Public Private Partnership in Infrastructure

INTRODUCTION #

Governments in most developing countries faces the challenge to meet the growing demand for new and better infrastructure services. As available funding from the traditional sources and capacity in the public sector to implement many projects at one time remain limited, governments has found that partnership with the private sector is an attractive alternative to increase and improve the supply of infrastructure services.

The partners in a PPP, usually through a legally binding contract or some other mechanism, agree to share responsibilities related to implementation and/ or operation and management of an infrastructure project. This collaboration or partnership is built on the expertise of each partner that meets clearly defined public needs through the appropriate allo- cation of:

• Resources
• Risks
• Responsibilities, and
• Rewards

It is important to emphasize here that a PPP is not a solution option to an infrastructure service problem but it is a viable project implementation mechanism for a preferred solution option.

What advantages PPPs may provide? #

Governments worldwide have increasingly turned to the private sector to provide infrastruc-

ture services in energy and power, communication, transport and water sectors that were once delivered by the public sector. There are several reasons for the growing collaboration with the private sector in developing and providing infrastructure services, which include:

• Increased efficiency in project delivery, and operation and management;
• Availability of additional resources to meet the growing needs of investment in the sector; and
• Access to advanced technology (both hard- ware and software).

Are there any limitations of PPPs? #

There are many important economic, social, political, legal, and administrative aspects, which need to be carefully assessed before approvals of PPPs are considered by the government. PPPs has various limitations which should also be taken into account while they are being considered. The major limitations include:

• Not all projects are feasible (for various reasons: political, legal, commercial viability, etc.).
• The private sector may not take interest in a project due to perceived high risks or may lack technical, financial or managerial capac- ity to implement the project.
• A PPP project may be more costly unless additional costs (due to higher transaction

and financing costs) can be offset through efficiency gains.

• Change in operation and management control of an infrastructure asset through a PPP may not be sufficient to improve its economic per- formance unless other necessary conditions are met.
• These conditions may include appropriate sector and market reform, and change in operational and management practices of infrastructure operation. Often, the success of PPPs depends on regulatory efficiency.

Models of PPP #

A wide spectrum of PPP models has emerged.

These models vary mainly by:

• Ownership of capital assets
• Responsibility for investment;
• Assumption of risks; and
• Duration of contract.

The PPP models can be classified into five broad categories in order of generally (but not always) increased involvement and assumption of risks by the private sector. The five broad categories are:

• Supply and management contracts
• Turnkey contracts
• Affermage/Lease
• Concessions
• Private Finance Initiative (PFI) and Private ownership.

RECENT DEVELOPMENT #

Kelkar Panel to Revitalize PPP #

Recently report of the Kelkar Committee on Revisiting & Revitalizing the PPP model of Infra- structure Development was submitted.

Issues related to contract financing #

• NPA problem: A large number of projects are struck or delayed turning many bank loans into NPAs and constraining further bank lending to infrastructure projects.
• Stranded and stressed project have led to shrinking of equity in PPP projects.

• Slowdown in fresh equity inflows.
• The current practice of financing large infra- structure projects based on revenue streams spread over 20 to 30 years, but with project debt having tenure of 10 to 15 years, is unsustainable.
• In the absence of long-term financing instru- ments, it is becoming increasingly difficult to finance the growing requirements of infrastructure.

Major weaknesses in the present PPP contract framework are #

• Sharp decline in the private sector investment and the stalling of projects.
• Flaws in allocating risk and rigidities in con- tractual arrangements
• Weaknesses in regulation, enforcement and monitoring of terms of Concession Agree- ment.
• The limited institutional capacity of govern- ment ministries.

The Key Recommendations #

• Setting up independent regulators to address stalled infrastructure projects of various sec- tors and bring in a more robust regulatory environment.
• Amendment to the Prevention of Corruption Act to clarify the difference between cases of graft and genuine errors in decision-making.
• Easier funding and Promotion of zero coupon bonds by Governments, Banks and Financial institutions
• To ensure viability of PPP projects with long gestation periods.
• Building up of risk assessment and appraisal capabilities by banks.
• Provision for monetisation of viable projects that have stable revenue flows after engineer- ing, procurement and construction delivery.
• Focus on service delivery instead of fiscal benefits for better identification and alloca- tions of risks between the stakeholders and contracts for the PPP projects.

Setting up of an Infrastructure PPP Project Review Committee (IPRC):

Aim: To deal with the problems being faced by such projects.

Composition: One expert each from economics background and one or more sectoral experts pref- erably engineers and legal experts.

Mandate: To evaluate and send its recommen- dations in a time-bound manner upon a reference being made of “actionable stress” in any infra- structure project developed in PPP mode beyond a notified threshold value

Infrastructure PPP Adjudication Tribunal (IPAT) #

• In the event of a dispute between a private party and the government, the concerned party can move to IPAT which, after judging its admissibility, will set up a multi-discipli- nary expert committee (IPRC) with relevant expertise for the specific case.
• After reviewing recommendations of IPRC, IPAT will hear representations from all stakeholders and pronounce an order within a specified time frame.
• The final order of IPAT can be challenged only before the Supreme Court.

