Exploring the Role of Stakeholder Relationships in Effective Risk Transfer for Public

Exploring the role of stakeholder relationships in effective risk transfer for public private partnerships: Case studies from the Irish roads sector.

ABSTRACT

Prior research on risk transfer in Public Private Partnerships (PPPs) has focused on how risk should be allocated among parties involved in PPPs (Li, Akintoye, Edwards and Hardcastle, 2005a; Corner, 2006). More recently, Demirag, Khadaroo, Stapleton and Stevenson (2012) argue that most of the risk transferred to the Special Purpose Vehicle (SPV) is not actually managed by the SPV, but instead, it is diffused to subcontractors and other partners within the private sector. In this paper, we build on this work and further explore how and why some PPP risks are transferred and mitigated through the relationship between the procuring authority and the SPV; as well as the relationship between the SPV members. Based on three Irish operational toll road PPP case studies, including 40 interviews with 38 key stakeholders, we find a growing level of trust and also an understanding that the private sector believes the public sector would potentially intervene in projects that experience financial difficulty which ultimately would be at the expense of the taxpayer. This amounts to the government underwriting risk to the private sectors advantage which would contravene the ideology underpinning PPPs, that VFM is achieved through the optimal transfer of risk from the public to the private sector as claimed by the Irish Government. One of the other main findings of this study also indicates that the subcontractors to the SPV often do not have the capacity to manage risk. Therefore the SPV by diffusing risk to subcontractors may be engaging in excessive risk transfer for which they will ultimately have to bear the responsibility. The paper then explains the ways in which these relationships are formed and developed as well as the reasons for this change of attitude towards risk transfer by the Irish Government and the SPV.

1. Introduction

The assessment and transfer of risk in Public Private Partnerships (PPPs) largely determines whether or not a project is Value for Money (VFM) (Froud, 2003; Grimsey and Lewis, 2005; Demirag and Khadaroo, 2008). This amplifies the importance of understanding how risk is allocated and transferred in PPP.

Some of the more recent research on PPP risk transfer includes the work of (Asenova and Beck, 2010 and Demirag, Khadaroo, Stapleton and Stevenson, 2010, 2011 and 2012), albeit this earlier work concentrates primarily on financiers perceptions of risks which only provides a partial understanding of risk transfer practices in PPPs. Indeed given the level of risk diffusion by financiers to other stakeholders, and also the importance of networks in PPP (Demirag et al., 2011, 2012), it is interesting to explore how and why other risks are transferred and mediated through stakeholder relationships in PPP. This study aims to build on this earlier work by examining how risk is allocated and transferred through a number of different stakeholder relationships within the network. None of the earlier studies identify different relationships within PPP, nor do they explore the main stakeholder’s perceptions of how risk is transferred in the roads sector, which is a significant omission from the literature.

The purpose of this paper is to examine the influence of a particular type of relationship, and thereby assess the overall risk transfer of PPPs, in a specific industry context. This paper takes a holistic approach to risk transfer in PPPs, examining stakeholder’s perceptions towards different risk types such as archaeological, land ownership, construction and demand risks in order to gain a broader understanding of their impact on stakeholder relationships and risk practices.

The study is also unique in terms of the case study access to a number of key stakeholders including financiers and SPV members as well as numerous public sector representatives from whom we could ascertain their perceptions through the use of in depth interviews on the allocation and transfer of risk. Prior literature has generally focused on relations developed between the public and the private sectors in risk transfer (Edwards and Shaoul 2003; English and Baxter, 2010; Iseki and Houtman, 2012). The paucity of research on the relationships between the private sector partners that develop in PPP is an important omission in studying risk transfer; hence it was decided to examine the impact of these relationships on risk transfer in PPPs.

The rest of the paper is organised as follows. It begins by discussing the Irish roads sector and the key stakeholders involved. We then identify stakeholder relationships in Irish roads PPPs, the relationship between the procuring authorities and the Special Purpose Vehicle (SPV); and the relationship between the SPV members. Previous empirical work on the allocation and transfer of risk in PPP is then provided. This study concentrates on how a number of risks including demand and archaeological risk are transferred and mitigated through various relationships. Where appropriate, quotations from interviews are provided to support the empirical findings. Finally, some pointers are provided to help develop government policy to improve the risk allocation process in Irish road PPPs.

