Overview of Concessions, BOTs, DBO Projects

A Concession gives a concessionaire the long term right to use all utility assets
conferred on the concessionaire, including responsibility for operations and some
investment. Asset ownership remains with the authority and the authority is
typically responsible for replacement of larger assets. Assets revert to the
authority at the end of the concession period, including assets purchased by the
concessionaire. In a concession the concessionaire typically obtains most of its
revenues directly from the consumer and so it has a direct relationship with the
consumer. A concession covers an entire infrastructure system (so may include
the concessionaire taking over existing assets as well as building and operating
new assets). The concessionaire will pay a concession fee to the authority which
will usually be ring-fenced and put towards asset replacement and expansion. A
concession is a specific term in civil law countries. To make it confusing, in
common law countries, projects that are more closely described as BOT projects
are called concessions.
A Build Operate Transfer (BOT) Project is typically used to develop a discrete
asset rather than a whole network and is generally entirely new or greenfield in
nature (although refurbishment may be involved). In a BOT Project the project
company or operator generally obtains its revenues through a fee charged to the
utility/ government rather than tariffs charged to consumers. In common law
countries a number of projects are called concessions, such as toll road projects,
which are new build and have a number of similarities to BOTs .
In a Design-Build-Operate (DBO) Project the public sector owns and finances the
construction of new assets. The private sector designs, builds and operates the
assets to meet certain agreed outputs. The documentation for a DBO is typically
simpler than a BOT or Concession as there are no financing documents and will
typically consist of a turnkey construction contract plus an operating contract, or
a section added to the turnkey contract covering operations. The Operator is
taking no or minimal financing risk on the capital and will typically be paid a sum
for the design-build of the plant, payable in instalments on completion of
construction milestones, and then an operating fee for the operating period. The
operator is responsible for the design and the construction as well as operations
and so if parts need to be replaced during the operations period prior to its
assumed life span the operator is likely to be responsible for replacement.
This section looks in greater detail at Concessions and BOT Projects. It also
looks at Off-Take/ Power Purchase Agreements, Input Supply/ Bulk Supply
Agreements and Implementation Agreements which are used extensively in
relation to BOT Projects involving power plants.
This section does not address the complex array of finance documents typically
found in a Concession or BOT Project.
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Key Features
Concessions
 A concession gives a private concessionaire responsibility not only for
operation and maintenance of the assets but also for financing and
managing all required investment.
 The concessionaire takes risk for the condition of the assets and for
investment.
 A concession may be granted in relation to existing assets, an existing
utility, or for extensive rehabilitation and extension of an existing asset
(although often new build projects are called concessions).
 A concession is typically for a period of 25 to 30 years (i.e., long enough at
least to fully amortize major initial investments).
 Asset ownership typically rests with the awarding authority and all rights in
respect to those assets revert to the awarding authority at the end of the
concession.
 General public is usually the customer and main source of revenue for the
concessionaire.
 Often the concessionaire will be operating the existing assets from the
outset of the concession - and so there will be immediate cashflow
available to pay concessionaire, set aside for investment, service debt, etc.
 Unlike many management contracts, concessions are focused on outputs -
i.e., the delivery of a service in accordance with performance standards.
There is less focus on inputs - i.e., the concessionaire is left to determine
how to achieve agreed performance standards, although there may be
some requirements regarding frequency of asset renewal and consultation
with the awarding authority or regulator on such key features as
maintenance and renewal of assets, increase in capacity and asset
replacement towards the end of the concession term.
 Some infrastructure services are deemed to be essential, and some are
monopolies. Limits will probably be placed on the concessionaire – by law,
through the contract or through regulation – on tariff levels. The
concessionaire will need assurances that it will be able to finance its
obligations and still maintain a profitable rate of return and so appropriate
safeguards will need to be included in the project or in legislation. It will
also need to know that the tariffs will be affordable and so will need to do
due diligence on customers.
  In many countries there are sectors where the total collection of tariffs
does not cover the cost of operation of the assets let alone further
investment. In these cases, a clear basis of alternative cost recovery will
need be set out in the concession, whether from general subsidies, from
taxation or from loans from government or other sources.
 The concept of a "concession" was first developed in France. As
with affermages, the framework for the concession is set out in the law and
the contract contains provisions specific to the project. Emphasis is placed
in the law on the public nature of the arrangement (because the
concessionaire has a direct relationship with the consumer) and
safeguards are enshrined in the law to protect the consumer. Similar legal
frameworks have been incorporated into civil law systems elsewhere.
 Under French law the concessionaire has the obligation to provide
continuity of services (“la continuité du service public”), to treat all
consumers equally (“l’égalité des usagers”) and to adapt the service
according to changing needs ("l’adaptation du service"). In return, the
concessionaire is protected against new concessions which would
adversely affect the rights of the concessionaire. It is therefore important
when considering concessions in civil law systems to understand what
rights are already embodied in the law.
 Within the context of common law systems, the closest comparable legal
structure is the BOT, which is typically for the purpose of constructing a
facility or system.

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BOT Projects
 In a BOT project, the public sector grantor grants to a private company the
right to develop and operate a facility or system for a certain period (the
"Project Period"), in what would otherwise be a public sector project.
 Usually a discrete, greenfield new build project.
 Operator finances, owns and constructs the facility or system and operates
it commercially for the project period, after which the facility is transferred
to the authority.
 BOT is the typical structure for project finance. As it relates to new build,
there is no revenue stream from the outset. Lenders are therefore anxious
to ensure that project assets are ring-fenced within the operating project
company and that all risks associated with the project are assumed and
passed on to the appropriate actor. The operator is also prohibited from
carrying out other activities. The operator is therefore usually a special
purpose vehicle.
 The revenues are often obtained from a single "offtake purchaser" such as
a utility or government, who purchases project output from the project
company (this is different from a pure concession where output is sold
directly to consumers and end users). In the power sector, this will take the
form of a Power Purchase Agreement. For more, see Power Purchase
Agreements. There is likely to be a minimum payment that is required to
be paid by the offtaker, provided that the operator can demonstrate that
the facility can deliver the service (availability payment) as well as a
volumetric payment for quantities delivered above that level.
 Project company obtains financing for the project, and procures the design
and construction of the works and operates the facility during the
concession period.
 Project company is a special purpose vehicle, its shareholders will often
include companies with construction and/or operation experience, and with
input supply and offtake purchase capabilities. It is also essential to include
shareholders with experience in the management of the appropriate type
of projects, such as working with diverse and multicultural partners, given
the particular risks specific to these aspects of a BOT project. The offtake
purchaser/ utility will be anxious to ensure that the key shareholders
remain in the project company for a period of time as the project is likely to
have been awarded to it on the basis of their expertise and financial
stability.
 Project company will co-ordinate the construction and operation of the
project in accordance with the requirements of the concession agreement.
The off-taker will want to know the identity of the construction sub-
contractor and the operator.
 The project company (and the lenders) in a power project will be anxious
to ensure it has a secure affordable source of fuel. It will often enter into a
bulk supply agreement for fuel, and the supplier may be the same entity as
the power purchaser under the Power Purchase Agreement, namely the
state power company. For examples, click on Fuel Supply/Bulk Supply
Agreements. Power is also the main operating cost for a water or
wastewater treatment plant and so operators will need certainty as to cost
and source of power.
 The revenues generated from the operation phase are intended to cover
operating costs, maintenance, repayment of debt principal (which
represents a significant portion of development and construction costs),
financing costs (including interest and fees), and a return for the
shareholders of the special purpose company.
 Lenders provide non-recourse or limited recourse financing and will,
therefore, bear any residual risk along with the project company and its
shareholders.
  The project company is assuming a lot of risk. It is anxious to ensure that
those risks that stay with the grantor are protected. It is common for a
project company to require some form of guarantee from the government
and/ or, particularly in the case of power projects, commitments from the
government which are incorporated into an Implementation Agreements.
 In order to minimize such residual risk (as the lenders will only want, as far
as possible, to bear a limited portion of the commercial risk of the project)
the lenders will insist on passing the project company risk to the other
project participants through contracts, such as a construction contract, an
operation and maintenance contract

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Contractual Structure
The chart below shows the contractual structure of a typical BOT Project or
Concession, including the lending agreements, the shareholder's agreement
between the Project company shareholders and the subcontracts of the
operating contract and the construction contract, which will typically be between
the Project company and a member of the project company consortium.

Each project will involve some variation of this contractual structure depending
on its particular requirements: not all BOT projects will require a guaranteed
supply of input, therefore a fuel/ input supply agreement may not be necessary.
The payment stream may be in part or completely through tariffs from the general
public, rather than from an offtake purchaser.
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Examples
Water and Sanitation
Energy and Power
 Power Purchase Agreements (PPAs)
 Fuel Supply/Bulk Supply Agreements
 Implementation Agreements
 Land Lease

Transport
Solid Waste
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Checklists for Concessions

 General - Questionnaire for concessions re. legal environment of host
country
 Energy - Management Contract - Due Diligence Checklist
 Airports - Airport Concession Checklist
 Roads - Risk Matrix for Toll Road

 BREAKING DOWN 'Build-Operate-Transfer

Contract'
 Under a build-operate-transfer (BOT) contract, an entity –
usually a government – grants a concession to a private
company to finance, build and operate a project. The
company operates the project for a period of time – perhaps
20 or 30 years – with the goal of recouping its investment,
then transfers control of the project to the government. BOT
projects are normally large-scale, greenfield infrastructure
projects that would otherwise be financed, built and operated
solely by the government. Examples include a highway in
Pakistan, a wastewater treatment facility in China and a
power plant in the Philippines.
  In general, BOT contractors are special-purpose companies
formed specifically for a given project. During the project
period – when the contractor is operating the project it has
built – revenues usually come from a single source,
an offtake purchaser. This may be a government or state-
owned enterprise. Power Purchase Agreements, in which a
government utility acts as offtaker and purchases electricity
from a privately owned plant, are an example of this
arrangement. Under a traditional concession, the company
would sell to directly to consumers without a government
intermediary. BOT agreements often stipulate minimum
prices the offtaker must pay.
 A number of variations on the basic BOT model exist: under
build-own-operate-transfer (BOOT) contracts, the contractor
owns the project during the project period; under build-lease-
transfer (BLT) contracts, the government leases the project
form the contractor during the project period and takes
charge of operation. Other variations have the contractor
design as well as build the project: one example is a design-
build-operate-transfer (DBOT) contract.

Build–operate–transfer (BOT) or build–own–operate–transfer (BOOT)

is a form of project financing, wherein a private entity receives
a concession from the private or public sector to finance, design, construct,
own, and operate a facility stated in the concession contract. This enables
the project proponent to recover its investment, operating and maintenance
expenses in the project.
Due to the long-term nature of the arrangement, the fees are usually raised
during the concession period. The rate of increase is often tied to a
combination of internal and external variables, allowing the proponent to
reach a satisfactory internal rate of return for its investment.
Examples of countries using BOT
are Pakistan,[1] Thailand, Turkey, Taiwan, Bahrain, Saudi
Arabia,[2] Israel, India, Iran, Croatia, Japan, China, Vietnam, Malaysia, Philip
pines, Egypt, Myanmar and a few US states
(California, Florida, Indiana, Texas, and Virginia). However, in some
countries, such as Canada, Australia, New Zealand and Nepal,[3] the term
used is build–own–operate–transfer (BOOT). The first BOT was for the
China Hotel, built in 1979 by the Hong Kong listed conglomerate Hopewell
Holdings Ltd (controlled by Sir Gordon Wu).

