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Deloitte - PPPs in Water Sector - Getting Best Public Policy Outcomes - 2009
Deloitte - PPPs in Water Sector - Getting Best Public Policy Outcomes - 2009
March 2009 Deloitte Corporate Finance Infrastructure & Project Finance Roger Black
Introduction
In early 2007 Deloitte released its global research study of the experience with public-private partnerships (PPPs) across different sectors of social and economic infrastructure, including water, wastewater and waste Titled, Closing the infrastructure gap: the role of publicprivate partnerships, it provided a global overview of PPPs including: how, why and when PPPs should be considered as a delivery model; which countries have greatest experience with infrastructure and services delivery via PPPs; which sectors of infrastructure have seen greatest deployment of PPPs; and the circumstances under which different types of PPP delivery models have been used, and with what success. The follow up, Closing the infrastructure gap: Part II to be released Q1 2009 specifically focuses on aiding the public sector deal with the strategic and operational issues involved with private sector involvement in the delivery of infrastructure projects. Specific questions addressed in the research include: what are my choices in terms of the role of the private sector? how do I decide what role the private sector should play? what are the risks and considerations in selecting the role of the private sector? what is being done in other jurisdictions? what is the cost of involving the private sector? what might a deal structure look like for incorporating the private sector? The goal of the research is to provide a framework that helps public officials select the appropriate role or involvement for the private sector in infrastructure projects based on: risk qualification/assessment the costs associated with different delivery models the desirability of retaining control over the infrastructure. This paper draws from the findings of both Deloitte research papers, including leading examples from around the world, and applies the research to the provision of infrastructure and services in the water, wastewater and waste sectors.
PPPs in water 3
Table 1: Water PPP projects by region and type (1991-2007) Region East Asia & Pacific Europe & Central Asia Latin America & the Caribbean Middle East & North Africa South Asia Sub-Saharan Africa Total No. of Projects 282 61 193 15 9 24 584
Source: World Bank Group, Private participation in infrastructure database
Divestiture 8 5 12 0 0 0 25
Table 2: Water PPPs by subsector (1991-2007) Subsector Treatment plant Segment Potable water and sewerage treatment plant Potable water treatment plant Sewerage treatment plant Utility Sewerage collection Sewerage collection and treatment Water utility with sewerage Water utility without sewerage Project Count 12 120 163 1 9 215 64 584
Source: World Bank Group, Private participation in infrastructure database
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Models of PPP
Common forms of PPP where new infrastructure is required In general terms a PPP refers to a contractual agreement formed between a government agency and a private sector entity that allows for greater private sector participation in the delivery of public infrastructure projects. Compared with traditional procurement models, the private sector assumes a greater role in the planning, financing, design, construction, operation, and maintenance of public facilities. Some of the most common PPP models used for new projects include: Design-Build (DB)/Build-Transfer (BT): Under this model the public sector contracts with a private partner to design, and build, a facility in accordance with the requirements it sets. Upon completion the public sector assumes responsibility for operating and maintaining the facility Design-Build-Maintain (DBM): This model is similar to Design-Build except that the private proponent also maintains the facility. The public sector retains responsibility for operations Design-Build-Operate (DBO)/Build-TransferOperate (BTO): Under this model, the private sector designs and builds a facility. Upon completion, the title for the new facility is transferred to the public sector, while the private sector operates the facility for a specified period Design-Build-Operate-Maintain (DBOM)/BuildOperate-Transfer (BOT): 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. At the end of that period, the operation of the facility is transferred back to the public sector Build-Own-Operate-Transfer (BOOT): The public sector grants a franchise to a private partner to finance, design, build and operate a facility for a specific period of time. Ownership of the facility is transferred back to the public sector at the end of that period Build-Own-Operate (BOO): The public sector grants the right to finance, design, build, operate and maintain a project to a private entity, which retains ownership of the project. The private entity is not required to transfer the facility back to the public sector Design-Build-Finance-Operate/Maintain (DBFO, DBFM or DBFO/M): Under this model, the private sector designs, builds, finances, operates and/or maintains a new facility under a long-term lease. At the end of the lease term, the facility is transferred to the public sector. (NB In some countries, DBFO/M covers both BOO and BOOT).
