CASE STUDIES ON BUILD OPERATE TRANSFER CASE STUDIES ON BUILD OPERATE TRANSFER Prof. Drs. Ir. Sebastiaan C.M. Menheere Prof. Spiro N. Pollalis, Dipl. Eng., SM., MBA, Ph.D. Edited by: Rick Huijbregts Contributing authors: Arjan Bol Rick Huijbregts Marjan Klein Sebastiaan Menheere Priti Paul Spiro N. Pollalis Lotte Verhoeven Copy-editor: Penelope Hill Afshan Bokhari Delft University of Technology Faculty of Architecture Project Management and Real Estate Development P.O. Box 5043 2600 GA Delft The Netherlands Tel. +31-(0)-15-278-4159 Fax. +31-(0)-15-278-3171 E-mail: bmvb@bk.tudelft.nl Copyright © 1996 Sebastiaan C.M. Menheere and Spiro N. Pollalis. pollalis@gsd.harvard.edu http://www.gsd.harvard.edu/~pollalis Project Management and Real Estate Development Delft University of Technology All rights reserved. Reproduction or translation of any part of this work without permission of the copyright owner is unlawful. Requests for permission or further information should be addressed to Delft University of Technology, Faculty of Architecture, Project Management and Real Estate Development, P.O. Box 5043, 2600 GA Delft, the Netherlands. The case studies are prepared as a basis for class discussion and illustrative rendering rather than to illustrate either effective or ineffective handling of an administrative situation, a design process or a design itself. Menheere, Sebastiaan C.M., and, Spiro N., Pollalis Case Studies on Build Operate Transfer/ Rick Huijbregts 211 p. 23 cm. ISBN 90-9010335-X 1. Build Operate Transfer 2. Case Studies 3. International Project Management. Printed in the Netherlands. Printing office Rooij & Van der Velde Edison 35 3241 LS Middelharnis Tel: +31-(0)-18-748-2207 Fax: +31-(0)-18-748-6206 CONTENTS v TABLE OF CONTENTS CONTENTS LIST OF FIGURES LIST OF TABLES PREFACE v xi xiii xv PART I FRAMEWORK 0 THE BUILD OPERATE TRANSFER APPROACH 0.1 INTRODUCTION 0.2 BACKGROUND 0.3 DEFINITION 0.4 MAJOR PARTICIPANTS IN BOT PROJECTS 5 5 6 8 9 Concession contract Financial agreements Construction contract Operation contract 12 14 14 14 0.5 STAGES OF BOT PROJECTS 14 Preliminary study Selection process Project implementation Construction Operation Transfer 0.6 0.7 0.8 0.9 FINANCING DESIGN AND CONSTRUCTION ENVIRONMENTAL FACTORS AFFECTING BOT WHEN IS BOT APPROPRIATE? 15 16 16 16 16 16 18 21 21 22 PART II CASE STUDIES: JAILS 1 PLYMOUTH COUNTY CORRECTIONAL FACILITY 1.1 INTRODUCTION 27 28 vi CONTENTS 1.2 BACKGROUND Plymouth County Jail and Correction House United States Marshals Service 1.3 PROGRAM 1.4 ORGANIZATION 1.5 FINANCING Certificates of Participation Assignment Agreement and Trust Agreement 1.6 CONTRACTUAL RELATIONSHIPS Lease contracts Intergovernmental Agreement Memorandum of Agreement Design-Build contract Technical representative Memorandum of Understanding 1.7 DESIGN AND CONSTRUCTION 29 30 30 32 33 34 36 37 37 37 38 38 38 40 40 40 Design Construction 41 43 1.8 OPERATIONS 46 2 DONALD W.WYATT DETENTION FACILITY 2.1 INTRODUCTION 2.2 BACKGROUND Detention Center Associates New plans 2.3 PROGRAM 2.4 ORGANIZATION Cornell Cox and Brown & Root join the team Special legislation City approval 2.5 FINANCING Financing problems The Port Authority steps in Loan and Trust agreement 49 50 51 52 53 54 54 55 57 57 57 58 58 59 2.6 CONTRACTUAL RELATIONSHIPS 60 Intergovernmental Agreement The Arthur Andersen report Design-Build contract Operator’s Agreement Consulting Agreement 61 61 62 63 63 2.7 DESIGN AND CONSTRUCTION Design 2.8 OPERATIONS 64 65 65 CONTENTS vii PART III CASE STUDIES: ROADS 3 STATE ROUTE 91 EXPRESS LANES 3.1 INTRODUCTION 3.2 BACKGROUND Assembly Bill 680 Selection process State Route 91 concession Previous plans Orange County attempts to attract AB 680 projects Riverside opposition Negotiations with Riverside County 3.3 PROGRAM 3.4 ORGANIZATION Cofiroute joins the team CRSS leaves the project 3.5 CONTRACTUAL RELATIONSHIPS Concession Agreement Memorandum of Agreement: “The Peace Treaty” Repayment and Cooperation Agreement Other agreements 3.6 FINANCING Financial closing 3.7 DESIGN AND CONSTRUCTION The August 1990 proposal 3.8 OPERATIONS 4 DULLES GREENWAY 4.1 INTRODUCTION 4.2 BACKGROUND Commission on Transportation for the 21st century Virginia Highway Corporation Act Permits and approvals Commonwealth Transportation Board State Corporation Commission Amendments Environmental issues Day Permit Extension 4.3 PROGRAM 4.4 FINANCING Barclays joins the team Financial closing Final financial structure 69 70 70 71 71 72 73 74 74 75 76 76 76 78 78 78 79 80 82 82 83 84 85 85 87 88 89 89 90 90 91 92 93 94 94 95 96 97 97 98 viii CONTENTS 4.5 ORGANIZATION Project restart Kiewit leaves the project New contractor 4.6 DESIGN AND CONSTRUCTION 101 101 102 104 105 Construction 105 4.7 OPERATIONS 106 5 GUANGZHOU-SHENZHEN-ZHUHAI, SUPER HIGHWAY 5.1 INTRODUCTION 5.2 BACKGROUND The Super Highway The route Interchanges 5.3 5.4 5.5 5.6 5.7 PROGRAM CONTRACTUAL RELATIONSHIPS FINANCING DESIGN AND CONSTRUCTION OPERATIONS 109 110 111 111 112 113 114 115 116 118 119 PART IV CASE STUDIES:TUNNELS AND BRIDGES 6 WIJKER TUNNEL 6.1 INTRODUCTION 6.2 BACKGROUND Private financing uncertainties Green light for the Wijker tunnel Selection criteria Negotiations concession agreement Response of the National Audit Office Political collision Remaining tunnels 6.3 PROGRAM 6.4 ORGANIZATION 123 124 125 125 126 127 128 129 131 131 131 132 The contractors consortium 133 6.5 CONTRACTUAL RELATIONSHIPS 133 Concession agreement Construction contract 6.6 FINANCING 6.7 DESIGN AND CONSTRUCTION Construction Tunnel elements Sink-procedure 133 135 136 138 139 139 140 CONTENTS 6.8 OPERATIONS Diverting charge bands Management and maintenance Fiscal aspects 7 NORTHUMBERLAND STRAIT CROSSING BRIDGE 7.1 INTRODUCTION 7.2 BACKGROUND Request for Proposal Selection process First selection round Local opposition Project on hold Environmental Assessment and Review Process Environmental and other issues The proposal rejected Green light The final selection process Environmental and other challenges Conclusion 7.3 PROGRAM 7.4 ORGANIZATION Dutch gain membership Engineering design Other memberships 7.5 CONTRACTUAL RELATIONSHIPS Concessionaire and contractor - federal government agreements Concessionaire - federal / local government agreements Subsidy agreement Concession agreement 7.6 FINANCING Subsidy Agreement and issue of bonds Security package Corporate guarantees and risks 7.7 DESIGN AND CONSTRUCTION Design Construction 7.8 OPERATIONS ix 141 141 141 142 143 144 144 145 145 146 146 147 147 147 148 148 149 149 150 150 151 151 151 153 153 153 154 154 154 156 156 158 158 159 159 160 163 PART V CASE STUDIES: POWER PLANTS 8 DABHOL POWER COMPANY 8.1 INTRODUCTION 167 168 x CONTENTS 8.2 BACKGROUND India: Privatizing the State and opening the trade door Power: The industry shortfalls 8.3 PROGRAM 8.4 ORGANIZATION 8.5 CONTRACTUAL RELATIONSHIPS 8.6 8.7 8.8 