BOT (build–operate–transfer)[edit]
BOT finds extensive application in infrastructure projects and in public–
private partnership. In the BOT framework a third party, for example the
public administration, delegates to a private sector entity to design and
build infrastructure and to operate and maintain these facilities for a certain
period. During this period the private party has the responsibility to raise
the finance for the project and is entitled to retain all revenues generated by
the project and is the owner of the regarded facilities. The facility will be
then transferred to the public administration at the end of the concession
agreement,[4] without any remuneration of the private entity involved. Some
or even all of the following different parties could be involved in any BOT
project:

 The host government: Normally, the government is the initiator of the

infrastructure project and decides if the BOT model is appropriate to
meet its needs. In addition, the political and economic circumstances
are main factors for this decision. The government provides normally
support for the project in some form. (provision of the land/
changed laws)
 The concessionaire: The project sponsors who act as concessionaire
create a special purpose entity which is capitalised through their
financial contributions.
 Lending banks: Most BOT project are funded to a big extent by
commercial debt. The bank will be expected to finance the project on
"non-recourse" basis meaning that it has recourse to the special
purpose entity and all its assets for the repayment of the debt.
 Other lenders: The special purpose entity might have other lenders such
as national or regional development banks
 Parties to the project contracts: Because the special purpose entity has
only limited workforce, it will subcontract a third party to perform its
obligations under the concession agreement. Additionally, it has to
 assure that it has adequate supply contracts in place for the supply of
raw materials and other resources necessary for the project

BOT model

A BOT Project (build operate transfer project) is typically used to develop a

discrete asset rather than a whole network and is generally entirely new or
greenfield in nature (although refurbishment may be involved). In a BOT
Project the project company or operator generally obtains its revenues
through a fee charged to the utility/ government rather than tariffs charged
to consumers. A number of projects are called concessions, such as toll
road projects, which are new build and have a number of similarities to
BOTs.[5]
In general, a project is financially viable for the private entity if the revenues
generated by the project cover its cost and provide sufficient return on
investment. On the other hand, the viability of the project for the host
government depends on its efficiency in comparison with the economics of
financing the project with public funds. Even if the host government could
borrow money on better conditions than a private company could, other
factors could offset this particular advantage. For example, the expertise
and efficiency that the private entity is expected to bring as well as the risk
transfer. Therefore, the private entity bears a substantial part of the risk.
These are some types of the most common risks involved:

 Political risk: especially in the developing countries because of the

possibility of dramatic overnight political change.
 Technical risk: construction difficulties, for example unforeseen soil
conditions, breakdown of equipment
 Financing risk: foreign exchange rate risk and interest rate
fluctuation, market risk (change in the price of raw materials), income
risk (over-optimistic cash-flow forecasts), cost overrun risk[6][7][8]

BOOT (build–own–operate–transfer)[edit]
A BOOT structure differs from BOT in that the private entity owns the
works. During the concession period the private company owns and
operates the facility with the prime goal to recover the costs of investment
and maintenance while trying to achieve higher margin on project. The
specific characteristics of BOOT make it suitable for infrastructure projects
like highways, roads mass transit, railway transport and power generation
and as such they have political importance for the social welfare but are not
attractive for other types of private investments. BOOT & BOT are methods
which find very extensive application in countries which desire ownership
transfer and operations including. Some advantages of BOOT projects are:

 Encourage private investment

 Inject new foreign capital to the country
 Transfer of technology and know-how
 Completing project within time frame and planned budget
 Providing additional financial source for other priority projects
 Releasing the burden on public budget for infrastructure development[9]

BOO (build–own–operate)[edit]
.... In a BOO project ownership of the project remains usually with the
project company for example a mobile phone network. Therefore, the
private company gets the benefits of any residual value of the project. This
framework is used when the physical life of the project coincides with the
concession period. A BOO scheme involves large amounts of finance and
long payback period. Some examples of BOO projects come from the
water treatment plants. This facilities run by private companies process raw
water, provided by the public sector entity, into filtered water, which is after
returned to the public sector utility to deliver to the customers.[10]

BLT (build–lease–transfer)[edit]
Under BLT a private entity builds a complete project and leases it to the
government. On this way the control over the project is transferred from the
project owner to a lessee. In other words, the ownership remains by
the shareholders but operation purposes are leased. After the expiry of
the leasing the ownership of the asset and the operational responsibility are
transferred to the government at a previously agreed price. For foreign
investors taking into account the country risk BLT provides good conditions
because the project company maintains the property rights while
avoiding operational risk.

DBFO (design–build–finance–operate)[edit]
Design–build–finance–operate is a project delivery method very similar to
BOOT except that there is no actual ownership transfer. Moreover, the
contractor assumes the risk of financing till the end of the contract period.
The owner then assumes the responsibility for maintenance and operation.
Some disadvantages of DBFO are the difficulty with long term relationships
and the threat of possible future political changes which may not agree with
prior commitments.This model is extensively used in specific infrastructure
projects such as toll roads. The private construction company is
responsible for the design and construction of a piece of infrastructure for
the government, which is the true owner. Moreover, the private entity has
the responsibility to raise finance during the construction and the
exploitation period. The cash flows serve to repay the investment and
reward its shareholders. They end up in form of periodical payment to the
government for the use of the infrastructure. The government has the
advantage that it remains the owner of the facility and at the same time
avoids direct payment from the users. Additionally, the government
succeeds to avoid getting into debt and to spread out the cost for the road
over the years of exploitation.[11]

DBOT (design–build–operate–transfer)[edit]
This funding option is common when the client has no knowledge of what
the project entails. Hence he contracts the project to a company to design,
build, operate and then transfer it. Examples of such projects are refinery
constructions. [12]

DCMF (design–construct–manage–finance)[edit]
Some examples for the DCMF model are the prisons or the public
hospitals. A private entity is built to design, construct, manage, and finance
a facility, based on the specifications of the government. Project cash flows
result from the government's payment for the rent of the facility. In the case
of the hospitals, the government has the ownership over the facility and has
the price and quality control. The same financial model could be applied on
other projects such as prisons. Therefore, this model could be interpreted
as a mean to avoid new indebtedness of public finance.

Initial Stages: Why, Where and How

Tensilica is a very technology- and engineering-focused
company. Its founders and engineering team has vast experience
in microprocessors, compilers and electronic design automation
(EDA) technologies. They have worked at major US firms such as
Intel, Synopsys, MIPS and SGI. Due to its intellectual property
business model, Tensilica relies on intensive, sustained leading-
edge technological innovation by its engineers.

Our business model has two main expenses: employee

compensation and EDA tool licenses. During the downturn of
2001 and 2002, the engineering budget wasn’t growing, while
Tensilica’s business was slowly but surely growing. With more
licensees of our products and more widespread use of our
technology, we had to invest in increasing the ease of use and
robustness of our products. However, allocating resources to this
purpose would have to come at the expense of further
technological innovation, which would be dangerous given the
ferocious competition in our industry segment.

In August 2003 we decided to explore low-cost alternatives to

address these issues.

Though Tensilica is a technological innovator, we didn’t want to

be pioneers in offshoring. We wanted to leverage the experience
of other technology companies and follow a well-trodden path.
The choice of doing this work in India, therefore, was easy. There
were many companies, small and large, with engineering
development centers in India. Plus, we had contacts, could attend
seminars and could use many other means of gathering
information about working in India. The method with which to
secure an engineering team abroad, however, was less clear.

We explored four different approaches:

1. Outsourcing
Contracting a set of tasks to a service company in India. We
talked in depth with three companies about a specific project. As
we discussed this in detail, it became clear to us that though the
service companies would be able to provide expertise to do this
and complete the task, our investment would be too high. Due to
the high engineering content of our technology, there would be a
delay while we trained their engineers to do the task. Moreover,
the contractors couldn’t guarantee us access to the same
engineers we had trained for subsequent projects. This made
outsourcing a difficult choice as we might lose the value we
created in the training process. Also, since IP is the core of
Tensilica, its protection is a major concern. For this reason we
chose not to outsource certain projects.
2. Set up a subsidiary
This is a very of attractive choice, since it addresses the concerns
of IP protection as well as the training investment. However, it
comes with an initial investment in infrastructure and organization
overhead, which we deemed to be too high for the scale of
operation we contemplated. Since we are an IP company, with no
silicon tapeouts, testing or manufacturing, we don’t need a large
number of employees. It would be adequate to have about 15
engineers during the first year. So, though a subsidiary was an
eventual goal, we searched for a model that wouldn’t have a large
up-front investment.

3. Acquisition
This choice has the very real advantage of bringing in a team that
already exists. As is clear now, building up a well-qualified
engineering team in India is a difficult and long task. We explored
this option in detail, but eventually determined that no prospect
was found that met our needs in terms of engineering expertise,
location and cost.

4. Build-Operate-Transfer
This was our eventual choice. We decided to hire and build a
team dedicated to Tensilica projects in partnership with a
company in India that had domain knowledge, local infrastructure
and expertise. We chose eInfochips to be our Indian partner and
are working with them to build a team in Pune and operate it
under their aegis for about a year and a half. The transfer to
Tensilica occurs when there is a “critical mass of engineers to
justify the cost overhead of infrastructure and additional services.

During the “build and operate” portion of the agreement, Tensilica

pays eInfochips a fixed per-month per-engineer fee. The transfer
will occur, at Tensilica’s discretion, in 18 to 24 months and will
entail a pre-negotiated transfer fee.

The advantage of this method is the almost zero initial

investment, low financial risk and quick start up. We have a team
of engineers whom we have hired and trained in collaboration
with eInfochips and who are dedicated to Tensilica projects.
They’re aware that within a period of time, they’ll become
Tensilica employees.

There are some concerns with this model, of course. Will we have
the freedom and flexibility to inculcate Tensilica culture and
values into this team? Also, we have seen that recruiting is
potentially harder into this model than directly into a subsidiary
might have been. There are risks associated with events in the
future too. Will the transfer occur smoothly and on time? Will all
the employees transfer over, or will some want to stay on at
eInfochips?

We also explored three locations for this offshore center:

Hyderabad, Bangalore and Pune. The final choice — Pune —
was based on the higher retention rates of engineers compared to
the other cities, a fairly good infrastructure, good weather and
quality of life.

We knew that the initial recruiting in Pune would be harder than in

Bangalore, since there is a much larger pool of qualified
engineers available in the latter city. However, we decided that
the combination of good engineering colleges and universities in
the Pune/Mumbai area and the lure of opportunities closer to their
hometowns for many engineers currently transplanted to
Bangalore or Hyderabad would increase the available talent pool.

Choosing the Work To Be Done

Our philosophy on choosing the work to be done offshore
consisted of the following:

1. Only R&D work to be offshored initially (in other words, no

customer support, IT services, etc.). It may make sense, once the
operations are firmly established, to do other kinds of engineering
work in India. For example, support of customers in Asia or
Europe might be more conveniently done from India rather than
California due to closer time-zones. We have decided, however,
to focus first on R&D operations.

2. Do additional work there; in other words, supplement the work

done in Santa Clara, not replace it.

