Great expectations

Sit tight and wait until the worst is over. Many a procuring authority must have come to this conclusion after the global financial crisis steadily obliterated any hope of realising their ambitious infrastructure programmes. But when you are St. Petersburg, a city that has famously withstood a 900-day military siege, you are arguably better equipped than most to take the knocks, dust yourself off and start again.

It’s hard to overstate just how appealing St. Petersburg’s public-private partnership (PPP) pipeline looked before global financial markets nosedived in late 2008. There was the €1.1 billion Pulkovo Airport project, Russia’s first airport PPP; the €5 billion Western High Speed Diameter (WHSD) ring-road; the €1.2 billion Orlovsky Tunnel under the Neva River; and the €1 billion Nadex light rail project.

Then there was the city government’s “best in class” status. St. Petersburg, Russia’s second-largest city and long seen as its most Westernised, had a dedicated PPP law which was much more flexible than the federal government’s concessions law. And while procurement wasn’t flawless due to the city’s inexperience, projects were moving along quite nicely.

But then US investment bank Lehman Brothers collapsed and, one by one, St. Petersburg’s PPP projects began to stall. Austrian developer Strabag, the winner of the €5 billion WHSD ring-road, quickly found that banks were unable to fund the project, forcing the city to start building it from its own balance sheet.

Procurement on Orlovsky Tunnel was halted after the city concluded it did not have enough money in its budget to fund the project. And the Nadex light rail project dropped from view altogether. Only Pulkovo, arguably the strongest of the city’s PPPs, continued procurement, albeit slowly.

When Yuri Molchanov, vice-governor of St. Petersburg, came to London in late 2009 to present the planned €300 million Yanino waste treatment plant – Russia’s first de facto availability-based PPP – the shift in strategy to smaller projects was welcomed by investors.

But it was hard not to look at the size of the audience that awaited Molchanov as a symbol of how the city had fallen off investors’ radars: when city government officials were in London in 2008 to present Pulkovo, they drew an audience of 300 potential  investors; when Molchanov returned in 2009, he drew around a tenth of that number.

SECOND LIFE

It’s somewhat fitting then that St. Petersburg’s PPP comeback began when Pulkovo Airport reached financial close in late April 2010. Even though, at press time, draw-down of funds has yet to occur due to delays in signing off on construction for the project, last year’s financial close was an important milestone.

Pulkovo was Russia’s first ‘true’ PPP to reach financial close, the last of three to close in a week that saw two federal road projects also crossing the finishing line.  But Pulkovo stood tall amongst peers as it did not require any form government debt guarantees to secure its financing, highlighting the strength of St. Petersburg’s star project and giving the city government the beginnings of all-important track record.

Pulkovo’s closing was heard loud and clear by investors and, towards the end of June, a VINCI subsidiary reached commercial close on Orlovsky Tunnel – the only one of an original four interested parties to submit an offer for the project when it was resurrected earlier in 2010.

Just before this issue went to press, a consortium of Greek construction firms including Helector and Aktor signed a 30-year PPP contract with the city government for the Yanino waste plant, Russia’s first PPP in the waste sector and another pathfinder deal for the city.

In addition, a smaller RUB85 billion (€ 2.1 billion; $3 billion) portion of the WHSD – part of the RUB130 billion central stretch of the road – will be built and financed by the private sector. The PPP for this portion has already attracted the attention of three consortia including Samsung; VINCI, PORR, Jan de Nul, Sberbank and several Russian companies; and a third team comprising VTB Capital and Bouygues.

In addition, the 30-year PPP will require the winner to operate the entire RUB212 billion WHSD, including the portions built by the city government.

Oleg Pankratov, head of infrastructure capital & project finance at Russian-based investment VTB Capital, believes St. Petersburg’s strategy for WHSD paid off: “The new PPP is much more interesting for the private sector. A lot of risk has been taken out of the project because the city has already contracted to build the northern and southern sections of the road and there is now a pricing history in place.”

ABUNDANT LIQUIDITY

Encouragingly, Russian banks are also experiencing an uplift, which greatly improves the chances of funding many of the projects that have recently reached commercial close.

“Russian banks are quite aggressive at the moment as there is lots of liquidity around,” highlights Pankratov. That’s good news because international commercial bank involvement in Russian PPPs (outside of the multilateral syndication offered on Pulkovo) presents the challenging issue of currency hedging.

“There is still interest from international banks in Russian PPPs,” Pankratov points out. “But some projects, like the WHSD, will have to be funded in roubles and most international banks cannot do rouble funding. That brings up the question of currency hedging, which could be expensive”.

On the other hand, banks are not the only source of debt: government-guaranteed, inflation-linked infrastructure bonds have already been used to finance the two federal road PPPs that reached financial close last year and could also be used for future projects.

“The idea [behind infrastructure bonds] was old but it took quite a while to implement the procedure. However, infrastructure bonds are now firmly in place and there is a well delineated process to using them,” explains Pankratov.

OBSTACLES

Despite St. Petersburg’s momentum, the way ahead is not without challenges.

For one thing, participating in a nascent PPP programme translates into long procurement periods. As mentioned above, Pulkovo Airport has yet to start construction one year after it reached financial close and VINCI’s Orlovsky Tunnel is also still finalizing its design, one year from commercial close. This puts overall procurement length for many of the city’s projects at about four years.

And while St. Petersburg may not be typically Russian, it’s still a part of Russia. That’s the same Russia that has sunk to 154th out of the 178 countries comprising Transparency International’s corruption ranking and the same Russia that has seen over $20 billion of foreign capital leave the country in the first quarter of the year alone.

But St. Petersburg’s promise is real. And if the city government manages to keep building a successful track record of fully funded PPP deals, this city built on water might just become an island of opportunity for investors willing to dip their toes into the Russian PPP market.

RUSSIAN PPPs: WHAT LIES AHEAD

“There’s a lot of talk on public-private partnerships (PPP) all over the place,” summarises VTB Capital’s Oleg Pankratov, but barring a few exceptions, talk seems to be the key word in that description.

One of the exceptions, though, is set to be a $100 million contract for the maintenance and collection of tolls along the M4 road, another road PPP being planned by the federal government. The upgrade of the Kurumoch airport, in the south-eastern city of Samara, should also be procured via a PPP, to be launched later this year.

Moscow is also showing interest in PPPs, especially for light-rail projects, but a recent change in government might delay implementation of any schemes. Looking forward, there is also talk of procuring a high-speed rail link between Moscow and St. Petersburg as a PPP.