Development Process of Public Private Partnerships (PPPs) Projects By Dr Paul H K Ho 1
Disclaimer Funded by Commerce, Industry and Technology Bureau, The Government of the Hong Kong Special Administrative Region, the HKIS will organize a series of quality seminars and workshops to promote best professional practices for PPPs projects in Hong Kong. This is the first of these seminar series. Any opinions, findings, conclusions or recommendations expressed in this material/any event organized under this project do not reflect the views of the Government of the Hong Kong Special Administrative Region or the Vetting Committee for the Professional Services Development Assistance Scheme. 2
Definitions of PPPs There is no universal definition of PPP as different countries may have different models. In Canada, PPPs are defined as a cooperative venture between the public and private sectors, built on the expertise of each partner that best meets clearly defined public needs through the appropriate allocation of resources, risks and rewards. 3
Definitions of PPPs In the United Kingdom, PPPs include Private Finance Initiative (PFI) and other arrangements, where the public sector contracts to purchase quality services on a long-term basis to take advantage of private sector management skills. These include concessions and franchises, where a private partner takes on the responsibility for providing public services including planning, designing, financing, constructing, operating and maintaining the specified services. 4
Key features A private partner invests in public infrastructure facilities, and provides related non-core services to the government client or the community. The government retains ultimate responsibility / accountability for the delivery of the underlying core services to the public. 5
Key features The government and private partner work together under a long-term contract, whereby the payment to the private partner is spread over the term of the contract and is made only to the extent that t the required outputs t are maintained i to the specified service standards. 6
Major Benefits Delivery of major facilities or services without upfront investment from the government Improvement in efficiency and quality of services through h the use of private sector s expertise, innovation and resources Facilitating innovation and integrated solutions through the output-based performance reward 7
Major Benefits Achieving i better value for money by optimizing the whole-of-life asset management Well-structured risk sharing between the public and private sectors 8
Major Development Stages in PPP Project Project Initiation Stage Planning Stage Procurement Stage Development Stage Delivery Stage 9
Project Initiation Stage Key tasks: Appoint specialist advisers Assess client s needs for required facilities / services Examine alternative project options available Project Assess value for money and prepare Public Sector Initiation Stage Comparator Identify, assess and evaluate potential risks associated with project Draw up an outline business case and obtain in-principle approval of the project 10
Planning Stage Planning Stage Key tasks: Establish the project management structure and appoint the professional advisers Prepare output specification with the client Further develop the Public Sector Comparator in detail Prepare preliminary designs and studies for use in seeking basic approvals for the project 11
Procurement Stage Key tasks: Develop and invite expressions of interest Pre-qualify consortia Prepare project brief and documents I it h tli t d ti t submit proposals Evaluate proposals to check any non-conformities with original documents and assess value for money Negotiate with the preferred consortium Prepare the Project Agreement Procurement Invite shortlisted consortia to Stage Prepare the final business case and obtain approval for the award of contract 12
Development (Roll-out) out) Stage Key tasks: Review the design, construction, maintenance and facility management procedures Regularly monitor the contractor s progress Carry out general administrative duties Review testing and commissioning of the facilities upon completion Accept the new facilities for occupation and use Monitor the making good of defects by the contractor Development contractor s progress Stage 13
Delivery Stage Key tasks: Review the delivery of services Monitor the planned and emergency maintenance including capital replacements Audit the contractor s activities Delivery Stage Recommend payments of the unitary charges for the services Manage any changes in the client s requirements Carry out general administrative duties Conduct dilapidation and condition surveys of facilities prior to hand-over 14
Business Need Analysis of the need for service Relationship between the service and client s vision, strategies and plans. Analysis of the existing service might include: Key policies and strategies Profile of the infrastructure for existing services Service delivery arrangements Trends in service costs and budgets, and maintenance activity Performance against best value performance indicators Commentary on the condition, age profile and risks associate with the current assets or infrastructure. Whether the current service fails to maximise its contribution to the public client s strategies. 15