3. Do testing and QA, but also development, in India.

4. Fundamental innovations will continue in the US. We see this

as imperative due to tight coupling with other functions within the
company and the unique skills in the existing team.

Tensilica’s IP consists of both hardware and software

components. The greatest need for increased ease of use and
robustness was on the software portion of the product. We began
by taking two different approaches to the work we decided to do
in Pune.

Task 1: Additional development work for a portion of our product.

It has aspects of new feature development as well as testing,
requiring skills in both graphical user interface development and
in embedded software tools. Task 1 is an absolute necessity for
the company, and there is no viable alternative to doing this in
India.

Task 2: A QA-only project that was seen as more experimental

than absolutely required. It was chosen by the US manager as a
means of “trying out” the offshore model, and there was
skepticism as to whether it would be a success.

Over time other tasks have been added. They share the major
attributes of supplemental work and include aspects of
development and testing.

What we learned in terms of task allocation was to put only “must

have” tasks on the list to offshore. Task 2 was only partially
completed. The large amount of effort required on the part of the
US manager, with a long learning curve of the engineers in India,
eventually led the US manager to decide that his efforts were
better spent elsewhere.

Expectations vs. Reality

Building the Team
We expected to have a team of about 10 engineers in Pune by
mid-2005. By that time we were only at five engineers.
Recruitment has been a major issue. The recruiting of more
seasoned engineers (with five or more years of experience) has
been particularly difficult. There are various reasons why this is
particularly hard.

First, there isn’t a large pool of well-qualified, experienced

embedded software engineers available in India. Embedded
software and systems engineering has come to India only in the
last few years, so the population of experienced engineers in this
field is still developing.

Second, the BOT model is a barrier. There’s reluctance among

the type of engineers we are trying to hire to join a services
company. They want to work on a product and have ownership of
their work. Though they work on Tensilica’s product, the
appearance of working for a service company where the transfer
to Tensilica isn’t guaranteed is a hurdle to overcome.

Third, name brand matters a lot. This is a very important but often
overlooked point. Tensilica isn’t a well-known, large multinational
company. It’s well-known, for its size, in California, but it’s hardly
known in India. Engineers need to be able to explain to their
parents, spouses and neighbors who they work for — and the
name needs to be instantly recognized. This is true also of
eInfochips. Though the company has been in India for about 10
years, it has only recently expanded to Pune and isn’t a large
company.

We’re addressing these issues by resetting expectations to some

degree, in that we’ll have to hire relatively less-experienced
engineers and train them. It’s important, though to have at least
one local manager for each group or project. Without this daily
supervision and help, it’s almost impossible to manage the team
from the US.

The BOT model issue is being addressed by doing things to make

the team feel part of Tensilica. They’re given Tensilica stock
options and receive other incentives. We’re actively working to
increase Tensilica’s name recognition in India. For example, we
proactively participate in conferences and are forming
relationships with top-notch universities to expose the embedded
systems and digital signal processor communities to our
technology.

Close and very proactive involvement with the entire recruiting

effort is required. Though the BOT model provides a ready-made
infrastructure and direct recruiting help, we have found that our
staffing specialists and technical managers have to invest
significant time and effort not only in interviewing, but also
sourcing and closing candidates. We update the recruiters in India
with our job specifications, requirements and roadmap of activities
to show to the candidates and specifics on the technology.
Getting each individual excited about the company and the work
is important. Due to the highly active employment market in India
and the multiple offers (and offer acceptances, it seems) that
each potential recruit has, we remain in constant touch even after
an acceptance, to increase the probability of the person starting at
the company. (We have about a 50% success rate so far!)

Management and Startup Efforts

I can’t overstate the level of management bandwidth that goes
into starting an India design center and building it up. Currently
our technical managers spend an average of 10 to 15 hours a
week on various India-related activities. Of course, this is over
and above their work that needs to be completed in the US. The
time zone difference exacerbates the stress of the effort. Being on
the phone or sharing workspaces on the computer after dinner or
early mornings with the India team takes its toll.

On the other hand, successful completion of projects and

increased productivity at low cost are the fruits of that effort.
Tensilica is beginning to see some positive results, but we still
don’t have enough of a history to definitively declare the India
initiative a success.
Build-Operate-Transfer Model
The BOT model came with the promise of low initial investment,
low financial risk and quick startup. Certainly, the first two have
borne out so far. The quick startup hasn’t occurred. Though, we
didn’t have to spend any time with the initial setup of a legal
entity, getting office space or selecting the accountants, we also
didn’t succeed in getting an effective engineering team in place
quickly. That effort continues.

The long-term risks of a smooth transfer also remain to be seen.

Effect on the US Team

When this effort was begun, we were aware of the importance of
getting the US engineering team on board. Though the team was
fully bought into the idea at an intellectual level — clearly it was
good for the business of the company — it has been harder to get
them to embrace the idea.

Due to the nature of the work we do and the high level of

expertise required, the engineering team isn’t insecure about their
jobs. In fact, they clearly recognize that there is truly much more
work that should be done than can be done by the current US
resources. The doubts and skepticism stem from two main
sources:
1. The ability and productivity of the Indian engineer. Doubts
remain about how much money the company is saving when it
takes time to hire and train them. The staff is unsure about their
basic engineering ability. The approach could potentially use
more engineers than required in the US. It comes with
communication issues that hamper efficiency.

2. Lack of growth potential in the US. With most of the increase in

headcount in the engineering department currently occurring in
India, there’s doubt about career growth opportunities in Tensilica
US.

Tensilica decided from the early stages to be open and

communicative about the entire process, plans and status with its
engineering team. As the team interacts more with the India
engineering team, considers them more of an extension of the
team in the US, and sees personal growth opportunities in a
global workplace, the emotional acceptance of this effort will also
be there.

The Lessons We’ve Learned So Far

Tensilica is still at an early stage of setting up operations in India.
We’re trying to create an excellent engineering team in India
working on high-technology areas of embedded microprocessors
and systems-on-chip design. In this short period there are several
important lessons for us.

1. Select the engagement model carefully.

Build-operate-transfer is a good model to start with low initial
investment, low risk and quick infrastructure and legal setup. If the
projected growth in the first couple of years is less than about 30
engineers, it makes perfect financial sense. However, you mustn’t
rely too much on technical input or technical managers from the
BOT company, especially in a complex engineering arena like
embedded processors. Be prepared to be heavily involved. Be
sure that the BOT company is trustworthy and open about
communication and has the bandwidth to service your needs.

2. Select the work done offshore carefully.

It’s difficult to attract the right talent in India if you’re only doing
QA work. There must be a mix of development and testing
projects. Select projects that are as self-contained as possible.
This reduces communication issues. Don’t do purely optional
projects offshore. The overhead of training and communication is
too high to keep the US team motivated to complete such tasks.
3. Recruit the team leads first.
Though it’s easier to find junior engineers, having a team in India
without a leader to guide them on a daily basis is counter-
productive and leads to instability.

4. Recruiting is hard!
Closing a candidate and ensuring that he or she shows up is
harder still.

5. Building close rapport between the teams and

understanding communication styles goes a long
way.
Travel and working together physically helps engineers
understand each other and opens communication channels.
Travel should be both ways, with US engineers going to India and
vice versa. Getting full commitment from the US team is hard.
Being open, communicative, and providing opportunities for global
teamwork is required. It’s absolutely essential that the US
manager with projects being done offshore be fully committed to
the effort. Without this commitment, the burden of the work and
the inevitable hiccups are easy scapegoats for failure.

Tensilica actively continues its efforts on the India design center.

In fact we have recently increased our commitment and
investment there. We’ve hired our first Tensilica employee in
India, the director of the center. Increased demand for our
products, more demanding customers, price and competitive
pressures and cost efficiencies possible in India make it
necessary for us to succeed in this endeavor.

What are the different

models for Public Private
Partnership (PPP) in
infrastructure?
tojo jose

September 10, 2016

PPP is a mode of providing public infrastructure

and services by Government in partnership with
private sector. It is a long term arrangement
between Government and private sector entity for
provision of public utilities and services.

PPP mechanism is a major element of India’s

infrastructure creation efforts as there is huge level
of investment requirement in the sector. The
twelfth plan targets to spend $1000 bn to expand
infrastructure. Conventional form of finance – the
budgetary allocation by the government is not
enough to meet this big investment size. So the
government at present is making several efforts to
modify and energize the PPP (Public Private
Partnership) mode of infrastructure generation. A
committee chaired by Kelkar also made valuable
recommendations to empower the PPP mechanism.

India’s experience with PPP in a serious manner

started from 2006 onwards. PPP requires private
sector participation in public asset creation
through money, technology and management. For
this, several models inviting thier participation
were launched for different projects. Some of the
commonly adopted forms of PPPs include build-
operate-transfer (BOT) and its variants, build-
lease-transfer (BLT), design-build-operate-transfer
(DBFOT), operate-maintain-transfer (OMT), etc.

These models operate on different conditions on

the private sector regarding level of investment,
ownership control, risk sharing, technical
collaboration, duration of the project, financing
mode, tax treatment, management of cash flows
etc. Following are the main models of PPPs.

(a) Build Operate and Transfer (BOT): This is the

simple and conventional PPP model where the
private partner is responsible to design, build,
operate (during the contracted period) and transfer
back the facility to the public sector. Role of the
private sector partner is to bring the finance for the
project and take the responsibility to construct and
maintain it. In return, the public sector will allow it
to collect revenue from the users. The national
highway projects contracted out by NHAI under
PPP mode is a major example for the BOT model.
(b) Build-Own-Operate (BOO): This is a variant of
the BOT and the difference is that the ownership of
the newly built facility will rest with the private
party here.

The public sector partner agrees to ‘purchase’ the

goods and services produced by the project on
mutually agreed terms and conditions.

(c) Build-Own-Operate-Transfer (BOOT): This is

also on the lines of BOT. After the negotiated
period of time, the infrastructure asset is
transferred to the government or to the private
operator. This approach has been used for the
development of highways and ports.

(d) Build-Operate-Lease-Transfer (BOLT): In this

approach, the government gives a concession to a
private entity to build a facility (and possibly
design it as well), own the facility, lease the facility
to the public sector and then at the end of the lease
period transfer the ownership of the facility to the
government.
(e) Lease-Develop-Operate (LDO): Here, the
government or the public sector entity retains
ownership of the newly created infrastructure
facility and receives payments in terms of a lease
agreement with the private promoter. This
approach is mostly followed in the development of
airport facilities.

(f) Rehabilitate-Operate-Transfer (ROT): Under

this approach, the governments/local bodies allow
private promoters to rehabilitate and operate a
facility during a concession period. After the
concession period, the project is transferred back
to governments/local bodies.

(g) DBFO (Design, Build, Finance and Operate): In

this model, the private party assumes the entire
responsibility for the design, construction, finance,
and operate the project for the period of
concession.

(h) The private party assumes the entire

responsibility for the design, construct, finance,
and operate or operate and maintain the project for
the period of concession.

(i) Management contract: Here, the private

promoter has the responsibility for a full range of
investment, operation and maintenance functions.
He has the authority to make daily management
decisions under a profit-sharing or fixed-fee
arrangement.

