Transmission Gully Interim Review

PPPs (public-private-partnerships), back when they were styled with different acronyms, were the funding means of choice in Hong Kong and in emerging economies.  They provided access to funding and expert service provision that were either not available, or where the Government preferred to keep such provision in the private sector.

When I was involved in advising the HK Government on its airport development, we had two build-own-operate-transfer projects we were advising on - the Western Harbour Crossing (part of the Port and Airport Development Strategy) and the Route 3 - Country Park Section (improving the link between the port, the airport and the border with the PRC).  The first project was to provide a third harbour crossing between HK Island and West Kowloon, using an immersed tube.  The successful bidder was to construct the harbour crossing, and to then own and operate it for 30 years, recovering its costs through tolling.  There were strict maintenance obligations on the franchisee, and the franchise was then to be retendered at the end of the term.  Toll increases were constrained in the franchise agreement, ensuring a reasonable, but not usurious return (see Tokyo Bay Tunnel for what can happen).  Any surpluses over an agreed threshold were to be retained to offset against future increases.  For cash rich investors, these were very good and very reliable returns.

The R3-Country Park Section comprises a 3.8km tunnel and road through the Tai Lam Country Park to the Chinese border; this was also awarded on a 30 year franchise on similar terms to the Western Harbour Crossing.  Neither franchise provided for Government guarantees of traffic flows, nor any other underwrite.

Unlike such projects in other parts of the region, these projects were not used to provide access to funding, not otherwise available to the Government (it funded the rest of the USD20 billion Port and Airport Development out of cash reserves, with no recourse to external funding), nor was it in order to procure greater efficiency or service provision.  The decision was ultimately philosophical, in a laissez-faire economy, to procure as much infrastructure in private hands as possible.  The earlier Lion Rock and Hong Kong Island Tunnels had been funded in similar ways.

So, why undertake projects in this way?  The legal and funding costs can be eye-watering, and in general terms Governments can secure funding far more cheaply than the private sector.

PPPs emerged in significant numbers in the UK, under the Blair Government in the 1990s.  Two justifications were provided at the time - (1) by contracting for service, the cost of constructing the required infrastructure was taken "off balance sheet" for the Government, and (2) a fundamental belief that the private sector was better at providing services than the public sector.  PPPs boomed in the UK during the 1990s, with hospitals, prisons and schools developed under PPPs.  The belief was that here was essential infrastructure provided efficiently and free to the Government, with costs sheeted back on a "user-pays" basis.

The Office of Government Commerce produced a standard form of PPP contract, which brought down legal costs and widened the appeal from large infrastructure projects, like the two Hong Kong projects above, to more modest developments.  London's Golden Circle law firms found that the work could be done by smaller firms more cost effectively.  As of September 2009, the PPP mode had delivered 500 operational projects in England, with a capital value in excess of £28 billion.

In the early 2000s, the National Audit Office forced the UK Government to adopt generally accepted accounting principles (GAAP), which brought the capital cost back on balance sheet.  At a practical level most of the operational expertise from within government was transferred to private entities, at greater cost.  Those costs, particularly the long term funding costs, far exceeded the cost had the government borrowed the money itself, and simply dedicated more effort to improving performance within its own ministries.  Many companies investing in the infrastructure assets sold those investments to overseas entities, with the result that many assets traditionally considered to be public assets were held by offshore investors located in tax havens.  The perception was that the intergenerational costs of funding those projects was not sustainable.  In short, the experience has shown that PPPs in the UK have largely failed to deliver value for money (UK Government's National Audit Office).

In late 2018, the UK abandoned the PPP/PFI model for infrastructure development.  The National Infrastructure Strategy, published on 25 November 2020, proposed a new approach to infrastructure development focused on three main areas - (1) a new national infrastructure bank; (2) improving independent economic regulation; and (3) continuing to develop innovative tools to support investment, all in a post covid-19, post Brexit world, focussed on carbon neutral priorities.

In short, PPPs do not provide essential infrastructure "for free" - tax payers, rate payers and users ultimately pay for the assets at a far greater cost than had the government undertaken the development itself with traditional borrowing.  Service delivery can be more efficient, but when the expertise comes from public sector employees and advisors simply transferring to the private sector investor, the issue would appear to be one of management.

Which brings us to the Transmission Gully PPP.

Steve Richards', Nine Squared, much anticipated Report - Interim Project Review of Transmission Gully PPP Project prepared for Infracom/Te Waihanga, 3 February 2021, was released earlier this week.  It made a number of findings:

  • the scheme design was not appropriate for tender on a PPP basis - it had been prepared for a consent design, rather than a performance based, service needs basis
  • the budget was set too low, resulting in downward pressure on the bidders and increasing contract claims post award (anecdotally, some prospective bidders did not engage in the tender process as they recognised that Waka Kotahi's price expectations were unrealistic)
  • the consenting risk was poorly managed - much of the pubic criticism has been levelled at Australian contractor, CPB, for this.  However, Waka Kotahi had a strong vested interest in assisting with this process
  • project governance "could have been better"

In short, the project was doomed from the start.

Having progressed from employer designed, build only procurement, through design and construct, Alliances and PPPs, it should have become clear by now that infrastructure development generally will cost what it costs.  Nothing comes free.  However, as displayed by any number of projects which have been less than successful for all concerned, it is very easy to pay more than was needed for a project delivered later than it could have been.

Part of the issue, as shown with Transmission Gully, is that the budget and programme where hopeless at the start; and the tender process simply guaranteed further claims for payment, disagreement and dispute, cost overruns and delay.  International experience (dating back to 1994 in the UK and 2005 in Australia; more recently in NZ) has shown that poor project definition, unrealistic price expectation, unreasonable risk allocation and inappropriate procurement methodology all play a part in project failure.  All this sounds sadly familiar, and depressing at this stage in the 21st century.

In a booming economy, it is hard to fathom how it is that construction projects are delivered so badly.

The more pressing question, not addressed in the Nine Squared report, is why was a PPP selected as a procurement model in the first place?  The CPB/HEB joint venture wasn't setting and collecting tolls, as in the Hong Kong examples; the joint venture isn't providing project funding; tolling and patronage risks are being taken by the Government; and unlike the UK's schools, hospitals and prisons, there is little service delivery in a dual lane road (two in each direction, which seems pitifully inadequate for such a critical and expensive transport link), other than road maintenance.

While the Government's PPP model (developed by Treasury and now taken over by Infracom) avoids the problem of international ownership of essential infrastructure (for now), it is far from clear how Transmission Gully's PPP model was going to secure a lower funding cost, when the original price expectations (if they were expectations, rather than a negotiating position) were so unrealistic.

Regardless of the procurement model adopted, and there are many good reasons for adopting each model, the solution to successful project delivery is to put as much work into the project at the outset as possible; ensure that project uncertainties are properly identified and avoided or managed; remove design and buildability uncertainties; develop realistic price and programme expectations; and then embark on procurement.  Some of these cannot be removed altogether, but once they're identified, sensible procedures, including advanced pricing, can be put in place.  All these issues will need to be dealt with at some point - better to deal with them before you try to set the price, and argue about them after the award of a fixed contract.

The Transmission Gully PPP is proof enough of this.