IIICE Day 2 Risk Allocation PPP in Infrastructure Project -Armand Hermawan

IMPORTANCE OF RISK ALLOCATION

FOR PPP INFRASTRUCTURE PROJECTS IN INDONESIA

Risk Evaluation for IIGF Guarantee

Armand Hermawan, Director of Finance IIGF

AGENDA

2. PPP Risk Category and Risk Matrices

3. Evaluation of Risks for IIGF Guarantee

1. Risks Assessment and Allocation in PPP Project

AGENDA




Risk Assessment and Allocation

4

Risk Identification

Quantitative Analysis

Risk ImpactQualitative Analysis

Risk Allocation

Enlist of all

Project Risks

Identify

consequence of

Risk

• Analyze potential

impact of Risk

• How risks will be

managed

• Analyze monetary

impact of Risk

• Risk adjusted

possible costs

• Share of risk

between parties

(RISK

ALLOCATION)

• Optimal risk

transfer

Risk Assessment and Allocation: Example

5

Risk Identification

Quantitative Analysis

Risk ImpactQualitative Analysis

Risk Allocation

Commissioning

– Delay in

service

provisioning

Failure to complete

or construct

adequately

• Cost and time

overruns

• Cost of maintaining

exiting

infrastructure while

wait for new

facilities

• Dependent on

extent of time

overruns

• Dependent on

probability of risk

occurring

• Allocate risk to

bidder; cap time

and price; use

experienced builder

• Ensure

construction

company provides

performance bonds

Risk Allocation: Principles

6

• Risk should be allocated to party that is relatively able in managing the risk (or having the least cost of absorbing such risk).

• An optimal risk allocation is to lower the risk premium and the project cost and hence it has positive impact to the project stakeholders

• Highly speculative and uncertain risks, should be shared between parties unless it is agreed (after negotiation)

Some straightforward examples: • Construction risk lies with private contractor• Regulation risk lies with government

What about other risks: Demand risk? Currency risk? Cost pass‐through in pricing and moral hazard?

Risk allocation depends on bargaining power But less risk less project distress

Consequences of “imbalance” Risk Allocation

7

• The Commercial Banks could not participate in the project financing, unless the risk allocation was changed

• Problems to project completion

Solutions to the risk allocation problems were developed base on extensive negotiations between all parties involved

AGENDA




PPP Risk Category – Generic Risk Group to Identify Risk Events

9

1. Site risk4. Financial

risk

2. Design, construction &commissioning

risk

3. Sponsor risk

5. Operating risk

8. Interface risk

6. Revenuerisk

7. Network connectivity

risk

9. Political Risk

10. Force majeure risk

11. Asset ownership risk

• Risk Category is used for generating identified risk events in each specific PPP project

• There are 11 groups of risks

PPP Risk Category (1)

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1. Site risk 4. Financial risk2. Design, construction and commissioning risk

3. Sponsor risk

1)Land

Acquisition

risk,

2)Landsite

Unsuitability

risk

3)Environmental

Risk

1)Financial uncertainty risk: risk

that the financiers do

continue to provide funding

to the project;

2)Financial parameter risk like

macro economic assumption

3)Financial structure risk: risk

that the financial structure is

not sufficiently robust to

provide fair returns to debt

and equity over the life of the

project; and

4)Insurance risk: (i) that any

risks of which insurances

later become uninsurable or

(ii) of substantial increases in

the rates

1)Planning Risk, i.e., facilities on the

project site fails to comply with any

applicable laws relating planning

2)Design risk: the risk that the design

may not achieve the required output

specifications;

3)Completion risk (a) delayed so that

the delivery of the services cannot

commence at the scheduled

Commercial Operation Date (COD),

or (b) delayed, unless greater cost is

incurred to keep to Scheduled COD,

or (c) delayed due to variations;

4)Cost overrun risk

5)Commissioning risk: risk that the

commissioning date is (a) delayed

or (b) the result do not meet

specification

1)PC’s event of default

risk, risk that the PC has

defaulted its financial

obligation under the

project agreement; and

2)Subcontractor risk, risk

that the sub-contractors

do not perform as

expected or found un-

qualified


11

5. Operating risk 6. Revenue risk7. Network

connectivity risk

1)Service availability risk;

2)Maintenance risk:

• the cost of maintaining assets in the required

condition may vary from the projected costs, or

• maintenance is not carried out properly;

3)Latent defect risk: risk of loss or damaged arising

from latent defects in the project assets

4)Technology risk

• the technology inputs may fail to deliver the

required output specifications, or

• obsolescence risk;

5)Utilities risk:

• the utility may not be available, or

• the project will be delayed in relation to the

removal or relocation of utilities located at the

project sites;

6)Resource or input risk: a failure or shortage in

supply of inputs or resources (e.g. coal, other fuel)

7)Industrial relations risk: any form of industrial

action – including strikes, lockouts etc

1)Demand risk: risk that the

demand for a service will

lower from that projected; or

2)Tariff risk: risk that the tariff

for a service is lower from

that projected, due to:

• the periodical tariff

adjustment is not

performed as planned, or

• miscalculation of the tariff

estimates

1)Connectivity with the

existing network risk: the

risk that the access to the

existing network is not

(possible to be) developed

as planned;

2)Network development risk:

the risk that the required

additional network is not

(possible to be) developed

as planned;

3)Competing facility risk: the

risk that other similar

facility/infrastructure is

built which eventually

competing with the delivery

of the contracted services


12

8. Interface risk11. Asset

Ownership risk9. Political risk

10. Force Majeure risk

The risk when the

quality of works

done by government

not conform/suitable

with those done by

the PC, vice versa

Risk that events such as

loss events will occur, with

the result that the

economic value of the

asset may vary, either

during or at the end of the

contract term, from the

value upon which the

financial structure of the

project is based

1)Currency Inconvertibility and Non-

Transfer risk

2)Expropriation risk

3)Change in Law (legislative and

government policy) risk

4)Sub-sovereign or Parastatal risk:

Regulatory consent risk:

5)Tax rate change risk

Risk that a specified event

entirely outside the control

of either party (e.g. act of

god, man-made

catastrophic event)

Example: Risk Allocation in Toll Road Concession (1)

1. Site risk

Land Acquisition, Resettlement risks

Ground conditions difficulties, safety, environmental risks

Private Public Shared

Fase Pra-Konstruksi

2. Design, Construction and Commissioning risk

Design brief risk Delay in completing construction risk

Design faults Construction cost increase

Cost increase due to planning issues Commissioning risk

Konstruksi Operasi

5. Operating risk

Inavailability or poor performance of services

Industrial actions, O&M cost overruns

Traffic accident or public safety concerns

6. Revenue risk

Change in traffic demand projection

Failure of tariff adjustment due to fail in achieving agreed level of service

Periodical tariff adjustment is delayed

Miscalculation of tariff estimates

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3. Sponsor risk

Default by the Subcontractors Default by the PC as Operartor

Default of Project Sponsor or the Project Company (PC)

4. Financial risk

Failure to achieve financial close Financial structure risk Insurance risk

Foreign exchange risk, Interest risk, inflation risk

Pre-Construction

10. Force Majeure risk

Natural FM, Political FM, Extreme weather

Prolonged force majeure

Construction Operation

11. Asset Ownership risk

Asset loss events

Asset transfer after PPP contract ends

Example: Risk Allocation in Toll Road Concession (2)

14

9.Political risk

General change of law

Currency inconvertibility, Non-transfer, Expropriation, Discriminatory, project-specific change in law, Regulatory consent, Sub-sovereign/Parastatal risks

8. Interface risk

Disparity between government support works and PC’s works

Substantial reworks due different standards

7. Network connectivity risk

Authority’s breach to maintain required network

Authority’s breach to build connecting facilities

Authority’s breach not to build competing roads

Private Public Shared

AGENDA




IIGF Guarantee Coverage

16

• Financial obligations of the CA under PPP Agreement

• Classified as Infrastructure Risk events (PMK 2060/2010), that the occurrence is:

1. caused by the action/inaction of the CA or the government apart from the CA on issues which are, by law, the CA or the government apart from the CA have the authority or control such action/inaction;

2. caused by a policy made by the CA or the government apart from the CA;

3. caused by a unilateral decision made by the CA or the government apart from the CA;

4. caused by the inability of the CA or the government apart from the CA in fulfilling its obligation under the PPP agreement (breach of contract).