(j) Service contract: This approach is less focused

than the management contract. In this approach,
the private promoter performs a particular
operational or maintenance function for a fee over
a specified period of time.
The majority of municipalities aren’t big enough to benefit
from economies of scale associated with mammoth desalination
projects — or the ability to spread out the cost over a large
population, which takes away some of the financial risk.
Mechanisms such as municipal bonds are no longer feasible for
an average city to use given the rate increases associated with
them. These issues are even more challenging for rural or
isolated towns.

Public-Private Partnerships
That’s why companies such as RWL Water are leveraging public-
private partnerships to construct public water facilities. One option
with many benefits is known as build, finance, operate, and
transfer (BOT). A BOT is a long-term contract that allows the
client to purchase a service for the life of the contract. The client
is responsible only for buying the service. At the end of the
contract, the facility is transferred to the client at no cost.
Projects ideally suited to BOT are government-driven ones in
which a substantial public benefit has been identified. This
contractual option can be applied any public facility,
including water treatment and sanitation facilities. The World Bank
explains:
A Build Operate Transfer (BOT) Project is typically used to develop a
discrete asset rather than a whole network and is generally entirely
new or greenfield in nature (although refurbishment may be involved).
In a BOT Project the project company or operator generally obtains its
revenues through a fee charged to the utility/government rather than
tariffs charged to consumers. In common law countries a number of
projects are called concessions, such as toll road projects, which are
new build and have a number of similarities to BOTs.
Through BOT, cities that might have otherwise forgone building
new, state-of-the-art water treatment or desalination facilities can
now ensure local residents have the safe water supplies they
need for years to come.

No Need for Capital

Expenditure
Henry J. Charrabé, president and chief executive officer of RWL
Water, Global Operations, told Desalination & Water Reuse:
RWL Water offers BOT finance so customers can avoid the capital
expenditure and pay for water over 30 years under operational
expenditure. In our market space that’s rather unique. You can finance
your car that way or a US$5,000 million project — but to finance a
US$40 million deal tends to be more difficult and there are fewer
players who offer it.
RWL Water Vice President of Sales and Marketing Michael P.
Tramer explained:
The ideal situation would be that the entire project would be financed
by debt to banks, but that is usually not the case and the lending
institutions want to see that the concessionaire is putting some ‘skin in
the game’ as well.
In particular, public agencies or governments find that BOT
eliminates the need for them to provide all the funding for
construction by enabling a mix of equity and debt resources to be
used.

Government Entities
A variety of agencies and organizations are typically involved in
BOT projects since the involvement of a municipal,
state/provincial, or federal agency is required. Precise
requirements vary, based on national laws. When a project is not
fully funded by these entities, a remaining investment by
commercial or investment banks may be needed.
BOT contractual arrangements do not necessarily reduce the cost
associated with the providing service to the end user, Tramer
said. Most importantly, the service can be provided efficiently and
with little risk to the off-taker.
The primary benefit associated with BOT is that it enables
construction of essential water facilities, whether water treatment
plants or desalination facilities that provide communities with
fresh, potable water. BOTs eliminate the need for public sector
agencies to find funding, which can be an obstacle to responding
quickly to water-related emergencies.

BOT vs. BOOT. To address such situations, outsourcing planners have learned from
project financing the structures for “build-operate-transfer” (“BOT”) and “build-own-
operate-transfer” (“BOOT”) models. They are essentially identical.
 Common Elements: In each case, the enterprise customer gets access to
technology, expertise, knowledge and operating capital. In each model, the service
provider assembles the people, the processes and the technology and then
provides services as an outsourcer under the classic outsourcing model. At the
 agreed time, the service provider transfers the service delivery operation (including
infrastructure) to the enterprise customer.
 BOOT: In the BOOT model, the enterprise customer also gets the benefit of the
service provider’s financing of the capital expenses necessary to start a new service
center or service delivery platform. In a pure BOOT, the service provider owns and
finances the infrastructure in addition to managing it for a fee.
 BOT: In the BOT model, the enterprise customer provides the financing for the new
infrastructure. In a pure BOT, the service provider does not own the infrastructure
but is a concessionaire entitled to manage it for a fee that covers its operating
expenses.
Time Lapse Scenario. Thus, where the enterprise customer wants help in building its
own captive, the BOT or BOOT model provides a legal structure for the supplier to build
and, for a time, manage the entire service delivery center before assigning it to the
customer. This model reflects traditional project financing for building transportation
infrastructure – such as highways, airports, bridges, tunnels and ports – for
governments. In the public sector, BOT relationships are sometime called “public-
private partnerships.” [LINK TO THAT PAGE = SEE BELOW]
Accounting. An essential element of BOT is its cost accounting. The cost structure for
BOT involves amortization of capital investment. The pricing structure will reflect this
amortization if the service provider owns any physical assets, license agreements or
real property used for service delivery.
Advantages. The BOT and BOOT models offer several advantages to the enterprise
customer. It saves:
 time because the service provider is presumably more expert at assembling the
infrastructure and obtaining local regulatory consents;
 money (and maybe market share) because the benefits of the new infrastructure
can be enjoyed sooner;
 effort because the service provider is performing the effort, presumably at lower
salaries.
Disadvantages. The BOT and BOOT models have certain drawbacks for the enterprise
customer.
 Additional costs are incurred to pay a profit to the service provider for the value of its
know-how and time in assembling the service delivery infrastructure.
 Tie-in effects arise, since the enterprise customer commits to work with the
particular service provider (as in any class outsourcing model) and cannot escape
for low switching costs until the service provider’s investment is amortized or
recaptured.
 Inflexibility results from the enterprise customer’s commitment to purchase the
infrastructure, whether up front, by imputed self-amortizing “mortgage” payments or
at the end. This ties up the enterprise customer’s capital and credit, unless the
enterprise customer can structure the financial risk so that the service provider
retains ownership until the customer exercises, in effect, a call option to acquire the
service center infrastructure.
 Build–operate–transfer (BOT) is a well-established solution
used in the engineering and construction industries for
building different types of infrastructure (e.g. railways,
highways, power plants). In recent years, BOT has
increasingly been adopted by companies in the service
industry as a mode for entering foreign markets. BOT in
service offshoring (SO) is characterised by a number of
significant peculiarities (e.g. different numbers of involved
parties, fee methods, lengths of the concession period),
which may call into question the possibility of extending
existing findings that relate to infrastructure projects. The
aims of this work are as follows: to collect and systematise
existing knowledge on engineering and construction BOT
projects; to highlight – through an exploratory case study –
how these results could be applied to BOT in SO; and to shed
light on the factors affecting the choice between different
entry modes (including BOT).

Overview of the construction and projects sector

1. What are the main trends in the local construction and
projects market? What are the most significant deals?
Main trends
In recent years, the construction industry in India has suffered a
major downturn after having been one of the fastest growing
sectors. While construction projects awarded by government
authorities have seen an increase, commercial and residential
property development has yet to see any major improvement.
A key change in the past decade is the shift in construction
projects from the use of item rate/re-measurement contracts to
design and build projects, particularly in relation to larger projects
(for example, airports, metro rail and certain hydropower
projects). Another change is the move from the traditional model
of a government authority awarding and funding contracts, to the
use of public private partnership (PPP) models. As a result, a
number of major developers have become pure project
developers, awarding subcontracts on a back-to-back engineer,
procure and construct (EPC) basis. For many of these projects, a
government entity can also be a stakeholder in the developer
special purpose vehicle (SPV) that is awarded the contract.
However, the PPP model has not been as successful as hoped
and the Government of India is rethinking PPP structure. It is also
reassessing and preferring annuity-based build-operate-transfer
(BOT) projects with viability gap funding. The biggest challenge
for the construction industry is that most of the companies are
carrying huge debts.
A major factor that has delayed construction projects is the slow
grant of environmental clearances. This issue is likely to be
resolved in the future (see Question 25).
Major projects
Many recent major construction projects have been larger
projects (for example, airports, metro rail, road construction,
hydropower and thermal power projects). Projects in special
economic zones (SEZs) and commercial and residential projects
had seen an increase, but there has recently been a substantial
reduction in these projects. However, it is likely these kinds of
projects will increase with the new change in government. This
increase is also likely to affect private commercial property
developers.

Procurement arrangements
2. Which are the most common procurement
arrangements if the main parties are local? Are these
arrangements different if some or all of the main parties
are international contractors or consultants?
Generally, if both the parties are Indian, the usual arrangement is
an item rate contract, with some of the material supplied by the
employer or purchase on a "star rate" basis. However, where the
contract is subject to international competitive bidding, an
increasing number of contracts are shifting from item rate to an
engineering, procurement and construction (EPC) basis.
Additionally, some contracts utilise EPC with public private
partnership (PPP) models, for example, build-operate-transfer
(BOT) and build-own-operate-transfer (BOOT). Many road
construction projects are given on a BOT basis, where toll
collection is used as the basis for recovering costs (see Question
4).

Transaction structures
3. What transaction structures and corporate vehicles are
most commonly used in both local and international
projects?
Local projects
In local projects, most of the contracts are given to an Indian
entity. In smaller projects, special purpose vehicles (SPVs) or joint
ventures (JVs) are not common. The funding is usually supplied
entirely by the employer.
International projects
In projects involving international competitive bidding, particularly
where foreign lenders are involved (for example, the Asian
Development Bank (ADB) and the Japan International Co-
operation Agency (JICA)), the preferred structures are JVs or
SPVs.
The form of JV typically utilised in India is an unincorporated JV,
referred to as an "association of persons". An "association of
persons" is recognised by the Income Tax Act 1961. It enables
various parties to combine their qualification requirements and
skills without actually having to start or incorporate a SPV.
However, for build-operate-transfer (BOT) projects, the preferred
structures involve setting up of an SPV. In some projects,
incorporation of a SPV is required by the employer. Typically, in
these projects, the SPV does not carry out all of the work and
subcontracts some of the work (either to their own principals or to
other subcontractors).
In many large projects (for example, airport projects), the SPVs
are set up by the developers with the government entity and in
turn subcontract the entire construction work to an EPC contractor
(who further subcontracts specialised work). Most large projects
involve international competitive bidding.

Finance
4. How are projects financed? How do arrangements
differ for major international projects?
In the past, funding for most projects in India was supplied by the
employer, who only engaged contractors on an item rate basis.
The employer also funded the supply of building materials (for
example, cement and steel).
However, this structure has undergone a substantial change and,
for both item rate and engineering, procurement and construction
(EPC) contracts, most of the funding is currently from government
entities who either receive budgetary allocation or loans from
foreign lenders. Many government entities like the National
Highways Authority of India (NHAI) can also issue bonds,
including tax free bonds, to raise financing.
In build-operate-transfer (BOT), build-own-operate-transfer
(BOOT) projects and projects with developers, both debt and
equity funding is used. One of the recent issues with this model
has been that in many projects (particularly road projects), even
after the construction phase is over, the contractor or the SPV
was not permitted to sell the equity. As a result, more complex
arrangements were not entered into and only an escrow
arrangement was worked out in which all toll collection and other
earnings would be deposited. The NHAI has also tried annuities-
based projects where the bidders bid based on amount they want
from the NHAI (or will pay to the NHAI). This takes care of viability
funding and the government is seriously considering using this
arrangement in other infrastructure projects.

