Public private partnerships (PPP) are contractual arrangements in which the government assumes future obligations by providing project guarantees. They are considered a way of increasing government efficiency through a more efficient allocation of risks and incentives. On the other hand, the assessment and determination the optimal level of these guarantees is usually subjective, exposing the government to potentially high future liabilities. This article proposes a quantitative model for the evaluation of government guarantees in PPP projects under the real options approach, and applies this model to a toll highway concession with a minimum revenue guarantee. It studies the impact of different guarantee levels on the value and the risk of the project, as well as the expected level of future cash payments to be made by the government in each case. It concludes that it is possible for the government to determine the optimal level of guarantees as a function of the desired level of risk reduction, and that the design and modeling of PPP contracts can benefit from the use of quantitative modeling tools such as the one presented here.
PPP; project analysis; real options; risk allocation
