Debt financing in public private partnerships (PPP): Divergent strategies in the west vs Saudi Arabia

The Rise of "hybrid" financing in western economies

In mature PPP markets such as the UK, Canada and Australia, concerns about the high cost of private capital have driven a shift towards hybrid contracting models. Paying private-sector interest rates on 100% of construction costs is increasingly seen as an unnecessary burden on the taxpayer where sovereign borrowing would be cheaper.

To address the criticism, public agencies in the West (such as Infrastructure Ontario in Canada and Transport for New South Wales in Australia) have normalized the use of supplementary Milestone Payments and Capital Contributions to improve project VfM.

1. Mechanism: The government contributes supplementary capital either at the outset, or at specific milestones during construction phase. These payments also function as a source of viability gap funding (VGF) on projects which would otherwise not be financially attractive to the private sector.
2. Financial impact: The contributions lower the amount of private debt required during construction, significantly reducing Interest During Construction (IDC), a major cost component that accrues before the project starts generating cash flow.
3. Risk allocation: This approach signifies a willingness by the public sector to share the construction financing risk. The private partner remains responsible for performance (timing and quality) while the government takes on a portion of the funding risk. This mechanism is seen as a direct response to public scrutiny regarding the high cost and "excessive profits" associated with 100% privately financed deals.

A common misconception is that these milestone payments (or capital contributions) increase the public agency’s equity share in the project. This is typically not the case. Instead, these capital contributions are deducted from future availability payments that the government would otherwise have to pay over the life of the contract. These payments essentially serve as a form of pre-payment or subsidy to reduce IDC and improve long term cost efficiency.

The surge of private capital in Saudi Arabia’s PPP market

The Saudi Arabian PPP market is characterized by an ambitious scaling-up of infrastructure projects (driven by Saudi Vision 2030) that primarily adheres to transferring the full construction financing risk to the private sector.

1. Mechanism: By forcing the private sector to generate 100% financing from private lenders and commercial banks, the government establishes a clear financial distance from the project. This maximization of risk transfer to the private sector is vital for the government to maintain sovereign credit ratings and fiscal stability.
2. Financial impact: With projects being financed primarily by private and commercial capital, higher interest is paid by the SPV during construction, which is then factored into end user fees and/or availability payments from the government.
3. Risk allocation: The private partner assumes 100% of the financial obligations relating to construction cost and debt service until post commercial operations date (COD). This reinforces private sector discipline regarding time and budget.

To understand these differences in more detail, we need to look at Financing Architecture of these two distinct markets, shaped by their respective sources of debt capital and the role of policy banks.

Market depth: The institutional advantage

In mature markets like Canada and the UK, the banking sector is no longer the sole primary lender for large infrastructure. Instead, these projects have access to deep and highly liquid Capital Markets (pension funds, insurance companies, endowments) through the issuance of project bonds.

Institutional investors are a natural provider of "patient capital" as they prioritize long term sustainable growth over short-term profits. They hold money that may not be paid out for decades. Investing into long-term infrastructure not only allows them to match their investment horizon with their long-term liabilities (25-30 years) but also allows them to act at a strategic level for de-risking projects.

1. Mechanism: SPV issues a fixed rate project bond at a term matching the length of the PPP contract (e.g., a 30-year bond for a 30-year concession).
2. Financial impact: Matching the financing tenor to the PPP contract eliminates refinancing risk for the SPV.
3. Risk allocation: Not required. Financing the project at a fixed interest rate for its entire life provides absolute cost certainty for the government and the private partners.

