IMPORTANCE OF RISK ALLOCATION FOR PPP INFRASTRUCTURE PROJECTS IN INDONESIA

Risk Evaluation for IIGF Guarantee

Armand Hermawan, Director of Finance IIGF

AGENDA

1. Risks Assessment and Allocation in PPP Project 2. PPP Risk Category and Risk Matrices

3. Evaluation of Risks for IIGF Guarantee

AGENDA

1. Risks Assessment and Allocation in PPP Project 2. PPP Risk Category and Risk Matrices 3. Evaluation of Risks for IIGF Guarantee

Risk Assessment and Allocation

Risk Identification

Risk Impact

Qualitative Analysis

Quantitative Analysis

Risk Allocation

Enlist of all Project Risks

Analyze potential impact of Risk How risks will be managed

Share of risk between parties (RISK ALLOCATION) Optimal risk transfer

Identify consequence of Risk

Analyze monetary impact of Risk Risk adjusted possible costs

Risk Assessment and Allocation: Example

Risk Identification

Risk Impact

Qualitative Analysis

Quantitative Analysis

Risk Allocation

Commissioning Delay in service provisioning

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

Failure to complete or construct adequately

Risk Allocation: Principles

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 passthrough in pricing and moral hazard? Risk allocation depends on bargaining power But less risk less project distress
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Consequences of imbalance Risk Allocation

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

1. Risks Assessment and Allocation in PPP Project 2. PPP Risk Category and Risk Matrices 3. Evaluation of Risks for IIGF Guarantee

PPP Risk Category Generic Risk Group to Identify Risk Events

Risk Category is used for generating identified risk events in each specific PPP project There are 11 groups of risks

1. Site risk

2. Design, construction & commissioning risk

3. Sponsor risk

4. Financial risk

5. Operating risk

6. Revenue risk

7. Network connectivity risk

8. Interface risk

9. Political Risk

10. Force majeure risk

11. Asset ownership risk

PPP Risk Category (1)

2. Design, construction and commissioning risk

1. Site risk

3. Sponsor risk

4. Financial risk

1)Land Acquisition risk, 2)Landsite Unsuitability risk 3)Environmental Risk

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)PCs 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 unqualified

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

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PPP Risk Category (2)

5. Operating risk 6. Revenue risk 7. Network connectivity risk
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

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

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PPP Risk Category (3)

10. Force Majeure risk 11. Asset Ownership risk

8. Interface risk

9. Political risk

The risk when the quality of works done by government not conform/suitable with those done by the PC, vice versa

1)Currency Inconvertibility and NonTransfer 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)

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

Example: Risk Allocation in Toll Road Concession (1)

Fase Pra-Konstruksi
1. Site risk
Land Acquisition, Resettlement risks Ground conditions difficulties, safety, environmental risks

Konstruksi

Operasi
5. Operating risk
Inavailability or poor performance of services Industrial actions, O&M cost overruns Traffic accident or public safety concerns

2. Design, Construction and Commissioning risk

Design brief risk Design faults Cost increase due to planning issues Delay in completing construction risk Construction cost increase Commissioning risk

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

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 Foreign exchange risk, Interest risk, inflation risk Financial structure risk Insurance risk

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Private Public Shared

Example: Risk Allocation in Toll Road Concession (2)

Pre-Construction Construction Operation
7. Network connectivity risk
Authoritys breach to maintain required network Authoritys breach to build connecting facilities Authoritys breach not to build competing roads

8. Interface risk
Disparity between government support works and PCs works Substantial reworks due different standards

9.Political risk
General change of law Currency inconvertibility, Non-transfer, Expropriation, Discriminatory, project-specific change in law, Regulatory consent, Sub-sovereign/Parastatal risks

10. Force Majeure risk

Natural FM, Political FM, Extreme weather Prolonged force majeure

11. Asset Ownership risk

Asset loss events Asset transfer after PPP contract ends

Private

Public

Shared

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AGENDA

1. Risks Assessment and Allocation in PPP Project 2. PPP Risk Category and Risk Matrices
3. Evaluation of Risks for IIGF Guarantee

IIGF Guarantee Coverage

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).

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Risk Allocation: Basis for Guarantee Appraisal

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
IIGF GUARANTEE PROVISION PROCESS
1. Consultation and Guideline 2. Screening 3. Appraisal 4. Structuring

Other appraisal works Risk Assessment

Guarantee Application Package (GAP) 1 Draft PPP Agreement Other documents Comply with Risk Allocation principles Yes No Risks considered to be guaranteed by IIGF Not eligible for guarantee

IIGF Risk Guideline PPP Risk Category & PPP Risk Matrix

PPP & Infrastructure Guarantee Regulatory Framework

PR 67/2005 j.o. 13/ 2010 on PPP PR 78/2010 on Guarantee to PPP Projects PMK 260/2010 on PR 78/2010 implementation

Risk Allocation Principles

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IIGF may provide coverage of various CAs Obligations which have been allocated to CA under PPP Agreement
Pre-construction Operation Delay or failure in obtaining licenses, permits, and approvals Construction Transport

Sectors: As per Presidential Regulation No. 13/2010

Financial close delay/failure

Change in law/regulations
Breach of contract Integration with network

Toll Roads

Electircity Water Supply Waste Water Selected Telecom Irrigation Selected Oil & Gas

Risk Events

Competing facility risk Revenue risk Demand risk Tariff risk Expropriation risk

Currency inconvertibility & non-transfer risk

Sub-sovereign or Parastatal risk Force majeure affecting the CA risk Interface risk

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Thank you Q&A

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Possible CAs Obligation to be Guaranteed (1)

No. Risk 1 Licenses, permits, and approvals 2 Financial close delay/failure Description 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) 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) 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. Coverage for CAs action/inaction in violation of contract, or CAs changing clauses of contract unilaterally Coverage for actions/inaction that affect project operations/revenue by failure (or inadequate) integration with existing or future networks Coverage for the risk that other similar facility/infrastructure is built which eventually competes with the delivery of the contracted services Coverage to fulfil /enforce CAs obligations on revenue. Coverage applies only to CAs contractually agreed payments (annuity/viability gap/minimum revenue)

Change in law/regulations

4 5 6 7

Breach of contract Integration with network Competing facility risk Revenue risk

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Possible CAs Obligation to be Guaranteed (2)

No. 8
9 10 11 12

Risk
Demand risk Pricing risk Expropriation risk Currency inconvertibility & non-transfer risk Sub-sovereign or Parastatal risk Force majeure affecting the CA risk Interface risk

Description Coverage for change, borne of CAs actions, that have an influence on demand for the project's services Coverage to fulfil level of revenue that was not reached due to unilateral change of tariff
Coverage for the risk that public sector authoritys expropratory actions cause the project to end Coverage for risk that the revenue/profit from the project could not be converted to the foreign currency and /or repatriated to the investors home country 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) 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. 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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