Abridged Version of Research Report On UK Highway PPPs

RESEARCH REPORT
UNIVERSITY COLLEGE LONDON 2010

The Efficiency of Procurement in Transport Infrastructure PPPs
– The Case of UK Highways
DEVAYAN DEY
UNIVERSITY COLLEGE LONDON
The Efficiency of Procurement in Transport Infrastructure
PPPs – The case of UK Highways
by
DEVAYAN DEY
Bartlett School of Construction Economics and Project Management

University College London
September 2010
ABSTRACT
The aim of this report is to appraise the efficiency of procurement in Highway PPPs in the UK, understand the
causalities, and suggest possible improvements. This research uses an economics-based theoretical framework
aided by current commercial issues to identify ‘implementation gaps’. This is followed by a statistical
investigation on operational efficiency to determine the significance of the identified gaps and to what
extent do they manifest into inefficiency. The focus of the research has been in investigating two very
vital areas in PPP Procurement: tendering process and payment mechanisms.
The research identified key areas of weaknesses and recommended possible solution to strengthen them.
In the process, it has also put forward three introductory models:
• Toll Price Regulation System – A new form of Payment mechanism using concept of partial subsidy.
• Point Based System – Proposal for relocating safety elements from payment mechanism to RFQ.
• Innovation Enhancement Proposal – A regulatory approach to promote efficiency and innovation.
Key Words: Public Private Partnerships, Procurement Economics, Highways, Payment Mechanisms,
Tendering, Project Development.
CONTENTS
Abstract .................................................................................................................................................................. i
Contents ................................................................................................................................................................ii
List of figures ....................................................................................................................................................... iv
List of tables......................................................................................................................................................... iv
List of boxes......................................................................................................................................................... iv
Disambiguation ..................................................................................................................................................... v
List of abbreviations and acronyms ..................................................................................................................... vi
1. Introduction...................................................................................................................................................... 1
1.1. PPPs in Highways – Emergence of DBFOs in the UK ......................................................................... 2
1.2. Research Rationale ................................................................................................................................ 2
1.3. Research Methodology .......................................................................................................................... 3
1.4. Research Outline ................................................................................................................................... 3
1.5. Value of Research.................................................................................................................................. 3
2. Procurement Economics – A Literature Review of PPPs ................................................................................ 4
2.1. Economic Characterization of PPP........................................................................................................ 4
2.2. Theoretical Framework of PPPs ............................................................................................................ 4
2.2.1. Incomplete Contracts and Private Information ......................................................................... 4
2.2.2. Bundling and unbundling .......................................................................................................... 5
2.2.3. Transaction Cost Economics..................................................................................................... 6
2.2.4. Principal Agent Problem ........................................................................................................... 6
2.2.5. Optimum Risk Sharing ............................................................................................................. 7
2.2.6. Whole Life Cycle Costing......................................................................................................... 8
2.3. Description of Highway PPPs ............................................................................................................... 8
2.3.1. Revenues in PPPs:..................................................................................................................... 8
2.3.2. Costs in PPP .............................................................................................................................. 9
2.3.3. Public Benefits ........................................................................................................................11
2.3.4. Cost and Benefit Analysis & VFM Assessment .....................................................................11
2.4. Concluding Remarks ...........................................................................................................................12
3. Procurement through Public Private Partnerships in Highways .................................................................... 14
3.1. Tendering in Highway PPPs ................................................................................................................14
3.1.1. Competitive Dialogue – A Brief .............................................................................................14
3.1.2. UK Highway PPPs - Tendering Process .................................................................................14
3.1.3. Discussion ...............................................................................................................................16
3.2. Payment Mechanisms ..........................................................................................................................17
3.2.1. Congestion Mechanism (Performance Based) ........................................................................17
3.2.2. Lane Availability Mechanism (Performance Based) ..............................................................21
3.2.3. Shadow Toll (Traffic Based)...................................................................................................25
3.2.4. Commentary ............................................................................................................................27
3.2.5. Real tolls and Least Present Value of Revenue ......................................................................28
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4. Operational Assessment ................................................................................................................................. 34
4.1. Safety Performance .............................................................................................................................34
4.2. Innovation and Externality ..................................................................................................................42
5. Conclusions & Recommendations ................................................................................................................. 45
5.1. Research Overview..............................................................................................................................45
5.2. Research Findings ...............................................................................................................................46
5.3. Recommendations ...............................................................................................................................46
References ........................................................................................................................................................... 48
APPENDIX I: Forms of Public Private Partnerships (Source - Deloitte 2006) ................................................... A
APPENDIX II – Safety Operational Performance Assessment Data Set ............................................................ B
APPENDIX III – Structuring Safety Performance in PPPs: Points Based System ............................................. C
APPENDIX IV: Innovation Enhancement Proposal for PPPs – Introductory Concept ...................................... G
APPENDIX V: Equivalent Traffic Flow .............................................................................................................. J
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LIST OF FIGURES
Figure 1 Transport Mode share - passenger transport (DfT 2010b) ___________________________________________ 1

Figure 2 Motor Vehicles licenced by Bodytype in the UK between 2000 and 2009 (DfT 2009) ______________________ 1
Figure 3: Monthly Payment (modified from Briggs & Drewett, Seminar at Warsaw, Poland, 2008) ________________ 21
Figure 4: Safety Adjustment (modified from Briggs & Drewett, Seminar at Warsaw, Poland, 2008) ________________ 21
Figure 5: Relation between the toll prices and K (the power of ‘a’) __________________________________________ 30
Figure 6: Box-plot for Cluster discriminating variable (Equivalent Traffic Fow) _______________________________ 35
Figure 7: Year-wise Weighted Accident Rate Comparison__________________________________________________ 36
Figure 8: Pre-transition Scatter based on year ___________________________________________________________ 36
Figure 9: Post-transition Scatter based on year __________________________________________________________ 36
Figure 10: Accident Vs Traffic Volume (Vehicle KM) _____________________________________________________ 36
Figure 11: Accident Vs Traffic Flow (Vehicle) ___________________________________________________________ 36
Figure 12: Cluster1- Pre and Post 1999 Accident Vs Traffic Volume (100 Million Vehicles KM per year) ___________ 38
Figure 13: Cluster1- Pre and Post 1999 Accident Vs Traffic Flow (Million Vehicles per year) ____________________ 38
Figure 14: Cluster 2- Pre and Post 1999 Accident Vs Traffic Volume (100 Million Vehicles KM per year) __________ 39
Figure 15: Cluster 2- Pre and Post 1999 Accident Vs Traffic Flow (Million Vehicles per year) ___________________ 40
Figure 16: Cluster 3- Pre and Post 1999 Accident Vs Traffic Volume (100 Million Vehicles KM per year) __________ 40
Figure 17: Cluster 3- Pre and Post 1999 Accident Vs Traffic Flow (Million Vehicles per year) ___________________ 41
LIST OF TABLES
Table 1 List of the DBFOs executed in England. (GB, 2010) ________________________________________________ 2

Table 2: Sensitivity Analysis (Simplistic) _________________________________________________________________ 9
Table 3 Probable cost segments in a Highway PPPs ______________________________________________________ 10
LIST OF BOXES
BOX 1: The Framework _____________________________________________________________________________ 13
BOX 2: Competitive Dialogue Procedure _______________________________________________________________ 14
BOX 3: Most Recent Tendering Process in UK Highway DBFO _____________________________________________ 15
BOX 4: Congestion Management Payment (Congestion based Payment Mechanism) ____________________________ 17
BOX 5: Performance Bonus / Performance Adjustment Mechanism (Congestion Based) _________________________ 17
BOX 6: Construction Payment (Congestion based) _______________________________________________________ 19
BOX 7: Safety Adjustment (Congestion based) ___________________________________________________________ 20
BOX 8: Payment Structure (Lane Availability based)______________________________________________________ 22
BOX 9: Condition Adjustment (Lane Availability based) ___________________________________________________ 24
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DISAMBIGUATION
It is necessary to understand the differences between certain terms used in this report in order to be
accurate in interpretation. It is recommended that the reader understands them before proceeding with
the report.
Value for Money (VFM) and Efficiency:

There is a relation, but also a distinct difference between efficiency and value for money. VFM improves
only if greater private sector efficiency results in lower costs to the department or higher benefits to the
taxpayers or both. That is, even if the contracts successfully incentivize greater efficiency in private
sector, it may not lead to value for money unless there is a positive benefit to the public sector or to the
public.
Funding and Financing:

This report uses the words in two separate meanings. Funding refers to the source of revenue to the
private sector (either user toll based or annuity based). Financing refers to the way the private sector
raises capital to execute the project.
Externalities
Externality relates to the spillover effect of an activity, action, investment, effort, innovation on the
subsequent one, and the cost and benefits. Externality is positive, when the spillover effect leads to
improvement in the cost or benefits, and negative when there is deterioration.
Quality of service can be specified, Quality of service can be monitored, Quality of service is contractible:
Quality of service can be specified only when the client knows what leads to a better service. For example, in
an office building the client may know that a temperature of 23 degree centigrade will enhance the
efficiency of executives. Here, the quality of service can be specified. On the contrary, monitoring the
temperature throughout the whole office may not be possible. It may be higher in certain corners and
lower in some. Here, monitoring of the specified quality of service is difficult. Quality of service is contractible only
when the quality of service can be specified as well as monitored economically.
Proxy Elements:
Proxy elements are those parameters that can act as indication of quality of service. In the previous
example, temperature is used as a proxy element with a measure of 23 degrees.
Sharing of risk and allocation of risk:

In this research, these phrases have been used carefully. While allocation refers to complete transfer of a
risk out of many identified risks, sharing refers to distribution of a particular risk but with predetermined
accountability.
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LIST OF ABBREVIATIONS AND ACRONYMS
CapEx : Capital Expenditure

COBA : Cost and Benefit Analysis
DBFO : Design Build Finance Operate
DfT : Department for Transport, United Kingdom
GMR : Guaranteed Minimum Revenue
HA : Highways Agency, United Kingdom
ISOP : Invitation to Submit Outline Proposals
ITT : Invitation to Tender
LPVR : Least Present Value of Revenue
OBS : Observation
OGC : Office of Government Commerce, United Kingdom
OpEx : Operating Expenditure
PBVI : Public Body Validating Innovation
PPB : Provisional Preferred Bidder
PPP : Public Private Partnerships
PQQ : Pre-Qualification Questionnaire
TUBA : Transport User Benefit Appraisal
VFM : Value for Money
WB : World Bank
WLCC : Whole Life Cycle Costing
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1. Introduction
In transport infrastructure, the role of roads is dominant in most of the contemporary economies (WB,
2007; Boarnet and Haughwout, 2000; Banister and Berechman, 2000; Carapetis et. al., 1984). In the UK,
DfT (2010a) reports that road transport has been responsible for 84 percent of freight movements
within UK. In terms of passenger transport, 70 percent of the average number of trips and 83 percent of
the average distance travelled in the UK were on roads (DfT, 2010b).
Figure 1 Transport Mode share - passenger transport (DfT 2010b)
In addition, there is a steady growth of 2 percent in the number of vehicles licensed each year (DfT
2009), indicating growing traffic. High mode share along with growing traffic indicates that road and
highway infrastructure will remain a key investment area in UK’s transport infrastructure.
Figure 2 Motor Vehicles licenced by Body type in the UK between 2000 and 2009 (DfT 2009)
In the past, investment in roads and highways was undermined quite heavily, especially when the need
was even more severe (Clark and Root, 1999). The poor condition of the infrastructure was blamed on
the decade long under-investment under the Conservative Government (Rintala, 2004). Added to that
was the perception that the public sector had efficiency problems in delivery of the public services.
Operation and delivery were plagued with time and cost overruns yielding sub-optimal value for money
(VFM) (GB, 1998). Limitations on public expenditures imposed by the Maastricht Treaty and economic
recessions only worsened the investment situation (Allen, 2001; Hall, 2009).
The search of an integrated solution to these problems led to what we know as Public Private
Partnerships (PPPs), more often accepted as Private Finance Initiative (PFI) in the UK. However, in the
recent years, many have questioned the effectiveness of PPPs, especially in its capacity of delivering
superior VFM (Guardian, 2004; Building, 2008). This report acknowledges the importance of these
The Efficiency of Procurement in Transport Infrastructure PPPs – The Case of UK Highways
questions and focuses on improving the procurement framework of UK highway PPPs in delivering
better VFM.
1.1. PPPs in Highways – Emergence of DBFOs in the UK

While the history of PPPs dates back to 17th century, it has gained popularity in major projects only
during the past two decades. Among the various forms of PPPs (see Appendix I), UK highway sector
took a form that is more commonly known as Design, Build, Finance & Operate (DBFO). DBFO
started as a precursor and transition to motorway tolling, designed to create an operation industry taking
a long-term commercial view (HA, 2008). The DBFO concept was included for consultation in “Paying
for better Motorways: Issues for Discussion” (May 1993). A preliminary note on the principles applying to
DBFO was published in 1994.
Table 1 List of the DBFOs executed in England. (GB, 2010)
Till date, 12 major DBFO roads have reached financial close in the England (excluding those undertaken
under the Scottish Office, Welsh Office and Local Authority Schemes). Highways Agency manages 11 of
them, while Transport for London (TfL) manages the A13 Thames Gateway DBFO.
1.2. Research Rationale

So far, there have been two separate forms of research in PPPs. While one generates numerous valuable
models emerging from economic theories, the other emphasizes on pragmatic aspects like economic /
operational efficiencies, governance, financing, etc. Although both are aimed at improving VFM, there is
a missing link between these two forms of research that suppresses full potential of PPPs. The vital area
of ‘contracts and procurement’ that connects the two realms of theory and practice were left unattended.
Contracts are vital, as they are a major route of channelizing the theoretical concepts into practice.
Unless properly channelized, PPPs may not deliver the expected. To assess the efficiency of contracts
and procurement in PPPs, we need to answer three basic questions: (i) what is the economic framework
for highway PPPs? (ii) to what extent do the existing PPPs conform to this framework? and (iii) under
the current level of conformance, how efficient are PPPs in delivering results? The answers to these
questions will be instrumental in strengthening the procurement framework of PPPs.
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This led to the research aim, which is to appraise the efficiency of procurement of Highway PPPs in the UK,
understand the causalities, and suggest possible improvements in the framework.
1.3. Research Methodology

In UK Highway DBFOs, there has been a paradigm shift in the contractual framework. Over the years,
the payment mechanisms have slowly shifted from demand to performance based i.e. from real and
shadow tolling towards mechanisms like congestion and lane availability. Similar magnitude of shift can
be noticed in the tendering process as well.
Answering the three questions as identified in section 1.2 will help to identify the implementation gaps in the
framework in tandem with the shift.
The causalities of any identified gap will be used to structure the contract in a more effective way. The
research, within its capacity, has put forward solutions to bridge the implementation gap. It is worth
mentioning that the solutions in this research have been designed keeping in mind the commercial issues
that have surfaced in the recent past. This makes them practical, implementable and result oriented.
Thus, the primary methodology adopted in this research is to capture implementation gaps and bridge them by
designing solutions that can improve the VFM aspect in highway PPPs.
1.4. Research Outline

This thesis is structured into five major sections: (1) Introduction (2) Procurement Economics (3)
Procurement through PPPs in Highways (4) Operational Assessment (5) Conclusion and
Recommendations.
Section 2 reviews the existing literature on the economic theories behind the concept of PPPs. The
purpose of this section is to extract necessary theoretical guidelines to appraise the procurement
framework. It also introduces the aspect of cost and benefits in PPPs, thereby exploring the commercial
issues. Section 3 reviews the conformance of the tendering process in PPPs to the framework developed
in Section 2. A similar methodology has been adopted for appraisal of the different payment mechanisms
as well. Section 4 looks into the operational efficiency of the PPPs in areas of safety performances and
innovation. Section 5 summarizes the entire study and consolidates the findings and recommendations.
1.5. Value of Research

This research will strengthen the understanding the procurement and development of highway PPPs
using a theoretical yet practical approach. It introduces a novel methodology for improving procurement
in a way that can align both public and private sector motives. The framework developed in this research
identifies the major considerations for structuring the tendering process and constructing payment
mechanisms. Most importantly, it uses performance evidences to triangulate our observations.
This research will be of interest to a wide range of individuals like central and local governments and
their agencies, consultants, financiers as well as academics.

