Options and flexibility in PPP toll road projects

Abstract

Concessional deliveries, encompassing public-private partnerships (PPP, P3), privately-financed initiatives (PFI), and build-operate-transfer (BOT), are promoted widely in the development of public infrastructure. The main feature in these deliveries is that the public sector authority uses finances and skills of the private sector concessionaire in providing infrastructure, particularly where the public sector has budget constraints. Each party – the authority and the concessionaire – carries different levels of risks, arising from project uncertainties and attempts to reduce these risks by adjusting the agreement between the parties. In the extreme case, a party may withdraw from the negotiations if the risks carried might be unacceptable, or one party may request a guarantee from the other party.

The literature presents the role of options, embedded with revenue-related guarantees, in addressing the uncertainty, risk, and fairness in PPP agreements in toll road projects, but falls short in providing flexibility to deal with the long-short conflict of the upfront fixed concession period and physical variation orders during the post-construction stage. The literature on real options analysis also criticises that such options in PPPs may be valued using financial market options techniques, applies these by analogy and relies on a high level of mathematical skills.

The thesis suggests fair ways forward to provide flexibility in (i) dealing with uncertainties in all kinds of revenue-related guarantees in PPPs; (ii) establishing a fair concession period over which the concessionaire collects revenue based on actual project performance instead of the existing upfront fixed period; (iii) presenting a proactive approach to anticipate changes and allow for physical variations and identifying a method by which variations are to be priced, leaving only their extent and timing unknown.

The thesis improves the understanding of incorporating flexibility in, but not limited to, PPP toll roads and presents an original single unifying approach for analysing all options scenarios, an approach based on discounted probabilistic cash flows. This thesis approach is straightforward, offers a ready way to evaluate the flexibility, requires minimal financial and mathematical knowledge, and can be readily implemented by practitioners. This thesis is thus of interest to anyone involved in PPP toll road projects.