Every potential PPP project, and particularly a multiple-user project, must be evaluated to determine its financial viability. Unless there is a reasonable degree of certainty that a PPP project is financially sustainable, private investors will not be prepared to bid for the rights to develop the project. Investors who inadvertently invest in a non-viable project would soon run into financial difficulties, either in the construction phase of the project or during its operations phase. Consequences for the LGU, of promoting a non-financially viable PPP project include (1) failure to attract any credible bids, (2) failure to achieve financial closure disruption of service to the public, and (3) the possibility of the LGU having to intervene and provide financial support to the project.
For a PPP project to succeed it is essential that the financial evaluation is undertaken properly. When considering an infrastructure project for PPP implementation, the relevant LGU needs to adopt a private sector perspective, and assess the project as a business, rather than as a public service. Only if it is viable as a business will the project be suitable for PPP. The essential purpose of a business is to generate profit; otherwise it will not attract investment.
As financial analysis is so fundamental, the financial prospects of alternative facilities must be considered early in the process of selection of potential PPP projects. In practice, financial analysis will go through several iterations, with the depth of supporting studies growing as the project moves from initial screening through due diligence to the tendering and subsequent contract negotiation phases.
Financial analysis will provide answers to three important questions:
a. Is the project as a business proposition financially viable? That is, are the revenues of the project capable of covering all costs, debt, and generating a reasonable profit to the investors? Only if the answer to this question is definitely "Yes" should the project move to the tendering phase;
b. Is the proposed financing structure robust? Innovative financing techniques are unable to transform the fundamental economics of a business, but it is possible that a poor financial structure can compromise a viable business. In practice the dividing line between financing techniques and financial structure is fine. Oftentimes, PPP projects that encounter financial difficulties are those where the underlying economics were not sound, or have been based on overly optimistic assumptions, and a risky financial structure has been put in place in the hope that this would compensate for the underlying business risks;
c. Is the LGU getting a fair price for the transaction? The profit to the private sector should be reasonable, but it should not be excessive. Any surplus value should be shared between the LGU and consumers, rather than being all captured by the private sector.