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					     NHS Tayside
NPD Workshop 10 Oct 2007
    Mikko AJ Ramstedt - FPU
    Edward Yescombe - PUK
       Paul Moseley - FPU
              Agenda – am

•   Policy context
•   NPD vs Equity Model
•   Bidding process
•   Evaluation methodology
•   Preparation & Resources
       What is NPD about?

• Securing Expertise

• Maximising VfM

• Stakeholder Transparency
      SG experience of NPD

• 5 projects to date

• Concept & principle deliverable

• Contractual structures bankable
 Context for NPD development

• SFT =
  – Cheaper funding
  – Recycling of profits
  – Stakeholder participation


• Starting point - > NPD
          NPD development

Objectives:
  – Optimum funding structures
  – Transparent incentivisation
  – Increased economies & efficiencies
  – Potential for more defined surplus stream
          SFT development

• Framework

• Scope

• Timetable
          NPD - Next Steps

• NHS Tayside Adult Mental Heath
  Developments Project
• Review of other sectors

• SFT:
  – Scoping -> Development -> Implementation
       1. NPD v. Equity Model
What are the are the areas that it is thought can be
  improved in the PFI equity model?

What is an NPD?
• Non-profit distributing organisation
• Providing economic or social infrastructure
• Funded by debt only
• No equity dividends → capped rate of return
  for investors
• Enhanced corporate governance
          1. NPD v. Equity Model
How could an NPD help to solve the equity model issues?

SG basic criteria for an NPD:
•   At least as good value for money (VfM) as available under the
    equity-based model
•   Minimal disturbance to PFI standard documentation (e.g. same
    risk transfer)
•   Surplus revenues applied for VfM benefit of the Authority[1]
•   NPD’s assets remain off the balance sheet of the Authority (under
    FRS5)

[1]   N.B.: This is a generic term used for the public-sector body which
      signs the Project Agreement.
      1. NPD v. Equity Model
Most of an NPD’s ―building blocks‖ are the
  same as the equity model:
• Project company (SPV)
• Project Agreement with the Authority
• Construction and FM sub-contractors
• Limited-recourse finance (i.e. no
  corporate finance option available)
            1. NPD v. Equity Model
But:

•      Wholly debt-funded, instead of (say) 90% senior debt and 10%
       equity (NPD debt funding likely to be 90% senior debt and 10%
       [higher-risk] junior debt)

•      Surplus cash flow paid to a Charity (e.g. to benefit healthcare in
       Tayside)

•      Project Company controlled by junior lenders (using a nominal
       shareholding which does not pay dividends—N.B.: could be
       CLG)—principle of private-sector management and control. (N.B.
       Junior debt is ―stapled‖ to shares.)

•      Greater transparency and influence over day-to-day operation for
       the public sector through the presence and activities of the
       Independent and Stakeholder Directors
        2. The Bidding Process
•   Substantially similar in both models.
•   But the NPD model is unfamiliar and
    needs careful explanation to bidders at
    all stages of the procurement, including
    pre-OJEU.
•   Financing issues for OJEU:
    – Funding / hedging competition
    – Refinancing / SFT issues
         3. Evaluation Methodology
Financing:
•    To get the best terms for financing, the basic principles for any
     project financing must be observed, e.g.:
    –      Basic familiarity of the model: banks or bondholders do not like too
           much innovation
    –      Risk limitation (―A banker is a man who lends you an umbrella when it
           is not raining‖)
    –      Cash-flow surplus → debt cover ratio

•       Therefore most of the debt likely to be senior debt on terms
        substantially similar to those for standard PFI equity-based
        projects.
•       Roughly 10% of the debt likely to be ―junior‖—higher-risk and
        more expensive than senior debt—new type of financing.
         3. Evaluation Methodology
Two possible models of junior debt:
•   Mezzanine debt:
    –      ―Debt-like‖ structure
    –      Total debt cover ratio (e.g. 1.05x)
    –      Priced in mezzanine debt market

•       Subordinated debt
    –      ―Equity-like‖ structure
    –      No TDCR (i.e. cover 1:1)
    –      Priced akin to equity—but return is capped, unlike equity investment
    –      Used on all deals so far

N.B.: Not the only possibilities, e.g.
•    preference shares
•    one tranche of debt (―blended‖ structure).
       3. Evaluation Methodology
Comparison between models / types of junior debt:
Mezzanine Debt
   –   Lower WACC, but cover ratio requirement may make Unitary
       Charge higher
   –   Payment of surplus revenues to Charity more important
   –   Direct mezzanine lenders’ controls over Project Company

Subordinated debt
   –   Higher WACC, but no cover ratio may mean Unitary Charge is
       lower
   –   No surplus paid to charity in Base Case until ―tail‖ period
   –   ―Thin capitalisation‖ issue
   –   Indirect controls though board membership
  3. Evaluation Methodology

– Evaluating the surplus

– Effect on risk transfer

– Balance-sheet treatment
  4. Resources, early preparation
      and market awareness
– Templates and experience from Argyll &
  Bute and Falkirk schools projects

– Need to prepare detailed NPD structure and
  documentation (including corporate
  constitutional documentation) to be issued to
  bidders as part of ITCD. It is important to
  realise this is not just about a few changes
  to the Project Agreement (which the NPD is
  designed to disturb as little as possible).
              Agenda – pm

•   Reference case
•   Corporate governance
•   Charity
•   Project Agreement
•   Pre OJEU & ITPD review requirements
           5. Reference Case

– Purpose and structure
– Rights and responsibilities of junior lenders:
         » Board control
         » Management of the NPD
–   Subject to checks where there are conflicts
    of interest

N.B.: Too much Authority influence can lead to
   public-sector classification.
                  5. Reference Case

Refinancing
  –   Basic SoPC principle of 50:50 sharing
  –   But
      •   Lenders have little incentive to refinance
      •   If junior loan has prepayment penalties could wipe out any
          gain
  –   Independent Director controls refinancing
      •   Protection for junior lenders against a ―fake‖ refinancing
          –   Agreed tendering and evaluation procedures (―Refinancing
              Protocol‖)
          –   No further refinancing within a year
      6. Corporate Governance


– Corporate v. Project Agreement (―nuclear
  bomb‖) controls
– Appointment and rôles of Stakeholder and
  Independent Directors / size of board
– Conflicts of interest
– Management incentives (possibly different
  approaches during construction and
  operation)
                  7. Charity


•   Existing or specially-formed?

•   Cash flow to charity—annual or at the
    end?
    8. Project Agreement - NPD variant

•    Process & timetable
•    Key changes
    –   Protection of NPD structure
    –   Unitary Charge adjustments
    –   Compensation on termination
    –   Refinancing protocols
    9. Pre OJEU / ITCD requirements

•   SG review procedure

•   Timetable

				
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