2. Procurement Economics – A Literature Review of PPPs

There are various arguments as to why governments might undertake PPPs. There is a long history of
publicly procured projects being delayed and turning out to be more expensive than budgeted (Flyvbjerg
et. al., 2003). Transferring these risks to the private sector under a PPP structure and having it to bear the
cost of design and construction overruns is one way in which a PPP can potentially improve VFM in a
public project (Blanc-Brude et. al. 2006, NAO 2003; CIC, 2000; HA, 1997). De Palma (2009) points out
that on a broader perspective, PPP has the potential to induce private sector skills and efficiency in
delivering public projects.
These arguments are derived from various theories and models that have been developed in the past 18
years of PPP economics. The purpose of this section is (i) to understand the models and the underlying
principles of PPPs specific to tendering and payment mechanisms, (ii) to understand the commercial
aspects and (iii) to use these understandings in generating a framework for our research. Throughout this
section, the guiding observations used in framework have been put up in box figures and are denoted by
the acronym ‘OBS’.
2.1. Economic Characterization of PPP

The role of the private sector in public projects is justified only when it adds value, i.e. for PPPs to be
economically superior to the traditional public provision. It should not give rise to costs that exceed the
associated benefits. Most contemporary studies on economic gains in PPP are based on three basic
hypotheses:
• PPP can reduce costs without degrading benefits.

• PPP can improve benefits without increasing costs.
• PPP can do both, i.e. reduce cost and improve benefits.
2.2. Theoretical Framework of PPPs

The foundation of this section is based on The Theory of Incomplete Contracts and Private Information. This will
be key to introducing some of the very basic concepts and terminologies used in this report.
2.2.1. Incomplete Contracts and Private Information

“In principle, a perfectly fashioned complete contract could solve the motivation problem. It would specify precisely what each
party is to do in every possible circumstance and arrange the distribution of the realized costs and benefits in each
contingency, so that each party find it optimal to abide by the contract’s terms” (Milgrom and Roberts, 1992).
However, in practice, not all requisites of a complete contract are satisfied. Bounded Rationality of real
people leads to limited foresight of all probable circumstances. In events of unanticipated circumstances,
parties must find a way to adapt under profit maximizing tendencies, thereby, introducing the possibility
of opportunistic behavior and imperfect commitment. For example, road construction is extremely dependent on
the weather conditions. In event of unexpectedly high rainfall during construction, the construction
company may have to invest heavily in avoiding time overruns. In absence of clauses in favor of the
private sector, the public sector may behave opportunistically by imposing liquidated damages for time
overrun, or by not sharing the cost overruns. On the other hand, in absence of liquidated damages clause
for time overrun, the private sector may behave opportunistically by making no investment in reducing
time overrun.
In addition, the relevance of private information is extremely high in contractual agreements. Often, one of
the parties is ignorant of certain crucial elements prior to the contract, termed as pre-contractual information
asymmetry. This may lead to the problem of adverse selection. For example, there may be cases of strategic

misrepresentation (Flyvbjerg 2008) leading to renegotiations or claims, when the terms in contract are
incomplete or ambiguous to one party due to information asymmetry.
While contemporary literature considers adverse selection to be a consequence of pre-contractual

opportunism (intended), this may not always be the case. For example, the cost calculations by which the
contractor arrives at the bid quotes are often not disclosed to the public sector. In events of inaccurate
estimation of key project parameters due to optimism bias (Flyvbjerg 2005), there may be a reduction in
bid value that results in winner’s curse. Adverse selection manifests, when the contractor does not have the
capacity to handle such inaccuracies and falters in executing the project.
OBS 1: The procurement process must aim towards reducing pre-contractual information asymmetry in
order to avoid adverse selection. This essentially relates to the pre-qualification and tendering process,
where competitiveness of bids must be subject to proper validation of project parameters used in the bid
quote. The private sector’s capacity in executing the project should be assessed. It is also important to
keep the contractual norms clear and unambiguous to reduce opportunism.
Post-contractual information asymmetry is another important aspect that needs to be considered while framing
contracts. E.g., there may be inadequate information to tell whether the terms of agreement have been
honored, or it may be costly to retrieve that information accurately. This opens the possibility of self-
interested behavior, often known as moral hazard. In highway PPPs, this is particularly a problem, when
monitoring the quality of service is difficult. In such cases, explicit incentive contracts may be ideal,
making use of proxy parameters that are easy to measure.
OBS 2: In order to eliminate the problem of moral hazard arising from post contractual information
asymmetry, the quality of service in PPPs must be contractible. Use of explicit incentive contracts may be
ideal when observing and monitoring service is difficult.
However, in certain situations, the outcome may not be representative of the action or investment, and
may be a function of many factors beyond private sector control. Disentangling such factors become
necessary for the contract to be complete.
2.2.2. Bundling and unbundling

Hart (2003) developed the HSV model further (Hart et. al. 1997) to include the case of unbundling
(separate build & operate contracts) and bundling (integrated contract). Hart (2003) considers the
investment of the builder (socially productive or unproductive) as the only parameter, and bases the
analysis on the consideration that the investment is non-verifiable and hence non-contractible. The
tradeoff is quite simple. In bundling, the builder internalizes the externalities, while he does not do so
under unbundling. He further concludes that PPP (bundling) is good where the quality of the service can
be well specified. Unbundling works where ex ante specification of service may not be that accurate.
Valila (2005) expands further on ex ante specification of service in relation to monitoring. This leads to a
different result, but not entirely inconsistent with Hart (2003). He states that although, bundling can lead
to optimal level of quality enhancing improvements, it may also lead to high quality-shedding
investments where the public sector cannot monitor the service quality precisely. Under such
circumstances, unbundling may reduce quality-shedding investments as the builder aims at fulfilling just
the construction contract.
Bennett & Iossa (2006) enhances the Hart (2003) model further by assuming verifiable investments and
adding another variable (investment considerations in operation stage). They conclude that PFI
(bundling) is preferred when (a) more positive is the externality (b) stronger the effects that innovations
have on the residual value of facilities.

Grimsey and Lewis (2007) looked at the issue from whole life cycle costing (WLCC), which bases itself
on similar concept of ‘internalization of externalities’. They concluded bundling to be offering better
incentives for large upfront outlays in construction phase to achieve lower life cycle maintenance cost.
Results of Iossa and Martimort (2008) remain consistent with above.
However in practice, Rintala (2004) found no such WLCC in his case study of University College
London Hospital. He concluded that this was a result of conflicting incentives that had weakened the
case of internalizing externalities.
OBS 3: Incentive-mapping techniques must be introduced in assessing the contracts. Conflicting

incentives can often hold back the project from delivering desired results.
2.2.3. Transaction Cost Economics

TCE considers transaction as a basic unit of analysis in the study of economic organisations, and any
problem posed directly or indirectly as a contracting problem can be usefully investigated by TCE
(Rahman and Kumaraswamy, 2002). TCE recognizes the existence of three categories of transaction -
day-to-day purchasing, buying under long-term contract, and acquisition of "core assets.” Although, all
three categories are highly relevant in PPP appraisal, PPP itself falls under the second category.
TCE makes use of three major variables: frequency, uncertainty, and asset specificity (Williamson and
Masten, 1999). While asset specificity and uncertainty justifies the concept of PPPs as a whole, frequency
determines the strength of incentives for vertical integration. Therefore, in this section, our focus is
primarily on frequency.
Frequency: There will never be a situation in which a firm would want to integrate vertically to bring a
rarely used provision of a good or service in-house. However, the long duration in PPP induces higher
frequency through seasonal or cyclical investment over the entire contractual period. Thus encouraging
the private sector to integrate vertically and maximize efficiency through economies of scale. (Note:
integrating construction with maintenance derives benefits from economies of scope.)
However, the quantification of long duration is a matter of concern. For the private sector, the duration
must be optimum so that the savings due to vertical integration exceeds the cost of vertical integration
itself. While the public sector may have its own views on the contract period, it may be appropriate if the
contractor is allowed to put forward bid quotes based on both (i) its preferred period and (ii) public
sector’s preferred period. This provides the public sector options to choose from and may improve value
for money.
OBS 4: It is appropriate not to predetermine the contract period and let the private sector quote based
on different ranges of contract period and its preferred period. Consequently, the cost savings through
vertical integration may be better reflected in the bid quote and the public sector have options to choose
from.
2.2.4. Principal Agent Problem

According to Jensen (2003), agency theory is a kind of relationship that is a contract in which one or more
persons (the principals) engage another person (the agent) to take actions on behalf of the principals that involve the
delegation of some decision-making authority to the agent. With its basic assumptions of information asymmetry
and goal conflict (Caers et al, 2006), the agent may not always act in the best interests of the principal,
and thus strategic behaviour might emerge (Rui et. al. 2009).

Strategic behavior in PPP projects may manifest in several ways. Take for example a case, where the
DBFO Co may use value engineering to reduce the immediate construction cost. In many of those cases,
there is a possibility that the DBFO Co has undermined the whole life cycle costing approach, which
may result in poor quality and therefore, increased defects on the road. Their solution to the maintenance
problem may be simple: low cost patching of the defects with improved management (without use of
more expensive repairing methods like resealing and strengthening). By this way, they may even be able
to stay within the contract (strategic misconduct). The overall result can thus be reduced bid prices. VFM
comparisons that use techniques in isolation from benefits may consider this to be an improvement.
However, there is a flipside. Increased patching results into increased friction, roughness, ride severity,
and thereby adversely affecting Vehicle Operating Costs (e.g. increased fuel consumption, accelerated
tyre deterioration, accelerated shock absorber deterioration, etc). The extra road-user-costs accumulated
over 30 years may lead to a scenario of lower benefits and higher costs.
OBS 5: Private enterprises may show opportunistic behavior and this may harm public interests by
delivering lower quality of service. The quality of service should be explicitly defined, if the associated
benefits tend to bear even a little negative relation with opportunism.
OBS 6: In some cases, the massive negative impact on the services due to strategic misconduct may not
be observable due its distributed nature over a long period. In such cases, ex ante of implementation, it
becomes necessary to validate whether the innovation/investment has any detrimental effect on the
public benefits (negative externality).
2.2.5. Optimum Risk Sharing

In the very essence of the word ‘partnership’, whenever either the public or the private sector carries all the
risks related to production and supply, there would be no partnership (Valila 2005, Mumford 1998).
Hence, a concession agreement where the public sector carries no risk at all may not be a PPP. Even
when all the criteria above appear to be fulfilled, risk sharing may be withered down considerably by a
government guarantee on the private borrowing to finance the construction of the asset. After all, the
guarantee boils down to the fact that public sector is the ultimate risk carrier of the project (NAO 2009).
Valila (2005) classify risks into external (political, economic, etc) and internal (Construction, operation,
demand, etc). Allocation of these risks are project specific, but often complex. For example, consider the
case of demand risk. On one hand, it is argued that the private sector partner should carry it, as this is the
ultimate way to incentivize the private sector to act in the principal’s interest and promote efficiency, say
by reducing toll prices (incentive compatibility constraint) (Iossa and Martimort, 2008). On the other hand, it is
also argued that public sector should assume the demand risk given the fact that it is largely influenced by
factors under public sector control (agents’ participation constraint) (Valila, 2005). In addition, there may be
cases where even under low toll prices, the demand may not increase significantly. Based on the
arguments, it may be said that optimum sharing of demand risk to both the parties is appropriate.
OBS 7: Contracts must be designed to share the demand risk in highway PPPs, and not complete
allocation to one party.
Dewatripont and Legros (2005) attempts to disentangle the endogenous (internal) and exogenous
(external) risk using economics of regulation under asymmetric information and theory of incomplete
contracts. They conclude that the optimum degree of risk sharing should be such that the contractor’s
marginal gain from bearing the risk should be equal or greater than marginal loss by not bearing the risk.
OBS 8: The contract must be such that the contractor’s marginal gain from bearing the risk should be
equal or greater than marginal loss by not bearing the risk.

Construction risk now has substantial evidence of successfully being passed on to the private sector.
Demand risk has been studied in transport infrastructure PPPs, especially the toll roads. It is now evident
that demand risk should not be subject to complete allocation, but is to be shared by the two parties
based on the nature of the project, although in an accountable fashion.
2.2.6. Whole Life Cycle Costing

Whole Life Cycle Costing (WLCC) is a mathematical method used to form or support a decision and is
employed when deliberating on a selection of options. Selection of options on a rational basis requires
the comparison of different levels of investment at the present time compared with their respective
consequential future costs. For example, the adoption of higher design standards normally lead to higher
initial costs, but may lead to lower future costs of maintenance and renewal.
WLCC takes on another dimension in roads, when it also becomes appropriate to consider ongoing costs
of the road user e.g. vehicle operating costs, time and delay costs, and the costs of road accidents. The
road user costs are central to WLCC in Highways as over the life of a road, road user costs generally far
exceed the costs of construction and maintenance of the road. In fact, for typical roads, road user costs
can represent up to about 80% of the total transport costs over the project life (Bull 1993).
However, the fact that road user costs are extremely difficult to observe and verify restricts them from
being entirely contractible elements in a contract. The private sector may not have any incentive to
internalize the road user costs into their WLCC, in absence of contractibility.
OBS 9: It is extremely necessary to build in appropriate provisions (proxy elements) in the contract that
are representative of road user costs and can incentivize internalization of user costs into the private
sector WLCC model.
Bull (1993) lists road user costs into five major categories: vehicle operating cost, fuel consumption,
spare parts consumption, time-savings, and reduction of accidents. He also examines the key elements
that affect the road user costs. Vertical gradient, curvature, roughness, ride severity, vehicle speed and
road width are found to be the major parameters that affect road user costs. As these physical
characteristics are relatively easy to observe than road user costs like vehicle operating cost and spare
parts cost, the contract may focus on regulating these physical characteristics (proxy elements) as an
indirect way to regulate road user costs.
2.3. Description of Highway PPPs

While this section aims at introducing the basic commercial aspects of a PPP, we have also used this
section to point out the issues that exist in practice.
2.3.1. Revenues in PPPs:

Toll Based:
The earliest form of tolls (real tolls) used the duration of private ownership as the criteria for tender
competitions. During the contract period, the concessionaire is allowed to collect tolls from the users,
after which the asset is transferred to the public authority. In certain parts of the world, owing to political
considerations, shadow tolls emerged. Here, the user does not see the cost, but the public body pays the
private sector according to the usage. However, in both the cases, the demand risk is retained by the
private sector. While low traffic on road was a risk to the private sector, high traffic led to excessive and
unfair profits. Consequently, capped form of tolls called the Least Present Value of Revenue (LPVR)
evolved (Engel, 2010a & 2010b).
Under LPVR, the tender competition is based on the lowest quote of the real revenue that is to be
retrieved through tolls. In this case, the concession period ends as soon as the projects target real
revenue is reached or the time limit is up. In the UK, this form of mechanism can be seen in both the
Severn Bridges. However, the problem is the ever-increasing toll prices irrespective of the prevailing
economic conditions (HoC 2010).
The problem as identified in the Severn bridges is twofold:

• The Severn bridges enjoy natural monopoly, as the alternative route is excessively long and time
consuming.
• The payment mechanism in the Severn bridges is LPVR mechanism, but is not equipped with toll
price regulating provisions.
OBS 10: Public regulations on toll prices are essential in Real Toll based PPPs.
Unitary Payment:
Performance based payment mechanisms like congestion, lane availability, and active management
involve unitary payments subject to bonus/deductions based on the performance. In these cases, the
private sector is shielded from the demand risk and the focus has been shifted to higher efficiency and
accountability of private sector in its performance.
However, these mechanisms may not be ideal for all economies. With the increase in such projects, the
flexibility of government expenditures face crisis due to relatively fixed payments to be made in
successive years. Under economic crisis, the severity of this problem may have exponential impacts on
the entire economy.
2.3.2. Costs in PPP

Financing Cost:
Private sector financing makes use of a combination of equity investment and debt finance (bank loans
and/or bond finance). The equity contribution in UK is generally in the tune of 5% to 20% depending
on the risk profile of the project. Higher the risk, the financiers need more equity to be tied up to the
project. This ensures that the private sector consortium retains an interest in the success of the project,
while also incentivizing the consortium to maximize economic efficiency (Rintala, 2004).
Table 2: Sensitivity Analysis (Simplistic)

