Charging for issuing SGs will be relevant to Governments for several reasons:
(i) Through SG pricing, the Government (acting as an insurer) can provide financial coverage for the risks it takes on under the SG. If these risks materialise, the Government will have to meet the SG payment obligations and could fund such calls from the fees earned;
(ii) Pricing will provide incentives for project procuring authorities to consider the costs of SGs and seek other options. For instance, if the Government is to guarantee the obligations of a sub-sovereign entity, the latter should bear this cost. This will incentivise the sub-sovereign to improve its credit standing, internalise its cost within Government, help meet part of the cost of any call on the SG and improve the quality of monitoring;
(iii) The price charged for an SG will be an important determinant of the value for money of the SG. This is principally because the price should cover the fair value of the risks being covered but also because charging can help the Government to cover the administrative costs of implementing and running SGs;
(iv) Charging for an SG can provide the right incentives to the market. The private sector should be made aware that there is a cost related to a guarantee and be incentivised to require it only when absolutely necessary;
(v) Charging for the payments made under an SG call can incentivise the PPP company to restructure its financing package to enable the SG to be reimbursed as soon as possible;
(vi) Charging is required for State aid purposes (see section 3.3 below).
Before issuing SGs, the Government will be faced with a number of key decisions regarding pricing, such as:
(i) Who to charge: although common sense dictates that the beneficiary of the SG should be paying for it, SGs are likely to be borne by the PPP company and eventually charged back to the public procuring authority;
(ii) When to charge: charging for a SG can be made upfront (i.e. at financial close), over the life of the SG (i.e. as a risk margin payable on the guaranteed amount), once calls are made under the SG or as a share of the PPP project upside;
(iii) How much to charge: deciding on the quantum of the SG fee will need to take into account the original motivation for charging and therefore the desire to recover costs, make suitable provision for risks and comply with regulation. It will however be constrained by what the market is prepared to pay for the SG.
Guidance: Charging for SGs is often complex. Pricing for risk according to the expected losses requires specific expertise. Pricing can also have unintended consequences on the behaviour of the parties to the PPP project. Appointing specialised advisers should be considered.