Productivity
Commission Public
Infrastructure Inquiry
Victorian Government Supplementary Submission
April 2014
The Secretary
Department of Treasury and Finance
1 Treasury Place
Melbourne Victoria 3002
Australia
Telephone: +61 3 9651 5111
Facsimile: +61 3 9651 5298
www.dtf.vic.gov.au
Authorised by the Victorian Government
1 Treasury Place, Melbourne, 3002
© State of Victoria 2014
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ISBN 978-1-92222-219-0 (pdf)
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Contents
1.
Introduction .................................................................................................... 1
2.
Provision, funding and financing ..................................................................... 7
2.1 Various public and private financing models may have a role to play ........................................7
2.1.1 Information Request 3.1.................................................................................................8
2.1.2 Information Request 5.1...............................................................................................10
2.1.3 Information Request 6.1...............................................................................................12
2.1.4 Information Request 6.2...............................................................................................13
2.1.5 Information Request 6.3...............................................................................................15
3.
Better institutional and governance arrangements are crucial...................... 18
3.1 Background ................................................................................................................................18
3.1.1 Information Request 2.1 ..............................................................................................20
3.1.2 Information Request 7.2 ..............................................................................................20
3.1.3 Draft Recommendation 11.1 ........................................................................................22
3.1.4 Draft Recommendation 11.2 ........................................................................................24
3.1.5 Draft Recommendation 11.3 ........................................................................................24
3.1.6 Draft Recommendation 11.4 ........................................................................................24
3.1.7 Draft Recommendation 11.5 ........................................................................................25
3.1.8 Draft Recommendation 11.7 ........................................................................................25
3.1.9 Information Request 11.1.............................................................................................26
3.1.10 Information Request 11.3.............................................................................................27
3.1.11 Draft Recommendation 11.9 ........................................................................................28
Attachment A – Treasury Corporation of Victoria PPP Modelling scenarios ............. 29
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
i
1.
Introduction
The Victorian Government is committed to responsibly managing its budget to support a
sustained program of infrastructure development and continued high quality services for
Victorians while avoiding excessive levels of debt. The Government’s financial strategy aims
to ensure that debt and debt servicing costs do not grow faster than Gross State Product
and result in a rising relative tax burden. With the Commonwealth’s greater funding
capacity, and being the direct financial beneficiary of productivity enhancements through
increased taxation revenue, the Commonwealth is a key partner in the delivery of
infrastructure.
Investing in productivity enhancing infrastructure is a key priority of the Victorian
Government. However there is a complex feedback loop between infrastructure
investment, productivity growth, tax burden, competitiveness and cost of living pressures.
As the Draft Report acknowledges, states are constrained in terms of their ability to use
their tax base to service additional debt.
Cost-benefit analysis in economic evaluations
While cost benefit analysis is the key tool in evaluating projects, it can sometimes represent
a relatively narrow measure of economic costs and benefits directly related to an
initiative/project. A positive benefit cost ratio (BCR) is generally a good evaluator of
respective projects’ economic impacts for the purpose of guiding prioritisation (and indicate
that on balance the initiative represents an economic good). However BCRs do have
limitations and should not necessarily be the sole indicator to demonstrate the true value of
an investment. To address these issues Victoria’s business cases articulate other relevant
quantitative and qualitative factors which are not picked up in the standard BCR, for
example ‘wider economic benefits’ (WEBs), and any distributional impacts (where this may
be a stated/relevant objective).
As an economic, not financial analysis tool, a positive BCR gives no indication of financial
sustainability, that is a project’s capacity to ‘pay for itself’ over time without the need to
raise taxes. Currently, almost all government projects would result in a negative financial
return to government, regardless of the economic BCR. From a state perspective the key
decision making drivers therefore also include the impact of an investment on the state’s
budget sustainability, competiveness, Gross State Product and growth potential.
Nevertheless, Victoria acknowledges the importance of BCR analysis as a tool to inform
investment prioritisation, and agrees with the Draft Report’s emphasis on the importance of
transparent cost benefit analysis to guide decision making around competing priorities.
Victoria’s Economic Evaluation Guidelines follow a similar approach to that endorsed in the
Draft Report.
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
1
Build now or build later?
Given the significant upfront expenditure involved in economic infrastructure and usually
long periods over which benefits accrue, the question of when to build can be as significant
as whether to build.
Put simply, if the cost savings from waiting, including time value of money or reduced
interest on debt or reduced taxation, exceed the benefits foregone and inflation impacts
during a period of wait then build, then the BCR may increase during the period of wait then
build.
As an example, delivering a transport project with spare capacity earlier than optimal has a
higher cost, such that even if the project has strong BCR now, it could have a reduced
economic benefit compared to waiting and investing later.
Effectively, the Government has a portfolio of "in the money call options" over most positive
BCR infrastructure projects and the decision of when and in what order to exercise these
options is relevant. Where several projects are in a network any analysis is even more
complicated.
The potential impact of waiting should also be important in considering the role of BCRs in
ranking or prioritising projects. The Productivity Commission may wish to consider whether
a simple prioritisation of highest BCR first without considering the ability to wait can result
in sub optimal decision making.
An alternative construct to any projects in a bottom up identification of an "infrastructure
deficit" is to think of them as a portfolio of in the money options on projects which should
be assessed for when is the optimal time to exercise and build rather than simply assume
they should all be built now.
Analysis of cost drivers
The Draft Report highlights the broad range of factors that impact construction costs and
makes a number of practical recommendations to effectively manage the cost of
infrastructure delivery. In considering these factors, there can be a disproportionate focus
on ways to reduce the cost of private sector finance or further review contractual risk
allocation to the private sector partners in infrastructure delivery. It is relevant to also
consider (and as noted in the Draft Report) that public private partnership (PPP) projects,
average around 10 – 15 per cent of capital investment program in the Victorian
Government’s General Government Sector. The cost of private sector finance is therefore
only directly relevant to this 10-15 per cent of the State’s capital spend.
Analysis by the Treasury Corporation of Victoria (TCV) demonstrates that even for this 10-15
per cent of capital expenditure, reducing construction costs in relative terms has the
greatest impact on reducing the whole of life cost of the infrastructure project to the State.
The TCV analysis points to the conclusion that private sector introducing design and service
delivery innovation and efficiencies in construction, operation and maintenance and overall
whole life costs has greater potential to make material contributions to infrastructure
affordability than financial engineering reducing costs of private sector finance.
Compared to reducing construction or operating costs, reducing the cost of private sector
debt or equity by a an equivalent amount will have a smaller impact on the overall net
present value of infrastructure projects. Achieving those same relative reductions has
different difficulties and complexities but Victoria considers that efforts in reducing
2
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
construction costs (including bid costs) and time, and achieving design and service delivery
innovation should drive resource prioritisation.
As well as the service outcomes achieved a relevant metric for judging the effectiveness of
our capital program is net present whole of life cost. There are many examples of better
design which can have a higher capital cost leading to more effective service outcomes and
operational capability and lower operating and maintenance costs. The TCV analysis is at
Attachment A and is further discussed below.
State’s broad infrastructure investment
The Terms of Reference have set the Commission’s focus on economic infrastructure,
although the Draft Report (p 48) does state that the report also covers social infrastructure.
Victoria reinforces that a significant annual component of the State’s General Government
Sector (GGS) capital expenditure is on social infrastructure which, by its nature is usually
unsuitable for user pays regimes and which has a less direct impact on productivity. The
large quantum of investment required in social infrastructure, and the resultant call on
recurrent operating expenditure is an important consideration when assessing budget
capacity and sustainability of budgets and borrowings. Apart from roads much of the State’s
investment in economic infrastructure is through Public Non-Financial Corporations (PNFCs),
such as water authorities. The majority of Government Trading Entities (GTEs) discussed in
the Draft Report in Victoria are either PNFC or Public Financial Corporations (PFCs) such as
TCV, VFMC, VMIA or VWA that do not directly deliver infrastructure.
While many of the themes of the Draft Report also apply to GGS social infrastructure, some
draft findings and draft recommendations will have limited direct applicability particularly as
