Repent at leisure?
Hong Kong is rightly known as one of the world's most progressive economies. In the field of private sector involvement in public projects, however, the territory is a laggard and has yet to adopt the sort of private public partnership (PPP) schemes seen in places like Australia and the UK. But change is on its way. A set of PPP guidelines is now in the works, designed to promote the model in government circles.
According to Steve Barclay at the Hong Kong government's Efficiency Unit, the unit plans to publish an introductory guide to private public partnerships by the end of May. The guide will be published online, through the government web portal: www.info.gov.hk. A draft document, drawn up by the department, has already been circulated to government departments. The deadline for responses from government bureaus was May 21. ?We will then take comments on the draft from the various government agencies and offices and consolidate them into the final guideline document,? says Barclay. Although no formal adviser, legal or otherwise, was employed to help prepare the draft, it has been sent out to a number of private sector firms, including lawyers, management consultants, and construction companies as part of the consultation process. However, the guidelines are intended as an internal document to guide civil servants across the SAR government. ?It won't have legislative effect, unlike some government circulars, but it will provide strong influence and guidance for government departments,? Barclay explains.Thus, while the guideline document demonstrates the commitment of some sections of the administration to PPP, the crucial, as yet unanswered, question is: to what extent the government as a whole will embrace the new initiative. Although the Efficiency Unit began working on the PPP document before the budget deficit became a major concern, reducing the fiscal burden is likely to be one of the key drivers of the initiative in the near future and a powerful argument for the pro-PPP lobby in government. ?The fact that the deficit has become so pronounced will certainly help promote the use of the guidelines,? one observer comments.That might also suggest, however, that PPP schemes will be reprioritized when Hong Kong pulls back into a budget surplus (according to some consultants' analysis, this is expected in the 2006 to 2007 calendar year). But most commentators dismiss this possibility. ?There is not much evidence that the PPP drive would slow simply because the government's finances move back into the black,? says John Mitchell, a partner at Price Waterhouse Coopers' Infrastructure, Government and Utilities team in Hong Kong. Mitchell has advised the government on several transactions following a PPP type model. Most commentators believe that top-level direction will be needed if the PPP market is to develop reasonably quickly. ?It will probably require substantial commitment from the Treasury in order to induce a really active market, as they are the ones with the financial clout,? says one banker.Grant Fuzi, a project finance partner at Allen & Overy, argues that strong commitment from political leaders is vital. ?That's the experience from other markets like Australia and the UK. Senior civil servants who have been directing projects in the same manner for decades will need a push to get them following a PPP approach,? says Fuzi. Unfortunately, it is not yet apparent that political commitment at the highest level is there. ?A lot of potential private sector market participants are saying that it is difficult to be sure who, if anyone, is doing the real leading on PPP,? notes Fuzi.Indeed, at this preliminary stage, the signals from government appear somewhat contradictory. Mitchell notes that Hong Kong's Finance Secretary Antony Leung has given the thumbs up to PPP in various statements and speeches. Yet Leung has also suggested that government recurring revenue expenditure be more tightly controlled while giving his blessing to further increases in capital expenditure. In the UK at least, PPP or Private Finance Initiative projects have been promoted out of a desire to do the reverse ? enable decreases in capital expenditure, while allowing increases, albeit smaller, in revenue expenditure.Currently, it is also not clear how far the guidance document will help consolidate and coordinate the public private partnership efforts of the various government departments. The Leisure and Cultural Services Department in the Home Affairs Bureau (HAB) has come up with its own name for a scheme to bring the private sector into government projects, called Private Sector Involvement (PSI) in public infrastructure projects.HAB has already nominated two leisure projects for pilot PSI status: an ice sports centre in Tseung Kwan O and a leisure and cultural centre in Kwun Tong. The Tseung Kwan O project, involves the development of a 6-hectare site, the building of two ice-skating rinks, a town garden and other complementary facilities. The other project, a leisure and cultural centre in Kwun Tong, will be on a 2.2-hectare plot and will accommodate facilities including a swimming pool complex and a civic centre. ?The total development cost of the two developments, including the commercial facilities, could be quite large ? over $300 million,? says a banker.In return for financing, designing, building and managing the core leisure and cultural facilities, private