Contract forms and private financing

Transport infrastructure projects can involve private financing in a variety of ways. A concession scheme, initiated by public authorities, sets the private sector in charge for providing the capital asset as well as the service, whereby they are reimbursed by public sector payments. privatization transfers the ownership rights to the private sector, leaving the government only a regulating role in some cases. A contracting out scheme makes the private sector only responsible for providing services but not any of the capital assets (Debande, 2002). On a project scale, reaching from a completely public to a completely private project, different contract schemes can be distinguished, which influence the financing of the project (E. R. Yescombe, 2007). An overview is presented in table 8.

Table 8: Range of infrastructure provision from public to private with contract forms Public project Private project Public-Private-Partnerships

Contract Type Public-sector procurement Franchise (Affermange) Design-Build- Finance-Operate (DBFM) * Build-Transfer- Operate (BTO)** Build-Operate- Transfer (BOT)*** Build-Own- Operate (BOO)

Construction Public sector Public sector Private sector Private sector Private sector Private sector Operation Public sector Private sector Private sector Private sector Private sector Private sector

Ownership Public sector Public sector Public sector Private sector during construction, then public sector

Private sector during Contract, then public sector

Private sector

Who pays? Public sector Users Public sector or users Public sector or users Public sector or users Private sector offtaker public sector, or users

Who is paid? n/a Private

sector

Private sector Private sector Private sector Private sector

* Also known as Design-Construct-Manage-Finance (DCMF) or Design-Build-Finance-Maintain (DBFM) ** Also known as Build-Transfer-Lease (BTL), Build-Lease-Operate-Transfer (BLOT) or Build-Lease-Transfer (BLT) *** Also known as Build-Own-Operate-Transfer (BOOT)

Source: adapted from Yescombe (E. R. Yescombe, 2007)

Within Europe, most privately financed rail projects are contracted under the DBFM(O) scheme, which means transferring the construction and the operation to private the sector, while the public sector keeps the rights of ownership. This also implies, that the private investors are responsible for raising the money for the project and the costs are borne by the public sector or the users of the infrastructure. In contrast, conventional contracts are public funded and financed as shown in the figure 9 below (Ministerie van Financiën, 2012). Financing hereby relates to the initial capital, which is raised by the private sector to cover the project expenses, whereas funding relates to the costs of the project, usually born by the public sector or covered by charging user fees (Roosjen, 2013).

Figure 9: Financing and funding of construction projects

Source: adopted from Huijsman (Huijsman, 2010)

The DBFM(O) contract type, developed within the context of the Private Financial Initiative in the UK in the 1990s, combines innovative tendering with private investment and increases the ability of the private sector to realize design efficiencies. The main goal of using a DBFM contract is

adding Value-for-Money, so achieving a high quality output with the same financial resources available (Op de goede weg en het juiste spoor – Advies van de Commissie Private Financiering van Infrastructuur, 2008). This increased efficiency can be achieved for large projects, in which the benefits outweigh the increase in transaction costs. Hence, a minimum project value of 60 million euro is set by the Ministry of Finance (Ministerie van Financiën, 2012). To ensure that Value-for-Money is added, core principals are established. The first principal is the allocation of risks to the party most capable of handling it. By transferring the long term risk to the private party, they have an incentive for constructing and maintaining the asset in the most economic and efficient way possible (Eversdijk & Korsten, 2009). A second principal is the life-cycle approach, taking into account the whole contract’s term, usually set to 15 to 30 years in the Netherlands. This time reflects the period over which the government wishes the service to be provided (National Audit Office, 2010). Third, by payments made on the basis of availability of the asset specified by certain output criteria, the government buys a service rather than a product which enables private parties to be more innovative since they are not bound to specific technical specification anymore (Ministerie van Financiën, 2012). In addition to those principals, which are believed to add Value-for-Money, a DBFM contract is also a way for governments for off-balance- investments, since the payments have to be made only when the project is realized already. Adding the operation of the project into the contract, so changing a DBFM to a DBFMO contract, usually transfers the volume risk to the private sector (Op de goede weg en het juiste spoor – Advies van de Commissie Private Financiering van Infrastructuur, 2008).

The comissionee of a DBFM contract is usually a special purpose company (SPV), which arranges the financing, usually a mix between equity (10-20%) and debt (80-90%). Equity can be provided from different sources. Typically, equity is provided by capital shares of contractors or industrial developers, who are involved in the project themselves. Further, financial investors, who are not involved in the project, can contribute as co-investors. Through Initial Public Offerings (IPOs), retail investors providing equity are becoming more common in very sophisticated markets. Mezzanine, junior and subordinated debt are usually provided by industrial contractor/ shareholder investors for tax for tax and accounting benefits (APMG, 2018; EPEC, 2011). Debt financing usually consist of loans from commercial or investment banks, institutional investors or shadow lenders. Bonds are used get money directly from capital markets (for example pensions funds, insurance companies etc.) Other debt sources include structures like leasing, supplier credits, supplier financing or Islamic financing (APMG, 2018). Private Commercial loans are arranged with banks or other investors and usually managed by a lead arranger (Ministerie van Financiën, 2012). To decide whether or not a project is suitable for financing by international financial institutions, they usually apply a set of specific criteria which they compare against the project characteristics. Those criteria include: The quality of the cost estimation, the degree of competition within the sector, the degree of public and political support, environmental issues, SPV shareholder structure, risk allocation within the project and many more (Working Party on Rail Transport (SC.2), 2012).