2.1Overview of Irish Roads Public Private Partnerships

In June 1999 the first pilot projects on PPPs in the Republic of Ireland were announced. These projects involved a number of sectors including education and roads. A detailed analysis of PPPs in procurement and operation in Ireland can be found on the Irish Government’s PPP website (http://ppp.gov.ie/) and more extensive detail on the roads sector can be found on the National Roads Authority’s website (http://www.nra.ie/).

Irish toll road PPPs involve a number of members within the SPV. In one particular scheme there are four different contractors, two of which were international. An international toll operator operates the toll plaza. Irish companies are very much in their infancy at managing toll road PPPs; hence they have integrated many foreign companies with the expertise into their consortia thus expanding the number of partners in the SPV. This increases the onus on developing relationships and collaborating closely with each other. A recent report published by the Irish Business and Employer’s Confederation (IBEC) (2009:5) found that 83 per cent of businesses perceived Irish infrastructure to be of poor standard, thus placing an emphasis on the acute need for increased spending on infrastructure. The Irish government is anxious to try and upgrade Irish roads to European levels. A recent joint report by IBEC and KPMG (2011) entitled ‘What next for Infrastructure, Infrastructure Insights for Ireland’ highlights the importance for Ireland of using PPPs to improve its infrastructural standards. The first PPP programme in roads resulted in €2.1 billion in private sector investment, nonetheless Ireland is ranked 29th out of 139 countries in terms of competitiveness in the 2010-2011 Global Competitiveness Report, which highlights the need for Ireland to improve its infrastructure and encourage more private sector investment. Ireland’s fiscal problems also stress the importance of encouraging more private investment. It is placed only 25th among 28 countries in terms of infrastructure quality. The European Competitiveness Report 2009 and the National Competitiveness Council’s 2010 Report have both outlined how Ireland has fallen behind other European countries in terms of infrastructural investment (IBEC and KPMG, 2011). The Irish Government outlined plans in July 2012 for a Government infrastructure stimulus in capital projects worth €2.25 billion aimed at creating employment and encouraging economic growth. The planned investment will rely primarily on private sector funding involving €1.4 billion in PPP project’s in different sectors including education, health, justice and transport. Figure 1 below shows the Irish Government’s organisation for the roads sector and a number of initiatives implemented for its development.

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2.2Overview of Key Stakeholders in the Irish Road PPP Process

As can be seen from Figure 2 below, there are many different stakeholders participating in the Irish roads PPP process. The Department Of Finance, the Department Of Transport, the PPP unit, IBEC, the Irish Congress of Trade Unions (ICTU), Construction Industry Federation (CIF), Forfás, the Comptroller and Auditor General and the National Roads Authority (NRA) are all involved in the implementation of road PPPs in Ireland. The Framework for Public Private Partnerships was negotiated between stakeholders such as IBEC, CIF, ICTU and the PPP unit. An interdepartmental group on PPPs, as well as an informal advisory group, have also been established to develop the PPP process in Ireland. This interdepartmental group includes representatives from the NRA, the Railway Procurement Agency and the National Development Finance Agency (NDFA). The informal advisory group includes members of ICTU, IBEC, and the CIF as well as members of the interdepartmental group on PPPs (http://ppp.gov.ie). In addition, unions and business representatives meet on a regular basis to discuss fundamental PPP issues.

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The primary role of the NRA, which is an independent statutory body, is to deliver on the Government’s mandate of encouraging more private investment in the Irish transport sector. The NDFA was established in 2003 and it acts in an advisory capacity to the NRA and the Department of Transport. All projects utilising private finance are referred to the NDFA. The NDFA procure a number of PPPs in various sectors other than roads. In a joint report IBEC and KPMG (2011) have both called for the establishment of a ‘National Infrastructure Authority’ in order to speed up the improvement of Irish infrastructure. This Authority would report directly to the Government. Furthermore, IBEC and KPMG (2011) believe that this Authority should utilise the vast experience of the NRA and share knowledge across all departments.

