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The Great PPP Conundrum

The Great PPP Conundrum

Though the private sector has shown great interest in Public-Private Partnerships (PPPs), adequate policies and frameworks have to be put in place to make these projects a success.
The fast growth of the Indian economy in recent years has placed increasing stress on physical infrastructure, such as electricity, railways, roads, ports, airports, irrigation, healthcare, water supply and sanitation systems, all of which already suffer from a substantial deficit. However, one of the main problems confronting infrastructure and Public-Private Partnerships (PPPs) in India is the delay in implementing and executing large-scale projects, resulting in time and cost overruns. Efficiency in implementing infrastructure projects in India is a rarity. The PPP model is complex, leading to problems at various stages of implementation and execution of a project.

Though India´s progress in developing PPPs has generated a lot of private sector interest, a few general concerns that exist across all sectors yet remain to be addressed.

At present, the principal challenge is to develop a shelf of bankable projects. Apart from this, the other issues that need to be deliberated upon are how to marry private sector motivation for profit with public sector concern for public service (the need for inclusiveness). Again, risk has to apportioned in a manner that is fair, rational and sustainable. The other issue is how concessions and regulatory frameworks deal with external shocks to demand.

Experts speak
Many experts felt that adequate policies and frameworks are not in place to ensure the success of PPP projects. Vinayak Chatterjee, Chairman, Feedback Infrastructure, explains the PPP conundrum by representing it as a rectangle with four corners, each with an ´R´.

In the first ´R´, which is regulation, the ground condition for PPP to survive is creation of a level playing field for all stakeholders. And for that there is only one recourse, independent regulation. Without that it doesn´t work.

The second ´R´ is renegotiation. A lot of research and studies by PPP and infrastructure experts the world over as well as a book published by the World Bank, say that 64 per cent of PPP projects come up for renegotiation in the first three years of their lifecycle. The balance comes up later. But renegotiation is a fact of life, because lawyers say that PPP contracts are by definition what are called ´incomplete contracts´.

In PPP, by its very definition, it is humanly impossible to predict for 30 years or 60 years the variety of events that may hit either of the two parties involved or the economy in general. If one accepts this logic, then India needs a renegotiation commission.

The third ´R´ is risk allocation. A PPP contract is a partnership between the public and private sectors.

It seems the government has forgotten about the last ´P´, that it is a partnership. It feels like there is a landlord-serf relationship between the giver and receiver of a contract. The ideal PPP is one where risks that the sovereign or government can handle, such as land acquisition, removal of utilities, state support agreements and price increases, should be with it.

And the private sector should handle the risks it can manage, such as financing, construction, operation and maintenance.

Whether it´s in the 12 CONCOR trains – which the Railways effectively botched up ù or the original BOT projects of highways, or in some port projects, the private sector developer has always got a raw deal.

The Kelkar Committee in its report used a very nice term called ´bargaining obsolescence´, which means after you put your money in, for the next 30 years, the state has locked in the entrepreneur in a PPP contract. Once your money is in, you have lost your bargaining power and the state can do what it wants to do.

The final ´R´ is resource regime. It is very clear now that PPPs all over the world need to raise long-term debt from long-term sources. Long-term sources are insurance, pension funds, provident funds and bond markets. Without developing these long-term resources, we have forced PPP developers to borrow from commercial banks. Commercial banks don´t give money for more than five to seven years because of the asset-liability mismatch to them. However, the sheer economic illogic of it is so patent that it is surprising that even experts, journalists, economists or bankers cannot understand why a government gives a 20-year concession.

It has not plucked 20 years because it got up on the wrong side of the bed. It gives a 20-year concession because it believes that from the time the person puts in money, the first three years go into construction. Then the next two-three years go in settling down in that project. In the balance 14 or 15 years, you start repaying your loans. Towards the end of the project, you not only recover your equity, but also make a profit on that. So there is an economic logic behind giving a 20-year concession. But if you have a resource system that only gives you money for seven years, then it is uneconomical from the very start, because you are expected to take a loan and repay it in seven years when the economic lifecycle of the project itself is 20 years! It´s fundamentally a patent financial mismatch.

The PPP Performance
The PPP database maintained by the Government of India reveals that as of September 2015, a total of 1,191 projects in different infrastructure sectors were carried out in the country. These projects are valued at Rs.6.70 lakh crore. The data suggests that in India, the sectors that have attracted investment from PPP are roads & bridges, ports, energy, common infrastructure for industry (SEZs), urban public transport, water sanitation, airports, tourism, railway (track, tunnel, viaducts and bridges), cold chain, education and healthcare. More than 75 per cent of PPP investments are largely concentrated in the road & bridges, ports and energy sectors. Despite the need for urgent and huge development and the tremendous potential, the government has failed to encourage the private sector to take part in the nation building programme. Most of the states have been facing shortages or lack of facilities. If the PPP model of investment had succeeded efficiently and effectively, they could have witnessed a different kind of development.