Security and contractual protections

5. What forms of security and contractual protections do
funders typically require to protect their investments?
Security
In build-operate-transfer (BOT) and build-own-operate-transfer
(BOOT) projects, the income stream is the security provided to
the lenders (apart from guarantees granted by the parent
companies). As a large number of projects do not permit the
lender to take over the projects, the project itself is not deemed to
be a security.
However, it is expected that transfer of projects will be permitted
more often in the future. Most lenders and banks are very
reluctant to take over projects and run them, and, therefore, there
are very few cases where projects have been taken over by the
lenders. Where income streams form the guarantee to the
lenders, there have been cases where the lenders have been
forced to take up toll collection to recover their dues, which is not
preferable.
Contractual
A lender taking over the project is not always permitted in the
contract. As a result, apart from the income stream, the typical
contractual methods for securing the loans are to use the assets
of the SPV and parent company guarantees.

Standard forms of contracts

6. What standard forms of contracts are used for both
local and international projects? Which organisations
publish them?
Local projects
The Central Public Works Department has a format for awarding
item rate contract. However, recently, this format has only been
used by the concerned agency, namely, the Central Public Works
Department and certain other public works departments. A
popular form of contract is provided by the Fédération
Internationale des Ingénieurs-Conseils(FIDIC) Conditions of
Contract (produced by the International Federation for Consulting
Engineers). For an item rate contract, in particular, the National
Highway Authorities of India (NHAI) has been using the guidelines
provided by FIDIC Construction, First Edition, 1999 (Red Book).
However, many changes are made to these standard forms,
typically by conditions of particular application or specific
conditions of contract.
However, for engineer, procure and construct (EPC) contracts
NHAI has developed its own forms of contract which are updated
from time to time. For many EPC contracts, the FIDIC Design-
Build and Turnkey, First Edition, 1995 (Orange Book) is typically
used. The Metro Rail Contracts have also been developed from
the FIDIC EPC/Turnkey Projects, First Edition, 1999 (Silver Book)
and the Orange Book, but are quite different from either.
International projects
See Question 3.
Some of the employers/clients have developed their own formats
over the years (for example, NHAI and the Delhi Metro Rail
Corporation (DMRC)) while others use either the FIDIC Red Book
for item rate contracts and the FIDIC Orange or Silver Book for
EPC Contracts. Build-operate-transfer (BOT) contracts are
subject to approval of the relevant central or state government
and are generally developed for large individual projects.

Contractual issues
Contractors' risks
7. What risks are typically allocated to the contractor?
How are these risks offset or managed?
In more typical item rate contracts, the employer bears the risk of
a change in law (including taxes and compensation for inflation,
providing land and the design). The contractor is subject to most
other risks. Typically, the contractor is entitled to full extension of
time for events which are beyond the contractor's control and
which lead to delays to the project.
However, in a large number of government contracts, a
substantial number of delaying events (even if they are beyond
the contractor's power) are the basis of extension of time, but
prolongation costs are prohibited by contractual clauses. Delay in
land acquisition is a common cause for delays to such projects.
Adverse geological occurrences and site encumbrances are also
causes which often lead to disputes. In many cases, environment
approval or court orders relating to improper environmental
impact analysis have also led to delays. Stoppage of work due to
local issues is also a cause of a number of arbitrations. This is
because, even where there are provisions for compensation, the
employer is not always willing to compensate the contractor, often
suggesting that these issues should have been discovered by the
contractor during the pre-bidding inspection. In fact, land
acquisition and site encumbrances, along with geological
occurrences are often the bone of contention as far as the risk for
the same is concerned. Even if the employer is otherwise happy
to grant time extension for this, he will be reluctant to do so if the
contract links prolongation costs to the grant of a time extension.
Excluding liability
8. How can liability be excluded or restricted under local
law?
The Indian Contract Act 1872 has provisions for determining the
liability in the case of defaults by the contracting parties. Parties
are also free to contract and can agree to impose liability on one
or the other party. Many contracts include exclusion of liability
clauses. Typically, the courts would enforce these exclusion
clauses. However, in certain cases if enforcement of a particular
exclusion clause causes extreme hardship, the courts have
declined to enforce the terms or declined to enforce it in the facts
of the case. Many clauses that limit the liability of the employer
are also read down or read strictly against the employer.
Caps on liability
9. Do the parties usually agree a cap on liability? If yes,
how is this usually fixed? What liabilities, if any, are
typically not capped?
Section 73 of the Indian Contract Act 1872 addresses damages.
Under this section, damages which are to be awarded to the non-
defaulting parties, must be actual damages. Punitive damages
are not permitted under Indian law. However, parties are free to
agree to liquidated damages, if they are genuine pre-estimates of
likely loss. These become the ceiling on the amount payable but
what is liable to be paid is only the actual loss.
Additionally, liquidated damages can be awarded when there are
genuine pre-estimates of likely loss and it is for the non-defaulting
party to show that these are not genuine loss or are excessive or
penal in nature. Essentially, Indian law does not permit penal
damages or damages which are in terrorem. Indian law only
contemplates damages which put the non-defaulting party back in
the position that he would be, but for the breach or damages
causing event. Therefore, Indian law allows damages that are
compensatory and not punitive. If liquidated damages are
stipulated, the party in breach must pay the same. However, in
the event the party in breach declines to do so, the arbitrators or
the court will have to decide if the sum stipulated is a genuine pre-
estimate of likely damages or is punitive in nature. If liquidated
damages are in the punitive in nature then the arbitrator or the
court will only award what is reasonable or actual loss caused.
However, the determination of actual loss cannot exceed the
liquidated damages specified.
Most contracts do have liquidated damage clauses for delay in
work. However, other liabilities are not always capped.
Force majeure
10. Are force majeure exclusions available and
enforceable?
Force majeure clauses are available and are enforceable under
Indian law. Force majeure is normally a defined term in most
contracts and the consequences set out.
Material delays
11. What contractual provisions are typically negotiated
to cover material delays to the project?
Most major contracts in India are those granted by the
government or governmental agencies. These contain clauses for
extension of time as well as prolongation costs. While the
provision for extension of time is generally very wide, provisions
for prolongation costs are restricted. However, most of these
clauses are non-negotiable and parties must bid, based on the
provisions as provided.
Subcontracts in such projects (which would be between private
parties) also have similar terms. However, all other private
contracts will have negotiated term to cover delays to the projects.
The Indian Contract Act 1872 has detailed provisions which apply
even where a standard-form contract (for example FIDIC
Conditions of Contract) is adopted, the clauses relating to liability,
time extension, prolongation costs and liquidated damages, as
well as unencumbered possession of site are typically modified by
the employer to limit its own liability. These have been the subject
matter of a large number of disputes. In private contracts there is
scope for negotiating these clauses. As a result, disputes are not
as common.
Material variations
12. What contractual provisions are typically negotiated
to cover variations to the works?
Most agreements contain a clause for variation. Typically, in all
contracts, whether item rate or an engineer, produce and
construct (EPC), the variation clause provides for variations
instructed by the employer or variations suggested by the
contractor and approved by the employer. This is in line with most
standard-form contracts.
In either case, the employer typically seeks a cost and work
method proposal from the contractor and will approve the
variation and its cost based on these proposals. In item rate
contracts, additional work is only paid at the rate already agreed
upon. In the event no rate is agreed upon for any additional work,
rates are calculated either based on the contractual rate or based
on break-up of cost submitted by the contractor and approved by
the engineer or the employer.
In EPC contracts where there are no individual rates, the contract
often provides for submission of the break-up rates in a sealed
cover that is used in case of any additional work or dispute in
regard to the contract. However, normally, whenever a variation is
proposed, the contractor must give a proposal which is then
accepted or rejected by the employer. Typically, if the variation is
suggested by the employer, the contractor will be asked to
provide a proposal including a modified design along with a cost-
breakup and an updated time schedule. This variation will then be
verified and approved along with appropriate modifications and
will then become part of the schedule of works.
The contractor can also suggest a variation in design or in the
work method or in materials used. This proposal must also be
approved and priced by the employer and then implemented. It is
important to note that usually the employer will appoint an
engineer for the project who will deal with these issues, of
instructing variations, appraisal and pricing of proposals and
finally approving them. At the same time, it is seen that in many
projects, many variations are verbally conveyed on a day-to-day
basis, including redesign and change of method by the engineer
on site, while the work is taking place. These are frequently by
mutual understanding but fail to be conveyed in writing. This lack
of written instructions can cause difficulties at the payment stage
as it is possible to dispute whether a variation was indeed
approved or not and whether it must be reimbursed or not.
Other negotiated provisions
13. What other contractual provisions are usually heavily
negotiated by the parties?
Most large contracts are awarded by the government or
government agencies based on international competitive bids.
Therefore, clauses of these contracts are not easily negotiated.
Many contracts which are based on international standard-form
contracts (for example, the FIDIC Conditions of Contract), with
some modifications, typically tend to favour the employer. It is
difficult for the bidders or even the successful contractor to
negotiate any of the terms. However, parties do seek and get
clarifications relating to some of the clauses before the bid
submission date and some times even manage to have some of
the clauses amended. However, this is rare.
However, private contracts between, for example, a developer or
a special purpose vehicle (SPV) with a contractor or
subcontractors are typically negotiated. However, even in these
contracts, the scope for negotiation is not very large and the
employer tends to retain their contract forms. Additionally,
contracts with subcontracts can be on a back-to-back basis.
The following are some of the clauses that can be negotiated:
 Price.
 Escalation clauses.
 Changes in law.
 Liability for site encumbrances.
 Geological occurrences.
 Unforeseeable conditions.
However, radical changes are rarely achieved. After the lowest
bidder is found, there is also a tendency to further negotiate the
price. Terms and requirements for attaining financial closure
and/or conditions precedent to the commencement of contract are
also sometimes negotiated.
The Central Vigilance Commission (CVC) has now tried to put a
stop to this practice. Under the CVC Guidelines, the bid
documents must clearly specify criteria to be adopted for
evaluation purposes.
For the two bid system, the CVC Guidelines specify that techno-
commercial negotiations can be conducted with all the bidders to
clarify the deviations regarding tender specifications and
requirements. After bringing the acceptable offers on a common
platform, all the commercial terms and conditions and technical
specifications, must be frozen. If some changes are made in
terms and conditions or technical specifications, the bidders may
be given a fair chance to revise their price bids accordingly. The
distribution of work, if considered necessary, must be done in a
fair and transparent manner.

Architects, engineers and construction professionals

14. How are construction professionals usually selected?
Following selection, how are they then formally
appointed?
Construction professionals for government projects are selected
based on competitive bids where bidders must meet the pre-
qualification or qualification criteria and then submit the price bid.
There is no formal bidding process for private contracts. However,
bids are invited. These professionals are often engaged using an
engagement letter along with conditions of engagement. In many
projects, the independent engineer is selected by the contractor
from a panel supplied by the employer.
15. What provisions of construction professionals'
appointments are most heavily negotiated? Are liabilities
routinely limited or capped in construction professionals'
appointments?
Contracts of professionals are not very heavily negotiated and
typically the rates are principal items of negotiation. However,
liability of a professional is typically capped and these caps are
mostly enforced, usually through a limited liability clause in the
contract, which can be taken recourse of in case of a dispute.
Arbitrators and the courts accept and enforce these clauses
limiting liability.

