1. Value for Money Test in Korea
Jungwook KIM
Director, PPP Division
Public and Private Infrastructure
Investment Management Center
PIMAC

2. 1. Process of PPP Project Implementation

3. Project Initiation
Both the government and a private company can initiate a PPP project
Solicited Projects
A solicited project is that the competent authority identifies a project for private investment and announces a RFP
Competent authorities develop a potential project after considering related plans and demands for the facility. They then weight the procurement options in order to determine whether the PPP procurement is more efficient than the conventional procurement
Unsolicited Projects
For an unsolicited project, a private company (project proponent) submits a project proposal, and then the competent authority examines and evaluates the contents and value for money of the private proposal, and designates it as a PPP project 3

4. Procurement Steps of a Solicited Project
Competent Authority
Review by PIMAC
Selection of PPP Project
Designation as the PPP Project
Announcement of RFPs
Submission of Project Proposals
Evaluation and Selection of
Preferred Bidder
VFM Test
Negotiation and Contract Award
(Designation of Concessionaire)
Application for Approval of
Detailed Implementation Plan
Construction and Operation
Private Sector →
Competent Authority →
Concessionaire →
Concessionaire 4

5. Procurement Steps of an Unsolicited Project
Submission of Project Proposal
VFM Test
Notification of Project
Implementation
PIMAC
Private Sector →
Competent Authority
Competent Authority →
Proponent
Announcement of RFPs
Submission of Project Proposals
Evaluation and Selection of
Preferred Bidder
Negotiation and Contract Award
(Designation of Concessionaire)
Application for Approval of
Detailed Implementation Plan
Construction and Operation
Concessionaire →
Concessionaire
Unsolicited Project 5

6. VFM : The Theory

7. The VFM Concept What is Value for Money? Why it is Used?
The best available outcome after taking account of all benefits, costs and risk over the whole life of the project (HM TREASURY)
Not lowest price
Why it is Used?
Seek the best use of available resources
Efficient and effective public service delivery
“ The competent authority uses VFM reports as basic material to make a judgment on whether to move forward with the PPP project proposed by the private proponent” according to the Article 7, Paragraph 3 of the Enforcement Decree of the PPP Act 7

8. Key Elements of VFM VFM is often a comparative assessment
Requires a benchmark cost : PSC (Public Sector Comparator)
PSC is a benchmarking and evaluation tool : a Key tool
Benchmarks the cost of government service delivery
Evaluates whether VFM is delivered from bids
A Procurement principle, not only for PPP
Adopted by different countries to meet government’s procurement practices
Not a universal tool
Applied on a project or program basis
Innovation, asset utilization, risk sharing, competition, service integration ate main key drivers of VFM
Presence of VFM drivers confirms suitability for PPP 8

9. The Role of PSC
Promote whole life costing early in the project’s development
Assist in assessing the project affordability
Provide a means for demonstrating VFM
Provide a consistent benchmarking and evaluation tool
Encourage bidding competition
Based on :
Reference Project
Risk analysis
Cash flow over the life of the project (inflation, cost, revenue, discount rate..)
Government procurement costs to asses project affordability 9

10. VFM Assesment Compare to PSC or between bidders
Presence of VFM confirms suitability for PPP.
NPV of
Transferable
Risk
PSC
PFI
PPP Contract
QUANTITATIVE VFM
Retained Risk
Competitive
Neutrality
Raw PSC 10

11. 3. VFM : The Practice in Korea

12. Implementation
PIMAC of KDI is in charge of VfM test as stipulated by the PPP Act
VfM test is carried out in accordance with ‘Guidelines for implementation of VfM Test/Review of Proposal for unsolicited BTO projects’.
Five interim review meetings are held during the VfM test
The duration of each project research should take up to six months
Same methodology and procedure are applied both to VfM Test and Review of Proposal
Objectivity, consistency, independence as well as professional expertise are important elements in conducting VfM tests. 12

13. Organization of a Research Team
A VfM test is carried out by a multi-disciplinary research team
KDI (Project Manager)
Experts with relevant skills and expertise for the project are selected at the preliminary stage
External experts (selected from human resource pool)
Demand forecasting : university professors
Cost estimation: engineering companies
Accounting: accounting firms 13

