September 10, 2012
For review by P3 Evaluation Toolkit Beta-Testers
Risk is a key characteristic of public private partnerships, influencing project structure and cost, and the assessment of risk is a critical task in developing, negotiating, evaluating and managing P3 projects. Risk assessment assists in overall project evaluation, supports the design of technical requirements and commercial terms prior to procurement, assists in negotiations with proposers with regard to the allocation of risk, and is a pre-requisite in development of risk management plans.
Under the traditional design-bid-build procurement process, public agencies typically retain the majority of the risks associated with a project. When public agencies take on major projects under traditional procurement process they tend to undervalue those retained risks. As a result, budget and schedule estimates are often optimistic and the full life-cycle costs of a project are rarely considered. P3s derive much of their value by structuring contract agreements to transfer many of the risks that are traditionally retained by the public sector to the private sector.
P3 procurement processes require a transparent accounting and valuing of risks, because the risks transferred to the private sector will generally be factored into the costs of bids as a risk premium. To ensure the best value for the public, the procuring agency needs to perform a thorough risk analysis to determine which risks it should manage internally and which ones it should transfer to the private sector.
Risks are identified and assessed through workshops, i.e., formal meetings where project team members, subject matter experts and others responsible for estimating the costs and schedule of a project work together to identify and analyze risks. Risk workshops result in a "risk register" describing significant risks, assessments of risk probability and impact, and preliminary risk response plans.
Agencies may use the risk register to assign a monetary value to each risk. This can help a public agency decide which risks to transfer to the private sector, which to retain, and which to share. By calculating the net present value of the risks transferred to the private sector under a P3 procurement model, a public agency can compare the risk-adjusted net present cost (NPC) of procuring the project under the traditional procurement method to that of a P3 procurement in order to assess value for money. A key criticism of risk valuation pertains to the validity of the calculations. A sensitivity analysis to test the effect of key assumptions is therefore essential.
The goal of a P3 is not to transfer all project risks - rather, it is to transfer those risks that the private sector can manage most efficiently and that meet the overall goal of the project. For each risk transferred, there is a premium that the project owner must pay to the private entity. A risk may be priced differently by the public and the private sector, depending on their capabilities. It may be financially inefficient to transfer risks that the private sector will have a difficult time managing.