Navigating the Complex Landscape of P3s
There are many ways to structure a public-private partnership. Asking the right questions is crucial.
With the global insurer AIG predicting that the United States will soon become world's largest market for public-private partnerships (P3s), many state and local governments are taking a serious look at the potential of P3s to realize social-services and traditional infrastructure needs. But the complexity of P3 structures can be daunting. Without expert guidance, governments may find themselves on an unproductive P3 path after a lot of time and effort has already been expended.
Worse yet, decision-makers need to guard against opportunists selling too-good-to-be-true "solutions" for complex and challenging projects. Fundamentally, P3s are a financing mechanism, not a source of funding. That is an important distinction -- otherwise known as the "no-such-thing-as-a-free lunch" rule.
As a former mayor of Cleveland and Cuyahoga County commissioner, I can attest that deciding when and how to use P3 financing requires a lot of due diligence. That includes knowing how to spot red flags. The most glaring red flag is when for-profit investors insist on total control of the asset while shifting all of the risk to a public entity through minimum revenue guarantees. This is not a "partnership"; it is privatization of public assets with taxpayers on the hook. Another red flag to look out for is when a potential private partner has experience with only one type of project but is looking to create new opportunities in another sector. They may not know enough about that sector to accurately analyze the costs and benefits.
Of course, avoiding an unproductive P3 path goes beyond spotting red flags; it also involves understanding the spectrum of financial structures. There is some confusion about what exactly constitutes a P3. Traditional public procurement sits on one end of the spectrum, while privatization is at the other end. Neither one is a P3. In between these two poles are true P3s that blend the public-private relationship in different ways, with each one solving for different variables.
And that is the heart of the issue. While there are some very good P3 guides out there (including an excellent one from Governing), picking the right P3 structure starts by asking questions: Of all the variables of a particular project, which one is most in need of private-sector expertise? Is it a complicated construction project, and therefore the risk needs to be mitigated? In that case, an experienced private contractor takes on the risk and is incentivized for doing so. That is a productive P3 relationship.
Then there is the case of a public entity in financial distress. Borrowing can be costly to the point of crippling a project. A partnership with a credit-worthy partner can save enough money to move the project forward. Or perhaps the project is relatively straightforward but time is of the essence. In such a case, project delivery needs to be streamlined, which can only be done through a public-private structure.
One of the most common P3 challenges to emerge in recent years is when the "capital stack" for a complex project incorporates many sources and includes for-profit operations and maintenance. Take, for example, the project to restore and reopen the historic Kings Theatre in Brooklyn.
The New York City Economic Development Corporation, arguably one of the country's most sophisticated nonprofit finance and development operations, worked tirelessly to assemble a P3 centered around an experienced historic-theater owner-operator, a lease from the city, and a combination of public, private and tax-exempt financing. But the inclusion of a for-profit lessee in the financing structure created a budget-busting tax liability. Outside expertise was needed, and my colleagues at the National Development Council were brought in to restructure the capital stack and ownership structure. The magnificent theater, which had closed in 1977, reopened in 2015.
There are many sources of this kind of technical assistance, and it can make the difference between a successful P3 structure that benefits the community and a troubled project that becomes a political liability. Rather than learning the hard way, governments should build up their institutional knowledge by seeking expertise that can be transferred in-house through experience and bolstered by ongoing education and training. It's about investing in the people who will guide your decisions about how to invest in your community.
Local-government leaders and community- and economic-development professionals wanting to learn more about how P3s can work for their communities are encouraged to attend an NDC Academy training seminar being held Oct. 23-25 in Washington, D.C., and including a session led by Governing Publisher Mark Funkhouser.