costs of public services delivery.

Brentside School, London

13

Comparing PPP with Conventional Procurement

Under conventional public sector procurement, expenditure is input-based: ie., the Government pays whether or not the

required service is delivered.

Whereas :

Under PPP, the public sector or user only pays if and to the extent the required services are delivered, year-after-year.

14

Public Sector Cash Expenditure Profiles

(A) Conventional (input-based) procurement

Payment is made, regardless of service performance

0

€

Cash

YearsConstruction Operation

(B) PFI (output-based) procurement

Payment is at risk to service performance

€

Cash

YearsConstruction Operation

15

Key Principles of PPP Contracts for Services (PFI)

1. Authority transfers responsibility and risk for asset / service to Contractor.

2. Contractor takes on obligations for c.20-30 years.

3. Contractor designs, builds, manages, maintains asset and provides services.

4. Lenders fund Contractor on limited recourse basis.

5. Authority pays “Unitary Charge” for available / acceptable service.

6. The PPP Contract (and associated documents) must regulate a network of relationships.

16

Overview: Typical PFI Structure

InsuranceBanks or Bondholders

Construction

Contract

Facility Services

Agreement

SPV

Special Purpose

Vehicle Company

Public Sector Entity

Central, Regional or Local

Government

Authority/NHS Trust

Financial

Investor

FM Provider

90%

Contractor

25 year Service

Agreement

Defined Risk

Transfer

Output

Specification

Only Residual Risk

Transfer

10%

Financial

Providers

Shareholders

17

Concept of payment for performance

• Two original types of PPP:– usage-based, e.g. toll road

– output- and availability-based, e.g. power station.

• Private sector could take usage risk for schools, prisons, hospitals but usage often depends on general public policies;

• So could the private sector just build a school, hand over to public sector, and then walk away, with public sector making deferred payment?– transfers construction risk but otherwise is just a simple loan;

– longer term design and operating risks not transferred;

18

The Payment Mechanism

• Payment begins on completion – construction is funded by private sector.

• Fixed constant monthly payments – ‘Unitary Payment’.• Calculated by bidders to cover:

– Operating costs– Debt service– Equity return

• May be partially indexed for inflation

• Payment deductions for:• Unavailability• Poor service quality

19

Meaning of Unavailability• Anything which makes the relevant area impossible to use under normal

specified conditions, e.g.:– lack of shelter from wind / rain / sun;

– non-compliance with legal requirements (e.g. health and safety);

– lack of lighting, heating, cooling, water;

– key equipment inoperable, e.g. PC network (if part of PPP Contract).

• System should be based on deductions from one payment rather than aggregations of payments, to allow for weighting over 100% for prolonged unavailability.

• What if space is technically unavailable but school wants to use it?– usually lower rate of deduction.

20

Unavailability calculations• Availability = eg schoolcan be used for teaching.

• But problem may only affect partof the school → pro rata deduction.

• Pro rata unavailability cannot be based just on floor area, as different parts of the school will be of varying importance → system of ‘Service Units’:

Area Number Weighting Service Units

Storage rooms 5 1 5

Staff room 1 2 2

Standard classrooms 20 4 80

Laboratories, art rooms, etc. 3 6 18

Sports facilities 2 6 12

Assembly hall 1 10 10

Kitchen, dining hall 2 10 20

Total 147

• So if one classroom is out of action for one day, deduction is:1/365th of the annual payment ÷ 147 × 4

21

Service Quality

• Poor cleaning does not make a school unavailable, but there have to be penalties to ensure that service standards are maintained.

• Penalties would be passed from Project Company to ‘soft’ services sub-contractor.

• But sub-contractors earn limited fees and cannot fund large penalties – cleaner could not pay for whole school being unavailable due to bad cleaning.

• Matrix of ‘Key Performance Indicators’, specifying standards in detail (but danger that outputs → inputs!).

• KPIs weighted in a similar way to availability → ‘Performance Points’.

• More Performance Points the longer it takes to fix a problem.

• Accumulation of Performance Points → payment deductions, but capped against sub-contractor’s fees.

• High accumulation of Performance Points → replacement of service sub-contractor → termination of PPP Contract (if still not remedied)

22

Output Specifications: specify what is to be achieved, not how

SMART

Specific Refurbish or replace all dwellings on the estate to comply with the government’s “Decent Homes” standard.

Measurable Ensure all dwellings are structurally sound, with adequate ventilation, lighting and thermal comfort.

Achievable Ensure heating can maintain internal temperature at X degrees when outside temperature is between Y degrees and Z degrees.

Realistic Ensure faults with heating system are rectified within 8 hours in business hours and 16 hours outside business hours.

Timely Maintain log of faults and report every month.

Not SMART

Refurbish dwellings to a good standard.

Ensure dwellings are fit for habitation.

Ensure internal temperature is always maintained at X degrees.

Ensure faults with heating are repaired within 2 hours.

Provide annual report on performance.

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So the Core Characteristics are:

• Capital at risk

• Fixed Price

• Output-based

– Incentives to complete and deliver on time and at cost

– Certainty of whole-life costs

– Certainty of whole-life investment

– Payment relates as closely as possible to delivery of the desired ‘outcomes’ rather than of ‘inputs’

24

The Most Common Questions?

• Isn’t public sector finance cheaper and so better value for money?

• Aren’t you privatising the nation’s schools and hospitals?

• How will you keep the “public sector ethos”?

• Won’t profit get in the way of performance?

• Doesn’t it take too long?

• Aren’t bid costs too high?

• The old ways are best! West Middlesex Hospital

25

Comparison with Conventional Procurement - Evidence

Sources : National Audit Office – UK Parliament – Expenditure Auditor

Delivery on time and on budget

Performance of completed projects – No. of Projects

PPPConventionalProcurement

80%

30%

On time

On time

On budget

On budget45% +

85% +20052008

2626UNCLASSIFIED

Operational Performance

• users are satisfied with the services provided by PFI projects;

• PFI is delivering the services required with over 90% of public service

managers believing that services provided are satisfactory or better;

• the incentivisation within PFI contracts is working with the payment

mechanism improving the service being provided in the PFI projects

• evidence that PFI projects can lead to better educational outcomes

2727

UK Experience - PFI

667PFI Contracts

Signed

667PFI Contracts

Signed

£56.6 BillionCapital Value£56.6 BillionCapital Value

590 Projects nowoperational

590 Projects nowoperational

Source: HM Treasruy

28

Signed PFI Deals and Capital Value by Financial Yea r

Sources : PUK Projects Database

29

Distribution of PPP Projects by Value - cumulative

Sources : PUK Projects Database

Transport, 26,228

Health, 13,645

Education, 9,949

Environment, 3,816

Equipment, 4,782

Accommodation, 7,178

Housing, 1,578

Other, 5,882

Capital value - £m

Total: £73.05 Bn

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Distribution of PPP Projects by Number - cumulative

Sources : PUK Projects Database

Transport, 67

Health, 296Education, 226

Environment, 58

Equipment, 37

Accommodation, 117

Housing, 26

Other, 104

Total: 931

31

PP PP PP

Public Sector Partnership Private Sector

Service Requirement Service Delivery

32

Lessons Learnt

• Political Commitment

• Legislative framework

• Policy framework

• Institutional reform

• Capacity building:– Public sector– Private sector

• Central support

• Communication strategy

• Programme development

• Quality ControlSevern Crossing