Aurecon_IndII IRF Presentation Nov 2014 Expressway Development - LinkedIn

INDONESIAINFRASTRUCTUREINITIATIVE

Potential Role of Performance-Based Availability Schemes for Financing Indonesia’s Expressway Network

Bina Marga & IndII National Road Policy Team

(Ir. Herry T. Zuna & Steve Richards)

1st IRF Asia Regional Congress & Exhibition

November 17–19, 2014

Bali, Indonesia

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Discussion Topics

• Introduction: IndII advisory support for national road

modernisation

• Context: proposed scale of investment in national roads

• The role of PBAS in delivering road infrastructure

projects – the evidence

• Financing PBAS transactions – private financing sources

• Key market concerns for implementing PBAS in Indonesia

• Next steps – an implementation plan

• Closing observations

*note, some slides have been hidden for the speaking version of this presentation

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Initial Views about PBAS from GoI

Representatives Involved with IndII

“Delivering infrastructure across several sectors, including roads, is

essential so that Indonesia can continue its economic growth and

social well-being. PBAS can help mobilize the private sector

investment that will be needed to accelerate the GoI’s infrastructure

program, deliver better value for money, and improve the quality of

infrastructure. Implementing PBAS in Indonesia will be one of our

key priorities for the RPJMN III 2015-19.”

Dr. Ir. Dedy S Priatna Msc

Deputy Minister for Infrastructure

Bappenas

“Public-Private Partnerships and PBAS are more

than just ways to supplement the government’s

budget. They can help us take a whole-of-life

approach to planning and financing much needed

infrastructure.”

Ir. Harris H.Batubara,M.Eng.Sc

Director for Program Planning

Directorate General of Highways

Ministry of Public Works

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Introduction to IndII’s National Roads

advisory support for the expressway program

Objectives of IndII Program 2013-2014+

Supporting National Roads

POLICY� Facilitate acceleration of investment in expressway network� Realigning institutional responsibilities – DGH and BPJT� Financing and delivery models to increase both public funding

and private investment in expressways, including PBAS

PLANNING� Investing in development of connectivity – modern network� Generating medium and long-term pipelines of investment

projects� Upgrading planning systems and capacity

DELIVERY� Improve life and performance of road assets� Improve efficiency of delivery, reduce life-cycle costs� Realign management of asset preservation

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Context: proposed scale of investment in

national roads

• The ability of Indonesia and other

ASEAN nations to finance

additional infrastructure projects

is limited. Government’s

infrastructure spending is

constrained by fiscal limits on the

budget deficit (3% of GDP) and

outlays on fuel subsidies. Private

financing sources need to be

tapped.

• Indonesia’s funding of infrastructure has

fallen from above 7% to 3-4% of GDP since

the Asian financial crisis. On average,

infrastructure investment has reduced across

all levels of government in Indonesia.

• This level of infrastructure investment is low

compared with, say, China (10% of GDP).

While Indonesia invests a third of GDP in

fixed assets, only 3.2% goes on infrastructure

like roads, rail and power.

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Context: proposed scale of investment in

national roads

• One solution

financing/delivery model used

by other countries has been to

use Performance Based

Annuity Schemes

(PBAS)/Availability PPPs

“…Performance based management…holds government agencies accountable to road users and the public at large for funding, constructing, maintaining, and operating the highway network to an increasingly higher standard. This ultimately leads to a better transportation system for today and tomorrow…”US DOT/Federal Highway Administration (2011)

• GoI’s Planned Investment in Roads

- Expressways 7,300 km totalling

IDR 640 Trillion (i.e. over USD60

billion) built/opened within 15

years

- National roads of 6,000 km to be

improved/rebuilt costing IDR 700

Trillion (i.e. USD70 billion)

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Types of PPPs: Economic PPP and

PBAS/Availability Payment PPPs

• An “economic” PPP is where the private sector takes all revenue risk (i.e. toll or demand risk) and construction/delivery risk

