How the Financial Crisis has Changed the Market for Public Private Partnerships (PPPs)

How has financial crises changed PPP market? World Bank Institute May 200 9 Filip Drapak

“ Recent review of infrastructure projects for the last six months,  including social projects, statistics revealed that 50% were unaffected by the global financial crisis, 25% had had substantial increases and 25% had been cancelled.” Tadesse Admassu, Development Bank of Southern Africa (DBSA) international division executive vice-president, April 2009 "Infrastructure offers significant investment opportunities for long-term investors, even in a time of global crisis" Ngozi N. Okonjo-Iweala, Managing Director, World Bank, December 2008

Key issues of PPP in financial crises
PPP economics have changed
Lack of funding on both equity and debt side
Lack of interest of investors and operators
“ The monoline wrapped bond market, which has been the financial structure of choice for large PFI projects over the past 10 years, is now effectively closed to new transactions. This has increased reliance on the banking market. The combination of capital adequacy requirements, reduced liquidity and higher funding costs has increased the strain on the project finance banking model. While the banks’ views of the PFI risk profile have not changed materially, funding availability is limited and credit margins have moved up.” Andy Rose, Executive Director, PUK

PPP economics have changed  Economic cycle has to be taken in to the account
Risk management and mitigation implication
Country risk
On project risk
Refinancing risk
“ Equity price bubble busts every 13 years on average, last for 2 ½ years and are associated with GDP losses of 4 percent of GDP. Housing price busts are less frequent, but lasted nearly twice as long and were associated with output losses that were less twice as large…” World Economic Outlook

 Implications for the VfM (a) Projects less likely to achieve VfM - Increased cost of equity - Increased role of equity and proportion of equity financing - Increased cost of debt (offset by lower interest rates?) (b) Fiscal space implications to VfM (c) Some governments more rigorous on VfM and can be more keen on litigation PPP economics have changed Ernst & Young’s P3 team in the UK infrastructure reports that the average margin for availability payment-based P3s, increased from 82bps to 94bps between May and August 2008. Volume based payment P3 projects had average margins of 155bps in August 2008, which is increase of 50bps since credit crunch. Ernst&Young’s UK infrastructure report

equity debt PPP economics have changed PPP lifecycle cost
VfM might be lost at the current market, this can however be offset by fiscal
and macro economical benefits of PPP
PSC: public model VfM lost “ Greater emphasis also needs to be made towards the social economic benefits delivered to a country or region which could mean adopting a more visionary approach to PPP models to include agglomeration benefits. Failure to do so will mean that PPP projects may never get off the ground on a pure cost benefit basis.” EC Harris, Is PPP dead and buried?

PPP economics have changed
is there evidence for change in economics of PPP?
Project finance 2009

Global PPP in 2008
Volume of PPPs have stagnated in 2008 on the 2007 level with growth mainly generated in North America region (203% growth), however the 4Q volume fell 38% (in comparison to 4Q 2007 volume)
Project finance 2009

This is 72 km of existing motorway that shall be widened and refurbished
Original banks “disappeared” (Bilfinger Berger)
Bigger margin than expected, flexible rates (fixed were expected)
Smaller commitments from banks
However largest PPP in Germany so far
Case study: A1, Motorway in Germany PPP type: DBFO concession (design, build, finance and operate) Length: 30 years Contract value: EUR 650 million Financiers: HVB, Caja Madrid, DZ Bank Sponsors: John Laing, Bilfinger Berger, Johan Bunte Financial closure: 10 July 2008

This is 65 km motorway extension in Hungary
Larger number of banks than initially expected (10 instead of 4)
Bigger margin than expected, flexible rates (fixed were expected)
Smaller amount raised
EIB refinanced EUR 200 mill. only two weeks after financial close
“ Financial closure delay of few weeks would kill the deal” Bilfinger Berger
Case study: M6 Phase III Motorway in Hungary PPP type: DBFMO (design, build, finance, maintain and operate) Length: 30 years Contract value: EUR 520 million Financiers: EIB and consortium of banks Sponsors: Bilfinger Berger, Porr Solutions, Egis Projects Financial closure: 17 June 2008

