Risk Management and Governance for PFI Project ... - Title Page - MIT

Demand Risk (Omihachiman City General Hospital /Taraso Fukuoka)
Risk allocation of demand risk varies depending on the nature of the project. For example, if
the project were a renovation of existing facilities or construction of highly public or highly
regional facilities, like Omihachiman City General Hospital, the demand would be predicted
relatively accurately from historical data, such as the utilization rate of similar facilities or
the neighborhood population. However, it is difficult to increase demand by a corporate
effort; therefore, the controllability is low, while the predictability is high. However, if the
facility has relatively low public nature or there is no similar facility in the past, such as for
Taraso Fukuoka, accurate demand forecasting is difficult, but there is room for increasing
demand by corporate efforts. In this respect, the controllability is high, whereas the
predictability is low.
As for the acceptability, in cases where the fee income accounts for a majority of the
business revenue, the NPV of the entire business has an extremely high sensitivity to the
revenue. In addition, there are also cases where the variation of demand risk (volatility) is
presumably high. In these cases, the acceptability could be low.
These observations suggest that it would have been better to share the risk between the
public and private sectors in the cases of both Taraso Fukuoka and Omihachiman City
General Hospital.
In the case of Omihachiman City General Hospital, the public side bore all of the demand
risk under the scheme where the public side received the variable use fee from the users,
while the service charge, which the public paid to the SPC, was a fixed amount. Therefore,
despite the project having a high predictability, the government had planned a high-risk
project without the supervisory function of the private sector by not being able to take
advantage of the risk calculation (due diligence) by the private sector. As a result, the public
bore the great demand risk by itself. If the contract scheme had appropriately shared the
demand risks by varying the service fee paid by the public to the SPC, which would be
dependent on the variable service fee from the users, it would have been able to increase the
accuracy of the total project cost (NPV) calculation, which includes the demand risk. Also,
it might have been able to reconsider a reduction in the project size that would be
commensurate with the city’s finance scale at an earlier time.
In the case of Taraso Fukuoka, although the project had high demand risk, all the risk was
supposed to be borne by the private sector 19 . However, if the demand risk was shared
19 The report of Fukuoka City noted that "it has taken a scheme to set the service provide fee paid by the city of Fukuoka
independently of the number of users, and it did not completely transfer the demand risk to the private sector (Fukuoka
City PFI Promotion Committee, 2005) ". However, considering that "the service provide fee from the city of Fukuoka" is
the flat-rate fee and not dependent on the number of user, and that the service provide fee was supposed to be proposed by
public sectors at the time of the competitive bid, it would be more correct to say that the demand risk was completely
transferred to private operators.
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