The American deal killer

Cintra had a deal for a toll road in Texas. Then, suddenly, it didn’t.

What started out as seemingly a mere bureaucratic formality had somehow morphed into a full-on fiasco. In a seemingly mind-boggling about-face, the public sector cancelled an ostensibly legitimate winning bid for a sought-after US infrastructure asset. It was over before it began, and the private sector was left reeling.

“The infrastructure industry has essentially been punch-drunk after Texas-Cintra,” remarks Kaye Scholer partner Joel Moser, a long-time project finance attorney and renowned pundit on the asset class.

Cintra had been named preferred bidder, then got railroaded by backdoor legislation – specifically Senate Bill 792 – that cost the company its would-be project. The Lone Star State is notorious for its alleged political cronyism, but that was not the culprit. Rather, it was the procurement process – or
the lack of a coherent one – that was.

A global superpower, the US was an immature infrastructure market that had never got on top of procurement. That’s still the case. Enabling public-private partnership (PPP) legislation is lacking. Not so in lesser-developed markets, where the procurement process is streamlined by comparison, even if government instability may pose political risks.

The US infrastructure market has its own unique, country-specific risk.  It’s called procurement risk.

PUBLIC PRESSURE

In February 2007, Cintra—Concesiones de Infraestructuras de Transporte, the Spanish private toll road operator – was named preferred bidder along with equity partner JP Morgan Asset Management (JPMAM) for the $5 billion State Highway 121 (SH 121) toll road project in Central Texas. The all-in contract called for the completed construction of the road, a 52-year concession, and ongoing maintenance in a partnership with the Texas Department of Transportation (TexDOT).

But subsequent public pressure led to the passage of SB 792 in May, signed into law by Texas Governor Rick Perry a month later. It gave the North Texas Tollway Authority (NTTA), which hadn’t even expressed interest in the initial procurement, a right to bid on the SH 121 project. The US Department of Transportation chimed in, asserting TexDOT had “run counter to the fundamental requirement for fair and open competition” with its procurement.

That August, TexDOT cancelled its procurement with Cintra; the NTTA was instead awarded SH 121. That cost Cintra, having been named preferred bidder, $3.6 million for its Transportation Infrastructure Finance and Innovation Act (TIFIA) application as well as post-award spending, and, in 2009, Cintra successfully collected compensation from Texas.

By then, questionable Texas procurement had once again hit Cintra.

“You’ve got this high-profile incident, with Texas cancelling what was thought to be a bid successfully awarded to Cintra, where procurement was stopped,” says Moser, who joined Kaye Scholer in May from Bingham McCutchen. “To the non-US, this was ‘political risk’”.

The “high-profile incident” involved the late “Trans-Texas Corridor ” (TCC), a 4,000-mile “super-corridor” transportation network developed to accommodate tolling and rail with the goal of routing long-distance traffic and providing capacity for future infrastructure build-out.

In 2005 Cintra and Zachary Construction Company, an industrial and civil construction and maintenance concern headquartered in San Antonio, Texas, that was founded in 1924 as a road-building outfit, signed a pre-concession comprehensive development agreement (CDA) for a 50-year deal to develop the Corridor. But the project, a political lightning-rod, stalled – and TexDOT eventually cancelled TCC altogether.

The termination of TCC came during a vulnerable moment for the infrastructure industry. The US had seemed internationally viable as an up-and-coming infrastructure market. In 2005, the 99-year, $1.8 billion Chicago Skyway toll road concession was netted by Cintra and Sydney, Australia-headquartered Macquarie Group as the Chicago Skyway Concession Company. Chicago would later move forward on a plan to privatise on-street metered parking and embark on a failed lease of its Midway International Airport.

In opting out of its CDA, TexDOT was exercising its right to consider an alternative plan, but it made the government seem undependable.

“In an auction, or bidding process, most people are doing a good job,” says Geoffrey Clark, managing director of global infrastructure for Marsh & McLennan Companies (MMC). “But it can be a long process. The $2.1 billion Midtown Tunnel project in Virginia [a PPP with Macquarie and Skanska Infrastructure Development] began in 2008. It just reached financial close. There is a commitment and pursuit cost. There is soft cost. It’s not just a question of writing a check.”

The “ugly list” of failed PPPs in the US can be attributed to procurement, according to Manny Hontoria.

“There should be no surprise that there’s procurement risk, which is the best way to describe it,” says Hontoria, partner with management consulting firm Oliver Wyman. “Though there have been notable successes – and we know who they are – which went forward. In a bid process, a lot of people can invest a lot of money and a collapse in procurement can leave a sour taste. Quite a few people are in on a bet, and they wind up wondering: how credible is the procurement entity?”

But Clark, a Los Angeles-based executive for MMC, a professional services firm specialised in risk management, can understand the misconception that government is responsible.