Figure 1: the PPP continuum: degree of public sector responsibility New projects
Design-build Design-buildmaintain Design-buildoperate Design-buildoperatemaintain Design-own operatetransfer Design-ownoperate
Public responsibility
Private responsibility
Service contracts
Management contracts
Lease
Concession
Divestiture
Common forms of PPP involving existing infrastructure In addition to delivering new infrastructure, PPPs can also be used for existing services and facilities. Models include: service contract: The public sector contracts with a private entity to provide services the public sector previously performed 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 lease: The public sector grants a private entity a leasehold interest in an asset. The private partner operates and maintains the asset in accordance with the terms of the lease concession: The public sector grants a private entity exclusive rights to operate and maintain an asset over a long period of time in accordance with set performance requirements. The public sector retains ownership of the original asset, while the private operator retains ownership over any improvements made during the concession period divestiture/privatisation: The public sector transfers an asset, either in part or in full, to the private sector. Generally it will include certain conditions with the sale of the asset to ensure that improvements are made and the community continues to be served. Figure 1 (opposite) identifies the differences in the levels of public and private sector responsibility involved in each of the models.
Recent developments in PPP models A number of variations of the PPP model have been developed in recent years in response to the challenges faced in specific situations and sectors. Alliancing. Under this model, the public and private sector agree to jointly design, develop, and finance the project. In some cases they also work together to build, maintain, and operate the facility. Bundling: Contracting with one partner to provide several small-scale PPP projects in order to reduce the length of the procurement process as well as transaction costs. Competitive Partnership: Several private partners are selected, in competition with each other, to deliver different aspects of a project. The contract allows the public sector to reallocate projects among partners at a later date, depending upon performance. The public partner can also use the cost and quality of other partners outputs as a benchmark for all partners. Incremental Partnership: The public sector contracts with a private partner, in which certain elements of the work can be called off, or stopped, if deemed unproductive. The public sector can commission work incrementally, and reserves the right to use alternative partners if suitable. Integrator: The public sector appoints a private sector partner, the integrator, to manage the project development. The integrator arranges the necessary delivery functions and is rewarded according to overall project outcomes wherever possible, with penalties for lateness, cost overruns, poor quality, and so on. The integrator has a less direct role in service provision and in some cases is barred from being involved in direct delivery at all. In other cases, the integrator is appointed to carry out the first phase of work, or specified works but is then barred from carrying out subsequent phases of work to remove the potential for conflict of interest between achieving best value for the public sector and maximising private returns through the supply chain. Joint Venture: A joint venture company is set up, a majority of which is owned by a private sector partner. The public sector selects a strategic partner through a competitive process that includes a bid to carry out the first phase of work. The typical contract is for 20 years. Subsequent phases are commissioned by the public sector partner, but carried out by the strategic partner using the first phase of work as a benchmark to determine the appropriateness of future costs. The United Kingdom has used a variant of this model, called local improvement finance trust (LIFT), for its hospital PPPs. PPPs in water 7
Lessons to date
Private Sector vs Public Sector The defence of PPPs generally is not the focus of this paper. While failures have been headline news and typically involved the failure of the private operator and the loss of investor capital rather than the failure to deliver the contracted infrastructure for public use numerous reports support the effectiveness and utility of PPPs. Whatever the drivers for involving the private sector in greater partnership in the provision of much needed infrastructure and services then and these can range from the nakedly political to the utterly financial the ideal PPP should combine the characteristic and arguably distinctively different skills of the public and private sectors to maximise the delivery of public good. In short, the regulatory and economic development expertise which is typically the preserve and expertise of the public sector, and the management, innovation, finance raising, budgeting and on-time and on budget delivery skills which, at best, are hallmarks of the private sector.