SENSITIVITY ANALYSIS: DBFO Cost to Increase in Interest Rate
HYPOTHETICAL PROJECT DATA
DBFO Project Cost 100 Million
Construction Period 3 Years
Debt Finance (85%) 85 Million
Equity Finance (15%) 15 Million
VARIATION
Interest Rate @ 8% @ 9%
Accumulated Interest during Construction 20.40 Million 22.95 Million
Interest as a percentage of project cost 20.40% 22.95%
Increment per percent increase in interest rate 2.55%
It must be noted that the contractual framework has a very important role in the financing aspect.
Stronger performance based mechanisms incentivize the private sector to improve its performance and
deliver high quality public services. However, this also translates to higher probability of fluctuations in
the revenue, and the risk premium increases accordingly (Standard & Poor, 2003). On an average, 1
percent increase in the interest rate can lead to 2.55 percent increase in the interest payable during
construction period, expressed as a percentage of total project cost (see Table 2). This cost is ultimately

borne by the public sector. Hence, it is essential to structure the contracts to optimize VFM while also
reducing fluctuations in revenue, thereby, reducing risk premiums.
OBS 11: It may be appropriate for the public sector to structure procurement of PPPs in a way that does
not affect the revenue stream of the private sector, but can incentivize the private sector to deliver
improved services.
Refinancing is one of the recent innovations in PPPs. It takes place at a time where there is substantial
decrease in project risks. The inflection point in the risk profile is normally during the period of
transition from construction to operation. This enables a lower interest rate as the design and
construction risk of the project is reduced. In UK, the private sector is now allowed to refinance the
project with a mandatory sharing of benefits (GB, 2004 and 2007).
Capital Expenditure:
According to RICS (1986), the capital cost is the total costs to the owner of acquiring an item and bringing it to the
condition where it is capable of performing its intended function. In terms of road transport, the capital cost would
include the cost of acquiring land, design and construction of roads, professional fees, technological
hardware setups like signaling systems, CCTVs, etc (depending on the scope of the project). Normally in
a road PPP, the cost of land acquisition rests with the public sector, while the rest is financed by the
private sector.
Table 3 Probable cost segments in a Highway PPPs

Capital Expenditure Operating Expenditure Other costs4
Bid Phase Operational Phase Public sector
Design and SPS1 development cost Periodic Maintenance2 Consultant Fees
Cost of obtaining Finance Non-Periodic Maintenance3 Bid Management
Legal, advisory and Professional fees Structure Repair/Maintenance Monitoring Cost6
Construction Phase5 Lighting Repair/Maintenance Renegotiation
Structures Hardware7 Maintenance Land Acquisition
Main Carriageway Data Collection Activity
Preliminaries Monitoring Activity
Earthworks Security
Side Roads and Interchanges Insurance premiums
Sign, Marking, Lights and Telecom Taxes (e.g. Service Tax, etc)
Fencing/Barriers HR benefits and increments
Data Coll. and Monitoring Hardware
Statutory Undertakers
Horticulture, Archaeology, etc
Acomm. and Maintenance Compounds
Site Clearance
1 – Service Provision Solution; 2 – As per routine and winter service code, network management manual, other output specification; 3 –
Depending on the unanticipated conditions on road (like requirement of strengthening overlay); 4 – Costs that are not projected in the
contract and are incurred by the public sector; 5 – The items as listed are based on the major design components. They include the cost of
labor, plant, machinery or executive involvement from the private sector consortium; 6 - Monitoring cost as incurred by the public sector in
auditing performance against output specification and thereby, release of payments; 7 – Hardware refers to elements like electronic loops,
CCTVs, vehicle count sensors, etc.
The cost of bidding in a PPP project forms a significant part of the entire capital cost. While all the
bidders may invest significantly in developing proposal, the project is awarded to a single bidder. This
often renders other bidders with substantial amount of sunk cost in form of professional fees, advisory
fees, legal fees, cost of obtaining finance, etc.
10 | Bartlett School of Graduate Studies, University College London

This sunk cost may lead to two different perverse possibilities. On one hand, a risk averse bidder would
be often discouraged from participating in the bid, thereby reducing competition. On the other hand, a
risk taker may be prone to optimism bias and hence, winner’s curse. This may be extremely detrimental for
the project causing delays in time, overrun of costs and even cost of rewriting contracts and rebid.
OBS 12: It is essential that the procurement process in PPPs aim at reducing the sunk cost of the bidders
Operating Expenditure:
Operational cost in relation to road infrastructure may be categorized as running costs and maintenance
costs. The running cost involves operation of the tollbooths and transport hardware like signals, Variable
Message Signs (VMS), cost of monitoring and collecting data to be supplied to the public data, etc. The
maintenance cost includes the cost required to ensure smooth operation e.g. road maintenances,
equipment maintenance, hardware maintenance, etc.
2.3.3. Public Benefits

Roads provide an essential service by allowing mobility, diffusion of goods and people and enhance
nationwide connectivity. When looking at projects in the road infrastructure development, DfT (2004
and 2006) considers four basic parameters to judge the level of benefits achieved from road. The idea is
not only to provide these benefits, but also to constantly improve them in favor of the public (Bull,
1993). Contractual framework plays a vital role in incentivizing such improvements.
The user benefits associated with roads are (as per COBA and TUBA):
• Reduction in user time delay: This aims at reducing the congestion on the roads and thereby, saving
valuable time of the users.
• Reduction in Vehicle operating costs: This aims at reducing the cost of commuting on roads arising from
fuel consumption, vehicle maintenance costs, etc.
• Reduction in Accidents: This values the cost of accidents to the users.
• Reduction in User Charges: User charges may be in form of tolls, parking charges, fares, etc.
OBS 13: Contractual incentives must aim towards constant improvement in the desired benefits.
2.3.4. Cost and Benefit Analysis & VFM Assessment

Discounted Cash Flow and Discount Rate: Virtually all forms of economic evaluation weigh future
against the present. The social time preference discount rate is related to the way people value future benefits
against present sacrifices, whereas the opportunity cost of capital is about alternative investments. The
time preference rate is expected to be lower than the opportunity cost rate.
If lower rates were used as public discount rates, then the opportunity cost of public investment is
generally understated and vice versa. However, many treasury officials prefer a discount rate based on
opportunity cost of capital rather than on social rate of time preference (Taplin et. al. 2005). These rates
are in real terms so that projects are evaluated as if prices will remain constant in future.
The difficulties in selecting a rate have led some governments to establish a uniform or central discount
rate, often set at a relatively high level around 10 percent, to provide a severe test of merit of alternatives.

For example, the Chinese Government’s specification of a real rate of 12 percent for road projects was in
force for over a decade.
In the UK, the basic discount rate is set out to be inflation plus 3.5 percent (GB 2009), which is rather low.
It is argued, unless a lower rate is used, future generations’ benefits will be unduly discounted and their
interests virtually ignored. The basic idea is that 3.5% is made up principally of two elements – the social
time preference for having benefits sooner rather than later, which is put at 1.5%, added to the rate of
per capita growth in the economy. This growth rate is put at 2%, based on a past real growth of 2.1%
per annum in the period 1950 to 1998 (Hanton, 2010).
Cost & Benefit Analysis: In cost and benefit analysis, costs and benefits are discounted to a suitable base
year. The NPV comprises the discounted benefits less the discounted costs. The rate of return is the rate
that gives zero NPV, and the benefit-cost ratio is obtained by expressing the discounted benefits and
associated costs as a ratio to the constrained capital outlay. A project or investment programme will be
accepted, if the rate of return is greater than the predetermined discount rate.
VFM Assessment: VFM assessment of a PFI route against traditional route is conducted by establishing an
alternative business case called Public Sector Comparator. When a Public Sector Comparator is
constructed, the comparator takes into consideration just the costs (Bain 2009, TTF 1999) and not the
level of benefits delivered. Although, it is true that ex ante of operation the benefits are non verifiable, it
must be realised that change in level of benefits can definitely influence the achieved value for money in
a PFI procurement route. Lower level of benefits over a period of 30 years can easily offset the positive
value for money as reported in the PSC.
OBS 14: It is essential to setup a VFM assessment framework that also considers the level of benefits
delivered in the PPPs. Project-specific benchmarks can be established, against which the actual VFM may
be compared each year.
2.4. Concluding Remarks

This section has put up a detailed discussion on various aspects of PPPs based on various literatures. The
emphasis has not been on justifying PPPs, but on the aspects, that procurement of PPPs must abide by.
In the process, it has developed a framework that must be the basis of structuring procurement in PPPs.
However, based on the scope of this research, the literature review was specifically chosen based on
relevance to two aspects of the procurement: Tendering and Payment mechanisms.
The framework that has been generated is summarized in the box below.

BOX 1: THE FRAMEWORK
OBS 1: The procurement process must aim towards reducing pre-contractual information asymmetry in
order to avoid adverse selection. This essentially relates to the pre-qualification and tendering process,
where competitiveness of the bids must be subject to proper validation of project parameters used
in the bid quote. The private sector’s capacity in executing the project should be assessed.
OBS 2: In order to eliminate the problem of moral hazard arising from post contractual information
asymmetry, the quality of service in PPPs must be contractible. Use of explicit incentive contracts may
be ideal when observing and monitoring service is difficult.
OBS 3: Incentive-mapping techniques must be introduced in assessing the contracts. Conflicting

incentives can often hold back the project from delivering desired results.
OBS 4: It is appropriate not to predetermine the contract period and let the private sector quote
based on different ranges of contract period and its preferred period. Consequently, the cost savings
through vertical integration may be better reflected in the bid quote and the public sector have options to
choose from.
OBS 5: Private enterprises may show opportunistic behavior while focusing on profit maximization, and
this may harm public interests. The quality of service should be explicitly defined, if the associated
benefits tend to bear even a little negative relation with opportunism.
OBS 6: In some cases, the massive negative impact on the services due to strategic conduct may not be
observable due its distributed nature over a long period. In such cases, ex ante of implementation, it
becomes necessary to validate whether the innovation/investment has any detrimental effect on the
public benefits (negative externality).
OBS 7: Contracts must be designed to share the demand risk in highway PPPs.
OBS 8: The contract must be such that contractor’s the marginal gain from bearing the risk should be
equal or greater than marginal loss by not bearing the risk.
OBS 9: It is extremely necessary to build in appropriate provisions (proxy elements) in the contract
that are representative of road user costs and can incentivize internalization of user costs into the
private sector WLCC model.
OBS 10: Public regulations on toll prices are essential in Real Toll based PPPs.
OBS 11: It may be appropriate for the public sector to structure procurement of PPPs in a way that does
not affect the revenue stream of the private sector, but can incentivize the private sector to deliver
improved services.
OBS 12: It is essential that the procurement process aim at reducing the sunk cost of the bidders
OBS 13: Contractual incentives must aim towards constant improvement in the benefits.
OBS 14: It is essential to setup a VFM assessment framework that also considers the level of
benefits delivered in the PPPs. Project-specific benchmarks can be established, against which the actual
VFM may be compared each year.

3. Procurement through Public Private Partnerships in Highways

The purpose of this section is to deliver the first level of contractual assessment based on the guidelines
developed in the previous section. Here we shall discuss two key areas: (a) Tendering Procedures and (b)
Payment Mechanism.
3.1. Tendering in Highway PPPs

This section will describe the tendering process used by Highways Agency. Then the guidelines
developed in literature review section will test the completeness of the process.
To begin with, we will provide a brief description of Competitive Dialogue, which forms the basis of
tendering in Highway PPPs.
3.1.1. Competitive Dialogue – A Brief

In March 2004, European Council’s Directive changed the procurement law by introducing the
Competitive Dialogue procedure under Recital 31, Article 1 and Article 29 (Directive 2004/18/EC). The
procedure is only to be used in projects, where it is difficult for the public sector to define the needs at
the outset or to have a complete knowledge of what the private sector can offer. Recital 31 considers
integrated transport infrastructure projects as appropriate for use of Competitive Dialogue.
OGC guidance on Competitive Dialogue procedure was released in January 2006. It is now being used
by most of the agencies under Department of Transport, including the Highways Agency. The main
features of the competitive dialogue procedure (OGC 2006) are:
BOX 2: Competitive Dialogue Procedure
• The public authorities are required to publish a contract notice as descriptive document and NOT
specification, setting out their broader needs to which different solutions may be proposed. The notice
for expressions of interest (EoI) has to be set out in the Official Journal of European Commission as
per law.
• Following the EoI and prequalification procedure, the number of selected candidates for invitation
to dialogue (ItD) may be reduced to three, provided the perceived impact on competition is low.
• Dialogue is allowed with the private sector to identify solutions that best meets the needs and
requirement of the Authority. Dialogue may be conducted in successive stages, with the aim of
reducing the number of solutions/bidders.
• The award is made only on the most economically advantageous tender criteria. The criteria have to be given
relative weighting at the outset. Where it is not possible to do so in advance, importance of criteria in
descending order should be listed and bidders must be informed.
• Post Tender discussions should be fair in the sense that it should not provide the tenderer with
information that distorts competition.
• As per Article 29(3), contracting authorities may reveal solutions or aspects of solutions of other
candidates on condition that they agree to such disclosure. Such disclosure without permission of the
candidate may be in violation of Intellectual Property Rights.
3.1.2. UK Highway PPPs - Tendering Process

The tendering process in the Highway PPPs has undergone significant change and innovation in the past
three years, especially with the tendering of the high profile M25 DBFO project. The process described
in this section is in line with the tendering stages in M25 DBFO and Competitive Dialogue. In addition,
changes from previous practices have been highlighted and rationales that support such changes have
been put forward. The information has been retrieved from online archives of Highways Agency, UK.

BOX 3: Most Recent Tendering Process in UK Highway DBFO
STAGE I - Prequalification
The Agency evaluates Prequalification Questionnaires (PQQ) and selects bidders based on
predetermined parameters with appropriate weightage and defined marking schemes. The
prequalification parameters that are generally taken into consideration are (HA, M25 DBFO, 2008):
Relevant Experience Management Systems Resources

• Operation and maintenance • Certification • Average Workforce
• Construction • Health and Safety • Turnover
• Skills • Enforcement Notices • Litigation
• Specific Experience • Fatal Accidents • Financial and Economic
• PPP standing.
• Raising Finance
• Damages, etc
All respondents who meet the Agency's requirements and score above the total and individual cut-off
scores go through to the next stage.
STAGE II - Invitation to Submit Outline Proposals (ISOP)

The Agency issues an Invitation to Submit Outline Proposals (ISOP) to all the successful bidders in
Prequalification. The ISOP questionnaire is usually accompanied by a document containing relevant
background information about the Project.
The responses to ISOP questionnaire is treated as firm commitments to be taken forward into the
Invitation to Tender (ITT) stage. The Agency evaluates the responses to the ISOP questionnaire against
the following criteria: delivery of the required service to the required standard, processes, supportive
values and behaviors, appropriate resources (human, financial and technical), pricing methodology. The
Agency selects three bidders based on the evaluation of ISOP.
STAGE III - Invitation to Tender (ITT)

Following ISOP, the agency issues full Tender Documents to the three bidders, including complete
contract documentation, illustrative designs for all works, and complete or draft environmental
statements.
Bidders submit comments on the contract during the tender period, followed by a dialogue where the
agency negotiates comments with bidders and issues a revised contract. The bidders now have the liberty
to deliver their bids based on their preferred choice of contract period. Thereafter, bidders submit fully
developed tenders, including technical proposals and provisional pricing for the entire project. During
this period, there is a continuous interaction between the agency and the bidders, whereby the agency can
assess the externality of the bidders’ proposal on long-term public benefits, and comment on the
acceptance of the proposal.
Under the newly adopted procurement strategy of the Highways Agency, the bidders are expected to
submit their bids in two parts. One part shall contain the detailed proposal pointing out the deviation
from the illustrative designs (may be termed as innovations), while the second part is expected to contain
details regarding the innovations with evidences of successful implementation from past projects. This
further helps in effective assessment of the externalities related to any innovation. Finally, the agency
evaluates tenders based on the most economically advantageous tender using the same criteria as the
ISOP stage, and selects the Provisional Preferred Bidder (PPB).

