Getting to commercial close on a Public-Private Partnership (PPP) transaction is a major milestone. But the deal is far from done. Getting from commercial close to financial close involves satisfying a long list of PPP contract Conditions Precedent, the terms, and conditions of lenders, among other requirements. The process is tricky and involves a lot of heavy lifting, particularly in emerging markets where the market for PPPs and supporting institutional structures may not yet be robust. None of this is news.
Yet CPCS has experienced this firsthand as transaction advisors advising governments on PPP deals in developing economies. The challenge stems from the fact that the process involved in reaching financial close—often requiring countless meetings, in some cases necessitating changes in law or regulations, government approvals for guarantees, land issues, among other things—involves considerable uncertainty, and typically, significant delays. Transaction advisors, CPCS included, have often been expected to provide ongoing support each step of the way—and do this as part of a fixed-price transaction advisory contract.
Herein lies the rub. With limited control over many of the conditions required to reach financial close and their timing, transaction advisors can quickly end up over budget, pitting internal corporate interests against their commitment to helping clients reach financial close on their projects. This situation is typically bad news for PPP projects and can threaten the substantial efforts and resources invested in getting projects to the commercial close.
We have heard similar concerns from national PPP units, noting that support from transaction advisors with fixed-price contracts often wanes during the period between commercial close and financial close, particularly when the project becomes plagued with delays, such as those caused by changes in political leadership. We are aware of several examples of transaction advisors with fixed-price contracts incurring budget overruns running into the millions of dollars.
Consequently, the appetite of many transaction advisors to provide ongoing support beyond commercial close on the basis of fixed-price contracts is increasingly limited. We understand from one PPP unit that some transaction advisors have sought to explicitly limit contractual obligations beyond commercial close. This can leave governments without needed support beyond commercial close, which in turn can hinder the likelihood of successfully concluding PPP deals.
There are at least two options to addressing this issue and ensuring adequate support in getting to financial close:
- One option is to include an appropriate success fee component to the transaction advisory contract—payable on financial close. This aligns the incentives of the advisor to those of the client and encourages ongoing support to get to financial close.
- Another option is to use two contractual payment mechanisms for transaction advisory services: a fixed-price component to get to commercial close (typically easier to plan for and budget), and a time and expenses component thereafter until financial close is reached. This allows the client to leverage support services on an as and when needed basis, without the constraints of a fixed budget.
There are no doubt other options, though
As in well-structured PPPs, where risks are allocated to the party best able to manage them, so too should contracts for transaction advisory services be structured to align payment terms with what transaction advisors can reasonably control, while ensuring the necessary incentives are in place to support clients in getting their projects to financial close.
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