a public-private partnerships journal inside korea’s innovating The politics 1 question, ppp unit at scale Of PPP 8 answers Reinvigorating the Less early adoption, Barcelona partnership How do mistakes regional economy more global adaptation energizes urban center benefit PPPs? 6 16 40 52 a public-private partnerships journal June 2015 • Issue 16 World Bank Group Public-Private Partnerships This symbol indicates you 1818 H Street, NW can find more information Washington, D.C. 20433, USA and resources online at: www.handshakejournal.org www.handshakejournal.org info@handshakejournal.org handshake team Credits Editor-in-Chief Cover photo: © Sergey Nivens/Shutterstock. Used with Tanya Scobie Oliveira permission. Further permission required for reuse. Writer/Editor Page 5: photo © Erdosain/istockphoto. Used with permission. Further permission required for reuse. Alison Buckholtz Pages 5 & 10: illustration © retrorocket/istockphoto. Used Art Editor with permission. 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IFC and the World Bank do not guarantee the accuracy of the data in this Page 46: photo © Maclek Lulko. Creative Commons publication and accept no responsibility for license, creativecommons.org/licenses/by-nc/2.0 any consequences of their use. Back cover: hand © Mikhail Bazilevsky/The Noun Project 2 • www.handshakejournal.org letter from the editor Welcome to the Innovation Age “An age of constant invention naturally begets one of constant failure,” the New York Times Magazine declared in a recent story called “Welcome to the Failure Age.” Its core premise—that innovation is inextricably linked with failure—may be a fresh insight for the high-tech era, but has long been understood by those who work in infrastructure. To state the obvi- ous: for those of us in infrastructure PPPs, failure is not a novel concept. Innovation is. The interplay between the two, with attention to the iterative learning that is necessary to morph missteps into course corrections, is the focus of this issue. How appropriate, then, to admit that Handshake has learned a few les- sons of its own since the first issue launched in 2011. Our redesign empha- sizes content our readers asked for in last year’s survey, including a section that profiles the head of a national PPP unit, with background on how the unit’s goals meet its government’s needs. A new column, “Master Class,” answers readers’ need for a PPP 101-style lesson on a specific technical aspect of PPPs. These and other new features, along with the entire, search- able Handshake archive, now live on www.handshakejournal.org. But not everything in Handshake is new. We continue to believe that the human stories behind PPPs are compelling enough to share with a wide audience; we remain committed to telling those stories in ways that will allow readers to replicate the elements appropriate to their own situation. Once the seeds of those ideas are planted, innovation has already begun to germinate. Tanya Scobie Oliveira Laurence Carter Editor-in-Chief Senior Director, PPP Group World Bank Group • 1 Gajendra Haldea is Advisor (PPP & Infrastructure) to the Gov- ernment of Rajasthan and CEO, Bureau for Partnerships in Rajasthan. He was Advisor to the Deputy Chairman and Prin- cipal Advisor (Infrastructure) at the Planning Commission of the Government of India from 2004-2014, where his respon- sibilities included reform of the infrastructure sectors. He was also the head of the Secretariat for PPP and Infrastructure in the Planning Commission, which formulated policies for en- suring time-bound creation of world class infrastructure. His most recent book is Infrastructure at Crossroads: The Chal- lenges of Governance (Oxford University Press). Kang-Soo Kim is Executive Director of the Public and Pri- vate Infrastructure Investment Management Center (PIMAC) in the Korea Development Institute (KDI), which provides the government with assistance Isabel Rial implementing PPPs through formulating RFPs, tender eval- uation, and negotiations with preferred bidders. PIMAC also conducts studies on public and private infrastructure invest- ment policies and provides the public and private sectors with policy advice. Isabel Rial is a senior econo- mist in the Expenditure Policy Division in the Fiscal Affairs De- partment at the International Monetary Fund. She works on a range of cross country fis- cal policy issues, particularly Kang-Soo Kim focusing on PPPs, fiscal risks management, and fiscal rules. She has more than 20 years of experience in the public sector and the International Monetary Fund and has consulted for a number of private Gajendra Haldea sector entities. 2 • www.handshakejournal.org Contributors Waleed Youssef Waleed Youssef joined Saudi Oger Limited in 2015 as Vice President, Facilities Management and Administration. Prior to this, he was Chief Strategy Officer and Middle East Region Director of TAV Airports Holding, Aviation Specialist at International Finance Corporation and director at Abu Dhabi Airports Company, responsible for corporatiza- tion and privatization. Richard Abadie is Global Capital Projects and Geoff Keele is Senior Communication Officer in Infrastructure Leader at PricewaterhouseCoopers. IFC’s PPP Advisory Services. David Bloomgarden is Chief of the Basic Services John Kjorstad is Global Services Infrastructure Hub and Green Growth unit of the Multilateral Invest- Leader at KPMG, where he supports the partners ment Fund of the Inter-American Development of KPMG’s Global Infrastructure Leadership Team. Bank. Thomas Maier is the Managing Director for Fernando Crespo Diu has been the Director of Infrastructure at the European Bank for Reconstruc- UTAP, the Portuguese PPP unit, since its creation in tion and Development. 2012. Rui Monteiro is Senior PPP Specialist at the World William Dachs is the Chief Operating Officer of the Bank Group. Gautrain Management Agency, charged with over- Robert Puentes is a senior fellow with the Brook- sight of a $3 billion urban rail PPP. ings Institution’s Metropolitan Policy Program and Jeff Delmon is a Senior PPP Specialist based in director of the program’s Metropolitan Infrastruc- Dar es Salaam, Tanzania specializing in PPP transac- ture Initiative. tions, frameworks, and financing. Paul J. H. Schoemaker serves as Research Director Ian Hawkesworth is Head of PPPs and Capital Bud- of the Mack Institute for Innovation Management at geting in the Public Governance Directorate at the the Wharton School of the University of Pennsylva- OECD. nia. Mateu Hernandez is CEO of Barcelona Global, a Michael Schur, a former head of New South Wales private, independent, non-profit association made Treasury, is Managing Director of Castalia Strategic up of people and companies who are focused on Advisors, based in Sydney, where he runs the Aus- Barcelona’s future. tralian and South East Asian PPP practices. Dan Hoornweg is Associate Professor and Jeffrey Aleem Walji is Chief Innovation Advisor at the S. Boyce Research Chair in Natural Gas as a Trans- World Bank Group. portation Fuel at the University of Ontario Institute of Technology. World Bank Group • 3 innovating Redefining failure course at scale and success corrections Less early adoption, more Why the “Brilliant Small changes that create global adaptation Mistake” matters better outcomes 16 20 26 reviving the Protecting THE politics RELIANCE RAIL PPP your PPP of ppp Turning around a Stabilizing partnerships Barcelona partnership difficult project in uncertain times energizes urban center 30 36 40 FEATURES 4 • www.handshakejournal.org columns & departments 6 PPP insider Korea’s PPP unit creates institutional memory 10 from lessons to principles The public governance of PPPs 14 money talks experts Debunking the myth of the “quick and easy” PPP 48 inside infrastructure Powering rural Africa 52 One Question Eight experts discuss how PPPs can absorb common mistakes 64 master class Preventing renegotiation, fostering efficiency 68 read this next What the rest of the world is saying about PPPs 70 FACTA NON VERBA World Bank Group • 5 PPP Insider Republic of Korea’s PPP unit reinvigorates the regional economy Kang-Soo Kim is Executive Director, Public and Private In- frastructure Investment Manage- ment Center (PIMAC), at the Ko- rea Development Institute (KDI), the Republic of Korea’s leading think tank on national economic development. As part of KDI, PIMAC is responsible for com- prehensive management of public and PPP investments; it provides ex ante and ex post evaluations on government projects and supports imple- mentation of PPP projects. Here, he explains to Handshake readers how national PPP units can influence regional economic performance. 6 • www.handshakejournal.org What advice would you give government is vulnerable to political influence governments creating a PPP unit? although the private sector is the project stake- holder. Independent and objective assessment First, for a government considering this, by the PPP unit is therefore all the more crucial. the vision for PPP needs to be established and It is important that the government lends its shared with others. Second, clearly support, and that all decision-making reflects distinguished roles and functions evaluations made by the PPP unit. must be institutionalized. Third, For the PPP unit to maintain independence expertise needs to be developed in and objectivity, the roles and functions of each fields like law, finance, accounting, key player should be clearly defined in the legal economics, development, and engi- and institutional system, and they should be neering. Fourth, active benchmarking respected and acknowledged. In addition, the of developed PPP economies and government needs to allow the PPP unit to cooperation with other PPP units expand its expertise and to build capacity. should be encouraged and promoted. Overall, it’s critical to remember that How does PIMAC work with other a PPP unit’s expertise and capacity infrastructure investment institutions is not built overnight. So my final in the Asia-Pacific region? piece of advice is that while experi- Many countries at the PPP development ence is built, remaining patient is just stage have requested consulting and advice as important as maintaining a clear from PIMAC. Since 2008, capacity building vision of PPP. programs have been held for government offi- cials from Azerbaijan, Bangladesh, Kazakhstan, What makes PIMAC Mongolia, and Thailand, among others. The effective? Asia Public-Private Partnership Practitioners’ The legal and institutional system Network (APN), co-hosted with the World that guarantees independence and Bank and the Asian Development Bank, has objectivity to the evaluation body is held an annual training program for PPP the most important element here. practitioners throughout Asia. The PIMAC A PPP unit should not be in any Knowledge Sharing Program (KSP) channels way influenced by other players in PIMAC’s expertise and know-how to develop- a PPP project—whether the budget ing countries. Algeria, Cambodia, Indonesia, authority, the competent authority, and Mongolia have been in direct contact with or the private concessionaire. The PIMAC for KSP during the past five years. World Bank Group • 7 What can other governments learn ing Program, for example, that country drafted its PPP Handbook. And after the Vietnamese from PIMAC? government requested a visit from the PIMAC One of the most common remarks after delegation, officials there drafted Vietnam’s knowledge-sharing with PIMAC takes place is PPP Law. that our input has allowed the PPP unit that sought our advice to strengthen its relationship How does the PIMAC monitoring with the finance ministry. After consultation and evaluation approach contribute with PIMAC, the finance or the budget minis- to the PPP learning cycle? try becomes more aware of the importance of Evaluation processes at each stage of PPP coordination with the PPP unit in facilitating implementation, such as assessment of proj- project implementation and preparation of ect proposal, and review of draft concession PPP documents. Our advice has also led to agreement, are all useful, and PIMAC’s input the development of PPP laws and guidelines. makes project implementation more efficient. It has been very fulfilling to hear about Management of projects at the operational stage PIMAC’s impact in the region. Following is also an important place for the monitoring Mongolia’s exposure to our Knowledge Shar- process. Through the ex-post evaluation and Evolution of a ppp Unit How PIMAC Adapts to Fast- Growing PPP Investment W hen PIMAC was founded, PPP functions mainly concerned selecting proj- processes were at an earlier ect concessionaires through project assess- stage of evolution and we in the ment, formulation of RFPs, and review of unit were still developing our own areas of draft concession agreements. But as the expertise, so our framework, our outlook, unit gained more and more expertise and and our goals were different. In those days, accumulated experience on PPP implemen- 8 • www.handshakejournal.org monitoring, government officials are more port, is expected to continue, making future likely to be alert of any contingent fiscal risk or prospects on the PPP market in this area rather burden. This makes it easier to look for mea- gloomy. sures to mitigate such risks. PIMAC also adds On the other hand, government budget value with refinancing gain sharing and dispute restructuring, emphasis on fiscal soundness, resolution. and introduction of private sector efficiency have improved PPP market prospects for social What are your predictions for welfare, defense, and environmental facilities. Korean PPPs? We expect that projects with a lower rate of There is a possibility that the PPP market return with lower risk will increase in number, in Korea will expand further, but with a rela- and overseas PPP market development will tive decrease in infrastructure investment by expand further. conventional procurement methods or SOE investment, due to a focus on fiscal soundness. However, the issue on the appropriate stock and investment amount of traditional physical infra- structure, such as road, railroad, airport, and tation, PIMAC’s role expanded to building improving governance and institution of the basic policy system and structure of the PPP system as a whole. PPPs. PIMAC then began drafting and With an increasing number of projects publishing guidelines for value for money at the operational stage, there is a greater tests, guidelines for selection of potential need today for ex-post management and concessionaires, standard concession agree- evaluation of projects, such as conflict reso- ments, and