A bad track record for privatizing infrastructure

April 4, 2013

The poster boy for privatizing U.S. public infrastructure has been Virginia’s governor Bob McDonnell. I wrote last June about McDonnell:

Governor Bob McDonnell might as well have put a for-sale sign on Virginia’s front lawn when he announced that the state’s Office of Transportation Public-Private Partnerships (OTP3) has a ‘pipeline’ of potential privatization projects. The governor and Sean Connaughton, the head of the Department of Transportation, appear to be racing to move as many of Virginia’s public assets into private hands as possible.

How was McDonnell doing this? The Bond Buyer had the story:

In a move that is likely to make Virginia the leading state for public-private partnerships, Gov. Robert McDonnell has announced 22 transportation and infrastructure projects that may be developed as P3s.

The governor is asking for public input on the projects, which include highway, seaport and spaceport projects that are either under active consideration or flagged as possible candidates for P3s.

‘It’s a fairly major step forward for P3s in Virginia,’ said Secretary of Transportation Sean Connaughton.

Virginia’s 1995 legislation enabling P3s allows private companies to submit unsolicited proposals that meet certain guidelines, and that is how most of the commonwealth’s P3 projects have emerged, Connaughton said.

In April, APM Terminals Inc. submitted such a proposal to operate the Port of Virginia as a P3. That project is among those announced by McDonnell. Virginia is now making an effort to harness more interest from the private sector, said Connaughton.

McDonnell basically put the public assets of Virginia up for sale. One of the governor’s biggest disappointments was the privatization of the Ports of Virginia, which was being operated by the non-profit Virginia International Terminals Inc. The board of the Virginia Port Authority rejected bids from private operators to take control of the ports. The Virginian-Pilot said in an Op-Ed:

In 2011, McDonnell fired 10 of 11 members of the port authority’s board of commissioners. And by year’s end, he and Transportation Secretary Sean Connaughton had offered, on the state’s behalf, to purchase APM’s Portsmouth terminal outright. APM declined the offer, but in April 2012, countered with its own bid to resume operations at its terminal and replace VIT at the state-owned terminals in Norfolk, Newport News and Portsmouth. The proposal was valued at up to $3.9 billion over a 48-year term.

That offer seemed to dazzle Connaughton and other state officials, who set an absurdly short period – less than 60 days – for others to present competing proposals under the state’s Public-Private Transportation Act. Public outcry ensued. Legislators criticized the use of the PPTA to bypass the General Assembly and conclude the transaction before they could return to Richmond and interfere during the legislative session.

The political process was a disaster. More from the The Virginian-Pilot:

Those actions were a clear message that it would take a substantially better, and better-vetted, offer before Virginia’s leaders even considered selling a state asset as critical as the port, which supports some 340,000 jobs and has an estimated annual economic impact of $41 billion.

The episode also stands as a caution to state officials about cherry-picking numbers to make a point. Despite its repetition in the cause of forcing a deal, reports of VIT’s financial difficulties were found to be unsubstantiated and overstated. Criticism of the port’s performance under VIT ignored the variables affecting global maritime commerce, much less the role of the worst economic downturn since the Great Depression.

Fitch Ratings commented on how the failed Virginia deal will weaken interest in other big infrastructure privatization deals:

Virginia Port Authority’s decision to discontinue negotiations with two potential lessors of its ocean terminals may create negative momentum for other large port privatization projects because of the length of the negotiation, the strong brand names of the bidders, and the meaningful pricing that was considered. It would have been the first privatization of a major U.S. port facility. In our view, the privatization of smaller, individual terminals is less likely to be affected.

I never saw the cost benefit analysis of the Virginia port deal, but my rough math shows that it short-changed the state. Those in authority seem to have determined the same thing.

The momentum is shifting away from privatization deals for infrastructure. The new Tappan Zee bridge in New York that spans the Hudson River was instead contracted as a design-build project. In this arrangement a joint venture called the Tappan Zee Constructors, consisting of Fluor Enterprises, Inc., American Bridge Company, Granite Construction Northeast, Inc., and Traylor Bros., Inc., was chosen to design and build the bridge under contract to the state. From The Journal News:

‘(This) action is also amplified by the fact that, under design-build, the selected bridge plan came in $1 billion under the expected price, maximizing the impact of this major financial support,’ he said.

Proponents of privatization cite the financial advantages of private investors taking control of public assets. But when you look at the financial performance of many of these projects, the initial projections are not realized. In January I summarized the failure of seven U.S. infrastructure privatization projects, many of which relied on wildly optimistic financial projections, and many of which defaulted on their bonds.

There are plenty of promises from investors, but very little real analysis of privatization deals. I hope this paradigm of infrastructure will fade away and be buried with the other overblown and underperforming financial schemes.

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