Enhancing The Real Estate Value Chain Through Concessionary Contracts.

Introduction

Nigeria’s high growth rate, coupled with its urbanization statistics has brought about the much referenced housing deficits of over 14million units. Various strategies has been adopted by successive Nigerian governments to tackle these deficits, from the direct construction approach to the involvement of the private sector in the National Housing Policy of 1991 and the new housing policy direction derived from the reports of the Presidential Committee on Housing and Urban Development. This led to the establishment of the Federal Ministry of Housing and Urban Development (FMHUD) and restructuring of the Federal Mortgage Bank of Nigeria (FMBN), the establishment of Real Estate Development Association of Nigeria, REDAN; amongst others.  Recent policy directions in the real estate sector include the establishment of the Nigeriam Mortgage Refinancing Company (NMRC) as a tool for upgrading finances for private sector led participation in the housing sub-sector of real estate industry.

However, the involvement of the private sector is still at its rudimentary stages, with approaches limited to alliances rather than concessions.  Taiwo & Adegun (2011) highlight how arrangements for the private sector participation in real estate generally take the form of a fit-for-all procurement process:

  1. Government conceives of the project, identifying its preferred site
  2. Preliminary development appraisal takes place; after which a tendering process occurs for the appointment of a professional team. Contracts are then awarded for actual construction; completion and disposal of the project takes place, as well as profit sharing, where the project is actually completed! 

This model is a partnership approach in real estate delivery, rather than a concessionary relationship. 

As noted in Nubi (2001), traditionally in Nigeria’s construction industry, Architects have acted as surrogate clients, taking the clients’ brief and advising on the appointment of other consultants and contractors and subcontractors. Other consultants will join the design and administration team through the life of the project and the contractor will usually be selected from a competitive tendering process based on a fixed price bid. However, most of the production works are subcontracted to other contractors.  There are generally endless cases of litigation as a result of dispute, total abandonment of projects, and use of inferior building materials that leads to severe defects in construction. 

Today’s dynamic real estate market has opened up new operating models for all facets of the real estate sector. Multiple demand from a wider range of markets, multiple centres of economic power and activity, the emergence of the nouveau riche and increasingly young, agile and mobile middle class are factors that characterize the demand base for real estate in Nigerian cities today. Governments are increasingly challenged by the demands of globalization to discard old business approaches in favour of newer models that fit into contemporary thoughts. For private organizations in the real estate sector, all these pose various challenges to the way business is done, such that only those organizations that are able to position themselves would survive in the highly competitive real estate sector. Nigeria’s construction sector, for instance faces competition from both local and international players. Chinese companies are already strong players in the country’s road construction, telecommunication and electrical infrastructure sectors. The ability to be agile, to be positioned to draw project funds from multiple sources, while fostering partnerships with end-users and other stakeholder groups has become paramount for the industry. 

Public Private Partnerships 

PPPs originated in the 17th century in the construction of French canals and bridges in the 17th century. Other projects such as the Suez Canal, the Trans-Siberian railway followed in the 18th century (Mabogunje, 2002). Liberalization of economies has been a major factor in the continued use of PPPs as infrastructure delivery mechanism since then. PPPs can best be defined as a long term venture between the public and private sectors, with each partner taking on responsibilities for which it is best suited, in an arrangement that best meets clearly defined public needs through the appropriate allocation of resources, risks and rewards.

Tang, Shen & Cheng (2010) identify various arrangements under which PPPs could be carried out. These are:

  1. As Private Finance Initiatives (PFIs): Like other PPP arrangements, a Private Finance Initiative PFI is an arrangement wherein the public sector engages the services of a  private sector partner to finance, design, construct and operate a facility for a specified periods of time. However, a PFI is distinct from other PPP arrangements in the required output; which is the procurement of services rather than construction and operation of the facility. This involves the purchase of quality services by the public sector partner from the private sector, which is expected to maintain and construct the infrastructure. The private sector supplies designs, builds, finances and covers the costs through charges on the users of the asset (Tang et al, 2010). A PFI is actualized through the operationalization of a SPV made for that purpose alone.  The SPV is composed of private sector investors, a construction company, a service provider and often a bank; this structure has been used extensively in the UK to provide public infrastructure including prisons, rail links and hospital procurement in the UK (Ellidge and Oladapo, 2014). It has been used to procure more than 900 projects, valued at over £70 billion. However, as documented by Ellidge and Oladapo (2014) its use in the UK is currently contentious owing to allegations that PFIs do not deliver value for money for the public sector and are often procured at higher cost of finance.
  2. Joint Ventures: In JVs, a new company is registered by the public and private sector partners to carry out the infrastructure construction and management. JVs allow better participation of the private sector in managing the business, while both partners contribute assets, finance and expertise to the development of the business.
  3. Franchises: Beyond the conventional allocation of risks and expectations in a PPP, Franchise arrangements necessitate the private sector paying a fee during the concession period awarded by the government for the revenue (or a share of the revenue) that the service generates.
  4. The Build–Operate–Transfer (BOT) is the most popular of all forms of PPP arrangements. It involves the private sector building the project, operating it for a stated time (the concession period), after which it transfers all rights to the public sector organization without any further payment.

Other public-private arrangements for infrastructure provision include:

  1. Design-Build (DB) or Turnkey contract, 
  2. Design-Build-Operate-Maintain (DBOM), 
  3. Build-Own-Operate-Subsidize-Transfer (BOOST), 
  4. Design-Build-Finance-Operate/Maintain (DBFO/M), 
  5. Service Contract / Operations and Maintenance (O&M), 
  6. Management Contract (MC)/Operations, Maintenance and Management (OMM), and Concession.
  7. Build- Transfer-Operate (BTO), 
  8. Design-Build-Operate (DBO), 
  9. Build-Lease-Transfer (BLT)/ Lease-Purchase, 
  10. Build-Own-Operate (BOO), 
  11. Rehabilitate-Own-Operate (ROO), 
  12. Buy-Build-Operate (BBO), 
  13. Build-Own-Operate and Transfer (BOOT).

What is a concession contract and what constitutes concessionary relationship?

Concession contracts are contracts in which ownership rights continue to reside with public authorities while the private sector player acquires operational rights for determined returns. Concession contracts are manifested in the various variants of public-partnership as indicated the arrangements mentioned above. 

Concession contracts, especially the Build-Operate-Transfer model is especially popular in developing countries as a tool for meeting critical infrastructural development needs. It has been described as an integrative procurement model designed to finance public infrastructure facilities, achieving economical growth without utilization of government finances (Dahiru and Bustani, 2010). It is a tool that the Nigerian government recognizes as critical for bridging infrastructural gaps in key sectors of the economy such as power supply, transportation routes and facilities including roads, airport terminals, seaports and railways; as well as bridges (Okonjo-Iweala and Osafo-Kwaako, 2007). 

Basic elements of a concessionary contract are:

  1. It is encased in a public-private partnership arrangement between a public authority and a private sector player (which could be a consortium of several private sector players).
  2. The private sector partner gets exclusive rights to build, operate and maintain the asset for a specific period of time usually above 20 years
  3. The public authority retains ownership rights for that time period
  4. The public authority also derives revenue from the project, which the private partner pays as either a fixed sum or a percentage of the income generated from the project. This revenue is derived as consideration for the exclusionary operation rights held by the private sector partner
  5. The private sector partner in return charges end-users a user-fee from which the profitability of the whole venture is derived.  

Appraisal of the opportunities for the use of concession contracts in the real  estate sector.

