Global Infrastructure Hub Norton Rose Fulbright Risk Allocation in Public Private Partnerships. IPFA Risk Allocation Webinar, 21 June 2017

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1 Global Infrastructure Hub Norton Rose Fulbright Risk Allocation in Public Private Partnerships IPFA Risk Allocation Webinar, 21 June 2017 Mark Moseley, Chief Operating Officer, GI Hub and Nick Merritt, Global Head, Infrastructure, NRF

2 Global Infrastructure Hub A G20 initiative The GI Hub is an independent organisation, established by the G20 to increase the flow and quality of infrastructure investment opportunities in all countries Initial Funding partners Australia Saudi Arabia People s Republic of China Singapore United Kingdom Republic of Korea New Zealand Mexico The GI Hub is staffed by international infrastructure specialists from both the public and private sectors Global Infrastructure Hub Norton Rose Fulbright June

3 Global Infrastructure Hub The mandate from the G20 Leaders Communique, Brisbane, November 2014 Five focus areas Promoting Leading Practices that can be replicated at scale for transformational impact Building a global Project Pipeline to help match investors and projects Identifying and addressing Data Gaps that matter to governments and investors Building Capacity within public sector and other stakeholders Creating a global Knowledge Network of infrastructure leaders and practitioners in Governments, International Organisations & the Private Sector Global Infrastructure Hub Norton Rose Fulbright June

4 Effective Risk Allocation in PPPs Risks should be allocated to the party best able to manage them and will incentivise that party to mitigate against such risks Inefficient risk transfer will mean unnecessary risk premiums are charged by the private partner reducing value for money Appropriate risk allocation means: Higher value for money for the public partner Increased market participation and competition Poor risk allocation may result in market failures such as private partner insolvencies and costly renegotiations Global Infrastructure Hub Norton Rose Fulbright June

5 GIH Development of PPP Risk Allocation Tool one of the major issues that governments face when preparing PPP projects is deciding on an appropriate allocation of risk as between the public and private parties all PPP contracts reflect the allocation of risks which has been negotiated by the public and private partners this risk allocation is at the heart of every PPP transaction many private sector project developers have made the observation that governments in developing countries frequently do not have an adequate understanding of the risk allocation principles applicable to PPPs, and that guidance materials would be useful in response, the GIH developed, with the assistance of the international law firm Norton Rose Fulbright, a set of sample PPP risk allocation matrices, i.e. based on the tool that lawyers use when preparing to draft PPP contracts Global Infrastructure Hub Norton Rose Fulbright June

6 Overview of the Risk Allocation Tool Illustrates typical risk allocation on infrastructure projects between the public and private partners For 12 sample projects across the transport, energy and water and sanitation sectors Heavily annotated, to explain the different risk allocation arrangements found in developed and emerging markets and some common mitigation techniques Designed to help governments deal with risk allocation in a sample of different projects Global Infrastructure Hub Norton Rose Fulbright June

7 Projects locations North America Canada United States Europe United Kingdom Germany Latin America Colombia Africa Kenya Nigeria Uganda South Africa Asia Pacific Thailand Singapore Indonesia Australia Global Infrastructure Hub Norton Rose Fulbright June

8 GI Hub PPP Risk Allocation Tool found at ppp-risk.gihub.org Global Infrastructure Hub Norton Rose Fulbright June

9 List of projects Transport A new toll road project, developed as a Design, Build, Finance and Operate (DBFO) transaction A new airport project, again developed as a DBFO transaction A new municipal light rail project, again developed as a DBFO transaction An intercity railway project involving an existing railway, developed as a Rehabilitate-Operate-Transfer (ROT) transaction A container terminal port project, developed as a DBFO transaction Global Infrastructure Hub Norton Rose Fulbright June

