By Oliver Dundo
Developing countries face a significant infrastructure funding gap, which constrains growth and development. These governments appreciate that to meet the Sustainable Development Goals (SDGs) of the developing countries, the participation of the private sector will be required. As a result of this, these countries are developing programs to foster private sector participation in infrastructure investment to help address the funding gap in the sector. Public Private Partnerships (PPPs) arrangements provide an appropriate vehicle to achieve private sector participation and investment to significantly increase the delivery of infrastructure through innovative processes.
A standard PPP process cycle involves a number of phases in which two of the most critical milestones are achieving commercial and thereafter a financial close. As much as getting to commercial close is a great milestone, at this stage the deal is usually far from done and difficult to achieve. There is a lot more to be done between commercial close and financial close (such as the satisfaction of project agreement conditions precedent, the terms and conditions of lenders among other requirements).
Based on unforeseen and therefore unplanned occurrences, a good PPP project is likely to be jeopardized due to inadequate resources beyond achieving commercial closure. Further, unclear commitment from investors – i.e. their credit worthiness – is a definite closing constraint. The said constraints are likely to arise from the fact that the process involved in reaching financial close is usually characterized by considerable uncertainty and significant delays resulting from a number of meetings, in some cases necessitating changes in law, government approval for support measures, and land issues among others. Even with all these, transaction advisors have often been expected to provide ongoing support each step of the way and to do so as part of a fixed price.
It is here that lies the stroke. Having limited control over the many conditions required to achieve financial close and the timings, transaction advisors can quickly end up with cost overruns in their dedication to assist clients reach financial close. This has the potential of substantially threatening the resources and efforts already invested in getting a project to commercial close. Further, excessive attempts at renegotiating contract outcomes – in their favor – can disrupt financial close.
Success fee component is a preferred solution to help address this issue and ensure a contracting authority and the government get adequate support in getting to financial close. It is paid by a successful bidder on achieving financial close.
Legal basis of Success fee in Kenya
Success fee finds its legal basis in Kenya under Section 28 of the PPP Act, 2013 and Regulation 57 of the PPP Regulations, 2014. The PPP Committee may, where it considers it appropriate and in consultation with the PPP Unit, impose a success fee on a transaction to be paid by a successful bidder in accordance with the tender documents. Success fee is payable where the PPP Unit has provided technical or other support services or where it is necessary to defray the costs of transaction advisory services.
Where a success fee is charged, it shall not exceed 0.5% of the contract value of the project or 100% of the transaction advisory service provided for the project, whichever is higher. The manner in which the fee shall be imposed and the amount to be imposed shall be stated explicitly in the tender documents.Where a successful bidder is required to pay a success fee, that bidder shall pay the fee, through the project company, on achieving financial closure of the project. Where a success fee is charged, that fee shall be paid into the Project Facilitation Fund under section 68 of the PPP Act.
PPP expert opinions take on success fee and the controversies surrounding it
David Baxter Sustainable PPP and Development Consultant “success fee can be controversial – must not be seen under any circumstances as a “facilitation” fee.”
Nitin Suri, an Independent Consultant at Deloitte “In India, contracts under the Central Government jurisdiction don’t have these types of clauses. It only contains bidding parameter either in form of Grant or Premium or some other form of revenue mechanism. However, state agencies can have these type of clauses in their agreements to cover transaction costs as well as fees of consultants. Private investors take into consideration these type of clauses before finalizing their price bid”.
Carlos Mondragon Financial Evaluation Senior Manager, Infrastructure Projects at FONADI, “In Mexico there is no law regarding success fee. However, in my experience I have seen that only consultants helping with the PPP tender documents and process do ask for a success fee. In their work proposals, most of the consultants ask for a success fee (fewer times the idea comes from the public sector who is hiring). That’s what they call “incentive”. That money is around 0.5-1.0% of CAPEX, not of the total cost of the project, only capex. And it’s only achieved if the PPP contract is awarded. That amount is “hiden” with the cost of the feasibility studies and advisory services. Technically that % is part of the cost of the consultants, some people argue that those cost make the project more expensive, and yes, they do. In my opinion yes it does make the project more expensive, but it’s a way to incentivize the project award. In most advisory contracts it is required for the company to help socialize the project and also presenting it to the private sector”.
Sharifah Hamzah, Infrastructure PPP and utilities expert, “the PPP projects I worked on did not have a requirement for the successful bidder to make a “success fee” payment. As the Malaysian government has been handling PPP projects for several decades now, they have already developed the necessary relevant expertise, internally, to handle the advisory services. There is hardly any need for them to engage outside expertise to advise them on the tender process, project documents and negotiations. As such they are able to minimise the transactional costs. However, I do understand the need to impose a success fee in jurisdictions which are relatively “new” to the PPP procurement process. They will need to engage very experienced external advisors and this will be costly. The tender process, negotiations and award can be a lengthy process. This is a necessary investment in order to develop their own expertise within their respective PPP units over the years. Thus, in my view, if they need to impose a success fee to defray the transactional costs, then they should, with a view that once they develop their own internal expertise, this should no longer be a requirement. Perhaps it would be better to give some flexibility and leave it to the discretion of the PPP Unit to decide the amount/percentage of the success fee on a case by case basis with certain safeguards and guidelines in place but fix a threshold on the maximum amount they can impose. The requirement under law in Kenya to pay to a PPP Project Facilitation Fund is a good way to build up the Kenyan government’s resources to invest in their PPP unit/team. As I said, some flexibility in the amount should be considered. Ultimately, the successful bidder would have factored this into their pricing and these costs will be passed on to the end user”.
Success fee is necessary to ensure the support provided by transactional advisors on fixed price doesn’t not die down during the period between commercial and financial close. Without this, the appetite of most transaction advisors to offer government the much needed support beyond commercial close is increasingly limited. This can in turn can hinder the likelihood of successfully concluding PPP projects.
Even though our PPP laws leaves it at the discretion of the PPP Committee and PPP Unit, for the purposes of ensuring uninterrupted support from the transaction advisors till financial close, success fee should be considered early enough during the drafting of tender documents.
However, where success fee component is not introduced, government and contracting authority can also adopt a two contractual payment mechanisms for transaction advisory services including a fixed-price component to get to commercial close and a time and expenses component thereafter until financial close is reached. This is easier to plan and budget for.