August 7, 2013

Council of Development Finance Agencies --Negotiating PPP/P3Agreements

Greg Daniels+ 1 614 365 2789greg.daniels@squiresanders.com

Bruce Gabriel+ 1 216 479 8746bruce.gabriel@squiresanders.com

Ed Johnson+ 44 (0) 207 655 1097edward.johnson@squiresanders.com

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Squire Sanders TeamGregory R. DanielsT + 1 614 365 2789E greg.daniels@squiresanders.comEducation:University of Michigan, J.D., 2001The Ohio State University, B.A., 1998• Counsel to public and private entities on P3 parking construction and monetization transactionsand a wide range of P3 transactions where government payments are subject to appropriation

D. Bruce GabrielT + 1 216 479 8746E bruce.gabriel@squiresanders.comEducation:Northwestern University Law School, J.D. and

Kellogg Graduate School of Management, M.M., 1980Coe College, B.A., 1976• Global Public & Infrastructure Finance Practice Group Leader, with extensive public and structured

finance experience, involving a variety of facilities and counsel roles• Counsel to the Cleveland-Cuyahoga County Port Authority in connection with its participation in the

Cleveland Innerbelt Bridge DB(F) Project

Edward JohnsonT + 44 (0) 207 655 1097E edward.johnson@squiresanders.comEducation:University of Liverpool, LL.B (Hons), 1994Inns of Court School of Law, 1995• Counsel to project sponsors of UK health, education and transport projects• Counsel to the UK Government on five DBO highway projects with a capital value of approximately

£2 billion

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Presentation Overview

Introduction Review of Basic Concepts US Hybrid Tax-Exempt Debt Structure

Part I: Negotiating the Terms Basic PremiseKey Concepts and FeaturesProcess: Inception to ExecutionPublic Entity PreparationProject/Concession Agreement

Part II: Managing RisksTypical Project RisksConstruction RiskOperation RiskFinancing RiskMitigation of Risks

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What is a Public Private Partnership?

“A set of contractual arrangements between public and private sector participants under which private sector participants play a greater role than has been traditional in the development and financing of public infrastructure. While the public sector usually retains ownership of the infrastructure, the private participants have increased discretion in determining how the project or task will be completed”

Traditional US: Public Sector Design, Bid and Finance --Private Sector Build -- Public Sector Operate and Maintainvs.PPP/P3: Public Sector Scope and Performance Requirements -- Private Sector Design, Build, Finance, Maintain and Operate

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Simple PPP Contract Structure

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Really Simple PPP/P3 Contract Structure

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US Hybrid Tax-Exempt Debt Structure

OpportunityTax-exempt, governmental use bonds – capital markets financingPublic entity’s subject to appropriation credit rating, without debt incurrence, based on Concession/Project AgreementPassive role of Financing Authority with respect to Disbursement of Financing Proceeds to ContractorPotentially off-balance sheet for contractor

ChallengesEducation and Understanding-- State Credit v. State Law Debt-- Federal Tax RequirementsPublic sector decision-making processesDocumentation (accommodating taxable and tax-exempt financing)

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US Hybrid Structure (cont’d)

PartiesPublic Entity, e.g., Department of TransportationPrivate ContractorsPublic Bond Issuing AuthorityCorporate Bond TrusteeSurety

DocumentsFunding AgreementIntercreditor AgreementBond Indenture Direct Payment Agreement

ProjectsFloridaOhio

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PART I: Negotiating the Terms

• Basic Premise• Key Phases of the PPP/P3 Process• Critical Initial Stages• Public Authority Preparation• PPP/P3 Concession/Project Agreement

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Basic Premise – Cover All 3 P’s in PPP

• P3’s must reflect the Public InterestRetain ultimate control over the asset – state as guardian/custodian of public assetsTransparency required when dealing with public assets, services and fundsObtain value for moneyPay for performance

• P3’s must reflect the Private InterestReasonable profit and performance standards – usually best determined through open tenderProtects profit against identified risks, especially those controlled by the public bodyBalances transparency with protection of proprietary trade secrets or intellectual property

• Projects that reflect these interests will cover the third P: Partnership

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Key Phases of the PPP/P3 Process

Termination or expiryTermination or expiry

Contract ManagementContract Management

Financial CloseFinancial Close

PPP/P3 Contract NegotiationPPP/P3 Contract Negotiation

Request for ProposalsRequest for Proposals

Bidder PrequalificationBidder Prequalification

Project PreparationProject Preparation

Project SelectionProject Selection

Needs AnalysisNeeds Analysis

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Critical Initial Stages

Needs Analysis/Project Selection/Project Preparation

ISSUE QUESTIONClarity of requirements Is the scope of the P3 project clear?

Commercial interest Is there market interest from sponsor and investors?

Project information Project launch information.Bidder qualification and evaluation mechanics.

Affordability Budgets and approvals in place?

Public Sector team Resourced team to manage process.Governance structures.Appointment of advisers.Value for money assessment

Legal Processes Approvals.Does exciting law support PPP/P3?Public authority powers.