Risk Allocation: Basis for Guarantee Appraisal

17

IIGF GUARANTEE PROVISION PROCESS

Other appraisal works

1. Consultation and Guideline

2. Screening 3. Appraisal 4. Structuring

Risk Assessment

Guarantee Application Package (GAP)

Other documents

PPP & Infrastructure Guarantee Regulatory Framework

PR 67/2005 j.o. 13/2010 on PPP

PR 78/2010 on Guarantee to PPP

Projects

Not eligible for guarantee

IIGF Risk GuidelinePPP Risk Category & PPP Risk Matrix

Comply with Risk Allocation

principles

Yes

No

2

Risk Allocation Principles

Risks considered to be guaranteed by IIGF

Draft PPP Agreement1

PMK 260/2010 on PR 78/2010

implementation

The IIGF decision in providing guarantee for risks in a PPP project is made after analyzing, among others,

the conformity of the draft PPP Agreement with the risk allocation principles

Construction OperationPre-construction

Transport

Waste Water

Toll Roads

Water Supply

Electircity

Delay or failure in obtaining licenses, permits, and approvals

Ris

k E

vents

Secto

rs: A

s p

er P

resid

entia

l Regula

tion

No. 1

3/2

01

0

Selected Oil & Gas

Irrigation

Selected Telecom

Financial close delay/failure

Change in law/regulations

Breach of contract

Competing facility risk

Integration with network

Revenue risk

Demand risk

Tariff risk

Expropriation risk

Sub-sovereign or Parastatal risk

Currency inconvertibility & non-transfer risk

Interface risk

Force majeure affecting the CA risk

18

IIGF may provide coverage of various CA’s Obligationswhich have been allocated to CA under PPP Agreement

Thank youQ&A

19

Possible CA’s Obligation to be Guaranteed (1)

No. Risk Description

1 Licenses, permits, and

approvals

Coverage for delay or failure to grant licenses, permits, and approvals (delays that would

have adverse effects on construction costs, financing charges, and the commencement of

revenue)

2 Financial close delay/failure Coverage for any delay/failure of financial closure due to any other action/inaction on the

part of the CA (beyond land and licenses/permits/approvals)

3 Change in law/regulations Coverage for impact of change in law/regulation in event that it adversely affects project,

such as tax law, law on tariff structure, or law that affects project's technical specifications

and results in changes in costs. Applies only if contract is explicit (not silent) in its basis on

and ties with existing law (i.e., protects from changes in law), where it is common for CA to

bear the risk of discriminatory change of law.

4 Breach of contract Coverage for CA’s action/inaction in violation of contract, or CA’s changing clauses of

contract unilaterally

5 Integration with network Coverage for actions/inaction that affect project operations/revenue by failure (or

inadequate) integration with existing or future networks

6 Competing facility risk Coverage for the risk that other similar facility/infrastructure is built which eventually

competes with the delivery of the contracted services

7 Revenue risk Coverage to fulfil /enforce CA’s obligations on revenue. Coverage applies only to CA’s

contractually agreed payments (annuity/viability gap/minimum revenue)

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Possible CA’s Obligation to be Guaranteed (2)

No. Risk Description

8 Demand risk Coverage for change, borne of CA’s actions, that have an influence on demand for the

project's services

9 Pricing risk Coverage to fulfil level of revenue that was not reached due to unilateral change of tariff

10 Expropriation risk Coverage for the risk that public sector authority’s expropratory actions cause the project

to end

11 Currency inconvertibility &

non-transfer risk

Coverage for risk that the revenue/profit from the project could not be converted to the

foreign currency and /or repatriated to the investor’s home country

12 Sub-sovereign or Parastatal

risk

Coverage for risk that the subsovereign or parastatal entity which act as the CA in the

project has fail to perform its contractual payment or other material obligations (i.e. due to

unilateral decision)

13 Force majeure affecting the

CA risk

Coverage for risk that a specified event entirely outside the control of either party (e.g. act

of god, man-made catastropic event) will occur and affecting the CA, which will result in a

delay or default by the SPV in the performance of its contractual obligations.

14 Interface risk Coverage for risk that the method or standard of delivery of the public sector delivered

services will prevent or in some way frustrate the delivery of the contracted services. The

risk includes when the quality of works done by government not conform/suitable with

those done by the SPV.

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Documents

IIICE Day 2 Risk Allocation PPP in Infrastructure Project -Armand Hermawan