Service or Project Objectives Develop a range of aims and objectives to highlight hli ht the business need for the service The objectives specified should be specific, measurable, agreed, realistic and timely Describe objectives in terms of outcomes, outputs and required levels of performance 16
Options Appraisal Public Sector Comparator Value for Money Options Appraisal Preferred Project Option Reference Project Affordability 17
Project Options A list of potential options, including Existing asset solutions Non-asset solutions New asset-based solutions Analysis is to filter out some options. Identify non-financial and financial benefits. Evaluate service risks to ensure a like-for-like comparison. Trade off between cost and benefits. Become the Preferred Project Option. 18
Procurement Options Identify procurement options to deliver the Preferred Project Option. Options includes: Private finance initiatives Working with other public sectors Use of a public interest company, trust or other nonprofit making vehicle Leasing Other PPP opportunities Traditional procurements route to provide a benchmark to establish value for money. 19
Procurement Options Possible criteria to evaluate different procurement options Ability to attract investment in the service Affordability Time-scale to delivery Practicality Legal and statutory issues Anticipated procurement costs Bankability Best value Evaluate its anticipated service risks. 20
Objective of Public Sector Procurement Key objective of public sector procurement is to ensure that taxpayers get value for money. This requires that: Project are awarded in a competitive environment; Economic appraisal techniques are applied rigorously; Optimal allocation of risk between the public and private parties; Comparisons made between publicly and privately financed options are fair, realistic and comprehensive; and Qualitative factors which cannot be explicitly valued, but which may impact on the public client s cost of delivery of core facilities/services. 21
Public Sector Comparator Hypothetical ti whole-of-life lif risk-adjusted d cost of public delivery of the output specifications The PSC net present cost to the public client, calculated by a discounted cash flow analysis the recent most efficient similar public sector method of providing that defined output takes full account of the risks. Provide a benchmark for assessing the potential the potential value for money of tenders submitted 22
Components of Public Sector Comparator Raw PSC (or base costing) Direct costs that can be traced to a particular service; Indirect cost incurred not directly related to the production of the service; and Less any identifiable third-party revenue. Competitive neutrality Remove any net competitive advantages that accrue to a public client by its public ownership. Transferable risks those risks likely to be transferred to private party. Retained risks those risks that the public client proposes to bear itself. Expected Cost Transferable Risk Competitive Neutrality Raw PSC (Base Cost) Retained Risk PSC 23
Optimal Risk Allocation The party best able to manage a particular risk should carry that risk An optimal, rather than maximum, transfer of risk Assess the ability of each party to reduce the probability of a risk occurring, and to minimize the consequences Risks are classified as either transferable risk or retained risk Achieving an optimal risk allocation can have substantial value for money Best VFM Value for Money Optimal risk transfer Risk allocation 24
Value for Money Assessment Expected Cost Transferable Risk Competitive Neutrality Raw PSC (Base Cost) Net Present Value of Total Service Payments Net Present Value of Total Service Payments Retained Risk Retained Risk Retained Risk PSC Bid 1 Bid 2 Procurement Option 25
Risk and Cost Expected Cost Transferable Risk Competitive Neutrality Raw PSC (Base Cost) Net Present Value of Total Service Payments Risk Adjustment Net Present Value of Total Service Payments Retained Risk Retained Risk Retained Risk PSC Bid 1 Bid 3 Procurement Option 26
Affordability Whether the project is financially free- standing Project cost to the public client procured through h either a PPP or traditional route. If financial support is needed, estimate the anticipated costs of the project, and affordability of the selected option. 27
Risk Analysis Identification of risks Assessment of its impact Estimation of its likelihood Calculation l of financial i impact Sensitivity analysis Categorisation of risks Policies and processes to manage and mitigate risks 28
Types of Project Risk 1. Site risks Existing structures Site conditions Approvals Environmental Clean-up and rehabilitation Availability of site 2. Design, Construction & Commissioning 3. Sponsor & Financial Interest rates Sponsor risk Financing unavailable Change in ownership Refinancing benefit Tax changes 4. Operating Inputs Maintenance Design Changes in output Construction specification Commissioning i i Operator failure 29
Types of Project Risk 5. Markets General economic downturn Competition Demographic change inflation 6. Industrial Relation 7. Legislative & government policy 8. Force majeure 9. Asset ownership Technical obsolescence Default and termination Residual value on transfer to public client 30
