CP3P Financial & Economic Analysis 4 — Questions and Answers
Question 1: What is the main purpose of an affordability analysis in a PPP appraisal?
- To measure the private partner's equity returns
- To set the lenders' interest rate
- To compare PPP and traditional delivery costs
- To confirm the government can meet long-term payment commitments within its budget constraints (Correct answer)
Correct answer: To confirm the government can meet long-term payment commitments within its budget constraints
Affordability analysis checks whether projected government payments fit within available current and future budgets.
Question 2: A project has a positive economic NPV but a negative financial NPV. What does this usually indicate?
- The project benefits society but needs public support, such as availability payments or viability gap funding, to attract private investors (Correct answer)
- The project should be rejected outright
- The project is fully self-financing through user fees
- The discount rate is too low
Correct answer: The project benefits society but needs public support, such as availability payments or viability gap funding, to attract private investors
Positive economic but negative financial NPV means the project creates social value but cannot cover costs from its own revenues.
Question 3: Viability gap funding (VGF) in a PPP refers to:
- Lender fees paid at financial close
- A capital grant or subsidy that bridges the shortfall making an economically justified project financially viable (Correct answer)
- Penalties deducted for poor performance
- The equity contribution required from sponsors
Correct answer: A capital grant or subsidy that bridges the shortfall making an economically justified project financially viable
VGF is public funding that closes the gap between a project's financial returns and what investors need.
Question 4: Gearing in a PPP project company refers to:
- The ratio of operating to capital costs
- The frequency of payment indexation
- The proportion of debt relative to equity in the capital structure (Correct answer)
- The number of subcontractors used
Correct answer: The proportion of debt relative to equity in the capital structure
Gearing is the debt-to-equity mix, and PPPs often use high gearing such as 80:20 or 90:10.
Question 5: Why do higher gearing levels tend to lower a PPP bid price?
- Debt carries more risk than equity
- Lenders accept lower DSCRs with more debt
- Higher gearing removes construction risk
- Debt is generally cheaper than equity, lowering the overall cost of capital (Correct answer)
Correct answer: Debt is generally cheaper than equity, lowering the overall cost of capital
Senior debt requires lower returns than equity, so more debt lowers the blended financing cost passed into the bid.
Question 6: A refinancing gain in a PPP occurs when:
- Better debt terms after construction increase equity returns, and contracts often require sharing this gain with the government (Correct answer)
- The government reduces availability payments for poor performance
- The project company is terminated for default
- Inflation exceeds the indexation rate
Correct answer: Better debt terms after construction increase equity returns, and contracts often require sharing this gain with the government
Refinancing gains come from improved debt terms once construction risk has passed, and PPP contracts often require sharing them with the public authority.
Question 7: In a cost-benefit analysis, a shadow price is used to:
- Estimate bidders' hidden profit margins
- Value inputs or outputs at their true opportunity cost to society when market prices are distorted (Correct answer)
- Calculate termination compensation
- Set the toll rate charged to users
Correct answer: Value inputs or outputs at their true opportunity cost to society when market prices are distorted
Shadow prices replace distorted market prices with economic opportunity costs in economic appraisal.
