Is Value for Money analysis more than an academic exercise?
Published on 8 December 2019
Academic exercise:
“excessively concerned with intellectual matters and
lacking experience of practical affairs”
Being a Certified PPP Professional I have studied and appreciated the APMG PPP Certification Guide. Most of this widely endorsed Body of Knowledge makes sense and helps to improve the efficiency and effectiveness of preparing and implementing PPP projects. However, the suggested approach to Value for Money analysis can be debated in terms of its practicality and usefulness.
It is generally recognised that we need to further mobilise private sector resources to meet our infrastructure needs. It is not without reason that encouragement and promotion of Public Private Partnerships (PPP) is included in the Sustainable Development Goals. The use of private capital will allow governments to accelerate infrastructure investments and is assumed to provide for a more efficient delivery of these investments and related services. This comes at a price. The private sector will charge a premium for the risks they have to manage. Not unreasonable, and it merely implies that consideration has to be given to the value added of using PPP. Will the benefits of using PPP offset the costs? This is known in the PPP community as value for money. However, as simple as the principle may seem, in practice the analysis of value for money is complicated and controversial.
Today’s reality is that many countries have endorsed value for money as the main objective for pursuing PPP however only a few countries have adopted a systematic approach to the analysis of value for money. These few countries have been primarily inspired by the approach the UK government developed in the nineties which introduced a quantitative analysis framework (on top of some high-level qualitative considerations) as described in the Treasury Taskforce’s Technical Note 5 on How to Construct a Public Sector Comparator (1999). Australia, Canada and the Netherlands published shortly thereafter comparable guidelines and also for example Korea is using this approach in a systematic manner. Most other countries, in particular emerging markets and developing economies are struggling with the concept of value for money and apply it ad hoc or not at all.
“So far, limited experience with VfM analysis in Latin America”
Daniel Benitez, Senior Economist, World Bank (2013)
The concept of value for money analysis is fairly straight forward. It essentially compares the costs of delivering a project using conventional procurement and contractual arrangements i.e. the Public Sector Comparator, with the costs when delivering the project through a PPP scheme. The main differences are related to the valuation of the risks transferred to a private company with the PPP scheme that would be retained by government in the PSC option.
So, what is the problem? The problem is that the suggested approach is not very practical for emerging markets. The countries that systematically apply value for money analysis have in common that they are highly developed having strong government institutions and competent consultants and that they focus on government pays PPPs. However, emerging markets and developing economies are characterised by weak government institutions and less experienced consultant and a focus on user charge PPPs. This has two main implications.
“The PSC method, particularly as used in some industrial counties, may not be the best way to do all this in developing countries”
James Leigland, PPIAF Regional Program Leader for East and Southern Africa and Chris Shugart, consultant (2006)
To apply the value for money analysis as suggested by the UK and its peers requires a quantification of the project risks. More precise, a quantification of the risks when managed by the public sector (i.e. the Public Sector Comparator or PSC) and a quantification of the risks when managed by the private partner. The underlying principle is that risks are to be allocated to the party best able to manage or bear them which needs to be reflected in the value for money analysis. So, the analysis implies that all risks are to be quantified in terms of probability of occurrence and impact upon occurrence. If the risk would be managed by the private sector will the probability be less, or will the impact be less because they are better able to manage it? To answer these questions understanding and experiences with both public sector delivery and private sector delivery is essential. Such understanding and experiences are typically not present in emerging markets and developing economies. Consequently, the analysis faces the risk of garbage in, garbage out.
“The authors suggest that a simplified version of such (VFM) analysis could show the estimated transaction costs associated with alternative types of PPP and help to determine whether the likely efficiency gains would compensate for those costs. However, as has been found in more mature PPP markets, taking an overly complex and purely quantitative approach may not be the best tool for achieving those purposes. This can be the case especially in developing countries, since such analysis may be impossible to do properly, given the scarcity of data, the limited local expertise, and in some cases the lack of a viable public option”.
Edward Farquharson, Clemencia Torres de Mästle and E.R. Yescombe with Javier Encinas: How to Engage with the Private Sector in Public-Private Partnerships in Emerging Markets (2011)
Second issue concerns the perspective of the value for money analysis. As suggested by the UK and its peers, the value for money is to be assessed from the perspective of the government i.e. the fiscal impact of the procurement options. This makes sense for government pays PPPs. Comparing the costs to the government of the estimated periodic availability payments in case of PPP with the costs of construction and maintenance with more conventional procurement should reflect the benefits from more efficient project delivery under PPP and the higher cost of private capital. However, how to apply this with user charge PPP? There could be cost to the government when there is a need for viability gap funding. But what if tariffs are set to recover the costs i.e. all costs are recovered from the user charges. Should the value for money analysis not compare the required tariffs in case of public delivery with PPP in such a case? Or perhaps the analysis should be from the perspective of the society as a whole as it should not matter for the purpose of value for money whether the government pays for the service or the user? Questions that till now lack guidance and keep many governments still puzzled.
“…appraisal methods have been left largely to consultants. So there has often been little consistency in the methods used across projects…”
James Leigland, PPIAF Regional Program Leader for East and Southern Africa and Chris Shugart, consultant (2006)
Why not ignore the value for money analysis? After all, most emerging markets and developing economies do not really have a public sector option because of budgetary constraints. It’s either PPP or no project. Well, that may be the perception, but is that really the case? Governments can borrow money to deliver projects that contribute to economic growth and social development. Yes, there are and there should be limits to the level of debt. However, that will also apply to PPP. Maybe not today, but when governments adopt the International Public Sector Accounting Standards, PPP projects where the government sets the service requirements and tariffs will have be accounted for on-balance. As an asset and as a liability. The motivation to use PPP because it will be off-balance, will no longer apply so what remains is the value for money motive.
We want PPP because we want value for money, but if we cannot assess value for money, how can we give a green light for PPP? In order to get out of this catch 22, we need to revisit the suggested approach for value for money analysis. Let’s not copy the UK model. They themselves have already abandoned their quantitative analysis framework in 2012 to focus more on qualitative considerations. Let’s start thinking about a more pragmatic approach that meets the characteristics of emerging markets and developing economics.
