Determine the average loan life (how long does it take on average to pay back the loan on the
project?). For a 25 year project, this will typically be somewhere between 10 and 15 years.
Look up the current rates in the market for a government loan for this average loan life. If there
are no quotes corresponding to the loan life (for instance there is no traded quote for 11.5 years),
take the nearest two available quotes and interpolate.
The more detailed method used in Germany determines a weighted average rate on the basis of the
specific durations of the financing profile of the PPP partner. This approach makes extensive use of
formulae and calculations (a description of the approach can be found in the German VfM guidelines.)
The difference between the approximate average loan life method and the more detailed method is really
one of the degree of precision of the discount rate. Any difference between the two methods will depend
on the profile of the yield curve (which plots interest rates for different durations). If the curve is relatively
flat, the difference will most likely be negligible. The difference may run to a maximum of some 25 basis
points (bps, or 1/100ths of a percent) in case of a highly irregular yield curve.
In Canada, France and Germany no additional project specific risk premium is added to the rate. The
approach in these countries is focused on the question of whether the additional cost (including the higher
cost of financing) of the PPP option is compensated for by the benefits of having a lower risk for the public
authority with respect to project delivery risks, principally cost and time overruns.
Particularly in Canada
and France, any project specific risk premium that may otherwise be included in the discount rate, is
reflected through the risk analysis (as described in chapter 1) by correction to the project cashflows.
In Germany, the valuation of typical financial/investment types of risk (such as elaborated in section 2.4) is
not included in the discount rate, nor explicitly in the cashflows. The German approach may therefore be
considered relatively prudent towards the application of PPPs.
No project specific risk premium, fixed rate
In the UK a standard discount rate for all public project appraisals, such as cost-benefit analysis, is used
and this rate is also used for VfM assessment.
This discount rate is expressed in real (i.e. not nominal)
terms, and is adjusted to a nominal rate by adding a prescribed inflation assumption. Unlike the actual cost
of financing approach described above, this fixed rate equals the social time preference rate (‘STPR’). The
STPR is an approach that is applied for socio-economic analysis and often advocated by the academics
that claim that the available market information is not sufficiently accurate (see section 2.1). The STPR is
the sum of two components, namely: (1) the rate at which individuals discount future consumption over
present consumption (consisting of catastrophe risk and pure time preference) and (2) the product of
annual growth in per capita consumption and the elasticity of marginal utility of consumption. The STPR is
currently set at 3.5% in real terms. This rate is calculated and set by HM Treasury from time to time. A
project specific risk premium is not added to the STPR. It may be argued that a (non-project specific) risk
premium is captured by the STPR, covering the type of investment/financing risks that in other countries
are captured in the project specific risk premium (see section 2.5).
As in other countries where a standardised discount rate is used, particularly for cost-benefit analysis
purposes, the rate is a topic for discussion and is therefore periodically updated. These periods are usually
five to ten years. For instance,
the last update of the UK rate was in 2006.
Another argument for the use of a standardised discount rate is the consistency that use of a single rate
can provide across all assessments (for example in the Five Case Model approach) and over time which can
help to enable different options to be compared on a similar basis. It is preferred in the UK not to introduce
a specific discount rate for the assessment and choice of the delivery method of a project.
To calculate the average life, multiply the date of each principal payment (expressed as a fraction of years or months) by the
percentage of total principal that has been paid by that date, summing the results and dividing by the total loan size.
Finanzminsterconferenz, Leitfaden ‚Wirtschaftlichkeitsuntersuchungen bei PPP-Projekten‘, September 2006.
Author estimations based on swap price runs.
MAPPP (2011), Guide méthodologique, page 31 «L’évaluation économique en financière doit montrer que le recours au
contrat de partenariat permet d’offrir à la personne publique une solution alternative moins couteuse et/ou plus avantageuse».
HM Treasury (2011). UK Green Book. Appraisal and Evaluation in Central Government. Page 97. Annex 6: Discount rate.