STAGE IV - Financial Close

The Agency and the PPB finalize the DBFO Contract. The Agency awards the DBFO Contract, with
provisional price. The PB runs a financing competition. The provisional pricing is adjusted to reflect only
the outcome of the funding competition. The DBFO Contract is signed, if it has not been signed before
the financing competition.
3.1.3. Discussion
Change in Process
Previously, on all of the Agency's DBFO projects, the process included a Best and Final Offer stage
(BAFO). Under BAFO, after the Agency received and evaluated tenders, it shortlisted two bidders for
further negotiation. Following those negotiations, the shortlisted bidders were asked to confirm their
bids in a best and final offer and selected the provisional preferred bidder on the basis of these BAFOs.
However, this stage has been eliminated in the current process. Under the process discussed above, the
agency shortlists only three bidders based on the prequalification and the ISOP stage. While this
procedure is a significant improvement in line with OBS 12, its reliability on OBS 1 increases
exponentially.
Although, the Prequalification Questionnaire seems to be robust, it does not take into account the
bidder’s performance in the past projects in terms of quality of services. It might be appropriate for the
Highways Agency to contact some of the former clients (both private and public) of the bidders for an
objective assessment of the quality of the services delivered in the past by the bidder. Past projects
executed by the bidder for the Agency is of great importance in this respect. This will help the Agency to
assess any gaps that have existed in the bidders’ commitments and actual performance in the past. In such cases,
the PQQ may ask the bidder to furnish an exhaustive list of their clients during a specific period, say, the
past five years. Submission of client certificates directly by the bidder (prevailing practice) may not be
effective, as the bidder then has the incentive to produce only those certificates that enhances their
credentials.
There are two problems associated with the ISOP stage. Firstly, the nature of the parameters appears to
be subjective, and therefore, there is a risk of not selecting the best three bidders. This is because the
selection is not based on complete assessment of the solutions offered by all. It restricts the complete
potential of PPP to deliver VFM. Secondly, the subjective nature is also unfavorable to the bidders, as
the assessment on processes, behaviors, and pricing methodology are relative and there does not exist
any standard. The subjective assessment provides undesirably high power to the Agency personnel, and
at times may incentivize malpractices within the Agency. The need is to set up an objective evaluation
process in ISOP, or else at least to supplement the bidders with a standard to which the improvements
can be substantiated by the bidders and can be measured.
In the tendering stage, although the Agency provides the bidder with illustrative designs, it may be
appropriate for the Agency to provide the bidders with an illustrative list of cost segments (not costs
itself) within the scope of work. This may be based on Agency’s prior experience in PPPs where the
bidders unintentionally missed out costs. This will help in strengthening OBS1 further and avoid
winner’s curse. It will also demonstrate a collaborative approach from the Highways Agency.
The flexibility in choosing the preferred contract periods for bidding is a change in line with OBS4.
Financing competition post selection of PPB

In past DBFO procurements, bidders have been required to provide with their tenders, documentary
evidence of commitments from financial institutions. However, given the magnitude of the financing
required in highway projects, holding funding competitions post selection of PPB avoids the potential
strain on the financial market of providing commitments for such large amounts for multiple bidders.

This also helps in obtaining the best terms for senior debts as the leverage of PPB increases over
financiers. This is a considerable improvement in line with OBS 12.
Also, ex ante of selection of PPB, bidders are required to submit a funding plan, deliver evidence of the
achievability and realism of the funding plan, and commit to those equity elements of the funding plan
that will come from the Bidder. This delivers OBS 1 quite substantially.
3.2. Payment Mechanisms

In this section, we shall focus on the various payment mechanisms that have been used in the UK
highway PPPs.
3.2.1. Congestion Mechanism (Performance Based)

The payment mechanism in this case can be broken into three broad kinds of payment: Congestion
Management Payment, Safety Adjustments, and Construction Payments. In the following sections, we
will deal with them individually.
Congestion Management Payment
This primary function for the Congestion Management Payment is as following:
BOX 4: Congestion Management Payment (Congestion based Payment Mechanism)

MCP = (GCP, PB, PA)

Where,
MCP = Monthly Congestion Payment
GCP = the Gross Congestion Management Payment for Contract Year n derived
from ‘Base Annual Gross Congestion Management Payment’ and corrected
according to the RPI index of year n.
PB = the Period Congestion Management Payment Bonus in respect of

Carriageway Section s for Payment Period p. The constituent of this has been
explicated in greater details below.
PA = the Period Congestion Management Payment Adjustment in respect of

Carriageway Section s for Payment Period p. The constituent of this has been
explicated in greater details below.
ns = the number of Carriageway Sections on the Project Road
As seen from the above function, the Congestion Management Payment is structured into a primary
component of payment, subject to either adjustment or bonus as per the performance of the project
road. The primary payment is a pre-determined stream of service payments agreed by the DBFO Co and
the public sector before the financial close. The monthly payment starts only after the O & M
commencement date.
BOX 5: Performance Bonus / Performance Adjustment Mechanism (Congestion Based)
PB or PA = f (TPTr, DF or BF, TS, LTS, AS, AF, DC)

Where,
DF or BF = Factor (0 or 1) based on the fulfillment of the condition criteria, which is

primarily based on the condition of the road and auxiliary requirements like
timely submission of reports. This area will be discussed further in the
following sections.
TPTr = the aggregate of the number of PCU Kilometres on each of the Links of the
Carriageway Section s in the equivalent Payment Period on the equivalent day
of the week in each of the four Weeks preceding the Week in which Payment
Period p falls.
TS = Target Speed for Carriageway Section s as specified
LTS = Lower Target Speed for Carriageway Section s as specified
AS = Section Average Speed in respect of Carriageway Section s for Payment

Period p
AF = Number of PCUs recorded on the Relevant Link of Carriageway Section s for

Payment Period p
DC = Deemed Capacity for the Relevant Link of Carriageway Section s.
The payment adjustments or bonus are based on two basic parameters: fulfillment of (i) minimum
performance criteria and (ii) congestion management. A target band is set in the traffic speed between
the Target Speed and Lower Target Speed. Full payment is made on exceeding the Target Speed. The
payment deduction gradually increases as the Average Carriageway Speed reduces towards Lower Target
speed. Payment becomes zero when Average Carriageway Speed is below than the Lower Target Speed.
There are also provisions, which incentivize the DBFO Co for bearing risks. For example, where the
actual traffic exceeds the Deemed Capacity of the road, the DBFO Co is eligible for payment even if the
Average Carriageway Speed is below the Lower Target Speed. Under such circumstances, if the DBFO
Co manages to achieve speed greater than Lower Target Speed, it may be eligible for appropriate bonus
amounts. In addition, if the congestion is caused by an incoming traffic from a non-project road, an
‘excusing factor’ is incorporated accordingly to reduce the target speeds. However, the DBFO Co is
responsible for putting up such issues to the Highway Agency. It must also provide substantial proof to
establish the claim, and demonstrate sufficient effort to aid mitigation of the condition.
This is in line with OBS 2, OBS 8, and OBS 9. However, the use of predetermined target speeds
(absolute values) reduces the incentives in line with OBS 13. In a period of 30 years, there are
possibilities of technological advancement in automobile industry that makes possible achievement of
higher average speeds. In those cases, the DBFO Co may not be inclined in maintaining pace with the
advancement, as there is no change in the targets. Infact, it may lead to degradation of VFM, as the
DBFO Co may be eligible for bonuses without any investment at all. This may be considered as a risk of
obsolescence to the public sector, arising from inappropriate structuring of proxy element in the contract.
Construction Payments
The structure of Construction Payments is very similar to the Congestion Management Payment, and is
structured into a primary component of payment subject to either adjustment or bonus as per the

performance of the project road. The Construction Payment is also made on a monthly basis. This
complete payment is expressed as the following function:
BOX 6: Construction Payment (Congestion based)

CP = (GCP, CPA, CPB)
Where,
CP = Monthly Construction Payment
GCP = the Gross Congestion Management Payment for Contract Year n derived
from ‘Base Annual Gross Congestion Management Payment’ and corrected
according to the RPI index of year n.
TPTr = the aggregate of the number of PCU Kilometres on each of the Links of the
Carriageway Section s in the equivalent Payment Period on the equivalent day
of the week in each of the four Weeks preceding the Week in which Payment
Period p falls
CPA = Construction Payment Adjustment in respect of Carriageway Section s for

Payment Period p.
CPB = Construction Payment Bonus in respect of Carriageway Section s for

Payment Period p.
Ns = the number of Carriageway Sections on the Project Road
CPA or CPB = f (GCP, TPTr, CPDF or CPBF, TS, LTS, AS, AF, DC)
Where,
CPDF / BF = Factor based on the fulfillment of the condition criteria, which is primarily based
on the condition of the road and auxiliary conditions like submission of reports.
TS = Target Speed for Carriageway Section s as specified
LTS = Lower Target Speed for Carriageway Section s as specified
AS = Section Average Speed in respect of Carriageway Section s for Payment Period p
AF = Number of PCUs recorded on the Relevant Link of Carriageway Section s for

Payment Period p
DC = Deemed Capacity for the Relevant Link of Carriageway Section s.
As seen above, the construction payment is linked to the performance in Congestion Management. The
payment is linked to the quality of constructed road through CPDF/CPBF in a limited manner based on
fulfillment of minimum criteria.
The emphasis throughout the payment mechanism is on congestion management and much less on the
quality of the road. This weakens the incentives for higher investment in constructing better quality of
roads, reducing the focus of the DBFO Co in internalizing vehicle operating costs and residual value (OBS
9). Unless the Agency perceives time value of the user more important than long-term vehicle operating
costs, the imbalance in the incentives may need to be rectified through incentive mapping (OBS 3).

Safety Adjustments
The adjustment may be expressed in form of a function:
BOX 7: Safety Adjustment (Congestion based)
SA = f (PRpia, PRP0, CRpia, CRLn, CRL0, CRP0, LLn)
Where,
SA = Safety Adjustment
PRpia = Number of PIAs occurring on the Comparator Roads for Contract Year n.
PRP0 = The average annual Project Road performance for a given period before
commencement of contract (The case will be different for a completely new
route with no previous record)
CRpia = Number of PIAs occurring on the Comparator Roads for Contract Year n.
CRLn = Total length of the Comparator Roads at the SP Date for Contract Year n.
CRL0 = Total length of the dual all purpose Comparator Roads as at the date of
Commencement of contract.
CRP0 = The average annual Comparator Road performance for a given period before
commencement of contract
LLn = The total length of the Project Road on the Service Payment Date for
Contract Year n.
As seen above, Comparison of the DBFO road to that of a Comparator Road forms the basis of safety
adjustments. The parameter for comparison is the absolute value of the Personal Injury Accident (PIA)
occurring on the two set of roads. Differences between DBFO Road and Comparator Road PIAs over a
certain range yield a bonus or a deduction accordingly. The bonus and deductions are capped for any
differences over a specified range.
However, in this case, the use of comparator road incentivizes the DBFO Co to perform just better than
the public sector, even if it is capable of performing far better. This leads to partial fulfillment of OBS
13.

Payment Structure Diagram
Figure 3: Monthly Payment (modified from Briggs & Drewett, Seminar at Warsaw, Poland, 2008)
Figure 4: Safety Adjustment (modified from Briggs & Drewett, Seminar at Warsaw, Poland, 2008)
3.2.2. Lane Availability Mechanism (Performance Based)

Lane Availability (LA) is the most recent form of payment mechanism implemented. As opposed to the
Congestion mechanism, LA uses a compact Gross Monthly Payment with various forms of
performance-based adjustments structured around it.

The Core Payment

One of the main features of this payment is the fact that it allows phase-wise commissioning of the
project that is trafficable and release of payments accordingly. This has been quite helpful for the
consortium to maintain the cash flow. LA appears to be especially useful for projects that involve less
new route construction and more segregated sectional improvements like widening. The Gross Monthly
Payment on any month ‘m’ of year ‘n’ (GMPm, n) will depend upon the status different parts of the
project and usability. The payments are increased (step up) on attaining the Completion Certificate and
then on issue of Permission to Use. It is determined by the following formulae:
BOX 8: Payment Structure (Lane Availability based)
s =7
 Days s ,c Dayss , p y = NPCs  Days pc , y 
GMPm , 0 = Basem + ∑ SUC s × + SUPs × + ∑  TMPCAs , y × 
s =1  Daysm Daysm y =1  Daysm 
GMPm, n = GMPm ,0 × INDEX n,1

Where:
GMPm ,0 = Gross Monthly Payment as agreed in the contract before indexation
Basem = the base payment for Monthm
SUCs = the Relevant Monthly CC Step Up Amount payable to the DBFO Co for the Upgraded Section
“s” upon the issue of a Completion Certificate in respect of that Upgraded Section “s”.
SUPs = the Relevant Monthly PTU Step Up Amount payable to the DBFO Co for the Upgraded
Section “s” upon the issue of a Permit to Use in respect of that Upgraded Section “s”.
Dayss,c = the number of days in Monthm after (but including) the date of issue of the Completion
Certificate applicable to Upgraded Section“s”
Dayss,p = the number of days in Monthm after (but including) the date of issue of the Permit to Use
applicable to Upgraded Section“s”
Dayspc,y = the number of days in Monthm after (but including) the date of the occurrence of a Qualifying
Traffic Management Phase Change Event “y” applicable to Upgraded Section “s”.
TMPCAs,y = the Qualifying Traffic Management Phase Change Amount payable to the DBFO Co upon
the occurrence of a Qualifying Traffic Management Phase Change “y” in respect of Upgraded Section
“s”.
The Net Monthly Payment on any month ‘m’ of year ‘n’ (NMPm,i) is determined by the following
formulae.
NMPm,n = GMPm,n – MAm-1
Where,
MAm-1 = Monthly Adjustments in the previous month ‘m-1’ of a particular year.
The Monthly Adjustments for any month M is in accordance with the following formulae:
MAm = [ToDCAm + CAm − ARPMAm − SPAFACTORn * + ECAm − ACIAm ]× INDEX n , 2

*Note that SPAFACTORm is incorporated into the payment once at the end of every yearly cycle, based
on the performance of the entire year.
where:
ToDCAm = the Total Monthly Delay Cost Adjustment for Monthm.
CAm = the Condition Adjustment for Monthm.
ARPMAm = the Applicable Route Performance Measure Adjustment for Monthm
ECAm = the Exceptional Circumstances Adjustment for Monthm
ACIAm = the Applicable Monthly Critical Incidence Adjustment for Monthm-
SPAFACTORn = the Applicable Yearly Safety Performance Adjustment for Yearn.
INDEXn,2 = the indexation figure for Contract Yearn.
ARPMAm, SPAFACTORm and ACIAm can be either positive (superior performance) or negative (inferior
performance) and will act to increase the amount of MAm when negative and decrease the amount of
MAm when positive, through the operation of the above formula.
Adjustments
In this section, we have made a qualitative effort in explaining the basis of each of these adjustments.
The emphasis has been on condensed explanations as detailing each of the elements is beyond the scope
of this paper. However, we have tried to include every necessary intricacy.
Delay Cost, Exceptional Circumstances and Critical Incidence Adjustments:

The rationale of delay cost adjustment is to minimize lane closure in any section of the road. In events of
lane closure, the mechanism deducts costs of the ‘delay to the users’ from the Gross Monthly Payment
of the DBFO Co.
Exceptional circumstances use a similar methodology to assess any delay caused by non-fulfillment of
obligations by the DBFO Co. Note that Delay cost adjustments are based on the performance, while
exceptional circumstances adjustments are based on contractual obligations of the DBFO Co in reducing
inconvenience to the users. Critical Incident adjustment is a provision that follows a similar mechanism
as well. However, the purpose is to offset any delay cost adjustment triggered by a critical incident
beyond the control of DBFO Co, while furthering deductions for any negligence of the DBFO Co that
led to the critical incident.
The lanes on the project road are usually divided into sections, which are monitored daily over 96
periods of 15 minutes each. To quantify the monetary value of the delay in events of lane closure, the
mechanism uses a mathematical relation between total vehicle delays, economic cost per vehicle hour,
multiplied by an economic cost factor subject to conditions.
The calculation of total vehicle delay is based on a comparison between the expected travel time under
normal and lane closure conditions aided by expected hourly volume of traffic for each period p. Any
delay originating from traffic over the normal capacity is also taken into account for the purpose of a fair
calculation.

