IFM Investors has proposed The Building Australia Model as a way for private investors to help Governments invest in infrastructure to fight the economic effects of the Covid-19 pandemic. Here I compare the model with traditional procurement and ask questions about how it could actually be implemented. #infrastructure #investment #covid19australia #covid19aus #australia #building
The past week has seen the release of Australia’s Federal budget. It focuses on recovery from the COVID-19 pandemic and has within it a range of support mechanisms to foster economic growth. Despite the headline claims of $A110 billion, it is important to note that this expenditure is set to be made over 10 years, with the budget papers suggesting that for the 2020/2021 financial year a spend of only $1.5 billion can be expected.
Thankfully, the Federal budget isn’t the only source of funding for infrastructure with other initiatives having put forward In July this year, IFM Investors were promoting the “Building Australia Model” as a way of harnessing private investment for major infrastructure projects.
Given the references in the documentation that Governments are the final customer, it appears that the major infrastructure projects IFM is referring to are Public Private Partnerships (PPPs). Traditionally, procuring infrastructure in this manner involves:
Forming of consortia, comprising debt and equity investors, construction and operations and maintenance providers.;
The consortia bid to Government for the provision of the infrastructure. The bid can either be for revenues from the project (ie. a toll road), or for the lowest cost provision (ie. prison, hospital or school).;
The Government makes a decision based on their decision criteria (this can be cost, lowest toll, shortest concession period).;
Financing is confirmed; and,
The infrastructure is constructed and operated.
This approach provides a fair degree of cost and time certainty for the Government as an advantage. These contracts often specify the price as well as expected start date with penalties for late delivery. Furthermore, by having a competitive bid for cost, it is possible that the consortia can innovate to produce the lowest level cost.
However, it is worth noting that this approach is complex, time consuming and for the benefits that the cost and time certainty provide, they can only be provided by larger construction companies, reducing the ability to create competitive tension. These downsides appear to be the main reasons IFM has suggested the Building Australia Model which is a slightly different approach from the traditional PPP model. From the materials provided, IFM proposes:
· The government selects the long-term equity investor, either consortia or individual that then sets up the Program Vehicle.
· This Program Vehicle, which then arranges financing, project management and the delivery of the infrastructure, including construction and maintenance.
· As the Program Vehicle has the agreement with the government, then it is ultimately responsible for the completion and provision of the infrastructure.
The major difference between the Building Australia Model and traditional PPP procurement is that it replaces the assembly of consortia to bid, build and operate the infrastructure with a selection of equity investors that then arrange financing, construction and operation of the assets. This raises three interesting questions:
First, how would this procurement model ensure the Government achieves certainty for the on-time completion of the infrastructure?
The equity investor would set up a Special Purpose Vehicle, and it would be doubtful if they would not try to limit their liability to only their equity investment. How would any contract be enforced should there be issues with construction? Even in current PPP models there have been construction issues, for instance the Ararat Prison and more recently the West Gate Tunnel Project. With the current model there are incentives for the debt financiers to step in and ensure the project is completed. If there are no debt financiers or debt financing is only provided much later in the project’s life, will there be any party interested in ensuring project completion?
Second, how would this model provide cost certainty to Governments for the infrastructure provision?
The current model requires the consortia to develop detailed plans and costing for the provision of the infrastructure. The Building Australia Model is silent on how this would be achieved. This would create great uncertainty and, would be highly unlikely to be acceptable for both Governments and debt investors. This area would need further examination before this model is considered as an alternative to the current procurement methods.
Finally, how would the infrastructure make money to cover the construction, operations and maintenance expenses let alone a return for both debt and equity investors. If the infrastructure is after a public subsidy, then how can that be benchmarked to ensure a fair return is paid?
Under a competitive bid process, as the current procurement model is conducted, it ensures that there is at least a low probability of overcharging for the infrastructure provision. How would this work under the Building Australia Model considering that procurement is directed?
Overall, the Building Australia Model is an interesting suggestion for changing procurement methods of major infrastructure. However, the model provides scant detail on how it would be implemented and for me, raises some serious questions that need to be addressed before we would see it adopted for major infrastructure projects.
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