Public sector implications as a condition for PPP success

Twinning project Public Agency for Rail Transport of Republic Slovenia

Daniel Loschacoff19 January 2005

Contents Dealing with 8 major constraints:

1. The public sector decision making process 2. Public sector culture and lack of quality of public procurement 3. The private sector counterpart 4. Lack of inside in the true costs of public works/investments5. Public sector segregated funding for capex and opex6. VfM proof: PPC and PSC7. Budget restrictions8. Transaction costs

Conclusions

Typical PPP project areas are:

• Road & Rail infrastructure (big majority)

• (Waste) water treatment (& solid waste)

• Accommodation

• Education

• Health

• Custodial services

• Defence

What sectors are best ? (I)

→Evaluation based on contracting theory

Conventional provision is good if the quality of the investment can be well specified, whereas the quality of the service cannot be

PPP is good if the quality of the service can be well specified in the initial contract, whereas the quality of the investment cannot be

Source: Contracting model of Oliver Hart, Harvard University 2003

What sectors are best ? (II)

→Evaluation based on VfM (PSC)

HSL (High Speed Railway) 5% A59 (motorway) 15%AHR Delfland (waste water treatment)

18%

“if complete contracts can be written, if transaction costs are

low, and there is plenty of competition”

Source: Tim Jenkinson, Oxford University 2003

What sectors are best ? (III)

What progress is made in dealing with constraints ?

Why are there so few PPP-projects signed yet?

The public sector decision making process

Get your house in order before inviting the private sector

Public-public agreements manual

Traditional public sector culture…

Top-down change instigated by the Cabinet to focus more on policy development, professional procurement and control of agreed service quality levels (output instead of input)

It means back to core business and has huge organisational impact on traditional “everything in-house” departments such as Ministry of Transport, State Buildings Agency and MoD

… and the lack of innovative procurement knowledge

Bottom-up approach to develop innovative procurement and control skills

The PPP Knowledge Centre and departmental PPP-centres lead in knowledge dissemination on the PPP-process, procurement quality improvement, monitoring, etc.

Development of private sector PPP-skills

It takes two to tango

Regular dialogue of Ministers of Finance, Economical Affairs and Transport with representatives of the private sector

Dutch banks and construction companies are very international and bid on other European PPP-projects as well

Emphasis is now focussed on smaller companies (such as in facility management) for which PPP could be an opportunity to develop new business

What are we currently paying ?

No cost recording No benchmarking Hidden costs Huge risk exposure/maintenance backlog No relation to performance

Put it on the political agenda

Results from Prof. Flyvbjerg’s research

Underestimating Costs in Public Works Projects, Error or Lie? (APA Journal, Summer 2002)

• In 9 out of 10 transportation infrastructure projects, costs are underestimated

• For rail projects, actual costs are on average 45% higher than estimated costs

• Cost estimation exists across 20 nations and 5 continents; it appears to be a global phenomenon

• Cost underestimation has not decreased over the past 70 years. No learning that would improve cost estimate accuracy seems to take place

• Cost underestimation cannot be explained by error and seems tot be best explained by strategic misrepresentation, i.e. lying

Segregated funding for Capex and Opex

School example: Initial investment (Capex) from the

municipality Operating cost (Opex) from the Ministry of

Education

Decentralise accommodation responsibility to the schools

Public procurement unless…

→The approach is VfM-driven: but how to measure this ?

→Two financial comparators (and manuals) were developed:Public Private Comparator (PPC)Public Sector Comparator (PSC)

The Netherlands Court of Audit is carefully monitoring the PPC & PSC reports

State budgeting system (Cash system)

Problem:

focus on initial investments and ignores project life cycle costs and risk valuation

Leading to:

→Selection of bad projects

→Distortion in the comparison public-PPP

→Sub-optimal investments (HSL superstructure versus substructure)

Policy implications (I)

An accrual accounting system (for investments) could change the current cash system.

Policy implications (II)

Currently, all public investments are considered financial leases and effect the EMU balance at the time of investment

Through well structured PPP-contracts real risks are transferred to the private sector, Eurostat will treat these investments as operational leases whereby the EMU impact is spread over the project duration (and based on actual performance payments)

Eurostat was convinced to treat the HSL-South super structure as an operational lease

High transaction costs

1st phase: Pilot projects suffer because of typical high PPP transaction costs

The PPP-facility

2nd phase: Search ways to reduce transaction costs:

Three programs running for manuals on standardisation of PPP-projects in Roads, (Waste) water treatment and Schools. They include the contract, output spec’s, adviser procurement, bidding process and monitoring system

Bundling entire projects or bundling financing of schools and of waste water treatment plants is being analysed

Conclusion:

PPP’s can only flourish if you are willing to look at current distorting factors.

If you do, you will deliver better policies, sometimes even without a PPP

approach