Outline Business Case Executive Summary Business Needs Service or Project Objectives Options Appraisal The Preferred Option Project Delivery Arrangements Employee and Other Issues 31
Output Specification Set out the services that t the public client is seeking to procure and the performance levels required for each of those services. Define the performance standards, dwelling provision, property management standards and housing management age e services. Tie with the payment mechanism to ensure compliance with the agreed performance standards. Keep pace with changing standards. d 32
Output Specification and Payment Mechanism Output Specification Adjustments and Contract terms Availability and Performance Standards Payment Mechanism Contract Monitoring 33
Payment Mechanisms - Objectives Achievable performance standards for the contractor to secure the full unitary charge. Place payment of the unitary charge at risk if performance falls below the agreed standard. Match payments to the outputs. Escalate penalties for failure to act promptly on items falling to meet agreed performance standards. Innovate and secure efficiency gains and deliver best value throughout the period of the contract. 34
Common Consortium Structure 35
Project Brief Introduction ti Project objectives and outputs Technical requirements Evaluation process Evaluation criteria Overall criteria Commercial Risk Infrastructure / building Service delivery Information to be submitted Conditions of bid Contract Attachments 36
Project Agreement 1. Duration of contract t 4. Supervening events 2. Service commencement Compensation events Submission of designs and Relief events other information Force majeure events Quality management 5. Information Warranties systems Due diligence Acceptance and service Benefit of surveys and commencement reports 3. Protection against late service Latent defect risk commencement 6. Service requirement and Liquidated damages availability Performance bonds Payment for availability and Parent company weighting of critical areas guarantees Rectification of unavailability Bonus payments for early service commencement 37
Project Agreement (Cont d) 7. Performance monitoring 10.Payments and set-off Setting the performance 11.Maintenance level Monitoring i Replacement of subcontractors Who does and pays the monitoring Consequences of poor performance 8. Payment mechanism 9. Price variations Indexation Benchmarking and market testing of operating costs Sinking fund Expiry of the contract Transfer of assets at end of contract Conditions surveys 12.Change in services 13.Change in law Allocation of risk 14.Control over sub- contractors 15.Assignment Restrictions on contractor, public client and senior lenders 38
Project Agreement (Cont d) 16. Change of ownership 18.Calculation and 17. Treatment of assets on payment of early expiry of service period termination Assets where the public 19.Surveys on expiry and client retains residual termination value on expiry Termination on contractor default Termination on force majeure Termination on corrupt gifts and fraud Voluntary termination by the public client Termination for breach of the refinancing i provisions Retention fund Guarantees or bonds 20.Indemnities, guarantees and collateral warranties 21.Financiers security 22.Insurances 23.Dispute resolution 39
Project Agreement (Cont d) 24. Public client s step-in Step-in without contractor breach Step-in on contractor breach 25. Land and other property interests Land/property transfer Land/property purchase 26. Due diligence over subcontracts and financing documents Financing documents Sub-contracts 24. Refinancing i What is refinancing? Public client s consent Exemptions Audit rights and transaction costs 40
Typical Contract Documents Project Agreement (or named Concession Deed) Core project contract setting out the terms on which the private party provides the contracted services to the public client Property Lease (sometimes named Ground Lease) Provides the private party with access to the public client s property where project facilities are located Construction Contract Private party s construction obligation under the Project Agreement are sub-contracted to the construction contractor Operating Agreement Private party s core service delivery obligations under the Project Agreement are sub-contracted to the operator Facilities Maintenance Agreement Private party s facilities maintenance obligations under the Project Agreement are sub-contracted t to the facilities maintenance contractor 41
Typical Contract Documents Loan Agreement Lenders provide debt finance to the private party Security Documents Documents providing the lenders with security for the debt finance provided to the private party Completion Guarantee Guarantees the completion of construction of the facility Subscription Agreement Private party s parent company provide equity finance to the private party Insurance Polices Policies insuring the private party against specified risks Other Documents Bonds, etc. 42
Final Business Case Executive Summary Project Objectives Financial Issues & Affordability Stakeholder Consultation Procurement Process Risk Allocation Contract & Payment Mechanism 43