1.1.1. The use of bonds to finance PPPs has differed widely among member states. They have been used most extensively in countries with significant private-sector pension schemes having long-term liabilities that need to be matched to long-term assets. This form of funding has been most prevalent in the United Kingdom where bond financing of PPPs has been commonplace since the launch of the UK's Private Finance Initiative in the 1990s. In the UK, bond financing was the dominant financing solution for large projects (>£200 million in capital value) for the last decade.
| UK PPP Financing: Bank vs Bond Execution In the period 1996 to 2009, a total of 663 PPP projects were signed. ■ Of the 48 projects with a capital value ≥ £200 million, 25 were bond-financed (52%) ■ Of the 28 projects with a capital value ≥ £300 million, 18 were bond-financed (64%) ■ Of the 11 projects with a capital value ≥ £500 million, 8 were bond-financed (72%) ■ Of the 12 hospital projects with a capital value ≥ £300 million, 10 were bond-financed (83%) The figures above all refer to the initial financing arrangements for the projects and do not take into account any subsequent refinancings. Source: HM Treasury and Partnerships UK |
1.1.2. Public bond financing has been less prevalent in other countries for a variety of reasons: lack of a deep capital market, resulting in illiquidity in the asset; lack of a large private pension system, resulting in insufficient demand for the asset; a strong local banking market willing to maintain market share through aggressive pricing and terms; and insufficient knowledge of the bond market on the part of both the public sector and private sponsors leading to the perception that the bond execution is "difficult". Privately placed notes, which mimic the essential characteristics of bonds but which are not sold through a public offering have gained headway in the last three to four years, in particular as instruments for refinancing bank debt on established projects. These can be attractive in cases in which the size of the project is insufficient to create trading liquidity, which is required by many traditional bond investors.
1.1.3. The PPP bond market in Europe has been characterized by an extensive use of monoline guarantees (see 1) below) with very few public bonds having been issued without such a guarantee. The main reason for this is that PPP projects typically have a long lead time before financial close during which the commercial terms of the underlying project and the financing terms that flow from the commercial arrangements are negotiated. Unlike banks, traditional institutional bond investors have not historically had in-house capability to carry out the transaction development and negotiation functions; instead, they have relied on the monolines to conduct due diligence and to structure project financings in a secure fashion, as well as to monitor and administer their investments on an on-going basis post-closing. As described below, this reliance has had serious implications for the PPP financing market following the widespread downgrading of the monolines.
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1) These companies are called "monolines" because, although they are legally licensed and organised as insurance companies, they are permitted by law to offer only one form of insurance - financial guarantees - as opposed to other insurance companies which may offer various insurance products and are called "multi-line" insurers.