standard RFPs. lution or refinancing gain sharing between As the scale of PPP investment grew the public authority and the private conces- and new implementation arrangements sionaire. PIMAC’s newest function—refin- were introduced, it became clear that ing project evaluation and management PIMAC’s most useful contribution could schemes in accordance with changes to the be in providing a comprehensive evalua- environment surrounding infrastructure tion framework, along with objectivity and development—reflects this development. consistency, to the project implementation —Kang-Soo Kim process. As the unit moved in that direc- tion, PIMAC’s role has grown further—to providing policy recommendations on World Bank Group • 9 From lessons to principles The public governance of PPPs Ian Hawkesworth, OECD PPP Network 10 • www.handshakejournal.org The OECD is in a unique position to assist member countries in responding to the chal- lenges of using public-private partnerships (PPPs) to deliver public services efficiently and effectively. Using lessons learned by member countries, the OECD developed principles for the institutional and procedural treatment of PPPs. These principles, based on experience, help governments implement PPPs without jeopardizing fiscal sustainability. T he OECD’s PPP Principles are based on lessons gleaned from mistakes, missteps, and project twists that could never have been predicted at the outset, and these tenets will aid decision makers facing the tradeoffs among three de- mands inherent in developing a PPP. First, the public sector must be a prudent fiscal actor. It falls on the decision-maker to ensure that the PPP is affordable, that it represents adequate value for money, and that any fiscal risks, such as contingent liabilities, are limited. Second, the demands for investment from particular sectors such as transportation, World Bank Group • 11 health, and education have to be assessed • Ensure that all significant regulation affect- prudently against each other so that the ing the operation of PPPs is clear, transpar- projects that are pursued are those that yield ent, and enforced. the highest return on investment for society as a whole. Finally, decision makers must balance the risks taken by the private sector and those Use the budgetary process trans- retained by the public sector. It also requires parently to minimize fiscal risks deciding what the appropriate price of such and ensure the integrity of the a transfer should be. procurement process There is not necessarily one right solution to these tradeoffs; much will depend on the • The project should be treated transpar- concrete circumstances of each project. How- ently in the budget process. The budget ever, these principles—which promote a focus documentation should disclose all costs and on value for money, efficiency, effectiveness, contingent liabilities. Special care should be and transparency—have guided OECD PPP taken to ensure that budget transparency of Network officials to the best outcomes. PPPs covers the whole public sector. • Government should guard against waste and corruption by ensuring the integrity Establish a clear, predictable, and of the procurement process. The necessary legitimate institutional framework procurement skills and powers should be supported by competent and well- made available to the relevant authorities. resourced authorities • The political leadership should ensure pub- Ground the selection of PPPs in lic awareness of the relative costs, benefits, value for money and risks of PPPs and conventional pro- curement. Popular understanding of PPPs • All investment projects should be priori- requires active consultation and engage- tized at senior political level. As there are ment with stakeholders as well as involv- many competing investment priorities, it is ing end-users in defining the project and the responsibility of government to define subsequently in monitoring service quality. and pursue strategic goals. The decision to • Key institutional roles and responsibili- invest should be based on a whole of gov- ties should be maintained. This requires ernment perspective and be separate from that procuring authorities, PPP units, how to procure and finance the project. the central budget authority, the supreme There should be no institutional, proce- audit institution, and sector regulators dural, or accounting bias either in favor are entrusted with clear mandates and of or against PPPs. sufficient resources to ensure a prudent • Carefully investigate which investment procurement process and clear lines of method is likely to yield the most value for accountability. money. Key risk factors and characteristics 12 • www.handshakejournal.org of specific projects should be evaluated by conducting a procurement option pre-test that enables the government to decide on the path forward. There is not necessarily one right • Transfer the risks to those that manage solution to these tradeoffs; much them best. Risk should be defined, will depend on the concrete identified, and measured. circumstances of each project. • The procuring authorities should be pre- pared for the operational phase of the PPPs. Securing value for money requires vigilance and effort of the same intensity as that necessary during the pre-operational phase. should ensure that the project is affordable • Value for money should be maintained and the overall investment envelope is when renegotiating. Only if conditions sustainable. change due to discretionary public policy actions should the government consider This article is based on the OECD report “Recom- compensating the private sector. Any re- mendation of the Council on Principles for Public Governance of Public-Private Partnerships,” OECD negotiation should be made transparently Publishing. Any additional opinions expressed or and subject to the ordinary procedures of arguments employed herein are solely those of the PPP approval. Clear, predictable, and author and do not necessarily reflect the official transparent rules for dispute resolution views of the OECD or its member countries. should be in place. • Government should ensure there is suf- ficient competition in the market by a competitive tender process and by pos- sibly structuring the PPP program so that there is an ongoing functional market. For more information and a Where market operators are detailed exploration of each of few, governments should these principles, see “Recommen- dation of the Council on Principles ensure a level playing field for Public Governance of Public- in the tendering process so Private Partnerships,” OECD that non-incumbent opera- Publishing, May 2012. tors can enter the market. • In line with the govern- ment’s fiscal policy, the central budget authority World Bank Group • 13 Money talks debunking the myth of the “quick and easy” PPP Jeff Delmon Jeff Delmon is a Senior PPP Specialist for the World Bank Group based in Dar es Salaam, Tanzania. He specializes in PPP transactions, frameworks, and financing. his article will give you everything you need to know to achieve quick and easy PPP results, with zero preparation, very little effort, and no need to provide money or guarantees... flawed. There is no reason not to ask for con- Don’t you just wish? Everyone who has struction and financing together in the same ever worked on a public-private partnership tender process; there is no reason that govern- yearns for this sort of foolproof, one-size-fits-all ment funding/export credit agencies should not solution. But there’s no fast-forward to success be an integral part of project procurement. when it comes to PPPs. They can bring great What fails, inevitably, is the effort to benefits, but this outcome requires time, effort, shortcut good preparation and robust competi- and investment. tion. Government needs to take time to work And yet, governments everywhere seek the out what it wants, when it wants it, what (if holy grail and insist on following the many PPP anything) it is willing to pay for or guarantee, pied pipers. This merits a quick explanation. and how different project risks are going to be According to legend, the pied piper of Hamelin managed and allocated. Once the government wore a multi-colored (“pied”) cloak and played decides on its project and determines its role, a a pipe. He was hired by the village to lead the competitive process should be used to select the rats out of town, which he did, but when the private partner. villagers did not pay his fee he led the children Here’s why: competition helps to get the out of town, never to be seen again. Govern- best deal and demonstrates that the project ments also seem to want to take the easy route, is awarded properly and transparently, with trying to get it cheap and fast. This never works. opportunities offered to the best investors. There are many examples of bad practices It takes time. It requires funding and the relent- that emerge from the desire to get it done less efforts of experienced staff. But quickly. These cases may show poor decision- the results are clear—there is no substitute making, but these models are not inherently for doing it right. 14 • www.handshakejournal.org What not to do: THREE TYPICAL SCENARIOS A company or foreign government shows Governments seem to up at the relevant ministry with promises to solve the officials’ most pressing problems want to take the easy route, quickly, easily, with no effort. The fact that trying to get it cheap and no other government in the world has found this easy solution does not seem fast. This never works. to bother these officials, who are relieved to have something to believe in. This generally results in years of discussions, The government issues a tender, asking negotiations, signed memorandums of bidders to design, build, and finance understanding, and ribbon cutting—but infrastructure. There is little detail, and no progress. Instead of results, there are almost no analysis or effort behind the delays, mounting costs, and frustration for tender. The private sector is expected to everyone involved. do everything, including to guess what the government wants now and for the next 30 years. Based on experience, bid- An interesting twist was achieved by an ders are not convinced this is a workable East African country. The process started proposition. For example, during discus- with a European government offering sions over three years ago when an East financing if a company of its nationality African project was brought to market in were to be selected to build the infra- this way, the government rejected using structure. Officials issued a limited tender, a competitively procured PPP as it “takes exclusive to consortia originating in that too long.” Despite the project’s status as particular country. This is a big no-no for one of the more exciting in Africa, and OECD member nations. However, despite the commercial dynamism of the country protestations from the other European in question, the response was poor, with governments, the project is under con- only one bidder—and despite promises, struction, and results are visible. At least it turned out that bidder did not actually this case involved some competition, and have the financing. Government officials actual infrastructure development—a did not uncover that bit of intel until after much better outcome than other such they had signed an agreement with the efforts, but with room for many questions bidder. Over three years later, there is no to be asked. real construction in sight. World Bank Group • 15 Innovating aT Scale The case for global adaptation over early adoption 16 • www.handshakejournal.org Aleem Walji, World Bank Group World Bank Group • 17 I used to think that innovation was a close “boutique” innovation, which guarantees one- cousin of risk—that the whole point was time success. In seeking scaleable solutions, we venturing into unknown markets to do pursue PPPs—often pilots—whose successes something that had never been done before. can be replicated. But when it comes to infrastructure public- There’s a great example in progress right private partnerships (PPPs), especially those now in Benin, where rural water systems have that have a positive, long-term impact on mil- historically been operated by local communities, lions of people, I’ve seen enough significant, with uneven success. In 2006, the Government successful partnerships to understand that of Benin began to transfer the management of innovation doesn’t have to be about creating these water systems to private operators under new things all the time. It’s just as important a lease/affermage arrangement. In 2010, the and valuable to take something that’s new in World Bank Water and Sanitation Program a particular context and make it work. (WSP) commissioned an assessment of the per- Any innovation ecosystem needs early formance of the privately-run water systems. It adopters and scalers. The latter group is espe- uncovered a number of shortcomings, including cially relevant for PPPs that the World Bank the lack of capacity on the part of the local pri- Group advises and invests in. Institutions like vate operators, weak and short-term contracting the World Bank Group can’t compete with arrangements, and challenges for all parties smaller, nimbler, and more risk-tolerant firms in fulfilling their contractual obligations. The and social enterprises when it comes to innovat- World Bank Group worked to strengthen the ing at speed. But when it comes to recognizing contractual framework with capital investment PPP approaches that work, World Bank Group from the Dutch Cooperation (the Netherlands Embassy in Benin), which allocated up to $1 million in grants. IFC was the lead transaction advisor, Innovation doesn’t have structuring, tendering, and imple- to be about creating new menting a PPP for ten pilot sites. things all the time. A strategic partnership with the WSP played a pivotal role in fulfilling the government’s objec- advisors can evaluate them rigorously, share the tive of leveraging the private sector’s capacity to lessons widely, and adapt the models to a variety improve the quality and sustainability of water of contexts. That’s innovating at scale. It’s less supply in rural areas. Together with WSP, IFC about early adoption and more about global provided strategic recommendations on an adaptation. It’s about anchoring and context- appropriate institutional framework, the range ualizing policy and business model innovations of activities to be transferred to the private sec- within a variety of geographies with different tor, and a tender and regulatory framework. political, social, and economic