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Ready To Try Public-Private Partnerships Yet?

Original Article

When California recently resolved its mammoth budget deficit, it also moved to ease restrictions on transportation public-private partnerships, a politically controversial idea that over the long run could help control costs to taxpayers of improving overloaded roads, rails, and freight facilities.

P3s, as the arrangements are called, draw from among construction, engineering, highway management, and infrastructure investment firms (often funded partly by public employee and building trades union pension funds) to form consortiums that get important transportation projects built more efficiently, and sooner versus later or never. A P3 consortium may provide consolidated services such as designing and building a toll bridge or highway section, and can also provide upfront capital if public funds are constricted, as is often the case, particularly now.

The private consortiums may not only design, build, and help finance variably-tolled facilities; they may operate and maintain them too, doing so for several decades under a lease agreement with their public partner, such as a state department of transportation. (The public agencies can retain ownership, control toll rates, and enforce contractual performance standards). Over the long haul, the private partners make back their investment and a profit, while the savings to taxpayers over a project’s full life cycle accrue, compared with going it solely on the public’s dime, and solely under public-sector management. P3s can also target transit, and crucial port and rail infrastructure. (Various types of P3 are described here by the Canadian Council For Public-Private Partnerships.)

Further, many of the P3 projects have a genuine green hue. Examples are “managed” lanes on highway sections, bridges, and tunnels where booth-less electronic tolls are set higher during peak hours and lower off-peak to maintain a steady traffic flow at speeds of 45 to 50 miles per hour while ride-share vehicles and transit go free. Increased telework at home, as well as off-site meetings, remote work centers and para-transit offer additional ways around the higher peak-hour tolls.

The P3 approach is still a politically hot topic, particularly in this state. Nonetheless, it is a tool increasingly being considered by elected officials. In a new report, the Pew Center On The States paints the backdrop:

In 2008, the federal Highway Trust Fund — one of the nation’s primary sources of funding for highway renovation and construction — almost went broke. States, hurting from falling revenues of all kinds, including gas tax proceeds, lack the money to meet their own infrastructure needs. These funding problems have turned into a crisis. Every year the numbers worsen. Much-needed highway repairs are being neglected…The current trend is unsustainable. Congestion and pollution will continue to increase, public safety will be compromised, and states’ economic growth and ability to attract and retain strong businesses will falter if the nation’s transportation system fails to receive the investments it needs. Federal funding — through the stimulus package, a proposed infrastructure bank or both — will help. But the gap remains large, and as a result, state leaders are looking to partner with the private sector.

Senate Bill 4 is the game changer in California, signed into law in late February. Under restrictive 2005 pilot project legislation, California had allowed its state transportation department and regional transportation agencies to enter into only four P3 arrangements up until January 1, 2012. Under SB 4, unlimited transportation P3s are allowed between now and January 1, 2017.

Up the road a piece, Washington has unfunded transportation needs of $38 billion (in 2005 dollars) over the next 20 years, according to the state’s transportation plan update issued in 2007, not counting local transit needs. The transportation commission in a 2007 report noted that:

  • A series of key state assessments have urged the P3 approach be more closely considered for major transportation projects. The Expert Review Panel on SR 99 Alaskan Way Viaduct Replacement and SR 520 bridge replacement stressed the value of regional tolling and P3s as finance tools, especially for the looming life-safety rebuild of the 520 bridge. The Regional Transportation Commission chaired by former Seattle Mayor Norm Rice and ex-Western Wireless CEO John Stanton recommended serious attention to possible long-term concessions and build-operate agreements with private partners. A report prepared for the legislature’s Joint Transportation Committee stressed that P3s can attract new capital otherwise unavailable, accelerate project delivery, and offload government’s construction cost overrun risk.
  • P3s could prove especially helpful in getting built the new bridge across the Columbia River between Clark County, Wash. and Portland, Ore., extending SR 167 from South King County to the Port of Tacoma, constructing the SR 704 “Cross Base Highway” in Pierce County, in making improvements on Interstate 90 at Snoqualmie Pass, upgrading the state ferry system’s big Colman Dock terminal in Seattle, and in financing additional ferry terminal, freight rail capacity, and “transloading” projects.
  • State-issued bonds are required for all projects; that should be changed to allow comparison of alternative financing structures. State bonding timelines should be extended from 30 to 40 years to help finance mega-projects. No fewer than six entities can effectively stop a P3 project; clearer authority should be given to the transportation commission to make final decisions.