8.9 170 171 173 174 175 176 Purchase Power Agreement Guarantees and penalties 176 178 FINANCING CONSTRUCTION OPERATIONS UNEXPECTED CHANGES 179 180 181 181 Project canceled Fallout Renegotiations Leading changes REFERENCES LIST OF ABBREVIATIONS 182 184 185 186 189 193 LIST OF FIGURES xi LIST OF FIGURES THE BUILD OPERATE TRANSFER APPROACH Fig. 0.1: BOT and other project delivery organizational forms. Fig. 0.2: Public and private involvement. Fig. 0.3: Alternative project delivery schemes. Fig. 0.4: Typical BOT organizational structure. Fig. 0.5: Parties and their goals. Fig. 0.6: Balancing costs and revenues to optimize unit price and profits (revenues minus costs). Arrows indicate the preferred directions towards an optimal condition. Fig. 0.7: Contracts and relationships. Fig. 0.8: Stages of a BOT project. Fig. 0.9: Stages with Selection Process BOT projects. Fig. 0.10: Transfer of a BOT facility. Fig. 0.11: Cashflow over the concession period. Fig. 0.12: Financial BOT structure. Fig. 0.13: Payments and revenues for each stage in a BOT project (duration of stages not in scale). 6 7 9 10 11 12 13 15 15 17 18 19 20 PLYMOUTH COUNTY CORRECTIONAL FACILITY Fig. 1.1: Plymouth County, Massachusetts. 28 Fig. 1.2: Artist impression Plymouth County Correctional Facility. 32 Fig. 1.3: Organization development scheme. 34 Fig. 1.4: Financing structure. 36 Fig. 1.5: Contractual relationship. 39 Fig. 1.6: Construction site Plymouth County Correctional Facility. 41 Fig. 1.7: First and second floor plan. 42 Fig. 1.8: Third and fourth floor plan. 43 Fig. 1.9: Construction with prefabricated units. 44 DONALD W.WYATT DETENTION FACILITY Fig. 2.1: Central Falls in Rhode Island. Fig. 2.2: Artist impression of the Donald W. Wyatt facility. Fig. 2.3: Organization development scheme. Fig. 2.4: Financing structure. Fig. 2.5: Contractual relationship. Fig. 2.6: The Donald W. Wyatt Detention Facility. Fig. 2.7: Second floor plan. 50 55 56 60 62 64 65 xii LIST OF FIGURES STATE ROUTE 91 EXPRESS LANES Fig. 3.1: Traffic in California. Fig. 3.2: Location map. Fig. 3.3: Traffic flow trends. Fig. 3.4: Organization development scheme. Fig. 3.5: Contractual relationship. Fig. 3.6: Financing structure. Fig. 3.7: Different lanes proposed by CPTC. 70 72 73 77 81 84 85 DULLES GREENWAY Fig. 4.1: Loudoun County, Virginia. Fig. 4.2: The extension of the Dulles Toll Road. Fig. 4.3: Financing structure. Fig. 4.4: Organization development scheme. Fig. 4.5: Contractual relationship. Fig. 4.6: Construction site. Fig. 4.7: Dulles Greenway toll-house. 88 95 100 103 104 105 106 GUANGZHOU-SHENZHEN-ZHUHAI, SUPER HIGHWAY Fig. 5.1: Guangzhou-Shenzhen-Zhuhai, south-east China. Fig. 5.2: Super Highway. Fig. 5.3: Commercial interchange. Fig. 5.4: Model Super Highway interchange. Fig. 5.5: Contractual relationship. Fig. 5.6: Organization development scheme. Fig. 5.7: Project expenditure. Fig. 5.8: Financing structure. Fig. 5.9: Toll-house GSZ Super Highway. 110 112 113 114 115 116 117 118 120 WIJKER TUNNEL Fig. 6.1: Location Wijker tunnel. Fig. 6.2: Organization development scheme. Fig. 6.3: Contractual relationship. Fig. 6.4: Financing structure. Fig. 6.5: Tunnel elements. Fig. 6.6: Wijker tunnel. 124 132 135 137 139 141 NORTHUMBERLAND STRAIT CROSSING BRIDGE Fig. 7.1: Location map. Fig. 7.2: Bordon, PEI and Cape Tormentine, New Brunswick. Fig. 7.3: Organization development scheme. Fig. 7.4: Contractual relationship. Fig. 7.5: Financing structure. Fig. 7.6: Design of the Northumberland Strait Bridge. 144 150 152 155 157 159 LIST OF TABLES Fig. Fig. Fig. Fig. 7.7: 7.8: 7.9: 7.10: Prince Edward Island staging facility. Svanen; the heavy-lift floating crane. Bridge piers. Real cost to the user ferry versus bridge 1997-2032 four passengers return (1992 constant dollar). DABHOL POWER COMPANY Fig. 8.1: Location map. Fig. 8.2: Dabhol, Maharashtra State. Fig. 8.3: Organization development scheme. Fig. 8.4: Contractual relationship. Fig. 8.5: Financing structure. Fig. 8.6: Construction site. xiii 160 161 162 163 168 169 175 177 180 181 LIST OF TABLES PLYMOUTH COUNTY CORRECTIONAL FACILITY Table 1.1: Population and capacity of state prisons in Massachusetts and of Plymouth County Jail. Table 1.2: Sources and uses of funds. Table 1.3: Pods and units. Table 1.4: Projected operating budget for Fiscal Year 1995. 29 35 42 45 DONALD W.WYATT DETENTION FACILITY Table 2.1: Sources and uses of funds. Table 2.2: Pods and units. 58 64 STATE ROUTE 91 EXPRESS LANES Table 3.1: CPTC Reimbursement Amount. Table 3.2: SR 91 Express Lanes funding. 80 83 DULLES GREENWAY Table 4.1: Project capitalization. 99 GUANGZHOU-SHENZEN-ZHUHAI, SUPER HIGHWAY Table 5.1: Construction statistics. Table 5.2: Major structural items. Table 5.3: Primary materials and quantities. 118 119 119 WIJKERTUNNEL Table 6.1: Daily passing vehicles per alternative through the Wijker- and Velser tunnel. 128 xiv LIST OF TABLES Table Table Table Table 6.2: 6.3: 6.4: 6.5: Cost-division. Debt to equity division Wijker tunnel-project. Construction numbers. Charge bands without a second Coen tunnel. DABHOL POWER COMPANY Table 8.1: Electricity, capacity and investment shortfall. Table 8.2: Chronology of economic reforms. Table 8.3: Penalties for DPC and its contractor. Table 8.4: Major issues. 136 137 140 142 170 172 178 183 PREFACE xv PREFACE This book is the result of research on the project delivery scheme of Build Operate Transfer (BOT). Since 1994, research was conducted simultaneously at the Harvard Design School and the Bouwkunde, Technical University of Delft, resulting in a series of case studies developed on several BOT projects in various parts of the world. The case studies identify the different aspects of the BOT project delivery scheme and draw insights from the organizational structures employed and the risks assumed by the participants of the studied BOT projects. Eight of these case studies are included in this book. Why study BOT? The motivation for the research and preparation of this manuscript stemmed from identifying an immediate opportunity for design and building professionals to actively participate in and be instrumental in developing BOT projects. This underlying premise established the following five objectives within the undertaken research: • to study the BOT project delivery scheme and identify the major participants and their roles, responsibilities and assumed risks, as well as their technical and professional expertise. • to establish a framework in which BOT projects are initiated and developed, and use this to identify the general characteristics of BOT projects. • to compare the design and construction processes of BOT projects with traditional projects of a similar size, and examine the changing roles, if any, of designers, project managers and builders. • to identify the influence of economic cycles in the development of BOT projects, and investigate how these might