The information appropriately distinguishes among PPP investment projects by their stage of implementation. In India, 478 PPP projects worth Rs.3.3 lakh crore are in the under-construction stage, which accounts for 49.1 per cent of total value of projects taken up under the PPP model. At the same time, PPP projects worth Rs.1.6 lakh crore (498 in number) are currently in the operational stage, that accounts for 23.8 per cent of total PPP investment in India. Information on the status for 150 projects involving 15.6 per cent of total value is not available. Around 65 projects worth Rs.77,000 crore have been terminated.

Sectoral Analysis
There is a degree of variation across sectors as regard to private sector participation. The private sector does not participate in less lucrative projects. Apart from this, the scope for earning commercial revenues from ancillary activities has also determined the private investor´s participation in various sectors.

As mentioned, a major chunk of projects, worth Rs.3.3 lakh crore (accounting for 49 per cent of the total value of work done under the PPP model), are in the under-construction stage. Of these projects, the roads & bridges sector alone accounts for more than 72 per cent share. Common infrastructure for industry (SEZs) and ports (excluding captive ones) accounts for nearly 9.4 per cent and 8.2 per cent share, respectively. All other sectors opened up for PPP (that include energy, water sanitation, airports, and a few others) seem to have got insignificant share in total projects that are being constructed.

It could possibly be due to the lack of attractiveness of the PPP model existing in these sectors. The private sector does not participate in less lucrative projects. Apart from this, the scope for earning commercial revenues from ancillary activities has also determined the private investor´s participation in various sectors.

In terms of the PPP projects that are under operation, roads & bridges, energy, ports (excluding captive) account for more than 90 per cent share.

Roads & bridges alone constituted 70 per cent of under-operation PPP projects and are worth Rs.1.12 lakh crore. Energy sector and ports (excluding captive) account for 12 per cent and 9.2 per cent, respectively. This implies that in the past, PPP projects have been largely concentrated in roads & bridges, energy and ports, whereas other sectors have not able to capitalise on the opportunity of the PPP model for their development.

Apart from the above, 65 projects got terminated. Roads & bridges had the largest share in the terminated PPP projects, followed by energy and ports. Roads & bridges accounted for 74.1 per cent followed by energy (10.3 per cent) and ports (9.8 per cent).

According to a source from GMR Infra, there are specific issues constraining the airport sector -greenfield and brownfield – including adoption of single till, low returns (granting 16 per cent return on equity compared to around 18.5 per cent to 20.5 per cent recommended by consultant SBI CAPS appointed by the Ministry of Company Affairs), sub-optimal remuneration on capital employed and restrictions that dampen the financial growth (e.g., restrictions on land usage at brownfield PPP airports).

According to Rohit Chandak, CFO, Uniquest Infra Ventures Pvt Ltd, as compared to other sectors, the Road and Highways Ministry has taken more positive steps in the last one year. Consider this: earlier, around two-to-three years back, we have seen more road projects under the build, operate and transfer (BOT) mode, but due to the weak asset base and poor performance of the earlier BOT projects, the next round of road projects failed to attract developers.

State analysis
Considerable regional variations mark infrastructure development as in the case of economic development in India. Some states have seen more PPP investments while some others are yet to take benefit from this model. State-wise PPP performance shows that, across the states, there are significant asymmetries in capacity for undertaking PPP projects.

The state-wise PPP investment suggests that about 88 per cent of PPP investment in India is in the major 21 states and 9.9 per cent of PPP investment is in the multiple states category. This clearly indicates that smaller states and Union Territories have not received the PPP mode of investment and these regions have failed to build a consensus between the private and public sectors.

Amongst the major 21 states, Uttar Pradesh with investments worth Rs.99,000 crore has the highest share (14.8 per cent) of PPP investment in India. Maharashtra (12.1 per cent), Gujarat (10 per cent), Karnataka (8.9 per cent) and Tamil Nadu (5.7 per cent) are the other states that round up the list of top five states with the highest valued PPP investments in the country. These top five states account for around 50 per cent of the total value of PPP projects in India.

