- Briefing Room
In the U.S., P3s have been used to deliver new highways, bridges, tunnels, and transit. Typically structured as design-build-finance-operate-maintain (DBFOM) concessions covering 30-plus years, P3s require private sector partners to assume responsibilities traditionally held by public agencies.
Because the public agency retains full ownership of the facility, it is vital to select a private partner that can perform the duties specified in each P3 agreement. Procuring this P3 partner requires thorough planning and execution.
Traditionally, highway construction contract awards are based on the lowest responsive bid, i.e. a price that reflects a fully designed project. This “Design-Bid-Build” (DBB) approach calls for the independent preparation of detailed plans, specifications and estimates so that competing bidders do not unduly influence the solicitation process. This approach, however, may not always be optimal for projects with complex design challenges, where the contractor’s higher likelihood of encountering unforeseen conditions can lead to cost overruns or schedule delays.
The “Design-Build” (DB) approach combines design and construction phases in a single contract, enabling collaboration between the two disciplines. The DB method has become common for the delivery of major highway projects.The FHWA considers DB as necessary but not sufficient to constitute a fully realized P3. As defined throughout this website, a bona fide public private partnership adds financing plus long-term operations and/or maintenance responsibilities to the contract between public owner and private developer.
The “F” in DBFOM denotes a major difference between P3s and traditional project delivery methods. To a public agency with financial demands stretched over an expansive road network, the ability of the private sector to assemble financing for a single, critical project can spell the difference between action and delay. This extra financing capacity, however, comes at a cost.
Public jurisdictions in the U.S. borrow on a tax-exempt basis, allowing them to pay less interest than a private business with comparable debt. A P3 can lower its borrowing costs using either or both USDOT financing programs: exempt facility private activity bonds and the USDOT’s Transportation Infrastructure Finance and Innovation Act (TIFIA ) loans. A less common borrowing option is to establish a nonprofit public benefit corporation pursuant to IRS Revenue Ruling 63-20 .
A P3 agreement commonly requires the private partner to invest its own money – the financial term is “equity” – to increase incentives to satisfy the terms of the agreement. As funds with the greatest risk of loss, equity demands a higher financial return than debt. Because public financing has no equivalent to profit-seeking equity, private financing will always be more expensive. The public owner, then, must decide whether the extra cost buys extra benefits. Such benefits could include design and construction innovations that deliver operational and maintenance benefits, i.e., an improved “lifecycle.”
Whether debt or equity, financing of course must be repaid. The “funding stream” that secures the financing can be generated from the project itself – such as a toll paid by users – or from dedicated tax revenues. Where tolls are to be charged, the “traffic and revenue” risk can be assumed by either the private developer or the public owner, who can choose to make “availability payments” to the developer in exchange for building and maintaining the new facility per specified performance standards. For a project that will not impose tolls or user fees, availability payments to the P3 developer are the norm.
A financing based on toll revenues, it must be said, need not fund the entire cost of building and operating the facility. A toll financing can be supplemented by public grants and other contributions, such as right-of-way donations, that seek no financial return.
If all goes to plan, most of the 30-plus years of a P3 concession agreement will be spent in this phase, when the P3 partner obtains a significant part of its compensation. Whether toll collections or availability payments, these revenues are projected to repay the debt and equity raised to build and operate the facility.
P3 concession agreements typically specify performance standards and include incentives (i.e., financial penalties for poor performance) to improve operating efficiencies.