In a recent issue of Finance Magazine, Kevin Feeney, Head of A & L Goodbody´s PPP/Projects Unit outlined the intricacies of the risk assessment process involved in Public Private Partnerships (PPPs).
'Successful PPP initiatives are all about who is best able to carry the risks at the lowest cost' said Feeney and accordingly he suggested the mantra of PPP is 'appropriate risk transfer'.
According to Feeney, risk between the public and private sector is typically allocated in the project agreement and that the "pass through" of such risk to underlying sub-contractors will depend on the project structure and the merits or necessity of retaining such risks within the Project Company (which is usually a project specific special purpose vehicle company).
If project risks are properly allocated to the parties who can best manage them, according to Feeney, the parties know the risks they are signing up to and this factor ought to stimulate price competition from those providing funds or performing works or services.
If the private sector is required to assume risks which cannot be appropriately managed then the private sector will either refuse to tender or price the risk.
In any PPP project the main objective of the awarding authority is to ensure that the project represents value for money. Part of the considerations to be taken into account in assessing value for money is ensuring that a sufficient degree of risk is transferred to private sector.
The extent to which risk can be transferred will dictate the extent to which the project can be treated as on or off balance sheet. This will be an important consideration for PPP projects in Ireland where the awarding authorities will be very interested to see how the UK Government and the UK accounting standards board consider the balance sheet treatment of such projects given the recent UK Treasury Guidelines.
In his presentation at a recent conference, Feeney said that the awarding authorities typically wish to ensure that the project asset is designed and constructed such that it is suitable to meet the Government´s performance requirements and that it is completed on time and to sufficient standards. The private sector is familiar with such risks and in the PPP context are typically prepared to assume them.
Other construction risks such as time overrun and cost overrun risk are normally assumed by the private sector in PPP projects. In this respect the Project Company will typically wish to procure the construction of the project through a turnkey approach.
In Ireland, according to Feeney, it will be interesting to see the extent to which a true turnkey approach can be easily achieved. There is no standard form design and construct contract here and the culture of design and construct has only been properly developing in recent years.
Feeney explained that for any bank financed PPP project the lenders will fundamentally wish to ensure that the project risk structure is such that their lending margin is protected throughout the concession period and if that is jeopardised, that they will wish to have recourse to (a) relevant third parties, e.g. the awarding authority, a defaulting service provider or insurance proceeds; or (b) reserve accounts which are intended to deal with specific risks which are retained in the Project Company.
Feeney said that the latest issue of UK Treasury Guidelines clearly indicates a shift whereby much greater degree of risk is being imposed upon the private sector.
To the extent that the UK PFI template is adopted in Ireland, it will be interesting to see where the line will be drawn. Feeney suggested that the Irish Government will wish to optimise competition in the PPP market and therefore will be reluctant to 'move the goal posts' from a risk profile which is tried, tested and bankable in the UK.
Feeney identified planning risk to be a particular issue in Ireland. The Government is very keen to explore the possibility of the private sector assuming planning risk.
The planning process in Ireland is fairly inefficient in respect of the process required to reach detailed planning permission and the Government has, in the past, suggested that in respect of PPP it wishes to explore the possibility of harnessing private sector innovation, resources and its energy in order to fast track the process.
Other key risks referred to by Feeney included commissioning risk, operation risk, legislative risk and termination risk. Feeney suggested that from his experience termination risk was typically the biggest risk to effectively deal with and it typically takes the longest to resolve. It tends to be one of the most sensitive issues in the negotiations of any PPP project.
In conclusion, Feeney said that the Irish Government has been very keen to adopt the term 'Public Private Partnership', as it is very aware that the UK "Private Finance Initiative" (PFI) is only one permutation of PPP.
There are various PPP style projects currently underway in Ireland and clearly the risk transfer profile in these projects may be considerably different from the typical UK PFI template.
Accordingly it cannot be said with certainty whether a general risk transfer model similar to the PFI template will be appropriate for Ireland in all cases.
Each project may need to be considered on its own merits. If the PPP process develops into a recognised procurement method in Ireland, then it is very probably that such projects may attract the same players as those involved in UK projects.
Feeney believes that if this assumption is correct the Irish Government will embrace the experience and welcome the competition from the UK player as long as it proves to be value for money for the public sector.
It will therefore not wish to re-invent the wheel in terms of risk transfer but will embrace any proven and tested risk profile that may exist.
This article was intended to provide general guidelines. Specialist advice should be sought about specific facts.