What are the different types of PPP arrangements?

[Response by Rui Cunha Marques, February, 2010)

Among different possible classifications, PPPs can be categorized into two types: a PPP of a purely contractual nature and a PPP of an institutional nature. This categorization is adopted by the European Union and by many other countries.

In a PPP of a purely contractual nature, the partnership between the public and the private sector is based solely on contractual links, whereas in a PPP of an institutional nature there is cooperation between the public and the private sectors within a distinct entity. Both arrangements involve delegated management of the traditional public sector activities to the private sector. In the first type of PPP, the rights and obligations are regulated by an administrative contract or series of contracts. In the second, they are guaranteed by the company’s statutes and by the shareholder agreement between public and private parties. There is contractual regulation in both situations.

Contractual PPPs: In the scope of purely contractual PPP, there are different kinds of arrangements that depend on the characteristics of the contractual relationship and delegation of tasks to the private partner. Some of the best known models are in the development of urban infrastructure facilities: the associated provision of services corresponds to the “concession model”. In this situation there is a direct link between the private partner and the final user: the private partner provides a service to the public “in place of”, though under the control of, a public authority. The private party assumes all the responsibility relative to the construction, operation and maintenance of the infrastructure assets, charging users for the service. Usually the concession model is associated with long contractual periods, matching the long asset life of infrastructure.

An important variant of the contractual PPP relates to infrastructure systems where it becomes necessary to transfer funds from the government or other external entities (e.g. donors) to assure their economic-financial balance (Merna and Njiru, 2002). This model, known as PFI (private finance initiative), was initially aimed at sectors such as health (hospitals) or education (schools) where there was a periodical payment (monthly or annual) to the private partner for making that infrastructure available. This model has been extended to many other sectors (e.g. in transportation, shadow tolls) and can perform a valuable role both in developing countries where cost recovery through users is socially complicated (FHWA, 2009) and in segments of the urban infrastructure systems production process (e. g. water or wastewater treatment plants). A plethora of different kinds of contractual PPPs esist and new variations emerge continuously as each PPP contract responds to very precise needs. Some of the most frequent labels are BOT (build, operate and transfer); that is, the private partner builds and operates the infrastructure, transferring it for the public partner at the end of the contract. BOOT (build, own, operate, and transfer) is the organizational form when infrastructure ownership is also private during the contract term; DBOT or DBOOT would be the acronyms if arrangements further include the responsibility for the design of the infrastructure project as well. The concession model is also, sometimes, separated into public works and public service concessions, depending on the business (contract) value of the infrastructure or service provision, respectively. In fact, many concessions are of mixed type: there is a balance between both activities.

Leasing/affermage: A variation of the PPP concession model are affermage (or leasing) contracts. This model is analogous to the concession model, except for investment in and financing of the infrastructure assets, which are under the responsibility of the public and not the private partner. This form of contractual PPP can be appropriate in situations where assets have already been build and it is not necessary to make investments in infrastructure or where the risk premium of transferring this responsibility to the private partner is very high. The commercial risk continues, a priori, to be allocated to the private party and the contract length is often shorter than in the case of a concession (in general between 10 and 18 years).

Delegated Management Contracts: Another format of contractual PPP are delegated management contracts, which are at the boundary of PPPs depending on the risk transferred in each situation. They encompass relatively short periods (3 to 8 years); the payment of the private partner is done by the public partner (rather than involving revenue collection directly from the end consumer), often according to the service delivered (e.g., drinking water treatment plant operation is paid based on the m3 of drinking water treated). This arrangement is basically service provision through outsourcing; although some of the PPP principles apply to this case (e.g. output orientation), it is not a “true partnership”. Delegated management contracts are often used in preparation for more fully involved PPP contracts, e.g. long-term concession contracts, or even divestitures.

Institutionalized PPPs: Institutionalized PPPs (mixed companies) imply the establishment of an entity held jointly by the public partner and the private partner. The joint entity thus has the responsibility of ensuring the delivery of a work or service for the benefit of the public. The establishment of an institutionalized PPP can be done either through an entity where public and private sectors jointly participate or through private sector buying and owning shares in an existing public company. Usually the public partner controls the company either as shareholder or through special rights it may hold and the private partner operates the service. This kind of cooperation between public and private partners can be very positive since the public partner keeps control over the infrastructure service, it may allow for service adjustment over time according to changing needs, conflicts are resolved internally and the public partner acquires know-how from the joint work with the private party.

Notwithstanding the existence of a sector regulator, what regulates the PPP are the company statutes and the shareholder agreement. The statutes of the company establish common rules for the organization, governance and operation of the company. The shareholder agreement regulates relationships between partners (public and private). This last document is central to the performance of the entity. It establishes the minimum financial participation required by the private partner, risk sharing arrangement, the procedures to be used in a deadlock situation, and the possibility of a call-option by the public entity, placing pressure on partners to perform well during the PPP contract period. In the same way that there are several advantages in the fact that the public partner can have a more active and participating role in this PPP model, being able to limit conflicts and better solve difficulties, the institution is susceptible to “capture”. Due to close contact or identification with partner concerns, those representing the public might become excessively attached to the objectives of the private partner, thus harming the public interest.