noted given the limited ability to apply user pays models to social infrastructure. Table 1
below published in the 2013-14 Victorian Budget shows the large investment in the GGS in
non-economic infrastructure.
Broadly, the State’s capital expenditure can be grouped into four categories:
1) the vast majority of Victoria’s infrastructure investment is financed and funded through
general revenue and borrowings in the GGS (most social and transport infrastructure,
much of which is not suited to user charges);
2) availability payment PPP projects are financed by the private sector, and funded through
general government revenue (some social and transport projects in GGS);
3) a small proportion of demand risk transfer PPP projects that are financed by the private
sector and either funded wholly or partly from third party revenue streams (some toll
roads in GGS); and
4) infrastructure financed by PNFC borrowings and funded from the user charges they
collect.
In accordance with international accounting standards availability PPP project assets and
liabilities are on balance sheet and impact net debt, and are therefore also highly relevant in
the context of budget capacity and sustainability. Full demand risk transfer toll roads are
currently off balance sheet.
The State presents two balance sheets, that of the general government sector and a whole
of State balance sheet which consolidates our Government Trading Entities (GTEs), our PFCs
and our PNFCs.
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
3
In respect of availability based PPPs in Victoria, it is incorrect to say "long-term funding by
governments via payments to the private party do not show up on the government’s
balance sheet as debt" (Draft Report p 97 seems inconsistent with other sections including
p 14). Similarly, the long term availability payments are not "hidden contingent liabilities"
(Draft Report p 174).
The research referred to was relevant to earlier PFI deals in the UK and Europe.
We would also like to clarify comments about GTEs (Draft Report p 159 and 160) in case the
terms "off budget" might be confused by the reader with "off balance sheet". The full
liabilities of GTEs are consolidated and fully shown in the whole of government balance
sheet. They may or may not have implicit or explicit guarantees from the State. The term
"budget sector" is often used to describe the GGS. Generally GTEs are "off budget" to the
extent they do not appropriate from budget sources and are not in the GGS balance sheet.
However some GTEs receive budget funding. We note that one rating agency classifies
some, but not all, GTE debt as "self sustaining" where it is fully serviced from third party
charges when considering credit ratings. It is not strictly accurate to say "but the [GTE] debt
will generally not be reflected in the government’s overall credit rating" (Draft Report p 160).
Table 1: Purchase of non-financial assets by government purpose classification (a)
($millions)
General public services
Public order and safety
Education
Health
Social security and welfare
Housing and community amenities
Recreation and culture
Fuel and energy
Agriculture, forestry, fishing and hunting
Mining, manufacturing and construction
Transport and communications
Other economic affairs
Other purposes
Not allocated by purpose (b)
Total purchases of non-financial assets
2013-14 2014-15 2015-16 2016-17
Budget Estimate Estimate Estimate
197.0
120.3
106.7
105.3
847.5
566.0
245.5
246.3
518.9
365.2
244.8
242.0
1 147.9
842.0
756.3
554.2
154.5
108.4
97.6
31.6
173.7
116.8
76.9
72.9
157.1
87.4
72.1
40.6
4.3
2.7
2.4
..
61.5
22.7
10.9
6.3
0.1
0.1
0.1
..
2 047.8 1 584.9
894.3
525.8
58.3
18.8
17.6
4.2
0.7
0.4
0.4
..
( 500.3)
301.0
819.1 2 022.7
4 868.9 4 136.7 3 344.7 3 851.9
Notes:
4
(a)
Classifications have been determined using ratios based on historical data and the impact of policy and
non-policy estimate variations.
(b)
Estimated amount available to be allocated to departments and projects in future budgets. This includes
departmental underspending, which may be subject to carryover.
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
By way of comparison the following table, extracted from data published in the 2013-14
Victorian Budget, summarises the scale of Victoria’s PNFC sector capital investment
program.
Table 2: Public non-financial corporations capital program 2013-14 – summary (excluding Vic Track)
($millions)
Entities (by sector)
Metropolitan Water Entities
New & existing projects
Total
Estimated
Estimated Expenditure
Investment to 30.06.13
Estimated
Expenditure Remaining
2013-14 Expenditure
5 187
1 403
955
2 829
Non-Metropolitan Water Entities
New & existing projects
7 399
2 504
756
4 139
Director of Housing
New & existing projects
1 152
322
237
593
Other Entities
New & existing projects
774
294
218
262
14 511
4 522
2 165
7 823
Total
Notes:(a) Data extracted from the 2013-3014 Victorian Budget, State Capital Program, Budget Paper No.4.
Accountability framework
Victoria continues to look for opportunities for efficient and effective decision making and
timely project delivery. As an investor, it is critical that governments clearly scope and define
projects, put in place effective governance structures and ensure that project teams have
the necessary skills and capabilities.
The Government has taken action to introduce policy and process requirements to reinforce
and improve infrastructure delivery practices and accountability in Victoria both in the GGS
and the PNFC sector. These actions build on and have strengthened Victoria’s devolved
accountability and risk based governance arrangements. This includes processes focused on
holding departments and agencies more accountable for effective infrastructure delivery,
including through increased scrutiny of major projects by central agencies and the
Government.
Infrastructure is about facilitating service delivery to the community and is not just about
building things. There is significant alignment in ensuring those responsible for the ultimate
service delivery also are accountable for the scope definition, cost and quality of the asset.
The Government, in its investor capacity within the GGS, receives information and advice
from departments, central agencies and other relevant experts to help it make informed
GGS investment decisions. Ultimately it is the responsibility of executive Government to
determine investment priorities and ensure effective planning processes are in place.
Victoria does not consider it necessary to have independent institutional structures in place
to prioritise or veto decisions on GGS infrastructure investment. While an independent body
may help provide investment advice, it does not have a democratic mandate to make final
investment decisions. Elected governments are best placed to prioritise scarce taxpayer
resources.
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
5
The accountability framework within the PNFC sector is different. Here the Government sets
the objectives and functions of the state owned enterprises through its enabling legislation,
statement of expectations or corporate planning process. Day to day oversight of the PNFC
is through an independent board, whose appointment is skills/experience based. The
Government, as shareholder, ensures accountability through the corporate planning
process. In utilities, such as the water authorities, the Essential Services Commission has a
regulatory function which includes regulatory decisions around the utilities’ infrastructure
investment.
Construction industry productivity
The Victorian Government continues to implement a range of measures to address
productivity in the construction industry including the Implementation Guidelines to the
Victorian Code of Practice for the Building and Construction Industry. The Victorian
Government is supportive of the two draft recommendations on this issue:
•
12.1 - All Australian governments should adopt the Victorian building and code
guidelines for their own major infrastructure purchases; and
•
12.2 - The Australian Government should increase the ceiling of penalties for unlawful
industrial relations conduct in the construction industry.
This supplementary submission responds to some of the information requests, where the
Victorian Government considers it can usefully contribute to the public debate, further to
the information provided in the initial Victorian Government submission dated
January 2014. Responses are grouped under the headings identified in the Draft Report.
6
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
2.
Provision, funding and financing
2.1
Various public and private financing models may have a role to play
PPP projects in Victoria have continued to demonstrate there is an active and competitive
private finance market for GGS infrastructure. The PNFC sector is also able to easily tap
private sector finance, however Victoria provides capital to our PNFC sector through
centralised borrowings via Treasury Corporation of Victoria (TCV), usually at competitively
neutral rates. The Victorian Government agrees with draft finding 5.1 that there is no
shortage of private sector capital.
There is much public discussion around the merits and costs associated with private finance
in public infrastructure. Where applicable to specific projects, introducing private finance
can be critical to driving competitive efficiencies and also has the benefit of fostering
innovation by the private sector. In looking for further improvements to the PPP model, it
remains useful context to reinforce that reducing core infrastructure costs has the greatest
impact on lowering total whole of life costs compared to reducing the cost of the private
debt finance or equity, as shown in Figure 1 below. In demonstrating this point, TCV has
completed some modeling based on a standard availability PPP project. The full TCV report
is at Attachment A to the submission.
The key finding is that for the ten to fifteen per cent of infrastructure typically financed by
PPPs reducing a hypothetical project’s construction cost (including bid and design costs) has
the greatest net present cost (NPC) sensitivity. The same relative changes in financing fees
and margins and Facilities Management (FM)/consortium costs have a lesser impact. This is
driven by the fact that the project’s construction cost is directly correlated with the amount
of capital required (both debt and equity). This in turn drives the required amounts to be
serviced in the PPP structure and therefore reducing construction costs reduces the
quantum of both debt and equity outstanding and the associated interest costs and equity
distributions.
A range of baseline profiles were tested against five, ten and twenty per cent reductions in
the key cost drivers. The figure below demonstrates the impact on a typical project’s NPC
from a five per cent reduction in the key inputs. Notwithstanding that achieving a five per
cent reduction in construction costs has different complexities and difficulties to achieving a
the same reduction in financing costs, the analysis suggests that efforts in reducing
construction costs (including bid costs) and time can result in much larger impacts on
infrastructure affordability than financial engineering merely improving financing costs, and
