Holding GPs liable for slack procurement

The language in the €78 billion Portuguese bailout signed by the European Union (EU), the International Monetary Fund (IMF) and Portugal’s caretaker government is subtle, but clear:

“Avoid engaging in any new PPP [public-private partnership] agreement before the completion of the reviews on existing PPPs”. Or:  keep your finger off the trigger until we find out how many PPPs you actually signed.

“Recruit a top-tier international accounting firm to undertake a more detailed study of PPPs […] identify and, where practicable, quantify major contingent liabilities […] payable by the government”. Or: hire somebody politically independent so we can find out exactly how much you will have to pay for these contracts.

And finally: “Assess the feasibility to renegotiate any PPP or concession contract to reduce the government’s financial obligations. All PPPs and concession contracts will be available for these reviews”. Or: start using your leverage with the firms that invested in your PPP programme to prepare them for the possibility of clawing back some money.

Investors should, of course, pay close attention to this last point as it reinforces a growing risk which, for want of a better name, we shall call “complicity” risk. As in: be complicit with investment programmes of dubious fiscal soundness and you run the risk of paying a price for this complicity further down the line.

This phenomenon is by no means unique to Portugal. In neighbouring Spain, investors “complicit” with the country’s over-generous solar programme have now been slapped with retroactive subsidy cuts for their projects. And in the UK, Europe’s most active PPP market, the new coalition government is seeking cost savings from the private finance initiative (PFI), the PPP programme used (or abused, in the new government’s view) by the previous Labour administration to refurbish the UK’s infrastructure.

What the powers that be are saying is that it is your job, as an investor, to assess whether a certain country or government is being competent and fiscally responsible in the procurement of its infrastructure before you commit money. Fail to do that, and don’t come crying if your returns subsequently take an enforced hit.

Back to Portugal. The tiny Iberian nation and its sclerotic economy managed to host Europe’s third-largest PPP market in value terms last year, ahead of far larger economies like France and Germany.

The country successfully procured a €5 billion roads PPP programme in 2008 and 2009 when its overall motorway density was already higher than the European Union average. At the time, there was much sniggering about the usefulness of the new roads. But from an investor perspective, the projects were fairly safe, with no demand risk and decent returns. Now they are being name-checked in the EU/IMF bailout as targets for re-assessment.

Of course, part of the problem with Portugal’s and the UK’s PPP programmes and Spain’s solar industry is not so much that they have grown to be unsustainable, but that they have reached a certain size that, especially during tough times, puts them in direct competition with other sectors of the economy.

It is thought that Portugal needs to pay some €2 billion a year, or 1.24 percent of gross domestic product, to service its PPP commitments between 2014 and 2024. That figure is equivalent to the salary cuts government workers will suffer in 2011.

Victim of success

Spain’s solar market, one of the largest in the world, became a victim of its own success when the country’s cash-strapped government came under pressure from domestic utilities to start paying back the €16 billion-plus “tariff deficit” owed to them for the last 10 years. Since utilities have borne the working capital burden of solar projects, the solar market unsurprisingly became a target.

It goes without saying that neither Portugal’s bailout nor the UK Coalition’s pilot schemes can force investors to take a hit on their contractually agreed PPP returns. But the pressure is on and may conceivably affect investors’ access to future business (i.e., play nice now or in the future you may not find yourself winning as many tenders as you used to).

When future business does come your way, don’t forget you will be held accountable for how responsibly it’s procured.