Over the last five years Australia has been home to more public-private BOOT projects than anywhere else in the world. While there has also been just as much talk about UK-style Private Finance Initiative (PFI) ventures during the same period, almost no PFI deals have actually been mandated.

The outlook for public-private partnerships in Asia's largest project finance market continues to be unclear. Banking and legal sources say the implications of Australia's changing tax landscape a recent PFI green paper and draft policy documents from state governments have boosted hopes about the future of PFI. However, the high profile failure back in November last year of the project company behind the Sydney airport link dented both private sector and government confidence in the fledgling market. Wariness of public-private partnership schemes in general lingers on.

The airport link, a 10km tunnel connecting Sydney Airport with the city's Central Station, was built and operated by Airport Link Corporation (ALC), a consortium made up of Transfield Holdings and French construction company, Bouygues. The A$900 million ($450 million) project was notable for being one of the first public-private projects in Australia to have a highly geared funding structure of approximately 95% debt, similar to the gearing ratios of UK PFI deals, says Nick Hann at Macquarie Bank's Asset and Infrastructure Group. Up until the Sydney airport financing, most public sector/ private sector joint ventures, like the Alice Springs to Darwin Railway, have been financed on gearing levels of 70:30 or below, Hann says. The project moved from being notable for its financing structure to being infamous for its financial problems when ALC defaulted on its bank loan from National Australia Bank just six months after the line opened. Financiers say the default was due to the fact that patronage forecasts and therefore revenues were way below original expectations.

The upshot of ALC's failure was, on the one side, a public outcry over the extra A$200 million bill that the taxpayer would have to foot as a result of the default (the State Rail Authority was obliged to buy up the four stations served by the airport link at a cost of A$200 million) and, on the other, increased mistrust in the private sector regarding public sector companies' abilities to deliver services at a commercially acceptable standard. In short, the debacle provided ammunition to PFI skeptics in both the public and private sector.

This was not the only hiccup in the short history of private provision in Australia. The market has seen a private hospital operator have to hand back the responsibilities of operating the hospital to government and, in the most recent setback, the cancellation of a rail spur to Bondi Beach in the Sydney area (proposed on public-private lines), a development that the private sector had pushed for with great enthusiasm.

But in spite of the risks highlighted by the events at Airport Link Corporation and elsewhere, Michael Kerslake at Westpac's project finance department in Sydney believes that appetite for the public-private partnership deals at the banking level in general is strong. ?Ultimately the banking sector has been able to deal with the problems which have arisen quite successfully,? says Kerslake.

Capital markets appetite for government risk has also increased as the market has developed. ?What we are seeing is a lot more packaging of government risk in the capital markets,? says Kerslake. Although more privatization than public-private partnership, the evolution of financing structures for new tollroads has helped to pave the way for the financing of joint public and private sector projects. Tollroad fundraising schemes have developed from simple government guaranteed financings in the mid-1980s to financings in the mid-1990s which mixed CPI bonds, bank debt and infrastructure bonds.

Upcoming tax changes
The existing tax system includes provisions that have impeded the development of UK-style PFI in Australia, says Joanne Evans, a partner at Blake Dawson Waldron's project finance department. Evans singles out Section 51 AD and 16 D of the Income Tax Assessment Act as containing the most important rules affecting public-private partnership projects.

Section 51 AD deals with the transfer of tax benefits from non tax paying entities to private tax paying entities. The provisions contained in Section 51 AD, she says, can restrict or deny the claiming of tax benefits associated with asset ownership (including interest, depreciation and maintenance expenses) by a private owner/operator where the government is deemed to have control of the asset. Section 16 D deals with leasing to tax exempt entities and similarly reduces the attractiveness of public-private projects to the private sector by denial of tax deductions connected with ownership ? in cases where an underlying lease of core assets is needed.

Although Evans does say that a sponsor group has some leeway to transfer sufficient asset risks to the private sector to reduce the risk of application of these provisions, she adds, ?in the UK, the infrastructure provider takes far less asset or market risk with respect to the project in question. In Australia, the sponsor may have its tax deductions disallowed, because of the provisions, even if it takes on a significant level of risk and even if the asset is legally owned by the sponsor?. Players in the project finance market hope that the sweeping review of the Australian tax system, kick-started by the Ralph Report in September 1999, will eventually lead to a framework that does allow the private sector to reduce its risk participation while still being able to obtain tax deductions. The Ralph Report in fact recommends that Section 51AD be abolished entirely and Section 16D be substantially amended.

However, market sources believe that the Ralph Report's proposals are unlikely to go to parliament before the Federal elections due towards the end of the year. Hann says that those Ralph Report proposals pertinent to PFI or private provision projects are likely to be pushed back to a second phase of the tax reform process. The Ralph Report's proposed changes regarding Sections 51 AD and 16D are not likely to be in place therefore for several years.