realities. Even So far, it’s a textbook case. But IFC’s experi- for PPPs, which must be tailored carefully to ence undertaking these sorts of PPPs across the fit local and regional needs, there can be no developing world paid off in an innovation that 18 • www.handshakejournal.org turned the project from textbook to terrific. The ways that leverage the strengths of both. A proj- new piece fell into place when IFC worked with ect that’s both innovative and successful requires local commercial banks to support the sector by discipline in identifying the most promising providing financing to the concessionaires. It’s a models no matter where they come from, a first for Benin. As a result, the financial burden willingness to test them and evaluate them rig- on the public finances will be reduced, as historically the state has fully financed capital investment. Because the project Even for PPPs, which must be was implemented as a pilot for tailored carefully to fit local broader sector reform, scaling- up this approach is the next and regional needs, there can step. It will include more rural be no “boutique” innovation, water supply schemes across which guarantees one-time the country and enable a larger success. In seeking scaleable number of people to benefit solutions, we pursue PPPs— from improved access to water. In retrospect, these steps often pilots—whose success seem perfectly reasonable. But can be replicated. approaching local commercial banks to support the sector had never been attempted before in Benin, nor had the idea of implementing a orously, a commitment to learning what works pilot that would institutionalize these innova- and doesn’t work, sharing this knowledge widely tions. This illustrates the truism that lessons are through communities of learning and practice, seldom earth shattering and usually intuitive. and getting really good at adapting models We hear things like “design for growth and to local contexts. None of that is easy, but it’s scale from the beginning,” “recruit leaders with essential—because it translates into results. strong social and political capital,” “learn and Innovation for PPPs requires recognizing adapt as you implement,” “pay attention to pro- the precise elements of what works, evaluat- cess and product,” “work the system top-down ing those models, generating and diffusing and bottom-up simultaneously.” When these knowledge, and replicating the approach while elements come together, there’s a foundation adapting policies and requirements to local that welcomes innovation. contexts. Innovation doesn’t have to be about creating new things all the time, Benin’s piped- in water PPP demonstrates. It’s just as valuable Reinventing “results” to try out an approach that’s new in a particular For PPPs, markets and governments are the context. This too can disrupt the status quo, two surest pathways to scale. For lasting results, transforming the market just as profoundly as it public and private actors must work together in transforms citizens’ quality of life. World Bank Group • 19 Redefining Why the “Brilliant Mistake” matters 20 • www.handshakejournal.org Fig: 2 Paul J. H. Schoemaker is the author of Brilliant Mistakes: Finding Success at the Far Side of Fail- ure (Wharton Digital Press). He serves as Research Director of the Mack Institute for Innovation Man- agement at the Wharton School of the University of Pennsylvania, and is also the founder and chairman of Decision Strategies International, Inc., a consult- ing and training firm specializing in strategic plan- ning and executive development. Here, he explains to Handshake readers how making a mistake in a project—even a large-scale infrastructure public- private partnership (PPP)—can ultimately be valu- able, and is often the only path to success. What is a “brilliant mistake”? Everyone alive today has benefitted from someone else’s huge mistake. Alexander Fleming’s accidental discovery of penicillin, the world’s first and most successful antibiotic, involved a sloppy lab, keen perception, and an exceptionally well-prepared mind. The ill-fated flight at Kitty Hawk resulted in modern aviation. If you think of mistakes as potentially powerful “portals of dis- covery,” you start to see the beneficial side of error and the way it can lead to innovation. In doing business today, the challenge for managers is to recog- nize that there must be room to make mistakes, and this can only happen if leaders create sufficient space for productive mistakes to occur. This is no secret among successful managers. As IBM founder Tom Watson famously observed, “If you want to succeed faster, make more mistakes.” Although some situa- tions clearly cannot afford any mistakes, such as brain surgery, flying an airplane, or running a nuclear power plant, whenever innovation is important, some degree of error needs to be toler- ated. Albert Einstein put it very well: “If you have never made a mistake, you have never tried anything new.” World Bank Group • 21 Is it possible to learn have little expertise in parts of the projects. We emphasize the role of rational decision making from other PPPs’ mistakes and planning a great deal but in doing so may or is each project too undervalue the power of accidental learning. different? Leaders need to encourage strategies that allow for serendipity, even if they cannot always be People have a uniqueness bias, which analytically justified. This is the challenge of means they think their project is not like any innovation, entrepreneurship, and indeed other—so in some misguided way, they believe strategic leadership. that lessons from other projects may not apply. But a more strategic leader would say that a seemingly unique project to build a long bridge or a complex railway is just one of many that we have experience with, either in total or “Long-term perform- with respect to key components. This means that we can, and indeed must, try to tap into ance can only be those past experiences. If not, you will simply achieved through repeat mistakes others already made that can be learning by failure. avoided. It is a fool who only learns from his Every mistake or own mistakes; you need to profit from other setback has a silver people’s mistakes also. lining.” But isn’t it preferable to avoid a mistake in the first place? With PPPs for large infrastructure In a complex PPP, you may encounter a coup projects, there is often d’etat leading to a government change, a natural so much at stake, there disaster that alters the course of a project, or the is no room for missteps. domino effect of an international financial col- lapse. Apart from trying to survive such shocks, It’s true that most books on decision- a key challenge also is to learn from them in making encourage you to focus narrowly on terms of better anticipating such events in the mistake avoidance, rather than provoking you future, or sharing lessons about how to recover to plan for the stream of decisions that you with colleagues. This is the essence of being a will face tomorrow. And I am not advocating learning organization as opposed to only a per- that a mega-project should be put at risk in formance organization. The aim is to get better its totality to learn. But smaller pieces could over time, and such long-term performance can often serve this purpose well, especially if new only be achieved through learning by failure. technologies or approaches are involved or you Every mistake or setback has a silver lining. But 22 • www.handshakejournal.org instead of hiding mistakes, organizations need to reward people to make hay when things go haywire, as counterintuitive as this may sound. “Whenever innovation is important, some Should people use the degree of error word “failure” when needs to be tol- talking about a project erated. Albert they learned from? Einstein put it We’ve all heard the phrase “Success has very well: ‘If you many fathers, but failure is an orphan.” In have never made a business, failure can seem like a dirty word. If mistake, you have it happens, no one wants to talk about it. Call- ing it an “outcome” is more neutral. After all, never tried any- whether you call it a success or failure is quite thing new.’” subjective and depends on your criteria. Do you define success on the basis of the decision process that was used, or the outcome? Does a bad outcome necessarily imply a mistake was made? And do all good outcomes always imply success, or could it just be dumb luck? We need to be sensitive to process. on your own. The latter You suggest ways to make route requires trusting a “deliberate” mistake to our intuition at times. More subtly, a create something better. deliberate mistake Why do this? can also be viewed as a hedge against Once you grant that mistakes can be portals conventional of discovery, then you may not want to leave wisdom, one that this valuable process up to chance but start to will have a high seed or even plan for it. A deliberate approach payoff precisely when to making mistakes seems crazy at first, but the majority view of smart people do it to accelerate learning and the crowd happens achieve higher performance. For those who to be wrong. deem the notion of a Brilliant Mistake to be an oxymoron, I would suggest that each of us Paul Schoemaker’s newest book has blinders on. The only escape is for others is Winning the Long Game: How to show us new pathways or for you to do it Strategic Leaders Shape the Future. World Bank Group • 23 takeaways Top from Brilliant Mistakes 24 • www.handshakejournal.org Fig: It is important to embrace the learning potential of mistakes—first, by overcoming the shame and fear that lead us to overlook the covert messages they carry about how we make decisions. Fig: To learn from a mistake, it’s critical to separate the decision process—the part that you own—from the outcomes, which are usually influenced by multiple factors. Fig: There is a difference between silly errors and brilliant mistakes, and it all hinges on the relative costs and benefits of what is at stake. Designing for, and learning from, a mistake can make it “brilliant.” Fig: In some cases, it’s advisable to allow room for mistakes to be made. Just as random mutations have advanced evolution, clever, well-designed mistakes can further human progress by opening new portals of discovery. Fig: In a world where random factors influence outcomes, we need to be sensitive to process. If you base success entirely on outcomes, you are rewarding good luck or punishing bad luck, as well as skill. Good companies do both. To fairly evaluate a team or plan, you have to look at both. World Bank Group • 25 Course corrections How small innovations make a big difference in waste sector PPPs Dan Hoornweg, University of Ontario Institute of Technology 26 • www.handshakejournal.org The adage “Where there’s muck, there’s money” rings ever truer as global municipal solid waste management budgets approach about $375 billion per year. Bringing PPP initiatives into the waste sector has the potential to introduce significant efficiency gains, but requires creative thinking to safeguard the desired outcomes. These examples show how mid-course corrections are critical to an iterative learning process. T he waste management sector usually industry is one of the most challenging places provides one of the most obvious for a PPP to operate. In the U.S., for example, entry points for PPPs in any country. the sector’s origins land it in the earliest days But easy answers are usually illusory. of organized crime. These aren’t just myths; a Cities tend to follow a hierarchy of sustainabil- few years ago, sales of mozzarella cheese were ity (similar to the waste management hierarchy: curtailed in southern Italy when dioxins were reduce, reuse, recycle). Any city, or country, try- found, apparently having made their way into ing to increase its sustainability will need to first the cheese from improperly disposed waste properly collect and dispose of its waste. The by the mafia. And cities in several developing way the private sector is involved in this effort, countries are known to have “phantom employ- with mutual ees” among respect, their waste efficiency, and workers. hopefully a But good measure When a $100,000 truck when PPP of humility sits idle as a driver spends players are and honesty, minutes to retrieve a bottle committed is one of the to results, most powerful or two worth 10 cents, no the past is indicators of one can deny a flaw in the not prologue. a city’s overall process. Here are sustainability. some exam- Bringing ples of situ- the private ations in the sector and new efficiencies into the waste busi- waste industry that seemed ripe for failure—but ness can work if the players are prepared and which were ultimately saved by creative think- combine innovation and iterative learning— ing. Applying this spirit of innovation to other because despite the potential efficiency gains PPP scenarios may inspire those whose projects and financial savings, the waste management are balancing tenuously on the tightrope. World Bank Group • 27 Guelph, Canada In 1987, the Canadian city of Guelph deposit. These deposits in turn funded launched one of the first curbside recycling all the drinks and snacks at the local store programs (the first one in North America during drivers’ breaks. When a $100,000 started next door in Kitchener, Ontario). truck sits idle as a driver spends minutes The program started off positively with to retrieve a bottle or two worth 10 cents, new privately operated trucks and drivers no one can deny a flaw in the process. for recycling. There was even a declared But there’s always room for innovation, peace between the local union (public- and in this case, a small increase in driver sector garbage truck drivers) and the wages in exchange for promises to forgo non-unionized recycling truck drivers. the deposits solved the problem. This But the time it took to collect the recycla- exemplifies a particularly creative approach bles was more than projected because to problem-solving. Knowing all of the recycling truck operators would spend dimensions of a scenario—in this case, the precious minutes sorting through the trash habits and backgrounds of the drivers— to find beverage containers that listed a fed into the resolution. 