Public-private cooperation helps stretch fed funds.
It is becoming clear that traditional federal funding can no longer meet infrastructure needs; states and local governments now must carry the burden of serving the public in reasonable and profitable ways.
Starting Sept. 29, Loudoun County, Va., commuters willing to part with $1.75 one way were able to shave about 30 minutes off travel time as they ventured between Leesburg and the Washington-Dulles International Airport. Thanks to public-private cooperation, the Dulles Greenway, a $326 million highway that runs through federally protected wetlands, linked with the existing state-owned Dulles Toll Road to provide the only limited access route through the rapidly growing Dulles Corridor.
The Greenway (see related article, p. 50), the first privately financed new road development project in the United States, has acted as an economic stimulus for all of Northern Virginia by creating more than 4,500 jobs during its two-year construction period. It will continue to do so by providing better access for passengers and freight to Dulles Airport and influencing local commuter and development patterns throughout the Dulles Corridor.
It is also the first road to receive a long-term commitment from institutional investors, who have promised to provide $258 million in long-term fixed rate notes, due 2022 and 2026, to finance a portion of the cost of construction and operation of the Dulles Greenway.
The 14.1-mile Greenway is owned and operated by Toll Road Investors Partnership II (TRIP II), Sterling, Va.; after 42-and-a-half years, it will be deeded to the Commonwealth of Virginia.
Revenues will be derived from tolls and are dependent on traffic volumes, which are projected to grow at an average annual rate of approximately 8 percent over the life of the notes. The financing, according to TRIP II, is secured by a first mortgage and security interest in substantially all the developer’s right, title and interest in the Dulles Greenway.
The Greenway project directly addresses major concerns about the inability of the public sector to deliver infrastructure improvements due to a lack of funding from taxing and bonding sources.
The project itself could quite possibly affect the way roads and other public facilities are built in the United States as more and more cities and counties look for creative and profitable ways of meeting the infrastructure needs of their communities.
The concept is increasingly being advocated by leading-edge, progressive thinkers on many fronts, and more and more projects are being financed on the principle that the cost of capital improvements should be borne by those who benefit most directly from them, according to Ann Stern, chairman and chief executive officer of Financial Guaranty Insurance Co., New York.
“For example,” she says, “after a period of several decades in which it was assumed that federal grants, matched by state and local appropriations, represented the only way to finance highway construction, toll roads have reemerged as a familiar phenomenon on the American public works landscape.”
Traditional government sources of finance simply cannot provide sufficient funds to meet national highway system needs given current federal budget constraints.
One obvious answer: “New approaches and new financing mechanisms need to be developed to assure that scarce federal dollars are used most effectively,” says Senator John Warner (R-Va.), chairman of the transportation and infrastructure subcommittee of the Senate Environment and Public Works Committee.
FEDERAL SPENDING ANALYSIS
The “Budget of the United States Government, Fiscal Year 1996,” submitted by President Clinton to the Congress in February 1995, includes proposals that would lead to a decrease in total infrastructure spending for most programs for the 1996-2000 period.
In fact, as recently reported by the Congressional Budget Office (CBO) in Washington, D.C., in its “Public Infrastructure Spending And An Analysis of The President’s Proposals For Infrastructure Spending From 1996 to 2000,” authored by Aaron Zeisler of CBO’s Natural Resources and Commerce Division, outlays for federal infrastructure programs in 1996 would fall by 2.2 percent in nominal terms – from $47.2 billion in 1995 to $46.2 billion in 1996.
The Administration’s proposed Unified Transportation Infrastructure Investment Program (UTIIP) “would encompass a large portion of federal spending and would give states and localities more control over investment decisions,” Zeisler says. “However, outlays for highways, transit, rail and aviation would fall by approximately $0.5 billion in 1996, a 1.4 percent cut from 1995 levels,” leaving it up to the states to decide their own priorities for infrastructure in light of those budget reductions.