The other states that have realised PPP investments are Haryana, Madhya Pradesh, Andhra Pradesh, Odisha, West Bengal, Rajasthan, Telangana, Kerala, Bihar, Himachal Pradesh, Chhattisgarh, Jammu & Kashmir, Punjab, Jharkhand, Assam and Uttarakhand. With the above analysis, the message is loud and clear: the entire country is facing an acute shortage of basic infrastructure facilities, and it is the responsibility of the Centre and states to provide the same.

On the other side, fiscal constraints critically impact development plans as infrastructure development needs huge investments. In these circumstances, the PPP model is an opportunity for governments to construct infrastructure facilities for the country as a whole by using private resources. The PPP model also provides a business opportunity to the private sector with a component of mitigated risk. But the investment flow suggests a poor PPP investment climate in India, and the irony is that it seems to be true especially for those states that have experienced poor infrastructure availability.

In this case, the question that arises is as to why these states have failed to attract or encourage more PPP investment, despite the huge potential in the infrastructure sector. On the other hand, one needs to look into why the private sector is not so excited to take part in the PPP mode of investment.

The country has now entered an inflexion point in PPP where it is moving from asset creation to operation of projects. The shift is leading to problems in the absence of an institutional mechanism, like those present in other countries, to deal with renegotiations. There is suddenly a spate of PPP projects which have come up for renegotiation.

By getting into the vindictive mode in the face of problems with projects, the government forgets that the last ´P´ of PPP stands for ´partnership´. This means that it is the duty of the public sector partner to assist the other partner in ensuring that capital invested sees a fair rate of return. The reasons for the failure of PPP projects in India are many, ranging from poor preparations, flawed risk-sharing, inappropriate business models and fiscal uncertainties, to vested interests leading to development of skewed qualification criteria.

State-wise PPP investment
In terms of value, more than one-fifth of under-construction projects are in Uttar Pradesh, Maharashtra, Haryana and Gujarat, the major exponents of the PPP model in India.

As far as under-operation projects are concerned, Gujarat, with projects valued at Rs.24,000 crore is the best-performing state in terms of PPP projects that are under operation. States like Uttar Pradesh, Maharashtra, Tamil Nadu and Karnataka have also recorded success in bringing PPP projects under operation. States like Uttarakhand, Chhattisgarh, Jharkhand, Goa and Odisha seem to have failed to derive benefits from the PPP approach so far.

The information on the geographical distribution of PPP projects that have been terminated shows that Maharashtra, Chhattisgarh and Gujarat have emerged as the top three states. Close to 44 per cent of total value of projects that have been terminated under the PPP mode falls in these three states. Maharashtra accounts for a distinct 12.8 per cent share in projects under this stage, while Chhattisgarh and Gujarat have got 11 and 10.4 per cent, respectively.

India´s PPP experience
India´s experience of using the PPP approach for creating capacities in various infrastructure sectors has seen mixed results. An Assocham-Srei joint study reveals some of the industry´s experiences with regards to this model of infrastructure development and their view on how to make it better and more result oriented. Case studies on Welspun´s solar project in Maharashtra, Nhava and Tuni Anakapalli Annuity Road Project can help to understand various PPP elements. (Refer page no: 32 and 33)

Global takeaways
The PPP model of development has been adopted across countries, and has been well documented by multilateral agencies and academia.

A few successful global PPP examples include North-South Expressway, Malaysia; Taiwan High Speed Rail Project, Chinese Taipei and Phu My 2 Phase 2 Power Project, Vietnam. (Refer page no: 33, 34 and 35)

Kelkar Committee recommendations
The recommendation of the Kelkar Committee would, indeed, kick start the second generation of PPPs in India.

The major contribution of the committee´s recommendations will be the initiation of a level playing field for all the PPP stakeholders and the setting up an independent regulator with a clearer mandate.

Since the model concession agreements were rigid and extended challenges due to lack of flexibility, the report has recommended a project-to-project approach in framework agreements. As a corollary, the report also emphasised a relook on the current approach to risk allocation. The hybrid annuity model which is being advised these days point to the gap in the current approach.

Meanwhile, the formation of a National Facilitation Committee should bring in more balance between the private and public sector project participants, leading to complementing ´partnerships´.

As explained by CP Nair, a senior PPP specialist, who has worked with World Bank and Asian Development Bank, greenfield PPPs run into 20 years, and as a project gets operational, the total project setting changes. This may be an advantage to some stakeholders and will be a grave loss to others. The current system does not have a space for re-negotiation or constructive dispute resolution. The report suggests a PPP project review committee and a PPP adjudication tribunal to address project assessment and legacy related challenges.