The advantages of concessionary contracts in infrastructure provision is well documented. It is acknowledged as a most expedient mechanism for the provision of certain classes of public infrastructure. However, in Nigeria, the implementation of concessionary contracts in BOTs in such conventional ventures as infrastructural provision has been fraught with constraints such as lack of clear risk allotment, political influence and corruption as well as ineptitude on the part of the concessionaire (Wigwe 2008; Dahiru 2009). Not surprisingly, its use in real estate development in Nigeria is still in its infancy being restricted to the procurement of commercial projects and associated infrastructure. However, there are some potentials inherent in the way concessions work that would make it a formidable instrument for housing provision in Nigerian cities in the not too distant future.

The basic premise of this assertion is that housing provision could thrive in a PPP arrangement where the private sector constructs, leases and manages properties for a given period of time, while the public authority maintains ownership rights. On the other hand, a mortgage arrangement could also be structured to ensure that ownership rights are transferred to the occupier, rather than the government at the end of the expiry period. 

The following are worthy of consideration:

  1. The fact that before inception, concession contracts are generally subjected to a thorough bidding process. This process introduces a strong element of competition that could see bidders trying to reduce construction costs through their procurement chain, construction methods etc. this is beneficial to the industry and home-seekers.
  2. While in general concession contracts could be subjected to implementation bottlenecks where eventualities that lead to price changes occur within the period of contract; housing values appreciate over time ensuring that periodic reviews are in-built in the contract. The inherent character of appreciation associated with housing also provides an incentive for the private sector to ensure proper management and maintenance principles for the properties under the contract. Housing as an asset that appreciates over time cannot be compared to other infrastructure such as roads, that inherently depreciate over time.
  3. Concessionaires are usually remunerated based on agreed tariffs collected directly from users. In housing, this tariff could be the rent passing on the property. As tariffs are contractually negotiated, subjected to review and regulated by setting price-caps, rents from housing projects can also be treated in this manner, with the possibility of achieving efficient returns for both the concessionaire, the government and the users of the property.

On the other hand, there are also a few points that could constitute potential bottlenecks in the use of concessionary contracts in the housing sector. 

  1. In concessionary contracts, ownership rights are retained by the government during the contract period, while the operational rights are transferred back to it after the contract period. As housing is both a social and economic good, coupled with it being a desirable asset to own, it would be necessary to clearly delineate how property users are treated during and after the concessionary period. Are they to be seen as renters or potential owners who could benefit from ownership of the property after the expiration of the lease? This decision would have far reaching effects on the way the contract is structured.
  2. Concession contracts are complex, requiring a change in mindset from the traditional method of procurement. All stakeholders must thoroughly understand the process. Due to the limited use of the method in housing in particular, it might be difficult to envisage potential uncertainties. However, effective monitoring would help to manage this.
  3. A clear policy drive and a strong commitment by the government is required to ensure that the concessionary contract is fulfilled. A strong regulatory commitment to the project will ensure that stakeholders’ interests are protected, renegotiations conducted in a value-for –money manner, tariff reviews carried out as necessary and asset properly maintained. 
  4. Capacity building in the industry in this direction needs to be upgraded. Corporate real estate developers, as well as the government of across the three tiers in Nigeria, need to see the potentials in concessionary contracts as a means of (profitably) increasing housing supply.

On the other hand, continuous education is required to increase the skills necessary for efficient operations in the construction sector.

Typical Framework Of A Concession Contract In Housing Provision

Concession contracts in housing would follow 6 steps as shown below:

  1. Awarding Process: this could be done through bilateral negotiation with only one potential concessionaire or through a competitive tendering process that sees various private sector players actively bidding through the quality of previous services provided for the project. In housing, the use of competitive tendering holds strong potential as bidders would compete on various fronts such as cost of construction, design efficiency, and ultimately rentals. The pre-qualification stage could spell out all these and could be used to screen out defective bidders that would not give value for money in the long term.
  2. Selection of Concessionaire: A prequalification process would reduce the number of bidders to a manageable size; that would then be required to complete the process by open competitive bidding. Given the variety of infrastructure such contracts are used for, several variables, not just lowest cost might be used as the deciding factor in the selection of the preferred bidder. Examples are concession fee, revenue, amount of subsidy from the government, minimum duration of the concession and so on. In housing, variables such as minimum rent passing to the tenants would also be a strong criteria in the choice of the preferred bidders.  In setting the concession period, a thorough and in-depth investment appraisal is required to ascertain the time period in which costs are recovered. The use of real estate development based risk analysis is also important in this appraisal.  The time period should also have in-built mechanism for reviews.
  3. Constructing/Building the Properties: Given the social need that housing satisfies, it is possible to have several concessionary contracts for several categories of housing projects, such as low-income housing, middle income housing, mass housing, affordable housing etc. the concessionaire is expected to carry out the construction of the project within a contractually agreed time frame without reducing quality and within the cost agreed. The participation of public authorities should speed up regulatory bottlenecks associated with obtaining planning permits, title documents and so on. Effective project management use is expected in this phase.
  4. Occupying the Property: This is the phase in which tenant selection takes place, and subsequently, occupation of the completed homes. Careful tenant selection based on sound property management principles is appropriate to ensure that rents are remitted as at due. This is crucial for the success of the project. Mechanisms for treating defaulters must be clearly spelt out, as well as the period of tenancy and conditions for renewal. In this phase also, the concessionaire is expected to carry out both periodic scheduled; and unscheduled maintenance of completed and occupied properties, to ensure that the asset truly appreciates over time. This stage runs through the entire lifecycle of the project and is delivered to a variety of users. Therefore, the concessionaire must utilize defined facility management approaches in the operation (tenant selection, management) and maintenance of the properties. Post-occupancy evaluation of successive tenants is also a useful tool for assessing the quality of services provided by the concessionaire during the lifecycle of the contract. 
  5. Evaluation at the End of the Concession Period: The public authority partner must carry out a thorough evaluation of the project at the end of the concession period to determine whether objectives were met, value for money achieved and the level of satisfaction from the users of the property. This process also involves direct participation by the concessionaire. Crucially, lessons learnt must be integrated into subsequent arrangements.
  6. Reversal of Asset: In general concessionary contracts, at the end of the concession period, and with the performance of the project ascertained, the contract is either renewed, or the total operational and ownership rights of asset are returned back to the government. In housing, it is possible to either revert back to the government, or the tenant. If the latter, it is important that a structure, such as mortgages has been established.  

Other Opportunities For The Use Of Concessionary Contracts In Real Estate Development

Apart from new-build housing provision, several other options exist for the use of concessionary contracts in the real estate sector. These are highlighted below:

Site and Services Scheme.

Site ad services schemes come in an enormous variety. The general principle is that government provides affordable plots of land with access to basic infrastructure. These lands are sold to the public; who would then carry out the desired construction on them.  The concept was seen as a means of relieving the National Government from the burden of direct construction of houses, which was characterized by inflated contracts and substandard housing production (Nubi, 2001). It is also notable that no fewer than 30,000 allottees had benefited from the scheme, which covered the major cities across the Nation.

In concessionary contracts, site and services scheme could be expanded using the following structure:

Special Purpose Vehicle (SPV) With Gap Funding

  1. Land/site/location contribution by Government
  2. Private Sector Partner provides pump-priming infrastructure and capital investment to initiate the project (where the private sector partner is to go into direct construction)
  3. Government provides gap fund to the private sector partner, which represents the developer’s profit
  4. Receipts will first be used to clear the direct costs of development such as infrastructure, then to provide returns for the developer/investor and finally, any surplus remaining at the end of development/project will be returned to the parties within an agreed formula. Joint Venture could be done through legal partnership arrangement (Creation of SPV)

This structure is referred to as Special Purpose Vehicle (SPV) with Gap Funding and has been used extensively in urban regeneration and social housing in the UK.

