The Dos and Don’ts of PPPs
Yesterday, in a widely circulated op-ed, Governor Andrew Cuomo proposed the creation of an infrastructure fund that would promote public-private partnerships (PPP) to construct and repair assets across the state as part of a new job creation program. PPPs are important tools for building and managing infrastructure, and the right partnership can deliver and operate capital assets – including schools, hospitals, toll roads and bridges – more effectively and efficiently than government can on its own. Entering into a PPP, however, does not necessarily mean that government abdicates responsibility for the finance or performance of the asset.
Here is an outline of basic “Dos and Don’ts” for the use of PPPs, adapted from the Citizens Budget Commission’s 2008 report, “How Public-Private Partnerships Can Help New York Address Its Infrastructure Needs.”
- Set clear goals and objectives.Successful PPPs draw on the strengths of both public and private sector partners in sharing appropriate risks and rewards. The private partner usually assumes the construction and operational risk, but is typically not liable for changes the public partner requests once the design has been finalized. Avoiding costly change orders requires clarity and agreement about the objectives of the PPP and the operational requirements and service outcomes required once construction of the asset is completed.
- Focus on life-cycle outcomes. PPPs offer the public sector an opportunity to overcome its poor record of keeping assets in good condition and fully functioning. The State and local governments across New York face substantial financial pressures to fix roads, bridges, water and wastewater plants, mass transit, schools and universities that have fallen into disrepair. Because PPPs last 20 years or more, they “lock in” maintenance and upkeep for the length of the arrangement and avoid the asset neglect that often characterizes public management.
- Pursue a PPP if it demonstrates “value for money.” The decision to undertake a capital investment should me made independent of the decision to enter into a PPP. For the public sector, PPPs are a worthwhile investment only if the PPP can generate savings or superior performance relative to the projected capital and maintenance costs for building and adequately maintaining the facility under direct public management.
- Consider availability payments and shadow tolls as appropriate models. Effective PPPs are not limited to facilities that generate substantial revenue from user fees. Many viable PPPs have been developed for public facilities through two other models in which the public partner pays the private partner directly. Under these models, the private partner is able to recover initial investments, meet operating costs and make a profit through regular “availability payments” or “shadow tolls” conditioned on keeping the facility in satisfactory condition. Availability payments are used for projects when volume of use is less critical and the government is seeking the availability of some facility such as a school building, military barracks or hospital. Shadow tolls are similar to user fees but are paid by the government rather than an individual customer.
- Enhance public sector management capacity. PPPs are long-term and complex agreements, and an effective PPP requires skilled crafting of an agreement and vigilant monitoring of the PPP’s long-term performance. The public sector must enhance its capacity for contract design, performance measurement and monitoring. The public partner should also foster transparency in the partnership and enforce contract provisions regarding penalties and termination, if necessary. Enhanced capacity for public administrators requires adequate resources, and these costs should be recognized as part of the PPP arrangement and taken into account in deciding whether a PPP is appropriate.
- Mistake PPPs for “new” money for infrastructure. PPPs in other countries have relied on the private partner to issue debt, often to circumvent debt limits. In contrast, New York can use revenue bonds issued by public authorities to raise capital; the tax-exempt status of interest payments on these bonds makes this form of borrowing economically efficient. As a result, some successful U.S. PPPs – including Terminal 4 at JFK airport – have relied on the public partner to issue the debt. Even if a PPP is entirely privately financed, the public sector is not off the hook: under availability payment and shadow toll models, it will need to make structured payments to the private partner, similar to paying debt service.
- Enter into multi-generational deals with large up-front payments. High-profile PPPs in Chicago and Indiana featured multi-generational leases of 75 or 99 years that provided a large, up-front payment to the public partner in return for toll revenue rights. The available evidence indicates that the assumptions underlying these deals were not transparent; may have undervalued the assets; were structured in order to maximize up-front payments; and did not pay sufficient attention to toll increases or long-term capital improvements.  In Chicago, the up-front payments have been largely depleted, with much of the funding used for general budget relief and not infrastructure improvements.
- Undertake large capital projects with divided integral responsibilities. PPPs do not work well when multiple private or public partners are involved in the operation of a single multi-modal capital asset, or when the public sector retains service-delivery responsibility that may hinder the private entity’s ability to execute its operational and maintenance responsibilities. The failure of the PPP contracts for the London Underground illustrates this.
- See Germa Bel and John Foote, “Comparison of Recent Toll Road Concession Transactions in the United States and France,” Xarxa De Referencia en Economia Aplicada Document De Treball XREAP2007-11, accessed December 5, 2011 at http://www.pcb.ub.es/xreap/aplicacio/fitxers/XREAP2007-11.pdf; Government Accountability Office, “Highway Public-Private Partnerships: More Rigorous Up-Front Analysis Could Secure Better Potential Benefits and Protect the Public Interest,” GAO-08-44, February 2008, http://www.gao.gov/new.items/d0844.pdf; U.S. Federal Highway Administration, “Case Studies of Transportation Public-Private Partnerships in the United States,” Final Report Work Order 05-002, July 2007.