affect the availability of public and private funds. • to identify the benefits and risks of developing BOT projects overseas, investigating the role of the local government in setting legal and financial frameworks, and the influence of local culture, expertise and capital. The case studies established the backbone to gain insights within a theoretical framework. The two main criteria for selecting the eight cases for this book were firstly, a variety of project types and geographic locations, xvi PREFACE and secondly, the level of risks assumed by the private sector. In general, an effort was made to select cases where the government or other public organizations did not offer lucrative lease-back options or protective nets with financial guarantees. Undoubtedly, the case studies are conditioned and shaped by the points of view of the designers and building professionals, though, business related issues centered on management, finance and law are fundamental to BOT and they are given proper consideration. Although the eight cases are not statistically significant for deriving general conclusions, they set the stage for how BOT projects work and, as a result, allow the reader to formulate hypotheses to be tested using additional data. This book therefore can be used as the basis for further research and as a handbook for those professionals interested in developing BOT projects. It also provides original material for teaching the BOT project delivery scheme. Contents of the Book Part I contains a proposed theoretical framework of BOT projects. It introduces a short historical background, the BOT project delivery scheme and its general characteristics. This is followed by the presentation of the major participants of a typical BOT project together with the main contractual relationships based on the case studies. The six distinct stages of a typical BOT project are presented ranging from preliminary studies to the eventual transfer of the facility. This section also includes the financing scheme and particularities of the design and construction for a BOT project with concluding remarks on the circumstances that make a BOT project delivery scheme a preferred choice. The remaining chapters contain eight case studies covering a variety of BOT projects. Part II includes two case studies of jails, Part III includes three case studies of highways, Part IV covers the case studies of a tunnel and a bridge, and Part V includes a case study of a power plant. The projects are located in Canada, China, India, the Netherlands and the United States. Each study provides detailed references to the original sources from both published materials and personal interviews. A standard format to structure the presentation of the case studies is used to facilitate comparisons. The contractual relationships and the stages in each project are presented with standard graphics to allow the reader to review the similarities and differences of the cases. However, such standardizations are not always feasible due to significant differences in the studied projects. Bas Menheere Professor of Project Management Architecture, Delft University of Technology Spiro N. Pollalis Professor of Design Technology and Management Harvard Design School PART I FRAMEWORK THE BUILD OPERATE TRANSFER APPROACH 5 0 THE BUILD OPERATE TRANSFER APPROACH 0.1 INTRODUCTION In recent years, a growing trend emerged among governments in many countries to solicit investments for public projects from the private sector. The main reasons for this trend are a shortage of public funds and a handsoff approach of government agencies. The Build Operate Transfer approach (BOT) is an option for the government to outsource public projects to the private sector. With BOT, the private sector designs, finances, constructs and operates the facility and eventually, after a specified concession period, the ownership is transferred to the government. Therefore, BOT can be seen as a developing technique for infrastructure projects by using private initiative and funding. Such infrastructure projects include a wide array of public facilities with the primary function to serve public needs, to provide social services and promote economic activity in the private sector. The most common examples are roads, bridges, water and sewer systems, airports, ports and public buildings (Vaughan and Pollard, 1984). In addition to government, the private sector may initiate BOT projects when there are limited funds available and there are no enough resources to execute successfully a required building project. Examples can be seen in non-profit hospitals and educational institutions as well as manufacturing facilities. However, none of those cases are included in this book, which focuses on government related projects. Several project delivery schemes have developed in recent years (Diaz, 1994). The traditional design-bid-award was enhanced by the introduction of the project manager as a consultant to the owner, where project manager advises the owner in formulating a building strategy and supervises the construction on the owner’s behalf. As a consulting service, the project manager works in parallel with the architect for a flat rate fee, with no fiduciary or construction risk. Design-build is a one-stop shop for design and construction. Architects and contractors work under one contract, where total responsibility for all stages of the project is placed with both parties. Design-build projects are often of limited sophistication, but hold considerable promise for the future as a partnership process of project delivery. Bridging allows the separation of schematic design from design development, with the latter grouped together with the general contractor. Such a project delivery scheme allows 6 THE BUILD OPERATE TRANSFER APPROACH for more sophistication and for transfer of design across geographical and economic boundaries. With turn key contracts, the owner buys a package of site, design and finished building, while the developer secures financing, manages the project flow and coordinates the architect and the contractor. Such contracts are usually limited in complexity1. BOT is closer to total product delivery where in addition to financing and development, the supplier is also responsible for the operation of the facility. Fig. 0.1 presents visually the grouping of responsibilities of the alternative project delivery schemes. Fig. 0.1: BOT and other project delivery organizational forms (after A. Bol and R. Geraedts). 