10 List of projects Energy A new photovoltaic power generation project, developed as a Build-Own- Operate (BOO) transaction, where the power is being sold to a state-owned single buyer A new large-scale (greater than 100 MW) hydroelectric power project, developed as a Build-Own-Operate-Transfer (BOOT) transaction, again where the power is being sold to a state-owned single buyer A new power transmission project, developed as a BOOT transaction A natural gas distribution project involving an existing distribution for an existing utility, developed as a ROT transaction, in a situation where the wholesale supplier of natural gas is a state-owned entity and where natural gas tariffs are set by a regulator Global Infrastructure Hub Norton Rose Fulbright June

11 List of projects Water & Waste A new water desalination project, developed as a BOOT transaction, where the desalinated water is being sold to a state-owned single buyer A water distribution project involving an existing distribution for an existing utility, developed as a ROT transaction, in a situation where the wholesale supplier of water is a state-owned entity and where water tariffs are set under the terms of the Concession Agreement A solid waste collection, disposal, landfill and recycling project, developed as a BOT transaction Global Infrastructure Hub Norton Rose Fulbright June

12 The PPP risks that are covered 1 Land purchase and site risk The risk of acquiring title to the land to be used for a project, the selection of that site and the geophysical conditions of that site 2 Design risk The risk of designing the asset to achieve the functionality required to support the desired objectives and outcomes in compliance with the output specification 3 Environmental & social risk 4 Completion (including delay and cost overrun) risk 5 Exchange and interest rate risk The risk of the existing latent environmental conditions affecting the project and the subsequent risk of damage to the environment or local communities The risk of commissioning the asset on time and on budget and the consequences of missing either of those two criteria The risk of currency fluctuations and or the interest rate over the life of a project 6 Force majeure risk The risk of third party incidents affecting a party s ability to perform its obligations in respect of the project 7 Insurance risk The risk purchasing adequate insurance to cover key risks including the extent and availability of coverage, the cost of such cover 8 Performance/price risk The risk that the asset is able to achieve the output specification metrics and the price or cost of doing so 9 Maintenance risk The risk of maintaining the asset to the appropriate standards and specifications for the life of the project 10 Inflation risk The risk of inflation eroding the real cost and rate of return of the project Global Infrastructure Hub Norton Rose Fulbright June

13 The PPP risks that are covered 11 Political risk The risk of government intervention, discrimination, seizure or expropriation of the project 12 Regulatory/change in law risk 13 Resource or input/demand risk 14 Early termination (including any compensation) risk The risk of law changing and affecting the ability of the project to perform and the price at which compliance with law can be maintained The availability by both volume and quality along with transportation of resource or inputs to a project or the demand for the product of service of a project by consumers/ users The risk of a project being terminated before the expiry of time and the monetary consequences of such termination 15 Strategic risk The risk of change in shareholding of the private partner or internal conflicts of interest within the shareholders 16 Construction risk The risk of labour dispute, interface/project management, commissioning, intellectual property infringement, defects, quality assurance, subcontractor disputes and cost overruns where no relief event applies 17 Disruptive technology risk The risk that a new emerging technology unexpectedly displaces an established technology used in that sector Global Infrastructure Hub Norton Rose Fulbright June

14 What is not covered The Report has its limitations. The risks identified in the Report focus on the risks that can be legislated, allocated and mitigated between the public and private sectors and are risks addressed primarily through the concession or project agreement. The parties are exposed to other risks that they should not ignore or discount such as: Government procurement risk Private sector financial and performance risk Third party intervention/ delay Global Infrastructure Hub Norton Rose Fulbright June