28 • www.handshakejournal.org Bermuda East asian metropolis Another near-failure, this time in A World Bank Group solid waste Bermuda’s waste management system, project was designed for an important threatened to tank a PPP in the early East Asian city in 1998. Learning from 1990s—and this one, too, rested on past mistakes, and recognizing the drivers’ judgments. When new heuristic potential savings PPPs could bring, the routing plans were developed to make project included the clever idea of leas- waste collection more efficient, incen- ing out collection vehicles. This would tives were provided to the drivers and hopefully help develop local waste crews: for example, they could finish for management companies; efficiency the day when their route was complete. gains over city owned and operated It made sense in theory, yet there trucks were virtually guaranteed. The was incredible reluctance to the pro- city’s Director of Waste Management, posed changes, and efficiency stalled. rumored to be corrupt, was eventually The new and naïve waste manager was (finally) convinced to try the idea of flummoxed, but a few weeks later one leasing a few trucks as a pilot. of the more helpful drivers took pity on For a while, the project went well. the fresh expat and confided the truth. All the trucks were leased and small Turns out the crews hated the new and new companies flourished. Turned out improved routing as the changes might though, the relatively young companies interfere with potential Christmas tips were largely owned by friends and family from serviced residents. of the Director of Waste Management. Once the facts were known, work- A subsequent revision to the program ing with drivers—developing existing required previous waste experience for relationships with an increased level potential truck lessees. Local businesses of trust—resolved the issue. A “driver and the Rotary Club were brought in representative” was established, and to provide business advice and offer tips were shared. outside perspective on the review. Adjusting the route Potentially disastrous developments that threaten to derail the course of a PPP are not limited to one sector or one region. Mistakes—and mistaken assumptions—plague partnerships everywhere. These potential problems can be reduced by paying attention to the impacts on all the employees (formal and non-formal), being aware of who shares in the efficiency gains, and ensuring that an iterative process is possible. Learning by doing guarantees the road will be bumpy. Learning successfully happens when you know how to adjust the route—and when players have the humility, and ability, to make the necessary changes. World Bank Group • 29 In 2006 the government of New South Wales procured a $3.6 billion rolling stock PPP to build and maintain new trains for metropolitan Sydney—the largest PPP in Australia at the time. Shortly after signing, the Reliance Rail PPP won CFO Magazine’s Structured Finance Transaction of the Year award. But it didn’t take long for things to start going wrong. BEHIND THE PPP EVIVING RELIANCE RAIL Michael Schur, Castalia Strategic Advisors 30 • www.handshakejournal.org World Bank Group • 31 delivered over a year late. This resulted in large losses for Reliance Rail and the contractors. In addition, the global financial crisis had a sig- nificant impact on Reliance Rail’s financing, especially given the project’s high leverage. The insurers were wiped out, which affected the project’s credit rating; by 2012 the debt had non-investment, or junk, status. The global financial crisis also led to a rapid in- crease in bank loan margins. As a result, financing Re- liance Rail’s drawdown facility—established pre-crisis with low margins—would have meant the banks would have lost money. The banks saw an opportu- nity to withdraw the facility in what they considered to be Reliance Rail’s insolvency, on the basis that it What Went Wrong wouldn’t be able to repay or refinance its debt when it became due in 2018. This would deter the directors Initially problems arose with the design and of Reliance Rail from drawing down the debt as they manufacture of the trains. In particular, during the could be held personally liable for any debts incurred design development stage, the independent certifier while the company was insolvent. Instead, the banks was not certifying the contractor’s completion of wanted the government to guarantee the $357 million tasks. As a result, by 2011, the first trains were being senior debt or take over financing the debt itself. The Project The bid was won by the Reliance Rail consor- Reliance Rail was responsible for the design, tium—Downer EDI, AMP Capital Investors, manufacture, testing, and commissioning of ABN AMRO (later taken over by Royal Bank 78 new trains for metropolitan Sydney; new of Scotland Group), and Babcock and Brown train simulators for the training of drivers and Partnerships (later taken over by International guards; development of a new maintenance Public Partnerships). The rolling stock contrac- facility for up to 1,000 rail cars; and the main- tors included EDI Rail and Hitachi. 32 • www.handshakejournal.org tenance of trains, facilities, and simulators. The Solution designed to ensure there would be enough equity to refinance the debt in 2018, so that Reliance Rail’s sol- The New South Wales Treasury was concerned vency could not be in dispute and Reliance Rail could that this risk around the bank debt funding could un- draw down the $357 million of senior debt without ravel the whole PPP structure, forcing state govern- delay. In return for the deferred equity, the govern- ment to take the $357 million in bank debt onto its ment obtained a call option to acquire the entire eq- balance sheet. At the same time, Treasury understood uity of the consortium for a nominal sum. that if this risk could be dealt with, the trains would This solution maintained the structure of the be operational by 2018 and Reliance Rail would have PPP and forced Reliance Rail to address its man- regular cash flows from which to service its debt agement and manufacturing issues. Following the when it actually became due. deferred equity arrangement, many of the practical Treasury’s task was to find a solution while main- problems with manufacturing the trains were re- taining the risk allocation and structure of the PPP— solved, and delivery rates began to improve. The final and holding Reliance Rail accountable for delivering, trains were delivered in 2014. As a result, the project operating, and maintaining the trains. will be able to generate a reliable payment stream go- Instead of conceding to the banks and providing ing forward, from which it can service its debt and a guarantee, the New South Wales Government pro- deliver double-digit returns. This means the govern- vided deferred equity of $175 million over six years ment should have no difficulty in selling its deferred (due in 2018), conditional, among other things, on equity in Reliance Rail in 2018, potentially at a profit, the delivery of the rest of the trains. This plan was without ever having to provide the $175 million. The contract term was for 30 years after the The finance was highly leveraged, with $2.2 scheduled delivery date of the 69th train. At billion provided by debt and only $137 million, the end of this period the trains and mainte- or six percent, in equity. Most of the debt was nance facility were to be decommissioned or in the form of bonds held by offshore investors, handed over to the government. In return, although $357 million was a senior secured Reliance Rail was to receive specified milestone bank facility. Reliance Rail did not draw down payments during the delivery phase of the proj- this bank debt upfront. Two monoline insurers ect and performance-based monthly payments provided credit wraps that effectively guaranteed throughout the rest of the project. the bond debt and resulted in a AAA rating. World Bank Group • 33 LESSONS 34 • www.handshakejournal.org Financial trouble a PPP. Establishing the right incentives and the right risk allocation should be of primary importance. In does not have to practice, this means that PPP contractual structures result in the collapse should require just enough equity commitment and debt risk to ensure that the private sector operator is of the PPP fully incentivized, and a debt structure that spreads the cost over the life of the asset in line with utiliza- While in the thick of dealing with the looming tion. disaster of an insolvent PPP, it can be hard to envision With this mindset it is clear that PPP financing any situation where the PPP doesn’t collapse. Indeed, does not have to be all private. Indeed, the Treasury’s at the peak of Reliance Rail’s financial trouble, the solution substituted public finance for private finance media predicted the complete collapse of the project, without any change to the private sector’s incentives a massive bailout by taxpayers, and delays in deliv- or the risk allocation of the Reliance Rail PPP. Over- ery of the trains of at least five years. Fortunately, the all, if cleverly structured, public intervention does not have to result in any loss in the benefits of the PPP government heeded the Treasury’s advice to look for structure. solutions that held the PPP together. Of course the experience of the New South In the end, by addressing the cause of the prob- Wales Treasury was not unique, and other govern- lem itself—the lack of confidence in Reliance Rail’s ments have come to similar conclusions about public ability to refinance its debt in 2018—instead of bail- sector contributions to PPP finance. For example, the ing out the entire PPP, the government managed to UK government has announced its intention to act salvage the project. In doing so, it enforced the origi- as a minority equity holder in future PPPs, and to nal financing terms and ended up potentially making encourage the use of a wider range of long-term debt a profit. financing sources for PPPs, including public and pri- vate bonds. Financing should The government of the Australian state of Victo- ria is considering taking similar steps to improve PPP follow rather financing. These include allowing government capital than lead when contributions where there are liquidity constraints or where there are opportunities to reduce project costs, structuring a PPP and giving the government a preemptive right to pur- chase debt if sold in the secondary markets, together With hindsight, it is easy to see that many pre- with a right to replace a financier in defined circum- global financial crisis PPPs—including Reliance stances. Rail—were overly focused on financial engineering, The author was NSW Treasury Deputy Secretary (Head: particularly through the use of monoline insurers. Office of Infrastructure Management) when the transac- This was because PPPs were primarily seen from the tion was first negotiated and financial close reached, and perspective of harnessing private finance, rather than Treasury Secretary when it became obvious that there was a looming risk around the refinancing due in 2018. While Treasury from the perspective of getting the incentives right. pre-emptively developed various options at this time, the final solution The Reliance Rail experience shows that financ- was only developed after the author had left the Treasury in March ing should follow rather than lead when structuring 2011. World Bank Group • 35 p Protecting Your ppp Stabilizing partnerships in uncertain times Waleed Youssef, Saudi Oger Limited 36 • www.handshakejournal.org Uncertainty is inherent in developing and operating complex infrastructure and services projects, and it is for this very reason that govern- ment officials seek public-private partnership (PPP) partners to mitigate the most complex of risks. Yet legal and regulatory frameworks, in place for legitimate reasons (especially in emerg- ing markets), often dampen the private sector’s ability to address in an optimal manner the challenges that can and often do arise during the term of a concession. It is important to distinguish between projects that exceed expectations—and therefore generate greater than expected financial returns to both parties, yet require additional, unan- World Bank Group • 37 ticipated capital investments—and struggling tedious public budgeting process. Very often projects where there is an urge by the developer concession agreements focus on what to do to reduce ongoing investment and maintenance. when things go wrong, but not how to continue to meet demand when things go well, especially “Successful PPPs are toward the end of the concession term. all alike…” A good example is the case of TAV Airports, which realized much higher than To paraphrase Tolstoy, successful PPPs are expected passenger traffic and recently commit- all alike, but every unsuccessful PPP is unsuc- ted to invest $75 million to expand the interna- cessful in its own way. Successful projects are tional terminal and car park at Istanbul Ataturk easier to manage owing to positive cash flows, Airport six years before the end of its concession and could additionally incorporate an obliga- term—even though the replacement airport for tion by the developer to increase its investment Istanbul is scheduled to open before the end according to certain capacity-related triggers on of its concession period. The Government of the basis of floor and ceiling for project returns. Turkey also co-invested in taxiways and aircraft This could also be supplemented by sponsor stands. In this case, it was more economically commitments to co-investment or to extend and financially advantageous to sustain traffic growth at Istanbul and its role as an international hub. Struggling projects are of course more complicated to deal with. Failures are often To paraphrase Tolstoy, successful PPPs complex in nature and, basi- are all alike, but every unsuccessful cally, attributable to the inabil- PPP is unsuccessful in its own way. ity of both the grantor and sponsor to adequately evaluate project risks, especially when those risks are related to the enabling environment or public practices. In this case, the concession terms based on minimum and in order to avoid service disruptions and returns, as well as a sponsor sinking fund to political criticism, grantors and lenders are more ensure independence from the uncertain and inclined to work with sponsors to provide some 38 • www.handshakejournal.org relief despite the standard provisions for step-in In the case of struggling projects operated rights and termination. by poorly performing developers, working with lenders to replace the operator (even by a man- When the PPP agement contract) may prove to be the better Promise fades course of action. In the case of struggling projects where the perfor- mance of the developer is sat- isfactory despite adverse effects that are beyond the control Very often concession agreements of both parties, sponsors may focus on what to do when things go consider providing relief in the wrong, but