Adoption of the model concession agreements (MCA) to:

• To bring flexibilities in contracts
• Proper assessment of managing risk
• Renegotiation framework in the bid document itself
• MCAs for each sector be reviewed to capture the interests of all participating stakeholders

— users, project proponents, concessionaires, lenders and markets

Sector specific recommendations #

• Airports: Government should encourage the PPP model in greenfield as well as brownfield projects.
• Railways: An independent tariff regulatory authority to help Railways to tap PPP oppor- tunities.

• Roads: Increase concession period for BOT projects.
• Power: Not many power projects are under PPP. Need to address power sector finances as they are hurting bank loan.
• Ports: Move from pre-TAMP (tariff authority for major ports) to current-TAMP.

What is 3P India? #

• A corpus of Rs 500 crore to provide support to mainstreaming PPPs and to enable focused attention on accelerating the delivery of effi- cient PPPs.
• Body that may house specialized skills (indus- try, financial institutions, lenders,)in the area.
• Evolve PPP models to enable attracting pri- vate investments.
• Assist project promoters (public agencies) in identification, structuring and hand holding for a designated fee. Sectors like Railways, Airports and also “social” sectors.

Conclusion #

• PPPs in infrastructure represents a valuable instrument to speed up infrastructure devel- opment in India.
• This speeding up is urgently required for India to grow rapidly and generate a demographic dividend for itself.
• Better PPP contract frameworks tap into the large pool of pension and institutional funds from aging populations in the developed countries.
• The project development activities such as detailed feasibility study, land acquisition, environmental/forest clearances, etc., are not given adequate importance.

Hybrid Annuity Model Draws More Bidders #

• The CCEA has approved HAM last year to revive highway projects.
• The aggressive promotion by NHAI through awareness campaigns yielded positive results.
• Now the average bidders for HAM projects have increased by 3 times.

What is Hybrid Annuity? #

Hybrid Annuity model (HAM) is a new type of public-private partnership (PPP) model.

In this HAM model, the government invests 40 per cent of the construction cost for building high- ways over a period and the balance comes from the private developer.

Toll is collected by the government. Fixed payments (annuity) with a profit margin are paid to the developer.

What are the advantages of Hybrid Annuity over other models in highway sector? #

• Land Acquisition and Environmental clear- ance are major sources of delay and stalling of many projects. In HAM model, govt. offers 80% of these clearances to private players.
• Projects speeded up losses due to time overruns are prevented. As govt. is itself a stakeholder, it now acts as a real ‘partner’.
• Sensible risk and reward sharing.
• Investment burden shared: Since corporate bank balance sheets are weak, private players cannot bear full capital investment burden. (HAM has 40% investment from govt.).
• Higher revenue certainty and reduced risk of developer: In the BOT model, private partners bears the construction and maintenance risks. As Govt. is going to collect Highway toll tax in HAM, govt. also bears the risk.
• Monitoring mechanism: as government will invest money in five equal installments based on the targeted completion of the road project.
• Cost overruns: tackled due to provisions for inflation adjusted project costs.

Challenges #

HAM is still a new model. So govt. should test it, improve it and refine it, before it goes big. (There are 28 projects approved under HAM, worth more than 36,000 cr.)

Participation has to be increased to start the positive feedback loop, where old contractors return. Then more participation and competition will increase the confidence.

Various types of PPP used #

• Govt. is a major investor: EPC, Service contracts, Management contracts and Lease contracts.

●    Private players are the major investors: #

BOT, BOOT, DBO, DBFO etc.

• Joint Ventures: Infra is co-owned. Ex: special purpose vehicles (SPVs under smart cities)
• Hybrid Annuity
• Swiss model

BOT Annuity Model for Rail Projects #

The Indian Railways has identified the first three projects to be taken up for development through the new Build, Operate, Transfer (BOT) annuity model at an estimated cost of around Rs 2,450 crore.

The private developer gets a revenue guarantee of 80 per cent of projected revenue at the time of bidding.

The developer gets a full right to revenue between 80 and 120 per cent and the Indian Rail- ways do not take any share from it.

Only when actual revenue is above 120 per cent, the additional receipts are shared with the Indian Railways in a staggered manner.

Facing a resource crunch, Railways is focusing on raising funds through various channels, including the PPP route and forming joint ventures with the state governments. Recently, the Railways’ gross budgetary support was slashed by Rs 8,000 crore citing lack of spending by the national transporter.

To attract private investments in railways, the government had framed five models #

• non-government private line model,
• joint venture model,
• BOT model,
• capacity augmentation with funding provided by customers model and
• Capacity augmentation through annuity model.

Alternative Funds Industry #

An 21 member advisory panel under Narayan Murthy set up by SEBI has suggested a slew of tax reforms and changes in existing laws to facilitate

capital-raising by AIFs (Alternative Funds Industry) and boost entrepreneurship.

