11.1  Features of the payment mechanism

In general terms, the key features of a payment mechanism are:

•  no payments should be made until the contracted service is available. For example, in a water treatment project, no payments would begin until the plant has been commissioned and water of the required quality is being received;

•  there should be a unitary charge for the service, not separate charges for elements relating to availability or performance. The service charge generally comprises a number of separately identifiable elements; however, government prefers these to be converted to a single project obligation;

•  the unitary charge should be paid only to the extent that the service is available (e.g. proportionate to the number of available places or units);

•  the payment mechanism should seek to make abatements for sub-standard performance so that the private party's financial motivators coincide with those of government;

•  in some circumstances (for example, a package of schools), unavailability of one whole facility (school) may result in no payment for that one facility rather than no payment for the whole package.  Abatements should reflect the severity of failure, so that no service should lead to no payment, but a minor failure to a lower level of abatement;

•  performance measurement should be linked to an agreed set of standards or key performance indicators, which generally will relate to quality, timeliness or other service delivery requirements; and

•  arrangements should allow government adequate flexibility to require, and reward, changes in the nature or volume of services to be delivered over time.

The basis of PPPs - the receipt of specified outputs and services - requires that payment should not be made up of sub-elements related to delivery of any inputs (e.g. completion of stages of construction, cost of materials or labour).

The payment mechanism must relate to the services being provided and not contain a fixed element which the private party always receives irrespective of performance (e.g. which covers the private party's debt service obligations). The debt providers should have confidence (taking into account, where relevant, advice from their technical advisor) in the ability of the private party (i.e. their borrower) to perform or to remedy defective performance and in their ability to change the operator, if necessary.

The payment may in some cases be determined by usage or volume. Complete allocation of usage risk is appropriate only where the private party can reasonably forecast or influence future usage. This may be the case where the private party is satisfied with predictions of the level of demand for the service or where there is significant third-party revenue which the private party's performance can affect. In many projects, demand or scope for generating significant third-party revenue is not possible to predict and so it is unlikely that allocation of significant volume risk to the private party will achieve value for money. A part of usage risk, however, can be allocated in most contracts, particularly that relating to third-party usage, in circumstances where the availability and quality of the service will influence demand.