not how to continue to form of temporarily reducing meet demand when things go well, or suspending the concession fee while continuing to sustain especially toward the end of the the balance of risk. The spon- concession term. sor may subsequently recover its suspended revenues in the form of higher concession fees or with interest when cond- itions improve. In all cases, strict safeguards should be While this approach imposes a steep fiscal incorporated into the concession agreement to burden on the government, especially when ensure that the developer—especially toward external adverse impacts also affect it (such as the end of the concession term—continues to a currency crisis), it cannot be avoided for criti- provide adequate preventative maintenance to cal projects that require business continuity and PPP assets soon to be transferred to the sponsor. where the sponsor’s operational performance is More attention should be given to the totality satisfactory. It is important to incorporate at the of the developer’s obligations toward the end outset such safeguards in the concession agree- of the concession term. With the safeguards ment to ensure that relief is delivered without that this level of attention brings, PPPs face less delay while preserving transparency and avoid- uncertainty, greater robustness, and increased ing corrupt practices. chances of success. World Bank Group • 39 All 40 • www.handshakejournal.org Barcelona’s innovative urban PPP credits success to its working relationships with politicians World Bank Group • 41 PPP in Barcelona aimed to reinvigorate the city, strategically building a vibrant urban center to attract businesses as well as creative institutions. The ambitious goal—to guarantee a sound economy, pleasant surroundings, and a sustainable environment for decades to come, satisfying visitors as well as residents—had never been undertaken at this scale. Public and private cooperation made it possible, proving that even for the most innovative PPPs, old-fashioned political relationships are as important as ever. 42 • www.handshakejournal.org In this interview, Barcelona Global CEO Mateu Hernandez teases out the nuances of working with politicians on a PPP and advises Handshake readers how a push for transparency can lead to innovation. World Bank Group • 43 Urban PPPs like Barcelona Global may have closer interaction with local politicians than other PPPs. How do you balance the relationship with elected officials alongside the needs of the other stakeholders? There is always a need for a strong sense of independence from politicians when the private sector goes into public-private strategic planning. Private sector leaders should be aware from the start that being independent from policies and politics is essential for the success of the process. Some of the issues the private sector might propose might not be “politically correct” for the governing party, and politicians then use their influence interrupt the pro- cess. The government and the opposition parties will all try to bend the process their way, either to legitimize their policies or to try to erode the governing party. That is why it is so important to create clear rules for interaction and seek broad political agreement before the PPP launches. It is also important to foster meetings between the private leaders of the process and the opposition to the government. How would you advise others on how to meet the needs of politicians while achieving the best results for a PPP? In a public-private partnership, politicians are typically seeking a kind of legitimacy—he or she wants to be perceived as an open and collaborative political leader. This desire for openness can have a positive outcome when the public officials provide total autonomy to the group formed by the private sector. When this happens, we see innovation. It often enables a new and interesting strategic planning process in which the private sector plays a key role defining key objectives and concrete programs. This process can also paves the way for key private commitments when implementing the strategic plan. 44 • www.handshakejournal.org [Politicians’] desire for openness can have a positive outcome when the public officials provide total autonomy to the group formed by the private sector. When this happens, we see innovation. Where have you seen relationships with politicians go wrong in a PPP? I’ve seen three broad categories of mistakes when dealing with elected officials: When the call for collaboration on strategic planning is mainly a political movement or an image campaign for the politicians, the collaboration is not genuine, and the private sector should avoid it. The best way to know when a call for collaboration on defining a strategic plan for a wider objective or a sector is legitimate is to ask for some rules to follow, including: no public interference; full ability to nominate who is going to assist and partici- pate in the process; whether or not technical assistance is required; the go-ahead to hire for this function independently; and the ability to maintain top-level coordination. If these needs are met, the coordination should be kept active through regular formal and informal meetings, which build a deeper personal relationship. If the process of public private strategic planning is built as it should, avoiding the first mistake, a second kind of mistake happens when the private sector tries to mimic the role of the public sector, or of politicians. Political skills are unique to politicians. Private sector leaders involved in a strategic consultation should use the skills that made them successful: remaining focused on concrete goals and actions, business-oriented, and factual. Another mistake to avoid is regarding implementation. Some strategic processes led by private stakeholders might fail when going into implementation. Many strategic processes have failed when not committing themselves fully to the implementation process. Private sector players have to be committed when asked to design strategies and especially when suggesting actions to develop. World Bank Group • 45 46 • www.handshakejournal.org How have the public and private partners of Barcelona Global divided their roles to play to their strengths while remaining committed to the PPP? Barcelona Global is the child of the marriage between public and private partners who deeply believed in the value of strategic planning for Barcelona. Once the planning stage concluded, private leaders understood that they needed to create an independent body to monitor the implementation of the plan and make some of the strategic issues happen. The private sector decided to fund and participate a more action-based agenda, which they thought of it as a platform of commitment with the city and its future. This platform enables private individuals to work to make Barcelona one of the best cities in the world, which translates into attracting talent and developing economic activity. They commit time, contacts, and institutional resources. How did your past experience managing PPPs inform this strategy? My past experience on public private strategy—including per- spective born of lessons learned the hard way—showed me that there is a need for private sector institutions to be responsible for certain projects. If the private sector involvement devolves to individuals or individual organizations, there are many chances that the process won’t move forward. The involvement of pri- vate institutions—fully privately funded and staffed by profes- sionals—is a precondition for success when the private sector is asked to contribute to strategic planning in the public sphere. World Bank Group • 47 Inside infrastructure Powering Rural Africa John Kjorstad John Kjorstad is Global Services Infrastructure Hub Leader at KPMG, where he supports the partners of KPMG’s Global Infrastructure Leadership Team. He is the former editor of Infrastructure Journal. I n development, the term “end of the constrained by its lack of access to reliable line” conjures images of remote places power. Ikelenge is situated 240 miles from with spotty access to basic services. But the national grid operated by the Zambia hundreds of millions of people around the Electricity Supply Corporation (ZESCO). world—people who live beyond the “end Knowing there was little hope of quickly of the line”—wish they could be so lucky. extending the grid, Rea and his partners According to the United Nations, 1.2 focused their efforts on the nearby Zambezi billion people live without electricity, 783 River, which runs 1,600 miles from Zambian million people do not have access to clean wetlands to the Indian Ocean. The river’s water, and almost 2.5 billion do not have course begins not far from Ikelenge near the adequate sanitation. For marginalized popu- borders of Angola, the Democratic Republic lations beyond that last mile of essential pub- of the Congo, and Zambia. With this renew- lic services, life without basic infrastructure able resource, Rea saw an opportunity to is more than a constraint on their standard provide clean and reliable local generation; of living; it’s a social and economic yoke that enough to independently power not only the impedes progress and creates a cycle of pov- hospital, but the whole community and its erty and outward migration. In 2004, former surrounding area as well. KPMG infrastructure professional Daniel Rea recognized this problem in a rural corner of From idea to northwestern Zambia. At the Kalene Mission Hospital in Ike- innovation lenge, a visionary surgeon named Dr. Gill saw Dr. Gill, the surgeon, formed a team that the hospital’s standard of care was badly with Rea and his uncle (both engineers), to 48 • www.handshakejournal.org develop a run-of-river hydroelectric scheme although they had no specific hydropower expertise and no capital. Three years later, in 2007, after heavily leveraging personal net- Energy really is the works and raising more than $2 million from charitable organizations and private individu- foundation for everything als, the 750 kilowatt run-of-river Zengamina in an economy, and rural hydro project became operational 35 miles from the Zambezi River’s source. Incredibly, electrification is a long- the project was constructed by local villagers term challenge on the under the guidance of remote international experts at a high global standard and a frac- African continent. In rural tion of what it would have cost using interna- tional contractors. Zambia, only about 3 The project successfully powers the percent of rural people Kalene Mission Hospital and has also removed the wider community’s dependence on expen- have access to a steady sive diesel fuel generators. The impact of source of power. Zengamina’s power extends to local schools, where grades and attendance are improving. It has enabled local businesses to grow and prosper, creating a more dynamic economy and raising the standard of living in the area. It has also successfully transferred professional skills from international experts to locals who rural economies to develop and thrive, now operate and maintain the generating making the long-term finances of American facility and related transmission infrastructure. power cooperatives more sustainable. Today, Zengamina’s independent grid covers 19 miles and serves roughly 400 residential But can it be customers and 20 non-residential users. However, success does not come without replicated? new challenges. Rural electrification requires Rea believes such transformation is pos- a subsidy for its development and early years sible in Ikelenge, but the wide-scale produc- of operation. For example, the United States tive use of Zengamina’s power has thus far prioritized rural electrification nearly a cen- been slow to materialize. People want to be tury ago, with Congress legislating financial connected, but the economics are challeng- support to local cooperatives in 1935; govern- ing even when subsidized. The project has a ment provided access to cheap federal loans popular social fixed-tariff for villagers of only to support expansion of the country’s power $8 a month, and a less popular commercial generation and transmission infrastructure. tariff, so overall it operates at a loss. Only 40 Over time, access to cheap power allowed percent of the generating capacity is being World Bank Group • 49 used at peak periods, and only 10 percent plans to expand Zambia’s national grid to over 24 hours. within 60 miles of Zengamina’s reach. If that Rea regrets not working with a partner, happens and the final gap miles are covered such as a non-governmental organization, as well, the project could potentially sell its during the project’s initial development, which excess power into the national grid—vastly would have established more productive uses improving the economics. and users of power in parallel. As a result, Energy really is the foundation for every- he has become his own customer and set up thing in an economy, and rural electrification a pineapple processing factory and a stone is a long-term challenge on the African con- tinent. Rea says only about 3 percent of rural Zambians have access to a steady source of power. He is often asked: “How can Zengam- ina’s successful development be replicated in other places?” The 750 kilowatt run-of- The short answer is that it cannot. Every infrastructure project is a unique product of river Zengamina hydro local circumstances and highly dependent on project was constructed its surroundings (physical and political), as well as the capacity and drive of local individuals by local villagers under seeking to create change. Zengamina can- the guidance of remote not simply be cast and replicated. However, Rea’s story of innovation can be repeated international experts at anywhere, and it should inspire others to look more closely at their own circumstances and a high global standard determine what options are available to them. and a fraction of what it Even without money or specific techni- cal expertise, Rea has proven that success is would have cost using achievable. The journey is not yet complete, international contractors. but he and his partners have every right to be proud of what they’ve accomplished so far. This community developed project has trig- gered the remote local area to be classified as a Government District. Rea has reported most recently that contracts have been awarded for crushing and concrete block business to buy a large new secondary boarding school, new some of the excess capacity. district hospital, new council administration Rea’s long-term ambition is to make block, court, police station, and post office. the Zengamina project profitable and see In addition, many houses and a water system it expand. The scheme can be scaled up to is planned. The tide has turned. 