To its credit, the state used a design-build P3 approach for the newer, southbound tolled span of the Tacoma Narrows Bridge, and lately has been exploring P3 possibilities for ferry facilities, and alternative fuel stations in the I-5 corridor. But with as much as $6.6 billion now needed for the SR 520 bridge rebuild, and another $4 billion required to put right I-5 in Seattle and US 2 to the north, plus a slew of other unfunded, important projects, Washington needs to really open up to transportation P3s.

Recent news only underscores the paucity of funding. The Seattle Times reports that the state Senate’s proposed transportation budget has would delay until 2016 some 31 highway projects that had been planned for sooner (the House proposal slices things a bit differently). At the same time, Sound Transit is warning that its voter-approved $18 billion second phase expansion plan, including light rail across Lake Washington to Bellevue and Redmond, may come up as much as $2.1 billion short due to the recession and declining tax revenues.

After the planned deep-bored tunnel to replace the Alaskan Way Viaduct (for which the primary pot of state funding is intact), the 520 bridge is the next Puget Sound roads mega-project on the horizon. The Seattle Times reports that the cost could rise to $6.6 billion but the state only has about $1.9 billion exclusive of tolls. The most aggressive tolling scenario identified by a state committee (with the earliest start on the old 520 bridge plus tolls on parallel I-90) would yield another $2.4 billion, for a total of $4.3 billion.

Credit has been tight lately, to say the least, dampening near-term enthusiasm for government borrowing, P3s, and activity by infrastructure investment firms. But a slew of recent deals foretell transportation P3s re-gaining traction as the economic recovery gradually unfolds.

In Florida, for example, a Spanish-based consortium, ACS Infrastructure Development, has closed a$1.6 billion-plus deal to design, build, finance, operate, and maintain a 10.5-mile reconstructed I-595 connector in Broward County, from near the Fort Lauderdale Airport and I-95, going west to the I-75/Sawgrass Expressway interchange. A central feature, right down the middle, is three reversible, electronic time-variable tolled lanes called 595 Express. The state will lease the center express lanes from the consortium and collect the tolls. If the tolls must be raised at some point in the future, that will be done by the state, not the private consortium.

In Texas, a private consortium of Cintra, Meridiam, and the Dallas Police And Fire Pension System has been chosen as the preferred partners in a $2 billion, 52-year concession to finance, operate, and toll new managed lanes on I-635, known as the LBJ Expressway. At four lanes in each direction, this 1969-vintage metro Dallas corridor is seriously congested, an “avoid it if you possibly can” route like I-5 through Seattle or Portland. Under the agreement, the private partners will completely rebuild 9.7 miles of I-635 and 3.6 miles of intersecting I-35E. In each direction along the way there will be two frontage lanes, four tax-funded general purpose lanes and three managed lanes to be variably tolled, electronically, at rates meant to attract traffic yet also keep it flowing no slower than 50 mph. (If average speeds dip below that mark, sliding scale damages would be paid by the private operators to the state department of transportation.)

The Dallas Morning News reports that the deal comes amidst plans to develop tolled, managed lanes on all highways in the metroplex. Rush-hour tolls will be steep on the new tolled LBJ lanes, at $7 one way to start; off-peak tolls lower. In all, $2 billion worth of work is to be completed in five years. Cintra, Meridiam and the pension fund will invest $600 million, borrow $500 million from private sources, and plan to secure another $500 million in government-backed loans from the Federal Highway Administration. Texas will contribute $445 million.

