While private investors take on much of the risk, there are drawbacks to consider.
Federal, state and municipal officials are coming to the realization that public-private partnerships, or P3s, can be a viable alternative to the traditional “design, bid, build” projects that have dominated government for decades. P3s use a “design, build, finance, maintain” approach, putting those issues, and sometime operational concerns, largely in private hands. This allows public officials to offload much of the risk associated with large infrastructure projects, yet maintain control of specifications, operating standards and regulatory requirements, as well as ownership of the asset. Interest in P3s is picking up and their use has already begun to expand beyond roads and bridges to social infrastructure, such as university facilities, courthouses and schools.
Although government officials remain cautious, there’s growing evidence that P3s are gaining acceptance. In 2013, Maryland’s legislature, for example, passed a bill to allow P3s, and in 2012, legislation in Pennsylvania allowed the use of P3s for transportation projects. More than 30 states now allow such projects in one form or another.
Still, while public-private partnerships may be a good alternative in some situations, they do not work in every situation. There is much to consider.
Legal authority. Whether you represent a federal, state or local agency, you must have the requisite legal authority to undertake a P3 project.
Strategic and policy objectives. Ask whether the project fits into your organization’s long-term plans. Any major infrastructure project should first undergo thorough review and only after it is deemed a priority should you test its feasibility as a P3 project.
Risk transfer opportunities. In a P3, private investors—often referred to as concessionaires—take on many of the risks on a project for up to 50 years and in some cases longer. If the concessionaire underestimates the cost of maintaining a project, it’s that company’s problem. But keep in mind that transferring these risks, which have traditionally been borne by the agency, has associated costs, which must figure into the financial equation when assessing whether a P3 is the best way to go.
Timing. Empirical evidence suggests that P3 projects can be delivered faster than traditionally procured projects. By using a privately financed P3 structure, a much-needed infrastructure project can be completed, in some cases many years earlier than an agency waiting for funding. This often has significant economic benefits to the region and public beyond the pure financial elements of the deal.
Another layer of issues addresses long-term feasibility of the project and requires decision-makers to consider three essential questions before proceeding with a P3: Is it technically feasible? Is it financially feasible? Do you have buy-in from stakeholders?
Technical feasibility. Because P3s are based on long-established financing techniques, they don’t lend themselves to constantly changing requirements. Roads, bridges and buildings generally fall into this category; they are largely a known quantity when it comes to pricing long-term risks. Information technology assets, on the other hand, are subject to rapid technological change and are difficult to price based on risk. So, projects with a significant technology element would be difficult to pull off as a traditional P3.
Financial feasibility. Use an “apples to apples” comparison of the two approaches. Two potential financial models incorporate project costs throughout the life of the concession. The first model incorporates costs based on “design, bid, build” and a financing structure typically adopted by the agency. The second model anticipates the way a typical investor would structure and finance the project using a mix of risk capital and project finance loans or capital markets products. Agencies can compare the two to determine which route to pursue.
Stakeholder buy-in. Education is often a key element in gaining this critical support. There will always be opponents of P3, so public officials should be able to thoroughly explain how they have evaluated the project. Stakeholders must be engaged and receive timely answers to their questions about how they may be affected by a P3. If constituents don’t believe that the benefits of a P3 outweigh potential drawbacks, you need to rethink your approach.
The final layer of issues can be summed up in just two questions: Is your project deliverable? What’s the market appetite for your P3 project? Market appetite can be addressed by answering these sorts of questions: Is the project too large to attract a sufficient pool of viable bidders? Is there sufficient capacity in the financial markets to finance a major project? Are there competing projects in the same market?
Agency budgets have finally begun to recover after years of financial duress. At the same time, public officials at all levels are looking for innovative ways to fund desperately needed infrastructure projects. P3s can be a viable alternative to traditional government funding, but any such project should undergo a vigorous review to determine which route is best before reaching a final decision.
Andy Garbutt is head of the Infrastructure Advisory team at KPMG LLP. The views expressed are his and do not necessarily represent the views of KPMG.