Payment for construction work

16. What are the usual methods of payment for
construction work? Are there ways for the contractor and
consultants to secure payment or mitigate risks of non-
payment under local law?
Methods of payment
The method of payment is usually provided for in the contract. In
item rate contracts, payments are based on running account bills.
The invoices are submitted by the contractor on the principle of
re-measurement and certification by an independent engineer
before payment by the employer within the specified time.
Engineer, procure and construct (EPC) contracts are more
complex and payments are linked to completion of certain works
or key dates/milestones. In EPC contracts too, the contractor
would raise bills according to key dates/completion of certain
works achieved. Once certified, these bills become interim
payment certificates that then must be paid by the employer.
However, in both forms of contract, the employer or the
independent engineer can, for example:
 Raise issues about delays and about quality of work.
 Deduct liquidated damages for delay.
 Disapprove or reduce some items in the bills.
 Make various adjustments.
Many bills may be returned as disputed and uncertified. In build-
operate-transfer (BOT) projects, the contractor recovers his costs
through the revenues generated by operations. In many contracts,
the operation period is extended to provide compensation to the
BOT contractor if applicable.
Securing payment
While the advances given by the employer are secured by
guarantees provided by the contractor, there are no such similar
contractual guarantees to secure the payments to the contractor.

Subcontractors
17. How do the parties typically manage their
relationships with subcontractors?
Subcontracts are awarded by the contractor according the
structure of the contract. If the whole works can be divided into
packages, the subcontracts are then awarded accordingly for
different packages. These can also be awarded according to the
different specialised jobs or activities to be carried out during the
works.
Subcontractors can either be nominated by the employer, or they
can be proposed by the contractor according to the pre-
qualifications set by the main contract and approved by the
independent engineer or employer. Typically, the nature of the
subcontracts will depend on the nature of the main contract and
they will often be back-to-back with the main contract.
The subcontractor has no privity directly with the principal
employer. However, it is the subcontractor will often try to claim
against the principal employer, particularly if there is no arbitration
clause. In any event, the subcontractor can apply to a court (even
if there is an arbitration clause) to stop payment by the employer
to the contractor for dues of the subcontractor. However, such
orders are passed only in very rare cases where there are no
disputed questions of fact. After the subcontractor has a decree in
his favour, he can attach amounts payable by the employer to the
contractors.
Where there are nominated subcontractors, the question of
liability between the employer and contractor and subcontractor
becomes more complicated.

Licensing
18. What licences and other consents must contractors
and construction professionals have to carry out local
construction work? Are there any specific licensing
requirements for international contractors and
construction professionals?
There are no specific licences and consents required for
construction professionals to work in India. However, a foreign
company working in India must register itself under the
Companies Act 2013 and act under the foreign direct investment
(FDI) guidelines.
19. What licences and other consents must a project
obtain?
A large number of licences and permits are required for a
construction project. Typically, the responsibility of obtaining the
consents is divided between the employer and contractor. The
employer typically obtains permission relating to zoning laws and
environment laws, among others. The contractor must obtain all
permissions necessary for carrying out the works. Additionally,
various registrations are required for taxation purposes.

Projects insurance
20. What types of insurance must be maintained by law?
Are other non-compulsory types of insurance maintained
under contract?
There are no types of insurance that are specifically required by
law for a construction project. However, a construction project
usually has insurance requirements, which are often taken jointly
by the employer or by the employer and contractor. Advance
losses and profit insurance is not common in India.

Labour laws
21. Are there any labour law requirements for hiring (local
and foreign) workers?
India has a large number of labour laws. Many of these laws are
also state specific. Workers are also often hired from labour
contractors and can be engaged as contract labour except in
certain industries (not connected with construction law) where
contract labour is prohibited.
If the workers are hired as permanent employees there are strict
rules for retrenchment and retrenchment compensation. Foreign
workers must have the necessary visas and work permits and the
payment to them must comply with the requirements of the
Reserve Bank of India (RBI).

22. Which labour laws are relevant to projects?

A number of labour laws in India are relevant for construction
projects. The central or federal laws include the:
 Minimum Wages Act 1948.
 Factories Act 1948.
 Industrial Disputes Act 1947.
 Contract Labour (Regulation and Abolition) Act 1970.
Additionally, states may also have their own labour laws, including
provision for minimum wages.

23. Must an employer pay statutory redundancy or other

payments at the end of a project? Are all employees
eligible?
Employers must pay statutory redundancy payments, if the
employees are permanent employees. "Permanent employees"
are employed directly by the employer and are on the employer’s
payroll without a pre-determined time limit. In addition to their
employment, they often receive additional benefits (for example,
subsidised healthcare and contributions to the retirement plan).
However, if they are employed only for the project or taken as
contract labour, these provisions may not apply. Contract labour
is governed by the Contract Labour (Regulation and Abolition) Act
and certain benefits must be provided to such contract labour.
Health and safety
24. Which health and safety laws apply to projects?
Health and safety is a state subject on which individual states can
make laws. However, the Central Government has passed the
Building and Other Construction Workers (Regulation of
Employment and Conditions of Service) Act 1996 to regulate the
employment conditions of building and other construction
workers. This Act applies to all establishments which employ ten
or more workers.
Additionally, other labour laws which also contain health and
safety regulations may be applicable, depending upon the nature
of activities, including the Factories Act 1948 and the Industrial
Disputes Act 1947. Various states also have their own laws
relating to health and safety.

Environmental issues
25. Which local laws regulate projects' effects on the
environment?
There are a number of environment laws which govern
construction projects. Most of these laws are central or federal,
including:
 The Air (Prevention and Control of Pollution) Act 1981, as
amended in 1987. The Air Act was introduced to provide for the
prevention, control and abatement of air pollution in India.
 The Water (Prevention and Control of Pollution) Act
1974. Water Act was introduced to provide for the prevention
and control of water pollution and the maintaining or restoring of
wholesomeness of water. Under section 19 (3) of the said Act
the State Government may, by notification in the Official
Gazette:
  alter any water pollution prevention and control area, whether
by way of extension or reduction; or
 define a new water pollution, prevention and control area, in
which may be merged one or more water pollution, prevention
and control areas, or any part or parts of that area.
 The Environment Protection Act. The Environment Protection
Act was introduced for protection and improvement of
environment and prevention of hazards to human beings, other
living creatures, plants and property. The purpose of the
Environment Protection Act is:
 to co-ordinate the activities of the various regulatory agencies
already in existence;
 to create an authority or authorities with adequate powers for
environmental protection;
 to regulate the discharge of environmental pollutants and the
handling of hazardous substances; and
 speedy response in the event of accidents threatening
environment and punishment to those who endanger human
environment, safety and health.
 The Explosives Act 1884. The Explosives Act was introduced
to regulate the manufacture possession, use and sale of
explosives.
There are other regulations made in addition to these Acts which
may be applicable (for example, for hazardous materials).
Environmental impact assessments (EIAs)
There is an EIA Notification of 2004 under which all projects
above certain minimum criteria must obtain a "no objection" from
the concerned environmental authorities. Various additional
conditions are imposed by the environment authorities while
granting a "no objection" decision, such as a proper Environment
Management Plan, afforestation, protection and preservation of
flora and fauna in the area.
Therefore, in a construction project, the environment authorities
check the safety and advisability of the project from an
environmental stand point. Issues also arise about the use of
forest land for the project or for disposing of waste. The
environmental approval also deals with measures to minimise
environment pollution or hazard (including minimising cutting of
trees or compensatory afforestation). However, many of these
environment approvals are required to be taken by the employer,
while those relating to the actual work are to be taken by the
contractor.
Sustainable development
Environmental approval also considers sustainable development
and, as a result, conditions are often imposed in this regard by the
environmental authorities. This is currently on a case-by-case
basis but there are plans to standardise the process. The courts
have also considered environmental issues from time to time,
particularly relating to sustainable development and the right of
the landowners whose lands have been acquired. A number of
hydroelectric projects have been postponed in view of lack of
proper environmental studies relating to sustainable development.

26. Do new buildings need to meet carbon emissions or

climate change targets?
There are currently no carbon emissions or climate change
targets for new buildings in India.

Prohibiting corrupt practices

27. Are there any rules prohibiting corrupt business
practices and bribery (particularly any rules targeting the
projects sector)? What are the applicable civil or criminal
penalties?
There are various laws which prohibit corrupt business practices
both under criminal common law and also specific law, namely,
the Prevention of Corruption Act 1988. The Companies Act 2013
also contains provisions relating to corrupt practices and there are
also investigating bodies for white collar crimes.
Penalties can be both civil and criminal, depending on the nature
of the act. There is provision for jail, criminal penalties or other
statutory penalties.

Bankruptcy/insolvency
28. What rights do the client and funder have on the
contractor's bankruptcy or insolvency?
Typically, most contracts allow the employer to terminate the
contract upon bankruptcy or insolvency of the contractor and
similarly that of the employer. Insolvency law in India is governed
by the Sick Industrial Companies Act 1985, in which a company
which has eroded its net worth is must go before the Board of
Industrial and Financial Reconstruction (BIFR). There is a winding
up procedure provided under the Companies Act 2013 which
normally goes to the High Court.

PPPs
29. Are public private partnerships (PPPs) common in
local construction projects? If so, which sectors
commonly use PPPs?
PPP projects are quite common, specifically in larger projects.
PPPs are also becoming more common in smaller projects and
there are many cases of PPPs in road and bus stop projects. In
larger projects, including airports, these are very common and
becoming more popular. However, there are many issues which
need to be resolved for PPPs to be successful.

30. What local laws apply to PPPs?

There is no specific legal or statutory framework for PPPs at the
central level. However, a few states (for example, Punjab) have
State Acts that govern construction contracts and have their own
statutory tribunal where disputes are resolved.

31. What is the typical procurement/tender process in a

PPP transaction? Does the government or another body
publish standard forms of PPP project agreement and
related contracts?
There is no typical procurement/tender process in PPP
transactions in India. All government tendering is governed by the
guidelines laid down by the Central Vigilance Commission to
ensure transparency and avoid corrupt practices. Tender
procedures are also guided by the lending agencies such as the
World Bank, the Asian Development Bank (ADB), European
Investment Bank and the Japan International Co-operation
Agency (JICA), among others.
Generally, there are no standard forms for PPP projects.
However, various authorities do have approved formats, which
are regularly amended. For example, the National Highways
Authority of India (NHAI) has its own format which is regularly
updated and amended. This format is approved by the
government authorities. Many other bodies are also developing
formats. However, these are not standard formats.
Dispute resolution
32. Which are the most common formal dispute
resolution methods used? Which courts and arbitration
organisations deal with construction disputes?
The most common formal dispute resolution method in India for
large construction projects is arbitration. Mostly, the arbitration
agreements in India relate to ad hoc arbitration, though
institutional arbitrations are also prevalent. In the absence of an
arbitration clause, the matter goes to court. A small number of
states, such as Punjab, have statutory tribunals to hear such
disputes.
The Indian Arbitration and Conciliation Act 1996 also contains
provisions relating to conciliation, although conciliation is rarely
adopted. However, in many large contracts there is a pre-
arbitration process involving a Dispute Review Board, Dispute
Adjudication Board, an expert body or a mediator who must be
approached before invoking formal arbitrations. In case of courts,
the matters are to be filed in the appropriate court of pecuniary
jurisdiction. In some of the states this is the District Court, while in
the larger states (for example, Delhi, Mumbai, Chennai, Calcutta),
the High Court itself has jurisdiction to hear the original
proceedings.