• In a PBAS contract…

- revenue risk is removed, delivery risk is shared

- the private sector’s role is to design, construct, finance, operate and maintain a project to specified standards

- the Government makes performance-based payments over a long term contract (i.e. 25 to 30 years)

• PBAS contracts are also known internationally as “Availability PPPs”

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Reasons for using PBAS/Availability PPPs

• Mobilising private sector

capital and commercial

discipline

• Facilitates greater public

funding share

• Secure partnership likely to attract market interest

• While PBAS/Availability PPPs use private finance, they

are also a performance contracting/delivery option that

uses financing …the private financing ensures a focus

on costs and quality, particularly as a PPP proponent is

subject to penalties for non-performance

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Performance Focus of PBAS/Availability

PPPs – Road Projects• PBAS/Availability Schemes have a strong focus on

performance…covers both the construction, and operating and

maintenance phases

Construction Phase

Project Schedule & Cost

Design Quality

Pavement Standard to a Minimum Life

Structures, including Drainage and Shoulders

Road Safety Audit: D&C works meet high safety standards

Operating/Maintain

Traffic Access & Lane Availability

Incident Response

Safety Management

Road Maintenance

Environmental Management

Hand Back Condition

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Difference between Traditional Public Works

Contracts and PBAS/Availability PPP Contract

• Some of the key differences between Traditional and Availability

PPP contracts

Traditional Contracts PBAS/Availability Contract

Constructor receives payments during

construction

Payment only starts when project commissioned –

constructor and rest of PPP consortium bear

construction risk

Contractor and O&M partners work at

different phases

Contractor and O&M partners work at the same

time, allowing integration of whole of life efficiencies

Contractor and O&M partners do not

have equity at risk

Contractor and O&M partners have equity at risk for

term of concession – all parties incentivised to

perform and take a “long-term” view

Conventional procurement inputs-

focussed, mainly construction phase

focus, and subject to scrutiny only by

independent verifiers

The lenders to a PPP are an additional independent

verifier…lenders will focus on quality construction to

minimise any potential downstream loss to them due

to poor operating and performance of an asset

Contractor not responsible for residual life

of asset

PPP Consortium responsible for handing over the

asset in a fit-for-purpose condition

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Evidence of reported benefits and risks of

PBAS/Availability Payment PPPs

• Like most delivery options, there will always benefits and risks with using

PBAS/Availability PPP models

���� Benefits ���� Risks

Transfer risks to private sector Not “free” funding

Greater price and schedule certainty Too many long term payment contracts

can limit budget flexibility

Better levels of maintenance New risks from complex procurement

process

Way to introduce innovation in design

and operation of assets

Need to develop capability in the market

Can be used for either tolled or non-

tolled roads

Require sufficient time to implement

No need for viability gap arrangements Requires a management focus on long

term contract management

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Evidence from PBAS implementation…Some

User Feedback

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Examples of PBAS/Availability Payment

PPPs to deliver road projects

• Canada, United States, Australia, New Zealand, Spain, Portugal, and the

United Kingdom use PBAS/Availability payment PPPs to deliver road projects

• Important to note that PBAS/Availability PPPs for road projects are not a

large part of the overall road infrastructure capital program

• The real benefit is the impact on the wider road program by emphasizing

whole-of-life approach to road delivery, maintenance and performance

• Case studies…a Canadian, Australian and New Zealand PBAS projects:

- The Canadian and one of the Australian PBAS road projects were both

procured after the Global Financial Crisis, during stressed financial

markets

- The New Zealand PBAS road project commenced in 2014

- East West Link in Australia is currently under procurement and includes

PBAS delivery and a separate tolling agreement.