In another Texas project, a consortium including Cintra and the Dallas Police And Fire Pension System will partner on the 13-mile North Tarrant Express toll road. More from Reuters: “Some of the money for the Texas projects will come from direct equity stakes held by the Dallas Police & Fire Pension System that should return at least 8.5 percent annually after 10 years, said Richard Tettamant, the fund’s administrator. He said the stakes are the first direct P3 infrastructure investments by a U.S. public pension fund, and ‘we are open to investing in any type of infrastructure … anywhere.'”

In another tolling-based P3, construction began last year in Northern Virginia to build 14 miles of “HOT” lanes on the Capital Beltway/I-495. Private partners Fluor-Transurban are investing $349 million and the commonwealth $409 million, supplemented by another $1.1 in toll-backed bonds and loans. Vehicles with three or more passengers will travel free in the new lanes while others will pay variable electronic tolls. Drivers will have the option of free lanes in both directions, though they will be more prone to congestion. The HOT lanes will be owned and overseen by the commonwealth but managed and operated by the private partners. Construction is to be completed in 2013.

Already operational North American toll facilities built under P3 arrangements include the E-470 in metro Denver; the South Bay Expresswayin San Diego; the SR 91 express lanes in Orange County, Calif.; the William R. Bennett Bridge in Kelowna, British Columbia; and the Dulles Greenway and Pochohantas Parkway in Virginia. Not to mention the Hiawatha Light Rail Transit System in Minneapolis and a cruise ship terminal in Galveston, Texas, among a bevy of P3 projects discussed in this recent trend piece by Wired magazine.

Other major transportation P3s nearing completion in North America include the Sea To Sky Highway from Vancouver to Whistler, British Columbia, and the Canada Line rail extension from Vancouver south to the suburban hub of Richmond, and the region’s airport.

Will Washington state’s public employees get in on the P3 action? Only if it makes good money management sense. The Washington State Investment Board oversees 17 different public employee pension funds and 22 other state funds with combined holdings of $67.6 billion, and would like to increase to at least 5 percent of its portfolio its “tangible assets” class, which can include timber lands, real estate, and infrastructure assets. WSIB Public Affairs Director Liz Mendizabal says the board’s performance benchmark is to achieve an 8 percent average annual return on investments. Another aim, with the stock market meltdown at top of mind, is to diversify the portfolio further. Mendizabal cautions that while some public employee pension funds may invest directly in a specific transportation project (i.e. Dallas), WSIB is not one of those: It invests in managed funds only. Any WSIB investment in infrastructure would thus have to be through an infrastructure fund.

An additional note: Because public employee pension funds already enjoy tax-exempt status on their interest earnings, they are highly unlikely to buy the tax-exempt, lower yield bonds that state governments often issue to fund transportation projects.

The Big Daddy of infrastructure investors among public employee pension funds is the Ontario Municipal Employees Retirement System. Bloomberg News reports OMERS manages $44 billion ($C) for its 390,000 members, and hopes to increase its infrastructure holdings from 31 to 35 percent of its holdings. North American rail systems are among its targeted areas for new infrastructure investment. The mammoth California Public Employee Retirement System — where former WSIB Executive DirectorJoe Dear is now Chief Investment Officer — is often mentioned as another potential investor in transportation infrastructure. But the talk at Calpers has amounted to little so far. That may change with California’s new transportation P3 law, though Calpers’ members have previously been vigilant and litigious in warning the board off any P3s involving private partners.

There are other approaches. A division of a wholly-owned Calpers subsidiary is proposing a sizable P3 investment in the state of Virginia’s ports network. Calpers and the Dallas Police and Fire Pension Fund also are trying to advance a larger federal role in seeding infrastructure P3s. A key element would be a National Infrastructure Investment Bank. Famed financier Felix Rohatyn helped develop the proposal and continues his advocacy. But Kiplinger Letter Associate Editor Jim Ostroff predicts it’s a virtual non-starter:

Also in the political breakdown lane: a national infrastructure bank to fund large, multistate projects….It would be seeded with Uncle Sam’s money and chartered to borrow money at ultralow interest rates that only federal entities can obtain. But Washington lawmakers won’t cotton to ceding control of several billion dollars of highway money each year to an independent agency.