2.4MW with a cascading system, and other infrastructure improvements in the area could For more information, please contact Daniel help drive demand. Additionally, ZESCO has Rea (dan.t.rea@gmail.com). 50 • www.handshakejournal.org The Zenzaminga hydro project aims to replace the current use of generators burning diesel to produce electricity. Benefits include: Immediate benefits Long-term benefits • Removal of diesel-generated • Development of SMEs and power with its attendant high increased employment in a costs, unreliability, and associ- region where unemployment ated air and noise pollution. is approximately 80 percent. • 24-hour power to five hospitals/ Specifically, this project will schools/services that currently supply cheap, sustainable use diesel generators. power, enabling a viable pineapple canning enterprise • Power delivery to over 1000 to be reintroduced. rural towns and schools that have never had electricity. • Decreased economic depen- dence on expatriate income. • Employment for local Zambians. • Kalene Mission Hospital • Increase in attractiveness of local development. professional jobs, especially in hospitals and schools. • Power availability for drinking water and sanitation systems, • Improved living and working leading to improved health and conditions for hospital staff educational opportunities for the and teachers. local population. • Introduction of better medical and support equipment because of continuous electricity sup- ply, improving health care for patients. • Power for computers and related equipment to enable updating of the hospital’s infrastructure, along with that of six schools. World Bank Group • 51 8 one question experts 52 • www.handshakejournal.org Some PPPs fail. That’s a fact. But when the lessons these failures impart are integrated into future projects, missteps have the potential to innovate—energizing the learning cycle and setting the stage for long-term success. To gain a better understanding of how innovation in PPPs builds on genuine learning, Handshake reached out to PPP infra- structure experts around the world, posing the same ques- tion to each. Their honest answers redefine what works— and provide new insights into the PPP process. How can mistakes be absorbed into the learning process, and when can failure function as a step toward a PPP’s long-term success? World Bank Group • 53 For centuries, PPPs have been used by Isabel Rial governments as an alternative to traditional International Monetary Fund public procurement for the provision of public infrastructure, although results have been Isabel Rial is a senior economist of the Expenditure Policy Division in the Fiscal mixed. If properly managed, PPPs can deliver Affairs Department of the International substantial benefits in terms of mobilizing pri- Monetary Fund. She works on a range of vate financial resources and know-how, promot- cross country fiscal policy issues, focusing ing efficient use of public funds, and improving on public-private partnerships, fiscal risks service quality. Yet in practice, PPPs have not management, and fiscal rules. always performed better than traditional public provision of infrastructure. The reasons for this vary across countries. In many countries, infrastructure proj- ects have been procured as PPPs not for efficiency reasons, but to circum- vent budget constraints and postpone recording the fiscal costs of providing infra- structure services. Due to inadequate budget- ing and accounting of PPPs, they can seem much more affordable, encouraging gov- ernments under short-term pres- sure to reduce their deficit or debt to use PPPs—even if, in the long run, they could cost more than public procure- ment. This has led some governments to go forward with low-quality and fiscally costly projects that would 54 • www.handshakejournal.org otherwise have been excluded from their public • Governments can develop strong fiscal insti- investment plans. tutions to manage PPPs. It is essential that In some cases, PPPs have also resulted in the Ministry of Finance manages a “gateway large fiscal costs due to bad contract design and process” for PPPs that gives it sufficient the realization of contracted risks, such as those control at each stage of the process. At any associated with revenue guarantees. Therefore, point in the process, the Ministry of Finance if not properly managed, fiscal risks from PPPs should be able to stop projects that are can potentially have significant macroeconomic fiscally unaffordable. A dedicated PPP unit, implications. They can potentially undermine with specialized and capable staff, can be efforts toward fiscal discipline by moving spend- helpful in managing this process. The Minis- ing off-budget, creating firm and contingent try of Finance can also consider establishing liabilities for government. ceilings on both the stocks and flows of PPPs International experience shows that there to help control fiscal risks. are many factors underpinning the so-called • Governments can ensure a sound legal “failure to deliver” in PPP projects. This can framework to manage public investment in include a weak monitoring and controlling general and PPPs in particular. This should capacity of PPPs across the public sector, but involve a clear, fair, and predictable legal particularly in Ministries of Finance (or bud- environment for the private sector. The legal getary authorities). Second, a lack of integra- framework should also clarify the roles and tion of PPP projects into the budget process, responsibilities of all relevant counterparts in medium-term fiscal frameworks, and debt PPP transactions. sustainability analysis (given that PPPs are typi- • Governments can also implement good bud- cally off-budget) is to blame. And third, a lack geting, fiscal accounting, and reporting for of transparency in fiscal reporting practices and PPPs aimed at achieving full and transparent quantification of fiscal risks can be at fault. disclosure of all future budgetary costs and Yet governments can manage fiscal risks fiscal risks from PPPs. The impact of PPPs arising from PPPs to ensure that the potential on future government spending should be benefits from PPPs are realized without weaken- incorporated in the debt sustainability analy- ing public finances or jeopardizing macroeco- sis and medium-term budgetary frameworks. nomic stability. Here are some ways to do that: The use of commitment appropriations • Governments can pursue only “good in the budgetary process, which authorize projects” by having sound project planning, governments to commit public resources for evaluation, and selection. There should be future years, can also be helpful in drawing a clear investment strategy to select public attention to the future costs of PPPs. investment projects on the basis of national PPPs can be effective in delivering public priorities and cost-benefit analysis. Once infrastructure under certain conditions, but a project is selected, the next step should they also entail fiscal risks. These are manage- be to determine whether procuring it as a able when officials pay close attention to models PPP provides greater efficiency than public that have worked for other countries and tailor procurement. their approach accordingly. World Bank Group • 55 prerequisite for the learning process, particu- larly given the complexity and long duration of PPP arrangements: the establishment of institutional arrangements that provide stable, professional, and fully dedicated teams of experts within the structures of the public sector. A central PPP unit—ideally located in the Ministry of Finance—should par- ticipate in all stages of a project lifecycle, from structuring to contract management, allowing continuous feedback and dialogue between contract management and public teams. In such an environment, the role of external advisors has to be carefully planned, as they provide key skills along the project life- cycle, but must not substitute those tasks where knowledge must be developed, stored, and used by the public sector. In microeconomic terms, there are several key stages where public sector teams can extract valuable lessons from every project developed. Fernando Crespo Diu During project planning, infrastructure needs UTAP across sectors must be duly appraised, ranked, and analyzed within the framework given by Fernando Crespo Diu has been the Director the long run fiscal policy objectives. During of UTAP, the Portuguese PPP unit, since its project definition and structuring, a clear and creation in 2012. UTAP leads the appraisal, structuring and tendering of PPP projects, detailed risk matrix must support the analysis oversees and provides technical support of risks transferred to the private partners and to line ministries in contract management risks retained by the public sector, and must activities, supervises and reports on behalf include as well a set of mitigation strategies for of the Ministry of Finance the financial and the latter. During contract management, an fiscal performance of PPP contracts, and adequate enforcement of the contractual dispo- ensures the development of public sector sitions must be performed in a stable business know-how. environment. Taken together, this virtually eliminates Although not a desirable outcome, failure the probability of unilateral decisions by the is always the first step of the learning process public sector—thus maximizing predictability toward more successful projects, in terms of and minimizing the probability of contingent implementation, value for money, and financial liabilities and the unexpected costs that damage and fiscal sustainability. There is an enabling a PPP’s value for money. 56 • www.handshakejournal.org designing, and implementing a PPP. Few gov- David Bloomgarden ernments—and especially those of developing Inter-American Development Bank economies—can afford failure in the delivery of critical infrastructure and services given the David Bloomgarden is Chief of the Basic scarce resources and enormous human needs. Services and Green Growth unit of the Multi- To successfully launch PPP infrastructure lateral Investment Fund of the Inter-American projects, governments must develop a complete Development Bank. He manages an annual picture of the risks that flow from the scope $25 million technical assistance fund for and requirements of a project. This process early stage PPP support, climate change and begins with identifying risk for all phases of the adaptation/resilience programs, and private project, from the earliest preparation stage to sector provision of basic services for the poor management of the PPP contract. This iden- in underserved areas of Latin America and tification should list the nature of the risk, its the Caribbean. probability of occurring, its expected impact on the project, and measures proposed to mitigate U.S. General George S. Patton famously it. said, “Take calculated risks. That is quite Once a government has a good picture different from being rash.” This of the risk, it must allocate it. Risk cannot be quote summarizes how made to disappear; the principle is to countries should absorb allocate it to the party best able risks into the learning to control its occurrence or process of a PPP manage its consequences program. Govern- and assess the likelihood ments know of its occurrence. The that complex risk of a PPP can be projects never allocated to either go exactly as the government or planned. PPPs the PPP contractor are among the or shared between most complex them. The PPP of all infrastruc- contract allocates this ture projects, risk and includes risk because they mitigation measures as involve multiple needed. Governments can stakeholders in the also manage risk by using public and private sectors experienced advisors. and tend to be used to pro- This exercise of risk allocation cure large infrastructure. Starting is the most important step a govern- a new PPP program requires that governments ment can take to avoid failure in the delivery learn to master the regulatory, institutional, of critical infrastructure. This does not mean a and technical challenges involved in planning, government can avoid mistakes or that there is World Bank Group • 57 a way to avoid a learning curve; it means that what success and failure look like in infrastruc- a government is taking a calculated risk. By ture PPPs. Mistakes have been, do, and will carefully identifying and allocating risk, govern- continue to be made when using PPPs. It is ments will climb the PPP learning curve faster. not perfect—nor is its application—but what The result will be a PPP program that delivers in life is? value for money in terms of the efficient use of There are so many horror stories around resources, transparency, and intended social and non-PPP construction cost overruns, delays in economic results. completion, poorly specified contracts, weak tender management, corruption, failure to run transparent competitive processes, lack of project readiness, significant post-contract variations, and sporadic asset maintenance and management. PPPs eliminate many of the above structural weaknesses, which rightfully earns it its place as a challenging but effective procurement approach. The chief criticisms of PPP—that it takes longer to procure and is less flexible than conventional procurement—have some validity. Getting price certainty does take time and requires clear contractual risk allocation through the life of the contract. I’ve also seen PPP blamed for delivering services and facilities that are over-specified/not needed/unaffordable. Rarely is this the fault of one party—private or public—alone. It simply underlines the critical importance of how the private sector and public sector agencies work together to make sure the PPP is sustainable in terms of its financials and the needs it is Richard Abadie addressing. PricewaterhouseCoopers I’ve seen some questionable risk allocation to the private sector through badly structured Richard Abadie leads PwC’s global infrastruc- PPPs, including: ture group, which provides services across the • Major planning and approvals; capital projects lifecycle. His area of expertise • Land expropriation and resettlement of is infrastructure policy and financing. people; • Technology at risk of rapid obsolescence; Having worked in the infrastructure sector • Speculative demand; and for nearly 20 years, I’ve had time to reflect on • Regulatory change. 