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• Project a response to in response to the impact of growing

regional congestion, and to improve the movement of people,

goods and transit throughout Metro Vancouver by providing

efficient transportation choices and better connections

• 40 km of four lane highway with connections to existing routes

• Performance based, fixed price concession (availability)

agreement

• Availability agreement covers finance, construction and 20 year

operating, maintenance and rehabilitation

Canada: South Frazer

Perimeter Road

Selected PBAS Road Case Studies: Canada

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Selected PBAS Road Case Studies: Canada

• Reported CD$34 million (net

present terms) in better value

for money compared to

public sector delivery

• VfM efficiencies from

competitive construction

pricing, integrating the

design, build and finance

teams, and an efficient

allocation of risk

• Agreement transfers key design & construction risks (e.g. cost

and schedule, and long term maintenance and rehabilitation)

to the PPP proponent

• This drives optimised life cycle approach and promotes

innovation in design and maintenance strategies

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Selected PBAS Road Case Studies: Australia

Victoria: Peninsula

Link Road

• 27 kilometre freeway standard road

• Benefits include reducing travel times and improving travel time reliability, improving freight and commercial vehicle access, and reducing traffic congestion

• PBAS/availability model where the private sector will design, construct and finance the Project and to operate and maintain the Project over a 25 year period

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• Reported AUD$9 million (net present terms) in better value for money compared to public sector delivery

• Project was signed in a post-GFC environment where the supply of private debt was in short supply, and margins were high

• Despite this situation, value for money still achieved

• Key Performance Indicators (KPIs) cover a range of O&M activities

including those relating to emergency contact points, incident

response, compliance with operational plans, maintenance

inspections and works, reporting and environmental management

Selected PBAS Road Case Studies: Australia

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Selected PBAS Road Case Studies:

New Zealand

• Transmission Gully is a 27km, 4-lane expressway standard road scheduled to

open in 2020

• The Transmission Gully Road is one leg of the 110-km Wellington Northern

Corridor Road of National Significance, to enable economic growth, improve

road safety and reduce traffic congestion

• The PBAS consortium will be responsible for financing, designing, building,

maintaining and operating the highway for up to 25 years, Transmission Gully

will remain a public asset – it is never owned by the PPP consortium

• NZ Government is considering separately the issue of tolling

• Also, the Transmission Gully road is designed to withstand a maximum 7.5

Magnitude local earthquake with a maximum complete closure time (all

lanes) of 3 days for all classes of vehicles

Transmission

Gully

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Selected PBAS Road Case Studies:

New Zealand

• Reported NZD$13 million (net

present terms) in better value for

money compared to public sector

delivery

• Risks transferred to the private

sector included site and

contamination risk, design and

construction risk (including design

solution and scope creep),

operational costs, poor pavement

design, traffic/streams diversions

impacting on higher than

anticipated on-going maintenance

costs, and residual value

• Key Performance Indicators (KPIs) cover free flow travel time, lane

availability for both planned and unplanned events, safe travel outcomes,

junction performance, environmental compliance, customer satisfaction,

capital works and operational completion

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Selected PBAS Road Case Studies:

Australia

• The East West Link project is an 18km, freeway standard, cross city connection

north of the Melbourne – construction is scheduled to commence late 2014

• Consists of a package of works including new freeway standard road, road

widening, interchange, and public transport options. Expected total cost of the

project is AUD $6-8 billion, and the total project is scheduled over 5 years.

• One section of this project will be a PBAS/availability payment PPP with tolls

retained by the State - under this model, the State receives the toll revenue

stream, bearing the full cost (reduced toll revenues) or full benefit (increased

toll revenues) that may result from fluctuating traffic volumes.

• Asset delivery and ongoing operations are procured via a separate PBAS

contract for 25 years, under which the private sector is responsible for the

design, construction, finance, operation and maintenance of the Project over

the concession period.

East-West

Link

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Selected PBAS Road Case Studies:

Australia • A strong field of international and local companies were shortlisted for the East

West Link project

Shortlisted PBAS

Consortiums

Consortium Details

East West Connect The East West Connect Consortium comprises Capella Capital, Lend Lease,

Acciona and Bouygues. Members have experience in significant projects both

in Australian and overseas, including Legacy Way (Brisbane), Pajares Tunnel

(Spain), Peninsula Link (Melbourne) and Port of Miami Tunnel (Miami).