33. What are the most commonly used alternative dispute

resolution (ADR) methods?
The most common ADR used is a mediator or the Disputes
Review Board. Conciliation is not commonly used. In some cases
matters are referred to an expert body before arbitration can be
invoked.
Tax
34. What are the main tax issues arising on projects?
The following taxes can affect construction projects in India:
 VAT. The transfer of property in goods involved in the execution
of works contract can be taxable under the local state VAT Act,
including an agreement for carrying out for cash or for deferred
payment or other valuable consideration, the building, the
construction, manufacture, the processing, fabrication, erection,
installation, fitting out, improvement, modification, repair or
commissioning of any movable or immovable property.
 Central Sales Tax. Central Sales Tax is payable in case of
inter-state transfer of goods.
 Service Tax. Under section 65B(54) of the Finance Act 2012,
"works contract" means a contract in which the transfer of
property in goods involved in the execution of the contract is
subject to tax as sale of goods and the contract is for the
purpose of carrying out:
 construction;
 erection;
 commissioning;
 installation;
 completion;
 fitting out;
 improvement;
 repair;
 renovation;
 alteration of any building or structure on land; or
 for carrying out any other similar activity or a part thereof in
relation to any building or structure on land.
Section 66E of Finance Act 1994 gives a list of "declared"
services. Section 66E (h) defines the service portion in the
execution of a works contract as a service. This means, in
 composite contracts (that is, contracts involving goods as well
as services), the service portion is chargeable to service tax.
 Import duties or excise. The contractor may have to pay the
import duties and/or excise if no exemption is granted to the
project.
No additional tax is required to be paid to reflect an increase in
the value of land after the completion of the project.
There are various tax concessions and promotion measures that
may be applicable (for example, the Export Import Policy). These
must be checked on a case-by-case basis.

35. Are any methods commonly used to mitigate tax

liability on projects? Are there any tax incentives to carry
out regeneration projects?
There are no commonly used methods for mitigating tax liability
on projects. However, some large projects can be subject to tax
exemption. Certain projects benefit from the Export-Import Policy,
for example, projects funded by the World Bank or the Asian
Development Bank (ADB) or other institutional investors. There
are also some notifications exempting excise duty for certain
categories of projects.
There are currently no tax incentives for regeneration projects.
However, some tax benefits for regeneration projects have been
contemplated.

Other requirements for international contractors

36. Are there any specific requirements that international
contractors or construction professionals must comply
with?
There are no specific requirements that international contractors
or professional contractors must comply with, except for the
registration requirement for foreign companies while working in
India or visa/work permit requirements for individuals.

Reform and trends

37. Are there any proposals to reform construction and
projects law? Are there any new legal or regulatory
trends affecting projects?
Reform proposals
The new government has many new proposals for reform,
including:
 A change in PPP format for certain types of project (for
example, a road project).
 Providing benefits for renewable energy projects.
However, these proposals for reform are currently still in the
planning stage
Objectives of PPPs in E-Governance The objectives of PPPs in e-Governance could include: 
Improved efficiency in the delivery of citizen services or the performance of administrative
procedures;  Expanded access to citizen services and to public information;  Greater
transparency & reduced corruption through improved access to public information;  Improved
quality of service by both measuring and achieving key performance indicators;  Reduced costs
in the delivery of citizen services or the execution of administrative procedures;  The sharing of
key risks between them;  Maximizing Value for Money through reduced costs and lower risks to
the public sector;  Improved competitiveness of the overall governance and economic
framework;  Improved commercial performance in the delivery of citizen services and
execution of public administration, such as achieving levels of cost-recovery specific
performance indicators;  Transfer of technology and improved capacity of the public sector to
better manage public services and administrative procedures 2.5 Complexities in PPPs A PPP is
not a panacea for all the uncertainties & challenge which govern the e-Governance projects. The
following are noted complexities in PPPs. Most of these can be minimized under certain
circumstances and through careful management of the PPP design by the Nodal Agency. This
requires capacity (experience and expertise) to manage the PPP process. Complex Procurement
Process with Associated High Transaction Costs The PPP project must be clearly specified,
 including allocation of risk and clear statement of the service output requirements. The long-
term nature of PPP contracts requires greater consideration and specification of contingencies
in advance. The Bidding and negotiation process is a costly exercise. Transactions advisors and
legal experts will typically be required. Contract Uncertainties PPPs often cover a long-term
period of service provision. Any agreement covering such a long period into the future is
naturally subject to uncertainty, more so in Information Technology. Given that there would be
significant changes in requirements and technologies during the lifetime of the PPP the contract
may need to be modified to reflect the changes. Guidance Notes : Model RFP Templates for
Public Private Partnership Page 20 of 126 This can entail large costs to the public sector and the
benefit of competitive Bidding to determine these costs is usually not available. This issue can
be mitigated by selecting relatively stable projects as PPPs and by specifying in the original
contract terms how future contract variations will be handled and priced. Enforcement and
Monitoring Once it enters the implementation and O&M phases, the success of the PPP from
the public perspective will depend on the ability of the Nodal Agency to monitor performance
against standards and to enforce the terms of the contract. Difficulty in Demonstrating Value for
Money in Advance Ideally, a project should be procured as a PPP on the basis of a clear
demonstration that it provides value for money (VFM) compared with public sector
procurement. However, it is difficult to demonstrate VFM in advance due to uncertainties in
predicting what will happen over the life of the project and due to a lack of information about
comparable previous projects. In India, many projects procured in the e-Governance area,
experience time overruns, and hence it is likely that well-managed private procurements will be
able to complete projects on time. Furthermore, the capacity gap (which includes funds,
managing operations, technology and other resources) is far greater than the Nodal Agency can
meet by itself. In this case, it may sometimes not be a question of public vs. private
procurement, but rather the choice between private procurement or none at all. If this is the
case then the focus should be on making a careful assessment of alternative project options to
be sure that the projects that are selected are the best ones economically and financially

Potential Benefits of Public Private Partnerships

For a detailed discussion on how PPPs can help, go to the PPP Knowledge
Lab .
The financial crisis of 2008 onwards brought about renewed interest in PPP in
both developed and developing countries. Facing constraints on public resources
and fiscal space, while recognizing the importance of investment in infrastructure
to help their economies grow, governments are increasingly turning to the private
sector as an alternative additional source of funding to meet the funding gap.
While recent attention has been focused on fiscal risk, governments look to the
private sector for other reasons:
  Exploring PPPs as a way of introducing private sector technology and
innovation in providing better public services through improved operational
efficiency
 Incentivizing the private sector to deliver projects on time and within
budget
 Imposing budgetary certainty by setting present and the future costs of
infrastructre projects over time
 Utilizing PPPs as a way of developing local private sector capabilities
through joint ventures with large international firms, as well as sub-
contracting opportunities for local firms in areas such as civil works,
electrical works, facilities management, security services, cleaning
services, maintenance services
 Using PPPs as a way of gradually exposing state owned enterprises and
government to increasing levels of private sector participation (especially
foreign) and structuring PPPs in a way so as to ensure transfer of skills
leading to national champions that can run their own operations
professionally and eventually export their competencies by bidding for
projects/ joint ventures
 Creating persification in the economy by making the country more
competitive in terms of its facilitating infrastructure base as well as giving a
boost to its business and industry associated with infrastructure
development (such as construction, equipment, support services)
 Supplementing limited public sector capacities to meet the growing
demand for infrastructure development
 Extracting long-term value-for-money through appropriate risk transfer to
the private sector over the life of the project – from design/ construction to
operations/ maintenance

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Potential Risks of Public Private Partnerships

There are a number of potential risks associated with Public Private
Partnerships:
 Development, bidding and ongoing costs in PPP projects are likely to be
greater than for traditional government procurement processes - the
government should therefore determine whether the greater costs involved
are justified. A number of the PPP and implementation units around the
world have developed methods for analysing these costs and looking at
Value for Money.
 There is a cost attached to debt – While private sector can make it easier
to get finance, finance will only be available where the operating cashflows
of the project company are expected to provide a return on investment
 (i.e., the cost has to be borne either by the customers or the government
through subsidies, etc.)
 Some projects may be easier to finance than others (if there is proven
technology involved and/ or the extent of the private sectors obligations
and liability is clearly identifiable), some projects will generate revenue in
local currency only (eg water projects) while others (eg ports and airports)
will provide currency in dollar or other international currency and so
constraints of local finance markets may have less impact
 Some projects may be more politically or socially challenging to introduce
and implement than others - particularly if there is an existing public sector
workforce that fears being transferred to the private sector, if significant
tariff increases are required to make the project viable, if there are
signficant land or resettlement issues, etc.
 There is no unlimited risk bearing – private firms (and their lenders) will be
cautious about accepting major risks beyond their control, such as
exchange rate risks/risk of existing assets. If they bear these risks then
their price for the service will reflect this. Private firms will also want to
know that the rules of the game are to be respected by government as
regards undertakings to increase tariffs/fair regulation, etc. Private sector
will also expect a significant level of control over operations if it is to accept
significant risks
 Private sector will do what it is paid to do and no more than that – therefore
incentives and performance requirements need to be clearly set out in the
contract. Focus should be on performance requirements that are out-put
based and relatively easy to monitor
 Government responsibility continues – citizens will continue to hold
government accountable for quality of utility services. Government will also
need to retain sufficient expertise, whether the implementing agency and/
or via a regulatory body, to be able to understand the PPP arrangements,
to carry out its own obligations under the PPP agreement and to monitor
performance of the private sector and enforce its obligations
 The private sector is likely to have more expertise and after a short time
have an advantage in the data relating to the project. It is important to
ensure that there are clear and detailed reporting requirements imposed
on the private operator to reduce this potential imbalance
 A clear legal and regulatory framework is crucial to achieving a sustainable
solution (for more, go to legislation and Regulation)
 Given the long-term nature of these projects and the complexity
associated, it is difficult to identify all possible contingencies during project
development and events and issues may arise that were not anticipated in
the documents or by the parties at the time of the contract. It is more likely
than not that the parties will need to renegotiate the contract to
accommodate these contingencies. It is also possible that some of the
 projects may fail or may be terminated prior to the projected term of the
project, for a number of reasons including changes in government policy,
failure by the private operator or the government to perform their
obligations or indeed due to external circumstances such as force majeure.
While some of these issues will be able to be addressed in the PPP
agreement, it is likely that some of them will need to be managed during
the course of the project

Government Support in Financing PPPs

By definition there is always a public component to a PPP. The form that this component takes
will depend on the country and the project and can range from financial support, to indirect or
contingent support, to in kind support (such as provision of land or equipment), to broader
financial mechanisms that can support the country’s PPP program or encourage the financial
markets to lend into projects.
This section considers:
 Funded products
 Contingent Products
 Financial Intermediaries
 Project Development Funds
 European Union Funds

Funded products
The government may decide to provide direct support for the project for example through
subsidies/grants, equity investment and/or debt. These mechanisms are particularly useful where
the project does not in its own merit achieve bankability, financial viability or is otherwise
subject to specific risks that the private investors or lenders are not well placed to manage. In
developing countries where private finance is most needed, these constraints may necessitate
more government support than would be required in more developed countries. Funded support
involves the government committing financial support to a project, such as:
 direct support – in cash or in-kind (e.g. to defray construction costs, to procure land, to
provide assets, to compensate for bid costs or to support major maintenance);
 waiving fees, costs and other payments which would otherwise have to be paid by the
project company to a public sector entity (e.g. authorising tax holidays or a waiver of tax
liability);
 providing financing for the project in the form of loans (including mezzanine debt) or
equity investment (or in the form of viability gap funding); and
  funding shadow tariffs for roads and topping up tariffs to be paid by some or all
consumers (in particular, those least able to pay) say in water and electricity projects to
reduce the demand risk borne by the project company[1].
Few PPP projects are viable without some form of government technical or financial support.
Efficient financing of PPP projects can involve the use of government support, to ensure that the
government bears risks which it can manage better than private investors and to supplement
projects which are economically but not financially viable.

