7.4. Other Forms of Public Participation in the Financial Scheme or Intervening in Commercial Feasibility [97]

7.4.1. Other Ways (revolving) to Fill Financial Market Deficiencies or Increase Affordability

Apart from grants, there are other more sophisticated ways to inject funds, support viability or to increase affordability. As opposed to grant financing, they may not be regarded as public financing (in the sense of public conventional financing, affecting the investment budget of the public sector), but it does mean that the government is acting like a market lender or investor.

As alternatives to grants, these schemes are revolving forms of support, that is, the finance will be repaid. Sometimes it is provided on market conditions at a market price, and in other cases it is provided on favourable terms, “soft conditions”, or “concessional conditions”. The latter case is usually a response to affordability difficulties, whereas funding at market conditions is usually a solution to fund availability (for example due to a financial crisis such the 2008–2010 global financial crisis) or market appetite.

Chapter 5.5 provides a deeper explanation of these financial structuring techniques, many of which may be summarized as follows.

• Public long-term loans (soft or not soft): By a public/national financial agency, for example, BNDES in Brazil, the Treasury Infrastructure Funding Unit (TIFU) in the UK, Banobras in México – usually accompanying private lenders under market conditions), other institutions, or even a specific budget fund (Transportation Infrastructure Finance and Innovation Act [TIFIA] in US – always accompanying private lenders and accepting a subordination in guarantees and term). See chapter 5 for details;
• Public subordinated debt: Usually on soft terms (for example, participative loans in Spain for unfeasible road toll projects). See chapter 5 for details for details;
• Equity: Investment through specific public infrastructure funds or “strategic funds” such as Fonadin in México – usually at market conditions and managed independently by a management company; and
• Ad-hoc public equity investment for the project: These can be proposed in the RFP. Some potential pitfalls of this approach are discussed below. Section 5.5.5 provides additional and more detailed information.

When the motivation is to increase affordability, as in the case of grants, governments should take care to avoid the risk of spoiling VfM as the co-financing can decrease the effectiveness of the risk transfer.

Government as an Equity Partner

Section 2 explained how there are PPP structures in which public and private parties participate jointly in the equity. In these cases, the public partner commonly holds the majority or a significant portion of the shares, and it either participates actively in the management of the project company or reserves certain control rights for itself on strategic decisions.

These structures may be given a variety of names, including joint ventures, mixed equity companies or institutionalized PPPs.

However, the public partner may also participate in the equity of the PPP company, acting only as a financial investor, in order to support the commercial feasibility of the PPP project (by decreasing the amount of equity to be invested by the private equity investor) or as a way to decrease the net cost (and improve affordability) by having access to a portion of the equity cash flows. These cases will not be regarded by this PPP Guide as joint ventures or institutional PPPs, but as a mere financial variation of a conventional PPP.

In some of these cases, the motivation for a government to act as a co-investor may be to increase its control of the project by enjoying direct access to the day-to-day management issues of the project-company and full access to the project information. This is done with the intention to transfer the full scope of risks and responsibilities to the private partner. This motivation should be considered with extreme caution, as it can deter potential investors worried about political interference. It also implies a risk that the government unduly intervenes in the private sector’s responsibilities and ability to manage the project, limiting the ability of the project to deliver efficiency gains[99].

If the equity investment gives the government the right to be represented on the board of the SPV, this will be a potential source of conflicts. Therefore, it is desirable that the investment is managed by a specific body or unit rather than by the procurement agency itself[100].

Governments should acknowledge that the investment of equity means that it is taking back more risk than if it invests an equivalent amount as debt.

Chapter 5.4.5 further explains the implications and features of a PPP structure with equity participation by the government.

7.4.2. De-risking Approaches, Credit Enhancement and Other Risk Mitigation Techniques

The government has to pay attention to commercial feasibility right from the inception of the project (preparation and structuring), including bankability. An unfeasible project will not become feasible just by injecting public finance into the mix. The risk structure/allocation needs to be acceptable to the private sector (both investors and lenders).

However, there may be specific situations where a significant number of risks (or some risks with significant potential impact) may not be absorbed by the private sector, but the government still considers that PPP is a valuable option. There may also be projects tendered in the context of difficult financial market situations such as a bank crisis, or when a government wants to boost the development of a market (for example, capital markets in emerging economies). In these circumstances, the government may design a de-risked scheme to facilitate debt raising.

Examples of de-risking approaches include the following.

• Direct guarantees to the lenders (unconditional and irrevocable), which are provided by National Development Banks (NDBs) (for example, Banobras in México) or directly by the treasury (for example, in the UK, during construction, assuming the possibility that project construction risks might materialize);
• Guaranteed portion of service payments (that is, limiting the deductions due because of potential under performance, for example, by 20 percent);
• Fixed deferred payments, unconditional and irrevocable (like in what does High Speed Rail (HSR) PPPs in France and Spain, or like the CRPAO in Perú), which have been discussed in the previous heading may be considered either co-financing by means of deferred grant financing or a de-risking technique;
• “Guarantee funds” to provide security for government payment obligations under the PPP contract;
• Escrow accounts and trustee structures (for example, payments from a water authority for a water plant that are backed by a portion of the tariff paid by final users, which is reserved and allocated in specific accounts managed by a trustee); and
• Contingent or contractual guarantees aimed to protect the project company (for example, minimum traffic guarantees in user-pays road projects) or lenders (for example, guaranteeing all or a certain percentage of the outstanding debt in case of early termination, including termination by default of the private partner. This is sometimes referred to as “debt underpinning” – World Bank - Farquharson, Torres de Mästle, and Yescombe, with Encinas 2011).

In the context of insufficient availability of local finance, when it is necessary to mitigate Forex risk so as to help projects to access cross-border finance, specific guarantees or mechanisms to mitigate such risk become necessary. This may be solved using contractual guarantees (for example, in user-pays schemes allowing for a revision of the tariff according to currency exchange movements, or being treated as a compensation event giving the right to receive direct compensation for part or all of the loss suffered by a devaluation beyond an exchange rate threshold). Alternatively, it may be handled through direct guarantees from the government to the lenders, or even by using a hard currency to make the payments in government-pays PPPs. This has been explained in Chapter 5, where in section 5.6 plus chapter 5.4.6 provides additional examples on this kind of mechanism.

Additionally, direct letters to lenders may be considered a kind of soft guarantee aimed to give additional and “direct” comfort. For example, lenders may seek confirmation from the procuring authority that there have been no challenges to the award of the contract.

Credit Enhancement

There are some instruments to provide public finance (in revolving mode) that may not necessarily provide soft terms and that may decrease the average cost of capital of the project directly. Instead, or in addition, these instruments are structured mainly to provide a higher protection to lenders, thus increasing the credit rating of the debt. This may be the case of the Transportation Infrastructure Finance and Innovation Act (TIFIA) loans in the US (chapter 5 provides a sample/case study about the TIFIA), or more recently the Project Bonds Credit Enhancement (PBCE) mechanism structured by the EU commission and managed by the EIB to provide credit enhancement, specifically to projects financed through capital markets by means of project bonds.

Under the PBCE tool, the EIB provides a subordinated loan or a guarantee which covers the first loss of the project (typically up to 20 percent of the capital cost). Therefore, this increases the rating of the project, allowing it to access capital markets under better terms — or even enabling it to access the markets at all.