Inner Link Group The Inner Link Group Consortium comprises Cintra Infraestructuras S.A, Retail

Employees Superannuation, Samsung C&T Corporation, Ferrovial Agroman

(Australia), Ghella, Transfield Services (Australia), and Macquarie Capital

(Australia) Pty Ltd. The group has been involved in significant local and

international projects including 407ETR (Canada); EastLink (Melbourne);

Incheon Bridge (South Korea) and Legacy Way (Brisbane).

Momentum

Infrastructure

The Momentum Infrastructure Consortium is made up of John Holland,

Dragados Australia, Leighton Contractors, Iridium Concesiones de

Infraestructuras S.A and The Bank of Tokyo – Mitsubishi UFJ. Members have

worked on significant projects both in Australia and overseas, including

EastLink and CityLink (Melbourne), Airport Link (Brisbane), CLEM7

(Brisbane), Lane Cove Tunnel (Sydney), Alaskan Way (Seattle), Madrid M-30

(Spain) and Interstate595 (Florida).

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Reviews of PBAS/Availability Payment

PPPs Contracts

• There is empirical evidence from

Australia and the United Kingdom

showing time, cost and quality

benefits from PBAS-type contracts

compared to traditional D&C

procurement

• Importantly, there have been reviews that have highlighted the potential

problems with using PBAS/Availability PPPs

• The potential problems appear to centre on ensuring the right projects are

selected, insufficiently flexible contracts, and capability of the public

sector…solutions have been developed and implemented to solve these

problems

• Important to note that traditional contracting also has the same problems,

as well as being input and not performance focused, and have a short term

focus on the D&C phase rather than whole-of-life

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Evidence of Value for Money and

performance benefits from using PBAS

• Professor Colin Duffield (2008) from Melbourne University has reported

major cost benefits from PBAS vs traditional government delivery

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Evidence of Value for Money and

performance benefits from using PBAS

• Professor Colin Duffield (2008) also reported that once a PBAS contract is

signed, PBAS projects were subject to smaller variations in time…reducing

time variations helps to reduce project costs due to overruns

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Financing PBAS transactions – private financing sources

• There are two main sources of private financing for PBAS

transactions:

- Debt providers

- Equity investors.

• PBAS transactions are usually highly geared – for example,

debt/equity ratios upwards of 70/30 percent

• Note, financing is not funding – financing sources are inputs used to

resource a project…funding sources used to pay for the project (i.e.

affordability)

Debt Providers Equity Investors

Private bank loans Investment banks

Bonds Infrastructure funds

Government

contributions

Pension funds, insurance companies,

Sovereign wealth funds

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Financing PBAS Transactions – Bank Debt

• Bank debt is the main source of financing for PBAS/availability PPPs

• Globally banks have undertaken the bulk of infrastructure financing particularly in emerging markets where corporate bond and securitisationmarkets are relatively undeveloped. From 1999 to 2009, commercial banks provided an estimated 90% of all private debt.

• From an micro-economic perspective, the Indonesian banking sector has gone through 3 policy phases

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Financing PBAS Transactions – Bank Debt

• For Indonesia, Rupiah PPP debt

has short tenors ( around 7

years) and high margins – bank

liquidity costs are a major factor

• This has several implications for

PBAS transactions, requiring

solutions to be developed

• Interestingly, these implications

are identical to the issues faced

by other PBAS countries

immediately after the start of the

GFC – PBAS transactions were

still able to be implemented

• Also, the current Basel III

prudential banking rules (e.g.

minimum capital requirements)

will have an impact on bank

funding to PBAS projects

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Financing PBAS Transactions – Bank Debt

• In other PBAS countries, living with high debt funding costs since the GFC is

now the norm…while debt funding have reduced since the GFC, it is

unlikely debt margins will return to pre GFC settings that saw very

competitive rates

Source: The International Bank for Reconstruction and Development/Ernst & Young, 2010