15 Screenshots Global Infrastructure Hub Norton Rose Fulbright June

16 Screenshots Global Infrastructure Hub Norton Rose Fulbright June

17 Screenshots Global Infrastructure Hub Norton Rose Fulbright June

18 Comparison of specific risks across sectors Illustrative example 1 Land purchase and site risk Land rights and ground conditions in developed markets are typically more established and risks can be mitigated with appropriate due diligence with relevant land registries and utility records. Similarly, the Private Partner s obligations with regards to indigenous rights are generally better legislated in developed markets. Light rail project Developed markets Emerging markets (e.g. Nigeria) Risk is principally with the Contracting Authority although it may be shared where the suitability of the corridor is dependent on the Private Partner s design solution; and also where the site can t be fully surveyed prior to award (e.g. existing utilities in high density urban areas). Contracting Authority will need to provide a clean site and hold the risk of unforeseeable ground conditions. Shared risk Public Risk Global Infrastructure Hub Norton Rose Fulbright June

19 Solar PV project Developed markets (e.g. Thailand) Emerging markets (e.g. South Africa) In a Developed market, the Private Partner bears full responsibility for the suitability of the site, including geological, geotechnical, and archaeological conditions. The Private Partner is required to obtain the peaceful use and possession of the site and all requisite access rights. Unless the Project requires a transmission line to be constructed, Contracting Authority has no obligations in relation to assisting with securing the site (including permits/consents etc) The position is similar in an emerging market. Private risk Private risk Water desalination project Developed markets In a Developed market, the risk is principally with the Contracting Authority to ensure the required land interests in the site designated for the Project are available. Land interests are usually in form of lease with Contracting Authority responsible for pre-existing contamination, substructures etc. However, private partner will need to be required to undertake baseline surveys and satisfy itself as to any existing assets proposed to be used in the Project. Contracting Authority may use legislative powers to acquire site. Shared risk Emerging markets The position is similar in an emerging market. Shared Risk Global Infrastructure Hub Norton Rose Fulbright June

20 Comparison of specific risks across sectors Illustrative example 2 Resource/input risk This is the risk that the supply of inputs or resources required for the operation of the project are interrupted or the cost increases. Developed markets generally do not experience market volatility to the same extent as emerging markets, and resource availability is less of a concern. Where there is reliance on locally sourced materials, Contracting Authority may share some of the risk (e.g. political actions). Where the Private Partner bears the risk, it will seek to pass it through to its contractors. Toll road project Developed markets Emerging markets Private Partner bears principal risk to ensure an uninterrupted supply of inputs/resources and managing the costs of those inputs. In toll roads, this is especially relevant to winter road clearance. Similar to developed market, but the Contracting Authority may share this risk where there is a reliance on local source materials given prospect of labour disputes, embargos etc. Private risk Private Risk Global Infrastructure Hub Norton Rose Fulbright June

21 Power transmission project Developed markets Private Partner bears principal risk to ensure an uninterrupted supply of inputs/resources and managing the costs of those inputs Private risk Emerging markets Similar to developed market, but the Contracting Authority may share this risk where there is a reliance on local source materials given prospect of labour disputes, embargos etc. In such a case, the Contracting Authority may need to stand behind the cost of the input, or at least underwrite the Private Partner s financing for these costs. Shared risk Water distribution project Developed markets Main input is water and this is generally within ownership or control of Contracting Authority, so it bears the risk of quantity and quality at the delivery point. Contracting Authority also bears risk for power for pumping and the price is a pass-through cost. For other resources required to operate the Project, the Private Partner would be responsible. Shared risk Emerging markets Similar to developed market, such that time and cost risk for water and power is retained by Contracting Authority, otherwise other risks are borne by Private Partner and passed onto contractors. Shared Risk Global Infrastructure Hub Norton Rose Fulbright June

22 Comparison of specific risks across sectors Illustrative example 3 Disruptive technology risk Disruptive technology risk is the risk that a new or emerging technology unexpectedly displaces an established technology used in that sector. Such technological changes can cause significant disruption to a project over the term of the concession. For example, in an airport, technology is likely to reduce dwell time at airports which lead to less spending and revenue for the airport. Driverless cars will reduce parking revenue and increased in digital communications may reduce business travel. This risk is not always expressly address in project documentation. In a PPP, there is often a tension between continuous improvement obligations and variations. There may be an obligation on Private Partners to perform service which seeks for continuous improvement for minor changes. However, for major changes, these would require a variation. Heavy rail project Developed markets Emerging markets Not usually addressed as unlikely to be considered a thread to the infrastructure. Technological change will mostly reduce cost and increase efficiency This risk is unlikely to be passed to the Private Partner in an emerging markets ROT project where technology is unlikely to be a major component of the project. N/A Public Risk Global Infrastructure Hub Norton Rose Fulbright June

