Politicians are finally waking up to the fact that infrastructure deals are bad deals for their citizens, as demonstrated by a revolt against a toll road project in North Carolina. From IPE (hat tip j3):
A vote this month in the North Carolina House of Representatives has highlighted the political risks inherent in infrastructure investment – at a time when institutional investors are increasing allocations to the asset class.
Local lawmakers in the US state passed a bill to cancel a 50-year toll road contract with Spanish developer Cintra Infraestructuras….
Cintra began work last November on the section of I-77 close to North Carolina’s primary business hub in Charlotte. North Carolina has experienced strong economic growth in the past decade. Some 25 miles north of Charlotte, areas such as Lake Norman have become affluent, while neigbourhoods closer to Charlotte’s north side are less so.
Residents object to having to pay tolls to commute to work when residents in southern suburbs have access to more free lanes built when the state had more funding available for highways. The objections can be seen as part of a wider public criticism of toll roads and growing support for the publicly-funded road building that created the free interstate highway system in the middle of the 20th century.
The fact that the North Carolina House of Representatives passed the bill to cancel the contract by an 81-27 margin, with strong bipartisan support, has implications for other infrastructure projects in the US.
Before you get too excited, some observers contend that the bill will die in North Carolina’s Senate. And Fitch, which rated the bonds on this project BBB-, appears unruffled, since it believes the cancellation clauses in the deal are strong and require bondholders to be made whole. The estimated cost exit up to $250 million. Backers of the bill to scupper the toll road contend they’d found other projects that could be delayed to defray the cost.
But the bigger issue, which the IPE article only alludes to, is that it appears that more and more state and local governments are starting to wake up to the fact that these deals are bad for their constituents.
As we wrote in 2013:
As we’ve discussed at length earlier, these schemes are simply exercises in extraction. Investors in mature infrastructure deals expect 15% to 20% returns on their investment. And that also includes the payment of all the (considerable) fees and costs of putting these transactions together. The result is tantamount to selling the family china and then renting it back in order to eat. There is no way that adding unnecessary middlemen with high return expectations improves the results to the public. In fact, the evidence is overwhelmingly the reverse: investors jack up usage fees and skimp on maintenance. And their deals are full of sneaky features to guarantee their returns.
And as we pointed out in a more recent post, toll road construction projects virtually without exception wind up in bankruptcy. From a 2014 article in Thinking Highways:
Beginning with the contracting stage, the evidence suggests toll operating public private partnerships are transportation shell companies for international financiers and contractors who blueprint future bankruptcies. Because Uncle Sam generally guarantees the bonds – by far the largest chunk of “private” money – if and when the private toll road or tunnel partner goes bankrupt, taxpayers are forced to pay off the bonds while absorbing all loans the state and federal governments gave the private shell company and any accumulated depreciation. Yet the shell company’s parent firms get to keep years of actual toll income, on top of millions in design-build cost overruns….
Of course, no executive comes forward and says, “We’re planning to go bankrupt,” but an analysis of the data is shocking. There do not appear to be any American private toll firms still in operation under the same management 15 years after construction closed. The original toll firms seem consistently to have gone bankrupt or “zeroed their assets” and walked away, leaving taxpayers a highway now needing repair and having to pay off the bonds and absorb the loans and the depreciation.
The list of bankrupt firms is staggering, from Virginia’s Pocahontas Parkway to Presidio Parkway in San Francisco to Canada’s “Sea to Sky Highway” to Orange County’s Riverside Freeway to Detroit’s Windsor Tunnel to Brisbane, Australia’s Airport Link to South Carolina’s Connector 2000 to San Diego’s South Bay Expressway to Austin’s Cintra SH 130 to a couple dozen other toll facilities.
We cannot find any American private toll companies, furthermore, meeting their pre-construction traffic projections. Even those shell companies not in bankruptcy court usually produce half the income they projected to bondholders and federal and state officials prior to construction.
In other words, the question North Carolina needs to be asking is not whether it should cancel the project. It is whether it is cheaper, all in, to cancel it now or wait and deal with the cost and disruption when it goes bankrupt down the road.
Another question is whether these cancellation clauses are as rock-solid as Fitch and others contend. Good faith and fair dealing undergird all contracts. If the failure of these projects is as inevitable as the 2014 article we cited suggests (and the IPE story lists other recent bankruptcies by the very same sponsor), can North Carolina argue that there were significant misrepresentations made and therefore the participants are not entitled to full cancelation fees? Or alternatively, that the state is entitled to pursue damages that will wind up being netted against those fees?
Even if the state were to pursue this line of argument and lose, it could still have a chilling effect for two reasons. First is that litigation is a crapshoot. A later plaintiff would build upon and improve North Carolina’s argument, and might also have a more damning set of facts to work from. Second is that political and legal action would make the consistent failure of toll road infrastructure deals better known. That in turn would make it more politically dangerous to enter into them, particularly given their one-sided terms.
Put it another way: since investors are so keen to get into infrastructure, cities and states have more bargaining leverage. It should be inexcusable if they fail to use it.
If you are in North Carolina, or have friends or family there, I hope you’ll sent this post to them, and urge them to call it to the attention of their state senator. Have them stress that given the record of toll road infrastructure deals, theirs is almost certain to be a goner. The question they need to analyze if whether they will do better by exiting now, since the state may face greater costs (making up revenue shortfalls, being stuck with an under-maintained asset) if it puts its head in the sand and pretends everything will work out in the end.