Lessons for the water sector from the global PPP experience Our research of the PPP experience globally - across all sectors of social and economic infrastructure - holds useful insights for the development and application of PPPs in Australia for water, wastewater and waste. PPPs have proven to be an effective infrastructure delivery tool under specific conditions! The key to success is the role of the public sector. Most commonly project failure has equated to the financial failure of the private operator. A significant part of designing an enduring market, and therefore private sector willingness to fund and undertake risk, entails improving public sector capacity to execute and manage sustainable partnerships. Poor PPP outcomes can be seen to have emanated from: poor setup. The success or failure of PPPs can often be traced back to the initial design of PPP policies, legislation, and guidance. A common mistake is placing so many restrictions and conditions and expectations of risk transfer on the private sector sponsor and agencies involved that a financially feasible deal becomes impossible to structure. Another is having unrealistic expectations of PPPs thinking that they provide free money or that theyre the solution to all problems lack of clarity about project objectives. Sponsors sometimes lack consensus about the purpose of, and expected outcomes for, the project. Public officials may then try to compensate for this failure by overspecifying inputs too much focus on the transaction. Public sector may mistakenly view PPPs merely as financing instruments when in fact they represent a very different way of working. This can lead to a poor operational focus and service outcomes inappropriate risk model applied to project. Much of what differentiates the various PPP models is the level and nature of risk shifted to the private sector. A common mistake is the attempt to transfer demand risk ie the amount of use the infrastructure will receive - to the private sector, even when the private contractor has no control over demand factors
lack of internal capacity. Even when the public sector is supported by external advisers, many tasks cannot be outsourced, and often the agency does not have the skill sets internally to manage complex PPPs or the dedicated team required to address the time intensive upfront structuring needs failure to realise value for money. This failure occurs when the borrowing and tendering costs associated with PPPs are not sufficiently offset by efficiency gains or when government officials dont have a real understanding of how to test value for money inadequate planning. Without taking proper account of the market in the planning phase, the public sector may come out with more projects than bidders creating a non-competitive environment. On the flipside, too few projects can result in industry moving on to a more active jurisdiction.
Setting up successful PPPs A step-by-step guide to designing and implementing PPPs is beyond the scope of this paper (although further detail can be found in Closing the infrastructure gap Parts 1 & 2). However the lessons learned from water and other infrastructure projects delivered so far suggest several strategies for successful execution of these partnerships. First, the public sector needs a full life-cycle approach or framework that pays adequate attention to all phases of a PPP - from policy and planning, to the transaction phase, and then to managing the facility. The goal of such an approach is to avoid the problems of poor setup, lack of clarity about outcomes, inadequate internal capacity, lack of interest from the private sector, and an overly narrow focus on the transaction. Second, a strong understanding of the range of possible PPP models can help the public sector achieve the proper allocation of risk even in conditions of pronounced uncertainty about future needs. Proper risk allocation allows the public sector to better tailor PPP approaches to specific situations and infrastructure sectors.
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10
Figure 2: Project lifecycle and activities Policy and planning phase Transaction phase Construction and concession phase
1. Condition of infrastructure nancial situation 2. Legislation/regulation 3. Leadership: policy and project management 4. Planning: environmental assessments and project opportunities 5. Communications: internal and external with major stakeholder groups Establish objectives. The objectives a government establishes for the PPP project form the foundation for evaluating options and allows it to communicate a consistent message regarding the purpose of the program. Time spent fully exploring objectives and core values regarding the governments roles and responsibilities will avoid missteps later in the process. Evaluate alternative nancing structures. This evaluation should start with an understanding and analysis of the existing debt alternatives within the state. By preparing a range of nancial alternatives, the agency can articulate to its stakeholders what might be accomplished with traditional nancing and what innovative nancing structures are available and perhaps necessary for project feasibility. Communicate the benets. A strategic communications plan that explains the benets of the program can prevent the discourse from being dened by detractors and focus discussion on economic benets (such as congestion relief and improved movement of goods) as well as social benets such as faster and more reliable commute times). Build market interest. There should be an appropriate number of projects coming into the market at the right pace to ensure that constructors and facility management rms have the capacity and nancial ability to keep pace with the potential projects.
