U.S. Shifts to Strong Support for Public-private Infrastructure Deals

US-Shifts-to-Strong-Support-for-Public-private-Infrastructure-Deals

Federal support for public-private partnerships (P3s) has taken a surprising turn recently. At the Wharton conference, “Investing in America’s Public Water Systems — Making Public-Private Partnerships Work,” the general consensus was that Washington would not be playing much of a role in P3s for water infrastructure projects anytime soon. That was in early May, 2014.

In June, the situation began to change when a new federal loan program was passed by both houses of Congress with strong bipartisan support and signed by the president. Just a few months later, Obama proposed a budget for 2016 that includes strong support for P3s.

Canada Leads the Way

A 2013 article in Governing magazine asked, “Why Isn’t the U.S. Better at Public-Private Partnerships?” Lamenting the U.S. government’s lack of support for P3s, the article holds up Canada as role model. “Experts say it’s time to copy Canada and change that,” according to the publication.

As part of what the Canadian government calls, “the largest and longest infrastructure plan” in the nation’s history, Canada has committed $1.25 billion to a national portfolio of 20 public-private partnerships, seven of which involve water and wastewater infrastructure. But what is noteworthy about the Canadian program is not just the size or scope of its investment but the process it has put in place.

“What is the bright idea out of Canada?” asked Richard Anderson, a senior advisor at the U.S. Conference of Mayors and managing director of the Mayors Water Council. “It’s opening up a closed procurement process by requiring local officials to do a lifecycle analysis.” While PPP Canada, the agency in charge of the program, cautioned that public-private partnerships are “not the right solution in every case,” the Canadian government has said these ventures are worth considering. It also said that PPP Canada has the expertise needed to help local officials conduct the “Value for Money“ analysis needed to determine if a P3 makes sense for a given project.

What is noteworthy about the Canadian [infrastructure P3] program is not just the size or scope of its investment but the process it has put in place.

In its simplest form, a “Value for Money” analysis looks at the estimated lifecycle cost of a public infrastructure project in two ways, both as a public-private partnership and as a traditional publicly managed project. The P3 option is pursued only if it provides better value for the money over the lifetime of the project.

In addition to facilitating the consideration of P3s, Canada’s government also requires any P3 that uses federal funds to follow carefully defined protocols. In Canada, “the federal government says you have to abide by its procurement process and use its standardized contracts,” said Patrick Cairo, senior vice president for corporate development at Suez Environnement. PPP Canada also has strict requirements about transparency. “The books are open on the companies involved,” said Anderson. “Everything associated with that project is public knowledge.”

U.S. Charts Its Own Path

Few expect the U.S. to follow exactly the same path as Canada, and indeed, Washington has begun to chart its own way forward.

Janet Kavinoky, executive director of transportation and infrastructure at the U.S. Chamber of Commerce, saw three ways in which the U.S. government could support P3s. It can facilitate P3 education and training for the public sector, provide financial assistance to P3s, or “it can get out of the way” by streamlining the permitting process and removing prohibitions and regulations that “are disincentives for private sector involvement,” she said.

The federal government began to move on all three fronts when it enacted the Water Resources Reform & Development Act (WRRDA), in June 2014. Among other provisions, the $12 billion act “reforms bureaucracy, accelerates project delivery, and streamlines environmental reviews,” according to the House Transportation and Infrastructure Committee. Feasibility studies by the Army Corps of Engineer, which had been taking 10 to 15 years, must now be completed within three years, for example.

Washington has begun to chart its own way forward.

WRRDA also establishes a five-year pilot program that is designed to encourage private involvement in large public water and wastewater infrastructure projects. The Water Infrastructure Finance and Innovation Act (WIFIA), which provides subsidized, low-interest federal loans, is modeled after the Transportation Infrastructure Finance and Innovation Act (TIFIA), a well-established federal program administered by the U.S. Department of Transportation, which Kavinoky said has been “critical to P3s in transportation.” Like TIFIA, WIFIA encourages P3s by making low-cost federal loans available to projects that include private partners, as long as the project is publicly sponsored, and the local public agency supports it. By lowering the cost of public debt, these low-interest loans give projects “more capacity to bring in equity or private debt,” explained Kavinoky.