Farac I (30 year concession)
Characteristics: Four roads spanned 550 km in west-central region. Construction cost US$137 million
Tender date: Aug 2007
Number of bidders: 6 consortia
Sponsors ICA and Goldman Sachs
Winning bid: US$4.17 billion
47% higher than gov and market expectations
Debt/equity: 80/20
Project revenues: Toll fees
Project funding sources:
US$3.4 billion local denominated currency, short-term mini perm financing (Commercial banks)
Lending was done on the expectation of refinancing through securitization which has not happen yet.
Case study: Mexico’s Farac I and II projects show how market conditions have changed at project level
Farac II (30 year concession)
Characteristics: Three roads spanned 850km of which 370 km is new construction in Pacific coast.
Tender date: 27 Feb 2009
Number of bidders: 2 consortia
Minimum price: US$2.29 billion:
Public bank contribution: Banobras to provide Pesos15-18 billion to successfully bidder and Fonadin to provide up to 30% of debt
Issues other than financial crisis:
Concerns over right of way
Sponsor skepticism over government traffic projections
Status: Canceled. STC: both bids too low
Project will be restructured and retendered
Source: Ada Karina Izaguirre, PPIAF, World Bank

D1 and R1 in Slovakia  Financing of PPP without development banks not feasible “ The crisis has narrowed the financing opportunities from banks,” the Construction Ministry wrote about the impact of the unfavorable financial market on PPP projects, as cited by the TASR newswire. “The liquidity shortage has a much bigger impact on the banks’ decision-making than the quality of the projects or the financial standing or rating of the Slovak Republic.” The ministry is looking for ways to finance the PPP projects from the European Investment Bank and the European Bank for Development and Reconstruction. The Slovak Spectator, 2009

Market flexibility and procurement flexibility Procuring authorities are suffering from the higher financing costs and bank fees, as well as greater transaction costs from procedures and negotiations that are taking longer to conclude. One risk is that final bids that were thought to have committed financing are reopened as debt continues to be re-priced. It’s no longer realistic to insist on committed financing at the bid stage – most lenders require price flex, or indeed market flex clauses (in which most terms, not just pricing, can be adjusted). This makes it impossible to conclude the financial evaluation of private partner proposals until much later in the process, and sometimes not even until days before financial close. This creates significant headaches for procuring authorities. How can a preferred bidder be selected if the financial proposal is not known with great certainty? How can competitive tension be maintained in final lending negotiations until well after preferred bidder selection? Should government share the pricing risk to which the preferred bidder is currently exposed? In one current UK social infrastructure P3, the c. $150M debt package has been re-priced twice since April this year, and closing has been delayed. CCPPP, 2009 Policy and Governance implications
Procurement has to be more flexible, shorter and financial market risk sensitive

Policy and Governance implications: introducing DFC  As one of potential policy measures to improve the financing of PPP projects UK government used so called DFC (Debt Funding Competition) What is a DFC? A DFC is an initiative that has been employed in the UK a number of times since 2000 and has been championed by the UK HM Treasury as a mechanism for government to induce competition and thereby obtain more favorable debt funding terms. When using a DFC, government selects a preferred bidder and that preferred bidder, in consultation with government, then goes to the debt market seeking the best price for the debt funding for the project. The objective for the UK government was to increase the competitiveness of the lending market with a view to reducing the overall cost of the project.1 We are now in a very different market where the primary focus of the DFC would be to source sufficient debt funders willing to lend to the project. David Lester and Chris Keane, 2009

How to mitigate the impact of the financial crisis on PPPs2009 The French Institute for PPP (IGD - Institute de la Gestion Déléguée) released in November its proposals to mitigate the impact of the financial crisis on PPPs in France. IGD suggests to address the issue of lack of liquidity through the delinking of the duration of contracts and the duration of loans that would allow the short-term financing of projects and its long-term refinancing when market conditions will be more favorable, and the creation of a special public vehicle that would be entitled to collect and provide long-term resources to support banks activities. IGD also proposes to reduce the impact on costs through a special state warranty on local authorities’ projects, and calls for a broader public support through investment subsidies when construction periods are important. Pierre Van de Vyver, 2009 Policy and Governance implications: introducing new institutions and guarantee support mechanisms  The solutions often suggest new institutions, from US discussion regarding the Infrastructure bank, ideas of setting up national guarantee instruments to the discussion on a new role of multilateral and development institutions.

Conclusions
PPP economics jeopardized by financial crises impact, however this is temporary impact
PPP is not solution in time of financial crises – do not attempt to stimulate economy using PPPs
Smaller transactions and larger risk diversification are demanded by the financial market
Long maturities still available but costly
Bigger role for development banks and multilateral institutions
Governments should focus on building the pipeline for the future post financial crises PPPs and improve policies and procedures for the bidding to accommodate current situation, perhaps introduce debt funding competition (DFC)
Bond, wrapped or privately insured financing not really available

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How the Financial Crisis has Changed the Market for Public Private Partnerships (PPPs)

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How the Financial Crisis has Changed the Market for Public Private Partnerships (PPPs) — Presentation Transcript