How to make a partnership pay its way

Public-private partnerships have taken on an ugly meaning in the wake of the Cross City Tunnel. But we need not throw out the baby with the bathwater, as we need them more than ever to carry out the Sydney Metropolitan Strategy.

The idea of these partnerships is very old, but today they have new meaning because governments are strapped for cash to finance new infrastructure and the debt of these partnerships does not show up on government books.

As well, the government does not have to hire workers to collect the tolls, which looks frugal; and it can take credit for new roads, schools, parks and hospitals and still be in the black. This is a good deal. But things go wrong when the process is not handled correctly.

Governments are merely leasing the new infrastructure when they enter into these partnerships. When you take on a car lease, for example, you are not paying for the car but for the use of it. As a result, you have to have the cash or reserves to pay the bill if anything goes wrong with the car, even though you do not own it.

As with a car lease, the government gets to use the asset - bridge, school or park - for the life of the lease. At the end of the lease period, the asset belongs to the government, fully paid for.

And, as with any lease, the government and the lender have to be certain the fees are paid for the full period of the lease arrangement. Here is where the trouble starts.

In too many instances, the finance company or lender-investment banker is more interested in getting the deal than in ensuring the fees are paid. And the investment banker gets fees for putting the contract together, not for managing the project for its life. In fact, the investment banker sells the project to superannuation funds or foreign investors as soon as the deal is made. The banker makes money whether the project is good or bad for the government.

No public-private partnership is simple; each one involves a lot of lawyers, accountants and sophisticated financial engineers. But, in the end, the project has to collect more in fees than it costs to run. The government gets what it needs (road, trains or other items) and, most of all, the investors get paid back.

It is called making the risk equation right. Remember, the investor is doing the government a favour by advancing the funds for the project. So the investor wants no risks. After all, the government would have to pay for this project anyway.

So the risk of making sure the project pays the fees is the government's, in one way or another. In some cases, the government improves the fees by closing off alternative routes - as in the case of a tunnel. In other cases, such as schools and hospitals, the government may prevent private schools or private hospitals from operating nearby.

Although the latest inquiries and reports on these partnerships focus on the operators of the project, this is not the issue: the problem is the financial structure of the project.

Four simple actions are needed in any partnership deal. First, an independent board must review all partnerships options. The reviewers must be people with expertise in the field who have been appointed for terms longer than an election cycle. Second, an external contractor, not a consultant hired by the investment banker, must review the feasibility of the project. Third, a fund to protect against default must be set up. And, finally, it is wise to enter into projects that are part of a longer-term strategy, such as the City of Cities Strategy, and are part of a bipartisan long-term contract to protect the assets from political manoeuvring.