14. Scope of a VFM Test Phase 1: Feasibility study (Decision to Invest)
The cost- benefit analysis is conducted to determine feasibility of the project from a national economy perspective.
Phase 2: Value for Money Assessment (Decision on PFI)
The government payment of PSC (Public Sector Comparator) is compared against that of PFI (Private Finance Initiative) to assess whether the PFI achieves VfM.
Phase 3: Formulation of PFI alternatives
Based on the results of phase 2, an appropriate PFI alternatives are formulated
The level of project cost, user fee, subsidy scale, etc. are suggested from the government.
Phase 4: Award bonus points to the initial proponent
Bonus points (10% max.) awarded to the initial proponent are estimated based on the results of VfM tests and the quality of the proposal. 14 14

15. VfM Analysis Implementation Method
Setting Comparators for VFM Test
VfM Analysis Implementation Method
Unsolicited
With Public Plan
Solicited
Private Finance Initiate
PFIp
(based on proposal)
PFIp (proposal)
PFIG
(research team)
PFIG (research team)
Public Sector Comparator
PSCp
(estimated by research team)
PSCp (research team)
PSCG
PSCG (research team) 15

16. Flowchart of a VFM Test (Unsolicited)
Project Proposal(PFI0)
Construction of PSC(PSC0)
Phase 1 N
Feasibility analysis
Construction of PSC1, PFI1
VFM test of private proposal
(VFM1=PSC1-PFI1≥0)
Phase 2 N Y
Construction of PFI2-i,
Phases
3 & 4
VFM test of PFI alternative
(VFM2=PSC1-PFI2 * ≥0) N Y
PFI Alternative (PFI2*)
Calculation of bonus points
Rejection 16
Implementation of PPP Project 16

17. Flowchart of a VFM Test (Unsolicited with Public Plan)
Construction of PSC (PSCp )
VFM test (VFMP1)
VFM test (VFMG1)
Construction of PFIp2
Calculation of Bonus Points
(VFMp )
PFI Alternative (PFI2* )
With bigger NPV
Rejection
Implementation of PPP
VFM test
(VFMP2=PSCp2-PFIp2≥0)
(VFMg2=PSCg2-PFIg2≥0)
PSCp1, PFIP1
PSCG1, PFIG1 N Y
PSC by Public Plan (PSCG)
Phase 1
Phase 2
Phases
3 & 4
Construction of PFIP2
Feasibility Test (PSCp PSCG)
Project Proposal (PFIp)

18. Flowchart of a VFM Test (Solicited Project)
Construction of PSC (PSCG)
Feasibility Test (PSCG)
VFM test (VFMG1)
Construction of PFI Alternative
Rejection
Implementation of PPP N Y
Construction of PSCG1, PFIG1
Phase 1
Phase 2
Phases
3 & 4

19. Phase 1: Feasibility Study (1)
Assess project feasibility and necessity in the context of national economy and policy directions
Cost-benefit analysis method is used to assess the economic feasibility of a project
CBA is conducted in accordance with sectoral guidelines (e.g. roads, railroads, ports, seaports, dams, and environment facilities) for PFS (Preliminary Feasibility Study)
B/C ratios calculated based on Estimation of demand, costs, and benefits
Sensitivity analysis
Policy analyses, if necessary, are carried out 19

20. Phase 1: Feasibility Study (2)
Setting a PSC (Public Sector Comparator)
Setting an appropriate PSC option is very important both to feasibility and VfM of a project
A basic assumption of VfM test (including FS) is that the same level of service will be provided by both PSC and PFI options
In reality, a PSC option that is compatible with PFI proposal is formulated
Total, (risk adjusted) whole-of-life cost of the project is estimated if government is to undertake the project.
User fee and project cost of PSC are not necessarily same as those of PFI
The user fee of PFI is usually larger than that of PSC 20 20

21. Phase 1: Feasibility Study (3)
Policy analyses are carried out if necessary
Evaluation in qualitative/quantitative terms whether the project is justified in relation to relevant policy issues
Relevant policy issues: balanced regional development; consistency with higher level plan and policy directions; and environment impact analysis, etc.
The overall feasibility of a project is assessed based on economic and policy analyses
If the FS results demonstrate that the project is feasible, then VfM assessment ensues.
If not, the VfM test process as a whole is suspended, and PIMAC recommends the Competent Authority to reject the project proposal. 21

