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Q24.

Discuss the advantages and disadvantages of a design, build, finance and


operate contract.

Design, build, finance and operate (DBFO) contracts are being used as part of the Government s
Private Finance Initiative (PFI) for the procurement of infrastructure projects. The success of any
method of procurement is measured by its ability to deliver the promoters objectives with
regards to cost, time and quality. The choice of the right contract by the promoter is instrumental
in motivating another party to help achieve these goals. The Government, faced with a shortage of
funds for infrastructure development and an ever-increasing infrastructure maintenance bill, seeks
to win better value for money under DBFO contracts than seems to be delivered by traditional
contracts.
Under a typical DBFO project, the Government grants a concession to a concession company under
which that company has the right to design, build, finance and operate a particular facility. This
facility may be a road, tunnel, bridge, prison or hospital for example. The concessionaire raises
equity and borrows from banks to fund the design and construction of the project. The
concessionaire then provides a service and receives revenues in the form of tolls and tariffs to
service the debt incurred, cover working and maintenance costs and provide a return for investors.
In some cases, the concessionaire undertakes and charges the public directly for services, the
QEII Bridge at Dartford for example. In others, the concession company undertakes and charges
the Government for services to the public. This is the case for an increasing number of roads,
prisons and hospitals where the Government payments are related to the availability of road lanes,
prison cells or hospital beds. DBOT (design, build, operate and transfer), BOO (build, own and
operate), BOOT (build, own, operate and transfer) schemes are different variations of this type of
contract but all follow the same basic principles.
In this essay, I discuss some of the advantages and disadvantages of DBFO contracts not only to
the promoter but also to the concessionaire.
An important advantage to concessionaires is the business opportunity on offer. DBFO projects
give civil engineering companies the chance to become more entrepreneurial once again in a similar
fashion to that of our ancestors Brunel and Stephenson. There are profits to be made from the
incoming revenues for services provided. Pay is linked to performance and it is in the interests of
concessionaires not to delay the timing of incoming revenues.
There are advantages for the Government as a result of passing whole-life responsibility for a
project to the concessionaire under DBFO contracts.
Significant savings can be made in terms of maintenance and repair costs because the team
responsible for design and construction will also own the completed works. The concessionaire must
bear the cost of maintenance and repair during the operating period and it is in his interests
therefore to design and build with this in mind. DBFO contracts have an advantage over traditional
forms of contract such as the ICE 6 th where the period of defects liability lasts for only twelve
months.
Once the works are completed, responsibility for the operating phase remains with the
concessionaire in the private sector and will be more efficiently managed as a result. The private
sector is more business minded and less beaurocratic than the public sector and the savings due to

this increased efficiency might be lost if responsibility for the operation of the service returned
to the public sector.
There are also advantages for the Government with regards to the funding of infrastructure
projects under DBFO contracts.
The concessionaire funds the initial design and construction of the facility and so the cost is less
to the Government in the short-term. This has the advantage of not impacting on the public sector
borrowing requirement and the Government has no need to raise taxes to fund construction. There
is however concern that this short-term advantage has the potential to be a heavy burden on the
public purse during the later stages of a concession. The cost of borrowing is after all greater in
the private sector, the UK Treasury borrows at an interest rate of 8% compared to 14-18% for
private borrowers. I believe that the extra cost of borrowing will be offset by the greater
efficiencies of the concessionaires and that spreading the payments over the life of a project and
linking them to performance will deliver value for money for the Government.
There does seem to be some debate as to whether a project would cost more if constructed under
a DBFO contract or a traditional based contract. The Highways Agency (HA) claimed that cost
savings of 15% had been achieved by DBFO contracts against the public sector comparator. In
January 1998, the National Audit Office claimed that the HA were using an 8% discount rate,
distorting the figures and reducing the apparent cost. If the Treasury recommended 6% had been
used, some of the successful projects would in fact have cost more than the publicly funded
alternative. The truth is that to measure any comparison is very difficult. DBFO contracts are still
in their infancy and both promoter and concessionaire will benefit if the apparent disadvantages
can be worked on.
One such disadvantage is the fact that the cost of bidding for a DBFO contract is high, in excess
of 5M on the Channel Tunnel Rail Link project. This looks higher still when you consider that
compensation was only 1.5M or 33% of bidding costs. Concessionaires can not afford to bid for
projects and lose too many. The bidding process is also five times longer than a traditional method
of procurement. The high cost and lengthy bidding process are in danger of stalling DBFO projects
completely.
The Government is looking for more certainty in the procurement of projects and is seeking to pass
risks to the concessionaire that typically fuel overspending. Sensible risk sharing with risks being
identified, assessed and priced before deciding who is best placed to manage them, is essential for
DBFO contracts to succeed. Certainly geotechnical risk is best managed by the construction
sponsor. The risk of changes to legislation is best managed by Government. More uncertain risks
such as future traffic flows would in some cases be best shared. It is unlikely that the
Government would get value for money if the concessionaire were asked to price risk over which it
has little or no control. This is obviously to the disadvantage of the promoter because the
concessionaire will give the risk a high price. This in return will have a detrimental effect in the
procurement process. DBFO contracts with the concessionaire and promoter working in partnership
will however place both parties at an advantage.
Sensible risk sharing will have the added benefit of substantial savings in terms of claims. Deciding
who was responsible for a risk event after it has happened is exceedingly costly. There are 120
arbitration hearings a year in this country and the minimum cost to make a claim through the legal
system is 0.25M. It will be to everyones advantage, except of course the lawyers, if DBFO
contracts can contribute towards the industry freeing itself from its dispute ridden past. This
improvement would also be consistent with the recommendations of the Latham report.

In this essay, I have discussed some of the advantages and disadvantages of DBFO contracts to
the concessionaire and the promoter. The concessionaire gains by knowing that profits can be made
from the incoming revenues of services provided and that payment is linked to performance. The
promoter gains by passing whole-life responsibilities to the concessionaire and avoiding the costly
initial outlay for construction of the facility and reducing the expensive maintenance costs. The
cost of bidding for DBFO projects in terms of time and money is a disadvantage to both parties.
Sensible sharing of risk will ensure that both the promoters and concessionaires objectives are
met, the promoter getting value for money and the concessionaire getting paid in return for
providing value for money. Finding the right balance to achieve these goals is not straightforward
however but is the key to the success of DBFO projects.

Q24. Discuss the advantages and disadvantages of a design, build, finance and
operate contract.
Essay Plan

Introduction

Advantage to the concessionaire

Brief history (Need for a contract, why DBFO contracts? breadth of knowledge!)
Introduction to DBFO contracts (how they work)
Introduction to the essay

The business opportunity

Advantage to the Government

Whole life responsibility to concessionaire


Maintenance and repair bill to concessionaire
Increased efficiencies of service provide

Funding: initial outlay for construction by concessionaire


No impact on PSBR
No need to raise taxes
Disadvantage (cost of borrowing in private sector)

Discussion regarding cost comparison between public & private sector funded projects
(depth of knowledge!)

Disadvantage to both parties

Transfer of risk issue

Costly and lengthy bidding process

Sensible sharing of risk to everyones advantage


Additional advantage: savings in terms of claims

Conclusion