Don’t Just Build It, BOT It!

By Eran Shay, Managing Director, Benefit Business Solutions Ltd

Recent years have seen a dramatic increase worldwide in the involvement of the private sector in the development and funding of public facilities and services. Techniques are continuously being developed to draw the public and private sectors together with a view to sharing the risks and rewards associated with such activities. These various techniques are often referred to as “public private partnerships” (PPPs) and range from the simple contracting out of services to the involvement of the private sector in the financing, design, construction, operation, maintenance and, in some cases, ownership of major infrastructure facilities.
Perhaps the most widely used PPP financing technique is the Build Operate Transfer (BOT) method under which the private sector finances, constructs, operates and maintains the facilities for a given period, with the public sector acquiring operational control at the end of that period.
The Government of Gibraltar continuously faces the dilemma of maintaining a manageable level of public debt, while at the same time investing in capital intensive infrastructure projects to promote development and economic growth in the shortest possible timescale. In fact, in his July 2016 Budget, the Chief Minister announced that capital expenditure projects will be cut by a third in the financial year 2016-2017.  There are many factors contributing to the attractiveness of BOT projects. Through BOT, Government may be able to secure the necessary level of investment in Gibraltar while not burdening public finances. BOT projects also allow the public sector to transfer onto the private sector many of the risks associated with the implementation of capital intensive projects.
For private sector investors and financiers, BOT projects have opened up a whole new area of opportunities for new business and relatively high returns. The sharing of risks with other parties to the project and with the public sector entity concerned enhances the appeal of BOT. One aspect of many BOT projects which is attractive to investors and financiers is that they incorporate sovereign credit risk, and this renders them more suitable for financing in the bond markets.
BOT is a type of project financing, with its key attributes being:
(i) The lenders to the project look primarily at the earnings of the project as the source from which loan repayments will be made. Their credit assessment is based on the project, not on the credit worthiness of the borrowing entity.
(ii) The security taken by the lenders is largely confined to the project assets. As such, project financing is often referred to as “limited recourse” financing because lenders are given only a limited recourse against the borrower.
Most project finance structures are complex. The risks in the project are spread between the various parties; each risk is usually assumed by the party which can most efficiently and cost-effectively control or handle it. The major parties to a BOT project will usually include:
The Host Country – a Government department or statutory authority is normally the primary party. The Government’s co-operation is critical in large projects. It may be required to assist in obtaining the necessary approvals, authorisations and consents for the construction and operation of the project. It may also be required to provide comfort that the agency acquiring services from the facility will be in a position to honour its financial obligations.
The Sponsor – The sponsor is usually a consortium of interested groups (typically including a construction group, an operator, a financing institution, and other various groups) which, in response to the invitation by the Government Department, prepares the proposal to construct, operate, and finance, the particular project.
The construction contractor – the construction company may also be one of the sponsors. It will take construction and completion risks, that is, the risk of completing the project on time, within budget and to specifications.
Operation and Maintenance Contractor: The operator will be expected to sign a long term contract with the sponsor for the operation and maintenance of the facility. The operator may also inject equity into the project.
Financiers: In a large project there is likely to be a syndicate of banks providing the debt funds to the sponsor. The banks will require a first security over the infrastructure created. The same or different banks will often provide a stand-by loan facility for any cost overruns not covered by the construction contract.
Equity Investors: It is always necessary to ensure that proposed investors in an infrastructure project have sufficient powers to enter into the relevant contracts and perform their obligations under those contracts.
Other parties: such as insurers, equipment suppliers and engineering and design consultants will also be involved. Most of the parties too will involve their lawyers and financial and tax advisers.