Under the president’s budget proposals, aviation would realize a decline in outlays, falling to $9.9 billion in 1996 from $10.1 billion in 1995.
These outlays would continue to drop throughout the budget period, falling at an average annual rate of 2.2 percent. One explanation for the downward shift, according to Zeisler, is that $2.2 billion in authority for grants-in-aid for airports would be removed from the 1996 portion of the budget.
Conversely, water transportation and resources would increase in budget authority, from $8.6 billion in 1995 to $8.8 billion in 1996. From there it would remain fairly constant with minor fluctuations each year.
As for water supply and wastewater treatment, the budget authority would decline the most, from $3.7 billion in 1995 to $2.5 billion in 1996 – a drop of 32.3 percent.
Spending would also fall during the budget period, though not as drastically, primarily because “$540 million to $590 million per year in spending authority for the Department of Agriculture’s Rural Water and Waste Disposal Grants would be eliminated starting in 1996,” Zeisler says.
In 1956, total federal spending for infrastructure (in constant 1990 dollars) was $11.6 billion. Roughly 35 percent went to highways, 10 percent to aviation and 55 percent to water transportation and resources.
By 1978, that figure had risen to $40.5 billion; after 1980, federal spending fell, and by 1992, it stood at $39.9 billion. Throughout this period, the distribution of spending among infrastructure categories had changed, with increases only for highways and aviation.
From 1984 to 1994, Zeisler says, highway and aviation spending grew at average annual rates of 3.5 percent and 5.2 percent, respectively. Clinton’s proposals include a reorganization of UTIIP, which could further affect the distribution of types of infrastructure investment throughout the 1996-2000 period.
For example, beginning in 1996, almost 70 percent of the programs previously falling under categories of highways, mass transit, rail and aviation would be combined into a single, unified account.
This reorganization would place the funding for these programs under the jurisdiction of the Department of Transportation, in a sense giving the individual states greater latitude to make investment decisions.
The unified account would “combine previous modal grant programs into state block grants and create state infrastructure banks and federally guided discretionary grants.” Additionally, the Administration separates the UTIIP account into federal programs and state and local initiatives, giving state and local governments greater stewardship over infrastructure investment.
“If the UTIIP was implemented in 1996,” Zeisler says, “approximately 93 percent of the spending authority would be allocated to state programs. Moreover, approximately 91 percent of the funding would be designated for capital investment.”
STRETCHING FEDERAL DOLLARS
In her appearance before the Senate Committee on Environment and Public Works Subcommittee on Transportation and Infrastructure this past April, Stern discussed new approaches to financing infrastructure investments.
“Last year, voters all across the United States sent their elected leaders an unusually unambiguous message,” she says. “They want less intrusive government, tighter control of public spending and lower taxes. But … in the authorization of state and local borrowing to finance investments in schools, highways and other public facilities, a majority of Americans voted in favor of increased capital spending.”
During the past 10 years, Stern says, state and local officials have been creative in developing new ways to finance major capital projects – without asking taxpayers to pick up the tab. Thus, toll roads, like the Dulles Greenway, are beginning to make a comeback. Other examples include the San Joaquin Hills and Riverside corridor projects in southern California and the Harris County toll road network and the Dallas North toll road in Texas.
As the first superhighway in the United States, the Pennsylvania Turnpike fueled the way motorists, engineers and consumers viewed highway transportation. Consisting of more than 43,000 miles, the interstate highway system is a tax-supported network while the turnpike itself is financed with tolls and revenue bonds rated “AAA” by Standard & Poor’s and “Aaa” by Moody’s.
But are these kinds of projects successful? Generally speaking, Stern says, they are. First opened in October 1940, the Turnpike today hosts more than 270,000 cars per day (1994 figures); the average revenue per vehicle is $2.32. The latest five-year average net fare revenue was $249 million; the latest year net fare revenue figure was $281 million.
Wally Kreutzen, executive vice president of finance and administration for California’s Transportation Corridor Agencies says it depends on the market.