In Saudi Arabia, the landscape is structurally distinct. The market relies heavily on private finance and commercial bank liquidity rather than bond markets for project financing. Unlike pension funds, commercial banks are heavily reliant on customer deposits, deterring them to lend at longer tenors and preferring shorter horizons (typically 5 to 15 years). To bridge this gap between long-term contracts and relatively short-term financing, the market in Saudi Arabia effectively utilizes the Soft Mini-Perm structure for project financing (e.g. Jubail 3B Independent Water Plant)

1. Mechanism: SPV developer takes a soft mini-perm loan that covers construction plus a few years of operation (e.g., a 7-year tenor).
2. Financial impact: Unless the debt is fully repaid at the end of year 7, the SPV is incentivized to go back to the market for refinancing, thereby creating Refinancing Risk. While there is no risk of default if unable to refinance, cash sweep mechanisms and step-up margins can significantly impair SPV’s returns.
3. Risk allocation: This transfers 100% of the risk to the private partner. Refinancing is built-in as part of the project lifecycle and is a major financial consideration for the SPV and its private partners.

The catalyst: Policy banks

To further stabilize the market, Western governments have established specialized policy banks for public infrastructure projects, such as the Canada Infrastructure Bank (CIB) founded in 2017, and the UK National Wealth Fund (founded as UK Infrastructure Bank in 2021) to reduce financial viability gaps, attract co-investment, and lower the overall cost of capital. Policy banks were established to step in where private capital was hesitant or unwilling to invest. They were not meant to remove or crowd-out private capital but instead designed to act as a strategic catalyst for "crowding in" private investors. They achieve this by addressing the risk-return mismatch (deterring long-term institutional investors) through the following mechanisms:

1. Financial layering: Policy banks provide the riskiest layer of financing (the subordinated debt or a hybrid product that blends debt and equity) which is paid back after the senior lenders in the event of project failure. Through absorption of higher risk in the capital stack, policy banks shield private senior debt and project bonds from failure, making the project's debt profile safer.
2. Anchor investment: They act as anchor investors in first-of-a-kind projects (e.g., new clean energy), signaling government commitment and confidence. This encourages other private investors to commit.
3. Longer tenor: They can offer loans with longer maturity than commercial banks, helping to match the debt term to the project life, and minimising/eliminating refinancing risk where bond markets are still underdeveloped for a specific sector.

While Saudi Arabia has an extensive system of funds such as the Saudi Industrial Development Fund and the National Infrastructure Fund (under National Development Fund), these entities primarily provide financing for key specific sectors, and do not act as the subordinated debt provider to drive investor confidence and lower cost of capital. Instead, the government and these entities fulfill the role of de-risking by:

1. Guarantees: They utilize mechanisms such as guaranteed off-take agreements, directly addressing the risk of the availability payment. This is common in water PPP projects where relevant public authority commits to purchasing the output.
2. Technical expertise: Funds like SIDF and National Infrastructure funds offer technical expertise and advisory services for Infrastructure & Industrial projects.

Western policy banks de-risk the supply of capital, ensuring long-term money is available at a low cost. While Saudi Arabia's framework, de-risks the demand side, assuring lenders that the off taker is legally and financially committed to paying the project's revenue stream.

Comparative analysis: Divergence in PPP debt financing

The table below summarizes the core differences in the debt financing architecture between Western economies vs Saudi Arabia, demonstrating the varied policy priorities.

Feature	Western markets	Saudi Arabia
Strategy	Lock in long term fixed financing by utilizing capital markets and policy banks, prioritizing market stability and long-term cost certainty	Leveraging private and commercial liquidity through Mini-Perms, they can mobilise vast amounts of capital quickly to meet Vision 2030 targets. While this retains refinancing risk, it offers the flexibility to tap into capital markets later, once project is built and de-risked
Primary goal	Value for Money (VfM), Cost Efficiency, long term affordability	Balance Sheet Neutrality, FDI Attraction, Speed/Scale of Delivery
Model type	Hybrid PPP (Public + Private Funding)	Pure Private & Commercial Finance (Maximizing Risk Transfer)
Public capital upfront	Medium; Uses upfront Capital Contributions / Milestone Payments / VGF	Low/None; Government typically does not inject construction capital
Refinancing risk	Optional; Cost is locked in for the concession term	Structural; Part of the model with strong pressure to refinance
Anchor debt investors	Institutional (Pension Funds, Insurance companies) & Policy Banks	Local/Regional Banks, Islamic Banks
Capital markets	Deep, liquid market for long-term project bonds	Long-term project bond market for greenfield PPPs is thin; capital markets (including sukuk) are growing
Policy bank / Public institution role	Provide Subordinated Debt via Infrastructure Banks	Provide support through Credit Support (Guarantees, Termination Compensation)

 

Conclusion and outlook

With the West moving toward hybrid models, the Middle East is aggressively adopting the pure finance PPP model. Landmark deals in recent years such as Saudi Arabia’s School Infrastructure PPP, Jubail 3B Independent Water Plant (IWP) and the Yanbu 4 IWP, rely exclusively on private debt and equity for long-term PPP framework.

