6 Developing the Financial Model

At the Appraisal Phase, the project must be accurately described in financial terms to allow for several feasibility exercises to produce meaningful results. For example, the following appraisal exercises in box 4.5 use some variation of the financial description of the project.

The tool that allows the assessment of commercial feasibility is the financial model. It is a spreadsheet computer file (in Excel or other compatible format) that incorporates, for the duration of the contract, all the expected private sector investments, revenues, costs, taxes, as well as several analytical parameters such as the cost of loans, the cost of equity, insurance parameters, and the relative inflation rate[6].

As discussed later in the chapter, the financial model is a tool that, when sufficiently mature, presents a financial base case of the project[7] (see section6.9)[8] — that is, the financial characterization of the project over its lifetime, considering the assumptions and decisions made during the Appraisal Phase[9].

Despite being built by the project team during the Appraisal Phase, the financial model is meant to reflect the best available information about the private partner’s future financial situation.[10] Thus, it primarily represents the financial description of the project company and the events and risks that determine its financial life cycle.

In reality, the model will serve many purposes during the PPP process[11] and will be adapted accordingly. However, at this stage, the model reflecting the financial life of the special purpose vehicle (SPV) serves a very fundamental need by assessing the feasibility of the project from several perspectives, as will be discussed further in the chapter.

The building of the financial model should begin with an assessment of existing financial data. At this stage, some financial evaluations would already have been done, and information might be dispersed throughout the project paperwork. The likely sources of information already available are as follows.

• The CBA which can include financial data that may be used as the starting point of some financial values (see chapter 3.8), such as estimated potential revenue, total costs, taxes, and others;
• The costs estimated in the process of defining the technical requirements (see section 4.2 above), which should provide estimated values on investment, maintenance, and operations costs;
• The description of benchmark projects identified in the Technical Feasibility stage and the respective historic data available;
• If the infrastructure already exists, current data on demand, costs, and revenue; and
• Studies already conducted to assess the need for the project. For example, in transport projects there may be existing traffic and revenue studies.

The model deals with a diverse set of data, coming from different sources and yielding different results. While it is not the purpose of this chapter to teach details about financial modelling, the most relevant elements that should be considered in the model are described below.

• The financial model is designed, at this stage, to reflect the estimated financial situation of the project company during the life of the contract;
• This information will be later adjusted for other modelling purposes such as;
• the estimation of the fiscal consequences of the contracts, and
• the Public Sector Comparator.