The U.S. Environmental Protection Agency (EPA), which administers the pilot program, is now holding listening sessions around the country. One of the groups it is likely to hear from is Food & Water Watch. Wenonah Hauter, the group’s executive director, recently complained that “WIFIA will give low-interest loans primarily to private water corporations, compete with the State Revolving Funds for federal resources, and place inappropriate pressure on local governments to privatize their drinking water and wastewater systems.”

Kavinoky said it will take a year or more before all the issues are aired and enabling regulations have been settled.

New Muni Bonds Build on Earlier Effort

The 2016 federal budget proposed by the president includes Qualified Private Infrastructure Bonds (QPIBs), which serve to promote public-private partnerships. QPIBs make tax-free municipal debt available to projects with more than 10% private sector involvement. Such financing has been available before in the form of Private Activity Bonds (PABs), but those bonds came with two significant restrictions.

First, while the interest earned on qualified PABs is exempt from federal income taxes, it remains subject to the alternative minimum tax (AMT). The American Recovery and Reinvestment Act (ARRA), also known as the stimulus package, temporarily exempted PABs from the AMT for two years, but that exemption expired in 2010. “When the ARRA provisions expired, PABs became less appealing to bond buyers,” said Robert Puentes, senior fellow at the Metropolitan Policy Program of the Brookings Institution.

The second restriction that has limited the effectiveness of PABs is a volume cap that establishes a fixed allocation for each state. The federal government set the cap to limit the amount of tax revenue it could lose. But certain projects considered essential to public welfare were exempted, including airports and solid-waste facilities, among others. Water infrastructure was not among those exempted from the volume cap. “The water and sewer industry must have been asleep at the time, because no one said, ‘why don’t you exempt water and sewer facilities as well?’” said Cairo, adding that advocates of P3s have been trying to convince the government to exempt water infrastructure projects ever since.

The new QPIBs remove both the volume cap and the AMT restrictions. According to Kavinoky, Obama could have accomplished the same thing by just tweaking the PAB program. “But it sounds a lot more presidential to say we’re going to come up with something new than it does to say we’re going to tweak an old program,” she said.

New Water Finance Center May Offer Tech Help

In addition to QPIBs, the president’s budget also includes the establishment of a new interagency center at the EPA, which promises to offer the same kind of education and training that PPP Canada provides. The White House said “the center will bring together investors and project sponsors; highlight promising deals; provide peer-to-peer learning and workshops; and develop case studies and toolkits.”

Passage of WRRDA makes it clear the federal government will be stepping up its support for P3s for water.

The new EPA water center would also offer financial training and technical assistance to help small communities and rural water systems attract private partners. Lacking this kind of aid, small systems have been largely shut out of P3s. “That’s because individually each of these utilities is too small for the juice to be worth the squeeze,” said Patrick Sabol, a senior policy and research assistant with Brookings’ Metropolitan Policy Program. Private equity investors typically will not consider projects smaller than $100 million, and WIFIA loans are available only to projects with an estimated cost of at least $20 million, he said.

The West Coast Infrastructure Exchange — a regional partnership that includes California, Washington, Oregon and British Columbia — is exploring the possibility of aggregating numerous small projects into a single package that can attract private partners. Aggregation is an approach that has been used for bridge construction in Pennsylvania and for water utilities of First Nations, or indigenous communities, in Canada, Sabol said. Whether the new EPA center will try aggregation remains to be seen.

One additional step that P3 advocates still hope to see would not depend on Congressional approval — removing the Internal Revenue Service restrictions around the co-existence of public and private debt financing in the same project. Currently, if private equity gets involved in a project that is already using money from tax-exempt municipal bonds, the private partner has to remove the municipal debt from the city’s balance sheet, Anderson said. The practical effect of this policy is that a portion of the private funds involved in a P3 has to be used to refinance any existing municipal debt.

“That’s a shame,” said Cairo. Existing debt from tax-exempt municipal bonds is often far less costly than new debt. So instead of preserving existing lower-interest debt that is already funding work, and using new, higher-interest debt to fund future efforts, a private investor has to bundle old and new debt together, and finance it all at current higher market rates, he said.

But whether or not the IRS changes its policy, or Congress agrees to any of the president’s new proposals, the bipartisan passage of WRRDA makes it clear the federal government will be stepping up its support for P3s for water and other infrastructure in the years ahead.

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