Urban Regeneration

Given the rapid rate of urbanization in Nigerian cities, the rise of slum communities has been unprecedented. Slum clearance and upgrading has therefore featured in the policy documents of both the federal government and state governments. Urban regeneration encapsulates attempts to adopt holistic approaches to slum clearance and upgrading and improvement in such a manner that social, economic and environmental interventions are made for the upliftment of the area. This could necessitate the provision of infrastructure such as roads, electricity, schools, hospitals and so on. Traditionally, these are provided directly by the government; but opportunities exist for their provision through concessionary contracts. The Private Finance Initiative (PFI) structure, highlighted below could be useful for achieving this.

  1. A private consortia bids to design, finance, build and operate infrastructure on behalf of the public sector for a period of around 30 years
  2. Output specification is made by Government in terms of services rather than design (the main distinction with other forms of PPP)
  3. An appropriate amount of risks is transferred to the private sector partner
  4. The Government undertakes to pay an incentivised unitary payment for using the infrastructure and services
  5. Thus Government rents the facility rather than own the assets
  6. Precludes the need for initial lump sum payment
  7. Three Main Parties: Awarding Authority (The Government), SPV (A limited Company set up by the private sector, made up of a consortia for the sole purpose of delivering the Project and Third Party Financiers

Conclusion: A list of critical success factors in concession projects

The challenges facing land assembly, affordable construction options and real estate financing in Nigerian cities can also be addressed through collaborative partnerships. Industry practitioners; contractors, construction companies, financial organizations, real estate developers and government agencies all need sit together in one room, to work together, to set an agenda for the real estate sector in Nigeria. This will create a holistic solution that would cross across the value-chain, with minimal opportunities for disjointed policies, such as with the Pension Fund and the Real estate financing.

The successful use of the PPP in other countries is generally based on three conditions: that there is a political will to initiate the process, to go through the tendering and procurement phase, secondly, there is a need to have influential and capable human resource driving the project: from government officials. To investors and floor workers, all must come with the appropriate skill set and mind-set to interact with one another, bypass bureaucracies and see the project through.  Lastly, the process should be transparent and the complexity that characterizes concession projects be broken down into simple operational lots for all stakeholders, including end-users and communities whose interests the PPP is meant to serve in the first place. 

Appropriate project choice based on feasibility and viability appraisal, strong stakeholder team including competent technical support and experienced regulatory authority as well as local communities where necessary, stable macro-economic environment, attractive and profitable financial package for the concessionaire, clear and reasonable risk allocation, effective procurement of -contractor and sub-contractor, inclusion of specific review clauses in the bid are all key success factors. In addition, strategic alliances based on mutual trust amongst stakeholders both internal and external to the project; clear and strong commitment to project actualization by the government in particular, clear risk allocation and profit sharing amongst partners, 

Lastly, successful concessionary projects require rational pricing mechanisms that incorporate end-users’ willingness to pay, compliance by all parties to contractual agreement, clear policy statement for the adoption of BOT, including regulatory and legal issues. 

References

Adegun, O.B. & Taiwo, A.A. (2011). Contribution and Challenges of private Sector’s in Housing in Nigeria: Case Study of Akure, Ondo State. Journal of Housing and the Built Environment, 26 (4), 457-467

Mabogunje, A. (2002). Housing delivery problems in Nigeria, Punch Newspaper, Wednesday, May, 2002.

Okonjo-Iweala, N. & Osafo-Kwaako, P. (2007). Nigeria’s Economic Reforms: Progress and Challenges. Published by The Brookings Institution, NW Washington, DC 20036.

Tang L., Shen Q., & Cheng E.W.L. (2010). A review of studies on Public-Private Partnership projects in the construction industry. International Journal of Project Management,  28  (7), 683-694.

Dahiru, A., Bala, K. and Bustani, S.A. (2010) Assessing the Critical Success Factors of BOT Projects in Nigeria. Proceedings of the Second International Conference on Construction in Developing Countries (ICCDC- II) held at Egypt.

Citation: Nubi, T.G and Oyalowo, B.A. (2014). Enhancing the Real Estate Value Chain Through Concessionary Contracts.  [Blog post]. Retrieved from http://chsunilag.com/Public-Private-Partnership 


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