Russia is facing the need to radically transform its economy, a huge task that requires plenty of resources. The public-private partnership mechanism can become a way to implement the large-scale projects of remodeling the economy. PPPs have repeatedly helped state economies to overcome crises. Thus, in the 1970s, the introduction of alternative PPP mechanisms and the transition to a new model of public administration provided the developed economies with the opportunity to enter a new stage of development. In Russia, the most popular type of PPP is a concession agreement. Some 80% of all infrastructure projects, most of them in transport, that are implemented via PPPs are launched using concession agreements. In addition to the construction of roads and bridges, concessions are used to create technology for the transport infrastructure. So what is a concession and why this PPP mechanism is so useful in the age of instability?
The biggest PPP market
The transport concessions market is currently the biggest and most developed PPP market. Almost all concessions in Russia are related to transport development projects, mostly road construction. The first road built under a concession agreement was the M11 Neva road connecting Moscow and St. Petersburg. Concessions were also used to build the Central Ring Road, a section of the M1 Belarus federal road that bypasses Odintsovo in the Moscow Region, and the bridge across the Amur River between Russia and China, Blagoveshchensk – Heihe.
Concessions are used not only at the federal level; for regions, this mechanism is a powerful development tool. In December 2021, the Moscow Region government signed an agreement on the construction and use of the Yegoryevskoye Highway frontage road together with M.E.T.K. The 36.3-km toll road will connect Lyubertsy and the village of Kosherovo.
The state is not always the initiator of public-private partnerships. In 2019, the Samara Region and the Togliatti Bypass concession company agreed to build a road of the same name. The investor used the mechanism of private concession initiative, an alternate way to pick a suitable investor who is ready to implement a project on the most favorable terms.
In addition to the construction of road and bridges, concessions are used to create technology projects for transport infrastructure. Thus, for instance, the photo and video monitoring system in the Moscow Region is working under a concession agreement. A private investor built the system infrastructure and handed it to the state under a contract with the right to use and maintain the system. The prompt construction of the infrastructure was the key point of the project since it is a crucial part of the region’s safe road traffic infrastructure and a project of high social importance.
Another promising direction of the PPP development in the form of concession agreements is public transit, a chronically underfunded sector. Most of its fleets are obsolete and require a simultaneous renewal. To that end, a state program was developed to modernize public transport. Plans call to attract up to RUR 90 bln of private investment, including via concession contracts. In the beginning of 2021, contracts worth RUR 60 bln were signed with the biggest of them being designed to develop tram networks in Taganrog and Verkhnyaya Pyshma.
Adding smart transportation systems to the list of PPPs can also be a potentially productive area of cooperation between the state and private investors.
Concessions in transport: how they work
In Russia, concession agreements are regulated by Federal Law No. 115. A concession is a type of partnership between a public (grantor) and a private investor (concessionaire). Under concession agreements, investors, at their own expense, renovate or create an immovable property and can run it and receive income for a fixed period of time depending on return on investment. The property passes to the possession of the grantor – for instance, a company undertakes to build and maintain a motorway by charging motorists who use it, while the facility itself remains state property.
Concession is a flexible mechanism that can be tailored to a specific project. The agreement terms, the private investment return scheme and other parameters may change. In most cases, extra-budgetary funds are received through loans; this allows banks to maintain a high level of control over concessionaire’s actions at all stages of the project implementation.
Projects for constructing transport infrastructure such as roads, bridges, subways and other facilities are generally capital-intensive and require multibillion investments. Despite their strategic importance for national development, the government does not always have budgetary funds for their implementation – and this is when a concession mechanism gets utilized. Yet, there are also other reasons that prompt a state contractor choose to enter into a partnership with a private contractor, even with sufficient finances available.
First, concession allows for distributing risks between public and private investors. As regards PPP contracts, the preparatory stage that precedes the commencement of project plays a particular role; making an effective financial plan and concluding a contract require a high level of competence from all project participants. A properly developed and implemented concession must bring profit – this is an essential condition of its operation.
Secondly, the state contractor receives a long-term assurance of service quality. The liability for maintenance of the facility prompts the investor to put finances in quality services and methods as early as at the design stage. For instance, the Glavnaya Doroga (Main Road) company chose to abandon the traditional approach utilized in Russia in favor of Germany’s autobahn construction method while building a junction to connect the M1 Belarus federal motorway and the Moscow Ring Road, bypassing the town of Odintsovo, in order to increase road surface durability. Efforts were made to organize 24/7 operation of average commissioners and constant video surveillance. In addition, for the first time in Russia, the Pipelife storm sewerage and drainage system manufactured from composite materials was used for the project. The use of the technology allowed for doubling the pipes capacity.
And thirdly, the state constructor may simply lack personnel and competencies to implement technologically demanding projects and keep them on track.
Ensuring investment appeal and product safety
Russia’s market of PPPs and concession contracts is expanding – although not as fast as we would like it to. Analysts reported that in 2021 the amount of announced concession and PPP tenders increased by a third as compared to 2020. This may allow for attracting investments worth over RUR 447.9 bln ($7.03 bln), almost four times more than the finances invested in the previous year. In 2019, the market of concession contracts accounted for only 1.6% of Russia’s annual GDP, while in the UK it stood at about 6.6% of the GDP, in Australia and New Zealand at 6.9%, and in Canada at 8.1%.
Mechanisms for PPP and concession agreements prove to be essential for creating and maintaining a socially relevant national infrastructure to become the foundation of post-crisis development. In addition, capital-intensive concession projects help provide a large number of jobs thus solving the employment issue, which is very relevant in the current situation, with foreign companies exiting the Russian market en masse and leaving their former employees without means of support.
Amid the market volatility, investment reliability comes to the fore – and efforts to make investments in infrastructure, whose return is guaranteed by the government, prove to be more appealing than investing in securities, funds or bank deposits. As experience of past crises has shown, finances envisaged in the budget for PPPs and concessions are the last to be subject to sequestration.
Efforts to attract private funds in the sector whose development is directly related to boosting the country’s investment appeal and food security are becoming increasingly relevant amidst technological, financial and trade restrictions. For regulators, creating favorable conditions for investors and offering additional guarantees to them is a top priority.
By Olga Zhiltsova, Ph.D. in Economics, Associate Professor, Department of Logistics and Marketing, Financial University under the Government of the Russian Federation