1. Transaction process 2. Shortlist qualied bidders 3. Risk transfer and value for money 4. Payment mechanism/performance 5. Request for proposal 6. Finalise project agreement 7. Preferred bidder selection and negotiations 8. Financial close
1. Transition to construction (e.g. design/build) 2. Construction and monitoring 3. Facility operation (contract and relationship management) 4. Evaluate whether promised benets materialised 5. Maintenance: hard and soft service provision 6. Asset hand back Monitor construction. Many entities believe that once they have entered into turnkey contracts with concessionaires their responsibility for construction monitoring and oversight has been transferred. The public will continue to hold the public sector accountable for the successful delivery of the project, however, so it is critical to establish sound monitoring programs throughout the construction phase without creating additional project risks. Monitor the concession. Under traditional procurement approaches, monitoring substantially ends at the completion of construction. In the case of a PPP procurement, the contract monitoring needs to be far more sophisticated because it is required to address a wide range of issues relating to nance, operations and maintenance over an extended period of time. Prepare staff. Most jurisdictions are used to undertaking these projects on their own. While PPPs may reduce the need for additional staff to do inhouse design and engineering work, current staff are required to provide project management and long-term oversight. Establish the concession governance model. Its important that effective project governance models are established and that skilled individuals are in place during both the construction and concession phase.
Key activities
Establish a realistic time frame. Project objectives, the budget, market interest, the amount of risk shifting, project size, and the structure of the deal all affect the timeline for the project delivery. Secure the best value for money. A fundamental objective in any project is to secure the best value for money. Creating comprehensive nancial models that allow you to evaluate value for money from both a qualitative and quantitative perspective is a critical component of this process. Establish performance standards. This often entails using penalties and rewards to achieve the desired behavior. Care must be taken with both rewards and penalties since they can drive unintended consequences. Setting performance standards will also help to develop the best payment approach for each project. Develop a draft project agreement. These agreements are included with the request for proposal (RFP) and help to identify issues bidders may have before the selection of the successful bidder. Establish construction governance. Large infrastructure construction projects should have effective governance and controls in place before the project begins in order to avoid cost overruns, scheduling delays and litigation.
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Certainty continuum
Low
The public sector is unsure about the infrastructure it needs (or even what is possible), let alone when or how it wishes to have it delivered.
Medium
The public sector knows the kind of infrastructure it needs, but is less certain about the timing and exact extent of work in wishes to undertake.
High
The public sector knows with condence either the condition of the assets and/or the future asset and service requirements at a detailed level.
12
No High
Yes
No
Yes
Integrator
Low
Yes
Competitive partnership
No
Joint venture
No
Incremental partnership
Yes
Alliancing
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14
Conclusion
PPPs are an effective way of delivering infrastructure projects, and draw upon the strengths of both the public and private sectors. There are a number of different PPP models that can be utilised for the different types of infrastructure required in the water, wastewater and waste sector. Whether it be; dams, pipelines, water grids, waste treatment plants, water recycling plants, desalination plants, or waste treatment/sewerage plants, sufficient planning and investigation should be undertaken to ensure the correct model is implemented. There is a strong precedent for water infrastructure projects being delivered via PPPs. Key learnings from previous projects must be taken on board and thinking creatively about the delivery model can aid in the successful procurement of this very much needed sector of infrastructure.
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Contact us Deloitte Riverside Centre Level 26, 123 Eagle Street Brisbane Qld 4001 Australia Tel: +61 (0) 7 3308 7000 Fax: +61 (0) 7 3308 7001 www.deloitte.com.au
Acknowledgment This document was derived from the author guidelines used for all AWA conferences and events. References Allen Consulting Group, November 2007, Performance of PPPs and traditional procurement in Australia. Booz & Company, 2008, Public-Private Partnerships: A New Catalyst for Economic Growth. Deloitte Touche Tohmatsu, 2006, Closing the Infrastructure Gap: The Role of PublicPrivate Partnerships. Global Water Intelligence, volume 9; issue 12, December 2008. Philippe Marin and Ada Karina Izaguirre, September 2006, Gridlines private participation in water. The World Bank & PPIAF, Private Participation in Infrastructure Database, http://ppi.worldbank.org/explore/ppi_exploreSector.aspx?sectorID=4
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