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6 Tips for plugging Africa’s infrastructure gap through public-private partnerships

Christopher Olobo's picture



Editor's Note: This article originally appeared in the August 2016 edition of Into Africa (PDF), a publication of Capital Markets in Africa. An abbreviated version is reprinted here with their permission.
 
Africa is widely acknowledged as being the ‘preeminent emerging markets investment destination’ attracting global investors across all sectors. Investors seeking relatively higher risk-adjusted returns are appraising opportunities across the consumer sector, services and infrastructure.
 
However, one of the key constraints to economic growth in Africa is the lack of adequate and well-maintained infrastructure. Various studies on the infrastructure deficit have been carried out by multi-lateral agencies, most notably a World Bank study which revealed that the annual financial requirement for infrastructure in Sub-Saharan Africa (SSA) is about US$93 billion a year for both capital expenditures and maintenance. To finance this, only US$45 billion is being mobilized, two-thirds paid for by African governments and citizens, 8% by multilateral and bilateral donors and the rest by the private sector in emerging economies. There is therefore an estimated funding gap of US$50 billion a year.

Financing the infrastructure deficit across Africa will involve collective innovation both across the public and the private sectors. Traditional funding sources such as government budgets and donors will no longer suffice, but rather co-opting in the private sector will provide the necessary platform on which to accelerate infrastructure growth.  
 
Public Private Partnerships (PPP), which are gaining traction lately with governments, are in their basic form a procurement method that seeks to utilize the private sector to deliver a service that has traditionally been delivered by the public sector. But for the PPP to work, the partnership must not forget the end users who typically are the citizens because when the service is delivered, the key issue that remains is the ability to pay for the service that the infrastructure is providing.
 
Government financing is challenging, especially in fiscally constrained environments, end-user financing is a politically sensitive issue depending on the ability and willingness of the general public to pay for new infrastructure investment. So at the macro level; for the PPP to work, a country needs to demonstrate that the following are present in-country:

  • Political stability;
  • A continuous pipeline of bankable projects;
  • Transparent and efficient procurement;
  • Enforceability of contracts;
  • Equitable sharing of risks with the public sector; and
  • Certainty of the envisaged future cash flows.
Generally, PPP projects would be financed using project finance where lenders and investors rely mainly on the future cash flows of the project. Such arrangements, if well-structured, would ensure that project debt doesn’t sit on the government’s balance sheet thereby providing opportunity for the government to meet its other core obligations with the limited budget resources.

Attractive as it may seem, PPPs are certainly not for all projects, sectors or indeed countries. The upstream work required to enable a long lasting successful PPP is often underestimated by governments and in so doing, the projects never reach financial close. The procurement and preparation of a PPP project is expensive and time consuming (particularly for first time projects in a country).
 
Based on my personal experiences of structuring projects in Africa, for a project to make it across the line, it is essential that the following fall into place at the right time:
  1. A credible pipeline of projects - mobilizing for PPP projects from a private sector perspective is quite expensive both at the procurement and implementation stage. For key players to invest the time and resources there has to be a credible and consistent pipeline within a country to justify costs and also refine key contractual provisions in subsequent projects.
  2. Real demand for the service - if the end users are going to directly pay for the service, then the demand and willingness to pay for the service must be real and not perceived. If however government is the payer, then the contracts must not be ambiguous in addition to an actual demand being there for the service because if the demand is false, it won’t be long before the government gets ‘bored and tired of paying the private sector for a service with no demand’.
  3. Environmental & Social considerations - responsible and sustainable investing is a consideration that has gained priority amongst many international investors and quite rightly so because we all have an obligation to preserve the environment for future generations. Many projects have stalled because of a halfhearted attempt at mitigating Environmental & Social issues. As a good start, governments should review and incorporate key provisions of the Equator Principles within their national environmental and social guidelines.
  4. Multilateral Development Bank Involvement - quite often, the affordability and bankability of projects is difficult and multilateral development agencies often play a critical role in providing viability gap funds, political/credit guarantees and a very unquantifiable confidence boost to crowd in capital from private investors.
  5. Currency fluctuations - majority of projects in the energy and transport sector have a currency mismatch brought about by loans & their repayment being in hard currency whilst project revenues and government revenues/taxes being in local currency. Over the life of projects, local currencies typically depreciate against the hard currencies and very quickly, this along with other factors will lead to African projects defaulting leading into termination. Strong consideration must be given to local currency financing, service/off take payments in local currency and the inclusion of local capital markets (e.g. pension funds, insurance funds) that are highly liquid and looking for long term assets to match their long-term liabilities.
  6. Local content - across many African countries, governments/private sector and the public are increasingly pushing for local companies to be supported into building their requisite capacity to handle the infrastructure drive across Africa. Though this must certainly be considered, the challenge is always in how you prescribe local content and the right proportion of it into projects. Done wrongly, it only promotes the interests of a few savvy investors but done rightly, it builds a nation’s capacity to compete globally.
 As governments continue their pursuits of visions to become middle income countries, it is clear that the funding of infrastructure remains the greatest constraint, and this only increases the need to diversify the sources of funding available and considerable local capital markets. Within funding, the role of the citizens, who are the end users, must be recognized and the cost of infrastructure should be shared with the end user. Governments must be clear in articulating the benefits of infrastructure investment to citizens who will finance a large part of it. Through PPPs, which certainly will help, governments should put in place an enabling environment for private capital to flourish in the market.