Moreover, early indications are that Labour, which has traditionally been hostile to the PFI concept, will win the election. That doesn't necessarily mean, say observers, that the PFI market is endangered or that the Ralph Report's recommendations regarding 51AD and 16D won't be followed to the letter. One banking source in Sydney points out that incumbent Labour governments in Tasmanian and other states want to push through major infrastructure projects but lack sufficient cash and will simply have to look to the private sector for funding.

Ironically, the political backlash against privatization has helped the PFI cause. ?The state governments now want to retain a greater degree of control of social infrastructure assets so there's less emphasis on selling public entities and more emphasis on making sure that the private sector remains accountable for their respective roles. The PFI approach is seen as a good means to that end,? says Hann.

The two most progressive state governments, New South Wales and Victoria have both recently released documents, advocating that public private partnerships move beyond BOOT style developments to the PFI model. The documents are: New South Wales's Green Paper entitled Working with Government and Victoria's exposure draft policy documents called ?Partnerships Victoria.?

The emphasis of Partnerships Victoria, to quote from the actual document, ?is on services received by government, not government procurement of infrastructure. Government pays for services provided by the private party, which are delivered through privately owned infrastructure as part of the service package.?

Therefore, since most decisions about PFI projects will be made at the state level, the importance of the Federal Elections may simply lie in the fact that they delay the tax reform process. But on the other hand, what Australia may eventually get as a result of the election is a central government that is far less committed to the idea of PFI than the current Labour government in Britain.

PFI in the pipeline?
Evans says that a clear distinction should be drawn between the private provision approach that has been developed in Australia and the PFI system fashioned in the UK. Under PFI, assets are owned, managed and maintained by the private sector, whilst the public sector retains responsibility for the delivery of the public service.

To date, private provision in Australia, in contrast, has generally involved private companies providing the service on behalf of the government. The assets may be owned by the private sector (but this is not always the case). Australia's public private partnership approach is also far less standardized, notes Kerslake, because it is carried out at the regional, state rather than national level.

With that qualification in mind, one of the few examples of the PFI approach in Australia to date is the newly built County Court facility for Melbourne. The court is owned and operated by the private sector but used by local government.

It was a deal that highlighted the line that the private sector was not prepared to go beyond vis-à-vis taking on government risk. ?During the preliminary bidding stage, the government was at first asking the private sector to take court usage risk,? says Peter Sonsie, head of project finance at National Australia Bank's Melbourne office which supported one bidding group. ?In other words,? Sonsie adds, ?the winning bid would get paid on the basis of how often the court was used.? No bidding group was prepared to go that far and the bid documents eventually had to be revised.

The amount of private provision deals in the market over the last year is well down on the volumes of two years ago, says the anonymous Sydney-based banker. ?The last toll road mandate was five years ago indicating how slow the market is,? echoes Kerslake. However, Kerslake also believes that pressure is mounting on Australia's regional governments to push forward with infrastructure development plans and a variety of new schemes will be mandated over the next 12 months. Upcoming public-private partnership projects include the A$850 million regional fast rail project in Victoria (the development will introduce high speed rail services between Melbourne and regional centers like Ballarat and Geelong and the government is understood to be putting up A$550 million of the total project cost) and the planned redevelopment of Spencer Street Station, also in Melbourne, into a modern transport hub. The government is said to want a to turn Spencer Street into a multi-modal interchange linking country and metropolitan rail, tram and bus networks together. Cost projections for Spencer Street have not yet been fully worked out and the government is still at least a year away from sending out expressions of interest for the scheme. Expressions of interest for Fast Rail, however, are expected in about four weeks.

Expressions of interest from the private sector to build the fast rail links were scheduled for this month. Australian government sources say that the fast trains project will cost about A$800 million, based on detailed scoping studies. A$550 million of the total cost will come from the government.

Also up for grabs in the rail sector is the Perth-Mandurah Rail Line in Western Australia. Financiers say that the Western Australian government is seeking private sector bids on a design, build, finance and maintain basis but wants to both run and own the asset.

Other transport initiatives which may be developed under a private provision approach include the A$400 million Sydney cross city tunnel and the Western Sydney Orbital road which is expected to cost about A$1.25 billion. Of the total project cost about A$300 million, says one banker, will come from the state.

PFI projects have meanwhile been mooted for Australia's armed forces. Bankers say that Raytheon Australia has, for example, been investigating whether a privately financed and operated air-to-air refueling system can be developed and maintained for the Australian Defence Force.

The government of New South Wales also favours a public-private partnership approach for the construction and maintenance of a series of new schools to be built in Western Sydney. This would be one of the first greenfield education projects developed on private provision lines in Australia.