Coronavirus Threatens Viability of Toll-Based PPPs
Public-private partnerships (PPPs) are a tool used by a growing number of state and local governments to provide infrastructure projects in cooperation with non-governmental entities who share the financial risks and rewards of the projects. The current coronavirus crisis is threatening the viability of many PPP projects, with broad ramifications for the future of this business model.
For a government, one of the most attractive features of a PPP is that it allows it to transfer some of its financial risk onto a non-governmental partner instead of assuming all of the risk itself. As the Eno Center’s 2015 report on PPPs noted, “If crafted properly, the entity that has more control over a particular risk assumes financial responsibility for that risk, and thus is incentivized to manage the risk effectively—ideally reducing overall cost. Risk is not eliminated, but rather it is managed in a better way.”
One of these risks is that of capital cost overruns in the construction of a project – some types of design-build PPP limit the government’s capital cost for a project to a fixed amount, with any overruns from the final cost estimate being entirely shouldered by the non-governmental partner that is actually carrying out the construction. (5/2/20 addition: See yesterday’s unfortunate developments in the Maryland Purple Line PPP project for an example of how this process can go astray.)
But another type of risk that can be off-loaded by governments through PPPs is the long-term risk of whether or not the receipts brought in by a PPP toll facility will be sufficient to pay for the operations and maintenance of the facility as well as pay off the debt issued to construct the facility. And the coronavirus, at least up until now, is a worst-case scenario for this kind of risk.
The International Bridge, Tunnel and Turnpike Association wrote a letter to Congress on April 7 asking for federal financial relief for toll operators. Their letter said “toll facilities have suffered traffic and revenue declines of 50% to 90%” and they estimated that total receipts from U.S. toll facilities, which had been averaging $1.7 billion per month, would drop to just over $400 million per month in April, May and June due to coronavirus-induced travel reductions, and that a year from now, receipts would still be $300 million per month below the pre-COVID level.
(The 2015 Eno report did say “Tolling offers an independent revenue stream to repay project debt and provide the concessionaire with a return, but predicting the size of that revenue stream carries risks for both the public and private partners, as future use of the facility can never be predicted with full accuracy.” We doubt that an ongoing 80-ish percent reduction in toll road and bridge traffic was built into the risk models.)
For toll facility operators, the catastrophic drop in toll receipts may jeopardize their ability to pay the debt service on the bonds issued, or loans incurred, to build the toll lanes or bridge. The IBTTA letter also said “Without the immediate relief that Congress can provide, credit rating agencies may downgrade toll agencies’ credit ratings (some of which could be downgraded to ‘junk’ status), accelerating the steep economic contraction caused by the pandemic.”
With a few early transportation PPPs, some media coverage gave an impression of sophisticated Wall Street capital taking advantage of shortsighted politicians in order to fleece taxpayers. This was never really the case (see this case study of the Indiana Toll Road and how the sophisticated capital guys went bankrupt while the state taxpayers were protected). But thanks to COVID-19, state governments are now insulated from the shock of the initial toll revenue decrease at PPP projects.
Remember: in many instances, the state government that off-loaded its financial risk of operating a toll facility to a private partner through a PPP is the same state government that is now ordering its citizens to stay home because of coronavirus, which is all but eliminating toll revenues and driving the private partner towards insolvency. Had the state operated the toll facility directly, instead of through a PPP concession, the state would now be bearing the full financial cost of the stay-at-home orders. Instead, the PPP concessionaires are bearing the entire cost of the lost toll revenues – at least for the time being.
Stay-at-home orders might possibly trigger the “force majeure” clauses in some of the PPP contracts, which could provide some relief for PPP concessionaires operating toll facilities. But these clauses vary from contract to contract, and the whole thing is subject to a lot of wrangling between teams of lawyers for each and every toll facility operator.
At a minimum, any future PPP agreements for operating toll facilities on behalf of a government will probably require much more explicit language in the contracts in case of a future incident where governments issue orders preventing people from using those toll facilities.
To the extent that the debt incurred to build a PPP facility was in the form of bonds, the ratings agencies have not yet started downgrading those bonds (though some ratings agencies have put some toll-backed bonds on some sort of watch for possible changes in rating that might be coming). But in many instances, some or most of the financing to build the project came directly from the federal government in the form of a federal loan under the TIFIA program of the U.S. Department of Transportation.
Most federal loans through the TIFIA program are secured by toll revenues. (Some are secured by dedicated local sales taxes or other revenues, which are also suffering right now, though not so greatly as tolls are suffering.) The IBTTA letter asks Congress to consider modifications to TIFIA including one-time debt service deferrals or one-time interest rate reductions.
At present, 23 U.S.C. §603(c) gives the Secretary of Transportation authority to “allow the obligor to add unpaid principal and interest to the outstanding balance of the secured loan” if “at any time after the date of substantial completion of the project, the project is unable to generate sufficient revenues to pay the scheduled loan repayments of principal and interest on the secured loan…” Interest would continue to accrue on the deferred payments, and the Secretary has to establish standards for reasonable assurance of repayment.
One option for relief for toll operators might be to allow existing TIFIA loan recipients to refinance their federal loans at the current rock-bottom rate (yesterday’s rate was 1.25 percent). Currently, 23 U.S.C. §603(a) allows refinancing but requires that the proceeds of any TIFIA refi be used to reinvest in the transportation facility (the statute says that a refi can only take place “if the refinancing provides additional funding capacity for the completion, enhancement, or expansion of [the TIFIA] project…”). Also, PPP experts say that the regular refinancing process takes about a year to process, and that if a bunch of ongoing projects applied for a refi at the same time, it would take a lot longer than that due to staff resource constraints at USDOT.
Instead of conventional refinancing, some toll operators are asking Congress to amend the law to allow USDOT to just lower the rate of active TIFIA loans to no less than whatever the current Treasury securities of similar maturity are yielding. This could allow TIFIA borrowers who took out loans in past years at 4%, 5%, or even 6% to have their interest rates lowered to just over 1% (yesterday’s new TIFIA rate was 1.1%). This could be used in conjunction with deferrals of debt service during coronavirus to alleviate cash flow problems, and could also free up billions of dollars in future capital that could then be plugged back into new infrastructure projects.
Looking beyond the current lockdown stage of the coronavirus pandemic, different kinds of PPP toll facilities will recover in different ways. Toll bridges that hold a monopoly on getting surface traffic from Point A to Point B in an area should be the first to recover. But until a vaccine is released and becomes widespread, high occupancy vehicle (HOV) lanes may suffer due to reluctance to carpool with persons outside immediate family. (Expect this to be worst in places like the Washington DC area where “slugging” – picking up complete strangers in your car every day and sharing your recirculated air so you can qualify for the HOV lane and lower your commute time – is commonplace. Slugging may take longer to recover than any other kind of automotive travel.)
However, some kinds of toll facilities might actually see traffic increases due to coronavirus, once lockdown orders are lifted. High occupancy toll (HOT) lanes combine traditional HOV lanes with optional tolls that single-occupant vehicles can use to lower their commute times. If fear of coronavirus really does lead to an eventual increase in single-occupant vehicle commuting, many of those drivers may be willing to pay more to travel in HOT lanes. And the variable, “dynamic pricing” nature of many those HOT lane tolls could lead to substantially increased toll revenues down the road.