Is your local public-private partnerships going to be a happy one?

Saturday January 11 2014

By Imaduddin Ahmed and Shilesh Muralidhara

Partnerships can be wonderful. They can also be disastrous. So, too, is this the case with partnerships entered into by governments and businesses for the delivery of public goods, which can either lose countries millions of dollars per project or initiate virtuous economic growth cycles.

Public-private partnerships (PPPs) are mechanisms in which governments transfer upfront costs and risks for infrastructure projects meeting public needs to private sector developers.

Power plants, water treatment facilities, roads, stadia, airports, hospitals — all of these can be given birth under PPPs, where the private sector constructs and potentially transfers the assets to the state.

(Privatisation involves the opposite flow of assets – from government to the private sector – and yet many government officials and business people will confuse PPPs for privatisation.)

By allowing the government or public to repay the private developer by matching payments against use of the resulting infrastructure asset, PPPs overcome the initial barrier to investment – lack of sufficient capital to cover high upfront costs of construction.

In this way, PPPs both release government funds for additional projects and create infrastructure where none would have otherwise existed.

Where the infrastructure adds more to the productivity of an economy than its cost, this arrangement spurs economic growth. Consider three sizeable PPP energy deals that Rwanda’s state utility has signed in the past year.

Private developers will inject more than $300 million of capital to construct and operate plants that will more than double the country’s electricity supply while reducing the utility’s average cost of generating energy.

In return, the utility will be obliged to purchase a minimum quantity of the lower-cost energy. The result: The state utility may be able to offer end-users lower tariffs, therefore, allowing industries to expand their operations and employ more workers, and the Treasury will be able to reallocate subsidies to other areas of the economy that are in need of support.

Poorly conceived, poorly negotiated or poorly managed, however, and PPPs may end up costing more than they are worth — or end up in dissatisfied customers or suppliers.

Governments’ desire for private capital can make them lose focus on the end-benefit of a project to its citizens. An obvious and well documented example of this recently happened in the UK.

Faced with a cost of refurbishing two hospitals for £30 million in the city of Coventry, the UK’s National Health Service (NHS) elected to outsource the cost to the private sector.

To make the project attractive to business, the NHS had a private developer demolish the hospitals and replace them with a hospital with fewer beds and fewer services. After overruns, the final bill for the project, which opened in 2006, came to £410 million.

Exceed initial estimated cost

NHS’s annual payments to the private developer now exceed the initial total estimated cost of the refurbishment. To keep up with these payments, the hospital has been forced to make redundancies, charge patients for drop-offs and levy exorbitant parking fees. It’s safe to assume that patients are not happy.

When ill-equipped to negotiate, governments concede more than they ought to.

When their implementing agencies fail to understand or enforce provisions of PPP agreements, governments either lose out on opportunities to penalise private developers for failing to deliver what they promised, or fail to honour their own commitments, damaging their relationship with the private partner.

When governments themselves pursue inflationary policies, they can also undermine PPPs that the private sector negotiated poorly.

So what signs would a guru look for in order to forecast the success of a public-private partnership?

If the envisioned benefits of the relationship cannot easily be explained and high costs can, citizens will likely be left dissatisfied. If the benefits seem to outweigh the costs, the next questions to answer are whether the private partner is reasonable, technically capable and solvent, and whether the government’s implementing agencies understand how to manage the relationship, whether they are solvent and whether the government can provide a safe environment for business.

If these questions can be answered in the affirmative, the final question to answer is whether the PPP agreement is comprehensive and fair, for it isn’t, and the relationship will not be sustainable.

Shilesh Muralidhara is Senior Transactions Advisor and Imad Ahmed the International Finance Expert at Rwanda Development Board (RDB). They have helped Rwanda to close 14 public-private partnerships (PPPs) and concessions.