0.2 BACKGROUND2 The first official private facility development under the name “Build Operate Transfer” was used in Turkey in 1984, by Prime Minister Ozal, as part of an enormous privatization program to develop new infrastructure (Beuker, 1988). However, the BOT approach was used as early as 1834 with the development of the Suez Canal. This revenue-producing canal, financed by European capital with Egyptian financial support, had a concession to design, construct, and operate assigned to the Egyptian ruler Pasha Muhammad Ali (Levy, 1996). In the second half of the nineteenth century, railways and roads were developed with the help of private financing in the western world (Mobsby, 1992) and although the privately operated public facilities became financial successes, they were not devoid of shortcomings. The infrastructure projects had to be accessible to everybody but optimizing the economic rate of return conflicted with public interest. By the mid-twentieth century, the privatization of public facilities had experienced a downturn as the development of infrastructure projects by private funds gained popularity throughout the world, particularly in the United States. The increase in road traffic resulted in an urgent need for THE BUILD OPERATE TRANSFER APPROACH 7 developing highway facilities and this prompted the government to increasingly use more private funds. In Europe, however, infrastructure projects remained under governmental jurisdiction as they were considered public requirements the state had to provide. Since the 1980s, the attitude of European countries has changed to include more privatization in their infrastructure development, especially in France and Britain where privatization was extensive, in order to fulfill public needs. At the same time, Asia was experiencing an economic boom that opened the doors for new forms of project delivery, based on the principle of privatization. Ernst and Pham (1994) refer to privatization as a process in which the delivery of goods and services, usually administered by the government, is shifted to the private sector. Privatization can be divided into primarily three areas: the selling of governmental holdings (i.e., British Airways and British Telecom), the subcontracting of government services to private undertakers (i.e., US Postal Service, park maintenance), and the subcontracting of financing and developing public facilities (i.e., Channel Tunnel). BOT belongs to the last category. Fig. 0.2: Public and private involvement (after M. Klein). Under a public-private partnership approach, a cooperation between government and private parties is achieved where the government works “together” with the private sector to provide for public requirements. However, the differences between privatization and public private partnerships are difficult to detect, depending on the level of government participation (Fig. 0.2). Complete privatization has no government participation. The Build Operate Transfer approach can be viewed as a welldeveloped public-private partnership, since government participation is a l w a y s expected in projects of such public scale. This is exemplified in several of the 8 THE BUILD OPERATE TRANSFER APPROACH case studies in this book. 0.3 DEFINITION Build Operate Transfer is a major startup business venture where private organizations undertake development and operation of a facility normally done by the government. The termination of the private sector involvement occurs at the return of the ownership of the facility to the government after a fixed concession period, usually 25 to 40 years (Tiong, 1990). Among the various definitions of BOT, the following definition is adopted in this book that constitutes the premise for conducting this research. In the BOT approach, a private party or concessionaire retains a concession for a fixed period from a public party, called principal (client), for the development and operation of a public facility.The development consists of the financing, design and construction of the facility, managing and maintaining the facility adequately, and making it sufficiently profitable. The concessionaire secures return of investment by operating the facility and, during the concession period, the concessionaire acts as owner. At the end of the concession period, the concessionaire transfers the ownership of the facility free of liens to the principal at no cost3. A key characteristic of BOT is private financing. In BOT, the government subcontracts the entire development process, including the associated risks, to the private entity. One of these risks is financing, which must be obtained by the concessionaire, who is ultimately responsible for all aspects of the project. A prerequisite for private financing is a need for the facility to be developed; for example, a highway extension due to increasing traffic jams, more bed space in detention and correctional facilities due to an increase in crime and the number of incarcerated individuals, a tunnel or bridge to solve traffic problems and facilitate accessibility, or a sewage system or power generation to support the growth in population and industry. If there is no obvious requirement for the facility, private parties will refuse to participate and provide financial support. Only after market analysis justifies a need will private parties be willing to financially participate as well as become involved in developing the facility. BOT is just one of the many different project delivery schemes within the context of privatization or public-private-partnerships. The two other schemes that appear most similar to BOT are Build Own Operate (BOO) and Build Transfer Operate (BTO). In all three cases, the private party retains revenues from operating the facility. In BTO, the private party transfers the ownership of the facility directly after the delivery and operates the facility on behalf of the principal. In BOO, the private party retains ownership of the facility, makes returns on investment by operating it for its useful life, and may sell it at any point at market value. Besides the three most common approaches, BOT, BOO and BTO, other variations can also occur (Fig. 0.3). All differ from each other in the way the level of risk is divided between the private and public parties. Each form is THE BUILD OPERATE TRANSFER APPROACH 9 a kind of a public-private-partnership but all are unique in allocating risks to the individual parties. Fig. 0.3: Alternative project delivery schemes, illustrating the risks for the concessionaire (after ENR, 1995). 0.4 MAJOR PARTICIPANTS IN BOT PROJECTS Five major participants are identified in every BOT project and Fig. 0.4 shows the typical structure. Very simply, the principal grants the concession to the concessionaire. The concessionaire, usually a consortium of companies, undertakes the financing and development of the project. 