The DBFO Co is relieved from any delay cost adjustment in events where the delay is beyond the
control of the DBFO Co.
Although this adjustment mechanism is in line with OBS 9, it is unknown whether the monetary value of
unitary delay adjustment conforms to OBS 8. In projects where the OBS 8 becomes dysfunctional, the
incentive imparted by OBS 9 becomes ineffective.
Condition Adjustment:
As observed in earlier mechanisms, the road condition criteria used in LA is also based on the Network
Management Manual and the Routine and Winter Maintenance Manual. However, the emphasis of
certain areas of condition criteria is more pronounced in this mechanism in comparison to its
predecessors.
In LA, the condition criteria is governed by the idea conforming to a basic standard, fast repairing of
high priority defects and fast repairing of technology defects. The basic criteria take into consideration
four physical characteristics of road (a) Ride Quality (b) Rutting (c) Texture Condition (d) high friction
surfacing, micro surfacing, and surface dressing.
The Condition Adjustment is based on the following formula.
BOX 9: Condition Adjustment (Lane Availability based)
CAm = CCCAm + HPDCAm + TeDCAm

Where:
CCCAm = The Monthly Carriageway Condition Criteria Adjustment.
HPDCAm = The Monthly High Priority Defect Condition Adjustment.
TeDCAm = The Monthly Technology Defect Condition Adjustment.
The essence of the Carriageway Condition Criteria Adjustment (CCCAm) lies in the Carriageway
Condition Factor (CCF). This factor represents the permissible limit of defects. For example, CCF value
of 0.2 represents that the cumulative value of section-lane-km-days for those with unacceptable
condition must not exceed 20 percent of the maximum possible value of section-lane-km-days. Here, this
permissible limit decreases with time, incentivizing the DBFO Co to perform better with time and not to
lose focus. This is in line with OBS 13.
HPDCAm and TeDCAm evaluate the impact of failure to rectify any high priority defect or technology
defect within the allotted rectification time.
Route Performance Measure Adjustment

This mechanism is based on the assessment of the travel time of the users on the project route. The
reference travel time is based on the average of data for the past twelve months on the same route. The
DBFO Co is allotted reliability and delay points based on superior and inferior travel time respectively.
While excess of delay points as compared to reliability points will trigger a deduction, the opposite will
lead to a bonus. However, the bonus and deduction is both subject to a maximum cap.
This mechanism tries to incentivize the overall performance and management of the DBFO Co in
reducing the travel time gradually. LA focuses on reducing travel time rather than specifying high-speed

movement as in case of Congestion mechanism. The answer to ‘how to reduce travel time?’ is left to the
innovation and efficiency of the DBFO Co.
This is in line with OBS 13, OBS 9 and significantly reduces the risk of obsolescence as discussed under
Congestion Mechanism. However, even in this case, it is unknown whether the monetary value of
adjustment conforms to OBS 8. In projects where the OBS 8 becomes dysfunctional, the incentive
imparted by OBS 9 becomes ineffective.
Safety Performance Adjustments

The safety performance adjustment is similar to that used in the Congestion mechanism and shall not be
discussed here.
A13 DBFO Payment Mechanism (A Brief)

A13 DBFO payment mechanism can be considered as the earliest form of lane availability. This payment
mechanism moves away from the shadow-toll payment mechanism used on previous DBFO contracts,
replacing them with a combination of:
i. Availability - Accounting for approximately 70 per cent of the DBFO Co's income, payments are
linked to road availability which, in turn, incentivises them to maximise the time that the road is
available to road users, particularly during peak hours. Financial incentives include keeping bus lanes
open and available for use.
ii. Separate footway and cycle way availability payments - The needs of the non-motorised user are
also recognised by linking payments to the DBFO Co's performance in keeping footways and cycle
ways available to pedestrians and cyclists.
iii. HGV/bus shadow tolls - Long-vehicle volume-based payments encourage the DBFO Co to
efficiently manage public transport and commercial goods vehicle traffic, while providing no
incentive to increase car usage.
iv. Safety payments - Safety payments are designed to encourage the DBFO Co to reduce the number
of accidents.
3.2.3. Shadow Toll (Traffic Based)

Under Shadow Toll mechanism, the Highways Agency pays each DBFO Co an amount, which is based
on the number and type of vehicles using the road, with adjustments made for lane closure and safety
performance. These are known as shadow tolls as opposed to real tolls, as payment for usage is made by
the Highways Agency rather than by the road user.
The payment mechanism incorporates three basic elements: Traffic payment, Lane Closure Charges and
Safety Performance.
Traffic Payments:
Shadow toll payments are made per vehicle using a kilometre of the project road (vehicle-kilometre), in
accordance with the tolling structure and increase over time in accordance with Baxter index. (Baxter
index takes into consideration the escalation of construction costs based on labour, plant and material
used in road construction).
Payments are not based simply on the product of traffic volumes and a single shadow toll. Instead traffic
is divided into two to four "bands" representing different levels of annual traffic volumes with different
vehicle category payments. The lower bands have higher per-vehicle payments, while higher bands have
lower per-vehicle payments. In all cases, the top band must be zero so that the government's liability is
capped in the event of higher-than-expected traffic. The bands themselves may be increased over time to
match anticipated growth in traffic.

Separate bands are constructed for two vehicle classes — vehicles less than 5.2 meters in length, and
vehicles greater than 5.2 meters. The DBFO performs continuous traffic counts to calculate annual
vehicle-miles, which are verified by the Government every 90 days. Payments are indexed to retail price
indexes. Note that the increasing slope over time does not represent inflation but the change in bands to
match traffic growth.
Where the project road consists of an existing stretch of road with one or more construction schemes
along its length, then shadow toll payments will be made at a reduced level representing the cost and
operation for the existing road.
Figure 3.2.4a Band diagram in a Shadow Toll Mechanism
Safety performance payments

The DBFO Co is encouraged to suggest safety improvement schemes with incentives for improving
safety on the Project Road. If approved, the DBFO Co constructs and pays for the scheme and is
recompensed by receiving 25% of the economic cost of each personal injury accident avoided in the
following five year period. (Highway Agency, 1997)
Lane closure charges

A deduction is made from the toll payment when lanes are closed. The size of the deduction is
dependant upon the number of lanes closed, the duration of the closure, and the expected hourly flow
rate at the time of the closure. Lane closures charges are only made for closures within the control of the
DBFO Co.

3.2.4. Commentary
The following chart shows the mode of contracting the quality of service in different payment
mechanisms:
Table 3: Service Quality contracting modes under different mechanisms
Quality of Service Shadow Toll Congestion Lane Availability

Condition criteria•
Vehicle Operating Cost None Condition criteria Timely Repairing of
•
• high priority defects
Speed Related Incentive • Lane Closure
Delay Time of users Lane Closure • within deemed capacity • Travel Time reduction
• beyond deemed capacity • Critical Incidences
Safety on Road Accident reduction Comparator Road used Comparator Road used
(i) Incentives
It can be observed from the previous sections that the payment mechanisms have become much more
rigorous from being demand based to entirely performance-based. While under shadow toll the private
sector hardly had any incentive to internalize vehicle-operating costs of users, incentives for the same
have been created under Congestion mechanism and Lane Availability. Similar levels of improvements
can be seen in incentivizing reduction in delay time of users and improving the safety conditions.
Both forms of performance-based mechanism uses incentive contracts to define the quality of service (in
line with OBS 2 and OBS 9). However, the effectiveness of the incentives shall heavily depend on the
monetary value of the adjustments/bonuses (OBS 8). Assigning inappropriate value would weaken the
incentives under OBS 2 and OBS 9. In addition, it is important to establish proper incentive mapping
mechanisms to assess the contractual framework before implementation, and eliminate any case of
conflicting incentives and perverse incentives (OBS 3).
Use of proxy elements instead of direct use of user benefits can be seen in the performance-based
mechanisms. This is because the effort required to deliver the public benefits is not perfectly
contractible. Moreover, the effectiveness of the effort (as in innovation) is non-verifiable ex ante of
operation. To worsen the situation, the benefits themselves are not easily measurable. Thereby, proxy
elements have been used, whose outcomes can be measured relatively with ease. For example,
1. Improvement in vehicle operating cost is measured by assessing quality of roads using condition
criteria.
2. Valuation of user time is based on traffic speeds and reference time of travel.
The risk of obsolescence to the public sector needs to be kept in mind while assigning the proxy
elements. For example, use of reference time travel as seen in Lane Availability mechanism must be
preferred to target speeds as in Congestion mechanism. The former bears a relation to the technological
advancement and incentivizes the DBFO Co to invest keeping pace with time and technological
advancement. However, this incentive is not there in the later. Infact, VFM is degraded, if the
technological advancement in automobile industry or satellite systems automatically lead to higher speed
of vehicles. In congestion, the DBFO Co may become eligible for bonuses without any actual
investment.
Another aspect of the mechanism is the fact that fulfilling minimum level of road condition makes the
DBFO Co eligible for its payments. This provides incentives for the DBFO Co to maintain the road as
per standard, but not better. Under WLCC and bundling, it is expected that the DBFO Co shall invest in
construction of better quality roads to minimize the investment cost. However, current PPP contracts
have weak incentives for doing so.
(ii) Monitoring
Under Congestion and Lane Availability mechanism, the whole project road is divided into several
sections depending on the anticipated nature of traffic variables in those sections. It strengthens the
contractual basis of the DBFOs. However, this makes the whole payment structure quite complex in
terms of data collection, documentation, and monitoring. This intricate contract design comes at an extra
monitoring cost topped by a risk premium. This cost may be justified only under evidence that prove
substantial improvement in services. Also, assessment of operational performances has to be carried out
to ascertain whether the right proxy elements have been used in contracting the quality of service.
The responsibility of monitoring and reporting of the road quality rests with the DBFO Co. For
example, DBFO Co is required to procure the TRACS contractor for monitoring and reporting ride
severity and rutting. Although the accuracy of the data is checked by the Highway Agency officials, the
checks are often cumbersome and may not be entirely efficient. Under such circumstances, there is a
possibility of opportunistic behavior of the DBFO Co to manipulate data in its favor. As constructing,
maintaining, and operating this infrastructure is a responsibility of the DBFO Co, the ease of
manipulating the data provides an incentive it the DBFO Co to be opportunistic, knowing that checking
the data is difficult.
(iii) Demand Risk Sharing

While Shadow Toll mechanism has provisions for sharing of demand risk, Congestion and Lane
Availability mechanisms have eliminated this risk from private sector domain. This may not be entirely
desirable as demand risk is beyond control of both private and public sectors. In addition, removal of
demand risk might provide a perverse incentive to the DBFO Co to discourage traffic on road. This is
because lower traffic would require less maintenance cost, and may even reduce delay time of users.
The Monthly Gross Payments under the Congestion and Lane Availability mechanism may be structured
with certain amount of demand risk sharing. Use of shadow tolls in conjunction with performance based
and LPVR mechanisms may be ideal in such circumstances. Toll price regulation mechanism as discussed
in next section may be a solution as well.
3.2.5. Real tolls and Least Present Value of Revenue

In this section, we would try to address the problem of absence of toll price regulation as discussed in
2.3.1. The proposed mechanism is in line with the guidelines developed under literature review.
3.2.5.1. Toll Price Regulation Mechanism

The mechanism has been presented in two parts: The Core Payment and Real Income Linked Toll
Pricing System.
The Core Payment has been adopted from the LPVR system that was first implemented in highway
projects in Peru and subsequently improvised in Litoral Centro Highway project in Portugal. The first
sophistication appears in introducing an element of subsidy in form of Guaranteed Minimum Revenue
(GMR). The mechanism has performance-based deductions to incentivize internalization of social costs,
similar to Lane Availability based mechanism.
The Real Income Linked Toll Pricing creates a relation between the GMR, Toll Prices, Consumer Price
Index (CPI) and nominal Average Earning Index (nAEI), thereby taking into consideration the willingness
to pay aspect.

The Core Payment

The revenue generated per year shall be dependent on the quantity of road users and type of vehicles
using the road (in case of differential toll prices for different category of vehicles). As demand risk can be
controlled neither by the private sector nor by the public sector completely, there must be a proper
sharing of this risk. For this purpose, a guaranteed minimum revenue (G) may be agreed upon for each
year. The concessionaire obtains whichever is greater of (i) Real Tolls (Ri) and (ii) GMR (G). The
government contributes ‘GMR minus real tolls’ (M). In that case, the revenue for private sector in i-th
year will be
f(Ri) = Ri (if Ri ≥ Gi)

= Ri + Mi (if Ri ≤ Gi, Mi = Gi-Ri)
Where,
Gi = Guaranteed Minimum Revenue for year i.
Mi = Contribution of government to fill up the gap between Gi and Ri.
Now, let ‘I’ be the target present value of revenue to be achieved during the concession period. In this
LPVR mechanism, the concession period has two threshold periods (t0 and t1) and an upper limit period
(T). If ‘I’ is reached before ‘t0’, the concessionaire is allowed to collect tolls up to ‘t0’ giving the
concessionaire an upside. Similar will be the treatment of second threshold period ‘t1’. However,
between ‘t1’ and ‘T’, the concession period ends as soon as the revenue reaches ‘I’. If the target revenue
is not achieved even at ‘T’, the concession period ends mandatorily at ‘T’. The mechanism in
supplemented by performance-based deductions. The equation may take the following form:
(a) (p) (q) (s)
1 < t0 < t1 < t2 ≤ T and t є {t0, t1, t2}
k=0, j = 0 if, p≥ I
k=1, j = 0 if, p ≤ I ≤ q
k=1, j = 1 if, p+q ≤ I
Where,
I = Target Present Value of Revenue as agreed in the contract.
Ai = Deduction at the end of year ‘i’ for the performance in period ‘i’.
α = Weighted Average Cost of Capital for the project.
t = Actual duration of the concession as achieved in the project.
T = Maximum possible period of concession.
t0 = First threshold period.
t1 = Second threshold period.
t2 = Period between t1 and T, where revenue I is achieved. If not, the concession ends at T.
f(Ri) = Retail Price indexed value of total revenue generated by user toll in the year i.
However, in projects where the right to set the toll prices rests with the private sector, there may be a
perverse incentive. This arises from the fact that the adjustments are based on aspects like condition of
road, journey time reliability (delay cost adjustment), safety performance, etc. The cost arising from these
aspects has a positive relation to the traffic flow. Under such circumstances, the private sector has an
incentive to bargain substantially high on Guaranteed Minimum Revenue, while also setting up a higher
toll price to reduce road usage and thereby reduce any performance-based deduction. Here, neither the
efficiency gains are achieved as expected from a PPP, nor does the creation of the road maximize
benefits like reduced congestion. This calls for a proper regulation on toll prices as well as GMR. For this
purpose, we propose a flexible system for determining the toll prices and GMR linked to each other.
The first step would be to agree upon a Base GMR (Gb) and a Base toll price (Pb) at the outset. As
usual, the effective base on the i-th year may be corrected according to the retail price index of the
previous period and may be represented as Gb,i and Pb,i respectively. The Guaranteed Minimum
Revenue in the i-th year (Gi) can be determined by the following equation:
Where,
Pi = Toll price set for a particular period ‘i’ (may be differentially set for different vehicles)
a = Constant (>1). It may be predetermined according to the financial capacity of the public authority.
This creates an inverse dynamics between the toll prices and the GMR. Increase in the toll prices results
in a reduction of the GMR and vice versa. This allows the concessionaire to decide on an optimum. It
also allows the concessionaire to be open to toll price reductions during unfavorable economic
condition, as the risk is appropriately covered both by flexible term of contract and increased GMR for
reduced toll prices. Under unfavorable economic condition, the private sector also enjoys the certainty of
its revenue from higher GMR and helps in stabilizing cash-flow.
Figure 5: Relation between the toll prices and subsidy

Real Income Linked Toll Pricing System (RILToPS)

In areas, where the necessity of further regulation of the toll prices is felt, the above mechanism can be
supplemented with Real Income Linked Toll Pricing System (RILToPS). The aim of this system is to
further integrate and relate the toll prices with the economic conditions.
In this system, the right of the private sector to vary the toll prices is expropriated, while rest of the Core
Payment mechanism based on GMR remains the same. Here, the public sector and the private body
agree upon a Base GMR (Gb), a Base toll price (Pb) and an indexation ratio (Ir) at the outset.
The essence of this mechanism lies in the indexation ratio. The two elements that are considered in the
indexation methodology are the CPI and the nAEI. The year of commencement of contract may be
considered base year for both these indexes. Note that the real value of AEI is not considered here, but
the nominal value. The reason for such consideration is justified by the fact that CPI may increase or
decrease at a faster rate than nAEI, thus affecting the willingness to pay by the users. Consideration of
either nAEI or CPI singularly may put both the users and concessionaires into financial hardships
depending on situations.
The indexation methodology helps to create equilibrium and may be defined as follows:
Where,
nAEIi = nominal Average Earning Index in year ‘i’.
CPIi = Consumer Price Index in year ‘i’.
Higher Ir shall mean higher proximity of Equivalent Index to nAEI, while lower Ir shall mean higher
proximity to CPI. The value of Ir needs to be agreed between the public and private sector before
financial close.
The effect of the EI will be reflected on the toll prices in the following way.
Where,
EI0 = Equivalent Index at the time of commencement of contract.
The revision of the toll prices can be done monthly, quarterly, six-monthly or yearly as per the
convenience and feasibility. The reason for attractiveness of this mechanism lies in the previous
mechanism. Even if the toll prices are reduced due to lower AEI, private sector will enjoy certainty in
revenue from increased GMR. This makes the whole mechanism much more flexible and adaptive to the
economic conditions without much impact on the private sector accounts.
This can be considered as a virtual load-shift mechanism, where the share of the financial burden
between the user and the public sector can be adjusted based on the economic scenario.
Benefits
• While the component of LPVR provides cost certainty to the public sector, the thresholds help in
creating an upside for the private sector to make profits.

