There are a lot of issues facing infrastructure funding at a national level. The simple truth is there’s less money in the government pot. As a result, it’s time for economic infrastructure projects to start thinking outside the box about how they’re going to get funding.
Economic infrastructure has a distinguishing characteristic – there is a third party revenue stream generated by people that want to use that piece of infrastructure.
If you want to use a road, or use an airport, then there’s a way in which airport charges are included into the overall financial structure.
Pre-GFC environment, people were ready and willing to take the risk on the third party revenue streams. But as times get tougher, it’s becoming harder to justify taking the risk on the revenue stream.
To get a bit of insight on exactly how we can start to green-light regional airport development projects, I caught up with Martin Locke, Partner at PwC.
Martin and I took a look at the different models government can use to facilitate new investment in infrastructure that is expressly going to have an impact on productivity, and have an impact on growing the economy, generating revenue streams over time:
- Government can still decide to build and finance a new piece of infrastructure in its entirety. As revenue streams begin to firm up, government can then choose to sell off that piece of infrastructure. That’s been done in the context of some of the road transactions recently in Queensland. That model is what can be referred to as ‘build now, future sell’ and could apply in relation a completely new piece of infrastructure, or a piece of infrastructure that is an expansion of an existing arrangement.
- Another model is to leverage existing assets. This is when the government identifies a particular brownfield asset that’s already generating a revenue stream, and looks at how to expand it. Stakeholders may be asked to step up and take a risk on a revenue stream before it’s been firmed up. Repayment is sometimes provided out of the existing asset, rather than the expansion. There’s an example of this currently being developed in the roads area with the extension of the F3 to connect up with the M2 motorway. That’s been done as an extension of the original concession – it’s called Missing Link. In return for taking on the risk of constructing and generating this new revenue stream, shareholders ask for compensation in the form of extending the lease term on the existing concession.
- Revenue securitisation is another option. When social infrastructure is financed from substantial government investment, it’s because the private sector won’t take the revenue risk. For economic infrastructure projects, the government’s approach is to pay the private financier an availability payment once the infrastructure has been built, generating a return on the initial private capital. Separately, government will also look to generate a charge and revenue stream from that piece of infrastructure. That type of transaction is what’s currently being contemplated for th East West Link project in Victoria. It’s also an example of what was in relation to the subsequent leasing of the Sydney desalination plant.
- Contingent support: The fourth area is for government to provide some form of contingent support for a project. For example, private financier funding might build an expansion, and the government agrees to provide funding support for that expansion. When the private sector financiers step up with their money, they’re told what the projected revenue stream is going to be, as it’s still a projection, and government provides a return guarantee (normally set at a lower level). There’s a cap and collar type arrangement that is adjusted depending on how much is earned. Once the level of the cap is reached, any excess revenue is paid back to government.
- Finally, government can provide subordinated debt. The private sector will provide funding, but will only agree to fund around 50 per cent of the capital costs of the expansion. This will be because they can only see sufficient revenue to amortise 50 per cent of the capital. Government can then offer the remaining balance, in the form of a subordinated loan. Their subordinated loan is only serviced after the prior ranking loan for the banks has actually been repaid. It provides a mechanism where government is providing funding, designed to earn a return and ultimately be repaid.
The above models certainly offer some innovative funding methods, but without a solid business case to begin with, hopes of funding will be slim. Martin shared his key advice for building a successful business case:
Provide clear support for the future ability to generate third party revenue. If you’re coming up with financial projections around how you’re going to repay your capital, and how are you going to come up with different forms of revenue stream, do your due diligence around that revenue stream to provide strong evidence.
People make a mistake of confusing economic analysis with financial analysis. People will be trying to justify a project by claiming it’s got a really good economic cost benefit ratio. A lot of indirect economic externalities might help generate a really decent economic cost benefit ratio, but unless they are related to financial benefits, the project will not be financially viable.
The government has become increasingly credit constrained. There’s very little money to deploy. They would far sooner see projects being privately funded rather than publicly funded. Ask yourself: How do I make sure that I’ve actually got a business case and a financial structure that is consistent with private funding being made available?
Hear more from Martin during Regional Airport Development 2014 where he’ll facilitate the workshop ‘Exploring Alternative Funding Models for Infrastructure and Commercial Developments’.
This workshop will assist you with understanding the alternative infrastructure funding models; and aims to guide you through the processes and criteria for securing such funds. Now is the time to comprehensively explore your funding options to ensure you can turn your master plan into master actions.