10 THE BUILD OPERATE TRANSFER APPROACH Financing is obtained from sponsors and lenders. The contractor builds the facility and the operator runs the facility. Fig. 0.4: Typical BOT organizational structure (after Walker and Smith, as modified by R. Huijbregts). Principal In a BOT project, the principal is usually a government agency, a local or federal government body that recognizes the need for a public facility but is unable to financially support the project. The government agency is thus forced to look for alternative options. Concessionaire After the identification of the need for the facility, the government, following a due process, will grant a concession to the concessionaire. The THE BUILD OPERATE TRANSFER APPROACH 11 concessionaire is usually a consortium and takes the responsibility of developing (designing, financing and constructing), maintaining and operating the facility, on behalf of the principal. The concessionaire is the owner of the facility during the concession period and realizes profits on the initial investment through the usage of the facility. Investors Financing is supplied by the private sector and the investors include both shareholders and lenders. The shareholders invest money in exchange for equity, and lenders support the concessionaire during negotiations with the principal with promises for loans to be available during the development of the project. Lenders may include banks, insurance companies and bond holders. Contractor The concessionaire commissions a contractor with the construction of the facility. In most cases, the contractor is part of the concessionaire’s consortium and involvement is favored by all concerned parties. During the early stages of the process the contractor’s involvement assures the consortium of the most effective and efficient design and execution of the project. Ultimately, the contractor is responsible for the construction of the project and for hiring subcontractors, suppliers and consultants. Operator The operator is also in the concessionaire’s service and manages the operational stage of the facility. Similar to the contractor, the operator is usually part of the concessionaire’s consortium, because of the critical role in the revenue stream. In addition, the importance of operating knowledge for programming, financing, design and construction is required. Often the operator is supported by a government agency or in some cases, is the agency. In the Wijker tunnel case, the facility is entirely operated by the government maintenance department for bridges, dikes and roads, and in the Plymouth prison project the county Sheriff was part of the con- 12 THE BUILD OPERATE TRANSFER APPROACH cessionaire and operated the facility upon completion. Fig. 0.5: Parties and their goals. Many contracts and agreements are signed for a successful BOT project to bridge the differences in incentives and goals among the participants. This process can be very time consuming as some parties may try to cast off risks and responsibilities to another. A balance has to be found between cost and quality, by selecting the proper financial scheme, design, construction methods, materials, maintenance costs, and operation costs in order to result in low usage fees and high profits. A major task, therefore, is to guide the incentives and goals of the individual parties in favor of the project. Fig. 0.5 shows the principal goals of the major participants in a BOT project and Fig. 0.6 shows graphically the optimization levels to be pursued to make the project a financial success. Fig. 0.6: Balancing costs and revenues to optimize unit price and profits (revenues minus costs). Arrows indicate the preferred directions towards an optimal condition. There may be up to 300 different contracts among all the involved parties. The main contracts, shown in Fig. 0.7, are presented in the following paragraphs. Concession contract The concession contract is signed between the principal and the concessionaire. This contract runs from the initial design stage through the final transfer, and includes the allocation of risks. The main issues addressed within the concession contract are: THE BUILD OPERATE TRANSFER APPROACH • 13 • • • • The length of the concession period; the starting date and the transfer date. The structure of the project company (concessionaire). The financial scheme. The financial guarantees (principal and concessionaire). The material guarantees (if the concessionaire is not able to deliver the facility, the principal has the right to “step in” and take over). The financial ceiling of development costs. The financial ceiling of usage costs. The construction process. The completion time of the construction. • The method of operating the project. • • • • Fig. 0.7: Contracts and relationships. 14 THE BUILD OPERATE TRANSFER APPROACH Financial agreements The financial agreements are private between the concessionaire and the equity partners (sponsors) and the lenders (i.e., banks, financial institutions). The shareholder’s agreement contains the ratio of debt to equity and a detailed plan for the distribution of the expected revenues during operation. The lender’s agreement, between the debt providers and the concessionaire, specifies the various guarantees and the agreed return-on-investment. The most significant guarantee is provided by the government to step-in in case of lower than expected revenue levels. One of the extreme guarantees for a lender is the right to take over the facility in case the concessionaire is unable to meet financial obligations. Construction contract The contract between the concessionaire and the contractor is usually a fixed price contract or a design-build contract. The concessionaire wants to delegate risks and, because of the concessionaire’s responsibilities towards the principal, the lenders, and the final users of the facility, high fines are written into the contract for late delivery. Operation contract The operation contract is signed between concessionaire and operator. The rates for usage of the facility are included in the contract, as agreed by the principal and concessionaire. A major aspect for the operation agreement is the prognosis of the use of the facility. All contracts are strictly related to each other and eventually shape the design, construction and operation of the facility and describe responsibilities and risks. It is, therefore, crucial to obtain transparent contracting where all risk and responsibility-bearing parties’ obligations are clearly defined. An open information structure and well defined contract management with agreed risk division will limit misunderstandings. 