• The demand risk is substantially mitigated. While public sector’s risk of over-paying the
concessionaire in case of high traffic is nullified by the target present value of revenue, the demand
risk is substantially reduced from the private sector by a Guaranteed Minimum Revenue and
flexibility in contract.
• The emphasis on performance and efficiency of private sector is highly strengthened by the
introduction of performance-based adjustments. This can substantially improve the performance of
roads as well as the residual value of the assets post contract period. It helps in providing better value
for taxpayers’ money.
• The issue of perverse incentive for the private sector in case of Guaranteed Minimum Revenue has
been addressed by inducing flexibility through a reciprocal relation with toll prices.
• The toll pricing mechanism gets aligned with the economic conditions of a region or country by
linking to both CPI and nAEI. This can considered as a form of virtual financial stimulus during
economic crisis. Under this system, the efficiency of the private sector in long-term capital budgeting
can be leveraged upon by the public sector.
• There can be considered as the closest we can get to true sharing of demand risk.
• This mechanism enjoys the properties of real tolls, shadow tolls, and performance-based mechanisms
all within one mechanism.
• Most importantly, this mechanism introduces an innovative way to contractually regulate toll prices
without compromising value for money.

This section provided a complete assessment of the tendering process and the payment mechanisms
under the theoretical framework developed in section 2. In this process, this section delivered one new
model (Real Toll Regulation Mechanism) that can substantially improve the overall VFM in User Toll based
roads.
Some key findings of this section are:
Tendering
Section 3.1 found significant improvements in the tendering process in UK Highways. However, the
following changes can further strengthen the process.
• Prequalification may be supplemented by an objective process to evaluate the performance of the

bidders from the perspective of their past clients.
• To be fair as well as accurate in judgment ISOP needs to be structured objectively, or else to

supplement the bidders with a standard to which the improvements can be substantiated by the
bidders and hence can be measured by the Agency.
• Among the illustrative documents, an illustrative list of cost segments to be considered for the
project may be included.

Payment Mechanism
Although the payment mechanisms have evolved in a positive direction, the effectiveness of the
mechanisms is still doubtful. The key observations are:
• The monetary value of the adjustments and bonuses must be studied further. Assigning
inappropriate values may render the incentives ineffective.
• Incentive mapping processes must be established to assess the framework before implementation,
and eliminate any conflicting incentives or perverse incentives.
• The risk of obsolescence to the public sector needs to be kept in mind while structuring the proxy
elements. Referencing should be a preferred form of benchmarking than assigning target values. In
addition, it is necessary to understand the implications in order to decide what kind of referencing is
appropriate e.g. use of comparator roads or previous performance on the same road.
• Monitoring is the most vulnerable area and must be improved. At present, it is costly and vulnerable
to opportunism.
• Demand risk needs to be shared in an effective way. Current mechanisms shield the private sector
completely from this risk, which is undesirable.
• Toll prices must be regulated to the benefit of the public. Toll Price Regulation System as developed
in this section may be helpful in alleviating the current issues of toll-based PPPs.

4. Operational Assessment
4.1. Safety Performance

In 2000 the Government set a target to reduce road accident casualties on all roads by the year 2010.
Although, the report (HA, 2009a) points to a significant improvement in the safety of the roads and
Highway Agency’s success in meeting the targets, it is worth assessing the contribution of the DBFOs in
such reduction. In economic theories of PPPs, the argument of private sector’s superiority in terms of
efficiency is rather clichéd. In the following section, we will evaluate the performances of the DBFO
roads as compared to the traditionally procured roads.
Choice of Data
In this evaluation, we have used the National Accident Data (secondary data) from the Safety
Operational Folder of Highway Agency with due permission from the Agency. The data provides us with
the Killed or Seriously Injured (KSI) statistics of 14 areas and 9 DBFOs from the year 1994 to 2005. We
triangulated statistics with a similar set of Data from Operational State of Network 2009 (HA, 2009b).
Some incongruence was observed in the data, possibly because of different sources of data and different
methods of classification. On cleaning the data from such disputes, the population was reduced to 12
areas and 8 DBFOs. Also, DBFO 23 (A1 Darrington to Dishforth) was further eliminated from the
population, as the DBFO became operational in the year 2005. This further reduced the population to 12
areas and 7 DBFOs. Refer Appendix II for the data.
Statistical Constraints
Before we proceed any further, it is important to acknowledge some of the constraints inherent in this
analysis.
• Relatively few DBFO roads have been executed so far, which inhibits the scope of grouping
variables with significant amount of cluster membership from the DBFO projects.
• There exists another problem posing a substantial threat to statistical analyses. A single DBFO/non-
DBFO road may consist of variables that vary not only between groups/projects/areas, but
considerable entropy in data exists in a project itself. For example, different carriageway sections
under the same DBFO road may tend to have different characteristics like different traffic volume,
traffic flow, width, number of lanes, junctions, and even different social variables. Discrete analysis
of such data from each project is complex and may tend to distort the overall effect of the
procurement route, which is the prime question to be answered.
Methodology of Data Analysis

The methodology follows a two-stage analysis. The first stage will employ a sophistication of crude
analytical techniques. The second stage will employ clustering techniques. Both the stages have their own
benefits, which will be discussed next.
Stage I
It was observed that the entire population of DBFOs in our data pool becomes operational between
early 1997 and 1999. Hence, we have considered the year 1999 as the benchmark. Year 1998 was not
considered for benchmarking as majority of the DBFOs became operational in the year 1998, and the
pure effect of the transition is most likely to appear in statistics from the year 1999.
Here, we will use a two-dimensional approach. The analysis involves:

• Comparison of performances of DBFO and AREA under a specific period, say PRE 1999
• Comparison of performances pre 1999 and post 1999 under a specific set, say DBFO.

The benefit of this analysis is derived from the timeline comparison (before and after transition). While,
the post-1999 comparison will provide us with some indicators, the transition comparison pre and post-
1999 helps us to understand if any inherent characteristic of the area is distorting the indications. This
can be considered a powerful method of addressing any masking problem created by factors beyond
human control. E.g. Hilliness, weather, social characteristic, demography, etc.
Stage II
For stage 2, we have considered Equivalent Traffic Flow (refer Appendix V) as our discriminating
parameter and employed K-means cluster analysis to group the project cases into three relatively
homogenous clusters. K-means clustering is a method of cluster analysis aiming to partition n
observations into k clusters, in which each observation belongs to the cluster with the nearest mean.
Then the performances of the DBFO and non-DBFO projects are compared within each cluster to
capture any plausible indication of performances. The grouping into clusters based of TF helps us to
compare the data within homogenous groups of similar characteristics. This is because, Traffic flow
bears a relationship with physical character like road width, number of lanes, etc, and also to the
demographic factors like industrialization. It is worth mentioning that the projects in a cluster may not be
identical in all respects, but is expected to be similar to certain degree.
Cluster Membership
Cluster 1 Cluster 2 Cluster 3
Area 1 Area 2 Area 3
Area 9 DBFO 16 DBFO 20
Area 13 DBFO 18
Area 14 DBFO 19
DBFO 15
DBFO 21
DBFO 22
Figure 6: Box-plot for Cluster discriminating variable (Equivalent Traffic Flow)
Data Analytics and Interpretation

Stage I
Post transition (1999 onwards) the weighted average accident rate in the DBFOs has always be better
than other non-DBFO Areas, if not substantially better (Figure 7). However, before the transition, the
case has not been very different either (except in 1996). Hence, there appears to be no significant
improvement through the difference in procurement routes. Similar is the observation in pre-transition
and post-transition scatter (Figure 8 & Figure9). In addition, while DBFO roads constitute 9% of the total
road length in our data pool, it accounts for more than 8% of the accidents. This is proportional and
indicates similar level of performance in the DBFO and the non-DBFO roads.

Figure 7: Year-wise Weighted Accident Rate Comparison
Figure 8: Pre-transition Scatter based on year Figure 9: Post-transition Scatter based on year
Figure 10: Accident Vs Traffic Volume (Vehicle KM) Figure 11: Accident Vs Traffic Flow (Vehicle)

We can consider that the reduction of accident rate post 1999 should speak about the learning curves and
the safety management capacity of the public sector and the private sector. While the rate has reduced by
29% in the non-DBFO roads from 1999 to 2005, the reduction is merely 21% in the DBFO roads. In
this case, the public sector seems to be learning faster and delivering better performance than the private
sector in reduction of accidents. We do acknowledge the possibility that inspite of superior effort from
the DBFO Co, the reduction has been not substantial due to other factors like demography, driver
tendency, etc. These factors are beyond control of the DBFO Co.
Figure 10 looks at the behaviors of the DBFOs and the non-DBFOs, both before the transition and after
the transition. Before 1999, the rate of increase in accidents with increase in traffic volume was relatively
similar in both DBFO routes and the non-DBFO routes. Post 1999, although, the non-DBFO routes
have remained consistent, the scenario for DBFO routes have deteriorated drastically. This may be
indicative of the inferior ability of the private sector to reduce the accidents on roads under gradually
increasing traffic volume.
However, we must remember that the scope of DBFO have been restricted to maximum of 4 Billion
Vehicle kilometers per year, while the public sector has dealt with a broad range of 2.5 Billion to 15
Billion vehicle kilometers. On extrapolating the regression line of the DBFO to a range of 15 Billion
vehicle kilometers, the prediction may point at better performance of DBFOs. However, this roots from
a variance in our assumption of similar safety levels caused by the physical, social, and environmental
factors. The extrapolation points at better performance primarily due to the inherent character of the
roads and may not reflect superior performance by the DBFO Co. The is partly because of the fact that
the intercepts in the period before transition is similar to that after transition. Had there been significant
improvement because of the DBFO Co, the intercepts should have been different.
This raises the question that on further increase in the road length or traffic flow of DBFOs, how
successful the private sector may be in controlling the accidents. As of now, the behavior predicts a
disappointing trend.
Let us further decompose our analysis to assess the behavior of the DBFOs under increasing traffic flow.
On a visual inspection of Figure 11, we can again rule out the effect of the intercepts in our interpretation
because of the same reasons mentioned previously. Although, on comparison of the behavior of DBFO
and non-DBFO post transition represents better performance of the DBFOs, this appears not the case
on comparing the pre-transition and post-transition behavior. Hence, we will look at the percentage
variations in the rate of change individually under DBFO and non-DBFO. This will be able to remove
the masking effect of inherent characteristics of the DBFO and the non-DBFO routes. It is observed
that although there is deterioration in behavior of both DBFO and non-DBFO routes, the deterioration
in case of DBFO (108%) has been substantially more than non-DBFO (35%). This may point at two
possibilities. It may be that the DBFOs are not very capable in handling safety under increasing traffic
volumes. It may also be that the safety adjustment is not significant enough to offset the savings
generated from underinvestment in safety. In either case, the safety payment mechanism is not working
in the expected direction.
Stage II
We shall begin this stage with the analysis of cluster 1, which consists of a population of six non-DBFO
areas and three DBFO areas.

Figure 12: Cluster1- Pre and Post 1999 Accident Vs Traffic Volume (100 Million Vehicles KM per year)
Figure 13: Cluster1- Pre and Post 1999 Accident Vs Traffic Flow (Million Vehicles per year)
Figure 12 presents the dot-scatter plot between the accidents and the traffic volume post 1999. In
accidents vs. Traffic volume, there is substantial similarity with the nature of graph presented in stage I

for the total population. These points to the fact that DBFOs are certainly not very superior in safety
performances than non-DBFOs.
However, there is a substantial difference with the nature of the graphs presented in stage I, when the
dot scatter is plot between accidents and the Equivalent Traffic Flow (Figure 13). Infact, the trends can be
seen to have reversed. While in Stage I, accidents had a positive relationship with the Equivalent Traffic
Flow, in this case the relationship is negative. However, even under diagrammatically opposite trend, it
must be noted that the rate of decrease in KSI under non-DBFOs is much superior to DBFOs. Does it
point to better performance by DBFOs in managing safety under increased traffic flow? For that, we
would need to look at the pre and post scenario to understand better.
Note: A positive relationship seems to be more logical than a negative relationship. This is because Traffic flow is a count
of number of vehicles passing across a point in a given duration. Higher traffic flow would mean (in extremes) either a
combination of higher speed of vehicles or a higher headway (higher spacing between the vehicles in transit), or lower speed of
vehicles at lower headway. In both these cases, higher speed and lower headway can result into increased accidents. The
positive relationship between speed and accidents is statistically evident by TRL report (Taylor, Baruya & Kennedy,
2002).
Now, let us have a look at the scenario before 1999 for accidents vs. traffic flow plots (Figure 13). On
comparing the post transition scenario with that of pre transition, there does not appear to be any
significant difference in the behavior of the DBFO and non-DBFO areas. The difference between stage
I and stage II behaviors in KSI vs. TF plots root from possible variations in our assumptions that the
physical, social, and environmental conditions have similar effect on all roads. Therefore, our prime
indicator should be derived from the pre and the post comparison in stage II and not stage I. The
comparison of the pre-1999 and post 1999 (Figure 13) reflects no substantial improvement, and the
capacity to manage safety under growing traffic flow is quite similar for both private and public sector,
and resonates with the indications of Stage I analyses.
Figure 14: Cluster 2- Pre and Post 1999 Accident Vs Traffic Volume (100 Million Vehicles KM per year)

Figure 15: Cluster 2- Pre and Post 1999 Accident Vs Traffic Flow (Million Vehicles per year)
Figure 16: Cluster 3- Pre and Post 1999 Accident Vs Traffic Volume (100 Million Vehicles KM per year)

Figure 17: Cluster 3- Pre and Post 1999 Accident Vs Traffic Flow (Million Vehicles per year)
The final indications for Cluster 2 and Cluster 3 are coherent to Cluster 1. On a broader view, the
indications in Stage I and Stage II remains consistent: DBFO performances have not been significantly
better than the non-DBFO performances.
Commentary
In this, we tried to answer the question
“Are the DBFOs substantially superior to the non-DBFOs in safety performances?”
The assessment reveals that the private sector performance in managing safety has not been very
superior to the public sector performance, in spite of incentives in the payment mechanisms of Highway
DBFOs.
This may be a result of:
• The monetary value of safety payment adjustments/bonus is not significant enough for better
investment in safety.
• The safety aspect is influenced by factors that are beyond the control of the DBFO Co.
Whichever be the reason, the question here is if there is any necessity of including the safety element in
the Payment mechanisms. Although we do not argue the presence of safety element in the overall
contract, weaving safety to the payments has not proved to be entirely effective. Therefore, it is necessary
to reassess the contract and restructure the responsibility with a view to optimize costs without
compromising the benefits.
There are several reasons, which justify the removal of safety element from the payment mechanism. For
example,
• Structuring and monitoring the comparator roads may be a complex task and is costly. This extra
cost would have been justified, if the performance of the DBFOs were exceptionally better than the
non-DBFOs. However, this is not the case.
• The safety adjustments affect the stream of revenues for the private sector, and may be contributing
to the risk perception of private sector and their lenders. This perception of risk contributes to an
extra risk premium. The extra premium is being borne for a purpose, which is not being served!
Removing the safety element from the payment mechanism and structuring it differently may
contribute to a reduction in risk premiums.
• Certain elements affecting accidents (e.g. social factors) can be controlled by the public sector better
than the private sector.
• Even if, it can be argued that private sector is more efficient than public sector, the assessment
results show that they do not have any inclination of raising their standards above public sector
performance. Atleast, the current contract structure has been unable to incentivize superior
performance.
In the capacity of this research, we have developed an alternative mechanism to restructure the safety
element into the procurement process. It is called Point Based System (refer Appendix III) and is
expected to deliver a stronger incentive to the private sector in improving safety without any commercial
side effects.
4.2. Innovation and Externality

Innovation in construction is difficult to define as compared to telecommunication, software or the
manufacturing industry. The reason lies in the very fact that construction is a customer led industry and
not product-led. Here, the product is defined by the customer more often than the producer. Hence,
each product requires an individual treatment with multitude of possible innovations. In addition, factors
like geographical location, demography and even weather conditions define the specificity of the product
and constrain implementation of all innovations.
Secondly, innovation is relative, especially in construction industry. What may seem to be innovation to a
person of less exposure and experience may not be an innovation to a person of greater exposure and
experience. This further constrains the identification of innovations.
Thirdly, definition of innovation bears a substantial relation to time. While at times, short term benefits
like cost or time effectiveness may be the basis of identifying innovation, it may not remain the same in
the longer term when the externalities surface. Any such innovation that has a high amount of negative
externality ceases to be an innovation in true sense. This not only constrains identification of innovation,
but also weakens the reliability of innovations without substantial evidence in practice.
In the capacity of this research, only one form of specific innovation could be identified in UK DBFOs,
which is use of Rhinophalt in road surface treatment. Rhinophalt is a single application preservative,
which slows the natural ageing and deterioration of the road surface. The process can be reapplied every
few years to help protect the surface from the effects of heavy traffic and weathering, and works on
asphalt and macadam. The product is considered to have negligible externality in terms of skid resistance
and texture depth. The product was under approval by the Highways Authorities Product Approval
Scheme (HAPAS) in April, 2010.