Recommendations #

Creating a favorable tax environment #

• Government should introduce a securities transaction tax (STT) on all distributions (gross) of AIFs, investment, short-term gains and other income and eliminate any withhold- ing of tax.
• After STT, need for parity with the taxation of investments in listed securities.
• AIFs and portfolio companies be exempted from certain income tax provisions so that they are subjected to tax only when receiv- ing dividend or interest income during the holding period, or realize capital gains at the time of exit.
• The exempt income of AIFs should not be subject to withholding tax of 10%; the exempt investors too should not be subjected to the tax.

Unlocking domestic pools of capital #

• Large capital pools from pensions, insurance, DFIs and banks, and charitable institutions, which currently constitute only around 10% of the total private equity and venture capital invested in India annually, should contribute more to develop the AIF industry.
• The panel urged the regulators to increase the investment limits for banks and insurance companies in AIFs from the current 10% to 20% of the total corpus of an AIF.
• Domestic pension funds in India including the National Pension System and the Employee Provident Fund Organization should allocate up to 3% of their assets to AIFs by 2017, rising to 5% by 2020.

Reform regulatory regime #

• The investment gains of AIFs should be deemed to be capital gains in nature and losses incurred by AIFs should be available to their investors for set-off.
• The central board of direct taxes should clar- ify that investors in the holding companies are not subject to the indirect transfer provisions.

• The panel suggested that AIFs should be allowed to invest in charitable and religious trusts also.
• Eligibility norms: – Any individual with a total annual income of at least Rs.50 lakh (from 1 cr presently) should be allowed to put money in.

What is AIF? #

• Anything alternate to traditional form of investments gets categorized as alternative investments.
• (AIFs) are defined in Regulation 2(1)(b) of Securities and Exchange Board of India (Alternative Investment Funds) Regulations, 2012
• It refers to any privately pooled investment fund, (whether from Indian or foreign sources), in the form of a trust or a company which are not presently covered by any Reg- ulation of SEBI nor coming under the direct regulation of any other sectoral regulators in India-IRDA,PFRDA, RBI
• AIFs are categorized into the following three categories:
  • Category I: AIF is those AIFs with pos- itive spillover effects on the economy. Example: Venture Capital Funds, SME Funds etc.
  • Category II: AIF are those AIFs for which no specific incentives or concessions are given. E.g. Private Equity or debt fund.
  • Category III: AIF are funds that are considered to have some potential neg- ative externalities in certain situations and which undertake leverage to a great extent; with a view to make short term returns. No specific incentives or conces- sions from the government or any other Regulator. E.g. Hedge.

P2P Lending #

Recently, the RBI released a consultation paper on developing regulatory norms for P2P lending. RBI proposes a balanced approach to help P2P players flourish as well as safeguard them from

various risks of business fallouts. Proper regulation will raise credibility of P2P entities and thus help in their growth.

It has proposed 6 key areas to frame regulatory guidelines – permitted activity, reporting, prudential and governance requirements, business continuity planning and customer interface.

What is Peer-To-Peer Lending (P2P)? #

• It is a method of debt financing that enables individuals to borrow and lend money – with- out the use of an official financial institution as an intermediary.
• It gives access to credit to borrowers who are unable to get it through traditional financial institution.
• P2P lending boosts returns for individuals who supply capital and reduces interest rates for those who use it. However it demands more time and effort from them, and entails more risk.
• The basic business model of an online P2P player is to provide a platform to connect lenders with borrowers. The lender will put their savings/investment into an account for it to be loaned out to borrowers and get a good rate of return.
• Two prominent online lending portals in the country are Faircent and ilend.

Advantages of P2P lending for Indian economy #

• It could simultaneously reduce cost and increase access to capital.
• If the general population can lend and finance each other under a robust system, it poten- tially frees up funds for infrastructure and other capital expenditures.
• A promising alternate form of investment platform.
• Easy, fast online application process – reduces transaction cost for consumers.

• Borrowers can gain access to lending quickly and at more competitive rates than traditional bank loans.
• Lenders can be individuals or institutions and can invest a lower amount but earn more interest.
• As one can invest in a portfolio of hundreds or thousands of loans, risk is diversified.
• There could be a charitable aspect to the lending i.e. funds could be used for social purposes.

Why the need to regulate? #

There are a number of players like Faircent, LenDen club, etc. entering the P2P market. With- out regulations there is fear of repeat of chit fund, microfinance and the Para banking segment.

The regulations are also important to balance the interests of consumers as well as the industry.

Challenges and Disadvantages of P2P lending #

• High rate of interest hovering from 16 to 20 percent.
• Many borrowers are excluded because they do not have good credit history.
• Chances of default are high, particularly if the borrower has been rejected by traditional intermediaries.
• P2P investing isn’t a get-rich-quick scheme as many people think.
• There is huge risk as a lender could lose all money if not invested with proper risk diversification.
• The loan selection and bidding process employed in some online platforms demand a level of financial sophistication many people don’t have.
• The prevalence of black money and potential of P2P lending to launder/clean such money will invite “shady” participants.