0.5 STAGES OF BOT PROJECTS The length of the concession period is determined in the concession agreement between concessionaire and principal. Within the concession period, the concessionaire must be able to recover investments for all funding parties. Six stages are identified during the concession period (Fig. 0.8). After the preliminary study, usually conducted by the government, a consortium is chosen following a specific selection procedure. After the selection, the concessionaire starts the implementation of the project by forming the team, executing studies, obtaining permits, and proceeding with design THE BUILD OPERATE TRANSFER APPROACH 15 development. Once the design is approved, construction begins. Upon completion of construction, the facility opens for use and the repayment of the facility is covered by the incoming revenues. After a predetermined concession period, the facility transfers to the principal and then state agencies will own and operate the facility. Fig. 0.8: Stages of a BOT project. Preliminary study The preliminary study usually takes place prior to the involvement of the concessionaire. This stage is executed by, or on behalf of, the principal (Fig. 0.9). Feasibility studies are necessary to prove the forecasted success of the project, in order to attract private funding. Alternatively, a private party may identify a need and initiate the BOT project and in such a case, the preliminary study is conducted by the private entity with limited government involvement. 16 THE BUILD OPERATE TRANSFER APPROACH Fig. 0.9: Stages with Selection Process BOT project. Selection process The selection process depends on who initiates the project. In a public selection process where the initiative is coming from the public sector (government), a request for qualification is distributed. After receiving applications, the government selects a few consortia to submit proposals (request for proposals) and from these a concessionaire is chosen. During this process, the consortia will group interested parties as required for the efficient and adequate execution of the project. Alternatively, in a speculative selection process, the private sector initiates the project and contacts the appropriate government agency for approval. The project is granted after proper negotiations. Project implementation After the selection stage and the foundation of the concessionaire, the proposal is finalized. Together with all the involved parties, the concessionaire develops a detailed program and preliminary design, and applies for permits. This process can be shortened if a government agency is actively participating. Once permits are issued, the final concession agreement is signed. During the project implementation stage, in addition to the interests of the involved parties, the interests of the external parties also require attention. The influential power of politics, the opposition, and environmental agencies are significant factors and, if not taken into account, may hinder or even dissolve the project. Construction Once the necessary permits are obtained, construction begins. Often BOT projects are fast track projects where the design is not complete when construction starts. This is feasible because of congruent financial interests within the members of the consortium and the pressing need to complete construction and start collecting revenues. Less controversial designs allow a quicker construction period with fewer uncertainties. Operation During the operation stage, the facility is operated and maintained by the operator who is paid by the concessionaire. The concessionaire, as the owner of the facility during the operation period, is obligated to operate the facility in a manner that adequately services the public user. The concessionaire is also responsible for maintaining the facility in working condition. Both the concession and operation agreements specify the condition of the facility at the time of transfer to the principal. Transfer THE BUILD OPERATE TRANSFER APPROACH 17 The facility is transferred to the principal, usually at no cost (Fig. 0.10). Transfer time is determined in the concession agreement. Should the principal chooses to take over the facility earlier than the agreed concession period, the concessionaire will be financially compensated for the investment. After transfer, the principal is the sole owner of the facility and can choose to operate and maintain the facility directly or hire an independent operator. Although a transfer has not taken place in any of the cases in this book, it can be expected that the principal will continue with the same operator, as in the concession period, due to history of involvement and experience with the facility. If the principal is the government, it may choose after transfer not to charge the final users anymore. In essence, the facility at that time will have become public, and its maintenance and operation can be funded by indirect taxation. Another issue to be considered is to what extend the principal wants to receive the facility. After a typical concession period of 30 years, the facility may have become obsolete and could need major rehabilitation or require more resources to operate than a new facility. In prisons for example, the facility may be inadequate, or in a power plant the method of generating energy may be inefficient. Active participation of the principal during the concession period may keep a facility up to standards or, at transfer, a BOT project could in fact lead to a new BOT project. Fig. 0.10: Transfer of a BOT facility. Due to the external and internal particularities of every BOT project, the actual organization and process may be different to the presentation in the previous paragraphs. The starting and completion period of each stage in a BOT project can change due to a variety of factors, both external and internal to the project. Among them are the complexity of the development 18 THE BUILD OPERATE TRANSFER APPROACH process, government regulations, political influences, concerns of environmental groups, and neighborhood pressures. Such effects have a m a j o r influence on the progress of a project, likely to stall or change “theoretical” models. Thus, the development of a precise and detailed framework applicable for every BOT project is not possible and this must be taken into consideration for each case study in this book that presents the framework of a particular project and its external and internal conditions. 