Although no other specific innovation was identified, consensus was on the fact that the emphasis is
majorly on reducing the construction time in DBFOs. Thereby, innovations via programme management
are dominant that lead to reduced construction time. The emphasis on cost saving innovations seems to
be lot less than what is expected under the economic models in PPPs.
The lack of innovation is partly attributed to the financing system and the payment mechanisms, which
incentivizes time saving effort rather than cost saving effort. Secondly, approval of innovations by the
public sector authority is time taking. In such cases, the time dimension further discourages even
investments to explore any possible cost saving innovations. Thirdly, due to bounded rationality and
non-availability of proper knowledge management systems, the possibility of implementation of the
available technologies is sometimes weakened.
Leakage in Value for Money – Innovation drainage

There is a vital leakage in VFM arising in the tendering process (both this and previous forms). Firstly,
owing to bounded rationality, it may be argued that an individual bid may not be able to take into
consideration all the possible innovations. This restricts the solutions from being optimum and the bid
proposals fail to achieve full potential in improving VFM. Secondly, it is possible that certain desirable
innovations are particular to individual proposals. The legality involved due to intellectual property rights
(IPR) restrict such innovations to be incorporated into the PPB’s proposal without prior permission
from the other bidders. This is further worsened by the fact that the unsuccessful bidders do not have
any incentive to permit such transfer of innovation to the successful bidder, unless properly
compensated for. This leads to a leakage in VFM, as often the contracting authority may have to leave
out valuable innovations.
The basic requirement to address this problem is to establish a robust knowledge management system. In
this regard, a model for rectifying the leakage has been put forward. This model attempts to address this
leakage through a proposal of an externalized structure called the Innovation Enhancement Structure (see
Appendix IV). However, this model is an introductory concept and can be developed further.

Two forms of assessment were carried out in this section. While, safety performance assessment was
purely quantitative, innovation assessment was based on qualitative analyses. The key findings were:
Safety Performance:
The performance of the private sector has been comparable, but not superior to private sector. The
possible reasons may be:
• The monetary value of safety payment adjustments/bonus is not significant enough and weakens the
incentive for better investment in safety.
• The safety aspect is influenced by factors that are beyond the control of the DBFO Co.
It may be desirable that:
• Safety performance adjustments may be removed from the payment mechanism. Instead, safety
element may be restructured in a way that strengthens the incentives, but does not affect the payment
stream.
• In absence of safety performance incentives, the Agency may release manuals that outline the
complete standards to be maintained for safety (analogous to road quality manuals).
Innovation:
• No substantial evidence was found in terms of innovation except for one. The argument of PPP
theories on enhancing innovation fails in this case.
• A leakage in VFM was identified in form of innovation drainage.
These issues can be addressed by:
• Establishing a strong knowledge management system led by a public body.
• Indirect and non-financial incentives are desirable to enhance and share innovations.

5. Conclusions & Recommendations

This fundamental aim of this research was to appraise the efficiency of the contractual framework in Highway PPPs
in the UK, to understand the causalities and suggest possible improvements in the framework. Thie methodology
focused on capturing implementation gaps and bridge them by designing solutions that can improve the VFM aspect in
highway PPPs, be it through increasing efficiency or reducing costs.
The research used a two-tier approach to assess the contractual framework of Highway PPPs in the UK.
In the first tier of assessment (Section 2 & 3), the contractual framework was vetted against the
economic theories leading to improved knowledge about what aspects of the theories have been ignored
by the contractual framework (implementation gap).
In the second tier (section 3 & 4), the operational performances were vetted against the contractual
framework leading to improved knowledge about the effectiveness of the current contractual framework
under light of the implementation gap.
Overall, it helped in identifying problems that restricted alignment of the two realms and contributed
towards rectification of these problems. This research has also made an effort in developing solutions in
form of institutional and payment models.
5.1. Research Overview

The research required in depth understanding and conscious knowledge of three basic questions. These
were:
‘What is the theoretical framework for highway PPPs? ‘

After study of various literatures on PPP economics, those that were found relevant to our area of
research are theory of incomplete contracts and private information, transaction cost economics, concept of bundling and
unbundling, principal agent problem and optimum risk sharing, supplemented by the concepts of whole life cycle
costing. However, it was also felt necessary to take into consideration the commercial issues that the
contemporary PPPs are faced with like revenues (Toll and Annuity), Costs (financing, CapEx and OpEx)
and benefits. This helped in structuring a very practical and result oriented framework for our analysis.
The framework was structured into 14 points addressing key issues pertinent to the tendering process
and payment mechanisms. It included issues of moral hazard, adverse selection, incentivizing, toll
regulation, financing, use of proxy elements and contractual ambiguity.
To what extent do the existing PPPs conform to this framework?

The study of the tendering process and the payment mechanisms were carried in tandem with the
framework. While the tendering process was found to be quite sound, the payment mechanisms were
found to be plagued with various non-conformities. The problematic area in payment mechanism was
particular to improper incentive mapping and use of proxy elements. In events, where proxy elements
appeared to be sound, the need to study the monetary value of the incentives was felt.
In terms of regulation problem in toll-based projects, a payment mechanism called the Toll Price Regulation
System was developed. This mechanism may be considered as one of the major contributions of this
research.
Under the current level of conformance, how successful have PPPs been in delivering results?
This section tested two areas of the operational performances. One related to the safety performances,
while the other related to the extent of cost saving innovation in PPPs. Both these assessments did not
fetch any encouraging results.

Safety performance was found comparable to public sector project, but not better. Incase, the public
sector’s motive has been to incentivize better safety performance, it seemed to have failed due to low
strength of incentives. However, there also appeared a possibility, where safety may not be controllable
by the private sector due to other factors. This research attempted to rectify this problem by developing
a model called point-based system (see Appendix III).
Innovation in highway PPPs were not encouraging in particular. Just a single innovation was identified.
The reason here are numerous. Firstly, incentives in the payment mechanism was found to be somewhat
overruled by the commercial aspects. Secondly, the time taking approval process was found to be
another discouraging factor. Thirdly, lack of knowledge management system was found to be another
major obstacle. It not only restricts innovation, but also causes a leakage in Value for Money in PPPs. In
this regard, an introductory concept in form of Innovation Enhancement Proposal has been put forward
(Appendix IV).
5.2. Research Findings

Some key findings of this research are:
• The tendering process is well aligned with the theoretical concepts of procurement economics.
However, there is still need for further improvement in the Prequalification and ISOP stages.
• Payment Mechanism appears to be the vulnerable area of the contractual framework because:
Effectiveness of the valuation of incentives in form of unit values of performance

bonus/adjustment seems uncertain.
There are considerable areas of conflicting incentives and perverse incentives that need to be
reassessed.
The effectiveness of certain proxy elements is uncertain.
Current monitoring methodology is costly and vulnerable to moral hazard that may degrade
value for money.
Demand risk, in most cases, is completely borne by the public sector, which is undesirable.
In real tolls, toll prices lack regulating mechanisms, which is absolutely essential.
• Safety performance mechanisms were found to be ineffective as per the operational assessment.
• The case for innovation is considerably weak. Proper incentivizing mechanisms for innovation must
be put into place.
5.3. Recommendations
• To include a criterion in the prequalification procedure based on the comparison of a bidder’s

commitments to actual delivery in past projects. E.g. Time and cost overrun, quality of delivery
based.
• To be fair in judgment ISOP needs to be structured objectively, or else to supplement the bidders
with a standard to which the improvements can be substantiated by the bidders and hence can be
measured by the Agency
• Among the illustrative documents, an illustrative list of project specific cost segments may be
included.
• The monetary value of the adjustments and bonuses must be studied further.
• Incentive mapping processes must be established to assess the framework before implementation,
and eliminate any conflicting incentives or perverse incentives.
• The risk of obsolescence to the public sector needs to be kept in mind while structuring the proxy
elements. Referencing should be a preferred form of benchmarking than assigning target values.
In addition, it is necessary to understand the implications in order to decide what kind of referencing
is appropriate e.g. use of comparator roads or previous performance on the same road.
• Toll prices must be regulated to the benefit of the public. Toll Price Regulation System as
developed in this research may be helpful in alleviating the current issues of toll-based PPPs.
• Safety performance adjustments may be removed from the payment mechanism. Instead, safety
element may be restructured in a way that strengthens the incentives, but does not affect the payment
stream (as in Point Based System). In absence of safety performance incentives, the Agency may release
manuals that outline the complete standards to be maintained for safety (analogous to road quality
manuals).
• A strong knowledge-management system led by a research oriented public body needs to be

established to boost cost effective innovations. Indirect and non-financial incentives are desirable to
enhance and share innovations. Innovation Enhancement structure as developed in this paper may
be further researched in this direction.

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APPENDIX I: Forms of Public Private Partnerships (Source - Deloitte 2006)
Design-Build (DB): Under this model, the government contracts with a private partner to design and
build a facility in accordance with the requirements set by the government. After completing the facility,
the government assumes responsibility for operating and maintaining the facility. This method of
procurement is also referred to as Build-Transfer (BT).
Design-Build-Maintain (DBM): This model is similar to Design-Build except that the private sector
also maintains the facility. The public sector retains responsibility for operations.
Design-Build-Operate (DBO): Under this model, the private sector designs and builds a facility. Once
the facility is completed, the title for the new facility is transferred to the public sector, while the private
sector operates the facility for a specified period. This procurement model is also referred to as Build-
Transfer- Operate (BTO).
Design-Build-Operate-Maintain (DBOM): This model combines the responsibilities of design-build

procurements with the operations and maintenance of a facility for a specified period by a private sector
partner. At the end of that period, the operation of the facility is transferred back to the public sector.
This method of procurement is also referred to as Build-Operate-Transfer (BOT).
Build-Own-Operate-Transfer (BOOT): The government grants a franchise to a private partner to

finance, design, build and operate a facility for a specific period of time. Ownership of the facility is
transferred back to the public sector at the end of that period.
Build-Own-Operate (BOO): The government grants the right to finance, design, build, operate and
maintain a project to a private entity, which retains ownership of the project. The private entity is not
required to transfer the facility back to the government.
Design-Build-Finance-Operate/Maintain (DBFO, DBFM or DBFO/M): Under this model, the

private sector designs, builds, finances, operates and/or maintains a new facility under a long-term lease.
At the end of the lease term, the facility is transferred to the public sector. In some countries, DBFO/M
covers both BOO and BOOT.
PPPs can also be used for existing services and facilities in addition to new ones. Some of these models are described below.
Service Contract: The government contracts with a private entity to provide services the government
previously performed.
Management Contract: A management contract differs from a service contract in that the private
entity is responsible for all aspects of operations and maintenance of the facility under contract.
Lease: The government grants a private entity a leasehold interest in an asset. The private partner
operates and maintains the asset in accordance with the terms of the lease.
Concession: The government grants a private entity the exclusive rights to provide operate and maintain
an asset over a long period of time in accordance with performance requirements set forth by the
government. The public sector retains ownership of the original asset, while the private operator retains
ownership over any improvements made during the concession period.
Divestiture: The government transfers an asset, either in part or in full, to the private sector. Generally
the government will include certain conditions with the sale of the asset to ensure that improvements are
made and citizens continue to be served.
APPENDIX II – Safety Operational Performance Assessment Data Set
Table 1: Killed or Seriously Injured Statistics in Numbers

% decrease from 1994-
Sample 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005
2005
Area 1 85 74 100 86 94 86 102 110 92 71 72 68 20.00%
Area 2 146 167 96 133 116 125 118 136 130 128 130 90 38.35%
Area 3 237 249 176 214 256 298 273 292 262 269 238 201 15.18%
Area 4 318 287 273 295 295 322 216 239 259 265 214 234 26.41%
Area 6 273 264 292 253 221 239 229 253 256 170 215 224 17.94%
Area 7 241 232 251 248 188 216 227 226 207 175 192 155 35.68%
Area 8 281 343 352 310 321 331 313 298 261 281 232 280 0.00%
Area 9 290 254 300 289 261 220 213 220 201 141 139 162 44.13%
Area 10 220 174 171 196 228 189 225 205 179 224 179 196 10.90%
Area 12 219 241 230 269 192 191 180 218 220 206 187 158 27.85%
Area 13 204 160 204 199 157 190 185 126 129 167 124 132 35.29%
Area 14 128 97 138 110 118 137 92 83 101 101 101 86 32,81%
DBFO 15 34 31 39 29 24 26 21 25 22 24 23 21 38.23%
DBFO 16 64 46 70 69 31 48 44 59 43 59 46 45 29.68%
DBFO 18 13 5 1 9 19 9 11 7 8 14 8 10 23.07%
DBFO 19 16 22 12 18 10 2 4 5 3 5 14 4 75.00%
DBFO 20 46 63 67 46 49 72 76 61 64 73 52 57 (-)23.91%
DBFO 21 12 20 26 23 14 9 23 15 16 12 13 9 25.00%
DBFO 22 48 41 41 28 68 34 41 24 49 22 31 30 37.50%
Table 2: Traffic Volume in 100 Million Vehicle Kilometers

Sample 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 % inc
Area 1 27.4 28.20 28.80 29.50 30.50 30.60 31.30 32.70 33.70 34.40 35.20 36.00 31.38
Area 2 56.6 58.70 61.20 62.20 64.20 65.40 65.50 69.80 70.80 72.90 73.40 76.10 34.45
Area 3 104.5 107.8 112.1 115.6 119.4 123.3 125.0 129.1 132.2 131.6 133.5 134.5 28.70
Area 4 57.1 58.90 61.50 63.50 67.10 67.00 67.10 69.50 70.60 72.10 73.90 75.20 31.69
Area 6 48.5 49.80 50.90 53.30 54.50 56.00 56.20 58.40 58.60 60.40 61.80 61.70 27.21
Area 7 50.8 52.50 55.20 56.90 57.80 59.40 57.90 59.50 60.00 62.30 64.50 64.70 27.36
Area 8 77.4 79.90 83.30 84.70 89.80 91.40 89.30 92.90 93.20 96.20 99.80 99.60 28.68
Area 9 73.4 75.70 79.00 81.30 84.60 85.20 85.70 85.50 89.20 89.40 90.70 91.90 25.20
Area 10 107 111.2 116.0 119.5 123.2 125.2 126.8 134.3 135.2 139.9 144.6 143.1 33.73
Area 12 70.3 72.60 76.10 77.40 79.90 80.70 82.00 84.80 87.30 87.80 91.10 91.30 29.87
Area 13 37.1 38.30 39.70 41.00 42.60 43.50 42.30 42.40 44.40 43.80 46.40 46.30 24.79
Area 14 30.6 31.50 32.70 33.80 34.50 35.10 34.10 35.90 37.00 36.80 37.70 37.70 23.20
DBFO 15 4.10 4.20 4.30 4.40 4.50 4.80 4.70 5.10 5.20 5.10 5.10 5.10 24.39
DBFO 16 13.6 14.00 14.60 15.00 15.50 16.40 17.20 17.60 17.90 18.40 18.60 18.80 38.23
DBFO 18 5.90 6.10 6.30 6.50 6.70 6.80 7.10 7.80 8.40 8.60 7.90 8.10 37.28
DBFO 19 3.60 3.70 3.70 3.90 4.00 4.00 3.80 4.10 4.00 4.30 4.10 4.40 22.22
DBFO 20 31.7 32.80 34.40 35.20 36.60 38.50 38.90 39.10 40.20 39.00 39.60 38.90 22.71
DBFO 21 4.30 4.40 4.50 4.60 5.00 5.20 5.40 5.80 5.70 6.10 6.10 6.30 46.51
DBFO 22 5.20 5.40 5.50 5.60 5.60 5.70 6.10 6.40 6.40 6.70 6.70 7.00 34.61
B| Bartlett School of Graduate Studies, University College London

APPENDIX III – Structuring Safety Performance in PPPs: Points Based System

The following system is aimed at strengthening the incentives for private sector to improve its services
without involving any direct financial impact on the payment streams. It reduces cost in numerous ways,
reinforces the conditions for competitive bids, and integrates the Highway Agency procurement system
to an extent for DBFO, MAC, eMAC routes. The system is not only capable of affecting the
performances for the future contracts, but can significantly affect the performances of already signed and
established contracts. It has been designed keeping in mind the existing information technology system
of Highway Agency, so that the system can be implemented with minor modifications in the system
without incurring substantial IT up-gradation costs.
What is Point Based System (PBS)?

