BALANCING CONTRACTUAL AND RELATIONAL APPROACHES FOR PPP SUCCESS & SUSTAINABILITY Mohan Kumaraswamy Aaron Anvuur Motiar Rahman The University of Hong Kong PPP CONFERENCE HK 2005 1
Presentation Outline � PPP Characteristics & Priorities � Control Mechanisms � RC & PPPs � RC & Sustainable Infrastructure � Research Agenda � Concluding Remarks PPP CONFERENCE HK 2005 2
PPP Projects Characteristics � Mostly natural monopolies � High stakeholder interests � High Uncertainty market, technology, economy, project contextual conditions – � Long-term and so accentuating the uncertainties – � Large requiring huge resource deployment – � Complex multiple interlocking dependencies of various aspects – � Prohibitive transaction costs lengthy and costly bidding process – PPP CONFERENCE HK 2005 3
PPP Projects Priorities � Maximise value capture to society – the reason for the first ‘P’ in PPP � Obtain best quality at lowest possible cost – another name is value for money � Demonstrate probity and accountability � Ensure sustainability of service and the environment PPP CONFERENCE HK 2005 4
Control Mechanisms Approaches to ensure control and cooperation � Market � Hierarchy � Classical Contracting � Trust � Price, Authority & Trust PPP CONFERENCE HK 2005 5
Control Mechanisms Market � Transactions are governed by price and sealed by contracts � Considered suitable when there – are alternative supply sources – are low uncertainties – is low transaction frequency PPP CONFERENCE HK 2005 6
Control Mechanisms Hierarchy � Authority structures control transactions and the allocation of resources � Authority dominates when – there are limited supply sources – there are high uncertainties – requirements are difficult to define – frequent recontracting occurs PPP CONFERENCE HK 2005 7
Control Mechanisms Classical contracting � PPPs share features of both mechanisms, e.g. – many supply alternatives/outlets – high uncertainties � Price and authority are woven together to control PPP project transactions – competitive tendering establishes the right price – authority mechanisms are written into contracts – e.g. contractual adjustment mechanisms, guarantees PPP CONFERENCE HK 2005 8
Control Mechanisms Classical contracting � Manipulative incentive systems designed to discourage opportunism and promote cooperation e.g. liquidated and ascertained damages – � Quality control systems & inspection arrangements e.g. regulatory reviews – � But these incentive/ sanctioning systems are themselves the source of many disputes focus teams on achieving incentives or avoiding punishments – � High transaction costs bidding costs, inspections and monitoring, renegotiations – � Leading to adversarial relationships, a damaging industry reputation, missed opportunities PPP CONFERENCE HK 2005 9
Control Mechanisms Classical contracting � Incentives/ sanctions have limitations in ensuring control and encouraging cooperation � But the public sector relies on these controls – to demonstrate probity and accountability – to demonstrate value for money?? � A need for cooperation & transaction cost efficiency – the role of trust PPP CONFERENCE HK 2005 10
Control Mechanisms Trust � Trust creates norms of obligation (i.e. control) – limiting behaviours, self-regulation � Trust leads to discretionary cooperation � But trust begets trust, distrust begets distrust PPP CONFERENCE HK 2005 11
Control Mechanisms Trust � Trust is shaped by justice judgements – fairness of decision making processes & procedures experienced – fairness of outcomes received – e.g. distribution of risks and rewards and contractual adjustment procedures � Trust is dynamic – always increasing or decreasing � Trust determines the value of guarantees and comfort letters PPP CONFERENCE HK 2005 12
Control Mechanisms Price, Authority and Trust � Relational Contracting (RC) – uses formal (price & authority) and informal (trust) mechanisms � Trust does not replace price and authority – it complements them � When trust is high, there is less need of formal mechanisms – e.g. contracts can be more flexible; incomplete � RC principles underpin partnering and alliancing � RC engenders proactive project delivery – by fostering cooperation among team members with a longer-term mindset (Figure 1) PPP CONFERENCE HK 2005 13
RC & PPPs � Role of RC in PPPs Balancing Classical contracting Approaches (CAs) & Relational contracting Approaches (RAs) in PPPs PPP CONFERENCE HK 2005 14