The report suggests a transparent dispute resolution matrix for unforeseen circumstances that can occur at any time during the course of a project. This will give more space and confidence for global investors / asset managers to look at India. The officers undertaking PPP projects have never had enough cover for the decisions they take. A number of project parameters change during the course of a project, and there should be space and support to cover genuine commercial errors of judgment by officials at the helm. Many genuine commercial judgments have not been finalised or implemented to avert the possible threat of future investigations. As a possible solution to these situations, the report has sought an amendment to the Prevention of Corruption Act, 1988, extending comfort to bureaucrats.

The 3PI finds another recommendation in the report. The 3PI will extend a great support for streamlining PPPs with a focus on accelerating and delivering efficient projects along with handholding and capacity building for states, departments and agencies.

The report also recommends monetising existing infrastructure projects owned by the states, paving avenues for brownfield projects to get more private sector involvement, extending confidence to investors, and subsequently garnering them to take up large greenfield projects.

Therefore, the Kelkar Committee report on ´Revisiting and Revitalising the Public Private Partnership (PPP) Model´ will kick start the second generation of PPPs and infrastructure in India.

The PPP model will not be feasible in all types of infrastructure projects, but can work in many areas, which are yet to be exploited fully. Towards this direction, an Assocham-Srei joint study has suggested a few recommendations that can be undertaken by policymakers.

  • Establishing infrastructure dispute redressal tribunals
  • Selection of right PPP model for the right project
  • A single objective of better services for the public at a reasonable cost
  • Information policy for PPP projects for sharing of bid documents
  • Suitably designed capacity building and training programmes
  • Role of technical consultants and transaction advisors is most critical
  • Balancing of risks
  • Identify and address controllable factors
  • Renegotiation for unpredictable factors.

When we look at the progress of infrastructure development so far, private participation and PPP arrangements in the development of public infrastructure have still faced several implementation challenges. These challenges typically involved tariff setting and adjustment, regulatory independence or dispute over contractual provisions and risk sharing.

The telecom sector has been successful in attracting private participation on a large scale. This may be due to sector-specific policies and other factors such as government commitment, increased private interest in these sectors, move towards better competitive process, greater availability of information, size of the projects, acceptable price, encouraging developer returns and fiscal concessions, etc. We need to learn suitably from the successes achieved in the telecom sector.

Overall, in addition to sector-specific issues, a few generic issues also need the attention of all concerned to make not only the PPP model successful, but also to attract more private participation to upgrade Indian infrastructure.

It was a proud moment for Welspun Renewables when it decided to build a 50 MW solar project in Maharashtra on the PPP model. This 50 MW project was developed with Maharashtra State Power Generation Company Ltd (MAHAGENCO). In this particular case, land, evacuation and share of capital cost was in scope of MAHAGENCO. Part financing of capital, engineering procurement construction (EPC) and O&M for 25 years was the responsibility of Welspun Renewables. The project was a great success and Welspun commissioned the project well within Power Purchase Agreement (PPA) deadlines and has been generating clean energy since December 2014 with performance as committed in the PPA. However, Welspun´s experience has faced some challenges.

Lack of ownership: One of the major gaps in this PPP model was lack of joint ownership on the plant and its generation. Welspun, not being a party to the PPA, had no rights over sale of electricity and also had no ownership of plant assets. At the ground, the PPP model actually turned out to be a conventional contract for EPC and O&M services for a government-owned plant. Any private IPP company would prefer the PPP concept to be of joint/shared ownership for common business objectives of an asset-owning company.

Funding issues: The way this contract was structured, even the financial institutions had not accepted it as a PPP model. The task of arranging the debt portion of capital cost was kept in the scope of the private partner with zero ownership on assets and no direct rights on electricity sales revenue. Therefore, most of the lenders had denied this structure and were not ready to fund this project on behalf of the private partner in this contract. Clauses pertaining to asset hypothecation also needed modification before Bank of India was convinced to fund the project.

Delayed payments: There were major delays in payments from MAHAGENCO and the entire project was executed by Welspun from its own sources. Timely COD was achieved without receiving any financial contribution from MAHAGENCO in terms of its share of capital cost, which was to be paid over the construction period. Approx 50 per cent of payments are yet to be paid despite the entire 50 MW project achieving its COD in March 2015. Currently, even revenue share payments are not being paid on time with a backlog of four-five months´ revenues always pending as receivables. Debt service is becoming extremely difficult and unmanageable through internal sources for a long time.

Lack of partnership approach: The overall experience of the PPP model was somehow challenging with the conventional approach adopted by MAHAGENCO throughout the tenure. The dynamics of solar project implementation are completely different from conventional projects.

