5.1.1 The cost of long term finance for infrastructure projects has increased significantly whilst at the same time the availability of long term bank debt has diminished. Therefore future PF2 projects will need to find alternative sources of finance, including having recourse to the capital markets. To secure finance from institutional investors it is likely that a project will require a credit enhancement in order to achieve an investment grade rating and injecting higher levels of equity into a project will help achieve this.
5.1.2 Private sector equity comes however at a higher cost than debt and increasing it will increase the overall cost of a project. This can be mitigated however by the public sector injecting equity alongside the private sector. It is recognised too that there are some institutional investors who have an appetite for investing in PF2 projects post construction, for example pension funds. It is against this background that HM Treasury has determined that there should be additional sources of equity invested in PF2 projects: developer, public sector and third party1.
5.1.3 As regards public sector equity, having public sector co-investment in a PF2 project provides additional benefits as follows:
• by having a public sector equity investor in the special purpose vehicle set up to implement the project (the "Company")2 it creates a 'true' long term partnership between the public and the private sector through better alignment of their interests in the one corporate entity. Specifically it will foster a better understanding of perspectives and help create a collaborative approach to managing risk and improving project performance;
• it maximises value for money as the public sector will be able to share in equity returns and gains on sale of equity (responding to a key criticism of the former PFI model) which will facilitate a reduction in the overall cost of using private finance;
• it helps improve transparency as a result of public sector participation in project governance; and
• it will enable a portfolio approach to be taken to the public sector's management of its commercial interests in projects as the equity investment will be managed by a central Government unit.
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1 See "A New Approach To Public Private Partnerships" document at Chapter 2.
2 In this Chapter the special purpose vehicle set up to implement the project is referred to as the Company. However elsewhere in the guidance the Company is referred to as the Contractor.