0.6 FINANCING One of the primary features of BOT is private financing which infers the concessionaire is fully responsible for acquiring the necessary funds to develop and operate the facility. The concessionaire will raise the required funding in debt and equity. The return of investment is realized during the operational stage of the facility (Fig. 0.11). Fig. 0.11: Cash flow over the concession period. The concessionaire takes a part of the equity by investing funds and additional shareholders are usually the parties of the consortium (investors, contractor, operator). At a certain stage of the development, equity may be sold to additional shareholders through private and public offerings. The shareholders require an independent business plan, including predictions of revenues, development and operating costs and an estimate for the rate of return. Although no guarantee can be given about dividend payments, other guarantees must secure investment, such as the financial guarantees that the government grants, and the amount of secured loans. The greatest risk is assumed by shareholders as they are paid last, once all short and long term obligations are met, though, due to the great risk the equity partners assume, a higher return of investment is expected. The debt is provided by secondary parties such as banks, financial institutions and bond holders, with the government sometimes providing THE BUILD OPERATE TRANSFER APPROACH 19 part of the debt. Most of the financial issues important to shareholders are also crucial to lenders in order to forecast the financial outcome. The expected interest and repayment schedule is established prior to closing the deals and contracts and gives investors a certain reassurance of security. In addition, lenders often ask for guarantees to minimize their risks and the government usually provides the larger and most welcomed guarantees. The equity to debt ratio is determined by the principal and depends on the financial capacity of the equity partners and their ability to secure long term loans. The debt to equity ratio is usually established at 1 to 4 (20% equity, 80% debt). Due to the higher risks assumed by the sponsors (consortium), a comparably higher return on investments (ROI) compensates the risks. Average ROI’s in the studied cases were 15-20% for equity and 8-10% for debt. The latter was based on the ROI of state bonds and interest, compensating for the perceived higher risk level. In most cases, the government retains a financial influence over the proceedings of a BOT project. In cases where no government is involved, it appears more difficult to achieve a financially successful project. The government can be involved in two ways: through subsidies and as a tenant. Through subsidies. This type of involvement is based on two factors. 20 THE BUILD OPERATE TRANSFER APPROACH Firstly, the government’s wish not to lose primary control over the development of the public facility. In the Wijker tunnel project for example, t h e government made a 15% subsidy available towards the cost of developFig. 0.12: Financial BOT structure. ment. The second reason may be attributed to the government being forced to allocate public money to make the project more interesting for the private sector. In the Strait Crossing Bridge project, the government annually pays C$ 41 million to lighten the financial burden. The criteria for selecting the concessionaire for this project were structured to obtain a minimum required subsidy. As a tenant. A second approach which enables the government to get financially involved is to support the off-take, the product, of the facility. In the Dabhol Power Company project, the state assumed the responsibility to distribute the produced energy to the final users, charging different regions different rates for political reasons. In both the prison projects (Plymouth and the Donald Wyatt), the government entered an agreement to take over the off-take of the facility where the government (state, federal and local) would be charged per personday for the prisoners and detainees. The revenues for a project are generated during operation from the final users. In the direct payment method, like in toll roads, the end-user directly pays the operator. In the indirect payment method, the government pays in favor of the final user, like in the prisons and the Wijker tunnel. The revenues are allocated to repay the debt plus the interest due within the concession period as well as the dividends to the shareholders. Fig. 0.12 shows a typical financing structure for a BOT project, with both investment and revenue streams. Fig. 0.13 shows schematically the payments (development, construction, maintenance and operations, interest) and the revenues for each stage in a THE BUILD OPERATE TRANSFER APPROACH 21 BOT project. At the time when the present net worth of the accumulated revenues is the same as the present net worth of the accumulated payments, the concessionaire will have realized the projected investment return that includes the required interest and profits. Of course, that time depends on the projected return on investment of the equity holders and lenders. After that period, the facility will produce net profits for the equity holders. Fig. 0.13: Payments and revenues for each stage in a BOT project (duration of stages not in scale). 0.7 DESIGN AND CONSTRUCTION One would expect the participation of many organizations with a wide range of expertise should result in an efficient and effective design. However, the case studies show that, in most of the cases, a conservative design and construction was adopted. This is driven by the concessionaire’s attitude to reduce risks and costs. Tested design and construction methods are widely adopted in BOT projects, with innovative ideas employed only when it will make the facility more profitable in the long run. The architect usually works for the contractor under a design-build contract between the concessionaire and the contractor. During the preliminary study, however, the principal has already commissioned an initial design as a part of the feasibility study and to obtain the necessary permits. Therefore, the architect hired by the principal will transfer work to the architect hired by the contractor. In some cases, the architect representing both parties is the same. One of the major advantages of having so many participants is the fact that the design will satisfy all parties on completion. Consequently, the disadvantage is that the design will compromise to the tastes of all those involved and the design process will be more time consuming. The participation of the operator can become very important in design. In the Plymouth County Correctional Facility project, the facility was designed with the wardens in the center of the building to control the whole facility from that site. Such a design required less guards and resulted to a more effective and efficient operation. The active participation of the operator in the BOT projects is quite innovative and facility operators should be seen as potential consultants for traditional projects as well. The participation of many opposition and environmental parties is often seen as an inconvenience because of design modifications and eventual delays. However, in the Strait Crossing Bridge case, due to the special attention given to the design of the pillars, because of the involvement of these groups, the ice flow during the long winters does not interrupt the ecology of the area. The same observations can be made for construction as with the design process: selection of conservative, well tested methods and materials that pose little risk. The participation of the contractor in decision making is important for designing and constructing a durable facility with few 22 THE BUILD OPERATE TRANSFER APPROACH unknown factors. 