22. Phase 2: VFM Assessment (1)
Government spending of the PSC is compared against government payment requested by PFI proposal to assess if PPP procurement improves the value of tax payer’s money
Features of VfM assessment
It assists government making decision on appropriate procurement options: conventional public procurement vs. PPP procurement.
It provides a quantitative VfM level and a justification for the decision on procurement option.
It provides a reliable benchmark and specifies project scope.
It encourages project appraiser to consider risks early in the project lifecycle, and address risk transfer options in the bidding process.
It reduces negotiation time and increases the efficiency of bidding costs as the scope of private sector bids are more aligned with the public sector needs, and risk transfer profiles. 22

23. Phase 2: VFM Assessment (2)
Cost items adjusted for competitive neutrality between PSC and PFI options
Revenue from user fee is deducted from government payment of PSC
Revenue from supplementary project is taken into account in consideration of both options
VAT and other tax payments are adjusted
Same amount and payment schedule of land acquisition is applied to both options
Administrative costs incurred by governments for project management are excluded from both options
Insurance fee are estimated in different ways, reflecting the difference in market valuation of project risk by project owners
Additional government support if requested by private company is included in both options based on estimated spending 23

24. (Capital costs + operating costs) Total government payment
Phase 2: VFM Assessment (3)
Item
PSC
PFI
Capital costs
Project costs
Construction cost
(1) Cost of survey
(2) Design cost
(3) Construction cost
Land acquisition cost
(4) Compensation for land
and other possessions
Supplementary cost
(5) Cost for feasibility study
(6) Cost for transportation
impact assessment
(7) Cost for environmental
(8) Cost for supervision
(9) Insurance costs
(10) Cost for operation equipment
(11) Taxes and fees
(12) Business setup costs
Financing costs
(13) Financing costs
operating costs
(14) Operation costs
(15) Maintenance costs
(16) Management and supervision costs
① Base cost born by
the government
(Capital costs + operating costs)
- operating revenue
Construction subsidy + land acquisition cost +additional government support
② Risk adjustment
costs
Cost and time overrun
Total government payment
① + ② 24

25. Phase 2: VFM Assessment (4)
Present value of government payments for PSC and PFI options are estimated (discount rate = 5.5%) and VfM(%) is calculated
GP(PSC) = Capital costs + operating costs – Revenue
GP(PFI) = Construction subsidy + Compensation costs + Additional government support
GP(PFI) is the government subsidy requested by the private party in the project proposal 25

26. Phase 2: VFM Assessment (5)
Qualitative VfM assessment
Allocation of risks (construction, operation risks, etc.)
Improvement of service qualities
And other ripple effects (positive externalities): Promote the financial market through the adoption of an advanced financial technique, etc.
Quantification of project risk transfer is not satisfactory and those qualitative effects are not incorporated into overall VfM assessment so far 26 26

27. Phase 3: Formulation of PFI Alternatives
Financial analysis and sensitivity analysis are carried out to assess the profitability (bankability) of a project
Based on the VfM assessment and financial analyses, PFI alternatives including the following components, are formulated:
Total project costs
User fee
IRR (Internal Rate of Return)
Total government payments
Other components related to the implementation of the project
The Competent Authority chooses the most appropriate PFI option and invites third parties to tendering
If it is impossible to formulate a PFI alternative that delivers VfM at a reasonable level of IRR, then the PFI option is rejected 27

28. Phase 4: Bonus Points for Initial Proponent (4)
The VfM test team makes decision on bonus points (10% max) to be awarded to the initial proponents based on the VfM(%) and quality of the proposal
The quality of a proposal is evaluated based on the following criteria:
① Priority of the project in the mid- to long-term government investment plan (10 points)
② Composition of equity investors (10 points)
③ Excellency of construction and operation plan (30 points)
④ Accuracy of demand forecast (30 points)
⑤ Prior consultation with relevant government agencies and plan of addressing of civil complaints (10 points)
⑥ Adequacy of required documentation (10 points) 28

29. Phase 4: Bonus Points for Initial Proponent (4)
Swiss Challenge: the original proponent has right to counter-match any superior offer.
Best and Final Offer: the winning bidder must compensate the original proponent for project development costs. 29

30. Phase 4: Bonus Points for Initial Proponent (4)30

31. Use of VFM Test Results
The VfM test sets the bottom line to meet the condition of ‘VfM≥0’ in selecting preferred bidder and following phases of a project.
VfM reports are used as an important reference when tender evaluation committee conducts their work.
VfM reports provide useful information to prompt negotiation process.
VfM reports are used as reference when ex-post VfM tests are conducted. 31 31