The divergence in debt financing methodologies reflects the differing mandates for each region. Western nations are re-injecting public capital and utilizing institutional capital supported by policy banks to lower interest costs and respond to public scrutiny, evolving into "hybrid" partnerships to drive VfM and cost efficiency for infrastructure projects.

In contrast, the Middle East is utilizing private capital to secure global market confidence and a strong PPP market. As the GCC market matures and liquidity volume grows, we may eventually see the Western financing architecture serve as a roadmap for driving VfM and cost efficiency, but only after the Kingdom’s status as a premier global PPP destination has been fully secured.


Muhammad Assad Butt
Head of Deal Advisory Services
m.butt@bdoalamri.com

Muhammad Sabeeh Abbasi
3P & Infrastructure Advisory Practice Leader
m.abbasi@bdoalamri.com 

Sources and reference

1. OECD – Better Regulation of Public-Private Partnerships for Transport Infrastructure. (Analysis of PPP cost of capital, risk allocation, and regulatory frameworks in mature markets.)
2. World Bank – PPP Reference Guide. (Global PPP concepts, VfM rationale, and financing structures.)
3. PPIAF – Selected publications on PPP risk allocation and fiscal implications. (Background on private finance, risk transfer, and government support mechanisms.)
4. Infrastructure Ontario – “Model Selection – Major Projects” (webpage). Guidance on delivery model selection, capital contributions, and risk-sharing in Ontario PPPs.
5. Public Private Partnerships - Emerging global trends and the implications for future infrastructure development in Australia report
6. Public private partnerships - Getting back into gear report by Deloitte New Zealand
7. WestConnex Motorway Australia https://investment.infrastructure.gov.au/projects/048726-12nsw-np
8. Infrastructure Ontario – Procurement and Delivery Model Selection Process (September 2021). Detailed explanation of milestone/capital contributions and their effect on project financing structures.
9. SWPC  – 7 YEAR STATEMENT 2024 -2030 Planning Division
10. National Infrastructure Fund Advisory - Infra and IFC ink deal to enhance infrastructure advisory services in KSA
11. Saudi Schools Infrastructure PPP – Tatweer Buildings Co. PPP overview and Wave 1 schools PPP announcements (including news on financial close and scope of 60 schools in Makkah and Jeddah).(tbc.sa)
12. Jubail 3B Independent Water Plant (IWP) financing through soft mini-perm
13. Breaking the Catch-22: How Infrastructure Banks Can Kickstart Private Investment and Overcome Market Failures
14. Jubail 3B Independent Water Plant (IWP) – SWPC project agreement announcement and related project communications describing the PPP/IWP structure, capacity and commercial framework.(swpc.sa)
15. Yanbu 4 Independent Water Plant (IWP) – ENGIE and other project disclosures on financial close, capacity, and PPP/BOO structure, confirming its role as a major PPP desalination project in KSA.(ENGIE Middle East)
16. Saudi Vision 2030 & Privatization/PPP Program – Official Vision 2030 overview and Privatization Program pages; National Center for Privatization & PPP strategic documents describing PPPs as a core lever for FDI, fiscal sustainability and balance sheet neutrality.(Saudi Vision 2030)
17. PPP Pipeline and Market Positioning – Official PPP/PSP pipeline and project-booklet publications evidencing the large-scale PPP pipeline in multiple sectors (including water and education) and the ambition to position KSA as a leading global PPP destination.(ncp.gov.sa)