“Some markets are somewhat skeptical of toll roads, but it’s really an issue of time [for commuters], getting out of congestion quickly – it’s a quality of life thing,” he says. He uses the Foothill Corridor as an example. “We are a public entity,” Kreutzen says. “There is no underlying taxing authority, such as sales or property taxes [to support the project]. Once you get past the construction risk, you just hope the road performs.”
And it has. Plans for the seven-and-a-half-mile corridor – at a $1 toll one way – called for 60 percent usage within several years; instead, Kreutzen says, the goal was reached just after the first year of operation.
The Foothill Corridor relies on funding through toll revenue bonds and development impact fees as its two major revenue sources, Kreutzen says, although the project still receives about $120 million to $150 million in state and local partnership funds.
REDEFINING GOVERNMENT’S ROLE
As the government searches for new ways to stretch federal dollars and increase public infrastructure investments, it should “make greater use of private-sector capital and expertise,” says Stern. “Private financing of airport facilities is now quite common. At New York’s Kennedy Airport, for example, four foreign-flag airlines are financing and managing the development of a new, $435 million international terminal.”
The Woodrow Wilson Bridge, the only bridge owned by the federal government, which faces a critical dilemma of being rebuilt or replaced, “presents another opportunity to use private resources to meet an important public need,” she says.
“As a vitally important link in the highway network that serves one of the nation’s most heavily traveled areas, and with an average daily traffic volume of 167,000 vehicles, the bridge is precisely the type of facility that should be able to attract substantial private investment,” Stern says. “Even with a relatively modest $1 toll, that volume of traffic would generate more than $60 million in toll revenues each year. It is thus not surprising that leading private infrastructure developers such as the United Infrastructure Company and Brown & Root have expressed interest in contracting with the federal government to design, finance, build and operate a replacement bridge.”
A variety of initiatives are being examined as possible ways of coping with declines in federal funding and placing a renewed emphasis on state, local and private sector options. Some of these are (see chart, p. 30):
* The Clean Water State Revolving Loan Fund (SRF);
* State Infrastructure Banks (SIBs);
* Certificates of Participation (COPs);
* Tax-exempt Public-Benefit Bonds; and
* Elimination of unreasonable federal constraints on state and local authorities and unnecessary impediments to private involvement.
The Clean Water State Revolving Loan Fund. Created by the Water Quality Act of 1987, and administered by the U.S. Environmental Protection Agency, the SRF’s purpose is to finance wastewater treatment facilities. Repayments from low-interest loans – made from initial federal and state capitalization funds – can be recycled for future loans.
The loan program’s features include a repayment period of up to 20 years; loans covering 100 percent of eligible costs; and, at state discretion, adjustable-rate loans and stepped or balloon payments.
Capitalization began in 1988 and now totals more than $16 billion. In adopting the SRF program, Congress gave the states greater flexibility to structure their SRFs to best meet their needs, thereby making needed environmental infrastructure projects more affordable.
The SRF program takes a broad approach, financing an array of environmental projects that address agricultural, rural and urban runoff; contaminated urban stormwater; combined sewer overflows; and estuary management projects.
State Infrastructure Banks (SlBs). Loosely based on the wastewater treatment revolving loan funds, SIBs are considered to be infrastructure investment revolving loan funds, which would be capitalized with federal seed money, rather than receiving direct federal reimbursement for state and local capital spending.
Proposed by the U.S. Department of Transportation, SIBs could participate in the financing of highway, bridge, mass transit, rail or intermodal projects. Support could take various forms, including long-term, low-interest loans; subordinated debt financing; equipment lease financing; or credit enhancement.
A variety of barriers, such as unpredictable traffic volume on a new toll road, uncertainty in the growth of a new airline terminal or the possibility of a severe local recession, impede revenue-based financing of infrastructure projects, and these and other associated risks “are sometimes substantial enough to make conventional revenue-bond financing or private financing of otherwise feasible and desirable projects virtually impossible,” Stern says.