The Tuni Anakapalli project is a road expansion project undertaken by the National Highways Authority of India (NHAI) as one of the several projects under the Golden Quadrilateral programme. The project´s scope was to strengthen the existing two lanes and widen them to a four-lane dual carriageway, for an aggregate stretch of 59 km between Tuni and Anakapalli on NH 5 in Andhra Pradesh, on a PPP basis. Keeping in mind the lack of attractiveness in tolling the road, NHAI decided to take up the project on the BOT Annuity model.

The GMR Group, in consortium with United Engineers Malaysia (UEM) Berhad Group, was awarded the project contract. The expansion of the road started in May 2002 and ended in December 2004 after a month´s time overrun due to delays in handing over of land by the NHAI. The total project cost was Rs.295 crore. The NHAI pays the concessionaire a fixed annuity semi-annually, of Rs.29.48 crore, from May 9, 2005 to November 9, 2019.

Key Learnings
Innovative Funding:
During the operations stage, GTAE PL raised debt at very low interest rates by securitising the annuity payments receivable from NHAI. This mode of funding enabled the concessionaire to repay the term loan and provided access to relatively lower cost funding.

Transfer of Risk: The GMR consortium stabilised its risks by entering into a long-term O&M contract with its own consortium partner, thereby transferring substantial risk of the project.

Incentive to Developer: The developer had an incentive for early completion that attracted a bonus payment, while a delay led to a penalty. Moreover, the concession period included the construction period, so the developer was incentivised for an earlier completion to begin earning annuities.

The North-South Expressway (NSE) is the longest expressway in Malaysia with a total length of about 775 km. The expressway links many major cities and towns in western Malaysia, acting as the backbone of the west coast of the peninsula. The project was delivered via PPP BOT method. It is a bankable project based on the high demand and also because it is a ´user pays´ project.

Key Lessons
The implementation framework of PPP in Malaysia is based on the following:
(i)Centralised planning and processing at the PPP Unit, Prime Minister´s Department (UKAS);
(ii)Decentralised implementation and monitoring by the ministries and state governments; and
(iii)Negotiation/standardisation of terms and conditions of concession agreement by the Public- Private Partnership Committee (JKAS).

As such, there is a clear structure in terms of inter-agency coordination in the implementation of PPP projects in Malaysia. Coordination is effected via the JKAS and a high level public-private partnership committee (JTAS). These committees facilitate coordination between UKAS and other relevant Central agencies and stakeholders before project proposals are presented to the Cabinet for decision.
The economic planning collaboration with the private sector on PPP projects is based on the PPP guidelines, available on UKAS´website. The guidelines explain and set out the conceptual framework, payment principle, project valuation criteria, project implementation structure, role of implementing agency, legal aspects, processing & implementation procedures and guide on preparation of PPP project framework.

Up to May 2014, the THSR has carried more than 269 million passengers and punctuality reaches 99.4 per cent. It provides five-six trains in one direction per hour on peak hours, and has shortened the travel time from Taipei to Kaohsiung to 90 minutes.

Key Lessons
Project financing is an arrangement in which future net income serves as a guaranteed source of funds for repayment of project loans. The HSR project failed to adopt project financing and used traditional debt obligation instead, in order to strengthen the ability of financing organisations to assess BOT projects and allow them to participate at an early stage and implement project financing. Financial laws and the operating environment should be reviewed and revised as necessary so as to enable financing organisations to supervise projects.

Since major BOT rail transportation projects involve huge investments, long recovery periods, and uncertain revenues (passenger traffic), it is recommended that legislation should specify mechanisms guaranteeing private organisations a minimum income, according to financial characteristics and risk of the project. This will facilitate the arrangement of financing and reasonable apportionment of risk. The important content of the proposals, especially the letters of support from bank consortiums, should be clearly stated in the concession contract in order to make sure that the promise made by the investor will be carried out.

The Phu My 2.2 project was intended to help ameliorate the lack of electricity supply in Vietnam against a rapidly growing demand for energy. The project is a 715 MW gas-fired power project to be built, owned and operated by Mekong Energy Company Ltd (MECO).

Key Lessons
The presence of partial risk guarantees was necessary to convince international participants with the financial resources and expertise to invest in the project. While IDA support was only $75 million, it catalysed another $400 million in co-financing. In addition, it helped mobilise long-term debt substantially beyond prevailing market terms for the economy, contributing to the achievement of competitive generation tariffs.
Adhering to international environmental safeguards (in this case imposed by the World Bank through its contract) helped mitigate environmental damage and concerns, which also helped attract international investors.


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