Financing Energy and Climate PPP based Infrastructures: Experiences and Emerging Trends

Venice, May 9th ,2014

1

PPPs are no silver bullet solution...

Potential challenges

Loss of public sector control &

flexibility

— Government with limited control over future system design/configuration as needs change

Transaction & monitoring costs/time

— Fixed transaction costs (e.g. mgt time, advisor) relative to project size — Supervision and monitoring costs

Higher cost of capital

— Cost of capital of private sector often higher – except developing countries

— Issue of unmanageable risks, e.g. currency, demand

Misaligned incentives

— Imperfect regulation, regulatory lobbying & capture — Incomplete contracts: renegotiations and disputes due to external

changes — Externalities (Civil consensus, ...)

2

...but PPPs have potential advantages (not just private finance)...

Less white-elephant projects • Chile using PPP filters out about 30% of projects • No bidder interest • Improvement of projects after market sounding

— Double due diligence — No bias of green- vs. brownfield

Improved project

selection

Accelerated infra provision

Potential PPP advantages

Revenue innovation

Whole life-cycle cost optimization

— Overcoming public financing /funding constraints

— Accelerates macro benefits

— Life-cycle dependency (D-B-O-M) — Risk unbundling and re-allocation

(private vs public) — Efficient operations, economies of

scale & technology investment

— Maximizing capacity & utilization — Price segmentation — Innovative & ancillary services

Examples / evidence

Good track-record of on-time project completion • Example Australia: PPPs 3.4% ahead of

schedule; traditional 23.5% behind time

Cost savings of 10-20% • Australia : 7-23% • UK: 17%

High potential for ancillary revenues

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Horizon Electricity integrated Airports Railroads Highways

Oil & Gas T&S Ports

... and Private infra investments with attractive risk-return profile Financial analysis of publicly listed infrastructure operators

Electricity T&D

TSR (10 yrs.)

ROCE

Electricity generation Water

10%

5%

0% 0.9%

9.0% 7.6%

3.5% 4.1%

7.8% 6.9% 6.6% 4.6%

Ret

urn

20%

10%

0%

10.7% 6.9% 7.8% 8.3% 10.1%

15.8% 8.7%

21.5%

10.8%

EBIT margin 45% 21% 25% 23% 16% 18% 14% 14% 13%

Volatility (%)

Beta

Ris

k

20 21 23 26 18 25 15 18 17

0.56 0.57 0.61 0.74 0.43 0.72. 0.49 0.57 0.43

Note: Volatility is calculated as the market-value weighted average of the standard deviation of monthly total shareholder returns (TSR) of individual firms over the last 5 years. Betas are derived from regressing local returns against broad local stock market indices using the last 5 years of monthly returns and aggregating individual firms by equal weighting. Source: BCG analysis; Datastream, Rothballer/Kaserer 2012: The risk profile of infrastructure investments, Journal of Structured Finance (forthcoming)

would be 4.7% excluding

Veolia

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How to be sure to get it right (I) ? BCG-WEF PPP best-practice framework

Source: World Economic Forum, BCG

Project preparation

Balanced risk allocation & regulation

Bankable feasibility

study

Conducive enabling environment

Public-sector readiness

Private-sector readiness

Civil-society readiness

Life-cycle assessment of public vs.

private delivery

(VfM test)

Integrated infra plan &

cost-benefit based project prioritization

Project origination

Rigorous monitoring

of B and O & ex-post

evaluation

Competitive, transparent tendering

& financing support

Project implementation

Long-term contracts need long-term commitment &

resources

Whole life-cycle instead of

opportunistic approach

A PPP programme – not a series of transactions

PPP and privatization design - Economic Regulation - June2012.pptx 5

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How to be sure to get it right (II) ? Economic regulation design framework

Regulatory framework Regulatory process

Alignment Levers

• Legislation • Design of politically independent institutions • Public sector capacity

Market design

Risk allocation • Information gathering & monitoring

• Stakeholder consultation

• Rate reviews • Appeals,

arbitration and dispute resolution

Regulatory governance & enabling environment

Objectives

3

4

7

5 6

Design principles

1

2

• Operator attractiveness: Profit • State & customer safeguarding: affordability, capacity, quality

Price / revenue regulation

• Requirements & recognition

• Concession duration, ownership, governance

Service regulation • Safe-

guards • Link to

financials

Service regulation

Capex regulation

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• Demand • Commodity cost • Maintenance • Labour • Technology