As the name suggests, PBS uses points to measure the performances of the private sector, without
making any complex use of comparator roads. The idea is to make these points an essential element in
awarding contracts of any form (in PQQ), wherever the responsibility of safety rests with the private
sector. This means introducing a new criterion in the selection process with appropriate weights on the
points gained by private sector.
How to award Points?

The system uses accident rate (PIAs per 1000 Million Vehicle Kilometers) as the primary assessment
parameter. This ratio helps in bringing the performances to a similar scale, taking into account both the
traffic flow (scope) and the length (scale) of the project. It tends to make the judgment fairer. In case of
absolute measurement of PIAs, a company managing higher stretch of road or higher traffic flow would
have been in a disadvantageous position as compared to a company managing smaller stretch of road or
smaller traffic flow.
Then, it is required to set up a benchmark from a particular year (say 2006) for measurement of the
performances. All companies may be allocated a common score of points (say 100 points) at the
beginning of this stage. The accident rate for the benchmark year is used as the first reference point for
basing the comparison. The accident rate for the next year can be compared to that of previous year for
addition of further points or deduction of points (benchmark year in this particular case).
The number of points to be added or deducted is determined by setting up a band based on percentage
improvement or percentage deterioration. Consider the following example.
Percentage Improvement (PI) = [(ARn-1 – ARn) * 100]/ARn-1
Where,
ARn = Accident rate of the year in consideration.
ARn-1 = Accident rate of the previous year.
In case of the 1st year (say 2007), the previous year would be the benchmark year
(2006 in this case).
(Note that the comparison is made between the performances of the same road on two consecutive years
and does not use a comparator road for measurement.)
The band for awarding points may be designed as follows:
Deterioration / Deduction of points Improvement / Addition of Points

PI 80+ …… 20-39.99 0-19.99 0-19.99 20-39.99 …. 80+
Point Award -5 points -2 points -1 point 1 point 2 points 5 points
C| Bartlett School of Graduate Studies, University College London

The above band allocation is solely for purpose of explaining the system, and is to be designed
appropriately subject to feasibility of this proposed system.
Under such band, the points scored (PS) by a company for a particular project in a particular year is:
PS = [PI]
Where,
[ ] = Box function indicating the points allocated for percentage improvement or
deterioration, falling in a particular range as defined.
What projects to be considered?

Any project/road/area, which uses a form of contract that makes the private sector responsible for the
safety performance should be considered in this system. For example, DBFO, MACs, etc. The domain
must be defined depending upon the contract agreements.
Whom to allocate the points?

The concerned organization responsible for managing safety may be allocated the points. It must be
noted that in case of DBFOs, the points must not be allocated to the SPV. In this case, the points must
be allocated to the constituent parties in the SPV. That is, if the performance comparison in a project
results in deduction of 5 points, 5 points should be deducted from the existing scores of all the parties
involved in the contract. This helps in making the constituent parties accountable for the performance
irrespective of the SPVs they are involved in past, current or future projects. A similar methodology can
be used for other forms of contract, where similar situations may arise.
Special Cases
It is possible that a particular company in a particular year is involved in different SPVs in different
projects or is involved in two or more MACs as well. In those cases, the average of the points gained or
lost may be assigned to its previous year score. For example, say a company is involved in 2 DBFOs and
1 MAC with (-)5, (+2), (+1) points respectively after current year’s performance comparison. The
effective points to be awarded is (-5+2+1)/3, i.e (-)0.66 points. If the company’s previous year’s score is
105, then the revised score will be 104.34.
A score of 100 is assigned to any new entrant in this market, who does not have a history of previous
projects. However, this area can be further researched to decide upon what score to be assigned to a new
entrant.
.
Effective score (ESAn) = Sn-1 + ( ∑ )/k
Where,
ESAn = Effective Score of an private sector organization A in a particular year ‘n’.

Sn-1 = Effective Score in year ‘n-1’ for a organization A
k = Number of projects undertaken by organization A in year ‘n’ under the defined
domain of considered contracts.
PSi = Points Scored by Organization A in the year ‘n’ in the i-th project.
How to use this point score in the selection procedure of future contracts?
It is possible that there is ‘p’ number of constituent members in an SPV or other entity bidding for a
contract. In those cases, average of the Effective Scores of all the constituent members may be assigned
to the combined entity. The average score may be used as a criteria for awarding the contract, be it a
DBFO Contract, a MAC Contract or any other contract.
D| Bartlett School of Graduate Studies, University College London
Average Effective Score = ( ∑ ESin )/p
Where,
ESin = Effective score of the i-th constituent member of the combined entity consisting of
‘p’ members in the year ‘n’, when the contract is awarded.
Benefits
• This system completely removes use of ‘comparator roads’ and encourages the private sector to
compete with its own performances as well as performances of its competitors. This increases the
incentive for the private sector to improve its services and improves the case for consistent
improvement.
• The system is structured into the initial stages of project and directly affects the prospects of future
business based on performance. This can be far more effective than use of financial incentives or
penalties, which have not proved significant in aligning the behavior of private sector to the public
interest.
• The removal of safety adjustments eliminates impact on the long-term stream of payments, which
helps in alleviating the risk perception of private sector for a particular project.
• This system is not only capable of affecting performances under contracts to be signed in future, but
can substantially affect the performances of already signed contracts.
• The system is a very significant regulatory step from the public sector, which reduces the public
perception of PFI as a ‘backdoor entry of privatization’.
• It can be instrumental in continuing the interest of the private sector in delivering high quality
performances throughout the period of the DBFO contract. This arises of the fact that the
performances in DBFOs will also affect the selection of contractors under short-term contracts like
MAC. The performance will affect their future business prospects and hence, provides them with an
incentive to perform equally in all projects.
• This system can contribute heavily towards reducing bid prices for contracts. This arises from the
fact that if a company has lower score (reflecting inferior performances in the past), it will have to
close the gap with lower bid prices in orders to be competitive.
• The system reduces contract structuring and monitoring costs substantially by eliminating the use of
‘comparator roads’. The scores can be generated from the existing IT system of Highways Agency,
and can be automated with minimal expenses.
• This system integrates the Highway Agency network largely irrespective of the contract.
• The system is extremely flexible as the final weights of the Average Effective Score in awarding a
contract rests with the public sector. In cases, where the preference of the project is somewhere else,
the weights can be considerably reduced.
Auxiliary Regulations
E| Bartlett School of Graduate Studies, University College London

Scope can be kept for the private sector to claim better scores. In those cases, Highways Agency can
authorize specific consultant organizations for validating the claims. The cost of consultants in those
cases is borne by private sector, who wishes to put up a claim.
In addition, private sector can be allowed to put up possible recommendations to the public sector in
terms of laws, rules, or regulations, that the private sector may consider valuable in reducing accidents.
This system incentivizes the private sector to research its area of operation in the social or environmental
domain, which tends to increase accidents. The private sector may be encouraged to commission studies
to universities and research organizations in such domains. This transfers a substantial cost of research to
the private sector, and encourages proactive participation of private sector to make roads safer.
F| Bartlett School of Graduate Studies, University College London

APPENDIX IV: Innovation Enhancement Proposal for PPPs – Introductory Concept

The design of this structure is driven by three objectives:
a) Encouraging increased innovations by alleviating the problem of bounded rationality.

b) Capturing the benefits of these innovations in the bid proposals, ex ante of financial close.
c) Overcoming barriers of IPR by incentivizing private sector to share the innovations.
Innovation Enhancement Structure

Under the current form of PPP procurement, the bid proposals, especially the technical aspects of
innovation is evaluated by a body inside the Agency or is commissioned to another body by the Agency.
However, given the limited work force of the public sector, evaluations (both ex ante and ex post of
financial close) take considerable amount of time.
This structure proposes establishment of a Public Body for Validating Innovation (PBVI), or leveraging
over existing bodies like Transport and Road Research Laboratory (TRRL), Highway Authorities
Product Approval System (HAPAS), etc. Under this structure, every organization involved in road
transport is encouraged to register its innovation with the PBVI under the condition that the innovations
shall be available to any interested party through the PBVI database. The bottom line of this structure is
to establish a robust knowledge management system that can cater to the above three objectives.
The incentive for the organization is to accumulate score assigned by the PVBI, which depends upon the
impact of the innovation on the public benefits and associated cost reduction. These scores can be
introduced as a criterion in the PQQs (irrespective of the procurement route) and ISOP (in PPPs). The
incentives for the bidder to participate in this structure emerge from the facts that:
• Being a part of tendering criteria, the score will play a crucial role in any project under public domain.
• The availability of scores in public domain increases the possibility of being used by the private
clients as well. This incentivizes the bidder to participate, enhance the scores, and increase its chances
of winning even private clients.
• This score can go a long way in establishing the reputation of the bidder in delivering innovative
solutions.
• The opportunity cost of sharing an innovation can be offset by the availability of innovations from
other bidders.
• The return on investment in an innovation can be threatened by not sharing it. This is because; the
bidder then looses points and can end up not qualifying, which restricts him from leveraging from
the innovation.
Defining Innovation
Here, innovation refers to any concept or technique that leads to maximization of ‘measure of innovation’,
which is ‘associated benefits less associated costs’. Please note that we are not using the word ‘new’, which often
forms the basis of any proposed definition of ‘Innovation’. The reason is the very fact that new concept
is a relative to experience and expertise. Any concept or technique that is new to a particular bidder may
not be new to the others.
The idea of this structure is to create a database, which can not only leverage from private sector’s capability to innovate, but
can also benefit from its efficiency in implementation. Hence, any concept that has a positive measure of
innovation may be included, and it must be left to the bidder to decide whether to implement it or not.
Measure of Innovation = ΣBenefits - ΣCosts

G| Bartlett School of Graduate Studies, University College London
However, it is to be made clear to the bidders that neither PBVI nor the Agency will be endorsing or
taking up the responsibility of any innovation. It is not always possible to understand the externality of
innovation ex ante of implementation, and it must be left with the bidders to take the decision. This will
avoid any possibility of future claims that would arise otherwise.
Regulating use of database in Highway PPPs

The innovations must be archived with reference to time-line.
Pre-financial Close
• Any innovation that the bidder might want to implement needs to be evaluated and registered with
the PBVI.
• The use of the database in bids can be restricted up to those that have been archived before the
submission of the priced bids.
• Innovations that emerge between the submission of the priced bids and financial close should be
reflected into the bid price, if the bidder feels necessary.
Post-financial Close
• Use of innovations that were registered before financial close can be restricted post financial close, or
may be agreed on the basis of price reduction or any other benefit to the public sector.
• Any valuable innovation that emerges post financial close may be implemented based on a
negotiation between the agency and the contractor. The basis of such negotiations should be long-
term relationships and the agreement may or may not be in favor of price reduction.
Who can contribute to the database?

• The database can receive inputs from Agency personnel; PBVI personnel; private sector
organizations like consultants, contractors, etc; research institutions like universities and independent
institutes, etc. However, points can be gained only by private sector organizations based on only
those innovations that they share. This aspect can be developed through further study.
• It may be possible that certain innovations may involve use of certain materials or technology that
belongs to a third party vendor e.g. chemicals to increase life of road surface, technology involving
intelligent traffic systems, etc. These innovations may be shared and registered by a bidder only with
prior permission from the third party and when there is evidence of their successful use in previous
projects.
Benefits
• These encourage the bidder to carry out due diligence on the available range of innovations and
internalize those before financial close. Consequently, there is an increased possibility of improved
bid proposals and therefore, improved VFM for the Agency.
• It reduces the strain on the Agency and lets it focus on the other aspects of the bid. There is a
shortening of time, as the PBVI’s evaluation process is simultaneous to Agency’s evaluation of other
aspects of the bid.
• It creates uniformity in the knowledge of the bidders and helps in furthering the competitiveness of
bids.
• It can lead to enhanced collaboration between industry and the academics and encourage research led
innovation.
H| Bartlett School of Graduate Studies, University College London

• The structure may generate revenue and can be self-sustainable, if periodic subscription charges are
levied. The PBVI may also collaborate with public sector in other nations for sharing the benefits,
and may be able to generate revenue from grants.
• PBVI may be able to keep a continuous track of the innovations that are registered and are
implemented. In the long term, it can develop into a substantial source of knowledge regarding the
externalities of the innovations registered in the database.
I| Bartlett School of Graduate Studies, University College London

APPENDIX V: Equivalent Traffic Flow

Traffic flows vary according to the carriageway sections due to continuous entry and exit of vehicles
using slip roads, etc. This translates to the fact that different vehicles may travel different distances on
the same road. Hence, the Traffic Volume takes the value of

T = (Ki . Xi)

Where,
Xi = Distance between to points on road allowing entry or exit to the road
Ki = Traffic Flow in the particular stretch Xi measured per year in this case.
and, X1 < X2 < X3……………………….Xn ≤ !("#"$% %&'("ℎ # "ℎ& *#$+)
For simplicity in our analysis, we will consider Equivalent Traffic Flow (TF) for the entire road or area,
which can be representative of the general trend in the entire area.
2
345 (K/ 0 X/)
,- = 6
…….eq10
Hence,
7
,- = 6 ……..eq 11
Where, X is the total length of the road.
J| Bartlett School of Graduate Studies, University College London

Abridged Version of Research Report On UK Highway PPPs

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RESEARCH REPORT

UNIVERSITY COLLEGE LONDON 2010

Bartlett School of Construction Economics and Project Management

ii | Bartlett School of Graduate Studies, University College London

iii | Bartlett School of Graduate Studies, University College London

Figure 1 Transport Mode share - passenger transport (DfT 2010b) ___________________________________________ 1

Table 1 List of the DBFOs executed in England. (GB, 2010) ________________________________________________ 2

iv | Bartlett School of Graduate Studies, University College London

Value for Money (VFM) and Efficiency:

Funding and Financing:

Sharing of risk and allocation of risk:

v| Bartlett School of Graduate Studies, University College London

CapEx : Capital Expenditure

vi | Bartlett School of Graduate Studies, University College London

Figure 1 Transport Mode share - passenger transport (DfT 2010b)

1.1. PPPs in Highways – Emergence of DBFOs in the UK

Table 1 List of the DBFOs executed in England. (GB, 2010)

1.2. Research Rationale

2| Bartlett School of Graduate Studies, University College London

1.3. Research Methodology

1.4. Research Outline

1.5. Value of Research

3| Bartlett School of Graduate Studies, University College London

2. Procurement Economics – A Literature Review of PPPs

2.1. Economic Characterization of PPP

• PPP can reduce costs without degrading benefits.

2.2. Theoretical Framework of PPPs

2.2.1. Incomplete Contracts and Private Information

4| Bartlett School of Graduate Studies, University College London

While contemporary literature considers adverse selection to be a consequence of pre-contractual

2.2.2. Bundling and unbundling

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OBS 3: Incentive-mapping techniques must be introduced in assessing the contracts. Conflicting

2.2.3. Transaction Cost Economics

2.2.4. Principal Agent Problem

6| Bartlett School of Graduate Studies, University College London

2.2.5. Optimum Risk Sharing

7| Bartlett School of Graduate Studies, University College London

2.2.6. Whole Life Cycle Costing

2.3. Description of Highway PPPs

2.3.1. Revenues in PPPs:

The problem as identified in the Severn bridges is twofold:

2.3.2. Costs in PPP

Table 2: Sensitivity Analysis (Simplistic)

9| Bartlett School of Graduate Studies, University College London

Table 3 Probable cost segments in a Highway PPPs

10 | Bartlett School of Graduate Studies, University College London

2.3.3. Public Benefits

• Reduction in Accidents: This values the cost of accidents to the users.

2.3.4. Cost and Benefit Analysis & VFM Assessment

11 | Bartlett School of Graduate Studies, University College London

2.4. Concluding Remarks

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BOX 1: THE FRAMEWORK

OBS 3: Incentive-mapping techniques must be introduced in assessing the contracts. Conflicting

13 | Bartlett School of Graduate Studies, University College London

3. Procurement through Public Private Partnerships in Highways

3.1. Tendering in Highway PPPs

3.1.1. Competitive Dialogue – A Brief

BOX 2: Competitive Dialogue Procedure

3.1.2. UK Highway PPPs - Tendering Process

14 | Bartlett School of Graduate Studies, University College London

Relevant Experience Management Systems Resources

MCP = (GCP, PB, PA)