History of Senior Bank Debt Margins for UK PBAS (i.e. PFI) Projects

Margins for lending increased substantially, rising from around 80 basis points pre-GFC to over 300 basis points in mid-2009 for relatively straightforward PBAS/PFI projects with similar risks…

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Bank Debt Implications

for PBAS projects

Key Issue(s) Possible Solution(s)

Short tenors mismatch

with long term nature

of infrastructure

projects

Banks are unwilling to commit to

lending terms for anything other than

a short period. This raises risk and

impacts on returns for equity

investors from the uncertainty of

having to secure replacement

funding or lower cost funding

sometimes as soon as 5 years after

financial close.

Accept that consortiums of banks may be

needed to implement PBAS transactions.

Other governments (e.g. United Kingdom)

have established a co-lending facility based

and managed within the government. These

co-lending units consider applications for

loans to PBAS projects, negotiate the terms

of any such loans on a commercial basis,

and monitor and manage the loan portfolio,

like a bank.

High debt cost margins

impact on funding costs

and value for money

High margins are driven mainly by

the available supply of bank debt and

wholesale funding costs. The high

leverage of debt to equity in PBAS

transactions means large debt

tranches increase overall financing

costs.

Other governments have used several

approaches to overcome this issue,

including government capital contribution,

co-lending debt, and guarantee models, and

relaxing the requirements for fully

underwritten bids (fully underwritten bids

incur a cost premium).

Refinancing Risk In tight capital markets, at the

maturity of the initial debt there is a

risk of: (i) finance not being available;

or (ii) finance costs increase from

those originally

projected. From a government

perspective, the private sector needs

to have some incentive

to manage its finances efficiently, so

needs to bear some of this

refinancing risk.

One option is for government and the

private sector to share the refinancing risk.

Many governments already bear this risk (or

manage it on a portfolio basis) for their own

borrowings and those of state-owned

enterprises.

Also, existing PBAS policies in other

countries allow for government to share the

gains from lower refinancing costs.

Financing PBAS Transactions – Bank Debt

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Financing PBAS Transactions – Local Currency

Bonds (LCY)

• Bond financing is the

alternative to bank financing

• Since the GFC and the

disappearance of mono-line

insurers there has not been a

deep project bond market, if

at all

• Indonesia’s bond market has

grown steadily in recent

years to offer a more

diversified array of debt

instruments and to cater to a

broader investor base.

• Foreign investors are allowed to invest in the bond market, subject to regulatory

approval. The country’s current legal framework for securitization encourages

opportunities for new instruments to be introduced.

• What will potentially improve this local market is further development of

regional bond market - since the Asian Financial Crisis in the late 1990’s, the LCY

bond market has increased but government bonds are the main share

Source: Asian Development Bank

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Financing PBAS Transactions – Equity• Equity investment is needed to

attract private debt (which is why PBAS transactions are leveraged with debt and equity

• Equity investors assume the highest risks

• Equity's rate of return is not fixed: – Payment to equity investors

depends on operating performance

– There is upside potential, if the project operates well and above projections

– They could also lose their entire investment (e.g., in case of a default on debt).

• Given the risks assumed by equity parties, some equity investors may

invest only after construction is complete and revenue has stabilized to

lower their risk exposure – using PBAS payments, however, helps to

encourage equity to participate in the construction phase

Source: US DoT: FHWA Office of Innovative Program Delivery

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Understanding Market Concerns

• As a PBAS contract is a

partnership/collaboration agreement

between government and the

private sector, it is helpful to

understand some of the market’s key

concerns with PBAS transaction

• These concerns include:

- Payment security

- Exchange rate risk

- Regulatory framework

- Government’s project development.