0.8 ENVIRONMENTAL FACTORS AFFECTING BOT Environmental factors include the role of the government, neighborhood concerns, environmental and sustainability issues, and the economic climate. Although in defining the BOT process, the government’s extensive participation should be excluded, government agencies are invariably involved in approving parts of the project or by developing other public facilities to support the specific BOT facility. A government’s involvement is advantageous for the project as success seems to be guaranteed. Getting permits and licenses, for example, is inevitably facilitated by the government’s involvement. However, it is not always beneficial to the project as opposition within the government can create major hurdles. In the Dabhol Power Company case, the project was stalled at several intervals following government elections. Arguing within the Dutch Second Chamber brought out unforeseen obstacles in the development of the Wijker tunnel. A major aspect to be considered in BOT projects is the environment and the environmental agencies. We live in an era where preserving the environment holds great importance and so development of facilities which will endanger the environment face major opposition. In the case of the Northumberland Strait Crossing Bridge, the melting process of the ice and the disturbance of flora and fauna were major obstacles in the development of the bridge. Opposition from a unified neighborhood group can be as disrupting as government or environmental agencies in scrutinizing and eventually delaying a BOT project. A group called “Friends” opposed the initial Northumberland Strait Crossing Bridge proposal due to perceived loss of labor, the endangerment of the fishery and the effects on wildlife. In the SR 91 Express Lane case, opposition was expressed by the neighboring county. Involving the neighborhood at an early stage, through public hearings, can improve the understanding and cooperation of the neighbors and be valuable for the development of the facility. In the Donald Wyatt Detention Center case, many public hearings and elections facilitated the process. Ultimately, the status of the economy is crucial for a BOT project. The primary objective for choosing a BOT approach is to obtain private funding. If there are no private companies interested, a project cannot be developed. Investing money is always in proportion to the risks involved and the returnon-investment; the risks are higher in a weak economy. Under such circumstances, negotiations for an equity-debt arrangement with risk aversion can take a long time, making a BOT project more expensive than the public option. Thus, when the economy is weak, the government should consider a public option or at least a certain public investment in the BOT project. When international financing is considered, the government must THE BUILD OPERATE TRANSFER APPROACH 23 carefully consider establishing the usage fees, especially if the local economy is poor and devaluation of the local currency a possibility. 0.9 WHEN IS BOT APPROPRIATE? In recent years, BOT projects are considered applicable to both developing countries and developed economies. The greatest advantage of BOT for the government is the subcontracting of the majority of the risks to the private sector, with the latter willing to finance and assume risks in the development of a public facility. At the end of the concession period, the government will inherit a well-operated project without investing public funds and with little risks. A consequence of not investing its own money is that the project can take place even if the government’s budget is limited. The finance is obtained by private organizations and the execution of the project is independent of the financial planning of the government. Furthermore, because the design, development, and construction are all the responsibilities of a single party, the concessionaire, the facility should be more effective and efficient. However, BOT is a complex process. Because of the numerous and very different contracts, organizations and stages, the process management is more complex, especially at its early stages. Furthermore, the concessionaire accepts to take over the risks from the principal expecting a high return on investment. For every risk the concessionaire concedes to, the final customer has to pay. Nevertheless, BOT projects need not necessarily be more expensive than traditional projects because of the savings in a privately owned process and because of efficient design, construction and operation. Another issue is the uncertainty of predicting the revenues during the concession period which is the most crucial piece of information for the concessionaire. The length of the concession period will depend on those expected revenues and can be up to 30 years, already a considerable prediction period. Often, the business plan of the concessionaire is based on inaccurate assumptions that can be devastating for the operation of the project. This was seen in the Channel Tunnel project between Britain and France, one of the first European privately financed BOT projects. Concluding, we would like to quote Mario Cuomo who stated in the New York Times, on May 1985; “It is not the government’s obligation to provide services but to see that they’re provided.” As the government’s awareness for subcontracting public facilities to private companies grows, we can readily observe the increase in public-private partnerships and BOT will be central to this development. SOURCES [1] Based upon “New Organizational Forms in the Construction 24 [2] [3] [4] [5] [6] [7] [8] THE BUILD OPERATE TRANSFER APPROACH Industry”, HBS-case, February 20, 1991. Based upon “Build Operate Transfer, Naar een theoretisch model voor de BOT-benadering”, Arjan Bol, thesis research, University of Technology, Delft the Netherlands, March 1995. Based upon “BOT in Nederland”, Lotte Verhoeven, thesis research, University of Technology, Delft the Netherlands, 1997. “BOT Projects, New Schemes to Build a Future”, ENR 1995, Sponsored Section. “Managing Change and Conflict in Architectural Projects: Four pavilions in Seville’s Expo ‘92”, Alberto Diaz-Hermidas, Doctoral Dissertation, Harvard Design School, Cambridge, MA, 1994. Based upon “De financiering van Build Operate Transfer”, Stephan Chon, thesis research, University of Technology, Delft the Netherlands, December 1995. Based upon “Build Operate Transfer (BOT) - een theoretisch model”, Marjan Klein, thesis research, University of Technology, Delft the Netherlands, 1996. Based upon “Information Technology for Project Management in the Build Operate Transfer-approach”, Jeffrey Huang and Rick Huijbregts, Harvard Design School, to be officially published