developers will be able to propose commercial facilities like shopping malls, cinemas and serviced apartments. The government currently proposes that income from the commercial facilities will be used to subsidise the cost of building and operating the core facilities. The Leisure and Cultural Services Department is drafting invitations for expressions of interest and will consult the district councils concerned on the two pilot PSI projects. The department intends to issue the invitations for Expressions of Interest within three months (see Box).PPP: risk and lawNo broad legal measures are expected to be enacted to support the PPP document says Barclay. ?The Department of Justice advised us that there are already sufficient constitutional powers in place to contract out services in a manner consistent with PPP,? the official explains. He adds, however: ?we will need to examine schemes on a case by case basis to see if any particular ordinance clashes with the scope of a particular PPP project.?Mark Badger, a partner in the Commercial & Projects Group of DLA in Hong Kong, echoes this comment: ?Generally, the existing legal framework in Hong Kong permits PPPs. But any proposed PPP would need to be considered in isolation to see if new legislation is required to permit all the activity connected with a project. For example, I understand that specific legislation was needed to enable cross-harbour tunnel operators to collect tolls from tunnel users.? The maturity of Hong Kong's legal system should speed the development of a vibrant PPP market in Hong Kong, provided that the initial top level government support is there. ?One of the plus points for PPP proponents in Hong Kong is the favourable legal system here,? says Badger. ?It is a common law system with laws very similar to England's. The rule of law is firmly entrenched and so the private sector can have redress if the government fails to honour its contractual obligations. The quality of the judiciary is first class.? Risk allocation and other important issues are talked about in the guidelines on conceptual rather than concrete and detailed terms. ?The basic premise is simply that risk is allocated to the party best able to manage it,? says Barclay. But Mitchell observes that many of the projects discussed so far, either in association with PSI or the potential PPP programme, envisage the private sector taking all the market risk. That leaves commentators questioning the sustainability of the mandatory social component of the two PSI projects. ?The private sector will get its revenues from the commercial development surrounding the public buildings. The incentive for the private sector will clearly be to minimise the public sector component,? says Mitchell.As far as Project Finance is aware, no new tax incentives have been discussed in association with the PPP scheme.The projectsA broad spectrum of projects will be covered by the PPP guidelines, ranging from those which are purely self financing to developments that secure all their income from the government.Barclay points out that projects which have characteristics of public private partnerships have been commonplace in Hong Kong for over two decades. ?The first quasi-PPP scheme was developed in Hong Kong way before the UK came up with PFI, with the 1975 Housing sector participation scheme,? Barclay says. Badger suggests three basic categories of PFI infrastructure project. The first two are based on the tried and tested build-operate-transfer (BOT) model or some variant of that involving an income stream received directly from private sector users that retires debt and provides a return on equity; the difference between the two being that one is financially free standing and the other requires some form of Government subsidy or investment. ?Hong Kong has a long history of successfully developing these types of projects,? says Badger.But he adds: ?It is the third basic category, which has been at the centre of the PFI revolution in the UK, where Hong Kong is lagging.? In this category, the income stream used to repay capital costs and provide a return on equity comes directly from government payments for services to either government or private sector users of the infrastructure. Badger cites the design-build-finance-operate (DBFO) roads scheme, hospital services for the National Health Service and various types of accommodation schemes as UK examples. ?As far as I am aware, no project of this nature has yet been completed in the territory,? says Badger. ?It is a conceptual leap for Hong Kong, but already there are a number of projects which are being considered on this basis.?One such project under consideration is a new centralized catering service for hospitals throughout Hong Kong. The project is currently in the feasibility study stage. Other schemes being considered for PFI type procurement are waste management facilities, with an ongoing feasibility study by the Environmental Protection Department (EPD) and leisure/entertainment facilities under consideration by the Leisure & Cultural Services Department. What the new guidance initiative does, therefore, is to encourage the use of PPP in non standard areas, particularly social infrastructure projects.A banking source says that private companies have previously been involved in EPD water treatment projects in the SAR but the new model exhibits two differences: in the past, build and operating