The Palace of Arts, Budapest, Hungary

Budapest had no concert halls of international standards, and primarily due to a lack of state resources it was decided to implement this project as a PPP. Neither prior to nor after the signing of the contract was any impact study (including economic calculations) carried out. No cost analysis was carried out either. As a result, the details of the investment have been continually changing.

The Palace of Arts, situated on the banks of the Danube in Budapest, was built via a public-private partnership carried out by the Ministry of Education and Culture (NKÖM) starting in 2000.

At the time, Budapest had no concert halls of international standards, and primarily due to a lack of state resources it was decided to implement this project as a PPP.

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The First version of contract was not a PPP

Modification of the contract to decrease the state budget deficit

Modifications of technical specifications of the building

Excess profits the private investor

The First version of contract was not a PPP

Although the first contract between the state and the private investor was described as a PPP contract, it was more accurately a financial leasing. According to the plans, the investment was to be carried out through a project partnership, established mainly with funds from the private partner but also from NKÖM. The state would pay back the development costs - amounting to a maximum of 31.3 billion HUF (EUR 125 million) - through the 10-year rent of the building and by selling its business share of the project partnership.

The operation and professional running of the building were defined outside the contract as the state’s responsibility, without ensuring any kind of financial cover.

Neither prior to nor after the signing of the contract was any impact study (including economic calculations) carried out. No cost analysis was carried out either. As a result, the details of the investment have been continually changing.

Modification of the contract to decrease the state budget deficit

During the project's implementation the state party initiated the modification of the PPP contract. Based on the original contract there would have been no chance at all of obtaining the approval of the European Union to move the investment off the public balance sheet, as neither the demand risk nor the availability risk were transferred to the private investor.

In the modified contract the state undertook a 30-year long contract instead of the 10-year long one. This involved purchasing the services and returning the development costs, covering the debt service and ensuring returns for the investor.

The nominal value of the amount finally paid by the state is 206.9 billion HUF (EUR 827 million), instead of the original 43.9 billion HUF (EUR 175 million); and its net present value is 53.9 billion HUF (EUR 215 million) instead of the original 36.9 billion HUF (EUR 148 million).

Even with the considerable extra expenditure, the objective was not obtained within the modified budget: Eurostat qualified the development as a state investment, and thereby an increase in the budget deficit could not be avoided.

Modifications of technical specifications of the building

It was not only the financial arrangements which changed: due to the lack of adequate planning, the technical specifications of the building also had to be modified. An extension of the floor space of the building became necessary, and its technical content had to be reduced. The various changes resulted in a time overrun of almost two and a half years.

Excess profits the private investor

According to the State Audit Office of Hungary:

“Altogether the partnership of public and private spheres resulted in a multifunctional cultural project that is unique by European standards. However, the inadequate preparations and the resulting changes both in the function and the financing negatively influenced the efficiency and effectiveness of the implementation. The maintenance and operation of the project represents a budgetary expenditure worth of HUF 335.2 billion [EUR 1.3 billion] - without VAT - at a nominal value, for a period of 30 years.”

Additional profits through increased property value

Apart from the direct financial profit related to the investment, further profit is gained by the private partner from the increased value of its properties located next to the Palace of Arts, where significant office building development is being carried out. The value of the offices has increased due to their location next to an institution with high prestige.

Profits through operation of the building

Based on the final contract, the operation of the Palace of Arts was also taken over by the private investor for 30 years.

However there are also problems with this. Again, according to the State Audit Office of Hungary:

"Fees for the availability of service have not been detailed in the operation contract, and without the detailed specific costs and the specification of the planned quantity the grounds of such fees cannot be verified.”

In other words, we have no idea at all about what the private contractor spends the state funded money on. Moreover, there are no sanctions specified in the contract regarding improper fulfilment of the project.

As with almost all PPPs in Hungary, at the time of writing (May 2012) the future of the project is uncertain because of the Hungarian government's moratorium on new PPP investments and review of existing ones.