Public-private partnership is a familiar and well-practised concept in Hong Kong. It has been used in a wide range of public projects, from submarine harbour tunnels to sports stadiums and retail focused commercial complexes. The sectors where PPPs have been implemented in Hong Kong are perhaps more diverse and somewhat atypical compared to other jurisdictions. PPPs are used not only for large public infrastructure projects but also for projects which might otherwise be categorised as commercial developments. A range of different PPP structures are also seen in the market, including build-operate-transfer (BOT), design-build-operate (DBO) and concessions, with BOT structures becoming more prevalent in recent years.
The overall legal framework is generally quite welcoming to foreign investors, with no specific restrictions on foreign private developers and operators participating in PPPs. The procurement process for PPP projects is also a relatively well trodden path and there is a significant degree of de facto consistency in the processes adopted by different procurement entities when initiating PPP projects. However, the lack of comprehensive uniform PPP law does introduce some uncertainty to this area.
PPP activity has remained relatively healthy in the last few years, in spite of the impact of COVID-19. And more opportunities for PPP projects would be expected to spring up in the coming years, as the government (faced with public budget constraints) will likely seek to leverage private sector capital and expertise to stimulate the economy.
PPP projects in Hong Kong are usually initiated by individual government departments or statutory corporations and authorities which have their own governance structures. There is no comprehensive uniform PPP legislation per se and the process for PPP projects may vary somewhat depending on the procuring authority and its internal governance rules. However, there is a level of consistency in practice due to several reasons.
Firstly, the Agreement on Government Procurement (GPA) of the World Trade Organization (WTO) applies to procurement by almost all government departments as well as the key statutory authorities in Hong Kong. As a result, most PPP projects are subject to the same mandatory principles of procedural fairness and transparency. Secondly, a number of dedicated regulatory authorities exist to assist procuring public authorities in supervisory and consultative roles (e.g. the Policy Innovation and Coordination Office and the Independent Commission Against Corruption (ICAC)) on PPP projects. They operate to promote a transparent, efficient and consistent approach to all government procurement activities (including through the publication of procurement guidelines). Thirdly, there are well established practices and precedents for PPP projects in Hong Kong, which market players would expect government authorities to follow (and with which the professional advisors on both sides would be familiar). As a result, PPP projects in Hong Kong can generally be expected to follow a similar procurement process, although variations do exist.
A typical PPP procurement process will involve the following steps:
Step 1 (Procurement Approval) – the initial step is for the public authority or government department to approve the procurement of a project on a PPP basis. Typically, preliminary studies would be carried out to build a case for a PPP. Some form of endorsement or approval by the Executive Council of Hong Kong would typically be required. Legislative Council approval is not always required, although some form of consultation would be common. Some statutory authorities would have their own bespoke approval processes. This is the most variable part of the process, as the duration and flow of the approval can be quite variable depending on the procuring entity and the nature of the project.
Step 2 (Planning) – the procuring authority may start to develop the preliminary project structure while conducting research in parallel to test market interest. Early-stage marketing may be carried out to boost interest.
Step 3 (EOI) – formal expressions of interest may be sought from interested parties, who are asked to submit early-stage concepts for the project. This may be used to short-list credible parties for the invitation to tender or purely as a further marketing and research exercise to promote and refine the project structure.
Step 4 (ITT) – formal invitations to tender are issued to identified credible parties to submit binding tenders. Full form tender documents (including the project agreements to be executed by the successful bidder) are released together with the invitation to tender.
Step 5 (Evaluation) – tender submissions are evaluated based on pre-set criteria set out in the invitation to tender.
Step 6 (Negotiation) – depending on the quality of the tender submissions, further negotiations may be conducted with one or more tenderers, although it is not unusual to see this step being skipped for some projects, with the procuring authority proceeding straight to awarding the tender to the front-running tenderer.
Step 7 (Award Approval) – the internal approval process for contract award varies between procuring entities and can be quite efficient (where the procuring entity is a separate statutory corporation or authority, the power to award the contract is often devolved to the procuring authority and approval at the chief executive level would not always be required).
Step 8 (Award & Execution) – the winning bidder is usually awarded the project through a letter of award and it then proceeds to implement the project.
PPPs have a long history in Hong Kong and their use is perhaps more varied and somewhat atypical, compared to some of the other jurisdictions. Some very large-scale infrastructure projects have been procured on the traditional BOT model (e.g. for the initial construction and operation of the cross harbour tunnels connecting Hong Kong Island to Kowloon). However, the number of traditional public infrastructure projects (i.e. roads, rail, electricity) is relatively limited in Hong Kong. In large part, this is a function of Hong Kong being an already highly developed and geographically constrained city. Instead, the PPP model has been applied in Hong Kong to a broad range of public projects as well as projects which might traditionally be classified as commercial developments, including sports stadiums, exhibition centres, multi-use retail and entertainment complexes, cruise terminals and hotels.
The structure of PPP projects varies across sectors and has also evolved over time. For large infrastructure projects, more conventional models such as BOT / tolling arrangements (e.g. the cross harbour tunnels) or concession arrangements (e.g. the high speed railway to Shenzhen) have been used.