Given the federal problems, political leadership on transportation P3s will have to come at the state level, helped by some existing federal programs that can help facilitate these deals, such as U.S. DOT “private activity bonds”, and loans through the Transportation Infrastructure Finance and Innovation Act (TIFIA project roster here).

In any case, it is states especially that must confront one of the biggest perceptual and political obstacles to U.S. P3 investment by infrastructure firms: their characterization as “foreign” and “private.” In truth they’re often as much or more Main Street than Wall Street — drawing capital from building trade and public employee unions, and hiring loads of U.S. workers.

Another objection to managed lanes, which are often at the heart of roadway P3s, is that the higher peak-hour tolls are unfair to lower-income drivers. A study by UCLA and USC researchers is the latest to debunk that contention about so-called “Lexus Lanes” that favor the well-off: “Those who oppose tolls and other forms of road pricing argue that low-income, urban residents will suffer if they must pay to use congested freeways. This contention, however, fails to consider…how much residents would pay for highway infrastructure under an alternative revenue-generating scheme, such as a sales tax.”

In the past, Washington state and regional elected officials have tended to approach planning and financing of transportation mega-projects on a piecemeal basis rather than developing a comprehensive strategy. Now some, such as State Sen. Ed Murray, clearly get that a systematic approach to tolling regional highways, plus public-private partnerships are needed.

Next year, state lawmakers could begin the process of extending electronic time-variable tolling to major highway corridors in the region (federal approvals are required for Interstate tolling, but the signals are generally green). Regional tolling, new or raised taxes or fees of some sort, and private partnerships will be needed to build and operate vital surface transportation projects in many states, at a time when funding and finance prospects are dimming precipitously. In a report on the proposed Washington Senate 2009-2011 Transportation Budget, the Senate Transportation Committee somberly warns:

The world is changing. Existing sources of state and national long-term transportation funding are not sustainable. In addition, new car technology and policies to reduce greenhouse gas emissions have a significant and negative impact on transportation revenues. A concerted effort is needed to merge a new reality with new policies, and bring key stakeholders together to develop and drive the transition.

In a presentation last summer to a gathering of the Pacific Northwest Economic Region, Washington State Transportation Secretary Paula Hammond and WSDOT’s Director of Public-Private Partnerships Jeff Doyle shared some important observations:

  • U.S. public sector motivations for P3s include contractual allocation of risk and price certainty; outsourcing of unpleasant tasks and costs of facility operations and maintenance; creation of new revenue sources, use of innovative financing and the monetizing of existing assets (3rd slide).
  • In the continuum of P3s, WSDOT sees the state as firmly in the middle, comfortable with approaches going as far as “design-build” contracts which unite those two phases for increased efficiency and savings (such as for the newer southbound span of the Tacoma Narrows Bridge,) but shying away, so far, from more full-on P3s such as design-build-finance-operate-maintain lease arrangements with private partners. (5th slide)
  • In the U.S., P3s are seen in a more limited function, as an alternative finance mechanism, while “Canada views P3s more holistically” in terms of full life cycle project costs (2nd to last slide, “Conclusions”).

Therein lies a telling point. Private debt adds costs to a project more than state-issued debt, but other savings during a project’s full life cycle, such as from privately-managed operations and maintenance of a toll road or transit line for several decades, can compensate. Add to that the value of an asset returned to public management in turn-key condition after an operating lease expires, replete with the “12 secret spices” recipe for smooth going from industry-leading experts.

Then there’s the real show-stopper: the hefty economic and social benefits of getting something built years sooner — including the associated savings in congestion avoided, business opportunities not lost, and idling vehicle emissions reduced.

Done well, P3s can pencil out favorably. A liberalized P3 policy in this state would signal a new openness to finance innovation in a time when the other mechanisms are falling short. But even vaunted “innovation” is only as good as what it gets. Surface transportation systems emulate smaller entities and organisms: they must adapt and improve — or be eaten.

Matt Rosenberg is a senior fellow at Cascadia Center of the Discovery Institute.