58 • www.handshakejournal.org These risks should be retained by the public failure because it would affect a large number sector and managed accordingly. of users for which the government would be At the end of the day, a PPP is only one of accountable. several tools to deliver infrastructure-backed India happens to be the largest labora- services, and “A tool is only as good as the per- tory of PPP projects and offers a plethora of son using it,” as the saying goes. Used properly, evidence. While most projects have succeeded, PPPs can deliver great outcomes. Continu- some have faced failure mainly because they ous learning about PPP application through were encumbered by lack of conceptual clarity codification, training, knowledge and practical in policy formulation as well as contractual experience sharing, and best practice applica- framework. tion are critical components of successful PPPs. Many assert that all future events cannot be Industry focus should be on improving the user predicted and a PPP contract must, therefore, rather than improving the tool. be regarded as incomplete. They need to be reminded that if man could succeed in sending a satellite to space and operate it for several years GAJENDRA without any ability to HALDEA modify it, why can’t this Government of be done while launch- Rajasthan ing an infrastructure project? The key lies in Gajendra Haldea rigorous preparatory is Advisor (PPP & action. Regrettably, Infrastructure) to the structuring of the Government of infrastructure projects Rajasthan and CEO, is often left to com- Bureau for Partnerships mercial consultants who in Rajasthan. He is the former Advisor to Deputy perform with insufficient Chairman and Principal incentives, besides lack of Advisor (Infrastructure) at the accountability, which in turn is Planning Commission of the Govern- compounded by inadequate capacity ment of India, as well as the author of several within the government. model PPP contracts, and the author of India’s While it may not be possible to predict Electricity Act 2003. His most recent book is future events, it is certainly possible to identify Infrastructure at Crossroads: The Challenges the various categories of events and state the of Governance (Oxford University Press). principles that would be followed in dealing with them. Moreover, a clear focus on out- It is a truism that infrastructure projects, comes, as distinct from input specifications, like much else in life, do not unfold exactly would allow the private entity to innovate for as planned. However, there is little room for improving efficiencies. This implies a fairly World Bank Group • 59 evolved contract based on prudence and at the national level where such lessons can be diligence, as governance by trial and error is an distilled and applied to the next project in that unacceptable proposition. jurisdiction. There are plenty of good examples It is important to recognize that whenever a of such programs that learn from and apply les- failure leads to renegotiation of a PPP contract, sons. But how are individual PPP projects able the users usually end up bearing the burden— to absorb mistakes and still meet the original either as rate payers or as taxpayers. Granting objectives of value for money for the users of favors to private entities beyond the terms of the services and the taxpayers who may ulti- their contract must, therefore, be avoided as far mately bear the risk of the project failing? as possible. It is impossible to predict the range of pos- The short answer is that it is possible to sible risks and to allocate these with precision formulate PPP contracts that over 20 to 25 years in a complex and neither fail nor need to be changing environment. As such, renegotiated. The challenge the key to achieving long-term lies in putting together value from a PPP does not the capacity and effort only lie in the quality necessary for achiev- of the feasibility and ing this objective. procurement phases, but also in how the balance of risk and rewards is established William and applied in the PPP contract so as Dachs to be able to survive Gautrain Management significant changes over a long period of time. Agency The lessons that have William Dachs is the been learned over the last 15 Chief Operating Officer years are that the flexibility to of the Gautrain Management amend contracts is very important Agency, charged with oversight of but so is the need to maintain public sec- a $3 billion urban rail PPP. He is the former tor oversight over that change process. This is Head of the Public-Private Partnership Unit at necessary so that the public benefit, or value for the South African National Treasury. money, is maintained and that the risk alloca- tion between the parties remains consistent The ability of a national PPP program with that approved as part of the original PPP to apply lessons learned from one project to contract. It’s also important for governments to the next is dependent on factors such as the permit PPP contracts to enter into liquidation documentation of case studies and the use of a without stepping into the contract and rescuing central repository of information in a PPP unit the shareholders. 60 • www.handshakejournal.org The “let the market work” approach public sector’s in-house capacity and expertise. applies market risk in a strong but fair man- These teams can live inside a department, such ner. The alternative is to renegotiate and rescue as a transportation office, or may be generalists the shareholders—and in so doing, creating a under a mayor or governor’s office. Examples of strong moral hazard that will ultimately prevent these types of PPP units can be found at both any lessons from being learned and applied. the state level, notably in Virginia, and at the city level in places like Los Angeles and Chi- cago. The Obama administration is also creating the Build America Transportation Investment Robert Puentes Center, a coordination unit at the U.S. Depart- Brookings Institution ment of Transportation that will help localities with innovative finance tools like PPPs. Robert Puentes is a senior fellow with the While the exact mission of each of these Brookings Institution’s Metropolitan Policy Program, where he also directs the program’s offices varies, PPP units have five distinct roles Metropolitan Infrastructure Initiative. The Initiative was established to address the pressing transportation and infrastructure challenges facing cities and suburbs in the United States and abroad. In the U.S., one of the best learning tools for places wishing to engage in PPPs for infrastructure has been past mistakes. From the parking meter deal in Chicago, to Virginia’s Pocahontas Parkway, and a handful of others, American cities and states pay close attention to one another and are loathe to repeat previ- ous problems. But going forward, institutionalizing such learnings requires a dedicated team. Indeed, assembling a group with the right mix of finance, legal, policy, and communications experience is critical to the success of any PPP project. Public sector agencies looking to procure a limited number of PPP projects or engaging in their first, often use outside advi- sors for most of these services. This can be a successful strategy as long as public sector deci- sion makers remain in control of the process. However, to truly embed learning, a dedicated PPP unit is necessary to increase the World Bank Group • 61 in the procurement process: policy formulation ment of solid legal frameworks and local capital and coordination, quality control, technical markets—we all know these are the building assistance, standardization, and promotion. blocks for the long-term success of any country’s By bringing this expertise in-house, states and PPP program. localities are able to develop both the formal Focusing on lessons learned from and informal processes that underpin smooth EBRD’s region, two current examples from transactions. Finance expertise in these units is Kazakhstan and Turkey come to mind. especially important, as it decreases transaction Kazakhstan is an oil-rich country with costs over time by cutting down on the need to an investment grade sovereign rating. While hire outside consultants and builds greater mar- user charges are generally low, it is possible to ket certainty for leading private sector partners. structure good quality PPP projects based on the government’s fiscal stance. A decade-long effort has been required to get to this point. The concession law, adopted first in July 2006 and Thomas Maier amended in 2008, was based on best practice in European Bank for Reconstruction and the West, but apart from localized small-scale Development PPPs, large-scale projects have not yet been developed. In our view, the key shortcomings Thomas Maier is the Managing Director have included a cumbersome procurement pro- for Infrastructure at the European Bank for cess; the lack of an availability payment scheme; Reconstruction and Development, oversee- ing EBRD’s operations in the Municipal and the impossibility of using international arbitra- Environmental Infrastructure and Transport tion; the unwillingness to ensure creditors’ sectors. He joined the EBRD as Senior Project step-in rights in case of default of the conces- Manager in August 1993 and later worked sionaire; and treatment of the foreign exchange as Senior Banker in the Romania, Moldova, risks. Croatia and Ukraine country team. In 1999 he Following a few failed tenders, EBRD moved to the Municipal and Environmental and IFC were engaged in 2013 to assist the Infrastructure team as Deputy Director and government to make the necessary changes in became Team Director in October 2001. the legislation. As a result, the law was fur- ther amended in July 2013 to allow basic yet For countries new to PPPs, there is no fundamental improvements: the introduction doubt a steep learning curve. Fortunately, of a two stage tendering and of the availability there is also a growing body of experience payment scheme as a measure of state support. that such countries can learn from—the key In July 2014, further amendments were made is to understand the essence of the lessons and to provide for step-in rights of creditors in case then incorporate these changes into the design of default of the concessionaire, enable inter- of government support for PPPs. Ultimately national arbitration, define/enable termination there is of course no substitute for good project payments upon cancellation of a concession preparation, local capacity, and the develop- agreement in certain cases, and enable foreign 62 • www.handshakejournal.org exchange fluctuation adjustments to the state loan in case of default, with a cap which varies support measures provided in local currency. each year. Another crucial step was to provide Following these last amendments, EBRD coverage of forex risk using an indexation and IFC have assisted the government to mechanism. In this case, the Ministry of Health develop the Almaty ring road PPP based on an agreed to a formula in the payment mechanism availability payment basis. The project, now of the hospitals PPPs that is triggered when under tender, has attracted a good level of bid- the Turkish lira devaluates at a higher rate than der participation. Given the high profile of the inflation. Finally, the Ministry provided a cap Central Asian region and beyond, this project on performance deductions within the PPP should also have a great demon- contracts that effectively creates a stration effect. revenue guarantee to the project The case of Tur- company. This, together key’s large hospital with the ability to pass PPP program down performance risk presents to services subcon- another inter- tractors, means a esting set secure cash flow of lessons to service the learned. debt. While the In my view, first of these examples what is show that there expected are practical to be over measures that 30 new can be taken by facilities governments to management- get projects over the based PPPs for line, and that spon- hospitals closed sors and their lenders in October 2014 are willing to step up to in Adana, the build-up the plate to deliver projects took over five years. This was when governments are willing to due primarily to the need for the meet them halfway. We look forward to government to mitigate certain critical risks for many more well-structured PPPs—in fact, we the private sector before they were able to reach will be playing an active part in a global effort financial close. In 2014 the Turkish Govern- to accelerate infrastructure investment, using ment agreed to a set of measures and supports. EBRD’s new Infrastructure Project Preparation First, a debt assumption by the Turkish Trea- Facility, which launches this month. We look sury directly covering up to 85 percent of the forward to seeing the pipeline grow. World Bank Group • 63 Master class Preventing renegotiation, fostering efficiency Rui Monteiro Rui Monteiro is Senior PPP Specialist at the World Bank, where he works on the development of knowledge on PPPs, on knowledge dissemination in- side the World Bank Group, and on capacity building in client governments. L awyers usually say that “the best con- tract is the one you never have to pull out of the drawer”—a view that focuses on trust, common understanding, and mutual is also recognition that, over the long-term, PPP efficiency may be jeopardized by contract renegotiation—by necessity renegotiation under no competitive pressure, with asymmet- advantages. And then they will add that PPP rical information. This sort of renegotiation contracts, even with the best government– creates a risk of breaking the initial commit- business relationship, are a bit more complex. ment, changing rewards and risk allocation. That’s because they are based on incentive Though theoretical economists would say mechanisms that require not only regular that “in the long-term” renegotiation of monitoring, but also some degree of coop- incomplete contracts is unavoidable, PPP eration and a modicum of strategic manage- practitioners should do their best in order to ment—the three components of PPP contract avoid the need for renegotiation, while simul- management. taneously preparing for renegotiation when it The ultimate success of a PPP contract is the best solution in terms of public interest. depends on effective service delivery under This requires distinguishing from among conditions of sustained efficiency. The effi- the several different sources of renegotiation: ciency comes from linking private operator poor contract management, poor contract rewards to performance over the long-term design, poor project selection, or simply (output