The O&M-First Model: Capturing PPP value without private finance
For decades, Public-Private Partnerships (PPPs) have been promoted as a superior way to deliver infrastructure because they encourage whole-of-life thinking.
The traditional story is familiar. By bundling design, construction, financing, operations and maintenance into a single long-term arrangement, PPPs encourage contractors and investors to optimise the asset for its entire lifecycle rather than simply minimising construction cost.
There is truth in that proposition.
But there is also an uncomfortable question that project owners should be asking:
If whole-of-life integration is one of the greatest strengths of the PPP model, why does it require private finance?
The answer is that it often doesn't.
In earlier articles, I argued that many of the benefits traditionally attributed to PPPs can be replicated under owner-funded delivery models. The key PPP value drivers are not debt and equity finance. Rather, they are:
performance-based service payments;
abatements for service failures;
output and performance specifications;
early consideration of operations and maintenance requirements;
lifecycle planning and renewal funding;
incentives that encourage whole-of-life optimisation; and
handback requirements.
None of these mechanisms depends upon private finance.
The challenge is not whether these benefits can be replicated. The challenge is how.
One possible answer is what I call the O&M-First Model.
Why traditional procurement misses the opportunity
Under many traditional procurement models, the operating and maintenance contractor does not become involved until the asset is substantially complete.
By then, most of the important decisions have already been made.
The D&C contractor has determined:
equipment selections;
accessibility arrangements;
maintenance access;
replacement strategies;
building layouts;
control systems; and
redundancy provisions.
These decisions will influence operating costs, maintenance costs, energy efficiency, asset reliability and asset availability for decades.
Yet the party that will ultimately be responsible for operating and maintaining the asset often has little or no input into those decisions.
The result is predictable.
The D&C contractor is generally incentivised to minimise design and construction cost.
The future operator is incentivised to minimise operating and maintenance cost.
Neither party is usually responsible for optimising whole-of-life cost.
The PPP model addresses this problem by bringing O&M considerations into the bidding process.
The question is whether we can replicate this benefit without the expense and complexity of private finance.
A practical alternative
Instead of engaging a D&C contractor and then procuring operations and maintenance later, the Owner could reverse the sequence.
The Owner first procures its long-term O&M contractor.
The Owner and O&M contractor then jointly develop:
service outcomes;
key performance indicators;
availability requirements;
reliability requirements;
energy efficiency targets;
asset condition requirements; and
handback requirements.
These requirements then form part of the performance specification used to procure the D&C contractor.
The result is that the future operator helps define the characteristics of the asset that it will ultimately be required to operate and maintain.
The design is no longer simply optimised for completion.
It is optimised for operations.
"How can the O&M Contractor price an asset that doesn't yet exist?"
This is likely to be the first criticism of the model.
After all, how can an O&M contractor commit to a long-term operations and maintenance price before the asset has been designed?
The answer is that this is exactly what O&M contractors already do when participating in PPP bids.
The O&M contractor does not price an unknown asset.
Instead, it prices an asset that is required to satisfy specified operating and maintainability requirements.
For example, an O&M proposal might assume:
all critical pumps can be removed and replaced without shutting down the facility;
air handling units are accessible without scaffolding;
major plant items have minimum design lives of twenty years;
plant rooms provide specified maintenance clearances; and
major equipment can be replaced without demolition of permanent works.
These requirements become embedded in the performance specification against which the D&C contractor's design is assessed.
As the design develops, the O&M contractor's assumptions become progressively validated.
A development phase could allow refinements to both the design and O&M pricing before final commitment.
What might these requirements look like?
Many performance specifications focus almost exclusively on what the Owner wants the asset to achieve.
The O&M-First Model adds another dimension.
The specification also identifies what the future operator needs in order to achieve those service outcomes efficiently.
Examples might include:
Replace critical pumps without facility shutdown:
Improves asset availability and reduces disruption during major maintenance activities.
Replace AHU filters without scaffolding:
Reduces maintenance cost and improves safety outcomes.
Provide minimum maintenance clearances in plant rooms:
Improves maintainability and reduces lifecycle costs.
Provide monitoring data through the building management system:
Supports predictive maintenance and earlier fault detection.
Provide permanent access systems to roof-mounted equipment:
Improves safety and reduces maintenance costs.
Specify minimum replacement intervals for major plant:
Reduces lifecycle costs and improves long-term reliability.
Allow major equipment to be replaced without demolition of permanent works:
Improves maintainability and reduces future renewal costs.
The significance of these requirements is often overlooked.
Many of the benefits traditionally attributed to PPPs arise not because an SPV exists, but because somebody is forcing these considerations into the design process.
What benefits does the model deliver?
The O&M-First Model can replicate many of the key attributes of a PPP.
It can deliver:
output-based procurement;
whole-of-life optimisation;
performance-based service payments;
maintenance planning;
O&M input into design;
lifecycle integration;
asset condition requirements;
handback obligations; and
long-term accountability for service outcomes.
What it does not deliver is private finance.
That may be a disadvantage in some projects.
For example, it does not provide:
lender oversight;
private debt;
equity at risk;
demand risk transfer; or
lender step-in rights.
But many of today's service-payment PPPs provide little demand risk transfer anyway.
For many projects, the principal value lies elsewhere.
Conclusion
The greatest strength of the PPP model may not be private finance.
It may be the integration of operational thinking into design and construction decision-making.
If that is true, project owners should stop asking whether they can afford private finance and start asking how they can achieve the same operational integration without it.
The O&M-First Model provides one possible answer.