1 - Align the evaluation of the risks of the investment and allocate them properly

Prototypical risk allocation between public and private sector

Design Build Financing Operations

• Site acquisition • Permits • Ground

conditions • Protests

• Delay • Cost overrun • Sub-contractor • Material

• Interest rate • Financing

availability

Political

Macro

• Law change • Tax change • Change of regulation

• Inflation, x-rate

• Force Majeure • Economic growth

Risk typically allocated to public sector

Risk typically shared or allocated to public/private sector

Risk typically allocated to private sector

Changing perception of the risk in energy

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2 – Clear definition and stability of the overall market design and segment bundling decision (I)

Assess competitiveness of value chain segments

Decide on segment bundling/unbundling1

Decide on market design

A B C

Each value chain segment of the infrastructure service to be analyzed along the factors

• Economies of scale & scope • Other entry barriers

… yielding an assessment of the potential competitiveness

Value chain segments are then either bundled or unbundled

• Unbundled: preferred option due to benefits of competition

• Bundled: if high coordination costs or political constraints

… yielding the market segmentation

For each market segment, the type of competition or regulation needs to be decided

• In-market competition • For-market competition • Price regulation

… yielding the final market design

Example

1. Unbundling is the separation of competitive and non-competitive value chain segments in an industry Source: BCG analysis

Infra- structure

Terminal operation

Ground services

Facility mgt.

Non- Aviation

"Competitive" "Monopolistic"

Infra- structure

Terminal operation

Ground services

Facility mgt.

Non- Aviation

Unbundling Bundling

Infra- structure

Terminal operation

Ground services

Facility mgt.

Non- Aviation

Competition Regulated monopoly

Toward a New Balance of Power - Long version - English - 9Mar13.pptx 8

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Transport

2 – Clear definition and stability of the overall market design and segment bundling decision (II)

Sales and DSOs

Centralized generation and storage

TSO

Consumption

1980–1990: Vertical integration

Sales

Trading

Centralized generation and storage

DSO

Consumption

Distributed generation

2000–2010: Unbundling

Energy trading

Distribution and transport (excluding metering)

Steered consumption

Trading

DSO

Centralized generation and storage

Metering and communication

Sales and decentral markets

Distributed generation and storage

~ 2020+: Deconstruction

TSO

TSO

Toward a New Balance of Power - Long version - English - 9Mar13.pptx 9

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3 – Clear definition of the pillars of the price regulation and their alignment with the industry specific requirements

Regulatory scope

• Full regulation

• Partial regulation

– with subsidy

• Partial regulation

– w/o subsidy

Pricing methodology • Usage based

– Rate of return

– Price /

revenue cap

(I-X+-E)

– Liberalization

• Availability

contracts

Review frequency

• Annual

• 2-3 years

• 4-5 years

• > 5 years

Price regulation

Key determinants for

fair price

• WACC

• Regulated asset

base

Source: BCG analysis

Capex management

• Inclusion options

• Requirements

• Enforcement

Hot issues

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Sector Type of regulation

Rate-of-Return regulation still dominant vs. I-X regulation However, over last two decades increasing use of I-X

Electricity

Gas/Water

Transport

Telecom

Percentage of countries

Mobile services 22 41% 36% 23%

Fixed-line services 23 35% 43% 22%

Fixed-line network 24 50% 29% 21%

Airports 19 42% 37% 21%

Ports 16 25% 6% 69%

Road 16 38% 38% 25%

Rail 19 63% 21% 16%

Water supply 16 63% 19% 19%

Gas distribution 24 71% 25% 4%

Gas transmission 23 70% 26% 4%

Distribution 22 55% 41% 5%

Transmission 24 67% 29% 4%

Generation 20 15% 5% 80%

RoR/Cost-based regulation I-X incentive regulations Liberalization 1. Rate-of-return and other cost based approached 2. Price Cap as well as other incentive regimes Note: Data from OECD countries. Cost-based regulation includes Rate-of-Return regulation and other cost-based approaches. Incentive regulation includes Price Cap as well as other incentive regimes, e.g. revenue caps Source: Égert, B. (2009) Infrastructure investment in network industries: The role of incentive regulation and regulatory independence, CESifo Working Paper

Usage-based models—Overview

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4 - Adaptive regulation to cope with unpredictability & cyclicality if clear regulatory governance

Regulator roles and responsibilities

Political independence

Decision-making autonomy

Enablement and capability-building

a b c d

Thank you

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