For other types of PPPs, the structure can be more varied and innovative. In the past, the DBO model has been used for some landmark developments in Hong Kong (e.g. the Kai Tak Sports Stadium). Joint venture arrangements between the government and the private sector have also been adopted.
Increasingly, however, we are seeing BOT / revenue sharing structures being used to procure what are essentially commercial developments in Hong Kong. Under this model, the procuring public authority would grant a private developer land rights to carry out a commercial development (e.g. a hotel, a shopping complex or an office building) within a large public complex owned and managed by the public authority (e.g. the Hong Kong International Airport). The private developer will be responsible for financing, constructing and operating the development in accordance with the public authority’s stipulated requirements. Revenue generated from development is shared with the public authority. At the end of the BOT period, the development will be transferred back to the public authority. The model has allowed the private sector access to some premium sites in Hong Kong’s very expensive and competitive real estate market (which would not otherwise be available), while at the same time allowing public authorities to leverage private sector capital to meet their development objectives.
In some ways, Hong Kong is an atypical market for PPP projects and presents unique investment opportunities outside the traditional PPP sectors.
Key Issues for International Investors
Overall, Hong Kong has a fairly mature and well-developed market for PPPs. In particular, unlike many other jurisdictions, there are no specific bars or restrictions applicable to foreign investors wishing to participate in Hong Kong projects. There are, however, some aspects of doing PPP projects in Hong Kong which new market-entrants might need to adjust to.
(a) Assumption of market risks
While not universally true, we are seeing market and capital risks being increasingly pushed onto the private partners in PPP projects. For example, under the increasingly popular BOT / revenue sharing model outlined above, the private partner would often be expected to pay a hefty upfront land premium for the grant of the underlying land rights. The private partner is expected to recoup the land premium paid as well as the construction and financing costs from the revenue generated by the project during the operational phase (which would also be shared with its public sector partner).
While the risk allocation profile appears very aggressive, this needs to be understood in the context that a lot of these PPP projects in Hong Kong are essentially commercial developments in densely populated urban areas (i.e. high revenue generating potential due to traffic volume). The higher allocation of risk to the private sector reflects the expectation that these projects will be profitable. However, aggressive allocation of revenue risk to the private sector can have a material impact on project bankability. Quite often, PPP projects in Hong Kong are financed at the corporate rather than the project level.
(b) Land use rights
Land being a particularly precious commodity in Hong Kong, the ability to secure appropriate land use rights will almost always be a priority issue for PPP projects in Hong Kong. Quite often, the project would be on a designated site provided by the procuring public authority and may be subject to existing restrictions on tenure and permitted land uses.
While the procuring authority will generally be expected to assume a lead role in procuring appropriate relaxations to existing land use restrictions to accommodate the PPP project, the formal modification process will generally require separate approval(s) from the responsible planning authorities and other government departments. The formal process can be quite protracted (sometimes taking over a year), potentially becoming a source of significant uncertainty and delay.
(c) Initiation process
One area that has received criticism in the past is the lack of a clear and dedicated framework for initiating PPP projects (including the process to get the necessary government approval to launch PPP projects). While there are available government guidelines on the initiation of PPP projects, these are relatively high level and actual practice may vary depending on the procuring public entity. If significant financial commitments are required from the government for the project, the approval process through the Legislative Council can be very lengthy. However, the approval process can be streamlined where the PPP project is structured to be financially free-standing (i.e. funding and revenue risks are pushed to the private sector). Some statutory authorities and corporations also have more flexibility to initiate PPP projects under their own governance frameworks.
The lack of a formalised process for the private sector to propose PPP projects to the government has been identified as another area of deficiency. However, steps have been taken in recent years to promote private sector initiatives. An example is the Land Sharing Pilot Scheme introduced in recent years, which provides a more formalised framework for the private sector to propose public housing and related infrastructure developments to the government.
The Way Forward
There has been a relatively healthy degree of activity in the Hong Kong PPP space in the last two to three years, notwithstanding the economic disruptions brought about by the COVID pandemic. Multiple PPP projects have been tendered by government and statutory authorities in Hong Kong during this time.
As the city looks ahead to bringing COVID under control and resuming normal economic activities, more opportunities for PPP projects can be expected. In particular, the combination of the need to stimulate the economy through public projects and the reduced public budget available to do so (due to the impact of COVID and the need to allocate available public resources to the health sector), means that the PPP model will be particularly well suited to fund capital intensive projects in other sectors in the post-COVID economy recovery. The Hong Kong experience also demonstrates innovativeness in applying the PPP model to projects outside the traditional sectors, which can in turn translate into a more diverse portfolio of investment opportunities for the private sector.
In particular, the Hong Kong government has earmarked a number of new zones in Hong Kong’s less densely populated outlying areas for significant urban development in the coming decade. While the precise details for implementing these ambitious new developments remain to be formulated, PPPs will likely play an important role in the overall development strategy, providing more opportunities for private sector investors.