The Public-Private Partnership (PPP) route has become popular in India for the provision of critical infrastructure. This is due to several policy and structural reforms. Compared to traditional models of infrastructure provision, PPPs have two distinct features. First, they show a markedly increased level of private sector involvement, which can increase the efficiency and effectiveness of a project through its life cycle. Second, PPPs can spread project costs over an extended period, freeing up public resources to invest in areas where private investment may be hesitant to enter.
As India desire one over Thrust on 100 trillion infrastructure to drive growth, role of PPP needs to be looked into closely. Recently the Delhi High Court had ordered that the Delhi Metro Rail Corporation (DMRC) would have to pay 8,009.38 crore due to Reliance Infrastructure Limited initiates a debate on setting up Public Private Partnerships as well as sharing the risks involved. That the ordered amount is many times the DMRC’s annual revenue from Delhi operations indicates the scale of its financial impact. Effects can last for years. While risk sharing is one of the major reasons for implementing PPPs, there are technical and organizational challenges for some PPP participants. These include unclear agreements on risk and responsibility sharing, inadequate procedures for dealing with disputes between partners, and a lack of agreement on how to deal with the risk of failure. The problem is compounded by the absence of reliable means of risk assessment. This often results in mispricing and unequal distribution between or between partners.
Managing risks in PPP projects requires precise formulation of rules for the partners and specified mechanisms for their mitigation. Effective risk allocation requires the parties to identify project risk factors in advance and allocate them to the party that can best manage them. Nevertheless, some potential risks may emerge beyond the agreed terms. However, risk in a PPP must be allocated to the participant most effective at managing it at the least cost. Generally, public sector partners are better at handling risks associated with changes in the political and regulatory environment, while private sector partners are better at managing risks associated with project management. PPP projects that do not transfer risk and benefit from risk-management capabilities to the private sector will be more likely to fail.
In order to better manage the risks of large projects, PPP policy may explicitly assign it to the private sector, with the transfer of specific risks and responsibilities throughout the project’s life cycle, including development, construction and operation. This includes a risk premium which is a central part of the cost in large private projects, and should be included in PPP projects. Government agencies must realize the need for specialized risk-management capabilities and partner with the private sector. It is also important to recognize that in many areas, the public sector does not have sufficient experience in managing certain types of projects to acquire the necessary risk-management capabilities. In these situations, a misalignment occurs that can lead to the overall failure of the project.
At the heart of the problem is the fact that the public and private sectors think about risk differently. Although many public agencies have developed sophisticated risk management strategies, their focus remains limited to a specific set of issues. Often, these revolve around definitions of transparency and compliance with procurement laws. In some extreme situations, following only these aspects may be at the expense of the efficiency of the entire project. Excessive focus on administrative risks ignores the fact that a project needs to deal with tight budget constraints, which result in low volumes of use. Public sector partners also tend to leave construction, operational and commercial risks out of central consideration. Operational and commercial risks emerge when a project has cost overruns or construction is delayed. Public agencies ignore these risks because they do not face liquidity problems. This is because the failure of a project is unlikely to affect their liquidity as the demand for additional funds can be raised from the government budget. But the fact that the promised benefits of the project will take longer to manifest is overlooked.
In contrast, for the private partner, commercial risks can have huge financial consequences. Anything from a 10-15% increase in cost could mean that the company no longer turns a profit on that specific project, and an accumulation of such projects could push the entire company towards bankruptcy. This compels successful private players to build strong capabilities in risk management across project life cycles. Often, it is scrutinized for its sophistication by private investors. The private partner considers all risks – construction risk, commercial risk after completion, and others – and adds a premium to cover additional measures and activities needed to mitigate them. But some risk premiums seem like an unnecessary cost to the government. This can be seen as a form of good governance and financial control, but it focuses only on the budgetary elements, leaving project risks to an implicit assumption that these should be managed free of charge. We need a clear recognition of the fact that private sector risk-management capabilities generate efficiency gains. So we need a suitable mechanism to transfer these risks to private stakeholders.
In conclusion, we need a new approach for the success of PPP projects.
These are the personal views of the author.
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