hence this should drive resource prioritisation.
One outcome from introducing private finance in PPPs is that the active role of the private
sector is expected to introduce design and service delivery innovation and efficiencies in
construction, operation and maintenance and overall whole life costs compared to non
PPPs. The TCV analysis is relevant in directing efforts for where to improve PPPs further.
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
7
Figure 1 – Project cost sensitivities at 5%
These results demonstrate that a priority for reform should be to focus efforts on reducing
the overall construction cost of infrastructure projects.
2.1.1
Information Request 3.1
The Commission seeks examples of where privately delivered public infrastructure project
tender processes at the Australian Government or state or territory level have failed to meet
the public sector comparator.
PPPs are one of many procurement options used to deliver infrastructure in Victoria,
including design and construct, alliancing and managing contractor. PPPs have typically
made up around ten per cent of the annual capital investment.
The Public Sector Comparator (PSC) is a key cost benchmarking tool to assess value for
money in PPP projects. Different types of cost benchmarking is used for other procurement
methodologies. In design and construct and alliance contracting it is a competitive market
response that determines affordability to ensure value for money.
The PSC methodology started with the early PPPs when governments were looking to satisfy
themselves that in the absence of a deep and competitive market for PPPs at the time that
the outcomes were providing taxpayers with value for money. Until recently, the PSC has
been used as a pass/fail benchmark to determine whether or not PPP delivery will result in a
value for money outcome, when compared to traditional State project delivery. This
approach assumes that where a PPP tender process fails the PSC value for money
benchmark, PPP delivery is deemed not to deliver value and the Government then has the
option of reverting back to traditional delivery with the PSC forming the basis of the
project's budget and scope.
In practice, there is now a deep and competitive market for PPPs and it has been extremely
rare that a tender process would be discontinued in situations where tenderers failed to
meet the PSC for a PPP project in Victoria.
8
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
The PSC is an important tool to ensure that government is an informed buyer and has the
knowledge to drive competitive outcomes during the tender process. Partnerships Victoria
projects have delivered over $1 billion of savings (using September 2011 dollars) when
compared with the PSC. However, there are limitations and the PSC as an absolute value for
money benchmark has attracted significant criticism at times, including:
•
the PSC necessarily is a point-in-time estimate that can become dated when used to
benchmark live/evolving tender processes;
•
the PSC is generally built up using desk top quantity surveying methodology and is
therefore more theoretical compared to actual tenders, because it is not market
tested; and
•
the PSC can be significantly impacted by underlying assumptions that can vary
significantly during the bid period, such as cost escalations, fluctuations in interest
rates including exchange rates (through the discount rates) and risk adjustments.
Value for money is a broader concept that encompasses the quantitative PSC analysis and
qualitative factors. It is important to note that where market testing of the PSC in a
competitive PPP tender environment suggests an underpricing/over-scoping problem with
the PSC (i.e. ‘failure’ to beat the PSC), this is not necessarily an indication that merely
changing procurement methodology would lead to a different outcome. Changing approach
could also result in delays to the process.
In May 2013, the Victorian Government announced various enhancements to Victoria’s
existing PPP policy, via the release of the revised Partnerships Victoria Requirements
document. Importantly, these enhancements included the following reforms to the
application of the PSC in PPP tender processes:
i.
the PSC will no longer represent a pass/fail test, however will still be applied as a cost
benchmark for tenderers to beat (in a competitive environment). Therefore there will
no longer be an assumption that if the PSC is not met through the tender process that
the Government will revert to traditional State delivery;
ii.
the Department of Treasury and Finance will engage an independent external advisor
to review the PSC and ensure its robustness, prior to Government approval of the RFP
(in addition to the quality assurance workshop required to be conducted by procuring
agencies);
iii.
procuring agencies will be required to develop a scope ladder for approval alongside
the PSC, in order to identify a priority of scope items which tenderers may remove or
add depending on where their pricing sits in relation to the PSC (essentially allowing
tenderers to compete on scope as well as price); and
iv.
the current practice of disclosing the raw PSC to tenderers will continue, but
consideration may be given to disclosing the full PSC, where particularly complex
projects could benefit from this.
The information request 3.1 specifically relates to the Public Sector Comparator and PPP
projects. In reviewing projects since 2000, no Victorian PPP project has seen private bids fail
the PSC test and the project revert to an alternative procurement methodology.
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
9
Project example – The Victorian Comprehensive Cancer Centre
The Victorian Comprehensive Cancer Centre (VCCC) is a recent example of the complexities
inherent in establishing a PSC and associated reference design at a point in time well in
advance of proposal submission by tenderers. Victoria took the lessons learnt from this and
other experiences, as well as market feedback, in developing Victoria’s reforms in relation to
the application of the PSC.
The VCCC project tender process commenced in September 2009 with the release of an
Expression of Interest to the market. Divergences between the market’s interpretation of
the tender documentation and the State’s PSC/reference design emerged during the
Request for Proposal phase. This led to clarification being sought by both tenderers and the
State and eventually resulted in an additional procurement stage. A joint Department of
Treasury and Finance and Department of Health review of the process highlighted areas for
improvement in PSC/reference design development practices.
One of the key findings was that reverting to traditional delivery was not likely to resolve the
discrepancies, which were due to a number of different factors. Instead, the State
successfully negotiated a contract with the preferred tenderer by implementing a
combination of measures, predominantly around better defining project requirements to
eliminate possible premium risk pricing by tenderers, sharper alignment of project
requirements with PSC cost and risk estimates and introducing an alternative financing
structure (as the project financing requirement was considered above the efficient threshold
in the project financing market at the time).
2.1.2
Information Request 5.1
The Commission seeks feedback on the availability of bond finance for public infrastructure
projects in Australia.
•
To what extent are there impediments to the development of the Australian bond market
to support investment in infrastructure?
•
To what extent are there barriers to Australian infrastructure firms accessing
international bond markets?
It is generally acknowledged that following the collapse of monoline insurers during the
Global Financial Crisis (GFC), bond finance became unavailable or unaffordable for PPP
projects. However, there has been a gradual return of bond market appetite for PPP project
risk in the last two years or so, mainly for brownfields refinancings. The refinancing of the
Victorian Desalination Plant project in October 2013 provides a recent example of effective
utilisation of bond financing for an Australian PPP. The refinancing included a combination
of bank debt tranches (with varying tenors), domestic bonds (issued in the Australian
Medium Term Note (AMTN) market) and US and Australian dollar denominated bonds
issued in the US Private Placement (USPP) market.
As part of the US bond issuance, Project Co (the concessionaire under the Project Deed) put
in place cross currency swaps to mitigate exposure to foreign exchange risk associated with
the US dollar denominated bonds. The diversified sources and tenors of the refinanced
senior debts contributed to the favourable pricing achieved for each debt tranche, and have
significantly reduced future refinancing risk for the project. This is the first time that an
Australian PPP has utilised the USPP market as a funding source. The introduction of USPP
10
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
bonds into the Australian PPP market is a positive step for the Australian PPP financing
market, which will likely enhance competition for future PPP transactions in Australia,
providing greater depth for capacity and pricing.
Bond investors are typically long-term investors and require payment of interest unearned
in the event of early termination. In the desalination project refinancing, Victoria, in
conjunction with Project Co, was successful in negotiating out this "make whole" provision
that is standard in all bond issues domestically and internationally. This provision would
have exposed the State to a considerably higher termination liability. In addition, Victoria
was able to secure a non-standard clause in the USPP issuance to allow the State to elect to
either pay or take novation of the bonds and associated cross currency swaps in the event of
early termination. This provides greater flexibility for the State to consider the most
appropriate method of payment at the time of an early termination, given there may be
budget and/or other constraints at the time.
Bond markets are attractive when compared to bank debt as they provide an opportunity
for longer term funding, limiting a project’s exposure to future refinancing risk. Prior to the
Victorian Desalination Plant refinancing there had been a number of other PPP projects
utilising the local AMTN bond market such as the EastLink toll road. There had also been
several private placements in the US market (for non-PPP projects). Other infrastructure
firms (eg Transurban) regularly access both domestic and international bond markets,
however these debts are predominantly raised at the corporate level rather than at the
specific asset level.
Since the GFC there has been limited appetite amongst PPP investors in Australia for PPP
project bonds, particularly there is a marked absence of investors taking bid cost as well as
construction risks. The gradual ‘come back’ of the bond market to PPPs has been limited to
refinancing transactions, where projects have been significantly ‘derisked’ by the completion
of the construction phase, once steady state operations have commenced. While overseas
bond markets provide better prospects, accessing these markets has currency risk
