Peru looks to PPPs to solve infrastructure woes

Peru’s infrastructure gap has been widening as sustained economic growth has multiplied the needs of its economy. The authorities have been scrambling for years to address the chronic lack of transport, energy and industrial infrastructure, partly through an ambitious public-private partnership (PPP) programme that featured among the first experiments of its kind in South America.

However, economic growth has greatly outpaced infrastructure development, increasing the overall infrastructure gap that has now reached a massive $160bn, according to estimates by Peruvian infrastructure lobby association Afin. Additionally, infrastructure projects were at the core of the corruption scandals that hit the country’s business and political elite in recent months, causing additional delays and uncertainties across the whole sector.

There have been signs of a renewed appetite for projects in Peru in the second half of 2017 as recovering mining commodity prices breathed new life into the country's economy. The government is attempting to address governance issues, while promoting best practices across the board and working on a first ever national infrastructure plan expected to provide a strategic perspective to future developments. The months ahead will thus be key to defining the progress of the pipeline of projects that investment promotion agency ProInversión is developing on behalf of the government.

A noticeable gap

“Despite the achievements of the past decades [Peru's economy grew by an average of 5.1% between 2000 and 2016, UN figures show], there are still major hurdles that investors have to face when doing business in Peru and that do not allow that the benefits of economic development lead to a greater reduction of poverty,” Afin said in its latest report, published in 2016. “Among them, the gap of physical infrastructure, as well as the quality deficit of the existing infrastructure, stand out,” it added.

Peru ranks 89th globally for the quality of its infrastructure, behind its Pacific Alliance partners Chile (44th), Mexico (57th) and Colombia (84th), as well other major Latin American economies such as Brazil (72nd), according to figures from the latest Global Competitiveness Report by the World Economic Forum.

Afin puts the gap at $160bn, based on benchmarking Peru’s existing stock of infrastructure against the stock in other 214 countries across the globe. The sector requiring the highest investment is transport, which needs about $57.5bn, followed by energy ($30.8bn), telecommunications ($27bn), health ($18.9bn), water and sanitation ($12.2bn), irrigation ($8.5bn), and education ($4.6bn).

Closing the gap would mean investing an average of 8.27% (or $15.6bn) of national GDP into infrastructure between 2016 and 2025, Afin estimates. This huge investment would pay fat dividends straight away – as it calculates an extra growth boost of an average of 15.5% of GDP through 2025 – and would help reduce poverty levels by about 6% annually. 

Ripe for returns

“The infrastructure gap that exists in Peru is a big opportunity,” says Pedro Arizmendi, infrastructure leader at EY. “From the perspective of foreign investors, the opportunity lies in the chance to get interesting returns on their investments – likely higher than what they can get in more mature markets such as Europe.”

Investment promotion agency ProInversión has long been tasked with finding ways to turn the lack of infrastructure into an opening for private investors, mostly through mechanisms such as self-sustainable or co-financed PPPs, as well as 'works for taxes', where private companies exchange a fiscal liability with the commitment to develop a particular infrastructure project.

As many as 102 PPP projects have been awarded in Peru between 2004 and 2017, according to ProInversión, including a $5bn contract for the development of the Lima Metro Line 2, and a $2.5bn contract for the development of hydro power in the Huánuco region.

PPP overhaul

From a legal framework standpoint, Peru’s PPP programme ranked fifth among PPP programmes in South America, Central America and the Caribbean behind Chile, Colombia, Brazil and Jamaica, according to a 2017 analysis by the Economist Intelligence Unit.

Despite its track record in terms of numbers of projects awarded and companies attracted, as well as its tested legal framework, Peru’s PPP programme has often struggled to live up to original expectations in terms of development pace and quality of project development, prompting the government led by new president Pedro Pablo Kuczynski to pass a deep reform of the sector.  

“[These changes] are aimed at reducing bureaucracy to make the system nimbler, empower ProInversión and put it in a better position to lead its projects and thus avoid its pipeline to be too exposed to political criteria,” says EY’s Mr Arizmendi.

The strengthening of ProInversión (see interview on page 7) accompanies an overhaul of PPP regulations, particularly with respect to several key issues that have often been a cause of recurring delays.

“As opposed to the past, the finance and economy ministry has to review a draft of the PPP contract from the very beginning of the process in order to reduce changes to the final terms of the contract to the minimum, and thus give more predictability to the process,” say Camilo Carrillo, head of the directorate for private investment within the finance and economy ministry.

“On a different note, we realised that 70% of the changes of contract terms during the life of a project was due to delays in the availability of the land for the project. The new rules make it compulsory to have a predefined date for the final availability of the contracts. We also fit in a strong anti-corruption clause, saying that if any corruption emerges, the contract is automatically void, and this holds also for projects under public works schemes.”

What’s next?

ProInversión is hoping to change opinions of its track record by focusing on a more reasonable and efficient portfolio. “We have sharply reduced the number of projects in our portfolio to about 95 from 130 in the past year, and we want to keep reducing them, and put emphasis on keeping project structuring times within 18 and 24 months, in line with international standards,” says Mr Peñaranda.

After awarding one project in 2016 and three projects in the first 11 months of 2017, ProInversión has set ambitious targets until the end of 2018. The agency plans to award nine PPP projects, worth about $3bn, in December 2017 alone, including the Michiquillay copper mine, a $2bn project that has stirred the interest of 10 international and domestic companies and sees the involvement of Goldman Sachs as transaction adviser. Another 22 projects worth $5.36bn are expected to be awarded in 2018, according to Cesar Peñaranda, the head of the agency’s investor services division.

Further down the line, the agency is committed to awarding other major projects, such as Lima Metro Line 3 and Lima Metro Line 4, and aims to create a pipeline of more than $20bn between 2017 and 2020, with transport infrastructure making up about two-thirds of the total estimated investment; water and irrigation about 11%; mining another 10%; health about 6%; and the remaining amount going into energy, property development, telecommunications and education.

The release of a national infrastructure plan by the government should give the agency new impetus and investors additional insights into the country’s mid-term strategy and priorities regarding infrastructure development. The finance and economy ministry has been working on the document in the past months, and aims to publish it in 2018.