contracts tended to be awarded to different private companies; in addition it was the government which provided the funds for the initial construction. In contrast, under the new scheme, the EPD is debating whether the private sector should finance the initial capex, with this outlay, subsequent profits and ongoing operating costs are paid for from the government purse.Other projects which are also viewed as PPP pilot projects include two developments involving former police stations.The most recently announced plan centres around a scheme to preserve and develop the Central Police Station, Victoria Prison and the Former Central Magistracy site into a heritage tourism development. The government intends to invite tender proposals in early 2004 and hand over the site in phases to the successful proponent in 2005. The value of the contract was not revealed.The other project, which was announced last year comprises a plan to restore and convert the former historic Marine Police Headquarters in the heart of the tourist district of Tsim Sha Tsui into a tourism-themed development. The project is being tendered out by the Lands Department.But not everyone agrees that these projects should be associated with a broader PPP programme. ?The projects are property deals where there is an obligation to maintain existing facilities. The government won't be paying for a service provided by the public sector on an ongoing basis,? one source remarks.One other key question remains: how interested international banks will be in the market. ?The scope for PPP in Hong Kong is a lot smaller than, say, in the UK. But just as elsewhere I expect that some, although not all, of the big bank players will be interested in the market,? says Fuzi. However, Project Finance found no foreign banks in Hong Kong actively talking to the government about PPP ? all said they were monitoring market developments. ?The deals we would expect from Hong Kong, may not be that big. But we expect there will be a good number of solid bankable deals if the government really throws its weight behind the concept,? says one financier in the territory.
According to Steve Barclay at the Hong Kong government's Efficiency Unit, the unit plans to publish an introductory guide to private public partnerships by the end of May. The guide will be published online, through the government web portal: www.info.gov.hk. A draft document, drawn up by the department, has already been circulated to government departments. The deadline for responses from government bureaus was May 21. ?We will then take comments on the draft from the various government agencies and offices and consolidate them into the final guideline document,? says Barclay. Although no formal adviser, legal or otherwise, was employed to help prepare the draft, it has been sent out to a number of private sector firms, including lawyers, management consultants, and construction companies as part of the consultation process. However, the guidelines are intended as an internal document to guide civil servants across the SAR government. ?It won't have legislative effect, unlike some government circulars, but it will provide strong influence and guidance for government departments,? Barclay explains.Thus, while the guideline document demonstrates the commitment of some sections of the administration to PPP, the crucial, as yet unanswered, question is: to what extent the government as a whole will embrace the new initiative. Although the Efficiency Unit began working on the PPP document before the budget deficit became a major concern, reducing the fiscal burden is likely to be one of the key drivers of the initiative in the near future and a powerful argument for the pro-PPP lobby in government. ?The fact that the deficit has become so pronounced will certainly help promote the use of the guidelines,? one observer comments.That might also suggest, however, that PPP schemes will be reprioritized when Hong Kong pulls back into a budget surplus (according to some consultants' analysis, this is expected in the 2006 to 2007 calendar year). But most commentators dismiss this possibility. ?There is not much evidence that the PPP drive would slow simply because the government's finances move back into the black,? says John Mitchell, a partner at Price Waterhouse Coopers' Infrastructure, Government and Utilities team in Hong Kong. Mitchell has advised the government on several transactions following a PPP type model. Most commentators believe that top-level direction will be needed if the PPP market is to develop reasonably quickly. ?It will probably require substantial commitment from the Treasury in order to induce a really active market, as they are the ones with the financial clout,? says one banker.Grant Fuzi, a project finance partner at Allen & Overy, argues that strong commitment from political leaders is vital. ?That's the experience from other markets like Australia and the UK. Senior civil servants who have been directing projects in the same manner for decades will need a push to get them following a PPP approach,? says Fuzi. Unfortunately, it is not yet apparent that political commitment at the highest level is there. ?A lot of potential private sector market participants are saying that it is difficult to be sure who, if anyone, is doing the real leading on PPP,? notes Fuzi.Indeed, at this preliminary stage, the signals from government appear somewhat