Public sector implications as a condition for PPP success

1. Public sector implications as a condition for PPP success Twinning project Public Agency for Rail Transport of Republic Slovenia Daniel Loschacoff 19 January 2005

2. Contents • Dealing with 8 major constraints: • The public sector decision making process • Public sector culture and lack of quality of public procurement • The private sector counterpart • Lack of inside in the true costs of public works/investments • Public sector segregated funding for capex and opex • VfM proof: PPC and PSC • Budget restrictions • Transaction costs • Conclusions

3. Typical PPP project areas are: • Road & Rail infrastructure (big majority) • (Waste) water treatment (& solid waste) • Accommodation • Education • Health • Custodial services • Defence

4. 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

5. What sectors are best ? (II) • Evaluation based on VfM (PSC) • HSL (High Speed Railway) 5% • A59 (motorway) 15% • AHR Delfland (waste water treatment) 18%

6. What sectors are best ? (III) “if complete contracts can be written, if transaction costs are low, and there is plenty of competition” Source: Tim Jenkinson, Oxford University 2003

7. What progress is made in dealing with constraints ? Why are there so few PPP-projects signed yet?

8. The public sector decision making process Get your house in order before inviting the private sector • Public-public agreements manual

9. 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

10. … 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.

11. 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

12. 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

13. Results from Prof. Flyvbjerg’s researchUnderestimating 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

14. 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

15. 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

16. State budgeting system (Cash system) Problem: focus on initial investments and ignores project life cycle costs and risk valuation

17. Leading to: • Selection of bad projects • Distortion in the comparison public-PPP • Sub-optimal investments (HSL superstructure versus substructure)

18. Policy implications (I) • An accrual accounting system (for investments) could change the current cash system.

19. 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

20. 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

21. 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