implications; i.e. repayments may vary according to fluctuations in the exchange rate. As per
the Victorian Desalination Plant refinancing, cross-currency swaps would be required to give
the State and private parties certainty regarding interest rate and principal exposure. For
this reason at an individual project level international bond issuances are still relatively
expensive compared to domestic bank debt or bond markets.
In Victoria entities in the PNFC sector generally borrow at market neutral rates from TCV.
These PNFCs, particularly the regulated ones, could be expected to be able to access bond
financing, as comparable private sector companies, should the shareholder wish to.
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
11
2.1.3
Information Request 6.1
The Commission seeks views on the costs and benefits of governments issuing project specific
infrastructure bonds, with the interest rates reflecting the risks of the project and which
explicitly do not have a government guarantee.
The proposition of project specific infrastructure bonds is probably more relevant for
projects with third party / user charges type revenue streams, which typically represents a
very small percentage of the Victorian Government’s GGS infrastructure spend but is more
relevant for our PNFCs.
Victoria supports transparent cost recovery, including the true cost of finance, from users as
an efficient use of capital. As noted above in Victoria the PNFC sector invests in economic
infrastructure and generally recovers the cost of the investments via user charges. These
entities are assigned a rating equivalent by the State or can obtain shadow ratings from a
ratings agency. Based on this, funding is made available to them on market neutral rates.
For a regulated water company the costs ultimately borne by the water users will reflect
interest rates representative of the risks of that entity including their projects. We note that
internationally regulated private sector utilities appear to finance much of their capital
programmes through borrowings at the corporate level rather than through extensive use of
project financing for specific programmes. The private sector analogy to the GGS or a PNFC
issuing project specific infrastructure bonds would be a private sector entity choosing to
project finance rather than corporate finance a project with similar pros and cons.
In the context of economic infrastructure investments with third party revenue streams
within the GGS, there appears to be little benefit to the State issuing project specific bonds
to fund construction compared with the State funding construction and then selling a
constructed asset with a proven revenue stream. If the driver is ensuring a transparent cost
of funds for the risks, States could achieve the same result through a PPP structure where
the PPP concessionaire issues project specific financing and assumes additional construction
and operating risks. Where third party revenues ultimately fully repay the upfront financing
costs, if structured as PPPs, these projects generally sit off balance sheet, for example selffunded projects like toll roads.
There may be some advantages to a Government issued GGS project specific infrastructure
bond if this funding form is considered self-sustaining debt for rating agency purposes. This
could be a minor advantage during the construction period compared with a counter factual
of the State funding construction and then selling a constructed asset with a proven revenue
stream and recycling the proceeds for debt reduction or further infrastructure investment.
There may also be investor appetite for Consumer Price Index (CPI) or Gross State Product
linked instruments (such as a GGS issued specific infrastructure bond) or potentially where
investors are reaching exposure limits for individual State debt instruments.
The question raised is whether this is an efficient pricing model for funding where investors
will be exposed to a single project rather than say a portfolio of assets through government
bonds or bonds issued in a broader government infrastructure fund or through PNFCs
directly accessing private sector capital. The other question is whether this type of revenue
stream will attract a different asset allocation and/or new class of investors, which might
occur in a retail offering of bonds.
12
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
However, some of the inflexibilities and costs associated with such bonds, as identified in
the Productivity Commission’s Draft Report, may increase costs to manage and issue this
class of financing instrument compared to straight government debt.
Victoria considers that the merits of issuing project specific revenue (as opposed to debt)
instruments or quasi equity instruments could be investigated further. The illiquid and long
term nature of investing in PPP equity together with the size of the investment required and
the bid costs can make investing in PPP equity relatively unattractive to small to medium
sized super funds. Alternative structures may offer better value, depending on specific
project characteristics and market conditions. For example, where the State builds a toll
road and retains toll revenues until a proven revenue stream is established, revenue sharing
units of varying maturities (e.g. 1 year, 3 years or 5 years) can then be divested, in
denominations suitable for small, medium and large sized institutional investors. This
approach could potentially broaden and deepen the available pool of finance which is likely
to result in a competitive effective cost of capital. This potentially offers the market an
attractive infrastructure equity product not otherwise available unless made available for
the State. Victoria believes that alternative structures should continue to be assessed
against existing alternatives.
There is deep and wide demand for project specific infrastructure debt issued by PPP
companies which would appear to be very similar to project specific debt if issued by
Government.
As noted above, the TCV analysis points to the conclusion that private sector introducing
design and service delivery innovation and efficiencies in construction, operation and
maintenance and overall whole life costs has greater potential to make material
contributions to infrastructure affordability than financial engineering reducing costs of
private sector finance.
2.1.4
Information Request 6.2
The Commission seeks views on the costs and benefits of governments issuing converting
infrastructure bonds to finance greenfields infrastructure investments.
The potential benefits of converting infrastructure bonds are described as in effect a
forward sale of the asset, while issuing low cost debt and then transferring the asset and
borrowings off balance sheet at completion. The suggestion is that the end result would be
identical to a conventional PPP, but that the risks would be better matched.
This proposition is relevant for projects with third party / user charges type revenue
streams, which typically represents a very small percentage of the Victorian Government’s
GGS infrastructure spend.
However, all other types of projects including availability based PPP arrangements remain
on balance sheet for government either through debt to fund capital or service provision or
recorded as finance lease liabilities. Since the service payments are government obligations
for government directed services, subject to performance measures such as abatements,
such payments are unlikely to be off balance sheet. It is not clear how a converting debt
could extinguish the State’s obligations for service payments to be recorded as a balance
sheet liability.
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
13
Furthermore, given the materially different capital structure, i.e. 100% equity for operations
period, this may not necessarily lead to better value for money outcomes compared to a
typically geared private financed arrangement, which gives rise to tax deductions for the
special purpose vehicle.
During the construction period, if the commercial drivers are similar to other privately
financed projects, then the government may not wish to provide interest during
construction, and this is likely to be attractive to a smaller pool of investors. If, as proposed,
a fixed coupon were to be paid during the construction period, this potentially cuts across
the financial discipline of reaching practical completion by paying out on debt during
construction.
Bondholders in PPP structures provide a stable funding structure, potentially for the full
term of a project. However, when it comes to negotiating changes or responding to
commercial outcomes, the bond trustee’s mandate is generally not as flexible as the
privately financed sponsor vehicle model with institutional lending arrangements.
Overall, the proposed benefits of the converting infrastructure bonds do not appear to have
any advantages over traditional government financing and asset disposal post completion.
Furthermore, the deepest and most competitive pool of investors is arguably available
where government funds construction and bears that risk and then disposes of an asset with
known and proven cash flows.
Notwithstanding the above, the instrument could achieve some of the robust features of
PPPs including transferring construction risks, innovation and whole of life costing.
However, the Victorian Government generally agrees with the Productivity Commission’s
reservations about the design and operation of converting infrastructure bonds.
As noted above, the TCV analysis points to the conclusion that private sector introducing
design and service delivery innovation and efficiencies in construction, operation and
maintenance and overall whole life costs has greater potential to make material
contributions to infrastructure affordability than financial engineering reducing costs of
private sector finance.
14
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
2.1.5
Information Request 6.3
The Commission seeks feedback on the advantages and disadvantages of alternative
procurement processes focused on long-term equity, such as an ‘inverted bid’ model. In
particular, the Commission is interested in how an alternative procurement process should
be designed to maximise efficiency gains and the likely benefits and costs of such an
approach.
Inverted bid model
Victoria’s view is that the current PPP model will usually be preferable because the State
receives a complete bid, with all aspects of the transaction competitively tendered
concurrently and risk positions agreed. This approach enhances the chances of a bid being
kept whole and not re-opened and allows the State to evaluate the net present cost of the
whole of life cost to the State. A primary advantage of the current PPP model is the
competitive tension that is integrated and internalised in the bidding vehicle to produce an
tightly priced mix of service, construction and financing during tendering.
In considering different bid structures, the State is mindful of service and design outcomes,
risks to the State, complexity and value for money. As indicated in the original submission,
Victoria analyses alternative financing structures against a framework of criteria, to guide
project specific decisions on these issues.
Victoria considers the disadvantages of the inverted bid model include:

the disproportional emphasis on the equity and its returns, relative to the benefits of a
complete package;

the cost of equity, rather than the potential to value add, is the determinant of selecting
the equity partner;

the loss of the complex risk allocation negotiation and integration between
construction, operations delivery and financing, which increase the chances of risk
allocations and pricing changing post equity bid; and

it potentially creates a mismatch for equity between what equity is willing to absorb and
what downstream contractors can absorb or price. Equity may seek to address
uncertainty by either gold-plating or de-risking, resulting in higher overall costs in areas
such as construction costs, security packages and liquidated damages compared to the
lower cost of equity.
While there is alignment of long term equity holders’ interests and infrastructure assets, the
disproportional emphasis on equity returns upfront does not suit most transactions and is
reflected by the TCV modelling, discussed earlier, which highlights that reducing the cost of
equity in a PPP transaction has a relatively minor impact on the overall NPV.
Breaking up an infrastructure tender into different components and competing each
component separately introduces additional risk to the bid process particularly the risks
around re-opening of price or risk allocation in later stages.
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
15
Victoria’s view is the likely commercial, risk and return requirements of debt and equity are
more ‘commodity like’ and capable of benchmarking than the risk positions of
subcontractors. Consequently, there is likely to be more risk and potential ultimate cost to
the State in using and responding to an inverted bid model leading to an initial ‘unsubcontractable’ position than using a debt and equity competition model resulting in an
initial ‘unbankable’ position. Either position is usually fixed through the State assuming more
risk or a higher price, but it is considered that there is a higher prospect of arriving at the
“un-subcontractable” position.
The UK considers that funding competitions can be appropriate where:

analogous projects in the same sector have already been successfully delivered by a
range of bidders;

the likelihood of procuring finance is not in question;

the project is not novel, complex, large or likely to involve non-traditional funding
sources;

experience on successive projects has shown that the terms of finance are reasonably
predictable and therefore the Government’s advisors should be able to anticipate the
terms; and