focus), and from providing credible the opportunistic behavior of myopic public commitment by the private partner through authorities. private finance (or, as it’s known in some circles, “hostage capital”). Why renegotiation There are many cases, as seen in previous issues of Handshake, of PPPs providing high- happens quality reliable service to users at a reason- A recent OECD publication addresses able cost for users and taxpayers. But there several different contexts and characteristics 64 • www.handshakejournal.org of PPP renegotiation. This reflects a round- renegotiation), and in the fiscal framework table discussion connecting PPP practitioners (due consideration to medium- and long-term and researchers, where the focus moved from infrastructure and service needs, and added the mere characterization and classification of fiscal transparency). renegotiation processes to the much needed Another large class of renegotiation recommendations on how to prevent unnec- processes results from poor contract design. essary renegotiation. In this case, contracts are more “incomplete” Few renegotiations result from the than what actual uncertainty would suggest. dynamic inconsistency that game theory The reasons range from too much pressure warns about—governments signing a con- for fast results (having the deal closed, even tract allocating risks and rewards to the if all risks were not dully considered), or from private partner, and later trying to grab part sweeping the difficult issues under the carpet, of the upside when projects are successful simply transferring them from the tender due to private sector efforts. But the fact that phase (under competitive pressure) to the this kind of opportunistic behavior is rare construction or operational phases (when demonstrates that PPP contracts have been there is no competition, and when the pri- successful in preventing that behavior. vate operator has a maximum of bargaining There is a common realization that a power). For these cases, the obvious solution large class of PPP renegotiations result from is allowing more time for project preparation another type of opportunistic behavior, in this or for competitive negotiation during tender, case shared by both parties. Here, for bud- and investing more on high-quality transac- getary reasons, or due to rent-seeking, public tion advisors. authorities do contract PPPs for a part of what is needed, they then renegotiate the contract to enlarge its scope, in a non-competitive pro- The economist’s view cess that usually results in rents (extra profits) From an economist’s perspective, PPP for the incumbent private operator enjoying contracts are incomplete contracts, in superior information about the project and the sense that they cannot stipulate the a long-term mandate for managing it. In responsibilities of the parties in each this case, renegotiation does not result from “state of nature”, i.e. for each possible exogenous change, and both parties are glad future occurrence. In fact, they will be to renegotiate: the public authorities in order subject to change (technological, demo- to introduce the additions that they choose to graphic, or commercial change, but also keep out of the contract when they originally legal change and policy change), and so closed the deal; and the private operator they require a process (by agreement, because they will discuss the cost of those or by unilateral decision with or without additions under no competitive pressure. No compensation) for adapting the project improvement in the contracts, or in contract to exogenous shocks and policy changes, management, can avoid renegotiation in this keeping in mind the public interest and the case. contractually defined allocation of risks. The obvious solution lies in improvements in the public investment management (PIM) To learn more, see the PPP process (better scrutiny), in the procurement Reference Guide. framework (less acceptance of changes to project scope, and more transparency on World Bank Group • 65 A component missing from many of these class should be considered a sub-class of that contracts where renegotiation is unavoid- which was previously referred to, as only poor able, is a proper assessment of all the risks contract management practices can allow that the project may conceivably face. This for underperforming private operators to assessment defines mitigation measures for co-opt public authorities into a renegotiation some and prescribing courses of action for process. the others. Another component often missing The last class of renegotiation processes, in these cases is a good financial model that a very small one, deals with cases where there allows for risk impact to be evaluated. These was a real significant change in the conditions are models that procuring authorities should for project implementation that precludes build and use for structuring the project, and the normal execution of the contract, and so models that bidders should be required to forces renegotiation because the options are build in order to demonstrate the ability of contract collapse or underperformance. These their proposals to satisfy the contract and face cases, the ones that are truly unavoidable, will risks. have a significant probability of happening A minor but still relevant class of renego- during the life of a long-term contract, but a tiation processes results from poor contract small probability of happening in each year management by the public partner, building of the contract. an overload of disputes and miscommunica- Identifying and analyzing the myriad tion that allows the project to underperform reasons behind renegotiation is the first step and leads to renegotiation or contract cancel- toward preventing renegotiations from taking ation. Many public authorities are strength- place. Indeed, much can be done to reduce ening efforts towards improving contract the prevalence of PPP renegotiation, which management practices. in turn will allow PPPs to demonstrate their Another still relevant class relates to poor potential efficiency. Improving the public- private sector performance—in practice, cases sector governance of PPP processes and the where the private operator is able to convince quality of project structuring has the potential the public authority that it pays to renegoti- to improve the quality of life for many people ate the contract instead of canceling it. This around the world. PPP efficiency may be jeopardized by contract rene- gotiation—renegotiation under no competitive pressure, with asymmetrical information. This sort of renegotiation creates a risk of breaking the initial commitment, changing rewards and risk allocation. 66 • www.handshakejournal.org contract renegotiations versus adjustments Renegotiations Change in risk • Reduction in the level of service quality provided. assignment and/or • Deferral or advancement of investments by in the conditions of several years. the contract • Extension of the contract term. • Reduction of the guarantee requirements for the private side (financial bonds). • Increase in the level of guarantees provided by the public side (to pay lenders). • Delays to a reduction of tariffs (tolls). • Reduction of fees for the public side. • Changes in any of these conditions to avoid bankruptcy of the operator. Change in project • Public side requests for additional investments. scope (if this was • Private side proposals for additional investments. not covered in the • Grant of additional land for development serviced contract) by the infrastructure. • Requests from the public side for additional inter- connections with public (untolled, road) network. Adjustments Adjustments in line • Adjustments to tariffs in line with a formula with the contract set in the contract or indexed by inflation. provisions • Activation of triggers, which make predefined investments become mandatory. • Payments to the operator provided for in the contract. Source: Guasch et al 2014. Full report: Public Private Partnerships for Transport Infrastructure: Renegotiations, How to Approach Them and Economic Outcomes World Bank Group • 67 Read this next Geoff Keele, IFC Since 2009, infrastructure A s PPPs have gained visibility in the development financing to Africa has grown, community, more and more is being written thanks to the efforts of na- about them by think tanks, civil society organiza- tional African governments, tions, and donors. But it is also clear that there is a lot of official development financing, misunderstanding about what constitutes a PPP versus and private participation in in- other forms of private sector participation, and many frastructure investments. How- people are not fully aware of the complexities of PPPs and ever, this financing is still not how risks are shared between the public and private sec- enough to reach the estimated tors. For those in search of a broader perspective on how $93 billion gap in the con- PPPs contribute to global development, their complexities tinent’s infrastructure needs. and their potential, this selection of recent articles will A recent paper by Brookings make for some very interesting reading. Institution suggests that there has not been enough data to give us a realistic picture of this growth. In this blog post, the authors highlight five ma- As the global community shifts PPPs have already played a jor trends in infrastructure fi- to meet the challenge of uni- significant role in the building, nancing in Africa that emerged versal health care (UHC), equipping, and maintaining of from their paper, “Financing the new imperatives facing hospital infrastructure around African infrastructure: emerging economies will the world. This report by the Can the world deliver?” require attention and invest- Center for Global Develop- Jeffrey Gutman and ment. Climbing costs, the ment pinpoints the role PPPs Amadou Sy, April 8, rapid escalation of chronic can play in creating a “Hospi- 2015. “Top five trends diseases, emergence of com- tal Agenda.” in the changing landscape of plex morbidities, relentless Maureen Lewis. 2015. African infrastructure financing.” urbanization, and the expand- “Better Hospitals, Brookings Institution “Africa in ing expectations of citizens are Better Health Systems: Focus” blog. simultaneously confronting The Urgency of a Hospital countries as they move towards Agenda.” CGD Policy Paper Those in the development field UHC. Investing in hospitals 053. Washington DC: Center for may have an understanding of will be key to this success, and Global Development. the technical fixes for develop- 68 • www.handshakejournal.org ment challenges alongside an eral Accounting Standards Ad- International development understanding of the political visory Board (FASAB) called efforts are not immune to fail- context in which work is done, for greater disclosure of risks in ure, and we need to embrace but it’s not always possible PPPs. The Wall Street Journal’s the idea that failure is feedback to connect the two. When Risk & Compliance Journal that indicates when assump- implementing a PPP, however, takes a look at the FASAB’s tions, processes, or implemen- technical success depends exposure draft and discusses tations are flawed. PPPs by on navigating the political PPPs and the topic of risk and nature are about the sharing environment. This Overseas disclosures with FASAB staff, of risks among diverse part- Development Institute paper Macquarie Capital, and the ners, so being able to properly examines how development National Council for reflect on missteps along the professionals and donors have Public-Private Partnerships. way, and apply the knowledge come to recognize the impor- Gregory J. Millman, to future projects, is a critical tance of political economy in February 17, 2015. skill that needs to be devel- the success of development “Risk Disclosure for oped and encouraged. initiatives, but suggests that Public-Private Partnerships Tricia Petruney, Decem- how professionals plan and Under Scrutiny.” Wall Street ber 12, 2014. “Facing implement projects has not Journal. global development’s kept pace. fear of failure.” Devex Impact. Alina Rocha Menocal, 2013. “Getting real about politics: From Transparency is always an important issue whether we are talk- thinking politically to working ing public procurement or PPPs, and there has been a push differently.” Shaping Policy recently for all government contracts to be made public. The for Development series. argument is that transparency not only inhibits corruption and London: Overseas Develop- builds trust in governments, but can help improve the contracts ment Institute. themselves. For example, in Slovakia, the publication of con- tracts led to a 50 percent increase in the average number of bids When governments embark on government tenders; in Buenos Aires, Argentina, it reduced on a PPP, some are required variation and lowered average prices for hospital supplies. What to undertake value for money does this mean for PPPs, where openness and commercial con- analyses or conduct public fidentiality must find a balance? Can the two be reconciled? In sector comparators, designed this editorial, the authors make their case. to ensure that a PPP is the best model to achieve government Nancy Birdsall and Charles Kenny, December 26, 2014. goals. Recently the U.S. Fed- “Publish all government contracts.” AlJazeera America. World Bank Group • 69 FACTA NON VERBA For World Cup fans, the Mineirão stadium in Belo Horizonte may bring back memories of the Brazilian team’s 7-1 loss to Germany during the 2014 semifinals. It was an outrageous defeat—and this stadium will long be remembered as the stage on which this national disaster took place. But there’s another reason this stadium stands out, particularly among all other publicly-owned football stadiums in Brazil. According to Marcos Siqueira Morães, former Managing Director of the Central PPP Unit of Minas Gerais (above), Mineirão is noteworthy because it was delivered on time and on budget—a “score” for Brazil. What’s behind this win? The stadium was implemented as a PPP, so a private company designed, financed, and built it. It will continue to be operated under this structure for 27 years—enough time for the Brazilian soccer team to redeem itself on home turf. Learn more. Sign up for the PPP Massive Open Online Course at: coursera.org/course/effectiveppp. 70 • www.handshakejournal.org Browse back issues, supplement your PPP research, follow your favorite author, and more…. www.handshakejournal.org World Bank Group • 71 Subscribe: www. handshakejournal.org www.handshakejournal.org info@handshakejournal.org @WBG_PPP #WBGHandshake June 2015