23 Gas distribution project Developed markets Emerging markets Gas demand may fall significantly due to rapid falls in other energy prices, gas price increase (eg carbon tax), or new pipeline technology makes existing tariff uneconomic (eg use of plastic piping). Contracting Authority will generally take the risks associated with reductions in gas demand due to technology affecting the customers or gas suppliers. In developed markets, the process of gas being distributed has already been disrupted by rise of solar pv generation. The regulatory reset process allows the Contracting Authority and Private Pattern to assess the impact of disruptive technology and how such advances can be addressed in the structure and rate of the tariff. Similar to developed market. The disruptive technology may enable the operator to employ new technologies and reduce operating costs. In emerging markets though, this risk is not typically addressed in the project documents. Given the delays in project implementation in emerging markets, arguable the risk of disruptive technology is higher than in Developed markets. Public risk Public risk Waste project Developed and emerging markets The technology is neutral in this matrix as there is such a variety of waste to energy solution from incineration to fuel production/gasification and biogas from waste. Technologies are usually (but international practice varies) not specified by the procuring entity but do result in different technological risks for the project. However, the general position is that the Contracting Authority would bear the risk of obsolescence. N/A Global Infrastructure Hub Norton Rose Fulbright June

24 Risk mitigation measure and government support arrangement Distinction between contractual risks and other risks such as technical or procurement risk which may influence the bankability of a project In the Report, for those contractual risks, we have sought to provide annotated commentary on the mitigation measures and government support arrangements that can be incorporated into the project documents While the allocation of the risk is important for the reader, we expect that the most useful information will be the practical steps and measures that a Contracting Authority can undertake to mitigate and manage such risk Global Infrastructure Hub Norton Rose Fulbright June

25 Consultative Process of the Report Draft versions of the Report were discussed at two international workshops: The first in conjunction of the meetings of the G20 Investment and Infrastructure Working Group (IIWG) on 25 April 2016 in Singapore with approximately 75 participants including government representatives and project developers, lenders and transaction advisors The second hosted by the OECD on 31 May 2016 in Paris with approximately 40 participants again including government representatives and private sector stakeholders The Report was also discussed: At the final meeting of the IIWG in Bali on 2 June 2016 At the PPP Americas Conference in June 2016 The published version of the Report, reflecting comments made during the workshops and IIWG meetings was released on 10 June 2016 Global Infrastructure Hub Norton Rose Fulbright June

26 Dissemination so far The Report was welcomed by the G20 Finance Ministers and Governors at their meeting in Chengdu on July 2016 Shortlisted for the 2017 Financial Times Asia-Pacific Innovative Lawyers Awards China PPP Centre has translated into Chinese, to disseminate to regional and municipal PPP units Inter-American Development Bank translated into Spanish to utilise in selected Latin American countries (strong usage already in Brazil and Peru) The GI Hub also working with the MDBs Global Infrastructure Facility to use the tool on future GIF pilot projects Global Infrastructure Hub Norton Rose Fulbright June

27 GI Hub/NRF Regional Workshops Sponsored regional interactive 1 day workshops on the PPP Risk Allocation Tool The workshops will cover: Key risk allocation issues Tailored for specific sample projects How to use the PPP Risk Allocation Tool Regional workshops planned for 2017 in: Bangkok, Thailand Nairobi, Kenya Santiago, Chile Global Infrastructure Hub Norton Rose Fulbright June

28 Thank you to our partners and funders Global Infrastructure Hub Norton Rose Fulbright June