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Understanding Market Concerns - Payment

Security

• Payment security is a key

market concern

• This is because several

parties have debt and equity

at risk (which is part of the

performance/incentive

structure for the private

sector to perform)

• To secure this performance,

the government, the PBAS

payment by government is

essential to providing

payment security for the

private sector

• Note, PBAS payments made by government are not all paid first to debt and

equity providers – there is a “payment waterfall” which prioritises payments

• In fact, equity providers are usually the last party to receive payments –

operations & maintenance expenses and reserve funds have a high priority

Source: US DoT: FHWA Office of Innovative Program Delivery

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Understanding Market Concerns – Exchange Rate Risk

• Exchange rate fluctuation is an issue for Indonesian infrastructure projects

- the international market is often hesitant to accept funding exchange

rate risk, where user charges are denominated in IDR but debt and equity

are in US dollars

• PBAS concessions, where the government assumes demand/user charger

risk and makes the annual PBAS payments to the PBAS operator, can

possibly alleviate the market’s concern

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Understanding Market Concerns – Regulatory Framework

• Changes and more consistency in regulatory and frameworks and other

factors are needed to rebuild market confidence to do business in Indonesia

Possible Regulatory Changes to Improve Market Confidence

Improving coordination among government agencies, ministries, and sub-sovereign

governments

Faster progress in determining spatial planning

Improving institutional capacity to resolve contract disputes

Improving legal rights to safeguard the interests of the private sector

Remove or centralise overlapping licensing and permit issues at the central and sub-

sovereign government level

Legal conditions for domestic capital and securitisation markets need to be aligned

with ASEAN policies and stock markets to access wider pools of infrastructure

financing

Reduce unnecessary regulatory burdens on joint venture rules for foreign investors

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Understanding Market Concerns –Government’s Project Development

• A key bottleneck to

infrastructure development is

a severe lack of bankable

projects which can attract

private capital, and improving

significantly the flow of

project transactions

• Construction risk (permits, timeliness and cost overruns), certainty of

land acquisition, demand risk, long gestation periods, low returns and

lumpiness of capital, are key concerns for private financiers

• Private sector confidence can be improved through better project

preparation and structuring projects to manage these risks

• Institutional capacity needs improving to carry out the level of detail

desired by the private sector during the pre-construction stage (e.g.

feasibility studies, documentation, and public consultation)

• There also needs to be a dedicated unit in Government to manage and

coordinate the PBAS transaction during both the procurement and the

operating phases of the project

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Understanding Market Concerns –Government’s Project Development

• For PBAS implementation in Indonesia, there are existing PPP support

structures in place that will play a vital role

• The implementation focus needs to be on the coordinated roles that

these existing institutions will play, e.g. government funding support,

guarantees, project due diligence and facilitation

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Next Steps for

Implementation of PBAS?

• There are several implementation issues to keep in mind

Implementation Issues

Changes to the PPP regulations to include PBAS/availability PPPs (this is underway)

Capacity and capability in both government and the private sector

Developing a public sector comparator/benchmark of project delivery and operational

cost, and value for money analysis

Authority to enter into long term contracts for construction, operations and maintenance

Budget funding certainty for making any availability payments

Developing a contract management/performance management unit with government

Strong, transparent procurement guidelines and practices are essential to attracting world-

class PPP consortiums

Encourage competitive bidding by PPP consortiums to get the best possible pricing from

the market

Using market-accepted concession agreements and experienced, good quality transaction

advisors/consultants that reflect world best practice are critically important to building

market confidence

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Closing Observations – The PPP Maturity

Model

• The lessons learned from other PPP jurisdictions is the market does judge the “PPP Maturity” of countries – that is, toll PPP and PBAS experience

• Indonesia will be competing against these other PPP countries for finance and equity Source: New Zealand Government Office of the Auditor General:

Managing the Implications of Public Private Partnerships (2011)

• Adopting PPP processes and governance used in these other

OECD countries will help improve market confidence and

certainty

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Closing Observations – The PPP Maturity

Model

• Using a “3 Step

Process” may assist

in implementing

PBAS, using the

transport sector as

the starting point

• A key point in this 3

Step Process is to get

PBAS transactions

right then move to

new innovative

models

Source: Deloitte Research – Closing America’s Infrastructure Gap

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Thank you