RC & PPPs RC in PPPs � RC should not make PPP projects cosy – contracts should be clear – must transfer significant performance risks to the private sector – perform better than the PSC – maximise the value capture to society � But there are many challenges PPP CONFERENCE HK 2005 15
RC & PPPs RC in PPPs � Level of profits – needs to be substantial to be passed on as lower costs to end users – but this may undermine public confidence in the regulatory system � Renegotiations – are common in PPPs – but can create the potential for opportunistic behaviour by investors PPP CONFERENCE HK 2005 16
RC & PPPs RC in PPPs � A comprehensive regulatory framework is needed to demonstrate probity & accountability – and value for money? � The need to maximise level of service to society � All these require the exercise of discretion on information-deficient matters – and these decisions cannot be contracted out � There is therefore the need for BALANCE PPP CONFERENCE HK 2005 17
RC & PPPs Balancing CAs & RAs in PPPs � Balance is required in decisions on – e.g. risks transferred & governmental guarantees provided � This balance should be dynamic – e.g. to accommodate changing environmental contingencies � Achieving this balance requires joint efforts – trust & RC approaches � Reviews of PPPs support this proposal – successful PPPs point to the existence of these principles – PPP failures also point to the absence of these principles PPP CONFERENCE HK 2005 18
RC & Sustainable Infrastructure � Sustainability defined � Sustainability Indicators � An RC Driven Approach PPP CONFERENCE HK 2005 19
RC & Sustainable Infrastructure Sustainability Defined � Sustainable Development – the Brundtland Report 1987 – ‘development that meets the needs of the present without compromising the ability of future generations to meet their own needs’ � Sustainable infrastructure – goes beyond green construction PPP CONFERENCE HK 2005 20
RC & Sustainable Infrastructure Sustainability Indicators � Public Health & Safety – including occupational health, safe working systems � Solid Waste Management – recycling, safe disposal systems � Design – innovation, flexibility, design-out waste, � Contractor & suppliers involvement – durability & constructability � Resource utilisation, e.g. – re-usability of moulds & formwork, prefabrication PPP CONFERENCE HK 2005 21
RC & Sustainable Infrastructure An RC Driven Approach? � Inclusion of sustainability related clauses at contract administration levels � Stakeholders sign up to a common sustainability agenda � Trust building in RC relationships results in team working – underpins collaborative decision-making across project interfaces – results in innovation, efficiency, sustainable infrastructure PPP CONFERENCE HK 2005 22
Research Agenda � Assessment Frameworks � Parallel Research Thrusts � Support for Proposal PPP CONFERENCE HK 2005 23
Research Agenda Assessment Frameworks � for Relational and Sustainability performance – qualitative and quantitative assessments � These tools need to be – client-, project- and country-specific � ICT-enabled frameworks and decision- support tools – to address the knowledge sharing & computational dimensions PPP CONFERENCE HK 2005 24
Research Agenda Parallel Research Thrusts � into RC & JRM – e.g. an international survey on selecting potential project partners for RC evaluated the importance of 22 factors comprising 9 technical and 13 relational factors with interesting findings � into the Sustainability Assessment of projects – e.g. a Hong Kong based postal questionnaire survey identified key Sustainability Indicators again with interesting findings � These and other findings will contribute to the proposed framework PPP CONFERENCE HK 2005 25
Research Agenda Support for Proposal � Global Reporting Initiative (GRI) – sustainability performance reported alongside financial performance � Innovative selection methodologies – involving mainly non-price, relational and sustainability criteria � Assessment of performance on technical criteria is now common, e.g. – PASS in Hong Kong – CONQUAS in Singapore PPP CONFERENCE HK 2005 26
Research Agenda Support for Proposal � Assessment of past performance focuses attention – on developing needed capacities – ensures selection of optimal PPP teams � An integrated framework – incorporating relational, technical and sustainability assessment is required – is synergistic, consistent and reliable � Research is ongoing at CICID PPP CONFERENCE HK 2005 27
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