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New lending process for school PPPs Back  
Reflecting on Equity Bank's experience in Northern Ireland, Joe Higgins says that lending to PPPs in education sets new challenges for banks.
The inclusion by government of Public Private Partnerships in the National Development Plan for the future provision of public capital projects is encouraging. Now, for the first time, the State-private sector relationship is to be formalised with the objective of providing the country with much needed infrastructural facilities.

At Equity Bank we have had experience of this method of funding through our Northern Ireland subsidiary. There we have acted with the Department of Education in the provision of educational facilities. In the Republic, we expect a wide range of opportunities to open up, not just for financiers but also for contractors and developers in this new area.

PPPs in the pipeline
The list of pilot schemes announced on June 1, 1999 by the Minister for Finance had a value of £600 million. The projects include some major works such as a new western River Crossing in Limerick on the N7; a by-pass of Waterford City including a new bridge over the Suir on the N25; a second west link bridge on the M50 in Dublin and also including key elements of the Dublin Light Rail (Luas) project.

And that's not to say we don't have PPP projects already in train. There is the Midlands Prison, the development of digital television infrastructure and the proposed new provision of international telecommunications connectivity. And we've all seen how successfully the two Dublin toll bridges have operated under this partnership approach.

UK experience
Initial difficulties arose between the Private Finance Initiative because different government departments tended to use varying approaches to the contracts which meant there was no uniformity of documentation. This had a knock-on effect and has led to frequent time delays on projects due to the protracted contract negotiations as each project team set out to re-invent the wheel.

The UK experience has been that the typical time span from advertising the tender to signing of contracts is between 12 and 20 months.

Dungannon project
Equity Bank's own experience stems from its role as funder for the first Education Pathfinder PFI project in Northern Ireland to reach financial close. The project involved the construction of a 500-pupil secondary school in Dungannon, Co. Tyrone. The new building is being developed on the existing site and upon completion (due September 2000), the old building will be demolished and a portion of surplus land sold off for residential development.

Equity has provided funds to Campus Ltd. a special purpose vehicle (SPV) set up for the project, which has been granted the rights to construct the new school and operate it for 25 years. At the end of the 25-year period, the school will be returned to the full control of the local education board. The SPV is only responsible for the fabric of the building and grounds and is not in anyway responsible for the teaching or education in the school. This was an interesting issue because pencils, paper, chalk and other consumables are clearly the responsibility of the school. But what about bunsen burners, lathes, drills, sports equipment? In practice we found this issue was one of the most problematic and time consuming.

The underwriting process
As Equity Bank is lending to an SPV, a full risk analysis must be undertaken as part of the credit assessment. The bank must satisfy itself that in all circumstances the SPV will have the necessary funds to meet its commitments. Specifically this means ensuring:

1. That the sponsor (in our case the Education Board) who provides the funds has the necessary support from Government to meets its commitments - letters of comfort usually suffice here.
2. That all parties to the transaction are acting intra vires and that the validity of the key contracts and payments can not be challenged.
3. That the funds paid by the sponsor for the provision of the school are sufficient to meet all likely obligations and provide a suitable cushion for the bank's exposure.
4. That there is a detailed financial model showing the future performance of the business. All costs should be identified in this model and the bank will undertake extensive due diligence to determine the validity of the model. This will include - a model audit to ensure that the model is arithmetically correct, that the tax and accounting treatments used are correct and that the assumptions used are in accordance with the negotiated contracts.
5. That a separate technical analysis confirms that the amount and frequency of planned maintenance and replacement is sufficient to fully cover the costs over the 25-year period.
6. That an insurance review to ensure that any risks retained by the SPV are adequately covered by the insurance that is in place
7. That a comprehensive legal review to ensure that all risks/situations are identified and covered i.e. that there are no gaps in the construction and operation contracts
8. The Bank will like to create the situation where - any risks taken on by the SPV in relation to construction or operation are passed to either the contractor or the operator respectively.
However, in practice this is difficult to achieve in full and so aspects of the risk will remain with the SPV. These must be identified and managed.

So, when entering into a bidding partnership, it is reasonable to assume that there will be difficulties. But with proper planning, the impact of these difficulties can be minimised greatly. In Ireland we are entering onto a learning curve as we move from State to private control. There may be reluctance in some quarters to embrace this change - either from the private sector or from the administration. We may also require legislative changes to facilitate PPP, the planning area being one that springs immediately to mind, or perhaps in the area of employee transfers, or public procurement rules. Other issues which may need to be addressed include whether the public sector with take an equity stake in the provider company; if budget surpluses be used to fund PPPs; and if EU funds be used now that the EU has said it is open to part funding. Whatever the outcome on this and other issues, one thing remains certain. We are entering a new era for the provision of State facilities. It is an era which will open up exciting opportunities in many sectors of the economy and one where we have to learn to think of the state as the customer and recipient of services from the private sector provider.

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