Today, we continue our discussion on P3's (Public Private Partnerships) with NAIOP Vice President Graeme Silvera. Last week's post introduced the concept of P3's, what criteria is required in a P3 contract, and why some people strongly oppose this style of project.
Cost is typically the main point of opposition in regards to these projects; a common perception is that P3 projects cost more than traditional public initiatives as a result of a higher cost of borrowing. Today's discussion will focus on the cost of P3 projects, and the validity of this viewpoint.
As the cost question is the one most commonly raised, what do you have to say about the higher cost that a private company must pay to raise money by the capital markets as opposed to government borrowing costs? Wouldn't this higher cost of borrowing make a P3 more expensive when you're dealing with projects that can cost hundreds of millions of dollars?
Unquestionably there is no denying that the cost of raising capital is higher for the private sector than the public sector, primarily due to the fact that the public sector doesn't factor project risk into their borrowing costs. I could point you to any number of studies, commissioned by both the Public and Private Sectors pointing out again and again that, despite higher costs of capital, P3's are proven to provide significant value for money for the public sector when you look at the total project costs over a longer term. In my experience, there are a number of reasons why P3's ultimately are the best method for delivering public infrastructure efficiently with our scarce tax dollars. These reasons include:
- The inclusion of a requirement to maintain and operate the asset for a fixed price today over a long term, typically 25-30 years. This requirement is enshrined in a binding contract between the private sector and the owner, and contains a number of guarantees and obligations for the private operator that are tied back into penalty and the ability of the public sector to offset or reduce payments to the operator in the event of non-performance. This is what is known as an "Availability Payment Structure"; e.g. if you don't keep the lights on, the HVAC system operating you get big financial penalties which will directly affect your bottom line.
- The transfer of risks associated with the design and construction obligations as well as long term lifecycle. In P3's there are no such thing as "cost overruns", the private sector bears the risk of designing a building that functions and meets the requirements called for in the performance specifications. The private sector also fully bears the costs of delays in the delivery of the asset.
- The inclusion of an "availability" clause in the contracts - i.e. if any part or all of the asset is not maintained and operated to a specific set of standards, it is considered "not available" and payments to the private party will be "set-off" or reduced until the asset is brought back in conformance with the standards set out in the contract.
However, the real advantage for P3's is that they cover the entire whole-of-life costs for the asset; design and construction, operations and maintenance as well as life-cycle rehabilitation. In traditional delivery methods the focus is only on the design and construction costs, which are only a relatively small portion of the total costs to taxpayers.
Even though the initial cost of the asset built with a traditional delivery method may appear cheaper, the "savings" are only transitory as design decisions are often made in the absence of the long term maintenance or lifecycle considerations, and without the fully funded and guaranteed maintenance schedule that is provided under the P3 model. In a fully publicly-funded project, the inevitable decisions to defer maintenance over the assets life due to lack of budget or secure funding stream lead to a much greater life cycle impact and early failure of key building systems.
The P3 competitive process forces developers to optimize whole of life costs, ultimately providing a stronger value proposition.
Stay tuned next week for our final installment of Bloggin' with the Board when we ask Graeme about his thoughts on the environmental sustainability of P3 projects, and his views on the Government's decision to pursue these type of projects in spite of public opposition.
What are your thoughts on P3's? Do you think this method of project delivery is of financial burden or benefit to British Columbians? Do you have any additional questions for Graeme? Share all of your thoughts, comments, questions and feedback below. Don't forget, we're picking some of the most active NAIOP members to guest blog in upcoming posts; start the conversation and it could be you!