As originally published in the Daily Journal of Commerce
Authored by: Marcus Eyth
Lots of people in the construction industry have been talking about public-private partnerships recently. But many folks aren’t really sure what a PPP is, don’t understand the players and their roles, and may not recognize the risks and potential benefits.
PPPs have been used in the U.S. for more than 225 years in various forms, and include wildly successful and famous projects such as the Erie Canal, the Holland Tunnel, Grand Central Terminal, the Brooklyn Bridge, the New York subway and the Boston subway.
Fundamentally, PPPs consist of a contractual relationship between a public agency and a private entity (usually referred to as a “concessionaire”) with a purpose of delivering a service or facility for the use of the general public. Stated differently, the agency and the private entity jointly supply money to build, operate and maintain a public project, with both sides sharing the risks and rewards of project delivery.
Unlike the traditional government contracting scenario, in which the government appropriates money to procure the services of a contractor to build a project, the private entity’s investment results in balancing the risks. In consideration of taking on more risk, the concessionaire – for a certain term – obtains the revenue from the completed project.
There is some PPP activity in Oregon, but not much, which is likely due to a lack of investors and a lack of understanding of PPPs. But in a down economy, when contractors are struggling and agencies lack money to pay for infrastructure projects, PPPs can put contractors back to work.
In 2006, the Oregon Department of Transportation signed a PPP with a consortium of private-sector companies known as the Oregon Transportation Improvement Group to assess and possibly deliver new transportation infrastructure projects to Oregon.
More recently, Portland General Electric and ODOT entered into a PPP to create and operate a solar power plant for a “solar highway” project. This first-of-its-kind PPP produces solar energy during the day to illuminate the highway interchange from Interstate 5 to Interstate 205 south.
Typically, the concessionaire (usually a special purpose entity) will engage the various project participants, who may include lenders or investors, designers, a construction contractor or contractors, and a company to operate and maintain the completed project. The concessionaire is the equivalent of a “one-stop shop” so that an agency does not have to enter into separate agreements with – and manage – the various participants.
Concessionaire agreements are usually heavily negotiated to strike a fair deal that balances the risks and rewards to the agency, the public and the concessionaire. For example, while a state transportation agency may want to limit toll rate increases (to protect the public from an overreaching concessionaire), the project needs to be attractive enough for investors to earn a reasonable rate of return.
Another key provision is the term, which typically ranges in the U.S. from 25 to 99 years. Concessionaires will typically desire a longer term to realize the benefits of the initial capital investment over time. Moreover, the parties will need to consider what standards the concessionaire will be required to meet for project maintenance during the term. Those costs can vary significantly, depending on quality.
In addition, as in a real estate lease, the parties will need to consider in what condition the facility will be returned to the agency at the end of the term and what measures will be in place to guarantee that condition (e.g., surety or cash bonds). Other considerations include what happens if the concessionaire goes bankrupt and how the agency ensures that the concessionaire complies with existing and future environmental standards.
Oregon has some of the least restrictive PPP laws among the approximately 25 states that permit PPPs, which means there is room for more creative proposals. Although many of the design-build contractors involved in PPPs are large firms, it is not uncommon for medium-sized contractors to team up and create joint ventures to compete for this work. Even if smaller contractors are not privy to the concessionaire agreements, they (and trade subcontractors) have incentive to support PPPs because they present work opportunities in this down economy.
For concessionaire participants, rewards include financial gain, experience, good public relations (also for creating jobs) and a busy workforce. But the risks can be significant too – especially when the private partner initiates the proposal. Start-up investment costs used to convince an agency and/or specific politicians of the benefits and long-term viability of a proposed project may not be recouped.
By way of example, the proposed high-speed rail PPP project in Florida in 2010-11 attracted a number of national and international design-build contractors, some that established entities in Florida, hired personnel, entered into equipment purchase and rental agreements, and courted the agency for many months. Unfortunately, the project was terminated by Florida’s governor, who decided it was not in the state’s interest to proceed.
But for savvy, creative and well-connected investors and contractors who keep their eyes open to risks, public-private partnerships present a valuable alternative or supplement to standard procurement contracting.