18 Dec The feasibility phase and its issues by Phologo Pheko
The feasibility phase of a public private partnership (“PPP”) is arguably the most important phase. In terms of regulation 16.4.1 of Treasury Regulation 16 to the Public Finance Management Act, 1999 (“TR16”), a feasibility study must be undertaken by the accounting officer or accounting authority of that institution in order to determine whether the proposed PPP is in the best interests of such institution. That is common practise whenever a PPP is proposed to be undertaken anywhere in the world.
Over the past couple of years, there have been a number of projects in South Africa which, at first sight, had the makings of successful PPPs. However, a large number of them fail to make it to the procurement phase and, even if they do, the response of the market to the proposed PPP has been disappointing. This dynamic is not unique to South Africa and is being encountered in other parts of Africa.
Why is this the case? There are a number of reasons, but from experience the issue largely emanates from the feasibility phase of a PPP. To understand that view, one needs to know the purpose of the feasibility phase and its relevance to every other part of the PPP process. For clarity on that point, a good reference is regulation 16.4.1 of TR16.
By way of background, TR16 is the regulatory framework in South Africa in terms of which national and provincial government, constitutional institutions, a public entity listed or required to be listed in schedules 3A, 3B, 3C and 3D to the Public Finance Management Act, 1999, or any subsidiary of any such public entity can enter into PPP agreements. PPPs for municipal government are governed by the Municipal Systems Act, 2000 and, primarily, the Municipal Finance Management Act, 2003. Although there is a difference between the two regulatory frameworks as far as the persons or organs of state to whom they apply, the requirements imposed by each framework on the relevant persons are largely the same.
In terms of regulation 16.4.1 of TR16, to determine whether the proposed PPP is in the best interests of the institution, the accounting officer or accounting authority must undertake a feasibility study that:
- explains the strategic and operational benefits of the proposed PPP for the institution in terms of its strategic objectives and government policy;
- describes in specific terms:
- in the case of a PPP involving the performance of an institutional function, the nature of the institutional function concerned and the extent to which this institutional function, both legally and by nature, may be performed by a private party; and
- in the case of a PPP involving the use of state property, a description of the state property concerned, the uses, if any, to which such state property has been subject prior to the registration of the proposed PPP and a description of the types of use that a private party may legally subject such state property to;
- in relation to a PPP pursuant to which an institution will incur any financial commitments, demonstrates the affordability of the PPP for the institution;
- sets out the proposed allocation of financial, technical and operational risks between the institution and the private party;
- demonstrates the anticipated value for money to be achieved by the PPP; and
- explains the capacity of the institution to procure, implement, manage, enforce, monitor and report on the PPP.
The bases that the feasibility study is supposed to cover are quite broad and to ensure success the relevant institution would require the following:
- an experienced transaction advisory team to attend to the legal, technical and financial issues related to the feasibility study. This advisory team is normally sourced from the private sector as there are a limited number of government institutions with the internal capacity to attend to these issues;
- adequate funding in order for the institution to pay for the costs or fees of the transaction advisory team contracted to the institution; and
- political will for the undertaking of the proposed PPP.
The reason for some of the failed PPPs, whether in South Africa or elsewhere in Africa may be found in the absence of some or all of the items listed above.
In other parts of Africa, the main challenge lies in items (i) and (ii), but mainly item (ii). Experienced transaction advisory teams are not cheap. In light of the fact that some of the proposed PPPs in these jurisdictions normally require large capital investments, this informs the size of the fee quoted or to be charged by candidate transaction advisory teams. Various development finance institutions across Africa, such as the African Development Bank and the Development Bank of Southern Africa, have identified this as an issue and have set up facilities purposed to address it. It is often referred to as project preparation funding. A number of countries across Africa have made use of this funding in order to expedite the development of proposed government infrastructure and PPPs. Absent this support or support from their own government, institutions or public entities will find it difficult, if not impossible, to develop a feasibility study that fulfils its objectives.
Even in a scenario where the institution is funded to the extent required to pay the costs or fees of the transaction advisors concerned, it is fundamental that the advisors have the skills required to support the institution in developing the feasibility study. Absent this, the institution runs the risk of failing to address material issues associated with the proposed PPP and/or going out to tender with a project that may not be acceptable to the target market. Evidence of the latter is there being a small number of or even zero responses to the procurement documentation issued by the institution concerned in relation to the proposed PPP. The reasons for such an event may be many, but a well-developed and properly researched feasibility study goes a long way in mitigating this risk.
An unfavourable response from the market may also be a result of the nature of the project where the terms thereof are unusual or contrary to market standard. From experience, institutions may at times desire to structure a PPP, which contradicts customs universally accepted or expected by the private sector. The rationale may be that the institution concerned is inspired by a desire to strengthen the ‘value for money’ aspect of the PPP by structuring it in a particular way. The private sector would not have an objection to such endeavour. There are instances within South Africa and elsewhere in the world where the private sector is afforded an opportunity to provide institutions with unsolicited proposals for a project. The unsolicited proposal process allows the private sector to put forward ideas of projects to the institution concerned, which project ideas may be in-line with custom or different in order to provide value for money to the institution concerned.
However, it is important for the institution to consult the relevant target market if ever they desire to undertake an ‘unusual’ PPP. Ideally, the consultation process should not take place after the issue of a request for qualifications and/or request for proposals. This may have severe consequences on the institution’s programme and may not be well received by the target market.
An option would be for the institution to issue to the target market an expression of interest, in terms of which it details the intricacies of the proposed PPP and, most importantly, the nuances the institution wishes to introduce. The desired outcome for an ‘expression of interest’ process is input from the relevant target market on the proposed PPP and any other comments on its feasibility. The input will better inform the institution’s direction on the feasibility study and ensure that it is adequately placed to prepare a project attractive to the relevant market.
The presence of items (i) and (ii) in relation to the development of a feasibility study are of no use to the institution in the absence of item (iii). For the proposed PPP to move from the feasibility phase to financial close, it requires political will within the institution and other institutions necessary for such progress. Government plays a critical role in the progress of any proposed PPP. The private sector is able to arrange itself in a manner that aids progress. Absent of political will however, the proposed PPP will stall and most likely be discontinued by the institution concerned. Such experiences discourage private sector involvement in any future projects and lead to negative perceptions about the institutions involved. This is not ideal and should be averted at all costs.
A feasibility study properly undertaken goes a long way in ensuring that the proposed PPP is absent of any legacy risks and any other issues that may compromise its success. There is sufficient capital and skills within Africa, and we believe the political will is equally present to develop PPPs to a point where they present a good investment opportunity to the private sector.