“It is a problem with a tendency to localised political constituency,” notes Clark. “With the first generation of US PPPs, there was no enabling legislation. This happened when the Pennsylvania Turnpike deal [a failed $12.8 billion, 75-year lease to Albertis] fell through”.

Pennsylvania, now under Governor Tom Corbett, pushed for a PPP law. But debt-ridden state capital Harrisburg in 2011 was unable to commit to a concession for its garage and on-street parking in part because of a lack of existing legal framework.

Likewise, in Los Angeles and Pittsburgh, non-uniform procurement helped kill a bid to privatise parking that could have netted $300 million and $450 million respectively.

“PPPs with transportation have that reputation [for procurement risk],” observes Clark. “Or with parking in Pittsburgh, which got shot down in the city council, or Los Angeles, which was an even bigger mess.”

POLITICAL RISK, SECURE PROCUREMENT

Even a developing market with more political risk will often have a more standardised procurement process than America.

“Speaking in a global context, the question is, ‘What is political risk?’ or even ‘What is the country risk?’ It can encompass a lot – like stability of the government, long-term,” says Moser. “Or, the question might be, ‘Can the government honour a contract?’ or, ‘Will the private counterparty be respected by the government? Is there a sound legal system?’ Each question is appropriate and necessary.”

The US, on the other hand “is a place where there is essentially zero risk of failure of the government, of government overthrow, of the government not honouring a contract. That won’t happen here,” he says. ”It’s different in the US.  It’s the most stable country in the world from an investor profile and the best at protecting its population”.

On the other hand, procurement for PPPs in the US is more risk-sensitive because of the lack of a common template.

“Contrast the US with any emerging market nation,” states Moser. “They come to market and will be advised by their excellent consulting team to run a highly regular process conforming to international standards so that a company will have the confidence and integrity to progress.

“So in a strange way, in a country with high political risk, you have a fairly low risk that there’s going to be an irregularity in procurement,” he explains.

REPUTATIONAL RISK

“There is reputational risk [to the public sector],” notes Clark. “The public sector has to deliver creditworthy work. This is a competitive, global market.”

To Moser, the position the US has as a world economic power has helped encourage its laziness in developing a sound procurement model.

“The US, because this is such a highly desirable place to do business, can put out a request for qualification (RFQ) and have everyone respond to it,” says Moser. “So, there’s not a significant amount of pressure on an agency to hew to an international system of procurement. With every RFQ, there’s a wild swing. It’s not costing us, but costing the public, because that sloppiness is priced into the project.

“When will the US hew to a more regular procurement process?” Moser posits. “It’ll be when everyone won’t show up for every single project because they’re angry or distrust the process. The government are costing themselves when they behave this way. There’s a price for everything – a bidder can price in the risk.”

Moser admits the US is showing a better understanding of how important procurement can be for PPPs, but more effort is needed.

“The public sector is showing some real strength in bringing PPPs forward,” he says. “If you work for the government, it’s hard to do something different, smarter or better. You don’t get rewarded for that. It’s not the way the public sector is. When you see someone in the public taking the initiative to do something different, and taking career risk, that’s someone who’s special and should have recognition and get a promotion.”

Hontoria is more optimistic.

“Without focusing on any one specific project, yes, [procurement risk] created concern. That will continue to be the case,” he says. “But it’s beginning to get better. 2012 and 2013 are important for the US. The momentum is coming together. There’s better alignment between the public and private side, which is pretty crucial.”

Moser notes that the general perception of PPPs in the US has evolved.

“There has to be a psychological shift away from, ‘What’s this newfangled stuff?’ to ‘Other people are doing this, we need to too,’” he says. “It’s become, ‘Here’s a tool in the tool-box. You need a further shift to maturity of the market where, on the government procurement side, we can deflect risk and get a better bargain. It’s important that it’s fair; that the private sector can have confidence in procurement.”

External pressure on government is also a factor.

“[Procurement risk] is an outgrowth of a chronic problem of not investing enough in infrastructure,” Clark says. “The American Society of Civil Engineers graded US infrastructure a ‘D’. Nobody in government will commit to infrastructure.”

AFTERMATH

As for Cintra, its experience with the SH 121 and TTC projects didn’t ward the infrastructure developer off the US – or Texas. In the Lone Star state, Cintra, with Meridiam Infrastructure, pursued and, in 2011, closed, on the $2 billion North Tarrant toll road project as well as the $2.7 billion LBJ Expressway project.

“No state has ever gotten it right, on a regular programme,” says Moser. “Texas is the only US state that’s put in a consistent transaction volume, and there’s always someone in Austin wanting to kill the programme.”

“The private sector can make a mistake. They try not to,” he opines.” You bring in the private sector in order to bring discipline to capital risk. Risk is what project development is about. The public, if it’s going to benefit from the quantitative and qualitative of risk sharing, has to recognise it’s not a one-way street.

“Fundamental change has to happen for the market to become robust,” Moser says. “Or else, the worry is going to be that government can’t run a standard process.”