innovation in financial structuring is unlikely.
If the Productivity Commission were considering recommendations on an alternative bid
model process, Victoria is of the view that a UK style ‘debt and equity finance competition’
post preferred bidder, where projects are not novel, complex or large, may result in superior
outcomes than an inverted bid model because:
•
the design and service outcomes are the most important results to the State so we
would prefer to lock in the most complex and important elements first;
•
the design and construction and operating costs are the key contributors to whole of
life net present cost compared to differences in equity returns; competitively locking in
the biggest cost contributor first is more likely to drive value for money; and
•
in our view there is less chance of a debt and equity competition model leading to an
‘unbankable’ position and the State having to take on more cost or risk as a result, than
an inverted model leading to an ‘un-subcontractable’ position and the State having to
take on more cost or risk as a result.
Victoria acknowledges that for a project with the right characteristics, the ‘inverted bid’
model may offer value over and above the traditional/complete bid model and facilitate a
‘best in breed’ concept where components are competitively tendered. This potential
benefit may not outweigh the advantages of an integrated package, where consortium
partners exert considerable influence and accept interface risk to offer a competitive
package. However, one potential example where an equity/operator may provide value is in
proposals brought forward under the Victorian Government’s newly released Unsolicited
Guidelines. In these prospective projects, the operator could be presumed to be well placed
to manage all of the interface risks, including procurement and management of key
subcontracts, network integration, disruption risk, etc. over the life of the contract, thereby
offering much greater value to the State than just lower priced equity. On balance therefore,
such a long term equity position could provide significant value for money to the State, as
well as superior design and service outcomes.
16
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
Government grants and loans
The Draft Report notes that further investigation of alternative financing mechanisms will
occur and be reported on as part of the final report. Page 190 of the Draft Report notes
‘There was limited discussion of the relative merits of direct capital grants and government
loans. In particular, some participants argued that government lending could be a more
direct response to current impediments to private sector involvement.’
Victorian considers, as referred to above, that government loans would only appear sensible
for projects with third party revenue streams. For availability based PPP projects, providing a
government loan instead of a grant structure simply increases the availability payment from
the state to effectively repay the loan (to itself). An Australian Government loan, as opposed
to simple Commonwealth grants, to an availability based project would have the perverse
outcome of the state's availability charge increasing to repay the Australian Government
loan, assuming a consistent credit rating between the jurisdictions.
The Draft Report notes on page 192 “Targeted capital grants, particularly when
administered for projects that would have been undertaken without government assistance,
equate to an explicit subsidy. This could encourage unproductive rent-seeking behaviour by
private finance providers, as well as place pressure on the government to support projects
that would otherwise fail the cost–benefit test. In other words, the mechanism risks creating
expectations that any project will be supported, as long as some private finance is available.”
Victoria considers the investment decision is separate to the procurement or financing
decision. A project investment is considered against a BCR to guide the investment decision
and it is only after this decision that financing sources are considered. A capital grant does
not reduce the cost, apart from a relatively minor impact on interest during construction.
Victoria is unaware of any project where the financing structure has increased a BCR from
below one to one or above, or from a ‘do not proceed’ to a ‘proceed’ discussion.
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
17
3.
Better institutional and governance arrangements
are crucial
3.1
Background
Investment in productivity enhancing infrastructure is a key priority. A positive BCR is
generally a good evaluator of economic impact to guide prioritisation, however it does have
limitations and should not be used as the sole indicator to demonstrate to the public the
true value of an investment. While BCRs are a useful metric, Victoria considers that
simplistic application and over-reliance on this single metric without understanding its
limitations creates a misconception that only values included in standard BCRs are
important.
The difference between economic and financial assessments (relative weak linkages to
State revenues)
As an economic, not financial analysis tool, positive BCR projects indicate that the economic
benefits outweigh the economic costs, albeit ignoring financial sustainability, that is a
project’s capacity to ‘pay for itself’ over time without the need to raise taxes. Project
benefits and costs largely accrue to a number of specific economic actors, for example;
individuals (reduced congestion and travel time savings, reduced accidents, productivity),
firms (productivity and profitability), and the environment.
On the other hand, currently most infrastructure projects’ financial analyses (the
assessment of the overall financial return to government) are negative, usually measured in
financial net present value (NPV) terms. Part of this is that generally projects have a very
limited positive impact on state revenues (most likely through indirect boosts to GST and
payroll tax). From a state perspective, in addition to BCRs, the key decision making drivers
for economic infrastructure also include the impact of an investment on the state’s financial
sustainability, competiveness, Gross State Product and growth potential.
BCRs are not a measure of impact on economic activity or productivity
The economic impacts directly related to an initiative/project represented in a BCR can be
somewhat narrow. While cost-benefit analysis generally provides a good evaluator of
respective projects’ economic impacts for the purpose of guiding prioritisation, focusing
solely on BCRs can lead to sub-optimal decision making, due to a range of limitations:
18
•
BCRs alone are not a complete measure of a project’s likely impacts on improving
productivity or economic growth;
•
benefits and costs captured within a BCR can vary widely and some impacts are not
captured at all or measurement is difficult. An example is ‘wider economic benefits’ or
WEBs (such as the benefits generated from transformational infrastructure which
serves to increase productivity by encouraging agglomeration of businesses and
greater access to labour); and
•
not all BCRs of the same value have the same impact on productivity and
competitiveness, e.g. commuter travel time savings differ from community health
benefits.
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
Victoria therefore supplements BCR information with:
•
equity considerations and broader qualitative considerations;
•
WEB’s where appropriate (consistent with the approach adopted by Infrastructure
Australia);
•
strategic network impacts; and
•
budget sustainability considerations.
Even for measures purporting to capture all of the economic impacts, the methodologies for
identifying and quantifying the benefits are subject to a number of simplifying assumptions
which need to be understood to properly assess the merits of an investment.
Decisions around public disclosure of cost-benefit analysis are informed by project specific
circumstances. Victoria is keen to ensure that public disclosure of cost information prior to
commencing tender processes does not jeopardise the Government’s ability to optimise
value for money through competitive tender processes. This assessment is most usefully
made taking into account project specific circumstances and market conditions.
Victoria’s original submission to this inquiry encouraged further consideration of how best
to collect data for, estimate and include wider economic benefits, and productivity metrics
more broadly, to support investment decisions. The potential for productivity based
payments for infrastructure investment from the Commonwealth to the States is also an
issue that could be further considered.
The basic concept of these payments involves further Commonwealth funding to the States
for productivity boosting infrastructure investment, where the financial benefits flow to the
Commonwealth through increased taxation. Payment by results mechanisms have been put
in place in the United Kingdom and examples, such as National Competition Policy reward
payments, also exist in Australia.
The Grattan Institute’s ‘Game-changers: Economic reform priorities for Australia’ notes that
‘Of course, much infrastructure has non-economic benefits, including public amenity, social
cohesion, and environmental impacts. On these grounds alone, individual projects may well
be worth pursuing.’
Table 3 below provides one potential lens through which BCRs can be considered.
Table 3: Comparative BCRs
Low productivity
related benefits
Low non-economic or
non-productivity
related benefits
High non-economic
or non-productivity
related benefits
“Weak”
“Amenity”
Likely low BCRs
Many will have
strong BCRs
Do not proceed
High productivity
related benefits
“Often misunderstood”
“Stars”
May have low
traditional BCR
Likely high BCR
Likely to proceed
Likely to have high WEBs
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
19
The ‘weak’ and ‘stars’ boxes are relatively uncontroversial.
The amenity box could include investment in cultural assets. Where these are “one off”
there are intergeneration equity arguments for spreading the burden of repaying these.
However for the majority of the State’s investment in this class of infrastructure the need or
desire to invest is recurrent. However the recurrent investment pattern if debt funded is not
met by a rise in the ability to repay the debt through increased economic activity, potentially
leading to rising tax rates as a proportion of economic activity and ultimately reduced
competitiveness. To re-use a common analogy in the infrastructure debate while increasing
borrowing to finance a “one off” amenity asset might be a bit like a mortgage, the recurrent
nature of a State’s investments in amenity type infrastructure is more akin to buying a new
house for your family every year but without any rise in income to pay for the increased
mortgage repayments.
Projects can fall into the ‘misunderstood’ box when BCRs are simplistically and wrongly
applied as a single and comprehensive measure of a project’s worth.
3.1.1
Information Request 2.1
The Commission seeks views on other prospective infrastructure assets that the
Commonwealth, States and Territories should consider for privatisation.
The Victorian Government notes recommendation 2.1 and is currently investigating the
strategic and commercial options for the future of Victoria’s state-owned ports. The scoping
study will consider the future ownership options of the ports including the timing, economic
and commercial value of each option.
The Victorian Government will continue to review its asset base as part of its regular
budgetary and strategic processes.
In March 2014, the Victorian Government endorsed in-principle an asset recycling
partnership between the Commonwealth and States.
3.1.2
Information Request 7.2
The Commission seeks further information from participants on the costs and benefits of
land corridor and site preservation strategies. In particular, it seeks evidence on the
effectiveness of current jurisdictional strategies and the merits of a national regime. It also
seeks views on the optimal ways in which corridors and sites can be used prior to
infrastructure developments.
Merits of a National Regime
States are presently responsible for funding the protection of corridors. The high cost of
reservation protection can be a disincentive for State governments to take action to fund
long term corridor protection when there are other activities which yield more immediate
benefits in terms of service delivery. However, the long term benefits from corridor
protection are important to gain, both from a Commonwealth and a State perspective. It is
therefore entirely appropriate for the Commonwealth to be a partner with the states in
protecting transport corridors of national significance.
20
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
Under current arrangements in Victoria the liability for compensation arises once a planning
scheme amendment for a Public Acquisition Overlay is exhibited, at which point there are
various triggers for compensation claims, such as when the land owner wishes to sell or
develop prior to acquisition. Making budget provisions for future compensation and
hardship claims from land owners can be prohibitive where an extensive reservation is
required.
Recognising the need for corridor protection, the Commonwealth Government could assist
with setting the framework and overarching strategy for improving corridor protection, for
example acknowledgement of common protection principles and contribute to corridor
protection costs for nationally significant infrastructure. This could be managed through the
existing Infrastructure Australia project appraisal process with funding drawn from the
Commonwealth Government’s infrastructure investment program as part of a project
investment decision.
Victoria’s approach to corridor and site protection
Under current arrangements in Victoria, land is normally reserved by applying a ‘Public
Acquisition Overlay’ in Council planning schemes, following a Planning Scheme Amendment
process. The Public Acquisition Overlay has two major aspects:


it is the statutory mechanism to enable compulsory acquisition of a property for a public
purpose; and
it is the statutory mechanism to enable control of imminent development that may
potentially be in conflict with the longer term public purpose for which the land is
reserved. Activities which may potentially be in conflict with the public purpose, such as
construction of a new or extended building or land subdivision require the land owner
to seek a planning permit from the “Responsible Authority” which involves referral to
affected infrastructure agencies seeking views on whether, and under which specific
conditions, planning permits should proceed.
Existing uses which occur on land subject to a Public Acquisition Overlay are allowed to
continue for as long as the Acquisition Authority does not compulsorily acquire the land.
Existing land owners whose land is subject to a Public Acquisition Overlay are entitled to
‘loss on sale’ compensation (difference between realised value at sale and full market value
of land) and ‘financial loss’ compensation (where an owner is compensated due to the
refusal to issue a planning permit).
Acquisition Authorities may allow development to occur on land with a Public Acquisition
Overlay subject to conditions, which might include allowing development but with no
compensation for the additional development. Such agreements are possible when the land
is reserved for infrastructure that is not required for some decades and it becomes
commercially viable to undertake a development with a defined maximum life before the
land is acquired. Affected land owners may also request the Acquisition Authority purchases
property on hardship grounds as the result of inability to sell the property due to the
existence of a Public Acquisition Overlay on the property.
Given the expense of providing for compensation and land acquisition costs, there is a
significant opportunity cost in allocating budget funding for a compensation liability that
may or may not arise in the short to medium term. A decision to fund corridor protection for
a specific project should not be made in isolation based solely on strategic network planning
but should also rely on decisions around the likely timeframe of the project proceeding and
the impact on the utility of the land in the interim. Ultimately, any government decision to
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
21
fund a project should be based on the merits (and costs) of the specific project under
consideration.
The Productivity Commission could give consideration to real options and/or opportunity
cost approaches in valuing land corridors and sites. If the infrastructure project requiring the
land has a negative financial NPV or an economic BCR of less than one, then often the value
of the corridor is assessed at nil if reserved for the project compared to alternative uses of
the corridor. Valuing the corridor as an “option” over delivering the project in a particular
way which is foregone if the corridor is sold and comparing this value to alternative use
value might result in better economic decisions.
3.1.3
Draft Recommendation 11.1
Governments should invest more in the initial concept design specifications to help reduce
bid costs, but in doing so, provide opportunities for tenderers to contest the specifications of
the design.
This recommendation is addressed in the National Framework For Traditional Contracting of
Infrastructure (the National Framework), released as an exposure draft, and in particular in
the Technical Specific Guide No 1 – Project Definition (Guide No 1). The National Framework,
which documents best practice to promote productivity improvements in the planning and
contracting phase of major projects, expands on concept design specifications to preparing a
well-developed ‘project definition’ by the procuring agency.
The project definition describes the project’s:

functional and performance requirements;

scope;

risks, constraints and opportunities; and

standards requirements.
The project definition is the foundation to the procuring agency developing a ‘project
solution’ that incorporates a reference design. A well-developed project definition
contributes to a high degree of understanding between the procuring agency and tenderer
regarding what the procuring agency requires and establishes the success for much of the
foundation work essential for good outcomes in the tender and construction phases. A welldeveloped project definition is also critical before a project budget can be established.
Guide No 1 further states that the project definition should clearly identify those elements
that are mandatory, for example design elements that integrate with an existing network
and are part of the procuring agency’s established standards and requirements and should
ensure that where the reference design is released, tenderers perceive the reference design
as one to be improved upon through their innovative efforts rather than perceiving it as a
mandatory requirement. (This documentation can be found at:
http://www.dtf.vic.gov.au/Infrastructure-Delivery/Alliance-and-traditional-contracting)
The Victorian experience with PPP tender outcomes supports the recommendation that
more time/money should be invested upfront to ensure consistency between the PSC and
the reference design scope (to avoid undertaking additional reviews after tender
commencement thereby prolonging the tender phase). However Victoria highlights the
22
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
importance of not confusing additional investment in appropriate project scoping with being
more prescriptive in the context of an output specification for a PPP project. Final designs
for PPP projects are usually radically different from the State’s reference design.
Furthermore, there are various precedents which show that often the private sector’s
capital costs are higher than the State’s estimate, however this higher initial capital
expenditure results in lower ongoing operation, maintenance and facilities management
costs, thereby delivering value for money to the State over the life of the contract. One key
tenet of PPP delivery is the ability to consider the infrastructure from a whole-of-life
perspective and determine value for money and service delivery outcome for the long term,
beyond the initial asset investment and delivery phase.
There are various important qualitative benefits which arise from the State not being overly
prescriptive in the design specifications provided to tenderers, including:

Innovative designs compared to the Reference Project – examples include the Royal
Children’s Hospital, Southern Cross Station and the Melbourne Convention Centre
(internationally awarded);

Future proofing – additional building areas/facilities compared with the scope assumed
by the State, including the provision of additional shell space. Examples are the Royal
Children’s Hospital, the Partnerships Victoria in Schools project, EastLink, the
Biosciences Research Centre and Victorian Comprehensive Cancer Centre projects;

Environmentally sustainable development (ESD) - various ESD initiatives are delivered
that go significantly beyond the State’s minimum requirements, and reduce the
ongoing operating costs for the project (e.g. the Royal Children’s Hospital project);

Improved amenities – complementary retail opportunities and more efficient use of
assets are often provided (such as the Royal Children’s Hospital and the Melbourne
Convention Centre projects); and

Complementary development – additional infrastructure may be provided that
supports other government objectives. This was achieved on the desalination plant
project where a high speed communications cable was laid along the entire length of
the transfer pipeline, facilitating broadband access to the region.
There may be certain types of PPP projects where a more developed concept design could
be appropriate, for example if a jurisdiction is contemplating undertaking a pipeline of less
complex, smaller scale projects (such as social housing) where there is less scope for
innovation or minimising whole of life costs.
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
23
3.1.4
Draft Recommendation 11.2
When tendering for major infrastructure work under design and construct arrangements,
governments should consider contributing to the design costs of tenderers on the condition
that governments own the design, where a thorough prior assessment has demonstrated
that design innovation is both worth seeking and likely to be received
Victoria is not supportive of contributing towards the design costs of tenderers, unless
special circumstances apply, rather it supports ensuring that projects are appropriately
planned and investigated prior to engaging with the market. The National Framework
promotes agencies planning projects comprehensively and producing a design brief which
has a degree of granularity sufficient to describe the Clients’ requirements to service
providers and Tenderers. The depth and maturity of the design brief will depend on the
procurement approach selected, however it should be sufficiently developed to allow the
bidders to develop a tender response and give the procuring agency a contract price with
confidence. Victoria would also support agencies undertaking design work that would be
commonly undertaken by all shortlisted bidders in a D&C to avoid duplication of effort for
design that does not serve to materially differentiate one bidder from another.
3.1.5
Draft Recommendation 11.3
Government clients should alter the timing of information provision in the tendering process
for infrastructure projects so that non design management plans are only required of the
preferred tenderer. The obligation to produce documents upon becoming a preferred
tenderer should remain a condition of the initial request for tender.
The Victorian Government agrees that Health and Safety Management Plans provided in
response to the Implementation Guidelines to the Victorian Code of Practice for the Building
and Construction Industry (Guidelines) will only be required of the preferred tenderer.
Where Workplace Relations Management Plans are a condition of tender for Victorian
Government projects, they must be required prior to contract award, as the government
needs to be satisfied that the tenderer can produce an appropriate risk mitigation strategy.
3.1.6
Draft Recommendation 11.4
The ‘early contractor involvement model’ should be trialled to test the costs and benefits of
applying past contract performance by tenderers as a means of constructor selection,
consistent with the practices of some private sector clients.
It is unclear as to the rationale behind this recommendation and in particular the reason as
to why the ‘early contractor model’ (ECI) was selected to be trialled to test the costs and
benefits of applying past contract performance by tenderers as a means of supplier
selection. Indeed, ECI is not a standard contracting model and there are many variants
across Australia and within any one jurisdiction.
Applying past contract performance by tenderers as a means of supplier selection can be
done under any procurement methodology and this practice has been promoted in the
National Framework. In particular the Technical Specific Guide No 4 – Performance and
Continuous Performance (Guide No 4) outlines implementation guidelines for formally using
24
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
past supplier performance as a tender selection criterion in selecting suppliers for future
projects.
If a procuring agency does not include past performance of suppliers as a selection criterion,
suppliers will not perceive their performance as being important to winning future potential
projects. This may be a lost opportunity for improving performance (and making
productivity gains) on future projects. Guide No 4 also considers that the use of a past
performance criterion in a tender selection framework should not be made to disadvantage
new market entrants and therefore negatively impact on the level and quality of
competition for public projects. (This documentation can be found at:
http://www.dtf.vic.gov.au/Infrastructure-Delivery/Alliance-and-traditional-contracting)
3.1.7
Draft Recommendation 11.5
For complex infrastructure projects, government clients should provide concept designs using
Building Information Modelling (BIM) to help lower bid costs, and require tender designs to
be submitted using BIM to reduce overall costs. Governments should give serious
consideration to where in their better practice guides they may specify the use of BIM.
Victoria supports giving further consideration to specifying the use of BIM by tenderers on
complex building projects from the more detailed design stage through to project end. BIM
may reduce tender costs, construction costs and whole of life maintenance costs. However
Victoria queries the relevance of applying BIM to the concept design phases of project
development.
As noted in its first submission, Victoria is part of the APCC working group on BIM.
3.1.8
Draft Recommendation 11.7
Australian, State and Territory Governments should remove the requirement for local
content plans, such as the Australian Industry Participation plans, from tenders for all
projects.
The Victorian Government does not support removal of local content plans from tenders for
all projects.
The Victorian Industry Participation Policy (VIPP) is an information and awareness policy. It
does not include any price preference for local content and provides a mechanism whereby
international suppliers and local (Australian and New Zealand) suppliers are able to compete
on fair terms. Value for money is a key criterion of VIPP as it is for all of the Victorian
Governments procurement policies.
The Victorian Government introduced reforms to the Victorian Industry Participation Policy
(VIPP) on 1 January 2013 aimed at streamlining processes and reducing the administrative
cost of participation in the program. These reforms significantly lowered the cost of
participation in the program for both business and government agencies and are counted in
the Governments red tape reduction efforts.
Annual reports on the performance of VIPP are tabled in the Victorian Parliament and are
available from www.dsdbi.vic.gov.au/vipp
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
25
3.1.9
Information Request 11.1
The Commission seeks evidence on the skills of public sector clients to manage contracts for
major infrastructure projects. Is there evidence that a relative lack of skills has led to
systematic cost overruns during the delivery phase? How does this compare to the
performance of private sector clients?
As referenced in the original Victorian Government submission, in 2012 the Victorian
Parliamentary Accounts and Estimates Committee conducted an inquiry into the effective
decision making for the successful delivery of significant infrastructure projects. The scope
of this inquiry included the skills and capabilities of the public sector in infrastructure
delivery. A range of international precedents were reviewed. The report and the Victorian
Government’s response can be found at
http://www.parliament.vic.gov.au/paec/inquiries/inquiry/304.
Resourcing the appropriate skills and capabilities is imperative in effective public sector
infrastructure delivery. The Victorian Government’s Investment Lifecycle and High Value
High Risk guidelines highlight a range of competencies and skills required by public sector
managers and teams involved in infrastructure development and delivery.
Effective and representative project governance is essential in ensuring successful project
delivery. The project steering committee or control board provides high level oversight of
implementation and management of the project and ensures that both the project team
and contractors are held accountable for effective delivery of the project. Victoria considers
that governance bodies must include individuals who possess the range of capabilities, skills
and experience to support sound decision making (covering legal, financial, project
management, general management, operational management, construction and subject
matter knowledge).
Effective contract management is an important focus of the Partnerships Victoria policy
framework. This relates to contract management both in the construction phase and the
long term operating phase. Victoria is the only jurisdiction to have specific PPP contract
management guidance. This material is currently under review to incorporate some recent
learnings from live projects.
In relation to contract management in the operating phase Victoria has placed a priority on
ensuring contract managers have the appropriate skills to manage the contracts. The
Department of Treasury and Finance is responsible for ensuring training is available for new
contract managers. This training is currently run by the University of Melbourne and is
regularly attended by local contract managers and those from other states.
In Victoria procuring agencies have dual accountability for developing and delivering
infrastructure projects. Central agencies are responsible for developing and communicating
guidelines and procurement models, reviewing and providing advice on business cases and
monitoring delivery, capability and trends.
In Victoria, agencies which have significant project delivery roles, such as the Department of
Justice and the Department of Health have established project management offices (PMOs).
These offices provide detailed guidance and enhanced oversight of infrastructure delivery to
help ensure the appropriate skills and competencies are applied to project delivery. Other
departments such as the Department of Education and Early Childhood Development and
the Department of Transport Planning and Local Infrastructure have established governance
arrangements to help prioritise investment needs across their portfolio and/or their relevant
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Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
delivery agencies, and oversee and monitor the performance of agencies delivering
projects.
Where appropriate, procuring agencies may be supported by Major Projects Victoria (MPV),
established over two decades ago, with the specific objective of working with procuring
agencies (where required) on the delivery of complex, large scale and unique projects of
State significance. MPV is a division within the Department of State Development, Business
and Innovation, and reports to the Minister for Major Projects. The key competencies
provided by MPV to agencies comprise:

Project Management advice and guidance;

Property Development - driving land and property developments which deliver positive
social and economic outcomes for Victorians;

PPP experience - assisting agencies with the management of complex PPP projects
under the Partnerships Victoria framework; and

Compliance and Corporate Services - providing business support, including strategic,
financial, communications and compliance advice.
MPV have supported agencies in successfully delivering such projects as the State Library of
Victoria, Southern Cross Station, Federation Square and the Melbourne Convention Centre.
The Linking Melbourne Authority (LMA) is a special purpose statutory authority, established
by the Victorian Government and responsible for managing complex road projects on behalf
of the Government and the wider community. LMA was established on 1 July 2010 under
Section 134 of the Transport Integration Act 2010 (the Act) and is the successor in law to the
South Eastern Integrated Transport Authority (SEITA). LMA operates under the new regime
introduced by the Act which brings together the transport portfolio under one principal Act
and seeks to promote the provision of an integrated and sustainable transport system in
Victoria. LMA (as SEITA) was responsible for delivering the $2.5 billion EastLink project. The
Authority also delivered the $759 million Peninsula Link project, which opened to motorists
in January 2013. LMA is currently undertaking the formal planning and consultation for the
first stage of the East West Link between the Eastern Freeway and CityLink, and a further
connection to the Port of Melbourne area.
3.1.10 Information Request 11.3
The Commission seeks evidence on the appropriateness and effectiveness of the application
of incentive payments within infrastructure contracts.
During 2009 Victoria led research into the value for money outcomes achieved in past
alliancing contracts and how enhancements can be made in future alliances. The resultant
report, ‘In Pursuit of additional value: a benchmarking study into alliancing in the Australian
Public Sector’, was published in October 2009. One of the findings of the benchmarking
study was that there was little evidence that outstanding (game breaking or breakthrough)
outcomes were actually being achieved within the definitions in use in the study (‘paradigm
shift'/ ‘not been done before’) despite significant investment in ‘high performance teams’
and the use of financial incentives for Non Owner Participants to achieve extraordinary
outcomes.
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
27
Consequently both the National Alliance Contracting Policy and Guidelines and the National
Framework suggest that generally the contract should not include financial incentives for
the supplier to deliver a better service or to a higher standard than specified in the contract.
Rather, if a procuring agency wants a specific outcome or heightened level of performance,
then these requirements should be defined in the contract and priced accordingly by the
market.
The National Framework argues that governments are often the dominant (repeat), blue
chip, high value strategic procuring agency for infrastructure suppliers. Accordingly, the
government procuring agency should expect the supplier to want to perform to the contract
in an exemplary manner without any need for positive incentives. The performance required
should be clearly specified by the procuring agency and included in the supplier’s proposal.
It is expected that a supplier will work smart and as necessary to achieve the requirements
of each project, will be paid fully as per the contract and build on its track record and
reputation to improve its attractiveness as a future supplier. Financial incentives should only
be appropriate for rare and exceptional cases when the procuring agency cannot specify the
requirement as a normal deliverable because it is so extraordinary and therefore cannot
meaningfully be priced in the tender. (This documentation can be found at:
http://www.dtf.vic.gov.au/Infrastructure-Delivery/Alliance-and-traditional-contracting)
3.1.11 Draft Recommendation 11.9
Government clients should invest more in understanding the site risks for infrastructure
projects and update the information provided to tenderers during the request for tender
stage in consultation with potential contractors. In order to achieve this, government clients
should not rush to market.
Victoria fully supports this recommendation which is currently addressed in the National
Framework. The National Framework clearly states that good project planning and
appropriate investigation of risks is essential for good outcomes (including price) in the
Tender and Construction Phases. This supports the establishment of a positive collaborative
relationship with the Suppliers.
Victoria supports bidders during the tender phase being able to freely request procuring
agencies to undertake additional investigatory work and to robustly question the client’s
tender requirements. This is supported by industry research undertaken by Victoria and
reported in Towards agreed expectations: Tender strategies to improve D&C infrastructure
outcomes.
The National Framework does reinforce that good project planning and appropriate
investigation of risks will be compromised when timelines are truncated. Shortened
timelines will normally lead to immature project definition and typically see significant scope
changes and other surprises during the tender process and/or post-contract award. Whilst it
is recognised that from time to time procurement processes may be required to ‘start as
early as possible’ to meet an urgent community service need, the client needs to fully
dimension the risks and cost premiums associated with such strategies. Moreover, the
procuring agency should inform the decision makers about the cost premiums and
potentially negative value for money impact arising from planning processes being
truncated.
(This documentation can be found at: http://www.dtf.vic.gov.au/InfrastructureDelivery/Alliance-and-traditional-contracting)
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Productivity Commission Public Infrastructure Inquiry
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Attachment A – Treasury Corporation of Victoria
PPP Modelling scenarios
Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014
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www.dtf.vic.gov.au
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Productivity Commission Public Infrastructure Inquiry
Victorian Government Supplementary Submission, April 2014