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Compared with the rest of the world, the United States has been relatively slow to use public-private partnership arrangements (P3s) in building, financing, and operating infrastructure assets. One reason is U.S. tax policy--unlike many countries, the United States allows state and local governments to issue tax-exempt municipal bonds to finance the building of infrastructure assets. This tax exemption enables state and local governments to procure financing at a much lower cost than can be achieved by the private sector, which often uses a more expensive debt and equity financing mix. Because of this financing advantage, state and local governments have a long history of financing, building, and operating infrastructure in the United States, which, some would argue, has provided these governments with a level of operational expertise that is similar to that of the private sector. The question, then, is whether the public sector's seemingly inherent financing cost advantage is enough to offset whatever capital and operational cost efficiencies the private sector brings to the building and managing of infrastructure assets.
One way to analyze this question is by comparing the amount of funds the private sector is willing to pay the public sector for the right to finance, construct, and operate toll roads in the United States with the amount that can be raised through conventional municipal bond financing. How much is the future cash flow stream of the asset worth under private versus public provision and financing?
QUANTITATIVE, QUALITATIVE; GREENFIELD, BROWNFIELD
A number of recent studies--mainly covering U.S. surface transportation assets--address this type of explicit quantitative analysis. In reality, of course, the policy decision to use a P3 arrangement must also take into account more qualitative factors including control of the asset being lost, appropriate level of consumer surplus for toll users (i.e., the difference between the maximum toll a citizen would be willing to pay versus the actual toll rate), future regional transportation needs, diversion of traffic, and environmental impacts. However, while these qualitative considerations are clearly important, they will likely be considered only if a government can make a case from a quantitative standpoint that private rather than public financing, construction, and provision of an infrastructure asset is more effective.
Second, within types of P3 arrangements, one must distinguish between the construction of new roads, often referred to as greenfield projects, and privatization of existing roads, called brownfield projects. In many contemplated greenfield P3s, the private sector designs, finances, constructs, operates, and maintains the new road. In return for a one-time, upfront payment to the government, the private entity receives the right to collect and keep all revenues from the asset over a specified term. In a brownfield project, the road is already built, so the private sector entity only operates and maintains the asset, although maintenance might include significant future capital costs. Like in a greenfield project, the private entity receives the right to collect and keep all revenues from the asset over a specified term in return for a one-time, upfront payment to the government.
The level of value the private sector offers, as it relates to risk sharing and cost containment, may be much different for greenfield and brownfield projects. Construction, revenue, operational, and environmental risks are much higher for new roads, and for this reason, P3s can be a better arrangement in greenfield projects (even if the quantitative analysis favors the public sector) because the risk-sharing arrangement between the public and private sectors is more appropriate. It is not surprising, therefore, that most of the debate (and, thus, most of the written studies) on P3s has been over brownfield projects. It seems that most observers recognize the significant value the public sector can realize in transferring risk to the private sector in greenfield projects, whereas there is still considerable debate about the impact of private sector involvement in brownfield projects.
Chicago Skyway and Indiana Toll Road. Given the size and prominence of several recent P3s, including the $1.8 billion Chicago Skyway and $3.8 billion Indiana Toll Road projects, several studies have been commissioned to examine whether it makes sense to enter into such P3 arrangements. Dennis Enright, a prominent critic of P3 brownfield projects as they have been structured to date, analyzed the Chicago Skyway lease transaction and attempted to determine whether traditional municipal bond financing could have been used to provide the $1.8 billion upfront payment received under the concession. (1) Simulating a conventional municipal bond financing, Enright found that public financing at the same or even greater monetization levels would have been feasible for the Chicago Skyway In the context of loss of operational control and future cash flows under the P3, Enright argued that conventional upfront municipal financing would have been a better public policy option for the City of Chicago. Enright also examined the $3.8 billion Indiana Toll Road lease transaction using the same framework as his Chicago Skyway study (2) Similar to the previous study's findings, he determined that conventional municipal bond financing could have provided an upfront financing amount similar to what the P3 provided, without the need to transfer operational control and future revenue growth to the private sector.
Pennsylvania Turnpike. A 2008 study of the proposed leasing of the Pennsylvania Turnpike, commissioned by the Democratic Caucus of the Pennsylvania House of Representatives, analyzed three financing alternatives (traditional municipal bond financing by the Pennsylvania Turnpike, full public sector monetization by a 63-20 public benefit corporation, and a P3 corporate lease) and attempted to determine which alternative made the most financial sense. (3) The authors found that on a present-value basis, the traditional municipal bond financing would provide $26.5 billion in upfront funding to the state, the full public monetization would provide $22.8 billion, and the P3 lease, $14.8 billion. The study provided several conclusions, based on sensitivity analyses and financing structures: 1) given comparable toll schedules and operating expenses, the cost of capital becomes the most significant value driver for the operator of the Turnpike; 2) the other major drivers of value are the length of the concession term, the toll formula, and the assumption regarding the growth in traffic; and 3) value is relatively insensitive to operating and capital costs. The third conclusion could be seen as refuting one of the primary arguments of P3 proponents: namely, that operational and capital efficiencies make these assets more valuable in the hands of the private sector than the public sector.
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P3 PROPONENTS
The Reason Foundation is a major proponent of P3s. Much of this organization's advocacy relies on the traditional argument that the private sector often offers more efficient service delivery of public goods than the public sector can. As it relates to transportation infrastructure, the Reason Foundation and other P3 advocates claim three primary advantages to privatization. They argue that the private sector can: 1) provide better customer service, 2) operate the assets as a real business (including reduced capital and operating costs), and 3) make better investment and financing decisions than governments can. (4) While the Reason Foundation generally concedes that public-sector financing may be less expensive than what the private sector could put together, it contends that this difference is smaller than P3 critics claim and that the operational and capital cost efficiencies the private sector provides overcomes the financing advantage. (5) (See Exhibit 1 for a comparison of the two contrasting perspectives as they relate to the level of upfront funding in a P3 project.)
Robert Poole, director of transportation studies for the Reason Foundation, challenges the plausibility of the assumptions P3 critics make regarding conventional municipal bond financing, including the Enright studies. Poole dismisses critics' analyses based on the following factors: 1) unrealistically aggressive traffic and revenue forecasts, 2) unrealistic projected toll increases, and 3) inappropriate discount rate. (6) With respect to his first two criticisms, Poole argues that municipal bond investors and credit rating agencies would be dubious of both the public sector's will and ability to raise toils at the pace contemplated under a P3 arrangement. Poole concludes that the public sector would not be able to raise as much upfront funding as the private sector could, based on the assumption that governments would not raise tolls as much and as often as a P3 would, and that bond investors and credit rating agencies would tend to favor conservative, investment-grade types of revenue projections. Poole also argues that the use of Transportation Infrastructure Finance Innovation Act (TIFIA) loans (i.e., direct loans from the Federal Department of Transportation) and the issuance of tax-exempt private activity bonds by private entities can significantly decrease the public sector's financing benefit over the public sector.
THE CAPITAL BELTWAY PROJECT
The Capital Beltway public-private partnership between the Virginia Department of Transportation (VDOT) and its private partners is, in many ways, a landmark surface transportation project. It includes the largest private-sector equity investment in a U.S. new-build toll road public-private partnership. The Capital Beltway project is also the first U.S. surface transportation project to use tax-exempt private activity bonds (PABs) and the first to use U.S. Department of Transportation TIFIA funds and PABs in one financing. (7) The significance of such a novel government-assisted private-sector financing structure is the reduced cost of capital for the private sector partner.
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