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Contingent Products
The government may choose to provide contingent mechanisms, i.e. where the government is not
providing funding, but is instead taking on certain contingent liabilities, for example providing:
 guarantees, including guarantees of debt, exchange rates, convertibility of local currency,
offtake purchaser obligations, tariff collection, the level of tariffs permitted, the level of
demand for services, termination compensation, etc.;
 indemnities, e.g. against non-payment by state entities, for revenue shortfall, or cost
overruns;
 insurance;
 hedging of project risk, e.g. adverse weather, currency exchange rates, interest rates or
commodity pricing; or
 contingent debt, such as take-out financing (where the project can only obtain short tenor
debt, the government promises to make debt available at a given interest rate at a certain
date in the future) or revenue support (where the government promises to lend money to
the project company to make up for revenue short-falls, enough to satisfy debt-service
obligations).
For example, on the Zagreb-Macelj toll road , the government provided in-kind support in the
form of land and contingent debt drawn down whenever revenues were insufficient to cover debt
service. Thus, lenders were protected, but the risk remained with the equity holders.
The government will want to manage the provision of government support, and in particular any
contingent liabilities created through such support mechanisms. Governments seek a balance
between supporting private infrastructure investment and fiscal prudence.[2] Striking this
balance right will help the government make careful decisions about when to provide public-
money support and manage the government liabilities that arise from such public-money support,
while still being aggressive in encouraging infrastructure investment. Government assessment of
projects receiving such support is doubly important given the tendency of lenders to e less
vigilant in their due diligence when government support is available, since this reduces lender
risk and exposure.
Governments actively managing fiscal risk exposure face challenges associated with gathering
information, creating opportunities for dialogue, analyzing the available information, setting
government policy and creating and enforcing appropriate incentives for those involved. Given
the complexity of these tasks, it is becoming more popular for governments, and in particular
ministries of finance, to create specialist teams to manage fiscal risk arising from contingent
liabilities, in particular those associated with PPP. This is often achieved through debt
management departments, which are already responsible for risk analysis and management. The
government may also consider creating a separate fund to provide guarantees, allowing the
government to regulate better this function and ring fence the associated government liabilities.
For more, see Management of Government Risk.

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Financial Intermediaries
The government may wish to use its support to mobilize private financing (in particular from
local financial markets), where that financing would not otherwise be available for infrastructure
projects. The government may want to mobilize local financial capacity for infrastructure
investment, to mitigate foreign exchange risk (where debt is denominated in a currency different
than revenues), to replace retreating or expensive foreign investment (for example, in the event
of a financial crisis) and/or to provide new opportunities in local financial markets. But local
financial markets may not have the experience, or risk management functions, needed to lend to
some sub-sovereign entities or to private companies on a limited recourse basis.
To overcome these constraints, the government may want to consider the intermediation of debt
from commercial financial markets, creating an intermediary sufficiently skilled and resourced to
mitigate the risks that the financial markets associate with lending to infrastructure projects. To
achieve this, the government may want to use a separate mechanism (the “intermediary”) to
support such activities without creating undue risk for the local financial market, for example,
by:
 using the intermediary’s good credit rating to borrow from the private debt market (e.g.
providing a vehicle for institutional investors who could not invest directly in projects)
then lend these funds to individual entities or projects as local currency private financing
of the right tenor, terms and price for the development of creditworthy, strategic
infrastructure projects;
 providing financial products and services to enhance the credit of the project and thereby
mobilize additional private financing, for example by providing the riskiest tranche of
debt, providing specialist expertise needed to act as lead financier on complex or
structured lending, syndication, credit enhancement, and specialist advisory functions;
and/or
 providing support to finance or reduce the cost or improve the terms of private finance
for key utilities. These entities may need first to learn gradually the ways of the private
financial markets, and the financial markets may need to get comfortable with lending to
infrastructure operators. This mechanism can help slowly graduate such sub-national
entities or state owned enterprises from reliance on public finance to interaction with the
private financial markets.
Current best practice indicates that such intermediaries should be private financial institutions
with commercially oriented private sector governance. Intermediaries meant to create space in an
existing financial market must have commercial incentives aligned to this goal, with
appropriately skilled and experienced staff, and a credit position sufficiently strong to mobilize
financing from the market. Existing private financial institutions with appropriate skills and
capacity can help to perform this function. However, private entities often suffer from conflicts
of interest (e.g. holding positions in the market such that their interests are not aligned with the
role of intermediary) or would be constrained from taking positions in the market due to its role
as intermediary (crowding out vital market capacity). The government may therefore want to
create a new private entity to play this role.
Examples of financial intermediaries developed by Governments are:

India:
India’s Infrastructure Development Finance Company (IDFC)
IDFC was set up in 1997 by the Government of India along with various Indian banks and
financial institutions and IFIs. IDFC’s task was to connect projects and financial institutions to
financial markets and by so doing develop and nurture the creation of a long-term debt market. It
offered loans, equity/quasi equity, advisory, asset management and syndication services and
earned fee based income from advisory services, loan syndication, and asset management
capitalize on its established knowledge base and credibility in the market. IDFC also developed a
project development arm, taking early positions in some project vehicles. By bringing projects
through feasibility, structuring, and presentation to bidders, it generated success/development
fees from the winning bidders.
The agency invested significant efforts in its early years in policy and regulatory framework
changes to facilitate private investment in infrastructure. More bankable infrastructure projects
subsequently emerged. IDFC has successfully leveraged the fact that the Government holds an
equity stake – without compromising on its commercial orientation.
IDFC began operations with a strong capital base of approx US$400 million. Growth was
initially slower than expected. After 6 years of operations, IDFC had a loan portfolio of around
US$550 million and growth accelerated. After 8 years, an IPO in July 2005 introduced new
equity and allowed early investors to realize their gains. An additional US$525 million equity
was raised through an institutional placement in 2007, by which time, the Indian government’s
stake had fallen to 22 %. Other major shareholders now include Khazanah, Barclays and various
Indian institutions.
IIFCL – India Infrastructure Finance Company Limited
India Infrastructure Finance Company Limited (IIFCL) was incorporated on January 5, 2006
under the Companies Act 1956 as a wholly Government owned Company. IIFCL is a dedicated
institution purported to assume an apex role for financing and development of infrastructure
projects in the country. The authorized capital of the Company is Rs. 2,000 crore of which, paid
up capital, at present, is Rs. 2,000 crore. Besides, the resource-raising programme of the
Company would have sovereign support, wherever required.
The Company renders financial assistance through:
 Direct lending to eligible projects
  Refinance to banks and FIs for loans with tenor of five years or more
 Any other method approved by Government of India

Tamil Nadu Urban Development Fund (TNUDF)

An example of a subnational financing intermediary is the Tamil Nadu Urban Development
Fund (TNUDF) , which attracts private finance for on-lending to local governments for
infrastructure projects, and encourages private-sector co-financing of such projects. The TNUDF
is answerable to private and public shareholders, moving investment decisions away from the
normal state decision-making process. However, TNUDF has not mobilized private investment
in the manner anticipated, due mainly to the abundant public, subsidized funding available,
making private finance too expensive and therefore less attractive.[3] See also Smart Lesson

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Project Development Funds

In the UK, arguably one of the most efficient PPP market in the world, advisory costs during
project development average 2.6 per cent of project capital costs. Advisory costs in lesser
developed PPP markets run even higher. The large amount of upfront costs for procuring PPP
projects, in particular the cost of specialist transaction advisers often meets with strong resistance
from government budgeting and expenditure control. But quality advisory services are key to
successful PPP development, and can save millions in the long-run. Therefore, funding,
budgeting and expenditure mechanisms for project development are important to a successful
PPP program, enabling and encouraging government agencies to spend the amounts needed for
high quality project development.
The government may wish to develop a more or less independent project development fund
(PDF), designed to provide funding to grantors for the cost of advisers and other project
development requirements. The PDF may be involved in the standardization of methodology or
documentation, its dissemination and monitoring of the implementation of good practices. It
should provide support for the early phases of project selection, feasibility studies and design of
the financial and commercial structure for the project, through to financial close and possibly
thereafter, to ensure a properly implemented project. The PDF might focus on specific sectors or
projects in a region or nationally, but needs to have a broad scope to address the different forms
of PPP to respond to sector needs. The PDF may provide grant funding, require reimbursement
(for example, through a fee charged to the successful bidder at financial close) with or without
interest, or obtain some other form of compensation (for example, an equity interest in the
project), or some combination thereof, to create a revolving fund. The compensation mechanisms
can be used to incentivize the PDF to support certain types of projects.
Below are some of the project development funds/ facilities developed by governments:

South Africa Project Development Facility

Africa’s Project Development Facility (PDF) is a single-function trading entity, created within
the National Treasury in accordance with the Public Finance Management Act. Its primary
function is to support governmental entities with the transaction costs of PPP procurement. The
PDF collaborates with the Department of Provincial and Local Government’s Municipal Service
Partnerships Unit, provides funding for the preparation of feasibility studies and procurement of
service providers, and may consider funding the costs of procuring the project officer. Support
from the PDF can only be acquired if the project receives support from the National Treasury’s
PPP Unit.
The PDF recovers its disbursed funds either in part or in full as a success fee payable by the
successful bidder at the financial close of the project. The risk of the project not reaching
financial close is taken by the PDF in all cases other than an institutional default.

India
Project Development Fund of IL&FS
India Project Development Fund (IPDF) was introduced by IL&FS towards funding project
development expenses of large infrastructure projects, primarily in surface transport, ports, water
and power infrastructure. IPDF meets all project development costs and takes on the
development risk upto financial closure.
IPDF is the first private equity fund in India for project development funding covering:
 Project Design & Techno-Financial Feasibility
 Environmental, Social & Market Studies
 Establishing Contractual Framework

European Union Funds

European Union (EU) Funds are an important element of European infrastructure finance. The
European Commission makes funds available to EU Member States under either the European
Regional Development Fund, the European Social Fund or the Cohesion Fund. Incorporating EU
Funds into a public-private partnership (PPP) structure poses some challenges. The materials
below provide guidance on how to combine private finance in a PPP structure with EU funds:
 Combining Cohesion and Structural Funds with PPPs in EPEC PPP
Guide, European Expertise Centre (EPEC)
 Poznan Waste-to-Energy Project, Poland Using EU Funds in PPPs Case Study,
European PPP Expertise Centre (EPEC), June 2012
 EU Funds in PPPs - Project Stocktake and Case Studies, European PPP Expertise
Centre (EPEC), June 2012
 Using EU Funds in PPPs - explaining the how and starting the discussion on the
future, European PPP Expertise Centre (EPEC), May 2011