Risk Allocation & Terms and Conditions

Draft PPP/P3 Contract

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How should a Public Authority Prepare for a P3/PPP Project?

Avoid the mistakes and learn from experienceLack of clarity of required outcome.Lack of resources (headcount and experience).Lack of understanding of the private sector perspective.Lack of understanding of what the private sector can achieve.Lack of clarity about the public authority’s statutory powers.Incomplete/inaccurate information provided to bidders.Overly ambitious timetable.Political support and consistency.

Team of specialists Financial, legal and technical & P3 UnitPublic PolicyPublic Education Regulatory Framework Legal FrameworkStandardisation of P3/PPP Contract Documents

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PPP/P3 Concession/Project Agreement

Design/Build IssuesPreparation of design – what flexibility to make changes from preliminary designResponsibility for zoning, environmental, building permitsConstruction program and performance standardsSupervision of constructionBonding/guaranty requirementsCaps on Liability of SubcontractorsInsurance requirementsForce majeure/Delay EventsReporting/Confidentiality

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Concession Agreement/Project Agreement (Cont.)

Financing IssuesProposed cost of construction, financing and operationRevenue allocation – profit benchmarking/clawbacksAppropriation/public approvalsRate settingPerformance payment criteriaRights of senior debt holdersEquity at riskPublic buy-back of asset at expiration (residual risk transfer)

Termination Issues (Planned or Unplanned)Default and termination provisionsStep-in rights of senior debt holdersDispute resolutionHandback requirements

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Concession Agreement/Project Agreement (Cont.)

Operation/Maintenance IssuesPerformance standards during operation/control/modificationSupervision of operationsSpecial conditions and cooperation regarding emergencies, safety and securityForce majeureInsurance requirementsPerformance Security and GuaranteesCaps on Liability of SubcontractorsGuarantee of public accessReporting/Confidentiality

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Concession Agreement/Project Agreement (Cont.)

Compensation Events/Material Adverse EventsDuties to expand/build-out facilities in case of increased demand/deterioration of service levelsOther directivesConstruction and operation of competing facilitiesRisk of future changes in law and regulationsTaxesPermitting/regulatory delaysClosuresLitigationDemand/usageConcession term and option to extend/early terminationRemedies

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What happens when things go wrong?

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Part II: Managing Risks

• Risk Management Principles• Typical Project Risks• Construction Risk• Operation Risk• Financing Risk• Mitigation of Risk

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PPP/P3 Risk Management Principles

Fundamental principleRisk should not generally sit with Project CompanyRisk should sit with the party best able to deal with it

Project Company “flow down” risks assumed under Project AgreementRisks assumed by Project Company are risks of funders

Limited recourse financingPrincipal security is the revenue generated by the Project

More risk = higher price (generally)

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Typical Project Risks

“Cradle to Grave” approach to riskConstructionOperationPoliticalLand acquisition/environmentalLegal/regulatoryThird party interface

Handback General Principle Project Company must allocate risks to those best placed to manage the riskTypically Building Contractor or FM Provider/Operator

Time for completionDelay eventsLong stop date for completion

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Construction Risk

Fixed price lump sumCompensation events

Site condition and accessQuality of worksCertification of practical completionDamages for delay

Liquidated and ascertained damages

Parent company guarantee/performance bondCaps on Liability Operation of the asset to the required standard

Continuous improvement/step changeChange in law

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Operation Risk

Availability of the assetPayment mechanism

Performance monitoring/Helpdesk Rectifying performance failuresPerformance deductions/service failure pointsWarning notices/termination

HandbackParent company guaranteeCaps on liability“Flow down” of risk away from Project Company

Subcontractor interface agreement

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Financing Risk

Financing CommitmentsFirmness/CapacityAvailability of public authority financing to all biddersInterest rate riskMultiple layers of financingFulfillment of conditions precedentRefinancing risks

Demand RisksTechnological innovationRisk of lesser demandIncreased expenses in case of greater demandFlexibility to increase project capacity, or requirement?Increased profits in case of greater demand

Appropriation Risk

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Mitigation of Risk

Performance security Parent company guaranteePerformance BondRetention BondReserve accounts

Corporate security – debenture/charge over sharesInsuranceDirect Agreements

Authority Direct AgreementSubcontractor Direct Agreement

Due DiligenceUnderstanding of the sector and market precedentIdentifying “legitimate” departures from market precedentCommunication – legal/technical/financial

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A Few Examples

• Political Risk:“Georgia shocks investor groups with late stage cancellation of

procurement for toll lanes concession on GA/I-75&575” (December 1, 2011, http://www.tollroadsnews.com/node/5661)

• Financing Risk:“Consequences of Midway Airport Privatization Collapse”

(May 15, 2009, Reason Foundation)

• Operational Risk:“New York to Repeat Chicago’s Parking Meter Catastrophe”

(www.rollingstone.com June 13, 2012) “New York Scraps Privatizing Parking Meters” - WSJ.comJan 26, 2013 – “Pittsburgh and Los Angeles also have put

privatization plans on ice. ... Chicago is in arbitration with Chicago Parking Meters LLC….”

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