contradictory. Mitchell notes that Hong Kong's Finance Secretary Antony Leung has given the thumbs up to PPP in various statements and speeches. Yet Leung has also suggested that government recurring revenue expenditure be more tightly controlled while giving his blessing to further increases in capital expenditure. In the UK at least, PPP or Private Finance Initiative projects have been promoted out of a desire to do the reverse ? enable decreases in capital expenditure, while allowing increases, albeit smaller, in revenue expenditure.Currently, it is also not clear how far the guidance document will help consolidate and coordinate the public private partnership efforts of the various government departments. The Leisure and Cultural Services Department in the Home Affairs Bureau (HAB) has come up with its own name for a scheme to bring the private sector into government projects, called Private Sector Involvement (PSI) in public infrastructure projects.HAB has already nominated two leisure projects for pilot PSI status: an ice sports centre in Tseung Kwan O and a leisure and cultural centre in Kwun Tong. The Tseung Kwan O project, involves the development of a 6-hectare site, the building of two ice-skating rinks, a town garden and other complementary facilities. The other project, a leisure and cultural centre in Kwun Tong, will be on a 2.2-hectare plot and will accommodate facilities including a swimming pool complex and a civic centre. ?The total development cost of the two developments, including the commercial facilities, could be quite large ? over $300 million,? says a banker.In return for financing, designing, building and managing the core leisure and cultural facilities, private developers will be able to propose commercial facilities like shopping malls, cinemas and serviced apartments. The government currently proposes that income from the commercial facilities will be used to subsidise the cost of building and operating the core facilities. The Leisure and Cultural Services Department is drafting invitations for expressions of interest and will consult the district councils concerned on the two pilot PSI projects. The department intends to issue the invitations for Expressions of Interest within three months (see Box).PPP: risk and lawNo broad legal measures are expected to be enacted to support the PPP document says Barclay. ?The Department of Justice advised us that there are already sufficient constitutional powers in place to contract out services in a manner consistent with PPP,? the official explains. He adds, however: ?we will need to examine schemes on a case by case basis to see if any particular ordinance clashes with the scope of a particular PPP project.?Mark Badger, a partner in the Commercial & Projects Group of DLA in Hong Kong, echoes this comment: ?Generally, the existing legal framework in Hong Kong permits PPPs. But any proposed PPP would need to be considered in isolation to see if new legislation is required to permit all the activity connected with a project. For example, I understand that specific legislation was needed to enable cross-harbour tunnel operators to collect tolls from tunnel users.? The maturity of Hong Kong's legal system should speed the development of a vibrant PPP market in Hong Kong, provided that the initial top level government support is there. ?One of the plus points for PPP proponents in Hong Kong is the favourable legal system here,? says Badger. ?It is a common law system with laws very similar to England's. The rule of law is firmly entrenched and so the private sector can have redress if the government fails to honour its contractual obligations. The quality of the judiciary is first class.? Risk allocation and other important issues are talked about in the guidelines on conceptual rather than concrete and detailed terms. ?The basic premise is simply that risk is allocated to the party best able to manage it,? says Barclay. But Mitchell observes that many of the projects discussed so far, either in association with PSI or the potential PPP programme, envisage the private sector taking all the market risk. That leaves commentators questioning the sustainability of the mandatory social component of the two PSI projects. ?The private sector will get its revenues from the commercial development surrounding the public buildings. The incentive for the private sector will clearly be to minimise the public sector component,? says Mitchell.As far as Project Finance is aware, no new tax incentives have been discussed in association with the PPP scheme.The projectsA broad spectrum of projects will be covered by the PPP guidelines, ranging from those which are purely self financing to developments that secure all their income from the government.Barclay points out that projects which have characteristics of public private partnerships have been commonplace in Hong Kong for over two decades. ?The first quasi-PPP scheme was developed in Hong Kong way before the UK came up with PFI, with the 1975 Housing sector participation scheme,? Barclay says. Badger suggests three basic categories of PFI infrastructure project. The first two are based on the tried and tested build-operate-transfer (BOT) model or some variant of that involving an income stream received directly from private sector users that retires debt and provides a return on equity; the difference between the two being that one is financially free standing and the