□ The costs of private investment

The framework for the partnership arrangement should reflect all the costs of delivering the service - costs that should be recovered through improved services and increased efficiency. The involvement of the private sector will comprise costs over and above the public sector cost of achieving the quality and efficiency of the service (e.g., bulk water, wages, chemicals, vehicles). These include:8

• the costs of finance (can be 10-12 per cent more than the public sector - higher for small firms that constitute a greater risk);

• government taxes and duties (customs duties, equipment insurance, vehicle and company registration, corporate income and property taxes);

• 'informal' costs associated with bureaucratic municipalities, and political manipulation;

• transaction costs (the costs of putting the partnership together, from tender through the negotiation of the partnership framework); and

• marketing costs (beyond those covered in transaction costs).

Box 7.13 Advisors in Water Privatisation
Manila, The Philippines

Links to Box
7.14

In January 1997, the government of The Philippines awarded two long-term concession contracts to private consortia giving them the responsibility to operate and expand water and wastewater services in Greater Manila (previously operated by the Metropolitan Waterworks and Sewage System (MWSS)). Regarded as the largest water concession in the world, the service area had a combined population of 11 million and investment needs projected at US$7 billion over the contract period. The government tendered the contract competitively. Bids were invited from consortia that included at least two partners, a local company (owning a majority of the shares) and an international company with experience operating and managing such a large service.

Given the size of the project, seeing it through from the decision to privatise to the regulation of the private operations was an extremely challenging task, one with which none of the government officials involved had any experience. It was therefore decided to hire advisors who could help guide officials through the process. Doing so presented a unique challenge, however: never having undertaken such a project before, the officials concerned had no terms of reference with which to hire advisors, and in order to prepare such terms of reference, they needed another set of advisors for whom they also had no terms of reference. In addition, the advisors had to be selected in a transparent manner and had to be seen as impartial (especially not to be identified with any particular country or national government).

This resulted in a two-step process:

1. selecting advisors to prepare the terms of reference (ToR) for the advisors for the privatisation; and

2. based on those ToR, selecting the advisors for the ultimate privatisation.

Major questions arose over the size and sources of the fees to be paid to the advisors. None of the officials involved had any experience with such an enormous enterprise and therefore had no idea of what the fees should be. The government also had little money to pay the advisors. A decision was made to approach the French government for a grant. It was chosen because most of the companies that had the necessary skills to implement such a project (and that therefore would meet the pre- qualification requirements for the international partner) were French, giving the French government an interest in ensuring that the privatisation moved forward. The resulting US$1 million grant paid for a French engineering firm (with no formal associations with French water companies) to prepare the ToR for the privatisation advisors. The much larger costs of the government's privatisation advisors (many millions of dollars) were to be paid by the successful bidders, with the Philippine government providing a bridge loan to cover the costs as they were incurred.

Ultimately, the International Finance Corporation (IFC) was selected as the privatisation advisor. Unlike the Buenos Aires concession (which involved separate financial and technical advisors), the IFC acted as lead advisor, coordinating the activities of all the engineers, local lawyers, international lawyers, accountants, public relations specialists, economists and other expert advisors. It also bore the overall responsibility for the planning and implementation of the project, working directly with the government officials involved. This structure made it accountable to the government and the citizens affected.

Though it had hired a lead advisor, the Philippine government ensured that at all times it retained control over the process. This was important as the government was the IFC's client and retained ultimate responsibility for ensuring that the transaction met the needs of the public. This was critical, since, if there were any future investigations by the Philippine Congress, the courts or others, the advisors would no longer be involved and the project would need to be defended by the civil servants involved. The government therefore realised that it needed to strike a fine balance, retaining control without dictating everything and disregarding advice from its advisors. The transaction was therefore a partnership that required mutual respect between the government and the advisors.

Source: Dumol, 2000