SIBs can help solve this problem by providing short- to medium-term loans for project development and early stage construction costs, permitting municipal bond underwriters, insurers and investors to “provide the long-term financing that is their real strength,” she says.
Certificates of Participation (COPs). According to Larry Levitz, vice president of Tax-Backed South Department, MBIA Insurance Corp., Armonk, N.Y., COPs are “a widely accepted financing mechanism used frequently by school districts and other government agencies to provide basic services in an increasingly cost-conscious environment.”
These certificates represent the right to receive a proportional share of lease payments made by a participating lessee, such as a school board, under a lease agreement.
“In a typical COP transaction,” Levitz explains, “the school board makes periodic lease payments, corresponding to principal and interest due on the certificates, directly to a trustee or third-party fiduciary. These payments are then passed on to the certificate holders.”
Both COPs and other lease-revenue bonds use revenue streams, which are derived from the governmental entity’s lease payments, to pay bondholders and certificate holders.
“With so much public emphasis on cutting costs and taxes,” he says, “COPs may be the only way to finance capital projects. While they are an effective financing tool, officials should take great care to ensure that the projects enjoy a wide public support.” He adds that review of legal provisions is a must to help allay investor concerns regarding inherent risks and to promote the issue’s acceptance in the marketplace.
Public Benefit Bonds. These tax-exempt bonds would be issued to finance or refinance infrastructure projects sponsored by states and local governments and/or public-private partnerships that benefit bridges, tunnels, airports, mass transportation vehicles or systems, rail lines, waterways, ports, harbors, drinking or wastewater treatment facilities, solid waste disposal facilities, pollution control systems and hazardous waste facilities. Designed to increase infrastructure investment, public benefit bonds can create incentives for greater private sector participation and increase demand for municipal bonds by attracting a new category of institutional investor (such as the $4.5 trillion pension fund market).
The types of projects public benefit bonds would be used to finance fall into two categories: transportation and environmental projects that currently qualify for tax-exempt financing and projects that are not presently eligible for tax exempt financing but would benefit the general public.
Eliminating constraints and impediments. While Congress gave greater flexibility in financing airport improvements by authorizing the imposition of passenger facility charges (PFCs), these charges are still subject to the Federal Aviation Administration’s approval and can be withdrawn – even after improvements are underway – making it virtually impossible to finance airport projects by borrowing against future PFC revenues.
The Baltimore/Washington International Airport wanted to use a $3 PFC, affixed to the ticket prices paid by passengers using the airport, as the source of repayment for bonds issued to construct additional international gates. Unfortunately, “PFCs cannot be looked at as stand-alone revenue,” says Kathleen Evers, group leader of public finance at FGIC.
Most U.S. airports that issue PFC-backed debt also require additional revenue sources as security for the bonds.
Working with BWI, the Maryland Aviation Administration and the Maryland Transportation Authority agreed to combine general account balances from toll road operations with those of the airport’s PFC revenues to support $163 million in revenue bonds. By combining the two sources of revenue, Evers says, the state was able to create a much stronger credit than either source alone could have provided.
A better answer? Congress “should amend the tax code to relax or eliminate restrictions on the duration of operation and maintenance contracts. The present five-year limit on such contracts makes it difficult for state and local governments to induce private contractors to finance capital improvements [TABULAR DATA OMITTED] in public facilities,” Stern says.
Regardless, it is becoming increasingly clear that traditional government sources of finance can no longer provide sufficient funds to meet infrastructure needs given current federal budget constraints. The federal government’s role, she says, is increasingly that of a minority partner. And, as in other such enterprises, minority investors should not expect to write all or even most of the rules. “Over the years, Washington has grown accustomed to calling the shots on everything from design standards for use of recycled materials in construction to the composition of local project advisory committees.”
Now, it is a burden that states and local governments must carry as they continually search for various ways of serving the public in reasonable and profitable ways.