other requires some form of Government subsidy or investment. ?Hong Kong has a long history of successfully developing these types of projects,? says Badger.But he adds: ?It is the third basic category, which has been at the centre of the PFI revolution in the UK, where Hong Kong is lagging.? In this category, the income stream used to repay capital costs and provide a return on equity comes directly from government payments for services to either government or private sector users of the infrastructure. Badger cites the design-build-finance-operate (DBFO) roads scheme, hospital services for the National Health Service and various types of accommodation schemes as UK examples. ?As far as I am aware, no project of this nature has yet been completed in the territory,? says Badger. ?It is a conceptual leap for Hong Kong, but already there are a number of projects which are being considered on this basis.?One such project under consideration is a new centralized catering service for hospitals throughout Hong Kong. The project is currently in the feasibility study stage. Other schemes being considered for PFI type procurement are waste management facilities, with an ongoing feasibility study by the Environmental Protection Department (EPD) and leisure/entertainment facilities under consideration by the Leisure & Cultural Services Department. What the new guidance initiative does, therefore, is to encourage the use of PPP in non standard areas, particularly social infrastructure projects.A banking source says that private companies have previously been involved in EPD water treatment projects in the SAR but the new model exhibits two differences: in the past, build and operating contracts tended to be awarded to different private companies; in addition it was the government which provided the funds for the initial construction. In contrast, under the new scheme, the EPD is debating whether the private sector should finance the initial capex, with this outlay, subsequent profits and ongoing operating costs are paid for from the government purse.Other projects which are also viewed as PPP pilot projects include two developments involving former police stations.The most recently announced plan centres around a scheme to preserve and develop the Central Police Station, Victoria Prison and the Former Central Magistracy site into a heritage tourism development. The government intends to invite tender proposals in early 2004 and hand over the site in phases to the successful proponent in 2005. The value of the contract was not revealed.The other project, which was announced last year comprises a plan to restore and convert the former historic Marine Police Headquarters in the heart of the tourist district of Tsim Sha Tsui into a tourism-themed development. The project is being tendered out by the Lands Department.But not everyone agrees that these projects should be associated with a broader PPP programme. ?The projects are property deals where there is an obligation to maintain existing facilities. The government won't be paying for a service provided by the public sector on an ongoing basis,? one source remarks.One other key question remains: how interested international banks will be in the market. ?The scope for PPP in Hong Kong is a lot smaller than, say, in the UK. But just as elsewhere I expect that some, although not all, of the big bank players will be interested in the market,? says Fuzi. However, Project Finance found no foreign banks in Hong Kong actively talking to the government about PPP ? all said they were monitoring market developments. ?The deals we would expect from Hong Kong, may not be that big. But we expect there will be a good number of solid bankable deals if the government really throws its weight behind the concept,? says one financier in the territory.
The PSI Alternative
The Home Affairs Bureau's two Private Sector Involvement (PSI) pilot schemes, the ice sports centre project in Tseung Kwan O and the leisure and cultural centre project in Kwun Tong, should pre-date any projects under the government's Efficiency Unit-sponsored PPP initiative. The public component of the projects is modest. According to Paul Cheung, a government official in the department responsible (Leisure and Cultural Services), the civic elements are valued at about HK$500 million ($65 million) in each case.
The project sites will be leased out by public tender to private investors who are required to design, build and manage the facilities at their own expense. Investors are also required to provide the ?core? facilities as outlined by the Government for the sites (two international standard ice skating rinks and a town park at Tseung Kwan O and an indoor swimming pool complex, a cultural centre and a bowling centre at Kwun Tong). The private sector will bear all the risks and enjoy all the reward, Cheung says.Contrary to what the Efficiency Unit and market observers suggest, Cheung does think the PSI and PPP models will contain significant differences of approach. The PSI approach will not involve any government funding, says Cheung, while he believes PPP will involve government funding, either upfront, or in the form of availability payment upon the delivery of services. The timetable for the bidding process and the completion of construction depends on the response to the initial request for expressions of interest.
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