Your Feedback Needed to Update the Public-Private Partnerships (PPP) Reference Guide
We are seeking your detailed input and feedback on the current version of the PPP Reference Guide, especially in the area of stakeholder engagement. Share your comments with us by November 10, 2016.

Comments

Submitted by Albert on

There are no doubts that Billions have to be invested in Africa, not only in the infrastructure sector, but also in education, health, telecommunications, energy… Accordingly, to give the private sector the chance to invest and be part of the process is necessary and inevitable, as they have the experience, know-how and expertise necessary to develop these kinds of projects. But in order to avoid the transfer of excessive resources from the public sector (World Bank & other IIOO) to the private sector through these projects, and increase the transparency I would suggest a new approach to the way of funding.
I will call it, the Profit Zero Project (PZP). The main idea behind is that a given project will be announced and funded only by the total amount of expenses, including materials, salaries, previous studies etc., in other words, not considering any surplus or profit for the companies involved. Then, in order to compensate the companies for their work, the project will include the amount “Compensation amount”, which will be the amount given to the companies for their participation. This compensation amount will be the key when it comes to assign the project to the companies, as an auction could take place in order to determine which company meets the technical requirements and is willing to accept a small “Compensation amount”. This new approach will allow us to know exactly the amount that is being transferred from the public sector to the private sector, (Compensation Amount), also will give the opportunity to the funders to minimize the extra costs that are hidden in a profit form and finally will give the opportunity to these companies that are socially aware to ask for a less compensation amount and get the project.

Submitted by Terry M on

The PZP would work well in a socialist state. Unfortunately under capitalism, profit is a driving force. As soon as you take away the profit margin in an business transaction especially of capital nature you asking for withdrawal.
The second difficulty is the determination of "fair compensation " and who determines the value. Issues of accuracy in determining the actual cost and price of the project requires razor sharp skill before the start of the project and most importantly at the end of the project. To a large extent major projects come with equally strong risk factors. In normal transaction the contractor would determine these and take ownership of managing these risk. Construction companies and consulting companies too take insurance to mitigate such risks. I therefore think that PZP model might still be a dream to attain soon.

Submitted by Christopher on

Albert, thanks for your thoughts. Have you heard about the Non Profit Distributing Model in the UK?
Your proposal can be fine tuned but how do you incentivize the private sector to optimize the givens like materials, salaries etc?

Submitted by Martin Finnigan on

Interesting discussion. The Scottish (not UK) Non Profit Distributing Model removes private sector equity returns, but has fallen foul of national accounting rules resulting in projects counting as national borrowing. In Scotland we are using another PPP model called 'hub' which allows groups of public sector bodies to call on the services of a management services company set up as a PPP joint venture between the public and private sector. The management services company then commissions construction + services PPPs (which could be DBFM or D&B) on the basis of market tested costs. Returns are shared between public and private participants. This structure is working extremely well and is bring down the minimum economic scale or PPPs, especially DBFM-type, significantly. It could work in parts of Africa.

Submitted by Joseph Tsavsar on

This is a good article,
The problem with African countries is that their leaders do not like due process in doing things. they always want to do it African way in Africa as if is their custom but when they are in other countries they follow due process.
Africa deserve good infrastructure to grow which will only come from Private sector through PPP. The six points you listed above which are very critical to attracting such investments is what is causing the huge gap in infrastructure provision in the region,we must work hard to meet up with the requirements we will not develop.

Submitted by Aminu ABUBAKR on

"Majority of projects... have a currency mismatch brought about by loans & their repayment being in hard currency whilst project revenues and government revenues/taxes being in local currency"
This is one of the most crucial challenges being faced when developing PPPs in Africa. African local Banks have a preference for these types of transactions, profiting either directly (when they provide financing in hard currency) or indirectly (on charges as local correspondent to the oversea financier).
I do not know if it is something that can be included in a Government PPP Policy or something that can be handled by the financial regulators and/or policy makers.

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