The extent of Irish PPP investment across a number of sectors is illustrated in Table 1 below. In terms of Irish PPP expenditure, the transport sector accounts for the majority of the outlay. Although some problems have manifested themselves in other sectors, such as prisons, social housing and education, the first tranche of Irish road PPPs has been successful to date and all projects have been completed on time and within budget. Although some minimum revenue guarantees have been provided, the government has not been required to bail out the SPV in any Irish toll road PPPs to date. It is, however, too early to draw any firm conclusions on the success or otherwise of the Irish PPP roads sector as it will be another 25 to 30 years before their completion. Nonetheless IBEC and KPMG (2011) are adamant that PPP represents the best way of securing Irish infrastructural investment given the current global financial crisis and Ireland’s fiscal problems. These problems have constrained the ability of the Irish government to finance infrastructural projects and hence private sector investment through PPP can reduce the burden on exchequer finances.

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2.3Stakeholder Relationships in Irish Roads PPPs

PPPs involve a number of different stakeholders from various networks coming together. The relationships that develop in the PPP structure are illustrated in Figure 3 below. Two types of relationships are identified from the literature; firstly agency and secondly club partnerships (Smith, Mathur and Skelcher, 2006). We apply these relationships specifically to PPPs

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Figure 3 above illustrates these stakeholder relationships that develop within the PPP framework. The Irish PPP roads sector is used to illustrate and describe these relationships. The agency relationship refers to the public-private partnership between the NRA and the SPV, and the club relationship refers to the relationship between the SPV members. In Irish road PPPs, the SPV consortia tend to consist of both domestic and international companies. In discussing how risk is transferred we discuss, predominately, the relationship between the public and private sector and among the SPV companies. The NDFA also play a role in how risk is allocated from a strategic policy level in PPP by providing advice to procuring authorities on developing risk allocation schemes and matters concerning risk in PPP. Figure 3 highlights the complexity of PPP arrangements and the vast array of stakeholders involved in the PPP process. The other factors we identified from the literature, illustrated in table 2 below, also contribute towards relationships between the procuring authority and the SPV and among the SPV partners in PPP.

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The next section explores two types of stakeholder relationships in PPP and refers to the role of risk transfer and incentives in creating and complementing these relationships. Stakeholders from the public sector, the private sector, and also advisors collaborate to instigate and ensure the success of the PPP process.

3 Allocation and Transfer of risk in PPP

The terms risk allocation and risk transfer tend to be used interchangeably in the literature. Nonetheless, before risk is transferred it must first be allocated in PPP. Risk allocation is integral to the PPP process and the public sector’s aim is to optimally allocate risk rather than excessively transfer risk to the private sector (Corner, 2006; Iseki and Houtman, 2012). Li, Akintoye, Edwards and Hardcastle, (2005a) used a questionnaire to examine the allocation of risk in construction projects in the UK. The authors found that some risks should be borne by the public sector and other risks should be shared between the public and private sector. Project specific risks are best handled by the private sector. Abednego and Ogunlana (2006) also examined the perceptions of the various stakeholders on the risk allocation process and found that contracting parties were at ease once the repercussions from risks that occurred could be minimised. The form of risk, deciding upon the timing of risk allocation, and also who should accept the risk were viewed as important in the risk allocation process (Abednego and Ogunlana, 2006). Roumboutsos and Anagnostopoulos (2008) found that stakeholders were satisfied with the risk allocation process, but deviated in their view of what the key risks were. EPEC (2011) recently published a document promoting state guarantees (SGs) for PPPs due to the difficulties with financing PPP projects in Europe in order to improve the risk allocation process. These guarantees would help to reduce the apprehensiveness of financiers, protect the credibility of projects and they may also be used to mitigate project risks. Although state guarantees are a very useful mechanism to mitigate risk, EPEC want to ensure that optimal risk allocation and VFM is maintained (EPEC, 2011).